The Challenge of Quality Improvements in the Service Sector

Like Tyler Cowen I’ve been pondering William Baumol’s new book, which has me thinking about the challenge of measuring quality in the service sector. This is I think what Cowen is trying to say in counter to Baumol’s point about the lack of productivity gains in live music:

In many sectors of the arts, especially music, consumers demand constant turnover of product.  Old music becomes “obsolete” — for whatever sociological reasons — and in this sense the sector is creating lots of new value every year.  From an “objectivist” point of view they are still strumming guitars with the same speed, but from a subjectivist point of view — the relevant one for the economist – they are remarkably innovative all the time in the battle against obsolescence.  A lot of the cost disease argument is actually an aesthetic objection that the art forms which have already peaked — such as Mozart — sometimes have a hard time holding their ground in terms of cost and innovation.

Quality improvements are an important part of the datamix for all our inflation measures. When I bought an HDTV in 2005 I paid a lot more than I’d paid for the television I bought in 2001, but that wasn’t “inflation” that was paying a price premium for a better product. The Bureau of Labor Statistics deploys Hedonic Quality Adjustment for TVs and other durable goods (including clothing) through a fairly sophisticated process that nonetheless is subject to criticism.

But in the service sector even on a conceptual level the distinction between “I was willing to pay more because it was better” and “I grudgingly accepted a higher fee” gets awfully fuzzy. If the restaurants in your town become more upscale and start serving better food at higher prices, that’s quality improvement not inflation. But if demand for dining out rises and it’s just not possible to open new restaurants (maybe there’s a liquor license moratium) so prices go up, that’s inflation not quality improvement. But in the real world, restaurants facing an inflationary dynamic and the ability to raise prices are probably going to make at least some effort to become “nicer” and more upscale alongside the price increases. This doesn’t happen to matter very much in the grand scheme of things, but especially as health care grows and grows as a segment of the economy (and this is the crux of the cost disease issue) it becomes very relevant.

Once I found myself going to an expensive oral surgeon where the main “high quality” feature being offered was high prices. Since the prices were high, demand for his services was low and it was easy to get an appointment. That doesn’t sound like much of a productivity improvement, but the fact of the matter is that when you’re in a lot of pain and are told the regular surgeon won’t be able to see you for five days paying a premium to go see the doctor who’s too expensive to be busy makes a fair amount of sense.