Saturday, May 29, 2010

Taxing Ourselves and More Random Thoughts

While Pratt is correct that the propaganda is the basis of the sales tax increase in Arizona, I remain somewhat puzzled that the propaganda is effective. While it is true that the public sector unions have been screaming about the failure of education due to lack of funding, any more it seems a broken record. How many times does the taxpayer have to hear the cry before saying enough. More importantly when does the taxpayer realize that states that lower taxes draw businesses to the state while states that raise taxes drive businesses out. For examples look to California and New York and compare them to Texas. New Jersey is another state that has driven high income earners and businesses out of the state, but the new Governor is attempting to change that. He is cutting spending and of course upsetting the public sector unions, especially teacher unions. Governor Christie of New Jersey had a great response to a teacher who was yelling at him “you are not supporting my education. You are not supporting my experience.” Christie said “Well, you don’t have to teach. You could do something else.” The public sector unions are the cause of Greece’s crisis and are leading every Western nation in the same direction.

The massive oil spill in the Gulf has led to a shutdown of offshore drilling and confirmed environmentalist’s worries about onshore drilling. The point I think everyone is missing is that this disaster lies at the foot of the environmentalists. They forced drilling out five miles where the ugly rigs could not be seen from shore. Think how much more dangerous it is to drill down a mile or so in water than to drill on land. A blowout on land would have been stopped virtually immediately. What this disaster should tell us is that we need to collect energy from the safest and cheapest sources. And that is on shore drilling, just offshore drilling, and the use of coal. It would be much less expensive to clean coal than it is to force drilling 5 miles off shore and bear the costs of a blowout like the current one.

The European Union is done, stick a fork in it. It always was a strange beast but now with Germany bailing out the Southern nations, the pressure on it to collapse is higher than ever. The idea of the European Community was to ensure that the terrible wars of the 20th Century did not occur again. If the economies could be tied together, it was thought, then the events that led to the Wars could not happen again. The mistake the community made was to attempt to convert the nations to a single economic entity. It did not seem logical that people and customs as different as Germany and France and Greece and so on could become like the states in the US. The Euro meant that Greece, Spain, Portugal and others could go on spending, running huge debts, and having more than half their labor force employed by government while Germany to the large extent, and France less so would support them. This situation not only creates moral hazard but creates tensions and divisions inside Germany and France. The EU should have kicked Greece out if they wanted to retain the union. Bailing them out will simply delay the collapse of the entire union for a short time.

Speaking of bailouts, will the US bail out California? The public sector unions have refused to accept any budget cuts. Taxes have maxed out – businesses and high income earners are leaving the state in droves. A higher tax of any kind will simply drive more out and reduce revenues. So, will California go bankrupt or will taxpayers in the other 49 states bail it out? If taxpayers do bail out California the same type of moral hazard is created as in the EU. If California gets bailed out, why should any other state cut spending?

Taxing ourselves

Boyes expressed surprise that Prop 100 passed, in essence Arizona taxpayers agreed to tax (coerce) themselves. I was not surprised (although I was disappointed) and I think part of the explanation lies in item 5 of Boyes' post - the rise of public sector unions.

Our previous discussions on this blog point out that public sector employees, in many cases, earn wages and benefits above that of their private sector counterparts. To protect these rents in the face of transparency (an issue that has become explosive in Greece and will I suspect become equally explosive here in the US) public sector unions must work aggressively to protect these rents. There are any number of strategies employed by the public sector unions, one of the most effective is that of propaganda. In the case of Prop 100, the public sector union effort aligned nicely with the intellectual/elite view that the government should be the provider of educational services. The "crisis" in public school education is not surprising, it is inevitable - the government has no incentive for efficiency, indeed local governments in the form of school districts and individual schools have an inability to react to changing conditions. Compare the plight of public schools in Arizona to private or charter schools like Tempe Prep, Basis, The Awakening Seed . . . these schools are continuing on - the private schools raising tuition if necessary, but all adjusting operations. It is notable that these schools have lower average wages and benefits that comparable public schools.

But the essence of the question remains, why was there overwhelming support to increase sales taxes - a tax that interventionists and elites must grind their teeth at due to its regressive nature?

Unfortunately the bulk of "citizens" now have a default view that the government should take care of _______________________(fill in the blank - the media blathering about the BP spill is another example that deserves a separate blog post). So, over time, the elite/intellectual position articulated by JFK has permeated the consciousness or subconsciousness of the masses - "ask not what your country can do for you, ask what you can do for your country".

So, teachers unions, elite intellectuals, local governments all asked Arizonans to raise taxes and, in another step on the road to serfdom, a large majority in Tempe complied.

Thursday, May 27, 2010

Elena Kagan and Hayek

Hayek identifies lawyers and university professors in particular as members of the cognitive elite with little or no understanding of the functioning of the overall social – economic order which make all of our lives possible. As Hayek puts it using the example of the individual with a law degree, “The rules of just conduct which the lawyer studies serve a kind of order of the character of which the lawyer is largely ignorant.”

Elena Kagan & Class Analysis

Wednesday, May 26, 2010

“the Great Society.”

Mario Rizzo writes perceptively of the approaching bankruptcy of the welfare state. This state has been morally bankrupt from its inception, now the looming material bankruptcy offers, what Rizzo suggests is a clarion call.

Therefore, I view the more immediate negative consequences of the welfare state as intimations of the long-run effects. They are the easier-to-understand stories that may affect public opinion. In a sense, most economists, for all their complex reasoning, theories and data, are the simpletons of public policy. Their work is preliminary to the real issues. There are, course, some economists like James Buchanan, Deidre McCloskey, Mancur Olson and others who have this broad vision. Unfortunately, their work is vastly undervalued in the economic profession as it has developed in the late twentieth-century into the twenty-first.

Therefore to welcome the bankruptcy of the welfare state is not as perverse as it may seem at first. It is to welcome a warning that may prevent the collapse of what Adam Smith called, “the Great Society.”

Random Thoughts

I have not been able to post anything for the pas week because I had surgery on my right hand and had no use of fingers. That does not mean I have not been thinking about various issues however. Now that I have fingers but no thumb, I will attempt to post some thoughts.

1. The Arizona law SB1070 has created a tremendous uproar. The reason for the uproar is either a fear that it will enable profiling or opposition to any restrictions on illegal immigration. While the law carefully states there is to be no profiling, it is reasonable for Latinos to worry about it. Personally, I think a better statement of Arizona's problem would have been to send the National Guard to the border. Nevertheless, as Milton Friedman once stated, you can not have free immigration in a welfare state. Thus the US must define who is allowed to immigrate and who is not and to enforce that definition. The current immigration law is out of date and creates bottlenecks for those people we most need to immigrate here.

2. Another Arizona Law, 100, surprised me. I didn't think in this environment the public would tax increases on themselves. Moreover, the argument that education and police and fire services would be sacrificed if 100 was not passed, is an old argument that surfaces any time government is faced with budget cuts. In fact, unless cuts are made in all areas, government will continue growing while liberty keeps declining. A good start for state and federal government would be to eliminate the departments of education, to eliminate public K-12 schools and move to a voucher system of private or charter schools.

3. Data released recently show that the private sector accounted for only 42 percent of income; the public sector accounted for 58 percent. The Obamacare is a takeover of about 1/6 of the economy. The student loan program is now totally a government industry. The financial regulation bills mking their way through Congress is a government takover of another 1/6 of the economy.

4. The US stock market has fallen about 10% in month. The market had been on an upward tear, but one must wonder why. The US is facing unprecedented debt levels. Unfunded liabilities are especially troubling. The EU is collapsing. Unemployment remains near 10 percent. The Bush tax cuts are expiring at then end of this year. Why should all this be met with expectations of higher earnings. The market rise is either a move away from risk or a temporary aberration of a sluggish or downward move. One would think that the performance of the economy followng the hue stimulus and jobs spending by the government would have been a final nail in Keynesianism.

5. Public sector unions should be barred. They arise only because of government; they, themselves are a taking -- from privately employed people to government employees. There is no competition and no profit maximizing firms to control the unions. Instead, SEIU continues growing, the National Teachers Unions continue growing, and all continue increasing the overall growth of government.

Tuesday, May 25, 2010

The problem with democracy

Crosby writes:

The question is how much faith should we put in elected politicians to deliver good fiscal outcomes? In my view stronger fiscal checks will strengthen, rather than weaken democracy. No economist would advocate balanced budgets always, but a balanced budget “over the cycle”, with verification from an independent body over achieving that aim would seem to be a good direction to take. The charter of budget honesty act goes some way towards this, but does not ensure proper independent verification.

Wednesday, May 19, 2010

More on the role (danger) of intellectuals

Tim Cavanaugh concludes his analysis on economists as intellectuals in

Is Paul Krugman, the Doctor, America's Most Politicized Economist?

"Krugman's willingness to change his tune on deficit spending when it's the Democrats doing the spending is unseemly. But his honest belief -- an astonishingly cavalier approach to deficit spending -- is worse than his partisan positioning."

Today, more than every, liberty and advocates for a free society cry for a public intellectual of the caliber of Milton Friedman.

Intellectuals and Society

Sowell's book - Intellectuals and Society, presented an accessible summary of the role that intellectuals and ideas play in supporting or hindering the emergence and evolution of a free society. Hayek's essay was the inspiration for the book and evokes Milton Friedman.

Friedman confronting an adversary of freedom and liberty in a civil and persuasive manner.

The record of history is clear . . .

Tuesday, May 18, 2010

Milton Friedman - Morality of Freedom

Friedman points out that today, we stand on the shoulders of those who have come before us.

This short overview confirms the importance of ideas and intellectuals in the debate today regard a free society.

The power of ideas . . .

Monday, May 17, 2010

Change is emergent and evolutionary

Rogoff writes:

“graduation” from emerging market status is a long, painful process that can take 75 years or more to complete.

Rogoff is writing about the Euro zone and Greece, but this observation in in the tradition of Hayek, North et al regarding the process of economic change in general. This process is incremental and, given the evolutionary nature of discovery, very time consuming. The implications of this view - simplified by Bill Easterly in his contrast of Planners with Searchers, are very clear in terms of the role of the state.

To the extent that the state supports a spontaneous order through a focus on general rules (the law) the "graduation" that Rogoff describes can emerge. To the extent that the state begins the process of specific rules (legislation) the environment of society will be constrained by arbitrary applications of power that hinder or warp the evolution of institutions that incentivize wealth producing entrepreneurial activity and growth.

Sunday, May 16, 2010

Bankruptcy for the U.S.

Pratt's posting of Jim Powell's Freedom Daily piece on Argentina points out the possibility of the United States going bankrupt. A firm that has large and valuable assets but has a serious negative cash flow situation should liquidate -- sell those assets. The United States has a $13 trillion debt with unfunded liabilities of $104 trillion. It has a serious cash flow situation; it cannot sustain such a situation. Its debt will be about 100% of GDP by 2020; interest payments alone will constitute the biggest share of federal government spending.

In the picture above you can see how much land the federal government owns -- approximately 64% of all land west of the Mississippi. If a limit on government spending could be implemented by amending the constitution; if term limits, limited pay, limited retirement benefits, could be implemented again probably as a constitutional amendment, and then the federal lands were sold, the huge debt could be paid for. I would expect bases such as those along California coasts, and national parks such as the Grand Canyon and Yosemite would raise a fair penny. Environmentalist groups could compete with developers to purchase the land. Resources would be allocated more efficiently, and the U.S. could return to what its founders intended it to be.

New Deal 0.0 - Business - The Atlantic

I would disagree with the use of the word ironic by McArdle. The legacy of the new deal has first and foremost been an acceptance by most of increasing levels of coercion in our lives. This increased coercion is the inevitable result of increasing scale and scope of state intervention in the lives of individuals lives, reducing the sphere of private control. So the evolving confidence in the efficacy of state action to resolve issues, economic and social, would not be ironic but: select a more appropriate adjective - threatening, destructive, demoralizing . . .

There's something ironic in the fact that the legacy of the New Deal is the inability to reproduce it. On the other hand, it's not so necessary, either. People are richer now, and though it isn't perfect, our financial regulation is better. We're not at much risk of people starving to death. So there's no urgent need to create low-skilled jobs for them to fill.

New Deal 0.0 - Business - The Atlantic

Friday, May 14, 2010

More on grade inflation

The topic of grading exemplifies, in my view, one of the inevitable consequences that accompanies loss of liberty in a welfare state. On a number of occasions, Boyes has described the entitlement belief system spawned by the welfare state. This entitlement convention emerges, in large part, from a warping of the understanding of justice. Hayek writes about the empty phrase 'social justice' in Law, Legislation and Liberty, vol 2 - The Mirage of Social Justice:

"The more I tried to give it [social justice] meaning the more it fell apart - the intuitive feeling of indignation which we undeniably experience in particular instances proved incapable of being justified by a general rule such as the conception of justice demands. But to demonstrate that a universally used expression which to many people embodies a quasi-religious belief has no content whatever and serves merely to insinuate that we out to consent to a demand of some particular group, is much more difficult that to show that a conception is wrong." (xi-xii)

Hayek captures the problem - attempting to argue for one value - liberty - which has largely been replaced with a second value - 'social justice' when this second value emerged in the form of a "quasi-religious" process of belief formation and evolution. Boyes and I have both engaged in conversation with those how hold the social justice value with the fervor of a zealot.

So, to the topic and morality of grading - the belief in 'social justice' held by many students, most faculty and administration leads - ironically enough - to immoral pressures - specific groups of students need to be treated differently. Further, the empty concept of social justice seems, to me at least, to inform the justification on the part of students for either requesting "special" consideration in grading or overt cheating. I consider both to be the same.

The Amherst student paper captures this:

While some would like to believe that such grade inflation, essentially officially sanctioned cheating, does not exist at Amherst, it undeniably does. In 1989, the average GPA awarded at Amherst was 3.28. Ten years later, it had risen to 3.41, and by 2006, had settled at 3.48. At an institution that has always prided itself an its scholastic rigor and achievement, grade inflation inspires mediocrity in students who feel they only have to be slightly better than the next person to do well. In addition, it undermines the entire purpose of the College. While students might embrace the higher grades for less effort, professors should give credit where credit is due and not devalue the meaning of an A.

The operative phrase above is officially sanctioned. And grade inflation is officially sanctioned by both the formal and informal institutions that have emerged in education.

Unfortunately grade inflation does not undermine the purpose of the intellectual in higher ed, it furthers the cause of social justice that lays at the heart of elite/interventionist thinking. Lack of general rules of conduct allows for the inculcation of beliefs leading to the empty notion of social justice. As an empty notion, this 'concept' defies assessment, therefore grade inflation as well as other forms of cheating not only are a consequence of this process, but further the ability of the elite/intellectual to inculcate the religion or quasi religion of 'social justice'.

It is not by accident that less grade inflation and more stringent controls and enforcement of cheating takes place in engineering and computer sciences. These disciplines require actual performance to a standard. Unlike 'social justice' the standard in these areas is general rule, can be agreed upon and, more importantly measured. Thus, these disciplines attract those who are supportive of the general rule philosophy or spontaneous order view and thus share the important belief system that is at the heart of informal institutional support for freedom.

Esther Duflo Awarded Clark Medal

Thursday, May 13, 2010

Another Look at Grade Inflation

Pratt’s post on grade inflation meshes nicely with the study “Grading in American Colleges and Universities” by Stuart Rojstaczer & Christopher Healy — March 04, 2010. Their research shows that sometime in the 1950s to1960s, the major purpose of grading at colleges and universities changed from an internal measure and motivator of student performance to a measure principally used for external evaluation of graduates. In response, private schools – more so than public schools – raised their grades. In the words of one late faculty member from Dartmouth, “we began systematically to inflate grades, so that our graduates would have more A's to wave around”(Perrin, 1998). The GPA gap between the private and public schools widened through the 1970s, and has stabilized since the 1980s.Since the evidence indicates that private schools in general educate students no better than public schools (Perscarella and Ternzini, 1991), private schools are apparently conferring small but measurable advantages to their students by more generous grading. Private schools also have on average students from wealthier families, and the effect of our nation’s ad hoc grading policy is to confer unfair advantages to those with the most money. It is perhaps easy to see why graduates from certain private schools dominate placement in top medical schools.

Notice from the diagram how private school grade inflation has been much larger than public school grade inflation. Why would private schools inflate grades more than public schools? The answer lies in the institutional differences of tenure between private and public schools. Many private schools do not confer tenure or do so with constraints whereas public schools typically confer tenure following 7 years of performance. With more stable jobs, the public instructors need not “buy” better evaluations as much as the private instructors do. It would be interesting to compare tenured faculty grading versus untenured faculty.

Pascarella, E.T., and Terenzini, P.T. (1991). How college affects students: Findings and insights from twenty years of
research. San Francisco, CA: Jossey-Bass.
Perrin, N. (1998). How students at Dartmouth came to deserve better grades. Chronicle of Higher Education, October 9,A68.

Grade inflation

Confronting all participants in education are the twin difficulties of aligned instruction (effective teaching) and authentic measurement of student performance (grading). I am thinking of this topic at semester end in the context of liberty, choice and responsibility. However, I am not thinking of this in terms of students, rather from the faculty and institutional point of view, for it is the actions of these agents that leads to grade inflation.

At my institution during the first decade of the century the A grade has increased from 29 per cent of grades awarded to 34 per cent - the A grade is the most frequently awarded grade, followed by W (the student quits), B, then C. See data here. This is a common issue both the W issue and the grade inflation issue have been recent topics over at the Teaching Economics listserv and seems to be common across the field.

My musing this morning (while I avoid final grading) leads me to the connection between central planning at state supported institutions and faculty working for the government and the organizational arrangements that evolve from the interaction between these public groups.

Adam Smith could well have be writing about my institution when he observed:

If the authority to which he is subject resides in the body corporate, the college, or university, of which he himself is a member, and which the greater part of the other members are, like himself, persons who either are or ought to be teachers, they are likely to make a common cause, to be all very indulgent to one another, and every man to consent that his neighbour may neglect his duty, provided he himself is allowed to neglect his own. In the university of Oxford, the greater part of the public professors have, for these many years, given up altogether even the pretence of teaching. Wealth of Nations V.1.137

Higher education is a vivid example of the emergence of institutional arrangements that are responsive to the organization and the agents of the organization often at the expense of the public.

Wednesday, May 12, 2010

Amartya Sen vs. Dan Klein on Adam Smith

This EconLog posting is short, sweet and contextualizes Adam Smith for those unfamiliar with his work or only familiar with his work from secondary sources.

Crony Capitalism

So many people believe that Free markets are cruel and that capitalism and competition lead to corruption and selfishness. But which is more moral, free markets or government? Which benefits society more, government planning and control or free markets? Who takes care of the poor, the downtrodden, the unfortunate better, government or free markets?
Just two hundred years ago, there weren't rich countries in the world. Everyone lived in virtual subsistence poverty. There are rich countries now because of the development of free markets. China and India’s moves toward freer markets have raised more people out of dismal, grinding poverty than any event in history.
Nevertheless, the complaints against capitalism and free markets continue unabated. It is capitalism’s fault that HIV/Aids is affecting Africa; it is capitalism’s fault that global warming is occurring; it is capitalism’s fault that America meddles in the business of other countries and it is capitalism’s fault that …… any problem and it has been attributed to the feet of capitalism. The invisible hand is not understood at all. Free people left to their own devices, behaving so as to enhance private property rights, tend to do well for all of society. Resources are allocated to where they have the highest value, people are able to get what they want and are willing to pay for, products and services are provided at the lowest possible prices.
So why, if capitalism is so good, do we see big pharma supporting government takeover of health care? If capitalism is so good, why do we see large banks needing bailouts and why does the government have to take over the auto companies to avoid catastrophic collapse? The confusion here is two fold. First, the link between big business and government is not capitalism. It is crony capitalism. It is an inefficient intersection of business and government. Second, it is not capitalism that led to the problems, but the government. Government intervention led to the 2008 financial crisis just as it did every crisis before that time.
Crony capitalism assumes a far larger role for government in the economy than capitalism. With crony capitalism, government employs regulations, taxes, and subsidies to encourage or discourage specific economic activity that the political system considers desirable. In crony capitalism, farm prices and outputs are regulated; selected companies could get TARP money for commercial research projects; states regulate liability and health insurance companies; and Freddy Mac and Fannie Mae both exist to subsidize the real estate market. In crony capitalism private firms that are considered “too big to fail” are bailed out by government. In crony capitalism, the central bank exists to support federal government spending.
Yet the political class, the left, and the media would have you believe that capitalist greed caused the recession and that political regulators need more power. Health care, autos, financial sector, internet, big oil, big pharma, all need to be controlled by government. No way! What we actually require are constraints on monetary growth, more competitive markets, balanced budgets and less output-restricting regulation.

Tuesday, May 11, 2010

Intellectuals and social responsibility

Boyes writes about recent trends in higher education:

No wonder business people trained in business schools fail. We are going to spend time on "social responsibility"? What is social responsibility? Isn't it, as Milton Friedman said, to make a profit?

Friedman's The Social Responsibility of Business and the reaction of the intellegensia to a philosophy of liberty, choice and personal responsibility serves as an illustration and warning to those conscious of the fundamental value and importance of liberty.

Last month our book club spent time exploring Thomas Sowell's elaboration of Hayek's assertion that the views of intellectuals played the critical role in a movement toward the social welfare state and away from a free society.

Sowell does a nice job of defining intellectuals and their role in shaping the belief systems that are at the heart of the evolution of social institutions and why these intellectuals seem to be attracted to rationalism, planning and centralized direction. Last night, in another confirmation of the Sowell/Hayek insight, I was subjected to Sean Penn - still in Haiti, still advocating for state support in the cause of social justice.

I do not think supports of liberty should minimize the extent to which celebrities such as Sean Penn shape the public consciousness. Moreover, while Penn is an intellegensia, his constant drum beat in support of state action is based (either consciously or, more likely unconsciously) on the foundations of interventionist "thinkers".

Peter Klein writes:

a quote from Hayek — “Society’s course will be changed only by a change in ideas” — on the cover. It’s a nice line and certainly in the spirit of Hayek’s views on social change as expressed in The Road to Serfdom, “The Intellectuals and Socialism,” and other works, though the exact quotation does not seem to appear in Hayek’s writings. (The line is attributed to Hayek by John Blundell, recounting a conversation between Hayek and IEA founder Antony Fisher. In “The Rediscovery of Freedom,” written in 1983, Hayek puts it this way: “A young English pilot who had returned from the war and had made a great deal of money in a few years as an entrepreneur came to me [around 1947] and asked me what he could do to thwart the ominous growth of socialism. I had considerable trouble persuading him that mass propaganda was futile and that the task consisted rather of convincing intellectuals.”)

Today it is clear that Hayek was correct, the central role played by intellectuals and the intellegensia is manifest in our formal institutions.

Boyes points out how this evolution in thinking at higher education. Leaving aside the question of the efficacy of higher education and business training, the notion that a philosophy of social justice should inform and control thinking in any discipline reflects the current state of ideas and, more importantly, the degree to which ideas based upon interventionism and collectivism prevail.

This Q and A shows the belief system that confronts a supports of liberty.

The Greek Bailout

The stock market exploded yesterday after word of a bailout for Greece. This is fool’s gold. The bailout only increases problems. It sets the markets up for substantial declines. The bailout to Greece includes $250 BILLION in IMF guarantees. That is $50 billion in US taxpayer guarantees. In addition the Federal Reserve is sending billions to the eurozone. The eurozone leaders assume that this is a liquidity problem. It is not. It is a solvency and balance sheet problem. It is the exact same problem faced by the banks in the 2008 crisis. Cash flow was negative while assets decline and liabilities increased. You do not solve a debt problem with more debt. This only kicks the bucket down the line a little. It will have to be dealt with at some point – and delaying that point only makes it worse. What is going on now is a massive misallocation of capital. This bailout ensures that the Greeks can continue with their profligate ways and it ensures moral hazard that will lead Portugal and Spain, at the minimum, to require bailouts in the near future.

Sunday, May 9, 2010

Is Obama a Socialist? John Stossel on Bill O

Is Obama a Socialist? John Stossel on Bill O

Government and Growth of the Economy

Before the late nineteenth century, government was a very small percentage of gross domestic product in most Western countries, typically no more than five percent. But with the twentieth Century came the growth of governments across the Western world, to the point now where government expenditures are forty or fifty percent of gross domestic product.
Is government necessary for a nation to succeed? Most economists believe government has as its most basic function the protection of people and property. In addition, many argue that a provision of limited set goods and services, called public goods, such as roads and national defense, is also a necessary role for government. However, calling forth a role for government is a slippery slope. Where does the responsibility end? Is it to protect everyone from everything?
As governments move beyond the core functions, economic growth is adversely affected. Government spending undermines economic growth by displacing private-sector activity. Government is significantly less efficient at any function than is the private sector.
So if some government is necessary but too much government slows economic growth, there must be some “optimal” size of government. As I noted in an earlier post, economists have popularized the existence of an optimal size of government in a figure called the Rahn curve. As the size of government, measured on the horizontal axis, expands from zero (complete anarchy), initially the growth rate of the economy—measured on the vertical axis—increases. As government continues to grow as a share of the economy, expenditures are channeled into less productive (and later counterproductive) activities, causing the rate of economic growth to diminish and eventually decline.

In the figures you can see the relationship between size of government and growth of the economy in OECD countries. The "unseen", referring to Bastiat's broken window fallacy, is the cost of a slower rate of economic growth. A 2 percent decline means from 3 percent per year growth, means it would take 72 years for the economy to double rather than 24. How many lives are lost because of this slower growth? How many diseases not discovered, drugs not found, technologies not created?

Saturday, May 8, 2010

Innovation and failure

Earlier this month I blogged on the essential role that failure plays in discovery. Klein has a nice reference dealing with the intersection of market and collectivist orders in shaping innovation and, by implication, impacting the speed with which feedback (both positive and negative) diffuses through society.

The innovations that became the foundation for the Internet originate from two eras that illustrate two distinct models for accumulating innovations over the long haul. The pre-commercial era illustrates the operation of several useful non-market institutional arrangements. It also illustrates a potential drawback to government sponsorship — in this instance, truncation of exploratory activity.

FA Hayek Birthday

Friday, May 7, 2010

Democrats Push for National ID

Democrats Push for National ID

In a recent dinner conversation with in-laws who are firm constructivist, collectivist, statists the topic of Arizona's immigration law was "discussed". My in laws are firm democrats (and do not recognize the similarities to the republican party) and deeply favored the Health care "reform" and anticipated Financial services "reform" while heatedly (almost violently) disagree with the Immigration "reform".

In a burst of misguided optimism, I asked if perhaps all three activities of the state reflected democracy in action (the tyranny of the majority) and legislation to specifics (arbitrary action by the state).

My sister in law, who holds a Phd from the UofA in Ecology looked at me in disbelief when I grouped these 3 examples together. She said that the first two (which she supported) could not be considered in any way similar to the last (which she opposed).

I assume she was part of the majority in the first two cases and part of the minority in the last case. That said, she could see not potential threat to majority rule.

As economists who favor liberty this is the type of muddled thinking and emotionalism that we confront with family and friends. The emergence and expansion of an emotional, constructivist faith in social justice may prove difficult to confront in a civil and productive manner by those who favor liberty.

Like Boyes I find myself often at a loss on how to productively extend a conversation like the one with my in-laws. This dinner conversation is a reminder of the strength of deeply held beliefs - these beliefs seem to trump logic, evidence, and the voice of alternative views. We explored the process by which social justice emerges as a false belief in the ASET book club last month - I keep coming back to Thomas Sowell's Intellectuals in Society and his argument that intellectuals and the intellegenia in many ways shape these beliefs. Moreover, I can now see the danger of this process - Noam Chomsky or Sean Penn are exemplifications of this process.

The same sister in law, the Phd holder, was reviewing the latest issue of Time - the 100 most influential people, and was delighted to see the actor Ben Stiller listed as a hero for his development work (and perspective) on how to shape Haiti's ability to recover and withstand future shock. I have no doubt that Stiller has a perspective, but this perspective has no greater value than anyone else's. His acting prowess which, I suppose, makes him a part of the intellegensia gives him wide influence in shaping beliefs, an influence far beyond what might be warranted. I guess I wonder about a constructivist who looks to Ben Stiller or Sean Penn on issues for development and growth and who has never hear of William Easterly or FA Hayek and, more significantly does not want to hear about perspectives that conflict with Stiller or Penn.

Finally, my sister in law's area of expertise is climate change - and yet she read a recent Paul Krugman NY Times piece on the economics of climate change admiringly and found his view persuasive. When I suggested that she had more knowledge about the economics of climate change based upon her work, she looked at me like I was nuts. She said - "Greg, he won the Nobel Prize."

Thursday, May 6, 2010

Business Education

In today's Wall Street Journal,
B-Schools Try Makeover Harvard and Other Elite Institutions Hire New Deans; the 'M.B.A. Oath'

we are told that
"Business schools have been chastised publicly during the financial crisis and for the better part of the past decade going back to the collapse of Enron, where Harvard M.B.A Jeffrey Skilling was chief executive. Many have blamed business-school education for creating the mind-set to manipulate the financial system and critics—even some inside the Ivory Tower—have questioned whether management education is partly to blame.

"We taught our students how to look for cracks in the economy," says James Ellis, dean of the University of Southern California's Marshall School of Business. "And we taught them how to exploit" those cracks.

The new slate of deans is heavily focused on changing that reputation. Harvard's Nitin Nohria has been an outspoken critic of management, and has pushed for a so-called M.B.A. oath, akin to those that lawyers and doctors must take.

"We're all coming in at a critical time for management education," says Sally Blount, the recently appointed Kellogg dean. "We're focused on ethics, of course, but also social responsibility.""

No wonder business people trained in business schools fail. We are going to spend time on "social responsibility"? What is social responsibility? Isn't it, as Milton Friedman said, to make a profit? If any executive takes the money that would go to shareholders and distributes it to parties the executive personally likes and that gift does not return more to the firm, then the executive is stealing from shareholders. Business schools have no business teaching social responsibility -- in fact it is wrong to do so. This simply says to business people trained by these schools to do what they want with other people's money. How ethical is that?

The Knowledge Problem

The current discussion surrounding the Gulf oil rig spill provides a stark example of both the knowledge problem and the consequence of a constructivist reaction to this event. The original post and reply below illuminate pitfalls of assuming foresight - a constructivist would clearly argue that this event was foreseeable (I can foresee my death with absolute certainty - just not the manner and time).

But I'd be curious if anybody had worked out the negative externalities associated with each barrel of oil pumped in the Gulf of Mexico, given probabilities associated with events like this. Along these lines, here's an interesting quote from today's Economist:

...Nancy Kinner, co-director of the Coastal Research Response Centre at the University of New Hampshire, explains that oil rigs rarely have accidents: "The risk might be one in 1,000, or one in 2,000." Of course, she adds, there are hundreds of rigs out there. This spill might be shocking; but it was hardly unforeseeable.


But we will ever know the truth about the real impact and cost of the spill because the media has a bias and a vested interest in making it appear as awful as possible. Clean water doesn't lend itself easily to a Pulitzer Prize.

Wednesday, May 5, 2010

Shlaes on social justice

“Welfare,” the word we used for the program, likewise became stigmatized. President Bill Clinton signed the law that abolished the program, sending a signal that work is better for the country and individual than a dole, relief or insurance.
Eventually, those phrases we utter now “insurance extension,” “mandatory health care at the workplace” also will be dropped from the language in shame. But of course, by then the damage will have been done.

File this under the category of unsurprising perverse consequences of collectivist activity in society. As I am reading Law, Legislation and Liberty it becomes clear that efforts to legislate the evolution or process the Hayek refers to as spontaneous order leads to, what Shlaes correctly calls "damage". This damage is multidimensional and effects current and long term processes in society, changing the path or evolution of social orders in ways that no one can predict or understand. Thus the knowledge problem is evident again and, Hayek's telling of the story of rationalism resonates with both explanatory power - there really is an attraction to what he calls constructivist rationalism (Hayek's colleague Popper called this naive rationalism - which I think is a deft phrase) by many in society.

Tuesday, May 4, 2010

Lessons from the History of Financial Regulation

" . . . banking legislation of the 1930s took very little time to pass, but a great deal of time to disappear. The overarching lesson is that the aftermath of crises are moments of high risk in public policy.”

Timely reading.

Monday, May 3, 2010

The state in society

We must resist the temptation to believe that a meddling, paternalistic state is the way of the future. Not only business, but also society as a whole, would lose out if we moved in that direction. Or, as has been said by many: “A government big enough to give you everything you want is strong enough to take everything you have.

Now, what are possible losses from the emergence of the state? That is, while the protected in a paternalist state may perceive short run gains to centralized, collectivism, what are costs?

Movement from dynamic society to a more static society

Change in the nature of entrepreneurial activity

Moral code that evolves way from individual calculus to collective calculus

Change in the nature of tolerance

While the list goes on and on, I think it is very important to consider the perceived benefit. If we assume that individuals in society have perception about the costs above, then what is the assumed benefit of the emergence of the welfare state?

Above all else, it is the perception that the state will increase security. That is, fear of insecurity drives the calculation of costs and benefits - and the benefit of security is assumed to be so great that forfeiting a dynamic, wealth creating environment rooted in personal choice and responsibility shaped by a toleration of difference appears to be a decision that "makes sense".

Boyes raised this very issue in a post last month on democracy when he asks:

IF democracy inevitably leads to big government, either in the form of crony capitalism or socialism or elements of both, is there a way to change direction?

History shows examples of just this calculus - the democratic system or tyranny of the majority actually expedites this process.

Boyes hints at an optimism in his IF above. I mentioned early my reading project over the summer - Democracy in America. I do think that this IF is important, so important that it is worthy of both review and debate.

I can't help but think of the current uproar over Arizona's recent immigration policy. Those who supported Healthcare reform, the upcoming Financial System reform, are outraged at the immigration reform in Arizona.

Clearly all are examples of a welfare state - the differing reactions to each example are instructive - once the welfare state expands, the rule of law is replaced by legislation and executive branch agency with the inevitable result - arbitrary application of coercion. By definition, state action must be arbitrary if it is based upon legislation rather than law.

This essential element of centralized state power - arbitrary application of coercion has a number of destructive consequences - perhaps the most significant is the increase in uncertainty that is inherent in arbitrary use of power. To the extent that Hayek is correct and the economic problem is the use of knowledge in an uncertain environment that is characterized by change - the negative consequences of endemic uncertainty resulting from state power exercised in an arbitrary manner can be seen in history (USSR, Nazi Germany, US during war [and the Great Depression]) and currently in Venezuela, China and the US. Megan McArdle has a must read on that illustrates this using the recent Az immigration law - Arizona on My Mind.

She writes:

I'd be a lot more sympathetic to this law, in fact, if it required the police to check the immigration status of every single person they pulled over, without any gauzy "reason to believe" fig leaf to cover up what's really going on.

Raise your hand if you think that law could have passed in Arizona.

Now, anyone whose hand is raised, contact your psychiatrist immediately. You need to check the dosage on those meds.

It is relatively easy to see the arbitrary nature of centralized state power in Health care reform, financial services reform and immigration reform. Considering my post yesterday about the ubiquitous nature of failure and the alternative reactions to failure offered by market and collectivist orders, the pessimism that Boyes and I express seems to be justified.

Sunday, May 2, 2010

Sen on Smith

96.5% of Mortgages Backed by Government entities in Q1

Failure . . . an essential element of life. It is indeed failure that provides valuable information and the feedback mechanism that detects and dissiminates failure is at the heart of progress.

A key distinction between a market order and a planned/collective order is the way in which these orders deal with failure. First, the detection of failure - that is matching the results of behavior with expectations is different under these two regimes. Individuals experience the consequences of changes in their environment and, more importantly, in a market order, internalize the costs of failure. In contrast, collectivist regimes may experience the same type of change, yet this change may well (actually will not) be "experienced" by all authorities in the regime or by the key decision maker in the regime. Therefore, the collective order will be unaware of the failure. Think of any number of contemporary examples - Hurricane Katrina, flows (both legal and illegal) of people, drugs, or information, or macroeconomic stabilization policy.

The speed of reaction to changing events is much different in these two orders. Individual orders more rapidly detect failure and, given the incentives that are fairly clear, move more rapidly to adjust behavior than do centralized orders. Many of the introductory economics texts include a discussion of lags when discussing stabilization policy. The notion of lag is an important one, while individuals may certainly take time to adjust behavior as they consider an uncertain future and the consequences of alternative behaviors, this Hayekian discovery procedure will begin more quickly than under a collectivist regime and will operate with information that is "on the ground" or "obvious to the individual" or "important to the individual" - a process that is clearly impossible for a centralized regime. This process of individual discovery is prone to failure as the individual holds very little information/knowledge in this uncertain environment. What is important is the procedure - the individual more readily discovers failure than does the planner or the collective.

Another example of this contrast was described by the Fed. The US residential mortgage market has evolved in the manner that exemplifies the redistibutional trend that Boyes and I discussed last month. The impact of the evolving government monopoly on mortgage securities will certainly offer a type of natural experiment in the assertion of this blog post that an individual order reacts more quickly and calculates costs and benefits in a more socially creative manner than does a collectivist order.

The emergence of this government monopoly raises an important issue that Hayek and Schumpeter (among others) considered. To the extent that government involvement in the residential mortgage market reflects the concern of the welfare state to provide social justice in the form of an equal outcome - everyone owns a home - is it inevitable that the welfare state must evolve to a socialist state? That is, with a 96.5% government backed mortgage market - would a third party consider this market to exemplify the welfare state or the socialist state?

This distinction is, I think, more than an academic one. If in fact, there is a strong tendency for welfare states to move to socialist states - the Fed graphic above indicates a market that was 60 per cent government backed at the beginning of the time frame in 2000 (which may have already exceeded the tipping point from welfare to socialism) to one that is now very close to an absolute state monopoly.

Saturday, May 1, 2010

Creative Destruction

Last month, Boyes and I reflected on the threat to future growth and development posed by an expansive welfare state. These threats are a clear and present danger and are a clarion call to reflect on individualism and the value of liberty.

Schumpeter seemed to foresee the present dilemna in his argument that the demand for the welfare state was a natural result of economic development and growth. North, Wallis and Weingast present an argument in Violence and Social Orders that open access societies are distinguished from limited access orders by the density and complexity of organizations - including government organizations and that the welfare state is complementary to sustaining open access. This argument is a provocative one and centers on the dynamic of redistribution that would appear to be inherent in the income inequality that accompanies the market order. Last month Boyes wondered if the political system (democracy) would inevitably lead to the welfare state. This raises the issue of path dependency and will provide the foundation for a future discussion.

Ken Autetta's recent analysis of the rapid evolution of reading has me leaning toward a sympathetic view of North's et al argument. The forces of Smith and Schumpeter appear to be racing ahead of the State - at least in this example.

I find the example of reading significant due to my reading of North's argument that beliefs and learning are a (the?) key ingredient in adaptive efficiency. I see the informal belief systems that support society as shaped by a process of learning that we do not understanding.

Having said that, while we might not understand the process of learning, reading is at the heart of a full comprehension of how learning emerges and evolves.

Autetta's reading of the attack on transactions costs by technology exemplifies two elements of creative destruction - first the conflict between current rent holds seeking to maintain rents and innovative entrepreneurs attacking those rents in the pursuit of future rents from a changed landscape. Second, productive entrepreneurial activity stimulates productive actions that lead to both growth and learning.

I wonder, are Auletta and I too optimistic?

The iPad, the Kindle, and the future of books: