Health, Wealth and Taxes

By George P. Brockway, originally published October 4, 1993

IT SAYS LITTLE for the presumed intelligence of American citizens that the opening dispute over President Clinton’s health care plan turned on whether it will be mainly financed by a payroll tax or a compulsory insurance premium paid by corporations. The fact of the matter was not at issue – only the name.

By any name, the probable method of financing will impede business enterprise, discourage hiring entry-level workers, encourage hiring part-time workers, put a damper on pay raises for full-time workers kept on the payroll, deepen the stagnation of our economy, and reduce our longed- for ability to compete in the new global village with Mexico and South Korea. Since these unpleasant consequences will be debated ad nauseam, it is almost certain that the tax (as House Minority Whip Newt Gingrich of Georgia is right-a first!-in calling it) will be kept low, that the system will be inadequately funded, and that therefore it will be better than what we have now only in details, many of which might have been managed with less uproar.

You will note that the troubles mentioned will flow from the system of taxation, not from the way medical “suppliers” are paid or from the way medical care is “delivered.” It may be that these elements will be faulty, too, but those are separate questions.

We Americans talk endlessly about taxes, yet all we understand about them is that they are an expense. They cost money. Other things being equal, we are better off the fewer expenses we have to pay. In the case of taxes, of course, things are seldom equal. Not even Jack Kemp, who is opposed to all taxes in principle, could get along in a world without police and courts and armed forces and paved roads and the myriad other necessities taxes provide. It would be nice if we could enjoy these services without paying for them, and a few of us do manage to avoid some taxes. On the whole, though, the folk saying is correct, and taxes are as certain as death.

Since it does no good to sulk and stamp our feet and sob that we don’t like taxes, it would be the better part of wisdom to inquire what kinds of taxes are best for what purposes. One of President Bush‘s most irresponsible acts was his promise of no new taxes, and one of the electorate’s most irresponsible acts was the single-issue voting against him for breaking that promise. Some level of taxation is unavoidable, and we will surely need more funds to pay our medical bills. Still, some new taxes would be preferable to others.

In general, there are three kinds of taxes: (l) taxes on what exists, such as property taxes, estate taxes and poll taxes; (2) taxes on what is done, such as sales taxes, payroll taxes, excise taxes, franchises, and tariffs; and (3) taxes on income, such as personal income taxes and corporate profits taxes.

The Clinton medical plan will be paid for by taxes of the second sort-payroll taxes and excise taxes (a.k.a. sin taxes). All taxes on doing something can be avoided by doing nothing. But if you have a job, or hire someone to do a job, or buy something, then you pay a tax.

Such taxes have the virtue of being relatively easy to collect, but that’s about their only virtue. They are plainly and inescapably costs of doing business. The fewer people you employ, the lower your payroll taxes, so you are slow to hire additional employees. The less you buy, the less you have to pay in excise taxes that are invariably passed on to the consumer. It is a sad fact that most economists think it’s good and, indeed, “natural” to reduce employment (it improves “productivity”), and that it’s good to discourage consumption (it encourages “saving”). We have examined these professional delusions before and shall no doubt do so again; here let’s merely observe that payroll taxes will not constitute an improvement on, or even much of a change from, our current system of financing health care.

At present, medical insurance is a fringe benefit in most medium and large businesses. Because of skyrocketing costs, benefits are generally being reduced. Rising insurance premiums are also a factor in businesses deciding to rely as much as possible on part-time employees who don’t get the fringe benefits. There is no question that medical insurance is a tremendous load for businesses to carry, and that it operates like the Social Security tax as a cost of employing people. American automobile company executives claim medical insurance adds $2,000 or more to the cost of a new car, making it hard for them to compete in the global economy everyone talks about. Substituting some form of payroll tax for the insurance premiums will merely guarantee that every American enterprise is carrying the same burden; it will not reduce the weight.

Moreover, payroll taxes are passed back to the employee – not literally, perhaps, but effectively in the form of an argument against pay raises. And that’s not all. Businesses usually try to set prices to cover costs (including payroll taxes), plus a planned or “normal” profit (figured as a percentage of costs). If costs go up 10 per cent, and if “normal” profit is I0 per cent, prices must go up 11 per cent. Granted, no one can calculate that closely, because no one can tell what the future will bring; nevertheless, both profits and prices tend to move up faster than costs.

Now, you might think that spokesmen for industry would be 100 per cent opposed to taxes that make them raise prices and become less competitive. As it happens, they are about 50 per cent opposed – and it is this ambivalence in their opposition that gives the Clinton plan a chance to be enacted. What industry spokesmen are 100 per cent opposed to is the third kind of tax: a tax on personal income or corporate profits.

At first glance, the corporate tax seems ideal. You don’t have to pay it unless you have a profit.  It won’t interfere with your plan to start a new enterprise or expand an old one. It won’t bankrupt you. It is the next-to-the-last payout you make-and there’s the hitch. For the last payout you make is profits. It is a simple arithmetical fact that your after-tax profits will be lower than your before-tax profits.

THIS IS WHERE the morale of our system often breaks down, because the interests of the owners of an enterprise diverge from the interests of the enterprise itself and of most of its employees. The enterprise and its employees want to stay in business. The owners – the vast majority of them don’t even have a clear idea of what the enterprise does. They simply got touted onto it by their stockbroker and added it to their portfolio. Their connection may be more abstract than that: A mutual fund they own a few shares of, or a pension plan they participate in, may have a position in the enterprise.

The situation calls to mind John Kenneth Galbraith‘s observation in Economics and the Public Purpose. Especially in big business, he pointed out, the corporate objective had changed from profit maximization to protection of “the planning system and its technicians.” In the 20 years since Galbraith’s groundbreaking book was published, another shift has occurred, largely as a result of the takeover and buyout frenzy of the 1980s.

Control of both the directors and management of many a big corporation now rests with investment bankers or their representatives, who, knowing little about the day-to-day operation of the business they have acquired, rely on a handful of executives to see that their cash cow is properly milked or, it may be, bilked. To ensure the devotion of the executives, the bankers generously reward them with absurd salaries, fantastic stock options, and even the last word in medical insurance, making them multimillionaires too.

There is one thing that is hated by multimillionaires like these: the personal income tax. They are rich, they congratulate themselves on their richness, and they think it unfair that they should be soaked for it. This sense of unfairness or isolation from the rest of us further alienates investors and their executives from the companies they control and helps account for the puzzling acquiescence of many of them in payroll taxes that can only hurt American business.

That they clearly understand how payroll taxes hurt is apparent from their vehement arguments against raising the minimum wage, which also affects prices, though to a lesser degree. But they have supported increases in the regressive Social Security tax, because it doesn’t much bother them personally. For the same reason they will support a payroll-based health care tax in preference to using the income tax, which might force them to pay their share of the load.

The final irony is that the true-blue believers in laissez-faire will attack President Clinton’s plan as the proposal of a liberal. Actually, it is the middle-of-the road proposal of a middle-of-the-roader. The President’s program is certainly better than what his opponents have proposed, but my mother always warned me that it wouldn’t greatly improve my health to play in the middle of the road.

The New Leader

The Illogic of Leanness and Meanness

By George P. Brockway, originally published November 2, 1992

                EDITORIALWRITERS and speech makers are fond of the expression “lean and mean” (or, sometimes, “mean and lean”). I suspect it is the rhyme that appeals to them. They can’t possibly be allowing themselves to think about what happens to people who work (or used to work) for lean and mean corporations. They can’t possibly give a satisfactory answer to the question John Kenneth Galbraith asks in Affluent Society: “Why should life be intolerable to make things of little urgency?”

Nor can they possibly be wondering whether lean and mean corporations make this a better world to live in, even for their customers and their stockholders. St. Augustine wrote: “Every disorder of the soul is its own punishment,” and meanness is certainly a disorder of the soul.

Yes, I know: We are told we will have to be lean and mean to compete in the global economy of the 21st century. Some commentators say that the global economy and the competition are already here.  President Bush inclines to this view; President-elect Clinton inclines to this view; and I suspect that Citizen Perot had something similar in mind. At any rate, he had a lean and hungry look.

Fifty years ago another self-made man, Wendell L. Willkie, had a vision of One World in which we would all help each other. Willkie was a lawyer and CEO of a giant utility holding company before he became the 1940 Republican Presidential candidate (Harold Ickes, Franklin D. Roosevelt’s Secretary of Interior, called him the “barefoot boy from Wall Street”); he was no starry starry-eyed innocent. Yet his touchstone was cooperation, not competition. The world seems to be different now, and not as nice. What happened?

It is, I think, a case of Samuel Johnson being right again: “Hell is paved with good intentions.” The economic situation we find ourselves in is mean enough to have at least some of the attributes of hell, and it is paved in part with free trade, a theory whose intentions were the best in the world. I say “were” because I’m not so sure they’re all so good today.

Practically every economist is in favor of free trade, and the fraternity has been joined by a broad range of right-thinking, public-service citizens groups, from the Council on Foreign Relations to the League of Women Voters. The argument for free trade is simple and strong: All of us are consumers, and therefore benefit from cheap consumption goods. Tariffs, subsidies and the like increase the costs of consumption goods, and therefore are bad. A less materialistic reason for open international trade is that it is said to make for peace, although perhaps not in the Middle East.

The foregoing arguments, including Willkie’s, may be classified as general or ideological. There are also technical arguments in support of free trade – for example, the theory that cheap imports are both anti-inflationary in themselves and anti-inflationary in their competitive pressure on domestic prices. This notion was a favorite of former Federal Reserve Board Chairman Paul A. Volcker. The most famous technical argument is David Ricardo‘s so-called law of comparative advantage. Unhappily, there isn’t sufficient space here to discuss this “law,” except to say that it consists mostly of exceptions[1].

For the moment I merely want to register the point that each of the arguments, the ideological and the technical, depends – as does standard economics generally – on three assumptions: that full employment actually obtains here and now, that chronological time does not matter, and that all public questions are, au fond, economic questions (or, as Marx had it, that the state will wither away and need not be taken seriously).

Free trade as an ideal has had a long run on the American political stage, starting at least as early as the Boston Tea Party. What has happened recently is not inconsequential. Even as late as 1950, imports were less than 5 per cent of our GNP (exservices): currently they are running at about 16 per cent. Until 1977, American exports generally exceeded imports; I don’t have to tell you that the situation is different now. Nor do I have to read you a list of American industries that have been decimated by foreign competition. Those who say that the global economy is upon us are not far wrong. I am persuaded, however, that what they propose to do about it is indeed far wrong.

Essentially, they make two proposals. The first is the lean and mean thing, to which I will return. The second involves empanelling a committee of government officials, bankers, businessmen, economists, engineers, scientists, and the obligatory representatives of the general public (but not including Ralph Nader) to recommend research and development projects to the government, and then to pass judgment on the results of the research and propose ways of implementing the development of approved ideas. The government’s role would be crucial, because of the antitrust laws and because the research is thought likely to cost more than any corporation, regardless of its size, could afford. In addition, it is observed that the largest corporations tend to devote less and less money to research.

The scheme has both practical and theoretical flaws. The chief practical flaw is that whatever good ideas the committee might come up with would be immediately available worldwide. Just as the American television set industry quickly slipped into the Pacific sunset, so would the new wonder industries.

It is inconceivable, for instance, that giant American corporations would be excluded from the marvelous new industries thought up by the committee. Our giant corporations, however, are not really American; they are multinational. They are motivated by the self-interest of the stockholders (in the conventional theory) or of the managers (in Galbraith’s view); in either case, their devotion is neither to the nation nor to the nation’s workers.

Consequently, upon learning of the miraculous new product along with everybody else, if it is truly miraculous, the responsibility of these corporations to their stockholders or to themselves would require them to start producing it in the least expensive way. And where would they do that? Wherever in the world they found the most stimulating subsidies, the most alluring tax rates and the cheapest labor.

Wherever in the world that might be, it would not be in the United States of America, for the inescapable reason that, at least so far, the American standard of living is higher than that of any other first-rank country. The cheapest labor will not be found here unless we destroy ourselves. On the MacNeill Lehrer Newshour a few months ago, U.S. Trade Representative Carla Hills seemed to believe the Mexican poverty rate was only about 11 per cent (ours was 13.5 per cent two years ago and has undoubtedly risen since). She must have been thinking of some Mexico other than the one I’ve visited.

A MINOR practical flaw in the committee scheme is inherent in the very idea of creating such a group. Schumpeter counted the mature corporation’s addiction to committee decisions a prime reason for decline, and we all know the absurdity that would result if a committee tried to design an animal. Perhaps more important, we know from experience that a committee is quickly co-opted by those with the liveliest immediate interest in the outcome of its deliberations.

In the proposed body the industry and banking representatives may not be the smartest or the best informed, but they surely will have their minds concentrated on the fate of their sector of the economy, and they will certainly wield the direct and indirect power that comes with enormous wealth. In Japan, captains of industry respect the authority of even minor bureaucrats; in the United States, money talks.

Beyond this, the committee approach has a serious theoretical flaw in that it contradicts the very reasons for its formulation. These, it should be kept in mind, are (1) the decline of American industry because of foreign competition, and (2) the presumed impossibility or unacceptability of self-protection in any form.

The conventional charge against self protection is that it interferes with and distorts the natural course of trade, thus making for inefficient if not altogether wasteful use of resources. Publicists reinforce the charge with the cliché that a man knows better what to do with his money than does some bureaucrat in Washington. Yet if the charge and the cliché were valid, there would be nothing to be done about the decline of American industry. It would be natural and inexorable. Further, it would assure the “efficient” use of resources and be a necessary contribution to the wealth and happiness of mankind. Some people would no doubt be hurt by it, but you can’t make an omelet without breaking eggs.

On the premises, there is no more place for a reindustrializing committee than there is for self-protection. If the committee wouldn’t interfere with the natural marketplace, what would it do? Its whole purpose is to interfere in a large and comprehensive way. The logic of the scheme is absurd. Major premise: American industry is being ravaged by foreign competition. Minor premise: Self-protection is unacceptable because it interferes with the free market. Conclusion: A committee should be empaneled to interfere with the free market. What kind of logic is that?

The lean-and-mean logic is similar. Major premise: The American standard of living will be ravaged by foreign competition. Minor premise: Self-protection is unacceptable because it interferes with the free market. Conclusion: We should make corporations lean by firing people, make them mean by working the surviving employees harder for less pay, and thereby make ourselves miserable without help from anyone else.

I find it odd that standard economics, based as it is on self-interest, should find self-protection invariably reprehensible.

The New Leader

[1] This link includes references to the Law of Comparative Advantage in other Dismal Science articles

Bunk About Junk

By George P. Brockway, originally published April 30, 1990

A RECENT EDITORIAL in the New York Times opened with these words: “Michael Milken is a convicted felon. But he is also a financial genius who transformed high-risk bonds junk bonds into a lifeline of credit for hundreds of emerging companies. Snubbed by the banks, these businesses would otherwise have shriveled …There is no condoning Mr. Milken’s criminality. But if overzealous government regulators overreact by dismantling his junk-bond legacy, they will wind up crushing the most dynamic parts of the economy.”

This reminded me of a story about Henry J. Raymond, the Times’ founding editor and a member of Congress. One day he was prowling the House floor, trying to arrange a pair on an important upcoming vote, so he could return to New York on business. Old Thad Stevens (one of my heroes) asked, “Why doesn’t the gentleman pair with himself? He’s been on both sides of the question already.” Raymond’s successors seem to be straining to be on both sides of the junk-bond question.

For my part, I’m ready to grant that Milken is (or was) a crackerjack salesman and a mighty cute operator. But a financial genius he was not. Certainly he was not the first investment banker (what an impressive-sounding job description!) to sell carloads of not-of-investment-grade securities (see “Junk Bonds and Watered Stock,” NL, March 24, 1986). Nor is the New York Times the first journal to discover virtue in such super salesmanship. Nor, I daresay, is this the first time the Times itself has made such a discovery. Junk bonds are a slight variation on a very old theme, played at least as early as the Mississippi Bubble and the South Sea Bubble, both of which burst in 1720.

I’m also ready to grant that a lot of emerging companies have been snubbed by banks, yet I rather wonder why. Having paid casual attention to some banks’ advertising campaigns, I was under the impression that nothing was more likely to make a banker’s day than an opportunity to lend a helping hand to a bright but inexperienced young woman with a new idea for a flower shop, or to a similarly energetic young man eager to play a part in the great drama of American business. If the banks weren’t seizing these opportunities, what were they doing with the money they persuaded us to deposit with them?

Well, one thing they did was make Milken’s junk-bond business possible. They were no big buyers of junk bonds themselves (although the savings and loans snapped up about a tenth of those issued). Instead, they supplied bridge loans. When Robert Campeau made his deals to buy the Allied and Federated department store chains, he did not put up much cash. He counted on selling junk bonds, and he knew that would take a little while, especially since it was important to wait for the moment when the market was right. The banks loaned him the money to bridge that gap. After the bonds were sold, the banks would be paid off, handsomely.

The trouble was, it turned out that the junk couldn’t be sold, at least not at the necessary price; so the banks involved couldn’t be paid off. They were stuck with nonperforming loans, and Campeau’s stores took refuge in bankruptcy. There are recurring rumors that one of the banks is on the verge of bankruptcy, too. Junk bonds aren’t doing a job the banks are falling down on; the banks are in fact doing the job indirectly by making all those bridge loans. The banks are essential players in the junk-bond game.

Not surprisingly, the Federal Reserve Board (which is responsible for the availability of credit) doesn’t see a problem here, anyhow. The Board has just reported: “There is little evidence that a ‘credit crunch’ is developing; the majority of businesses say they have not seen any change in credit terms and have had no trouble getting credit.  Where credit tightening by banks and thrift institutions has been noted, however, it has mainly affected newer small businesses and the real estate industry.” A medical researcher would scorn that diagnosis as anecdotal. It doesn’t mean much to say a “majority” of businesses have no trouble with credit; 49 per cent could be having a lot of trouble.

Whatever the situation, we can be sure that the “newer small businesses” turned away by the commercial banks are also unable to find an investment banker ready to float junk bonds for them. The junk bond market being thin and precarious, a $3 million issue is about the smallest anyone will undertake. This assumes a company with upwards of $15 million or $20 million in annual sales. It is not the sort of stuff that made Milken notorious, but it is considerably more than can be expected from most newer small businesses.

A new small business has always had a tough time and always will, for the reason suggested by John Maynard Keynes. “If human nature felt no temptation to take a chance,” he wrote, “no satisfaction (profit apart) in constructing a railway, a mine, or a farm, there might not be much investment merely as a result of cold calculation.” Every new enterprise faces a high probability of failure.

Real estate, though, is a key industry. New Building Permits Issued is one of the “leading indicators” of the economy. No prosperity lasts long if real estate does not prosper. Moreover, we have great need of it. Not only do we have uncounted millions of homeless and ill housed; we are unable, in this supposedly family-oriented society, to provide enough affordable housing for young couples, employed and upwardly mobile though both partners may be.

Still, as everyone knows, real estate loans are prominent among the troubles of savings and loans and of commercial banks like the one pushed to the brink by the Campeau fiasco. Why do the loans go bad? Not because the housing is not wanted or not needed, and only partly because prices are too high. It is the high carrying charges that are to blame. Real estate loans go bad for the same reason junk bonds go bad. The interest rates are usurious. The usury affects real estate developers (another impressive job description) and contractors as well as potential buyers, and commercial construction as well as residential. High interest rates are a main factor of high real estate prices – and of high furniture and food and clothing prices, too.

Interest charges paid by the nonfinancial sectors of the economy are now in excess of 20 per cent annually. They were only 4.9 per cent of the GNP in 1950, rising to 7.2 per cent in 1960, to 10.1 per cent in 1970, and to 15.0 percent in 1980. These great leaps forward, culminating in today’s 20 per cent, didn’t just happen. They were carefully fine-tuned by the Federal Reserve Board.

Why did the Board members do it? They have certainly told us enough times. They’ve been fighting inflation. Unfortunately, the fight has not been remarkably successful. You can see that from the fact that the Consumer Price Index, which stood at 24.1 in 1950, reached 126.1 by last December-an increase of 523 per cent in the 40 years in question. (As I’ve remarked before, this figure seems to me too low; the food, clothing, shelter, transportation, education, medicine and entertainment I buy have all increased much more than that. But let that pass.)

HIGH INTEREST becomes a self-fulfilling prophecy. What is prophesied is the probable failure of the borrowers. The probability is a risk the lenders must protect themselves from. They protect themselves by charging even higher interest. That, naturally, increases the risk of failure.

Abstractly there is no end to the escalation of interest rates, for there is no end to the escalation of risk. Indeed, in a sort of Malthusian progression, risk increases geometrically while rates increase arithmetically. Actually, of course, the escalation does have an end, because potential borrowers are driven off. That may be prudence, but foreclosing production (or consumption) does not make for prosperity.

It all comes back to the nation’s monetary policy – its rates and rules and regulations. Deregulation, combined with tightened credit, results in escalation of rates. Escalation of rates discourages production and encourages speculation. Junk bonds are just one of the forms speculation takes. Junk bonds are the creation of the nation and of the Federal Reserve Board (which is, absurdly, an independent power), not of the genius of a super salesperson.

There is another issue here. The Times thinks that junk bonds are good because they force companies to become more efficient (and hence more “competitive”) in order to payoff the high interest charges. If this tale isn’t false, I wish somebody would cite a few shining examples.

There are certainly examples on the other side, Allied and Federated department stores being first among them. Both chains were long established. I know, because in the days of my youth I spent many gold-bricking hours waiting in their sample rooms to see buyers. They were also successful. They’re not successful now.

Furthermore, the usual test of efficiency is a fat bottom line, and the quickest way to fatten the bottom line is to fire some people and put a leash on the rest. But as John Kenneth Galbraith argued years ago in The Affluent Society, an economy that makes life unpleasant for people is something we don’t need. If the virtue of junk bonds is that they are a sort of handicap inspiring efficiency, why not try a different handicap by giving all the working stiffs a raise? It used to be said that management’s first test was meeting the payroll. Why wouldn’t meeting a bigger payroll be a better test than paying higher interest?

 The New Leader

Choking to Death on Cream

Originally published January 27, 1986

ON A RECENT Sunday the New York Times ran a long story headlined, “Waking Up to the Glut Economy.” A series of  “graphics” preceding the text dramatized its major points: More of us are unemployed than in any pre-Reagan year since World War II; more downtown office space is vacant than in recent decades; there are excess supplies of oil and of most basic metals; our grain stocks have reached record levels; we have more computers than we know what to do with; despite billions said to have been spent on  productivity, our trade balance continues to worsen; and we have the largest reserve of unused production capacity since the ’30s.

Those facts certainly add up to what a layman thinks of when he uses the word “glut.” But I have a suspicion the headline writer had more than layman’s language in mind. For “glut” is a highly charged word in the history of economic thought. It was-given currency in 1803 by Jean- Baptiste Say (or his translator), of whom we’ve spoken several times before. The curious thing about Say is that he thought a universal glut impossible. My guess is that the headline writer was slyly calling attention to yet another failure of Say’s Law. I wish I thought the Times’ readers got the point.

As John Kenneth Galbraith told us in American Capitalism, “Whether a man accepted or rejected Say’s Law was, until well into the 1930s, the test of whether he was qualified for the company of reputable scholars or should be dismissed as a monetary crank.” When Galbraith published the first edition of American Capitalism in 1952, the Great Depression was scarcely over a decade in the past, and everyone, even academic economists, knew a universal glut was possible. We were there. It had happened to us. It wasn’t funny.

I don’t suppose 200 American economists have read deeply in Say’s Treatise on Political Economy. Nevertheless, the depressing truth is that his ideas are once more being taken as gospel, and not merely in ivory towers. Here are a few quotations: “It is production that opens a demand for products.” (This is the famous-or notorious-Say’s Law, which is aphoristically restated as “Production creates its own demand.”) Again: “Sales cannot be said to be dull because money is scarce, but because other products are so.” Again: “It is the aim of good government to stimulate production, of bad government to encourage consumption.”

Although the quotations are from a book published in 1803, you will surely remember hearing similar sentiments from contemporary lips. The first might have been pronounced yesterday by Congressman Jack Kemp; the second by Federal Reserve Board Chairman Paul Volcker; and the third by Senator Gary Hart. Of course, it is nothing against these ideas that they are 183 years old. As Alfred North Whitehead said, all philosophy is a series of footnotes to Plato, and Plato wrote more than two millennia before Say. What is against these ideas is that they’re misconceived, mistaken, grievously misleading. There is a speck of plausibility in all of them, but only a speck.

Over the past five years, however, they have made the rich very much more powerful (they were already as rich as need be). They have caused many millions to lose their jobs. They have forced many thousands of businesses into bankruptcy. And now they are going to be used to defeat many of the good provisions (such as they are) of House Ways and Means Committee Chairman Dan Rostenkowski‘s tax bill.

Any rational discussion of these matters should start by recalling that there really and truly was a universal glut from 1929 to World War II. It should then go on to note that there is indeed a universal glut at present, too, just as the Times says.

Say’s original error was characteristic of his times: He brushed aside the surface appearance of events and sought a hidden reality-what his contemporary Wordsworth called “something far more deeply interfused.” Therefore he easily convinced himself that money was a screen behind which real economic activity went on. “You say you only want money,” he wrote, “I say you want other commodities, and not money.” In a footnote he added, “Money, as money, has no other use than to buy with.” This sounds sensible enough (it is the speck of plausibility I mentioned), yet you have to be careful about the conclusions you draw from it.

Say was not careful, nor are those who follow in his footsteps. Their careless reasoning goes like this: Since commodities are really bought with other commodities, the thing to do is to get commodities made. Perhaps some will prove to be unsalable; but unless an officious government jostles the unseen hand (Say was an admirer of Adam Smith), those who have produced commodities will immediately exchange them with each other, and everyone will live happily ever after.

Modern econometricians have reduced this notion to a formula relating to the gross national product. Elementary textbooks define the GNP as the sum of personal consumption plus private investment plus government expenditures plus net exports. Since personal consumption and government expenditures seem purely passive (they seem to use things up, not to produce them), it is concluded that the way to increase the GNP must be to increase private investment and (if possible) net exports.

As you can see, the conclusion fits in very snugly with Say’s Law. It also underwrites the views of supply siders like Jack Kemp, of people like Gary Hart who want to rebuild America, and of White House Chief of Staff Donald Regan, who wants to tax consumption. It was the justification for the tax credits introduced under President John F. Kennedy and for the rapid depreciation regulations introduced under President Ronald Reagan. It prompts lobbyists for big business to misrepresent Rostenkowski’s tax bill as a blueprint for depression.

At this point a glimmer of common sense may give us pause. We already know that Say was wrong, that a universal glut is possible. We also know or should know-that we had a Jim Dandy depression (call it a recession if you want to kid yourself) from 1981 until well into 1983. And we know that depression was preceded by the Reagan tax law increasing investment tax credits and speeding up depreciation write offs. As a result, business’ share of the tax burden fell to 5.8 per cent-the lowest since the days of Herbert Hoover. Deserving companies like General Dynamics, in addition to paying no taxes at all, actually got hundreds of millions of dollars in rebates.

The fact that the depression of 1981-83 followed the 1981 tax breaks for big business may not be conclusive proof that the tax breaks caused the depression (it is post hoc, not necessarily propter hoc), but it is sure as shooting proof they didn’t cause prosperity. Moreover, the highly touted business recovery of 1983- 84 followed the 1982 tax law, taking back some of the earlier giveaways. This being the empirical record, it is at best quixotic to pretend that rescinding a few more of the tax breaks, as in the Rostenkowski bill, would bring on another recession. It is more than quixotic. I’ll compromise my reputation for mildness and say that it is illogical, devious and mischievous.

NOWLOOK BACK at the components of the GNP, in particular at personal consumption and government expenditures. These seem purely passive, but of course they aren’t. Quite apart from the fact that consumption is a human activity (note the syllable “act”), not a galvanic reaction, there are two sides to consumption, as there are two sides to everything in this double-entry world (see “The Chicken and the Egg,” NL, September 9, 1985). Nothing can be consumed unless it has been produced.

But isn’t that what Say said? No, it is almost the diametric opposite. Say and his followers claim that whatever is produced will be consumed (hence no glut is possible). What we are claiming is merely that whatever is consumed must have been produced. There is no way to consume more than has been produced; it is very easy to produce more than will be consumed. Every businessman knows this. It would be no great trick for Harper and Row to turn out 10 million (why not more?) copies of my book; they are timid, though, and fear they might not be able to sell them all. Even Say couldn’t avoid recognizing a further weakness of his Law. “There is nothing,” he wrote, “to be got by dealing with people who have nothing to pay.” In short, some products are not consumed because people don’t want them, and some because people can’t afford them. In either case, producing more won’t solve the problem. To put it another way: You can’t dissolve a glut by producing more of what you already have.

One of the great contributions of John Maynard Keynes-possibly the greatest-was his demonstration that in a capitalist system (or in any system that is advanced much beyond bare subsistence) glut is not only possible, it is always imminent. This is because of what he called “liquidity preference,” which is partly a function of the necessity to have assets (mainly money) on hand for daily needs and partly a function of our inevitable uncertainty about the future, leading us to keep assets readily available to guard against (or to  exploit) the unexpected. Everyone (except those who have no money at all) exhibits some preference for liquidity, the very rich probably more than the rest.

Whatever is kept liquid is neither consumed nor invested. It is withheld from the economy, making it impossible for the economy to buy and pay for everything it produces; hence a glut. Some sort of glut is inevitable; the problem is to keep it manageable. There are two principles guiding glut management: The first and (assuming the brotherhood of man) most important is to take steps to increase the purchasing power of the poor. The second is to make intelligent use of the purchasing power of the government (see “All You Need to Know about the Deficit,” NL, October 29, 1984).

Reaganomics has violated both principles. The Rostenkowski tax bill is a very modest attempt at correction. Gluttonous conservatives don’t like it because it deprives a few of the rich of a few of their recent benefits and re-imposes some taxes on corporations. The claim is the altogether smelly canard that incentives will be sapped if the rich and prosperous are asked to pay their share of the taxes. Equally disgusting and stupid is the attempt, in the face of a glutted economy, to “balance” the budget and thus reduce government expenditures at the very moment they should be expanded. There may be other ways to kill a cat, but choking it to death on cream may prove sufficient.

The New Leader

Strolling Down the Road to Serfdom

Originally published July 1, 1985

INTHE PREFACE to their best seller Free to Choose, Milton and Rose Friedman write, “We are still free as a people to choose whether we shall continue speeding down the ‘road to serfdom,’ as Friedrich Hayek entitled his profound and influential book …. ” Since Hayek’s book was published 40 years ago, it would seem that we have been “speeding” down that road at a remarkably sedate pace. I must confess that praise like the Friedmans’ put me off reading The Road to Serfdom until now.

That was a mistake. Hayek is well worth reading, both for what he says and for what he doesn’t say. Looking first at the latter, we find that he is far from advocating the sort of libertarian – that is, practically nonexistent state the Friedmans envisage. The Friedmans share with Marx a longing for the state to wither away, but Hayek is having none of that; he merely wants the state to act responsibly.

He is, for example, willing to consider “restricting the allowed methods of production, so long as these restrictions affect all potential producers equally and are not used as an indirect way of controlling prices and quantities …. ” He also believes that “To prohibit the use of certain poisonous substances or to require special precautions in their use, to limit working hours or to require certain sanitary arrangements, is fully compatible with the preservation of competition.” Hayek would thus not be sympathetic with the notion, advanced by both neoliberals and neoconservatives, that factories should be allowed to pollute as they please, so long as they pay a fee for the privilege.

Nor would he approve of the merger movement and the consequent concentration of power in sprawling conglomerates. He disputes, without naming him, his fellow countryman Joseph A. Schumpeter (who is at present being touted by neoconservatives as a foil to Keynes), rejecting “the myth … that … competition is spontaneously eliminated by technological changes.” In addition, Hayek quotes with favor from the New Deal report of the Temporary National Economic Committee: “‘The superior efficiency of large establishments has not been demonstrated … monopoly is frequently the product of factors other than the lower costs of greater size. It is attained by collusive agreement and promoted by public policies. When these agreements are invalidated and when these policies are reversed, competitive conditions can be restored.'”

In another place Hayek says, “It is only because the control of the means of production is divided among many people acting independently that nobody has complete power over us.” He is against monopoly as well as against the “monster state,” and in his last chapter, he writes (anticipating E.F. Schumacher), “It is no accident that on the whole there was more beauty and decency to be found in the life of the small peoples.”

Though Hayek’s main thesis is objection to a comprehensively planned economy, he recognizes that “the case for the state’s helping to organize a comprehensive system of social insurance is very strong.” He holds, too, that the state should be concerned in “the extremely important problem of combating general fluctuations of economic activity and the recurrent waves of large-scale unemployment which accompany them.” And strong as he is in his insistence on private property, he thinks that the case for inheritance may not be supported with “the same necessity.”

I have quoted Hayek extensively because his reputation is that of an extreme, devil-may-care, laissez-faire conservative. His book was actually greeted with qualified praise by Keynes, as Robert Heilbroner tells us in The Worldly Philosophers; but endorsements like the Friedmans’ have established his reactionary” image.” Much of Hayek’s later work, however (e.g., his attack on John Kenneth Galbraith; see” Rereading Galbraith,” NL, June 13,1983), does exhibit a hardening conservatism.

This is not, I think, an instance of the notorious syndrome whereby flaming youths turn into reactionary elders (“When old age came over them / With all its aches and qualms, / King Solomon wrote the Proverbs / And King David wrote the Psalms”[1]). Rather, it is an instance of a common, albeit little noticed, progression whereby a great leader becomes misled by his followers. The change is not always in a conservative direction. Marx became more violent and conspiratorial at least in part because his most vocal supporters were conspiratorial. John Dewey, whose Human Nature and Conduct showed strong elements of philosophical idealism, became famous for the contrary theory of instrumentalism that appealed to his admirers.

I have also seen such changes occur at less rarefied levels. One of the most delightful books I ever published was Little Britches (I was never good at titles) by Ralph Moody. It was the first of several memoirs of family life. No one reading the series would guess Little Britches was begun as a polemic against the Social Security system. But Ralph’s readers – starting with those in an extension writing course in Berkeley-praised him for the warmth of his characterizations, and he became more interested in people and less in abstract theory.

THERE ARE other interesting themes in The Road to Serfdom.  One of these appears in his analysis of the failure of the Social Democrats to stop Hitler. We have heard much of the trahison[2] of the Communists; but Hayek argues that the socialist emphasis on comprehensive planning predisposed the German electorate in favor of grandiose schemes like Hitler’s. If he is right, this fact should give pause to our Atari Democrats, who want to set up a committee to decide which industries we should foster and which we should abandon and in general to plan how to use our resources. As Robert Lekachman has pointed out, such committees are more likely to be run by big business than by idealistic planners.

The Social Democrats were further weakened, Hayek says, by a split that appeared in the labor movement. For various reasons, certain unions and certain categories of workers were able to achieve remarkable economic gains, while others were left far behind. The laggers were understandably disillusioned about the Social Democrats and became ready to acquiesce in, if not support, the National Socialist program.

“To them,” Hayek writes, “and not without some justification, the more prosperous sections of the labor movement seemed to belong to the exploiting rather than to the exploited class.”

This is a problem that American labor leaders have yet to solve. The split in our labor movement was opened, as I suggested last year (“Voodoo on the Primary Trail,” NL, April 30, 1984) by the Vietnam War. But it has been astutely widened by apologists for big business and by the just- folks demeanor of President Reagan, and deepened by the misguided anti-labor Presidential campaign of Gary Hart.

It is said, by the way, that Hart appealed especially to the so-called Yuppies- young, upwardly mobile professionals. I venture to think that Hayek’s analysis of what happened in Germany is closer to what is happening here. He writes that “no single economic factor has contributed more to help [the Nazis] than the envy of the unsuccessful professional man, the university-trained engineer or lawyer, and of the ‘white-collar proletariat’ in general for the … members of the strongest trade unions whose income was many times theirs.” I suggest that the “white-collar proletariat,” hitherto most visible in countries like India, will become a growing and destabilizing factor in our public life as computerization and conglomeration steadily reduce the need for “middle management.”

Another theme of current interest in Hayek’s book is his concern over the tendency of legislatures to turn hard questions over to independent public authorities. I suppose he would therefore welcome a good deal of the current deregulation, but he would appear not to have been a knee-jerk deregulator. Hayek’s concern is also a central topic in Theodore J. Lowi‘s widely read The End of Liberalism. Both men describe the irresponsibility that results from the delegation of undefined powers. Hayek emphasizes the dictatorial arrogance that ensues; Lowi notes (as does Lekachman in the comment cited above) that ill defined regulatory commissions tend to be co-opted by the industries they regulate. A different example of irresponsible delegation is the willingness of Congress to give the President power to commit military forces to action, and indeed to launch a nuclear strike, without carefully defining limits to that power.

In the same way, control over our money, and hence over our economy as a whole, has been surrendered to the Federal Reserve Board. I regret to have to admit that three Democratic Presidents played crucial roles in the surrender: Woodrow Wilson, who admitted he knew nothing about banking, signed the Federal Reserve Act. Harry Truman allowed his Secretary of the Treasury to dissolve the agreement with the Federal Reserve that had held the prime interest rate down to 1.5 per cent during the War. Jimmy Carter appointed Paul Volcker chairman of the Fed.

How all this came about is told in fascinating and chilling detail by F.W. Maisel in a little book entitled Great American Ripoff (Condido Press, Box27551,San Diego 92128). Maisel may upset the sensitive by his espousal of a conspiracy theory of American banking; nevertheless, it’s hard to fault his facts, and I’m not even prepared to say he’s wrong about the conspiracy.

Should you feel that the bankers running the Federal Reserve, far from being conspirators, are idealistic public servants who have, in Hayek’s phrase, “devoted their lives to a single task,” there is still reason to be wary of them, for “From the saintly and single-minded idealist to the fanatic is often but a step.” Single-minded conservatives please copy.

The New Leader

---

[1] A poem by James Ball Naylor http://www.jamesballnaylor.com/

[2] French for “betrayal” or “treason.”

Civility and Labor Relations

Originally published June 25, 1984

IN TWO mind-opening books on money (Money and the Real World and International Money and the Real World) Paul Davidson, professor of economics at Rutgers University, has occasion to use the phrase “in a world where slavery and peonage are illegal.” In both cases, he is explaining that industrial production takes time, requiring industry to plan for weeks, months or even years ahead. To be sure of adequate materials at acceptable prices, manufacturers enter into contracts with their suppliers for future delivery. The largest factor in the cost of both supplies and finished goods is the cost of labor; therefore, Davidson argues, stable labor contracts are in the interest of modern industry.

Davidson is a civilized as well as a rational man. Consequently he sees a stable labor market as one in which labor is fairly paid and decently treated. “Efficient planning … in a world where slavery and peonage are illegal,” he says, “requires contractual commitments for …  regular (non-casual) employment and fair treatment for labor over time.” This proposition will surely commend itself to other civilized and rational individuals.

Toiling in a neighboring vineyard, John Kenneth Galbraith, professor emeritus of economics at Harvard, has argued in The Affluent Society that modern industry is so productive it does not have to coerce workers (as Victorian industry perhaps had to) by keeping them in squalor and threatening them with starvation. He observes the money and effort modern business puts into advertising and selling, and concludes that the things produced must be little needed if finding buyers requires such expenditure. From this “it follows,” he explains, “that the efficiency of the process by which they are produced ceases to be an overriding consideration… Under these circumstances, the relation of the modern corporation to the people it comprises -their chance for dignity, individuality and full development of personality – may be at least as important as its efficiency …. Evidently the unions, in seeking to make life tolerable on the job, were being governed by a sound instinct. Why should life be intolerable to make things of small urgency?”

And as a matter of fact it was possible, only a few years ago, to hope that such obvious logic and reasonableness were beginning to break through the age-old barriers of greed and fear. As I noted recently in this space (“Voodoo on the Primary Trail,” NL, April 30), many labor leaders were confident of the dawn of an era of good feelings. Davidson is describing the rational actions of civilized businessmen, and Galbraith is prescribing rational actions for a civilized society. We are not, however, beneficiaries of any law guaranteeing that either businessmen or their society will be rational or civilized. There is, indeed, another way of looking at the economy that is as up-to-date as neoconservatism or neoliberalism, and is now generally accepted in the boardrooms of our great corporations. For convenience we may call it The Business Roundtable way.

This starts, as do Davidson and Galbraith, with the observations that labor is the largest single cost of production, and that we don’t need all the labor available to us in order to maintain ourselves in the style to which we have become accustomed. But The Business

Roundtable way concludes from these observations that the smart thing to do is to stabilize labor costs at the minimum, and that a whiff of unemployment is a mighty convincing stabilizer.

There is no doubt that the recent depression and the so-called recovery, with 8 million men and women still unemployed, have been deliberately stage managed accordingly.

A few quotations may dramatize the reasoning behind The Business Roundtable way: “With increasing productiveness of labor, the power of sudden expansion also grows, because the technical conditions now admit of rapid transformation into additional means of production. In all such cases, there must be the possibility of employing masses of men suddenly without injury to other spheres.”

“Industry progressively replaces skilled laborers by less skilled, mature by immature, male by female. The productiveness of labor increases the supply of labor.”

“Overwork of employed labor swells the ranks of the unemployed, while the latter, by their competition with the employed, force them to submit to harder work and lower wages.”

“Investment in the means of production and the productiveness of labor means that the labor force increases more rapidly than the need for workers.”

“Taking them as a whole, the general movements of wages are regulated by the expansion and contraction of the unemployed.”

The foregoing passages, which accurately enough represent the thinking of The Business Roundtable, are of course somewhat edited and sanitized quotations from Capital by Karl Marx. The original versions can be found in Chapter XXV – “The General Law of Capital Accumulation” -where Marx develops his notion that what he cleverly calls the industrial reserve army is necessary to the capitalist system. As a military commander uses a reserve army to exploit sudden openings or reinforce sudden weaknesses, so, Marx says, capitalists use the industrial army of the unemployed.

ONLY THE other day, as the Great Society of Lyndon Johnson unfolded under the supervision of Joseph Califano, it seemed that, like so much of Marx, the industrial reserve army was specific to the 19^th century and consequently destined to be discarded in the last half of the 20th. But instead we have been discarding the Great Society, while the industrial reserve army is still with us, 8 million strong. And besides the 8 million in the domestic divisions, there are uncounted millions in the Orient and in the Third World generally.

The usefulness of this massive army that already exists lies in its very lack of organization. Its deliberate exploitation has so changed labor relations that rational analyses like Davidson’s of the need for civilized labor contracts are being brushed aside as irritatingly idealistic. Industry still needs to plan ahead, as Davidson says, and planning still depends on the availability of adequate labor at foreseeable wages. But as Marx said, and the Business Roundtable agrees, productivity is a euphemism for employing less skilled and less well-paid labor. As a result, the world-wide industrial reserve army can be expected to be mobilized to exert a steady downward pressure on wages and working conditions. If wages are falling, and potential scabs are plentiful, business has a greatly reduced incentive to contract for “regular employment and fair treatment for labor over time.” Slavery and peonage are of course illegal, but the industrial reserve army is a more convenient means to the same end. Marx recognized that, too.

It is, in truth, difficult to fault Marx on his analysis, and impossible to fault him on his passionate attack on the abuses he observed. We read with horror of Bradford, a Yorkshire worsted-mill city, where as many as 18 people – for the most part regularly employed workers – lived crowded into a single room; where in one neighborhood there were 223 houses sheltering 1,450 inhabitants, but with only 435 beds (many of them merely “an armful of shavings”) and 36 privies, or one for every 40 people. According to The Blue Guide: England, Bristol today “preserves … splendid examples of Victorian industrial architecture.” At the time those factories were built, Marx reports, Bristol was notorious for “the misery of its dwellings.” And this one chapter of Capital has 72 pages of similar details.

That we react with amazement to such accounts points to the fact that some things are better now than they were 150 years ago. That some things are better now points to the fact that Marx was mistaken in thinking his dialectics of materialism would inevitably bring his apocalyptic vision to pass. Given the nature of that vision, this is a blessing.

Nothing inevitably comes to pass, for there is nothing either good or bad but doing makes it so. What is done – or not done – is our doing. Whether we move ahead into the rational and civilized world described by Davidson and Galbraith, or fall back into the brutal and degrading world described by Marx and complacently accepted by the Business Roundtable – whichever we do, it will be our doing. We had better get on with it.

            The New Leader

Unthinkable Thoughts on Competition

Originally published April 2, 1984

 

 

 

 

 

 

 

CHIEF JUSTICE Warren Burger used to use his addresses to the American Bar Association to complain that the courts (and presumably the society as a whole) are plagued by incompetent lawyers. Since he named no names, a few law school deans grumbled a bit, while everyone else said ho-hum and wondered why he belabored the obvious.

This year the ABA met in Las Vegas, a city renowned for its cultural and intellectual advantages. Although the Chief Justice was said to disapprove of the site, he went anyhow to give the assembled lawyers the benefit of his thoughts. It turned out that he had been thinking the unthinkable. He allowed himself to wonder in public whether the Anglo-American legal system – otherwise known as the adversary system – might not be something less than perfect. A shocked silence followed. He might as well have questioned Mother’s Day or the Little League or the Space Shuttle. Or even the Super Bowl.

Mr. Chief Justice Burger may be comforted to learn that he has emboldened one citizen (me) to wonder about the economics counterpart of the adversary system, which is the idea of competition. In the same way that adversary litigants are said to reach the truth by trying to confuse each other (and the court), adversary businessmen are said to outwit each other into being productive, efficient, forward-looking, and cheap.

Both ideas are deeply imbedded in the Anglo-American tradition. It is often claimed that trial by jury is a humane development from medieval trial by combat and trial by ordeal. This is only superficially so. Trial by combat and trial by ordeal assumed that God, the Mover of the Universe, would reveal the hidden truth by giving the just man strength to prevail or survive. Trial by jury assumes that neither litigant (the “people” being one of them in a criminal trial) knows the whole truth; therefore, each should marshal the evidence as strongly and as one-sidedly as possible. The contest between the partial truths leads the jury to the whole truth.

If you wanted to coin a phrase, you might say that the jury is led to the truth as by an invisible hand.

There is, however, another side to the story – what literary critics would delight in calling the dark side. In brief, the theory is that, given the nature of man and woman, the adversary system is the best we can hope to devise. The reason for this is not, as the medieval mind had it, that in Adam’s fall we sinned all and so are naturally depraved. Grace abounding might take care of all that. The reason is rather that we are naturally solitary.

In a vivid and oft-quoted phrase, Thomas Hobbes, the first modern British philosopher, wrote that the life of man in a state of nature was “solitary, poor, nasty, brutish, and short.” Being clever devils, men get around this by pragmatically forming societies for their own reasons, and they disregard or dissolve the societies for their own reasons – unless restrained by the leviathan-state. They consequently have no reason to trust each other or their society, either. John Locke, philosopher of Britain’s Glorious Revolution and mentor of our Founding Fathers, had a more sanguine temperament than Hobbes, yet still based the right of revolution on the original separateness of mankind.

A century after Hobbes, David Hume, a friend of Adam Smith‘s and an early formulator of the mischievous quantity theory of money, could not see a” necessary connection” between natural events, let alone between human beings. In our day, Bertrand Russell‘s view was not essentially different. The British tradition embraces an atomic theory of truth and of man.

If men and women are naturally atomic, solitary, responsible only to themselves, you have a problem when you try to devise a system for settling quarrels. The leviathan-state can torture people into telling the truth, but torturers are untrustworthy, too, and have been known to ply their trade to payoff grudges, or simply for the fun of it. The alternative is to recognize openly that every party to a law suit (including the “people”) is out for number one, and exclusively for number one. Let them all do their damnedest to win, since that is what they will do anyhow.

Mr. Chief Justice Burger was not the first to notice that this is a shockingly expensive way to get shockingly uncertain results. Among others was Abraham Lincoln, a great President who had been a successful trial lawyer. His notes for several cases survive; in one of them

his strategy was” Skin the defendant.” W.S. Gilbert was confident that Victorian audiences would laugh when the Lord Chancellor in Iolanthe sang of his youthful resolution never to “throw dust in a juryman’s eyes, or hoodwink a judge who is not over wise.” Today, anyone who has been a plaintiff or a defendant or member of a jury (though of mild disposition, I have been all three) could, without straining, think of possible improvements in the system.

I mention the adversary legal system only as it throws light on the competitive system in economics. For that is also based on an atomic theory of mankind. Everybody is out for number one. We all learned at our mother’s knee that competition makes everything come out right, and that the knocks we took in midget football not only were good for us but also made America strong. Competition rewards the efficient and effective producer, and it does so by laying before the consumer the greatest array of the best products at the lowest prices. Even though businessmen, like everyone else, have no other intention than to get ahead, to do this they must offer the consumers a better deal than their competitors do. Competition, in short, automatically drives prices down and quality up.

Most people are dimly aware that things don’t work this way in the world of big business. Proprietary medicines outsell their cheaper generic equivalents; automobile manufacturers believe (with market surveys to support the belief) that price competition forces them to resist installing safety air bags; and no one any longer thinks it feasible (though Lewis Mumford proved it cost effective 50 years ago) to produce local brands of soap or cornflakes or myriad other standard products whose manufacture does not require high entry outlays. If consumers are confused or stupid, that’s not the market’s fault. The trouble with this apology is that the theory of the free market requires both buyers and sellers to be perfectly informed and perfectly rational. Gerard Debreu won the Nobel Prize last year for almost proving this absurd theory mathematically.

JOHN KENNETH GALBRAITH, who writes too well and too sensibly to be a likely recipient of the Nobel Prize, has taught us not to expect the free market to work in the world of big business, which he calls the planning system. I’m here to tell you that it also doesn’t work as it is famed to do even in what Galbraith calls the market system.

In the minutely fragmented and fiercely competitive textbook business, competition frequently has the effect of pushing prices up rather than down. I was once a protagonist in such a drama, when I saw a chance to capture an extraordinary share of the market for a history textbook by inserting full-color illustrations where the competition had black-and-white. With the larger market share, resulting in longer press runs, we could do this without raising our price. But of course our competitors put in color, too; we lost our advantage, and with it, our larger market share. Our press runs went down and our costs went up, as did everyone else’s. We all then did what we had to do: We raised our prices.

The trouble with the atomic view of mankind goes a lot deeper than the mere fact that competition doesn’t always produce the good results claimed for it. The fundamental difficulty is that if you start with the atomic view, there is no way to generate the idea of what is good. If you are fundamentally independent of me, what interest can you have in me? You may regard me with prudent wariness. You may contemplate using me for your purposes. But whether I prosper or fail in my purposes can be only an incidental or sentimental concern of yours.

In Adam Smith’s first book, The Theory of Moral Sentiments, he announced: “How selfish soever man may be supposed, there are evidently some principles in his nature, which interest him in the fortunes of others, and render their happiness necessary to him,” and so on. The alleged principles in man’s “nature” are on the same level as the mother love of birds that even great biologists like the late Jacques Loeb like to enthuse about. It is the pathetic fallacy. Whatever the atomic system generates, it is not right or wrong, any more than catbirds are right and cats are wrong.

You can carry the argument a step further. The atomic system cannot generate anything without contradicting itself. A systematically solitary man has no words to express his ideas. Humpty Dumpty, a true atomist, proposed to be in charge of his words, yet he could not even state his purpose without using words that were meaningful because of the social and historical uses made of them by others.

What, then, becomes of competition? I don’t know, but I think we can say at least this much: It is not the foundation on which to build an economics system, nor is its encouragement – or discouragement – a proper objective of social policy. Thus, that aspect of the antitrust laws that is supposed to foster competition is wrong-headed, and it would be equally wrong-headed to try to foster cooperation. Although there are good reasons for antitrust laws (small is beautiful), they are confused and compromised by the attempt to make competition an objective of policy. Likewise, the best society is not one where workers are in a life-and-death contest for jobs. Nor is the state of the world improved by 156 nations playing beggar-my-neighbor. I hope the Chief Justice will be alert to these problems as he ponders the future of adversary justice.

The New Leader

Dick Netzer remarks on ReReading Galbraith

Originally published September 5, 1983

Dear Editor

Brockway

The Great Communicator had the right words for George P. Brockway’s “Rereading Galbraith” (NL, June 13): “There you go again.” Yes, “much of what passes for economics” is a waste of time; the timewasting proportion of the total may be exceeded only in magazine nonfiction. What’s wrong with economics, however, is not what Brockway in this column (or in any other) says is the problem. Brockway claims that, “If there is no way of judging relative wants,” there is no way of making things either better or worse. Not so: We don’t have to weigh individuals’ preferences to assert that, if more of some wants can be satisfied without reducing the resources devoted to other wants, things are better. A good many of us economists (usually microeconornists) devote ourselves to just this kind of positive-sum game, the quest for policies and institutional changes that involve few and inconsequential losers and losses and substantial gains to the rest of us. We don’t have to sneer about advertising-induced tastes (like packaged holiday tours that may crowd Gstaad) to do something worthwhile.

The Affluent Society is an important book, one that changed our way of looking at things, as Brockway maintains. Yet Galbraith, like Brockway, can be wrong on critical points. There is no evidence whatever that advertising increases aggregate consumer spending (except for the trivial increases represented by the consumer spending of those employed in advertising). What advertising does is to increase spending for particular products or brands, at the expense of other products or brands. From this it follows, as Brockway would put it, that the existence of advertising does not tell us that American consumers as a whole spend too much, nor that their choices lack legitimacy. But rather conventional economics tells us that we can’t leave all choices to consumers because the economy left to its own devices will undersupply public goods. It may make unexciting copy; still, the fact is that the mainstream of the dismal science is not hostile to government per se.

New York City

                                                                       DICK NETZER
Director
Urban Research Center
New York University

Editor’s Note:  Dick Netzer’s first letter re: The Dismal Science can be found here:  http://wp.me/s2r2YP-291

The Wages of Exploitation

Originally published August 8, 1983

LAST SUMMER I wrote a couple of columns questioning the Atari Democrats‘ notion that we should write off our “sunset” industries (automobiles, steel, textiles, what have you), where we’re losing dominance in even our own market, and concentrate on some “sunrise” industries to be invented by a commission of unemployed economists. You will be astonished to hear that in spite of those pieces, the notion is still around. Now, the unstated premise of the Atari Democrats’ notion is the belief that protectionism is unthinkable in the modern world. We learned this in those high school courses on Problems of American Democracy we took instead of history. Even President Reagan learned it. In this year’s Economic Report he said, “I am committed … to preventing the enactment of protectionist policies in the United States.”

I am pained to suggest that President Reagan is wrong once again. In explanation, I am going to start with what the consequences of American protectionism might be for the rest of the world, particularly for what are euphemistically called Less Developed Countries, or LDCs. It is, make no mistake, the LDCs that would ultimately be most seriously affected by a rebirth of protectionism. Most of the talk now is about Japan, but that is merely because most businessmen and most business commentators don’t remember yesterday and can’t imagine that tomorrow may be different from today. It was only yesterday (let us remember) that the Germans were the Wundermenschen. The VW bug had bitten off a piece of the American market long before Toyota mastered the pronunciation of Corolla, Everyone had a Leica before Cheryl Tiegs taught us to prefer Olympus. The cognoscenti turned up their noses at Avery Fisher’s consoles and rushed to get the latest components from Telefunken. German productivity was proverbial.

But now all that is forgotten. The Germans are having a depression just like us, and the Japanese are selling cars and cameras all over Europe. VW is losing money hand over fist, and Telefunken is on the verge of bankruptcy.

A moderately reflective person might wonder whether what happened to the United States, and then to Germany, might not one day happen to Japan. As a matter of fact, it is already happening. The Japanese are writing off their textile industry and are manufacturing electronic components in Singapore and South Korea, just like the rest of us. Aha! says standard economics, this will benefit the Japanese. The benefit will come from lower consumer prices, and the Japanese who lose their jobs to Koreans will turn their hand to things the Koreans want but can’t make. That is the way standard economics thinks things work, and next month we’ll consider why they don’t work that way.

For the present, let’s step back a bit. The factors of production, we learned from standard economics, are land, capital, labor, and perhaps technology. Which of these factors do the multinationals seek in strange strands? Not technology, certainly, and not land, especially if they’re doing their seeking in Singapore. Not capital, either, though a sheik here or there may have more than he can think what to do with. No, the factor sought is labor.

Well, everybody knows that. Asian girls, especially young ones, have remarkably nimble fingers and are wiry and strong and able to work long hours, and they’re smart and eager to learn. Moreover, they’re fresh from the bush or the slums and never saw regular pay before and so are easily pleased. They don’t fuss about safety regulations or health insurance or sex discrimination or any of that stuff. Nor is this so bad as it may sound to us liberals, because these people are in for a tough life any way you look at it, and work in an electronics sweatshop is a lot better than their alternatives, and that is true even without mentioning prostitution.

Overworked and exploited though they may seem by our standards, these girls may have been chosen by destiny to use their nimble fingers to scratch out the first painful steps toward the establishment of a middle class in their underdeveloped lands. Such steps were not easy in the 19th-century Northern Hemisphere, and there is no reason to expect them to be easy in the 21st-century Southern Hemisphere. And unless the steps are taken, the LDCs will continue to be at the mercy of imperialist or neoirnperialist powers. This is the standard view of the situation-hard-nosed, perhaps a bit regretful, but above all forward looking.

Now, I will contend that neither standard economics nor Marxian economics understands what is wrong with imperialism. The thing about imperialism, I propose, is that it is extractive. It extracts the produce of mines and of agriculture, and it pays for these products whatever the market will bear[1]. Sometimes the market will bear a lot, mostly it won’t. Some American farmers are old enough to remember how it was in the days before price supports;  that’s the way it is now and always has been with LDC producers of copper and bauxite, cocoa and bananas and sisal. If you’re puzzled by this performance of the market, you will find it beautifully explained in the works of John Kenneth Galbraith, particularly Chapter VIII of Economics and the Public Purpose. Meanwhile you can rely on the avouchment of your own eyes that somehow prosperity has not come to Guatemala or Guinea or Bangladesh.

It is obvious enough that imperialism extracts the minerals of the earth and the fertility of the fields and ships them abroad. What it does to the factor of land, it also does to the factor of labor. The only reason for employing LDC labor is that it’s cheap. It’s far away and not always very efficient, and usually in need of an embarrassingly brutal dictator to keep it in line. But it is cheap.

Its cheapness is revealed by what it is exchanged for. When the labor of an LDC is used to manufacture products for export to the developed countries, the LDC earns foreign exchange that it spends in the developed countries on what it wants or needs – often on food it once produced itself – until seduced into maximizing exports. To understand what such an exchange means, we can compare the average hourly wage in the LDCs with that in the industrialized world. The precise numbers of course vary from place to place, but a ratio of one to five won’t overstate the differential and will do for purposes of illustration. This requires the LDCs to exchange five hours of their labor for one hour of our labor. The produce of the four-hour labor difference is in effect extracted, no less than the produce of their land was (and still is) extracted.

It is important to understand that this is not a situation of temporary unfairness, or of an imbalance that will be righted even in Keynes’ famous long run. What is extracted is gone forever. The situation, furthermore, has grown steadily worse in our time, much to the bewilderment of everyone who had great hopes for the results of liberation.

WHY HAVEN’T the newly liberated colonies been able to duplicate the success of the U.S. following its freedom? Wasn’t our position right up to World War I just like that of the LDCs? Didn’t we need and use British and European capital, just as the other former colonies need and use the multinationals’ capital today?

No, and again no. We used British and European capital, all right, and for the most part they were handsomely rewarded, but we used it first to build our infrastructure – canals, then railroads, eventually even street railroads. And we were inevitably the ones to employ that infrastructure; there was no way that benefit could be extracted. When foreign capital went into steel and soap and thread and chemicals, those products were for our own market; their benefits were not extracted, either. An interesting short book with a long title published last year, European Direct Investment in the USA before World War I by Peter J. Buckley and Brian R. Roberts, is able to discuss all the details of its subject without once considering the possibility that Europeans invested in the U.S. to manufacture for their own consumption. A sign that our development was not extractive is the fact that throughout the period in question – and indeed until very recently-our wage scales were the highest in the world. (That used to be a proud boast.)

In contrast, when GE manufactures plastic-frame irons in Singapore or Atari makes mind-boggling games in Taiwan, the irons and games do not stay in the underdeveloped world. They are shipped out, and with them is effectively extracted the wage differential between the underdeveloped world and the developed world.

The United States was able to escape similar domination by Britain and Europe in the 19th century mainly because of the sheer size of the country. A chronic shortage of labor kept wage scales relatively high, and a large internal market encouraged the use of foreign capital to produce goods for our domestic demand rather than for export. To duplicate the U.S. performance, the LDCs must duplicate the conditions. This won’t come naturally; they will have to be driven to it. Nevertheless, their objective should be to use their labor to produce what they themselves need. They should be manufacturing equipment for an equivalent of the Rural Electrification Administration. They should be developing trade within the LDC world and reducing their trade with the industrial world. The LDCs will always lose in trading with the industrial world (though a few of their citizens may become filthy rich); by trading among themselves they can pull themselves up by their bootstraps, just as we did a century ago.

Such quasi- internal trade would require cooperation on a scale that appears implausible. But the industrialized world-particularly, as I’ve said, the United States – could enforce such cooperation on the LDCs by the simple expedient of denying their manufactures unlimited access to our market. If GE could not sell its Singapore-produced irons in the U.S., it would find it necessary either to produce something else in Singapore, or to pass up the opportunity to employ its capital there in a highly profitable way. Even if it opted for the latter solution and pulled out, the Singapore economy would be, literally and figuratively, healthier.

The proposal to deny unlimited access to our market goes against everything we used to be taught. It also goes against what the publicists for big business continue to teach us. It is, however, merely an extension of the anthropologists’ commonplace that subsistence farming is better for peasants than is a one-crop plantation system. In my next column, I will take up more fully how a change might be implemented, as well as what its effect would be on us.

---

[1] Editor’s note:  Those who knew the author, and his wife Lucile H. Brockway, my parents, know that these ideas were discussed between them and that she published a ground breaking book, “Science and Colonial Expansion” in 1979, four years before this article appeared, that makes these points, and others, at length from an anthropological perspective.  The two of them were quite a pair….

Dismal Pleasures – letter

Dear Editor

‘Dismal’ Pleasures

George P. Brockway has been one of the most enjoyable writers in THE NEW LEADER lately. The installments of “The Dismal Science” demonstrate wit, erudition – not that I always agree with him – and a refreshing willingness to question the assumptions that lie behind the experts’ arguments.

Brockway’s appreciative comments on John Kenneth Galbraith, for example, were excellent. (“Rereading Galbraith,” NL, June 13). They reminded me of the wrangling that greeted the publication of The Affluent Society. Much of the controversy centered on Galbraith’s observations about advertising, about “the contriving of wants” in order to increase production.

Galbraith’s case is convincing, and yet even the people who agree with his conception of the role Madison Avenue plays in our economy continue to wrongly believe that consumer choices guide production. This myopia simply shows the need for more of the kind of illumination that is shed by Brockway’s columns.

Dayton, Ohio                                                                                                                  RONALD LAMBRETH