Externalities and Incentives: The Economics of COVID

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- [Alex] Hi, everyone.

Today, I want to talk about
applying some of the principles

of economics, namely
externalities and incentives,

to understand COVID
and vaccine policy.

Let's begin with a simple flu shot.

A flu shot is a great example of
a good with a positive externality.

When I get a shot,
I benefit myself,

but I also benefit other people

because I'm less likely
to transmit the virus.

In fact, the economist
Corey White has estimated

that every two flu vaccinations
save someone else

from getting sick
and having to miss a day of work.

And every 4,000 vaccinations
saves a life.

That's an incredibly
cost-effective way of saving a life.

The problem is that even though
the social benefits are very high,

people are unlikely to weigh
the social benefits

as high as the benefits
to themselves.

So individuals are
under-incentivized to get a flu shot.

Now we deal with
the external benefits

of vaccinations
in a variety of ways.

In some cases, such as polio,
we require school children

to be vaccinated by law.

In other cases, we offer incentives.

We subsidize vaccines
to keep the price low.

It's not just government policy
by the way.

Some firms will offer
their workers free flu shots.

That's an interesting case
where the employer internalizes

some of the positive externalities
from vaccination.

COVID is especially fascinating
because we can actually see

the externalities in market prices.

Whenever one
of the vaccine companies

has even a little bit of good news,
say, from a clinical trial,

the entire stock market jumps up.

Airline stocks, for example,
they jump up

with every bit
of good vaccine news.

The airlines, in other words,
are capturing some of the benefits

produced by vaccine manufacturers.

And since the vaccine manufacturers
aren't capturing all of the gains

from producing vaccines,

the vaccine companies
are under-incentivized.

Now this is a case
where economics leads you

to a completely different conclusion
than the man in the street.

The man in the street is worried
that the vaccine manufacturers

will profit too much
from a vaccine --

that they will price gouge.

The economist is worried
that the vaccine manufacturers

aren't profiting enough.

By the way, innovations in general
are under-incentivized.

The Nobel Prize-winning economist
William Nordhaus has estimated

that innovators they only receive
about 2 to 2.5% of the value

of their innovations.

Now we do have some institutions
to try to alleviate this problem.

We subsidize basic research
in universities,

and we offer firms patents,
for example.

But neither of these solutions
is going to work well for COVID.