Friday, August 12, 2011

Economics in One Lesson

Economics in One Lesson by Henry Hazlitt simply MUST be read by anyone who wants to understand a very basic economic principle. What is the one lesson that rules them all? It is this: The art of economics consists in looking not merely at the immediate but at the longer effects of any act or policy; it consists in tracing the consequences of that policy not merely for one group but for all groups.

Imagine that! Tracing the consequences of economic policies all throughout an economy and not only focusing on its immediate, short-term effects! Every politician who actually cares about this country and wants to help it, needs to memorized that sentence and live it! They won't. It won't get them re-elected. Short-term benefits with long-term harms are what got us where we are today. The American people continue to keep themselves economically ignorant and re-elect whoever promises to bring home the bacon. Welcome to 14.4 Trillion in debt and unemployment through the roof. Can you say, "long-term harms are coming home to roost?"

After introducing the one lesson early on in the book, Hazlitt proceeds to give example after example of this principle in practice. Some of my favorites listed here:

The Broken Window - It has long been a fallacy popping up in one form or another that some act of destruction is actually an economic boom. If a window is broken, the glazier get business, who can then pass his business along and so on. But the fallacy lies in what is not seen. The person with the broken window is now poorer the cost of the window and has nothing to show for it. He also does not have and does not profit the business that would have provided what he really wanted to spend the money on.

Public Works Mean Taxes - When one looks at a public work, say a freeway or a bridge construction, one sees a tangible good, the bridge, and the jobs created for the workers. What one does not see is more important and harder to distinguish. What did NOT happen because taxes were taken from the taxpayers to fund the bridge? What jobs and capital were NOT created by the original owners of the money? It's a safe bet that what didn't happen would have been more efficient and more likely to raise the standard of living for the society as a whole than the public works project.

The Curse of Machinery - Even in 1946 people worried that technology threw people out of work and hurt the economy as a whole. President Obama himself lamented the rise of ATMs. By applying the one lesson of looking not merely at the immediate but at the longer effects of any act or policy, we can easily see that where production-increasing technology has been introduced, prices have fallen and the industry as a whole has grown. As Milton Friedman once commented when shown public workers digging with shovels instead of tractors in order to prolong the work and increase the number of jobs, "Why don't they use spoons?" We can see the obvious fallacy in being opposed to production-increasing devices.

Tariffs, "Parity" Pricing, and Saving X Industry - All attempts by government to artificially prop up a business or industry through the use of tariffs, price controls, or direct subsidies get the same results, "capital and labor are driven out of industries in which they are more efficiently employed  to be diverted to an industry in which they are less efficiently employed. Less wealth is created. The average standard of living is lowered compared with what it would be been." All these gimmicks forcibly transfer money from the one who earned it and can put it to efficient use to a government-favored recipient.

The Price System, Government Price-Fixing, and What Rent Control Does - The price system, as Thomas Sowell so eloquently states helps to allocate scarce resources that have alternative uses. Prices signal relative scarcity and thus lead to the most efficient use of a resource. When government attempts to stabilize a price or implement price controls, the results are the same: more scarcity. Prices kept artificially high reduces demand and therefore fewer products are produced. Prices kept artificially low result in greater demand and lower profit margins so less is produced and what is produced is quickly snapped up at the "cheap" price. Pricing housing below the market has the same effect. Housing becomes scarce and, as the profits weaken or disappear entirely, housing becomes even harder to come by. Ironically, rent control often leads to much higher prices elsewhere in the market. The lowered supply of any kind of housing always lead to higher demand. In addition, luxury housing is usually exempt and therefore attractive to investors, therefore only high-priced accommodations are built.

Minimum Wage Laws - Minimum wage laws are nothing more than price controls placed upon labor. Not only is the minimum price for labor fixed and therefore some who cannot produce at that minimum level excluded from the marketplace, but when combined with relief payments, unemployment is sure to rise. For a job must offer not only more than the welfare payment, but SIGNIFICANTLY more. If for example one receives an unemployment check for $300 a week, but can find a job for $400 a week, he is, in effect, asked to work 40 hours for only $100 extra. Many will choose to stay home and receive less than work for such a small differential. This creates an underclass of people perpetually caught in this cycle, never able to increase their production ability.

The Assault on Savings - Economies grow when people save. By putting aside money to be invested with someone who will increase production, wealth is created. Today many people have this backward. Even President Bush said the best thing we could do for our economy was to go shopping. Wrong. People not spending is not the cause of a bad economy, but rather a consequence. When economies are looking hopeful, we invest, new goods and services are produced at lower prices, capital is created, products are bought, the economy grows and everyone ends up with a higher standard of living. Spending alone simply leads to less resources as the money eventually runs out and without access to investment (savings) capital, businesses cannot grow.

Particularly relevant to our current economic crisis, when interest rates are kept artificially low, it appears that people have saved enough money that banks are almost giving it away. Yet the opposite is true. A too-low rate leads to less savings as it is not profitable. Better to spend and even borrow now and save later. Business make decisions to borrow at the low rate and expand. After all, it appears that people must have a lot of money in savings and will therefore be able to support this increase in production. But soon it becomes apparent that it was all a mirage. The money was never in the bank. Consumers are overspent, strapped with debt, and unable to support the newly created and expanded business. A bust is always the result.

Hazlitt concludes with, "The analysis of our illustrations has taught us another incidental lesson. This is that, when we study the effects of various proposals, not merely on special groups in the short run, but on all groups in the long run, the conclusions we arrive at usually correspond with those of unsophisticated common sense. It would not occur to anyone unacquainted with the prevailing economic half-literacy that it is good to have windows broken and cities destroyed; that it is anything but waste to create needless public projects; that it is dangerous to let idle hordes of men return to work; that machines which increase the production of wealth and economize human effort are to be dreaded; that obstructions to free production and free consumption increase wealth; that a nation grows richer by forcing other nations to take its goods for less than they cost to produce; that saving is stupid or wicked and that squandering brings prosperity." It's a breath of fresh air to see that this one lesson supports common sense in the study of economics.

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