"Perverse" Production Incentives and Liberal Laissez-Faire??

The book contains an article from Business Week claiming that most government incentives are perverse—propping up inefficiencies that the market in all its wisdom would have eliminated long ago, and therefore dragging down productivity and limiting prosperity for everyone. The author bemoans that a crop subsidy may keep “the family farm alive, but [it] reduces the incentive to raise the yield per acre, thus increasing the price of food for everyone. (p. 75)” Further, the government not only imposes such an insidious effect on food prices, but then it actively discourages the productivity gains that somehow manage to occur in other sectors, by taxing the consequent increases in profitability. If only government could realize that is has everything bass ackwards, reverse course and start rewarding productivity, then “overall, real wealth would expand, and our society would become more vibrant. (p. 75)”

My initial response is, “Duh!” Of course government actions don’t reward productivity; they aren’t intended to! Increasing productivity is not government’s job. Government’s job is to look out for those euphemistically defined “negative externalities” that the business realm produces, things like the demise of the family farm. Now, whether saving the family farm is a worthy object of public policy is a matter for debate beyond my realm of expertise, but the intention seems obvious enough. Those who have implemented the policy feel that the social value of preserving the farming way of life is worth the decline in productivity. Everyone knows that mega-corporate farms are more efficient. But efficiency is not the only thing that makes society “more vibrant.”

This issue of the role of government in either tempering or spurring business growth relates to a concept I’ve been thinking about as I’ve watched the current government’s frantic response to an economy in a serious recession. On a number of recent occasions (bailouts for auto manufacturers in particular) I’ve been surprised by the tacit belief in trickle-down economics implied by the Democrats’ arguments. For the sake of the employees and Main Street we have to bail out the employers and Wall Street. Really? I would have expected leftists to let the bigwigs take the fall, and provide an ample safety net for anyone else taken down with them. The sight of the head of a union, the CEO of a mega-corporation and the Democratic committee chair sitting in a room more-or-less agreeing to a particular course of action seemed rather bizarre to me. Was anyone else a little nonplussed?

Examining my incredulity, I realized that to a certain extent I’ve always thought of leftists as more laissez-faire than the conservatives, ironically enough. I thought leftists shared my position that increasing productivity is not the government’s job. That, instead, government’s role is to look out for those things to which the market does not tend well—poor people, the environment, schoolchildren, etc. By implication, then, if the government is not responsible for productivity and economic growth, it must be because business is able to take care of itself. Even to take care of itself well enough to absorb some productivity drains in the name of social welfare, environmental protection, or education. I always assumed that if there were corporate favors to be doled out, they would come from the other side of the aisle, although always carefully shielded by a rhetoric of government detachment.

Was I wrong? Now, I realize my characterization of Democrats shows a certain naiveté about the pervasiveness of corporate influence in governmental affairs. But what I observed during that hearing, when UAW, GM and Congress were happily rub-a-dub-dub in the same bailout tub, was beyond shady campaign-contribution influence buying. Democrats weren’t even pretending that they didn’t want to act in the service of a multi-billion dollar multi-national. Was it always this way? Or is this some neo-liberal reversal? Was there a time (I’m imagining about 1912—Progressive Era heyday) when progressives really were as laissez-faire as I’ve always thought, and eager to do what they could to drain the corporate/conservative rub-a-dub tub?

Greg Blonder. Policy That Rewards Productivity. in Downey, Matthew. Contemporary’s Economics. Chicago: McGraw Hill Wright, 2007.

The Law of Diminishing Marginal Returns and Affluence

The Law of Diminishing Marginal Returns says that as people use more of a product or service, the satisfaction they get from each additional purchase declines. This is used to explain why demand for a product goes down as the price goes up. At a high price, I may be willing to buy a product once, but my return (satisfaction) from a repeat purchase will be too small to make me willing to pay that high price a second time. If I paid $30 for a steak dinner, I’m unlikely to order another even if I’m still hungry. However, at a lower price, the return from a repeat purchase will still be great enough to make a second or even a third purchase worth it. If I’ve only paid $4 for a Big Mac value meal, if I’m still hungry I might just go through the drive through again. So, across a whole economy, there will be many more Big Macs sold than steak dinners. Makes sense.

Clearly, this theory is meant to apply to repeat purchases of a single item, or at least purchases within a class of items that are roughly comparable. And, presumably, choices made in one sphere of consumption – say fast food consumption – would not be expected to grossly effect choices made in another sphere of consumption – say entertainment electronics. The number of Big Macs I ate today, and the diminishing marginal returns that I got for each additional Big Mac, should not have much of an effect on my willingness to pay for a big screen TV.

Or does it? If we consider categories of consumption that are different but not as different as fast food consumption versus entertainment electronics, there in fact may be a relationship. Let’s take clothing consumption and gift item consumption (by which I mean all those commemorative knick-knacks languishing in the dark corners of closets across America). Now, on immediate consideration, my demand for t-shirts would seem to be fairly independent from my demand for piña colada scented candles. But both t-shirts and piña colada scented candles are things that people buy in malls or other shopping venues where they go to shop for entertainment. And when people “go shopping” for entertainment, they usually aren’t searching for particular items, or even classes of items. What they are consuming is in large part the experience of consuming—an entertainment “service” of sorts which comes with “goods” as a bonus. What we have then is that consumption of consumer goods has a return (a level of satisfaction) above and beyond the value of the good itself—the entertainment return.

That entertainment return must be subject to the eternal law of diminishing returns, right? If I have already been shopping for most of the day and I have spent $200 on clothing, I am going to be much less likely to go into that gift store, spend a half an hour more on my feet, just to spend $15 more on that adorable little porcelain kitten for Grandma. Now the value of the good may not have changed. That porcelain kitten may be just as perfect for Grandma now as it was this morning when I entered the mall. And I may be just as willing to spend $15 on Grandma’s happiness now as I was this morning. What has diminished is the return I’m getting from the service of the shopping mall—the shopping entertainment experience. I’ve already spent $200 for the previous six hours of the shopping entertainment experience, and I don’t really want to spend $15 for an additional half an hour of porcelain knick-knack browsing bliss.

This example shows how the Law of Diminishing Marginal Returns could, in fact, apply not just to a particular item being purchased at one particular time, but could apply to overall household consumption across time. Theoretically, a household could reach a point where additional consumer goods could potentially bring satisfaction, but the diminishing marginal returns of the experience of acquiring them, storing them, cleaning them, insuring them, fixing them, building a bigger house to hold them…. starts to eat away at demand. Could it be that the spiritual ills of materialism and “affluenza” are built right into the fundamental laws of supply and demand? What does this mean, then, for an economy that is built on ever further and faster growth, which is built on ever more extensive and extravagant consumer spending?

Downey, Matthew. Contemporary’s Economics. Chicago: McGraw Hill Wright, 2007.

The Basic Economic Questions and the Meaning of Scarcity

“An economic system consists of all of the ways a nation or society uses limited resources to satisfy its people’s unlimited wants and needs. Scarcity forces nations to make tough choices. As a result, every country has to answer three basic economic questions: What goods and services will be produced? How will those goods and services be produced? For whom will they be produced? (p. 17)”

I have heard faith leaders working to end poverty say repeatedly that they come from a religiously based, philosophical assumption of abundance. God provides abundantly for God’s people. Certainly abundantly enough to meet the basic needs of all people, even if not to provide for every want. “Now to [God], who by the power at work within us is able to accomplish abundantly far more than we can ask or imagine, to [God] be glory” (Ephesians 3:20-21).

I never realized just how radical this was until reading about the economically based, philosophical assumption of scarcity that pervades the very opening lines of an introductory economics text. Abundance, as espoused by the divinely inspired anti-poverty activists, is directly contrary to the philosophical foundation of economics! Now that’s sounding pretty radical!

Economics assumes scarcity. And scarcity teaches us that there is never enough to go around; we are always confronted with “tough choices.” Scarcity teaches the sanctity of private property. If there is never enough to go around, every person had better hold tightly to what they’ve got. Scarcity teaches judgment. Any person who is not judged to be contributing to our collective (and paradoxically individual at the same time) war against scarcity deserves nothing.

But if we assume abundance, that there is always more than enough to go around, then there is no need for punitive or blaming economic/social systems. There’s only need for sharing and love and other religion-y virtues. An assumption of abundance dramatically changes the answers to the “three basic economic questions.” What goods and services will be produced? At least enough to meet everyone’s basic needs. How will those goods and services be produced? Equitably and with dignity. For whom will they be produced? For all of God’s creation, of course.

Now, there are plenty of ways to rationalize the scarcity worldview. Scarcity can make us ambitious, industrious, creative. Individual interest in private gain creates Adam Smith’s mysterious and miraculous “invisible hand” which has molded a system of efficiency and prosperity, not to mention cooperation and interdependency beyond that seen in any utopian society supposedly guided by principles of “sharing and love.” Even God would know better than to spoil creation by providing too abundantly, right?

So scarcity makes us punitive, but it makes us productive. Abundance makes us sympathetic, but it makes us sluggish. In what, then, should we trust? In an invisible God or in an invisible hand? Are good things scarce, or are they abundant, and which would we actually prefer?

Perhaps the crux of our confusion is in yet another assumption. To return to the introductory declaration of our introductory economics text: “An economic system consists of all of the ways a nation or society uses limited resources to satisfy its people’s unlimited wants and needs.” Unlimited wants and needs. Any parent can tell you that wants and needs are two fantastically different things. To satisfy a child’s every want is a) impossible and b) not very good for the mental health of either child or parent. But to satisfy a child’s every need is a) hopefully possible and b) fundamental to being a parent. In social law, we recognize a distinction between want and need, and call it criminal when parents don’t provide the latter for their children. So why wouldn’t economics make the same distinction? “Unlimited” really only applies to wants. Needs are pretty darn stable, limited by biology and broad, slow to adapt social conditions. (Admittedly, no one needed electricity before the grid was invented, but we have much less need today for candle wax and fire wood!) So if needs are limited, then abundance is possible. Our insatiable wants, however, will always require ingenuity, ambition and effort.

The hard, cold fact is that abundance does exist to cover needs. There are enough square feet and enough calories to adequately house and feed everyone in this country.* Couldn’t we loosen our grip on the scarcity doctrine enough to recognize this abundance and make basic needs a human right? The methods, of course, can and should be fiercely debated—redistribution, social control on industry, some more creative options we haven’t thought of yet… But if God is working through us to accomplish abundantly far more than we can even ask or imagine, can’t we imagine this?

*There’s enough food to feed everyone in the world!

Downey, Matthew. Contemporary’s Economics. Chicago: McGraw Hill Wright, 2007.

Finally Econ 101

So my latest project has been reading an introductory high school level economics textbook. I had so many friends in college tell me I needed to take economics, and four years later I'm finally taking their advice, on my own terms. I'm hoping that at this point, my study of the subject will be improved by a little more experience hearing from and working with the people who are left out of our current economic system. Better B.S. detectors as it were.

So, my posts here will be my reactions to what I'm reading. Some of my puzzlements may just be a result of a very shallow understanding of the subject. But hopefully some of them will also reflect a critical examination of a field with enormous importance in the world today.