This all sounds very familiar!
In the words of Ludwig von Mises, "a government can spend or invest only what it takes away from its citizens... Its additional spending and investment curtails the citizens' spending and investment to the full extent of its quantity."
Showing posts with label economics. Show all posts
Showing posts with label economics. Show all posts
Wednesday, 7 January 2009
Wednesday, 24 December 2008
Are our leaders misrepresenting Keynes?
Central Banks appear to be citing Keynesian monetary policy as a reason for pushing down interest rates to dangerously low levels.
Yet it is far from clear that the dead economist would himself have approved of low or no interest rates.
According to his General Theory of Employment, Interest and Money, when the "rate of interest has fallen to a certain level… almost everyone prefers holding cash to holding debt which yields so low a rate of interest," as a result of which central banks can "lose effective control over the interest rate" (p. 207).
The problem, as I have noted repeatedly, is that if interest rates are low, there is no incentive to lend money, thus furthering the very “liquidity trap” that the Central Banks believe they have to resolve. As Keynes understood, people have no incentive to hold bonds (or deposits) rather than cash. In fact, the rational investor would shift their money abroad.
Rather than resolving the problem, today’s low interest rate policy is sowing the seeds of the next economic crisis by encouraging further credit expansion which, in turn, will lead to further misallocations of resources and requiring future punitive interest rate rises.
Yet it is far from clear that the dead economist would himself have approved of low or no interest rates.
According to his General Theory of Employment, Interest and Money, when the "rate of interest has fallen to a certain level… almost everyone prefers holding cash to holding debt which yields so low a rate of interest," as a result of which central banks can "lose effective control over the interest rate" (p. 207).
The problem, as I have noted repeatedly, is that if interest rates are low, there is no incentive to lend money, thus furthering the very “liquidity trap” that the Central Banks believe they have to resolve. As Keynes understood, people have no incentive to hold bonds (or deposits) rather than cash. In fact, the rational investor would shift their money abroad.
Rather than resolving the problem, today’s low interest rate policy is sowing the seeds of the next economic crisis by encouraging further credit expansion which, in turn, will lead to further misallocations of resources and requiring future punitive interest rate rises.
Monday, 22 December 2008
The Green Road to Nowhere
History is repeating itself, though whether as tragedy or farce awaits to be seen. As our economy enters another of its periodic recessions, caused as ever by government meddling in the economy, politicians race to solve the problem with further doses of the same poison.
Sadly, in an age where politicians fear differentiating themselves from one another and parties squabble over a consensus they disingenuously call the middle ground, there seems to be no real debate over how best to ensure that the recession that we are now in is as brief as possible. Just as President Hoover’s failed interventions were succeeded by President Roosevelt’s even greater interventions, so today politicians seem to be in a bidding war to intervene in the economy.
The latest dose comes from the Liberal Democrats, who have joined the chorus with their latest call for action. Nick Clegg has announced a Green Road Out of the Recession that is built on the same errors that underpin Labour’s proposals and the $4.61 trillion US bailout.
It is a simple error, summed up by Henry Hazlitt when he notes that “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.” It is the error of looking at the immediate results of what one does but not the damage that doing it causes; specifically, of believing that one can utilize a resource (in this case, money) for one purposes without denying it to another.
So let us be utterly clear: when the Lib Dems say “Now is the time for big investment to get the wheels of the economy turning again”, any rational observer should immediately ask “From where is the money coming, and what will be sacrificed so that this investment can be achieved?”
It is an impressive list the Lib Dems have compiled: new trains; new railways; new track; social homes; insulated lofts; smart meters. It will “create jobs and ensure that once this recession is over, we have something to show for the money we borrowed.” All of which is true, but what it does not show is all the jobs that will not be created because the money that would have been spent creating those jobs has been siphoned off by government to pay for its own projects.
There is absolutely no reason why government spending of £12.5 billion (as the Lib Dems propose) should create more jobs than private spending of £12.5 billion. On the contrary: while markets operate specifically to maximise economic efficiency – by, for example, allowing people to spend money on projects that will maximise their own utility – government’s have no such built-in discipline and no means of weighing the efficiency or efficacy of different projects. In fact (as the sorry litany of failed government projects demonstrates) governments all too often blow vast sums of taxpayers’ money on projects that promise big benefits but deliver dubious or disappointing outcomes.
I should add that this is not a criticism of any individual project and certainly not of the environmental (“green”) thrust of the proposals. That the “road out of recession” is “green” is irrelevant. We could as easily talk about the white heat of technology or indulge in some blue-skies thinking. The point is that this is being sold on economic, not environmental, grounds; if the Lib Dems were as keen on agriculture as we are on environmentalism, we could as easily advocate policies akin to President Hoover’s New Deal farm programme, and the proposals would be no less flawed. Government cannot spend the country out of recession.
The reason for this is that government money must come from somewhere, and not matter what its source, it merely transfers money from one use to another. If we spend £12.5 billion on new trains to “create jobs” and “stimulate industry” then the money, workers and materials that are diverted to those ends are no longer available to make shoes, televisions, meals or whatever else we might buy. The net effect in jobs created, wages spent and economic activity stimulated is zero.
Indeed, while we may scoff at the 2.5% cut in VAT and say that the £12.5 billion could be better spent insulating lofts, it ignores the fact that the £12.5 billion would otherwise have been spent by consumers on (for example) carpets. The criticism that the VAT cut would not in fact encourage people to buy is valid in as far as an individual price reduction of 2.13% is not going to make a product hugely more attractive to buy. But the fact that the money remains in people’s pockets means that it will eventually be spent somewhere. It will still represent an increase in consumer demand and so will stimulate growth.
Thus the one part of the Green Road Out of the Recession which is sound is the bit that promises “big, permanent tax cuts”. It is the bit that has been policy for over a year and upon which conference voted. It would transfer spending from inefficient governments to efficient consumers and so allocate resources in the marketplace (that is to say you and me and our respective savings) most efficiently.
A couple of additional points need to be made, to head off possible comments (welcome though all comments are, of course!). Firstly, it makes no difference if the government gets the money through taxation, inflation or borrowing. Borrowing has exactly the same effect as taxation in as much as it diverts savings from being invested in industry and instead invests it in public services; there is still no net gain. It also lands future taxpayers with a bill, so diverting money from future generations to the present. Inflation is effectively a flat tax: if we “print” an additional 1% of money, we are reducing the value of everybody’s savings and wages by 1% - an “inflation tax” that falls as heavily on the poor as it does on the rich (except that rich people are more likely to own commodities or foreign assets that are inflation proof, so inflation may actually be regressive). It also creates imbalances in the economy that will lead to further crises in the future.
Secondly, it makes no difference that this is supposedly “investment” rather than mere “spending”. It is certainly true that this sort of government spending will ensure that “once this recession is over, we [will] have something to show for the money we borrowed.” I have a house to show for the money I borrowed in December, but it does not follow that I made a sound “investment”. Had my internal chancellor not borrowed and spent, my internal taxpayer would not now be saddled with debt.
As Adam Smith noted over two centuries ago, “What is prudence in the conduct of every private family can scarce be folly in that of a great kingdom”. What is more, the fact that we can see what the borrowing has financed should not blind us to the fact that we cannot see the things that the borrowing has denied us: other investments will have been sacrificed. And finally, even spending on consumer fripperies stimulates long-term investment: if demand for MP3 players and trainers increases, so does investment in the production and retailing of these (so creating jobs) and in the infrastructure needed to move them about. Indeed, as taxes/inflation/borrowing tend to make it particularly hard for new businesses to arise, because capital formation (i.e. saving) is harder and credit is absorbed by government, new start-up businesses such as those marketing new solutions to environmental problems struggle to get off the ground. Big government spending may therefore be counter-productive even environmentally!
I also ought to add that members of other parties shouldn’t’ take too much pleasure in seeing me demolish my own party’s latest policy initiative. Neither Labour nor the Conservatives have exactly covered themselves in glory during the present economic crisis and both are participating in the flawed concensus politics outlined above. This article focuses on Liberal Democrat policy only because errors are doubly galling when they come from within one’s own camp and I would like to see the Lib Dems taking a braver, more distinctive and more honest approach to the current crisis that did not argue that more government can get us out of a problem that government made in the first place. The alternative norm of passing money through the hands of politicians instead of citizens has been Labour and Conservative policy for the last century and it has been a tragic disappointment.
Sadly, in an age where politicians fear differentiating themselves from one another and parties squabble over a consensus they disingenuously call the middle ground, there seems to be no real debate over how best to ensure that the recession that we are now in is as brief as possible. Just as President Hoover’s failed interventions were succeeded by President Roosevelt’s even greater interventions, so today politicians seem to be in a bidding war to intervene in the economy.
The latest dose comes from the Liberal Democrats, who have joined the chorus with their latest call for action. Nick Clegg has announced a Green Road Out of the Recession that is built on the same errors that underpin Labour’s proposals and the $4.61 trillion US bailout.
It is a simple error, summed up by Henry Hazlitt when he notes that “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.” It is the error of looking at the immediate results of what one does but not the damage that doing it causes; specifically, of believing that one can utilize a resource (in this case, money) for one purposes without denying it to another.
So let us be utterly clear: when the Lib Dems say “Now is the time for big investment to get the wheels of the economy turning again”, any rational observer should immediately ask “From where is the money coming, and what will be sacrificed so that this investment can be achieved?”
It is an impressive list the Lib Dems have compiled: new trains; new railways; new track; social homes; insulated lofts; smart meters. It will “create jobs and ensure that once this recession is over, we have something to show for the money we borrowed.” All of which is true, but what it does not show is all the jobs that will not be created because the money that would have been spent creating those jobs has been siphoned off by government to pay for its own projects.
There is absolutely no reason why government spending of £12.5 billion (as the Lib Dems propose) should create more jobs than private spending of £12.5 billion. On the contrary: while markets operate specifically to maximise economic efficiency – by, for example, allowing people to spend money on projects that will maximise their own utility – government’s have no such built-in discipline and no means of weighing the efficiency or efficacy of different projects. In fact (as the sorry litany of failed government projects demonstrates) governments all too often blow vast sums of taxpayers’ money on projects that promise big benefits but deliver dubious or disappointing outcomes.
I should add that this is not a criticism of any individual project and certainly not of the environmental (“green”) thrust of the proposals. That the “road out of recession” is “green” is irrelevant. We could as easily talk about the white heat of technology or indulge in some blue-skies thinking. The point is that this is being sold on economic, not environmental, grounds; if the Lib Dems were as keen on agriculture as we are on environmentalism, we could as easily advocate policies akin to President Hoover’s New Deal farm programme, and the proposals would be no less flawed. Government cannot spend the country out of recession.
The reason for this is that government money must come from somewhere, and not matter what its source, it merely transfers money from one use to another. If we spend £12.5 billion on new trains to “create jobs” and “stimulate industry” then the money, workers and materials that are diverted to those ends are no longer available to make shoes, televisions, meals or whatever else we might buy. The net effect in jobs created, wages spent and economic activity stimulated is zero.
Indeed, while we may scoff at the 2.5% cut in VAT and say that the £12.5 billion could be better spent insulating lofts, it ignores the fact that the £12.5 billion would otherwise have been spent by consumers on (for example) carpets. The criticism that the VAT cut would not in fact encourage people to buy is valid in as far as an individual price reduction of 2.13% is not going to make a product hugely more attractive to buy. But the fact that the money remains in people’s pockets means that it will eventually be spent somewhere. It will still represent an increase in consumer demand and so will stimulate growth.
Thus the one part of the Green Road Out of the Recession which is sound is the bit that promises “big, permanent tax cuts”. It is the bit that has been policy for over a year and upon which conference voted. It would transfer spending from inefficient governments to efficient consumers and so allocate resources in the marketplace (that is to say you and me and our respective savings) most efficiently.
A couple of additional points need to be made, to head off possible comments (welcome though all comments are, of course!). Firstly, it makes no difference if the government gets the money through taxation, inflation or borrowing. Borrowing has exactly the same effect as taxation in as much as it diverts savings from being invested in industry and instead invests it in public services; there is still no net gain. It also lands future taxpayers with a bill, so diverting money from future generations to the present. Inflation is effectively a flat tax: if we “print” an additional 1% of money, we are reducing the value of everybody’s savings and wages by 1% - an “inflation tax” that falls as heavily on the poor as it does on the rich (except that rich people are more likely to own commodities or foreign assets that are inflation proof, so inflation may actually be regressive). It also creates imbalances in the economy that will lead to further crises in the future.
Secondly, it makes no difference that this is supposedly “investment” rather than mere “spending”. It is certainly true that this sort of government spending will ensure that “once this recession is over, we [will] have something to show for the money we borrowed.” I have a house to show for the money I borrowed in December, but it does not follow that I made a sound “investment”. Had my internal chancellor not borrowed and spent, my internal taxpayer would not now be saddled with debt.
As Adam Smith noted over two centuries ago, “What is prudence in the conduct of every private family can scarce be folly in that of a great kingdom”. What is more, the fact that we can see what the borrowing has financed should not blind us to the fact that we cannot see the things that the borrowing has denied us: other investments will have been sacrificed. And finally, even spending on consumer fripperies stimulates long-term investment: if demand for MP3 players and trainers increases, so does investment in the production and retailing of these (so creating jobs) and in the infrastructure needed to move them about. Indeed, as taxes/inflation/borrowing tend to make it particularly hard for new businesses to arise, because capital formation (i.e. saving) is harder and credit is absorbed by government, new start-up businesses such as those marketing new solutions to environmental problems struggle to get off the ground. Big government spending may therefore be counter-productive even environmentally!
I also ought to add that members of other parties shouldn’t’ take too much pleasure in seeing me demolish my own party’s latest policy initiative. Neither Labour nor the Conservatives have exactly covered themselves in glory during the present economic crisis and both are participating in the flawed concensus politics outlined above. This article focuses on Liberal Democrat policy only because errors are doubly galling when they come from within one’s own camp and I would like to see the Lib Dems taking a braver, more distinctive and more honest approach to the current crisis that did not argue that more government can get us out of a problem that government made in the first place. The alternative norm of passing money through the hands of politicians instead of citizens has been Labour and Conservative policy for the last century and it has been a tragic disappointment.
Monday, 8 December 2008
Henry Hazlitt on the so-called “free market”
I have recently been reading Economics in One Lesson by Henry Hazlitt, and this section from the end of Chapter XVI particularly caught my attention:
[B]y the greatest miracle of all, this postwar world of super-international controls and coercions is also going to be a world of "free" international trade! Just what the government planners mean by free trade in this connection I am not sure, but we can be sure of some of the things they do not mean. They do not mean the freedom of ordinary people to buy and sell, lend and borrow, at whatever prices or rates they like and wherever they find it most profitable to do so. They do not mean the freedom of the plain citizen to raise as much of a given crop as he wishes, to come and go at will, to settle where he pleases, to take his capital and other belongings with him. They mean, I suspect the freedom of bureaucrats to settle these matters for him. And they tell him that if he docilely obeys the bureaucrats he will be rewarded by a rise in his living standards. But if the planners succeed in tying up the idea of international cooperation with the idea of increased State domination and control over economic life, the international controls of the future seem only too likely to follow the pattern of the past, in which case the plain man's living standards will decline with his liberties.
Monday, 20 October 2008
How Labour caused the economic crisis
Four weeks ago I demonstrated how the current financial crisis was a disaster of government's own making. However, most of that was focussed on the American government. In so doing I failed to point out how Gordon Brown (as both Chancellor of the Exchequer and Prime Minister) created the problem.
It is true that the US governmetn deserves much of the blame for forcing banks to lend to un-creditworthy (sub-prime) borrowers and (through the para-statal company Freddie Mac) inventing the practice of securitizing the debt.
But the main source of the problem has been the massive expansion in credit - and indeed money - over the past decade. And while the American government has been as guilty as any of inflationary policies over the past decade, it is Labour that has led UK investors up the garden path with dangerously loose monetary policy.
Having spent ten years allowing Gordon Brown to fan the flames of in an inflationary boom, we are now reaping the whirlwind.
But, I hear you cry, has inflation not been running at around 2%? Isn't that very low>
Well, yes, but only if you look at consumer/retail prices. Sadly for us, economic inflation isn't caused by inflation in the price of consumer goods, which have in fact been falling in real terms since China got its act in gear in the 1990s. Inflation is caused by loose money, which floods through banks, via loans, to be invested in (particularly) capital-industry and land. So the important measure of the inflation isn't CPI or RPI but the money supply.
And how much has the money-supply been inflating over the past decade? The Market Oracle provides this handy chart, which suggests that over the last 5 years the quantity of money swirling around in our economy has doubled.
It is true that the US governmetn deserves much of the blame for forcing banks to lend to un-creditworthy (sub-prime) borrowers and (through the para-statal company Freddie Mac) inventing the practice of securitizing the debt.
But the main source of the problem has been the massive expansion in credit - and indeed money - over the past decade. And while the American government has been as guilty as any of inflationary policies over the past decade, it is Labour that has led UK investors up the garden path with dangerously loose monetary policy.
Having spent ten years allowing Gordon Brown to fan the flames of in an inflationary boom, we are now reaping the whirlwind.
But, I hear you cry, has inflation not been running at around 2%? Isn't that very low>
Well, yes, but only if you look at consumer/retail prices. Sadly for us, economic inflation isn't caused by inflation in the price of consumer goods, which have in fact been falling in real terms since China got its act in gear in the 1990s. Inflation is caused by loose money, which floods through banks, via loans, to be invested in (particularly) capital-industry and land. So the important measure of the inflation isn't CPI or RPI but the money supply.
And how much has the money-supply been inflating over the past decade? The Market Oracle provides this handy chart, which suggests that over the last 5 years the quantity of money swirling around in our economy has doubled.
And where has all that spare cash, utterly un-backed by a corresponding doubling of growth (see 
GDP figures for 2002 and 2007), gone?
It has been used to bid up the prices of property, shares and capital goods.
However, as demand for them is not actually changed by the new banknotes (electronically) manufactured by the Government, the inevitable "readjustment" is at last taking place as the cost of these goods begins to fall, reflecting their real, non-inflated, value and the cost of consumer goods begins to rise to accomodate the new money in the economy.
As I mentioned a three days ago, further inflation, interest rate cuts and borrowing cannot stop the recession. They can perhaps delay it, and certainly extend it, but in the long run recession is inevitable. We have Labour to thank.
Friday, 17 October 2008
Gordon Brown and the financial crisis: a 1 minute comparison
Three ways to worsen a credit crunch:
1. Lower interest rates: this discourages saving because one gets little reward for delaying one’s gratification (in economic parlance, time-preferences are undervalued), while at the same time encouraging borrowing, thus further reducing the supply of credit relative to demand;
2. Allow inflation to escalate: this also discourages saving because the nominal reward for saving (the amount one’s money goes up) is eroded by the fall in the value of money (what your savings are actually worth), and for the same reason encourages borrowing: at present, the Bank of England base rate is lower than inflation which means that savings are worth less with time (in economic parlance, interest rates are negative);
3. Increase public borrowing: This takes money out of the credit markets: money that is being saved and would be invested in profitable businesses is now diverted into Government bonds and then invested in businesses that are not creditworthy (if they were, they would not need a Government bail-out).
Government policy:
1. Lower interest rates
2. Allow inflation to escalate
3. Increase public borrowing
Remember than the next time somebody tells you that Brown is having a good crisis. 
1. Lower interest rates: this discourages saving because one gets little reward for delaying one’s gratification (in economic parlance, time-preferences are undervalued), while at the same time encouraging borrowing, thus further reducing the supply of credit relative to demand;
2. Allow inflation to escalate: this also discourages saving because the nominal reward for saving (the amount one’s money goes up) is eroded by the fall in the value of money (what your savings are actually worth), and for the same reason encourages borrowing: at present, the Bank of England base rate is lower than inflation which means that savings are worth less with time (in economic parlance, interest rates are negative);
3. Increase public borrowing: This takes money out of the credit markets: money that is being saved and would be invested in profitable businesses is now diverted into Government bonds and then invested in businesses that are not creditworthy (if they were, they would not need a Government bail-out).
Government policy:
1. Lower interest rates
2. Allow inflation to escalate
3. Increase public borrowing
Remember than the next time somebody tells you that Brown is having a good crisis.
Thursday, 25 September 2008
Horray for the end of capitalism as we know it
Is this the end of capitalism as we know it?
"Capitalism as we know it is a creature of the regulatory authorities, who've messed it up good and proper" he argues. But frankly, that's just the start of it. Our supposedly capitalist system often looks more like Corporate Statism than any free market that our liberal forebears in the C18th and C19th would have recognised or welcomed. Big businesses larded with subsidies; investors insured by the taxpayer against bad investment; bankers bailed out to the tune of hundreds of billions of pounds.
Eamonn Butler, of all people, hopes that it is. Once he explained his reasoning, however, I could see his point.
"Capitalism as we know it is a creature of the regulatory authorities, who've messed it up good and proper" he argues. But frankly, that's just the start of it. Our supposedly capitalist system often looks more like Corporate Statism than any free market that our liberal forebears in the C18th and C19th would have recognised or welcomed. Big businesses larded with subsidies; investors insured by the taxpayer against bad investment; bankers bailed out to the tune of hundreds of billions of pounds.The sooner that that sham capitalism is swept away and replaced by free exchange of goods, services, capital and labour without interference, impedence or assistance from politicians the better we will all be.
I would like to see Government's role in the economy limited to three things: ensuring the rule of law; protecting property rights (which as Tristan reminds us, includes one's own person); and providing sound money. In fact, make that two things.
Friday, 22 August 2008
A fantastic metaphor for the economy
Llewellyn H. Rockwell Jr. may be focussing on the US Federal Reserve, but he could just as easily be talking about the UK when he writes
The current economic crisis “stems from… a Fed-driven banking system that turns
credit on and off like a monkey playing with a fire hydrant…”
Friday, 14 March 2008
Why freedom matters
When I decided to attend a discussion of Why Economic Freedom Matters at the International Policy Network, I had no idea that I was going to meet one of the most important figures currently influencing the debate between liberalism and the managed economy. Robert Lawson is not a household name, but his Economic Freedom of the World project, published by The Fraser Institute, is one of the most powerful arguments in favour of economic freedom.Lawson explained that the idea was born in the hot and alcohol-fuelled debates of his undergraduate days. He was an early adopter of liberal economics, citing Smith and Friedman in the face of his friends’ Marxism and Keynesianism. The result of these debates was one familiar to many of us: not once did he recall changing anybody’s mind, nor did he ever question his convictions. For all the wonders of abstract philosophical debate, none of it proved much.
As a professional academic, his solution to this problem has been empiricism. Rather than debate what the effects of different economic policies should be, he has looked at what they actually are. Unable to conduct laboratory experiments, he has instead gone about grading the countries of the world against 42 different economic indicators in five broad categories
Size of government (the level of tax, government expenditure, state enterprise etc.)
Legal structure and security of property rights (including the rule of law, independence of the judiciary and the role of the military in government)
Access to sound money (mainly the avoidance of inflation, but also freedom to hold foreign currency)
Freedom to exchange with foreigners (tariffs, capital controls, regulatory burdens, black market exchange rates)
Regulation of credit, labour and business (how much government meddles)
The results are quite fascinating, and also quite telling. The ten most free economies in the world are
1. Hong Kong
2. Singapore
3. New Zealand
4. Switzerland
5. United States
6. United Kingdom
7. Canada
8. Estonia
9. Ireland
10. Australia.
By comparison, Germany is 18th, Sweden 22nd and France 52nd. The highest African country is Botswana (38) while the lowest is Zimbabwe (141st), the bottom of the league (with the remaining 50 countries providing too little data for Lawson to make an assessment). Venezuela, which was 11th in 1975, is now 135th. Interestingly, China is only 86th, but Lawson explains that while the Special Economic Zones by the coast (some of which are huge: Hainan is larger than Belgium) are probably the freest places in the world, the hinterland is as backward and restricted as ever.
All interesting stuff, and there were some fascinating case studies, but the real fun starts when one compares the index to other indicators. Firstly, income: there is a clear trend of greater freedom translating to greater income (measured per capita at PPP, for the economists among you); each quartile contained populations approximately twice as wealth as the quartile below. The pattern with regards growth was less clear: while the lowest quartile hardly grew at all, the third and first quartile outperformed the second; the presence of China in that third quartile may have played a part there, however, and its economic status is unclear, as noted above.
Perhaps the most interesting findings relate to the relationship between freedom and poverty, however, for the critics of liberalism usually blame it for impoverishing the poor. This is not what Lawson found, however. Proportionally, the share of national wealth owned by the poorest 10 per cent of the population rose ever so slightly as freedom increased, but not evenly: again, the third and first quartile were more equitable than the second and fourth. But if one looked at the overall wealth of that poorest 10 per cent, it was dramatically apparent that it is better to be the poorest among the rich than the poorest among the poor. While in the poorest economies the average amount held by the poorest 10 per cent was just $905, in the third quartile it was $1,545, in the second $2,656 and in the freest economies even the poorest 10 per cent had $7,337 to call their own. As noted above, these are PPP figures; the extent to which a dollar stretches in each country has been evened out.
A few other factors are worth noting (though many follow from the above): life expectancy and access to clean water and sanitation rise in line with economic freedom. Meanwhile, incidents of tuberculosis decline as economic freedom rises, and so, intriguingly, do abuses of civil rights. For it appears that Hayek was right; economic freedom is directly related to political freedom. It may be that the command economcy needs political oppression to make it work (to silence the critics of failing policies), or conversely that a lack of political freedom stifles economic freedom (who can do business without the rule of law?) but socialism and tyranny go hand in hand.
Finally, and also contrary to popular belief, it appears that economic freedom correlates with care for the environmental. This is again the reverse of what is often said – that without regulation unscrupulous countries will dump their waste on society; and that fast-consuming capitalist societies are raping the planet. If one compares environmental performance indicators (local air quality, water quality and so forth) to economic freedom it is again the free who come out best in a clear ascending curve.
Liberals have long maintained freedom was not merely an end in itself, but a means to help achieve better outcomes for everybody in society, to free everyone to maximise their own potential and gain most out of society. Their “discontents” have countered that liberalism (or “capitalism”) exploits the working masses to benefit a privileged few and that it would be fairer and better for all if the economy were managed, businesses regulated and money-supply served the goal of full employment. They are wrong, and the Economic Freedom of the World project proves it.
If greater wealth, health and prosperity are exploitation, I wish the bosses would come for me!
Thursday, 25 October 2007
A five year plan for fun and happiness
I’m organising a soiree, and it has unfortunately clashed with a rival event organised by one of my friends. He has asked that I check with him in future to ensure that his diary is free before I go casually booking events without a care in the world.
This has made me realise that there is something terribly lacking in our society. A huge amount of potential fun and merriment is being lost through the random, inefficient manner in which we enjoy ourselves. And, in the process, all sorts of unintended and harmful side-effects are resulting, that have negative effects on society.
Perhaps what we need is some universal social plan. Surely the world's social life would be significantly better if somebody just sat down and planned it all out. We could employ some clever boffins from university towork out in advance what the best way to achieve maximum merriment would be.
They could allocate the amount of drink that each party needed, what music should be laid on and the exact quantity of canapés required - thus avoiding the terrible waste of vol–au–vents that so comonly occurs. And these parties could be scheduled so that they all occurred at the optimum time to ensure that the maximum utility was gained by the revellers.
And publicans could lobby the officials to ensure that their profits were maximised. And employers could seek to influence them so that the events were never on a work nights.
Why, this planned society of ours would be perfect. I can’t imagine why we’ve never tried it before!
This has made me realise that there is something terribly lacking in our society. A huge amount of potential fun and merriment is being lost through the random, inefficient manner in which we enjoy ourselves. And, in the process, all sorts of unintended and harmful side-effects are resulting, that have negative effects on society.
Perhaps what we need is some universal social plan. Surely the world's social life would be significantly better if somebody just sat down and planned it all out. We could employ some clever boffins from university towork out in advance what the best way to achieve maximum merriment would be.
They could allocate the amount of drink that each party needed, what music should be laid on and the exact quantity of canapés required - thus avoiding the terrible waste of vol–au–vents that so comonly occurs. And these parties could be scheduled so that they all occurred at the optimum time to ensure that the maximum utility was gained by the revellers.
And publicans could lobby the officials to ensure that their profits were maximised. And employers could seek to influence them so that the events were never on a work nights.
Why, this planned society of ours would be perfect. I can’t imagine why we’ve never tried it before!
Friday, 11 May 2007
No Panacea, but free trade is still vital for poor nations’ prosperity
Yesterday, Mark Valladares published a post in which he argued that free trade would harm the economic development of the people of Vanuatu, and so undermine their already fairly basic standard of living.
I replied with a comment to the post in which I disagreed. Sadly, this comment has not made it onto Mark’s blog. I hope this is due to a technical error, or that Mark has been too busy to approve it. I would hate to think that a Liberal Democrat blogger was censoring the comments on his site because he disagreed with the content.
(UPDATE: Edis tells me that Mark is in the South Pacific as we speak, which might explain why he isn't poised in front of a PC, like I am. I bet he's jealous though. I wonder if he's wearing a plain shirt, as he tends to wear Hawaiian ones when in the cold, dank recesses of Blighty.)
The reason that this so concerns me is that Mark opened his post by saying “I know that our International Development spokeperson (sic.) reads this blog feed, so if you have a moment, Lynne…” My comment replied that I hoped Lynne had not read his comments yet, as I wanted to ensure that she read my response too. As my comments have been lost to the ether, I will attempt to reproduce them below, so as to explain why Mark is mistaken in arguing that Vanuatu should not enter into a free trade with the European Union.
Vanuatu is a small, pacific island nation of approximately a quarter of a million people, with a subsistence economy and 70% unemployment. Its government is currently negotiating a free trade deal with the European Union, and Mark questions whether the EU is acting in good faith, as he believes that the benefits will be rather one-sided. “Vanuatu’s economy is dominated by Australian companies” he tells us. “Whilst the tourism industry still has a significant element of indigenous providers, this is likely to change as international hotel chains move in. Tourism requires initial investment, which is hard to come by in a subsistence economy.”
Mark suggests that “free and fair trade” would best be achieved by “allowing such small nations free access to our markets, without reciprocity.” This, he suggests “would allow these comparative micro nations to support their inhabitants and reduce their dependence on overseas aid.”
In essence, this is the classic “Fair Trade” argument promoted by the Trade Justice Movement, and it is fundamentally flawed. There are two basic errors which undermine Mark’s argument, and which result in it being a recipe for stagnation and perpetual poverty rather than growth and enrichment.
The first error is the belief that the benefits of trade come from exports. Mark’s explains that Vanuatu produces little or nothing that we would want in Europe, so whereas the EU will have a new market for its companies, Vanuatu will be able to sell little or nothing back to us. This is a founding belief of Mercantilism, which argues that nations are enriched by a positive balance of trade (exporting more than they import). Basically, it boils down to “Exports good; imports bad.” Nothing could be further from the truth.
By far and away the greater benefit from trade comes from imports. Imports are only possible if a supplier can meet demand better than domestic producers, perhaps by selling goods more cheaply or of a higher quality. The result is that consumers (for which, read everybody) can increase their standard of living. This does of course put pressure on domestic producers to be more competitive, but that is healthy. Inefficient production is no more useful in Vanuatu than in Nottingham.
Milton Friedman made the point pretty well in Free to Choose, when he noted that "We cannot eat, wear, or enjoy the goods we send abroad. We eat bananas from Central America, wear Italian shoes, drive German automobiles, and enjoy programs we see on our Japanese TV sets. Our gain from foreign trade is what we import. Exports are the price we pay to get imports."
The second fallacy that underpins Mark’s concerns is the belief that because we can produce everything imaginable cheaper and more efficiently than the people of Vanuatu, we will undercut them in all things and destroy their home industry. In fact, as Ricardo made clear two centuries ago, it does not matter if one nation can produce everything more efficiently than another. What matters is that each concentrates on what they are best at and then exchanges goods.
To illustrate this, let us imagine two Vanuatu citizens, named (in traditional Polynesian manner) Andy and Bob. Andy is an excellent fisherman and a good boat maker. Bob is a fair boat-maker
and a pretty lousy fisherman. By the logic of the Trade Justice Movement, Andy can out-produce Bob in both fish and boats, so Bob has nothing to gain by trading. However, as Ricardo demonstrated, it is far better for both parties if Andy concentrates of fishing while Bob makes boats. Andy is most efficient as a fisherman and Bob as a boat-maker, so if they both concentrate on what they are best at their combined yield is maximised, and they can then swap maritime equipment for fish in a mutually beneficial manner. Similarly with Vanuatu and the EU: as long as Vanuatu’s people produce what they are best at, it is worth the EU exchanging that for what the EU is best at – or rather, both make money selling what they produce best and buy what they are less good at producing.
In practice, the world is resplendent with examples of where this has worked. Vanuatu’s poverty is irrelevant: South Korea was as poor as Ghana half a century ago, but as it opened up its markets it has risen to become the world’s twelfth richest nation. Neither is size a problem: Hong Kong was a tiny, poverty stricken island colony after the war, but an aggressive policy of free trade and low taxes made it one of the world’s best place to do business, and prosperity followed. In this global electronic age, even distance is no longer a problem: Vanuatu could attract financial services companies with low business taxes and a light touch regulatory regime.
In fact, it is worth asking what Vanuatu has to lose from freer trade. If, as Mark suggests, most of the population are subsistence farmers and fishermen, then the worst that can happen is that they continue to be subsistence farmers and fishermen. On the other hand, if he is right that “Tourism requires initial investment, which is hard to come by in a subsistence economy”, then the influx of foreign capital will fund hotels that will bring jobs to some of those 70% that are unemployed. Foreign firms dominated Hong Kong, they poured in to soak up China’s cheap labour, and they are buying up UK “national champions” at a rate that some find alarming. The result has been prosperity for the recipients of this movement in capital, not some new colonialism.
If the EU is currently negotiating a free trade agreement, the current scenario must be one in which trade is not free. This has clearly not produced prosperity for Vanuatu’s population. But Mark is correct to doubt that both parties will benefit equally from a free trade deal. The European Union has little to gain from a tiny island nation with a small population. Vanuatu’s citizens, on the other hand, will reap enormous benefits from trading freely with the largest economic bloc in the world.
Free trade is no panacea, it is true. With free trade one also needs a stable society, good governance, strong property rights, democratic institutions, a liberal economy and the rule of law. But free trade remains a vital ingredient in generating prosperity across the world, be it in the high towers of global financial capital or the low beaches of a pacific island nation. Anything else requires governments to tell their citizens that they may not associate freely with whomever they wish: that buying and selling from some people is wrong, just because they are far away. It is an illiberal and misguided policy, which is why the Liberal and Liberal Democratic parties have always supported free trade. Long may we continue.
I replied with a comment to the post in which I disagreed. Sadly, this comment has not made it onto Mark’s blog. I hope this is due to a technical error, or that Mark has been too busy to approve it. I would hate to think that a Liberal Democrat blogger was censoring the comments on his site because he disagreed with the content.
(UPDATE: Edis tells me that Mark is in the South Pacific as we speak, which might explain why he isn't poised in front of a PC, like I am. I bet he's jealous though. I wonder if he's wearing a plain shirt, as he tends to wear Hawaiian ones when in the cold, dank recesses of Blighty.)
The reason that this so concerns me is that Mark opened his post by saying “I know that our International Development spokeperson (sic.) reads this blog feed, so if you have a moment, Lynne…” My comment replied that I hoped Lynne had not read his comments yet, as I wanted to ensure that she read my response too. As my comments have been lost to the ether, I will attempt to reproduce them below, so as to explain why Mark is mistaken in arguing that Vanuatu should not enter into a free trade with the European Union.
Vanuatu is a small, pacific island nation of approximately a quarter of a million people, with a subsistence economy and 70% unemployment. Its government is currently negotiating a free trade deal with the European Union, and Mark questions whether the EU is acting in good faith, as he believes that the benefits will be rather one-sided. “Vanuatu’s economy is dominated by Australian companies” he tells us. “Whilst the tourism industry still has a significant element of indigenous providers, this is likely to change as international hotel chains move in. Tourism requires initial investment, which is hard to come by in a subsistence economy.”
Mark suggests that “free and fair trade” would best be achieved by “allowing such small nations free access to our markets, without reciprocity.” This, he suggests “would allow these comparative micro nations to support their inhabitants and reduce their dependence on overseas aid.”
In essence, this is the classic “Fair Trade” argument promoted by the Trade Justice Movement, and it is fundamentally flawed. There are two basic errors which undermine Mark’s argument, and which result in it being a recipe for stagnation and perpetual poverty rather than growth and enrichment.The first error is the belief that the benefits of trade come from exports. Mark’s explains that Vanuatu produces little or nothing that we would want in Europe, so whereas the EU will have a new market for its companies, Vanuatu will be able to sell little or nothing back to us. This is a founding belief of Mercantilism, which argues that nations are enriched by a positive balance of trade (exporting more than they import). Basically, it boils down to “Exports good; imports bad.” Nothing could be further from the truth.
By far and away the greater benefit from trade comes from imports. Imports are only possible if a supplier can meet demand better than domestic producers, perhaps by selling goods more cheaply or of a higher quality. The result is that consumers (for which, read everybody) can increase their standard of living. This does of course put pressure on domestic producers to be more competitive, but that is healthy. Inefficient production is no more useful in Vanuatu than in Nottingham.
Milton Friedman made the point pretty well in Free to Choose, when he noted that "We cannot eat, wear, or enjoy the goods we send abroad. We eat bananas from Central America, wear Italian shoes, drive German automobiles, and enjoy programs we see on our Japanese TV sets. Our gain from foreign trade is what we import. Exports are the price we pay to get imports."
The second fallacy that underpins Mark’s concerns is the belief that because we can produce everything imaginable cheaper and more efficiently than the people of Vanuatu, we will undercut them in all things and destroy their home industry. In fact, as Ricardo made clear two centuries ago, it does not matter if one nation can produce everything more efficiently than another. What matters is that each concentrates on what they are best at and then exchanges goods.
To illustrate this, let us imagine two Vanuatu citizens, named (in traditional Polynesian manner) Andy and Bob. Andy is an excellent fisherman and a good boat maker. Bob is a fair boat-maker
and a pretty lousy fisherman. By the logic of the Trade Justice Movement, Andy can out-produce Bob in both fish and boats, so Bob has nothing to gain by trading. However, as Ricardo demonstrated, it is far better for both parties if Andy concentrates of fishing while Bob makes boats. Andy is most efficient as a fisherman and Bob as a boat-maker, so if they both concentrate on what they are best at their combined yield is maximised, and they can then swap maritime equipment for fish in a mutually beneficial manner. Similarly with Vanuatu and the EU: as long as Vanuatu’s people produce what they are best at, it is worth the EU exchanging that for what the EU is best at – or rather, both make money selling what they produce best and buy what they are less good at producing.In practice, the world is resplendent with examples of where this has worked. Vanuatu’s poverty is irrelevant: South Korea was as poor as Ghana half a century ago, but as it opened up its markets it has risen to become the world’s twelfth richest nation. Neither is size a problem: Hong Kong was a tiny, poverty stricken island colony after the war, but an aggressive policy of free trade and low taxes made it one of the world’s best place to do business, and prosperity followed. In this global electronic age, even distance is no longer a problem: Vanuatu could attract financial services companies with low business taxes and a light touch regulatory regime.
In fact, it is worth asking what Vanuatu has to lose from freer trade. If, as Mark suggests, most of the population are subsistence farmers and fishermen, then the worst that can happen is that they continue to be subsistence farmers and fishermen. On the other hand, if he is right that “Tourism requires initial investment, which is hard to come by in a subsistence economy”, then the influx of foreign capital will fund hotels that will bring jobs to some of those 70% that are unemployed. Foreign firms dominated Hong Kong, they poured in to soak up China’s cheap labour, and they are buying up UK “national champions” at a rate that some find alarming. The result has been prosperity for the recipients of this movement in capital, not some new colonialism.
If the EU is currently negotiating a free trade agreement, the current scenario must be one in which trade is not free. This has clearly not produced prosperity for Vanuatu’s population. But Mark is correct to doubt that both parties will benefit equally from a free trade deal. The European Union has little to gain from a tiny island nation with a small population. Vanuatu’s citizens, on the other hand, will reap enormous benefits from trading freely with the largest economic bloc in the world.
Free trade is no panacea, it is true. With free trade one also needs a stable society, good governance, strong property rights, democratic institutions, a liberal economy and the rule of law. But free trade remains a vital ingredient in generating prosperity across the world, be it in the high towers of global financial capital or the low beaches of a pacific island nation. Anything else requires governments to tell their citizens that they may not associate freely with whomever they wish: that buying and selling from some people is wrong, just because they are far away. It is an illiberal and misguided policy, which is why the Liberal and Liberal Democratic parties have always supported free trade. Long may we continue.
Friday, 27 April 2007
Tax, the Family and Economics
Another evening, another lecture. Tonight I listened to Professor Harold James speak about Tax, the Family and Economics: The Global Dimension, though there seemed very little about the global dimension and a lot of general theory. Nonetheless it was an interesting lecture on what is a hot topic of the day, and if you are truly desperate you can apparently watch the whole thing on 18, Doughty Street (looking out for the back of a handsome head in the front row on the right, if the lights aren’t reflecting off it too sharply).As the title would suggest, Professor James’s concern was how government policy impacts upon family relations. “Societies that do not reproduce are bad societies” he noted, echoing many other critics who have expressed concern about the fact that most Western European countries, as well as (especially) Japan, have birth rates below the replacement rate (which is just over two children per woman). The state’s impact upon the family is important because for James the family is one of the three essential elements of society: just as we have come to recognise that markets are necessary to enable us to satisfy our desires, and public policy is necessary for us to meet essential needs, so the family serves a vital purpose.
One of the main purposes he cited was the family’s unique ability to solve the question of inter-generational transfers. Lest we get bogged down in jargon (a habit I am trying to avoid), this is the question of to what degree any generation must consider the needs of the next: can we burn all the coal or should we leave some to our children; should we sacrifice our own economic growth because of concerns about the atmosphere our grandchildren will inherit; classically, to what degree should each generation pays for its predecessors’ pensions and its successors’ education? The family is uniquely placed to address these issues. Indeed, that is their main value (from an economic point of view).
Sadly, James argues, that role is being eroded. There are three sources of this erosion. The first is attitude and culture: we have come to see families as a
commodity, much as we do houses and cars. We do not expect to be saddled with them forever; gone are the days when people really did marry “until death do us part”. We may all go into marriage hoping and believing that it is forever (otherwise, what’s the point?), but in the back of every bride or groom’s mind is the knowledge that these days we do have an emergency exit. We know full well that marriage need not be for life; if we change our minds, we can. As plain speaking Hungarian Prime Minister Ferenc Gyurcsany observed, "Every man whose wife grows old has earned a younger woman."[And every man whose wife reads his blog would like to disassociate himself from any such sentiment.]
The welfare state has also undermined the family, because it has removed its main (economic) raison d’être. No longer do we need families to provide for our old age; this is provided by the state. For perhaps the first time in human history, one need not breed to ensure a comfortable dotage; the state will pick up the cost, and cheap immigrant labour will provide the daycare. This has skewed the cost-benefit analysis that (perhaps subconsciously) goes into the decision to
reproduce. It can be no coincidence that it is the prosperous countries that see declining birth-rates, while the poor still need to produce large numbers of offspring to ensure that they will be looked after in the future. With (some of) the benefits removed, the opportunity cost appears greater. In (at least the back of) the minds of people in the developed world, the question has become whether one spends £166,000 on raising a child or whether more satisfaction would be achieve by buying a holiday villa near Paphos.The third issue facing married couples is taxation. Fiscal influences shape decisions (in some cases, that is the point). Our tax system, for perfectly laudable reasons, emphasises helping the poorest and most needy. As a result, it tends to tax working couples hard while rewarding unemployed singles (especially parents). This has been exacerbated by tax credits, which see people paying very high marginal rates of tax if they return to work (because income tax is compounded by loss of benefits which between them erode most of the gain of earning extra money).
High taxes generally generate a rent-seeking and lobbying culture: a lot of time and effort is expended on trying to shape the system and exploit it as much as possible. What is more, because of the unintended consequences that all taxation creates, efforts are made to compensate for these effects that in turn make the system ever more Byzantine. The simplest way of reducing the harm taxes do is to simplify them and minimise them, but that is not government’s way. Instead it seeks to create new exemptions and benefits and tinker and re-jig the system until it is painfully complicated, while each new clause and every new tax does further harm.
It is interesting to see both how this has encouraged the legislation of gay marriage and what further impact this has had. One of the arguments for creating civil unions was to give homosexual couples the tax benefits as heterosexual couples (for example, giving them exemptions from inheritance tax when one partner dies and leaves wealth to the other). This has in turn created new demands from other groups that lived together – for example siblings, non-sexual partners, parents and children – that wish also to enjoy the same tax benefits. The system becomes ever more complicated.Professor James’s argued that taxes should not be used to shape society. He did not (as I had expected) argue that taxes should be adjusted to support marriage or the family; merely that elements that discriminate against or penalise marriage or the family should be eliminated. Instead, tax policy should aim to be neutral as to marital and family status. By eliminating the imbalances that already skew these decisions, it would remove barriers that currently exist to marriage, co-habitation, responsible parenting and so forth. But it would not create the unintended consequences that follow from efforts to tinker with the system for the purposes of social engineering.
What Professor James did not recommend, though it was implied by his lecture and is what one would have expected from Politeia (which hosted the event), was that the easiest way to reduce the negative impact of complex taxation is to reduce and simplify the it. I wholeheartedly agree that taxation needs to be applied fairly and should not be used as a means of shaping society in the government’s image.
However, just as David B. Smith has noted that efficiency savings are almost impossible unless
rates are reduced, so in the same way it seems likely that complexity is a result of high government taxation and spending, which leads to lobbying, rent-seeking and a belief that governments need to tinker to compensate for problems that are, at the end of the day, of their own making. Lower and simpler taxes would rectify these problems, and at the same time free individuals to spend their own money to meet their needs as they see fit. That alone would do more to help the family than any benefit or tax break.
What Professor James did not recommend, though it was implied by his lecture and is what one would have expected from Politeia (which hosted the event), was that the easiest way to reduce the negative impact of complex taxation is to reduce and simplify the it. I wholeheartedly agree that taxation needs to be applied fairly and should not be used as a means of shaping society in the government’s image.
However, just as David B. Smith has noted that efficiency savings are almost impossible unless
rates are reduced, so in the same way it seems likely that complexity is a result of high government taxation and spending, which leads to lobbying, rent-seeking and a belief that governments need to tinker to compensate for problems that are, at the end of the day, of their own making. Lower and simpler taxes would rectify these problems, and at the same time free individuals to spend their own money to meet their needs as they see fit. That alone would do more to help the family than any benefit or tax break.Thursday, 26 April 2007
It ain’t who you are, it’s who you wanna’ be
There is a joke about economists that I have come across twice in the last couple of weeks. Charles Murray opens his book In Our Hands (about which I will blog in due course) by telling us about three men stuck at the bottom of a pit, discussing ways to get out. When it comes to the Economist, he begins by saying “First, assume we have a ladder.” G. R. Steele began his lecture on Friedrich Hayek by criticising microeconomics for being too theoretical: the economist on the desert island imagines he has a tin opener. Last night Nobel Laureate Professor George Akerlof sought to provide one explanation for why homo economicus failed to fully explain human behaviour.Akerlof’s lecture was entitled Economics and Identity, and began with a self-effacing admission that he had originally discounted identity, feeling that it had nothing to say about economics. Identity is summed up by desire, and desire is the basis of the utility function upon which economics is based.
Groan not! I will try to keep the rest of this jargon free.
Basically, the usual assumption is that I need something, that need can be weighed, it can be compared to my resources, and then I decide whether it is worth the cost. Is an mp3 player worth three day’s work? Is the view from the top of the mountain and the sense of personal achievement worth the gruelling climb? Usually, it is assumed that these are either objective, or that where they vary this is according to taste and that taste is as far as identity goes.
Professor Akerlof has come to think otherwise. He believes that our desires are fundamentally affected not just by who we are but by who we feel we ought to be. This creates a gap between what we want (which he quantified as “e”), and what we feel we ought to want (which he quantified as “e*”, and then spent the lecture repeatedly using the term “e-star” until it became quite irritating!). This gap has various negative outcomes, and dealing with (or exploiting) it should be a significant influence on public policy.
Some examples might help – though he was running out of his ill-managed time when he came to address the specific impact, and so chose to skip many of the examples (including, annoyingly, one entitled “Macroeconomics”, which is economic code for government meddling). One was education. For Akerlof, one of the greatest tragedies in America today is the underperformance of black Americans, and the resulting economic and social problems they face (and cause, in heightened criminality, for example). Interestingly, this is also a major concern for Murray, who has concentrated for some time on policies aimed at helping the “underclass” (not just black Americans but all those drop out within society).
Akerlof noted that American society is still influenced by an us-and-them mentality, and that this has a profound effect on inner-city black children. Within their schools cultures develop whereby they deliberately flout rules, reject a system which they believe is stacked against them anyway, perform badly at school and drop out of school early. Their identity is influenced by negative stereotypes and they begin to believe that they should behave in a certain way – even if this conflicts with their inner desire to behave in a different way. This is reinforced by socialisation and sanction: their peers disregard education, if they are too eager they are bullied, so they come to believe that they ought to want to stick two fingers (or rather – as they are American – one finger) up at the system.
It should be noted (though Akerlof failed to do so) that this is a generalisation – there are many children who resist the pull of the culture within their schools. However, economists tend to work in abstractions and aggregates.
How does this influence policy. Akerlof cited examples of where schools have made strenuous efforts to overcome the negative culture within the school, and have as a result turned schools around. It requires good teachers and small class sizes, however (no surprise there!). Indeed, argued Akerlof, black children from inner-city schools derive more benefit from small class sizes than other groups. The public policy impact is that this suggests that efforts should be made to bring the best teachers to inner city school and reduce their class sizes – the exact opposite of what generally happens, where good teachers work in schools with excited and engaged pupils, and the money (private or public) ensures small class sizes.
There were other examples; education was just one. However, when all was said and done I was left wondering what was so novel about Akerlof’s suggestion. So homo economicus is nothing more than a flawed model. It’s hardly news. Poor kids from inner-city schools need better teachers and smaller class sizes. I can see why they gave him the Nobel Prize!
Akerlof has produced four publications on this subject so far, and promises more to come. It may be that they better explain the usefulness (or even utility!) of incorporating identity into economic modelling and public policy. Until he does, however, this remains nothing more than an intriguing idea.
Thursday, 19 April 2007
How a beautiful illusion is born from a fatal conceit
At his inaugural lecture, Professor G.L.S. Shackle gave a brief outline of what was required to be a “complete economist”:
“To be a complete economist, a man need only be a mathematician, a philosopher,
a psychologist, an anthropologist, a historian, a geographer, and a student of
politics; a master of prose exposition; a man of the world with the experience
of practical business and finance, an understanding of the problems of
administration, and a good knowledge of four or five languages. All this in
addition, of course, to familiarity with the economics literature itself.”
Few, understandably, live up to this demanding standard. One of those who came closest to 
doing so was Friedrich Hayek, at least according to G. R. Steele, Lecturer in Economics at Lancaster University Management School. Steele was launching his new book, The Economics of Friedrich Hayek, at Policy Exchange.
In fact, as Steele freely admitted, the book was about far more than economics, as Hayek was far more than an economist: indeed, he is recognised and taught in politics, sociology, philosophy and psychology, but economics courses usually ignore him; an essay on him by Steele was rejected by one (unnamed) economics journal on the grounds that their readers would not be interested in the history of economics (if only the same excluded tracts on Keynes!).
Hayek took a dim view of both Micro- and Macro-economics: the former a mathematical extraction that ignores social and institutional contexts, assumes perfect knowledge and rational behaviour, and sees no value in entrepreneurship; the latter a rationale for intervention based on broad measures which politicians could then seek to influence ( a view which the politicians were surprisingly keen to embrace!). For him, economics was a subset of a broad theory of human action founded upon social theory and psychology, and needed to reflect the fallible, partial and dispersed nature of knowledge.
This was the basis for Hayek’s defence of freedom and the market economy. No policy maker, no bank of civil servants, no computer in the basement, can ever capture the extent and subtlety of the knowledge that resides within each individual actor, and so can never improve upon the judgements of individuals exercising “particular knowledge [in a specific] time and place”. Steele might have added Lionel Robbins’ observation that economics is the interaction of scarcity and desire, so that individuals must assess for themselves what a commodity (car, medicine, an hour of one’s time) is worth. Thus Hayek realised that central planning – the second guessing of millions of citizens operating independently – was both a “beautiful illusion” and a “fatal conceit” that would destroy productivity, efficiency, liberal institutions, the rule of law, and ultimately civilisation itself. It is a big claim, and was the subject of Hayek’s most famous book.
Why, then, was (and, even more surprisingly, is) socialism so popular, particularly among the
educated middle-classes. Hayek’s explanation was acerbic: “One’s initial surprise at finding that intelligent people tend to be socialists diminishes when one realises that, of course, intelligent people will tend to overvalue intelligence …” It flatters us to believe that we can exercise a guiding hand over something as vast and chaotic as the economy – itself nothing more than the expression of our wishes and our capabilities. It lets us play at being Olympians, shaping the lives and fortunes of mortal men far below. In fact there is only one hand that can truly guide the economy, an invisible hand subject to no single will.
Socialists have no “understanding of economic processes”: the price system and the mechanisms of the market leave them cold. Socialists fail to allow the vast amount of dispersed and tacit information to express itself, and so the economies they guide underperform. This in turn encourages them to seek to break through the torpor with ever more authoritarian measures: in Britain it was price controls, which destroyed industry; in China it was a concentration on the production of steel to the exclusion of food, which destroyed lives.
In 1974 Hayek was awarded (half) the Nobel Prize for economics. In his acceptance speech, he noted that he would have advised against creating such a prize, which would “tend to accentuate the swings of scientific fashion”, though in his case “the selection committee has brilliantly refuted [this fear] by awarding the prize to one whose views are as unfashionable as mine are.”
He was more worried, however, by the effect it may have on the recipients themselves, and
their impact upon public policy: “the Nobel Prize confers on an individual an authority which in economics no man ought to possess… I am not sure that it is desirable to strengthen the influence of a few individual economists by such a ceremonial and eye-catching recognition of achievements… [The committee should,] on conferring the prize, remind the recipient of the sage counsel of one of the great men in our subject, Alfred Marshall, who wrote: ‘Students of social science, must fear popular approval: Evil is with them when all men speak well of them’.” Such acclaim was never granted to Hayek himself.
doing so was Friedrich Hayek, at least according to G. R. Steele, Lecturer in Economics at Lancaster University Management School. Steele was launching his new book, The Economics of Friedrich Hayek, at Policy Exchange.In fact, as Steele freely admitted, the book was about far more than economics, as Hayek was far more than an economist: indeed, he is recognised and taught in politics, sociology, philosophy and psychology, but economics courses usually ignore him; an essay on him by Steele was rejected by one (unnamed) economics journal on the grounds that their readers would not be interested in the history of economics (if only the same excluded tracts on Keynes!).
Hayek took a dim view of both Micro- and Macro-economics: the former a mathematical extraction that ignores social and institutional contexts, assumes perfect knowledge and rational behaviour, and sees no value in entrepreneurship; the latter a rationale for intervention based on broad measures which politicians could then seek to influence ( a view which the politicians were surprisingly keen to embrace!). For him, economics was a subset of a broad theory of human action founded upon social theory and psychology, and needed to reflect the fallible, partial and dispersed nature of knowledge.
This was the basis for Hayek’s defence of freedom and the market economy. No policy maker, no bank of civil servants, no computer in the basement, can ever capture the extent and subtlety of the knowledge that resides within each individual actor, and so can never improve upon the judgements of individuals exercising “particular knowledge [in a specific] time and place”. Steele might have added Lionel Robbins’ observation that economics is the interaction of scarcity and desire, so that individuals must assess for themselves what a commodity (car, medicine, an hour of one’s time) is worth. Thus Hayek realised that central planning – the second guessing of millions of citizens operating independently – was both a “beautiful illusion” and a “fatal conceit” that would destroy productivity, efficiency, liberal institutions, the rule of law, and ultimately civilisation itself. It is a big claim, and was the subject of Hayek’s most famous book.Why, then, was (and, even more surprisingly, is) socialism so popular, particularly among the
educated middle-classes. Hayek’s explanation was acerbic: “One’s initial surprise at finding that intelligent people tend to be socialists diminishes when one realises that, of course, intelligent people will tend to overvalue intelligence …” It flatters us to believe that we can exercise a guiding hand over something as vast and chaotic as the economy – itself nothing more than the expression of our wishes and our capabilities. It lets us play at being Olympians, shaping the lives and fortunes of mortal men far below. In fact there is only one hand that can truly guide the economy, an invisible hand subject to no single will.Socialists have no “understanding of economic processes”: the price system and the mechanisms of the market leave them cold. Socialists fail to allow the vast amount of dispersed and tacit information to express itself, and so the economies they guide underperform. This in turn encourages them to seek to break through the torpor with ever more authoritarian measures: in Britain it was price controls, which destroyed industry; in China it was a concentration on the production of steel to the exclusion of food, which destroyed lives.
In 1974 Hayek was awarded (half) the Nobel Prize for economics. In his acceptance speech, he noted that he would have advised against creating such a prize, which would “tend to accentuate the swings of scientific fashion”, though in his case “the selection committee has brilliantly refuted [this fear] by awarding the prize to one whose views are as unfashionable as mine are.”
He was more worried, however, by the effect it may have on the recipients themselves, and
their impact upon public policy: “the Nobel Prize confers on an individual an authority which in economics no man ought to possess… I am not sure that it is desirable to strengthen the influence of a few individual economists by such a ceremonial and eye-catching recognition of achievements… [The committee should,] on conferring the prize, remind the recipient of the sage counsel of one of the great men in our subject, Alfred Marshall, who wrote: ‘Students of social science, must fear popular approval: Evil is with them when all men speak well of them’.” Such acclaim was never granted to Hayek himself.Wednesday, 21 March 2007
Brown’s “sleight of hand” budget hurts the poor as well as the rich
It came as no surprise that Gordon Brown delivered a few headline-grabbing surprises in his last budget as Chancellor of the Exchequer. By far and away the most eye-catching (though not unpredicted) measure was the grand finale, the cut in the basic rate of income tax from 22p to 20p in the pound. It seems like the tax cut that Middle England has been waiting for, but in truth it is what Menzies Campbell called a “sleight of hand”, giving with one hand while taking away with the other.
Tax measures are never equal, however – there are always winners and losers – and this one appears to squeeze those on low incomes the hardest.
Without having the leisure to browse the Red Book, a brief analysis of the measures looks like this:
- The 10p lowest rate of income tax is abolished, applying the basic rate from the very beginning
- The basic rate is cut to 20p
- The upper rate allowance is set at £43,000 from 2008
- National Insurance is aligned with income tax
- Tax credits are increased
The effect of the first two measures is to take more income tax from the roughly £2,000 one earns after one’s personal allowance is used up, but less from the next £30,000 (or £35,000 from 2008). So an extra 10% of £2,000 but a saving of 2% on £35,000, which means that if you are earning around £40,000 you will pay slightly less income tax, but if you are earning just £10,000 you will pay a lot more.
Ed Balls, the Chancellor’s closes ally, admitted that it was “not a very big tax cut”. It was worse than that, however. The poor are squeezed to pay for an income tax cut for the rich. But the National Insurance changes undermine what benefit higher earners see. By applying the 11p rate of National Insurance on earnings up to £43,000, instead of £35,000, an extra 10% of that last £8,000 is taxed, undermining much of the gain from the income tax cut outlined above.
Thus those earning very little will end up paying more tax, as will those earning a goodly sum. Only those in the very middle appear to gain (though it is interesting to note that other commentators seem to have interpreted this differently, so I would welcome an explanation as to why others seem to think that it is those earning in the twenty thousands who will suffer most).
The budget raises taxes on low-income earners and so presumably raises the barriers to people leaving benefits and returning to work. Brown’s solution is to fall back on his tried-and-tested-and-frankly-failed Tax Credits. He promises to increase the amount of tax credits, but the tax credit system is already costing £16bn and requiring 8,000 civil servants to administer. Yet last year half of the awards were wrong. Furthermore, too many of the poorest do not even claim the benefits, so complicated and obscure are they.
In other budget news, Brown has raised taxes on small businesses while alleviating them on bigger firms. The latter a welcome measure if we are to compete with low-tax emerging economies, but to increase taxes on struggling small enterprises if frankly perverse and pernicious.
Public spending will remain at record highs of 42% – not far off a level where the state takes every other pound we generate to distribute in on our behalf – yet there has been precious little to show for it.
The environmental taxation remains both parlous and interventionist: while the overall level remains lower than under the Conservatives, the measures introduced are meddling (levied specifically at Tory-voting car owners, for example) rather than economically (which is not to say fiscally) neutral (taxing all carbon and so allowing people to decide how to cut back – the policy I have advocated).
Despite the bluster of the Chancellor and the raucous support of his party, this budget is a disappointment. The tax code remains more complex than anywhere but in India as Brown intervenes and meddles in ways that distort the economy and make work for civil servants. It may serve his personal goal of looking good as he moves next door to No. 10, Downing Street, but it does little to address the real problems in Britain: excessive and ineffective public spending, taxes (not just headline rates but overall burdens) that are too high, an over-regulated economy and an underclass of poor people increasingly struggling to provide for themselves and their loved ones.
As an exercise in Public Choice Theory it is exemplary: the politician serves his own interests rather than those of the nation. As an economic plan for Britain’s future it is a sham.
Tuesday, 6 February 2007
Our parents have mortgaged our future
It’s a good job my father doesn’t read my blog, because I’m about to point the finger of blame firmly at his and his parent’s generation.
Over Christmas I read Living with Leviathan: Public Spending, Taxes and Economic Performance, by David B. Smith, Visiting Professor in Business and Economic Forecasting at the University of Derby and a visiting lecturer at the Cardiff University Business School.
The book is a long and detailed investigation of the pernicious effects of high levels of taxation and public spending on the economy. There are many findings and quite a few prescriptions, some of which even the author recognises are not politically viable.
However, the one bit that sticks out is the results of a piece of econometric modelling in which he estimates that “If government spending, as a proportion of national income, had been held at the level experienced in 1960, econometric evidence suggests that output in the UK would, today, be nearly twice as high as current levels. Total public expenditure would then be higher, albeit as a lower proportion of a much bigger national output.”
This is a startling finding for two reasons. Firstly, the suggestion that the policies of successive UK governments have cost us £1 trillion of GDP per annum defies adjectives. Indeed, I struggle to imagine what this would mean for UK standards of living today. Suffice to say that we would be half as rich again as citizens of the United States, and somewhat higher than Dubai. David B. Smith notes that we could spend far more on public services and still have lower taxes as a result. I might go further and suggest that most, if not almost all, of us would be able to afford to buy private healthcare and education of higher quality than our present, tax-funded system can afford, and still have more left over for fun and frolics.
The second startling fact here is that this lafferesque story of counter-factual economic history does not require us to have foregone our welfare state. By 1960 the welfare state was over a decade old, public expenditure was a third of GDP and our hospitals and schools were in rude health. So the argument often deployed by people who oppose supply-side measures that those proposing them would condemn the poor to ignorance and disease simply does not hold up.
Over Christmas I read Living with Leviathan: Public Spending, Taxes and Economic Performance, by David B. Smith, Visiting Professor in Business and Economic Forecasting at the University of Derby and a visiting lecturer at the Cardiff University Business School.
The book is a long and detailed investigation of the pernicious effects of high levels of taxation and public spending on the economy. There are many findings and quite a few prescriptions, some of which even the author recognises are not politically viable.
However, the one bit that sticks out is the results of a piece of econometric modelling in which he estimates that “If government spending, as a proportion of national income, had been held at the level experienced in 1960, econometric evidence suggests that output in the UK would, today, be nearly twice as high as current levels. Total public expenditure would then be higher, albeit as a lower proportion of a much bigger national output.”
This is a startling finding for two reasons. Firstly, the suggestion that the policies of successive UK governments have cost us £1 trillion of GDP per annum defies adjectives. Indeed, I struggle to imagine what this would mean for UK standards of living today. Suffice to say that we would be half as rich again as citizens of the United States, and somewhat higher than Dubai. David B. Smith notes that we could spend far more on public services and still have lower taxes as a result. I might go further and suggest that most, if not almost all, of us would be able to afford to buy private healthcare and education of higher quality than our present, tax-funded system can afford, and still have more left over for fun and frolics.
The second startling fact here is that this lafferesque story of counter-factual economic history does not require us to have foregone our welfare state. By 1960 the welfare state was over a decade old, public expenditure was a third of GDP and our hospitals and schools were in rude health. So the argument often deployed by people who oppose supply-side measures that those proposing them would condemn the poor to ignorance and disease simply does not hold up.
"What's the bleeding time?"
"Ten past ten, sir!"
Sadly, as is so often the way with bureaucracies, costs began to escalate. In the 1960s and 1970s welfare expenditure ballooned until by 1980 it reached nearly half of national output, and despite the “small state” rhetoric of the Thatcher/Major years, it stuck well over 40 per cent. Under Gordon Brown it has risen again to over 45 per cent and shows every sign of rising further.
This massively bloated welfare system has not created schools or hospitals significantly better than were enjoyed in the 1950s. Healthcare is of course better – it is not so clear that the same can be said of schools – but this is as a result of technological advancement and the increased wealth our nation has enjoyed. Indeed, this latter factor would have been far higher had our parents and grandparents show a little more restraint.
Voters since the 1960s have cost those leaving home today half the potential wealth they might have enjoyed, with the higher living standards that would have resulted. We would all be better off had they shown more prudence. It is not too late to learn that lesson and to adopt a growth plan for future generations.
This massively bloated welfare system has not created schools or hospitals significantly better than were enjoyed in the 1950s. Healthcare is of course better – it is not so clear that the same can be said of schools – but this is as a result of technological advancement and the increased wealth our nation has enjoyed. Indeed, this latter factor would have been far higher had our parents and grandparents show a little more restraint.
Voters since the 1960s have cost those leaving home today half the potential wealth they might have enjoyed, with the higher living standards that would have resulted. We would all be better off had they shown more prudence. It is not too late to learn that lesson and to adopt a growth plan for future generations.
Friday, 19 January 2007
Latest lunatic Tory idea: The return of the Permit Raj
Is there no act of idiocy to which David Cameron will not ascribe in his attempt to woo votes? The latest suggestion from the Conservative’s Working Group on Responsible Business is to impose quotas for producing fatty or sugary foods and alcohol in an attempt to tackle obesity and binge drinking.
If it is true – and so far it is only part of a consultation document – it is a sign of how far the Conservatives have moved from the economic liberalism they briefly espoused under Margaret Thatcher.
Quotas for anything are a disaster. They are aspects of the planned economies that so blighted the lives of billions during the last century. In the first place they are based on the idea that government knows better than individuals how much of a commodity is needed, and that overproduction is wasteful. Liberals understand that overproduction reduces prices, which in turn discourages further production until an equilibrium is found between how much consumers want (and are prepared to pay for) something and how much producers want to make. A quota system assumes that too much is being made, which in turn assumes that too much is being consumed, because consumers are allocating their resources (spending their money) “on the wrong things”.
In other words, Mr. Cameron and his apparatchiks are suggesting that because we are too keen on fatty food and booze, the best solution is to reduce supply through handing out a limited number of production licences.
As well as being obviously illiberal (who is Mr. Cameron, or indeed his 643 colleagues, to decide how much I or any of us want or ought to have of a commodity?) it is painfully stupid. Anybody with an A Level in Economics (that’s a lot of people other than me, then!) knows that quotas are an inefficient and harmful means of reducing supply. A far more effective method and one that distorts economic exchange far less is a tariff or tax system. Rather than reduce the quantity produced by government fiat, the government adds a tax, thus raising the cost and so reducing demand. This is cheaper to administer, raises revenue for government, harms business less than arbitrary quota systems (which might see a firm suddenly lose its quota and so lose its business) and allows individuals to continue to allocate their resources as they see fit.
The quintessential example of the quota system is the Permit Raj or Licence Raj that afflicted India between 1947 and 1990. India’s government was so enthralled by the Soviet Union that they attempted to plan their economy. The Indian State Planning Commission would issue licences for any and all production; without a licence, production of something as mundane as steel was illegal. The result was rampant corruption, as these precious licences were worth a fortune: with supply limited, prices rise, so licensed production of a commodity is even more profitable. In a real sense, quota systems issue licences not just to produce fatty food or steel, but to print money. They also distorted the economy, because Indian manufacturers were not able to use the price signals in the market to respond to consumers needs. Between socialism and corruption, the Indian economy shrank, poverty worsened and people starved.
The Conservative’s quota system would subject to the same problems. The issuing of licences to produce fatty, sugary or alcoholic products would encourage corruption and harm British industry. British consumers (that’s all 60 million of us) would suffer as prices for goods we clearly want would rise. It is one of the most crass examples of interventionist economics in some times. Friedrich Hayek was right to opine that the Conservatives are only fair-weather “auxiliaries” of liberty whose real interventionist instincts will always come through.
What is particularly surprising is that even if they want to impose it, I cannot see how they can. The free movement of goods throughout the EU prevents them from placing quotas on European food entering the UK, so the upshot would not be rising prices and reduced consumption but simply a transfer of supply from the UK to Europe. This whole proposal smacks of one that has not been thought through.
This is very disturbing. There is nothing wrong with politicians seeking to improve public health, though that does not justify their dictating to individuals how they live. However, one would hope that they would utilise intellect and experience in perusing our interests. Indeed, that is rather the point of representative democracy: we cannot all be experts in everything, and where public policy is concerned most of us cannot be experts in very much as we have real jobs to do. Thus we look to our leaders to exercise their knowledge and utilise the time that we free up by paying them to be full-time politicians to pursue our interests.
Sadly, it seems the Conservatives have not been using their time wisely. Instead, they have reverted to type: tell people how to live their lives and damn the consequences!
If it is true – and so far it is only part of a consultation document – it is a sign of how far the Conservatives have moved from the economic liberalism they briefly espoused under Margaret Thatcher.
Quotas for anything are a disaster. They are aspects of the planned economies that so blighted the lives of billions during the last century. In the first place they are based on the idea that government knows better than individuals how much of a commodity is needed, and that overproduction is wasteful. Liberals understand that overproduction reduces prices, which in turn discourages further production until an equilibrium is found between how much consumers want (and are prepared to pay for) something and how much producers want to make. A quota system assumes that too much is being made, which in turn assumes that too much is being consumed, because consumers are allocating their resources (spending their money) “on the wrong things”.
In other words, Mr. Cameron and his apparatchiks are suggesting that because we are too keen on fatty food and booze, the best solution is to reduce supply through handing out a limited number of production licences.
As well as being obviously illiberal (who is Mr. Cameron, or indeed his 643 colleagues, to decide how much I or any of us want or ought to have of a commodity?) it is painfully stupid. Anybody with an A Level in Economics (that’s a lot of people other than me, then!) knows that quotas are an inefficient and harmful means of reducing supply. A far more effective method and one that distorts economic exchange far less is a tariff or tax system. Rather than reduce the quantity produced by government fiat, the government adds a tax, thus raising the cost and so reducing demand. This is cheaper to administer, raises revenue for government, harms business less than arbitrary quota systems (which might see a firm suddenly lose its quota and so lose its business) and allows individuals to continue to allocate their resources as they see fit.
The quintessential example of the quota system is the Permit Raj or Licence Raj that afflicted India between 1947 and 1990. India’s government was so enthralled by the Soviet Union that they attempted to plan their economy. The Indian State Planning Commission would issue licences for any and all production; without a licence, production of something as mundane as steel was illegal. The result was rampant corruption, as these precious licences were worth a fortune: with supply limited, prices rise, so licensed production of a commodity is even more profitable. In a real sense, quota systems issue licences not just to produce fatty food or steel, but to print money. They also distorted the economy, because Indian manufacturers were not able to use the price signals in the market to respond to consumers needs. Between socialism and corruption, the Indian economy shrank, poverty worsened and people starved.
The Conservative’s quota system would subject to the same problems. The issuing of licences to produce fatty, sugary or alcoholic products would encourage corruption and harm British industry. British consumers (that’s all 60 million of us) would suffer as prices for goods we clearly want would rise. It is one of the most crass examples of interventionist economics in some times. Friedrich Hayek was right to opine that the Conservatives are only fair-weather “auxiliaries” of liberty whose real interventionist instincts will always come through.
What is particularly surprising is that even if they want to impose it, I cannot see how they can. The free movement of goods throughout the EU prevents them from placing quotas on European food entering the UK, so the upshot would not be rising prices and reduced consumption but simply a transfer of supply from the UK to Europe. This whole proposal smacks of one that has not been thought through.
This is very disturbing. There is nothing wrong with politicians seeking to improve public health, though that does not justify their dictating to individuals how they live. However, one would hope that they would utilise intellect and experience in perusing our interests. Indeed, that is rather the point of representative democracy: we cannot all be experts in everything, and where public policy is concerned most of us cannot be experts in very much as we have real jobs to do. Thus we look to our leaders to exercise their knowledge and utilise the time that we free up by paying them to be full-time politicians to pursue our interests.
Sadly, it seems the Conservatives have not been using their time wisely. Instead, they have reverted to type: tell people how to live their lives and damn the consequences!
Tuesday, 2 January 2007
The end of the free society?
I came across some disturbing statistics over the weekend. Apparently, less than half of the eligible voters in the UK work in the private sector. The rest are either state employees or on state benefits.
This is important because a free society requires the citizens to keep their government in check. It is easy for those who do not rely on welfare and who are not paid a salary by the government to insist that their rulers take a long term view of their needs, look to the health of the economy and not just the wealth of the public finances, and rule in the interests of the nation and not simply serve a host of special interests. But a client nation where the citizens rely on receiving money from the state cannot exercise the same restraining hand.
Of the 44 million on the electoral register, only 20 million are either employed in the private sector or are self-employed. Over a third as many (7.1 million) are employed by government, and their interests lie in pushing up public sector salaries and benefits at the expense of taxpayers; we have already seen the effect of this in the government’s spineless and unprincipled decision not to properly reform the civil service pension scheme. The rest are made up of 11.8 million pensioners, 2.7 million on incapacity benefit and 3.2 million on various other benefits, many of whom pay very little direct taxes and yet all of whom have a vested interest in seeing public spending – and consequently direct taxes – rise.
Benjamin Franklin described democracy as “two wolves and a lamb voting on what to have for lunch.” In this case, the welfare dependent and those on the government payroll now outnumber those whose productivity must ultimately pay the government’s bill. Yesterday I wrote that “It may seem at present that intervention and the large state dominates, but the tide will turn. The voters, be they the over-taxed middle class or working class playthings of bureaucracy, want freedom.” However, if over half the voters are dependent on the government’s ability to squeeze money out of the remaining less-than-half, that is not the case.
Ultimately, freedom relies on autonomous individuals agreeing to pass over a proportion of their wealth to the public good. This is not the case if a predatory government can use the votes of its clients to extract ever more from a minority of independent wealth producers. The results will not only be spiralling taxes and unemployment and a generally worsening economy, which we are already seeing. It will be to draw ever more people into government control, ever expanding its power until we are all its subjects.
This is important because a free society requires the citizens to keep their government in check. It is easy for those who do not rely on welfare and who are not paid a salary by the government to insist that their rulers take a long term view of their needs, look to the health of the economy and not just the wealth of the public finances, and rule in the interests of the nation and not simply serve a host of special interests. But a client nation where the citizens rely on receiving money from the state cannot exercise the same restraining hand.
Of the 44 million on the electoral register, only 20 million are either employed in the private sector or are self-employed. Over a third as many (7.1 million) are employed by government, and their interests lie in pushing up public sector salaries and benefits at the expense of taxpayers; we have already seen the effect of this in the government’s spineless and unprincipled decision not to properly reform the civil service pension scheme. The rest are made up of 11.8 million pensioners, 2.7 million on incapacity benefit and 3.2 million on various other benefits, many of whom pay very little direct taxes and yet all of whom have a vested interest in seeing public spending – and consequently direct taxes – rise.
Benjamin Franklin described democracy as “two wolves and a lamb voting on what to have for lunch.” In this case, the welfare dependent and those on the government payroll now outnumber those whose productivity must ultimately pay the government’s bill. Yesterday I wrote that “It may seem at present that intervention and the large state dominates, but the tide will turn. The voters, be they the over-taxed middle class or working class playthings of bureaucracy, want freedom.” However, if over half the voters are dependent on the government’s ability to squeeze money out of the remaining less-than-half, that is not the case.
Ultimately, freedom relies on autonomous individuals agreeing to pass over a proportion of their wealth to the public good. This is not the case if a predatory government can use the votes of its clients to extract ever more from a minority of independent wealth producers. The results will not only be spiralling taxes and unemployment and a generally worsening economy, which we are already seeing. It will be to draw ever more people into government control, ever expanding its power until we are all its subjects.
Friday, 29 December 2006
Don’t swallow that note, or that argument, either
Yesterday, Adrian Sanders MP wrote an entry in his blog (speakers on when you visit it!) entitled Don’t swallow that coin, in which he argued that early doubts about the euro have been proved unfounded. I am unable to leave a reply on the blog (MySpace is fighting me!) so I am obliged to do so here.
Though it is true that early scepticism about the euro has given way to cautious optimism, the evidence that Mr. Sanders gives for hailing it as an untrammelled success is flawed. His statement that “the new currency is competing with the Dollar for top spot in the world's list of currencies” is at least a bit premature. The Euro accounts for only 25 per cent of global foreign exchange reserves as compared with 66 per cent for the dollar.
Similarly, his claim that “ more and more of the world's goods and resources are being priced in Euros rather than Dollars”, though perhaps true, may exaggerate its significance. While the accession of ten new members to the European Union (and in three days it will be 12) has required them to peg their currencies to the euro rather than to the dollar, the enlargement process is stalling, and anyway is ultimately limited. A few other countries may be seeking to shift their own currency peg to the euro, but the dollar remains the yardstick by which others are measured.
In fact, some of Mr. Sanders’ claims are frankly outlandish. That the face value of printed notes is now greater than that of the dollar, having doubled in five years, is neither relevant nor automatically to be welcomed. The dollar’s fall relative to the euro may have assisted this transition, but it is not helping European exporters (at least, not on the Continent). Meanwhile, the fact that the money-supply has doubled in five years is usually a sign of inflation.
Of course, if the European Central Bank had deliberately chosen an inflationary policy it might be understandable, as some of the larger Euro-zone countries have been struggling with deflationary pressure over the past few years. Certainly anything that could save Germany and France from their stagnation should be welcomed. However, the UK has been happily free of deflation and growing steadily over the past few years – in fact it is inflation that under Gordon Brown has been causing us concern. Thank heavens, therefore, that we have an independent central bank that can respond to our specific economic circumstances!
Mr. Sanders attempts to ridicule Britain’s monetary independence by suggesting that “by staying out, [all] we retain [is] the Queen's head on the bits of paper we exchange for goods and services, our banks make massive profits out of us, and we keep our coins”. In fact, the Bank of England has done (and forgive me for what must be one of the most apposite puns in history) a Sterling job in maintaining price stability – far better than the ECB, which has overseen a mini-recession in Germany while other member-states have witnessed inflation.
Furthermore, the pound has managed to steer a course between the euro and the dollar, which is handy because half our trade (the half Mr. Sanders ignores) is still with the dollar zone. So while Mr. Sanders may be right to say that “If you run a business that trades with the Euro zone you pay exchange rate commissions to the banks on your transactions, that increase your costs and reduce your competitiveness”, he neglects the fact that if you run a business trading with the dollar zone and we had adopted the euro, you would have experienced massive and unpredictable volatility in exchange rates that would have disrupted any long-range economic calculations. This is far less of an issue for our European neighbours, as they have increasingly shifted from trading globally to trading regionally, but the fact that they are doing so does not prove that the Single Market generates better returns than global trade; it merely proves that trade will follow the path of least resistance.
Mr. Sanders’ suggestion that “The Euro is achieving … a single currency zone and market that could match and compete with the Dollar and US economy on equal terms” is ludicrous. The European economy may be as large as that of the USA, but this was not caused by the Euro. Neither has the euro-zone’s economy performed as well as that of the dollar zone, though America does appear to be moving into a period of slower growth.
It is clear from his blog that Mr. Sanders has been drawn in by the economic (supra-)nationalism of the euro’s perceived success against the dollar and has lost sight of the real goal, which is the British economy. This is a shame. Whether Britain will fare better within the euro-zone or with its own currency is a matter of national policy that should be based on sound economic reasoning and not a puerile competition with the Americans over whose currency is the biggest. I would heartily concur with Mr. Sanders that one should not swallow either euro or British coins. I suggest one should not swallow his argument, either. Whether we decide to swallow the euro will require more – and more elevated – debate than Mr. Sanders provides.
Though it is true that early scepticism about the euro has given way to cautious optimism, the evidence that Mr. Sanders gives for hailing it as an untrammelled success is flawed. His statement that “the new currency is competing with the Dollar for top spot in the world's list of currencies” is at least a bit premature. The Euro accounts for only 25 per cent of global foreign exchange reserves as compared with 66 per cent for the dollar.
Similarly, his claim that “ more and more of the world's goods and resources are being priced in Euros rather than Dollars”, though perhaps true, may exaggerate its significance. While the accession of ten new members to the European Union (and in three days it will be 12) has required them to peg their currencies to the euro rather than to the dollar, the enlargement process is stalling, and anyway is ultimately limited. A few other countries may be seeking to shift their own currency peg to the euro, but the dollar remains the yardstick by which others are measured.
In fact, some of Mr. Sanders’ claims are frankly outlandish. That the face value of printed notes is now greater than that of the dollar, having doubled in five years, is neither relevant nor automatically to be welcomed. The dollar’s fall relative to the euro may have assisted this transition, but it is not helping European exporters (at least, not on the Continent). Meanwhile, the fact that the money-supply has doubled in five years is usually a sign of inflation.
Of course, if the European Central Bank had deliberately chosen an inflationary policy it might be understandable, as some of the larger Euro-zone countries have been struggling with deflationary pressure over the past few years. Certainly anything that could save Germany and France from their stagnation should be welcomed. However, the UK has been happily free of deflation and growing steadily over the past few years – in fact it is inflation that under Gordon Brown has been causing us concern. Thank heavens, therefore, that we have an independent central bank that can respond to our specific economic circumstances!
Mr. Sanders attempts to ridicule Britain’s monetary independence by suggesting that “by staying out, [all] we retain [is] the Queen's head on the bits of paper we exchange for goods and services, our banks make massive profits out of us, and we keep our coins”. In fact, the Bank of England has done (and forgive me for what must be one of the most apposite puns in history) a Sterling job in maintaining price stability – far better than the ECB, which has overseen a mini-recession in Germany while other member-states have witnessed inflation.
Furthermore, the pound has managed to steer a course between the euro and the dollar, which is handy because half our trade (the half Mr. Sanders ignores) is still with the dollar zone. So while Mr. Sanders may be right to say that “If you run a business that trades with the Euro zone you pay exchange rate commissions to the banks on your transactions, that increase your costs and reduce your competitiveness”, he neglects the fact that if you run a business trading with the dollar zone and we had adopted the euro, you would have experienced massive and unpredictable volatility in exchange rates that would have disrupted any long-range economic calculations. This is far less of an issue for our European neighbours, as they have increasingly shifted from trading globally to trading regionally, but the fact that they are doing so does not prove that the Single Market generates better returns than global trade; it merely proves that trade will follow the path of least resistance.
Mr. Sanders’ suggestion that “The Euro is achieving … a single currency zone and market that could match and compete with the Dollar and US economy on equal terms” is ludicrous. The European economy may be as large as that of the USA, but this was not caused by the Euro. Neither has the euro-zone’s economy performed as well as that of the dollar zone, though America does appear to be moving into a period of slower growth.
It is clear from his blog that Mr. Sanders has been drawn in by the economic (supra-)nationalism of the euro’s perceived success against the dollar and has lost sight of the real goal, which is the British economy. This is a shame. Whether Britain will fare better within the euro-zone or with its own currency is a matter of national policy that should be based on sound economic reasoning and not a puerile competition with the Americans over whose currency is the biggest. I would heartily concur with Mr. Sanders that one should not swallow either euro or British coins. I suggest one should not swallow his argument, either. Whether we decide to swallow the euro will require more – and more elevated – debate than Mr. Sanders provides.
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