Weekly Top 5 Papers – April 26, 2013

1. Feeling Good About Giving: The Benefits (and Costs) of Self-Interested Charitable Behavior
by Lalin Anik (Harvard Business School) and Lara Aknin (University of British Columbia) and Michael Norton (Harvard Business School)
and Elizabeth Dunn (University of British Columbia – Department of Psychology)

2. The ‘IKEA Effect’: When Labor Leads to Love
by Michael Norton (Harvard Business School) and Daniel Mochon (University of California, San Diego (UCSD) – Rady School of Management) and Dan Ariely (Duke University – Fuqua School of Business)

Michael Norton, Daniel Mochon, Dan Ariely
After completing our initial research showing the IKEA effect (Norton, Mochon and Ariely, 2012), we were interested in understanding why people place a premium on their own creations. We examined this question in a follow up article (Mochon, Norton and Ariely, 2012), in which we found that people place higher value on their creations because they can use these to signal a competent identity to themselves and others. By building things themselves, people are both controlling and shaping their environments – proving their own competence – and displaying those creations demonstrates that competence to others. In a series of studies we showed that people associate feelings of competence with self-created products and that these feelings drive the premium attached to them. Moreover we found that reducing people’s need to signal their competence reduced the IKEA effect, while temporarily threatening their sense of competence increased their desire to build things. These results suggest that even some of the most mundane activities, such as building furniture, can have implications for people’s identities, and that these in turn can have financial consequences in the marketplace.

Mochon, D., Norton, M.I. & Ariely, D. (2012). “Bolstering and restoring feelings of competence via the IKEA effect,” International Journal of Research in Marketing, 29(4), 363-369.

Norton, M.I., Mochon, D. & Ariely, D. (2012). “The IKEA effect: When labor leads to love,” Journal of Consumer Psychology, 22(3), 453-460.

3. The Dishonesty of Honest People: A Theory of Self-Concept Maintenance
by Nina Mazar (University of Toronto – Joseph L. Rotman School of Management) and On Amir (University of California, San Diego (UCSD) – Rady School of Management) and Dan Ariely (Duke University – Fuqua School of Business)

4. The Golden Dilemma
by Claude Erb (TR) and Campbell Harvey (Duke University – Fuqua School of Business)

Claude Erb, Campbell Harvey
Roman Centurions and Gold Today

On August 23, 2011, the price of gold reached $1,913.50. Today the price is $1,450 – a drop of 25%. Gold has fallen by $150 in April alone. What is going on? Why should we care?

In June of 2012, we posted a controversial academic study called The Golden Dilemma on SSRN based on a comprehensive historical analysis that claimed that the fair price of gold was $800. This number seemed unfathomable back in June. Ten months later, it is a different story.

So how do you determine the fair price of gold?

Obviously, there is no precise formula. With stocks, we usually look at a value indicator, like the Price-to-Earnings (PE) ratio. A PE ratio of 30 is expensive. A PE ratio of 5 is cheap.

With gold, a natural benchmark is inflation. Our research shows that over the very long term, gold moves with inflation.

Let’s consider a few examples from history.

In 562 B.C., during the reign of the Babylonian king Nebuchadnezzar, an ounce of gold purchased 350 loaves of bread. Given the current price of gold, that works out to about $4 a loaf. Yes, you can get a cheaper loaf of bread – but the bread that many of us buy at a local bakery is that price.

The second example is more powerful because it focuses on wages. We tried to find a job 2000 years ago that we could compare with today. We ended up looking to the military.

In the era of Emperor Augustus (27 B.C. to 14 A.D.), a Roman Centurion was paid 15,000 sestertii. Given that 1 gold aureus=1000 sertertii and given there is 8 grams of gold in an aureus, the pay comes to 38.58 ounces of gold. At current prices, this is about $56,000 per year.

The Centurion who commanded 80 Legionaries is roughly equivalent to a U.S. Army Captain. The current wage for a Captain is $46,000 – which is fairly close.

This implies that gold is a good store of value. Essentially, gold is a good inflation hedge – but our examples are over the very, very, very long term, more than 2,000 years.

Our paper looked at the price of gold over history and noted that when the “real” price (adjusted for inflation) rose above its average, it usually reverted lower.

We calculated that the fair price, based on the level of inflation in 2012, was $800. The market price in 2012 was far higher. We also documented that, in the past, when you purchase gold when the real price is high, the future returns are very low.
Gold Price graph

Why is this important?

Investors (both individual investors and institutional investors) make the assumption that gold is an inflation hedge. Many institutional investors buy gold to fulfill their mandate to protect against inflation.

However, our paper shows that gold is an awful inflation hedge for investors.

Gold is a good inflation hedge if your investment horizon is measured in centuries – not years.

There is a simple reason. Gold prices are extremely volatile. Inflation is not volatile. As a result, gold is an unreliable hedge for inflation. Our paper shows that even with a 20-year horizon, gold is a terrible inflation hedge.

So where are we?

First, don’t expect an investment in gold to provide an inflation hedge. We are not saying ‘don’t hold any gold’. Our research also shows that a diversified portfolio of commodities (which includes gold) can provide a good inflation hedge over reasonable investment horizons.

Second, beware of buying gold when the inflation-adjusted price is high. Historically, the fair price of gold is closer to $800 than $1,450.


Claude B. Erb is a Los Angeles based retired fixed income and commodity manager and Campbell R. Harvey is Professor Finance at Duke University, Durham, NC. Their research is available at http://ssrn.com/abstract=2078535.

5. Why Did Law Professors Misunderestimate the Lawsuits against PPACA?
by David Hyman (University of Illinois College of Law)

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