The multiplier is not prosperity

“I’m doing my part to help the economy!”

I’ve heard many folks make this joke after a big purchase. We snicker. We know they really bought it for the personal benefits they expect to gain. As we’ve been discussing in the comments, they bought it because they valued it more than what they gave up.

The joke implies the multiplier effect — the idea that your purchase stimulates economic activity. You buy a car, which means income for the car maker and workers, they spend that income on suits and shoes, and so on. And, by the time it’s all said and done every dollar of your purchase ‘stimulated’ more than a dollars worth of economic activity, which is measured as GDP.

For some reason, we don’t snicker when economists and politicians make this same claim. We should.

David Henderson, who doesn’t make this claim, does a great job explaining why we should snicker in his aptly titled essay, GDP Fetishism, which I discovered after reading a recent post of his about the ‘multiplier’ of foreign aid.

Also recommended, his latest post about subjective value, which is a topic we’ve touched on here recently in the comments.

Money for nothing

I learned a few things from this EconTalk podcast with guest Casey Mulligan discussing his book, The Redistribution Recession.

One argument from the right against unemployment benefits is that it encourages people to stay unemployed so they can keep receiving it.

A standard retort from the left to that argument is that the unemployment payout is so small that nobody would choose that paltry sum over getting a job.

Mulligan points out that the sum is not trivial. Here’s Mulligan from about 24 minutes into the podcast (bold is mine):

Typically before the recession, unless you are well into the upper half of earnings, when you lost a job you got half of your earnings replaced. So if you used to earn $600 a week, you’d get an unemployment check for $300 a week. And I guess you are referring to kind of that $300 dollar number–it seems $300 isn’t very big. Well, if you earn $600–I earn more than $600 myself–but if you earn $600, then $300 is not all that trivial. Number one.

…number two: There’s all kinds of taxes you don’t have to pay when you are unemployed. Payroll taxes–forget about it. You don’t pay it when you are unemployed. A big chunk of income taxes you are not going to pay when you are unemployed. So when you put all of that together, without even getting to other help you might get from food stamps or Medicaid, put it all together, before the recession about 70%, maybe a little more, of your earnings would be replaced. Not half. And that’s without getting into, like I said, other types of programs.

And when you start with 70% as your baseline–so you are going to get 70% on the old rule, and you are going to put a bunch of new rules* in there–it pushes the 70% up to 85 or 90%. I don’t think we can call that trivial any more.

*The new rules Mulligan mentions earlier in the podcast are expansions made in other programs during in the recession like food stamps, mortgage payment relief and health insurance subsidies.

So, think about these choices:

Choice 1: Get a job making 70% – 100% of what you use to make and give up 40+ hours a week. After paying taxes and paying for more of your food, mortgage and health insurance, you are really making about 50% – 80% of what you use to make.

Choice 2: Don’t get a job (or at least not an official job). Keep making 70%+ of what you use to make.This includes unemployment and other programs. Keep the 40 or more hours of free time during the week, where you might find things to do for others off-the-books for extra cash (which maybe brings you to more than what you use to make).

After learning this, the ‘the unemployment payout is so small that nobody would choose that paltry sum over getting a job’ argument seems much less compelling. I’d say that it would be more of a surprise for someone to give up Choice 2 for Choice 1.

The whole podcast is worth a listen.  There are a couple other points Mulligan makes that I’d like to mention.

One (and some of this may be a mix of Mulligan’s points and my own). Unemployment is more of a choice than a condition that folks find themselves in ‘through no fault of their own.’

He contends that use to be the social norm. If you lost a job, there was more expectation on you to not burden your fellow citizens and to do something productive. So, for example, you were expected to have been responsible and saved for a rainy day when you did have a job. You were expected to make tough choices in your own budget to trim the fat. And, you were expected to find another job and take it and make ends meet, even if it was for less pay that what you used to make. At least you were being productive, responsible and continuing to add to your own work experience and skill set that may lead to bigger and better things.

The ‘social norm’ seems to have shifted to view what you use to earn and the budget choices you made then were things you were entitled to keep and that being out of job is something that you have absolutely no control over.

Two. The cost-benefit analysis of unemployment benefits has shifted. Unemployment benefits use to be viewed as a stop-gap to help folks in transition. It wasn’t really thought of something that would help the economy. Now the benefit-side of the cost-benefit analysis includes stimulative effects to the economy. But, Mulligan does a good job of addressing that belief:

It does put money in a group of people’s hands; it takes it out of another group of people’s hands. And the net reduction in the economy is actually less spending. Because, you know, you have less work going on. So there’s less total income to be spent. And so the people who are going to suffer from that, depending on the industry they work in, they are going to see the drop in demand for what they make. And they may not appreciate my story; but they don’t understand–they need to appreciate: Why aren’t their customers spending? If you drill down to the bottom of that you are going to see that the safety net expansions are a big part of it.

Here Mulligan makes an atomic connection that so few others do. Income and spending derives from wealth creation (i.e. doing productive things), not the other way around. All unemployment benefits do is shift who is spending the wealth that is being created, so since you have fewer people creating wealth, there will be less overall spending.

In fact, this reminds me of a post of mine from 2011, Government is overhead.

Darth Armstrong

Lance after Oprah

With a kid who loves Star Wars, I’ve become too familiar with the story of Aniken Skywalker. I find it striking how similar it is to Lance Armstrong’s story.

Aniken and Lance’s back stories are similar. No father. Humble beginnings. A close relationship with his mother. Caste-changing talent.

Aniken did what he needed to win. Lance, too. When the dark side was their best bet, they went with it and didn’t look back. Aniken murdered a room full of kids and tried to take down his master. Lance shot up and chewed up his friends and spit them out, all the while using his cancer comeback story to pad his hero persona.

I thought those were agonizingly long moments at the end of Return of Jedi as Vader watched the Emperor jolt his son, Luke, (Armstrong has a son named Luke, too). I’m sure Lucas included Vader’s slow deliberation for dramatic effect, but it looked more like Vader was evaluating his options to see which course of action would be better for Vader.

The months from when USADA stripped Armstrong of his titles and banned him from sport for life and Lance v. Oprah reminds me of those moments Vader deliberated.

‘I’m about to cheat, y’all! Anybody got an empty Coke can?’

What’s better for Lance? He lost his rep. He lost his future income (maybe he should lose some of his past income, too). He lost his involvement with LiveStrong. The only thing he has left to look forward to? Competition.

But, wait. He can’t. He’s banned. So, what’s best for Lance? Come clean. Maybe we’ll take pity on him.

Oh…and also, whine that you got a “death penalty” while everyone else got off with slap on the wrist (wait, didn’t they confess when they were given a chance while you tweeted a pic of yourself ‘laying around’ with your fraudulent yellow jerseys?).

Aniken and Lance are easy guys to figure out. They will do what’s best for themselves, always, and they will cross lines to do it. It’s best you not be one of those lines.

When the news of the Oprah interview broke, someone asked me, why is he doing this now? I said, because now is best for Lance. He wants to compete again. It drives him crazy that he can’t. He doesn’t have much else. 

I actually thought I was over playing that, but that was about the only reason Darth Armstrong could muster when asked by Oprah, Why now? I about fell out of my chair. I’m a competitor. I like to win. I want to be able to run the Chicago Marathon when I’m 50. It’s not fair. Waaaaaa…

I don’t think it has sunk in for him yet. YOU DIDN’T WIN. YOU CHEATED. YOU ARE NOT A WINNER. YOU’RE A CHEATER.

As an aside, Oprah played tapes from past interviews where Armstrong defiantly denied doping. I noticed one tell to his lies was saying “absolutely” twice. And I believe he said “absolutely not” twice when Oprah asked if he doped to get his third place finish at the 2009 Tour.

At least Vader’s last selfish act restored freedom to the galaxy (until the next movie comes out in 2015). Armstrong’s cancer survival story has encouraged many cancer victims to fight, which is probably the most heartbreaking for me. What are those people thinking?

Questions I wish Oprah would have asked Lance: Did you discover EPO during your cancer recovery? Was it your discovery of this drug that ignited the EPO generation in cycling?

Darth Armstrong, Johan Palpatine, 2009 (Photo credit: Wikipedia)

Why we do the things we do

This Marginal Revolution post reminded me of something I encounter frequently, even with myself. The post excerpts a study:

In fact our conscious brain has surprisingly little grasp of what makes us decide to do one thing rather than another.  A telling example of this ignorance has been provided by Joe LeDoux and Michael Gazzaniga, two neuroscientists who conducted a study of patients with a severed corpus callosum, the bundle of nerve fibers connecting the two hemispheres of the brain, leaving the two sides of the brain unable to communicate with each other.  LeDoux and Gazzaniga gave instructions to these patients, via their right hemisphere (hemispheres can be targeted with instructions shown to either the left or right visual field), to giggle or wave a hand, then asked them, via the left hemisphere, why they were laughing or waving.  The patients’ left hemisphere had no knowledge of the instructions given to their right hemisphere, but the patients would nonetheless venture an explanation, saying that they were laughing because the doctors looked so funny or waving because they thought they saw a friend.  However implausible the answer, the patients were convinced they knew why they were acting in the way they were; but they were deluded in thinking so.  Their self-understanding was pure confabulation.

I often find myself in discussions with folks who can’t override their urge to start jabbing their mouth and simply say, I don’t know, why do you think what you think?

I, too, often find myself doing things that I find odd and when I search for an explanation, I find that my first explanation is usually one that would satisfy an external observer. But, then I dive deeper and find other reasons that weren’t intuitive, but were probably more important than the externally acceptable reason.

I’m cheap. I was a loyal shopper of Walmart, until Target opened across the street from it. Then I found myself in Target more often. Why? I’m cheap. I’m supposed to like the lower prices. And, at the time, there was a visible difference in most prices.

So, on several trips to Walmart and Target I “observed” myself. I asked myself questions. What’s keeping me from going to Walmart? Why am I going to Target?

Many things popped up. The Target parking lot isn’t as packed. I don’t have to walk as far. Target’s parking was clean. The store was cleaner and updated. The product displays were always in good order and the products were well presented. I would have to wait a long time to checkout at Walmart. At Walmart, it seemed like they shoved the products on the shelves.Target had some different products that I would like to browse. I wasn’t scared of the folks who shopped at Target. The folks who worked at Target seemed a bit less tired and a bit more engaged.

I came to find that it just wasn’t one reason. There were many. Some would say it was the overall experience. Maybe some mattered more than others, but they all mattered.

Walmart recognized this, too. They responded by improving on many of these things and have won me back, sometimes.

The depth and breadth of these reasons surprised me. I didn’t put conscious thought into any of these things until I first noticed my behavior was odd (not always going for the lowest price) and then decided to “observe” my behavior.

That exercise alone humbled me into being more willing to say, I don’t know, recognizing that he world is complex and the simple answer is often not the whole story. That reminds me of a favorite Oliver Wendell Holmes quote:

I would not give a fig for the simplicity this side of complexity, but I would give my life for the simplicity on the other side of complexity. -Oliver Wendell Holmes, Jr., Supreme Court Justice, 1902 – 1932

Not sure I’d give my life for it, but it’s definitely worth more.

Related articles

• Consciousness (brainexperiments.wordpress.com)

Brooks: Redistribution v Free Markets

From Arthur Brooks’ The Road to Freedom, via Bryan Caplan at EconLog, regarding the debate between government redistribution and free markets:

Average Americans are thus left with two lousy choices in the current policy debates: the moral left versus the materialistic right.  The public hears a heartfelt redistributionist argument from the left that leads to the type of failed public policies all around us today.  But sometimes it feels as if the alternative comes from morally bereft conservatives who were raised by wolves and don’t understand basic moral principles.

While it is earned success that really matters, people are nevertheless wired to “keep score.”…

Just for fun, find a Marxist college professor – who scoffs at the idea that people work less if they lose the incentive of money – how he would feel if his name were not put on any of the academic articles he published.  Instead, the articles would be published under the name of another academic who needed the recognition more than he did.  After all, he would still have the satisfaction of having written the articles.  Why shouldn’t that be enough?  His completely reasonable response would be that he earned the right to have his name on those articles, and denying him that measure of earned success is viciously unfair.  Exactly.

I learned something new today

I didn’t realize Australia had private social security accounts and it appears to work well for them. Thanks to Dan Mitchell for this excellent post.

I like this line (emphasis added):

This system, which was made universal by the Labor Party beginning in the 1980s, has turned every Australian worker into a capitalist and generated private wealth of nearly 100 percent of GDP.

That’s what I’d call properly aligned incentives. It seems like a good way to turn a Ponzi scheme into a wealth-producer.

Update:  Here’s the Wikipedia article that contains more information about Australia’s pension program.

Why did you buy that?

Art Carden writes that Entrepreneurs Serve Public Better Than Politicians (H/T: Speedmaster at The Pretense of Knowledge).

I agree. I agree.

While on a trip to Vegas, Carden found a profit opportunity. Two nearby Starbucks were selling coffee at different prices. The higher priced Starbucks was busier (sounds like they got their pricing right). Carden bought two cups of coffee at the cheaper (and less busy Starbucks), brought them to the line at the busier and more expensive Starbucks and sold them for a profit to people standing in line.

As Carden sums it up:

The 97 cents I earned was my reward for taking a risk on my hunch that two cups of coffee would be more valuable downstairs than upstairs.

According to Deirdre McCloskey, this is the key to the wealth of the modern world. That we live in a world in which buying low and selling high is at least tolerated encourages economic growth. The great irony of this is that merchants tend to be scorned or otherwise not trusted. But who is the real public servant: the politician deciding he will take more of your money by force so that he can accomplish his goals, or the merchant who decides he wants more of your money and offers you a hot cup of tasty coffee in return?

I have one beef with the column. To make his great point that business folks do more to serve their fellow-man than politicians, he brushed over a key point on value creation.

Most people think of business people as McCloskey put it, someone who buys low and sells high.

That’s too simple.

Why were the folks in line at the more expensive Starbucks willing to pay Carden more than he paid for the coffee?

The answer to that is why business people can “sell high”, if they’re lucky. That is the value creation process.

And the beauty of that process is that it’s sometimes hard to pinpoint the reasons we’re willing to pay what we pay for things.

Perhaps Carden’s buyers were in a hurry, he had what they wanted, so he saved them time. Maybe Carden looks like a trustworthy fellow, had a big smile on his face and his buyers got some value out of his charm. Or maybe, they saw him speak the day before, and thought that he was up to something clever, so they thought they’d play along.

If the reason they bought Carden’s coffee had anything to do with saving time, then Carden had solved what economist Friederich Hayek called the knowledge problem. Carden had knowledge of the particular circumstances of time and place. He knew of a nearby Starbucks with lower prices and shorter lines.

This is knowledge that most of the folks waiting in line at the other Starbucks did not have or did not value enough to act on.

Two people valued it and bought out Carden’s inventory.

Carden took a risk. He could have wound up with no takers, in which case he would have two grande cups of coffee to drink.

Since Carden wasn’t sure whether anyone would buy from him, he didn’t invest much.  He exhibited prudence, as I wrote about in the previous post, by limiting his risk to two cups of coffee.

Business people experiment all the time. They usually don’t know what people will value any more than you or I. They are following their hunches, observing and trying things to find something people value.

It doesn’t always work. Most business owners have experienced failures. They bought two cups of coffee and couldn’t find buyers.

The businesses we trade with every day are the few experiments that worked. For each one, there were likely dozens or maybe even hundreds that failed.

Further, once a business has established its success, we tend to take its success as a given and forget the failures and risk the business owners took to find the success. We have a tendency to question their profits rather than praise the value they bring us.

We forget that even Carden’s customers profited. Most likely, they gained time that was valuable to them.

Government is an expense, not an income

I wrote here and here about why we should view government spending as an expense for the economy, rather than an income, as it is treated in the formula for Gross Domestic Product (GDP = Consumer Spending + Investment Spending + Government Spending).

In the latest issue of Forbes magazine, Amity Schlaes points to research that may confirm my view in her column, Tax Summit for Growth:

Scholars Andreas Bergh and Magnus Henrekson found a negative correlation between government size and economic growth. When government increases by 10%, annual growth decreases by up to one percentage point. So if the U.S. were to cut its income or dividend tax rates the cut might not take us all the way to a 5% growth rate, but it might get us to at least 3%.

I’m always skeptical of statistical studies, even those that confirm my own views. Here, my skepticism is in the magnitude of the correlation, where a 10% growth in government leads to only a 1% point reduction in economic growth.

But, then again, there’s a couple of things to consider here.

First, since government doesn’t usually make up the entire GDP of an economy, this effect may be larger than it appears at first glance.

For example, consider an economy of size 100, with government spending making up 20 of that. A 10% increase in government moves it from 20 to 22. A 1% reduction in the economy moves it from 100 to 99. So a 2 unit increase in government translates into a 1 unit decrease in the economy. That’s a big effect.

Second, the effect of government spending now is spread out over time, so Bergh and Henrekson’s study may only capture the cost in the current period . Government, like you and I, can only spend wealth that was created in the past or will be created in the future.

Governments that borrow heavily to fund their current spending, may reduce the economy by 1 unit now and more units in the future.

Schlaes makes some other great points in her column and I recommend reading the whole thing.

The face of the exploited

This is a good post over at the Pretense of Knowledge blog about 13-year-olds building iPhones for cheap.  It reminded me of a trip I made to a non-tourist city in Mexico once.

Even as a poor college student, I could afford to take a taxi where I wanted.  The first fare for getting us across town was $0.25.  I gave him a dollar.  He seemed genuinely happy.

My girlfriend and I hired the cab (he always seemed to be close to us) for the day to drive us to the next town –about 20 minutes away — so we could visit a museum.  He waited for us and drove us back.   We paid him $10.

The iPhone post reminded me of my Mexico-taxi experience because a third-party could accuse me of “exploiting” that cab driver, since I paid him much less than what a cab driver in the U.S. would charge for the same trips.

I feel confident that the driver didn’t feel exploited.  He appeared grateful (and always nearby) to have the opportunity to cart around a couple of poor U.S. college kids.  I’m certain it was well worth his time.

Had a third-party intervened to impose U.S. rates on that transaction, both the cab driver and I would have lost out.  We wouldn’t have taken the taxi.  The driver would not have many, if any, fares.

It think it’s easy, even for the economically challenged, to see what would happen in this case when a minimum is set above the market rate.  It kills opportunity for both the buyer (me) and seller (driver).   Unfortunately, folks don’t see this as clearly with other minimum prices, like the minimum wage, which also kills win-win opportunities for buyers (business owners) and sellers (job hunters).

Whenever the “exploitation sweatshop” discussion comes up, the look on that taxi driver’s face comes to mind.  It told me he was extremely thankful and even my meager payments more than covered his opportunity cost.

If you click-through to the iPhone article, you’ll see a photo presumably of an iPhone maker, who doesn’t seem as thrilled.  But, as we all know, work isn’t always joyful and photos aren’t always honest.  I’ve snapped my share of family photos during happy moments that somehow ended up looking tragic on the photo as the camera managed to catch a microsecond of facial expression that is undetectable to the naked eye.

Too much education?

The local newspaper recently published a letter to its editor from a teenager complaining about her homework load.  Four hours of homework along with extracurricular activities and volunteer requirements is stressing her out and doesn’t leave her time to have a job, so she wrote.

Most of the online comments to her letter were of the “life’s tough kid” type.

But, I happen to agree with this whiner.

In this post, I suggested one reason the average age at which folks made significant contributions to their respective fields had increased over the last 100 years is because we’ve occupied more of their time with expanded education requirements.

Maybe a broad education, high extracurricular involvement and volunteerism is good.  But, there may be costs too.  I can think of couple costs.

One cost is innovation.  We train the initiative and self-direction out of folks by laying out the steps for them.  As Seth Godin pointed out (see this blog post), our education model churns out “predictable, testable and mediocre factory workers,” rather than folks inclined to discover the next Google or Facebook.

Another cost is maturity and experience.  We insulate and delay students from the harsh realities of the real world — like having to make a tough choice between work or playing sports, spending on a budget, coping with failures and setbacks and figuring out how to  produce something others value.

I read that companies say that college hasn’t prepared students for the work force.  Maybe.  Or maybe the students have been kept so busy with the curriculum and extracurricular activities that they haven’t accumulated as much work experience as previous generations had by the same age.

I wonder how many folks get their first significant job after they graduate from college.  Or, more importantly, how many years of (any) work experience the typical new college grad has now compared to 30 years ago.  How many folks are learning key work lessons — like the importance of a well-groomed appearance, showing up on time and meeting deadlines — at 25 years of age instead of 15?