A Tariff is a Tax on Domestic Manufacturers

At Cafe Hayek, Don Boudreaux makes an important point: if the comparative advantage of one industry is protected by tariffs, that necessarily means another industry’s comparative advantage is reduced.  While this makes logical and mathematical sense from the point of view of the theory, is it reflective of reality?  Yes:

Virtually all steel used in U.S. tire manufacturing must be imported, as domestic steel suppliers cannot meet volume and quality needs for this critical tire safety component. Thus any trade constraint could potentially have a cascading, negative impact on U.S. commerce nationwide, as the transportation industry depends on a reliable supply of tires to ship goods. Additionally, the U.S. military depends on the tire manufacturing industry to supply tires used to protect our national security.

The US tire manufacturing industry, as quoted above, as a consumer of steel would see their comparative advantage reduced, and thus their competitiveness reduced, due to import tariffs on steel.  Their costs rise, their competitiveness is thusly reduced.  All so US steel manufacturers can have potentially higher profits.

I think it’s worth noting that the tire industry is also an industry that feels threatened by imports and demanded tariffs, too.  So the steel industry tariffs would make this supposedly threatened industry even more threatened.

In short, you cannot Make America Great Again by taxing it into oblivion.

Today’s Quote of the Day…

…is from Armen Alchian’s 1950 address to the Pacific Coast Economic Association, as reprinted on page 635 of the Liberty Fund’s 2006 volume of Alchian’s work: Choice and Cost Under Uncertainty (emphasis added):

The real issue [of the debate about economic methodology and mathematical models] relates to the economic substance – the applicability to real economic problems, or what I call here economic validity – of the mathematical models.  And with regard to this, it is submitted here that the mathematical analysis reveals very clearly the true scope and structure of the analysis, thereby facilitating an evaluation of its economic validity.  One may well argue that the empirical invalidity, or unrealism, of so many mathematically expressed theories and hypotheses is simply a result of their clarity, which reveals quickly the applicability of the system, whereas in literary theorists it is difficult to make such an appraisal so readily.  In any event, the mathematical approach must not be treated as the new delivery truck was treated by the delivery man who became so absorbed in the operating characteristics of the truck that he neglected to deliver the goods.

JMM:  As is characteristic of Alchian, he delivers a lot of economic insight into a small area.  Mathematical models have an important role to serve in economics: they can sharpen our thinking by pointing out logical flaws in the reasoning.  They can help solidify the pattern predictions we make by testing them against real data.  But, as Alchian warns, we should not become so obsessed with the working of our models that we economists forget that our primary duty is to provide insight into economic matters.  If our models do not do that, then they are failing in their job, as are we.

Toward a New Classical Economics

Writing over at Hackernoon, Arnold Kling writes about a need to “overthrow neoclassical economics.”

Kling’s article rings of truth.  A lot of neoclassical economics, as it is taught and practiced, does tend to simply treat “labor” and “capital” as blobs and ignores the individual believes and attitudes of individuals.  People are reduced to “representative agents” or mere resource-allocators in the standard neoclassical framework.  Firms are treated as mere input-output machines that run by blobs of homogenous things known as “capital” and “labor.”

Kling proposes to insert the ideas of cultural evolution into economics, a proposal I am sympathetic to.  And, at one time, economists took this factor into account.  Adam Smith, David Ricardo, Frederic Bastiat, and many other of the classical economists knew you had to take into account people’s attitudes, desires, sympathies, etc and they acted on these.  Adam Smith’s Theory of Moral Sentiments is a proto-economic book and he discusses at length how our sympathies and morals, shaped and shaping those around us, affect our behavior.  Frederic Bastiat, in The Law and That Which is Seen and That Which is Unseen discuss the role of institutions and how people react to those institutional frameworks if they deviate from their moral foundations.

In a sense, Kling is correct.  We need to overthrow neoclassical economics.  I’d like to see it return, at least insofar as the assumptions concerning homo economicus goes, to its classical roots.

Does Heaven Have an Economy?

Short answer: no.

Long answer: Heaven has no need for an economy.  Economics looks at scarcity and how humans interact to deal with the problems arising from scarce resources:  Exchange and production, collective action solutions (like firms or governments), rights, institutions, etc.  Things like preferences, budget constraints, opportunity costs, knowledge, etc are all under consideration by the economist.

Heaven is a post-scarcity place.  God is omniscient, which means there are no knowledge problems.  God is omnipotent, which means any resources needed (if any) can be instantly created.  God and Heaven exist outside of the temporal universe, which means problems relating to future knowledge are eliminated.  There are no economic problems in Heaven, and thus no need for an economy.

I bring this up not for some theological discussion on the nature of Heaven, but rather to point out a mistake many policy pundits (even with economic training) make when they discuss economics: they assume away the economic problem.

The most common form assuming away the economic problem takes is assuming in supply and demand curves.  We see this all the time: free trade discussions, market failure discussions, labor market discussions, etc.  Economists and policymakers and pundits just assume away the knowledge problem, forgetting that the very curves the need to make their policies are generated by the very process (market process) they are seeking to disrupt!

Another example, exemplified by this paper, exists in assuming away individualism.  Much of the economic problem (and its subsequent solutions) exist because people are individuals, with their own dreams and desires.  In more technical terms, they have preferences.  If we assume a “representative agent” or assume “identical preferences,” we assume away a major part of the economic problem, which is how we arrive at conclusions that make no economic sense.

The point is this: a lot of these assumptions tend to lead to conclusions economists generally oppose.  The reasoning is simple: If you assume away economic problems, of course economic methods are going to become pointless.

The Logical Impossibility of Absolute Rights

There is an important implication of my post from yesterday (or, perhaps more accurately, I should say this post as important implications that lead to yesterday’s post): universally absolute rights are logically impossible.

We tend to hear arguments by libertarians and anarcho-capitalists that certain rights, namely property rights, are absolute (for example, see Murray Rothbard’s article here).  No one can prevent us from doing what we want with our property (including our bodies) or enjoying our property as we see fit.  While on the surface, this seems reasonable, it is a logically impossible thing to enforce.

Let’s consider an example, similar to the one I gave yesterday.  Two neighbors have an abutting piece of land.  One neighbor, Joe, has a pool and a nice backyard he enjoys lounging in.  However, one thing he does not like is the smell of smoke and the sound of loud noises.  These things reduce the enjoyment of his property.  The other neighbor, Bob, has a backyard as well, but he likes to sometimes hold barbeques, bonfires, and parties.  When he does this, he generates noise and smoke that inevitably flow over to Joe’s yard.  In other words, Joe’s “stuff” is being messed with.

If both parties have absolute property rights, how can this situation be resolved?  If Joe cannot request, require, or negotiate some end to Bob’s activities, his ability to enjoy his property as he sees fit is diminished by Bob’s actions.  Likewise, if Joe’s ability to enjoy his property is maintained, then Bob’s enjoyment of his property must necessarily be reduced by reducing or eliminating his barbeques, bonfires, and parties.  Either way, someone‘s property right is not absolute.  Something has to give.

It is important to note there is no necessary need for state intervention here.  Joe and Bob can (and likely will, absent major costs) find some mutually beneficial arrangement.  But that arrangement must result is someone’s rights being attenuated.  If one of them has an absolute right, the other cannot.

The question should not be whether some rights are absolute or not.  Absolute rights are a logical impossibility.  Rather, the question should be how to resolve conflicts that inevitably arise when rights collide.  If libertarians cannot address these conflicts, then we necessarily secede the argument of conflict resolution to the statists.  By insisting on absolute rights, a logical impossibility, we state outright libertarianism has no place in the real world as it cannot resolve conflicts.  This has to end.

Coase, Smith, Justice, and Liberty

The Smithian and classically liberal conception of justice, as explained by Dr. Dan Klein, is, to put it succinctly: don’t mess with other people’s stuff.  The flipside of justice, liberty, is consequently other people not messing with your stuff.  On the surface, this seems like a rather simple ethical basis.  The rule is very clear: if you mess with other people’s stuff, you are committing an injustice and violating their liberty.  But an ethical rule is not valued in its simplicity, but rather its robustness to the real world.

While Smith does regard justice as a sacred virtue, he does carve out exceptions to its enforcement.  There may be times when the strict rules of justice may not or cannot be enforced without a detriment to overall liberty.  In these cases, someone’s stuff has to be messed with.  While this statement may be jarring to the classical liberal, let’s consider an example from modern law and economics.

Let’s consider Ronald Coase’s famous example of the farmer and the rancher.  The farmer raises crops on his land.  The rancher grazes cows nearby.  The rancher’s cows sometimes, accidentally, graze the farmer’s crops that are too close to the fence, either the crops hang over the fence for the cows to eat or the cows stick their heads through the fence (that is, the farmer’s “stuff” is being messed with).  However, if there are restrictions on where the cows can graze, then those restrictions are messing with the rancher’s “stuff” (they are limiting the rancher’s use of his cows).  So now we have a conflict: the use of each person’s “stuff” may conflict with each other, resulting in mutual messing with each other’s stuff.

Who is in the right?  Who is in the wrong?  A simple appeal to the rules of justice cannot solve this: the farmer’s crops are being messed with, yes, but so are the rancher’s cows.  Some rule would be required to address this matter.  That rule would, necessarily, violate the strict rules of justice.

Let’s take, for example, a rule that the farmer has the property right to his crops and any damage must be compensated to him by the rancher.  The rancher’s “stuff” is now being messed with.  He’d need to figure out some way to corral the cows, or limit their grazing, or negotiate some kind of bargain with the farmer…some solution would be acquired.  However, this bargain would constitute a “messing” with the rancher’s stuff since he now has to alter his behavior beyond what he ordinarily would have chosen to do.  Some use of his property is now beyond his control.  We can make a similar argument by giving the property right to the rancher, or even if we say “caveat emptor” and say any crops that spill over the fence can be eaten and any cow over the fence can be shooed away.

While one person’s individual liberty may be decreased (ie, someone is messing with his stuff), overall liberty may increase (ie, there is generally less messing with stuff).  Rules, laws, customs, etc are necessary because they create reliability.  If we reasonably believe a given rule will be enforced, then we can act in a given manner.  If I believe my ownership of my car will be enforced should someone steal it, I am more likely to buy a car.  If I do not believe the ownership would be enforced, I’d be less likely to purchase a car (and/or spend more resources to ensure it doesn’t get stolen).  Just as stable rules can grow the economic pie, stable rules can grow the liberty pie.  Rules that develop to make virtues like justice predictable by all and create stability that allows exchange, production, and general improvement to flourish.  Without predictable rules, the concept of justice may simply become ad hoc and something of a Hobbesian jungle may arise as the costs of production/protection rise and the costs of predation fall.

Some libertarians/anarcho-capitalists get nervous about the implications of Smith’s comments regarding sacrificing individual liberty for overall liberty.  The primary concern I hear is such an argument can be used for an expansion of the state into all manner of things.  While a naive interpretation of Smith could justify such an expansion, I think a closer reading of Smith, especially in the context of his overall writings, suggests that the “overall liberty” criteria are a conflict resolution tool rather than a “behavioral control” tool.

Today’s Quote of the Day…

…is from Page 145 of Adam Smith’s classic 1776 work The Wealth of Nations (Liberty Fund Edition):

People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices. It is impossible indeed to prevent such meetings, by any law which either could be executed, or would be consistent with liberty and justice. But though the law cannot hinder people of the same trade from sometimes assembling together, it ought to do nothing to facilitate such assemblies; much less to render them necessary.

The first line of this quote is one of the most famous of all of Smith.  But the conversation usually ends there (typically with an erroneous claim that Smith would support antitrust legislation).  The immediately-following sentences provide deep insight into Smith’s classical liberalness as well as the dilemma we all face in the trade-off between liberty and security.

Smith also here has a discussion on incentives.  The law should not render associations between producers (ie trade groups, cartels, etc) necessary.  While Smith is discussing in the context of labor regulations and business regulations here, that discussion can be easily extended into the realm of what we now call Public Choice.  When government can hand out favors, firms will try to capture those favors.  They may even form associations to pool resources to increase the likelihood of capture (eg a Chamber of Commerce).

The foresight of Adam Smith, and his continued applicability to modern economics is astounding.