Efficiency, Utilitarianism, and Budget Priorities: A Response to Caplan’s Query

Bryan Caplan proclaims himself disappointed with his students’ answers to this exam question:

In the modern U.S., what is the most efficient way for the federal government to spend an extra billion dollars? What is the maximally utilitarian way for the federal government to spend this sum? (In both cases, assume that tax cuts are not an option). Use everything you’ve learned to craft a thoughtful answer, and be specific.

Judging by his summation of the responses he got, I would have been very disappointed too. Here’s how I would approach the question:

1. Addressing the efficiency part of the question likely requires looking at the most underaddressed collective-goods problems in the U.S. today, that is, situations in which we are falling well below the Pareto frontier. Perhaps invasive species eradication?
2. Addressing the utilitarian part of the question also requires making interpersonal comparisons of utility. I’m not too surprised many GMU students reject the possibility of such comparisons. Although I’m not a utilitarian, I don’t think interpersonal comparisons of utility are impossible. Perhaps funding an endowment, the annual interest from which will fund a very long-run basic income experiment in randomly selected locations?

How would you answer the question, Pileus readers?

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The Growth of Government, Updated

The news has been ripe with administration scandals as of late and will likely be for some time (Memo to BHO: There may be no better way to keep scandals in the news than to use the Justice Department to go after the Associated Press). But soon attention will turn to the issue of fiscal sustainability (or at least one hopes).

I have been updating some charts for a second edition of a book I wrote a while back. One of my favorite charts presents inflation-adjusted spending per capita. I focused on domestic spending in this chart not because I discount the importance of defense spending, but because it was in support of an argument I was making. To give you a flavor of the numbers, consider the following (all figures are in 2005 dollars):

• Starting at the New Deal, the peak level of domestic spending before US entry into WWII was $865 per capita (1940).
• Let us leap forward to the 1960s. The highest level of domestic spending per capita under LBJ was $2,265 (1968).
• Peak domestic spending during the Reagan presidency was $4,950 (1987).  That is 218 percent of the Great Society levels (Don’t fight the urge to cheer “LBJ, All the Way”).
• President Clinton assured us that we were witnessing the end of Big Government. While federal spending as a percentage of GDP fell to 18.6 percent (2000), per capita domestic spending stood at $6,206.
• George W. Bush increased that figure to a peak of $7,215 (2007). And Barack Obama made history in 2010, when domestic spending per capita hit $8,631 (it stood at $8,141 in 2012).

A couple of thoughts: First, while many may associate “big government” and FDR,   “that man” (as Grover often calls him) was a piker. In inflation adjusted terms, the Reagan Revolution entailed spending 5.72 times that sum. In 2010, the federal government was spending almost 10 times that amount. Second, these numbers grossly understate overall domestic spending. State and local governments expenditures are 11.3 percent of GDP—a larger share of GDP than the federal government spent in any year during the domestic phase of the New Deal (the peak was 10.3 percent in 1939). If we combine federal domestic, state and local spending for 2012, it stands at $13,034 per capita. Third, the big driver is the combination of demographic trends and mandatory spending on entitlements programs.

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Freedom and Migration: More Numbers

In Freedom in the 50 States, we present some statistical results on the association between the three dimensions of freedom — fiscal, regulatory, and personal — and “net interstate migration,” that is, the number of movers into a state from other states minus the number of movers from a state to other states, divided by initial population. We found that all three dimensions are positively associated with net in-migration, usually statistically significantly so. Moreover, the substantive importance of the associations is large. A half-point increase in each of the three dimensions, measured in 2001, is associated with between two and five percentage points more in-migration from 2000 to 2011, as a percentage of 2000 population.

The results seem to imply that Americans value freedom and are willing to vote with their feet for it. Of course, some freedoms are not very plausibly related to migration. Tobacco, alcohol, and gambling laws can be evaded through travel or the black market. It seems unlikely that very many people at all will move from New York simply because of the high cigarette taxes. There are cheaper alternatives. And some freedoms with high symbolic importance, like eminent domain reform or legalization of sodomy (prior to 2003), are unlikely to drive anyone to move, simply because so few people are likely to suffer from their denial. Sodomy laws were almost never enforced, and eminent domain for private gain is rather rare even where totally unregulated.

But some other freedoms are plausibly related to migration. People definitely consider tax burden in their choice of a new home. Business regulation can dampen job opportunities, and people tend to move where the jobs are. Medical cannabis users move where their medicine is legal; gun enthusiasts move where their lifestyle is respected; same-sex couples move where they have legal rights; home-schooling parents move where they can educate with less state control.

In this blog post, I explore some other ways of testing whether the relationship between freedom and migration is causal. The first technique is something I call “matched-neighbors analysis.” The independent variables here, including freedom, represent the value of the variable for the given state minus the average value for its neighbors (technically, the weighted-average value, where the weights are the neighboring states’ populations — I’ve also tried using a pure average, with nearly identical results). This procedure is called “spatial differencing.” So the notion here is that states that are freer than their neighbors will be more likely to see net in-migration. Let’s see if that’s true.

First, some specs: regressions include all 50 states (unlike the results with just the Lower 48 included in the F50S study), all independent variables are standardized to mean zero and standard deviation one (so that the coefficient estimates represent the effect of a standard-deviation change in each variable), and the dependent variable, net migration, is measured over 2000-2012 instead of just 2000-2011 as in the original study. Here are the results:

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Debt and Growth: The Politics of Ideas

The Economist provides a concise discussion of the debates surrounding the impact of debt on economic growth. The focus is on the work of Carmen Reinhart and Kenneth Rogoff, drawing on some of the research they conducted for their fine book This Time is Different.  The Reinhart/Rogoff paper (link here) had a simple takeaway point: debt seems to have little impact until it reaches 90 percent of GDP, at which point there appears to be a sharp reduction in the rate of growth.  As one might guess, this conclusion attracted a good deal of attention given the implications for fiscal policy decisions and the stakes in stabilizing debt (e.g., Paul Ryan cited it when framing his case for the GOP budget). Critiques have engaged issues ranging from coding errors (acknowledged by the authors) to the direction of causality.

The debate is by no means over and it may prove of some interest as the budget battles heat up and policymakers turn their attention to the vexing issue of entitlement reform. For a recent installment in the discussion over the growth-debt relationship, see Martin Wolf’s column (“Austerity loses an article of faith”) in the Financial Times.

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Freedom and Prosperity: Some Comparative Historical Reflections on State Policies and Performance

In his 1982 book, The Rise and Decline of Nations, economist Mancur Olson argued that over time, stable societies accumulate “distributive coalitions,” narrow special-interest organizations that complexify social life and burden the economy with overregulation and opaque forms of wealth redistribution. The notion that distributive coalitions are more often bad than good for economic performance, at least when they are not sufficiently “encompassing” to internalize the costs of inefficient redistribution, is pretty well accepted, but Olson’s thesis that political stability and the passage of time are the most important determinants of the number and power of distributive coalitions has been more controversial. One of the chapters of his book is an empirical test of the hypothesis on the 50 states. Olson finds that states settled earlier have higher rates of unionization and lower growth rates (in the 1960s and 1970s), except the former Confederate states, which “benefit” from the disruptive legacies of the Civil War and Reconstruction.

I am skeptical of Olson’s explanation for the growth of distributive coalitions, but his research does contain a kernel of truth. States that industrialized (note) early often show up on the bottom of economic freedom indices and usually have lower-than-average growth rates even today. Why is that?

To answer the question, we have look back at the social context of 19th century industrialization. The U.S. started out as an overwhelmingly rural, farming country. Industrialization populated the cities. Industrialization advanced first in those parts of the country that were unfit for export agriculture, benefited from high tariff walls on manufactures, and had a policy of free labor: southern New England, New York, and New Jersey. However, resource discoveries in the West also brought urban growth to California.

In 1900, the most urbanized states, by far, were Rhode Island (88.3%) and Massachusetts (86.0%). Then came New York (72.9%), New Jersey (70.6%), and Connecticut (59.9%). Pennsylvania (54.7%), Illinois (54.3%), and California (52.3%) were not far behind Connecticut. All of these states, with the possible exception of Pennsylvania, are now recognized as “deep-blue,” solidly Democratic states. Most of these states were relatively free for industry in the early 20th century, but they also boasted the strongest labor unions and most severe class conflict. These highly urban states became “proletarianized,” leading today to a strong concentration of Democratic votes in their metropolitan centers, according to Jonathan Rodden and other scholars.

As late as 1957, New Jersey was an example of a low-tax business haven. State and local taxes from all sources as a percentage of personal income stood at just 6.3% in New Jersey that year. Delaware had the lowest tax collections in the country, at 4.6% of income. States at the high end included Vermont (9.1%), which pioneered the state income tax, North (9.7%) and South Dakota (9.0%), and Oregon (9.0%). These states remained rural for a long time in part because prairie populism and Yankee progressivism yielded fiscal and regulatory policies that deterred investment. The South’s repression of blacks through Jim Crow kept their institutions “extractive,” to use Acemoglu and Robinson’s term, and their comparative development level low.

Nowadays, urbanization does not tend to produce proletarianization. Not many Americans are employed in manufacturing any more, nor are many private-sector workers covered by collective bargaining agreements. Thus, economic freedom has lost its self-undermining character. In the 1800s and early 1900s, economic freedom fostered industrialization, which brought on proletarianization, which led to a pro-regulatory public ideology, which then led to reversals in economic freedom. Now, late industrializers are not necessarily becoming less economically free. Indeed, there is a slight, positive correlation between present-day state urbanization rate and the Ruger-Sorens measure of economic freedom, controlling for left-right ideology.

States like California and New York are living off the accumulated capital of past economic freedom. Now that the political tide has turned decisively against economic freedom in those states, they are shedding people and jobs and growing more slowly than the rest of the country. Places like the Dakotas, Carolinas, Oklahoma, and Texas, which have reversed their anti-market policies of the past, represent America’s dynamic economic future.

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This Week in the Broken Window Fallacy

From Todd Crowell in New Geography:

Hay fever is thought to have a measurable impact on Japan’s economy, both in a negative and a positive way. The Dai-Ichi Life Insurance Research Institute estimates that the economy lost about $3 billion due to absenteeism in the memorable hay fever year of 2005. On the other hand, Dai-Ichi Life also estimates that Japanese spend more than $6 billion a year on hay fever prevention products, such as eye drops and face masks.

Maybe the Japanese government should store up irritating pollen and blow it around year round!

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A Path to Fiscal Stability or Symbolic Politics?

The Washington Post reports on some of the details of the Obama administration’s budget proposal, which is to be released next Wednesday. There are several important proposals (the largest of which have appeared before in the negotiations with the Speaker). Although the devil is in the details, a few salient points:

• $200 billion cut from defense and domestic budgets
• $400 billion cut from Medicare and other health programs via negotiation over pharmaceuticals and means testing
• $230 billion (combined cuts and revenues) in Social Security via changes in the formula for calculating cost of living adjustments (from CPI-W to chained CPI)
• $200 billion from farm subsidies and federal retirement benefits
• Elimination of a loophole that allows people to simultaneously collect unemployment and disability payments.

All of this (and more) in exchange for $580 billion in new tax revenues largely through ending various tax expenditures. As the Washington Post notes: “The budget is more conservative than Obama’s earlier proposals, which called for $1.6 trillion in new taxes and fewer cuts to health and domestic spending programs.”

If one were serious about achieving long-term fiscal stability, this would appear to be a proposal worth serious consideration. Of course, there will be predictable challenges from the Left and the Right.

• On the Left, entitlement reform is simply off the table. Senator Bernie Sanders (I-VT) is quoted as proclaiming: “Millions of working people, seniors, disabled veterans, those who have lost a loved one in combat, and women will be extremely disappointed if President Obama caves into the long-standing Republican effort to cut Social Security.” The same might be said of Medicare. And one can expect the claims that one should not pursue austerity when economic recovery has proven so elusive.
• On the Right, many in the House GOP will scoff at any more taxation, even if it is accompanied by major concessions on entitlements.  After all, that $580 billion will be stripped from the corporate welfare larded on the oil and gas industry and tax expenditures that currently place no cap on the size of retirement funds (the administration wants to cap tax subsidized retirement accounts at $3 million).

Presidents’ budgets rarely survive the congressional budget process, so the document to be released on Wednesday might be little more that a symbolic gesture that will allow the administration to signal its commitment to fiscal restraint under the assumption that it will be declared DOA before the ink is dry.  But what if the President is serious?

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Justice and sentencing

My Twitter feed has been filled with Americans and others expressing outrage about a Saudi court’s sentencing a man to be paralyzed from the waist down. He had stabbed a man in the back, paralyzing him.

I’m not going to defend or oppose the sentence, but I am going to defend a principle here: the violence inherent in the justice system should be obvious rather than hidden.

A couple of years ago, Peter Moskos suggested bringing back flogging as an option for prisoners: a year off your sentence for every stroke of the lash. He wrote eloquently of the horrors of the carceral state. And, so long as judges don’t simply respond by increasing sentence duration, it’s hard to see how the option to choose the lash would make prisoners worse off. As I wrote at the time:

I’m pulled to agree with Moskos. But I worry. I worry that the best evidence seems to suggest that prison deters crime mainly through incapacitation – criminals cannot commit crimes except against other criminals while behind bars. There’s good evidence for deterrent effects through things like California’s three strikes legislation, but incapacitation matters a lot. Longer term crime rates could go down with a switch from prisons to flogging if those committing crimes were better able to maintain a connection to the community and if prisons encourage recidivism. But rates would almost have to increase in the short term: those viewing flogging as much cheaper than a jail term would expect a reduction in the effective expected punishment for a criminal act. I’d hope that Moskos’s prescription would maintain the use of prisons as preventative detention for the really scary crazy dangerous cases.

A decade ago I would have worried that reducing the price of punishment experienced by the state would increase the total amount of punishment. If it’s expensive to keep a prisoner for a year, the state might be reluctant to put marginal offenders in jail. That’s not proven much of a constraint, so I worry rather less about that now.

But I do worry that the mob used to enjoy the spectacle of a public hanging.

When I read about cases like John Horner, (likely) entrapped by the DEA and facing a 25 year mandatory sentence for having sold his leftover prescription pain medicine to another man who had made him believe that he was in desperate pain, I wonder whether it’s the Saudis or the Americans who are really out of line. If you had two young daughters, and were facing 25 years delivered by the American justice system for doing no harm to anyone, wouldn’t you prefer surgical paralysation? I would.

Sometimes I wonder whether the focus on injustices committed abroad are a way of avoiding thinking of the ones at home.

In other news, we now have decent evidence that “tag and release” is more effective in preventing recidivism than incarceration. Here’s the abstract from the newly published paper by Di Tella and Schargrodsky in the Journal of Political Economy:

We study criminal recidivism in Argentina by focusing on the rearrest rates of two groups: individuals released from prison and individuals released from electronic monitoring. Detainees are randomly assigned to judges, and ideological differences across judges translate into large differences in the allocation of electronic monitoring to an otherwise similar population. Using these peculiarities of the Argentine setting, we argue that there is a large, negative causal effect on criminal recidivism of treating individuals with electronic monitoring relative to prison.

Lengthy carceral sentences for drug crimes are arguably behind much American inner-city disfunction. When a reasonable proportion of men of marriageable age are in prison, really bad things start happening to family formation.

Moskos is looking more right all the time.

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Income Inequality Doesn’t Matter

Roger Koppl argues this week at ThinkMarkets that “Income inequality matters.” He thinks it matters so much that he says it twice. He believes “Austrian,” pro-market, economic liberals should be speaking up more on this “central issue.” I think Koppl could not be more wrong. The issue deserves all the inattention we can muster for it.

The problem I think is not Koppl’s motives. He rightly says that we should “watch out for ways the state can be used to create unjust privileges for some at the expense of others.” He is certainly right about that. He argues that unjust state policies may be skewing market results in such a way as to increase inequality. He may be right about that. But he is wrong in suggesting that we ought therefore to be paying attention to income inequality. We ought therefore to be paying attention to those policies. Whether they produce greater inequality is neither here nor there.

Koppl gives four examples: (i) policies that privatize profits and socialize losses, (ii) bad regulation, (iii) collapse of the rule of law, and (iv) public schools. I can certainly join Koppl in a hearty wish that we not only attend to these unwarranted policies, programs, and tendencies, but that we do so with a degree of urgency prompted, in part, by their effects on the poorest and most vulnerable among us. But talking about inequality is precisely a distraction from doing so.

In a great paper of a few years ago, Harry Frankfurt argued that “Egalitarianism is harmful because it tends to distract those who are beguiled by it from their real interests.”* Frankfurt thought that focusing on equality was actually pernicious because it distracted us from attention to real harms, of which inequality is at most an indicator. And he was right. It may well be that, for example, the evisceration of the rule of law results in greater income inequality. But it also might not. Whether or not it does so, however, it is unjust, and it deserves our attention. Similarly for the increase in moral hazard and regulation, to say nothing of the deplorable system of public education. All of these need attention, and one prime reason they do so is because of their effects on those least capable of circumventing their evils. If we care about the poor, what we ought to care about is bad policy, not indicators that may or may not have anything to do with policies that are making people worse off. As long as we are worrying about income inequality, we are worrying about the wrong thing.

* In “The Moral Irrelevance of Equality,” Public Affairs Quarterly, April 2000.

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Sequester This

As we approach midnight February 28 (tick..tick…tick…) and March 1^st arrives, the nation appears to be headed toward a cataclysm. There is an ever-growing number of stories informing us how bad things could get.

The sequestration will force a sharp drop in the economy. It will kill the surging stock market. It will delay tax refunds. It will prevent entrepreneurs from starting new small businesses. It will compromise meat inspection. It will hamper airport safety and Homeland Security more generally. It will prevent assistance for Hurricane Sandy victims.  It will disproportionately harm women, and poor women in particular. Mother Jones expands on this claim to note that it will simply “screw the poor” (e.g., by undermining education, Title I finding, rural rental assistance, the processing of Social Security disability claims, unemployment benefits, veterans services, nutritional assistance, special education…you get the idea).

The Washington Post has provided a user-friendly guide to the White House data on how sequestration will effect each state . Of course, the categories have been nicely selected to construct a politically useful alternative universe (i.e., one where government is seemingly restricted to supporting teachers and schools, Head Start, job-search assistance, child care, vaccines for children, preventing violence against women, etc., etc).  Core message: what government does is universally good and necessary. There is no room for cuts.

Things seem quite dire, until one recalls that the $85 billion will not be sucked out of the economy as the clock turns to 12:00:01 on March 1 and, more than likely, there will be some agreement in the waning moments of February or the first few days of March to avoid this self-inflicted sequestration.

But even if there isn’t, one might question whether $85 billion is all that significant when the President’s budget request for 2013 is $3.803 trillion. Subtract that $85 billion, and the budget would fall to $3.745 trillion.  Placing things in historical context, that would be the largest budget since…(insert drum roll here)… 2012.

Placing things in a broader historical context, the budget (in nominal terms) would be over 160 percent of what it was a decade earlier, around 135 percent if we adjust for inflation.

The most striking thing to contemplate: If this is the political firestorm that arises out of a $85 billion reduction in discretionary spending out of a $3.8 trillion budget, imagine what will occur when focus turns—as it must—to the issue of entitlements.

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In which I overstay my welcome

One of the regular Pileus bloggers asked me to elaborate on a claim I made briefly in my earlier discussion of BHL. I had said “there is an intra-libertarian debate [that it is useful to have about philosophical justification: is a system of individual rights ultimately justified because it accrues the best results for the poor, or is it justified for some other reason(s), and has the beneficial characteristic of accruing the best results for the poor?” and suggested I thought it was the latter. The idea that the social order can only be justified if it brings about the best results for the worst off, which is a prominent feature of Rawlsian welfare-state liberalism, has been employed as a rationale for classical-liberal non-redistributionist policies. I certanily like the irony that the chief heuristic of redistributionist theory undermines redistributionist institutions. And, as I said in the orginal post, I appreciate the positive outreach effects of noting that free market policies help everyone prosper, especially the poor. But I am hesitant to agree that the Rawslian principle is why we should have free markets. For one thing, I think we should have free markets for the same reason I think we should be free generally. I do not differentiate “civil liberty” and “economic liberty.” The latter is simply the manifestation-in-transactions of the former. Without the freedom to transact, my “freedom to choose” is pretty superficial. Rawls himself argues that we must have a system of equal freedom to choose and believe and think and speak – rights that cannot be trumped by social utility. It is only trading and acquiring rights that he says can be interfered with. But as Nozick demonstrated, you cannot interfere with transactional freedom without simultaneously interfering with freedom of choice. There are not two kinds of liberty, civil and economic, there’s just liberty (although there are of course different contexts in which we talk about liberty). And I think liberty is a necessary component of human flourishing. Humans cannot achieve virtue and happiness by coercion. “Rights” should be understood as a way to secure the possibility of self-directed activity in the social setting. The social order is thus justified if it is one which protects individual rights, and unjustified otherwise. That is the why of classical liberalism. The fact that classical liberalism and free markets help the poor better than redistributive statism is a great thing, both intrinsically and in terms of explaining its virtues to others. But the justification must be something else, something universal. Put it another way: if everyone were wealthy, would individual rights no longer be important? Of course not.

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Occupational Licensing as an Implicit Barrier to High Skill Migration

That’s the subtitle of a new working paper from Peterson, Pandya, and Leblang. Here’s the abstract:

Skills are often occupation-specific, a fact missing from existing research on the political economy of immigration. Although analyses of survey data suggest broad support for skilled migration occupational licensing regulations persist as formidable barriers to skilled migrants’ labor market entry. Regulations ostensibly serve the public interest by certifying competence but are simultaneously rent-preserving entry barriers. We analyze both the sources of US states’ licensure requirements for international medical graduates (IMGs), and the effect of these regulations on migrant physicians’ choice of US state in which to work over the period 1973-2010. Analysis of original data shows that states with self-financing state medical licensing boards, which can more easily be captured by incumbent physicians, have more stringent IMG licensure requirements. Additionally, we find that states that require IMGs to complete longer periods of supervised training receive fewer migrants. Our empirical results are robust to controls for states’ physician labor market. This research identifies an overlooked dimension of international economic integration: implicit barriers to the cross-national mobility of human capital, and the public policy implications of such barriers.

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Two Economists vs. the Drug War

This piece doesn’t really contain anything all that new for those of us who have followed the debate on the drug war, but it is nice to see two prominent economists (Gary Becker and Kevin Murphy) making the case against it in a big paper of record such as the Wall Street Journal.  Here is a snippet, but I recommend the whole piece:

The direct monetary cost to American taxpayers of the war on drugs includes spending on police, the court personnel used to try drug users and traffickers, and the guards and other resources spent on imprisoning and punishing those convicted of drug offenses. Total current spending is estimated at over $40 billion a year.

The more interesting debate is (or should be) over the question of whether recreational drug use of one sort or another is immoral.  Since I drink alcohol socially in a limited fashion, my revealed preferences suggest I’m not opposed to some recreational use of drugs.  Moreover, I utilize caffeine as a performance enhancing drug — meaning, I have enjoyed drinking soda the way others use coffee.  But I’ve never used an illegal drug in my life and have abstained for much more than legal and prudential considerations.  I’d like to have something deeper to say on this at some point but am still thinking through some facets of the issue.  A starting point is that I generally don’t see drug use as consistent with human flourishing, especially in terms of the exercise and maintenance of the most important human faculty: reason.

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On to the Debt Ceiling

Now that the fiscal cliff has been averted  delayed, we move on to the debt ceiling. Critics are correct in noting that there is no principled reason not to raise the debt ceiling, since it is nothing more than the sum of past spending and taxing decisions.  One can hardly blame the credit card bill for the patterns of spending that created it. Nonetheless, the House GOP skillfully used the debt ceiling in 2011 to extract the agreement that led to the fiscal cliff (and we all know how well that worked out for the GOP).

In the wake of the fiscal cliff, President Obama struck a hard position regarding the debt ceiling. As he proclaimed:

“I will not have another debate with this Congress over whether or not they should pay the bills that they’ve already racked up through the laws that they passed, Let me repeat: We can’t not pay bills that we’ve already incurred. If Congress refuses to give the United States government the ability to pay these bills on time, the consequences for the entire global economy would be catastrophic — far worse than the impact of a fiscal cliff.”

Of course, the President will bargain. As George Sargent notes in todays Plum Line:

The idea appears to be that the White House and Democrats will only engage in conversations over the sequester, tax reform, and spending cuts, and simply won’t confer any legitimacy on GOP threats not to raise the debt ceiling. But it’s unclear to me how this will work in practical terms. Unless Obama is prepared to go into default — or to pull some other ace out of his back pocket, such as the 14th amendment or “platinum coin” options — he will inevitably be negotiating over the debt ceiling. And he doesn’t appear prepared to do any of those things.

One can doubt that the President would be willing to go into default, so he will bargain (or more correctly, he will proclaim, campaign, disengage, and send in Biden). But is there any reason to take the House GOP seriously at this point regarding its willingness to stand its ground?  Given its recent track record, does the President have any reason to believe that the House won’t blink?

I remain skeptical.

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The Big Winner in the Fiscal Cliff: Crony Capitalists

There is a wonderfully sad piece in the WSJ on the support for crony capitalism that were central to the fiscal cliff deal. A brief excerpt:

In praising Congress’s huge new tax increase, President Obama said Tuesday that “millionaires and billionaires” will finally “pay their fair share.” That is, unless you are a Nascar track owner, a wind-energy company or the owners of StarKist Tuna, among many others who managed to get their taxes reduced in Congress’s New Year celebration.

There’s plenty to lament about the capital and income tax hikes, but the bill’s seedier underside is the $40 billion or so in tax payoffs to every crony capitalist and special pleader with a lobbyist worth his million-dollar salary. Congress and the White House want everyone to ignore this corporate-welfare blowout, so allow us to shine a light on the merriment.

After providing some rather striking examples of cronyism, we get the core lesson:

The great joke here is that Washington pretends to want to pass “comprehensive tax reform,” even as each year it adds more tax giveaways that distort the tax code and keep tax rates higher than they have to be. Even as he praised the bill full of this stuff, Mr. Obama called Tuesday night for “further reforms to our tax code so that the wealthiest corporations and individuals can’t take advantage of loopholes and deductions that aren’t available to most Americans.”

The article reinforces one of the key features of American politics: wherever you find Baptists, you will also find bootleggers.

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Dancing on the Cliff

The Fiscal Cliff has been averted postponed, if not made worse.

Big takeaways:

1. Senate Majority Leader Harry Reid has once again proven himself to be incapable of leading the Senate.  Is there any stronger rebuke than McConnell’s appeal to Biden as he searched in vain for a negotiating partner in the Senate?
2. The Democrats have done what was once unimaginable: they made permanent the much-decried Bush tax cuts for all but the wealthiest households. The talking heads spent much of the last few months noting that if Obama had any mandate from the 2012 elections, it was the mandate to raise taxes on those making about $250k. So much for mandates.
3. A Republican controlled House is not much of a counterweight. Let us assume that McConnell was successful in getting the best deal he could out of this Senate (recall the tax cuts). The GOP-controlled House could have responded with a bill that combined the tax cuts with significant spending cuts, thereby forcing a compromise. But Boehner et al blinked (and Ryan, once believed to be a force for fiscal stability, no longer has a claim to this title). Ah yes, but they lived to fight another day. Of course, is there any real evidence that their capacity to fight will improve with a reduced majority?
4. In terms of long-term fiscal sustainability, the Congress arrived at the worst possible solutions: tax cuts and increased spending. Although there were early discussions of entitlement reforms—ranging from means testing Medicare to changing the calculation of the cost of living adjustment for future benefits—in the end, Congress made matters worse by preventing scheduled reductions in rates paid to doctors under Medicare. And although there were early discussions of cutting tax expenditures, a series of existing expenditures were extended.
5. By placing a two-month hold on forced sequestration, Congress not only made things worse but also assured that the winter and early spring will look remarkably like the past few months. I am somewhat surprised that Biden negotiated, and Obama accepted, this decision.  Whatever chances the President had to make some significant policy changes in the early days of his second term seem diminished greatly. Immigration reform, assault weapon bans, etc., will be difficult to achieve when all attention is focused on the next fiscal cliff and the debt ceiling. Moreover, if there were any belief that this would somehow help the economy, it is ill founded. There is little to suggest that the credit rating agencies, investors, or firms looking for regime stability will find anything resembling a silver lining in this deal. Quite the opposite.

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Advice to the GOP: In the Spirit of the Holidays, Accept the Gift

The fiscal cliff debates seem to be at a standstill as we approach the end of the year.  On the spending side, the proposal to change the indexing for Social Security seems to be quite positive. The use of the CPI-W has fueled growth in the real value of benefits and the substitution of a more realistic measure of inflation (or some kind of progressive indexing) is a change that could make a significant difference over time.  Republicans are likely correct in their dissatisfaction with tax increases today in exchange for significant cuts in the future since no Congress can effectively bind the hands of a future Congress.

The tax side is particularly interesting, and I wonder if the GOP understands what a victory any agreement would be that made the Bush tax cuts permanent for the vast majority of the population. Regardless of whether the taxes increase for households making $250k, $400k or some other number, the overwhelming fact is that the significant tax cuts introduced under George W. Bush are likely to become permanent. For the GOP, this is no less a victory than the 1996 elimination of AFDC, which essentially consolidated many of the reform efforts of the past 15 years.

Zachary Goldfarb (Washington Post) has an interesting article reinforcing this position. A few excerpts:

R. Glenn Hubbard, dean of the Columbia Business School and an architect of the Bush tax cuts, said it is “deeply ironic” for Democrats to favor extending most of them, given what he called their “visceral” opposition a decade ago. Keeping the lower rates even for income under $250,000 “would enshrine the vast bulk of the Bush tax cuts,” he said.

And, due to the progressivity of the US tax system, even the wealthy would continue to reap benefits when compared with the expiration of the tax cuts when taken as a whole.

The first $250,000 earned by even the wealthiest families is subject to lower rates. For this reason, Obama noted last month that under his proposal, “every American, including the wealthiest Americans, gets a tax cut.”

For instance, an individual taxpayer earning between $200,000 and $500,000 a year would pay an average of $515 more in taxes next year if the Bush tax cuts for the wealthy expire, according to the nonpartisan Tax Policy Center. But if all the Bush tax cuts were to vanish and the rich had to pay higher rates on all their income, their tax bills would shoot up by an average of $6,000. The very richest — the top 1 percent of earners — would pay much higher taxes if solely the upper-income tax cuts expire, because the savings from extending the rest of the rates would be relatively negligible.

Bottom line: regardless of where you draw the line on taxes for upper income earners, the proposed deal on the fiscal cliff locks in the Bush tax cuts—a clear victory for the GOP, particularly given the poor Republican performance in the 2012 elections, candidate Obama’s commitment to reversing the Bush tax cuts,  and the fact that the Democrats are firmly in control of the White House and the Senate.

Of course, I would not argue that a victory for the GOP is a victory for the nation given the long-term fiscal imbalances. In my view, we need higher taxes (let’s begin with the elimination of all tax expenditures, beginning with those that lavish subsidies on the top two quintiles). We also need significant reductions in expenditures, particularly in our largest entitlements, the defense budget, and various forms of corporate welfare (including agricultural subsidies).

But there is little question that the Obama administration is willing to hand the GOP a significant victory. It only has to accept the gift.

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Right-to-Work: An Inflammatory Analogy

Left-libertarians are dismayed at the support most libertarians and classical liberals have been giving to right-to-work laws, which withdraw recognition from clauses in collective bargaining contracts that require all employees in a workplace to pay agency fees to the union that represents that workplace. Many libertarians have supported right-to-work laws on the grounds that they “balance the playing field” somewhat or undo some of the harm caused by the National Labor Relations Act (or “Wagner Act”), which requires employers to bargain collectively with a union that achieves majority support in an organization election. But left-libertarians aren’t buying that as a rationale for laws that withdraw recognition from a particular type of private contract.

Quoth J.D. Tuccille:

[T]he distortions in human life caused by intrusive laws always raise the temptation to patch over the problems with additional legislation. That additional legislation is likely to lead to more problems … That’s why we’re always better off dumping bad laws than trying to “fix” them in a spiraling game of spackle-the-law books.

And here is Gary Chartier:

Right-to-work proponents argue that the laws they favor only help to level the playing field created by government action—by reining in special privileges granted to unions under existing labor law.

But those laws actually presuppose the restrictions inherent in that framework, while extending them further. One goal of the NLRA and later federal laws was to reduce conflict—-and in effect reduce workers’ choices—-by ensuring that just one union, moderate enough to win majority support (and therefore moderate enough to be cooperative with employers), would operate in a given workplace, while suppressing more radical unions and labor actions.

And finally here is Sheldon Richman, quoting Percy Greaves:

“Two wrongs never make a right. The economic answer is to repeal the bad intervention and not try to counterbalance it with another bad intervention. Such moves only provide the politicians with greater power over the entire economy.” In other words, the end doesn’t justify the means.

Is the “two wrongs don’t make a right” analogy persuasive here? First, let’s specify that we are looking at right-to-work laws for private-sector workers. RTW laws for public-sector workers could be viewed simply as the government’s tying its hands with respect to its own future collective bargaining negotiations, something that few would deny they have a moral right to do. Second, let’s all agree that the purpose of collective bargaining is, above all, to establish a monopoly of labor with respect to a particular employer. The union uses its bargaining power to negotiate higher wages and benefits than they could receive on a competitive labor market. That this is the primary purpose of unions, especially in the post-Wagner Act era, isn’t disputed by mainstream labor economists (see Mancur Olson’s Logic of Collective Action, among many others). Third, let’s agree as libertarians that the Wagner Act is unjust, that it wrongly forces employers to negotiate with a union and wrongly forces employees to be represented by a union even if they do not consent to such representation. Of course, non-libertarian liberals can and do disagree with this proposition.

Now, let’s consider an inflammatory analogy to the Wagner Act. Imagine that the government decides to give its official stamp of approval to Mafia protection contracts reached with shopkeepers (call it the “National Mob-Small Business Relations Act” (NMSBRA)). So long as the Mafia follows certain procedures in strongarming shop owners into agreeing to their demands, the courts will enforce contracts reached under duress. To libertarians, left and right, there is not much fundamentally morally different between the Wagner Act and the NMSBRA.

Now, suppose some of these mob protection contracts contain exclusive-supplier clauses. They state that the hapless storeowner not only must pay off the mob, but must use only mob-approved suppliers. In response, some states pass “right-to-supply” laws, which forbid the enforcement of mob protection contracts’ exclusive-supplier clauses, while leaving the basic structure of the NMSBRA intact.

Do right-to-supply laws take away freedom? After all, they interfere with “private contracts,” and it is possible, though unlikely, that some shopkeepers would want to sign exclusive-supplier contracts with the Mafia even in the absence of any threat of coercion.(*)

But surely, refusing to enforce a particular, exploitative provision of an extorted “contract” does not in any tangible sense infringe on freedom and, in fact, enhances it. By the logic of left-libertarian opponents of right-to-work, if the government ever adopted something like the NMSBRA, then “right-to-supply” laws ameliorating the oppression should be resisted as intrusions into supposed “freedom of contract.” This position reminds me of purist opponents of legal medical marijuana on the grounds that only fully legal marijuana is worth supporting.

Now, I don’t want to imply that mob protection contracts are in fact morally equivalent to union shop contracts. I am merely arguing that they are analogous. Sometimes an “extreme” analogy can help us better understand the moral principles behind our judgments. In this case, I see no intuitively appealing moral principle that could equally condemn right-to-work laws and the Wagner Act, as left-libertarians wish.

But there’s more.

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Chavismo and the Economy

Back before the collapse of the Soviet Union, there were plenty of examples of what happens once the price mechanism is suspended and decisions regarding resource allocations are assigned to the state. Fortunately, Venezuela provides us with some modern day examples. Here are a few quotes from an interesting piece by William Neuman in the NYT:

“The bottlenecks at a major port were so bad this year that Christmas trees from Canada were delayed for weeks, and when they did show up they cost hundreds of dollars. A government-run ice cream factory opened with great fanfare, only to shut down a day later because of a shortage of basic ingredients.  Foreign currency is so hard to come by that automakers cannot get parts and new cars are almost impossible to buy. And all this happened while the economy was growing…”

and

“Mr Chávez’s own record is mixed. After doing little to address a deep housing shortage, he has given away tens of thousands of homes, but the rush to build meant that many were plagued by construction flaws or other problems. He has used price controls to make food affordable for the poor, but that has contributed to shortages in basic goods. He created a popular program of neighborhood clinics often staffed by Cuban doctors, but hospitals frequently lack basic equipment.”

Venezuela stands at the intersection of socialism, crony capitalism, and the resource curse.  The future looks quite uncertain given the legacies of current policies, the impending recession, a stagnant oil industry, and  the intense power struggles that will arise post-Chávez.

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Ruger on Zingales on Crony Capitalism

My sometime coauthor William Ruger has a piece in The American Conservative on Luigi Zingales’ A Capitalism for the People. He compares Zingales to early Chicago School economist Henry Simons in his willingness to consider unconventional remedies to crony capitalism, lack of competition, and “bigness” more generally:

Fast forward to today, and we see another Chicago economist, Luigi Zingales, confronting another economic crisis and likewise trying to put capitalism back on the right path in his book, A Capitalism for the People. The similarities between Simons and Zingales do not stop there. In fact, Zingales’s philippic against the early 21st century’s economic and political trends—including growing income inequality—and in favor of competition over monopoly frequently calls to mind the older Chicago tradition that Simons represented in A Positive Program.

Unlike his predecessor’s, Zingales’s reform measures are far more consistent with the tenets of a free society. In recognizing the danger of bigness—especially big business tied to big government—while hoping to meet the threat with greater respect for markets and freedom, Zingales fuses many of the best parts of the “old” and “new” Chicago Schools.

Some of his policy recommendations seem a bit contrived or poorly thought through, but others are genuinely interesting:

Zingales focuses on education as an antidote to the increasing inequality that accompanies globalization. Unfortunately, as he points out, “perhaps the most destructive cronyism that uses lobbying to extract money from the American people in exchange for a product that doesn’t meet their real needs is in the public school system.” Sounding a lot like his fellow Chicagoan, Zingales repeats Milton Friedman’s argument for publically funded school vouchers as a means to increase equality of opportunity. He adds the twist that there should be “higher-value vouchers for people who start from less privileged conditions” and “match-specific vouchers” to incentivize good schools to “rescue poorer-performing students at risk.” To allow individuals to take risks and invest in themselves “when the consequences of failure are very harsh,” Zingales also supports a safety net of forgiving bankruptcy laws, unemployment insurance, and job retraining.

Zingales wants to reinvent antitrust, with regulators focusing not just on the economic advantages of mergers but the political consequences that arise from large corporate combinations. Where the political results would likely be “welfare-reducing,” Zingales would have the government prevent such mergers or limit the lobbying those corporations can engage in. As he admits, “This would be a radical departure from the status quo”—indeed, one reminiscent of Simons’s anti-monopoly program. Further steps he recommends to revive a competitive market include better balancing our patent and copyright regime, empowering shareholders in corporate governance (even by quotas), and enacting progressive taxation on corporate lobbying.

He supports a number of other critical institutional reforms to the tax and finance system: simplifying corporate taxes, ending expiring tax provisions, applying legal rules to the government (which creates them in the first place), instituting a reward system for whistleblowers, and increasing data transparency through disclosure requirements. Financial regulation, he says, should be parceled out to three agencies, each responsible for meeting only one key goal: price stability, protection against fraud and abuse, and system stability. Zingales disapproves of using the tax system for “massive” redistribution of wealth and income. Instead, he favors Pigouvian taxes (which “correct distorted incentives”), such as levies on lobbying or on potentially destabilizing short-term debt.

More here.

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Fiscal Cliff Follies (Note to GOP: Every Spending Cut is a Tax Cut)

This is not helpful. Erick Erickson, a man of excessive influence among conservative Republicans, is pressing Republican Speaker John Boehner to take any increase in tax rates off the table in the fiscal cliff negotiations with Democratic President Barack Obama. This is unhelpful for two reasons. First, rates will go up anyway if a deal isn’t reached, and Obama has made clear that some increase in rates is a deal-breaker. Second, every spending cut is a tax cut in the long run! The GOP should be willing, if necessary, to allow statutory tax increases, including rate increases, if they can get credible, significant spending cuts. By “credible” I mean cuts that will take effect automatically in the medium term (2-3 years from now), that are specific, and that will be difficult for Congress to overturn.

Everyone knows rates will go up eventually anyway. The US fiscal path is unsustainable. Whatever the government spends now it will have to pay back with tax dollars. Certainly, real interest rates on federal bonds are low or negative now, but that is a result of turbulence in Europe and slow growth at home. That situation won’t last forever. Large, immediate spending cuts are undesirable because the economy is still soft, but we really cannot be sure that we are not at or near the peak of the business cycle. The last recession started five years ago, and NGDP growth has puttered along at about 4% over the last two years. So spending cuts two to three years from now seem desirable.

How the tax code affects the productivity of the economy does not have very much to do with the average rate of taxation specified by statute, but the distortions brought about in the tax code (and poverty relief programs). Very high marginal rates of taxation can indeed kneecap labor supply — most of this type of distortion actually affects those with incomes under 200% of the federal poverty level. And of course, the corporate income tax code is riddled with distortionary tax expenditures (credits and deductions); getting rid of those is a free lunch: more revenue, more productivity.

Should Republicans use marginal tax rates on the wealthy as a bargaining chip to get bigger spending cuts? Of course. But that means keeping them on the table.

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Intrade Banned in the U.S.

A casualty of “pro-consumer” financial regulation. John Stossel is on the story:

Today, Americans were told that they must close their Intrade.com accounts. That happened because the federal government agency known as the “Commodity Futures Trading Commission” (CFTC) today sued the prediction market, where people from all over the world bet about things like who will win elections.

Intrade decided all its U.S. customers must now close their accounts and withdraw their money from the site.

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For an Anti-Farm Bill League (update)

Conservatives and taxpayer groups are ready to fight the $1 trillion farm bill when it comes up for a vote in the new Congress. Agricultural subsidies, price supports, and tariffs in developed countries (the U.S., Japan, and the European Union especially) not only harm consumers at home by hitting them with higher prices, but cause severe poverty abroad by shutting exports from less developed countries (LDCs) out of developed-country markets and by dumping developed-country surpluses on LDC markets at prices below marginal cost. Since the poorest people in the world are farmers in poor countries, and over 15 million people die from hunger and disease each year due to severe poverty, rich-country agricultural subsidies are literally killing poor people on a massive scale.

Here’s just one anecdote from the IFPRI report of how this works:

Harrison Amukoyi’s farm is perched on a hillside in western Kenya. On less than two acres of land, he raises several crops and a dairy cow. To sell milk, Harrison and his neighbors must compete with industrialized countries that dump their subsidized milk on local markets, depressing prices for Kenyan farmers. This unfair contest appears in countless guises throughout the developing world, intensifying conditions of poverty.

And here are some figures from the NCPA analysis on how poor farmers would benefit if cotton subsidies alone were eliminated:

The International Cotton Advisory Committee (ICAC) estimates that ending U.S. cotton subsidies would raise world prices by 26 percent, or 11 cents per pound. The results for African countries dependent on cotton exports would be substantial:

• Burkina Faso would gain $28 million in export revenues
• Benin would gain $33 million in export revenues
• Mali would gain $43 million in export revenues.

We have seen reductions in severe poverty recently. The world’s biggest reduction in severe poverty has come in China over the last three decades. It’s clear that economic reform is the critical, long-term driver of poverty reductions. But where did China’s poverty reductions start? With growing agricultural productivity. The poorest countries of the world can’t just move straight into manufacturing. They need first to generate some agricultural surplus. Making it possible for poor farmers to sell to rich consumers, or even to their own people, is necessary to making that happen.

Removing rich-country agricultural subsidies could also have political-economy benefits. Many LDCs repress their agricultural markets in favor of the urban sector. Thus, their own governments deserve some share of the blame. The typical tool for this repression is a “marketing board” monopsony. The marketing board buys produce at coercively depressed prices and then tries to export it for a profit, plowing the proceeds back into urban subsidies. Rising world prices for farm goods would increase the profits of these marketing boards, potentially allowing them to raise the prices they pay farmers at home. While some nasty governments might find the new revenue reinforces their power, the new revenues would surely build useful state capacity in just as many places. Furthermore, rising farm incomes should increase the political power of the farm bloc in LDCs, which increases the probability of domestic liberalization.

Ending the rich world’s harmful policies would not eliminate global poverty. However, it would make a significant dent and could set in motion economic and political processes that would have far-reaching effects indeed.

Still, agricultural subsidies and trade barriers survive, amounting to well over $300 billion per year in the rich countries of the OECD, dwarfing the aid sent from rich to poor countries. They survive because of the collective-action problem: poor people have no voice at all in the political systems of the rich world, and rich-world consumers barely have one. Producers organize effectively because of the clear benefits they receive from subsidies, and even ideological opposition from both the left and the right cannot effectively fight them.

The only effective way to counter the greed of the few is with the white-hot moral passion of the many.

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Decriminalization in Portugal

“Ten years ago, Portugal decriminalized all drugs. One decade after this unprecedented experiment, drug abuse is down by half.”

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2011-2012 Not Good for the Regime Uncertainty Thesis

Bob Higgs has used the concept of “regime uncertainty” to explain why the Great Depression lasted so long. In brief, the argument is that FDR’s escalatingly anti-capitalist rhetoric in the mid- to late-1930s spooked investors, who were uncertain whether they would be allowed to enjoy the future fruits of their investments. Therefore, investment declined, provoking a slump in 1938 and generally prolonging the Depression.

Some have argued that the prolonged period of high unemployment and anemic growth the United States has experienced in the wake of the 2007-9 “Great Recession” is also due to regime uncertainty. They blame the Obama Administration and Democrats in Congress for fostering a regulatory environment hostile to business.

But if that explanation of poor growth in 2009-10 is right, how can it explain poor growth in 2011-12, after Republicans took the House of Representatives? Under divided government, regime uncertainty is nil. The 2011-12 Congress is on pace to be the least productive since 1947 in terms of passing laws. Libertarians say gridlock is good — well, we definitely have gridlock, so where are all the benefits?

Here’s the evidence:

The chart shows inflation-corrected personal income, excluding transfers from the government. Real personal income today still stands below its level at the start of 2008. If these figures were divided by population, they would look worse still. There has been a very weak recovery.

Why should we not blame House Republicans as much as Democrats and Obama for the bad economy?

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Sunday Morning Quotation – Some Contrarian Thinking at the Fed (while channeling Dr. Hayek)

A nice acknowledgement by Richard Fisher, President and CEO of the Federal Reserve Bank of Dallas, of what they at the Fed do not know:

We are blessed at the Fed with sophisticated econometric models and superb analysts. We can easily conjure up plausible theories as to what we will do when it comes to our next tack or eventually reversing course. The truth, however, is that nobody on the committee, nor on our staffs at the Board of Governors and the 12 Banks, really knows what is holding back the economy. Nobody really knows what will work to get the economy back on course. And nobody—in fact, no central bank anywhere on the planet—has the experience of successfully navigating a return home from the place in which we now find ourselves. No central bank—not, at least, the Federal Reserve—has ever been on this cruise before.

Here Fisher is paging Dr. Higgs and the regime uncertainty thesis by quoting a “respected” CEO:

“We are in ‘stall mode,’ stuck like Velcro, until the fog of uncertainty surrounding fiscal policy and the debacle in Europe lifts.”

And finally, challenging the dual mandate of the Fed:

I would point out to those who reacted with some invective to the committee’s decision, especially those from political corners, that it was the Congress that gave the Fed its dual mandate. That very same Congress is doing nothing to motivate business to expand and put people back to work. Our operating charter calls for us to conduct policy aimed at achieving full employment in addition to preserving price stability. A future Congress might restrict us to a single mandate—like other central banks in the world operate under—focused solely on price stability. But unless or until that is done, we have to deliver on what the American people, as conveyed by their elected representatives, expect of us.

The rest here is very much worth a careful read.  I’ve been in favor of using monetary policy (if properly done) in the recent past to help with our economic troubles.  Fisher gives us something to think about in terms of the limits of monetary policy, the problem of the Fed’s dual mandate, and the need to get our fiscal house in order.

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Two Cheers for the Seventeenth Amendment

Small-government types have often debated whether the 17th Amendment to the U.S. Constitution, establishing direct election of senators, is in part responsible for the decline of federalism in the U.S. I have long been skeptical of the 17th Amendment repeal movement, because Germany has a system in which states (Länder) elect senators (members of the Bundesrat), and Germany has within a few decades moved from a stronger system of federalism than the U.S. enjoys to a much weaker federalism than the U.S. enjoys. I’ve recently been reading Fiscal Decentralization and the Challenge of Hard Budget Constraints, edited by Jonathan Rodden, Gunnar Eskeland, and Jennie Litvack, and it turns out this arrangement or something like it is more common than I realized — and with even worse consequences.
First, here is Rodden on Germany (p. 174):

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A Little Example of “Crowding-In”

In the last budget, the New Hampshire state legislature cut state university funding by nearly half, as part of an effort to deal with a large budget gap opened up by unrealistic revenue forecasts issued by the previous legislature. Today, the NH Union-Leader reports an all-time best in fundraising success for the state university system:

Gifts and pledges in fiscal 2012, which ended June 30, were up more than 77 percent from last year, to a total of $22.5 million.

The goal was $20 million.

The total raised is second only to the final year of the last capital campaign in 2002, according to a release from the foundation.

The president of the university obliquely seems to acknowledge the role of budget cuts in the fundraising success:

“As we continue to plan for a comprehensive campaign, this represents a vote of confidence in UNH from more than 19,000 alumni and friends,” UNH President Mark W. Huddleston said.

Huddleston also is serving as the interim president of the UNH Foundation.

“Private support, especially in light of a historic cut in public funding from the New Hampshire Legislature, is crucial for student scholarship support and faculty development,” he said.

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*Classical Liberalism and the Austrian School* by Ralph Raico (updated)

Classical Liberalism and the Austrian School is the latest collection of essays from Ralph Raico, published by the Ludwig von Mises Institute. Ralph was kind enough to send me a print copy.

The introductory, eponymous essay concerns the relationship between Austrianism as an economic methodology and classical liberalism as a political program or ideology. Raico disputes Mises’ contention that Austrian methodology (methodological individualism) is clearly separate from the normative claims of classical liberalism (2-3). Raico builds a persuasive case that Austrianism as traditionally understood is indeed naturally related to classical liberalism; however, I would argue that this implication is not entirely to the credit of traditional Austrianism.

First, let us take methodological individualism. Modern neoclassical economics is as thoroughly methodologically individualist as Austrianism ever was. But note that both neoclassical and Austrian economists depart from methodological individualism when convenient to do so, for instance when deploying the firm as a rational actor. The firm is a collective entity. Robert Nozick in Anarchy, State, and Utopia has a brilliant insight into when methodological individualism “might go wrong” (22):

If there is a filter that filters out (destroys) all non-P Q’s, then the explanation of why all Q’s are P’s (fit the pattern P) will refer to this filter. For each particular Q, there may be an explanation for why it is P, how it came to be P, what maintains it as P. But the explanation of why all Q’s are P will not be the conjunction of these individual explanations, even though these are all the Q’s there are, for that is part of what is to be explained… The methodological individualist position requires that there be no basic (unreduced) social filtering processes.

The filtering process for the firm is profit maximization. We can know that firms try to maximize profit even if we do not have a good explanation for why each individual firm tries to maximize profit, or why individuals have chosen so to organize themselves. The answers to the latter question were developed by Coase and Williamson, by the way (Chicagoites, not Austrians, though fully taken on board by contemporary Austrians).

Second,

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Adam Smith and “Adam Smith”

I’m sorry, but what does Michael Boskin’s WSJ op-ed entitled “Obama and ‘The Wealth of Nations’” have to do with Adam Smith? The first sentence of the op-ed is “President Obama should put Adam Smith’s ‘The Wealth of Nations’ at the top of his summer reading list.” Perhaps he should—but then again, lots of people should, including, one might even suggest, Michael Boskin.

Boskin quotes the famous line from The Wealth of Nations in which Smith says “It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest” (bk. 1, chap. 2, para. 2). But there are two problems with Boskin’s use of this passage. First, he misquotes it. I have rendered it correctly here, but Boskin forgets a comma and inserts the word “can” between “we” and “expect.” Not a major blunder, perhaps, but if that is the only line one quotes from the book that ostensibly forms the background for your entire op-ed argument, you should get it right.

Second, and much more important, that line from Smith does not make the point Boskin apparently wants it to. Boskin wishes to criticize President Obama for holding, in Boskin’s words, “that the profit motive is somehow ignoble.” Boskin counters that “every student learns in introductory economics class that the pursuit of profits is essential to a successful economy, allocating resources to the use consumers value most.” (That might be taught in every micro course, but I am not so sure every student learns it; but that is by the by.) Note, however, that both Obama’s and Boskin’s positions, as stated, might be true: they do not contradict one another. Let me explain.

Smith’s claim about how we “address ourselves” to potential partners in market or commercial transactions—namely, “not to their humanity but to their self-love” (ibid.)—would seem to be a descriptive, not a prescriptive, statement. In other words, it describes what people actually do in such situations, leaving the question of whether they should or should not behave that way out of the discussion. Smith is here describing the way markets work, on the assumption—correct then, as it is now—that most people do not know how they work. Now Smith will indeed go on to argue that individuals acting in their own self-interest tend to engage in behaviors and transactions that benefit not only themselves (their intention) but also other people in the society as well (not part of their intention). This gives us a reason, Smith believes, to wish to encourage such transactions. This is Smith’s famous “invisible hand” argument (Wealth of Nations, bk. 4, chap. 2, para. 9).

Hence Smith does develop a prescriptive argument in The Wealth of Nations, but the gains from trade, which he thinks are both real and underappreciated, are nevertheless not decisive. Smith acknowledges other matters that he thinks we should also consider as we evaluate commercial society. Smith worried about the deleterious effects that extreme division of labor might have on the minds and psyches of the laboring class (WN, bk. 5, chap. 1, art. 2, paras. 50 and 61), and he proposed some small measures—like partially subsidized primary schooling for all (ibid., para. 55)—to address them. He also worried about the effects that business–government “partnerships” would have: he thought they would almost inevitably benefit the protected and privileged businesses at the expense of both other businesses and the public generally, so he opposed such partnerships (WN, bk 1, chap. 10, part 2, para. 27 and passim). And he worried about the poor. Indeed, almost all of the policy recommendations Smith comes to make could arguably be seen as motivated by his concern for raising the status of the least among us (here is but one example).

Now, concern for the poor, support for education, and opposition to monopoly privileges for favored businesses are hardly the exclusive provenance of the political left, as some contemporary scholars claim, but neither are they the exclusive provenance of the right. They arise instead from an understanding of how markets work and a genuine desire for people to have the chance, as Smith puts it, to better their conditions. Hence a person who wants to present Smith’s argument the way Smith intended it has to spend time defending him against people on the left, as well as on the right.

But Boskin, who is on the right, offers no discussion of any of this. Instead he wishes merely to criticize President Obama and at the same time make his own policy prescriptions, but from under the protective mantle of Adam Smith. I pass no judgment here on whether Boskin’s policy recommendations are good or bad. But they are a long way from the general claims Smith makes. If Boskin wants to suggest that Smith would endorse them, he has a lot more work to do. But why bother? Why not merely state them as his own recommendations, and argue for them on the merits?

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The Paycheck Fairness Act vs the Market

As you likely know, the Paycheck Fairness Act died in the Senate earlier this week, with strong GOP opposition. (see coverage here). The key provisions of the bill are nicely summarized in the Christian Science Monitor:

The legislation…would require employers to prove that differences in pay are based on qualifications, education and other “bona fides” not related to gender. It also would prohibit employers from retaliating against employees who ask about, discuss or disclose wages in response to a complaint or investigation. And it would make employers who violate sex discrimination laws liable for compensatory or punitive damages. Under the bill, the federal government would be exempt from punitive damages.

Of course, introducing the bill that stood no chance of passage was largely a symbolic act designed to document the Republican “war on women.”

There are the obvious debates about the empirical record (e.g., if women make 77 cents on the dollar for the same employment, does this reflect genuine gender discrimination or some other factors such as time taken out for child rearing?). One might also question whether adding a new set of regulations makes sense in the current economic climate. But there is another debate about whether such legislation can be justified. For many libertarians, the answer is obvious.

The Economist blog, Democracy in America, takes up this issue and uses it to  excoriate Rand Paul for his rejection of the Paycheck Fairness Act. The critique hinges on Paul’s efforts to draw some parallel between the aspirations of the law and central planning:

“Three hundred million people get to vote everyday on what you should be paid or what the price of goods are,” Paul told reporters on Capitol Hill. “In the Soviet Union, the Politburo decided the price of bread, and they either had no bread or too much bread. So setting prices or wages by the government is always a bad idea.”

The Economist notes that wages are set by the employer, not a central planner. The only question is whether the employer has violated the provisions of Title VII of the Civil Rights Act of 1964 (prohibiting discrimination in employment) and the Equal Pay Act of 1963 (which prohibits sex-based wage discrimination), and this is a decision that should be left to the courts.

The piece moves on, then, to a thought experiment:

But should it be illegal to offer different pay for the same work based on an employee’s sex? Maybe not. Mr Paul’s argument here implies he thinks it should be okay. So, let’s try a thought experiment. How would you react to seeing a job advertisement that read: “Associate lawyer in patent firm, 3 years’ experience required, salary $100k for man, $77k for woman”? Is that okay? If not, why not? How about this: “Associate lawyer in patent firm, 3 years’ experience required, salary $100k for Christian, $70k for Jew”? How about “Salary $100k for white, $65k for negro”?

I don’t think there is evidence that Rand Paul thinks discrimination is “okay,” rather, I am assuming he believes—as most libertarians—that market forces are sufficient to limit the extent of discrimination.  But let’s take the thought experiment seriously. How would you react to the above job ads?

My first response is simple: I would not do business with firms that adopted these policies.  I assume that many others—perhaps even a majority—would have a similar response. Businesses might freely adopt any employment practices they wish, but it they could face a significant backlash from consumers. One might also assume that these employment practices would limit the effective labor market for these firms, further reducing their competitiveness and potentially driving them out of business.

So if we believe if freedom of association and the right of individuals to engage in voluntary economic transactions, we might be content to allow markets to sort things out without the intervention of the state.

But is this sufficient?

If the forms of discrimination noted above are universalized—e.g., every firm chooses to pay women less than men—the market would not impose much in the way of discipline.  Moreover, even if the market would impose discipline, none of this would provide much satisfaction for those who were discriminated against in the first place. Those of us who believe in a higher power have faith that God will ultimately judge the quick and the dead. But we nonetheless also seek justice in the temporal realm.

One response to this last point is evident. An individual has no entitlement to a particular job, and so the denial of employment (or the offer of employment at a particular wage) does not fall into the realm of justice. For those who wish to see a more elegant development of this argument, see our own James Otteson’s fine book, Actual Ethics.

The question of whether the state has exceeded its bounds by moving beyond the protection of life, liberty and property seems to me to be a separate issue (even though it is of great interest to many of us). Discrimination in employment and wages is already illegal. Given the laws currently on the books, is there great harm in facilitating access to information and reducing the legal transaction costs faced by those who have legitimate claims?

Someone make the argument.

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CEOs vs. Small Business Owners on Which Policies Make for a Business-Friendly Climate

Which public policies make an economy better for business? One way to answer this question is to ask businesspeople. Two recent surveys ask businesspeople to rank the American states on their friendliness toward business.

Now, libertarians often remind us that friendliness toward business is not the same as friendliness toward markets. Indeed, libertarians believe that many of their favored policies, such as abolishing trade protection, corporate welfare, and regulations that privilege big business, will redound to the benefit of workers and small business owners. What’s so interesting about these two surveys is that they are of different types of business owners: CEOs of large companies and small businesspeople. The first survey was conducted by Chief Executive magazine and the second by thumbtack.com in partnership with the Kauffman Foundation. By relating respondents’ views about the friendliness of their states to those states’ actual policies, we can see where big and small businesses agree and disagree about which policies are most important for their success.

My first step was to draw out of these survey data those numbers that relate specifically to different states’ policy environments, as opposed to other aspects of the economic climate. From the CEO survey, therefore, I took the taxation/regulation score given for each state (higher is better). From the small business survey, I took the “Regulations” component grades. Unfortunately, the small business survey does not include raw scores for each state, so I simply quantified the grades as follows: A+ = 0, A = 1, A- = 2, and so on, up to F = 11. The small business survey only covers 45 states, but for these states, the correlation between CEO and small business scores was -0.76. Since higher is better in the CEO survey and lower is better in the small business survey, that high correlation indicates a surprising degree of agreement between large and small businesses about states’ friendliness toward their businesses.

Nevertheless, there may remain some important differences in which policies large and small businesses prioritize. To get a handle on this question,

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Federalism & Inequality, Part Two

In my last post on this topic, I described an ideal system of federalism and its advantages and disadvantages. One of the concerns that progressives often have about this kind of federalism, which I wish to take seriously, is that it will lead to a growing gap between the incomes of rich and poor regions (such as states in the U.S.). In this post, I’m going to summarize my findings on the empirical evidence on the relationship between federalism and inequality.

What I want to explain here is the extent to which different countries feature regional convergence or divergence in per capita incomes. That is, in some countries rich regions grow faster than poor ones, and in others poor regions grow faster than rich ones. The way to measure that is with the “annual rate of convergence,” which represents the average rate at which the differences in per capita income between a poor economy and a rich economy disappear, all else equal. A figure of 2% would mean that 2% of the average income difference between a rich and poor economy disappears each year. Even when convergence is happening, that does not mean that measured inequality between regions necessarily goes down, because random shocks can intervene (such as oil discoveries or real estate busts). But it’s a key question whether federalism can cause regional economies to convergence faster or more slowly (or even diverge).

Here is how some countries differ in their measured rate of regional convergence over the 1995-2005 period, the longest and most recent period for which consistent data are available (regions are defined as the subnational tier of government enjoying the greatest economic self-rule, which is in turn defined below: states in the U.S., autonomous communities in Spain, provinces in Canada, Laender in Germany, counties in Denmark, etc.):

Some countries actually experience regional divergence, in which richer regions grow faster than poorer ones: Slovakia, Poland, Ireland, Hungary, the Netherlands, and Japan, most notably. The fastest converger in the sample is the European Union (the 15-member EU prior to the entry of the postcommunist states and Cyprus). In other words, the gap between poorer EU states and richer EU states was erased at a 5% annual clip between 1995 and 2005. Much of this remarkable performance had to do with the steep rise of Ireland, but even when Ireland is excluded, the EU is a star performer among these “countries.”

In the chart above, there is no clear relationship between how

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Austerity in Europe Chart of the Day

General government final consumption expenditures for the 27 member countries of the European Union, from 2002 to 2011 (fiscal years):

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In Support of the One Percent

There is an interesting NYT piece by Adam Davidson on Edward Conard, former Bain partner and author of a forthcoming book entitled Unintended Consequences: Why Everything You’ve Been Told About the Economy Is Wrong. Here is one excerpt from a fascinating article:

A central problem with the U.S. economy, he [Conard] told me, is finding a way to get more people to look for solutions despite these terrible odds of success. Conard’s solution is simple. Society benefits if the successful risk takers get a lot of money. For proof, he looks to the market. At a nearby table we saw three young people with plaid shirts and floppy hair. For all we know, they may have been plotting the next generation’s Twitter, but Conard felt sure they were merely lounging on the sidelines. “What are they doing, sitting here, having a coffee at 2:30?” he asked. “I’m sure those guys are college-educated.” Conard, who occasionally flashed a mean streak during our talks, started calling the group “art-history majors,” his derisive term for pretty much anyone who was lucky enough to be born with the talent and opportunity to join the risk-taking, innovation-hunting mechanism but who chose instead a less competitive life. In Conard’s mind, this includes, surprisingly, people like lawyers, who opt for stable professions that don’t maximize their wealth-creating potential. He said the only way to persuade these “art-history majors” to join the fiercely competitive economic mechanism is to tempt them with extraordinary payoffs.

Conard seems to minimize the importance of transfer-seeking behavior in shaping the economy–a point that is nicely developed by Davidson. Any reactions?

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Saturday Afternoon Bemusement

Tyler Cowen makes the case that a large, inefficient public sector can be a good thing:

we should not be trying to squeeze the entire economy into the shoebox of the dynamic but risky “Economy I.” For public choice reasons, as well understood by Karl Polanyi (an underrated public choice theorist if there ever was one), the polity requires some respite from Economy I, whether we like that or not… Furthermore the more “sluggish” Economy II, by operating under different principles, often serves as a useful R&D lab for Economy I. Think MIT and Stanford, or note that Adam Smith ended up as a customs commissioner, as his father had been. Goethe and Bach worked for governments for much of their lives. It’s about balance and synergy, though it is perfectly fair to see contemporary Western Europe, especially in the periphery, as a region which has far too much Economy II and too little Economy I.

The first point in particular reminds me of Dani Rodrik’s argument for the welfare state under conditions of globalization: the government sector is relatively “safe” and can buffer dislocations due to global markets. Cowen isn’t referring exclusively to the public sector as “Economy II,” since the latter also includes labor-intensive, service-sector occupations, but he does imply here that the university system is a desirable public subsidy in part because it is inefficient and gives researchers respite from the private market.

I never really grasped that argument from Rodrik, and I still don’t. It seems to me that if you want inefficiency as a risk hedge, you could just bury some boxes of money and set fire to some of it in good times, then dig up what’s left in bad times. Less facetious: why not invest in a global equities index? Even better: why not push for globalization as a solution to its own problems? After all, there’s nothing about the economies we live and work in that’s inherently national. I live and work in the Erie County, New York economy. It’s a highly open economy. Why doesn’t Erie County, New York have an even bigger welfare state than the U.S.? Because we can buffer risk by investing in or, in the limit, moving to other parts of the country. So labor mobility and capital mobility are themselves solutions to the very risks posed by globalization of the merchandise trade combined with volatility in the terms of trade.

And you don’t have to set fire to any money.

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As a Dog Returns to its Vomit…

As the economy slowly claws its way out of the financial crisis and the deepest and most prolonged recession since the Great Depression, it is good to know that some of the lending practices that contributed to the collapse are once again being deployed. As Jessica Silver-Greenberg and Tara Siegel explain in today’s NYT:

as financial institutions recover from the losses on loans made to troubled borrowers, some of the largest lenders to the less than creditworthy, including Capital One and GM Financial, are trying to woo them back, while HSBC and JPMorgan Chase are among those tiptoeing again into subprime lending.

Credit card lenders gave out 1.1 million new cards to borrowers with damaged credit in December, up 12.3 percent from the same month a year earlier, according to Equifax’s credit trends report released in March. These borrowers accounted for 23 percent of new auto loans in the fourth quarter of 2011, up from 17 percent in the same period of 2009, Experian, a credit scoring firm, said.

But I thought the new regulations were going to put an end to these practices? No, in fact, they have stimulated their return:

The banks, for their part, are looking to make up the billions in fee income wiped out by regulations enacted after the financial crisis by focusing on two parts of their business — the high and the low ends — industry consultants say. Subprime borrowers typically pay high interest rates, up to 29 percent, and often rack up fees for late payments.

Thankfully, “the push for subprime borrowers has not extended to the mortgage market, which remains closed to all but the most creditworthy.”  My guess: it is only a matter of time until these practices revert to the old normal.

As most accounts of the financial crisis suggest, moral hazard was a significant problem.  Financial institutions assumed that they could act with reckless abandon and assume risk but the costs, should things collapse, would be socialized by the government. The events of the past few years have only reinforced this assumption.

As Solomon remarked:

 ”As a dog returns to his vomit, so a fool repeats his folly.”   Proverbs 26:11

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“Neoclassical Liberalism,” Property Rights, and Capitalism

Matt Zwolinski and John Tomasi have a thought-provoking piece entitled, “A Bleeding Heart History of Libertarianism,” in the latest Cato Unbound. They criticize postwar libertarians (specifically mentioning Mises, Rand, and Rothbard) for seeing property rights as absolute and, in their view, regarding the welfare of the working poor as irrelevant to moral justifications for capitalism:

In the remainder of this essay, we will discuss one particular way that neoclassical liberalism has a better grounding in the libertarian intellectual tradition than the libertarianism of Mises, Rand, and Rothbard. It is not the only contrast, but one of the clearest and most important differences between these two schools of libertarian thought has to do with the proper nature of concern for, and obligation to, the working poor. On this issue, the neoclassical liberal position is that the fate of the class who labor at the lowest end of the pay scale under capitalism is an essential element in the moral justification of that system. And this position, we will argue, has a far more solid grounding in the libertarian intellectual tradition than the justificatory indifference to which the postwar libertarians are committed.

They go on to cite John Locke, Adam Smith, and Herbert Spencer (yes, Spencer!) as classical liberals who would be more sympathetic to the neoclassical-liberal project of justifying markets partly on the basis of their consequences for the welfare of the least well off. However, they also argue, plausibly, that Rand and Rothbard in particular were not indifferent to the fate of the poor, simply that they viewed the coincidence of respect for individual property rights and a better life for all as a happy fortuity. (Mises was more of a consequentialist and perhaps after all a comfortable fit within neoclassical liberalism.)

I would stress that

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Federalism & Inequality, Part One

Constitutional debates swirling around the PPACA’s individual mandate have much to do with federalism. The core issue the Supreme Court is addressing is whether the federal government has essentially unlimited authority in economic policy, or whether they are yet some areas of economic policy-making (such as whether to compel commerce) exclusive to the states. As someone who believes that constitutions ought to be read according to – I don’t know – what their actual words say, I think the entire act is obviously unconstitutional. Article I, section 8 of the U.S. Constitution permits Congress to legislate in order to “regulate commerce…among the several states.” Thus, Congress has the authority to regulate interstate commerce. Not “anything that might be related somehow to interstate commerce,” plus “anything necessary and proper to any of those things.” Of course, no one on the Supreme Court, except perhaps Clarence Thomas on issues like this one, shares my judicial philosophy.

Putting the constitutional issues to one side, however, I want to address the desirability of the kind of federal system that classical liberals — and, perhaps, Justice Thomas — favor. We can summarize that federal system as follows:

1. The primary regulatory authorities in the country are state and local governments.
2. The economic role of the federal government is to ensure a common market: to prevent states from levying barriers to the free flow of goods, services, people, and capital, from tariffs to invidious regulations to local preferences in government procurement.
3. The national court system protects basic human rights and civil liberties from infringement by federal, state, and local governments.
4. State and local governments fund their activities almost exclusively out of their own resources. The federal government should not, in general, provide grants to state and local governments.
5. State governments are politically autonomous, constitutionally sovereign, and independently elected. They may legislate freely within the bounds expressed above.
6. State governments are permitted to form compacts to deal with externalities. For instance, states may choose to adopt uniform regulations on insurance so that companies can sell the same product in multiple states with a quicker approval process. Because states retain their sovereignty, they are free to enter and withdraw from such compacts at any time.

OK – so what are the arguments against this kind of system? (I go over some of the arguments and evidence in favor here.) One common objection to “states’ rights” is that state governments may violate the civil rights of some of their citizens. I share this concern, one reason I don’t think the term “states’ rights” is appropriate for my position; nevertheless, the concern is addressed with point 3 above. Another objection might be that problems like pollution and endangered species can cross state boundaries. Given a sufficiently small number of states, however, I do not see why they cannot contract with each other to solve their commons problems. What else?

There are two concerns about fiscal federalism that many progressives share that I take seriously: that inter-jurisdictional competition under federalism will undermine the welfare state, and that the system will lead to greater inequality among regions. The first concern

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Moral Philosophy & Dogmatism

Political libertarians are a motley lot in terms of their moral philosophies. There are three dominant strands – utilitarians like Milton Friedman, deontologists like Robert Nozick, and teleologists like Ayn Rand – but I’ve also met egoists, postmodernists, and Rawls-style egalitarian consequentialists. In debates over moral foundations, Randians often ally themselves with the deontologists in support of “natural rights” (a bit of a misnomer, as deontologists prefer not to locate the source of rights in “nature” but in reason).

Critical Review editor Jeffrey Friedman, a utilitarian, used to say that rights libertarians are more dogmatic than utilitarians on questions of social science. He was extremely skeptical of the line of argument, commonly found in Rothbard, that libertarian policy X is justified on the grounds of both liberty and utility. What are the chances that the world just happens to line up in such a way that perfect justice and liberty also maximize social welfare in every instance? He calls himself a “post-libertarian” in part because he believes that the empirical evidence is unsettled as to the frontiers of the proper (i.e., utility-maximizing) roles of government. And he believes that it is a mark in favor of utilitarianism as a moral philosophy that rights libertarians are extremely reluctant to admit that any of their policy conclusions might not maximize social welfare.

Now, I would make several points in response. First,

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