A Businessman Does Not an Economist Make

In the most recent Republican debate, Donald Trump made the following argument in favor of eminent domain:

Eminent domain is an absolute necessity for a country, for our country. Without it, you wouldn’t have roads, you wouldn’t have hospitals, you wouldn’t have anything. You would have schools, you wouldn’t have bridges.

And what a lot of people don’t know because they were all saying, oh, you’re going to take their property. When somebody — when eminent domain is used on somebody’s property, that person gets a fortune. They at least get fair market value, and if they’re smart, they’ll get two or three times the value of their property.

Ignoring the questionable claim that eminent domain is necessary for just about everything, there’s a fundamental economic misunderstanding that Trump makes here; it’s one I covered here just a few days ago: value is subjective.

Even if it were true that the owners of property who suddenly find themselves without get a fortune (another questionable claim), it doesn’t mean the deal is fair.  In fact, by its very definition, eminent domain is unfair.  Since the deal couldn’t be completed to both parties’ satisfaction, and that force must be used to get one party to capitulate, then both parties do not benefit.  It is a true zero-sum transaction.

What Mr. Trump doesn’t understand is that there is more to life than just money.  The value of a piece of property is more than just its dollar value.  There are sentimental values here, too: memories, families, traditions, etc.  If the relative value of those aspects were low, then the deal could have been reached without force.  But given that force was necessary, then the “selling” party is losing since they are not receiving adequate  compensation.

In short, eminent domain is exactly the kind of zero-sum deal that Trump claims he opposes.  There is one winner and one loser.  Eminent domain cannot, economically speaking, make the country better.

On Bubbles, Markets, and Libertarians

Over at Econlog, Scott Sumner has an interesting post on bubbles and libertarians. In his post, he asks why libertarians, which generally accept markets as rational, tend to see bubbles everywhere.  It’s an interesting post and well worth a read, but I do not agree with him on several items.

But let’s start where I do agree: libertarians do tend to see bubbles everywhere.  It’s almost like the libertarian equivalent of the “market failure” argument interventionists use to justify government intervention.  Basically, whenever prices do not match what they think the price should be, it’s a bubble (or bubble popping).  There may be cases where there are bubbles, but not all swings in price constitute bubbles.

However, I think Scott too quickly dismisses the role of monetary policy in potential bubbles.  Interest rates are prices, and when prices are manipulated they send incorrect signals about relative scarcity of resources, which can lead to malinvestment and, in turn, bubbles.  To be accurate, the Federal Reserve does not set interest rates; it attempts to influence them through monetary policy but the Fed cannot directly control interest rates. To that end, the effect monetary policy has on bubbles is likely relatively moderate compared to the effect direct price controls (such as price ceilings or floors).  But it likely still has an effect.

I think his treatment of markets as always rational is incorrect.  Markets are generally rational, absolutely, but they are also just collections of men and men are flawed.  It certainly is possible that any given market at any given time could be irrationally priced.  Imperfect information, externalities, these things happen.  But does this weaken the case for markets and strengthen the case for government intervention, as Scott says?  I say no.  The same issues that infect markets infect government intervention, but in greater magnitude.  Markets needn’t be perfect to be the preferable option.  They need only to be better than the other options, and the record on that is crystal clear.  In short, I don’t see why recognizing markets as being imperfect necessarily weakens the case for libertarianism (especially as long as markets are allowed to adapt to irrational behavior).

Markets are evolutionary institutions and, over time, they will be rational, but at any given day, any given moment, they could develop bubbles.  I do not see anything within this fact that weakens the case for libertarianism or contradicts it.

Quotation of the Day

Today’s quotation comes from page 99 (Kindle Version) of Depravity by M.J. Haag:

Value is an odd thing, subject to a whim.  What one might find value in, another might not; what has value today might not have value tomorrow, depending on the wants and needs of the evaluating individual.

Value is subjective.  It depends on the time, the circumstance, and the knowledge of the individual.  This is true whether the individual is valuing the purchase of a new car or (as is the case of this story) living with a beast.  It’s extraordinarily difficult for a third party to be in a position to accurately overrule the subjective judgement of value an individual has. The simply haven’t the knowledge necessary to refute the judgement rendered.

HT: Kelsey S

No, He Wasn’t

In response to a Cafe Hayek piece on the wealth of Americans, Barry Ritholtz wrote an op-ed entitled “Rockefeller Really Was Way Richer Than You Are.”  The problem is the title’s really not supported by the op-ed.

In reality, the two posts are talking about two totally different things.  Don’s post at Cafe Hayek is focusing on absolute wealth while Barry’s focuses on relative wealth (that is, your wealth compared to your contemporaries).  Whether or not one is more important than the other depends greatly on the context.  If you want to view relative standards of living across a single time period, then relative wealth makes sense.  When you want to compare across time, then you want to look at absolute wealth.

He makes the statement that “by that same logic, everyone today rich, poor and middle-class — is much worse off than the poor of 100 years from now.”  That is an incorrect statement.  It all depends on the institutions (as was mentioned in a post later that same day on Cafe Hayek).  If the US remains relatively free, if there are no black swan events (World War 3, for example), then it is quite possible that humans will be wealthier in 100 years from now.  But a word of warning: history is full of examples where standards of living fell over a significant period of time: the Dark Ages, The Great Depression (and subsequently World War 2 for Europe), the Antebellum Period.  To ignore the role of institutions is fatal.

Barry goes on to make a very valid point about relative wealth in the near term (that is “keeping up with the Joneses”).  However, that signalling is not a reason to worry about income inequality (if anything, it is an argument against it).

Which leads us into the meat of Barry’s article, his take away that income inequality can and should be ignored.  He argues that one shouldn’t ignore income inequality because of signalling, but the argument is unconvincing to me.  The point of income inequality, the cry that it is dangerous, is the assumption that the rich get richer and the poor get poorer.  But a point of Don’s article is that, no, the poor don’t get poorer.  Sure, they may be poor compared to other contemporaries, but so what?  There will always be those who are relatively poor, relatively middle class, relatively rich.  What matters, at least from an economic point of view, is absolute wealth.  Can we really say Rockefeller was better off than I?  Sure, I may not have multiple homes or servants, but that’s not really high quality of life enhancing, is it?  In his day, only a handful owned cars.  Less than a century later, they are ubiquitous (I chose cars an an example because Woodrow Wilson, a contemporary of Rockefeller, called cars “the picture of the arrogance of wealth”).

So, looking back at Barry’s objection to Don’s post, it seems to me that he measures wealth not in possessions, or standard of living, or potential, but rather in one’s ability to brag.  That may be fine for him, but I’d rather be a humble middle-class economist with a full belly and no digestive issues, than a 1900’s robber baron with depression and a perpetual upset stomach any day of the week.

Ethics and Science

Over at Cafe Hayek, Don Boudreaux responds to an email correspondent on data-driven science.  Here is my take:

Having followed Don for several years now and had the good fortune to meet and converse with him in person on several occasions, I can say with absolute conviction that his writings, teachings, and opinions are driven not just by data (I invite M. Wheeler to do a search of Cafe Hayek and he will find many posts, some as recently as today, that are chock full of data), but also ethical considerations. And ethics are key.

Science and data without ethics is highly dangerous. The “Progressives” of the early 20th Century believed they were just following the science when they passed eugenics laws, forced steralization, and Jim Crow. The Nazis believed they were just following the science when they executed millions and performed horrific tests.

People like Don and myself staunchly oppose MW and other market controls not because we are ideologues but because we believe it is wrong to experiment on people without their consent (see more of my thoughts here: https://force4good.me/2015/10/24/forgetting-the-humanity/).

Asking the question “is this outcome worth it?” is hardly dogmatic, but rather quite reasonable. It’s far more dogmatic to hide behind figures and avoid thinking about the consequences.

Incentives Matter Because Knowledge is Imperfect

One of the economic arguments for government intervention into otherwise markets is that knowledge is imperfect (unlike what is represented in Econ 101 models).  This certainly is true: knowledge is imperfect.  Lemon problems do exist.  Buyers and sellers do not always have perfect information on the relative scarcity of goods and services.  That is why prices are so important.  But, given imperfect inputs, even prices can be flawed.

Does this mean that the pricing system is inherently flawed?  Perhaps, but prices are only half the equation.  The other half are incentives.

Prices convey signals on the relative scarcity of goods and services, but incentives help people decide whether to act.  Incentives act as an impetus to gather more information.  This is why having the proper incentives (that is, reducing adverse selection and moral hazard problems) is so important in economic analysis.

Even a private market system with flawed prices will allocate resources relatively more efficiently than a directed market system.  That is because people are properly incentivized  to make the best decisions.  In a private market system, the same person who reaps the benefits pays the costs.  In a directed market system, the person who reaps the benefits does not pay the costs (or not all the costs, anyway).  Therefore, the person in the private market system has a stronger incentive to get it right, even with flawed information, then the person in the directed market system, even if he has perfect information.

Incentives matter.