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Economics
in One Lesson
P R E F A C E
This book is an analysis of economic
fallacies that are at last so prevalent that
they have almost become a new orthodoxy. The
one thing that has prevented this has been
their own self-contradictions, which have
scattered those who accept the same premises
into a hundred different "schools," for the
simple reason that it is impossible in
matters touching practical life to be
consistently wrong. But the difference
between one new school and another is merely
that one group wakes up earlier than another
to the absurdities to which its false
premises are driving it, and becomes at that
moment inconsistent by either unwittingly
abandoning its false premises or accepting
conclusions from them less disturbing or
fantastic than those that logic would
demand.
There is not a major government in the world
at this moment, however, whose economic
policies are not influenced if they are not
almost wholly determined by acceptance of
some of these fallacies. Perhaps the
shortest and surest way to an understanding
of economics is through a dissection of such
errors, and particularly of the central
error from which they stem. That is the
assumption of this volume and of its
somewhat ambitious and belligerent title.
The volume is therefore primarily one of
exposition. It makes no claim to originality
with regard to any of the chief ideas that
it expounds. Rather its effort is to show
that many of the ideas which now pass for
brilliant innovations and advances are in
fact mere revivals of ancient errors, and a
further proof of the dictum that those who
are ignorant of the past are condemned to
repeat it.
The present essay itself is,
I suppose, unblushingly
"
classical," "traditional" and "orthodox": at
least these are the epithets with which
those whose sophisms are here subjected to
analysis will no doubt attempt to dismiss
it. But the student whose aim is to attain
as much truth as possible will not he
frightened by such adjectives. He will not
be forever seeking a revolution, a "fresh
start," in economic thought. His mind will,
of course, he as receptive to new ideas as
to old ones; hut he will be content to put
aside merely restless or exhibitionistic
straining for novelty and originality. As
Morris R. Cohen has remarked: “The notion
that we can dismiss the views of all
previous thinkers surely leaves no basis for
the hope that our own work will prove of any
value to others.”*
Because this is a work of exposition I have
availed my- self freely and without detailed
acknowledgment (except for rare footnotes
and quotations) of the ideas of others. This
is inevitable when one writes in a field in
which many of the world's finest minds have
labored. But my indebtedness to at least
three writers is of so specific a nature
that I cannot allow it to pass unmentioned.
My greatest debt, with respect to the kind
of expository frame- work on which the
present argument is hung, is to Frédéric
Bastiat's essay Cequ'on voit et
ce qu'on ne
voit
pas, now
nearly a century old. The present work may,
in fact, be regarded as a modernization,
extension and generalization of the approach
found in Bastiat's pamphlet. My second debt
is to Philip Wicksteed: in particular the
chapters on wages and the final summary
chapter owe
much to his Common Sense of Political
Economy. My third debt is to Ludwig von
Mises. Passing over every- thing that this
elementary treatise may owe to his writings
in general, my most specific debt is to his
exposition of the manner in which the
process of monetary inflation is spread.
When analyzing fallacies, I
have thought it still less advisable to
mention particular names than in giving
credit. To do so would have required special
justice to each writer criticized, with
exact quotations, account taken of the
particular emphasis he places on this point
or that, the qualifications he makes, his
personal ambiguities, in- consistencies, and
so on. I hope, therefore, that no one will
be too disappointed at the absence of such
names as Karl Marx, Thorstein Veblen, Major
Douglas, Lord Keynes, Professor Alvin Hansen
and others in these pages. The object of
this hook is not to expose the special
errors of particular writers, but economic
errors in their most frequent, widespread or
influential form. Fallacies, when they have
reached the popular stage, become anonymous
anyway. The subtleties or obscurities to be
found in the authors most responsible for
propagating them are washed off. A doctrine
becomes simplified; the sophism that may
have been buried in a network of
qualifications, ambiguities or mathematical
equations stands clear. I hope I shall not
be accused of injustice on the ground,
therefore, that a fashionable doctrine in
the form in which I have presented it is not
precisely the doctrine as it has been
formulated by Lord Keynes or some other
special author. It is the beliefs which
politically influential groups hold and
which governments act upon that we are
interested in here, not the historical
origins of those beliefs.
I hope, finally, that I shall he forgiven
for making such rare reference to statistics
in the following pages. To have tried to
present statistical confirmation,
interfering to the effects of tariffs,
price-fixing, inflation, and the controls
over such commodities as coal, rubber and
cotton would have swollen this book much
beyond the dimensions contemplated. As a
working newspaper man, moreover, I am
acutely aware of how quickly statistics
become out-of-date and are superseded by
later figures. Those who are interested in
specific economic problems are advised to
read current "realistic" discussions of
them, with statistical documentation: they
will not find it difficult to interpret the
statistics correctly in the light of the
basic principles they have learned.
I have tried to write this hook as simply
and with as much freedom from technicalities
as is consistent with reasonable accuracy,
so that it can be fully understood by a
reader with no previous acquaintance with
economics.
While this
hook was composed as a unit, three chapters
have already appeared as separate articles,
and I wish to thank The New York Times, The
American Scholar and The New Leader for
permission to reprint material originally
published in their pages. I am grateful to
Professor von Mises for reading the
manuscript and for helpful suggestions.
Responsibility for the opinions expressed
is, of course, entirely my own.
H.
H.
THE LESSON
Chapter One
Economics is haunted by more fallacies than
any other study known to man. This is no
accident. The inherent difficulties of the
subject would be great enough in any case,
but they are multiplied a thousand fold by a
factor that is insignificant in, say,
physics, mathematics or medicine-the special
pleading of selfish interests. While every
group has certain economic interests
identical with those of all groups, every
group has also, as we shall see, interests
antagonistic to those of all other groups.
While certain public policies would in the
long run benefit every- body, other policies
would benefit one group only at the expense
of all other groups. The group that would
benefit by such policies, having such a
direct interest in them, will argue for them
plausibly and persistently. I t will hire
the best buyable minds to devote their whole
time to presenting its case. And it will
finally either convince the general public
that its case is sound, or so befuddle it
that clear thinking on the subject becomes
next to impossible.
In addition to these endless pleadings of
self-interest, there is a second main factor
that spawns new economic fallacies every
day. This is the persistent tendency of men
to see only the immediate effects of a given
policy, or its effects only on a special
group, and to neglect to inquire what the
long-run effects of that policy will be not
only on that special group but on all
groups. I t is the fallacy of overlooking
secondary consequences.
In this lies almost the whole difference
between good such shallow wisecracks pass as
devastating epigrams and the ripest wisdom.
But the tragedy is that, on the contrary, we
are already suffering the long-run
consequences of the policies of the remote
or recent past. Today is already the
tomorrow which the bad economist yesterday
urged us to ignore. The long-run
consequences of some economic policies may
become evident in a few months. Others may
not become evident for several years. Still
others may not become evident for decades.
But in every case those long-run
consequences are contained in the policy as
surely as the hen was in the egg, the flower
in the seed.
From this
aspect, therefore, the whole of economics
can be reduced to a single lesson, and that
lesson can be reduced to a single sentence.
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 con- sequences of that policy
not merely for one group but for all groups.
Nine-tenths of the economic fallacies that
are working such dreadful harm in the world
today are the result of ignoring this
lesson. Those fallacies all stem from one of
two central fallacies, or both: that of
looking only at the immediate consequences
of an act or proposal, and that of looking
at the consequences only for a particular
group to the neglect of other groups.
It is true, of course, that the opposite
error is possible. In considering a policy
we ought not to concentrate only on its
long-run results to the community as a
whole. This is the error often made by the
classical economists. It resulted in certain
callousness toward the fate of groups that
were immediately hurt by policies or
developments which proved to be beneficial
on net balance and in the long run.
But
comparatively few people today make this
error; and those few consist mainly of
professional economists. The most frequent
fallacy by far today, the fallacy that
emerges again and again in nearly every
conversation that touches on economic
affairs, the error of a thousand political
speeches, the central sophism of the "new"
economics, is to concentrate on the
short-run effects of policies on special
groups and to ignore or belittle the
long-run effects on the community as a
whole. The "new" economists flatter
themselves that this is a great, almost a
revolutionary advance over the methods of
the "classical" or "orthodox" economists,
because the former take into consideration
short-run effects which the latter often
ignored. But in themselves ignoring or
slighting the l o n g run effects, they are
making the far more serious error. They
overlook the woods in their precise and
minute examination of particular trees.
Their methods and conclusions are often
profoundly reactionary. They are some- times
surprised to find themselves in accord with
seven- twentieth-century mercantilism. They
fall, in fact, into all the ancient errors
(or would, if they were not so inconsistent)
that the classical economists, we had hoped,
had once for all got rid of.
It is often sadly remarked that the bad
economists present their errors to the
public better than the good economists
present their truths. It is often complained
that demagogues can he more plausible in
putting forward economic nonsense from the
platform than the honest men who try to show
what is wrong with it. But the basic reason
for this ought not to be mysterious. The
reason is that the demagogues and bad
economists are presenting half-truths. They
are speaking only of the immediate effect of
a proposed policy or its effect upon a
single group. As far as they go they may
often be right. In these cases the answer
consists in showing that the proposed policy
would also have longer and less desirable
effects, or that it could benefit one group
only at the expense of all other groups. The
answer consists in supplementing and
correcting the half-truth with the other
half. But to consider all the chief effects
of a proposed course on everybody often
requires a long, complicated, and dull chain
of reasoning. Most of the audience finds
this chain of reasoning difficult to follow
and soon becomes bored and inattentive. The
bad economists rationalize this intellectual
debility and laziness by assuring the
audience that it need not even attempt to
follow the reasoning or judge it on its
merits because it is only "classicism" or
"laissez faire" or "capitalist apologetics"
or whatever other term of abuse may happen
to strike them as effective.
We have stalled the nature of
the lesson, and of the fallacies that stand
in its way, in abstract terms. But t lesson
will not be driven home, and the 'fallacies
w
continue to go unrecognized,
unless both are illustrate by examples.
Through them examples we can move from the
most elementary problems in economics to the
most complex and difficult. Through them we
can learn to detect and avoid first the
crudest and most palpable fallacies and
finally some of the most sophisticated and
elusive. To that task we shall now proceed.
Part TWO THE LESSON APPLIED
THE BROKEN
WINDOW
Let us begin with the simplest illustration
possible: let us, emulating Bastiat, choose
a broken pane of glass.
A young hoodlum, say, heaves a brick through
the window of a baker's shop. The shopkeeper
runs out furious, but the boy is gone. A
crowd gathers, and begins to stare with
quiet satisfaction at the gaping hole in the
window and the shattered glass over the
bread and pies. After a while the crowd
feels the need for philosophic reflection.
And several of its members are almost
certain to remind each other or the baker
that, after all, the misfortune has its
bright side. It will make business for some
glazier. As they begin to think of this they
elaborate upon it. How much does a new plate
glass window cost? Fifty dollars? That will
be quite a sum. After all, if windows were
never broken, what would happen to the glass
business? Then, of course, the thing is
endless. The glazier will have $50 more to
spend with other merchants, and these in
turn will have$50 more to spend with still
other merchants, and so ad infinitum. The
smashed window will go on providing money
and employment in ever- widening circles.
The logical conclusion from all this would
be, if the crowd drew it, that the little
hoodlum who threw the brick, far from being
a public menace, was a public benefactor.
Now let us take another look.
The crowd is at least right in its first
conclusion. This little act of vandalism
will in the first instance mean more
business for some glazier. The glazier will
be no unhappy to learn of the incident than
an undertaker to learn of a death. But the
shopkeeper will be out $50 that he was
planning to spend for a new suit. Because he
has had to replace a window, he will have to
go without the suit (or some equivalent need
or luxury). Instead of having a window and
$50 he now has merely a window. Or, as he
was planning to buy the suit that very
afternoon, instead of having both a window
and a suit he must be content with the
window and no suit. If we think of him as a
part of the community, the community has
lost a new suit that might otherwise have
come into being, and is just that much
poorer. The glazier's gain of business, in short, is merely the tailor's loss of business. No new "employment" has been added. The people in the crowd were thinking only of two parties to the transaction, the baker and the glazier. They had forgotten the potential third party involved, the tailor. They forgot him precisely because he will not now enter the scene. They will see the new window in the next day or two. They will never see the extra suit, precisely because it will never be made. They see only what is immediately visible to the eye.
Chapter Three
THE BLESSINGS OF DESTRUCTION
So we have finished with the broken window.
An elementary fallacy. Anybody, one would
think, would be able to avoid it after a few
moments' thought. Yet the broken- window
fallacy, under a hundred disguises, is the
most persistent in the history of economics.
It is more ram- pant now than at any time in
the past. It is solemnly re- affirmed every
day by great captains of industry, by
chambers of commerce, by labor union
leaders, by editorial writers and newspaper
columnists and radio commentators, by
learned statisticians using the most refined
techniques, by professors of economics in
our best universities. In their various ways
they all dilate upon the advantages of
destruction.
Though some of them would
disdain to say that there are net benefits
in small acts of destruction, they see al-
most endless benefits in enormous acts of
destruction. They tell us how much better
off economically we all are in war than in
peace. They see "miracles of production"
which it requires a war to achieve. And they
see a post- war world made certainly
prosperous by an enormous "accumulated" or
"backed-up" demand. In
It is merely our old friend,
the broken-window fallacy, in new clothing,
and grown fat beyond recognition. This time
it is supported by a whole bundle of related
fallacies. It confuses need with demand.
The more war destroys, the more it
impoverishes, the greater is the p war need.
Indubitably. But need is not demand.
Effective economic demand requires not
merely need but corresponding purchasing
power. The needs of
But if we get past this point, there is a
chance for another fallacy, and the
broken-windows usually grab it. They think
of "purchasing power" merely in terms of
money. Now money can be run off 'by 'the
printing press. As this is being written, in
fact, printing money is the world's biggest
industry-if the products measured in
monetary terms. But the more money is turned
out in this way, the more the value of any
given unit of money falls. This falling
value can be measured in rising prices of
commodities. But as most people are so
firmly in the habit of thinking of their
wealth and income in terms of money, they
consider themselves better off as these
monetary totals rise, in spite of the fact
that in terms of things they may have less
and buy less. 'Most of the "good"
economic-results which people attribute to
war are really owing to wartime inflation.
They could be produced just as well by an
equivalent peacetime inflation. We shall
come back to this money illusion later.
Now there is a half-truth in the "backed-up"
demand fallacy, just as there -was in the
broken-window fallacy. The broken window did
make more business for the glazier. The
destruction of war will make more business
for the producers of certain things. The
destruction of houses and cities will make
more business for the building and
construction industries. The inability to
-produce automobiles, radios, and
refrigerators during the war will bring
about a cumulative post-war demand for those
particular products.
To most people this will seem
like an increase in total demand, as it may
well be in terms of dollars of lower
purchasing power. But what really takes
place is a diversion of demand to these
particular products from others. The people
of
The war, in short, will
change the post-war direction of effort; it
will change the balance of industries; it
will change the structure of industry. And
this in time will also have its
consequences. There will he another
distribution of demand when accumulated
needs for houses and other durable goods
have been made up. Then these temporarily
favored industries will, relatively, have to
shrink again, to allow other industries
filling other needs to grow.
It is important to keep in mind, finally,
that there will not merely he a difference
in the pattern of post-war as compared with
pre-war demand. Demand will not merely he
diverted from one commodity to another. In
most countries it will shrink in total
amount.
This is inevitable when we consider that
demand and supply are merely two sides of
the same coin. They are the same thing
looked at from different directions. Supply
creates demand because at bottom it is
demand. The supply of the thing they make is
all that people have, in fact, to offer in
exchange for the things they want. In this
sense the farmers' supply of wheat
constitutes their demand for automobiles and
other goods. The supply of motor cars
constitutes the demand of the people in the
automobile industry for wheat and other
goods. All this is inherent in the modern
division of labor and in an exchange
economy.
This fundamental fact, it is true, is
obscured for most people (including some
reputedly brilliant economists) through such
complications as wage payments and the
indirect form in which virtually all modern
exchanges are made through the medium of
money. John Stuart Mill and other classical
writers, though they sometimes failed to
take sufficient account of the complex
consequences resulting from the use of
money, at least saw through the monetary
veil to the underlying realities. To that
extent they were in advance of many of their
present-day critics, who are befuddled by
money rather than instructed by it. Mere
inflation-that is, the mere issuance of more
money, with the consequence of higher wages
and prices-may look like the creation of
more demand. But in terms of the actual
production and exchange of real things it is
not. Yet a fall in post-war demand may be
concealed from many people by the illusions
caused by higher money wages that are more
than offset by higher prices.
Post-war demand in most
countries, to repeat, will shrink in
absolute amount as compared with pre-war
demand because post-war supply will have
shrunk. This should be obvious enough in
There may be, it is true,
offsetting factors. Technological
discoveries and advances during the war, for
example, may increase individual or national
productivity at this point or that. The
destruction of war will, it is true, divert
post-war demand from some channels into
others. And a certain number of people may
continue to be deceived indefinitely
regarding their real economic welfare by
rising wages and prices caused by an excess
of printed money. But the belief that a
genuine prosperity can be brought about by a
"replacement demand" for things destroyed or
not made during the war is none the less a
palpable fallacy.
P U B L I C W O R K S M E A N
T A X E S
An enormous literature is based on this
fallacy, and, as so often happens with
doctrines of this sort, it has become part
of an intricate network of fallacies that
mutually support each other. We cannot
explore that whole network at this point; we
shall return to other branches of it later.
But we can examine here the mother fallacy
that has given birth to this progeny, the
main stem of the network.
Everything we get, outside of the free gifts
of nature, must in some way be paid for. The
world is full of so- called economists who
in turn are full of schemes for getting
something for nothing. They tell us that the
government can spend and spend without
taxing a t all; that it can continue to pile
up debt without ever paying it off, because
"we owe it to ourselves." We shall return to
such extraordinary doctrines at a later
point. Here I am afraid that we shall have
to be dogmatic, and point out that such
pleasant dreams in the past have always been
shattered by national insolvency or a
runaway inflation. Here we shall have to say
simply that all government expenditures must
eventually he paid out of the proceeds of
taxation; that to put off the evil day
merely increases the problem, and that
inflation itself is merely a form, and a
particularly vicious form, of taxation.
Having put aside for later consideration the
network of fallacies which rest on chronic
government borrowing and inflation, we shall
take it for granted throughout the present
chapter that either immediately or
ultimately every dollar of government
spending must be raised through a dollar of
taxation. Once we look at the matter. In
this way, the supposed miracles of
government spending will appear in another
light.
A certain amount of public
spending is necessary to perform essential
government functions. A certain amount of
public works-of streets and roads and
bridges and tunnels, of armories and navy
yards, of buildings to house legislatures,
police and fire departments-is necessary to
supply essential public services. With such
public works, necessary for their own sake,
and defended on that ground alone, I am not
here concerned. I am here concerned with
public works considered as a means of "pro-
viding employment" or of adding wealth to
the community that it would not otherwise
have had.
A bridge is built, If it is
built to meet an insistent public demand, if
it solves a traffic problem or a
transportation problem otherwise insoluble,
if, in short, it is even more necessary than
the things for which the tax- payers would
have spent their money if it had not been
taxed away from them, there can be no
objection. But a bridge built primarily "to
provide employment" is a different kind of
bridge. When providing employment be- comes
the end, need becomes a subordinate
consideration. "Projects" have to he
invented. Instead of thinking only where
bridges must be built, the government
spenders begin to ask themselves where
bridges can be built. Can they think of
plausible reasons why an additional bridge
should connect
Two arguments are put forward for the
bridge, one of which is mainly heard before
it is built, the other of which is mainly
heard after it has been completed. The first
argument is that it will provide employment.
It will provide, say, 500 jobs for a year.
The implication is that these are jobs that
would not otherwise have come into
existence.
This is what is immediately seen. But if we
have trained ourselves to look beyond
immediate to secondary consequences, and
beyond those who are directly benefited by a
government project to others who are
indirectly affected, a different picture
presents itself. It is true that a
particular group of bridge workers may
receive more employment than otherwise. But
the bridge has to be paid for out of taxes.
For every dollar that is spent on the bridge
a dollar will be taken away from taxpayers.
If the bridge costs $1,000,000 the taxpayers
will lose $1,000, 000. They will have that
much taken away from them which they would
otherwise have spent on the things they
needed most.
Therefore for every public job created by
the bridge project a private job has been
destroyed somewhere else. We can see the men
employed on the bridge. We can watch them at
work. The employment argument of the
government spenders becomes vivid, and
probably for most people convincing. But
there are other things that we do not see,
because, alas, they have never been
permitted to come into existence. They are
the jobs destroyed by the $1,000,000 taken
from the taxpayers. All that has happened,
at best, is that there has been a diversion
of jobs because of the project. More bridge
builders; fewer automobile workers, radio
technicians, clothing workers, farmers.
But then we come to the second argument. The
bridge exists. It is, let us suppose, a
beautiful and not an ugly bridge. It has
come into being through the magic of
government spending. Where would it have
been if the obstructionists and the
reactionaries had had their way? There would
have been no bridge. The country would have
been just that much poorer.
Here again the government spenders have the
better of the argument with all those who
cannot see beyond the immediate range of
their physical eyes. They can see the
bridge. But if they have taught themselves
to look for indirect as well as direct
consequences they can once more see in the
eye of imagination the possibilities that
have never been allowed to come into
existence. They can see the inbuilt homes,
the unmade cars and radios, the unmade
dresses and coats, perhaps the unsold and
ungrown foodstuffs. To see these uncreated
things re- quires a kind of imagination that
not many people have. We can think of these
non-existent objects once, perhaps, hut we
cannot keep them before our minds as we can
the bridge that we pass every working day.
What has happened is merely that one thing
has been created instead of others.
The same reasoning applies, of course, to
every other form of public work. It applies
just as well, for example, to the erection
with public funds of housing for people of
low incomes. All that happens is that money
is taken away through taxes from families of
higher income (and perhaps a little from
families of even lower income) t o force
them to subsidize these selected families
with low incomes and enable them to live in
better housing for the same rent or for
lower rent than previously.
I do not intend to enter here into all the
pros and cons of public housing. I am
concerned only to point out the error in two
of the arguments most frequently put forward
in favor of public housing. One is the
argument that it "creates employment"; the
other that it creates wealth which would not
otherwise have been produced. Both of these
arguments are false, because they overlook
what is lost through taxation. Taxation for
public housing destroys as many jobs in
other lines as it creates in housing. It
also results in unbuilt private homes, in
un- made washing machines and refrigerators,
and in lack of innumerable other commodities
and services.
And none of this is answered by the sort of
reply which points out, for example, that
public housing does not have to be financed
by a lump sum capital appropriation, hut
merely by annual rent subsidies. This simply
means that the cost is spread over many
years instead of being concentrated in one.
It also means that what is taken from the
taxpayers is spread over many years instead
of being concentrated into one. Such
technicalities are irrelevant to the main
point.
The great psychological
advantage of the public housing advocates is
that men are seen at work on the houses when
they are going up, and the houses are seen
when they are finished. People live in them,
and proudly show their friends through the
rooms. The jobs destroyed by the taxes for
the housing are not seen, nor are the goods
and services that were never made. It takes
a concentrated effort of thought and a new
effort each time the houses and the happy
people in them are seen, to think of the
wealth that was not created instead. Is it
surprising that the champions of public
housing should dismiss this, if it is
brought to their attention, as a world of
imagination, as the objections of pure
theory, while they point to the public
chousing that exists? As a character in
Bernard Shaw's Saint Joan replies when told
of the theory of Pythagoras that the earth
is round and revolves around the sun: "What
an utter fool! Couldn't he use his eyes?
We must apply the same reasoning, once more,
to get projects like the Tennessee Valley
Authority. Here, b cause of sheer size, the
danger of optical illusion greater than
ever. Here is a mighty dam, a of steel and
concrete, "greater than anything capital
could have built," the fetish of
photographers, heaven of socialists, the
most often used miracles of public
construction, ownership Here are mighty
generators and power ho whole region lifted
to a higher economic level, attracting
factories and industries that could not
otherwise have existed. And it is all
presented, in the panegyrics of its
partisans, as a net economic gain without
offsets.
We need not go here into the merits of the
TVA or public projects like it. But this
time we need a special effort of the
imagination, which few people seem able to
make, to look at the debit side of the
ledger. If taxes are taken from people and
corporations, and spent in one particular
section of the country, why should it cause
surprise, why should it be regarded as a
miracle, if that section becomes
comparatively richer? Other sections of the
country, we should remember, are then
comparatively poorer. The thing so great
that "private capital could not have built
it" has in fact been built by private
capital -the capital that was expropriated
in taxes (or, if the money was borrowed,
that eventually must be expropriated in
taxes). Again we must make an effort of the
imagination to see the private power plants,
the private homes, the typewriters and
radios that were never allowed to come into
existence because of the money that was
taken from people all over the country to
build the photogenic Norris Dam.
I have deliberately chosen
the most favorable examples of public
spending schemes-that is, those that are
most frequently and fervently urged by the
government spenders and most highly regarded
by the public. I have not spoken of the
hundreds of boondoggling projects that are
invariably embarked upon the moment the main
object is to "give jobs" and "to put people
to work." For then the usefulness of the
project itself, as we have seen, inevitably
becomes a subordinate consideration.
Moreover, the more wasteful the work, the
more costly in manpower, the better it
becomes for the purpose of providing more
employment. Under such circumstances it is
highly improbable that the projects thought
up by the bureaucrats will provide the same
net addition to wealth and welfare, per
dollar expended, as would have been provided
by the taxpayers themselves, if they had
been individually permitted to buy or have
made what they themselves wanted, instead of
being forced to surrender part of their
earnings to the state.
Chapter Five
T A X E S D I S C O U R A G E
P R O D U C T I O N
There is a still further
factor which makes it improbable that the
wealth created by government spending will
fully compensate for the wealth destroyed by
the taxes imposed to pay for that spending.
It is not a simple question, as so often
supposed, of taking something out of the
nation's right-hand pocket to put into its
left-hand
'
pocket. The government
spenders tell us, for example, that if the
national income is $200,000,000,000 (they
are always generous in fixing this figure)
then government taxes of $50,000,000,000 a
year would mean that only 25 per cent of the
national income was being transferred from
private purposes to public purposes. This is
to talk as if the country were the same sort
of unit of pooled resources as a huge
corporation, and as if all that were
involved were a mere bookkeeping
transaction. The government spenders forget
that they are taking the money from A in
order to pay it to B. Or rather, they know
this very well; but while they dilate upon
all the benefits of the process to B, and
all the wonderful things he will have which
he would not have had if the money had not
been transferred to him, they forget the
effects of the transaction on A. B is seen;
A is forgotten.
In our modern world there is never the same
percentage of income tax levied on
everybody. The great burden of income taxes
is imposed on a minor percentage of the
nation's income; and these income taxes have
to be supplemented by taxes of other kinds.
These taxes inevitably affect the actions
and incentives of those from whom they are
taken. When a corporation loses a hundred
cents of every dollar it loses, and is
permitted to keep only 60 cents of every
dollar it gains, and when it cannot offset
its years of losses against its years of
gains, or cannot do so adequately, its
policies are affected. It does not expand
its operations, or it expands only those
attended with a minimum of risk. People who
recognize this situation are deterred from
starting new enterprises. Thus old employers
do not give more employment, or not as much
more as they might have; and others decide
not to become employers at all. Improved
machinery and better-equipped factories come
into existence much more slowly than they
otherwise would. The result in the long run
is that consumers are prevented from getting
better and cheaper products, and that real
wages are held down.
There is a similar effect when personal
incomes are taxed 50, 60, 75 and 90 per
cent. People begin to ask themselves why
they should work six, eight or ten months of
the entire year for the government, and only
six, four or two months for themselves and
their families. If they lose the whole
dollar when they lose, but can keep only a
dime of it when they win, they decide that
it is foolish to take risks with their
capital. In addition, the capital available
for risk-taking itself shrinks enormously.
It is being taxed away before it can be
accumulated. In brief, capital to provide
new private jobs is first prevented from
coming into existence, and the part that
does come into existence is then discouraged
from starting new enterprises. The
government spenders create the very problem
of unemployment that they profess to solve.
A
certain amount of taxes is of
course indispensable to carry on essential
government functions. Reasonable taxes for
this purpose need not hurt production much.
The kind of government services then
supplied in return, which among other things
safeguard production itself, more than
compensate for this. But the larger the
percentage of the national income taken by
taxes the greater the deter- rent to private
production and employment. When the total
tax burden grows beyond a bearable size, the
problem of devising taxes that will not
discourage and disrupt production becomes
insoluble.
C R E D I T D I V E R T S P R
O D U C T I O N
Government
"encouragement" to business is sometimes as
much to be feared as government hostility.
This sup- posed encouragement often takes
the form of a direct grant of government
credit or a guarantee of private loans.
The question of government credit can often
be complicated, because it involves the
possibility of inflation. We shall defer
analysis of the effects of inflation of
various kinds until a later chapter. Here,
for the sake of simplicity, we shall assume
that the credit we are discussing is
non-inflationary. Inflation, as we shall
later see, while it complicates the
analysis, does not at bottom change the
consequences of the policies discussed.
The most frequent proposal of this sort in
Congress is for more credit to farmers. In
the eyes of most Congress- men the farmers
simply cannot get enough credit. The credit
supplied by private mortgage companies,
insurance companies or country banks is
never "adequate." Congress is always finding
new gaps that are not filled by the existing
lending institutions, no matter how many of
these it has itself already brought into
existence. The farmers may have enough
long-term credit or enough short-term
credit, but, it turns out, they have not
enough "intermediate" credit; or the
interest rate is too high; or the complaint
is that private loans are made only to rich
and well-established farmers. So new lending
institutions and new types of farm loans are
piled on top of each other by the
legislature.
The faith in all these policies, it will be
found, springs from two acts of
shortsightedness. One is to look at the
matter only from the standpoint of the
farmers that borrow. The other is to think
only of the first half of the transaction.
Now all loans, in the eyes of honest
borrowers, must eventually he repaid. All
credit is debt. Proposals for an increased
volume of credit, therefore, are merely
another name for proposals for an increased
burden of debt. They would seem considerably
less inviting if they were habitually
referred to by the second name instead of by
the first.
We need not discuss here the normal loans
that are made to farmers through private
sources. They consist of mortgages; of
installment credits for the purchase of
auto- mobiles, refrigerators, radios,
tractors and other farm machinery, and of
hank loans made to carry the farmer along
until he is able to harvest and market his
crop and get paid for it. Here we need
concern ourselves only with loans to farmers
either made directly by some government
bureau or guaranteed by it.
These loans are of two main types. One is a
loan to enable the farmer to hold his crop
off the market. This is an especially
harmful type; but it will be more convenient
to consider it later when we come to the
question of government commodity controls.
The other is a loan to provide capital-often
to set the farmer up in business by enabling
him to buy the farm itself, or a mule or
tractor, or all three.
At first glance the case for this type of
loan may seem a strong one. Here is a poor
family, it will be said, with no means of
livelihood. It is cruel and wasteful to put
them on relief. Buy a farm for them; set
them up in business; make productive and
self-respecting citizens o them; let them
add to the total national product and pay
the loan off out of what they produce. Or
here is a farmer struggling along
with primitive methods of production because
he has not the capital to buy himself a
tractor. Lend him the money for one; let him
increase his productivity; he can repay the
loan out of the proceeds of his increased
crops. In that way you not only enrich him
and put him on his feet; you enrich the
whole community by that much added output.
And the loan, concludes the argument, costs
the government and the taxpayers less than
nothing, because it is "self-liquidating."
Now as a matter of fact this is what happens
every day under the institution of private
credit. If a man wishes to buy a farm, and
has, let us say, only half or a third as
much money as the farm costs, a neighbor or
a savings bank will lend him the rest in the
form of a mortgage on the farm. If he wishes
to buy a tractor, the tractor company
itself, or a finance company, will allow him
to buy it for one-third of the purchase
price with the rest to be paid off in
installments out of earnings that the
tractor itself will help to provide.
But there is a decisive difference between
the loans supplied by private lenders and
the loans supplied by a government agency.
Each private tender risks his own funds. (A
banker, it is true, risks the funds of
others that have been entrusted to him; but
if money is lost he must either make good
out of his own funds or be forced out of
business.) When people risk their own funds
they are usually careful in their
investigations to determine the adequacy of
the assets pledged and the business acumen
and honesty of the borrower.
If the government operated by the same
strict standards, there would be no good
argument for its entire field at all. Why do
precisely what private agencies al- ready
do? But the government almost invariably
operates by different standards. The whole
argument for its entering the lending
business, in fact, is that it will make
loans to people who could not get them from
private lenders. This is only another way of
saying that the government lenders will take
risks with other people's money (the
taxpayers') that private lenders will not
take with their own money. Sometimes, in
fact, apologists will freely ac- knowledge
that the percentage of losses will be higher
on these government loans than on private
loans. But they contend that this will be
more than offset by the added production
brought into existence by the borrowers who
pay back, and even by most of the borrowers
who do not pay back.
This argument will seem plausible only as
long as we concentrate our attention on the
particular borrowers whom the government
supplies with funds, and overlook the people
whom its plan deprives of funds. For what is
really being lent is not money, which is
merely the medium of exchange, but capital.
(I have already put the reader on notice
that we shall postpone to a later point the
complications introduced by an inflationary
expansion of credit.) What is really being
lent, say, is the farm or the tractor
itself. Now the number of farms in existence
is limited, and so is the production of
tractors (assuming, especially, that an
economic surplus of tractors is not produced
simply at the expense of other things). The
farm or tractor that is lent to A cannot be
lent to B. The real question is, therefore,
whether A or B shall get the farm.
This brings us to the respective merits of A
and B, and what each contributes, or is
capable of contributing, to production. A,
let us say, is the man who would get the
farm if the government did not intervene.
The local banker or his neighbors know him
and know his .record. They want to find
employment for their funds. They know that
he is a good farmer and an honest man who
keeps his word. They consider him a good
risk. He has already, perhaps, through
industry, frugality and fore- sight,
accumulated enough cash to pay a fourth of
the price of the farm. They lend him the
other three-fourths; and he gets the farm.
There is a strange idea abroad, held by all
monetary cranks, that credit is something a
banker gives to a man. Credit, on the
contrary, is something a man already has. He
has it, perhaps, because he already has
marketable assets of a greater cash value
than the loan for which he is asking. Or he
has it because his character and past record
have earned it. He brings it into the hank
with him. That is why the hanker makes him
the loan. The banker is not giving something
for nothing. He feels assured of repayment.
He is merely exchanging a more liquid form
of asset or credit for a less liquid form.
Sometimes he makes a mistake, and then it is
not only the banker who suffers, but the
whole community; for values which were
supposed to be produced by the lender are
not produced and resources are wasted.
Now it is to A, let us say, who has credit,
that the banker would make his loan. But the
government goes into the lending business in
a charitable frame of mind because, as we
saw, it is worried about B. B cannot get a
mortgage or other loans from private lenders
because he does not have credit with them.
He has no savings; he has no impressive
record as a good farmer; he is perhaps at
the moment on relief. Why not, say the
advocates of government credit, make him a
useful and productive member of society by
lending him enough for a farm and a mule or
tractor and setting him up in business?
Perhaps in an individual case it may work
out all right. But it is obvious that in
general the people selected by these
government standards will be poorer risks
than the people selected by private
standards. More money will be lost by loans
to them. There will be a much higher
percentage of failures among them. They will
be less efficient. More resources will be
wasted by them. Yet the recipients of
government credit will get their farms and
tractors at the expense of what otherwise
would have been the recipients of private
credit. Because B has a farm, A will be
deprived of a farm. A may be squeezed out
either because interest rates have gone up
as a result of the government operations, or
because farm prices have been forced up as a
result of them, or because there is no other
farm to be had in his neighborhood. In any
case the net result of government credit has
not been to increase the amount of wealth
produced by the community but to reduce it,
because the available real capital
(consisting of actual farms, tractors, etc.)
has been placed in the hands of the less
efficient borrowers rather than in the hands
of the more efficient and trustworthy.
The case becomes even clearer if we turn
from farming to other forms of business. The
proposal is frequently made that the
government ought to assume the risks that
are "too great for private industry." This
means that bureaucrats should he permitted
to take risks with the tax- payers' money
that no one is willing to take with his own.
Such a policy would lead to evils of many
different kinds. I t would lead to
favoritism: to the making of loans to
friends, or in return for bribes. It would
inevitably lead to scandals. It would lead
to recriminations when- ever the taxpayers'
money was thrown away on enterprises that
failed. It would increase the demand for
social- ism: for, it would properly be
asked, if the government is going to bear
the risks, why should it not also get the
profits? What justification could there
possibly be, in fact, for asking the
taxpayers to take the risks while permitting
private capitalists to keep the profits?
(This is precisely, however, as we shall
later see, what we already do in the case of
"non-recourse" government loans to farmers.)
But we shall pass over all these evils for the moment, and concentrate on just one consequence of loans of this type. This is that they will waste capital and reduce production. They will throw the available capital into had or at best dubious projects. They will throw it into the hands of persons who are less competent or less trust- worthy than those who would otherwise have got it. For the amount of real capital at any moment (as distinguished from monetary tokens run off on a printing press) is limited. What is put into the hands of B cannot be put into the hands of A.
People want to invest their own capital. But
they are cautious. They want to get it back.
Most lenders, there- fore, investigate any
proposal carefully before they risk their
own money in it. They weigh the prospect of
profits against the chances of loss. They
may sometimes make mistakes. But for several
reasons they are likely to make fewer
mistakes than government lenders. In the
first place, the money is either their own
or has been voluntarily entrusted to them.
In the case of government-lending the money
is that of other people, and it has been
taken from them, regardless of their
personal wish, in taxes. The private money
will be invested only where repayment with
interest or profit is definitely expected.
This is a sign that the persons to whom the
money has been lent will be expected to
produce things for the market that people
actually want. The government money, on the
other hand, is likely to be lent for some
vague general purpose like "creating
employment;" and the more in- efficient the
work-that is, the greater the volume of
employment it requires in relation to the
value of product- the more highly thought of
the investment is likely to he.
The private lenders,
moreover, are selected by a cruel market
test. If they make had mistakes they lose
their money and have no more money to lend.
It is only if they have been successful in
the past that they have more money to lend
in the future. Thus private lenders (except
the relatively small proportion that have
got their funds through inheritance) are
rigidly selected by a process of survival of
the fittest. The government lenders, on the
other hand, are either those who have passed
civil service examinations, and know how to
answer hypothetical questions
hypothetically, or they are those who can
give the most plausible reasons for making
loans and the most plausible explanations of
why it wasn't their fault that
the
loans failed.
But the net result remains: private loans
will utilize existing resources and capital
far better than government loans. Government
loans will waste far more capital and
resources than private loans. Government
loans, in short, as compared with private
loans, will reduce production, not increase
it.
The proposal for government loans to private
individuals or projects, in brief, sees B
and forgets A. I t sees the people in
whose hands the capital is put; it forgets
those who would otherwise have had it. It
sees the project to which capital is
granted; it forgets the projects from which
capital is thereby withheld. It sees the
immediate benefit to one group; it overlooks
the losses to other groups, and the net loss
to the community as a whole. It is one more
illustration of the fallacy of seeing only a
special interest in the short run and
forgetting the general interest in the long
run.
Chapter Seven
T H E C U R S
E O F M A C H I N E R Y
Among
the most viable of all economic delusions is
the belief that machines on net balance
create unemployment. Destroyed a thousand
times, it has risen a thousand times out of
its own ashes as hardy and vigorous as ever.
Whenever there is a long-continued mass
unemployment, machines get the blame anew.
This fallacy is still the basis of many
labor union practices. The public tolerates
these practices because it either believes
at bottom that the unions are right, or is
too confused to see just why they are wrong.
The belief that machines cause unemployment,
when held with any logical consistency,
leads to preposterous conclusions. Not only
must we be causing unemployment with every
technological improvement we make today, but
primitive man must have started causing it
with the first efforts he made to save
himself from needless toil and sweat.
To go no further back, let us turn to Adam
Smith's The Wealth of Nations, published in
1776. The first chapter of this remarkable
book is called "Of the Division of Labor,"
and on the second page of this first chapter
the author tells us that a workman
unacquainted with the use of machinery
employed in pin-making "could scarce make
one pin a day, and certainly could not make
twenty," b u t that with the use of
this machinery he can make 4,800 pins a day.
So already, alas, in Adam Smith's time,
machinery had thrown from 240 to 4,800 pin
makers out of work for every one it kept. In
the pin- making industry there was already,
if machines merely throw men out of jobs,
99.98 per cent unemployment. Could things be
blacker?
Things could he blacker, for
the Industrial Revolution was just in its
infancy. Let us look at some of the
incidents and aspects of that revolution.
Let us see, for ex- ample, what happened in
the stocking industry. New stocking frames
as they were introduced were destroyed by
the handicraft workmen (over 1,000 in a
single riot), houses were burned, the
inventors were threatened and obliged to fly
for their lives, and order was not finally
,
restored until the military had been called
out and the leading rioters had been either
transported or hanged.
Now it is important to bear in mind that in
so far as the rioters were thinking of their
own immediate or even longer futures their
opposition to the machine was rational. For
William Felkin, in his History of the
Machine. Wrought Hosiery Manufactures
(1867), tells us that the larger part of the
50,000 English stocking knitters and their
families did not fully emerge from the
hunger and misery entailed by the
introduction of the machine for the next
forty years. But in so far as the rioters
believed, as most of them undoubtedly did,
that the machine was permanently displacing
men, they were mistaken, for before the end
of the nineteenth century the stocking
industry was employing at least a hundred
men fur every man it employed at the
beginning of the century.
Arkwright invented his
cotton-spinning machinery in 1760. At that
time it was estimated that there were in
If the reader
will consult such a book as, Recent
Economic Changes, by David A.
Wells, published in 1889, he will find
passages that, except for the dates and
absolute amounts involved, might have been
written by our technophobes (if I may coin a
needed word) of today. Let me quote a few:
During the
ten years from 1870 to 1880, inclusive, the
British mercantile marine increased its
movement, in the matter of foreign entries
and clearances alone, to the extent of
22,000,000 tons . . . yet the number of men
who were employed in effecting this great
movement had decreased in 1880, as compared
with 1870, to the extent of about three
thousand (2,990 exactly). What did it? The
introduction of steam-hoisting machines and
grain elevators upon the wharves and docks,
the employment of steam power, etc.
In 1873
The power capacity already being exerted by
the steam engines of the world in existence
and working in the year 1887 has been
estimated by the Bureau of Statistics at
Berlin as equivalent to that of 200,000,00
horses, representing approximately
1,000,000,000 men, or at least three times
the working population of the earth.
One would think that this last figure would
have caused Mr. Wells to pause, and wonder
why there was any employment left in the
world of 1889 at all; but he merely
concluded, with restrained pessimism, that
"under such circumstances industrial
overproduction . . . may become chronic."
In the depression of 1932, the game of
blaming unemployment on the machines started
all over again. Within a few months the
doctrines of a group calling themselves the
Technocrats had spread through the country
like a forest fire. I shall not weary the
reader with a recital of the fantastic
figures put forward by this group or with
corrections to show what the real facts
were. It is enough to say that the
Technocrats returned to the error in all its
native purity that machines permanently
displace men- except that, in their
ignorance, they presented this error as a
new and revolutionary discovery of their
own. It was simply one more illustration of
Santayana's aphorism that those who cannot
remember the past are condemned to repeat
it.
The Technocrats were finally laughed out of
existence; hut their doctrine, which
preceded them, lingers on. It is reflected
in hundreds of make-work rules and feather-
bed practices by labor unions; and these
rules and practices are tolerated and even
approved because of the con- fusion on this
point in the public mind.
Testifying on behalf of the
United States Department of Justice before
the Temporary National Economic Committee
(better known as the TNEC) in March. 1941.
Corwin Edwards cited innumerable examples of
such practices. The electrical union in
One could go on to cite such make-work
practices in many other fields. In the
railroad industry, the unions insist that
firemen be employed on types of locomotives
that do not reed them. In the theaters
unions insist on the use of scene shifters
even in plays in which no scenery is used.
The musicians' union requires so-called
"stand-in" musicians or even whole
orchestras to be employed in many cases
where only phonograph records are needed.
One might pile up mountains
of figures to show how wrong were the
technophobes of the past. But it would do no
good unless we understood clearly why they
were wrong. For statistics and history are
useless in economics unless accompanied by a
basic deductive understanding of the
facts-which means in this case an
understanding of why the past consequences
of the introduction of machinery and other
labor-saving devices had to occur. Otherwise
the technophobes will assert (as they do in
fact assert when you point out to them that
the prophecies of their predecessors turned
out to be absurd)
: "That
may have been all very well in the past; but
today conditions are fundamentally
different; and now we simply cannot afford
to develop any more labor-saving machinery."
Mrs. Eleanor Roosevelt, indeed, in a
syndicated newspaper column of
If it were indeed true that
the introduction of labor- saving machinery
is a cause of constantly mounting un-
employment and misery, the logical
conclusions to be drawn would be
revolutionary, not only in the technical
field but for our whole concept of
civilization. Not on should we have to
regard all further technical progress as a
calamity; we should have to regard all past
technical progress with equal horror. Every
day each of us in h own capacity is engaged
in trying to reduce the effort requires to
accomplish a given result. Each of us is
trying to save his own labor, to economize
the means required achieve his ends. Every
employer, small as well as large seeks
constantly to gain his results more
economically and efficiently-that is, by
saving labor. Every intelligent workman
tries to cut down the effort necessary to
accomplish his assigned job. The most
ambitions of us try tirelessly to increase
the results we can achieve in a given number
of hours. The technophobes, if they were
logical and consistent, would have to
dismiss all this progress and ingenuity as
not only useless but vicious. Why should
freight he carried from
Theories as false as this are never held
with logical consistency, but they do great
harm because they are held at all. Let us,
therefore, try to see exactly what happens
when technical improvements and labor-saving
machinery are introduced. The details will
vary in each in- stance, depending upon the
particular conditions that prevail in a
given industry or period. But we shall
assume an example that involves the main
possibilities.
Suppose a clothing manufacturer learns of a
machine that will make men's and women's
overcoats for half as much labor as
previously. He installs the machines and
drops half his labor force.
This looks at first glance like a clear loss
of employment. But the machine itself
required labor to make it; so here, as one
offset, are jobs that would not otherwise
have existed. The manufacturer, however,
would have adopted the machine only if it
had either made better suits for half as
much labor, or had made the same kind of
suits at a smaller cost. If we assume the
latter, we cannot assume that the amount of
labor to make the machines was as great in
terms of payrolls as the amount of labor
that the clothing manufacturer hopes to save
in the long run by adopting the machine;
otherwise there would have been no economy,
and he would not ha adopted it.
So there is still a net loss of employment
to be ac- counted for. But we should at
least keep in mind the real possibility that
even the first effect of the introduction of
labor-saving machinery may be to increase
employment on net balance; because it is
usually only in the long run that the
clothing manufacturer expects to save money
by adopting the machine: it may take several
years for the machine to "pay for itself."
After the machine has produced economies
sufficient to offset its cost, the clothing
manufacturer has more profits than before.
(We shall assume that he merely sells his
coats for the same price as his competitors,
and makes no effort to undersell them.) At
this point, it may seem, labor has suffered
a net loss of employment, while it is only
the manufacturer, the capitalist, who has
gained. But it is precisely out of these
extra profits that the subsequent social
gains must come. The manufacturer must use
these extra profits in at least one of three
ways, and possibly he will use part of them
in all three: (1) he will use the extra
profits to expand his operations by buying
more machines to make more coats; or (2)
he will invest the extra profits in some
other industry; or ( 3 ) he will
spend the extra profits on increasing his
own consumption. Whichever of these three
courses he takes, he will in- crease
employment.
In other words, the manufacturer, as a
result of hi economies, has profits that he
did not have before. Every dollar of the
amount he has saved in direct wages to
former coat makers, he now has to pay out in
indirect wage to the makers of the new
machine, or to the workers in another
capital industry, or to the makers of a new
house or motor car for himself, or of
jewelry and furs for his wife. In any case
(unless he is a pointless hoarder) he gives
indirectly as many jobs as he ceased to give
directly.
But the matter does not and cannot rest at
this stage. If this enterprising
manufacturer effects great economies as
compared with his competitors, either he
will begin to expand his operations at their
expense, or they will start buying the
machines too. Again more work will be given
to the makers of the machines. But
competition and production will then also
begin to force down the price of overcoats.
There will no longer he as great profits for
those who adopt the new machines. The rate
of profit of the manufacturers using the new
machine will begin to drop, while the
manufacturers who have still not adopted the
machine may now make no profit at all. The
savings, in other words, will begin to he
passed along to the buyers of overcoats-to
the consumers.
But as overcoats are now cheaper, more
people will buy them. This means that,
though it takes fewer people to make the
same number of overcoats as before, more
overcoats are now being made than before. If
the demand for overcoats is what economists
call "elastic" that is, if a fall in the
price of overcoats causes a larger total
amount of money to be spent on overcoats
than previously-then more people may be
employed even in making overcoats than
before the new labor-saving machine was
introduced. We have already seen how this
actually happened historically with
stockings and other textiles.
But the new employment does not depend on
the elasticity of demand for the particular
product involved. Sup- pose that, though the
price of overcoats was almost cutting
half-from a former price, say, of $50 to a
new price of $30-not a single additional
coat was sold. The result would be that
while consumers were as well provided with
new overcoats as before, each buyer would
now have $20 left over that he would not
have had left over before. He will therefore
spend this $20 for something else, and so
provide increased employment in other lines.
In brief, on net balance machines,
technological improvements, economies and
efficiency do not throw men out of work.
Not all inventions and
discoveries, of course, are "labor saving"
machines. Some of them, like precision
instruments, like nylon, lucite, plywood and
plastics of all kinds, simply improve the
quality of products. Others, like the
telephone or the airplane, perform
operations that direct human labor could not
perform at all. Still others bring into
existence objects and services, such as
X-rays, radios and synthetic rubber that
would other wise not even exist. But in the
foregoing illustration w have taken
precisely the kind of machine that has bee
the special object of modern technophobia.
It is possible, of course, to
push too far the argument that machines do
not on net balance throw men out of work. It
is sometimes argued, for example, that
machines create more jobs than would
otherwise have existed. Under certain
conditions this may be true. They can
certainly create enormously more jobs in ,
particular trades The eighteenth century
figures for the textile industries are a
case in point. Their modern counterparts are
certainly no less striking. In 1910, 140,000
persons were employed in the
There is also an absolute sense in which
machines may be said to have enormously
increased the number of jobs. The population
of the world today is three times as great
as in the middle of the eighteenth century,
before the Industrial Revolution had got
well under way. Machines may be said to have
given birth to this increased population;
for without the machines, the world would
not have been able to support it. Two out of
every three of us, therefore, may be said to
owe not only our jobs hut our very lives to
machines.
Yet it is a misconception to think of the
function or result of machines as primarily
one of creating jobs. The real result of the
machine is to increase production, to raise
the standard of living, to increase economic
welfare. It is no trick to employ everybody,
even (or especially) in the most primitive
economy. Full employment -very full
employment; long, weary, back-breaking
employment-is characteristic of precisely
the nations that are most retarded
industrially. Where full employment already
exists, new machines, inventions and
discoveries cannot-until there has been time
for an increase in population-bring more
employment. They are likely to bring more
unemployment (but this time I am speaking of
voluntary and not involuntary unemployment)
because people can now afford to work fewer
hours, while children and the over-aged no
longer need to work.
What machines do, to repeat, is to bring an
increase in production and an increase in
the standard of living. They may do this in
either of two ways. They do it by making
goods cheaper for consumers (as in our
illustration of the overcoats), or they do
it by increasing wages because they increase
the productivity of the workers. In other
words, they either increase money wages or,
by reducing prices, they increase the goods
and services that the same money wages will
buy. Sometimes they do both. What actually
happens will depend in large part upon the
monetary policy pursued in a country. But in
any case, machines, inventions and
discoveries increase real wages.
A
warning is
necessary before we leave this subject. It
was precisely the great merit of the
classical economists that they looked for
secondary consequences, that they were
concerned with the effects of a given
economic policy or development in the long
run and on the whole community. But it was
also their defect that, in taking the long
view and the broad view, they sometimes
neglected to take also the short view and
the narrow view. They were too often
inclined to minimize or to forget altogether
the immediate effects of developments on
specia1 groups. We have seen, for example,
that the English stocking knitters suffered
real tragedies as a result of the
introduction of the new stocking frames, one
of the earliest inventions of the Industrial
Revolution.
But such facts and their modern counterparts
have led some writers to the opposite
extreme of looking only at the immediate
effects on certain groups. Joe Smith is
thrown out of a job by the introduction of
some new machine. "Keep your eye on Joe
Smith," these writers insist. "Never lose
track of Joe Smith." But what they then
proceed to do is to keep their eyes only on
Joe Smith, and to forget Tom Jones, who has
just got a new job in making the new
machine, and Ted Brown, who has just got a
job operating one, and Daisy Miller, who can
now buy a coat for half what it used to cost
her. And because they think only of Joe
Smith, they end by advocating reactionary
and nonsensical policies.
Yes, we should keep at least
one eye on Joe Smith. He has been thrown out
of a job by the new machine. Per- haps he
can soon get another job, even a better one.
But perhaps, also, he has devoted many years
of his life to acquiring and improving a
special skill for which the market no longer
has any use. He has lost this investment in
himself, in his old skill, just as his
former employer, perhaps, has lost
his
investment in
old machines or processes suddenly rendered
obsolete. He was a skilled work. man, and
paid as a skilled workman. Now he has be.
come overnight an unskilled workman again,
and can hope, for the present, only for the
wages of an unskilled workman, because the
one skill he had is no longer needed. We
cannot and must not forget Joe Smith. His is
one of the personal tragedies that, as we
shall see, are incident to nearly all
industrial and economic progress.
To ask precisely what course we should
follow with Joe Smith-whether we should let
him make his own adjustment, give him
separation pay or unemployment compensation,
put him on relief, or train him at
government expense for a new job-would carry
us beyond the point that we are here trying
to illustrate. The central lesson is that we
should try to see all the main con-
sequences of any economic policy or
development-the immediate effects on special
groups, and the long-run effects on all
groups.
If we have
devoted considerable space to this issue, it
S is because our conclusions regarding the
effects of new machinery, inventions and
discoveries on employment, production and
welfare are crucial. If we are wrong about
these, there are few things in economics
about which we are likely to be right.
Chapter Eight
S P R E A D -T H E - W O R K
S C H E M E S
I
have referred to various union make-work and
feather- bed practices. These practices, and
the public toleration of them, spring from
the same fundamental fallacy as the fear of
machines. This is the belief that a more
efficient way of doing a thing destroys
jobs, and its necessary corollary that a
less efficient way of doing it creates them.
Allied to this fallacy is the belief that
there is just a fixed amount of work to be
done in the world, and that, if we cannot
add to this work by thinking up more
cumbersome ways of doing it, at least we can
think of devices for spreading it around
among as large a number of people as
possible.
This error lies behind the minute
subdivision of labor upon which unions
insist. In the building trades in large
cities the subdivision is notorious.
Bricklayers are not al- lowed to use stones
for a chimney: that is the special work of
stonemasons. An electrician cannot rip out a
board to fix a connection and put it back
again: that is the special job, no matter
how simple it may be, of the carpenters. A
plumber will not remove or put hack a tile
incident to fixing a leak in the shower:
that is the job of a tile-setter.
Furious "jurisdictional" strikes are fought
among unions for the exclusive right to do
certain types of borderline jobs. In a
statement recently prepared by the American
railroads for the Attorney-General's Commit-
tee on Administrative Procedure, the roads
gave innumerable examples in which the
National Railroad Adjustment Board had
decided that "each separate operation on the
railroad, no matter how minute, such as
talking over a telephone or spiking or
unspiking a switch, is so far an exclusive
property of a particular class of employee
that if an employee of another class, in the
course of his regular duties, performs such
operations he must not only be paid an extra
day's wages for doing so, but at the same
time the furloughed or unemployed members of
the class held to be entitled to perform the
operation must be paid a day's wages for not
having been called upon to perform it."
It is true that a few persons can profit at
the expense of the rest of us from this
minute arbitrary subdivision of
labor-provided it happens in their case
alone. But those who support it as a general
practice fail to see that it always raises
production costs; that it results on net
balance in less work done and in fewer goods
produced. The householder who is forced to
employ two men to do the work of one has, it
is true, given employment to one extra man.
But he has just that much less money left
over to spend on something that would employ
somebody else. Because his bathroom leak has
been repaired at double what it should have
cost, he decides not to buy the new sweater
he wanted. "Labor" is no better off, because
a day's employment of an unneeded
tile-setter has meant a day's disemployment
of a sweater knitter or machine handler. The
householder, however, is worse off. Instead
of having a repaired shower and a sweater,
he has the shower and no sweater. And if we
count the sweater as part of the national
wealth, the country is short one sweater.
This symbolizes the net result of the effort
to make extra work by arbitrary subdivision
of labor.
But there are other schemes for "spreading
the work," often put forward by union
spokesmen and legislators. The most frequent
of these is the proposal to shorten the
working week usually by law. The belief that
it would "spread the work" and "give more
jobs" was one of the main reasons behind the
inclusion of the penalty-over. time
provision in the existing Federal Wage-Hour
Law. The previous legislation in the States,
forbidding the employment of women or minors
for more, say, than forty- eight hours a
week, was based on the conviction that
longer hours were injurious to health and
morale. Some of it was based on the belief
that longer hours were harmful to
efficiency. But the provision in the Federal
law, that an employer must pay a worker a 50
per cent premium above his regular hourly
rate of wages for all hours worked in any
week above forty, was not based primarily on
the belief that forty-five hours a week,
say, was injurious either to health or
efficiency. I t was inserted partly in the
hope of boosting the worker's weekly income,
and partly in the hope that, by discouraging
the employer from taking on anyone regularly
for more than forty hours a week, it would
force him to employ additional workers
instead. At the time of writing this, there
are many schemes for "averting unemployment"
by enacting a thirty-hour week.
What is the actual effect of such plans,
whether en- forced by individual unions or
by legislation? The first is a reduction in
the standard working week from forty hours
to thirty without any change in the hourly
rate of pay. The second is a reduction in
the working week from forty hours to thirty,
hut with a sufficient increase in hourly
wage rates to maintain the same weekly pay
for the individual workers already employed.
Let us take the first case. We assume that
the working week is cut from forty hours to
thirty, with no change in hourly pay. If
there is substantial unemployment when this
plan is put into effect, the plan will no
doubt provide additional jobs. We cannot
assume that it will provide sufficient
additional jobs, however, to maintain the
same payrolls and the same number of man-
hours as before, unless we make the unlikely
assumptions that in each industry there has
been exactly the same percentage of
unemployment and that the new men and women
employed are no less efficient at their
special tasks on the average than those who
had already been employed. But suppose we do
make these assumptions. Sup- pose we do
assume that the right number of additional
workers of each skill is available, and that
the new workers do not raise production
costs. What will be the result of reducing
the working week from forty hours to thirty
(without any increase in hourly pay)?
Though more workers will he employed, each
will be working fewer hours, and there will,
therefore, be no net increase in man-hours.
It is unlikely that there will be any
significant increase in production, Total
payrolls and "purchasing power" will be no
larger. All that will have happened, even
under the most favorable assumptions (which
would seldom he realized) is that the
workers previously employed will subsidize,
in effect, the workers previously
unemployed. For in order that the new
workers will individually receive
three-fourths as many dollars a week as the
old workers used to receive, the old workers
will themselves now individually receive
only three-fourths as many dollars a week as
previously. It is true that the old workers
will now work fewer hours; but this purchase
of more leisure at a high price is
presumably not a decision they have made for
its own sake: it is a sacrifice made to
provide others with jobs.
The labor union leaders who demand shorter
weeks to "spread the work" usually recognize
this, and therefore they put the proposal
forward in a form in which every- one is
supposed to eat his cake and have it too.
Reduce the working week from forty hours to
thirty, they tell us, to provide more jobs;
but compensate for the shorter week by
increasing the hourly rate of pay by 33 1/3
per cent. The workers employed, say, were
previously getting an average of $40 a week
for forty hours work; in order that they may
still get $40 for only thirty hours work,
the hourly rate of pay must be advanced to
an average of $1.33 1/3.
What would be the consequences of such a
plan? The first and most obvious consequence
would be to raise costs of production. If we
assume that the workers, when previously
employed for forty hours, were getting less
than the level of production costs, prices
and profits made possible, then they could
have got the hourly in- crease without
reducing the length of the working week.
They could, in other words, have worked the
same number of hours and got their total
weekly incomes increased by one-third,
instead of merely getting, as they are under
the new thirty-hour week, the same weekly
income as before. But if, under the
forty-hour week, the workers were already
getting as high a wage as the level of
production costs and prices made possible
(and the very unemployment they are trying
to cure may he a sign that they were already
getting even more than this), then the
increase in production costs as a result of
the 33 1/3 per cent increase in hourly wage
rates will be much greater than the existing
state of prices, production and costs can
stand.
The result of the higher wage rate,
therefore, will be a much greater
unemployment than before. The least
efficient firms will be thrown out of
business, and the least efficient workers
will be thrown out of jobs. Production will
be reduced all around the circle. Higher
production costs and scarcer supplies will
tend to raise prices, so that workers can
buy less with the same dollar wages; on the
other hand, the increased unemployment will
shrink demand and hence tend to lower
prices. What ultimately happens to the
prices of goods will depend upon what
monetary policies are then followed. But if
a policy of monetary inflation is pursued,
to enable prices to rise so that the
increased hourly wages can be paid, this
will merely be a disguised way of reducing
real wage rates, so that these will return,
in terms of the amount of goods they can
purchase, to the same real rate as before.
The result would then be the same as if the
working week had been reduced without an
increase in hourly wage rates. And the
results of that have already been discussed.
The spread-the-work schemes, in brief, rest
on the same sort of illusion that we have
been considering. The people who support
such schemes think only of the employment
they would provide for particular persons or
groups; they do not stop to consider what
their whole effect would he on everybody.
The spread-the-work schemes
rest also, as we began by pointing out, on
the false assumption that there is just a
fixed amount of work to be done. There could
be no greater fallacy. There is no limit to
the amount of work to be done as long as any
human need or wish that work could fill
remains unsatisfied. In a modern exchange
economy, the most work will be done when
prices, costs and wages are in the best
relations to each other. What these
relations are we shall later consider.
DISBANDING TROOPS AND
BUREAUCRATS
They see soldiers being turned loose on the
labor market. Where is the "purchasing
power" going to come from to employ them? If
we assume that the public budget is being
balanced. the answer is simple. The
government will cease to support the
soldiers. But the taxpayers will be allowed
to retain the funds that were previously
taken from them in order to support the
soldiers. And the tax- payers will then have
additional funds to buy additional goods.
Civilian demand, in other words, will be
increased, and will give employment to the
added labor force represented by the
soldiers.
If the soldiers have been supported by an
unbalanced budget-that is, by government
borrowing and other forms of deficit
financing-the case is somewhat different.
But that raises a different question: we
shall consider the effects of deficit
financing in a later chapter. It is enough
to recognize that deficit financing is
irrelevant to the point that has just been
made; for if we assume that there is any
advantage in a budget deficit, then
precisely the same budget deficit could he
maintained as before by simply reducing
taxes by the amount previously spent in
supporting the wartime army.
But the demobilization will not leave us
economically just where we were before it
started. The soldiers previously supported
by civilians will not become merely
civilians supported by other civilians. They
will become self-supporting civilians. If we
assume that the men who would otherwise have
been retained in the armed forces are no
longer needed for defense, then their
retention would have been sheer waste. They
would have been un- productive. The
taxpayers, in return for supporting them,
would have got nothing. But now the
taxpayers turn over this part of their funds
to them as fellow civilians in return for
equivalent goods or services. Total national
production, the wealth of everybody, is
higher.
Once again the fallacy comes
from looking at the effects of this action
only on the dismissed officeholders
themselves and on the particular tradesmen
who depend upon them. Once again it is
forgotten that, if these bureaucrats are not
retained in office, the taxpayers will he
permitted to keep the money that was
formerly taken from them for the support of
the bureaucrats. Once again it is forgotten
that the taxpayers' income and purchasing
power go up by at least as much as the
income and purchasing power of the former
officeholders go down. If the particular
shopkeepers who formerly got the business of
these bureaucrats lose trade, other
shopkeepers elsewhere gain at least as much.
Once again, however, the matter does not end
there. The country is not merely as well off
without the superfluous officeholders as it
would have been had it retained them. It is
much better off. For the officeholders must
now seek private jobs or set up private
businesses. And the added purchasing power
of the taxpayers, as we noted in the case of
the soldiers, will encourage this. But the
officeholders can take private jobs only by
supplying equivalent services to those who
provide the jobs o r , rather, to the
customers of the employers who provide the
jobs. Instead of being parasites, they
become productive men and women.
I must insist again that in all this I am
not talking of public officeholders whose
services are really needed. Necessary
policemen, firemen, street cleaners, health
officers, judges, legislators and executives
perform productive services as important as
those of anyone in private industry. They
make it possible for private industry to
function in an atmosphere of law, order,
freedom and peace. But their justification
consists in the utility of their services.
It does not consist in the "purchasing
power" they possess by virtue of being on
the public pay- roll.
This "purchasing power"
argument is, when one considers it
seriously, fantastic. It could just as well
apply to a racketeer or a thief who robs
you. After he takes your money he has more
purchasing power. He sup- ports with it
bars, restaurants, night clubs, tailors,
perhaps automobile workers. But for every
job his spending provides, your own spending
must provide one less, because you have that
much less to spend. Just so the tax- payers
provide one less job for every job supplied
by the spending of officeholders. When your
money is taken by a thief, you get nothing
in return. When your money is taken through
taxes to support needless bureaucrats,
precisely the same situation exists. We are
lucky, indeed, if the needless bureaucrats
are mere easy-going loafers. They are more
likely today to be energetic reformers
busily discouraging and disrupting
production. When we can find no better
argument for the retention of any group of
officeholders than that of retaining their
purchasing power, it is a sign that the time
has come to get rid of them.
THE FETISH OF FULL EMPLOYMENT
The
economic goal of any nation, as of any
individual, is to get the greatest results
with the least effort. The whole economic
progress of mankind has consisted in getting
more production with the same labor. It is
for this reason that men began putting
burdens on the backs of mules instead of on
their own; that they went on to invent the
wheel and the wagon, the railroad and the
motor truck. It is for this reason that men
used their ingenuity to develop a hundred
thousand labor-saving inventions.
All this is so elementary that one would
blush to state it if it were not being
constantly forgotten by those who coin and
circulate the new slogans. Translated into
national terms, this first principle means
that our real objective is to maximize
production. In doing this, full
employment-that is, the absence of
involuntary idleness- becomes a necessary
by-product. But production is the end,
employment merely the means. We cannot
continuously have the fullest production
without full employment. But we can very
easily have full employment with- out full
production.
Primitive tribes are naked,
and wretchedly fed and housed, but they do
not suffer from unemployment.
Yet our legislators do not
present Full Production hills in Congress
but Full Employment bills. Even committees
of business men recommend "a President's
Commission on Full Employment," not on Full
Production, or even on Full Employment and
Full Production. Everywhere the means is
erected into the end, and the end itself is
for gotten.
Wages and employment are discussed as if
they had no relation to productivity and
output. On the assumption that there is only
a fixed amount of work to be done, the
conclusion is drawn that a thirty-hour week
will provide more jobs and will therefore be
preferable to a forty- hour week. A hundred
make-work practices of labor unions are
confusedly tolerated. When a Petrillo
threatens to put a radio station out of
business unless it employs twice as many
musicians as it needs, he is sup- ported by
part of the public because he is after all
merely trying to create jobs. When we had
our WPA, it was considered a mark of genius
for the administrators to think of projects
that employed the largest number of men in
relation to the value of the work
performed-in other words, in which labor was
least efficient.
It would be far better, if
that were the choice-which it isn't-to have
maximum production with part of the
population supported in idleness by
undisguised relief than to provide "full
employment" by so many forms of disguised
make-work that production is disorganized.
The progress of civilization has meant the
reduction of employment, not its increase.
It is because we have become increasingly
wealthy as a nation that we have been able
virtually to eliminate child labor, to
remove the necessity of work for many of the
aged and to make it unnecessary for millions
of women to take jobs. A much smaller
proportion of the American population needs
to work than that, say, of
We can clarify our thinking if we put our
chief emphasis where it belongs-on policies
that will maximize production.
WHO'S
"PROTECTED" B Y TARIFFS?
A mere recital of the economic policies of
governments all over the world is calculated
to cause any serious student of economics to
throw up his hands in despair. What possible
point can there he, he is likely to ask, in
discussing refinements and advances in
economic theory, when popular thought and
the actual policies of governments,
certainly in everything connected with
international relations, have not yet caught
up with Adam Smith? For present-day tariff
and trade policies are not only as had as
those in the seventeenth and eighteenth
centuries, hut incomparably worse. The real
reasons for those tariffs and other trade
harriers are the same, and the pretended
reasons are also the same.
In the century and three-quarters since The
Wealth of Nations appeared, the case
for free trade has been stated thousands of
times, hut perhaps never with more direct
simplicity and force than it was stated in
that volume. In general Smith rested his
case on one fundamental proposition: "In
every country it always is and must he the
interest of the great body of the people to
buy whatever they want of those who sell it
cheapest." "The proposition is so very
manifest," Smith continued, "that it seems
ridiculous to take any pains to prove it;
nor could it ever have been called in
question, had not the interested sophistry
of merchants and manufacturers confounded
the common- sense of mankind."
From another
point of view, free trade was considered as
one aspect of the specialization of labor:
It is the
maxim of every prudent master of a family,
never to attempt to make at home what it
will cost him more to make than to buy. The
tailor does not attempt to make his own
shoes, hut buys them of the shoe- maker. The
shoemaker does not attempt to make his own
clothes, hut employs a tailor. The farmer
attempts to make neither the one nor the
other, hut employs those different
artificers. All of them find it for their
interest to employ their whole industry in a
way in which they have some advantage over
their neighbors, and to with a part of its
produce, or what is the same thing, with the
price of a part of it, whatever else they
have occasion for. What is prudence in the
conduct of every private family can scarce
be folly in that of a great kingdom.
But what ever
led people to suppose that what was prudence
in the conduct of every private family could
be folly in that of a great kingdom? It was
a whole net- work of fallacies, out of which
mankind has still been unable to cut its
way. And the chief of them was the central
fallacy with which this book is concerned.
It was that of considering merely the
immediate effects of a tariff on special
groups, and neglecting to consider its
long-run effects on the whole community.
An American manufacturer of woolen sweaters
goes to Congress or to the State Department
and tells the committee or officials
concerned that it would be a national
disaster for them to remove or reduce the
tariff on British sweaters. He now sells his
sweaters for $15 each, but English
manufacturers could sell here sweaters of
the same quality for $10. A duty of $5,
therefore, is needed to keep him in
business. He is not thinking of himself, of
course, but of the thousand men and women he
employs, and of the people to whom their
spending in turn gives employment. Throw
them out of work, and you create
unemployment and a fall in purchasing power,
which would spread in ever-widening circles.
And if he can prove that he really would be
forced out of business if the tariff were
removed or reduced, his argument against
that action is regarded by Congress as
conclusive.
But the fallacy comes from looking merely at
this manufacturer and his employees, or
merely at the American sweater industry. It
comes from noticing only the results that
are immediately seen, and neglecting the
results that are not seen because they are
prevented from coming into existence.
The lobbyists for tariff protection are
continually put- ting forward arguments that
are not factually correct. But let us assume
that the facts in this case are precisely as
the sweater manufacturer has stated them.
Let us assume that a tariff of $5 a sweater
is necessary for him to stay in business and
provide employment at sweater-making for his
workers.
We have deliberately chosen the most
unfavorable ex- ample of any for the removal
of a tariff. We have not taken an argument
for the imposition of a new tariff in order
to bring a new industry into existence, but
an argument for the retention of a tariff
that has already brought an industry into
existence, and cannot be repealed with- out
hurting somebody.
The tariff is repealed; the
manufacturer goes out of business; a
thousand workers are laid off; the
particular tradesmen whom they patronized
are hurt. This is the immediate result that
is seen. But there are also results which,
while much more difficult to trace, are no
less
immediate
and no less real. For now sweaters that
formerly cost $15 apiece can be bought for
$10. Consumers can now buy the same quality
of sweater for less money, or a much better
one for the same money. If they buy the same
quality of sweater, they not only get the
sweater, but they have $5 left over, which
they would not have had under the previous
conditions, to buy something else. With the
$10 that they pay for the imported sweater
they help employment-as the American
manufacturer no doubt predicted-in the
sweater industry in
But the
results do not end there. By buying English
sweaters they furnish the English with
dollars to buy American goods here. This, in
fact (if I may here disregard such
complications as multilateral exchange,
loans, credits, gold movements, etc. which
do not alter the end result) is the only way
in which the British can eventually make use
of these dollars. Because we have permitted
the British to sell more to us, they are now
able to buy more from us. They are, in fact,
eventually forced to buy more from us if
their dollar balances are not to remain
perpetually unused. So, as a result of
letting in more British goods, we must
export more American goods. And though fewer
people are now employed in the American
sweater industry, more people are employed-
-and much more efficiently employed-in, say,
the American automobile or washing-machine
business. American employment on net balance
has not gone down, but American and British
production on net balance has gone up. Labor
in each country is more fully employed in
doing just those things that it does best,
instead of being forced to do things that it
does inefficiently or badly. Consumers in
both countries are better off. They are able
to buy what they want where they can get it
cheapest. American consumers are better
provided with sweaters, and British
consumers are better provided with motor
cars and washing machines.
Now let us look at the matter the other way
round, and see the effect of imposing a
tariff in the first place. Suppose that
there had been no tariff on foreign knit
goods, that Americans were accustomed to
buying foreign sweaters without duty, and
that the argument were then put forward that
we could bring a sweater industry into
existence by imposing a duty of $5 on
sweaters.
There would be nothing logically wrong with
this argument so far as it went. The cost of
British sweaters to the American consumer
might thereby be forced so high that
American manufacturers would find it
profitable to enter the sweater business.
But American consumers would be forced to
subsidize this industry. On every American
sweater they bought they would be forced in
effect to pay a tax of $5 which would be
collected from them in a higher price by the
new sweater industry.
Americans would be employed
in a sweater industry who had not previously
been employed in a sweater industry. That
much is true. But there would be no net
addition to the country's industry or the
country's employment. Because the American
consumer had to pay $5
,
more
for the same quality of sweater he would
have just that much less left over to buy
anything else. He would have to reduce his
expenditures by $5 somewhere else. In order
that one industry might grow or come into
existence, a hundred other industries would
have to shrink. In order that 20,000 persons
might he employed in a sweater industry,
20,000 fewer persons would be employed
elsewhere.
But the new industry would be visible. The
number of its employees, the capital
invested in it, the market value of its
product in terms of dollars, could be easily
counted. The neighbors could see the sweater
workers going to and from the factory every
day. The results would be palpable and
direct. But the shrinkage of a hundred other
industries, the loss of 20,000 other jobs
somewhere else, would not be so easily
noticed. It would he impossible for even the
cleverest statistician to know precisely
what the incidence of the loss of other jobs
had been- precisely how many men and women
had been laid off from each particular
industry, precisely bow much business each
particular industry had lost-because
consumers had to pay more for their
sweaters. For a loss spread among all the
other productive activities of the country
would be comparatively minute for each. It
would be impossible for anyone to know
precisely how each consumer would have spent
his extra $5 if he had been allowed to
retain it. The overwhelming majority of the
people, therefore, would probably suffer
from the optical illusion that the new
industry had cost us nothing.
It is important to notice that the new
tariff on sweaters would not raise American
wages. To be sure, it would enable Americans
to work in the sweater industry at
approximately the average level of American
wages (for workers of their skill), instead
of having to compete in that industry at the
British level of wages. But there would be
no increase of American wages in general as
a result of the duty; for, as we have seen,
there would be no net increase in the number
of jobs provided, no net increase in the
demand for goods, and no increase in labor
productivity. Labor productivity would, in
fact, be reduced as a result of the
tariff.
And this brings us to the real effect of a
tariff wall. It is not merely that all its
visible gains are offset by less obvious but
no less real losses. I t results, in fact,
in a net loss to the country. For contrary
to centuries of interested propaganda and
disinterested confusion, the tariff reduces
the American level of wages. Let us observe
more clearly how it does this. We have seen
that the added amount which consumers pay
for a tariff-protected article leaves them
just that much less with which to buy all
other articles. There is here no net gain to
industry as a whole. But as a result of the
artificial barrier erected against foreign
goods, American labor, capital and land are
deflected from what they can do more
efficiently to what they do less
efficiently. Therefore, as a result of the
tariff wall, the average productivity of
American labor and capital is reduced.
If we look at it now from the consumer's
point of view, we find that he can buy less
with his money. Because he has to pay more
for sweaters and other protected goods, he
can buy less of everything else. The general
purchasing power of his income has therefore
been reduced. Whether the net effect of the
tariff is to lower money wages or to raise
money prices will depend upon the monetary
policies that are followed. But what is
clear is that the tariff-though it may
increase wages above what they would have
been in the protected industries-must on net
balance, when all occupations are
considered, re- duce real wages.
Only minds corrupted by generations of
misleading propaganda can regard this
conclusion as paradoxical. What other result
could we expect from a policy of
deliberately using our resources of capital
and manpower in less efficient ways than we
know how to use them? What other result
could we expect from deliberately erecting
artificial obstacles to trade and
transportation?
For the erection of tariff walls has the
same effect as the erection of real walls.
It is significant that the protectionists
habitually use the language of warfare. They
talk of "repelling an invasion" of foreign
products. And the means they suggest in the
fiscal field are like those of the
battlefield. The tariff harriers that are
put up to repel this invasion are like the
tank traps, trenches and barbed-wire
entanglements created to repel or slow down
attempted invasion by a foreign army.
And just as the foreign army
is compelled to employ more expensive means
to surmount those obstacles bigger tanks,
mine detectors, engineer corps to cut wires,
ford streams and build bridges-so more
expensive and efficient transportation means
must be developed to surmount tariff
obstacles. On the one hand, we try to reduce
the cost of transportation between
The tariff has been described as a means of
benefiting the producer at the expense of
the consumer. In a sense this is correct.
Those who favor it think only of the
interests of the producers immediately
benefited by the particular duties involved.
They forget the interests of the consumers
who are immediately injured by being forced
to pay these duties. But it is wrong to
think of the tariff issue as if it
represented a conflict between the interests
of producers as a unit against those of
consumers as a unit. It is true that the
tariff hurts all consumers as such. It is
not true that it benefits all producers as
such. On the contrary, as we have just seen,
it helps the protected producers at the
expense of all other American producers, and
particularly of those who have a
comparatively large potential export market.
We can perhaps make this last
point clearer by an exaggerated example.
Suppose we make our tariff wall so high that
it becomes absolutely prohibitive, and no
imports come in from the outside world at
all. Suppose, as a result of this, that the
price of sweaters in
Now because foreign
industries will find their market in
A higher tariff wall, which, however, is not
prohibitive, will produce the same kind of
results as this, hut merely to a smaller
degree.
The effect of a tariff, therefore, is to
change the structure of American production.
It changes the number of occupations, the
kind of occupations, and the relative size
of one industry as compared with another. It
makes the industries in which we are
comparatively inefficient larger, and the
industries in which we are comparatively
efficient smaller. Its net effect,
therefore, is to reduce American efficiency,
as well as to reduce efficiency in the
countries with which we would otherwise have
traded more largely.
In the long run, notwithstanding the
mountains of argument pro and con, a tariff
is irrelevant to the question of employment.
(True, sudden changes in the tariff, either
upward or downward, can create temporary
unemployment, as they force corresponding
changes in the structure of production. Such
sudden changes can even cause a depression.)
But a tariff is not irrelevant to the
question of wages. In the long run it always
reduces real wages, be- cause it reduces
efficiency, production and wealth.
Thus all the chief tariff fallacies stem
from the central fallacy with which this
book is concerned. They are the result of
looking only at the immediate effects of a
single tariff rate on one group of
producers, and forgetting the long-run
effects both on consumers as a whole and on
all other producers.
(I hear some reader asking: "Why not solve
this by giving tariff protection to all
producers?" But the fallacy here is that
this cannot help producers uniformly, and
cannot help at all domestic producers who
already "out- sell" foreign producers: these
efficient producers must necessarily suffer
from the diversion of purchasing power
brought about by the tariff.)
On the subject of the tariff we must keep in
mind one final precaution. It is the same
precaution that we found necessary in
examining the effects of machinery. It is
useless to deny that a tariff does
benefit-or at least can benefit-special
interests. True, it benefits them at the
expense of everyone else. But it does
benefit them. If one industry alone could
get protection, while its owners and workers
enjoyed the benefits of free trade in
everything else they bought, that industry
would benefit, even on net balance. As an
attempt is made to extend the tariff
blessings, however, even people in the
protected industries, both as producers and
consumers, begin t o suffer from other
people's protection, and may finally he
worse off even on net balance than if
neither they nor anybody else had
protection.
But we should not deny, as enthusiastic free
traders have so often done, the possibility
of these tariff benefits to special groups.
We should not pretend, for example, that a
reduction of the tariff would help everybody
and hurt nobody. It is true that its
reduction would help the country on net
balance. But somebody would he hurt. Groups
previously enjoying high protection would be
hurt. That in fact is one reason why it is
not good to bring such protected interests
into existence in the first place. But
clarity and candor of thinking compel us to
see and acknowledge that some industries are
right when they say that a removal of the
tariff on their product w o u l d throw them
out of business and throw their workers (at
least temporarily) out of jobs. And if their
workers have developed specialized skills,
they may even suffer permanently, or until
they have at long last learnt equal skills.
In tracing the effects of tariffs, as in
tracing the effects of machinery, we should
endeavor to see all the chief effects, in
both the short run and the long run, on all
groups.
As a postscript to this chapter I should add
that its argument is not directed against
all tariffs, including duties collected
mainly for revenue, or to keep alive
industries needed for war; nor is it
directed against all arguments for tariffs.
It is merely directed against the fallacy
that a tariff on net balance "provides
employment," "raises wages," or "protects
the American standard of living." It does
none of these things; and so far as wages
and the standard of living are concerned, it
does the precise opposite. But an
examination of duties imposed for other
purposes would carry us beyond our present
subject.
Nor need we here examine the
effect of import quotas, exchange controls,
bilateralism and other devices in reducing,
diverting or preventing international trade.
Such devices have, in general, the same
effects as high or prohibitive tariffs, and
often worse effects. They present more
complicated issues, but their net results
can be traced through the same kind of
reasoning that we have just applied to
tariff barriers.
T H E D R I V
E F O R E X P O R T S
Exceeded only by the pathological dread of
imports that affects all nations is a
pathological yearning for ex- ports.
Logically, it is true, nothing could be more
inconsistent. In the long run imports and
exports must equal each other (considering
both in the broadest sense, which includes
such "invisible" items as tourist
expenditures and ocean freight charges). It
is exports that pay for imports, and vice
versa. The greater exports we have, the
greater imports we must have, if we ever
expect to get paid. The smaller imports we
have, the smaller exports we can have.
Without imports we can have no exports, for
foreigners will have no funds with which to
buy our goods. When we decide to cut down
our imports, we are in effect deciding also
to cut down our exports. When we decide to
increase our exports, we are in effect
deciding also to increase our imports.
The reason for this is elementary. An
American ex- porter sells his goods to a
British importer and is paid in British
pounds sterling. But he cannot use British
pounds to pay the wages of his workers, to
buy his wife's clothes or to buy theater
tickets. For all these purposes he needs
American dollars. Therefore his British
pounds are of no use to him unless he either
uses them himself to buy British goods or
sells them to some American importer who
wishes to use them to buy British goods.
Whichever he does, the transaction cannot be
completed until the American exports have
been paid for by an equal amount of imports.
The same situation would
exist if the transaction had been conducted
in terms of American dollars instead of
British pounds. The British importer could
not pay the American exporter in dollars
unless some previous British exporter had
built up a credit in dollars here as a
result of some previous sale to us. Foreign
exchange, in short, is a clearing
transaction in which, in
It is true that under an international gold
standard discrepancies in balances of
imports and exports are sometimes settled by
shipments of gold. But they could just as
well be settled by shipments of cotton,
steel, whisky, perfume, or any other
commodity. The chief difference is that the
demand for gold is almost indefinitely
expansible (partly because it is thought of
and accepted as a residual international
"money" rather than as just another
commodity), and that nations do not put
artificial obstacles in the way of receiving
gold as they do in the way of receiving
almost everything else. (On the other hand,
of late years they have taken to putting
more obstacles in the way of exporting gold
than in the way of exporting anything else:
but that is another story.)
Now the same people who can be clearheaded
and sensible when the subject is one of
domestic trade can be incredibly emotional
and muddleheaded when it becomes one of
foreign trade. In the latter field they can
seriously advocate or acquiesce in
principles which they would think it insane
to apply in domestic business. A
typical example is the belief that the
government should make huge loans to foreign
countries for the sake of increasing our
exports, regardless of whether or not these
loans are likely to be repaid.
American citizens, of course, should be
allowed to lend their own funds abroad at
their own risk. The government should put no
arbitrary barriers in the way of private
lending to countries with which we are at
peace. We should give generously, for humane
reasons alone, to peoples who are in great
distress or in danger of starving. But we
ought always to know clearly what we are
doing. It is not wise to bestow charity on
foreign peoples under the impression that
one is making a hardheaded business
transaction purely for one's own selfish
purposes. That could only lead to
misunderstandings and bad relations later.
Yet among the arguments put forward in favor
of huge foreign lending one fallacy is
always sure to occupy a prominent place. It
runs like this. Even if half (or all) the
loans we make to foreign countries turn sour
and are not repaid, this nation will still
be better off for having made them, because
they will give an enormous impetus to our
exports.
It should be immediately obvious that if the
loans we make to foreign countries to enable
them to buy our goods are not repaid, then
we are giving the goods away. A nation
cannot grow rich by giving goods away. It
can only make itself poorer.
No one doubts this proposition when it is
applied privately. If an automobile company
lends a man $1,000 to buy a car priced at
that amount, and the loan is not re- paid,
the automobile company is not better off
because it has "sold" the car. It has simply
lost the amount that it cost to make the
car. If the car cost $900 to make, and only
half the loan is repaid, then the company
has lost $900 minus $500, or a net amount of
$400. It has not made up in trade what it
lost in bad loans.
If this proposition is so simple when
applied to a private company, why do
apparently intelligent people get confused
about it when applied to a nation? The
reason is that the transaction must then he
traced mentally through a few more stages.
One group may indeed make gains- while the
rest of us take the losses.
It is true, for example, that persons
engaged exclusively or chiefly in export
business might gain on net balance as a
result of bad loans made abroad. The
national loss on the transaction would be
certain, but it might he distributed in ways
difficult to follow. The private lenders
would take their losses directly. The losses
from government lending would ultimately be
paid out of increased taxes imposed on
everybody. But there would also be many
indirect losses brought about by the effect
on the economy of these direct losses.
In the long run business and
employment in
None of this means, I repeat, that it is
unwise to make foreign loans, but simply
that we cannot get rich by making bad ones.
For the same reasons that it is stupid to
give a false stimulation to export trade by
making bad loans or out- right gifts to
foreign countries, it is stupid to give a
false stimulation to export t r a d e
through export subsidies. Rather than repeat
most of the previous argument, I leave it to
the reader to trace the effects of export
subsidies as I have traced the effects of
bad loans. An export subsidy is a clear case
of giving the foreigner something for
nothing, by selling him goods for less than
it costs us to make them. It is another case
of trying to get rich by giving things away.
Bad loans and export
subsidies are additional examples of the
error of looking only at the immediate
effect of a policy on special groups, and of
not having the patience or intelligence to
trace the long-run effects of the policy on
everyone.
P A R I T Y" P R I C E S
This general history will do
as a history of the idea of "parity" prices
for agricultural products.
I
forget the first day when it made its
appearance in a legislative bill; hut with
the advent of the New Deal in 1933 it had
become a definitely established principle,
enacted into law; and as year succeeded
year, and its absurd corollaries made
themselves manifest, they were enacted too.
The argument for "parity" prices ran roughly
like this. Agriculture is the most basic and
important of all industries. It must be
preserved at all costs. Moreover, the
prosperity of everybody else depends upon
the prosperity of the farmer. If he does not
have the purchasing power to buy the
products of industry, industry languishes.
This was the cause of the 1929 collapse, or
at least of our failure to recover from it.
For the prices of farm products dropped
violently, while the prices of industrial
products dropped very little. The result was
that the farmer could not buy industrial
products; the city workers were laid off and
could not buy farm products, and the
depression spread in ever-widening vicious
circles. There was only one cure, and it was
simple. Bring back the prices of the
farmer's products to a "paritys with the
prices of the things the farmer buys. This
parity existed in the period from 1909 to
1914, when farmers were prosperous. That
price relationship must be restored and
preserved perpetually.
It would take too long, and carry us too far
from our main point, to examine every
absurdity concealed in this plausible
statement. There is no sound reason for
taking the particular price relationships
that prevailed in a particular year or
period and regarding them as sacrosanct, or
even as necessarily more "normal" than those
of any other period. Even if they were
"normal" s t the time, what reason is
there to suppose that these same relation-
ships should be preserved a generation later
in spite of the enormous changes in the
conditions of production and demand that
have taken place in the meantime? The period
of 1909 to 1914, as the basis of "parity,"
was not selected at random. In terms of
relative prices it was one of the most
favorable periods to agriculture in our
entire history.
If there had been any sincerity or logic in
the idea, it would have been universally
extended. If the price relationships between
agricultural and industrial products that
prevailed from August, 1909 to July, 1914
ought to be preserved perpetually, why not
preserve perpetually the price relationship
of every commodity at that time to every
other? A Chevrolet six-cylinder touring car
cost $2,150 in 1912; an incomparably
improved six-cylinder Chevrolet sedan cost
$907 in 1942: adjusted for "parity" on the
same basis as farm products, however, it
would have cost $3.270 in 1942. A pound of
aluminum from 1909 to 1913 inclusive
averaged 22 1/2 cents; its price early in
1946 was 14 cents; but at "parity" it would
then have cost, instead, 41 cents.
I hear immediate cries that
such comparisons are absurd, because
everybody knows not only that the present-
day automobile is incomparably superior in
every way to the car of 1912, but that it
costs only a fraction as much to produce,
and that the same is true also of aluminum.
Exactly. But why doesn't somebody say
something about the amazing increase in
productivity per acre in agriculture? In the
five-year period 1939 to 1943 an average of
260 pounds of cotton was raised per acre in
the
The refusal to universalize the principle is
not the only evidence that it is not a
public-spirited economic plan but merely a
device for subsidizing a special interest.
An- other evidence is that when agricultural
prices go above " parity," or are
forced there by government policies, there
is no demand on the part of the farm bloc in
Congress that such prices be brought down to
parity, or that the subsidy be to that
extent repaid. It is a rule that works only
one way.
Dismissing all these considerations, let us
return to the central fallacy that specially
concerns us here. This is the argument that
if the farmer gets higher prices for his
products he can buy more goods from industry
and so make industry prosperous and bring
full employment. I t does not matter to this
argument, of course, whether or not the
farmer gets specifically so-called "parity"
prices.
Everything, however, depends
on how these higher prices are brought
about. If they are the result of a general
revival, if they follow from increased
prosperity of business, increased industrial
production and increased purchasing power of
city workers (not brought about by
inflation), then they can indeed mean
increased prosperity and production not only
for the farmers, but for everyone. But what
we are discussing is a rise in farm prices
brought about by government intervention.
This can be done in several ways. The higher
price can be forced by mere edict, which is
the least workable method. It can be brought
about by the government's standing ready to
buy all the farm products offered to it at
the "parity" price. It can be brought about
by the government's lending to farmers
enough money on their crops to enable them
to hold the crops off the market until
"
parity" or a higher price is realized. It
can be brought about by the government's
enforcing restrictions in the size of crops.
It can he brought about, as it often is in
practice, by a combination of these methods.
For the moment we shall simply assume that,
by whatever method, it is in any case
brought about.
What is the result? The
farmers get higher prices for their clops.
Their "purchasing power" is thereby in-
82
creased. They are for the time being more
prosperous themselves, and they buy more of
the products of industry. All this is what
is seen by those who look merely at the
immediate consequences of policies to the
groups directly involved.
But there is another consequence, no less
inevitable. Suppose the wheat which would
otherwise sell at $1 a bushel is pushed up
by this policy to $1.50. The farmer gets 50
cents a bushel more for wheat. But the city
worker, by precisely the same change, pays
50 cents a bushel more for wheat in an
increased price of bread. The same thing is
true of any other farm product. If the
farmer then has 50 cents more purchasing
power to buy industrial products, the city
worker has precisely that much less
purchasing power to buy industrial products.
On net balance industry in general has
gained nothing. It loses in city sales
precisely as much as it gains in rural
sales.
There is of course a change in the incidence
of these sales. No doubt the
agricultural-implement makers and the
mail-order houses do a better business. But
the city department stores do a smaller
business.
The matter, however, does not
end here. The policy results not merely in
no net gain, but in a net loss. For it does
not mean merely a transfer of purchasing
power to the farmer from city consumers, or
from the general tax. payer, or from both.
It also means a forced cut in the production
of farm commodities to bring up the price.
This means a destruction of wealth. It means
that there is less food to be consumed. How
this destruction of wealth is brought about
will depend upon the particular method
pursued to bring prices up. It may mean the
actual physical destruction of what has
already been produced, as in the burning of
coffee in
But here it may be pointed
out that when the farmer reduces the
production of wheat to get "parity: he may
indeed get a higher price for each bushel,
but he produces and sells fewer bushels. The
result is that his income does not go up in
proportion to his prices. Even some of the
advocates of "parity prices" recognize this,
and use it as an argument to go on to insist
upon "parity income" for
farmers. But this can only be achieved by a
subsidy at the direct expense of taxpayers.
To help the farmers, in other words, it
merely reduces the purchasing power of city
workers and other groups still more.
The farmers that asked for parity prices did
have a legitimate complaint. The protective
tariff injured them more t h a n they knew.
By reducing industrial imports it also
reduced American farm exports, because it
prevented foreign nations from getting the
dollar exchange needed for taking our
agricultural products. And it provoked
retaliatory tariffs in other countries. None
the less, the argument we have just quoted
will not stand examination. It is wrong even
in its implied statement of the facts. There
is no general tariff on all "industrial"
products or on all non-farm products. There
are scores of domestic industries or of
exporting industries that have no tariff
protection. If the city worker has to pay a
higher price for woolen blankets or
overcoats because of a tariff, is he
"compensated" by having to pay a higher
price also for cotton clothing and for
foodstuffs? Or is he merely being robbed
twice?
Let us even it all out, say some, by giving
equal "protection" to everybody. But that is
insoluble and impossible. Even if we assume
that the problem could be solved
technically-a tariff for A, an industrialist
subject to foreign competition; a subsidy
for B, an industrialist who exports his
product-it would he impossible to protect or
to subsidize everybody "fairly" or equally.
We should have to give everyone the same
percentage (or would it he the same dollar
amount?) of tariff protection or sub- side,
and we could never be sure when we were
duplicating payments to some groups or
leaving gaps with others.
But suppose we could solve this fantastic
problem? What would he the point? Who gains
when everyone equally subsidizes everyone
else? What is the profit when everyone loses
in added taxes precisely what he gains by
his subsidy or his protection? We should
merely have added an army of needless
bureaucrats to carry out the program, with
all of them lost to production.
We could solve the matter simply, on the
other hand, by ending both the parity-price
system and the protective-tariff system.
Meanwhile they do not, in combination, even
out anything. The joint system means merely
that Farmer A and Industrialist B both
profit at the expense of Forgotten Man C.
So the alleged benefits of
still another scheme evaporate as soon as
we
trace not only its immediate effects on a
special group but its long-run effects on
everyone.
SAVING THE X
INDUSTRY
The lobbies of Congress are crowded with
representatives of the X industry. The X
industry is sick. The X industry is dying.
It must be saved. I t can be saved only by a
tariff, by higher prices, or by a subsidy.
If it is al- lowed to die, workers will be
thrown on the streets. Their landlords,
grocers, butchers, clothing stores and local
motion picture theaters will lose business,
and depression will spread in ever-widening
circles. But if the X industry, by prompt
action of Congress, is saved-ah then! it
will buy equipment from other industries;
more men will be employed; they will give
more business to the butchers, bakers and
neon-light makers, and then it is prosperity
that will spread in ever-widening circles.
It is obvious that this is
merely a generalized form of the case we
have just been considering. There the X
industry was agriculture. But there are an
endless number of X industries. Two of the
most notable examples in re- cent years have
been the coal and silver industries. To
"save silver" Congress did immense harm. One
of the arguments for the rescue plan was
that it would help "the East." One of its
actual results was to cause deflation in
To save the
coal industry Congress passed the Guffey
Act, under which the owners of coal mines
were not only permitted, but compelled, to
conspire together not to sell below certain
minimum prices fixed by the government.
Though Congress had started out to fix "the"
price of coal, the government soon found
itself (because of different sizes,
thousands of mines, and shipments to thou-
sands of different destinations by rail,
truck, ship and barge) fixing 350,000
separate prices for coal.*
One effect of this attempt to keep coal
prices above the competitive market level
was to accelerate the tendency to- ward the
substitution by consumers of other sources
of power or heat-such as oil, natural gas
and hydroelectric energy.
But our aim here is not to trace all the
results that followed historically from
efforts to save particular industries, but
to trace a few of the chief results that
must necessarily follow from efforts to save
an industry.
It may be argued that a given industry must
be created or preserved for military
reasons. It may he argued that a given
industry is being ruined by taxes or wage
rates disproportionate to those of other
industries; or that, if a public utility, it
is being forced to operate at rates or
charges to the public that do not permit an
adequate profit margin. Such arguments may
or may not be justified in a particular
case. We are not concerned with them here.
We are concerned only with a single argument
for saving the X industry-that if it is
allowed to shrink in size or perish through
the forces of free competition (al- ways, by
spokesmen for the industry, designated in
such cases as a laissez-faire, anarchic,
cutthroat, dog-eat-dog, law-of-the-jungle
competition) it will pull down the general
economy with it, and that if it is
artificially kept alive it will help
everybody else.
What we are talking about here is nothing
else hut a generalized case of the argument
put forward for "parity" prices for farm
products or for tariff protection for any
number of X industries. The argument against
artificially higher prices applies, of
course, not only to farm products but to any
other product, just as the reasons we have
found for opposing tariff protection for one
industry apply to any other.
But there are always any number of schemes
for saving X industries. There are two main
types of such proposals in addition to those
we have already considered, and we shall
take a brief glance at them. One is to
contend that the X industry is already
"overcrowded," and to try to prevent other
firms or workers from getting into it. The
other is to argue that the X industry needs
to be sup- ported by a direct subsidy from
the government.
Now if the X industry is really overcrowded
as com- pared with other industries it will
not need any coercive legislation to keep
out new capital or new workers. New capital
does not rush into industries that are
obviously dying. Investors do not eagerly
seek the industries that present the highest
risks of loss combined with the lowest
returns. Nor do workers, when they have any
better alter- native, go into industries
where the wages are lowest and the prospects
for steady employment least promising.
If new capital and new labor are forcibly
kept out of the X industry, however, either
by monopolies, cartels, union policy or
legislation, it deprives this capital and
labor of liberty of choice. It forces
investors to place their money where the
returns seem less promising to them than in
the X industry. It forces workers into
industries with even lower wages and
prospects than they could find in the
allegedly sick X industry. It means, in
short, that both capital and labor are less
efficiently employed than they would he if
they were permitted to make their own free
choices. It means, therefore, a lowering of
production which must reflect itself in a
lower average living standard.
That lower living standard will be brought
about either by lower average money wages
than would otherwise prevail or by higher
average living costs, or by a combination of
both. (The exact result would depend upon
accompanying monetary policy.) By these
restrictive policies wages and capital
returns might indeed be kept higher than
otherwise within the X industry itself; but
wages and capital returns in other
industries would be forced down lower than
otherwise. The X industry would benefit only
at the expense of the A, B and C industries.
Similar results would follow any attempt to
save the X industry by a direct subsidy out
of the public till. This would be nothing
more than a transfer of wealth or in. come
to the X industry. The taxpayers would lose
precisely as much as the people in the X
industry gained. The great advantage of a
subsidy, indeed, from the stand- point of
the public, is that it makes this fact so
clear. There is far less opportunity for the
intellectual obfuscation that accompanies
arguments for tariffs, minimum price fixing
or monopolistic exclusion.
It is obvious in the case of a subsidy that
the taxpayers must lose precisely as much as
the X industry gains. It should he equally
clear that, as a consequence, other
industries must lose what the X industry
gains. They must pay part of the taxes that
are used to support the X industry. And
consumers, because they are taxed to sup-
port the X industry, will have that much
less income left with which to buy other
things. The result must be that other
industries on the average must be smaller
than otherwise in order that the X industry
may be larger.
But the result of this subsidy is not merely
that there has been a transfer of wealth or
income, or that other industries have shrunk
in the aggregate as much as the X industry
has expanded.
The result is also (and this is where the
net loss comes in to the nation considered
as a unit) that 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 have been. These
results are virtually inherent, in fact, in
the very arguments put forward to subsidize
the X industry. The X industry is shrinking
or dying by the contention of its friends.
Why, it may be asked, should it be kept
alive by artificial respiration? The idea
that an expanding economy implies that all
industries must he simultaneously expanding
is a profound error. In order that new
industries may grow fast enough it is
necessary that some old industries should be
allowed to shrink or die. They must do this
in order to release the necessary capital
and labor for the new industries. If we had
tried to keep the horse-and-buggy trade
artificially alive we should have slowed
down the growth of the automobile industry
and all the trades dependent on it. We
should have lowered the production of wealth
and retarded economic and scientific
progress.
We do the same thing,
however, when we try to pre- vent any
industry from dying in order to protect the
labor already trained or the capital already
invested in it. Paradoxical as it may seem
to some, it is just as necessary to the
health of a dynamic economy that dying
industries be allowed to die as that growing
industries be allowed to grow. The first
process is essential to the second. It is as
foolish to try to preserve obsolescent
industries as to try to preserve obsolescent
methods of production: this is often, in
fact, merely two ways of describing the same
thing. Improved methods of production must
constantly supplant obsolete methods, if
both old needs and new wants are to he
filled by better commodities and better
means.
HOW THE PRICE
SYSTEM WORKS
The whole argument of this book may be
summed up in the statement that in studying
the effects of any given economic proposal
we must trace not merely the immediate
results hut the results in the long run, not
merely the primary consequences but the
secondary consequences, and not merely the
effects on some special group but the
effects on everyone. It follows that it is
foolish and misleading to concentrate our
attention merely on some special point-to
examine, for example, merely what happens in
one industry without considering what hap-
pens in all. But it is precisely from the
persistent and lazy habit of thinking only
of some particular industry or process in
isolation that the major fallacies of
economics stem. These fallacies pervade not
merely the arguments of the hired spokesmen
of special interests, hut the arguments even
of some economists who pass as pro- found.
It is on the fallacy of isolation, at
bottom, that the "
production-for-use-and-not-for-profit"
school is based, with its attack on the
allegedly vicious "price system." The
problem of production, say the adherents of
this school, is solved. (This resounding
error, as we shall see, is also the starting
point of most currency cranks and
share-the-wealth charlatans.) The problem of
production is solved. The scientists, the
efficiency experts, the engineers, the
technicians, have solved it. They could turn
out almost anything you cared to mention in
huge practically unlimited amounts. But,
alas, the world is not ruled by the
engineers, thinking only of production, but
by the business men, thinking only of
profit. The business men give their orders
to the engineers, instead of vice versa.
These business men will turn out any object
as long as there is a profit in doing so,
but the moment there is no longer a profit
in making that article, the wicked business
men will stop making it, though many
people's wants are unsatisfied, and the
world is crying for more goods.
There are so many fallacies in this view
that they can- not all he disentangled at
once. But the central error, as we have
hinted, comes from looking at only one
industry, or even at several industries in
turn, as if each of them existed in
isolation. Each of them in fact exists in
relation to all the others, and every
important decision made in it is affected by
and affects the decisions made in all the
others.
We can understand this better if we
understand the basic problem that business
collectively has to solve. To simplify this
as much as possible, let us consider the
problem that confronts a Robinson Crusoe on
his desert island. His wants at first seem
endless. He is soaked with rain; he shivers
from cold; he suffers from hunger and
thirst. He needs everything: drinking water,
food, a roof over his head, protection from
animals, a fire, a soft place to lie down.
It is impossible for him to satisfy all
these needs at once; he has not the time,
energy or resources. He must attend
immediately to the most pressing need. He
suffers most, say, from thirst. He hollows
out a place in the sand to collect rain
water, or builds some crude receptacle. When
he has provided for only a small water
supply, however, be must turn to finding
food before he tries to improve this. He can
try to fish; hut to do this he needs either
a hook and line, or a net, and he must set
to work on these. But everything he does
delay or pre- vents him from doing something
else only a little less urgent. He is faced
constantly by the problem of alternative
applications of his time and labor.
A Swiss Family Robinson, perhaps, finds this
problem a little easier to solve. It has
more mouths to feed, but it also has more
hands to work for them. It can practice
division and specialization of labor. The
father hunts; the mother prepares the food;
the children collect firewood. But even the
family cannot afford to have one member of
it doing endlessly the same thing, regard-
less of the relative urgency of the common
need he sup- plies and the urgency of other
needs still unfilled. When the children have
gathered a certain pile of firewood, they
cannot be used simply to increase the pile.
It is soon time for one of them to he sent.
Say, for more water. The family too has the
constant problem of choosing among
alternative applications of labor, and, if
it is lucky enough to have acquired guns,
fishing tackle, a boat, axes, saws and so
on, of choosing among alternative
applications of labor and capital. It would
be considered unspeakably silly for the
wood-gathering member of the family to
complain that they could gather more
firewood if his brother helped him all day,
instead of getting the fish that were needed
for the family dinner. It is recognized
clearly in the case of an isolated
individual or family that one occupation can
expand only a t the expense of all other
occupations.
Elementary illustrations like this are
sometimes ridiculed as "Crusoe economics."
Unfortunately, they are ridiculed most by
those who most need them, who fail to
understand the particular principle
illustrated even in this simple form, or who
lose track of that principle completely when
they come to examine the bewildering
complications of a great modern economic
society.
Prices are fixed through the
relationship of supply and demand, and in
turn affect supply and demand. When people
want more of an article, they offer more for
it. The price goes up. This increases the
profits of those who make the article.
Because it is now more profitable to make
that article than others, the people already
in the business expand their production of
it, and more people are attracted to the
business. This increased sup- ply then
reduces the price and reduces the profit
margin, until the profit margin on that
article once more falls to the general level
of profits (relative risks considered) in
other industries. Or the demand for that
article may fall; or the supply of it may he
increased to such a point that its price
drops to a level where there is less profit
in making it than in making other articles;
or perhaps there is an actual loss in making
it. In this case the
"marginal"
producers, that is, the producers who are
least efficient, or whose costs of
production are highest, will be driven out
of business altogether. The product will now
be made only by the more efficient producers
who operate on lower costs. The supply of
that commodity will also drop, or will at
least cease to expand.
This process is the origin of the belief
that prices are determined by costs of
production. The doctrine, stated in this
form, is not true. Prices are determined by
sup- ply and demand, and demand is
determined by how in- tensely people want a
commodity and what they have to offer in
exchange for it. It is true that supply is
in part determined by costs of production.
What a commodity has cost to produce in the
past cannot determine its value. That will
depend on the present relationship of supply
and demand. But the expectations of business
men concerning what a commodity will cost to
produce in the future, and what its future
price will he, will determine how much of it
will be made. This will affect future
supply. There is therefore a constant
tendency for the price of a commodity and
its marginal cost of production to equal
each other, but not because that marginal
cost of production directly determines the
price.
The private enterprise system, then, might
he compared to thousands of machines, each
regulated by its own quasi-automatic
governor, yet with these machines and their
governors all interconnected and influencing
each other, so that they act in effect like
one great machine. Most of us must have
noticed the automatic "governor" on a steam
engine. It usually consists of two balls or
weights which work by centrifugal force. As
the speed of the engine increases, these
halls fly away from the rod to which they
are attached and so automatically narrow or
close off a throttle valve which regulates
the in- take of steam and thus slows down
the engine. If the engine goes too slowly,
on the other hand, the balls drop, widen the
throttle valve, and increase the engine's
speed. Thus every departure from the desired
speed it- self sets in motion the forces
that tend to correct that departure.
It is precisely in this way that the
relative supply of thousands of different
commodities is regulated under the system of
competitive private enterprise. When people
want more of a commodity, their competitive
bidding raises its price. This increases the
profits of the producers who make that
product. This stimulates them to increase
their production. It leads others to stop
making some of the products they previously
made, and turn to making the product that
offers them the better return. But this
increases the supply of that commodity at
the same time that it reduces the supply of
some other commodities. The price of that
product therefore falls in relation to the
price of other products. and the stimulus to
the relative increase in its production
disappears.
In the same way, if the demand falls off for
some product, its price and the profit in
making it go lower, and its production
declines.
It is this last development that scandalizes
those who do not understand the "price
system" they denounce. They accuse it of
creating scarcity. Why, they ask
indignantly, should manufacturers cut off
the production of shoes at the point where
it becomes unprofitable to produce any more?
Why should they be guided merely by their
own profits? Why should they be guided by
the market? Why do they not produce shoes to
the "full capacity of modern technical
processes"? The price sys- tem and private
enterprise, conclude the "production-for-
use" philosophers, are merely a form of
"scarcity economics."
These questions and conclusions stem from
the fallacy of looking at one industry in
isolation, of looking at the tree and
ignoring the forest. Up to a certain point
it is necessary to produce shoes. But it is
also necessary to produce coats, shirts,
trousers, homes, 'plows, shovels factories,
bridges, milk and bread. It would he idiotic
to go on piling up mountains of surplus
shoes, simply because we could do it, while
hundreds of more urgent needs went unfilled.
Now in an economy in equilibrium, a given
industry can expand only at the expense of
other industries. For at any moment
the factors of production are limited. One
industry can he expanded only by diverting
to it labor, land and capital that would
otherwise he employed in other industries.
And when a given industry shrinks, or stops
expanding its output, it does not
necessarily mean that there has been any net
decline in aggregate production. The
shrinkage at that point may have merely
re- leased labor and capital to permit
the expansion of other industries. It
is erroneous to conclude, therefore, that a
shrinkage of production in one line
necessarily means a shrinkage in total
production.
Everything, in short, is produced at the
expense of fore- going something else. Costs
of production themselves, in fact, might he
defined as the things that are given up (the
leisure and pleasures, the raw materials
with alternative potential uses) in order to
create the thing that is made. It follows
that it is just as essential for the health
of a dynamic economy that dying industries
should he allowed to die as that growing
industries should he allowed to grow. For
the dying industries absorb labor and
capital that should he released for the
growing industries. It is only the much
vilified price system that solves the
enormously complicated problem of deciding
precisely how much of tens of thousands of
different commodities and services should he
produced in relation to each other. These
otherwise bewildering equations are solved
quasi- automatically by the system of
prices, profits and costs. They are solved
by this system incomparably better than any
group of bureaucrats could solve them. For
they are solved by a system under which each
consumer makes his own demand and casts a
fresh vote, or a dozen fresh votes, every
day; whereas bureaucrats would try to solve
it by having made for the consumers, not
what the consumers themselves wanted, but
what the bureaucrats decided was good for
them.
Yet though
the bureaucrats do not understand the
quasi-automatic system of the market, they
are always disturbed by it. They are always
trying to improve it or correct it, usually
in the interests of some wailing pres- sure
group. What some of the results of their
intervention is, we shall examine in
succeeding chapters.
“STABILIZING”
COMMODITIES
Attempts
to lift the prices of particular commodities
permanently above their natural market
levels have failed so often, so disastrously
and so notoriously that sophisticated
pressure groups, and the bureaucrats upon
whom they apply the pressure, seldom openly
avow that aim. Their stated aims,
particularly when they are first pro- posing
that the government intervene, are usually
more modest, and more plausible.
They have no wish, they declare, to raise
the price of commodity X permanently above
its natural level. That, they concede, would
be unfair to consumers. But it is now
obviously selling far below its natural
level. The producers cannot make a living.
Unless we act promptly, they will be thrown
out of business. Then there will be a real
scarcity, and consumers will have to pay
exorbitant prices for the commodity. The
apparent bargains that the consumers are now
getting will cost them dear in the end. For
the present "temporary" low price cannot
last. But we cannot afford to wait for
so-called natural market forces, or for the
"blind" law of supply and demand, to correct
the situation. For by that time the
producers will be ruined and a great
scarcity will be upon us. The government
must act. All that we really want to do is
to correct these violent, senseless
fluctuations in price. We are not trying to
boost the price; we are only trying to
stabilize it.
There are several methods by which it is
commonly proposed to do this. One of the
most frequent is government loans to farmers
to enable them to hold their crops off the
market.
Such loans are urged in Congress for reasons
that seem very plausible to most listeners.
They are told that the farmers' crops are
all dumped on the market at once, at harvest
time; that this is precisely the time when
prices are lowest, and that speculators take
advantage of this to buy the crops
themselves and hold them for higher prices
when food gets scarcer again. Thus it is
urged that the farmers suffer, and that
they, rather than the speculators, should
get the advantage of the higher average
price.
This argument is not supported by either
theory or experience. The much-reviled
speculators are not the enemy of the farmer;
they are essential to his best welfare. The
risks of fluctuating farm prices must be
borne by some- body; they have in fact been
borne in modern times chiefly by the
professional speculators. In general, the
more competently the latter act in their own
interest as speculators, the more they help
the farmer. For speculators serve their own
interest precisely in proportion to their
ability to foresee future prices. But the
more accurately they foresee future prices
the less violent or extreme are the
fluctuations in prices.
Even if farmers had to dump their whole crop
of wheat on the market in a single month of
the year, therefore, the price in that month
would not necessarily be below the price at
any other month (apart from an allowance for
the costs of storage). For speculators, in
the hope of making a profit would do most of
their buying at that time. They would keep
on buying until the price rose to a point
where they saw no further opportunity of
future profit. They would sell whenever they
thought there was a prospect of future loss.
The result would be to stabilize the price
of farm commodities the year round.
It is precisely because a professional class
of speculators exists to take these risks
that farmers and millers do not need to take
them. The latter can protect themselves
through the markets. Under normal
conditions, therefore, when speculators are
doing their job well, the profits of farmers
and millers will depend chiefly on their
skill and industry in farming or milling,
and not on market fluctuations.
Actual
experience shows that on the average the
price of wheat and other non-perishable
crops remains the same all year round except
for an allowance for storage and insurance
charges. In fact, some careful
investigations have shown that the average
monthly rise after harvest time has not been
quite sufficient to pay such storage
charges, so that the speculators have
actually subsidized the farmers. This, of
course, was not their intention: it has
simply been the result of a persistent
tendency to over-optimism on the part of
speculators. (This tendency seems to affect
entrepreneurs in most competitive pursuits:
as a class they are constantly, contrary to
intention, subsidizing consumers. This is
particularly true wherever the prospects of
big speculative gains exist. Just as the
subscribers to a lottery, considered as a
unit, lose money because each is
unjustifiably hopeful of drawing one of the
few spectacular prizes, so it has been
calculated that the total labor and capital
dumped into prospecting for gold or oil has
exceeded the total value of the gold or oil
extracted.)
The case is different, however, when the
State steps in and either buys the farmers'
crops itself or lends them the money to hold
the crops off the market. This is some-
times done in the name of maintaining what
is plausibly called an "ever-normal
granary." But the history of prices and
annual carry-overs of crops shows that this
function, as we have seen, is already being
well per- formed by the privately organized
free markets. When the government steps in,
the "ever-normal granary" be- comes in fact
an ever-political granary. The farmer is
encouraged, with the taxpayers' money, to
withhold his crops excessively. Because they
wish to make sure of retaining the farmer's
vote, the politicians who initiate the
policy, or the bureaucrats who carry it out,
always place the so-called "fair" price for
the farmer's product above the price that
supply and demand conditions at the time
justify. This leads to a falling off in
buyers. The "ever- normal" granary therefore
tends to become an ever- abnormal granary.
Excessive stocks are held off the market.
The effect of this is to secure a higher
price temporarily than would otherwise
exist, but to do so only by bringing about
later on a much lower price than would
otherwise have existed. For the artificial
shortage built up this year by withholding
part of a crop from the market means an
artificial surplus the next year. It would
carry us too far afield to describe in
detail what actually happened when this
program was applied, for example, to
American cotton. We piled up an entire
year's crop in storage. We destroyed the
foreign market for our cotton. We stimulated
enormously the growth of cotton in other
countries. Though these results had been
predicted by opponents of the restriction
and loan policy, when they actually
happened, the bureaucrats responsible for
the result merely replied that they would
have happened anyway.
For the loan
policy is usually accompanied by, or
inevitably leads to, a policy of restricting
production- i.e., a policy of scarcity. In
nearly every effort to "stabilize" the price
of a commodity, the interests of the
producers have been put first. The real
object is an immediate boost of prices. To
make this possible, a proportional
restriction of output is usually placed on
each producer subject to the control. This
has several immediately bad effects.
Assuming that the control can be imposed on
an international scale. it means that total
world production is cut. The world's
consumers are able to enjoy less of that
product than they would have enjoyed without
restriction. The world is just that much
poorer. Because consumers are forced to pay
higher prices than otherwise for that
product, they have just that much less to
spend on other products.
The restrictionists usually reply that this
drop in output is what happens anyway under
a market economy. But there is a fundamental
difference, as we have seen in the preceding
chapter. In a competitive market economy, it
is the high-cost producers, the inefficient
producers, that are driven out by a fall in
price. In the case of an agricultural
commodity it is the least competent farmers,
or those with the poorest equipment, or
those working the poorest land that are
driven out. The most capable farmers on the
best land do not have to restrict their
production. On the contrary, if the fall in
price has been symptomatic of a lower
average cost of production, reflected
through an increased supply, then the
driving out of the marginal farmers on the
marginal land enables the good farmers on
the good land to expand their production. So
there may be, in the long run, no reduction
whatever in the output of that commodity.
And the product is then produced and sold at
a permanently lower price.
If that is the outcome, then the consumers
of that commodity will be as well supplied
with it as they were before. But, as a
result of the lower price, they will have
money left over, which they did not hare
before, to spend on other things. The
consumers, therefore, will obviously he
better off. But their increased spending in
other directions will give increased
employment in other lines, which will then
absorb the former marginal farmers in
occupations in which their efforts will be
more lucrative and more efficient.
A uniform proportional restriction (to
return to our government intervention
scheme) means, on the one hand, that the
efficient low-cost producers are not
permitted to turn out all the output they
can at a low price. It means, on the other
hand, that the inefficient high-cost
producers are artificially kept in business.
This increases the average cost of producing
the product. I t is being produce less
efficiently than otherwise. The inefficient
marginal producer thus artificially kept in
that line of product continues to tie up
land, labor, and capital that could much
more profitably and efficiently he devoted
to other uses.
There is no point in arguing that as a
result of the restriction scheme at least
the price of farm products has been raised
and "the farmers have more purchasing
power." They have got it only by taking just
that much purchasing power away from the
city buyer. (We have been over all this
ground before in our analysis of "parity"
prices.) To give farmers money for
restricting production, or to give them the
same amount of money for an artificially
restricted production, is no different from
forcing consumers or taxpayers to pay people
for doing nothing at all. In each case the
beneficiaries of such policies get
"purchasing power." But in each case some-
one else loses an exactly equivalent amount.
The net loss to the community is the loss of
production, because people are supported for
not producing. Because there is less for
everybody, because there is less to go
around, real wages and real incomes must
decline either through a fall in their
monetary amount or through higher living
costs.
But if an attempt is made to keep up the
price of an agricultural commodity and no
artificial restriction of output is imposed,
unsold surpluses of the over-priced
commodity continue to pile up until the
market for that product finally collapses to
a far greater extent than if the control
program had never been put into effect. Or
producers outside the restriction program,
stimulated by the artificial rise in price,
expand their own production enormously. This
is what happened to the British rubber
restriction and the American cotton
restriction programs. In either case the
collapse of prices finally goes to
catastrophic lengths that would never have
been reached without the restriction scheme.
The plan that started out so gravely to
"stabilize" prices and conditions brings
incomparably greater instability than the
free forces of the market could possibly
have brought.
Of course the international commodity
controls that are being proposed now, we are
told, are going to avoid all these errors.
This time prices are going to be fixed that
are "fair" not only for producers but for
consumers. Producing and consuming nations
are going to agree on just what these fair
prices are, because no one will he
unreasonable. Fixed prices will necessarily
involve "just" allotments and allocations
for production and consumption as among
nations, but only cynics will anticipate any
unseemly international disputes regarding
these. Finally, by the greatest miracle of
all, this post-war world of
super-international controls and coercions
is also going to be a world of "free"
international trade!
Just what the government
planners mean by free trade in this
connection I am not sure, but we can he sure
of some of the things they do not mean. They
do not mean the freedom of ordinary people
to buy and sell, lend and borrow, at
whatever prices or rates they like and
wherever they find it most profitable to do
so. They do not mean the freedom of the
plain citizen to raise as much of a given
crop as he wishes, to come and go at will,
to settle where he pleases, to take his
capital and other belongings with him. They
mean, I suspect, the freedom of bureaucrats
to settle these matters for him. And they
tell him that if he docilely obeys the
bureaucrats he will he rewarded by a rise in
his living standards. But if the planners
succeed in tying up the idea of
international
cooperation with the idea of
increased State domination and control over
economic life, the international controls of
the future seem only too likely to follow
the pat- tern of the past, in which case the
plain man's living standards will decline
with his liberties.
G O V E R N M
E N T P R I C E - F I X I N G
We have seen what some of the effects are of
govern- mental efforts to fix the prices of
commodities above the levels to which free
markets would otherwise have carried them.
Let us now look at some of the results of
government attempts to hold the prices of
commodities below their natural market
levels.
The latter attempt is made in our day by
nearly all governments in wartime. We shall
not examine here the wisdom of wartime
price-fixing. The whole economy, in total
war, is necessarily dominated by the State,
and the complications that would have to be
considered would carry us too far beyond the
main question with which this hook is
concerned. But wartime price-fixing, wise or
not, is in almost all countries continued
for at least long periods after the war is
over, when the original excuse for starting
it has disappeared.
Let us first see what happens when the
government tries to keep the price of a
single commodity or a small group of
commodities, below the price that would be
set in a free competitive market. When the
government tries to fix maximum prices for
only a few items, it usually chooses certain
basic necessities, on the ground that it is
most essential that the poor he able to
obtain these at a "reasonable" cost. Let us
say that the items chosen for this purpose
are bread, milk and meat.
The argument for holding down the price of
these goods will run something like this. If
we leave beef (let us say) to the mercies of
the free market, the price will he pushed up
by competitive bidding so that only the rich
will get it. People will get beef not in
proportion to their need, but only in
proportion to their purchasing power. If we
keep the price down, everyone will get his
first share.
The first thing to be noticed about this
argument is that if it is valid the policy
adopted is inconsistent and timorous. For if
purchasing power rather than need determines
the distribution of beef at a market price
of 65 cents a pound, it would also determine
it, though perhaps to a slightly smaller
degree, at, say, a legal "ceiling'' price of
50 cents a pound. The
purchasing-power-rather- than-need argument,
in fact, holds as long as we charge anything
for beef whatever. It would cease to apply
only if beef were given away.
But schemes for maximum price-fixing usually
begin as efforts to "keep the cost of living
from rising." And so their sponsors
unconsciously assume that there is some-
thing peculiarly "normal" or sacrosanct
about the market price at the moment from
which their control starts. That starting
price is regarded as "reasonable," and any
price above that as "unreasonable,"
regardless of changes in the conditions of
production or demand since that starting
price was first established.
In discussing this subject, there is no
point in assuming a price control that would
fix prices exactly where a free market would
place them in any case. That would be the
same as having no price control at all. We
must assume that the purchasing power in the
hands of the public is greater than the
supply of goods available, and that prices
are being held down by the government below
the levels to which a free market would put
them.
Now we cannot hold the price of any
commodity be- low its market level without
in time bringing about two consequences. The
first is to increase the demand for that
commodity. Because the commodity is cheaper,
people are both tempted to buy, and can
afford to buy, more of it. The second
consequence is to reduce the supply of that
commodity. Because people buy more, the
accumulated supply is more quickly taken
from the shelves of merchants. But in
addition to this, production of that
commodity is discouraged. Profit margins are
reduced or wiped out. The marginal producers
are driven out of business. Even the most
efficient producers may be called upon to
turn out their product at a loss. This
happened in the war when slaughter houses
were required by the Office of Price
Administration to slaughter and process meat
for less than the cost to them of cattle on
the hoof and the labor of slaughter and
processing.
If we did nothing else, therefore, the
consequence of fixing a maximum price for a
particular commodity would be to bring about
a shortage of that commodity. But this is
precisely the opposite of what the
government regulators originally wanted to
do. For it is the very commodities selected
for maximum price-fixing that the regulators
most want to keep in abundant supply. But
when they limit the wages and the profits of
those who make these commodities, without
also limiting the wages and profits of those
who make luxuries or semi-luxuries, they
discourage the production of the
price-controlled necessities while they
relatively stimulate the production of less
essential goods.
Some of these consequences in time become
apparent to the regulators, who then adopt
various other devices and controls in an
attempt to avert them. Among these devices
are rationing, cost-control, subsidies, and
universal price-fixing. Let us look at each
of these in turn.
When it becomes obvious that a shortage of
some commodity is developing as a result of
a price fixed below the market, rich
consumers are accused of taking "more than
their fair share"; or, if it is a raw
material that enters into manufacture,
individual firms are accused of "hoarding"
it. The government then adopts a set of
rules concerning who shall have priority in
buying that commodity, or to whom and in
what quantities it shall be allocated, or
how it shall be rationed. If a rationing
system is adopted, it means that each
consumer can have only a certain maximum
supply, no matter how much he is willing to
pay for more.
If a rationing system is adopted, in brief,
it means that the government adopts a double
price system, or a dual currency system, in
which each consumer must have a certain
number of coupons or "points" in addition to
a given amount of ordinary money. In other
words, the government tries to do through
rationing part of the job that a free market
would have done through prices. I say only
part of the job, because rationing merely
limits the demand without also stimulating
the supply, as a higher price would have
done.
The government may try to assure supply
through extending its control over the costs
of production of a commodity. To hold down
the retail price of beef, for ex- ample, it
may fix the wholesale price of beef, the
slaughter-house price of beef, the price of
live cattle, the price of feed, the wages of
farmhands. To hold down the delivered price
of milk, it may try to fix the wages of
milk-wagon drivers, the price of containers,
the farm price of milk, the price of
feedstuffs. To fix the price of bread, it
may fix the wages in bakeries, the price of
flour, the profits of millers, the price of
wheat, and so on.
But as the government extends this
price-fixing back- wards, it extends at the
same time the consequences that originally
drove it to this course. Assuming that it
has the courage to fix these costs, and is
able to enforce its decisions, then it
merely, in turn, creates shortages of the
various factors-labor, feedstuffs, wheat, or
whatever- that enter into the production of
the final commodities. Thus the government
is driven to controls in ever-widening
circles, and the final consequence will be
the same as that of universal price-fixing.
The government may try to meet this
difficulty through subsidies. It recognizes,
for example, that when it keeps the price of
milk or butter below the level of the
market, or below the relative level at which
it fixes other prices, a shortage may result
because of lower wages or profit margins for
the production of milk or butter as com-
pared with other commodities. Therefore the
government attempts to compensate for this
by paying a subsidy to the milk and butter
producers. Passing over the administrative
difficulties involved in this, and assuming
that the subsidy is just enough to assure
the desired relative production of milk and
butter, it is clear that, though the subsidy
is paid to producers, those who are really
being subsidized are the consumers. For the
producers are on net balance getting no more
for their milk and butter than if they had
been allowed to charge the free market price
in the first place; but the consumers are
getting their milk and butter at a great
deal below the free market price. They are
being subsidized to the ex- tent of the
difference-that is, by the amount of subsidy
paid ostensibly to the producers.
Now unless
the subsidized commodity is also rationed,
it is those with the most purchasing power
that can buy most of it. This means that
they are being subsidized more than those
with less purchasing power. Who subsidizes
the consumers will depend upon the incidence
of taxation. But men in their role of
taxpayers will be subsidizing themselves in
their role of consumers. It be- comes a
little difficult to trace in this maze
precisely who is subsidizing whom. What is
forgotten is that subsidies are paid for by
someone, and that no method has been
discovered by which the community gets
something for nothing.
Price-fixing may often appear for a short
period to he successful. It can seem to work
well for a while, particularly in wartime,
when it is supported by patriotism and a
sense of crisis. But the longer it is in
effect the more its difficulties increase.
When prices are arbitrarily held down by
government compulsion, demand is chronically
in excess of supply. We have seen that if
the government attempts to prevent a
shortage of a commodity by reducing also the
prices of the labor, raw materials and other
factors that go into its cost of production,
it creates a shortage of these in turn. But
not only will the government, if it pursues
this course, find it necessary extend price
control more and more downwards, or
"vertically"; it will find it no less
necessary to extend price control
"horizontally." If we ration one commodity,
and the public cannot get enough of it,
though it still has excess purchasing power,
it will turn to some substitute. The
rationing of each commodity as it grows
scarce, in other words, must put more and
more pressure on the unrationed commodities
that remain. If we assume that the
government is successful in its efforts to
prevent black markets (or at least prevents
them from developing on a sufficient scale
to nullify its legal prices), continued
price control must drive it to the rationing
of more and more commodities. This rationing
cannot stop with consumers. In war it did
not stop with consumers. It was applied
first of all, in fact, in the allocation of
raw materials to producers.
The natural
consequence of a thoroughgoing over all
price control which seeks to perpetuate a
given historic price level, in brief, must
ultimately be a completely regimented
economy. Wages would have to be held down as
rigidly as prices. Labor would have to be
rationed as ruthlessly as raw materials. The
end result would be that the government
would not only tell each consumer precisely
how much of each commodity he could have; it
would tell each manufacturer precisely what
quantity of each raw material he could have
and what quantity of labor. Competitive
bidding for workers could no more be
tolerated than competitive bidding for
materials. The result would be a petrified
totalitarian economy, with every business
firm and every worker at the mercy of the
government, and with a final abandonment of
all the traditional liberties we have known.
For as Alexander Hamilton pointed out in the
Federalist papers a century and a half ago,
"A power over a man's subsistence
amounts to a power over his will."
These are the consequences of
what might be described as "perfect,"
long-continued, and "non-political" price
control. As was so amply demonstrated in one
country after another, particularly in
Because the black market, however, finally
supplanted the legal price-ceiling market,
it must not be supposed that no harm was
done. The harm was both economic and moral.
During the transition period the large,
long- established firms, with a heavy
capital investment and a great dependence
upon the retention of public good-will, are
forced to restrict or discontinue
production. Their place is taken by
fly-by-night concerns with little capital
and little accumulated experience in
production. These new firms are inefficient
compared with those they displace; they turn
out inferior and dishonest goods at much
higher production costs than the older
concerns would have required for continuing
to turn out their former goods. A premium is
put on dishonesty. The new firms owe their
very existence or growth to the fact that
they are willing to violate the law; their
customers conspire with them; and as a
natural consequence demoralization spreads
into all business practices.
It is seldom, moreover, that
any honest effort is made by the
price-fixing authorities merely to preserve
the level of prices existing when their
efforts began. They declare that their
intention is to "hold the line." Soon,
however, under the guise of "correcting
inequities" or
social injustices," they begin a
discriminatory price- fixing which gives
most to those groups that are politically
powerful and least to other groups.
As political
power today is most commonly measured by
votes, the groups that the authorities most
often at- tempt to favor are workers and
farmers. At first it is contended that wages
and living costs are not connected; that
wages can easily he lifted without lifting
prices. When it becomes obvious that wages
can be raised only at the expense of
profits, the bureaucrats begin to argue that
profits were already too high anyway, and
that lifting wages and holding prices will
still permit "a fair profit." As there is no
such thing as a uniform rate of profit, as
profits differ with each concern, the result
of this policy is to drive the least
profitable concerns out of business
altogether, and to discourage or stop the
production of certain items. This means
unemployment, a shrinkage in production and
a decline in living standards.
What lies at the base of the whole effort to
fix maxi- mum prices? There is first of all
a misunderstanding of what it is that has
been causing prices to rise. The real cause
is either a scarcity of goods or a surplus
of money. Legal price ceilings cannot cure
either. In fact, as we have just seen, they
merely intensify the shortage of goods. What
to do about the surplus of money will he
discussed in a later chapter. But one of the
errors that lie behind the drive for
price-fixing is the chief subject of this
book. Just as the endless plans for raising
prices of favored commodities are the result
of thinking of the interests only of the
producers immediately concerned, and
forgetting the interests of consumers, so
the plans for holding down prices by legal
edict are the result of thinking of the
interests of people only as consumers and
forgetting their interests as producers. And
the political support for such policies
springs from a similar eon. fusion in the
public mind. People do not want to pay more
for milk, butter, shoes, furniture, rent,
theater tickets or diamonds. Whenever any of
these items rises above its previous level
the consumer becomes indignant, and feels
that he is being booked.
The only exception is the item he makes
himself: here he understands and appreciates
the reason for the rise. But he is always
likely to regard his own business as in some
way an exception. "Now my own business," he
will say, "is peculiar, and the public does
not understand it. Labor costs have gone up;
raw material prices have gone up; this or
that raw material is no longer being
imported, and must he made at a higher cost
at home. More- over, the demand for the
product has increased, and the business
should be allowed to charge the prices
necessary to encourage its expansion to
supply this demand." And so on. Everyone as
consumer buys a hundred different products;
as producer he makes, usually, only one. He
can see the inequity in holding down the
price of that. And just as each manufacturer
wants a higher price for his particular
product, so each worker wants a higher wage
or salary. Each can see as producer that
price control is restricting production in
his line. But nearly every- one refuses to
generalize this observation, for it means
that he will have to pay more for the
products of others.
Each one of us, in brief, has
a multiple economic personality. Each one of
us is producer, taxpayer, consumer. The
policies he advocates depend upon the
particular aspect under which he thinks of
himself at the moment. For he is sometimes
Dr. Jekyll and sometimes Mr. Hyde. As a
producer he wants inflation (thinking
chiefly of his own services or product)
;
as a consumer he wants price
ceilings (thinking chiefly of what he has to
pay for the products of others). As a
consumer he may advocate or acquiesce in
subsidies; as a taxpayer he will resent
paying them. Each person is likely to think
that he can so manage the political forces
that he can benefit from the subsidy more
than he loses from the tax, or benefit f r o
m a rise for his own product (while his raw
material costs are legally held down) and at
the same time benefit as a consumer from
price control. But the overwhelming majority
will be deceiving themselves. For not only
must there be at least as much loss as gain
from this politic-1 manipulation of prices;
there must he a great deal more loss than
gain, because price-fixing discourages and
disrupts employment and production.
MINIMUM WAGE LAWS
We
have already seen some of the harmful
results of arbitrary governmental efforts to
raise the price of favored commodities. The
same sort of harmful results follows efforts
to raise wages through minimum wage laws.
This ought not to be surprising; for a wage
is, in fact, a price. It is unfortunate for
clarity of economic thinking that the price
of labor's services should have received an
entirely different name from other prices.
This has pre- vented most people from
recognizing that the same principles govern
both.
Thinking has become so emotional and so
politically biased on the subject of wages
that in most discussions of them the
plainest principles are ignored. People who
would be among the first to deny that
prosperity could be brought about by
artificially boosting prices, people who
would be among the first to point out that
minimum price laws might be most harmful to
the very industries they were designed to
help, will nevertheless advocate minimum
wage laws, and denounce opponents of them,
without misgivings.
Yet it ought to be clear that
a minimum wage law is, at best, a limited
weapon for combating the evil of low wages,
and that the possible good to he achieved by
such a law can exceed the possible harm only
in proportion as its aims are modest. The
more ambitious such a law is, the larger the
number of workers it attempts to cover, and
the more it attempts to raise their wages,
the more likely are its harmful effects to
exceed its good effect.
The first thing that happens, for example,
when a law is passed that no one shall he
paid less than $30 for a forty-hour week is
that no one who is not worth $30 a week to
an employer will he employed at all. You
cannot make a man worth a given amount by
making it illegal for anyone to offer him
anything less. You merely deprive him of the
right to earn the amount that his abilities
and situation would permit him to earn,
while you deprive the community even of the
moderate services that he is capable of
rendering. In brief, for a low wage you
substitute unemployment. You do harm all
around, with no com- parable compensation.
The only exception to this occurs when a
group of workers is receiving a wage
actually below its market worth. This is
likely to happen only in special circum-
stances or localities where competitive
forces do not operate freely or adequately;
but nearly all these special cases could he
remedied just as effectively, more flexibly
and with far less potential harm, by
unionization.
It may he thought that if the law forces the
payment of a higher wage in a given
industry, that industry can then charge
higher prices for its product, so that the
burden of paying the higher wage is merely
shifted to consumers. Such shifts, however,
are not easily made, nor are the
consequences of artificial wage-raising so
easily escaped. A higher price for the
product may not he possible: it may merely
drive consumers to some substitute. Or, if
consumers continue to buy the product of the
industry in which wages have been raised,
the higher price will cause them to buy less
of it. While some workers in the industry
will be benefited from the higher wage,
therefore, others will he thrown out of
employment altogether. On t other hand, if
the price of the product is marginal
producers in the industry will be driven out
of business; so that reduced production and
consequent un- employment will merely be
brought about in another way. When such consequences are pointed nut, there are a group of people who reply: "Very well; if it is true that the X industry cannot exist except by paying starvation wages, then it will be just as well if the minimum wage puts it out of existence altogether." But this brave pronouncement overlooks the realities. It overlooks, first of all, that consumers will suffer the loss of that product. It forgets, in the second place, that it is merely condemning the people who worked in that industry to unemployment. And it ignores, finally, that bad as were the wages paid in the X industry, they were the best among all the alternatives that seemed open to the workers in that industry; otherwise the workers would have gone into another. If, therefore, the X industry is driven out of existence by a minimum wage law, then the workers previously employed in that industry will be forced to turn to alternative courses that seemed less attractive to them in the first place. Their competition for jobs will drive down the pay offered even in these alternative occupations. There is no escape from the conclusion that the minimum wage will increase unemployment.
A
nice problem,
moreover, will be raised by the relief
program designed to take care of the
unemployment caused by the minimum wage law.
By a minimum wage of, say, 75 cents an hour,
we have forbidden anyone to work forty hours
in a week for less than $30. Suppose, now,
we offer only $18 a week on relief. This
means that we have forbidden a man to be
usefully employed at, say $25 a week, in
order that we may support him at $18 a week
in idleness. We have deprived society of the
value of his services. We have deprived the
man of the independence and self-respect
that come from self-support, even at a low
level, and from performing wanted work, at
the same time as we have lowered what the
man could have received by his own efforts.
These consequences follow as long as the
relief payment is a penny less than $30. Yet
the higher we make the relief payment, the
worse we make the situation in other
respects. If we offer $30 for relief, then
we offer many men just as much for not
working as for working. More- over, whatever
the sum we offer for relief, we create a
situation in which everyone is working only
for the difference between his wages and the
amount of the relief. If the relief is $30 a
week, for example, workers offered a wage of
$1 an hour, or $40 a week, are in fact, as
they see it, being asked to work for only
$10 a week-for they can get the rest without
doing anything.
It may be thought that we can
escape these consequences by offering "work
relief" instead of "home relief"; hut we
merely change the nature of the
consequences. "Work relief" means that we
are paying the beneficiaries more than the
open market would pay them for their
efforts. Only part of their relief-wage is
for their efforts, there fore (in work often
of doubtful utility), while the rest is a
disguised dole.
It would probably have been
better all around if the government in the
first place had frankly subsidized their
wages on the private work they were already
doing. We need not pursue this point
further, as it would carry us into problems
not immediately relevant. But the difficult
ties and consequences of relief must be kept
in mind when we consider the adoption of
minimum wage laws or an increase in minimums
already fixed.
All this is not to argue that there is no
way of raising wages. It is merely to point
out that the apparently easy method of
raising them by government fiat is the wrong
way and the worst way.
This is perhaps as good a place as any to
point out that what distinguishes many
reformers from those who can- not accept
their proposals is not their greater
philanthropy, but their greater impatience.
The question is not whether we wish to see
everybody as well off as possible. Among men
of good will such an aim can he taken for
granted. The real question concerns the
proper means of achieving it. And in trying
to answer this we must never lose sight of a
few elementary truisms. We cannot distribute
more wealth than is created. We cannot in
the long rim pay labor as a whole more than
it produces.
The best way to raise wages,
therefore, is to raise labor productivity.
This can be done by many methods: by an
increase in capital accumulation- i.e., by
an increase in the machines with which the
workers are aided; by new inventions and
improvements; by more efficient management
on the part of employers; by more
industriousness and efficiency on the part
of workers; by better education and
training. The more the individual worker
produces, the more he increases the wealth
of the whole community. The more he
produces, the more his services are worth to
consumers, and hence to employers. And the
more he is worth to employers, the more he
will be paid. Real wages come out of
production, not out of government decrees.
DO UNIONS
REALLY RAISE WAGES?
The
power of labor unions to raise wages over
the long run and for the whole working
population has been enormously exaggerated.
This exaggeration is mainly the result of
failure to recognize that wages are
basically determined by labor productivity.
I t is for this reason, for example, that
wages in the United States were incomparably
higher than wages in England and Germany all
during the decades when the "labor movement"
in the latter two countries was far more
advanced.
In spite of the overwhelming evidence that
labor productivity is the fundamental
determinant of wages, the conclusion is
usually forgotten or derided by labor union
leaders and by that large group of economic
writers who seek a reputation as "liberals"
by parroting them. But this conclusion does
not rest on the assumption, as they suppose,
that employers are uniformly kind and
generous men eager to do what is right. It
rests on the very different assumption that
the individual employer is eager to in-
crease his own profits to the maximum. If
people are willing to work for less than
they are really worth to him, why should he
not take the fullest advantage of this? Why
should he not prefer, for example, to make
$1 a week out of a workman rather than see
some other employer make $2 a week out of
him? And as long as this situation exists,
there will be a tendency for employers to
bid workers up to their full economic worth.
All this does not mean that unions can serve
no useful or legitimate function. The
central function they can serve is to assure
that all of their members get the true
market value of their services.
For the competition of workers for jobs, and
of employers for workers, does not work
perfectly. Neither individual workers nor
individual employers are likely to be fully
informed concerning the conditions of the
labor market. An individual worker, without
the help of a union or a knowledge of "union
rates,"' may not know the true market value
of his services to an employer. And he is,
individually, in a much weaker bargaining
position. Mistakes of judgment are far more
costly to him than to an employer. If an
employer mistakenly refuses to hire a man
from whose services he might have profited,
he merely loses the net profit he might have
made from employing that one man; and be may
employ a hundred or a thousand men. But if a
worker mistakenly refuses a job in the
belief that he can easily get another that
will pay him more, the error may cost him
dear. His whole means of livelihood is
involved. Not only may he fail promptly to
find another job offering more; he may fail
for a time to find another job offering
remotely as much. And time may be the
essence of his problem, because he and his
family must eat. So he may be tempted to
take a wage that he knows to be below his
"real worth" rather than face these risks.
When an employer's workers deal with him as
a body, however, and set a known "standard
wage" for a given class of work, they may
help to equalize bargaining power and the
risks involved in mistakes.
But it is easy, as experience has proved,
for unions, particularly with the help of
one-aided labor legislation which puts
compulsions solely on employers, to go be-
yond their legitimate functions, to act
irresponsibly, and to embrace short-sighted
and anti-social policies. They do this, for
example, whenever they seek to fix the wages
of their members above their real market
worth. Such an attempt always brings about
unemployment. The arrangement can be made to
stick, in fact, only by some form of
intimidation or coercion.
One device consists in
restricting the membership of the union on
some other basis than that of proved
competence or skill. This restriction may
take many forms: it may consist in charging
new workers excessive initiation fees; in
arbitrary membership qualifications; in
discrimination, open or concealed, on
grounds of religion, race or sex; in some
absolute limitation on the number of
members, or in exclusion, by force if
necessary, not only of the products of
non-union labor, hut of the products even
.
of
affiliated unions in other states or cities.
The most obvious case in
which intimidation and force are used to put
or keep the wages of a particular union
above the real market worth of its members'
services is that of a strike. A peaceful
strike is possible. To the ex- tent that it
remains peaceful, it is a legitimate labor
weapon, even though it is one that should be
used rarely: and as a last resort. If his
workers as a body withhold their labor, they
may bring a stubborn employer, who has been
underpaying them, to his senses. He may find
that h e , is unable to replace these
workers by workers equally good who are
willing to accept the wage that the former
have now rejected. But the moment workers
have to use
,
intimidation or violence to enforce their
demands-the moment they use pickets to
prevent any of the old workers from
continuing at their jobs, or to prevent the
employer from hiring new permanent workers
to take their places-their case becomes
questionable. For their pickets are really
being used, not primarily against the
employer, but against other workers. These
other workers are willing to take the jobs
that the old employees have vacated, and at
the wages that the old employees now reject.
The fact proves that the other alternatives
open to the new workers are not as good as
those that the old employees have refused.
If, therefore, the old employees succeed by
force in preventing new workers from taking
their place, they prevent these new workers
from choosing the best alternative open to
them, and force them to take something
worse. The strikers are therefore insisting
on a position of privilege, and are using
force to maintain this privileged position
against other workers.
If the
foregoing analysis is correct, the
indiscriminate hatred of the "strikebreaker"
is not justified. If the strike- breakers
consist merely of professional thugs who
them- selves threaten violence, or who
cannot in fact do the work, or if they are
being paid a temporarily higher rate solely
for the purpose of making a pretense of
carrying on until the old workers are
frightened back to work at the old rates,
the hatred may be warranted. But if they are
in fact merely men and women who are looking
for permanent jobs and willing to accept
them at the old rate, then they are workers
who would be shoved into worse jobs than
these in order to enable the striking
workers to enjoy better ones. And this
superior position for the old employees
could continue to he maintained, in fact,
only by the ever-present threat of force.
Emotional economics has given birth to
theories that calm examination cannot
justify. One of these is the idea that labor
is being "underpaid" generally. This would
be analogous to the notion that in a free
market prices in general are chronically too
low. Another curious but persistent notion
is that the interests of a nation's workers
are identical with each other, and that an
increase in wages for one union in some
obscure way helps all other workers. Not
only is there no truth in this idea; the
truth is that, if a particular union by
coercion is able to enforce for its own
members a wage substantially above the real
market worth of their services, it will hurt
all other workers as it hurts other members
of the community.
In order to see more clearly how this
occurs, let us imagine a community in which
the facts are enormously simplified
arithmetically. Suppose the community
consisted of just half a dozen groups of
workers, and that these groups were
originally equal to each other in their
total wages and the market value of their
product.
Let us say that these six groups of workers
consist of (1) farm hands, (2) retail store
workers, ( 3 ) workers in the
clothing trades, (4) coal miners, (5)
building workers, and (6) railway employees.
Their wage rates, deter- mined without any
element of coercion, are not necessarily
equal; but whatever they are, let us assign
to each of them an original index number of
100 as a base. Now let us suppose that each
group forms a national union and is able to
enforce its demands in proportion not merely
to its economic productivity but to its
political power and strategic position.
Suppose the result is that the farm hands
are unable to raise their wages at all, that
the retail store workers are able to get an
increase of 10 per cent, the clothing
workers of 20 per cent, the coal miners of
30 per cent, the building trades of 40 per
cent, and the railroad employees of 50 per
cent.
On the assumptions we have made, this will
mean that there has been an average increase
in wages of 25 per cent. Now suppose, again
for the sake of arithmetical simplicity,
that the price of the product that each
group of workers makes rises by the same
percentage as the in- crease in that group's
wages. (For several reasons, including the
fact that labor costs do not represent all
costs, the price will not quite do
that-certainly not in any short period. But
the figures will none the less serve to
illustrate the basic principle involved.)
We shall then have a situation in which the
cost of living has risen by an average of 25
per cent. The farm hands, though they have
had no reduction in their money wages, will
be considerably worse off in terms of what
they can buy. The retail store workers, even
though they have got an increase in money
wages of 10 per cent, will be worse off than
before the race began. Even the workers in
the clothing trades, with a money-wage
increase of 20 per cent, will be at a
disadvantage compared with their previous
position. The coal miners, with a money-
wage increase of 30 per cent, will have made
in purchasing power only a slight gain. The
building and railroad workers will of course
have made a gain, but one much smaller in
actuality than in appearance.
But even such calculations rest on the
assumption that the forced increase in wages
has brought about no unemployment. This is
likely to be true only if the increase in
wages has been accompanied by an equivalent
increase in money and bank credit; and even
then it is improbable that such distortions
in wage rates can be brought about without
creating pockets of unemployment,
particularly in the trades in which wages
have advanced the most. If this
corresponding monetary inflation does not
occur, the forced wage advances will bring
about widespread un- employment.
The unemployment need not necessarily be
greatest, in percentage terms, among the
unions whose wages have been advanced the
most; for unemployment will be shifted and
distributed in relation to the relative
elasticity of the demand for different kinds
of labor and in relation to the "joint"
nature of the demand for many kinds of
labor. Yet when all these allowances have
been made, even the groups whose wages have
been advanced the most will probably he
found, when their unemployed are aver- aged
with their employed members, to he worse off
than before. And in terms of welfare, of
course, the loss suffered will be much
greater than the loss in merely arithmetical
terms, because the psychological losses of
those who are unemployed will greatly
outweigh the psychological gains of those
with a slightly higher income in terms of
purchasing power.
Nor can the situation be
rectified by providing unemployment relief.
Such relief, in the first place, is paid for
in large part, directly or indirectly, out
of the wages of those who work. It therefore
reduces these wages. "Adequate" relief
payments, moreover, as we have already seen,
create unemployment. They do so in several
ways. When strong labor unions in the past
made it their function to provide for their
own unemployed members, they thought twice
before demanding a wage that would cause
heavy unemployment. But where there is a
relief system under which the general
taxpayer is forced to provide for the
unemployment caused by excessive wage rates,
this
-
restraint on excessive union demands is
removed. More- over, as we have already
noted, "adequate" relief will cause some men
not to seek work at all, and will cause
others to consider that they are in effect
being asked to work not for the wage
offered, but only for the difference between
that wage and the relief payment. And heavy
un- employment means that fewer goods are
produced, that the nation is poorer, and
that there is less for everybody.
The apostles
of salvation by unionism sometimes at tempt
another answer to the problem I have just
presented. It may be true, they will admit,
that the members of strong unions today
exploit, among others, the non- unionized
workers; but the remedy is simple: unionize
everybody. The remedy, however, is not quite
that simple. In the first place, in spite of
the enormous political encouragements (one
might in some cases say compulsions) to
unionization under the Wagner Act and other
laws, it is not an accident that only about
a fourth of this nation's gainfully employed
workers are unionized. The conditions
propitious to unionization are much more
special than generally recognized. But even
if universal unionization could he achieved,
the unions could not possibly he equally
powerful, any more than they are today. Some
groups of workers are in a far better
strategic position than others, either
because of greater numbers, of the more
essential nature of the product they make,
of the greater dependence on their industry
of other industries, or of their greater
ability to use coercive methods. But suppose
this were not so? Suppose, in spite of the
self- contradictoriness of the assumption,
that all workers by coercive methods could
raise their wages by an equal percentage?
Nobody would be any better off. in the long
run, than if wages had not been raised at
all.
This leads us to the heart of the question.
It is usually assumed that an increase in
wages is gained at the expense of the
profits of employers. This may of course
happen for short periods or in special
circumstances. If wages are forced up in a
particular firm, in such competition with
others that it cannot raise its prices, the
increase will come out of its profits. This
is much less likely to happen, however, if
the wage increase takes place throughout a
whole industry. The industry will in most
cases increase its prices and pass the wage
increase along to consumers. As these are
likely to consist for the most part of
workers, they will simply have their real
wages reduced by having to pay more for a
particular product. It is true that as a
result of the increased prices, sales of
that industry's products may fall off, so
that volume of profits in the industry will
be reduced; but employment and total
payrolls in the industry are likely to be
reduced by a corresponding amount.
It is possible, no doubt, to conceive of a
case in which the profits in a whole
industry are reduced without any
corresponding reduction in employment-a
case, in other words, in which an increase
in wage rates means a corresponding increase
in payrolls, and in which the whole cost
comes out of the industry's profits without
throwing any firm out of business. Such a
result is not likely, but it is conceivable.
Suppose we take an industry like that of the
railroads, for example, which cannot always
pass increased wages along to the public in
the form of higher rates, because government
regulation will not permit it. (Actually the
great rise of railway wage rates has been
accompanied by the most drastic consequences
to railway employment. The number of workers
on the Class I American railroads reached
its peak in 1920 at 1,685,000, with their
average wages at 66 cents an hour; it had
fallen to 959,000 in 1931, with their
average wages at 67 cents an hour; and it
had fallen further to 699,000 in 1938 with
average wages at 74 cents an hour. But we
can for the sake of argument overlook
actualities for the moment and talk as if we
were discussing a hypothetical case.)
It is at least possible for unions to make
their gains in the short run at the expense
of employers and investors. The investors
once had liquid funds. But they have put
them, say, into the railroad business. They
have turned them into rails and roadbeds,
freight cars and locomotives. Once their
capital might have been turned into any) of
a thousand forms, but today it is trapped,
so to speak. in one particular form. The
railway unions may force them to accept
smaller returns on this capital already
invested. It will pay the investors to
continue running the railroad if they can
earn anything at all above operating
expenses, even if it is only one-tenth of 1
per cent oil their investment.
But there is an inevitable
corollary of this. If the money that they
have invested in railroads now yields less
than money they can invest in other lines,
the investors will not put a cent more into
railroads. They may replace a few of the
things that wear out first, to protect the
small yield on their remaining capital; but
in the long run they will not even bother to
replace items that fall into obsolescence or
decay. If capital invested at home pays them
less than that invested abroad, they will
invest abroad. If they cannot find
sufficient return anywhere to compensate
them for their risk, they will cease to
invest at all.
Thus the exploitation of capital by labor
can at best be merely temporary. It will
quickly come to an end. It will come to an
end, actually, not so much in the way
indicated in our hypothetical illustration,
as by the forcing of marginal firms out of
business entirely, the growth of
unemployment, and the forced readjustment of
wages and profits to the point where the
prospect of normal (01 a b n o r m a l )
profits leads to a resumption of employment
and production. But in the meanwhile, as a
result of the exploitation, unemployment and
reduced production will have made everybody
poorer. Even though labor f o r a time will
have a greater relative share of the
national in- come, the national income will
fall absolutely; so that labor's relative
gains in these short periods may mean a
Pyrrhic victory: they may mean that labor,
too, is get- ting a lower total amount in
terms of real purchasing power.
Thus we are driven to the
conclusion that unions, though they may for
a time be able to secure an increase in
money wages for their members, partly at the
expense of employers and more at the expense
of non-unionized workers, do not, in the
long run and f o r the whole body
of
workers, increase real wages
at all.
The belief that they do so rests on a series
of delusions. One of these is the fallacy of
post hoc ergo propter hoc, which sees the
enormous rise in wages in the last half
century, due principally to the growth of
capital investment and to scientific and
technological advance, and ascribes it to
the unions because the unions were also
growing during this period. But the error
most responsible for the delusion is that of
considering merely what a rise of wages
brought about by union demands means in the
short run for the particular workers who
retain their jobs, while failing to trace
the effects of this advance on employment,
production and the living costs of all
workers, including those who forced the
increase.
One may go further than this conclusion, and
raise the question whether unions have not,
in the long run and for the whole body of
workers, actually prevented real wages from
rising to the extent to which they otherwise
might have risen. They base certainly been a
force working to hold down or to reduce
wages if their effect, on net balance, has
been to reduce labor productivity; and we
may ask whether it has not been so.
With regard to productivity
there is something to be said for union
policies, it is true, on the credit side. In
some trades they have insisted on standards
to increase the level of skill and
competence. And in their early history they
did much to protect the health of their
members. Where labor was plentiful,
individual employers often stood to gain by
speeding up workers and working them long
hours in spite of ultimate ill effects upon
their health, because they could easily be
replaced with others. And sometimes ignorant
or shortsighted employers would even reduce
their own profits by overworking their
employees.
In
all these cases the unions, by demanding
decent standards, often increased the health
and broader welfare of their members at the
same time as they increased their real
wages.
But in recent years, as their power has
grown, and as much misdirected public
sympathy has led to a tolerance or
endorsement of anti-social practices, unions
have gone beyond their legitimate goals. It
was a gain, not only to health and welfare,
but even in the long run to production, to
reduce a seventy-hour week to a sixty-hour
week. It was a gain to health and leisure to
reduce a sixty-hour week to a
forty-eight-hour week. It was a gain to
leisure, hut not necessarily to production
and income, to reduce a forty-eight-hour
week to a forty-four-hour week. The value to
health and leisure of reducing the working
week to forty hours is much less, the
reduction in output and income more clear.
But the unions now talk, and often enforce,
thirty-five and thirty-hour weeks, and deny
that these can or should reduce output or
income.
But it is not only in reducing scheduled
working hours that union policy has worked
against productivity. That, in fact, is one
of the least harmful ways in which it has
done so; for the compensating gain, at
least, has been clear. But many unions have
insisted on rigid subdivisions of labor
which have raised production costs and led t
o expensive and ridiculous "jurisdictional"
disputes. They have opposed payment on the
basis of output or efficiency, and insisted
on the same hourly rates for all their
members regardless of differences in
productivity. They have insisted on
promotion for seniority rather than for
merit. They have initiated deliberate
slowdowns under the pre- tense of fighting
"speed-ups." They have denounced, insisted
upon the dismissal of, and sometimes cruelly
beat- en, men who turned out more work than
their fellows. They have opposed the
introduction or improvement of machinery.
They have insisted on make-work rules to re-
quire more people or more time to perform a
given task. They have even insisted, with
the threat of ruining employers, on the
hiring of people who are not needed at all.
Most of these policies have been followed
under the assumption that there is just a
fixed amount of work to be done, a definite
"job fund" which has to he spread over as
many people and hours as possible so as not
to use it up too soon. This assumption is
utterly false. There is actually no limit to
the amount of work to be done. Work creates
work. What A produces constitutes the demand
for what B produces.
But because this false assumption exists,
and because the policies of unions are based
on it, their net effect has been to reduce
productivity below what it would other- wise
have been. Their net effect, therefore, in
the long run and for all groups of workers,
has been to reduce real wages-that is, wages
in terms of the goods they will buy-below
the level to which they would otherwise a
risen. The real cause for the tremendous
increase in real wages in the last half
century (especially in America) has been, to
repeat, the accumulation of capital and the
enormous technological advance made possible
by it.
Reduction of the rate of
increase in real wages is not, of course, a
consequence inherent in the nature of
unions. It has been the result of
shortsighted policies. There is still time
to change them.
“ENOUGH TO BUY BACK THE
PRODUCT"
Amateur
writers on economics are always asking for
"just" prices and "just" wages. These
nebulous conceptions of economic justice
come down to us from medieval times. The
classical economists worked out, instead, a
different concept-the concept of functional
prices and functional wages. Functional
prices are those that encourage the largest
volume of production and the largest volume
of sales. Functional wages are those that
tend to bring about the highest volume of
employment and the largest payrolls.
The concept of functional wages has been
taken over, in a perverted form, by the
Marxists and their unconscious disciples,
the purchasing-power school. Both of these
groups leave to cruder minds the question
whether existing wages are "fair." The real
question, they insist, is whether or not
they will work. And the only wages that will
work, they tell us, the only wages that will
prevent an imminent economic crash, are
wages that will enable labor "to buy back
the product it creates." The Marxist and
purchasing-power schools attribute every
depression of the past to a preceding
failure to pay such wages. And at no matter
what moment they speak, they are sure that
wages are still not high enough to buy back
the product.
The doctrine has proved particularly
effective in the hands of union leaders.
Despairing of their ability to arouse the
altruistic interest of the public or to
persuade employers (wicked by definition)
ever to be "fair," they have seized upon an
argument calculated to appeal to the
public's selfish motives, and frighten it
into forcing employers to grant their
demands.
How are we to know, however, precisely when
labor does have "enough to buy back the
product"? Or when it has more than enough?
How are we to determine just what the right
sum is? As the champions of the doctrine do
not seem to have made any clear effort to
answer such questions, we are obliged to try
to find the answers for ourselves.
Some sponsors of the theory seem to imply
that the workers in each industry should
receive enough to buy back the particular
product they make. But they surely cannot
mean that the makers of cheap dresses should
have enough to buy hack cheap dresses and
the makers of mink coats enough to buy back
mink coats; or that the men in the Ford
plant should receive enough to buy Fords and
the men in the Cadillac plant enough to buy
Cadillacs.
It is instructive to recall, however, that
the unions in the automobile industry, at a
time when most of their members were already
in the upper third of the country' income
receivers, and when their weekly wage,
accord' to government figures, was already
20 per cent higher than the average wage
paid in factories and nearly twice as great
as the average paid in retail trade, were
demanding a 30 per cent increase so that
they might, according to one of their
spokesmen, "bolster our fast-shrinking
ability to absorb the goods which we have
the capacity to produce."
What, then,
of the average factory worker and the aver-
age retail worker? If, under such
circumstances, the auto. mobile workers
needed a 30 per cent increase to keep the
economy from collapsing, would a mere 30 per
cent have been enough for the others? Or
would they have required increases of 55 to
160 per cent to give them as much per capita
purchasing power as the automobile workers?
(We may be sure, if the history of wage bar-
gaining even within individual unions is any
guide, that the automobile workers, if this
last proposal had been made, would have
insisted on the maintenance of their
existing differentials; for the passion for
economic equality, among union members as
among the rest of us, is, with the exception
of a few rare philanthropists and saints, a
passion for getting as much as those above
us in the economic scale already get rather
than a passion for giving those below us as
much as we ourselves already get. But it is
with the logic and soundness of a particular
economic theory, rather than with these
distressing weak- nesses of human nature,
that we are at present concerned.)
The argument that labor
should receive enough to buy back the
product is merely a special form of the
general
“purchasing
power" argument. The workers' wages, it is
correctly enough contended, are the workers'
purchasing power. But it is just as true
that everyone's income-the grocer's, the
landlord's, the employer's-is his purchasing
power for buying what others have to sell.
And one of the most important things for
which others have to find purchasers is
their labor services.
All this, moreover, has its reverse side. In
an exchange economy everybody's income is
somebody else's cost. Every increase in
hourly wages, unless or until compensated by
an equal increase in hourly productivity, is
an increase in costs of production. An
increase in costs of production, where the
government controls prices and forbids any
price increase, takes the profit from
marginal producers, forces them out of
business, means a shrinkage in production
and a growth in unemployment. Even where a
price increase is possible, the higher price
discourages buyers, shrinks the market, and
also leads to unemployment. If a 30
per cent increase in hourly wages all around
the circle forces a 30 per cent
increase in prices, labor can buy no more of
the product than it could at the beginning;
and the merry-go-round must start all over
again.
No doubt many will be inclined to dispute
the contention that a 30 per cent
increase in wages can force as great a
percentage increase in prices. It is true
that this result can follow only in the long
run and only if monetary and credit policy
permit it. If money and credit are so
inelastic that they do not increase when
wages are forced up (and if we assume that
the higher wages are not justified by
existing labor productivity in dollar
terms), then the chief effect of forcing up
wage rates will be to force unemployment.
And it is
probable, in that case, that total payrolls,
both in dollar amount and in real purchasing
power, will be lower than before. For a drop
in employment (brought about by union policy
and not as a transitional result of
technological advance) necessarily means
that fewer goods are being produced for
everyone. And it is unlikely that labor will
compensate for the absolute drop in
production by getting a larger relative
share of the production that is left. For
Paul H. Douglas in America and A. C.
Pigou in England, the first from analyzing a
great mass of statistics, the second by
almost purely deductive methods, arrived
independently at the conclusion that the
elasticity of the demand for labor is
somewhere between -3 and 4. This
means, in less technical language, that "a 1
per cent reduction in the real rate of wage
is likely to expand the aggregate demand for
labor by not less than 3 per cent.”*
Or, to put the matter the other way, "If
wages are pushed up above the point of
marginal productivity, the decrease in
employment would normally be from three to
four times as great as the increase in
hourly rates¦
so that the total income of the workers
would be reduced correspondingly.
Even if these figures are taken to represent
only the elasticity of the demand for labor
revealed in a given period of the past, and
not necessarily to forecast that of the
future, they deserve the most serious
consideration.
But now let us suppose that the increase in
wage rates is accompanied or followed by a
sufficient increase in money and credit to
allow it to take place without creating
serious unemployment. If we assume that the
previous relationship between wages and
prices was itself a "normal" long-run
relationship, then it is altogether probable
that a forced increase of, say, 30 per cent
wage rates will ultimately lead to an
increase in price of approximately the same
percentage.
The belief that the price increase would he
substantially less than that rests on two
main fallacies. The first is that of looking
only at the direct labor costs of a
particular firm or industry and assuming
these to represent all the labor costs
involved. But this is the elementary error
of mistaking a part for the whole. Each
"industry" represents not only just one
section of the productive process considered
"horizontally," but just one section of that
process considered "vertically." Thus the
direct labor cost of making automobiles in
the automobile factories themselves may he
less than a third, say, of the total costs;
and this may lead the incautious to conclude
that a 30 per cent increase in wages would
lead to only a 10 per cent increase, or
less, in automobile prices. But this would
he to overlook the indirect wage costs in
the raw materials and purchased parts, in
transportation charges, in new factories or
new machine tools, or in the dealers'
mark-up.
Government estimates show
that in the fifteen-year period from 1929 to
1943, inclusive, wages and salaries in the
But such a change would mean that the dollar
profit margin, representing the income of
investors, managers and the self-employed,
would then have, say, only 84 per cent as
much purchasing power as it had before. The
long- run effect of this would be to cause a
diminution of in- vestment and new
enterprise compared with what it would
otherwise have been, and consequent
transfers of men from the lower ranks of the
self-employed to the higher ranks of
wage-earners, until the previous
relationships had been approximately
restored. But this is only an- other way of
saying that a 30 per cent increase in
wages under the conditions assumed would
eventually mean also a 30 per cent
increase in prices.
It does not necessarily
follow that wage-earners would make no
relative gains. They would make a relative
gain, and other elements in the population
would suffer a relative loss, during the
period of transition. But it is improbable
that this relative gain would mean an
absolute gain. For the kind of change in the
relationship of costs to prices contemplated
here could hardly take place with- out
bringing about unemployment and unbalanced,
interrupted or reduced production. So that
while labor might get a broader slice of a
smaller pie, during this period of
transition and adjustment to a new
equilibrium, it may he doubted whether this
would be greater in absolute size (and it
might easily be less) than the previous
narrower slice of a larger pie.
This brings us to the general meaning and
effect of economic equilibrium. Equilibrium
wages and prices are the wages and prices
that equalize supply and demand. If, either
through government or private coercion, an
at- tempt is made to lift prices above their
equilibrium level, demand is reduced and
therefore production is reduced. If an
attempt is made to push prices below their
equilibrium level, the consequent reduction
or wiping out of profits will mean a falling
off of supply or new production. Therefore,
an attempt to force prices either above or
below their equilibrium levels (which are
the levels toward which a free market
constantly tends to bring them) will act to
reduce the volume of employment and
production below what it would otherwise
have been. To return, then, to the doctrine
that labor must get "enough to buy back the
product." The national product, it should he
obvious, is neither created nor bought by
manufacturing labor alone. It is bought by
everyone- by white collar workers,
professional men, farmers, employers, big
and little, by investors, grocers, butchers,
owners of small drug stores and gasoline
stations-by everybody, in short, who
contributes toward making the product.
As to the prices, wages and profits that
should deter- mine the distribution of that
product, the best prices are not the highest
prices, but the prices that encourage the
largest volume of production and the largest
volume of sales. The best wage rates for
labor are not the highest wage rates, but
the wage rates that permit full production,
full employment and the largest sustained
payrolls. The best profits, from the
standpoint not only of industry hut of
labor, are not the lowest profits, but the
profits that encourage most people to become
employers or to pro- vide more employment
than before.
If we try to
run the economy for the benefit of a single
group or class, we shall injure or destroy
all groups, including the members of the
very class for whose benefit we have been
trying to run it. We must run the economy
for everybody.
T H E F U N C
T I O N O F P R O F I T S
The
indignation shown by many people today at
the mention of the very word "profits"
indicates how little understanding there is
of the vital function that profits play in
our economy. To increase our understanding,
we shall go over again some of the ground
already covered in Chapter XV on the price
system, hut we shall view the subject from a
different angle.
Profits actually do not bulk
large in our total economy. The net income
of incorporated business in the fifteen
years from 1929 to 1943, to take an
illustrative figure, averaged less than 5
per cent of the total national income. Yet
"profits" are the form of income toward
which there is most hostility. It is
significant that while there is a word
"profiteer" to stigmatize those who make
allegedly excessive profits, there is no
such word as
"
wageer"--or "losseer." Yet the profits of
the owner of a barber shop may average much
less not merely than the salary of a motion
picture star or the hired head of a steel
corporation, but less even than the average
wage for skilled labor.
The subject is clouded by all sorts of
factual misconceptions. The total profits of
General Motors, the greatest industrial
corporation in the world, are taken as if
they were typical rather than exceptional.
Few people are acquainted with the mortality
rates for business concerns. They do not
know (to quote from the TNEC studies) that
"should conditions of business averaging the
experience of the last fifty years prevail,
about seven of each ten grocery stores
opening today will survive into their second
year; only four of the ten may expect to
celebrate their fourth birthday." They do
not know that in every year from 1930 to
1938, in the income tax statistics,
the number of corporations that showed a
loss exceeded the number that showed a
profit.
How much do
profits, on the average, amount to? No
trustworthy estimate has been made that
takes into ac- count all kinds of activity,
unincorporated as well as incorporate
business, and a sufficient number of good
and bad years. But some eminent economists
believe that over a long period of years,
after allowance is made for all losses, for
a minimum "riskless" interest on invested
capital, and for an imputed "reasonable"
wage value of the services of people who run
their own business, no net profit at all may
be left over, and that there may even be a
net loss. This is not at all because
entrepreneurs (people who go into business
for themselves) are intentional
philanthropists, but because their optimism
and self- confidence too often lead them
into ventures that do not or cannot succeed.*
It is clear, in any case, that any
individual placing venture capital runs a
risk not only of earning no return but of
losing his whole principal. In the past it
has been the lure of high profits in special
firms or industries that has led him to take
that great risk. But if profits are limited
to a maximum of, say, 10 per cent or some
similar figure, while the risk of losing
one's entire capital still exists, what is
likely to he the effect on the profit
incentive, and hence on employment and
production? The wartime excess profits tax
has already shown us what such a limit can
do, even for a short period, in undermining
efficiency.
Yet, governmental policy almost everywhere
today tends to assume that production will
go on automatically, no matter what is done
to discourage it. One of the greatest
dangers to production today comes from
government price-fixing policies. Not only
do these policies put one item after another
out of production by leaving no incentive to
make it, hut their long-run effect is to
prevent a balance of production in
accordance with the actual demands of
consumers. If the economy were free, demand
would so act that some branches of
production would make what government
officials would undoubtedly regard as
"excessive" or "unreasonable" profits. But
that very fact would not only cause every
firm in that line to expand its production
to the utmost, and to re- invest its profits
in more machinery and more employment; it
would also attract new investors and
producers from everywhere, until production
in that line was great enough to meet
demand, and the profits in it again fell to
the general average level.
In a free economy, in which wages, costs and
prices are left to the free play of the
competitive market, the prospect of profits
decides what articles will he made, and in
what quantities-and what articles will not
he made at all. If there is no profit in
making an article, it is a sign that the
labor and capital devoted to its production
are misdirected: the value of the resources
that must he used up in making the article
is greater than the value of the article
itself.
One function of profits, in brief, is to
guide and channel the factors of production
so as to apportion the relative output of
thousands of different commodities in
accordance with demand. No bureaucrat, no
matter how brilliant, can solve this problem
arbitrarily. Free prices and free profits
will maximize production and relieve
shortages quicker than any other system.
Arbitrarily- fixed prices and
arbitrarily-limited profits can only pro-
long shortages and reduce production and
employment.
The function of profits, finally, is to put
constant and unremitting pressure on the
head of every competitive business to
introduce further economies and
efficiencies, no matter to what stage these
may already have been brought. In good times
he does this to increase his profits
further; in normal times he does it to keep
ahead of his competitors; in bad times he
may have to do it to survive at all. For
profits may not only go to zero; they may
quickly turn into losses; and a man will put
forth greater efforts to save himself from
ruin than he will merely to improve his
position.
Profits, in
short, resulting from the relationships of
costs to prices, not only tell us which
goods it is most economical to make, but
which are the most economical ways to make
them. These questions must be answered by a
socialist system no less than by a
capitalist one; they must be answered by any
conceivable economic system; and for the
overwhelming hulk of the commodities and
services that are produced, the answers
supplied by profit and loss under
competitive free enterprise are incomparably
superior to those that could be obtained by
any other method.
THE MIRAGE OF
INFLATION
I have found it necessary to warn the reader
from time to time that a certain result
would necessarily follow from a certain
policy "provided there is no inflation." In
the chapters on public works and on credit I
said that a study of the complications
introduced by inflation would have to be
deferred. But money and monetary policy form
so intimate and sometimes so inextricable a
part of every economic process that this
separation, even for expository purposes,
was very difficult; and in the chapters on
the effect of various government or union
wage policies on employment, profits and
production, some of the effects of differing
monetary policies had to he considered
immediately.
Before we consider what the consequences of
inflation are in specific cases, we should
consider what its consequences are in
general. Even prior to that, it seems
desirable to ask why inflation has been
constantly resorted to, why it has had an
immemorial popular appeal, and why its siren
music has tempted one nation after another
down the path to economic disaster.
The most obvious and yet the
oldest and most stubborn error on which the
appeal of inflation rests is that of con-
fusing "money" with wealth. "That wealth
consists in money, or in gold and silver,"
wrote Adam Smith nearly two centuries ago,
"is a popular notion which naturally arises
from the double function of money, as the
instrument of commerce, and as the measure
of value.
. . .
grow rich is to get money; and wealth and
money, in short, are, in common language,
considered as in every respect synonymous."
Real wealth, of course, consists in what is
produced and consumed: the food we eat, the
clothes we wear, the houses we live in. It
is railways and roads and motor cars; ships
and planes and factories; schools and
churches and theaters; pianos, paintings and
hooks. Yet so powerful is the verbal
ambiguity that confuses money with wealth,
that even those who at times recognize the
confusion will slide back into it in the
course of their reasoning. Each man sees
that if he personally had more money he
could buy more things from others. If he had
twice as much money he could buy twice as
many things; if he had three times as much
money he would he "worth" three times as
much. And to many the conclusion seems
obvious that if the government merely issued
more money and distributed it to everybody,
we should all he that much richer.
These are the most naive inflationist. There
is a second group, less naive, who see that
if the whole thing were as easy as that the
government could solve all our problems
merely by printing money. They sense that
there must he a catch somewhere; so they
would limit in some way the amount of
additional money they would have the
government issue. They would have it print
just enough to make up some alleged
"deficiency" or "gap."
Purchasing power is
chronically deficient, they think, because
industry somehow does not distribute enough
money to producers to enable them to buy
back, as consumers, the product that is
made. There is a mysterious
"
leak"
somewhere. One group "proves" it by
equations. On one side of their equations
they count an item only once; on the other
side they unknowingly count the same item
several times over. This produces an
alarming gap between what they call "A
payments" and what they call "A+ B
payments." So they found a movement, put on
green uniforms, and insist that the
government issue money or "credits" to make
good the missing B payments.
The cruder apostles of
"social credit" may seem ridiculous; but
there are an indefinite number of schools of
only slightly more sophisticated
inflationists who have
“scientific"
plans to issue just enough additional money
or credit to fill some alleged chronic or
periodic "deficiency" or "gap" which they
calculate in some other way.
The more knowing inflationists recognize
that any substantial increase in the
quantity of money will reduce the purchasing
power of each individual monetary unit-in
other words, that it will lead to an
increase in commodity prices. But this does
not disturb them. On the contrary, it is
precisely why they want the inflation. Some
of them argue that this result will improve
the position of poor debtors as compared
with rich creditors. Others think it will
stimulate exports and discourage imports.
Still others think it is an essential
measure to cure a depression, to “start
industry going again," and to achieve "full
employment."
There are innumerable theories concerning
the way in which increased quantities of
money (including bank credit) affect prices.
On the one hand, as we have just seen, are
those who imagine that the quantity of money
could be increased by almost any amount
without affecting prices. They merely see
this increased money as a means of
increasing everyone's "purchasing power," in
the sense of enabling everybody to buy more
goods than before. Either they never stop to
remind themselves that people collectively
cannot buy twice as much goods as before
unless twice as much goods are produced, or
they imagine that the only thing that holds
down an indefinite increase in production is
not a shortage of manpower, working hours or
productive capacity, but merely a short- age
of monetary demand: if people want the
goods, they assume, and have the money to
pay for them, the goods rill almost
automatically be produced.
On the other hand is the group-and it has
included some eminent economists-that holds
a rigid mechanical theory of the effect of
the supply of money on commodity prices. All
the money in a nation, as these theorists
picture the matter, will he offered against
all the goods. Therefore the value of the
total quantity of money multiplied by its
"velocity of circulation" must always he
equal to the value of the total quantity of
goods bought. Therefore, further (assuming
no change in "velocity of circulation"), the
value of the monetary unit must vary exactly
and inversely with the amount pot into
circulation. Double the quantity of money
and bank credit and you exactly double the
"price level"; triple it and you exactly
triple the price level. Multiply the
quantity of money n times, in short, and you
must multiply the prices of goods n
times.
There is not
space here to explain all the fallacies in
this plausible picture?*
Instead we shall try to see just why and how
an increase in the quantity of money raises
prices.
An increased quantity of money comes into
existence in a specific way. Let us say that
it comes into existence because the
government makes larger expenditures than it
can or wishes to meet out of the proceeds of
taxes (or from the sale of bonds paid for by
the people out of real savings). Suppose,
for example, that the government prints
money to pay war contractors. Then the first
effect of these expenditures will be to
raise the prices of sup- plies used in war
and to put additional money into the hands
of the war contractors and their employees.
(As, in our chapter on price-fixing, we
deferred for the sake of simplicity some
complications introduced by an inflation,
so, in now considering inflation, we may
pass over the complications introduced by an
attempt at government price-fixing. When
these are considered it will he found that
they do not change the essential analysis.
They lead merely to a sort of backed-up
inflation that reduces or conceals some of
the earlier consequences at the expense of
aggravating the later ones.)
The war contractors and their employees,
then, will have higher money incomes. They
will spend them for the particular goods and
services they want. The sellers of these
goods and services will be able to raise
their prices be- cause of this increased
demand. Those who have the in- creased money
income will he willing to pay these higher
prices rather than do without the goods; for
they will have more money, and a dollar will
have a smaller subjective value in the eyes
of each of them.
Let us call the war contractors and their
employees group A, and those from whom they
directly buy their added goods and services
group B. Group B, as a result of higher
sales and prices, will now in turn buy more
goods and services from a still further
group, C. Group C in turn will be able to
raise its prices and will have more income
to spend on group D, and so on, until the
rise in prices and money incomes has covered
virtually the whole nation. When the process
has been completed, nearly everybody will
have a higher income measured in terms of
money. But (assuming that production of
goods and services has not increased) prices
of goods and services will have increased
correspondingly; and the nation will be no
richer than before.
This does not mean, however, that everyone's
relative or absolute wealth and income will
remain the same as before. On the contrary,
the process of inflation is certain to
affect the fortunes of one group differently
from those of another. The first groups to
receive the additional money will benefit
most. The money incomes of group A, for
example, wilt have increased before prices
have in- creased, so that they will be able
to buy almost a proportionate increase in
goods. The money incomes of group B will
advance later, when prices have already in-
creased somewhat; but group B will also be
better off in terms of goods. Meanwhile,
however, the groups that have still had no
advance whatever in their money in comes
will find themselves compelled to pay higher
price for the things they buy, which means
that they will b obliged to get along on a
lower standard of living than before.
We may clarify the process further by a
hypothetical set of figures. Suppose we
divide the community arbitrarily into four
main groups of producers, A, B, C an D, who
get the money-income benefit of the
inflation in that order. Then when money
incomes of group A ha already increased 30
per cent, the prices of the thing they
purchase have not yet increased at all. By
the time money incomes of group B have
increased 20 per cent, prices have still
increased an average of only 10 per cent.
When money incomes of group C have increased
only 10 per cent, however, prices have
already gone up 15 per cent. And when money
incomes of group D have not yet increased at
all, the average prices they have to pay for
the things they buy have gone up 20 per
cent. In other words, the gains of the first
groups of producers to benefit by higher
prices or wages from the inflation are
necessarily at the expense of the losses
suffered (as consumers) by the last groups
of producers that are able to raise their
prices or wages.
It may be
that, if the inflation is brought to a halt
after a few years, the final result will be,
say, an average increase of 25 per cent in
money incomes, and an aver- age increase in
prices of an equal amount, both of which are
fairly distributed among all groups. But
this will not cancel out the gains and
losses of the transition period. Group D,
for example, even though its own incomes and
prices have at last advanced 25 per cent,
will be able to buy only as much goods and
services as before the inflation started. It
will never compensate for its losses during
the period when its income and prices had
not risen at all, though it had to pay 30
per cent more for the goods and services it
bought from the other producing groups in
the community, A, B and C.
So inflation turns out to he merely one more
example of our central lesson. It may indeed
bring benefits for a short time to favored
groups, but only at the expense of others.
And in the long run it brings disastrous
consequences to the whole community. Even a
relatively mild inflation distorts the
structure of production. It leads to the
over-expansion of some industries at the
expense o others. This involves a
misapplication and waste of capital. When
the inflation collapses, or is brought to a
halt, the misdirected capital
investment-whether in the form of machines,
factories or office buildings-cannot yield
an adequate return and loses the greater
part of its value.
Nor is it possible to bring
inflation to a smooth and gentle stop, and
so avert a subsequent depression. I t is
, not
even possible to halt an inflation, once
embarked upon, at some preconceived point,
or when prices have achieved a
previously-agreed-upon level; for both
political and economic forces, will have got
out of hand. You cannot make an argument for
a 25 per cent advance in prices by inflation
without someone's contending that the ,
argument is twice as good for an advance of
50 per cent, and someone else's adding that
it is f o u r times as good for an advance
of 100 per cent. The political pressure
groups that have benefited from the
inflation will insist upon its continuance.
It is impossible, moreover, to control the
value of money under inflation. For, as we
have seen, the causation is never a merely
mechanical one. You cannot, for example, say
in advance that a 100 per cent increase in
the quantity of money will mean a 50 per
cent fall in the value of the monetary unit.
The value of money, as we have seen, depends
upon the subjective valuations of the people
who hold it. And those valuations do not
depend solely on the quantity of it that
each person holds. They depend also on the
quality of the money. In wartime the value
of a nation's monetary unit, not on the gold
standard, will rise on the foreign exchanges
with victory and fall with defeat,
regardless of changes in its quantity. The
present valuation will often depend upon
what people expect the future quantity of
money to be. And, as with commodities on the
speculative exchanges, each person's
valuation of money is affected not only by
what he thinks its value is hut by what he
thinks is going to be everybody else's
valuation of money.
All this explains why, when super-inflation
has once set in, the value of the monetary
unit drops at a f a r faster rate than the
quantity of money either is or can he
increased. When this stage is reached, the
disaster is nearly complete; and the scheme
is bankrupt.
Yet, the ardor for inflation
never dies. It would almost seem as if no
country is’ capable of profiting from the
experience of another and no generation of
learning from the sufferings of its
forbears. Each generation and country
follows the same mirage. Each grasps for the
same
In our own
day the most persistent argument put for-
ward for inflation is that it will "get the
wheels of industry turning," that it will
save us from the irretrievable losses of
stagnation and idleness and bring "full
employment." This argument in its cruder
form rests on the immemorial confusion
between money and real wealth. It assumes
that new "purchasing power" is being brought
into existence, and that the effects of this
new purchasing power multiply themselves in
ever-widening circles, like the ripples
caused by a stone thrown into a pond. The
real purchasing power for goods, however, as
we have seen, consists of other goods. It
cannot he wondrously increased merely by
printing more pieces of paper called
dollars. Fundamentally what happens in a
exchange economy is that the things that A
produces a exchanged for the things that B
produces.*
What inflation really does is to change the
relation ships of prices and costs. The most
important change it is designed to bring
about is to raise commodity prices in
relation to wage rates, and so to restore
business profits, and encourage a resumption
of output at the points where idle resources
exist, by restoring a workable relationship
between prices and costs of production. It
should he immediately clear that this could
be brought about more directly and honestly
by a reduction in wage rates. But the more
sophisticated proponents of inflation
believe that this is now politically
impossible. Sometimes they go further, and
charge that all proposals under any
circumstances to reduce particular wage
rates directly in order to reduce
unemployment are "anti- labor." But what
they are themselves proposing, stated in
bald terms, is to deceive labor by reducing
real wage rates (that is, wage rates in
terms of purchasing power) through an
increase in prices.
What they forget is that
labor has itself become sophisticated; that
the big unions employ labor economists who
know about index numbers, and that labor is
not deceived. The policy, therefore, under
present conditions, seems unlikely to
accomplish either its economic or its
political aims. For it is precisely the most
powerful unions, whose wage rates are most
likely to be in need of correction, that
will insist that their wage rates be raised
at least in proportion to any increase in
the cost-of-living index. The unworkable
relationships between prices and key wage
rates, if the insistence of the powerful
unions prevails, will remain. The wage-rate
structure, in fact, may become even more
distorted; for the great mass of unorganized
workers, whose wage rates even before the
inflation were not out of line (and may even
have been unduly depressed through union
exclusionism), will be penalized further
during the transition by the rise in prices.
The
more sophisticated advocates of inflation,
in brief, are disingenuous. They do not
state their case with complete candor; and
they end by deceiving even themselves. They
begin to talk of paper money, like the more
naive inflationists, as if it were itself a
form of wealth that could be created at will
on the printing press. They even solemnly
discuss a "multiplier," by which every
dollar printed and spent by the government
becomes magically the equivalent of several
dollars added to the wealth of the country.
In brief, they divert both the public
attention and their own from the real causes
of any existing depression. For the real
causes, most of the time, are maladjustments
within the wage-cost-price structure:
maladjustments between wages and prices,
between prices of raw materials and prices
of finished goods, or between one price and
another or one wage and another. At some
point these maladjustments have removed the
incentive to produce, or have made it
actually impossible for production to
continue; and through the organic
interdependence of our exchange economy,
depression spreads. Not until these
maladjustments are corrected can full
production and employment be resumed.
True, inflation may sometimes
correct them; but it is a heady and
dangerous method. It makes its corrections
not openly and honestly, but by the use of
illusion. It is like getting people up an
hour earlier only by making them believe
that it is
For inflation
throws a veil of illusion over every
economic process. It confuses and deceives
almost everyone, including even those who
suffer by it. We are all accustomed to
measuring our income and wealth in terms of
money. The mental habit is so strong that
even professional economists and
statisticians cannot consistently break it.
It is not easy to see relationships always
in terms of real goods and real welfare. Who
among us does not feel richer and prouder
when he is told that our national income has
doubled (in terms of dollars, of course)
compared with some pre-inflationary period?
Even the clerk who used to get $25 a week
and now gets $35 thinks that he must he in
some way better off, though it costs him
twice as much to live as it did when he was
getting $25. He is of course not blind to
the rise in the cost of living. But neither
is he as fully aware of his real position as
he would have been if his cost of living had
not changed and if his money salary had been
reduced to give him the same reduced
purchasing power that he now has, in spite
of his salary increase, because of higher
prices. Inflation is the auto-suggestion,
the hypnotism, the anesthetic, that has
dulled the pain of the operation for him.
Inflation is the opium of the people.
And this is precisely its political
function. It is because inflation confuses
everything that it is so consistently re-
solved to by our modern "planned economy"
governments. We saw in Chapter IV, to take
but one example, that the belief that public
works necessarily create new jobs is false.
If the money was raised by taxation, we saw,
then for every dollar that the government
spent on public works one less dollar was
spent by the taxpayers to meet their own
wants, and for every public job created one
private job was destroyed.
But suppose the public works are not paid
for from the proceeds of taxation? Suppose
they are paid for by deficit financing-that
is, from the proceeds of government
borrowing or from resort to the printing
press? Then the result just described does
not seem to take place. The public works
seem to be created out of "new" purchasing
power. You cannot say that the purchasing
power has been taken away from the
taxpayers. For the moment the nation seems
to have got something for nothing.
But now, in accordance with our lesson, let
us look at the longer consequences. The
borrowing must some day be repaid. The
government cannot keep piling up debt
indefinitely; for if it tries, it will some
day become bankrupt. As Adam Smith observed
in 1776: "When national debts have once been
accumulated to a certain degree, there is
scarce, I believe, a single instance of
their having been fairly and completely
paid. The liberation of the public revenue,
if it has even been brought about at all,
has always been brought about by a
bankruptcy; sometimes by an avowed one, but
always by a real one, though frequently by a
pretended payment."
Yet when the government comes to repay the
debt it has accumulated for public works, it
must necessarily tax more heavily than it
spends. In this later period, there- fore,
it must necessarily destroy more jobs than
it creates. The extra heavy taxation then
required does not merely take away
purchasing power; it also lowers or destroys
incentives to production, and so reduces the
total wealth and income of the country.
The only escape from this conclusion is to
assume (as of course the apostles of
spending always do) that the politicians in
power will spend money only in what would
otherwise have been depressed or
"deflationary" periods, and will promptly
pay the debt off in what would otherwise
have been boom or "inflationary" periods.
This is a beguiling fiction, but
unfortunately the politicians in power have
never acted that way. Economic forecasting,
moreover, is so precarious, and the
political pressures at work are of such a
nature, that governments are unlikely ever
to act that way. Deficit spending, once
embarked upon, creates powerful vested
interests which demand its continuance under
all conditions.
If no honest attempt is made to pay off the
accumulated debt, and resort is had to
outright inflation instead, then the results
follow that we have already described. For
the country as a whole cannot get anything
without paying for it. Inflation itself is a
form of taxation. It is per- haps the worst
possible form, which usually bears hardest
on those least able to pay. On the
assumption that inflation affected everyone
and everything evenly (which, we have seen,
is never true), it would be tantamount to a
flat sales tax of the same percentage on all
commodities, with the rate as high on bread
and milk as on diamonds and furs. Or it
might be thought of as equivalent to a flat
tax of the same percentage, without
exemptions, on every- one's income. It is a
tax not only on every individual's
expenditures, but on his savings account and
life insurance. It is, in fact, a flat
capital levy, without exemptions, in which
the poor man pays as high a percentage as
the rich man.
But the situation is even worse than this,
because, as we have seen, inflation does not
and cannot affect every- one evenly. Some
suffer more than others, The poor may be
more heavily taxed by inflation, in
percentage terms, than the rich. For
inflation is a kind of tax that is out of
control of the tax authorities. It strikes
wantonly in all directions. The rate of tax
imposed by inflation is not a fixed one: it
cannot he determined in advance. We know
what it is today; we do not know what it
will be tomorrow; and tomorrow we shall not
know what it will be on the day after.
Like every
other tax, inflation acts to determine the
individual and business policies we are all
forced to follow. I t discourages all
prudence and thrift. It encourages
squandering, gambling, reckless waste of all
kinds. It often makes it more profitable to
speculate than to pro- duce. It tears apart
the whole fabric of stable economic
relationships. Its inexcusable injustices
drive men toward desperate remedies. It
plants the seeds of fascism and communism.
It leads men to demand totalitarian
controls. It ends invariably in bitter
disillusion and collapse.
THE ASSAULT
ON
SAVING
From
time immemorial proverbial wisdom has taught
the virtues of saving, and warned against
the consequences of prodigality and waste.
This proverbial wisdom has reflected the
common ethical as well as the merely
prudential judgments of mankind. But there
have always been squanderers, and there have
apparently always been theorists to
rationalize their squandering.
The classical economists, refuting the
fallacies of their own day, showed that the
saving policy that was in the best interests
of the individual was also in the best
interests of the nation. They showed that
the rational saver, in making provision for
his own future, was not hurting, but
helping, the whole community. But today the
ancient virtue of thrift, as well as its
defense by the classical economists, is once
more under attack, for allegedly new
reasons, while the opposite doctrine of
spending is in fashion.
In order to make the fundamental issue as
clear as possible, we cannot do better, I
think, than to start with the classic
example used by Bastiat. Let us imagine two
brothers, then, one a spendthrift and the
other a prudent man, each of whom has
inherited a sum to yield him an income of
$50,000 a year. We shall disregard the in-
come tax, and the question whether both
brothers really ought to work for a living,
because such questions are irrelevant to our
present purpose.
Alvin, then, the first
brother, is a lavish spender. He spends not
only by temperament, but on principle. He is
a disciple (to go no further back) of
Rodbertus, who declared in the middle of the
nineteenth century that capitalists "must
expend their income to the last penny in
comforts and luxuries," for if they
"determine to save
. . .
goods accumulate, and part of the workmen
will have no work.”*
Alvin is always seen at the night clubs; he
tips handsomely; he maintains a pretentious
establishment, with plenty of servants; he
has a couple of chauffeurs and doesn't stint
himself in the number of cars he owns; he
keeps a racing stable; he runs a yacht; he
travels; he loads his wife down with diamond
bracelets and fur coats; he gives expensive
and useless presents to his friends.
To do all this he has to dig into his
capital. But what of it? If saving is a sin,
dissaving must he a virtue; and in any case
he is simply making up for the harm being
done by the saving of his pinchpenny brother
Benjamin.
It need hardly be said that
Compared with him brother
Benjamin is much less popular. He is seldom
seen at the jewelers, the furriers or the
night clubs, and he does not call the head
waiters by their first names. Whereas Alvin
spends not only the full $50,000 income each
year hut is digging into capital besides,
Benjamin lives much more modestly and spends
only about $25,000. Obviously, think the
people who see only what hits them in the
eye, he is providing less than.) half as
much employment as
But let us see what Benjamin actually does
with this other $25,000. On the average he
gives $5,000 of it to charitable causes,
including help to friends in need. The
families who are helped by these funds in
turn spend them on groceries or clothing or
living quarters. So the funds create as much
employment as if Benjamin had spent them
directly on himself. The difference is that
more people are made happy as consumers, and
that production is going more into essential
goods and less into luxuries and
superfluities.
This last point is one that
often gives Benjamin concern. His conscience
sometimes troubles him even about the
$25,000 he spends. The kind of vulgar
display and reckless spending that
Now let us see, apart from Benjamin's ideas,
what hap- pens to the $20,000 that he
neither spends nor gives away. He does not
let it pile up in his pocketbook, his bureau
drawers, or in his safe. He either deposits
it in a bank or he invests it. If he puts it
either into a commercial or a savings bank,
the bank either lends it to going businesses
on short term for working capital, or uses
it to buy securities. In other words,
Benjamin invests his money either directly
or indirectly. But when money is invested it
is used to buy capital goods-houses or
office buildings or factories or ships or
motor trucks or machines. Any one of these
projects puts as much money into circulation
and gives as much employment as the same
amount of money spent directly on
consumption.
"Saving,"
in short, in the modern world, is only an-
other form of spending.
The usual
difference is that the money is turned over
to someone else to spend on means to
increase production. So far as giving
employment is concerned, Benjamin's "saving"
and spending combined give as much as
Alvin's spending alone, and put as much
money in circulation. The chief difference
is that the employment provided by
A dozen years roll by.
So many fallacies have grown up about saving
in recent years that they cannot all be
answered by our example of the two brothers.
It is necessary to devote some further space
to them. Many stem from confusions so
elementary as to seem incredible,
particularly when found in economic writers
of wide repute. The word "saving," for
example, is used sometimes to mean mere
hoarding of money, and sometimes to mean
investment, with no clear
distinction, consistently maintained,
between the two uses.
Mere hoarding of hand-to-hand money, if it
takes place irrationally, causelessly, and
on a large scale, is in most economic
situations harmful. But this sort of
hoarding is extremely rare. Something that
looks like this, but should be carefully
distinguished from it, often occurs after
a downturn in business has got under
way. Consumptive spending and investment are
then both contracted. Consumers reduce their
buying. They do this partly, indeed, because
they fear they may lose their jobs, and they
wish to conserve their resources: they have
contracted their buying not because they
wish to consume less, but because they wish
to make sure that their power to consume
will he extended over a longer period if
they do lose their jobs.
But consumers reduce their buying for
another reason. Prices of goods have
probably fallen, and they fear a further
fall. If they defer spending, they believe
they will get more for their money. They do
not wish to have their resources in goods
that are falling in value, but in money
which they expect (relatively) to rise in
value.
The same expectation prevents them from
investing They have lost their confidence in
the profitability of business; or at least
they believe that if they wait a few months
they can buy stocks or bonds cheaper. We may
think of them either as refusing to hold
goods that may fall in value on their hands,
or as holding money itself for a rise.
It is a misnomer to call this temporary
refusal to buy "saving." It does not spring
from the same motives as normal saving. And
it is a still more serious error to say that
this sort of "saving" is the cause of
depressions. It is, on the contrary, the
consequence of depressions.
It is true that this refusal to buy may
intensify and prolong a depression once
begun. But it does not itself originate the
depression. At times when there is
capricious government intervention in
business, and when business does not know
what the government is going to do next,
uncertainty is created. Profits are not
reinvested. Firms and individuals allow cash
balances to accumulate in their banks. They
keep larger reserves against contingencies.
This hoarding of cash may seem like the
cause of a subsequent slowdown in business
activity. The real cause, however, is the
uncertainty brought about by the government
policies. The larger cash balances of firms
and individuals are merely one link in the
chain of consequences from that uncertainty.
To blame "excessive saving" for the business
decline would be like blaming a fall in the
price of apples not on a bumper crop but on
the people who refuse to pay more for
apples.
But when once people have decided to deride
a practice or an institution, any argument
against it, no matter how illogical, is
considered good enough. I t is said that the
various consumers' goods industries are
built on the expectation of a certain
demand, and that if people take to saving
they will disappoint this expectation and
start a depression. This assertion rests
primarily on the error we have already
examined-that of forgetting that what is
saved on consumers' goods is spent on
capital goods, and that "saving" does not
necessarily mean even a dollar's contraction
in total spending. The only element of truth
in the contention is that any change that is
sudden may be unsettling. It would be just
as unsettling if consumers suddenly switched
their demand from one consumers' goods to
another. It would he even more unsettling if
former savers suddenly switched their demand
from capital goods to consumers' goods.
Still another objection is made against
saving. It is said to be just downright
silly. The Nineteenth Century is derided for
its supposed inculcation of the doctrine
that mankind through saving should go on
making itself a larger and larger cake
without ever eating the cake. This picture
of the process is itself naive and childish.
It can best be disposed of, perhaps, by
putting before ourselves a somewhat more
realistic picture of what actually takes
place.
Let us picture to ourselves,
then, a nation that collectively saves every
year about 20 percent of all it produces in
that year. This figure greatly overstates
the amount of net saving that has occurred
historically in the
Now as a
result of this annual saving and investment,
the total annual production of the country
will increase each year. (To isolate the
problem we are ignoring for 3. Historically
20 per cent would represent approximately
the have been closer to 12 per rent.' the
moment booms, slumps, or other
fluctuations.) Let us say that this annual
increase in production is 2 1/2 percentage
points. (Percentage points are taken instead
of a compounded percentage merely to
simplify the arithmetic.) The picture that
we get for an eleven-year period, say, would
then run something like this in terms of
index numbers:
*
This of course assumes the process of saving
and investment to have been already under
way at the same ram.
The first thing to be noticed about this
table is that total production increases
each year because of the sawing, and would
not have increased without it. (It is
possible no doubt to imagine that
improvements and new inventions merely in
replaced machinery and other capital goods
of a value no greater than the old would
increase the national productivity; but this
increase would amount to very little, and
the argument in any case assumes enough
prior investment to have made the existing
machinery possible.) The saving has been
used year after year to increase the
quantity or improve the quality of existing
machinery, and so to increase the nation's
out- put of goods. There is, it is true (if
that for some strange reason is considered
an objection), a larger and larger "cake"
each year. Each year, it is true, not all of
the currently produced "cake" is consumed.
But there is no irrational or cumulative
consumer restraint. For each year a larger
and larger cake is in fact consumed; until,
at the end of eleven years (in our
illustration), the annual consumers' cake
alone is equal to the combined consumers'
and producers' cakes of the first year.
More- over, the capital equipment, the
ability to produce goods, is itself 25 per
cent greater than in the first year.
Let us observe a few other points. The fact
that 20 per cent of the national income goes
each year for saving does not upset the
consumers' goods industries in the least. If
they sold only the 80 units they produced in
the first year (and there were no rise in
prices caused by unsatisfied demand) they
would certainly not be foolish enough to
build their production plans on the
assumption that they were going to sell 100
units in the second year. Tire consumers'
goods industries, in other words, are
already geared to the assumption that the
past situation in regard to the rate of
savings will continue. Only an unexpected
sudden and substantial increase in savings
would unsettle them and leave them with
unsold goods.
But the same unsettlement, as
we have already ob- served, would be caused
in the capital goads industries by a sudden
and substantial decrease in savings. If
money that would previously have been used
for savings were thrown into the purchase of
consumers' goods, it would not increase
employment but merely lead to an increase in
the price of consumption goods and to a
decrease in the price of capital goods. Its
first effect on net balance would be to
force shifts in employment and temporarily
to decrease employment by its effect on the
capital goods industries. And its long-run
effect would he to reduce production below
the level that would otherwise have been
achieved.
The
enemies of saving are not through. They
begin by drawing a distinction, which is
proper enough, between "savings" and
"investment." But then they start to talk as
if the two were independent variables and as
if it were merely an accident that they
should ever equal each other. These writers
paint a portentous picture. On the one side
are savers automatically, pointlessly,
stupidly continuing to save; on the other
side are limited "investment opportunities"
that cannot absorb this saving. The result,
alas, is stagnation. The only solution, they
declare, is for the government to
expropriate these stupid and harmful savings
and to invent its own projects, even if
these are only useless ditches or pyramids,
to use up the money and provide employment.
There is so
much that is false in this picture and
"solution" that we can here point only to
some of the main fallacies. "Savings" can
exceed "investment" only by the amounts that
are actually hoarded in cash.*
Few people nowadays, in a modern industrial
community like the
If money is kept either in savings banks or
commercial hanks, as we have already seen,
the banks are eager to lend and invest it.
They cannot afford to have idle funds. The
only thing that will cause people generally
to in- crease their holdings of cash, or
that will cause banks to hold funds idle and
lose the interest on them, is, a s we have
seen, either fear that prices of goods are
going to fall or the fear of banks that they
will be taking too great a risk with their
principal. But this means that signs of a
depression have already appeared, and have
caused the hoarding, rather than that the
hoarding has started the depression.
Apart from this negligible hoarding of cash,
then (and even this exception might he
thought of as a direct "in- vestment" in
money itself) "savings" and "investment" are
brought into equilibrium with each other in
the same way that the supply of and demand
for any commodity are brought into
equilibrium. For we may define "savings" and
"investment" as constituting respectively
the supply of and demand for new capital.
And just as the supply of and demand for any
other commodity are equalized by price, so
the supply of and demand for capital are
equalized by interest rates. The interest
rate is merely the special name for the
price of loaned capital. I t is a price like
any other.
This whole subject has been so appallingly
confused in recent years by complicated
sophistries and disastrous governmental
policies based upon them that one almost
despairs of getting back to common sense and
sanity about it. There is a psychopathic
fear of "excessive" interest rates. It is
argued that if interest rates are too high
it will not be profitable for industry to
borrow and invest in new plants and
machines. This argument has been so
effective that governments everywhere in
recent decades have pursued artificial
"cheap money" policies. But the argument, in
its concern with increasing the demand for
capital, overlooks the effect of these
policies on the sup- ply of capital. It is
one more example of the fallacy of looking
at the effects of a policy only on one group
and forgetting the effects on another.
If interest rates are artificially kept too
low in relation to risks, funds will neither
be saved nor lent. The cheap- money
proponents believe that saving goes on
automatically, regardless of the interest
rate, because the sated rich have nothing
else that they can do with their money. They
do not stop to tell us at precisely what
personal in- come level a man saves a fixed
minimum amount regard- less of the rate of
interest or the risk at which he can lend
it.
The fact is that, though the volume of
saving of the very rich is doubtless
affected much less proportionately than that
of the moderately well-off by changes in the
interest rate, practically everyone's saving
is affected in some degree. To argue, on the
basis of an extreme ex- ample, that the
volume of real savings would not be reduced
by a substantial reduction in the interest
rate, is like arguing that the total
production of sugar would not be reduced by
a substantial fall of its price because the
efficient, low-cost producers would still
raise as much as before. The argument
overlooks the marginal saver, and even,
indeed, the great majority of savers.
The effect of keeping interest rates
artificially low, in fact, is eventually the
same as that of keeping any other price
below the natural market. It increases
demand and reduces supply. It increases the
demand for capital and reduces the supply of
real capital. It brings about a scarcity. It
creates economic distortions. It is true, no
doubt, that an artificial reduction in the
interest rate encourages increased
borrowing. I t tends, in fact, to en-
courage highly speculative ventures that
cannot continue except under the artificial
conditions that gave them birth. On the
supply side, the artificial reduction of
interest rates discourages normal thrift and
saving. It brings about a comparative
shortage of real capital. The money rate
can, indeed, be kept artificially low only
by continuous new injections of currency or
bank credit in place of real savings. This
can create the illusion of more capital just
as the addition of water can create the
illusion of more milk. But it is a policy of
continuous inflation. It is obviously a
process involving cumulative danger.
The money rate will rise and a crisis will
develop if the inflation is reversed, or
merely brought to a halt, or even continued
at a diminished rate. Cheap money policies,
in short, eventually bring about far more
violent oscillations in business than those
they are designed to remedy or prevent.
If no effort is made to tamper with money
rates through inflationary governmental
policies, increased savings create their own
demand by lowering interest rates in a
natural manner. The greater supply of
savings seeking investment forces savers to
accept lower rates. But lower rates also
mean that more enterprises can afford to
borrow because their prospective profit on
the new machines or plants they buy with the
proceeds seems likely to exceed what they
have to pay for the borrowed funds.
We come now to the last fallacy about saving
with which I intend to deal. This is the
frequent assumption that there is a fixed
limit to the amount of new capital that can
he absorbed, or even that the limit of
capital expansion has already been reached.
It is incredible that such a view could
prevail even among the ignorant, let alone
that it could be held by any trained
economist. Almost the whole wealth of the
modern world, nearly every- thing that
distinguishes it from the pre-industrial
world of the seventeenth century, consists
of its accumulated capital.
This capital is made up in part of many
things that might better be called
consumers' durable goods-auto- mobiles,
refrigerators, furniture, schools, colleges,
churches, libraries, hospitals and above all
private homes. Never in the history of the
world has there been enough of these. There
is still, with the postponed building and
outright destruction of World War II,
a desperate shortage of them. But even if
there were enough homes from a purely
numerical point of view, qualitative
improvements are possible and desirable
without definite limit in all but the very
best houses.
The second part of capital is what we may
call capital proper. It consists of the
tools of production, including everything
from the crudest axe, knife or plow to the
finest machine tool, the greatest electric
generator or cyclotron, or the most
wonderfully equipped factory. Here, too,
quantitatively and especially qualitatively,
there is no limit to the expansion that is
possible and desirable. There will not be a
"surplus" of capital until the most backward
country is as well equipped technologically
as the most advanced, until the most
inefficient factory in America is brought
abreast of the factory with the latest and
most elaborate equipment, and until the most
modern tools of production have reached a
point where human ingenuity is at a dead
end, and can improve them no further. As
long as any of these conditions remain
unfulfilled, there will be indefinite room
for more capital.
But how can the additional
capital be "absorbed"? How can it be "paid
for"? If it is set aside and saved, it will
absorb itself and pay for itself. For
producers invest in new capital goods-that
is, they buy new and better and more
ingenious tools-because these tools reduce
cost of production. They either bring into
existence goods that completely unaided hand
labor could not bring into existence at all
(and this now includes most of the goods
around us-books, typewriters, automobiles,
locomotives, suspension bridges)
;
or they
increase enormously the quantities in which
these can be produced; or (and this is
merely saying these things in a different
way) they reduce unit costs of production.
And as there is no assign. able limit to the
extent to which unit costs of production can
be reduced-until everything can be produced
at no cost at all-there is no assignable
limit to the amount of new capital that can
be absorbed.
The steady reduction of unit
costs of production by the addition of new
capital does either one of two things, or
both. It reduces the costs of goods to
consumers, and it increases the wages of the
labor that uses the new machines because it
increases the productive power of that
labor. Thus a new machine benefits both the
people who work on it directly and the great
body of consumers. In the case of consumers
we may say either that it supplies them with
more and better goods for the same money,
or, what is the same thing, that it
increases their real incomes. In the case of
the workers who use the new machines it
increases their real wages in a double way
by increasing their money wages as well. A
typical illustration is the automobile
business. The American auto- mobile industry
pays the highest wages in the world, and
among the very highest even in
And yet there
are people who think we have reached the end
of this process,*
and still others who think that even if we
haven't, the world is foolish to go on
saving and adding to its stock of capital.
It should not be difficult to
decide, after our analysis, with whom the
real folly lies.
THE LESSON RESTATED
THE LESSON
RESTATED
Economics, as we have now seen again and
again, is a science o f recognizing
secondary consequences. I t is also a
science of seeing general consequences. It
is the science of tracing the effects of
some proposed or existing policy not only on
some special interest in the short run, hut
on the general interest in the long run.
This is the lesson that has been the special
concern of this book. We stated it first in
skeleton form, and then put flesh and skin
on it through more than a score of practical
applications.
But in the course of specific illustration
we have found hints of other general
lessons; and we should do well to state
these lessons to ourselves more clearly.
In seeing that economics is a science of
tracing consequences, we must have become
aware that, like logic and mathematics, it
is a science of recognizing inevitable
implications.
We may illustrate this by an elementary
equation in algebra. Suppose we say that if
x = 5 then x + y=12. The "solution" to this
equation is that y equals 7; hut this is so
precisely because the equation tells us in
effect that y equals 7. I t does not
make that assertion directly, hut it
inevitably implies it.
What is true of this elementary equation is
true of the most complicated and abstruse
equations encountered in mathematics. The
answer already lies in the statement of the
problem. It must, it is true, be "worked
out." The result, it is true, may sometimes
come to the man who works out the equation
as a stunning surprise. He may even have a
sense of discovering something entirely new
-a thrill like that of "some watcher of the
skies, when a new planet swims into his
ken." His sense of discovery may be
justified by the theoretical or practical
consequences of his answer. Yet his answer
was already contained in the formulation of
the problem. It was merely not recognized at
once. For mathematics reminds us that
inevitable implications are not necessarily
obvious implications.
All this is equally true of economics. In
this respect economics might be compared
also to engineering. T h e n an engineer has
a problem, he must first determine all the
facts bearing on that problem. If he designs
a bridge to span two points, he must first
know the exact distance between those two
points, their precise topographical nature,
the maximum load his bridge will be designed
to carry, the tensile and compressive
strength of the steel or other material of
which the bridge is to be built and the
stresses and strains to which it may he
subjected. Much of this factual research has
already been done for him by others. His
predecessors, also, have already evolved
elaborate mathematical equations by which,
knowing the strength of his materials and
the stresses to which they will be
subjected, he can determine the necessary
diameter, shape, number and structure of his
towers, cables and girders.
In the same
way the economist, assigned a practical
problem, must know both the essential facts
of that problem and the valid deductions to
be drawn from those facts. The deductive
side of economics is no less important than
the factual. One can say of it what
Santayana says of logic (and what could be
equally well said of mathematics), that it
"traces the radiation of truth," so that
"when one term of a logical system is known
to describe a fact, the whole system
attaching to that term becomes, as it were,
incandecent."*
Now few people recognize the necessary
implications of the economic statements they
are constantly making. When they say that
the way to economic salvation is to increase
"credit," it is just as if they said that
the way to economic salvation is to increase
debt: these are different names for the same
thing seen from opposite sides. When they
say that the way to prosperity is to
increase farm prices, it is like saying that
the way to prosperity is to make food dearer
for the city worker. When they say that the
way to national wealth is to pay out
governmental subsidies, they are in effect
saying that the way to national wealth is to
increase taxes. When they make it a main
objective to increase exports, most of them
do not realize that they necessarily make it
a main objective ultimately to increase
imports. When they say, under nearly all
conditions, that the way to recovery is to
increase wage rates, they have found only
another way of saying that the way to
recovery is to increase costs of production.
It does not necessarily follow, because each
of these propositions, like a coin, has its
reverse side, or because the equivalent
proposition, or the other name for the
remedy, sounds much less attractive, that
the original proposal is under all
conditions unsound. There may be times when
an increase in debt is a minor consideration
as against the gains achieved with the
borrowed funds; when a government subsidy is
unavoidable to achieve a certain purpose;
when a given industry can afford an increase
in production costs, and so on. But we ought
to make sure in each case that both sides of
the coin have been considered, that all the
implications of a proposal have been
studied. And this is seldom done.
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 un- sophisticated
common sense. It would not occur to any- one
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 dissipation
brings prosperity.
"What is prudence in the conduct of every
private family," said Adam Smith's strong
common sense in reply to the sophists of his
time, "can scarce be folly in that of a
great kingdom." But lesser men get lost in
complications. They do not re-examine their
reasoning even when they emerge with
conclusions that are palpably absurd. The
reader, depending upon his own beliefs, may
or may not accept the aphorism of Bacon that
"A little philosophy inclined man's
mind to atheism, but depth in philosophy
bringeth men's minds about to religion." it
is certainly true, however, that a little
economics can easily lead to the paradoxical
and preposterous conclusions we have just
rehearsed, but that depth in economics
brings men back to common sense. For depth
in economics consists in looking for all the
consequences of a policy in- stead of merely
resting one's gaze on those immediately
visible.
In the course of our study, also, we have
rediscovered an old friend. He is the
Forgotten Man of William Graham Sumner. The
reader will remember that in Sumner's essay,
which appeared in 1883:
As soon as A observes
something which seems to him to be wrong,
from which X suffering is, A talks it over
with B, and A and B then propose to get a
law passed to remedy the evil and help X.
Their law always pro- poses to determine
what C shall do for X or, in the better
case, what A, B and C shall do for X.
. . .
What I want to do is to look up C. . . . I
call him the For- gotten Man. . . .
He is the man who never is
thought of. He is the victim of the
reformer, social speculator and
philanthropist, and I hope to show you
before I get through that he deserves your
notice both for his character and for the
many burdens which are laid upon him.
It is an historic irony that when this
phrase, the For- gotten Man, was revived in
the nineteen thirties, it was applied, not
to C, but to X ; and C, who was then being
asked to support still more X's, was more
completely for- gotten than ever. It is C,
the Forgotten Man, who is al- ways called
upon to stanch the politician's bleeding
heart by paying for his vicarious
generosity.
Our study of our lesson would not he
complete if, before we took leave of it, we
neglected to observe that the fundamental
fallacy with which we have been concerned
arises not accidentally hut systematically.
It is an almost inevitable result, in fact,
of the division of labor.
In a primitive community, or among pioneers,
before the division of labor has arisen, a
man works solely for himself or his
immediate family. What he consumes is
identical with what he produces. There is
always a direct and immediate connection
between his output and his satisfactions.
But when an elaborate and
minute division of labor has set in, this
direct and immediate connection ceases to
exist. I do not make all the things I
consume but, perhaps, only one of them. With
the income I derive from making this one
commodity, or rendering this one service, I
buy all the rest. I wish the price of
everything I buy to he low, but it is in my
interest for the price of the commodity or
services that I have to sell to be high.
Therefore, though 1 wish to see abundance in
everything else, it is in my interest for
scarcity to exist in the very thing that it
is my business to supply. The greater the
scarcity, compared to everything else, in
this one thing that I supply, the higher
will be the reward that I can get for my
efforts.
This does not necessarily mean that I will
restrict my own efforts or my own output. In
fact, if I am only one of a substantial
number of people supplying that commodity or
service, and if free competition exists in
my line, this individual restriction will
not pay me. On the contrary, if I am a
grower of wheat, say, I want my particular
crop to be as large as possible. But if I am
concerned only with my own material welfare,
and have no humanitarian scruples, I want
the output of all other wheat growers to be
as low as possible; for I want scar. city in
wheat (and in any foodstuff that can be
substituted for it) so that my particular
crop may command the highest possible price.
Ordinarily these selfish feelings would have
no effect on the total production of wheat.
Wherever competition exists, in fact, each
producer is compelled to put forth his
utmost efforts to raise the highest possible
crop on his own land. In this way the forces
of self-interest (which, for good or evil,
are more persistently powerful than those of
altruism) are harnessed to maximum output.
But if it is possible for wheat growers or
any other group of producers to combine to
eliminate competition, and if the government
permits or encourages such a course, the
situation changes. The wheat growers may be
able to persuade the national government-or,
better, a world organization-to force all of
them to reduce pro rata the acreage planted
to wheat. In this way they will bring about
a shortage and raise the price of wheat; and
if the rise in the price per bushel is
proportionately greater, as it well may be,
than the reduction in output, then the wheat
growers as a whole will be better off. They
will get more money; they will be able to
buy more of everything else. Everybody else,
it is true, will be worse off; because,
other things equal, everyone else will have
to give more of what he produces to get less
of what the wheat grower produces. So the
nation as a whole will be just that much
poorer. It will be poorer by the amount of
wheat that has not been grown.
But those who look only at
the wheat farmers will see a gain, and miss
the more than offsetting loss. And this
applies in every other line. If because of
un- usual weather conditions there is a
sudden increase in crop of oranges, all the
consumers will benefit. The world will be
richer by that many more oranges.
And what applies to changes in supply
applies to changes in demand, whether
brought about by new inventions and
discoveries or by changes in taste. A new
cotton-picking machine, though it may reduce
the cost of cotton underwear and shirts to
everyone, and increase the general wealth,
will throw thousands of cotton pickers out
of work. A new textile machine, weaving a
better cloth at a faster rate, will make
thousands of old machines obsolete, and wipe
out part of the capital value invested in
them, so making poorer the owners of those
machines. The development of atomic power,
though it could confer unimaginable
blessings on mankind, is something that is
dreaded by the owners of coal mines and oil
wells.
Just as there is no technical improvement
that would not hurt someone, so there is no
change in public taste or morals, even for
the better, that would not hurt someone. An
increase in sobriety would put thousands of
bartenders out of business. A decline in
gambling would force croupiers and racing
touts to seek more productive occupations. A
growth of male chastity would ruin the
oldest profession in the world.
But it is not merely those who deliberately
pander to men's vices who would be hurt by a
sudden improvement in public morals. Among
those who would be hurt most are precisely
those whose business it is to improve those
morals. Preachers would have less to
complain about; reformers would lose their
causes: the demand for their services and
contributions for their support would de-
cline. If there were no criminals we should
need fewer lawyers, judges and firemen, and
no jailers, n o lock- smiths, and (except
for such services as untangling traffic
snarls) even no policemen.
Under a system of division of labor, in
short, it is difficult to think of a greater
fulfillment of any human need which would
not, at least temporarily, hurt some of the
people who have made investments or
painfully acquired skill to meet that
precise need. If progress were completely
even all around the circle, this antagonism
between the interests of the whole community
and of the specialized group would not, if
it were noticed at all, present any serious
problem. If in the same year as the world
wheat crop increased, my own crop increased
in the same pro- portion; if the crop of
oranges and all other agricultural products
increased correspondingly, and if the output
of all industrial goods also rose and their
unit cost of production fell to correspond,
then I as a wheat grower would not suffer
because the output of wheat had in- creased.
The price that I got for a bushel of wheat
might decline. The total sum that I realized
from my larger out- put might decline. But
if I could also because of increased
supplies buy the output of everyone else
cheaper, then I should have no real cause to
complain. If the price of everything else
dropped in exactly the same ratio as the
decline in the price of my wheat, I should
be better off, in fact, exactly in
proportion to my increased total crop; and
everyone else, likewise, would
benefit proportionately from the increased
supplies of all goods and services.
But economic progress never has taken place
and probably never will take place in this
completely uniform way. Advance occurs now
in this branch of production and now in
that. And if there is a sudden increase in
the supply of the thing I help to produce,
or if a new invention or discovery makes
what I produce no longer necessary, then the
gain to the world is a tragedy to me and to
the productive group to which I belong.
Now it is often not the diffused gain of the
increased supply or new discovery that most
forcibly strikes even the disinterested
observer, but the concentrated loss. The
fact that there is more and cheaper coffee
for everyone is lost sight of; what is seen
is merely that some coffee growers cannot
make a living at the lower price. The in-
creased output of shoes at lower cost by the
new machine is forgotten; what is seen is a
group of men and women thrown out of work.
It is altogether proper-it is, in fact,
essential to a full understanding of the
problem-that the plight of these groups be
recognized, that they be dealt with
sympathetically, and that we try to see
whether some of the gains from this
specialized progress cannot be used to help
the victims find a productive role else-
where.
But the solution is never to reduce supplies
arbitrarily, to prevent further inventions
or discoveries, or to support people for
continuing to perform a service that has
lost its value. Yet this is what the world
has repeatedly sought to do by protective
tariffs, by the destruction of machinery, by
the burning of coffee, by a thousand
restriction schemes. This is the insane
doctrine of wealth through scarcity.
It is a doctrine that may always be
privately true, un- fortunately, for any
particular group of producers considered in
isolation-if they can make scarce the one
thing they have to sell while keeping
abundant all the things they have to buy.
But it is a doctrine that is always publicly
false. It can never be applied all around
the circle. For its application would mean
economic suicide.
And this is our lesson in its most
generalized form. For many things that seem
to be true when we concentrate on a single
economic group are seen to be illusions when
the interests of everyone, as consumer no
less than as producer, are considered.
To see the problem as a
whole, and not in fragments: that is the
goal of economic science.
A NOTE ON
BOOKS.
Those
who desire to read further in economics
should turn next to some work of
intermediate length. Good volumes in this
class, which will bring the reader abreast
of recent refinements in economic thought,
are Frederic Benham's Economics (525 pages)
and Raymond T. Bye's Principles of Economics
(632 pages). Both of these are widely used
as college textbooks.
More readable and entertaining, though the
reader may have to search for them in
second-hand channels, are some of the older
books, like Edwin Canaan's little manual on
Wealth (274 pages). The same writer's book
on Money has recently been reprinted. John
Bates Clark's Essentials of Economic Theory
will still be found remarkably clear and
cogent.
After reading one or two of
these volumes the student who aims at
thoroughness will go on to some two-volume
work. When Ludwig von Mises' new treatise on
economics, now in preparation, appears, it
will extend beyond any previous work the
logical unity and precision
of
modern
economic analysis. Taussig's Principles of
Economics, though on older lines, will still
be found clear, simple and sensible. Not to
be missed is Philip Wicksteed's The Common
Sense of Political Economy, as remarkable
for the ease and lucidity of its style as
for the penetration and power of its
reasoning.
Those who are interested in working through
the economic classics might find it more
profitable to do this in the reverse of
their historical order. Presented in this
order, the chief works to be consulted, with
the dates of their first editions, are: John
Bates Clark, The Distribution of wealth,
1899; Alfred Marshall, Principles of
Economics, 1890; Eugen von Bohm-Bawerk,The
Positive Theory of Capital, 1888; W. Stanley
Jevons, The Theory of Political Economy,
1871; John Stuart Mill, Principles of
Political Economy, 1848; David Ricardo,
Principles of Political Economy and
Taxation,1817; and Adam Smith, The Wealth of
Nations, 1776.
Among recent works which discuss current
ideologies and developments from a point of
view similar to that in the present volume
are: Friedrich A. Nayek, The Road to
Serfdom; Lionel Robbins, Economic Planning
and Inter- national Order; Wilhelm Ropke,
International Economic Disintegration; John
Jewkes, Ordeal by Planning; and Ludwig von
Mises, Planned Chaos. Mises' Socialism is
the most thorough and devastating critique
of collectivist doctrines ever written. The
reader should not overlook, finally,
Frederic Bastiat's classic Economic
Sophisms, and particularly his essay on What
Is Seen and What Is Not Seen.
Economics broadens out in a hundred
directions. Whole libraries have been
written on specialized fields alone, such as
money and banking, foreign trade and foreign
exchange, taxation and public finance,
government control, capitalism and
socialism, wages and labor relations,
interest and capital, agricultural
economics, rent, prices, profits, markets,
competition and monopoly, value and utility,
statistics, business cycles, wealth and
poverty, SO- cia1 insurance, housing, public
utilities, mathematical economics, studies
of special industries and of economic
history. But no one will ever properly
understand any of these specialized fields
unless he has first of all acquired a firm
grasp of basic economic principles and the
complex interrelationship of all economic
factors and forces. When he has done this by
his reading in general economics, he can be
trusted to find the right books in his
special field of interest. * Reason and Nature (1931) p. X
*
'New
York Times,
*
Testimony of Dan H. Wheeler,
director of the Bituminous Coal
Division. Hearings on extension of
the Bituminous Coal Act of 1937.
* 1. A . C. Pigou, The Theory o f Unemployment (1933), p. 96. 2. ¦ Paul H. Douglas, The Theory of Wages (1934), p. 501. * 1. Cf. Frank H. Knight, Risk, Uncertainty and Profit (1921). * The reader interested in an analysis of them should consult B. M. Anderson, The Value of Money (1917; new edition, 1936) or Ludwig von Mises, The Theory of Money and Credit (America edition, 1935).
*
2. Cf. John Stuart Mill,
Principles of Political Economy
(Book 3, Chap. 14, par. 2) ; Alfred
Marshall, Principles of Economics
(Book
VI, Chap. XIII, sec. 1 0 ) ,and
Benjamin M . * 'Karl Rodbertus, Overproduction a n d Crises (18501, p . 51 * 2. Cf. Hartley Withers, Poverty and Waste (1914).
*
Historically 20 per cent would
represent approximately the gross
amount of the gross national
product devoted each year to capital
formation (excluding consumer
equipment). When allowance is made
for capital consumption. However,
net annual savings have been closer
to 12 percent. Cf. George Terbough,
The Bogey of Economic Maturity
(1945). For 1977 gross private
domestic investment was officially
estimated at 16 percent of the gross
national product.
* Many of the differences between economists in the diverse views now expressed on this subject are merely the result of differences in definition. "Savings" and "investment" may be so de- fined as to be identical, and therefore necessarily equal. Here I am choosing to define "savings" in terms of money and "investment" in terms of goods. This corresponds roughly with the common use of the words, which is, however, not always consistent. * 'For a statistical refutation of this fallacy consult George Terborgh, The Bogey of Economic Maturity (1945). * 'George Santayana,The Realm of Truth (1938), p. 16
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Copyright (c) 2007 Rich Barrett |