Front Page Titles (by Subject) I: Economics and the Free Society - Literature of Liberty, Winter 1981, vol. 4, No. 4
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I: Economics and the Free Society - Leonard P. Liggio, Literature of Liberty, Winter 1981, vol. 4, No. 4 
Literature of Liberty: A Review of Contemporary Liberal Thought was published first by the Cato Institute (1978-1979) and later by the Institute for Humane Studies (1980-1982) under the editorial direction of Leonard P. Liggio.
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Economics and the Free Society
Over the past four years economic themes have recurred frequently in the pages of Literature of Liberty. This emphasis accords with the vital importance of economic theory and policy in the daily lives of each of us. For some time we have suffered accelerating economic crises, shortages, dislocations, and the sapping of human ambition as a consequence of our “age of inflation.” Taxes, an expansionary monetary policy, regulations, price controls, subsidies, and centralized government planning in general have spread a cloud of uncertainty on our immediate economic horizon.
What are the origins of these challenges to economic freedom? The opening set of eight summaries explores the historical and ethical dimensions of modern critiques of the free market and capitalism. Is the market compatible with justice and freedom? Differing responses to this question are heard from Chipman, Cohen, and Wilbanks. Nelson's and Horne's summaries rehearse, respectively, economic and ethical arguments critical of the free market and commercial society. Next, Samuels underlines the academic confusion surrounding the scientific status of policy recommendations of free trade. Steensgard and Kinser then offer historical theories to the alleged origins of capitalism. Finally, the last five summaries report particular economic studies that suggest the advantages of freedom and individual choice in the economic world.
Whether favoring or condemning the market principle, modern scholarship allows us to reflect on the intellectual underpinnings of anti-market opinions.
The Compatibility of Justice & the Market
Foundation Professor of Philosophy at the University of Wollongong and Visiting Professor in Jurisprudence at the University of Sydney
“Liberty, Justice and the Market.” The Center for Independent Studies, Occasional Papers #6 [Australia], (December 1981).
Many doubt the idea that a free market not only is the most efficient way of organizing the economic affairs of society but also can do so in a manner consistent with the fundamental principles of freedom and justice. Professor Chipman, author of Liberty, Equality and Unhappiness, past president of the Australasian Association of Philosophy, and current president of the Australian Society for Legal Philosophy, challenges us to reject the notion that a necessary conflict exists between the market principle and liberty and justice. He counterargues that these principles are symbiotic and support one another.
The author argues firstly that one who values liberty ought, to be consistent, value justice and the market economy. Secondly, he reasons that one who values justice ought similarly to value liberty and the market. Thirdly, he argues that one who values the free market ought also to value liberty and justice.
Professor Chipman seeks to undermine the following beliefs: (1) The free market largely interferes with people's freedom; restrictions on market activity would, therefore, increase people's freedom. (2) The free market needs to be interfered with to bring about a more just distribution of goods and services. (3) The state is the proper and potentially effective instrument for ensuring that wealth, goods, and services are “correctly” distributed, which means distributed to those with the greatest needs and on some sort of equal basis.
Professor Chipman clarifies various notions of individual liberty and accepts Robert Nozick's notion that the legally permissible would be those goals achievable without violence, theft, or deception. He traces necessary but defensible inequalities of wealth to allowing personal freedom and forbidding coercion. He concludes that legitimately acquired wealth ought not to be redistributed by government; the market itself has several ways to provide for the needy and improve their condition with the state's direction. Chipman would restrict the role of the state in a free, liberal society to preventing violence, theft, deception, and violation of contracts.
Is Capitalism Free and Just?
“Freedom, Justice and Capitalism.” New Left Review No. 126(March-April 1981):3–16.
Professor Cohen, a Marxist analytic philosopher and author of Karl Marx's Theory of History, argues that principled opponents of capitalism must develop a far more logically rigorous case. The strategy for such an anti-capitalist case, he reasons, would be to meet libertarian defenses of the legitimacy of private property on the very grounds that libertarians and classical liberals value. Since libertarians affirm that private property is legitimate on the grounds of human freedom and justice, the opponent of private property must demonstrate that, on the contrary, it violates both freedom and justice. Sound arguments are required, not just assertions that capitalists follow their class interests in defending property. Lack of conceptual clarification, Cohen states, can explain why capitalist ideology can be sincerely believed by both the rich and the poor.
Capitalism, as an ideology of private property, is defended by the economic argument (private property allows good economic consequences), the freedom argument (economic freedom, even apart from its consequences, is good because freedom is good), and the justice argument (property is morally right). The author concentrates in his “critique of ruling ideology” on the freedom argument and sketches the outline of his response to the justice argument.
Cohen rejects as logically weak the socialist attack on capitalist freedom that either laments the human price of unrestricted freedom or dismisses capitalism as mere “bourgeois freedom.” He recommends a more powerful logical attack: socialists should argue against the capitalist that capitalism is “inimical to freedom in the very sense of ‘freedom’ in which...a person's freedom is diminished when his private property is tampered with.”
Cohen maintains that libertarians and classical liberals misuse the slippery notion of freedom. If libertarians were consistently to favor a society in which there are no social and legal constraints on individual freedom, then they must oppose private property which uses the state or some other agency to restrict the freedom of someone to use any property that does not belong to him. Libertarians do not see that private property constrains freedom since they tend to view property as a permanent given, a “part of the structure of human existence in general.” Yet if we are serious in our neutral definition of freedom then we must admit that property withdraws liberty from those who do not own it. “I am unfree whenever someone interferes justifiably or otherwise with my actions.”
Libertarians, when pressed, will admit in the case of defending legitimate private property, that one is justified in reducing the freedom of the trespasser. We thus see that they earlier were using a moralized definition of freedom. Their ultimate ground for defending private property, then, is not neutral freedom (they would admit the imprisoned trespasser is unfree). They finally must rest their case on the grounds of justice. They thus represent “interference with rightfully held private property as unjust and therefore, by virtue of the moralized definition, invasive of freedom.” Social democrats and Marxists must address this defense of property as a just entitlement. The author briefly outlines what such a counterargument (designed to reveal the structural injustice of private property) would look like.
Is Free Enterprise Coercive?
“Free Enterprise and Coercion.” Reason Papers No. 7(Spring 1981):1–20.
Is the capitalist economic system necessarily coercive as Marx and others judged when they analyzed workers in a free market as alienated from their labor and engaged in coerced, non-voluntary activity? Recently, new versions of this anti-capitalist charge have been levelled by Professors Lawrence Crocker (“Coercion and the Wage Agreement”) and Andrew McLaughlin (“Freedom versus Capitalism”).
Professor Crocker denies that a free-enterprise market economy (FEME) provides the best framework for a free society, claiming that “coercive wage agreements are fairly common features” in a market economy, especially during hard times. Crocker's argument advances through hypothetical examples. First, he outlines what he judges to be a clear case of coercion in a FEME, involving the sale of fire-fighting equipment to needy victims in an emergency. Next, he attempts to demonstrate that the more dubious case of a wage agreement made by needy workers in a FEME also involves coercion. He contends that the wage-agreement case shares the crucial moral feature of the fire-fighting equipment case. Finally, he asserts that we can legitimately extrapolate from these foregoing cases to a wider range of situations in the FEME, because the FEME exhibits generally the analogous features present in the two mentioned natural emergency cases.
The author scrutinizes a number of Professor Crocker's ambiguous terms, such as property, and argues that Crocker has not, in fact, demonstrated that coercive wage agreements are fairly common features of a FEME. Crocker has not convincingly shown that the fire-fighting equipment example taken from Gideon is a clear case of coercion in a FEME, and he has not shown that the wage-agreement cases he bases on the fire-fighting example are instances of coercion. Therefore, Crocker has not provided an adequate foundation for suggesting that a FEME may not actually offer the best framework for a free economy. In addition, to refute Crocker's anti-market case with his dubious criterion of coercion is to provide strong grounds for suggesting that a FEME is a sine qua non of a free society—if by the latter we mean a society in which no one is permitted to aggress against the person or property of another.
Next, the author attacks Professor McLaughlin's anti-market notion of covert “systematic coercion,” which is alleged to occur when there is a systematic structuring of alternatives that a person faces in a choice situation. In effect, the capitalist system coerces one to enter that economy to survive. From this claim, capitalism and FEME are judged to be antithetical to freedom.
The author seeks to refute McLaughlin's distinction between overt coercion and systematic coercion through linguistic considerations which show that “systematic coercion” is not a bona fide form of coercion. Systematic coercion is misleading and does not apply to coercion as understood in a politico-economic context. Systematic coercion can only be coercive to the extent that it involves the threat of injury, overt or covert, by other individuals, and thus would amount to coercion, properly construed. Thus McLaughlin's argument fails to undermine the contention that a FEME can be a free society's framework.
Private Enterprise vs. Central Planning
“Assesing Private Enterprise: An Exegesis of Tangled Doctrine.” The Bell Journal of Economics (Spring 1981):93–111.
Professor Nelson seeks to refute the economic superiority of private enterprise over centralized statist systems. He argues that the twin theorems of welfare economics (which relate competitive equilibrium to a social optimum and which he regards as the basis of the case for capitalism) are weak foundations for economists' faith in free enterprise. Nelson asserts that, if conventional welfare economics were to consider more deeply the three prime virtues claimed for the enterprise form of economic organization (administative parsimony, responsiveness, and innovativeness) it would recognize how these criteria support a centralized economy rather than the free market.
Administration's task in any economic system is to respond to uncertain changes in demand and supply, as well as to the challenge of innovation. Welfare economics, Nelson asserts, avoids the problem of administrative response by assuming a steady state, which allows, however, even a tight, centrally planned system to respond effectively.
On the other hand welfare economics assumes that conditions more complex than static equilibrium would confront a stylized central planning regime with the choice of either working with crude decision rules or else suffering high administrative costs. Nelson counterargues that a stylized private enterprise system would face a similar trade-off. Market transactions that ignore all but a few dimensions of costs and benefits are cheaper than those which realistically consider many. In a free enterprise regime, the trade-off is between leaving externalities and imposing a more costly market-transactional structure.
The problem of unpredicted change leads to the question of responsiveness. In a dynamic economy economic units have no assurance that their past decisions will work in the present circumstances. Proenterprise literature contends that the capitalist system tracks the shifting conditions of the market with low administrative overhead as opposed to the poorer performance of a centralized economy.
Although he concedes that private enterprise responds quickly and at relatively low cost, Nelson challenges whether its responses are well-directed. He argues that without a central mechanism to direct firms (in dividing up increases or decreases in overall industrial capacity, for example), the multitude of competitive firms in any industry would produce chaos rather than intelligent responses to problems of output and inter-industry coordination.
Next, argues Nelson, although the diversity of private enterprise might appear better suited to encouraging innovation and creativity than centralized bureaucracies, the market may in fact erect obstacles to innovation. He alleges that a firm's fear of losing its technological secrets to rival firms tends to discourage outlays for new research and development. In addition, as enterprises grow larger, they suffer a decline in creativity and the ability to monitor performance. To support his contention of free enterprise's weakness in R&D, Nelson points to the large governmental funding of R&D in many capitalist countries.
Nelson judges that the traditional arguments for private enterprise are economic prejudices and result from faulty empirical observation.
Vicious Motivations & Commercial Society
“Envy and Commercial Society: Mandeville and Smith on Private Vices, Public Benefits.” Political Theory 5(November 1981):551–569.
In the 18th century suspicions mounted about the morally and socially dangerous consequences that the emergent commercial society might promote. Would the pursuit of wealth and private self-interest dissipate the individual's concern for others and for the cultivation of benevolence and public-spiritedness? Could a society that depended upon self-interest be morally justified? Commercial society faces a difficulty if the criterion for evaluating the good society is how well any society nurtures virtuous citizens who set limits to their desires and who can act for the public good. Both Mandeville and Adam Smith addressed this problem and both came away with their moral suspicions reinforced.
Commercial society is morally problematic since it ties its promise of material prosperity to increasing an insatiable awareness of individual self-interest and vanity (in the sense of ever striving to materially impress others). This moral problem was most provocatively formulated by Bernard Mandeville (1670–1733) in his Fable of the Bees as “Private Vices, Public Benefits.” Mandeville insisted on an ineradicable tension in commercial society which depended on private vice (in the form of self-interest, vanity, pride, and envy as morally vicious but economically beneficial prods) to produce material survival and progress. He represented as unavoidable the dilemma of both disapproving of the socially disruptive vices of envy and pride and yet approving of the socially indispensable economic productivity spurred on by those very vices.
Mandeville's critics and the defenders of commercial society needed to demonstrate that economic activity could spring from motivations that, if not explicitly moral, were at least morally neutral. Adam Smith took up the challenge, but both his works, The Theory of Moral Sentiments (1759) and The Wealth of Nations (1776), reveal his ambiguous attitude toward commercial society. Smith tried to find a middle position between Francis Hutcheson's claims for the importance of benevolence as a human motivation and Mandeville's claim on the inevitability of a sadly necessary vice. Smith asserted that the pursuit of wealth need not come at the expense of virtue. First, Smith argued, the self-interest necessary to economic life need not dominate all other aspects of life. Second, many forms of self-interest are either virtuous or morally neutral. Third, merchants and others need to adopt decent moral standards in order to do business.
While Smith's analysis of self-interest in the Wealth of Nations stresses the innocent desire for profit to better one's material condition, a more sophisticated and morally troubling analysis runs through The Theory of Moral Sentiments. In his analysis of admiration of the rich and vanity (the desire to live better than others) Smith reveals disruptive forces that pit self-regard against the interests of others. The socially disruptive motivation of envy threatens the stability of commercial society.
Horne concludes by sketching what motivations and moral criteria commercial society needed to justify itself, once it had jettisoned older notions of virtue. It, in effect, replaced virtue with freedom as the moral standard of social organization. Mandeville's role in this shift was to undercut the emphasis on motivation and, by consequence, to debunk the possibility of virtue. This may have led Smith to investigate the relationship between commerce and liberty. Horne believes that the moral problems of commercial society cannot be completely dissolved by appeals to freedom and prosperity.
Economic Policy: Free Trade and Values
“Economics and Science and Its Relation to Policy: The Example of Free Trade.” Journal of Economic Issues 14(March 1980): 163–185.
For over a century, economists have debated the exact nature of their social role and the relation of economic theory (or science) to policy. Disagreements have concerned the tension between, on the one hand, the desire for analysis free of ideology and values, and, on the other, the reluctant belief in the inevitability of values or ideology. The debates have also stirred doubts as to whether economic principles apply, directly or indirectly, to matters of policy.
Prof. Samuels' article concentrates on the single principle of free trade to highlight the diverse views among economists concerning the scientific status of their field of study and its practical value. He reports the results of a 1977 probe which he conducted among members of the departments of economics and agricultural economics at Michigan State University. The poll consisted of one question: “What do you think is the relationship between the pro-free trade position and the status of economics as a science.” The responses to Samuels' query fell essentially into four categories.
One group of economists affirmed that the position favoring free trade is grounded in economic science. One writer, for example, said that, “under certain ideal conditions (perfect competition, no externalities, etc.), free trade yields a Pareto optimum. This statement,” he continued “is no less scientific than any other in economics.” The respondent added that his view was positive, not normative economics. He believed that “free trade yielding a Pareto-optimum” is a “justification of free trade” but perhaps not an actual affirmation of the free-trade policy position.
A second group of respondents, quite in conflict with the first, argued that there is no justified and conclusive relation between the free-trade position and economics as a science. One economist wrote: “Economics is concerned with the allocation of scarce resources among competing ends. The science of economics does not define the end. Equation of economics as a science with free trade implies that maximum ‘output’ is the only valid end.”
The third major group of economists took a position that economics cannot advocate a specific policy, but can describe the likely consequences of alternative policies. “As a science,” one respondent replied, “economics should strive to identify the magnitude and distribution of benefits and costs associated with different institutions regulating trade under different situations. There is no scientific—that is objective— basis for a universal conclusion favoring free trade.”
Finally, one respondent alone dealt specifically with the conflict between positive and normative economics, as well as with the question of the conditional nature of propositions. He asked the question: “Are free trade advocacy and economics as a science incompatible?” “Yes,” he answered, “if you are a positivist. No, if you are a normativist and allocative efficiency is your only criterion. Maybe, if you are a normativist and your criteria are both allocative efficiency and equity. But in your advocacy you step outside the bounds of what you can objectively say about the specific case using knowledge from economic theory, including welfare economics.”
Prof. Samuels concludes with the comment that there are inevitably normative facets to social science propositions. The meaningfulness of otherwise ostensibly positive “is propositions” depends upon identifying the normative elements. Samuels suspects that, if such a process were faithfully carried out, less disagreement would exist concerning the relation of economic analysis to policy.
Violence, the State & the Rise of Capitalism
“Violence and the Rise of Capitalism: Frederic C. Lane's Theory of Protection and Tribute.” Review 5(Fall 1981):247–273.
Frederic C. Lane formulated his theory of protection and tribute in the 1940s and 1950s. Professor Steensgaard hopes to encourage a debate on Lane's model, especially on its usefulness for understanding the interrelations between the economic and the political sphere in the process of long-term social change. Was organized violence a cause of modern economic development?
In his essay “Economic Consequences of Organized Violence,” Lane seeks to subject the (usually political) use of violence to economic analysis. The use of violence as a monopolistic “protection” service and the “income” derived from the production of protection may structurally influence the allocation of scarce resources and the pattern of demand, saving, and investment. Other economic effects of organized violence appear. Other enterprises, producing other goods than protection, may derive a profit from the variations in the cost and quality of protection. Lane termed “protection rent” the extra income that some merchants derived from lower costs they paid for protection services against bandits, pirates. Through a series of stages, mercantile profits from protection rent became more important than tribute; finally, the use of violence increasingly comes under the control of the consumers of protection, and industrial innovation becomes more important than protection rent as a source of business profits.
Lane's model may help us approach the problem of surplus and analyze accumulation and the rise of capitalism. Marxist studies of the rise of capitalism out of feudalism are defective since they ignore the history of some of the largest preindustrial concentrations and accumulations of resources. Lane's concepts of protection rent and tribute illuminate the unique development of the European economy in the centuries before the Industrial Revolution. Since protection is a commodity and tribute a profit, the use of violence can be analyzed in economic terms, even though the monopolistic nature of the enterprises makes prediction limited. Granted, the world may not become richer by violence, but the use of organized “protective” violence may create disequilibria of a structural character that alter economic levels and patterns. Although profits made by state-protected large trading companies and early colonial ventures might be dismissed as plunder, economic analysis would also point to their historical role in structurally preparing the preindustrial economy for changes. Likewise, we need to study, with the help of Lane's model, the enormous concentration of demand (and its structural consequences) that resulted from the consolidation of the early modern state.
Steensgaard applies Lane's model in analyzing Levantine trade, merchants becoming producers of their own protection (English East India Company and the V.O.C.), and the Atlantic trade. He concludes that this model helps us understand the merchants' profits from long distance trade and early colonization. He further asserts that the production of protection (organized violence) in Europe remained a competitive business.
Lane's model is more useful in interpreting the origins of long-term structural change in early modern Europe than other interpretations which suffer from one of two flaws. (1) Either they generalize the concept of voluntary barter and confuse the model of the theoretical market with the coercive (organized violence) reality of an age in which very few people were interested in buying and selling unless they were under some kind of coercion; or (2) they rely upon the clumsy concept of the feudal mode of production. Neither of these rival interpretations explains the most important problem in early modern history, the coincidence of two unique historical phenomena: the rise of the modern state and the rise of capitalism.
Steensgaard contends, in line with Lane's protection rent and tribute theory, that advantageous structural consequences for rationalized markets flowed from state violence or “protection” services. He also speculates on the following dialectic: parasitic empires grant increasing autonomy to the market goose that lays the golden egg of tax revenues; the independent and countervailing market displaces the empires, which become victims of their own greed.
Braudel's Ideological Theory of Capitalism
“Capitalism Enshrined: Braudel's Triptych of Modern Economic History.” The Journal of Modern History 53(December 1981):673–682.
Fernand Braudel's three monumental volumes covering European economic history and the rise of capitalism between 1400 and 1800 are impressive for their historical detail and grand sweep, but they raise serious misgivings because of Braudel's ideological assumptions and procrustean classifications and definitions.
After some 1500 pages, sparkling with rich nuggets of previously neglected information, Braudel leaves unanswered the key questions concerning the genesis of capitalism's rise and dominance in Europe. He fails to integrate the interworkings of the productive, consumptive, distributive, and circulatory systems of the world-wide economy whose growth and history he has minutely traced. His value-laden definition of “capitalism” as the stage of economic growth characterized by large profits through world-wide or inter-regional trade and arbitrage is too restrictive. By concentrating on trade and circulation of goods for profit, Braudel's understanding of capitalism neglects why production and technology surged forward during these 400 years. The multiplication of markets (the orthodox exchangist view of the rise of capitalism) may not have been the cause so much as the effect of the transformation in technology and labor productivity.
Braudel's three tomes of Civilisation matérielle, économie et capitalisme, XVe–XVIIIe siecle—Volume I: Les Structures du quotidien: le possible et l'impossible; Volume II: Les Jeux de l'échange; Volume III: Le Temps du monde (Paris: 1979)—challenge the view that modern European economic life was a unified development towards the Industrial Revolution. By contrast he maintains that economic activity between 1400 and 1800 moved along three nearly independent lines: (1) “material life” or the “infra-economic” level of local self-sufficiency, (2) “economy” proper marked by true market exchange, and (3) a higher level and upper limit of the market economy, namely the domain of “capitalism,” distinguished by far-flung and eventually world-wide trade and profitable arbitrage. In a parallel fashion this trinitarian scheme is reflected in the subject matter of the three volumes: volume one describes the “primitive” economic routines of isolated backward economies, volume two the accelerators of change (the creation of middle-sized markets which trade the production surpluses of previously isolated towns and provinces, and volume three the march of the European economy toward progress, freedom, and a world-wide global market order familiar from Wallerstein's work.
Although he claims his interpretation is the result of neutral, empirical observation, Braudel's theory is “doubly filtered”, first by his reliance on other historians and second by his debatable and overly restricted notion of capitalism. In addition, Braudel's methodology professes deeply value-laden “historical faiths”: the conviction that somewhat reified long-term economic forces always win out over short-term ones, and that human activities form a scientifically analyzable totality—a rather nebulous and mystical assumption which seeks to overcome the plurality and diversity of economic activity in an elegant but arbitrary “coercive codification” of trinitarian patterns and tendencies.
Cognition, Choice, and Entrepreneurship
“Cognition, Choice, and Entrepreneurship.” Southern Economic Journal 46(January 1980):692–701.
Much of the conventional theory of entrepreneurial choice-under-uncertainty neglects the crucial distinction between cognition and choice in economic decision making. Cognition or knowledge about the components of an economic situation may tell us little about how human actors will choose among identified economic alternatives. Hence, entrepreneurial talent may not be amenable to analysis by the tools of modern decision theory. We should drop attempts to apply irrelevant theory to an incompatible subject matter. Any theoretical analysis or modelling that leaves no room for the creative and imaginative elements in such entrepreneurial choice muddies the waters of our understanding of economic progress.
Professor Buchanan contrasts Frank H. Knight's analysis in Risk, Uncertainty, and Profit with G.L.S. Shakle's in respect to their differing conceptions of uncertainty. Knight did not attempt to explain entrepreneurial choice, but merely to explain profits by distinguishing between calculable risk and incalculable uncertainty.
Next, Buchanan critiques the misapplication of formal theories of probability to choices. Bayesian logic and stochastically determinate patterns of outcomes can indeed aid in analyzing an individual's cognition of the structure in which he might or might not choose among alternatives, but such knowledge cannot predict the individual's choice. An informed player in an economic “game” might choose not to act on his knowledge if he felt the game was unfair. Cognitive knowledge may thus be of little value in the development of an entrepreneurial skill or sense of emergent outcomes which depend on free choice.
Federal Expenditures ‘Crowd Out’ Private Investment
“The ‘Crowding Out’ Effect of Federal Government Outlay Decisions: An Empirical Note.” Public Choice 36,2(1981):329–336.
Does the evidence support the claim that government spending and expenditures “crowd out” or contract private spending? The authors seek to answer this much-debated question by extending the scope of Abrams' and Schmitz' 1978 study; they examine the crowding out effect of aggregate federal government spending decisions upon purchases of new physical capital by private firms. By limiting their analysis solely to private investment in new physical capital, they believe that they can highlight the economic implications of crowding out for long-term inflation and short-term unemployment that results from federal government expenditures. The authors employ mathematical and quantitative models to test their hypotheses.
The authors empirically studied crowding out by examining the proportion of GNP devoted to private investment in new physical capital as a function of the proportion of GNP devoted to federal outlays. They studied three alternative models, all of which displayed evidence of (a) a definite pattern in which government spending crowded out private investment and (b) only partial, i.e. incomplete crowding out. These findings are compatible with earlier studies.
Two important policy implications flow from these findings. First, increases in federal government outlays tend to diminish private-sector investment in new physical capital. To the degree that this kind of crowding out occurs, private sector unemployment is generated. This clearly acts to weaken the stimulatory direct effects of increased federal spending since it inhibits the private sector. Second, to the extent that federal government spending leads to diminished investment in new physical capital, this diminishes the rate of capital formation. This tends to worsen long-term inflation by cutting down on the ability of “aggregate productive capacity” to keep pace with “aggregate demand.”
These two implications cast grave doubts on the wisdom of the federal government's decisions to increase federal outlays in various kinds of spending programs.
The Mirage of Economic Efficiency
“Economic Efficiency: Touchstone or Mirage?” The Intercollegiate Review 17(Fall-Winter 1981):33–44.
Confusion over the different meanings of efficiency has led to the erroneous belief that market “inefficiency” requires that a centralized political regime restore “efficiency” by state regulation and planning. As an economist, Prof. Pasour: (1) discusses the elusive meaning of efficiency in a world of uncertain and partial knowledge, (2) shows how “efficiency” as interpreted by conventional welfare economics and its norm of “perfect competition” provides the rationale for government intervention into allegedly “inefficient” markets, (3) explains why inefficiency or waste cannot meaningfully be identified or measured by outside observers who lack the subjective evaluation of the relevant individual decision makers, and (4) argues that we should use the “principles approach” in analyzing government attempts to create efficiency rather than decide each issue case by case.
We need to be careful in not confusing economic with technical efficiency. Efficiency is inescapably subjective and cannot be known apart from the subjective values of the decision maker involved. An outside observer merely imposes his own standards of value when he labels other persons' actions “wasteful” or “inefficient.”
Nor should we misuse the efficiency concept by associating it with the “perfect competition” norm in evaluating real-world markets. Since the highly idealized notion of perfect competition can never be achieved in the real world, it is misleading to use it to discover that there is “market failure” (that is, that the real world is not as efficient as an ideal world). The “perfect competition” model is a device for justifying government intervention to correct “market failure” (such as “monopoly,” spillovers, advertising, and other information problems). It is unlikely that imperfect politicians subject to well-known interests will be any more efficient than market participants.
Efficiency can be a useful concept if improvements are attempted within the terms of the decision maker's own subjective values. However, the efficiency concept is not useful for public policy in evaluating other people, markets, or economic systems. Since costs and benefits are based on subjective considerations, efficiency cannot be determined independently of values and ethical considerations by some putatively neutral team of experts.
We need to evaluate government programs to achieve efficiency on the basis of economic principles rather than by an unfocused “case-by-case” approach. Economists are led astray in basing policy recommendations on the efficiency notion of Pareto-optimality, the cornerstone of welfare economics. Economics would better recommend leaving social and economic activity to informal market principles and their decentralized, non-governmental enforcement.
Private Property and Energy Resources
“Responsible Individuals and the Nation's Energy Future.” The Cato Journal 1(Fall 1981):421–438.
Employing some basic insights from the Austrian school of economics and the private property rights paradigm, the authors find several reasons for believing that private property rights and free markets in energy would better serve both national security and efficiency. By contrast collective decision making of a political and democratic kind would create many problems. If we would establish and recognize secure and transferable property rights to resources, then we could expect that individuals who believe strongly in the advantages and profits from greater future energy reserves would provide for more fuel storage, energy conversion facilities, and energy raw materials for that anticipated future.
Investments in promising innovations are more likely to be funded in the private sector than in the public sector. The economic equivalent of biotic diversity is automatically fostered when individuals with different tastes, in various circumstances, are free to act and are also held responsible for their actions. The decision makers will be better informed in the private than in the public sector, when information is scarce and uncertainty is prevalent. Despite the greater degree of innovation, we can expect a smaller level of waste from the private sector than from the equivalent public sector innovations. This follows from the existence of the reality check of profit and loss in the private sector, as well as the smaller degree of rational ignorance in that same sector. Finally, we note that the public sector will be systematically unable to attract and hold successful forecasters in any market so important as that of energy. It would appear that in the energy market, as in so many other areas, that government is best which governs least.
Rent Control vs. Economic Reasoning
“A Short Course in Housing Economics.” In Rent Control: Myths & Realities: International Evidence of the Effects of Rent Control in Six Countries. Edited by Walter Block and Edgar Olsen. Vancouver, B.C.: The Fraser Institute, 1981, pp. 37–52.
A common myth holds the following: “Rent control is a form of tenant protection adopted because housing is a basic need like sunshine and fresh air and its provision ought not to be left to the vagaries of the marketplace.” The author challenges this claim from the economist's point of view and maintains the following: “Rent control is a form of price fixing that increases the shortage of housing and ultimately reduces the ability of tenants to choose where and under what conditions they live. In the course of exploring this criticism of rent control, the author examines: What is the economic behavior of people as regards housing?; How are rents determined?; What are price controls and what effects do they have in the short term and in the long term?
The author's summary of the economic analysis of rent control includes the four following observations:
(1)The demand for housing services is determined by the wants for social standing and recreation as well as by the need for elementary shelter. Accordingly, family income and the price of housing relative to the price for other things have a substantial impact on the housing demanded.
(2)The supply of housing services arises principally from the relatively fixed number of houses or apartments in existence at a particular point in time. However, new construction, renovations (such as basement suites), and a reduction in the average time that apartments stand vacant provide substantial flexibility in the supply of services, even in the shortterm. The principal determinant of the supply of housing services is the expected rate of return on investment in housing relative to the expected rate of return on comparable investments. Rents are a principal determinant of the rate of return on housing.
(3) The notions of “surplus” and “shortage” have economic meaning only with respect to inappropriate prices. A surplus exists because the price (or rent) is too high; a shortage exists because the price is too low. The concept of shortage is sometimes confused with the notion of “scarcity.” Everything is scarce, but there are shortages of very few things.
(4) Price control produces shortages because, if the price is kept below the market price, the control becomes, in effect, a tax on the supplier. The amount of the tax is the difference between the market price and the control price. The only way the supplier can avoid this tax is by not supplying the commodity or service. Since the proceeds of the tax are, in effect, given to the consumer, the consumer is encouraged to demand more. Thus, since price control taxes suppliers and gives the proceeds to consumers, it leads inevitably to a widening gap between the amount demanded and the amount supplied—that is, a shortage.
In sum, rent control never lives up to its expected claims of cheap and plentiful housing. It guarantees that the opposite will occur. Additional scholarship on the economic disadvantages of rent control may be found in the author's book, Rent Control— A Popular Paradox (1965) as well as in Professor Charles W. Baird's Rent Control: The Perennial Folly (1980).