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The Lesson Applied | | » Economic Theory
 Tracing consequences both seen and unseen.
Eric D. DixonShout Out to Cafe Hayek
Posted at 2:27 am on
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April 1, 2010, by Eric D. Dixon

The venerable Don Boudreaux linked to us from Cafe Hayek yesterday, calling us a “Great new blog” — a tremendous honor for our fledgling effort. Justin floated the idea for starting this blog only 10 days ago, I built the site later that night, and we started asking a bunch of our libertarian friends to join us over the next few days. I’m a little stunned we went in only nine days from tentative mental glimmer to getting name-checked by the chairman of the George Mason University Department of Economics, but the Internet is a pretty fantastic and fast-moving place.

I had the good fortune to meet Boudreaux once, back in 2002, when he shared a Future of Freedom Foundation bill with Nathaniel Branden, the night before the Cato Institute’s 25th anniversary celebration. I sat next to Bumper Hornberger during the dinner, and he couldn’t have been nicer or more enthusiastic about spreading the ideas of liberty. At any rate, Boudreaux gave a speech pointing out the many ways that capitalism makes our lives better, safer, cleaner, and more pleasant — often in ways we take for granted because they’ve become so commonplace. It was essentially a lengthier version of this Cafe Hayek blog entry. It’s a theme that bears repeating often, such as in my blog entry from last night — or, as one of our commenters reminded me, in this Louis CK appearance on “Late Night With Conan O’Brien.”

Back during the early ’00s when I lived and worked for about six years in the DC area (at U.S. Term Limits and Americans for Limited Government), I kept telling people that I planned to pursue an economics degree at George Mason. I even relocated from Maryland to Virginia in a blatant in-state tuition rent-seeking move. But then I got laid off from my job in the then-rapidly-contracting nonprofit world and my mom’s health took a turn for the worse — so I moved back out west, and eventually ended up in St. Louis where I live today.

I often keenly regret not having taken the GMU plunge, though. If you’re a free-market econ geek, GMU’s program seems like one of the most exciting places on earth. To this day, I sometimes idly fantasize about applying, dropping everything, and moving to Fairfax. But grad school is really something I should’ve done a decade ago.

I guess I don’t have a unifying point to all of this rambling, other than to say that Cafe Hayek is excellent, and anybody who happens to be reading our blog but doesn’t yet follow theirs regularly should rectify that today.

Filed under: Blog, Economic Theory, Higher Education
Comments: 3 Comments

Justin M. StoddardPop the Corn Bubble Burst
Posted at 7:45 pm on
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March 31, 2010, by Justin M. Stoddard

When first I saw the headline “Israeli MP plans ‘popcorn law’ for movie munchers’,” I was sure the corresponding article would have something to do with either taxing or banning popcorn at movie theaters because of supposed health concerns.

It turns out, the reason given was much less nuanced and rather refreshingly honest:

Carmel Shama, from the governing Likud party, plans to bring the “popcorn law” for a vote when parliament returns from its Passover break next week, the mass-selling Yediot Aharonot newspaper reported Wednesday.

“We have to put an end to this. The public should not have to mortgage their houses for a soft drink and a snack,” Shama told the paper.

A large box of popcorn usually sells for about five dollars (four euros) at theatre concession stands, more than double what it costs at a supermarket and 10 times more than it would cost to make at home.

When I say “refreshingly honest,” I mean that there are no hidden overtones here. Carmel Shama doesn’t appear to be overly concerned with health. This doesn’t appear to be a redistribution scheme, where the proceeds from taxed popcorn would go into some government coffer. This is pure, straight-up theft.

This does raise an interesting question, however. Why is popcorn so expensive at the movie theater?

Economist Steven Landsburg isn’t so sure that it is. In chapter 16 (aptly named, “Why Popcorn Costs More at Movies”) of his book, The Armchair Economist, Steven Landsburg goes through a number of explanations for why the price of popcorn is as expensive as it is. The reasons may surprise you.

Intuitively, we would guess that the price of popcorn is high because once we enter the theater, we are a captive audience. They have, in effect, a monopoly on popcorn, since most theaters won’t allow outside food onto their premises. But, as Mr. Landsburg points out, at that point, the theater has a monopoly on pretty much everything within the sphere of its influence. There are no other restrooms, for example, other than those provided. There are no other drinking fountains or front row seats, etc… And yet, all of these conveniences come gratis with the ticket price. The reason for this is easy enough. Any ancillary charges once inside the theater would make said theater less attractive to customers. In order not to lose those customers, the theater would have to charge less for the ticket price. In essence, it’s a wash.

And so it may be for popcorn, as well. We pay higher prices for popcorn in order to pay lower prices for our tickets. But, in order to make prices attractive to all (popcorn munchers and popcorn abstainers alike), a happy medium must be found. This may be a matter of one part of the theater subsidizing another. Not everyone, after all, partakes in popcorn. They are only paying for the ticket to the movie and are therefore taking advantage of those who buy popcorn at a higher price point so ticket prices can economically be lower.

Another theory put forth by Mr. Landsburg suggests that since most movie goers go to movies in groups, it follows that some of them will want popcorn and some won’t. If a theater offers low popcorn prices and high ticket prices, those that don’t eat popcorn may not want to go. The same follows, visa-versa. The trick is to get both the popcorn and the ticket prices to a level both groups can agree upon.

This is economic theory backed up by the very theater owners that would be affected by such a law:

Yaacov Cohen, the owner of one of Israel’s largest theatre complexes, said owners made virtually no profit from ticket sales and would be hard pressed to survive if food sales were limited.

“It would destroy the entire industry,” he told Yediot.

Also, as a parting shot, it bears remembrance that those who trade $5 for a medium popcorn value the popcorn more than they do the $5. Even if said bags of popcorn sold at $100 per, the same holds true. And although the New Paternalists may have something to say about that (waiting periods for high-cost items, etc…), it is still a voluntary exchange, of nobody’s business but the two parties involved.

One last unintended consequence. Carmel Shama may well succeed in making high popcorn prices illegal. If so, people will no longer have to worry about mortgaging “their houses for a soft drink and a snack”. They’ll be doing that just to buy a ticket. Either that, or a whole lot of movie theaters will be going under.

[Cross-posted at Shrubbloggers.]

Filed under: Economic Theory, Market Efficiency, Nanny State, Unintended Consequences
Comments: 3 Comments

Caitlin HartsellFalse comparisons
Posted at 11:19 pm on
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March 29, 2010, by Caitlin Hartsell

After reading the comments that appeared on Andrew Veen’s re-posting of  Jen Pierce’s excellent post on a newcomer’s perspective of libertarian arguments, I wanted to address one of the major problems I’ve encountered when having political debate with libertarians and non-libertarians alike: false comparisons.

This is especially a problem when talking about health care, which admittedly is a difficult topic. The argument people sometimes present is “perfect government” (in which the efficient government delivers services efficiently) versus “imperfect markets.”  Other times, it’s “perfect markets” versus “imperfect government.” Neither is very useful, as what really needs to be looked at is the actuality of how markets and government play out. Any debate that happens needs to involve what can be realistically expected from both the market and the government.

Market solutions, even in “perfect markets,” are relatively upfront about their negative points. A market solution, like one for health insurance, may not “include” everyone; a competitive market will bring the price down to a certain point so as to include more people (and sometimes, even most people) but there may be people who are still priced out and cannot afford the service, or insurance, or good. This is a flaw that is often used to attempt to discredit the solution.

The problem is that the government solution has flaws that are not initially apparent. For instance, in places like Massachusetts, Canada, and Great Britain, everyone has health insurance and coverage, but that equates to long wait times and rationing of care and quality. A lack of competition (and an excess of bureaucracy) stifles innovation possibilities and slows any moves toward efficiency. Also, governmental solutions have the backing of the law behind them; if one is unhappy with the service, there are limited legal methods to bypass them.

(Tangential note: Some may argue that rationing happens currently in the system we have, but rationing by price is a very different and more efficient mechanism than rationing by political clout. At any rate, the current system is too distorted by special interests and governmental infrastructure to be considered a market.)

The case of the sick little girl that Jen mentioned draws upon another part of the argument oft overlooked by pro-government solution proponents: the role of private charities. In the competitive market solution, people have more money to spend on other goods, including private charity.  Private charities must do good work in order to garner further donations; so in the long-term, the better charities will receive the most money and make the most impact. The market may leave some people out, but the private sector can pick up the loose ends.

So, while the market solution admittedly does not “include” everyone, it is disingenuous to compare it to a governmental solution that does “include” everyone. Each has their own faults, but the market solution has mechanisms to fix them, whereas one must resort to the black market to get around the flaws in the governmental solution.

(Also posted at Lady Libertarian)

Filed under: Economic Theory, Government Spending, Health Care, Uncategorized
Comments: 1 Comment

Justin M. StoddardNoncensus
Posted at 9:06 pm on
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March 29, 2010, by Justin M. Stoddard

If you’ve had occasion to listen to the radio for any amount of time recently, you’ve probably heard the slew of commercials about the ongoing Census. What you’ll hear, unfortunately, is not an explanation of the original purpose of the census, but instead a rather inane and commonly incorrect interpretation of basic economics.

The one I hear most goes something like this (and I’m paraphrasing):

Imagine you live in a growing city approaching one thousand people. Imagine a transportation system that has 3 buses. If you don’t fill out the census, how will we know if we need more buses? Do you want to be on a really crowded bus? Of course not! Fill out your census so we can know how many people live here so we can buy more buses!

I’m not as droll as the narrator of this piece, but I can attest that this is the thrust of the argument. If you don’t fill out the census, public transportation will become ineffectual because, well, apparently that whole “three overly crowded buses” in a small metropolitan area is not enough to signal to the powers that be that…”hey, we need more buses!”

Ironically, what this commercial hints at is the complete failure of centralized planning (a rather funny unintended consequence). A public transit system needs a form filled out every 10 years letting them know how many people live in the area in order to function? Really?

Would several competing, privately owned mass transit companies need this information? Of course not. Private companies pay attention to the ‘signaling’ their costumers telegraph their way. It’s not too difficult to literally SEE buses becoming overcrowded. What inferences would you draw from that observation? Perhaps it’s time to put another bus on the road?

If markets were more fully involved in supplying transit services, when people demand more buses, the market will provide more buses, until supply and demand meet at a parity. But that’s another post altogether. I just can’t tell if this propagation of incorrect economics is willful or just ignorant. Perhaps both?

Edit: Marginal Revolution just picked up on this phenomenon, independent of myself.

[Cross-posted at Shrubbloggers.]

Filed under: Economic Theory
Comments: 5 Comments

Eric D. DixonThe Knowledge Problem of New Paternalism
Posted at 4:14 pm on
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March 28, 2010, by Eric D. Dixon

Tom Palmer‘s book reviews are more than enough to explain why Cass Sunstein is an extraordinarily sloppy thinker, but bad ideas never die — and Sunstein’s bad ideas are plentiful. One of his pet theories, developed with Richard Thaler, is “libertarian paternalism,” which posits that central authorities can frame the choices available to people in society in such a way that “better” choices will more often be made — all without running afoul of libertarian objections to authoritarian compulsion.

David Friedman has made compelling arguments that “nudges,” attempts to establish innocuous choice architecture, would likely soon become more like shoves.

Yesterday, I discovered that economists extraordinaire Mario Rizzo and Glen Whitman (check out this nice encomium to Rizzo by Peter Boettke) had thoroughly dismantled the idea that would-be paternalists have the ability to make better utility-maximizing decisions than the aggregate population they hope to influence, let alone cement this ability in a set of public policies that would implement the benefits of their omniscience in practice. Titled “The Knowledge Problem of New Paternalism,” one additional reason it caught my eye is because they published it in the law journal of my own alma mater.

(Last time I went poking around the archives of BYU’s scholarly journals, incidentally, I stumbled across this gem from 1976, which provides the interesting bit of trivia that Milton Friedman and Dallin H. Oaks had been friendly colleagues during their mutual time in Chicago.)

At any rate, Rizzo and Whitman give “libertarian paternalism” the full Hayekian analysis, concluding:

In principle, we can embrace the idea of making people better off according to their own true preferences. That goal cannot be made operational in practice without access to information that policymakers do not, will not, and often cannot possess. Yet policymakers have to make policy on the basis of something, and so they will appeal to their own preferences, the preferences of self-appointed experts, or the (alleged) preferences of the public at large. They cannot implement people’s “true” preferences, but they can implement what they believe are the “right” ones, and the new paternalist paradigm will provide the intellectual cover to do so.

It’s an excellent piece, worthy of a full, careful read.

[Cross-posted at Shrubbloggers.]

Filed under: Economic Theory, Nanny State, Regulation
Comments: 3 Comments

Justin M. StoddardRent-Seeking Potheads
Posted at 12:59 am on
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March 28, 2010, by Justin M. Stoddard

I honestly could not initially decide whether or not to post this, as I could not determine if it was a hoax or parody (a la The Onion). But the more I thought of it, the more plausible it seemed.

Outlaw pot farmers in Calif. fear legalization could actually hurt their business:

“The legalization of marijuana will be the single most devastating economic event in the long boom-and-bust history of Northern California,” said Anna Hamilton, 62, a Humboldt County radio host and musician who said her involvement with marijuana has mostly been limited to smoking it for the past 40 years.

Local residents are so worried that pot farmers came together with officials in Humboldt County for a standing-room-only meeting Tuesday night where civic leaders, activists and growers brainstormed ideas for dealing with the threat. Among the ideas: turning the vast pot gardens of Humboldt County into a destination for marijuana aficionados, with tours and tastings — a sort of Napa Valley of pot.

The irony is deliciously delicious…in so many ways. But, foregoing all that, this is basically an issue of rent seeking. People who deal in black-market goods are protected from the ‘legal’ market. Not only do the goods they are producing/trading have an unnaturally high price point, they are shielded from competition from the free market. If anyone can get into the pot growing business, prices will dramatically fall. Some of the former illegal growers will then be priced completely out of the market.

We see this type of rent seeking behavior every day. Groups from manicurists and hair stylists to HVAC repairmen to interior decorators insist on licensure laws as requirements to enter their professions.

Those doing the rent seeking will nearly almost always claim that these types of licensure laws are needed so that only qualified people get the job. It’s a safety issue. Or a quality issue. Or, well, pick your reason.

In truth, it’s none of those. Rent seeking protects jobs using the force of government by way of restrictive fees and time-costing measures. It protects the few at the cost of hurting everyone else by way of decreased competition, higher prices and fewer employed people. You have a limited amount of money and you want to become a florist? Do you have the right license? Have you paid enough fees and attended enough classes? Sorry, you’re now priced out of the market. Some select florists benefit; the aggregate suffers.

But back to the rent seeking pot farmers of Humboldt County, California. Not only are their actions unbelievably immoral, they’re frightfully hilarious. The whole thing reminds me of the Simpsons episode where Homer Simpson is bullied out of the chiropractic market:

Steve: [walks in] Simpson! You’re not a licensed chiropractor, and you’re stealing patients from me and from Dr. Steffi.

Homer: Boy, talk about irony. The AMA tries to drive you guys out of business, now you’re doing the same to me. Think about the irony.

Steve: [grabs Homer by the collar] You’ve been warned. Stop chiropracting.

Homer: Not unless you think about the irony.

As pot legalization becomes more likely, I would expect to see more of this type of behavior. Just remember, the behavior is equally ridiculous when applied to interior decorators or florists, or the nearly other 30% of the workforce that requires licensure.

[Cross-posted at Shrubbloggers.]

Filed under: Drug Policy, Economic Theory, Regulation
Comments: 7 Comments

Justin M. StoddardEnvironmental Polylogism
Posted at 7:04 pm on
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March 26, 2010, by Justin M. Stoddard

Does cognitive brain function determine your belief in anthropogenic global warming? Or, rather, do your political beliefs determine your cognitive brain function? George Lakoff, professor of Cognitive Science and Linguistics at UC Berkeley would like you to believe so.

Over a span of several articles on the subject, Professor Lakoff attempts to explain what he calls global warming denial as problem of ‘framing’ the discussion; meaning, well…several things:

In a May, 2009 article on the Huffington Post titled, “Why Environmental Understanding, or “Framing,” Matters: An Evaluation of the EcoAmerica Summary Report,” Professor Lakoff says:

How the environment is understood by the American public is crucial: it vastly affects the future of our earth and every living being on it.

The technical term for understanding within the cognitive sciences is “framing.” We think, mostly unconsciously, in terms of systems of structures called “frames.” Each frame is a neural circuit, physically in our brains. We use our systems of frame-circuitry to understand everything, and we reason using frame-internal logics. Frame systems are organized in terms of values, and how we reason reflects our values, and our values determine our sense of identity. In short, framing is a big-deal.

All of our language is defined in terms of our frame-circuitry. Words activate that circuitry, and the more we hear the words, the stronger their frames get. But if our language does not fit our frame circuitry, it will not be understood, or will be misunderstood.

That is why it matters how we talk about our environment.

It’s worth it to read the entire article to really see what Professor Lakoff is driving at, here. Framing is a ‘big deal’ because it is basically the storage space where ‘input’ is translated into ‘output’. Apart from the first sentence, regarding the environment (I’ll get to that in a bit), I have no particular argument with this line of thinking since, admittedly, my knowledge of cognitive scientific theory is spotty, at best.

I do, however, know a little bit about praxeology, being a rational person (in an economic sense) who voluntarily interacts with other rational people (a society!). Where Professor Lakoff loses me (and veers off into dangerous nonsense) is when he abandons hard science for pseudo-Freudian theory.

In February, 2010, Professor Lakoff wrote the following in: A Good Week for Science (Or, What Eating Worms Reveals About Politics):

All three results follow from a cognitive science study called Moral Politics, which I published in 1996 and was reprinted in 2002. There I observed that conservatives and liberals had opposite moral worldviews structured by metaphor around two profoundly different models of the ideal family, a strict father family for conservatives and a nurturant parent family for liberals. In the ideal strict father family, the world is seen as a dangerous place and the father functions as protector from “others” and the parent who teaches children absolute right from wrong by punishing them physically (painful spanking or worse) when they do wrong. The father is the ultimate authority, children are to obey, and immoral practices are seen as disgusting.

Ideal liberal families are based on nurturance, which breaks down into empathy, responsibility (for both oneself and others) and excellence — doing as well as one can to make oneself better and one’s family and community better. Parents are to practice these things and children are to learn them by example.

Because our first experience with being governed in is our families, we all learn a basic metaphor: A Governing Institution Is A Family, where the governing institution can be a church, a school, a team, or a nation. The Nation-as-Family version gives us the idea of founding fathers, Mother India and Mother Russia, the Fatherland, Homeland Security, etc.

Apply these monolithically to our politics and you get extreme conservative and progressive moral systems, defining what is right and wrong to each side.

There are a couple of ideas put forth here that strike me as wrong-headed. We of ‘conservative’ political ideology (I’m assuming Professor Lakoff is lumping anyone who is not ‘progressive’ into this realm, which, in effect, is a false dichotomy, and rather meaningless as there are plenty of Republicans who don’t have a conservative bone in their body) tend to believe that Liberalism* is a philosophy that cannot help but lead to overly patriarchal forms of government. (Communism, Socialism, Fascism, Stalinism, Maoism, etc… are all movements from the Left). That, essentially, is what we are always railing against.

*The word Liberalism is used here to describe a leftest ideology. I do notice, however, that Professor Lakoff has cleverly ‘framed’ his own language throughout his writings. He consistently refers to Liberals as Progressives (never the left-wing). Conservatives are still conservatives and often the “right-wing”. Historically aware people may find this a bit curious as the term “Progressive” was once proudly used by the most racist, war-mongering, intolerant group of people our country has ever witnessed. 100 years ago, “Progressives” got us into World War I, outlawed dissent, outlawed alcohol, banished African Americans from federal employment, purposely starved to death thousands of Germans after the November 11 armistice was signed, censored newspapers and the mails and generally acted like the worst kind of abusive parent. Not to mention their “enlightened” view on eugenics, an idea supported by a majority of scientists and politicians of the day (sound familiar?). A policy so repugnant, it led directly and irrevocably to the gas chambers in Hitler’s Germany.

I would be wary to hitch my wagon to such a term.

Secondly, this strikes me as an example of polylogism; the “belief that different people or groups of people have different forms of logic.” This is a collectivist idea most famously used by Karl Marx when he referred to proletarian logic vs. bourgeoisie logic.

Ludwig von Mises addresses this form of polylogism in Chapter 2 of his book, Human Action:

Marxian polylogism asserts that the logical structure of the mind is different with the members of various social classes. Racial polylogism differs from Marxian polylogism only in so far as it ascribes to each race a peculiar logical structure of mind and maintains that all members of a definite race, no matter what their class affiliation may be, are endowed with this peculiar logical structure.

There is no need to enter here into a critique of the concepts social class and race as applied by these doctrines. It is not necessary to ask the Marxians when and how a proletarian who succeeds in joining the ranks of the bourgeoisie changes his proletarian mind into a bourgeois mind. It is superfluous to ask the racists to explain what kind of logic is peculiar to people who are not of pure racial stock. There are much more serious objections to be raised.

Allow me to rewrite that last paragraph in more modern terms, with apologies to Lugwig von Mises:

There is no need to enter here into a critique of the concept political belief as applied by these doctrines. It is not necessary to ask the Progressives when and how a leftist who succeeds in joining the ranks of conservatism or libertarianism changes his liberal mind into a conservative/libertarian mind. It is superfluous to ask the Progressives to explain what kind of logic is peculiar to people who are not of pure progressive thought. There are much more serious objections to be raised.

In any case, this is all a pretext. To get back to the original intent of this article, what astonishes Professor Lakoff the most is the simple fact that there are individuals out there who are skeptical (he uses the blanket term ‘deniers’) of anthropogenic global warming.

Professor Lakoff is further quoted in this article:

“It relates directly (to global warming) because conservatives tend to feel that the free market should be unregulated and (that) environmental regulations are immoral and wrong,” Lakoff said.

“And what they try to do is show that the science is wrong and that the argument is wrong, based on the science. So when it comes back to science, they try to debunk the science,” Lakoff said.

On the other hand, he added, liberals’ cognitive process allows them to be “open-minded.”

“Liberals say, ‘Look seriously at the science and look at whether people are going to be harmed or not and whether the world is going to be harmed,’” Lakoff said.

Lakoff, however, said that “99.999 percent of the science is final” on global warming and, in fact, the term “climate change” should be changed to “climate crisis” to more accurately describe the phenomenon.

“Climate crisis says we had something to do with it and we better act fast because that’s the reality,” Lakoff said

There are plenty of excellent reasons to be highly skeptical of Professor Lakoff’s claim that “99.999 percent of the science is final”. (How do you empirically come up with such a statement about science, anyway?). Trying to explain all this away by claiming conservatives and liberals are cognitively different smacks of metaphysical desperation.

[Cross-posted at Shrubbloggers.]

Filed under: Economic Theory, Environment
Comments: 4 Comments

Christine HarbinThe Lesson Applied to My Car Window
Posted at 9:22 am on
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March 26, 2010, by Christine Harbin

On Monday I experienced Bastiat’s parable of the broken window in the most literal sense: somebody smashed the front passenger window on my car while it was parked in the (gated!) lot at my apartment. I played in the role of the storekeeper whose window was broken, and I can attest that no wealth was created for myself or the Saint Louis community.

Ce qu'on voit!

In chapter 2 of Economics in One Lesson, Henry Hazlitt explains:

Instead of having a window and $250 he now has merely a window. Or, as he was planning to buy the suit that very afternoon, instead of having both a window and a suit he must be content with the window and no suit.

When I went to bed that night, I had a passenger car window again, but I was about $500 poorer. In addition to the $250 that I spent on replacing the car window, I will have to pay to replace the items that were stolen too, including: a 16 GB ipod Touch ($250), a universal car phone charger ($18), ipod case ($15), the cost of gas for driving to auto glass changer, and lost productivity. Like the storekeeper, I have to be content with the window only.

If we think of him as a part of the community, the community has lost a new suit that might otherwise have come into being, and is just that much poorer.

In my case, the Saint Louis community lost an Apple iPad that would otherwise have been bought. Ce qu’on ne voit pas. If I didn’t have to pay to replace that window, I would have used the money to buy one. Or, I could have saved the money in my bank account, where it would generate interest, and I would spend it at a later date. I cannot spend the money that I spend at the window repair shop in any other way.

Some people would argue that, had nobody broken my window, the window repairer would be out of a job. This is fallacious because it ignores the fact that the window repairer could develop skills or apply his existing skills to a different activity that would actually encourage productive economic growth. He could work at an Apple store, for example, and sell me an iPad.

Filed under: Economic Theory, Unintended Consequences
Comments: 1 Comment

Lee SharpeCurrency Devaluation
Posted at 3:34 pm on
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March 25, 2010, by Lee Sharpe

A recent NPR podcast discussed how Paul Krugman and other economists are criticizing the Chinese bank for increasing the supply of its own currency, thereby deflating it relative to the dollar and other currencies.

As the podcast correctly evaluates, the result of this is that Chinese exports are cheaper to consumers in other countries, and goods China imports are more expensive for consumers there. Chinese exporters understand this phenomenon all too well, and realize they are going to increase their market share and profit if the currency is devalued, and probably lobbied the Chinese government to make it happen in the first place.  Chinese politicians and the general Chinese public can feel great about this wonderful plan to increase Chinese industry and provide jobs!

Naturally, some in the United States are upset because American producers of the same goods are now at a competitive disadvantage with Chinese producers, costing the American producers money and costing them jobs. Sounds like the United States government needs to do something about this, right?  You’d certainly get that impression from listening to the NPR podcast.

Alas, this evaluation is exactly what Henry Hazlitt warns about in the lesson from which this blog derives its name.  It ignores the other results of China’s actions. Chinese currency devaluation means that Chinese goods are cheaper in the United States.  This is wonderful news for American consumers!  (And, for that matter, everyone else in the world except China, but I’ll focus on the United States.)  Meanwhile, Chinese consumers are forced to deal with more expensive imported goods into China.  American consumers are now helping the U.S. economy more, since they can buy more goods with the same amount American money, creating employment to meet the new demand.  Conversely, Chinese consumers will be buying fewer goods with the same amount of Chinese money, meaning that domestic industries in China (Chinese producers selling to Chinese consumers) will be hurt, which is worse for both parties. This is because devaluing currency is really inflation, and this is what inflation does: makes goods more expensive than they otherwise would be, slowing economic growth.

Why is the Chinese government devaluing its currency, then, if this is so bad for them?  Because those to whom the currency devaluation benefits (Chinese exporters) favor it because they stand to profit substantially from it.  Therefore, if they believe the government will go along with them, they have every incentive to lobby the government to help them.  The politicians, meanwhile, even if they understand the economic realities of the situation (which is unlikely), have on the one hand a small number of lobbying exporters who are helped a great deal, and many consumers who in the aggregate are hurt a great deal but individually are hurt comparatively little, and therefore have no real incentive to counter-lobby.  This means that the politicians have the incentive to not anger the only group with substantial individual stakes, while taking the economically correct action likely won’t anger anyone.

The United States taking a “retaliatory” measure (by deflating the dollar) to balance out the Chinese action is a road to disaster for the exact same reason that it’s a bad idea for China to do it for itself. If China wants to devalue its currency, the United States should be happy it has access to cheaper goods allowing it to more easily grow its economy, and not damage its own economy by doing the same.

Filed under: Economic Theory
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Wirkman VirkkalaThe Giffen Weed
Posted at 12:27 pm on
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March 24, 2010, by Wirkman Virkkala

John W. Payne’s contribution, yesterday, on this very blog, “More Bans Won’t Deter Use, but Will Increase Costs,” raises a serious issue directly tied to the theme of this blog. The issue is Supply and Demand — that is, the working out of incentives and disincentives throughout the vast network of individuals that makes up society.

People sort of understand that if you raise the price — or, by legal interdiction, radically increase costs — of a good, use of that good should go down.

This is, after all, a standard economic notion. Very basic.

So, what is working against this? I mean, in the case of marijuana we have an economic good that could be nearly free (it grows easily almost anywhere; it requires little complicated processing — even stoners can learn how to nurture and harvest the psychoactive agents in the plant) but has been raised in price because of legal actions by the federal government and all of the states. Still, despite the vast network of state agents directed against the plant and those who use it for pleasure, usage has remained fairly steady, and, by long trend, has grown. Why?

The cost rises and the usage rises? This defies economic law, you might say.

Mr. Payne writes as if it were obvious that this should be the case. And he has reason to: Experience. This has been the modern experience, and not just with marijuana.

But what of economic theory?

The standard answer is that marijuana is an inelastically demanded good. That is, it is so high on some people’s value scales (demand schedules, if you must) that increases in cost to obtain the good do not deter consumption. Indeed, marijuana may be that much-discussed rarity, a Giffen Good, an economic good that, with increases in price come increases in purchases.

Giffen goods, an anomaly in simple price theory, occur because of income effects. Limitations of income (or , more broadly, resources) mean that, if a highly valued good increases in price, lower valued goods must be forgone to maintain satisfaction from that higher-valued good.

The trouble with understanding such goods is psychological. Most of us do not attribute as much importance to the good in question as some few do. I, for instance, drink less alcohol as the price goes up. I like my whisky, anisette, port, and the occasional glass of wine. Sure. But not enough to continue to buy them in the same amounts when their prices rise. I prefer a cold Diet Coke™ or a cool glass of water. And when my income goes down, I swap the Coke for more water. A standard behavioral scenario.

And most people are like me. They cannot imagine buying more of a luxury like a psychoactive pick-me-up (or put-me-down) like alcohol or marijuana, and so they continue to give credence to the idea that prohibition of such goods makes sense.

But prohibition does not make sense if they are, in fact, Giffen goods. Not to everybody, but some.

And then we hit some interesting social factors not often discussed in economics: The divergence of markets by social stratification. Making a good illegal puts merchants and purchasers of the good outside the law, outside of “polite company,” so to speak. In the black market, trades are more dangerous, risk is everywhere, and representatives of law tend to be nowhere in sight.

This divorces illegal drug users from normal society, and puts them in a complete different social world. Expectations about behavior begin to change. Violence is just one aspect of this world. It is often not pretty.

And it traps some of those who enter it. They sometimes find it increasingly difficult to navigate normal society, find it harder to maintain an honest job, for instance.

But just the Giffen Good aspect has notorious side-effects. If you buy more drugs because the drugs have increased in price (because of the War on Drugs), then your income does not allow many other things. Like, perhaps, good food. Or toothpaste. Or a car. With fewer resources, you can be increasingly trapped from any possibility of upward mobility.

This scenario helps explain some of the horror we see regarding meth addiction. But, of course, to it we must add the sheer power of meth: It is the ultimate “Giffen Pleasure,” robbing other pleasures of their purchase in the human soul . . . and since life proceeds on little pleasures and little pains guiding our prudential action, those who partake of this drug can quickly ruin their lives. They don’t maintain the pleasure mechanisms that allow the rest of us to brush our teeth, comb our hair, bathe, and go to work. All the little pleasures have been burnt out.

Marijuana, on the other hand, is a much more mild psychoactive substance, though heavy users tend to reach a point after many years that mildly mimics the downward spiral often seen in meth addicts. Still, most users are moderate users.

And yet moderate users still use it, despite the possibility of getting caught. Indeed, people in all walks of life use it. What gives?

Here we have a market maintained, I think, by a core set of people who treat it as a Giffen Good. This market allows those who treat it more casually to continue to use it. (This works rather like Early Adopters who “subsidize” tech development: Their enthusiasm for new devices funds efforts to improve technology so that, as each tech device develops over time, and prices drop, others can afford it. Similarly, core marijuana users have maintained a market, against the official suppression, allowing casual users to access it for occasional purchase.)

Apparently, the only way to eradicate the market is to eradicate availability of the plant, as meth has been mostly eradicated in Oregon, according to the drug warriors most enthusiastic about Oregon’s full-scale war on the production of same (by stringent regulation of Sudafed, a key ingredient).

Not likely, for marijuana. It hasn’t happened yet, except for short, dry periods in some cities.

To summarize: The widespread use of marijuana by enthusiastic users and casual users alike challenges the most simplistic formulations of economic theory. But economics can still, I think, explain what is actually happening, and why simplistic formulations of supply and demand are inadequate to predict the outcomes of legal suppression of drug usage.

Further, it’s worth bringing up a point outside of economics: Widespread marijuana usage by both enthusiasts and casual users, in the face of both legal and illegal violence and risk, suggests that the right to self-medicate is a “right retained by the people.” The Ninth Amendment should surely apply here.

There is an old rule of Jeremy Bentham’s that would help de-inkblot America’s Constitutional interpretation on such matters. If you cannot, without enforcement, get at least 80 percent (Bentham may have said 90 percent) compliance on a rule, then the rule is wrong, not the people. Both utilitarianism and the American Constitutional tradition suggest that marijuana prohibition is a horrendous injustice put upon American society.

Filed under: Drug Policy, Economic Theory
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Henry Hazlitt"[T]he whole of economics can be reduced to a single lesson, and that lesson can be reduced to a single sentence. The art of economics consists in looking not merely at the immediate but at the longer effects of any act or policy; it consists in tracing the consequences of that policy not merely for one group but for all groups."
Henry Hazlitt, Economics in One Lesson






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