Economic Sense and Nonsense

June 22, 2006 • Commentary
This article appeared on Exam​in​er​.com, June 22, 2006.

Economic sense often disappears when people move from the private to the public sector, whether in Washington or Annapolis.

Politicians love to “do good” with other people’s money (OPM). Unlike the free market, government operates by force, not persuasion. If you disagree with a government program (such as Social Security), you can’t just leave.

This is not to say that politicians differ from other people. We all seek to make ourselves better off. The problem is that legislators respond to special interests that capture most of the benefits from a program but pay only a fraction of the costs. More fundamentally, when legislators are spending OPM, incentives change radically compared to the private sector.

Congressional “earmarks” — otherwise known as pork — are a perfect example. Maryland legislators directed millions of dollars to pet projects in the state, including $250,000 to build artists’ housing, $1 million for oyster disease research and $2 million for the forensics crime laboratory at the University of Baltimore in the fiscal 2006 budget, according to Citizens Against Government Waste.

Because of the weak link between behavior within government and accountability, limits on the size and power of government are crucial. The framers of the U.S. Constitution enumerated, thus limited, the powers of the federal government. But they also recognized that people must protect their liberties vigilantly. If we expect government to solve every problem and believe others will pay, even a constitutional democracy will fail to protect individual rights.

Under our progressive tax system, the bottom half of income earners pay 4 percent of federal income taxes, while the top 10 percent pay 66 percent. Consequently, many Americans view additional public spending as a free good and vote for government largesse.

Sound economic logic that takes into account the long‐​run consequences of alternative public policies‐​and recognizes there is no free lunch‐​does not require a Ph.D.

A few simple principles will suffice.

First, scarcity means that we cannot have everything we want. Tradeoffs have to be made, where the benefits of a good are weighed against its “opportunity cost” — that is, the value of the other goods that could have been produced with those same resources.

Second, the more we have of something, the less an additional unit will eventually be worth. That means we can have too much of a good thing. Devoting scarce resources to reducing pollution, for example, will diminish benefits but increase costs. Nevertheless, those who might advocate zero pollution — politicians and radical environmental groups — would do so precisely because they do not have to foot the bill; it’s OPM.

The central law in economics — the law of demand (at higher prices, less will be demanded if other things remain constant) — is often disputed or ignored by politicians.

However, like the law of gravity, the law of demand is a force of nature — ignoring it can be costly. A strong wind can make a kite fly upward, but it will eventually crash to the ground. In the short run, a minimum wage placed above the prevailing market wage may not destroy too many jobs. But, in the long run, employers will lay off unskilled workers and substitute labor‐​saving technology.

When politicians control prices — whether of labor, natural gas, gasoline, milk, or flood insurance — those false prices will lead to a misallocation of resources and a loss of economic freedom. Market prices provide information about relative scarcities and give incentives to conserve voluntarily, without government intervention.

Capping electricity rates or providing “free” entry to museums, to name two local examples, distorts opportunity costs and misleads consumers. In particular, when the government underprices goods by subsidizing them (e.g. Medicaid), people will want more — and costs will increase. Likewise, if government subsidizes risk (e.g. flood insurance), we can expect more risk‐​taking and thus more damage each time a hurricane hits.

Ignoring economic reality — and indulging in economic nonsense — may be an occupational hazard of the political class, but citizens can ill‐​afford to follow suit. Making things appear free, or less costly, expands the demand for government solutions. It means bigger government, less accountability, and less freedom.

About the Author
James A. Dorn

Vice President for Monetary Studies, Senior Fellow, and Editor of Cato Journal