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Source link: http://archive.mises.org/9221/does-depression-economics-change-the-rules/

Does “Depression Economics” Change the Rules?

January 12, 2009 by

According to our most recent Nobel laureate, Paul Krugman, we are now in a period of “depression economics,” where the standard rules don’t apply. In particular, the argument goes, when there are idle resources lying around, the traditional economic problem of scarcity disappears. The government can prime the pump by throwing borrowed money around, and this can only boost total output, because employed workers produce more than unemployed workers. FULL ARTICLE

{ 59 comments }

Paul January 12, 2009 at 9:20 am

Yay first comment.

I think Mr. Murphy was too kind, in that he didn’t dismantle each and every line of the fallacious argument of Thoma, and instead focused on the business cycle in general.

Thoma seemed to take for granted, or completely neglected, that people choose not to work for a wage below a certain amount, which doesn’t necessarily mean that there are no employment opportunities available to them at all.

Inquisitor January 12, 2009 at 10:09 am

Do Krugman and Thoma frankly believe this idiocy? Murphy should focus on Galbraith as well, since he’s getting attention too lately…

Let’s see…

“When we talk about crowding out, we mean that government spending, by using the crane, labor, etc., to build the bridge, displaces private investment. If we believe that private investment is more productive than government investment (which isn’t completely clear for a bridge if the bridge is essential infrastructure), then future growth will be lower because of the lower level of private sector investment.”

Why isn’t it “completely clear”? No, it is, it’s just we think some things are “public” goods.

“But in depression economies, things are different. The choice is not between a new bridge and a new factory, the choice is between a bridge and no bridge (you could try to induce the private sector to build a factory through tax incentives or other means, but good luck with that in a depression). [Emphasis added]”

Right… a bridge no one wants at present prices in the market economy…

What Murphy is getting at is these people do not understand the nature of non-specific human and capital resources. Specific ones bound up in the production of poor investment choices can indeed (to a degree) be targeted somewhat more easily. What about non-specific ones, such as oh, most workers? And which of these projects will be based off entirely specific FOP? None, of course. Such lunacy.

Fephisto January 12, 2009 at 10:10 am

I like the example of the dress shirts (I think it should’ve been brought up sooner, IMHO), and I’ve also been trying to find the example of the Master Builder.

Nice article.

Davorin January 12, 2009 at 10:27 am

Good article with nice examples so even a economics layman like me can follow. Speaking of examples I still remain confused with the “Houston bridge” example.


“Surely the project will draw on engineers, construction foremen, and other skilled workers, who were still gainfully employed even amidst the recession, and who therefore will not be able to work on as many private-sector projects as they otherwise would have.”

Staring with the premise that private investments are more profitable, lucrative and efficient in the long run (to which some may or may not agree, but there are hard evidences to support it so I’ll take it as an axiom rather than a premise) how do we come to the conclusion there will be workers (and/or other resources) lured away from such more prosperous projects? Surely they will stay where they currently are, receiving higher wages than if they would switch to work for state agency which will go out of business as soon as the bridge is built anyway thus leaving them unemployed again. Which in turn leaves us only with the really unemployed workers applying for the state delivered jobs, right?

I guess I’m missing some important bits here so all explanations welcome.

Thanks

gene January 12, 2009 at 11:02 am

Good article. i assume the same would go for taxpayers funding banks? let them fall? I wonder why the bridge itself isn’t questioned? why should government build it to start with? they are planning a new bridge between washington and oregon. hundreds of millions of dollars. wouldn’t the tenets of true “free trade” also be “unsubsidized” trade? when the gov builds the bridge all sorts of things are subsidized. would we be mandating fuel mileage standards if the interstate hiway system was never built by the government? would we need solar panel subsidies if the grid power system was never built by the government? Is it “economical” to burn coal because the feds have paid for a power system that makes solar “uneconomical” and we won’t subtract value from “dirty” sources? in this some “uncrossable” line in austrian economics?

(8?» January 12, 2009 at 11:03 am

Well, of course old, “normal rules” don’t apply. Why would you bother to destroy the economy merely in order to reapply old rules?

No, economies are destroyed for the very reason of having “new” ones to employ, thus saving the day. All to engender the greatest transfer of wealth (and the power it brings) ever.

And of course, to enrich and empower the court economists like Nobel laureate Krugman. On the question of does he believe his own theories, I look to what Bill Bonner has stated on the subject of this type of self-delusion. We all believe whatever we need to to believe in order to believe in who we are. Which is another way of saying most people do not believe they’re purposefully evil, but justify actions merely by their own intentions, never questioning their own beliefs, but only those of others.

Given society’s focus on consensus science (read: peer pressure) masquerading as tested science (or worse, the quantification of human science of economics as testable) it’s surprising it isn’t far, far worse.

This is what happens when cultural apathy collides with false authority. Which both happen emanate from our “prized” cultural institutions, the grand facade of integrity.

shanenwy January 12, 2009 at 11:04 am

Davorin,

Private investment is more productive because it is profit driven. Gov’t work will draw these people and resources away because there is no bottom line for gov’t. It can either offer wages and benefits in excess of market conditions and can bid more for resources. If there is a shortfall, they only have to raise taxes or wait for the printing press to warm up.
Another method is to create a regulatory/legal framework that makes private business un-profitable, causing layoffs that then flow into the gov’t work.

DD January 12, 2009 at 11:04 am

Davorin ,

The private sector jobs created by a free market are the result of consumer demand. Productivity, therfore, represents wealth creation as preceived by the various individuals, each one according to his/her subjective value scale. On the other hand, any government created job is arbitrary, and cannot represent any significant wealth creation. If it did, then the market would have created it. So you end up with jobs for the sake of jobs. these jobs must be financed with real wealth, which can only come from the productive sectors of the economy, i.e., those who actually create the wealth demanded by consumers. The final long term outcome will be that for every job created or saved by government, a productive job will be lost from the private sector. As long as these jobs are artificially maintained by government, resources will continue to be misallocated from the private sector into the wasteful public sector. Great plan for economic recover!

Russell January 12, 2009 at 11:09 am

Private industry is indeed more EFFICIENT than government-directed industry, but it’s never been the case that all private industry is more LUCRATIVE (for a particular individual) than government-directed industry. There are loads of examples of government employees (and also government-contracted employees) making far more money than they could in the private sector. If gov’t can make the mistake of paying $400 for a hammer, they can (and do) make the mistake of paying too much for labor as well.

R January 12, 2009 at 11:32 am

Here’s a more layman’s example for Davorin’s bridge question.

Imagine the engineering firm is running pretty lean due to recession, but still hanging on. A private firm that wants to use their services may be able to negotiate a lower price for the engineering services since the engineering firm is “hungry” for business. That lower price for engineering services makes the private firm’s project possible.

If, instead, government hands the engineering firm a large contract, the private firm won’t have the negotiating leverage to get a lower price on the engineering firm’s services. This may make the private firm’s project infeasible. Therefore the private firm’s project was crowded out by the government contract.

Joe January 12, 2009 at 11:47 am

It is my opinion that the “standard rules” are actually more pronounced during a recession or even a depression than at any other time. In fact, we are seeing it now. People have become really concerned about their current employment status so in an attempt to make themselves more of an asset to the company they work for they take on much more than they normally would. This is an asset to the company that is struggling to stay afloat and is especially true during a recession. Still others who are currently studying for their first career see their dwindling prospects and work harder at their coursework so that when opportunities do arise they are at the top of the heap. I see this everyday now. When Government enters the forum the competition between companies increases because now they have another competitor to contend with and it is one without limit. Those private companies simply cannot compete against a limitless Government who can at will raise wages or offer benefits to whatever they see fit. The Government takes the best candidates available because those candidates know that the Government cannot go under like a private company can. When this happens the private sector companies are left with a large pool of mediocre or even substandard candidates who probably can barely do the job. Needless to say, when the Government enters as a competitor the odds of a company surviving is very limited as their product or service offered is greatly reduced. In the end, we are left with a very large Government and even fewer companies.

Inquisitor January 12, 2009 at 11:58 am

“Private investment is more productive because it is profit driven. Gov’t work will draw these people and resources away because there is no bottom line for gov’t. It can either offer wages and benefits in excess of market conditions and can bid more for resources. If there is a shortfall, they only have to raise taxes or wait for the printing press to warm up.”

Not to mention the calculation problem in some cases where private ownership is severely restricted.

Inquisitor January 12, 2009 at 12:01 pm

Gene, I think other Austrians have grasped and attacked these issues (e.g. Rothbard, Block, Hoppe &c. have eviscerated the “public goods” doctrine, and economic historians like Higgs have been critical of gov’t subsidies), but I think in this piece Murphy did well enough in his analysis. The article would’ve just been unnecessarily longer otherwise, though perhaps he could’ve referred the reader to Hoppe on public goods in a footnote.

Joe January 12, 2009 at 12:15 pm

To me, Krugman and Thoma’s “depression economics” would be like watching a professional football team enter into the pee wee league. Everyone knows the professional team (the Government) is going to run over the pee wee teams (private companies) without limit so everyone cheers them on. Besides, who in their right mind would want to play for a pee wee team when they are facing that sort of competition? I wouldn’t. So its only natural that people try to get on the winning side.

Stanley Pinchak January 12, 2009 at 12:17 pm

Inquisitor,
Care to share a choice link or two with respect to Hoppe on public goods? Thanks.

Inquisitor January 12, 2009 at 12:26 pm

This is the main one:
http://mises.org/journals/jls/9_1/9_1_2.pdf

It has a large collection of other materials in it too. There’s a great article that deconstructs the public good paradigm as nothing but transaction costs, so I’ll see if I can find it later.

Eric January 12, 2009 at 12:31 pm

How will the bridge be built if qualified bridge builders are not employed? And where are they going to come from – reprogramming unemployed bankers and real estate brokers?

The Krugman et. al. public bridge building scenario assumes that all the unemployed have some skills to offer in bridge building and will be the ones offered the new jobs. It completely ignores such issues as training, some of which might involve decades of schooling. As Murphy says, some of the unemployed may find their former skills are of no market value in the area of bridge building.

ASSUMING they are actually trying to build a new bridge vs. just creating make work (a big assumption), they have to find someone who knows how to build bridges. If there are unemployed bridge builders sitting idle, these bridge builders must be the bottom of the barrel in terms of bridge building skills, or they would have been employed elsewhere.

Therefore highly skilled bridge builders, not just the ones that are unemployed, must be bid away from other areas, including bridge builders in other cities. To entice these experts the new project has to offer better employment opportunities than the existing market.

So, it seems clear that it won’t be just the unemployed that are recruited for this bridge project, as Murphy writes.

As usual , the flaws in Krugman’s argument can be seen through the light of Hazlett’s “economics in one lesson” where one has to look at all effects over all time and not just effects that can be seen today in one area.

Robert A. Meyer January 12, 2009 at 12:56 pm

Robert,

Another well-reasoned and logical article. And this is precisely why your arguments won’t catch on with the masses. Don’t you know that they prefer their daily dose of illusion. They would rather escape into “reality” television or their favorite crime show. If they can pull themselves away from these mind-numbing means of entertainment—they might go as far as reading the meanderings of quacks such as Krugman and Galbraith.

What altruists, politicians and irrationally selfish individuals refuse to acknowledge is that Economic Law is eternal and unchanging. They would rather believe in the illusion that it is possible to receive something without giving any value in return.

Following is my attempt to supply a simple explanation why governments cannot create jobs—so even the lazy “thinker” can grasp it

Governmental Methods of Raising Capital

Governments have basically only three methods to acquire the capital needed to create jobs.

1. They raise it through taxation.
2. They create money out of thin air.
3. They sell bonds on the open market.

It should be evident that the government method of raising capital siphons it from the marketplace. If it raises capital through taxation, it diminishes the taxpayers’ ability to consume goods and services—and decreases their ability to save money. And you know what? Economic improvement is only possible through more savings and investment per capita—the only method of job and wealth creation.

If government inflates the money supply to create jobs it causes artificial booms on the marketplace. All artificial booms divert production from the consumers’ most urgent desires into projects that are lower on the consumers’ scale of values. In other words, inflation fosters mal-investments—projects that can’t be sustained. The boom suddenly transforms into a bust, causing widespread unemployment.

Inflation also devalues the purchasing power of the currency. This means a person’s savings is worth less. Less savings and investment per capita means diminished prosperity resulting in the job creation process slowing down.

When the government sells bonds on the open market it is removing money from the marketplace. The result: It diverts savings from profitable free enterprise ventures into government coffers—a tragedy that is occurring as investors seek “safety” in government T-Bills (Treasury Bills).

Darn, what I wrote scored a 46 Flesch reading ease scale—10.3 grade level. I wonder if it is possible to write an economic treatise at the level of a “Dick and Jane reader”. You know. “See Bernanke spend. Watch Obama create jobs. Hear politicians lie. John and Mary are broke. Economy fell down.”

Hey, I just raised this to a 52.4 on the Flesch scale and lowered it to a 9 grade level.

Gary G. January 12, 2009 at 1:02 pm

It is simple to me. Even if truly idle workers are used,it doesn’t matter, they still have to be paid. As Hazlitt said, the only way to create real jobs is to increase production. And to increase production, one must increase capital. Now this capital comes from peoples savings (which is what people are now trying to do), but the government wants to steal that savings to create jobs. Hum!

billwald January 12, 2009 at 1:33 pm

If private construction is all that more efficient than government construction then where are the proposals from private industry to build freeways and whatever?

Seattle has been arguing about replacing the Alaskan Way Viaduct since the last big earthquake. I haven’t read of a single proposal by a private investor. The Viaduct goes over prime real estate that is used mostly for street level parking.

Matt R. January 12, 2009 at 1:39 pm

billwald,

Here’s a good article on private construction.

http://www.reason.org/pb58_building_new_roads.pdf

Michael A. Clem January 12, 2009 at 2:40 pm

The very fact that government efforts are ineffective during a financial crisis is the surest sign that the “rules” are still in place. Assuming that we’re talking about economic laws, and not government economic policy, that is.

joebhed January 12, 2009 at 4:02 pm

central government planner here

I was going to weigh in on this, you know, given that I had to actually raise money for (re)building a bridge, along with a flood control dam, so that real people could actually get to work in rural America, but, you know, you guys are all too smart.

I am sure that, had we not got the entire community to approve the raising of this money, the efficient laws of economics would have sooner or later provided that someday somebody would have deemed it profitable to rebuild that bridge, and those hard-working folks could have just gone back to the old ferry in the meantime. If they could find one.

And, of course, given that it was government work, we needed to have open competitive bids from private contractors to actually do the work, granted that they all needed to pay competitive D-B wages to the skilled masters of their crafts.

But I decided I better wait for somebody to claim that the FED was a government agency again.

gethky January 12, 2009 at 4:31 pm

The Bush and the Obama bailout plans are bound to prolong the recession/depression. It is shear folly to bail out incompetent/crooked bankers and borrowers. An efficient economy works best in both the short and the long term. Government intervention does not an efficient economy make!

The real problem, however, is that the present diminished production of consumer goods no longer contributes much to this economy thereby excluding millions from participating in the one positive economic activity, i.e., creating wealth by changing raw material into desired items. For this economic activity to flourish requires a minimum of government interference, but, alas, the genie is out of the bottle!

For China, with its vast labor pool, is rapidly industrializing. So, any regaining of the previous productive capacity here must be in competition with China and that will result in a levelling of the living standard here with that of China.

This, then, is the real cause of the present economic recession/depression. The subprime mortgage fiasco, however, was only the symptom caused by the Federal Reserve trying to solve the real problem of a declining economy by drastically lowering the prime interest rate beginning about 2001. This very low prime rate, in turn, caused mortgage resales to be extraordinarily profitable and led to the subprime mortgage crises.

Therefore, the real solution is (1.) to drastically cut government expenses and (2.) to eliminate all types of economic interference in the economy such as taxes and regulations and (3.) to go back to a gold monetary standard and (4.) to repudiate the national debt.

Since the real solution will no doubt never be seriously addressed and since it is January, I predict the U.S. economy will go the way of Zimbabwe’s economy.

Inquisitor January 12, 2009 at 4:42 pm

“I was going to weigh in on this, you know, given that I had to actually raise money for (re)building a bridge, along with a flood control dam, so that real people could actually get to work in rural America, but, you know, you guys are all too smart.”

My, what a cute attempt at snide sarcasm. Too bad we are too smart so that the little act doesn’t work. And yes, the Fed is most certainly empowered by the government, whether or not it’s an “agency” of its. Again, what do private contractors have to do with anything, when the government’s source of money is virtually unlimited? The closer it approximates business, the more the argument for gov’t “planning” falls to shambles…

andy January 12, 2009 at 5:17 pm

Another interesting point of view is when considering the ‘real’ flows. Some part of the economy is NOT idle during the crisis. People still posses capital goods and some still exchange the fruits of their work with some real goods being produced.

As for the capital goods/natural resources: these resources are idle either because the owner thinks it will be more valuable in the future – or, much more likely, because the complementary factors are too expensive.

Now the government comes and decides to build the bridge. Let’s really assume that only idle resources are going to be used.

First let’s consider capital goods: if the resource is idle because the owner speculates on future price rise, the government will misallocate the resource.

If the natural resource is idle because the price of complementary factors (usually work) is too high, the government will break the price mechanism by intervention.

Now let’s consider only the change of real goods concerning the ‘idle’ worker. The workers were not paid before, therefore no real goods was flowing to them. The government changes the flow of goods in the real economy. It either diverts the produced goods from the former consumers which effectively lowers the ‘buying power’ of the former ‘functioning part of economy’ (‘buing power’ = ‘what was produced’ – part of which was diverted to the ‘idle workers’, which means that the aggregate demand DID LOWER in formerly functioning economy – which will lead to bankruptcies/lower production).

It is actually the same, as if somebody in the formerly functioning economy decided to invest into the bridge: he would have diverted his demand which would cause bankruptcy of until-now functioning companies (unless they lowered the prices of their input factors).

Alternatively, the government could cause some owners of some goods/resources (that will be directed to the bridge wokrers), whose goods is idle, to employ it. But this would most probably lead to malinvestment.

If the government wants to build a bridge, the easiest thing it could do is simply sell the thing/area to some private firm and let them charge the toll. There is absolutely no argument that the bridge is public good: IT IS NOT. You CAN definitely charge for use and it IS a scarce resource.

IMO the problem with infrastructure is, that there is already quite a lot of infrastructure around. Therefore the value of the new infrastructure is mostly derived from the difference between old and new infrastructure. It seems to me that considering the current economic woes, the current infrastructure could server reasonably well and the cost will simply not outweigh the benefits.

Which leads me to the conclusion: the result of the government ‘stimulus’ has only 2 effects: crowding out and malinvestment.

alan January 12, 2009 at 6:05 pm

Great article. Let me however offer two points to cloud its conclusions. First, the long term investment based on short duration jobs is what firms do all of the time as exemplified by Friedman’s pencil story. The suppliers along the chain are largely ignorant about the cause and nature of the lift in demand to which they are responding, since all they see is the price signal.

Secondly, it is clear that interventions in the 1930s retarded recovery but recovery did in fact arrive once WWII got going. How can we argue that this did not take place as a result of some form of preference shift, including a change in savings and consumption, as well as a reduction in productive manpower and fiscal stimulus?

Tom Human January 12, 2009 at 6:21 pm

Hello again.

I have some issues with your rebuttal of the original article (though I have some disputes with the article too).

Let’s look at your first argument, “Government “Smart” Stimulus Can’t Target Only Idle Resources”. While this is clearly true, surely if markets are reasonably efficient, resources, both capital and not, will shift to adjust for any terrible imbalances here. I’m interested to see a realistic scenario where this is impossible.

I’d also suggest that this problem is one that is actually targetable by actually having reliable demographic information.

Let’s go on to your “idle resources aren’t bad” theory.

First, this is clearly untrue for resources that have a positive “real value” but are being closed due to arbitrary capital limitations. If my factory needs a million dollars in operating capital but turns $100,000 net profit a year, there’s no possible economic model where it doesn’t make sense to raise the million and run the company.

I think you’d have to agree with this, particularly if I allowed you to set the definition of “real value”, so we’re talking now about businesses and organizations that are not economic to run – businesses that are so marginally profitable that their return on investment is too low, or businesses that sustain losses – business with “negative real value”.

There are many of these businesses in America, due unfortunately to the deregulation that has allowed businesses to both lie by omission and to leverage themselves to an astonishing degree, and well as a collapse of the actual enforcement of the regulations that allowed thousands of companies to commit what are undoubtedly felonies where they knowingly represented excrement as gold for years at a time. (A true “free market” requires enforced, strong openness, which requires regulation. Who has time to do due diligence with each counterparty?)

Many of these businesses must be forced to liquidate in an orderly fashion. In fact, I’d argue that the businesses that have been rescued so far, the financial institutions, should have been the first to go, both to send a message to the others that malfeasance would not be tolerated, and because these businesses employ a comparatively small number of individuals.

However, for most non-financial, bricks-and-mortar based businesses, it takes years to start a new instance. If you allowed every business with negative value to collapse overnight, you’d be throwing literally millions of American workers out of work for years. Exactly what are they do to eat during this time?

No government can allow millions of their citizens to become paupers overnight. Moreover, if you work out the mathematics, you can see that the second-order effects show that this is very destructive to capital – “when the factory closes, all the other businesses close too”. Much better for the government to take over the factory, run it at a loss and slowly close it down or shift it to something else.

This is not core to your argument, but I’d like to point out that one of your key examples displays a certain lack of practical experience.

“If a restaurant owner discontinues his expansion because demand has collapsed, how does Thoma’s bridge project change things? The restaurant owner isn’t going to make a long-term investment based on the business of bridge workers, since they will be out of work once the bridge is finished.”

In the real world, things are the reverse of your story. In fact, it’s quite common for people to set up a brand-new restaurant near a bridge, let alone expand an existing business. The point is that bridge projects last a long time, and you could easily pay for the expansion or even new construction in the first year or two if you had a lock on the market.

I believe what you fail to grasp in this example is how efficient and flexible the economic system is in this sort of small scale, individual basis, and how inflexible it is on a large scale basis. Allowing large businesses to die and hoping the capital will reorganize to start another one is rather like having your child die with the expectation that you’ll have another one who’s more healthy.

Thanks again for the article, for reading my screed, and for providing an only-censored-against-morons site where I can say things that I think you probably won’t agree with.

Eric January 12, 2009 at 6:23 pm

Alan,

What do you mean by recovery? Jobs for everyone?

If we have huge unemployment, and we make it illegal and put all the unemployed in jail making license plates – and call this a job, then you can have a recovery very quickly – if things like unemployment are your measure of a recession.

Actually, I think going to jail would probably be better than getting drafted and forced at the point of a gun to kill or be killed over some useless hill. This is where all the unemployment went in WWII. And those that remained at home couldn’t buy anything, so how can you call that a recovery.

I think you are succumbing to the broken window fallacy.

alan January 12, 2009 at 6:36 pm

Eric,
I am subscribing to no fallacy. I am merely seeking to tease out extreme conditions under which the liquidity trap theory could be said to apply and am happy to hear how I am wrong. It is doubtless true is it not that the US pulled out of depression with WWII and went on to enjoy the most sustained period of growth in 80 years and that the fiscal stimulus of loans and deficits was the cause? There is no point in talking about useless hills to refutge this unless you are saying that such stimulus can in fact work but only in situations that are highly unpalletable.

Alan

Stanley Pinchak January 12, 2009 at 7:30 pm

alan,
slavery is not unemployment, but it is also not willing employment in the sense of unemployment statistics. Any thorough examination of the Great Depression would clearly show that despite a drop in unemployment figures during the draft years, real economic recovery did not occur until FDR died. How can productivity rebound to pre crash levels if you remove the most productive members of the work force and send them on a mission of pure, unadulterated consumption. Furthermore, how can GDP, which includes government spending, be said to accurately measure the economy when there is massive governmental spending on consumable war material and a command economy which denies consumer preference.

Please listen to Robert Higgs for a more thorough understanding of the stages of the great depression and economic recovery.

Eric January 12, 2009 at 7:36 pm

Alan,

I was responding to the “myth” that WWII got us out of the depression. My point was that WWII was worse than the depression – unless you had political connections – at least during the depression you were not a slave of the government killing machine.

That WWII is considered the “good” war is ignoring how that war merely replaced one sick dictator with another paranoid dictator (who killed more people than anyone in history) and we also provided this dictator with nuclear weapons (though we didn’t mean to). I refer to mad dog Stalin – or as FDR called him, Uncle Joe.

I think you should look again at what you are calling 80 years of sustained growth, unless you mean a different century. I’m in my 60′s and I remember that every few years there was a recession and my father was unemployed, and during one period in my life I experienced quite high price inflation. It was so high, that I began to read books written by Milton Friedman and later Mises and Rothbard.

Now it is true that there were lots of technical advances during this time, and most of these were because of business – despite the interference from government.

The personal computer and related industries have had the most growth (and lowest prices) of any industry. The reason is because that industry has had the least regulation of any – although that is sadly changing with all the software patents causing problems.

Contrast computers with television. TV is highly regulated and has had only 2 advances in 70 years – color and HD. It is completely controlled by people with political connections. Can you start your own TV station?

If we had regulations for computers like we do with TV, then all computers would be illegal if they weren’t still compatible with the earliest versions of MSDOS. And every blog site would have to provide free space for a million alternate opinions.

If we had food boards deciding what food were on supermarket shelves, like we have school boards deciding what books our children can read, we’d all be starving.

Gil January 12, 2009 at 8:11 pm

“Contrast computers with television. TV is highly regulated and has had only 2 advances in 70 years – color and HD.”

Ever thought this problem is due to the Law of Diminishing Returns? Going from a black&white TV to a colour TV is a big deal. Going from a CRT TV to a flat-panel TV isn’t such a big deal nor is going from a standard definition TV to high definition.

joebhed January 12, 2009 at 8:19 pm

Inq

Thanks for being so civil.
Keeping with the ‘bridge’ example and, of course, the money.
The demand for building the bridge came from the people who needed to use it.
The matter of the payment for the labor and materials needed to build the bridge was decided in a democratic fashion among the people who would pay for it.
I know democracy sucks, but, we needed a bridge and not some theoretical economic discussion.

The matter of who was going to pay what to get a bridge built was in place.
“Here’s the bridge”.
“Here’s the money”.
It should end right there, money being the medium of exchange.

But money is a privately controlled commodity.
What money?
The money you need to borrow to pay for the bridge.
Under the debt-money system of the private federal reserve bankers, the sum needed to pay for the bridge was created out of thin air, and the people who needed the bridge, and the people that agreed to pay for it, were forced to pay for that bridge three times over as a result.
The money was created out of thin air.
By the private federal reserve bankers.
Repayable, with interest, to those private federal reserve bankers.
It was not somebody’s money that they invested in the bridge.
Under a Treasury-issue, debt-free money system, the people would pay once for the bridge, and keep the other two payments for buying something other than the use of money.
That is created out of thin air.

I never said the FED wasn’t ‘empowered’ by the government.
I completely agree, and that is the problem.
If the government took that power back, and issued its own money, then we pay for bridges and for groceries once, rather than three times.
Let bankers lend real money.
A la Mr. Friedman.

Grant January 12, 2009 at 10:21 pm

The best model for viewing public goods (or indeed any externality) that I’ve read is Coasian in origin:
http://www.sp.uconn.edu/~wwwciom/Dahlman.pdf

Public goods are “under-provided” because of transaction costs. Transactions use scarce resources like anything else, so large, collaboratively-funded projects (as public goods tend to be) can sometimes face prohibitively high transaction costs. Consumers may prefer to consume private goods with lower transaction costs than a public good with higher costs. There is nothing wrong with this, in fact it is a good thing: the market is making the best of scarce resources.

I suspect that the governments can, at the margin, coordinate the funding of public goods much more cheaply than our current crop of market institutions; i.e. government’s transaction costs are lower, meaning it could (if it had the information and incentives to do so) better provide for the public goods of consumers than the consumers could themselves (again, given our current institutions).

There are however (mostly-untested) market institutions that can reduce the transaction costs of providing public goods as well. They don’t suffer from the sort of incentive and informational problems governments face when tasked when providing public goods. Given that government itself does not solve the public goods coordination problem (as “good government” simply becomes a public good), I have more faith in market institutions to tackle public goods problems.

Eric January 12, 2009 at 11:07 pm

Gil,

My analysis is simply that in the world of computers, there are no government regulations that require new computer monitors to have any particular resolutions.

With TV, the particular resolutions were mandated (well, as far as I know) in that you could not get a license to transmit tv pictures that made existing TVs obsolete. This is not the case with computers, and so many monitors were called multi-sync, and now with flat screens, there still are no mandated resolutions.

In essence, the government has decided for all of us that compatibility trumped innovation – in the area of broadcast tv.

In computers, w/o any such mandates, we see constant innovation. While some lament this ongoing march that so often makes older computer technology obsolete, one cannot deny that the consumer has voted innovation trumps compatibility by voting with dollars.

Gil January 12, 2009 at 11:26 pm

What are you talking of Eric? Is there a government mandate dictating TV pixel resolution? I thought TV and PC monitor makers can make ‘em whatever they want – the video signal can up upscaled or downscaled to match the resolution. Likewise how are ‘existing TVs’ obsolete exactly? Don’t they just require a set-top box? Don’t pay TV providers likewise restrict their signal because you need their special decoder box?

I was merely arguing TV technology hasn’t gone very far because there’s not much more that can be done to improve TV quality just as the technological innovation in shoes hasn’t changed much because not much more you can do with shoes.

Eric January 12, 2009 at 11:56 pm

Gil,

“What are you talking of Eric? Is there a government mandate dictating TV pixel resolution? ”

Yes, as far as I know (correct me if I’m wrong) but to broadcast TV in the US, one must adhere to the standards – NTSC (PAL in Europe). I think the FCC created the standards, or at least enforced them.

If I recall, the FCC was involved in decisions regarding the format of HD as well. I don’t know the exact law however. Of course, we now see that all TV broadcasts will have to be digital next month or so. And presumably, the FCC defines what digital means in this regard. I would think that the signal will not be allowed to change format w/o FCC approval – and as I said, they prefer compatibility over inovation.

Doesn’t it seem a bit silly that the government should be paying for us to get those $40 digital converter boxes? We apparently have more government rights to a tv than to own a gun.

But clearly, with computers, there were no laws or regulations, and we saw all sorts of pixel definitions and signal variations.

OH, I guess tv also finally went stereo sometime in the 80′s or 90′s. But that still had to be compatible with mono tv’s or I bet it would have been illegal.

andy January 13, 2009 at 3:08 am

Tom..

“Exactly what are they do to eat during this time?”

How exactly is wasting resources going to help here?

andy January 13, 2009 at 3:21 am

Grant,

“I suspect that the governments can, at the margin, coordinate the funding of public goods much more cheaply than our current crop of market institutions; i.e. government’s transaction costs are lower, meaning it could (if it had the information and incentives to do so) better provide for the public goods of consumers than the consumers could themselves (again, given our current institutions).”

Why are the transaction cost high? Walking around people in your neighborhood and collecting money is quite cheap actually. The problem is that most people would not give you sufficient money to build the ‘public good’. They would require some assurances, profit etc. – which with some types of goods (arguably with the public ones) raises the cost.

Why do people require it? In order not to waste resources. Said in other words: the transaction cost is high because people think they need to do certain things in order to assure that the investment (into the public good) is justified.

The government involvement in public goods is: we will not try to figure out if the investment makes sense (which costs money), therefore we could provide the public good cheaper. But you don’t know if you want to provide the public good in the first place…

Inquisitor January 13, 2009 at 4:06 am

“Thanks for being so civil.”
You’re welcome.
WKeeping with the ‘bridge’ example and, of course, the money.
The demand for building the bridge came from the people who needed to use it.
The matter of the payment for the labor and materials needed to build the bridge was decided in a democratic fashion among the people who would pay for it.
I know democracy sucks, but, we needed a bridge and not some theoretical economic discussion.”

No, basically they got pissy that the market had a higher price than what they were willing to fork out of their pockets, so they decided to force everyone involved to pay. That is the problem.

Grant, if consumers think “government” can lower transaction costs, they can arrange for one amongst them and them alone to rob them to finance it. They need not involve non-consenting parties. Which, kind of invalidates the whole idea…

Now to Tom…

“Let’s look at your first argument, “Government “Smart” Stimulus Can’t Target Only Idle Resources”. While this is clearly true, surely if markets are reasonably efficient, resources, both capital and not, will shift to adjust for any terrible imbalances here. I’m interested to see a realistic scenario where this is impossible.”

Already been demonstrated. Just saying “markets will adjust to wastage of capital” does not undo the fact that said wastage is, well, wastage…

“I’d also suggest that this problem is one that is actually targetable by actually having reliable demographic information.”

No, not really. If you think that that is possible, you vastly underestimate the complexity of the structure of capital goods.

“First, this is clearly untrue for resources that have a positive “real value” but are being closed due to arbitrary capital limitations. If my factory needs a million dollars in operating capital but turns $100,000 net profit a year, there’s no possible economic model where it doesn’t make sense to raise the million and run the company.”

Then do so with your own cash.

“There are many of these businesses in America, due unfortunately to the deregulation that has allowed businesses to both lie by omission and to leverage themselves to an astonishing degree,”

Yes, obviously that’s the core problem… the “deregulation”.

” and well as a collapse of the actual enforcement of the regulations that allowed thousands of companies to commit what are undoubtedly felonies where they knowingly represented excrement as gold for years at a time. (A true “free market” requires enforced, strong openness, which requires regulation. Who has time to do due diligence with each counterparty?)”

Who will regulate the government, though? Actually, it needs to get out of the way and allow for market-driven regulation to revive itself.

“However, for most non-financial, bricks-and-mortar based businesses, it takes years to start a new instance. If you allowed every business with negative value to collapse overnight, you’d be throwing literally millions of American workers out of work for years. Exactly what are they do to eat during this time?”

Who knows and who cares, exactly? Either they make themselves useful, or they sit “idle” until they become useful. Why should one prop up failed businesses that cannot earn their buck voluntarily?

“Much better for the government to take over the factory, run it at a loss and slowly close it down or shift it to something else.”

No, much better for you to hold a fundraiser and beg for money to do this. Stop trying to justify theft based on your own preferences.

“In the real world, things are the reverse of your story. In fact, it’s quite common for people to set up a brand-new restaurant near a bridge, let alone expand an existing business. The point is that bridge projects last a long time, and you could easily pay for the expansion or even new construction in the first year or two if you had a lock on the market.”

Ugh, how does this refute anything he said? The same could’ve been said of the private funds that are now being whittled away…

“I believe what you fail to grasp in this example is how efficient and flexible the economic system is in this sort of small scale, individual basis, and how inflexible it is on a large scale basis. Allowing large businesses to die and hoping the capital will reorganize to start another one is rather like having your child die with the expectation that you’ll have another one who’s more healthy.”

Yawn, there we go with the weak, invalid analogies. Look, if you think businesses are “worth saving”, go hold a fundraiser and stop forcing people who do not believe so.

Inquisitor January 13, 2009 at 4:16 am

“Why do people require it? In order not to waste resources. Said in other words: the transaction cost is high because people think they need to do certain things in order to assure that the investment (into the public good) is justified.”

Obviously consumers are irrational and need the government to think and act for them.

Grant January 13, 2009 at 5:06 am

andy & Inquisitor,

The key words in my post were “at the margin”, which is where most people’s reasoning takes place. Yes the needed institutions (financial markets that deal in assurance contracts, lets say) could be created to finance public goods voluntarily, but government already exists. It is very cheap for government to allocate tax funds into some project or other. For those people who like to ignore the information and incentive problems facing governments, its very easy for them to propose government projects as a solution to the high transaction costs of many public goods.

The Dahlman paper deals with all of this; it is really quite excellent.

David January 13, 2009 at 6:52 am

Great article and I believe you turn the argument on its head. Governmments hiring unemployed workers do so at the expense of the private sector.

The private sector will reduce pay levels and in the process reduce their product prices, stimulating demand and so stimulating the appetite for an increased workforce.

All of this process benefits society including export prices.

Governments hiring unemployed workers interfere with the pricing process for labour and thus the recovery by directly competing for labour and increasing incomes.

Inquisitor January 13, 2009 at 7:05 am

Grant, I’ve read the article. If people had a right to opt out, I’d say fine, but they don’t.

Bill Anderson January 13, 2009 at 8:46 am

The important thing here is that Murphy zeros in on the issue of causality. Bob says that resources are idle because those resources were malinvested during the boom and now need either to be liquidated or transferred to other uses.

Krugman, on the other hand, says they are idle because of “insufficient consumption.” In other words, consumers no longer are spending enough money to keep that “perpetual motion machine” known as a Keynesian economy going. Thus, government fills in the gap by spending.

This latter argument ignores capital and it makes the assumption that government spending makes a better contribution to economic growth than does anything else. Of course, here is an economist who simply defines “growth” as an increase in GDP numbers. Thus, World War II, with all its deprivation on the home front and mayhem abroad actually was a good thing for the economy, since it raised GDP numbers.

This is not simply bad economics; it is madness; it is destructive. That is why I have said so many times that Krugman is NOT an economist. He is a political operative, pure and simple.

Tom Human January 13, 2009 at 10:33 am

On “wastage”.

I believe I did cover this issue in my original argument.

Remember, I divided business into two classes, businesses that aren’t economic to run, which either run at a loss or don’t generate enough profit to justify their capital investment, and economically profitable businesses.

No one objected to my claim that it’s logical to provide capital for economically profitable businesses if they are going to close their doors due to technical problems in the capital markets – does anyone? This is like picking up free money in the street.

“Wastage” definitely refers to the inadequately profitable businesses, am I right?

But consider that if the business is only marginally unprofitable, there might be a large net real profit to the government to picking the business up and running it – because the taxes from the workers more than outweigh the losses incurred.

Even if the business is bad enough that it must inevitably fail, there may be large advantages for the goverment in taking the business over and smoothly shutting it down over months or years as opposed to letting it collapse overnight.

Sudden events like a large business closing overnight destroy huge quantities of capital in a small area – not just the business itself but all the secondary and tertiary businesses that have grown up as well as property values in general. Tremendous difficulties are inflicted on individuals, workers who have been making “best economic decisions” but are overwhelmed by forces of great magnitude.

One of government’s great roles is in providing stability for individuals. For rational people, stability (“Will my family eat?”) trumps economic growth (“Will we get a better car?”)

While of course there will always be individual tragedies which cannot be prevented by government, if all at once millions of hard-working individuals are suddenly unable to work the government has failed at its job.

Yes, I understand you don’t think this is the government’s job. But the free market side’s only response seems to be that “these things happen” which ignores that fact that bubbles and crashes are characteristic of unregulated markets only.

Most people don’t want this at all. They want a chance to grow and thrive and raise a family and take moderate risks to grow their career.

It is one of the tragedies of the free market that this majority periodically experience great hardships because a small number of mentally unbalanced individuals, psychotically obsessed with profits over human interactions, take huge, irrational risks in unregulated markets for pursuit of geometrically increasing profits, knowing full well that they personally will experience few significant repercussions when their speculations finally and inevitably fail.

Thanks again for the soapbox!

Inquisitor January 13, 2009 at 10:54 am

“Remember, I divided business into two classes, businesses that aren’t economic to run, which either run at a loss or don’t generate enough profit to justify their capital investment, and economically profitable businesses.”

No, waste in this case would be the violation of consumer preferences and the utilization of resources in suboptimal roles. It need not imply a firm making a loss, just resources being diverted from more to less profitable roles… it might mean not using a resource at all until market conditions warrant it.

“No one objected to my claim that it’s logical to provide capital for economically profitable businesses if they are going to close their doors due to technical problems in the capital markets – does anyone? This is like picking up free money in the street.”

What are “technical problems” in capital markets? If these firms are truly profitable but for these “problems” then why not fund them yourself?

“But consider that if the business is only marginally unprofitable, there might be a large net real profit to the government to picking the business up and running it – because the taxes from the workers more than outweigh the losses incurred.”

I don’t care for increasing the government’s ability to fleece workers, and if there is indeed a real profit to be had (other than by stealing from the participants involved) the private sector can attend to it. Otherwise, there is no one who wishes to at current economic conditions. It is still diverting economic resources from the private sector, and not just specific ones but especially non-specific ones.

“Even if the business is bad enough that it must inevitably fail, there may be large advantages for the goverment in taking the business over and smoothly shutting it down over months or years as opposed to letting it collapse overnight.”

Ipse dixit. All it is is prolonged theft/inefficiency in the market.

“Sudden events like a large business closing overnight destroy huge quantities of capital in a small area – not just the business itself but all the secondary and tertiary businesses that have grown up as well as property values in general. Tremendous difficulties are inflicted on individuals, workers who have been making “best economic decisions” but are overwhelmed by forces of great magnitude.”

Again, if you believe this do some fundraising. Stop forcing people who do not believe the risk/cost is worth it to finance your preferences.

“One of government’s great roles is in providing stability for individuals. For rational people, stability (“Will my family eat?”) trumps economic growth (“Will we get a better car?”)”

Read: for people with high time preferences, impatience justifies theft. Yeah.

“Yes, I understand you don’t think this is the government’s job. But the free market side’s only response seems to be that “these things happen” which ignores that fact that bubbles and crashes are characteristic of unregulated markets only.”

Spare me this bullshit. You’ve not done one thing to demonstrate this, other than blather on demonstrating an utter ignorance of economics. Please address the ABCT before asserting this “deregulation” canard. Even Krugman can come up with this rubbish. And please stop lying, ignoring the fact that financial markets are some of the most heavily regulated.

“It is one of the tragedies of the free market that this majority periodically experience great hardships because a small number of mentally unbalanced individuals, psychotically obsessed with profits over human interactions, take huge, irrational risks in unregulated markets for pursuit of geometrically increasing profits, knowing full well that they personally will experience few significant repercussions when their speculations finally and inevitably fail.”

It’s a tragedy that mentally imbalanced individuals still propose to “regulate” the market, like monkeys with wrenches, and that some in fact do this.

Stanley Pinchak January 13, 2009 at 1:22 pm

Tom Human,
You miss all of what is unseen in your example of the government taking over a large sumbarginal business. All you see is the immediate effect of the workers keeping their pre takeover pay checks. What you do not see is the effect of the taxation on the surviving market participants, the effect of this wage prop on the prices of goods, punishing the marginal workers and businesses, and the misallocations of labor and capital that result from this governmental intervention.

What you propose is essentially what happened during the Great Depression, at first the government exhorted businesses to maintain wage rates and cut into profits. While this maintained wages for a while, it did not allow them to adjust to the reduced discounted marginal revenue product available from the final sales of goods to consumers as monetary deflation from failing banks and business loans accelerated raising the purchasing power of money and consequently resulting in a falling price of goods. Further compounding this was share the work baloney which reduced the supra-marginal worker’s take home pay and left him in as dire of straits as the sub-marginal worker with whom he worked. Instead of the effect of a large pool of labor willing to work for reduced wages, helping ro adjust the market to the prevailing monetary conditions, the share the work prevented wages from dropping and led to the impoverishment of all workers. Eventually even large and formerly healthy firms had to go looking to the government for subsidies. Things got so bad that price and wage controls were enforced, rationing was instituted, and the economy was turned into essentially a fascist system.

Your proposal speeds us on the way to fascism, or corporatism. Despite the few jobs that might be “saved.” You punish all those workers and entrepreneurs who are operating on a now tilted deck. The need to bail out more and more businesses will accelerate, just like in the 30s. It is better to let the market reallocate resources. It will do so while maintaining the highest level of living standards across the board. Private charity and self reliance are better options for the workers in your example than a governmental crutch. In the situation you describe, the economy needs self directed rehabilitation, not paternalist Keynesian quackery.

andy January 13, 2009 at 3:13 pm

Tom..

“One of government’s great roles is in providing stability for individuals.”

There is arguably lot of instability now. The conditions have abruptly changed. I would argue that the best outcome would be if the market adapted the price and production structure to the new conditions AS FAST AS POSSIBLE. Which certainly means lot of bankruptcies. However, it certainly means fast transfer of the resources being wasted to better use.

The adjustment process is marked usually with high unemployment, especially when such abrupt change of conditions occured. However – you seem to want the adjustment process to occur slowly. You seem to favour high, long-term unemployment over arguably slightly higher, short-term unemployment?

Now the market conditions DID change, the ‘move’ already occured. The world will get more stable again when the market adapts. How do you want the government to achieve stability by slowing the adaption process?

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