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The Library of Economics and Liberty features the popular daily blog EconLog. Bloggers Bryan Caplan, David Henderson, Alberto Mingardi, Scott Sumner, Pierre Lemieux and guest bloggers write on topical economics of interest to them, illuminating subjects from politics and finance, to recent films and cultural observations, to history and literature.

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The Library of Economics and Liberty carries the podcast EconTalk, hosted by Russ Roberts. The weekly talk show features one-on-one discussions with an eclectic mix of authors, professors, Nobel laureates, entrepreneurs, leaders of charities and businesses, and people on the street. The emphases are on using topical books and the news to illustrate economic principles. Exploring how economics emerges in practice is a primary theme.

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Recent Posts

Here are the 10 latest posts from EconLog.

EconLog October 17, 2018

Richard Nixon’s 1968 Campaign for President, by David Henderson

The first thing that Martin did for Richard Nixon—one of the first things—it’s dated July 4, 1967—is to make the argument for abolishing the military draft and moving to an all-volunteer armed force.

This is my Hoover colleague Annelise Anderson reminiscing about how she and her husband, the late Martin Anderson, got involved in Richard Nixon’s 1967-68 campaign for president of the United States. Obviously, for those who know my view on the draft, this was my favorite segment of the 1.5 hour discussion on C-SPAN. It’s titled “Richard Nixon’s 1968 Victory,” and was shown on September 21, 2018. The whole thing is way more fascinating than I expected it to be. The moderator is Geoffrey C. Shepard and the 3 other panelists, besides Annelise, are Kenneth L. Khachigian, Patrick J. Buchanan, and Dwight L. Chapin. All 3 were in the Nixon campaign and then the Nixon administration. Chapin later went to prison for lying to a grand jury.

I’ll get to some highlights but first I’ll do my own reminiscence of the Nixon election. I was 17 years old that fall and had just started my second year of college. I had recently self-identified as a libertarian, once I knew what the word meant, and the 1968 election was the first one I followed at all closely, but not nearly as closely as I do now. Although I was no fan of Nixon’s Democratic opponent, Hubert Humphrey (witness the fact that in November 1969 I confronted him about his views on the draft—a story I tell in The Joy of Freedom: An Economist’s Odyssey), I didn’t like the fact that mainly student groups throughout the country were shouting Humphrey down at many of his campaign speeches. “Dump the Hump” went the chant. It was pretty ugly.

But I was so naive about politics that when I read Ayn Rand’s endorsement of Nixon and her highlight of some small criticisms he had made of the FCC and Social Security, I thought he would abolish those within months of becoming president. There’s a lot I didn’t know, to put it mildly.

On the evening of November 5, 1968, my fellow libertarian and University of Winnipeger Don Redekop and I took a bus to Clancy Smith’s place where, along with some other libertarians in their early 20s, we watched the election results. At around 1 p.m. Central time, Clancy drove us home with our still not knowing who won.

I got up late the next morning and found out that Nixon had won. I was euphoric. I shouldn’t have been. Again, there’s a lot I didn’t know. Little did I know that less than 5 years later, I would be working in the Old Executive Office Building less than 200 yards from where Nixon worked.

Fast forward to about August 1993. My wife, daughter, and I were in coach on a United Airlines flight from Newark to LAX. Nixon was in first class with one Secret Service guy. His wife, Pat, had died 2 months earlier. I wasn’t a big fan of Nixon’s, to put it mildly. I thought, back when I was working for him in the summer of 1973, that he should be impeached—over price controls. But I always appreciated, and still do, his role in ending the draft. I’m a pretty spunky person and so I thought I would take my daughter, who was 8 at the time, to the first class section, introduce her to him, and thank him for his role. Then I remembered an interview with him that I had read in the Oakland Tribune in 1980. Asked what his biggest policy mistake was, he answered “ending the draft.” The hell with him, I thought, and that was the end of it. In retrospect, though, I should have taken my daughter to meet him.

Now to the highlights:

13:40-15:30: Writing a book on Nixon’s policy proposals. Got the request on Sunday, put it together, and had books on Friday.

32:25: Mentions Peter Flanigan. I remember being at some event that Ralph Nader spoke at, sometime in the late 1970s, I believe, although it might have a speech he gave at UCLA in 1974 or 1975. Ralph referred to Flanigan as the most evil man in Washington. But I had independent evidence that suggested otherwise. When I was  a summer intern at the Council of Economic Advisers in 1973, I got copies of all of Sam Peltzman’s memos and read them all. What I remember is that whenever Flanigan’s name came up, he was on the economic freedom side of the issue. Years later I met Flanigan and told him (a) what Ralph had said and (b) what I thought.

38:50: Nixon’s pithy explanation for why Rockefeller dropped out: “It’s the girl.”

42:50: After Martin Luther King is murdered, Nixon goes to visit his widow and Martin Luther King, Sr.

56:10: Hunter S. Thompson says that Nixon will be president of the United States because of the 15 minutes of ugly clash between protesters and cops.

1:05:40: Late in October, Pat Buchanan says we’ve lost Michigan and we’re down 43 to 40. Nixon’s watching the Oregon Ducks vs. USC football game and says thanks and goes back to intently watching.

1:12:10: Roger Ailes tells Nixon he needs to make television his friend.

1:15:00: Sun lamp.

1:18:40: Bryce Harlow.

1:24:20: Russian collusion in 1968 election?

1:28:00: Chapin says that Nixon’s convention speech in Miami was a “work of art.” This has certainly motivated me to look at it.

Final comment: In researching Martin Anderson’s role in helping end the draft, which I’ve written about on EconLog, I came across this, which I hadn’t seen before.

HT2 Marlon Bateman

(2 COMMENTS)

EconLog October 17, 2018

Does Immigration Shrink the Welfare State?, by Bryan Caplan

People normally assume that immigration will expand the welfare state.  The lazy version says (a)  immigrants are net beneficiaries of the welfare state, and (b) people vote their self-interest.  The better version says that immigrants’ countries of origins favor more redistribution than natives – and immigrants’ bring their political culture with them.

Both stories, however, ignore the effect of immigration on natives’ support for the welfare state.   Researchers – most of whom look kindly upon both immigration and the welfare state – often fear that immigration will sap natives’ support for redistribution by undermining their  sense of national cohesion.  If they’re right, immigration could easily, on balance, shrink the welfare state rather than expand it.

So what’s the real story?  I honestly don’t know, and after reading Soroka et al.’s “Immigration and Redistribution in a Global Era” chapter in Globalization and Egalitarian Redistribution (Princeton University Press, 2006), I’m less sure than ever.

EconLog October 16, 2018

The Government is NOT the Public, by David Henderson

There’s a proposition on the November ballot in my area to study having a government agency use eminent domain to take over a private regulated water monopoly. I won’t say anything about the merits because this blog cannot legally take a stand on a ballot issue.

But I will discuss something I learned last night that I found incredibly interesting.

A friend texted me and asked me how she should vote on the proposition. I texted back to tell her and I gave some brief reasons. She texted back and said that that was her thinking also but that some friends of hers were surprised when she said that the study was about having the government take over the private company. They had understood the proposition to be about having the public, not the government, take over the private company. That’s somewhat understandable. One of the main slogans of the government takeover group is “Public Water Now.”

EconLog October 16, 2018

A Fatal Flip, by Bryan Caplan

Suppose you receive the following option.

  1. You flip a fair coin.
  2. If the coin is Heads, you acquire healthy immortality.
  3. If the coin is Tails, you instantly die.

The expected value of this option seems infinite: .5*infinity + 0 is still infinity, no?  Even if you apply diminishing marginal utility to life itself, it’s hard to imagine that the rest of your natural life outweighs a 50% shot of eternity… especially if you remember that many of your actual years are unlikely to be healthy.

Nevertheless, I suspect that almost no one would take this deal.  Even I shudder at the possibility.  So what gives?

EconLog October 16, 2018

Pro-business but not pro-market, by Scott Sumner

Left wing places often have laws that are hostile to business. This is the case in my own state of California.

Right wing places are often pro-business, but at the expense of being anti-market. For instance, many states protect car dealerships from competition in the form of direct sales by manufacturers.  Consider the list of states that will not allow Tesla dealerships:

It’s hard to pin down exactly how many states truly don’t want Tesla to open dealerships. Sixteen states have laws on the books that would prevent that . . .

Here are those states: Alabama, Arkansas, Connecticut, Iowa, Kansas, Kentucky, Louisiana, Michigan, Montana, Nebraska, New Mexico, North Dakota, Oklahoma, South Carolina, South Dakota, and Texas.

Interestingly, 14 of those states voted for Trump, while only Connecticut and New Mexico voted for Clinton.  So what’s a free market fan to do?  Ideally you’d want to find some place with right wing views on capitalism and idealistic views on public policy.  Unfortunately, those places are few and far between.   Maybe somewhere like Utah or New Hampshire?  Any other suggestions?

EconLog October 16, 2018

Climate Agnosticism Vs. Insurance Companies, by Pierre Lemieux

Perhaps like many of the readers of this blog, I am a climate agnostic. Given the politicization of environmental issues and the unfounded scares of the last few few decades (see Paul Sabin’s book and my review of it at the Library of Law and Liberty), I am not sure that disastrous climatic changes are occurring nor that human activity is responsible or to which extent. I haven’t looked at the climate models that serve as a basis for the dire warnings. As much as I am willing to defer to a consensus among people who know things that I don’t, I also realize how forecasting models are uncertain, whether in economics or in a chaotic field such as climate science (remember that it is a meteorologist, Edward Lorenz, who discovered chaos theory). And even if climate change were to cause serious problems to a portion of mankind, these costs would be at least partly compensated by weather benefits for another portion.

More important, we should forget that individual liberty is the most endangered species in the world and should not be sacrificed to the “visible fist” of the environmentalist state, to borrow an expression that Murray Rothbard opposed to the invisible hand of the market. In standard (and narrower) economic terms,  reducing the forecasted temperature rise by reducing carbon emissions may cost more than the climate change itself, or reduce the cost by only a small proportion. Our co-blogger David Henderson recently discussed this point in relation to the work of recent Nobel Prize winner William Nordhaus and of Texas Tech’s economist Robert Murphy (see “A Nobel Economics Prize for the Long Run,” Wall Street Journal, October 8, 2016).

EconLog October 15, 2018

Niskanen Center Ignores William Nordhaus, by David Henderson

Decades ago, Nordhaus’s work provided a set of tools that should have appealed to market-minded politicians as a way to tackle greenhouse gas emissions. Yet American conservatives chose denial instead. And because the right ignored Nordhaus (and those who picked up on his work), it seems unlikely that this country will take the “unprecedented” actions that the U.N. Intergovernmental Panel on Climate Change said this week are necessary to hold global warming to 1.5 degrees Celsius.

This is the second paragraph of David Bookbinder and Joseph Majkut, “Nobel laureate William Nordhaus provided tools to fight global warming. It’s tragic conservatives ignored him.” Washington Post, October 12, 2018. Bookbinder and Majkut are chief counsel and director of climate policy respectively at the Niskanen Center.

EconLog October 15, 2018

Escaping Poverty, by Bryan Caplan

Lant Pritchett’s new working paper, “Alleviating Global Poverty: Labor Mobility, Direct Assistance, and Economic Growth” should be required reading for every Effective Altruist.  Bottom line: Virtually all poverty reduction comes from economic growth and migration – not redistribution or philanthropy.  The evidence will be fairly familiar to EconLog readers, but the framing is novel and powerful:

So think of two ways to help the global poor. One is for rich people (in a global sense) to give a dollar and get roughly a dollar’s worth of benefits for the poor. The other people is for rich people to allow people who would like to work at the prevailing wage of their country to do so and not deploy active coercion to prevent this—which reflects the person’s contribution to product and hence is (or can be made to be) zero net cost to the host country. Of course, a dollar for a poor person could produce vastly more human well-being than had the richer person spent the money as the marginal utility was much, much higher for the poor person, but this redistribution effect is the same for both options. This means, at least in current conditions, the least you can do—just increasing the freedom of people who want to work and people who want those people to work to carry out that mutually beneficially transaction across national borders—is better than the best you can do of trying to directly help people in poverty but without allowing them to move to opportunity.

EconLog October 15, 2018

Food for followers, by Alberto Mingardi

It often happens that restaurants are covered, wall to wall, by pictures of celebrities who have dined there. While one cannot be sure that they didn’t pay their dinner bills, it is often what one suspects. It is  interesting news that a restaurant in Milan is making the process more transparent. A sushi place, starting October 15th, is actually differentiating prices based upon their patrons’ social media following (in particular, Instagram’s).

As la Repubblica reports:

It is quite a simple approach, one that divides patron in different tiers, on the basis of their social network following. Once a course is ordered, having 1,000 to 5,000 followers earns a free course, 5 to 10 thousand followers is worth two free courses, 10 to 50 thousand earns four free courses, 50 to 100 thousands doubles that to eight, while a patron who can boast over 100,000 followers can have an entirely free lunch.

EconLog October 14, 2018

Jenkins on Trumps Ducking Taxes, by David Henderson

In one way excruciatingly detailed by the Times, however, Mr. Trump and his sire [Fred Trump] are nothing new under the sun. Nobody in their right mind from the compulsive accumulator class pays the punitive federal estate tax. From an early age, such people make sure their lifetime achievements are not sucked up and splattered away in 15 seconds of federal spending. Bill Gates, Jeff Bezos and Mark Zuckerberg, all apparently in the pink of health, have been working for years to shield their assets from the taxman. Sam Walton, the saintly founder of Walmart , in his autobiography advised: “The best way to reduce paying estate taxes is to give your assets away before they appreciate.”

Because politicians find it useful to appease both the envious and the wealthy, the IRS code features both an estate tax and ways to avoid it. A loophole the Times accuses the Trumps of using is a so-called grantor-retained annuity trust, described as “one of the tax code’s great gifts to the ultrawealthy.” Unsurprisingly, it also happens to be a favorite of the Sulzberger family, which owns the New York Times.

This is from Holman W. Jenkins, Jr., “Dogs Bite Men and Trumps Duck Taxes,” Wall Street Journal, October 5, 2018 (October 6 in print edition.)

I checked his 15 seconds of federal spending number. The feds spent approximately $4.171 trillion in Fiscal Year 2018. That amounts to $7.94 million per minute, which is just under $2 million per 15 seconds. So Holman is exaggerating, actually more than I expected before doing the calculation. If Bill Gates’s estate were worth $100 billion on his death and he didn’t play estate tax avoidance games or leave anything to charity, the tax, at a 40% rate, would be approximately $40 billion. So that would fund the feds for a little over 3.5 days.

Here are the 10 latest posts from EconTalk.

EconTalk October 15, 2018

John Gray on the Seven Kinds of Atheism

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Philosopher and author John Gray talks about his latest book, Seven Types of Atheism, with EconTalk host Russ Roberts. Gray argues that progress is an illusion and that most atheisms inherit, unknowingly, a religious belief in progress that is not justified. While Gray concedes that technological know-how and scientific knowledge improve over time, he argues that morality and political systems are cyclical and that there is no reason to be optimistic about the future.

EconTalk October 8, 2018

Neil Monnery on Hong Kong and the Architect of Prosperity

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Neil Monnery, author of Architect of Prosperity, talks with EconTalk host Russ Roberts about his book–a biography of John Cowperthwaite, the man often credited with the economic success of Hong Kong. Monnery describes the policies that Cowperthwaite championed and the role they played in the evolution of Hong Kong’s economy. How much those policies mattered is the focus of the conversation. Other topics include the relationship between Hong Kong and China and the irony of the challenges Hong Kong faced from U.S. and British protectionism.

EconTalk October 1, 2018

Noah Smith on Worker Compensation, Co-determination, and Market Power

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Bloomberg Opinion columnist and economist Noah Smith talks with EconTalk host Russ Roberts about corporate control, wages, and monopoly power. Smith discusses the costs and benefits of co-determination–the idea of putting workers on corporate boards. The conversation then moves to a lively discussion of wages and monopoly power and how the American worker has been doing in recent years.

EconTalk September 24, 2018

Rodney Brooks on Artificial Intelligence

AI.jpgRodney Brooks, emeritus professor of robotics at MIT, talks with EconTalk host Russ Roberts about the future of robots and artificial intelligence. Brooks argues that we both under-appreciate and over-appreciate the impact of innovation. He applies this insight to the current state of driverless cars and other changes people are expecting to change our daily lives in radical ways. He also suggests that the challenges of developing truly intelligent robots and technologies will take much longer than people expect, giving human beings time to adapt to the effects. Plus a cameo from Isaac Newton.

EconTalk September 17, 2018

Paul Bloom on Cruelty

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Yale University psychologist Paul Bloom talks with EconTalk host Russ Roberts about cruelty–what motivates cruelty, the cruelty of small acts that accumulate into something monstrous, and the question of whether the abuse of a robot is a form of cruelty.

EconTalk September 10, 2018

Kevin McKenna on Solzhenitsyn, the Soviet Union, and In the First Circle

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Russian Literature Professor Kevin McKenna of the University of Vermont talks with EconTalk host Russ Roberts about the life and times of Aleksandr Solzhenitsyn. This is the opening episode of the EconTalk Book Club for Solzhenitsyn’s masterpiece In the First Circle: The First Uncensored Edition. A subsequent episode to air in the next few weeks discusses the book itself.

EconTalk September 3, 2018

Yoram Hazony on the Virtue of Nationalism

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Yoram Hazony discusses his book, The Virtue of Nationalism, with EconTalk host Russ Roberts. Hazony argues that nationalism, for all its flaws, is a better system than a global system of governance. He argues that while the competition between nationalist states can lead to violence, the opportunity for each nation to pursue its own policies creates the benefits that trial-and-error innovation create in the marketplace. He also points out the dangers of global government systems and argues that U.S. military dominance and various international institutions such as European Union and the International Criminal Court have been growing in power.

EconTalk August 27, 2018

Charlan Nemeth on In Defense of Troublemakers

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Psychologist Charlan Nemeth of the University of California, Berkeley and author of In Defense of Troublemakers talks with EconTalk host Russ Roberts about the ideas in the book–the power of groupthink, the power of conviction, and the opportunity for an authentic, persistent dissenter to have an impact on a group’s decision. The conversation concludes with a discussion of the challenges of doing careful research in modern times.

EconTalk August 20, 2018

Lilliana Mason on Uncivil Agreement

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Political scientist Lilliana Mason of the University Maryland and author of Uncivil Agreement talks about the book with EconTalk host Russ Roberts. Mason argues that political partisanship has become stronger in America in recent years because it aligns with other forms of community and identity. People are associating primarily with people who share their political views in their other social activities outside of politics. As a result, they encounter fewer people from the other side. The intensity of partisanship can even overcome ideology as partisans change their policy positions in their eagerness to be on the winning side. The conversation closes with a discussion of what might be done to improve political discourse in America.

EconTalk August 13, 2018

David Meltzer on the Doctor-Patient Relationship

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Physician David Meltzer of the University of Chicago talks about the power of the doctor-patient relationship with EconTalk host Russ Roberts. Meltzer, who also has a Ph.D. in economics, discusses a controlled experiment he has been running to measure the importance of maintaining the continuity of doctor-patient relationships. Meltzer argues that the increasing use of hospitalists–specialists who take over a patient from the patient’s regular doctor once the patient is hospitalized–has raised costs and hurt patients. The initial results from his study show that patients who stay with their doctors have fewer subsequent hospitalizations and have better mental health. The conversation closes with a discussion of the challenges facing the current medical system to adopt cost-saving or life-improving technology or techniques.

Here are the 10 latest posts from CEE.

CEE September 18, 2018

Christopher Sims

Christopher Sims was awarded, along with Thomas Sargent, the 2011 Nobel Prize in Economic Sciences. The Nobel committee cited their “empirical research on cause and effect in the macroeconomy.” The economists who spoke at the press conference announcing the award emphasized Sargent’s and Sims’ analysis of role of people’s expectations.

One of Sims’s earliest famous contributions was his work on money-income causality, which was cited by the Nobel committee. Money and income move together, but which causes which? Milton Friedman argued that changes in the money supply caused changes in income, noting that the supply of money often rises before income rises. Keynesians such as James Tobin argued that changes in income caused changes in the amount of money. Money seems to move first, but causality, said Tobin and others, still goes the other way: people hold more money when they expect income to rise in the future.

Which view is true? In 1972 Sims applied Clive Granger’s econometric test of causality. On Granger’s definition one variable is said to cause another variable if knowledge of the past values of the possibly causal variable helps to forecast the effect variable over and above the knowledge of the history of the effect variable itself. Implementing a test of this incremental predictability, Sims concluded “[T]he hypothesis that causality is unidirectional from money to income [Friedman’s view] agrees with the postwar U.S. data, whereas the hypothesis that causality is unidirectional from income to money [Tobin’s view] is rejected.”

CEE June 28, 2018

Gordon Tullock

Gordon Tullock, along with his colleague James M. Buchanan, was a founder of the School of Public Choice. Among his contributions to public choice were his study of bureaucracy, his early insights on rent seeking, his study of political revolutions, his analysis of dictatorships, and his analysis of incentives and outcomes in foreign policy. Tullock also contributed to the study of optimal organization of research, was a strong critic of common law, and did work on evolutionary biology. He was arguably one of the ten or so most influential economists of the last half of the twentieth century. Many economists believe that Tullock deserved to share Buchanan’s 1986 Nobel Prize or even deserved a Nobel Prize on his own.

One of Tullock’s early contributions to public choice was The Calculus of Consent: Logical Foundations of Constitutional Democracy, co-authored with Buchanan in 1962. In that path-breaking book, the authors assume that people seek their own interests in the political system and then consider the results of various rules and political structures. One can think of their book as a political economist’s version of Montesquieu.

CEE February 4, 2018

Division of Labor

Division of labor combines specialization and the partition of a complex production task into several, or many, sub-tasks. Its importance in economics lies in the fact that a given number of workers can produce far more output using division of labor compared to the same of number of workers each working alone. Interestingly, this is true even if those working alone are expert artisans. The production increase has several causes. According to Adam Smith, these include increased dexterity from learning, innovations in tool design and use as the steps are defined more clearly, and savings in wasted motion changing from one task to another.

Though the scientific understanding of the importance of division of labor is comparatively recent, the effects can be seen in most of human history. It would seem that exchange can arise only from differences in taste or circumstance. But division of labor implies that this is not true. In fact, even a society of perfect clones would develop exchange, because specialization alone is enough to reward advances such as currency, accounting, and other features of market economies.

CEE February 4, 2018

Hoover’s Economic Policies

When it was all over, I once made a list of New Deal ventures begun during Hoover’s years as Secretary of Commerce and then as president. . . . The New Deal owed much to what he had begun.1 —FDR advisor Rexford G. Tugwell

Many historians, most of the general public, and even many economists think of Herbert Hoover, the president who preceded Franklin D. Roosevelt, as a defender of laissez-faire economic policy. According to this view, Hoover’s dogmatic commitment to small government led him to stand by and do nothing while the economy collapsed in the wake of the 1929 stock market crash. The reality is quite different. Far from being a bystander, Hoover actively intervened in the economy, advocating and implementing polices that were quite similar to those that Franklin Roosevelt later implemented. Moreover, many of Hoover’s interventions, like those of his successor, caused the great depression to be “great”—that is, to last a long time.

Hoover’s early career

Hoover, a very successful mining engineer, thought that the engineer’s focus on efficiency could enable government to play a larger and more constructive role in the economy. In 1917, he became head of the wartime Food Administration, working to reduce American food consumption. Many Democrats, including FDR, saw him as a potential presidential candidate for their party in the 1920s. For most of the 1920s, Hoover was Secretary of Commerce under Republican Presidents Harding and Coolidge. As Commerce Secretary during the 1920-21 recession, Hoover convened conferences between government officials and business leaders as a way to use government to generate “cooperation” rather than individualistic competition. He particularly liked using the “cooperation” that was seen during wartime as an example to follow during economic crises. In contrast to Harding’s more genuine commitment to laissez-faire, Hoover began one 1921 conference with a call to “do something” rather than nothing. That conference ended with a call for more government planning to avoid future depressions, as well as using public works as a solution once they started.2 Pulitzer-Prize winning historian David Kennedy summarized Hoover’s work in the 1920-21 recession this way: “No previous administration had moved so purposefully and so creatively in the face of an economic downturn. Hoover had definitively made the point that government should not stand by idly when confronted with economic difficulty.”3 Harding, and later Coolidge, rejected most of Hoover’s ideas. This may well explain why the 1920-21 recession, as steep as it was, was fairly short, lasting 18 months.

Interestingly, though, in his role as Commerce Secretary, Hoover created a new government program called “Own Your Own Home,” which was designed to increase the level of homeownership. Hoover jawboned lenders and the construction industry to devote more resources to homeownership, and he argued for new rules that would allow federally chartered banks to do more residential lending. In 1927, Congress complied, and with this government stamp of approval and the resources made available by Federal Reserve expansionary policies through the decade, mortgage lending boomed. Not surprisingly, this program became part of the disaster of the depression, as bank failures dried up sources of funds, preventing the frequent refinancing that was common at the time, and high unemployment rates made the government-encouraged mortgages unaffordable. The result was a large increase in foreclosures.4

The Hoover presidency

Hoover did not stand idly by after the depression began. To fight the rapidly worsening depression, Hoover extended the size and scope of the federal government in six major areas: (1) federal spending, (2) agriculture, (3) wage policy, (4) immigration, (5) international trade, and (6) tax policy.

Consider federal government spending. (See Fiscal Policy.) Federal spending in the 1929 budget that Hoover inherited was $3.1 billion. He increased spending to $3.3 billion in 1930, $3.6 billion in 1931, and $4.7 billion and $4.6 billion in 1932 and 1933, respectively, a 48% increase over his four years. Because this was a period of deflation, the real increase in government spending was even larger: The real size of government spending in 1933 was almost double that of 1929.5 The budget deficits of 1931 and 1932 were 52.5% and 43.3% of total federal expenditures. No year between 1933 and 1941 under Roosevelt had a deficit that large.6 In short, Hoover was no defender of “austerity” and “budget cutting.”


Figure 1 




Shortly after the stock market crash in October 1929, Hoover extended federal control over agriculture by expanding the reach of the Federal Farm Board (FFB), which had been created a few months earlier.7 The idea behind the FFB was to make government-funded loans to farm cooperatives and create “stabilization corporations” to keep farm prices up and deal with surpluses. In other words, it was a cartel plan. That fall, Hoover pushed the FFB into full action, lending to farmers all over the country and otherwise subsidizing farming in an attempt to keep prices up. The plan failed miserably, as subsidies encouraged farmers to grow more, exacerbating surpluses and eventually driving prices way down. As more farms faced dire circumstances, Hoover proposed the further anti-market step of paying farmers not to grow.

On wages, Hoover revived the business-government conferences of his time at the Department of Commerce by summoning major business leaders to the White House several times that fall. He asked them to pledge not to reduce wages in the face of rising unemployment. Hoover believed, as did a number of intellectuals at the time, that high wages caused prosperity, even though the true causation is from capital accumulation to increased labor productivity to higher wages. He argued that if major firms cut wages, workers would not have the purchasing power they needed to buy the goods being produced. As most depressions involve falling prices, cutting wages to match falling prices would have kept purchasing power constant. What Hoover wanted amounted to an increase in real wages, as constant nominal wages would be able to purchase more goods at falling prices. Presumably out of fear of the White House or, perhaps, because it would keep the unions quiet, industrial leaders agreed to this proposal. The result was rapidly escalating unemployment, as firms quickly realized that they could not continue to employ as many workers when their output prices were falling and labor costs were constant.8

Of all of the government failures of the Hoover presidency—excluding the actions of the Federal Reserve between 1929 and 1932, over which he had little to no influence—his attempt to maintain wages was the most damaging. Had he truly believed in laissez-faire, Hoover would not have intervened in the private sector that way. Hoover’s high-wage policy was a clear example of his lack of confidence in the corrective forces of the market and his willingness to use governmental power to fight the depression.

Later in his presidency, Hoover did more than just jawbone to keep wages up. He signed two pieces of labor legislation that dramatically increased the role of government in propping up wages and giving monopoly protection to unions. In 1931, he signed the Davis-Bacon Act, which mandated that all federally funded or assisted construction projects pay the “prevailing wage” (i.e., the above market-clearing union wage). The result of this move was to close out non-union labor, especially immigrants and non-whites, and drive up costs to taxpayers. A year later, he signed the Norris-LaGuardia Act, whose five major provisions each enshrined special provisions for unions in the law, such as prohibiting judges from using injunctions to stop strikes and making union-free contracts unenforceable in federal courts.9 Hoover’s interventions into the labor market are further evidence of his rejection of laissez-faire.

Two other areas that Hoover intervened in aggressively were immigration and international trade. One of the lesser-known policy changes during his presidency was his near halt to immigration through an Executive Order in September 1930. His argument was that blocking immigration would preserve the jobs and wages of American citizens against competition from low-wage immigrants. Immigration fell to a mere 10 to 15% of the allowable quota of visas for the five-month period ending February 28, 1931. Once again, Hoover was unafraid to intervene in the economic decisions of the private sector by preventing the competitive forces of the global labor market from setting wages.10

Even those with only a casual knowledge of the Great Depression will be familiar with one of Hoover’s major policy mistakes—his promotion and signing of the Smoot-Hawley tariff in 1930. This law increased tariffs significantly on a wide variety of imported goods, creating the highest tariff rates in U.S. history. While economist Douglas Irwin has found that Smoot-Hawley’s effects were not as large as often thought, they still helped cause a decline in international trade, a decline that contributed to the worsening worldwide depression.

Most of these policies continued and many expanded throughout 1931, with the economy worsening each month. By the end of the year, Hoover decided that more drastic action was necessary, and on December 8, he addressed Congress and offered proposals that historian David Kennedy refers to as “Hoover’s second program, ” and that has also been called “The Hoover New Deal.”11 His proposals included:

The Reconstruction Finance Corporation to lend tax dollars to banks, firms and others institutions in need.

A Home Loan Bank to provide government help to the construction sector.

Congressional legalization of Hoover’s executive order that had blocked immigration.

Direct loans to state governments for spending on relief for the unemployed.

More aid to Federal Land Banks.

Creating a Public Works Administration that would both better coordinate Federal public works and expand them.

More vigorous enforcement of antitrust laws to end “destructive competition” in a variety of industries, as well as supporting work-sharing programs that would supposedly reduce unemployment.

On top of these spending proposals, most of which were approved in one form or another, Hoover proposed, and Congress approved, the largest peacetime tax increase in U.S. history. The Revenue Act of 1932 increased personal income taxes dramatically, but also brought back a variety of excise taxes that had been used during World War I. The higher income taxes involved an increase of the standard rate from a range of 1.5 to 5% to a range of 4 to 8%. On top of that increase, the Act placed a large surtax on higher-income earners, leading to a total tax rate of anywhere from 25 to 63%. The Act also raised the corporate income tax along with several taxes on other forms of income and wealth.

Whether or not Hoover’s prescriptions were the right medicine—and the evidence suggests that they were not—his programs were a fairly aggressive use of government to address the problems of the depression.12 These programs were hardly what one would expect from a man devoted to “laissez-faire” and accused of doing nothing while the depression worsened.

The views of contemporaries and modern historians

The myth of Hoover as a defender of laissez-faire persists, despite the fact that his contemporaries clearly understood that he made aggressive use of government to fight the recession. Indeed, Hoover’s own statements made clear that he recognized his aggressive use of intervention. The myth also persists in spite of the widespread recognition by modern historians that the Hoover presidency was anything but an era of laissez-faire.

According to Hoover’s Secretary of State, Henry Stimson, Hoover argued that balancing the budget was a mistake: “The President likened it to war times. He said in war times no one dreamed of balancing the budget. Fortunately we can borrow.”13 Hoover himself summarized his administration’s approach to the depression during a campaign speech in 1932:

We might have done nothing. That would have been utter ruin. Instead, we met the situation with proposals to private business and the Congress of the most gigantic program of economic defense and counter attack ever evolved in the history of the Republic. These programs, unparalleled in the history of depressions of any country and in any time, to care for distress, to provide employment, to aid agriculture, to maintain the financial stability of the country, to safeguard the savings of the people, to protect their homes, are not in the past tense—they are in action. . . . No government in Washington has hitherto considered that it held so broad a responsibility for leadership in such time.14

Some might dismiss this as campaign rhetoric, but as the other evidence indicates, Hoover was giving an accurate portrayal of his presidency. Indeed, Hoover’s profligacy was so clear that Roosevelt attacked it during the 1932 Presidential campaign.

Roosevelt’s own advisors understood that much of what they created during the New Deal owed its origins to Hoover’s policies, going as far back as his time at the Commerce Department in the 1920s. Thus the quote at the start of this article by Rex Tugwell, one of the academics at the center of FDR’s “brains trust.” Another member of the brains trust, Raymond Moley, wrote of that period:

When we all burst into Washington . . . we found every essential idea [of the New Deal] enacted in the 100-day Congress in the Hoover administration itself. The essentials of the NRA [National Recovery Administration], the PWA [Public Works Administration], the emergency relief setup were all there. Even the AAA [Agricultural Adjustment Act] was known to the Department of Agriculture. Only the TVA [Tennessee Valley Authority] and the Securities Act was [sic] drawn from other sources. The RFC [Reconstruction Finance Corporation], probably the greatest recovery agency, was of course a Hoover measure, passed long before the inauguration.15

Decades later, Tugwell, writing to Moley, said of Hoover: “[W]e were too hard on a man who really invented most of the devices we used.”16 Members of Roosevelt’s inner circle would have every reason to disassociate themselves from the policies of their predecessor; yet these two men recognized Hoover’s role as the father of the New Deal quite clearly.

Nor is this point lost on contemporary historians. In his authoritative history of the Great Depression era, David Kennedy admiringly wrote that Hoover’s 1932 program of activist policies helped “lay the groundwork for a broader restructuring of government’s role in many other sectors of American life, a restructuring known as the New Deal.”17 In a later discussion of the beginning of the Roosevelt administration, Kennedy observed (emphasis added):

Roosevelt intended to preside over a government even more vigorously interventionist and directive than Hoover’s. . . . [I]f Roosevelt had a plan in early 1933 to effect economic recovery, it was difficult to distinguish from many of the measures that Hoover, even if sometimes grudgingly, had already adopted: aid for agriculture, promotion of industrial cooperation, support for the banks, and a balanced budget. Only the last was dubious. . . . FDR denounced Hoover’s budget deficits.18

Conclusion

Despite overwhelming evidence to the contrary, from Hoover’s own beliefs to his actions as president to the observations of his contemporaries and modern historians, the myth of Herbert Hoover’s presidency as an example of laissez-faire persists. Of all the presidents up to and including him, Herbert Hoover was one of the most active interveners in the economy.


About the Author

Steven Horwitz is the Charles A. Dana Professor of Economics at St. Lawrence University


Footnotes

*

This entry is adapted, with permission, from Steven Horwitz, “Herbert Hoover: Father of the New Deal,” Cato Institute Briefing Papers, No. 122, September 29, 2011, at: http://www.cato.org/publications/briefing-paper/herbert-hoover-father-new-deal

As quoted in Amity Shlaes, The Forgotten Man: A New History of the Great Depression. New York: Harper Collins, 2007, p. 149.

Murray N. Rothbard, America’s Great Depression (1963; Auburn, AL: Ludwig von Mises Institute, 2008), p. 192.

David M. Kennedy, Freedom From Fear: The American People in Depression and War, 1929-1945. New York: Oxford University Press, p. 48.

See Steven Malanga, “Obsessive Housing Disorder,” City Journal, 19 (2), Spring 2009.

Federal government spending data can be found at: http://www2.census.gov/prod2/statcomp/documents/CT1970p2-12.pdf

See the data and discussion in Jonathan Hughes and Louis P. Cain, American Economic History, 7th ed., Boston: Pearson, 2007, p. 487. Hughes and Cain also note of those deficits, “The expenditures were in large part the doing of the outgoing Hoover administration.”

See Kennedy op. cit., pp. 43-44; Rothbard op. cit., p. 228; and Gene Smiley, Rethinking the Great Depression, Chicago: Ivan R. Dee, 2002, p. 13.

See Lee Ohanian, “What – or Who – Started the Great Depression?” Journal of Economic Theory 144, 2009, pp. 2310-2335.

Chuck Baird, “Freeing Labor Markets by Reforming Union Laws,” June 2011, Downsizing DC, Cato Institute, available at http://www.downsizinggovernment.org/labor/reforming-labor-union-laws.

See “White House Statement on Government Policies To Reduce Immigration” March 26, 1931, available at http://www.presidency.ucsb.edu/ws/index.php?pid=22581#axzz1V7klWwZu. That statement opens with an explicit link between the immigration policy and unemployment: “President Hoover, to protect American workingmen from further competition for positions by new alien immigration during the existing conditions of employment, initiated action last September looking to a material reduction in the number of aliens entering this country.”

Kennedy op. cit., p. 83. The phrase “Hoover’s New Deal” is from the title of chapter 11 in Rothbard, op. cit..

Hoover’s higher tax rates backfired, as they further depressed income-earning activity, reducing the tax base, which in turn led to a fall in tax revenues for 1932.

As cited in Kennedy op. cit., p. 79.

Herbert Hoover, “Address Accepting the Republican Presidential Nomination,” August 11, 1932.

Raymond Moley, “Reappraising Hoover,” Newsweek, June 14, 1948, p. 100.

Letter from Rexford G. Tugwell to Raymond Moley, January 29, 1965, Raymond Moley Papers, “Speeches and Writings,” Box 245-49, Hoover Institution on War, Revolution and Peace, Stanford University, Stanford, CA, as cited in Davis W. Houck, “Rhetoric as Currency: Herbert Hoover and the 1929 Stock Market Crash,” Rhetoric & Public Affairs 3, 2000, p. 174.

Kennedy, op. cit., p. 83.

Kennedy, op. cit., p. 118.

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CEE February 4, 2018

Wages and Working Conditions

 

CEOs of multinational corporations, exotic dancers, and children with lemonade stands have at least one thing in common. They all expect a return for their effort. Most workers get that return in a subtle and ever-changing combination of money wages and working conditions. This article describes how they changed for the typical U.S. worker during the twentieth century.

 

Working Conditions

Surely the single most fundamental working condition is the chance of death on the job. In every society workers are killed or injured in the process of production. While occupational deaths are comparatively rare overall in the United States today, they still occur with some regularity in ocean fishing, the construction of giant bridges and skyscrapers, and a few other activities.

 

For all United States workers the number of fatalities per dollar of real (inflation-adjusted) GNP dropped by 96 percent between 1900 and 1979. Back in 1900 half of all worker deaths occurred in two industries—coal mining and railroading. But between 1900 and 1979 fatality rates per ton of coal mined and per ton-mile of freight carried fell by 97 percent.

 

This spectacular change in worker safety resulted from a combination of forces that include safer production technologies, union demands, improved medical procedures and antibiotics, workmen’s compensation laws, and litigation. Ranking the individual importance of these factors is difficult and probably would mean little. Together, they reflected a growing conviction on the part of the American people that the economy was productive enough to afford such change. What’s more, the United States made far more progress in the workplace than it did in the hospital. Even though inflation-adjusted medical expenditures tripled from 1950 to 1970 and increased by 74 percent from 1975 to 1988, the nation’s death rate declined in neither period. But industry succeeded in lowering its death rate, both by spending to improve health on the job and by discovering, developing, and adopting ways to save lives.

 

Data for injuries are scarcer and less reliable, but they probably declined as well. Agriculture has one of the highest injury rates of any industry; the frequent cuts and bruises can become infected by the bacteria in barnyards and on animals. Moreover, work animals and machinery frequently injure farm workers. Since the proportion of farm workers in the total labor force fell from about 40 percent to 2 percent between 1900 and 1990, the U.S. worker injury rate would have fallen even if nothing else changed. The limited data on injuries in manufacturing also indicate a decline.

 

Another basic aspect of working conditions is exposure to the weather. In 1900 more than 80 percent of all workers farmed in open fields, maintained railroad rights of way, constructed or repaired buildings, or produced steel and chemicals. Their bosses may have been comfortably warm in the winter and cool in the summer, but the workers were not. A columnist of that era ironically described the good fortune of workers in Chicago steelworks, who could count on being warmed by the blast from the steel melt in freezing weather. Boys who pulled glass bottles from furnaces were similarly protected—when they didn’t get burned. By 1990, in contrast, more than 80 percent of the labor force worked in places warmed in the winter and cooled in the summer.

 

Hours of work for both men and women were shorter in the United States than in most other nations in 1900. Women in Africa and Asia still spent two hours a day pounding husks off wheat or rice for the family food. American women bought their flour and cornmeal, or the men hauled it home from the mill. Women, however, still typically worked from dawn to dusk, or even longer by the light of oil or kerosene lamps. Caring for sick children lengthened those hours further. Charlotte Gilman, an early feminist leader, declared that cooking and care of the kitchen alone took forty-two hours a week. Early budget studies are consistent with that estimate. Men, too, worked dawn to dusk on the farm, and in most nonfarm jobs (about 60 percent of the total), men worked ten hours a day, six days a week.

 

By 1981 (the latest date available), women’s kitchen work had been cut about twenty hours a week, according to national time-budget studies from Michigan’s Institute of Survey Research. That reduction came about because families bought more restaurant meals, more canned, frozen, and prepared foods, and acquired an arsenal of electric appliances. Women also spent fewer hours washing and ironing clothes and cleaning house. Fewer hours of work in the home had little impact on women’s labor force participation rate until the great increase after 1950.

 

Men’s work hours were cut in half during the twentieth century. That decline reflected a cut of more than twenty hours in the scheduled work week. It also reflected the fact that paid vacations—almost nonexistent in 1900—had spread, and paid holidays multiplied.

 

In addition, the percentage of the labor force in the worst jobs has declined dramatically. Common laborers in most societies face the most arduous, dangerous, and distasteful working conditions. Their share of the U.S. labor force fell from about 30 percent to 5 percent between 1900 and 1990. Thousands of men in 1900 spent their lives shoveling coal into furnaces to power steam engines. Less than 5 percent of factory power came from electric motors. By 1990 nearly all these furnaces, and men, had been replaced—first by mechanical stokers and then by oil burners and electric motors. Tens of thousands of other men in 1900 laid railroad track and ties, shifting them by brute force, or shoveled tons of coal and grain into gondola cars and ships’ holds. They too have given way to machines or now use heavy machinery to ease their toil.

 

The largest group of common laborers in 1900 was the men, women, and children who cultivated and harvested crops by hand (e.g., cotton, corn, beets, potatoes). Most blacks and many Asian and Mexican-American workers did so. These millions were eventually replaced by a much smaller group, generally using motorized equipment. New machinery also eased the lot of those who once spent their lives shoveling fertilizer, mixing cement, working in glue-works, carrying bundles of rags, waste paper, or finished clothing, and tanning hides.

 

Such tasks remain a miserable fact of life in many societies. But the expanding U.S. economy forced improvement as workers got the choice of better jobs on factory assembly lines, in warehouses, and in service establishments. Producers increasingly had to replace departing common labor with machinery. They substituted machinery for labor across the board. (Computer software even replaced some bank vice presidents.) But many more men who labored at difficult and boring jobs were replaced by machines tended by semiskilled workers. Between 1900 and 1990 the amount of capital equipment used by the typical American worked rose about 150 percent, taking all industries together.

 

Wages

 

Rock singers, movie stars, athletes, and CEOs stand at one end of the income distribution. At the other end are part-time workers and many of the unemployed. The differences in annual earnings only partly reflect hourly wages. They also reflect differences in how many hours a year workers spend on the job.

 

Thanks to increased income tax rates since 1936, today’s workers attempt to reduce taxes by converting their earnings into other, nontaxable forms of income. Why use after-tax income to pay for medical care if you can get it as an untaxed fringe benefit? Why pay for the full cost of lunch if the company can subsidize meals at work? The proliferation of such “receipts in kind” has made it increasingly difficult to make meaningful comparisons of the distribution of income over time or of earnings in different social and occupational groups.

 

Comparing money wages over time thus offers only a partial view of what has happened to worker incomes. But what do the simple overall figures for earnings by the typical worker (before tax and ignoring “in kind” allowances) show? Table 1 reports how the average wage for nonfarm workers rose during this century. By 1980 real earnings of American nonfarm workers were about four times as great as in 1900. Government taxes took away an increasing share of the worker’s paycheck. What remained, however, helped transform the American standard of living. In 1900 only a handful earned enough to enjoy such expensive luxuries as piped water, hot water, indoor toilets, electricity, and separate rooms for each child. But by 1990 workers’ earnings had made such items commonplace. Moreover, most Americans now have radios, TVs, automobiles, and medical care that no millionaire in 1900 could possibly have obtained.

 

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TABLE 1


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Nonfarm Employees Annual Earnings, 1900-80


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Real earnings (1914 dollars)


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Real earnings (1914 dollars)


| | Year | Money Earnings When Employed (dollars) | After Deduction for Unemployment (dollars) | When Employed (dollars) | Consumer Price Index
(1914 = 100)
| Year | Money Earnings When Employed (dollars) | After Deduction for Unemployment (dollars) | When Employed (dollars) | Consumer Price Index
(1914 = 100)
| | 1900 | 483 | 523 | 573 | 84.3 | 1940 | 1,438 | 812 | 1,032 | 139.4 | | 1901 | 497 | 546 | 582 | 85.4 | 1941 | 1,593 | 931 | 1,088 | 146.4 | | 1902 | 528 | 583 | 612 | 86.3 | 1942 | 1,877 | 1,080 | 1,159 | 162.0 | | 1903 | 534 | 575 | 607 | 88.0 | 1943 | 2,190 | 1,239 | 1,273 | 172.0 | | 1904 | 538 | 555 | 606 | 88.8 | 1944 | 2,370 | 1,331 | 1,354 | 175.0 | | 1905 | 550 | 582 | 621 | 88.5 | 1945 | 2,460 | 1,338 | 1,375 | 179.0 | | 1906 | 566 | 618 | 627 | 90.2 | 1946 | 2,575 | 1,253 | 1,326 | 194.2 | | 1907 | 592 | 613 | 631 | 93.8 | 1947 | 2,802 | 1,194 | 1,262 | 222.1 | | 1908 | 577 | 545 | 631 | 91.5 | 1948 | 3,067 | 1,216 | 1,281 | 239.4 | | 1909 | 600 | 604 | 657 | 91.3 | 1949 | 3,088 | 1,190 | 1,303 | 237.0 | | | | 1910 | 634 | 608 | 669 | 94.7 | 1950 | 3,276 | 1,272 | 1,368 | 239.4 | | 1911 | 644 | 612 | 676 | 95.2 | 1951 | 3,560 | 1,317 | 1,378 | 258.3 | | 1912 | 657 | 619 | 676 | 97.2 | 1952 | 3,777 | 1,375 | 1,431 | 263.9 | | 1913 | 687 | 649 | 695 | 98.9 | 1953 | 3,986 | 1,442 | 1,499 | 265.9 | | 1914 | 696 | 613 | 696 | 100.0 | 1954 | 4,110 | 1,427 | 1,538 | 267.3 | | 1915 | 692 | 591 | 684 | 101.1 | 1955 | 4,318 | 1,529 | 1,621 | 266.3 | | 1916 | 760 | 649 | 699 | 108.7 | 1956 | 4,557 | 1,597 | 1,686 | 270.3 | | 1917 | 866 | 681 | 704 | 127.7 | 1957 | 4,764 | 1,608 | 1,702 | 279.9 | | 1918 | 1,063 | 694 | 709 | 150.0 | 1958 | 4,956 | 1,574 | 1,724 | 287.5 | | 1919 | 1,215 | 681 | 704 | 172.5 | 1959 | 5,217 | 1,674 | 1,800 | 289.8 | | | | 1920 | 1,426 | 672 | 714 | 199.7 | 1960 | 5,402 | 1,706 | 1,834 | 294.5 | | 1921 | 1,330 | 620 | 747 | 178.1 | 1961 | 5,584 | 1,719 | 1,877 | 297.5 | | 1922 | 1,289 | 688 | 772 | 166.9 | 1962 | 5,829 | 1,804 | 1,938 | 300.8 | | 1923 | 1,376 | 774 | 811 | 169.7 | 1963 | 6,045 | 1,847 | 1,986 | 304.4 | | 1924 | 1,396 | 754 | 820 | 170.3 | 1964 | 6,327 | 1,921 | 2,052 | 308.4 | | 1925 | 1,420 | 764 | 812 | 174.8 | 1965 | 6,535 | 1,968 | 2,083 | 313.7 | | 1926 | 1,452 | 801 | 824 | 176.2 | 1966 | 6,860 | 2,028 | 2,126 | 322.7 | | 1927 | 1,487 | 810 | 861 | 172.8 | 1967 | 7,156 | 2,058 | 2,155 | 332.0 | | 1928 | 1,490 | 816 | 872 | 170.9 | 1968 | 7,675 | 2,126 | 2,219 | 345.9 | | 1929 | 1,534 | 853 | 901 | 170.3 | 1969 | 8,277 | 2,165 | 2,257 | 364.5 | | | | 1930 | 1,495 | 773 | 901 | 166.0 | 1970 | 8,821 | 2,155 | 2,285 | 386.1 | | 1931 | 1,408 | 696 | 930 | 151.4 | 1971 | 9,423 | 2,181 | 2,340 | 402.7 | | 1932 | 1,249 | 585 | 918 | 135.8 | 1972 | 10,066 | 2,265 | 2,420 | 416.0 | | 1933 | 1,165 | 565 | 905 | 128.8 | 1973 | 10,767 | 2,303 | 2,437 | 441.9 | | 1934 | 1,199 | 607 | 901 | 133.1 | 1974 | 11,632 | 2,521 | 2,372 | 490.4 | | 1935 | 1,244 | 637 | 912 | 136.4 | 1975 | 12,702 | 2,148 | 2,373 | 535.2 | | 1936 | 1,296 | 701 | 940 | 137.8 | 1976 | 13,727 | 2,216 | 2,425 | 566.1 | | 1937 | 1,392 | 767 | 975 | 142.8 | 1977 | 14,743 | 2,256 | 2,447 | 602.6 | | 1938 | 1,370 | 705 | 978 | 140.1 | 1978 | 15,847 | 2,279 | 2,443 | 648.7 | | 1939 | 1,403 | 760 | 1,016 | 138.1 | 1979 | 17,183 | 2,229 | 2,381 | 721.8 | | | 1980 | 18,861 | 2,114 | 2,300 | 820.0 | |

SOURCE: Lebergott, 1984.


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Labor Productivity

The fundamental cause of this increase in the standard of living was the increase in productivity. What caused that increase? The tremendous changes in Korea, Hong Kong, and Singapore since World War II demonstrate how tenuous is the connection between productivity and such factors as sitting in classrooms, natural resources, previous history, or racial origins. Increased productivity depends more on national attitudes and on free markets, in the United States as in Hong Kong and Singapore.

 

Output per hour worked in the United States, which already led the world in 1900, tripled from 1900 to 1990. Companies competed away much of that cost savings via lower prices, thus benefiting consumers. (Nearly all of these consumers, of course, were in workers’ families.) Workers also benefited directly from higher wages on the job.

 

The U.S. record for working conditions and real wages reveals impressive and significant advances, greater than in many other nations. But the quest for still higher wages and for less effort and boredom shows no sign of halting.

 

Stanley Lebergott is an emeritus professor of economics at Wesleyan University in Middletown, Connecticut. He was previously an economist with the U.S. Bureau of the Budget and the U.S. Department of Labor. He was a member of the President’s Commission on Federal Statistics in 1971 and president of the Economic History Association in 1984.

 

Further Reading

Goldin, Claudia. “The Work and Wages of Single Women, 1870-1920.” Journal of Economic History 41 (1980): 81-89.

Lebergott, Stanley. The American Economy: Income, Wealth, and Want. 1976.

Lebergott, Stanley. The Americans: An Economic Record. 1984.

 

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CEE February 4, 2018

Unemployment Insurance

 

[Editor’s note: some of the data have changed since this article was written in 1992. The overall structure of the unemployment insurance, however, has remained intact.]

 

The United States unemployment insurance program is intended to offset income lost by workers who lose their jobs as a result of employer cutbacks. The program, launched by the Social Security Act of 1935, is the government’s single most important source of assistance to the jobless.

 

A second goal of the program is to counter the negative impacts on the national economy, and especially on local economies, of major layoffs, seasonal cutbacks, or a recession. Unemployment benefits help sustain the level of income and hence the demand for goods and services in areas hard hit by unemployment. In short, unemployment insurance supports consumer buying power.

 

Not all unemployed workers are eligible for unemployment insurance. In fact, from 1984 to 1989 the proportion of the unemployed receiving benefits was at or below 34 percent every year. Benefits are not paid to employees who quit their jobs voluntarily or are fired for cause. Nor are they paid to those who are just entering the labor force but cannot find a job, nor to reentrants to the labor force who are looking for work. In February 1991, 76 percent of the target population of “job losers”—those involuntarily laid off—received benefits.

 

The proportion of unemployed workers who receive benefits is always higher during recessions than during expansions. This is because during recessions a higher fraction of the unemployed are people who were laid off. By January 1991, 46 percent of total unemployed workers claimed unemployment benefits, the highest percentage for that month since 1983.

 

Under the joint federal-state program, most states pay a maximum of twenty-six weeks in benefits, starting after a one-week waiting period. A few extend the duration somewhat longer. These benefits replace about one-third of gross wages for people with average or below-average incomes. The average weekly benefit in 1991 was about $161. When a state’s unemployment is substantially above the national average, the program provides for up to an additional thirteen weeks of benefits. Five states were paying “extended benefits” in the winter of 1991, but this number approximately doubled by the end of April as the recession and unemployment worsened. The state and federal government share, approximately equally, the cost of extended benefits. During the eighties many states raised their “triggers”—the unemployment rate that must be reached—for extended benefits. As a result relatively few workers were eligible for extended benefits.

 

The federal government makes grants to the states for the administration of the unemployment insurance program. These grants exceeded $2 billion in fiscal 1991, ending September 30, 1991. The money helped pay the wages of about thirty-seven thousand state workers who administer the program and who dispense benefits from state unemployment insurance funds. In that fiscal year states collected about $16 billion in unemployment taxes from employers to cover the cost of the program; the federal government collected approximately $4.4 billion. Outlays on benefits were expected to run about $18.7 billion in fiscal 1991.

 

Federal law requires all state governments to impose a tax on employers of at least 0.8 percent on each employee’s first $7,000 of pay. The tax base exceeds $7,000 in thirty-six states, with a national average of about $8,500. The highest base is $21,300 in Alaska. Most states levy a higher tax rate on businesses that have higher layoffs. However, the tax rate cannot go below the minimum even for businesses that have no layoffs. Nor do states set the maximum high enough so that employers with high layoff rates generate enough tax revenues to pay all the benefits to the workers they lay off. The result is that workers and businesses in industries with low layoff rates subsidize workers and businesses in industries, such as construction, with high layoff rates. Harvard’s Martin Feldstein suggested in 1973 that this subsidization of layoffs would cause more layoffs. The evidence indicates that he was correct. Economist Robert Topel of the University of Chicago estimates that if employers could expect to repay (in taxes) the full value of unemployment benefits drawn by their laid-off workers, then the unemployment rate would fall by as much as 1 full point (e.g., from 6 percent of the labor force to 5 percent).

 

A basic tenet of economics is that when an activity is subsidized, people do more of it. Does unemployment insurance—a subsidy for being unemployed—increase unemployment by prompting the unemployed to delay their search for a new job or to search longer for a better position? Economists have found that it does. A 1990 study by Bruce D. Meyer, an economist at Northwestern University, found that a 10 percent boost in the “replacement ratio”—the proportion of after-tax work earnings replaced by unemployment benefits—causes unemployed people to extend their time without work by an average of 1.5 weeks. (During fiscal 1990 the average duration of benefits for the jobless was 13.6 weeks.)

 

Most people who receive unemployment insurance find a job or are recalled to work in the first several weeks. Meyer also found that among those who remain jobless for a longer period, the chance of a person on unemployment insurance going back to work increases rapidly as the time of benefit exhaustion approaches. Indeed, the chances of an unemployed person getting a job triples as the length of remaining benefits drops from six weeks to one week. Meyer suspects some of the jobless may have arranged to be recalled to previous work or to begin new work about the time their benefits expire. “If workers are bound to firms by implicit contracts, moving costs, specific human capital [education, experience, skills, etc.], or other reasons, firms have an incentive to base recall decisions on the length of UI [unemployment insurance] benefits,” noted Meyer in a study done for the National Bureau of Economic Research. Unionized firms tend to take greater advantage of this “layoff subsidy” than do non-union establishments. And not surprisingly, given the incentives, layoffs are more common for those eligible for unemployment benefits than for those not eligible. If benefits are extended beyond twenty-six weeks, the unemployed tend to stay out of work nearly a day longer, on average, for each week of the extension.

 

Lawrence H. Summers, chief economist at the World Bank, and chief economic adviser to Democratic presidential candidate Michael Dukakis in 1988, reaches similar conclusions. Summers, along with Harvard economist Kim B. Clark, found that unemployment insurance almost doubles the number of unemployment spells lasting more than three months, thereby encouraging long-term joblessness. Summers and Clark suggest that unemployment insurance benefits cause many of the long-term unemployed to have high “reservation wages.” Translation: to accept a job, these unemployed workers insist on getting a high wage, and if they aren’t offered that wage, they stay on unemployment insurance as long as possible.

 

Economists have proposed various reforms to reduce the adverse effects of unemployment while still assisting people who lose their jobs. One of the more modest reforms suggested has been to reduce the minimum tax rate on employers and raise the maximum tax rate, so that the taxes they pay more closely reflect their layoff rates. A more extreme proposal, made by Robert Topel, is to experience-rate individual workers so that workers with a history of long unemployment spells pay higher tax rates. The federal government has already adopted one reform suggested by economists across the ideological spectrum. The 1986 Tax Reform Act eliminates the tax bias in favor of unemployment insurance by taxing unemployment benefits just like other income.

 

David R. Francis is an economic journalist with the Christian Science Monitor.

 

Further Reading

Becker, Joseph M. Experience Rating in Unemployment Insurance: An Experiment in Competitive Socialism. 1972.

Feldstein, Martin. “The Economics of the New Unemployment.” Public Interest 33 (Fall 1973): 3-42.

Summers, Lawrence H. Understanding Unemployment. 1990.

Topel, Robert. “Unemployment and Unemployment Insurance.” Research in Labor Economics 7 (1986): 91-135.

Topel, Robert. “Financing Unemployment Insurance: History, Incentives, and Reform.” In Unemployment Insurance: The Second Half Century, edited by W. Lee Hansen and J. Byers. 1990.

 

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CEE February 4, 2018

Third World Debt

 

[Editor’s note: this article was written in 1991.]

 

By the end of 1990 the world’s poor and developing countries owed more than $1.3 trillion to industrialized countries. Among the largest problem debtors were Brazil ($116 billion), Mexico ($97 billion), and Argentina ($61 billion). Of the total developing-country debt, roughly half is owed to private creditors, mainly commercial banks.

 

The rest consists of obligations to international lending organizations such as the International Monetary Fund (IMF) and the World Bank, and to governments and government agencies—export-import banks, for example. Of the private bank debt, the bulk has been incurred by middle-income countries, especially in Latin America. The world’s poorest countries, mostly in Africa and South Asia, were never able to borrow substantial sums from the private sector and most of their debts are to the IMF, World Bank, and other governments.

 

Third World debt grew dramatically during the seventies, when bankers were eager to lend money to developing countries. Although many Third World governments defaulted on their debts during the thirties, bankers had put that episode out of their minds by the seventies. The mood of the time is perhaps best captured in the famous proclamation by the Citibank chairman at the time, Walter Wriston, that lending to governments is safe banking because sovereign nations do not default on their debts.

 

The loan pyramid came crashing down in August 1982, when the Mexican government suddenly found itself unable to roll over its private debts (that is, borrow new funds to replace loans that were due) and was unprepared to quickly shift gears from being a net borrower to a net repayer. Soon after, a slew of other sovereign debtors sought rescheduling agreements, and the “debt crisis” was officially under way. Though experts do not really understand why the crisis started precisely when it did, its basic causes are clear. The sharp rise in world interest rates in the early eighties greatly increased the interest burden on debtor countries because most of their borrowings were indexed to short-term interest rates. At the same time, export receipts of developing countries suffered as commodity prices began to fall, reversing their rise of the seventies. More generally, sluggish growth in the industrialized countries made debt servicing much more difficult.

 

Of course, the debtors were not simply hapless victims of external market forces. The governments of many of the seventeen nations referred to as Highly Indebted Countries (HICs) made the situation worse by badly mismanaging their economies. In many countries during the seventies, commercial bank or World Bank loans quickly escaped through the back door in the form of private capital flight (see Capital Flight). As table 1 shows, capital assets that “fled” abroad from the HICs were 103 percent of long-term public and publicly guaranteed debt. Loans intended for infrastructure investment at home were rerouted to buy condominiums in Miami. In a few countries, most notably Brazil, capital flight was not severe. But a great deal of the loan money was spent internally on dubious large-scale, government-directed investment projects. Though well intentioned, the end result was the same: not enough money was invested in productive projects that could be used to service the debt.

 

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TABLE 1


| | Capital Flight
(in billions of 1987 dollars)


| | | Flight Capital Assets | As Percentage of Long-Term Public and Publicly Guaranteed Debt | | Argentina | $46 | 111% | | Bolivia | 2 | 178 | | Brazil | 31 | 46 | | Chile | 2 | 17 | | Colombia | 7 | 103 | | Ecuador | 7 | 115 | | Ivory Coast | 0 | 0 | | Mexico | 84 | 114 | | Morocco | 3 | 54 | | Nigeria | 20 | 136 | | Peru | 2 | 27 | | Philippines | 23 | 188 | | Uruguay | 4 | 159 | | Venezuela | 58 | 240 | | Yugoslavia | 6 | 79 | | | | Total | 295 | 103 | |

SOURCES: Flight Capital, Morgan Stanley as cited in The International Economy, July/August 1989. Debt, World Debt Tables, 1988-89 edition. Data refer to external debt to private creditors. Reprinted from Journal of Economic Perspectives, 4, no. 1 (Winter 1990): 37.


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Not all of the debtor countries were plagued by mismanagement. South Korea, considered by many to be a problem debtor at the onset of the debt crisis, maintained a strong export-oriented economy. The resulting growth in real GNP—averaging 9.8 percent per year between 1982 and 1988—allowed South Korea to make the largest debt repayments in the world in 1986 and 1987. Korea’s debt fell from $47 billion to $40 billion between the end of 1985 and the end of 1987.

 

But for most debtor countries, the eighties were a decade of economic stagnation. Loan renegotiations with bank committees and with government lenders became almost constant. While lenders frequently agreed to roll over a portion of interest due (thus increasing their loans), prospects for net new funds seemed to dry up for all but a few developing countries, located mostly in fast-growing Asia. In this context bankers and government officials began to consider many schemes for clearing away the developing-country debt problem.

 

In theory, loans by governments and by international lending organizations are senior to private debts—they must be repaid first. But private lenders are the ones who have been pressing to have their loans repaid. As a consequence, official creditors saw their share of problem-country debt double—to nearly half the total—during the first decade of the debt crisis.

 

Many Third World debtors, particularly in Latin America, chafe at being asked to pay down their large debts. Their leaders plead that debt is strangling their economies and that repayments are soaking away resources desperately needed to finance growth. Although these pleas evoke considerable sympathy from leaders of rich countries, opinions over what to do are widely divided.

 

A staggering range of “solutions” has been proposed. Some of the more ambitious plans would either force private creditors to forgive part of their debts or use large doses of taxpayer resources to sponsor a settlement, or both. Current official policy, which is based on the Brady Plan (after U.S. Treasury Secretary Nicholas Brady), is for governments of industrialized countries to subsidize countries where there is scope for negotiating large-scale debt-reduction agreements with the private commercial banks. In principle, countries must also demonstrate the will to implement sound economic policies, both fiscal and monetary, to qualify. A small number of Brady Plan deals have been completed to date, the most notable being Mexico’s 1990 debt restructuring.

 

Toward the end of the eighties, a number of sovereign debtors began experimenting with so-called market-based debt-reduction schemes, in which countries repurchased their debts at a discount by paying cash or by giving creditors equity in domestic industries. On the surface these plans appear to hurt banks because debts are retired at a fraction of their full value. But a closer inspection reveals why the commercial banks responded so enthusiastically.

 

Consider the Bolivian buy-back of March 1988. When the Bolivian deal was first discussed in late 1986, Bolivia’s government had guaranteed $670 million in debt to commercial banks. In world secondary markets this debt traded at six cents on the dollar. That is, buyers of debt securities were willing to pay, and some sellers were willing to accept, only six cents per dollar of principal. Using funds that primarily were secretly donated by neutral third countries—rumored to include Spain, the Netherlands, and Brazil—Bolivia’s government spent $34 million in March 1988 to buy back $308 million worth of debt at eleven cents on the dollar. Eleven cents was also the price that prevailed for the remaining Bolivian debt immediately after the repurchase. At first glance the buy-back might seem a triumph, almost halving Bolivia’s debt. The fact that the price rose from six to eleven cents was interpreted by some observers as evidence that the deal had strengthened prospects for Bolivia’s economy.

 

A more sober assessment of the Bolivian buy-back reveals that commercial bank creditors probably reaped most of the benefit. Before the buy-back, banks expected to receive a total of $40.2 million (.06 × $670 million). After the buy-back, banks had collected $34 million and their expected future repayments were still $39.8 million (.11 × $362 million). How did creditors manage to reap such a large share of the benefits? Basically, when a country is as deep in hock as Bolivia was, creditors attach a far greater likelihood to partial repayment than to full repayment. Having the face value of the debt halved did little to reduce the banks’ bargaining leverage with Bolivia, and the chances that the canceled debt would have eventually been paid were low anyway. Similar problems can arise even in countries whose debt sells at much smaller discounts.

 

The fact that buy-backs tend to bid up debt prices presents difficulties for any plan in which funds taken from taxpayers in industrialized countries are used to promote debt restructurings that supposedly are for the sole benefit of people in the debtor countries. Banks will surely know of the additional resources available for repayment, and they will try to bargain for higher repayments and lower rollovers. The main focus of the Brady Plan is precisely to ensure that the lion’s share of officially donated funds reaches debtors. But the fact that debt prices have been stronger in countries that have implemented Brady Plans than in non-Brady Plan countries suggests that the effort to limit the gain for banks has been only partially successful.

 

Aside from the question of such “leakage” to private banks, there are serious equity concerns with any attempt to channel large quantities of aid relief to deal with private debt. Though poor by standards of Europe and the United States, countries such as Brazil, Mexico, and Argentina rank as middle-to upper-middle income in the broader world community. The average per capita income in the seventeen HICs was $1,430 in 1987. This compares with $470 in developing East Asia and $290 in South Asia. Even Bolivia, South America’s basket case, has twice the per capita income of India. On a need basis, therefore, Africa and South Asia are stronger candidates for aid.

 

Kenneth Rogoff is a professor of economics at Harvard University. He has served on the staff of the International Monetary Fund and the Federal Reserve board and has been a visiting scholar at the World Bank.

 

Further Reading

Bulow, Jeremy, and Kenneth Rogoff. “The Buyback Boondoogle.” Brookings Papers on Economic Activity, no. 2 (1988): 675-98.

Bulow, Jeremy, and Kenneth Rogoff. “Cleaning Up Third-World Debt without Getting Taken to the Cleaners.” Journal of Economic Perspectives 4 (Winter 1990): 31-42.

World Bank. World Debt Tables: External Debt of Developing Countries. 1990-91 edition.

 

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CEE February 4, 2018

Trucking Deregulation

 

Regulation

 

The federal government has been regulating prices and competition in interstate transportation ever since Congress created the Interstate Commerce Commission (ICC) to oversee the railroad industry in 1887. Truckers were brought under the control of the ICC in 1935 after persistent lobbying by state regulators, the ICC itself, and especially, the railroads, which had been losing business to trucking companies.

 

The Motor Carrier Act of 1935 required new truckers to seek a “certificate of public convenience and necessity” from the ICC. Truckers already operating in 1935 could automatically get certificates, but only if they documented their prior service, and the ICC was quite restrictive in interpreting proof of service. New trucking companies, on the other hand, found it extremely difficult to get certificates.

 

The law required motor carriers to file all rates—also called tariffs—with the ICC thirty days before they became effective. Anyone, including a competitor, was allowed to inspect the filed tariffs. If the proposed tariffs were protested by another carrier (such as a trucker, a regulated water carrier, or a railroad), the ICC normally suspended the rates pending an investigation of their legality. In 1948 Congress authorized truckers to fix rates in concert with one another when it enacted, over President Truman’s veto, the Reed-Bulwinkle Act, which exempted carriers from the antitrust laws.

 

From 1940 to 1980, new or expanded authority to transport goods was almost impossible to secure unless no one opposed an application. Even if the proposed service was not being offered by existing carriers, the ICC held that a certificated trucker who expressed a desire to carry the goods should be given the opportunity to do so; the new applicant was denied. The effect was to stifle competition from new carriers.

 

Purchasing the rights of an existing trucker became the only practical approach to entering a particular market. By the seventies the authority to carry certain goods on certain routes was selling for hundreds of thousands of dollars. Because the commission disapproved of “trafficking” in rights, it was hostile to mergers and purchases and attempted to restrict authority as much as possible. The result was often bizarre. For example, a motor carrier with authority to travel from Cleveland to Buffalo that purchased another carrier or the carrier’s rights to go from Buffalo to Pittsburgh was required to carry goods destined for Pittsburgh through Buffalo, even though the direct route was considerably shorter. In some cases carriers had to go hundreds of miles out of their way, adding many hours or even days to the transport.

 

ICC regulation reduced competition and made trucking inefficient. Routes and the products that could be carried over them were narrowly specified. Truckers with authority to carry a product, such as tiles, from one city to another often lacked authority to haul anything on the return trip.

 

Regulation’s Costs

 

Studies showed that regulation increased costs and rates significantly. Not only were rates lower without regulation, but service quality, as judged by shippers, also was better. Products exempt from regulation moved at rates 20 to 40 percent below those for the same products subject to ICC controls. For example, regulated rates for carrying cooked poultry, compared to unregulated charges for fresh dressed poultry (a similar product), were nearly 50 percent higher. Comparisons between heavily regulated trucking in West Germany and the United States and unregulated motor carriage in Great Britain, together with lightly regulated trucking in Belgium and the Netherlands, showed that charges in the highly regulated countries were 75 percent higher than in the nations with freer markets.

 

A number of economists were critical of the regulation of motor carriers right from the beginning. James C. Nelson, in a series of articles starting in 1935, led the attack. Walter Adams, a liberal Democrat, followed with a major critique in American Economic Review. Professors John R. Meyer of Harvard, Merton J. Peck of Yale, John Stenason, and Charles Zwick authored a very influential book, The Economics of Competition in the Transportation Industries, published in 1959.

 

In 1962 President John Kennedy became the first president to send a transportation message to Congress recommending a reduction in the regulation of surface freight transportation. In November 1975 President Gerald Ford called for legislation to reduce trucking regulation. He followed that by appointing to the ICC several commissioners who favored competition. By the end of 1976, these commissioners were speaking out for a more competitive policy at the ICC, a position rarely articulated in the previous eight decades of transportation regulation.

 

President Jimmy Carter followed Ford’s lead by appointing strong deregulatory advocates and supporting legislation to reduce motor carrier regulation. After a series of ICC rulings that reduced federal oversight of trucking, and after the deregulation of the airline industry, Congress, spurred by the Carter administration, enacted the Motor Carrier Act of 1980. This act limited the ICC’s authority over trucking.

 

Both the Teamsters Union and the American Trucking Associations strongly opposed deregulation and successfully headed off efforts to eliminate all economic controls. Supporting deregulation was a coalition of shippers, consumer advocates including Ralph Nader, and liberals such as Senator Edward Kennedy. Probably the most significant factor in forcing Congress to act was that the ICC commissioners appointed by Ford and Carter were bent on deregulating the industry anyway. Either Congress had to act or the ICC would. Congress acted in order to codify some of the commission changes and to limit others.

 

The Motor Carrier Act (MCA) of 1980 only partially decontrolled trucking. But together with a liberal ICC, it substantially freed the industry. The MCA made it significantly easier for a trucker to secure a certificate of public convenience and necessity. The MCA also required the commission to eliminate most restrictions on commodities that could be carried, on the routes that motor carriers could use, and on the geographical region they could serve. The law authorized truckers to price freely within a “zone of reasonableness,” meaning that truckers could increase or decrease rates from current levels by 15 percent without challenge, and encouraged them to make independent rate filings with even larger price changes.

 

The Success of Deregulation

 

Deregulation has worked well. Between 1977, the year before the ICC started to decontrol the industry, and 1982, rates for truckload-size shipments fell about 25 percent in real, inflation-adjusted terms. The General Accounting Office found that rates charged by LTL (less-than-truckload) carriers had fallen as much as 10 to 20 percent, with some shippers reporting declines of as much as 40 percent. Revenue per truckloadton fell 22 percent from 1979 to 1986. A survey of shippers indicates that they believe service quality improved as well. Some 77 percent of surveyed shippers favored deregulation of trucking. Shippers reported that carriers were much more willing to negotiate rates and services than prior to deregulation. Truckers have experimented with new price and service options. They have restructured routes, reduced empty return hauls, and provided simplified rate structures.

 

In arguing against deregulation, the American Trucking Associations predicted that service would decline and that small communities would find it harder to get any service at all under the new regime. In fact, service to small communities has improved and complaints by shippers have declined. The ICC has reported that in 1975 and 1976 it handled 340 and 390 complaints, respectively, against truckers; in 1980 it had to deal with only 23 cases, and just 40 in 1981. A 1982 ICC study of the effect of partial decontrol on small cities and remote parts of the country found that service quality had either been improved or remained unaffected by deregulation. Increased competition has bolstered the willingness of trucking firms to go off-route to pick up or deliver freight.

 

Deregulation has also made it easier for nonunion workers to get jobs in the trucking industry. This new competition has sharply eroded the strength of the drivers’ union, the International Brotherhood of Teamsters. Before deregulation ICC-regulated truckers paid unionized workers about 50 percent more than comparable workers in other industries. Although unionized drivers still are paid a premium, by 1985 unionized workers were only 28 percent of the trucking work force, down from around 60 percent in the late seventies.

 

The number of new firms has increased dramatically. By 1990 the total number of licensed carriers exceeded forty thousand, considerably more than double the number authorized in 1980. The ICC had also awarded nationwide authority to about five thousand freight carriers. The value of operating rights granted by the ICC, once worth hundreds of thousands of dollars when such authority was almost impossible to secure from the commission, has plummeted to close to zero now that operating rights are easy to obtain.

 

Intermodal carriage has surged sharply since 1980: from 1981 to 1986, it grew 70 percent. The ability of railroads and truckers to develop an extensive trailer-on-flatcar network is a direct result of the MCA and the Staggers Act (1980), which partially freed the railroads.

 

The motor carrier industry has made little use of the rate zone provision and instead has opted for independent filings, which have increased sharply. These independent filings have increased price competition. Such filings by definition are not agreed on through rate bureaus. Truckers have been able to slash rates mainly by improving efficiency—reducing empty backhauls, eliminating circuities, pricing flexibly, and reducing by about 10 percent the proportion of employees who are drivers and helpers. At the same time, it has cut the pay of such employees by over 10 percent relative to wages of workers in the economy generally. In other words, although wages of drivers and helpers are still considerably higher than wages of comparable workers in other industries, the differential has shrunk.

 

Savings

 

One of the economy’s major gains from trucking deregulation has been the substantial drop in the cost of holding and maintaining inventories. Because truckers are better able to offer on-time delivery service and more flexible service, manufacturers can order components just in time to be used and retailers can have them just in time to be sold. As a result inventories are leaner. Without the partial deregulation that resulted from the 1980 act, these changes would not have been possible. In 1981, inventories amounted to 14 percent of GNP; one study found that because of improved transportation services traceable to the Motor Carrier Act of 1980 and the Staggers Act, the total fell to 10.8 percent by 1987, for a saving of about $62 billion. A more conservative estimate by the Department of Transportation is that the gain to U.S. industry in shipping, merchandising, and inventories is between $38 and $56 billion per year.

 

Current Issues

 

Federal law still requires new carriers to apply for certificates of public convenience and necessity. All tariffs must be filed with the commission. Most states continue to enforce strict entry and price controls on intrastate carriers. These controls cause inefficiency. One result is that in some cases, shipping products from overseas is cheaper than shipping the same goods within the United States. Shipping blue jeans from El Paso, Texas, to Dallas, for example, costs about 40 percent more than shipping the identical jeans from Taiwan to Dallas.

 

The continuing obligation to file tariffs results in higher costs. Rates for shipping dog food, which are regulated, are 10 to 35 percent higher than the unregulated rates for other animal foods. Chicken, turkey, and fish TV dinners can be carried free of regulation, but a frozen dinner with a hamburger patty instead of a chicken leg requires trucking rates that are 20 to 25 percent higher. When the commission ruled that used beer bottles and kegs were exempt under the “used, empty shipping containers” provision, costs to haul the empties dropped 20 to 30 percent.

 

Even if the filing of tariffs did not lead to higher charges, the requirement adds to paperwork and confusion. For example, rates must be published for peanuts “roasted and salted in the shell,” but a trucker carrying peanuts “shelled, salted, not roasted or otherwise” is exempt from any need to file. Truckers must submit tariffs for carrying show horses but not exhibit horses. Motor carriers must list their prices with the ICC to carry railroad ties cut lengthwise, but not if they are cut crosswise!

 

Current law also authorizes truckers to collude on tariff increases in rate bureaus. In any other industry such agreements would violate the antitrust laws. Although any single carrier can file separate rates, a rate bureau’s filing for higher tariffs leads to pressures on all carriers to boost their prices.

 

Trucking deregulation is unfinished. According to one study, abolishing all remaining federal controls would save shippers about $28 billion per year. A Department of Transportation study done by researchers at the University of Pennsylvania’s Wharton School estimated that abolishing state regulation would save another $5 billion to $12 billion.

 

Thomas Gale Moore is a senior fellow at the Hoover Institution at Stanford University. Between 1985 and 1989 he was a member of President Reagan’s Council of Economic Advisers.

 

Further Reading

Moore, Thomas Gale. “Rail and Truck Reform: The Record So Far.” Regulation (November/December 1988): 57-62.

Organization for Economic Cooperation and Development. International Conference. Road Transport Deregulation: Experience, Evaluation, Research. November 1988.

U.S. Congress, House. Committee on Government Operations. Consumer Cost of Continued State Motor Carrier Regulation. House Report 101-813, 101st Congress, 2d sess., October 5, 1990.

U.S. Congress, House. Committee on Public Works and Transportation. Subcommittee of Surface Transportation. Hearings on Economic Regulation of the Motor Carrier Industry. 100th Congress, 2d sess., March 16, 1988.

U.S. Department of Transportation. Moving America: New Directions, New Opportunities. A Statement of National Transportation Policy; Strategies for Action. February 1990.

 

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CEE February 4, 2018

Third World Economic Development

 

[Editor’s note: this article was written in 1992.]

 

The development experiences of Third World countries since the fifties have been staggeringly diverse—and hence very informative. Forty years ago the developing countries looked a lot more like each other than they do today. Take India and South Korea. By any standards, both countries were extremely poor: India’s income per capita was about $150 (in 1980 dollars) and South Korea’s was about $350. Life expectancy was about forty years and fifty years respectively. In both countries roughly 70 percent of the people worked on the land, and farming accounted for 40 percent of national income. The two countries were so far behind the industrial world that it seemed nearly inconceivable that either could ever attain reasonable standards of living, let alone catch up.

 

If anything, India had the edge. Its savings rate was 12 percent of GNP while Korea’s was only 8 percent. India had natural resources. Its size gave its industries a huge domestic market as a platform for growth. Its former colonial masters, the British, left behind railways and other infrastructure that were good by Third World standards. The country had a competent judiciary and civil service, manned by a highly educated elite. Korea lacked all that. In the fifties the U.S. government thought it so unlikely that Korea would achieve any increase in living standards at all that its policy was to provide “sustaining aid” to stop them falling even further.

 

Less than forty years later—a short time in economic history—South Korea’s extraordinary success is taken for granted. By the end of the eighties, its per capita income (in the same 1980 dollars) had risen to $2,900, an increase of nearly 6 percent a year sustained over more than three decades. None of today’s rich countries, not even Japan, saw such a rapid transformation in the deep structure of their economies. In contrast, India’s income per capita grew from $150 to $230, a rise of about 1.5 percent a year, between 1950 and 1980. India is widely regarded as a development failure. Yet over the past few decades even India has achieved more progress than today’s rich countries did over similar periods and at comparable stages in their development.

 

This shows, first, that the setbacks the developing countries encountered in the eighties—high interest rates, debt-servicing difficulties, falling export prices—were an aberration, and that the currently fashionable pessimism about their future is greatly overdone. The superachievers of East Asia (South Korea and its fellow “dragons,” Singapore, Taiwan, and Hong Kong) are by no means the only developing countries that are actually developing. Many others have also grown at historically unprecedented rates over the past few decades. As a group, the developing countries—134 of them, as conventionally defined, accounting for roughly three-quarters of the world’s population—have indeed been catching up with the developed countries.

 

The comparison between India and South Korea shows something else. It no longer makes sense to talk of the developing countries as a homogeneous group. The East Asian dragons now have more in common with the industrial economies than with the poorest economies in South Asia and sub-Saharan Africa. Indeed, these subgroups of developing countries have become so distinct that one might think they have nothing to teach each other, that because South Korea is so different from India, its experience can hardly be relevant. That is a mistake. The diversity of experience among today’s poor and not-so-poor countries does not defeat the task of analyzing what works and what doesn’t. In fact, it is what makes the task possible.

 

Lessons of Experience

 

The hallmark of economic policy in most of the Third World since the fifties has been the rejection of orthodox free-market economics. The countries that failed most spectacularly (India, nearly all of sub-Saharan Africa, much of Latin America, the Soviet Union and its satellites) were the ones that rejected the orthodoxy most fervently. Their governments claimed that for one reason or another, free-market economics would not work for them. In contrast, the four dragons and, more recently, countries such as Chile, Colombia, Costa Rica, Ivory Coast, Malaysia, and Thailand have achieved growth ranging from good to remarkable by following policies based largely on market economics.

 

Among the most important ideas in orthodox economics is that countries prosper through trade. In the sixties and seventies the dragons participated in a boom in world trade. Because the dragons succeeded as exporters, they had abundant foreign exchange with which to buy investment goods from abroad. Unlike most other developing countries, the dragons had price systems that worked fairly well. So they invested in the right things, in ways that reflected their comparative advantage in cheap, unskilled labor.

 

Some economists still dismiss the dragons as special cases, but for reasons I find specious. They argue that Hong Kong and Singapore are small (hitherto smallness had been regarded as a disadvantage in development); that they are former colonies with traditions of excellence in public administration (like India and many others); that they have been generously provided with foreign capital (like Latin America). These economists also argue that Taiwan and South Korea received generous foreign aid (like many other developing countries), and have even argued that their lack of natural resources was an advantage. What was most unusual about these countries, in fact, was a relatively market-friendly approach to economic policy.

 

The countries that failed, often guided by “experts” in the industrialized world, are the ones that gave only a small role, if any, to private enterprise and to prices that are unregulated by government. Government planners concentrated on broad aggregates such as investment, consumption, and savings. Their priority was investment—the more, the better, regardless of its quality.

 

Most governments also thought that their economies were inflexible and could not adjust to changing conditions. The export earnings of developing countries were regarded as fixed, for instance, and so was the import requirement for any given level of domestic production. The possibilities for substituting one good for another in response to a change in price were denied or ignored. The idea that workers respond to changes in incentives was likewise dismissed. This assumed lack of responsiveness led the planners to believe that prices, rather than providing signals for the allocation of resources, could serve other purposes instead. For instance, with direct controls they could be kept low to reduce inflation, or raised here and there to gather revenue for the government.

 

Taken to the limit, this “fixed-price” approach leads to regulation by input-output analysis. The idea is to tabulate the flow of primary, intermediate, and finished goods throughout the economy, on the assumption that each good requires inputs of other specific goods in fixed proportions. When all the cells in the table have been filled in, a government needs only to decide what it wants the economy to produce in order to know exactly what the country needs to import, good by good.

 

India went in for this sort of planning in a big way. More than a few of today’s leading free-market economists have worked within India’s planning system or have studied it in detail, and intimate contact with it leads them to one inescapable conclusion: government planning of the economy does not work. Professor Deepak Lal of London University, a leading proponent of market economics for the Third World, mentions his experience with India’s planning commission in his book The Poverty of Development Economics. He calls the antimarket approach favored in so many countries the “dirigiste dogma.”

 

From Peru to Ghana

 

In the noncommunist world, the most striking recent example of this dogma at work is Peru. When Alan Garcia’s government came to power in the summer of 1985, Peru was already in a bad way, thanks largely to high tariffs and other import barriers, restrictive labor-protection laws, extensive credit rationing, high taxes, powerful trade unions, and an extraordinarily elaborate system of regulations to control the private sector. One result was Peru’s justly celebrated black market, or “informal economy,” described by Hernando de Soto in his modern classic, The Other Path. The other result was great vulnerability to adverse economic events. The early eighties delivered several, including a world recession, high interest rates, a drying up of external finance, and declining commodity prices.

 

Garcia’s policy was based, he said, on two words: control and spend. After imposing price controls, he sharply increased public spending. The program succeeded at first. Gross domestic product (GDP) grew 9.5 percent in 1986 and 7 percent in 1987. But by the spring of 1988 inflation was running at 1,000 percent a year; by the end of the year it was 6,000 percent. After that, output and living standards collapsed. In 1990, the economy a wreck, Garcia was voted out of office.

 

The dirigiste dogma has proved equally damaging in Africa. Take Ghana. When it became independent in 1957, it was the richest country in the region, with the best-educated population. It was the world’s leading exporter of cocoa; it produced 10 percent of the world’s gold; it had diamonds, bauxite, and manganese, and a flourishing trade in mahogany. Its income per capita was almost exactly equal to South Korea’s at $490 (in 1980 dollars). By the early eighties, however, Korea’s income per capita had risen fourfold, while Ghana’s had actually fallen nearly 20 percent to $400 per head. Investment slumped from 20 percent of GDP in the fifties to 2 percent by 1982, and exports dropped from more than 30 percent of GDP to 4 percent.

 

The country’s leader at independence, Kwame Nkrumah, was a spokesman for the newly independent Africa. He said the region needed to develop its own style of government, suited to its special circumstances. He spent vast sums on megaprojects. As economic troubles mounted, he nationalized companies and followed with capital repression. Under his regime capital flew abroad, and people with skills and money did the same. The kleptocrats (government officials who steal large amounts) ran the country into the ground. In the early eighties a new government came to power and at last began to steer the economy along orthodox lines. Until then, Ghana had been to Africa what Peru is to Latin America: a distillation of everything that has gone wrong with the continent’s economies.

 

In the Third World, where so many people live off the land, agricultural development is crucial. Ghana provides a startling case study in how to wreck the farm sector. The means was the agricultural marketing board—a statutory monopoly that bought farmers’ crops at controlled prices and resold them either at home or abroad. The prices paid to farmers were kept artificially low, on the assumption that farmers ignored price signals.

 

Between 1963 and 1979 the price of consumer goods went up by a factor of twenty-two in Ghana. The price of cocoa in neighboring countries went up by a factor of thirty-six. But the price paid by the cocoa marketing board to Ghana’s farmers went up just sixfold. In real terms, therefore, the returns to cocoa farmers vanished. The country’s supposedly price-insensitive farmers responded by switching to production of other crops for subsistence, and exports of cocoa collapsed. Peru and Ghana are extreme cases, but they show in the starkest way that prices do matter in the the Third World and that rejecting market economics carries extremely high costs.

 

The essential elements of a development strategy based on orthodox economics are macroeconomic stability, foreign trade, and strictly limited intervention in the economy. With policies under these three headings, governments can foster enterprise and entrepreneurship, the irreplaceable engines of capitalist growth.

 

The Macroeconomic Foundation

 

Experience shows that high and unstable inflation can harm growth. A noninflationary macroeconomic policy is, therefore, a prerequisite for rapid development. Control of government borrowing is the crucial element in such a policy. When public borrowing is excessive, governments are soon obliged to finance it by printing money, and rising inflation then follows. That is why the conventional approach to stabilization (a term that covers steps to reduce an unsustainable trade deficit as well as anti-inflation policies) usually advocates lower public spending and/or higher taxes. The International Monetary Fund has long made programs of this sort a precondition for financial assistance to countries in distress.

 

These so-called austerity programs have aroused two sorts of controversy. First, some economists question whether big changes in fiscal policy are really needed. In Latin America, for example, some governments sought “heterodox” policies to reduce inflation without the recession that the orthodox approach almost always brings on. The heterodox approach argues that in high-inflation countries, the budget deficit is caused mainly by inflation, not the other way round. The argument is twofold. First, because there is a lag between when people earn income and when they must pay taxes on it, high inflation reduces real tax revenues. Second, inflation increases the nominal interest rate (and hence the budgetary cost of servicing past government debt).

 

Hence the heterodox logic: reduce inflation with direct controls on prices and incomes and a currency reform, and the budget deficit will shrink of its own accord. This method has been tried repeatedly in Brazil and Argentina, where brief success has generally given way to a worse mess than at the outset, and in Israel, where the results were more encouraging. Israel shows that the heterodox can work—that falling inflation does cut public borrowing. What matters is whether the deficit that remains after the heterodox measures are in place is low enough to be noninflationary. In practice, the remaining deficit is almost always too high, and the program fails. Countering inflation almost always requires a dose of austerity.

 

The second controversy over austerity concerns the costs of this remedy. Many economists argue that orthodox programs put too much of the burden on the poorest parts of society. To cut their budget deficits, governments can either raise taxes or cut spending. Raising more revenue—even if that could be done without harming incentives—is hard because of weak tax administration. So stabilization nearly always involves cuts in public spending. If the cuts fall on food subsidies and welfare spending, goes this argument, they hurt the most vulnerable.

 

This argument sounds plausible, but in many countries it is wrong. A study by Guy Pfeffermann of the World Bank shows that the beneficiaries of social spending in the developing countries are not the poor. First, more public spending of any sort means more public employment. Bureaucracies in developing countries do not give many jobs to the landless rural poor, to small street traders, to unskilled manual workers, or to the urban unemployed. They recruit from the middle classes, who are, therefore, the first to benefit from public spending.

 

They often are the second and third to benefit as well. In some countries subsidies have amounted to more than 10 percent of GDP. These mainly go toward making electricity, gasoline, housing, and credit artificially cheaper for consumers. Quite apart from the massive microeconomic damage that these price distortions cause, such subsidies do not reach the poor. Many of the poor do not live in houses, which greatly reduces their need for electricity, and most do not own cars. (Gasoline subsidies alone in Ecuador and Venezuela have been equivalent to several percentage points of GDP.) Although some of the poor would benefit from credit, subsidized credit is not aimed at them and makes the unsubsidized kind harder to get and a lot more expensive. Spending on education is also, as a rule, heavily biased toward the middle classes. In some developing countries, spending per capita on university education exceeds spending per capita on primary education by a factor of thirty. Many of the poor lack access to even the most basic primary education, while the universities remain the publicly funded preserve of the middle class. And in most developing countries the coverage of heavily subsidized social security systems is strongly skewed against the poor. In Brazil in 1984, only 8 percent of workers in the poorest broad sector of the economy (farming) were covered by a social security system. Nearly 80 percent of workers in the most prosperous sector (transport and communications) were covered.

 

By and large, the scope for cutting public spending in developing countries without hurting the poor is more than enough for stabilization to succeed. In some cases (subsidized credit, for example) a reduction in public spending would actually help the poor directly, even before the broader benefits of macroeconomic stability began to flow back. Admittedly, this is not much help in political terms. It is easy to neglect the poor. That is precisely why this vast system of subsidies does not help them. But the middle classes can shout loudly when the economic distortions that help them are taken away. So the political barriers to getting economic policy right are formidable.

 

The Gains from Trade

 

For its World Development Report in 1987, the World Bank classified forty-one developing countries according to their openness to trade since the sixties. It classed economies as either inward looking (exports were discouraged) or outward looking (exports were not discouraged), with a further division according to the strength of any trade bias. The World Bank then plotted these groups against a variety of economic indicators.

 

Growth in income per capita was highest in the strongly outward-looking economies and lowest in the strongly inward-looking ones. The same was true for growth in total GDP and in value added in manufacturing, and for the standard measure of the efficiency of investment. On all these criteria the moderately outward-looking countries also outperformed inward-looking economies, although by a smaller margin. The failure of a strong inward orientation to promote domestic manufacturing—not just exports of manufactures—is particularly striking. The whole point of looking inward had been to industrialize faster.

 

The three strongly outward-oriented countries in the World Bank’s report were Hong Kong, Singapore, and South Korea. Taiwan would have been the fourth if it had been included in the sample, and would have reinforced the message. The four dragons, however, have been more diverse in their policies than is usually assumed. Hong Kong’s outward orientation is due to unalloyed free trade. The other three have been interventionist to varying degrees, using export incentives to offset the export-discouraging effects of domestic protection.

 

South Korea, by some measures the most interventionist dragon, is often cited as proof that intelligent dirigiste, rather than a broadly outward-looking trade policy, is the key to rapid development. This judgment is often based on the false premise that Korea has protected its domestic producers as much as if not more than the inward lookers have protected theirs, with the difference that it has then piled on a lot of incentives for exporters. This is incorrect. In reality, South Korea has had a moderate and declining degree of domestic protection with just enough export promotion to achieve broad neutrality in trade incentives.

 

Korea’s growth surge began in the mid-sixties. Policy began to change in the late fifties. At that time Korea’s government placed quantitative restrictions on almost all imports, but the restrictions were looser than in many other developing countries. The government began to provide export incentives to offset its protection for producers of import substitutes. At first this failed to work, perhaps because the currency was overvalued, leaving too great a bias against exports. In the early sixties the government dismantled its multiple exchange-rate system, devalued the currency, and (because devaluation helped exporters) reduced its export subsidies. These liberalizing reforms were the turning point. Exports began to grow rapidly.

 

In 1967 the government reformed its import control system, greatly reducing the number of imports subject to quotas and began to reduce its tariffs. So as the miracle proceeded in the late sixties and seventies, the background was not just outward orientation (domestic protection offset by export promotion), but a low average level of domestic protection, with relatively little variation in the rates of protection from one sector to another. Toward the end of the seventies, when Korea did increase its support for heavy industry, the economy began to run into trouble. Policymakers acknowledged their mistake and moved back toward liberalization.

 

The clear consensus among mainstream economists is that outward-looking trade policies are one of the keys to development. But why? The answer from orthodox economics is that trade allows countries to exploit their comparative advantage. Trade enables a country to consume a mix of goods that is different from the mix it produces—with prices in world markets acting as the mediator between the two. Conventional theory proves that trade, as a result, makes both partners unambiguously better off. So long as import barriers and other policies do not drive domestic prices too far away from world prices, market forces are enough to push production and consumption in the right direction. But trade does more than bring about the right mix of products. It also eliminates the inefficiencies in production caused by protection.

 

Protection may make some domestic producers monopolists or near monopolists, thus introducing an inefficiency directly (because monopolists exploit their market strength by producing less and charging more) and indirectly (because, lacking competition, they have no incentive to keep costs low).

 

Two of the world’s top trade specialists, Professors Jagdish Bhagwati of Columbia University and Anne Krueger of Duke University, have emphasized yet another source of inefficiency pervasive in developing and industrial countries alike: “rent-seeking,” or more generally, “directly unproductive profit-seeking.” These spring from the efforts of business to exploit or evade the distortions caused by protection. For instance, import licensing may drive a wedge between the official price of an intermediate good and the price that a domestic producer is willing to pay.

 

This “rent” is a potential source of profit for somebody. Resources will be spent in trying to corner the market in licenses, or in bribing the bureaucrats who decide which firms will get them, or in lobbying governments to alter the pattern of protection in ways that favor the lobbyists. Worst of all, resources will be spent in trying to win an increase in the overall level of protection. A study of Turkey (see Grais et al.) found that the costs of rent-seeking in the late seventies were between 5 percent and 10 percent of GDP. Because the study made no allowance for the effect of protection on domestic monopoly power, this is an under-estimate of the cost. A study by Joel Bergsman, which did take monopoly effects into account, found that the annual costs of protection were 7 percent of GDP in Brazil, 3 percent in Mexico, 6 percent in Pakistan, and 4 percent in the Philippines. Such results speak for themselves. The evidence shows that trade works; orthodox theory shows why.

 

Where to Intervene

 

It is often argued that all the dragons (except Hong Kong) have had highly interventionist governments. Even on the assumption that these interventions, by luck or judgment, left the economies with outward-looking trade regimes, this poses a question. Might their success be due to nothing more profound than the fact that good intervention is better than bad? It is not the extent of intervention that matters, the argument goes, but the skill with which it is done.

 

It is true that these countries, especially South Korea, have had interventionist governments. This they have in common with almost all developing countries. The difference is not only that they pursued an outward-looking approach to trade (broad lesson number one), but also that this approach molded the forms of intervention they undertook in the domestic economy (broad lesson number two). The net effect (broad lesson number three) was to leave the price system largely intact as a signaling device for the private sector.

 

More generally, an outward-looking approach to trade does not require laissez-faire (though laissez-faire does require an outward-looking approach to trade). The state has a vital role in development. Paradoxically, however, most of the Third World’s highly interventionist governments neglect this role because they are too busy doing things they should not.

 

Government has several vital jobs to do and no spare resources to waste on other things. The cost of an effective legal system, for instance, is public money well spent. This means countries need rules that define property rights, contracts, liability, bankruptcy, and so on (which most developing countries already have). It also means enforcing those rules effectively (which fewer manage to do). Spending on physical and social infrastructure is essential, for there are good (orthodox) reasons to think that the private sector will provide too little. Numerous studies have shown that the economic returns to spending on primary education, especially for girls, are extremely high. Governments need to do more in such areas, not less, though none of these tasks requires the government to be a monopolist.

 

Governments have done too little in the areas where they can do some good because they have spread themselves too thin and been far too ambitious in areas where intervention is, at best, unnecessary. Instead of building roads, schools, and village health centers, Third World governments have built prestigious airports, universities, and big-city hospitals. Instead of letting businesses compete, they have created state-run industries and sheltered their extraordinary inefficiencies from foreign and domestic competition.

 

Advocates of state intervention often claim to be realists. Markets are not perfect, they say, so governments have to step in, especially in developing countries. They are right up to a point. The price system never works perfectly, least of all in developing countries. But it is important to be realistic about governments, too. The past forty years of development experience have shown that no resource is in scarcer supply than good government, and that nothing market forces could devise has done as much harm in the Third World as bad government.

 

Two Myths

 

A common argument is that many developing countries will be condemned to economic stagnation, regardless of the economic policies their governments pursue, by two factors beyond their control: their insupportable debts and their lack of home-grown entrepreneurs. Both ideas are wrong.

 

First, consider debt. The costs of the debt crisis of the eighties have indeed been great. At the margin, foreign capital matters a lot—not just in quantitative terms, but because of the foreign expertise that often comes with it. But the problem of debt, serious though it is, is by no means an insuperable obstacle to growth in the Third World. Even in good times, foreign capital has financed only a small part of the investment undertaken in developing countries. Debt needs to be kept in perspective.

 

In its World Development Report 1989, the World Bank compiled data on financial balances for a sample of fourteen developing countries (some now “highly indebted,” others not) for which sufficiently detailed data were available. The figures suggest that the biggest source of capital, by far, in these economies during the seventies and eighties was household saving. This was equivalent, on average, to 13 percent of GDP in the countries in the sample. Businesses saved 9 percent of GDP. The domestic supply of capital—the sum of household saving and business saving—was 22 percent of GDP, while the inflow of foreign capital was only 2 percent of GDP.

 

After the debt myth comes the myth of the missing (especially African) entrepreneur. The idea that the Third World lacks the spirit of enterprise is laughable. Peasant farmers who switch to another crop in response to a change in their government’s marketing arrangements are entrepreneurs. So are the unregistered taxi and minibus operators who keep most Third World cities moving. So are street vendors, perambulating water vendors, money changers, and informal credit brokers. So are the growers of illegal crops such as coca, who in many countries are denied the opportunity of making a decent living by legal means. So are the smugglers of just about anything that do such a roaring trade across Africa’s borders, profiting from the massive price distortions that government policies create.

 

Entrepreneurship admittedly is partly a matter of skills—in choice of technique, in management, in finance, in the ability to read the label on a bag of fertilizer. Skills have to be learned, and in many developing countries they are in short supply. But this supply is not fixed. The success of the green revolution in India and elsewhere shows that farmers are willing to learn new skills when they can see an advantage in doing so. (The green revolution involved the introduction of high-yielding crop varieties that required different methods and more sophisticated inputs such as fertilizer and an assured water supply.)

 

To see what entrepreneurship in the Third World can achieve, consider the flowering of the garment export business in Bangladesh, one of the poorest countries in the world. This started with a collaboration between Noorul Quader, a bureaucrat-turned-entrepreneur, and the Daewoo Company of South Korea. Quader’s new company, Desh, agreed to buy sewing machines from Daewoo and send workers to be trained in South Korea. Once Desh’s factory started up, Daewoo would advise on production and handle the marketing in return for royalties of 8 percent of sales. Daewoo did not lend to Desh or take any stake in the business. But it showed Desh how to design a bonded warehouse system, which the government agreed to authorize. This was crucial. In effect, it made garment exporting a special economic zone—an island of free trade within a highly protected economy.

 

At the end of 1979, Desh’s 130 trainees returned from South Korea with three Daewoo engineers to install the machines. Garment production began in April 1980 with 450 machines and 500 workers. In 1980 the company produced 43,000 shirts with a value of $56,000. By 1987 sales had risen to 2.3 million shirts and a value of $5.3 million—a growth rate of 92 percent a year.

 

Desh did so well that it canceled its collaboration agreement with Daewoo in June 1981, just eighteen months after the startup. It began to do its own marketing and bought its raw materials from other suppliers. It achieved most of its success on its own. Also, the company has suffered heavy defections of its Daewoo-trained staff. Of the initial batch of 130 who visited South Korea in 1980, 115 had left the company by 1987—to start their own garment-exporting businesses. From nothing in 1979, Bangladesh had seven hundred garment-export factories by 1985. They belonged to Desh, to Desh’s graduates, or to others following their example.

 

There is no lack of entrepreneurship in the Third World. To release this huge potential, governments first need to do much less. Above all, they must stop trying to micromanage the process of industrialization, whether through trade policy, industrial licensing, or direct control of state-owned enterprises. But they also need to do more. They must strive to keep public borrowing and inflation in check, while investing adequately in physical and nonphysical infrastructure.

 

In the early nineties, spurred by the collapse of the socialist model in Eastern Europe, a growing number of developing countries are trying to reorder their economic priorities in this way. If they persevere, the coming decades will be a time of unprecedented advance in the developing world.

 

Clive Crook is the deputy editor of The Economist.

 

Further Reading

Bergsman, Joel. “Commercial Policy, Allocative Efficiency and X-efficiency.” Quarterly Journal of Economics 88, no. 3 (August 1974): 409-33.

Crook, Clive. “The Third World.” The Economist, September 23, 1989.

Grais, W., et al. “A General Equilibrium Estimation of the Reduction of Tariffs and Quantitative Restrictions in Turkey in 1978.” In General Equilibrium and Trade Policy Modelling, edited by T. N. Srinivasan and J. Whalley. 1984.

Lal, Deepak. The Poverty of Development Economics. 1985.

Pfeffermann, Guy. “Public Expenditure in Latin America: Effects on Poverty.” World Bank discussion paper no. 5.

Soto, Hernando de. The Other Path. 1989.

World Bank. World Development Report 1987. 1987.

World Bank. World Development Report 1989. 1989.

 

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CEE February 4, 2018

Research and Development

 

Research and development (R&D) is the creation of knowledge to be used in products or processes. Table 1 gives a summary overview of postwar U.S. R&D activity performed in industry. The first column gives privately financed R&D (PR&D) conducted in industry in billions of 1982 dollars. The second column gives the ratio of PR&D to investment in plant and equipment (P&E). The third column gives the share of federally financed R&D (GR&D) as a fraction of the total R&D in industry. State government and private nonprofit financing of basic scientific research that is part and parcel of teaching in colleges and university is not considered R&D. The only financing of research at universities and colleges that is considered R&D is R&D contracts to those institutions. Total university and college R&D in the sixties was 10 percent of the total R&D conducted in industry; in the eighties it was 13 percent.

 

|

TABLE 1


| |

U.S. R&D, Decade Averages


| | Decade | Private
(billions of 1982 $)
| PR&D/P&E | Share Government R&D | |


| | 1950 | 8.84 | 0.06 | 0.49 | | 1960 | 18.95 | 0.09 | 0.54 | | 1970 | 27.29 | 0.09 | 0.37 | | 1980 | 47.00 | 0.11 | 0.32 | |


|

 

Two facts stand out in table 1. First, investment that takes the form of R&D is growing relative to investment in P&E. Investment in P&E is recognized as investment by the official economic measurements; investment in R&D is not so recognized. Second, the role of government R&D is falling in relative terms.

 

There are several important issues in the economic analysis of R&D:

 

  1. Is private R&D productive?

 

  1. Is government R&D productive?

 

  1. Is special government treatment for private producers of R&D justified?

 

  1. Why is some government R&D so successful, while other government R&D fails?

 

  1. Who benefits from U.S. R&D?

 

Is Private R&D Productive?

 

Beginning in the sixties, economists performed empirical tests confirming that investment in private R&D yields a positive return. This finding holds up for studies of R&D in general and in particular industries. Recent findings by Lichtenberg and Siegel reported an estimated rate of return of 35 percent for company-funded R&D. The older literature they surveyed reported an average rate of return of 29 percent. This is evidence of remarkable stability in the estimates of the rate of return to privately funded R&D. When Lichtenberg and Siegel decomposed R&D into basic and applied, they found that the rate of return to basic R&D was 134 percent, compared to the two older findings of 178 percent and 231 percent. When the rate of return, even after falling, is still in triple digits, one suspects underinvestment.

 

Is Government R&D Productive?

 

Econometric research almost never finds government R&D productive. Yet technical economists have long known about the remarkably high rate of return to agricultural GR&D. According to Robert Evenson, Paul Waggoner, and Vernon Ruttan, rates of return for government-financed agricultural R&D are consistently around 50 percent per annum. Ordinary people were able to see the efficacy of government-financed computers, electronics, and aviation in the Gulf War.

 

So why do broader studies find the opposite? One answer is as follows: Profit-maximizing companies use factors of production, whether they be labor, land, or R&D up to the point where their marginal value equals the marginal cost to the firm. But unlike wages paid to labor, the price that people pay to use government R&D is zero: one need only buy a technical journal to learn R&D results that cost millions to produce. Because companies pay zero for government R&D results, they use them up to the point where the marginal value equals zero. Economists looking for a positive marginal value of government R&D, therefore to find it. But all this means is that companies are using it a lot and that, while the marginal value of government R&D is zero, its total value is high.

 

There is a lively debate about whether government R&D enhances the supply of private R&D. The majority of economists, perhaps, hold that it does. Why would it? Because increasing the supply of one factor of production generally increases the marginal product of other factors. (More land, for example, makes a farm laborer more productive.) Similarly, more government R&D is likely to make private R&D more productive.

 

Is R&D Worthy of Special Treatment?

 

Knowledge epitomizes a public good. If someone produces knowledge, someone else can use it without paying for it. Therefore, the person who produced it will not be able to collect the full value of the knowledge produced. For this reason an unregulated, unsubsidized free market is likely to underproduce knowledge. As a result, most economists favor the creation of temporary monopolies through a patent system, such as the one provided for in the U.S. Constitution. With the prospect of a patent as a reward for innovation, people have more of an incentive to produce knowledge.

 

Need the government do more? Since some new knowledge is not patentable, perhaps special treatment is justified to encourage the provision of knowledge. The most dramatic case for special treatment is based on a famous argument made by Joseph Schumpeter. Schumpeter maintained that a monopoly—because it is able to garner more of the benefits to the industry from R&D (because a monopoly is the industry)—will have an incentive to invest more heavily in R&D than would a competitive industry. In economic jargon a monopoly can internalize more of the R&D benefits than a competitive industry can. Although Schumpeter himself did not argue for special treatment of R&D on this basis, the argument could be made. This consideration did not save the Bell system from breakup.

 

A much more modest argument—to give R&D tax credits—has been politically successful. But it is hard to tell whether the tax credit has been economically successful—that is, whether it has spurred private investment in R&D. One reason for not knowing the effect on R&D is that companies can get the tax credit simply by relabeling non-R&D expenditures as R&D. Nonetheless, the remarkably high rates of return to R&D that a wide range of studies report strongly suggests that there is underinvestment in R&D. Unfortunately, these studies do not allow one to suggest how to stimulate more R&D.

 

Why the Range of Government Experience?

 

If the experience with government R&D were uniformly wonderful or uniformly disastrous, students of R&D could offer easy guidance. However, the experience has been mixed. As mentioned, agricultural R&D and defense R&D in computers, electronics, and aviation have been remarkable successes. Balancing the accounts, one need only mention the supersonic transport, which was financed by British and French taxpayers, and the synfuels project, financed by U.S. taxpayers. The costs for each of these projects exceeded the benefits by billions of dollars. Yet making a list of winners and losers is somewhat beside the point when one of the winners, the computer, has changed the world.

 

This list of failures raises a question: if the government can pick winners in defense, why not elsewhere? It is important to note that in aircraft and electronic R&D, the Defense Department was the major customer for many years. This is in the context of a political decision not to match the buildup of the late Warsaw Pact man for man and tank for tank. Rather, the Defense Department was charged with matching the Warsaw Pact with higher-quality equipment. The competing branches of the U.S. armed services could be held politically accountable for their performance. The resulting incentives seem to have made the Defense Department very sensitive to how infant technologies could be developed to serve its clearly delineated mandate. Similarly, agricultural R&D has long enjoyed a politically symbiotic relationship with agricultural interest groups. When government agencies have incentives to be competent, they are competent.

 

But who monitors R&D done only for the “public good”? The usual answer is no one. Simple public choice theory suggests that government responds to incentives. When the performance of government agencies is monitored carefully, one expects very different results than when no one in particular is supposed to benefit from the R&D expenditures. Thus, there is no reason to believe that the success rate of defense and agricultural R&D could be replicated in other areas.

 

Who Benefits from U.S. R&D?

 

One difference between stocks of knowledge and stocks of physical capital is that stocks of knowledge can be shared. If I build a machine, it cannot produce for you unless it stops producing for me. If I learn something, this knowledge can produce for you and for me at the same time. If this is so, then the rest of the world should be a major beneficiary of U.S. R&D. Other countries can rent the knowledge, or even get it for free, without having to create it themselves. This suggests that a program of high-tech economic nationalism is automatically self-defeating. One can, with difficulty, block the export of a machine. But the export of knowledge is much harder to impede.

 

David M. Levy is an economics professor at George Mason University.

 

Further Reading

Evenson, Robert E., Paul E. Waggoner, and Vernon W. Ruttan. “Economic Benefits from Research: An Example from Agriculture.” Science 205 (1979): 1101-7.

Flamm, Kenneth. Targeting the Computer. 1987.

Levy, David M. “Estimating the Impact of Government R&D.” Economics Letters 32 (1990): 169-72.

Levy, David M. “Public Capital and International Labor Productivity.” Economics Letters 39 (1992): 365-68.

Lichtenberg, Frank R., and Donald Siegel. “The Impact of R&D Investment in Productivity.” Economic Inquiry 29 (1991): 203-29.

Nelson, Richard R., ed. Government and Technical Progress. 1982.

 

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Here are the 10 latest posts from Econlib.

Econlib October 1, 2018

Predictable Irrationality and the Crisis of 2008

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A decade after the financial crisis of 2008 and its aftermath, economists are still grappling with its nature and significance. An important recent contribution is A Crisis of Beliefs, by Nicola Gennaioli and Andrei Shleifer (henceforth GS).1 They tell the story this way (page 7):

Homebuyers were unrealistically optimistic about future home price growth. Investors in mortgages and in securities backed by these mortgages, including financial institutions, considered the possibility that home prices might fall but did not fully appreciate how much and what havoc those declines would wreak. And macroeconomic forecasters from both the private sector and the Federal Reserve did not, in forming their expectations, recognize the risks facing the U.S. financial sector and the economy as late as the summer of 2008… they did not fully appreciate tail risks until the Lehman collapse [the investment bank went bankrupt in September of 2008] laid them bare.

Econlib October 1, 2018

A Cure for Our Health Care Ills: The Supply Side

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In our previous article, “A Cure for Our Health Care Ills,”1 we debunked some persistent myths and discussed some key regulatory, spending, and insurance changes on the demand side that would make health care more affordable while not cutting, and possibly increasing, quality. But the demand side is only half the story. Important reforms on the supply side would also make health care cheaper and more accessible. All of them involve some form of deregulation.

We often hear that governments in the United States should regulate health care more because free markets have made it more expensive than in other countries. It’s true that medical care in the United States is usually more expensive than in other countries, even after accounting for differences in wealth. But the cause is not the free market. For more than half a century, there hasn’t been a free market in health care because governments at both the federal and state levels have heavily regulated doctors, hospitals, and drugs. We propose abolishing virtually all of this regulation so that doctors’ and hospitals’ services and drugs would be more plentiful and cheaper.

Econlib October 1, 2018

Ludwig von Mises’s Socialism: A Still Timely Case Against Marx

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Revisiting classic texts in economics normally needs no justification beyond the benefits that come from looking at old ideas through new eyes. As we learn and grow as readers, we see new things, are more skeptical of old things, and make connections that we never did before. Some of my favorite books in my collection are those with layers of marginal notes from the multiple passes I’ve made through the book. Socialism by Ludwig von Mises is an excellent example of a book for which multiple reads have been greatly beneficial. However, there’s one more reason why it’s an opportune time to take another look at Socialism. As it approaches its hundredth anniversary in 2022, it has fresh relevance in a world where socialism is making something of a comeback among young progressives.

The sheer length and breadth of Socialism makes it challenging to cover in a format like this, so one must pick and choose. In what follows, I will emphasize three areas the book covers. I will spend the most time on the economics of socialism and what the book has to say about the contemporary debate over the viability of various forms of socialism. But I also want to talk about two of the lesser known pieces of the book. One of those is the chapter on love and the family, where Mises was quite a bit ahead of his time in his analysis of the ways in which capitalism and liberalism had transformed marriage and the family. The other is the section on “social evolution,” in which he offers an alternative to the Marxian reading of history.

Econlib September 3, 2018

The Tyranny of the National Interest

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Statements such as “public policy X is (or is not) in the national interest” are omnipresent. For example, Peter Navarro and Greg Autry claim that “some American CEOs” are acting against “our national interest.”1 In reality, the concept of national interest is, at best, meaningless.

At worst, the concept of national interest is a tool of tyranny because it justifies imposing the preferences of some individuals on others. Under the excuse of the national interest, protectionist wars and even real wars have been waged, and minorities allegedly not national enough have been oppressed. The national interest is used against both foreigners and fellow citizens.

The Public Interest

The national interest is simply the public interest where the public is the nation. So consider the more general concept of public interest. Economists have shown that in a society composed of individuals with different preferences, the public interest does not exist. In technical terms, if the preferences of all individuals are to count equally, a coherent “social welfare function” does not exist. As I previously showed,2 the political “we,” which is the subject of the public interest, is meaningless.

Econlib September 3, 2018

The Prophet of Google’s Doom

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I believe the Google system of the world will fail, indeed be swept away in our time (and I am seventy-eight!). It will fail because its every major premise will fail. —George Gilder, Life After Google

Since the earliest days of the personal computer, George Gilder has been following the advice of one of his favorite computer scientists, Carver Mead, whose catch-phrase was, “Listen to the technology.” In his most recent book, what Gilder hopes he hears is the death knell of Google, which Gilder believes would herald greater freedom and economic growth.

Gilder believes that:

• Google’s idea of intelligence is too data-centric. Statistical analysis can only make rote predictions based on patterns found in the past. It cannot achieve creativity and surprise;
• Google’s technical architecture is too centralized. Soon, it will run out of computing power and bandwidth to be able to maintain its coverage of the world of digital media;
• Google and other Internet businesses are too insecure. While users struggle to recall passwords and get past security gates, hackers are able to steal millions of data records from centralized warehouses;
• Google’s business model is too socialist. Giving its products to consumers for free while relying on advertising serves to insulate Google from the price signals that markets use to guide economic activity.

Econlib September 3, 2018

The Plight of the Central Banker

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“A policeman’s lot is not a happy one” The Pirates of Penzance, Gilbert and Sullivan

The Bank of England has decided to increase the interest rate at which she lends money to commercial banks from a very low 0.50 percent to 0.75. Not a breath-taking rise but still a change from the policy of keeping the base rate at 0.5 or below since March 2008. The federal funds rate of the United States has been rising very slowly since the middle of 2015 and now is at 1.19; the U.S. Federal Reserve Chairman has signified his intention to keep it going up. This indicates that the various central banks are beginning to see a danger of inflation, now that the money pumped into the economies since the 2007 crash is finally beginning to enter circulation.

The reasons for raising the basic interest rate only slowly are two; that such changes must be explained and announced, so that the public adapts to the new circumstance with as little pain as possible; and that interest rates must be brought back to a level that rewards saving and allows industries such as life insurance and pensions to keep their long term engagements.

We do not really know why the financial economy of the western world failed so dismally in the three years from 2007 to 2010. Or was it to 2014? It was such a deep and long downturn that we now know it as ‘The Great Recession’. Many economists had thought central bankers and state treasuries knew by now how to manage the ups and downs of the economic cycle. After this grave recession, those wise men are under a cloud.1 During a visit to the London School of Economics, the Queen of England asked an economics professor an embarrassing question: “Why didn’t anybody see it coming?” The professor—let him stay unnamed—was left desperately looking for an answer.

“It is a feature of our modern economies that they go through repeated bouts of boom and bust. What causes this phenomenon is under dispute….”

Econlib August 6, 2018

It’s Still Summer…

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If you are anything like us, you are busy trying to maximize these last glorious days of summer. And you are probably also desperately trying to find the time to finish the pile of summer reading you planned for yourself at the beginning of summer. We are not here to help.

As summer winds to a close, in lieu of our typical column illuminating particular economic concepts, we sought out the summer reading suggestions of many of our contributors. If you are looking for some more great reads, or are simply interested in what Econlib contributors like to read in their own free time, then we hope you will enjoy this compilation. And of course we hope you enjoy the rest of your summer!

Econlib August 6, 2018

Tribal Psychology and Political Behavior

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In Uncivil Agreement: How Politics Became our Identity,1 political scientist Lilliana Mason attempts to explain the recent increase in political polarization. In the process, she proposes a theory that homo politicus is tribal. I found this analysis persuasive, but I think she has yet to develop its libertarian implications.

The Theory

In political analysis, it is natural to assume that citizens are rational, so that their political preferences reflect their views on policy. These policy views in turn derive from some combination of self-interest and concern for the general welfare.

But Mason points out that social psychologists find an emotional component in political behavior.

Primal psychological influences such as motivated reasoning and social identity are capable of shifting and sometimes entirely determining the policies that citizens support.

Econlib August 6, 2018

The Bother with Brexit

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Brexit is turning out to be a much more complicated affair than both the “remainers” and the “leavers” initially surmised. The hope of an amicable divorce is vanishing. The British Government and the European Commission are edging nearer the precipice of an unwanted and unplanned total break, which neither side really wants, though in the end it could be the best solution. Theresa May, the tottering British Prime Minister, is trying to devise a way of leaving the European Union without actually leaving it. Michel Garnier, the European Commission’s chief negotiator, wants to send a message to other “exiteers” tempted by the British example, but he also strives to keep Mrs. May in office as the least bad UK negotiator he could wish for. And the clock is ticking: the moment when exit must happen is March 19, 2020, 11 pm (Greenwich Time).

Econlib July 2, 2018

Commercial Reprisals Are a Mistake, by Pedro Schwartz

Where goods do not cross borders soldiers will.
—attributed to Frédéric Bastiat

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There was a time when I understood the reasons for protectionism better than the arguments for free trade. Then I heard my doctoral supervisor, Lord Lionel Robbins, say in class that David Ricardo’s comparative cost theory of international free trade was the pons asinorum of economics, just as Euclid’s Fifth Proposition in Book I was the bridge to geometrical knowledge that donkeys refuse to take. This led me to debate with myself the pros and cons of free trade. You should have seen me walk up and down by the colonnade of the British Museum until I settled my doubts and crossed the bridge. Protection was a way for corrupt politicians to favor their clients; countries did not need protection to industrialize; and on balance, the poor fared better when interest groups were not granted powers over international trade. On the contrary, free trade was a part of individual freedom, a power for growth, and an escape hatch from poverty. I had finally reached a position that fully convinced me. My further study of economic history and political economy reinforced these new beliefs.

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