Wednesday, 5 April 2017

What Is The Greatest Thing Economics Does?

Economics enlightens us all on several very important considerations about human behaviour. It teaches us to see that pretty much everything is a trade off. That is, if you want more of x you often have to have less of y and go without z. If you buy the £500 washing machine you like, you might not get to buy the £500 painting you also like. If you want a law enforced, the state is going to have to deny you a freedom you once had. If you want more reading time, you might have to have less writing time. Coupled with that is the wisdom that everything has costs and benefits, and that not everything in life is immediately tangible.

Economics teaches us to be attuned to the technique of a full consideration of the four-way dictum of tangible benefits, intangible benefits, tangible costs and intangible costs. This is what life is like: most things impose benefits and costs, and it's up to us how we want to trade them off. Being married comes with all the benefits of being a husband, but it means giving up some of the freedoms of being a single man. Cycling saves on petrol and increases fitness, but it trades off the speed, convenience and luxury of a car.

Habitually most people think too much in terms of tangible benefits, with scant regard for tangible costs, let alone intangible ones. It is always easy to observe tangible benefits. A minimum wage law gives tangible benefits to low-earners, but it also brings all kinds of tangible and intangible costs (job losses, lack of job creation, higher prices) that are hardly ever factored in. The same is true of just about any policy or idea you can think of.

Given the foregoing, I think the answer to the question - What is the greatest thing economics does? - is this: The greatest thing economics does is make the unseen seen. That statement sums up all the considerations above of ensuring all costs and benefits are factored into the equation, and that if you are a politician who is going to make a decision that affects others you need to assess all the unseen factors to your behaviour to understand the consequences of your actions.

It was the great economist Frederic Bastiat who brought the 'seen and unseen' to prominence in a seminal essay called That Which is Seen, and That Which is Not Seen. In that essay he introduced what many will have heard of as the Broken Window Fallacy. It is utterly simple and compelling, yet the fundamental mistake it teaches people to avert is made repeatedly by pretty much every politician in office (past and present), and the vast majority of social commentators too. It is a sickness that seems to afflict all human beings, yet only a tiny minority ever take the medicine of economic analysis to cure it.

In Bastiat's parable of the broken window, a boy breaks a pane of glass, meaning his father will have to pay to have it fixed. The onlookers declare that the boy has actually done the community a good deed because in having to pay the glazier to replace the broken pane the father is helping to stimulate the economy and help the glazier live. By that logic, the economy would be better off is more boys broke windows.

The fallacy Bastiat exposes here is that as soon as you look at the unseen parts of the equation - that the money the victim of the broken window spent getting it fixed is money that he now doesn't have to spend on something he actually wants - the proposition is rightly seen as foolish. The broken window helps the glazier, but at the same time it robs the victim of a new pair of shoes or a coat on which he'd prefer to spend the money, which at the same time robs the shoe and clothing industry of a customer.

The thing is, intuitively most people get this point every day of their lives. They do not think that a tree landing on your house is good for your household economy because it will keep you busy in the evenings when you get home from work. They don't believe that a pandemic is good for the country because it keeps those in the medical services busy; or that a mass rise in unemployment is good for the economy because it keeps the job centres fully staffed; or that a rise in crime is good for the country because it keeps the police busy in work.

Yet, alas, it is common for the public to routinely focus only on the 'seen' part of a policy or idea and overlook or disregard the 'unseen' parts. That is to say, our society is full of people who, when the example in question is less obvious than Bastiat's broken window, wantonly try to tell us that the economy is better off because a young boy has broken someone's window and the glazier will now thankfully be employed to fix it. Whether it's price-fixing, state-sponsored subsidies, bail outs, trade restrictions or numerous public services that could be run more efficiently by the market, society is full of powerful people who habitually fall foul of the broken window fallacy and inflict it on the people they are paid to represent.

If Tom is the chap that had his window broken, and Dick is the glazier that fixed it, Harry is the shoe salesman that misses out on a transaction with Tom. The economy does not even break even with Dick's gain being equal to Tom's loss, because Harry is down on a sale, and Tom paid for something he'd prefer he didn't have to. The economy is full of Toms, Dicks and Harries, and most people tendentiously overlook the Toms and are widely oblivious to the existence of the Harries at all.

Every time people hear a student demand the scrapping of tuition fees, every time a theatre production is subsidised by the taxpayer, and every time a failing business is bailed out by the government under the pretext of 'protecting jobs', they see the Dicks every time - that is, the happy students, the happy theatre company, and the happy business owner that now stays afloat for a while longer.

But people scarcely think of all the Toms that feel the direct costs of these policies, and they hardy ever realise all the Harries that feel the indirect costs even exist at all. The Toms and Harries are the people that feel the costs of university places not being aligned to market signals of supply and demand, and the other members of the arts whose productions now don't go ahead because of the subsidy, and the multitude of businesses that don't get to compete with the ones backed by taxpayers against their will.

Society is full of countless other Dicks and Harries - they are scattered about all over the place, visible only to the enlightened few who understand the wisdom of the 'seen and unseen'. They are the people that never get to live in cities they want to because of special interest environmental groups; they are the young men and women who have been priced out of the job market by a state-mandated price floor; they are high levels of inflation that have occurred because the state controls the money supply; they are the measured increases in what you pay for goods and services in industries that are too heavily taxed - I could go on.

Moreover, Bastiat's 'unseen' identifies the valuable things that don't happen at all because of an unwise policy - like the sale that never happens because of a regulation, or the jobs that never get created because of a wasteful expenditure, the things that never get made because the material resources are being consumed elsewhere, or the consumer and producer surpluses that never materialise because the government taxed the transaction out of existence. 

Suffice to say, all these aforementioned things in the previous two paragraphs are the opportunity costs that rob society of the value it loses by not exhibiting a proper reflection of people's real preferences and what lies behind supply and demand curves - that is, what they would spend their money on if they got to choose how to spend their own money and not have so much of their expenditure dictated to them by politicians.

Once you master the 'seen and unseen' your whole world opens up, as critical observations you once didn't make now come into your vision and expand your understanding of all the effects of a policy, an idea or a belief system. Given that a proper understanding of the 'seen and unseen' is what underpins every subset of economics - costs and benefits, supply and demand, revealed preferences, you name it - I think the enlightening of people to this principle is the greatest thing that economics does.