Regulation and Deregulation, pt. 5

In order to rationally treat deregulation, we must therefore first examine other examples of deregulation and their consequences.  We’ve touched on examples in Germany and Poland, both of which produced outstanding results.  A more complex foreign example would be the rolling back of democratic socialism in India, which helped end the exceedingly corrupt, monumentally inefficient “permit raj” approach to licensing private industry.  China, too, has instituted market reforms, allowing for some measure of private ownership and investment.  It still maintains a stranglehold over society in a legal / social sense, but the Chinese people are unarguably freer today than they were 30 or even 20 years ago.  And it is no coincidence that China and India are both becoming major economic powerhouses in their respective quarters of Asia.  Regulation and central planning shackled their economies for decades; privatization and deregulation have brought prosperity and increased liberty.  And this is of course precisely what Hayek and Friedman predicted.  As Daniel Yergin recounts in The Commanding Heights, it took a great deal of courage for the social democrats in India to swallow their pride and reverse their position.  Prime Minister Monmohan Singh states, in the PBS video documentary of the book, that it was difficult to admit fault, especially given the reverence that many Indian politicians and bureaucrats felt for their first prime minister, Jawaharlal Nehru, who was the chief architect of the post-colonial economy.  The contrition expressed by the politicians, and the discomfort with which bureaucrats accepted the new rules of the game, comprised part of what Yergin terms “the agony of reform.”  However, once committed to that path, they found it only became easier, because the positive results were so encouraging.  One lesson we can take from this is to expect some chaos in the wake of deregulation; what matters most in any given instance isn’t the short-term pain but the long-term gain.  I would agree that if the latter is of less significant magnitude than the former, then that instance wasn’t worth the effort.  But we are only in a position to make this determination at some much later date, not while we’re still in the throes of that agony (to which an entire third of the PBS video documentary of Commanding Heights is devoted).  Unfortunately, another lesson from India is that corruption, once entrenched, becomes difficult if not impossible to eradicate.  Prevention seems to be more desirable than cure in this regard.

But to drive the point home to my American readers, I’ll focus on examples from our own country, preferably those examples that are recent enough to be within memory or the newspaper archives.  Probably the most well-known such example is that of the airline industry.  Yergin provides a great deal of detail about how the airline industry grew up under the aegis of federal regulation.  In keeping with Robbins’ theory on cartelization, Pan Am benefited substantially from federal regulations, becoming one of a handful of national carriers dominating the industry by preventing newcomers from getting a toehold.  High-tech, low-margin industries present formidable barriers to entry, and those firms that can most rapidly exploit economies of scale become predominant.  Before federal regulations come to bear on any new sector, market entrepreneurs with a profound economy-of-scale advantage can eventually become monopolies; Standard Oil’s history is one example.  Once the sector becomes regulated, the advantage shifts to those firms that can best exploit the regulations.  Firms can leverage any such pre-existing advantage via political patronage; firms that haven’t grown sizeable enough to thusly benefit can appeal to anti-trust sentiment, or to whatever other political expedient presents itself, such as a politician’s favor toward companies in his home state.  Where feedback loops present themselves (as through lobbying and political action), this process—the shift from market capitalism to political capitalism—is reinforced, and it accelerates.  At its culmination, there is no longer a free market (although pretense at such may remain for decades); there is only corporatism.  And this environment does not favor market entrepreneurs; it favors those who can wield the government’s force on their own behalf.  Once political power has been coopted by corporate will, it no longer serves the people.  This is the source of the military-industrial complex and the prison-industrial complex.  At its extreme, this tendency results in fascism.  In moderation, it results merely in loss of freedom of choice.

As previously discussed, during the 1970s, Stagflation held the American economy in an iron grip.  There was no measure available to policymakers, at least in a Keynesian context, that could improve either inflation or unemployment without simultaneously exacerbating the other.  There were economists of the Chicago school arguing that the government’s price controls were the leading cause of inflation, and that competition would prove to be the necessary palliative, but opening up competition would in turn require deregulation, and this was absolute anathema to the Keynesian orthodoxy of the day.  It was simply not given due consideration under the Nixon administration (as demonstrated by his infamous statement “We’re all Keynesians now”).  “What is the effect of regulating the airlines?” asks Chicago economics professor Sam Peltzman in the PBS documentary.  “What is the effect of regulating the trucking industry?  What is the effect of regulating the railroad industry?  Very often it raises prices.  Instead of allowing competition, it suppresses competition.”  Alas, Peltzman was not on Nixon’s staff.

Supreme Court Justice Steven Breyer was not a Chicago economist in the early 1970s; he was a member of the competing, liberal Harvard school.  He supported a liberal Democratic administration, and was an acquaintance of liberal Democratic legislator Ted Kennedy.  Kennedy asked Breyer to head a Senate investigation studying the impact of federal deregulation of the airline industry.  What they found was that the leading firms of 1938—the time at which New Deal-era regulation had been applied to the airline industry—were still the leading firms in 1974.  Competition had had no effect on the dominant carriers, a telltale sign of their having benefited from the regulatory climate.  Members of the Civil Aeronautics Board were called to testify before the Senate panel.  The figures that emerged from testimony were troubling:  approximately 5% of the regulators’ time was spent controlling prices deemed too high, and the remaining 95% of their time was spent controlling prices they deemed too low.  The main thrust of regulatory effort was to ensure that prices remained artificially high.  And of course this was precisely how the leading airlines wanted it.  Contrast this with the “monopolist” practices of Standard Oil, who while dominating the US market, always labored to lower prices.  Monopoly itself doesn’t provide a useful distinction between market and political entrepreneurs; what matters, ultimately, is the presence or absence of the firm’s willingness to coerce the consumer using state force.

Englishman Freddie Laker, owner of the cut-rate airline Laker Airlines, pleaded his case with American federal regulators.  The system appeared, at least to him as an outsider, to be set up deliberately to favor Pan Am.  He was trying to get the market opened up to his firm, Laker Airlines, as well as to other competitors that had been shut out of participation.  The Transportation Department listened to Laker’s complaints, and then ruled that lowering prices (and thereby lowering barriers to third-party entry) would hurt Pan Am.  “The cause of all this is Panamania,” he replied:  the idea that “everybody should do everything for Pan Am.”  Nonetheless, Laker had patrons in government, such as Cornell economist Fred Kahn, named chairman of the Civil Aeronautics Board in 1977 by Jimmy Carter.  Kahn championed the idea of a much leaner, weaker regulatory structure.  At the time, the largest division of the Board was the Enforcement Department, which spent its budget by sending hundreds of agents into airports to seek out companies offering discounts…for which the Department fined them.  Because airlines couldn’t compete on the basis of fares, they competed in other ways, such as on the sumptuousness of their in-flight meals.  The Enforcement Department, in turn, issued fines to companies who charged less than the commanded rates for meals.  By the time Kahn was done with the deregulation of the airline industry, the Board was left with essentially no function, and so was decommissioned.  A free-for-all of competition ensued, with dozens of smaller and regional carriers coming into and going out of existence.  Some employees lost jobs, but were often able to rejoin other carriers (or, eventually, the same carrier), albeit sometimes at reduced salary.  This is the kind of course correction, “agony of reform,” that could have been avoided altogether had the market simply been left competitive in the first place.  But it’s to be expected that progressives will blame the job loss on deregulation, rather than on inefficiency in the market.  It falls to you, the reader, to determine on the basis of the above evidence whether the blame for job loss falls to the market or to government.  The net result for consumers today is unquestionably more competition.  Firms compete on the basis of fares and amenities, and prices have on average gone down considerably.  As happened during the era of steamboat travel, the price war in air travel has brought about an age of world travel, opening up flight to the masses.  Many competitors have lost, but the consumer has nonetheless won.

And while this is a major triumph for Chicago-school economics and conservative policymakers, it must not be forgotten that this triumph comes at the hands of liberal Democrats.  Jimmy Carter and Ted Kennedy are among the nation’s foremost practitioners of deregulatory economic improvement, giving the lie to Democratic claims that such measures are, always and everywhere, a bad idea for the economy and for the consumer.  Similar stories played out in the trucking and railroad industries.  While these are but a tiny subset of all economic activity, they in sum represent the bulk of the transport sector, and their mutual deregulation has arguably contributed to the massive, rapid growth of technology that began in the late 70s and continues to this day.  It could reasonably be argued, in other words, that the personal computer revolution and the rise of the Internet have, among their roots, the deregulation of domestic transportation.  Even the Wiki on Reaganomics acknowledges:

One controversial issue concerning Reaganomics is the issue of how much of deregulation which took place during the 1980s the Reagan administration was responsible for.  Economists Raghuram Rajan and Luigi Zingales point out that many of the major deregulation efforts had either taken place or begun before Reagan (note the deregulation of airlines and trucking under Carter, and the beginning of deregulatory reform in railroads, telephones, natural gas, and banking).

Carter and Reagan, therefore, both deserve credit for the win, but the theory itself long predated both.  Nonetheless, the results were positive, meaning that if we ignore the name and party of the individual occupying the Oval Office and focus just on the policies, the policies are fully-vindicated.  Carter was a successful deregulator, but he was unsuccessful at stimulating the economy or taming inflation, and that was because although he could be talked into deregulation of specific sectors, he could not abandon the strict Keynesian assumptions of the Democratic Party with respect to unemployment.

The agony of reform nonetheless rears its head in most if not all cases of deregulation.  History presents us with one clear maxim:  there are unintended consequences for all rapid changes.  Another Democrat, William Clinton, oversaw the Executive branch during most of the 1990s, replacing President George H. W. Bush largely on the basis of the latter’s inability to keep his “no new taxes” campaign pledge.  Bush had achieved the Oval Office on the strength of the performance of his direct predecessor, Ronald Reagan.  Reagan is of course the Right’s shining example of deregulatory, supply-side economics.  The 1980s were one long economic expansion, providing some of the best proof available of the validity of the Austrian (and related) schools.  At the end of that decade, another phenomenal proof was revealed:  the ability of capitalist prosperity to outcompete economic planning.  The Soviet Union, drawn increasingly into competition with the West on such fronts as defense spending and outer space, found itself unable to sustain its competitive participation while still operating a functional economy.  At its height, the USSR spent more than 60% of its GDP on national defense, an entirely unsustainable amount (and one that the government carefully hid from outsiders as well as its own people); in the early 80s, it froze domestic industrial output at 1980 levels, in effect creating a deliberate recession.  The constant focus on defense spending and economic planning left little in the way of economic resources to grow the economy or promote social development.  Slow economic growth was compounded by a burgeoning trade deficit with the West, itself the result of the inherent superiority of capitalism.  And the Reagan Doctrine—the supplying of arms to governments fighting against Soviet-backed revolutionaries or invaders—was compelling the Soviets to expend ever-greater amounts of men and materiel in their various military entanglements.

After the United States announced its Strategic Defense Initiative, the Soviets had little choice but to counter with an initiative of their own…one which eventually broke the national budget.  And although the SDI program turned out to be practically infeasible, given the state of technology at the time, it met its objective by effectively ending the Soviet nuclear threat.  Faced with the inability to keep government operating without funds, and with communism under increasing attack elsewhere in the Soviet bloc, General Secretary (and later President) Mikhail Gorbachev began instituting substantial economic and social reforms in the late 80s, culminating with the adoption of a fully-democratic political system supporting an unplanned market economy.  The result for the United States was an end to the Cold War, and a commensurate reduction in the need for expanding defense spending.  Through the first of his two terms, Reagan had adhered largely to the campaign platform of reduced taxes and lowered government spending.  And this combination, in concert with Volcker’s contractionary monetary policy, helped tame inflation and bring about what was at the time the longest peacetime expansion in the nation’s history.  Democratic critics are fond of pointing out that although Reagan met many of his policy objectives during that first term, he nonetheless expanded government spending and raised taxes during the second term.  If we regard each term as a predominantly one-issue administration (taming the economy and ending the Cold War, respectively), then the pattern is explicable in terms of changing policy objectives.  Trickle-down economics worked, and once it was working, the President’s emphasis shifted toward defense.

Another factor to consider is the degree of support Reagan had from the predominantly Democratic congress.  They were willing to work with him on some measures, but the longer he was in office, the greater the resistance they offered.  By the start of his second term, he could no longer count on any great degree of cooperation.  As was the case with the Mellon’s Treasury policies, the pendulum swung against him, and he ceased making substantial economic progress.  The difference between his degree of success during his first term and that of his second comes down largely to the differing degree of indulgence granted him by a hostile Congress.

That was not a problem faced by Clinton.  Congress was still heavily Democratic during his first term, and he didn’t face the legislative resistance that Reagan faced.  He was generally more successful overall in getting his policies enacted, a fact which Democrats point to with deserved pride.  One fact that goes overlooked by Democrats is that most of his policies were far more in line with Reagan’s supply-side economic theory than with Roosevelt’s or Carter’s demand-side policies.  As previously discussed, Reagan’s tenure can be logically divided into two terms, each with a different focus (and therefore each with a different degree of observance of fiscal restraint).  Early in his presidency, Reagan cut taxes and cut government spending; later, he raised taxes and increased spending.  Clinton’s tenure offers a neat mirror-image of this approach.  During his first term, he raised taxes and increased spending.  Later, he lowered taxes and cut spending, continuing the former’s deregulatory streak.  The boom of the 1990s is frequently attributed to this tax cut and decrease in government spending.  It in fact is but another example of the success of the Mellon Doctrine.  And this is attested to by Clinton’s own policy wonks.  In February 1995, 18 months after the tax increase took effect, his Office of Management and Budget issued projections of deficits for the next five years, assuming the continuation of existing policies.  As shown in the following graph, the projection was an admission of defeat; the tax hike would not stave off deficit spending, and in fact deficits would increase well beyond $200 billion over the next five years.

(Source:  Office of Management and Budget and Congressional Budget Office data, cited in Forbes article '93 Clinton Tax Hike Didn't Lead To Budget Surpluses Of Late '90s.)

So why didn’t government spending exceed that limit during his tenure?  In part, because Clinton was faced by an adversarial Republican legislature during his second term, and this imposed strict fiscal restraint on the government.  Indeed, spending increased by only about 2.9% over the next four years.  This encouraged the institution of the 1997 tax cut, with the result that the economy expanded considerably.  In this result, Clinton’s presidency extended and continued Reagan’s results. 

However, Clinton was a Democrat, and as such was less committed to the idea of smaller government than had been Reagan.  While he was in office, Clinton oversaw some substantial increases to the size of government.  Regulatory structures such as FMLA, OSHA and NAFTA were either enacted or greatly expanded, with the net result that employers began seeking external labor markets.  In effect, it had become much more expensive and complicated to hire American workers, so corporations sought offshore labor.  While the offshoring phenomenon is decades old in the manufacturing sector, it had never touched on white-collar work before.  An interesting collusion of competing principles resulted:  India, having substantially deregulated and privatized its economy, and with a growing cultural emphasis on technology and education, suddenly became attractive as a vast pool of cheap labor.  It is now a growing economic powerhouse in the tech sector; a substantial majority of the world’s programming firms reside there today.  And while this is no doubt a considerable boon to the developing world, it presents another of those market-tilting distortions to those of us living in the United States who earn a living by programming computers.  Now we have to compete on the basis of wages against application developers who can survive at a much lower cost of living than we can.  The unintended consequences of regulation, once again, have unleveled the playing field in a fundamental way.  Clinton, as much as any one technology firm, is responsible for the trend in offshoring.  As such, he bears some responsibility for the intractability of the 2008 recession, by diminishing the number of domestic programming jobs available to unemployed programmers.

So Clinton, like Carter, produced wins and losses, achieving an overall mixed record.  Of all the presidents so far discussed, only Reagan appears to come off without any major losses.  Although he failed to accomplish all of his policy objectives, resulting in the eventual increase in marginal tax rates and the accompanying increase in government spending, there is at least no mismanaged recession, nor any major damage to any economic sector on the order of, say, offshoring.  Volcker’s contractionary Fed induced a sharp recession that the market nonetheless quickly recovered from; had the tax cuts and spending cuts not already been in place, that recession might have proven much more extensive and severe.

There is another example I can bring to bear here:  Vladimir Putin’s tax reforms.  When he took over the office of President of Russia, market reforms were well underway, and private industry was starting to take the reins of the commanding heights.  Like Reagan, he is often credited with successes that were already underway before he stepped into them.  And he actually halted and reversed some reforms, starting a wave of business nationalizations while satisfying personal agendas against politically-irritating entrepreneurs.  But among the first achievements of his tenure was to restore pension payments to retirees, and shortly thereafter got ordinary workers’ payrolls rolling again.  The biggest problem he initially faced was the budget shortfall.  The Russian tax structure was a horrific revenant of the Soviet era, with labyrinthine regulations, punitive marginal tax rates and an exceedingly bloated, inefficient bureaucracy.  Tax evasion was, quite simply, the norm all across Russia, and the sheer number of creaky bureaucratic moving parts made enforcement all but impossible.  The Russian tax agency recorded essentially $0 in collections the year he took over.  Putin’s reforms slashed the size and budget of the agency, dramatically reduced marginal tax rates, and lowered the incentive to evade payment.  And, as had taken place under Andrew Mellon in the United States, collections reflected the reasonability of the new rates, and revenue burgeoned overnight.

The writing team of Daniel Yergin and Joseph Stanislaw wrote in detail of the differences in technique and results between the American and European regulatory models.  Whereas many western nations adopted a welfare state and a socialistic, nationalizing governance structure, the United States opted to maintain industry and government in separate sandboxes, albeit connected via regulation.  Because the models are so different, it’s not possible to obtain one-to-one comparisons between features and results.  But it is possible to evaluate each model’s successes and failures in the context of the predictions of Keynesian and Austrian economic theories.  The Berlin of 1947, the Poland of 1989, and the Russia of 1991 are not the United States of the Stagflation era.  But in each of these cases, some form of Chicago-style shock therapy was employed, and in each case, the economy markedly improved immediately.  There is no feature of Keynesianism, short of sheer bloody coincidence, that can account for this, yet it is predicted exactly by the Austrian and Chicago schools’ theories.  Contrary to the ever-lovin claims of Paul Krugman, there is substantial empirical evidence in favor of their views, and against the view of his hero.  The most convincing argument he’s managed to bring to bear on the success of Reaganomics is that the economy had been in decline for so long that it was due for an expansive correction.  (This disregards the rather phenomenal coincidence of Britain’s Margaret Thatcher enjoying similar success after having employed similar methods.)  Meanwhile, the successes of airline / trucking / railroad deregulation, and the connection between Clinton-era regulations and tech offshoring, appear to have pretty much sealed Keynes’ coffin…it might perhaps be hoped, with Krugman trapped inside, lips extended in perpetual gesture of kissing the fossilized posterior of his progenitor. 

So far, the results of regulation appear vastly underwhelming.  We will hear frequently that abuses or “market failures” have resulted from this act of deregulation or another; we will be told that every natural disaster to occur in the next decade is the fault of corporations who’ve bought government and successfully sought deregulation of their sectors.  I myself have heard that the BP Deepwater Horizon disaster was the result of deregulation of the oil industry.  Deregulation of the single most heavily regulated sector in our entire economy (and not coincidentally, people, the sector with the heaviest representation in the Washington lobby) caused the disaster!  Never mind that the National Committee report of the EPA’s findings in the incident argue exactly the opposite:  that it was regulatory failure—the ineffectiveness of 13 existing regulations—that allowed the incident to take place.  The report specifically blames the ineffectiveness of the EPA and the failure of its regulations to keep pace with technological changes in the energy sector.  It also makes no mention of any deliberate malfeasance on the part of the corporation.  The disaster took place as the perfectly innocent, yet perfectly lethal and destructive, confluence of many individual acts of negligence and unconcern, not as the result of any deliberate attempt to improve the bottom line at the expense of safety.  Among the Key Commission Findings:  “The Commission found that the Deepwater Horizon disaster was foreseeable and preventable.  Errors and misjudgments by three major oil drilling companies—BP, Halliburton, and Transocean—played key roles in the disaster.  Government regulation was ineffective, and failed to keep pace with technology advancements in offshore drilling.”

To be forewarned is to be forearmed.  If you know that the BP disaster was brought about not by deregulation, but by regulatory failure, you can avoid falling prey to the same assumptions that pathological ideologues cannot avoid.  If you know that the Great Depression was caused by government intervention, that the Obama stimulus plan is causing the Great Recession to drag on endlessly, and that the Reagan tax cuts provoked the precipitous expansion of the 80s, then you are heir to enough reason to be able to shrug off the progressives’ propaganda.  But in that case, you also undoubtedly harbor enough reason to be able to grant the occasional exception.  There are some few regulatory efforts that appear to achieve their desired ends without inflicting substantial damage on the economy.  The best measures are those that rely on the market itself, of course; this keeps spurious signals out of the feedback loops, and permits the market a modicum of self-regulation.  The category of regulation to which this model best applies is environmental regulation.  The technique which has produced the best results so far is “cap and trade.”

To understand how this works, we must first familiarize ourselves with externalities.  An externality is an activity performed by one actor that impacts one or more other actors outside of the market’s own mechanisms.  Pollution is an example; it has no economic value, and is essentially a byproduct of all economic activity (including that of ordinary individual households), but its accumulation poses hazards to everybody.  The cap-and-trade system was set up in order to treat this kind of externality as part of the market, and therefore as subject to economic activity.  In the case of atmospheric pollutants that contribute to acid rain, polluters are permitted to trade portions of the maximum allowable level of a pollutant.  The maximum, or “cap,” is the limit mandated by the regulatory body (in this case, the EPA); firms whose activity results in their exceeding their portion of the limit are compelled to purchase additional portions from other firms whose activity puts them below their own limits.  This brings pollution into the fold, so to speak, allowing market mechanisms to allocate it in much the same manner as those same mechanisms allocate resources.  Although there is still enforcement envolved—the “cap”—it isn’t more intrusive or oppressive than ordinary laws against pollution, which impact private citizens to the same degree.  The upshot is that firms are generally willing to work within this framework, as it permits a modicum of normal market activity.  And it has proven effective:  cap-and-trade regulation of nitrous and sulfurous oxide emissions from factories has reduced acid rain and brought about a return to health in many previously-ravaged ecosystems, while not excessively impacting either the operation or the profitability of the regulated firms.

So with all this in mind, we can now revisit the question of whether electrical deregulation has on balance proven to be beneficial or harmful to consumers.  As before, the answer is necessarily “time will tell,” but with the given that the agony of reform is temporary, and that market mechanisms have a way of correcting problems over time.  And, once aware of the pros and cons of regulation and deregulation in any specific context, consumers do still have the option of reinstating regulations, as Virginia has done in the electrical market.  And this brings me to the last of my caveats and warnings about the impact of regulation:  the fact that most regulation is written by unelected officials, behind closed doors, away from public oversight.  The democratic process is supposed to require constant interplay between the representatives and their constituencies.  As I’ve previously pointed out, our modern lobbying structure circumvents this interplay, shifting the relationship from constituency to lobbyist.  A more sinister aspect of this syndrome is the fact that the people we elect to craft our regulation don’t actually do the crafting.  Much regulation is written by organizations such as SEIU, the Service Employees International Union, who had a major hand in the drafting of the Obama health care bill.  This may be a perfectly acceptable situation to many liberals, who trust government implicitly.  It is absolutely horrifying to conservatives and libertarians and pretty much everyone else who regards his vote as going to a specific individual and not to entities who neither campaigned for votes nor face voter repercussions.  The same people who regard the encroachment of corporatism should find this situation onerous and threatening, but they are incredibly accepting of it, considering how unaccepting they are of corporate malfeasance.  There is an incredible disconnect here, one that I’m at pains to explain.  The best I can offer is that people seem remarkably susceptible to propaganda that fits into their worldview.

Still, while electrical rates have risen more than 21% across the board, rates in deregulated states have risen an additional 15% on average.  Electrical deregulation may well prove to be unsustainable and a bad idea for the consumer.  If this turns out to be the case, however, it does not bode ill for deregulation in general; it only demonstrates that sectors involving natural monopolies should remain regulated.  And this is a point that Milton Friedman, et al, have made in their own arguments…and one that Krugman seems perpetually poised to ignore utterly.

Choose your ideological authorities with care.

References

Wiki on Standard Oil

Wiki on John Rockefeller

Wiki on World War I

Wiki on Augusto Pinochet

Wiki on Milton Friedman

Wiki on the Chicago Boys

Wiki on Jeffrey Sachs

Wiki on Ludwig Erhard

Wiki on Murray Rothbard

Wiki on Monmohan Singh

Wiki on the Permit Raj

Wiki on the German Economic Miracle

Wiki on the Great Depression

Wiki on New Economic Theory

Wiki on Stagflation

Wiki on the Business Cycle

Wiki on Kondratiev Wave

Wiki on Reaganomics

Milton Friedman video:  The Robber Baron Myth

Burton W. Folsom book:  The Myth of the Robber Barons

Burton W. Folsom book:  New Deal or Raw Deal?

Daniel Yergin book:  The Quest:  Energy, Security, and the Remaking of the Modern World

Daniel Yergin book:  The Prize:  The Epic Quest for Oil, Money & Power

Daniel Yergin / Joseph Stanislaw book:  The Commanding Heights:  The Battle for the World’s Economy

Lionel Robbins book:  The Great Depression

Lionel Robbins book:  A History of Economic Thought

Eric Rauchway book:  The Great Depression and the New Deal:  A Very Short Introduction

Murray N. Rothbard book:  America’s Great Depression

Milton Friedman video (on Phil Donahue show), discussing minimum wage

Milton Friedman video:  Real productivity vs. government employment

Meet the Press interview with Ron Paul on his budget proposal

Paul Krugman essay on Milton Friedman:  “Who Was Milton Friedman?”

Objective Standard review of New Deal or Raw Deal?

Mises.org review of New Deal or Raw Deal?

Greg Mankiw weblog article:  “Spending and tax multipliers”

Amelia Hamilton article:  “How government regulation destroys competition and creates monopolies”

Charles W. Upton lecture (Kent State):  “What Causes Monopolies”

Houston Chronicle weblog (“Fuel Fix”) entry on electrical buyback:  “Solar panels become cash cow for some Texans”

President William Clinton’s Office of Management and Budgetprojections for 1996 deficits 

United States House of Representatives Joint EconomicCommittee report on the Reagan Tax Cuts

gCaptain Maritime & Offshore reprint of NationalCommission’s summary of the National Committee Report on the BP DeepwaterHorizon Oil Spill

National Committee Report on the BP Deepwater Horizon Oil Spill

Regulation and Deregulation, pt. 4

With this background established, we can now examine a few examples of market entrepreneurship as pitted against political entrepreneurship, and see how the various companies fared over time.

Robert Fulton was a consummate inventor and industrialist.  During the 1790s he competed with other inventors in the nascent steamboat industry.  He was the first to develop a commercially-practical steamship, and during the same period, also developed the first practical submarine.  He’d become interested in technology from an early age, and as an adult, never stopped experimenting and looking for improvement.  Unfortunately, the company he ran in the United States, traversing the Hudson river on the Clermont, did not long maintain his inventive spirit.  More to the point, Fulton was granted a 30-year monopoly by the state of New York, and so after the flurry of innovation that led him to his first successful designs, he was under no competitive pressure to innovate that endeavor thereafter.  He continued to develop other projects for some time, including the submarine Nautilus and a Seine riverboat (developed with Robert Livingston, the US ambassador to France), but spent little effort improving the Clermont, and died in 1815, with about half the monopoly’s duration remaining. 

Cornelius Vanderbilt, by contrast, was a consummate individualist and entrepreneur.  He was hired by Thomas Gibbons in 1817 to break the Fulton monopoly.  He ran a steamboat between Elizabeth, New Jersey to New York City, carrying passengers cheaply and evading the law the entire time. 

He became a popular figure on the Atlantic as he lowered the fares and eluded the law.  Finally, in 1824, in the landmark case of Gibbons v. Ogden, the Supreme Court struck down the Fulton monopoly.  Chief Justice John Marshall ruled that only the federal government, not the states, could regulate interstate commerce.  This extremely popular decision opened the waters of America to complete competition.  A jubilant Vanderbilt was greeted in New Brunswick, New Jersey, by cannon salutes fired by “citizens desirous of testifying in a public manner of the good will.”  Ecstatic New Yorkers immediately launched two steamboats named for John Marshall.  On the Ohio River, steamboat traffic doubled in the first year after Gibbons v. Ogden and quadrupled after the second year. 

The triumph of market entrepreneurs in steamboating led to improvements in technology.  As one man observed, “The boat builders, freed from the domination of the Fulton-Livingston interests, were quick to develop new ideas that before had no encouragement from capital.”  These new ideas included tublar boilers to replace the heavy and expensive copper boilers Fulton used.  Cordwood for fuel was also a major cost for Fulton, but innovators soon found that anthracite coal worked well under the new tubular boilers, so “the expense of fuel was cut down one-half.” 

The real value of removing the Fulton monopoly was that the costs of steamboating dropped.  Passenger traffic, for example, from New York City to Albany immediately dropped from seven to three dollars after Gibbons v. Ogden.  Fulton’s group couldn’t meet the new rates and soon went bankrupt.  Gibbons and Vanderbilt, meanwhile, adopted the new technology, cut their costs, and earned $40,000 profit each year during the late 1820s. 

--Burton W. Folsom, Jr., The Myth of the Robber Barons (Chapter 1, “Commodore Vanderbilt and the Steamship Industry”)

Vanderbilt eventually parted ways with Gibbons, going into business for himself with two steamboats.  

Moving to New York, Vanderbilt decided to compete against the Hudson River Steamboat Association, whose ten ships probably made it the largest steamboat line in America in 1830.  It tried to informally fix prices to guarantee regular profits.  Vanderbilt challenged it with two boats (which he called the “People’s Line”) and cut the standard New York to Albany fare from three dollars to one dollar, then to ten cents, and finally to nothing.  He figured it cost him $200 per day to operate his boats; if he could fill them with 100 passengers, he could take them free if they would each eat and drink two dollars worth of food (Vanderbilt later helped invent the potato chip).  Even if his passengers didn’t eat that much, he was putting enormous pressure on his wealthier competitors.  Finally, the exasperated Steamboat Association literally bought Vanderbilt out:  they gave him $100,000 plus $5,000 a year for ten years if he would promise to leave the Hudson River for the next ten years.

This touched off a spate of similar competitive entries and buyouts; instead of simply cutting fares and innovating on improvements, the Association bought out at least five other competitors that sprang up in Vanderbilt’s wake.  One can only imagine how much research & development and hiring could have been done by the Association with that buyout money, but improvement rarely occurs to those who are subsidized.  With no skin in the game, there’s nothing to lose, and therefore no reason for any real effort.

Meanwhile, Vanderbilt took his payoff money and bought bigger and faster ships to trim the fares on New England routes.  He started with the New York City to Hartford trip and slashed the five-dollar fare to one dollar.  He then knocked the New York City to Providence fare in half from eight to four dollars.  When he sliced it to one dollar, the New York Evening Post called him “the greatest practical anti-monopolist in the country.”  In these rate wars, sometimes Vanderbilt’s competitors bought him out, sometimes they went broke, and sometimes they matched his rates and kept going.  Some people denounced Vanderbilt for engaging in extortion, blackmail, and cutthroat competition.  Today, of course, he would be found “in restraint of trade” by the Sherman Anti-trust Act.  Nonetheless, Vanderbilt qualifies as a market entrepreneur:  he fought monopolies, he improved steamship technology, and he cut costs.  Harper’s Weekly insisted that Vanderbilt’s actions “must be judged by the results; and the results, in every case, of the establishment of opposition lines by Vanderbilt has been the permanent reduction of fares.”  The editor went on to say, “Wherever [Vanderbilt] ‘laid on’ an opposition line, the fares were instantly reduced; and however the contest terminated, whether he bought out his opponents, as he often did, or they bought him out, the fares were never again raised to the old standards.”  Vanderbilt himself later put it bluntly when he said:  “If I could not run a steamship alongside of another man and do it as well as he for twenty percent less than it cost him I would leave the ship.”

What is particularly interesting about this episode, apart from the competitive intrigue, is the role Chief Justice Marshall took in the proceedings.  He was an ardent Federalist who believed that a strong federal government was better than a weak one with more independent states, and his decision was rooted in that philosophy.  By modern standards, this would place him somewhat left of center.  However, that decision effectively deregulated steamboat travel in the United States for nearly the next quarter-century.  And this in turn brought prices down, making steamboat travel affordable to the masses.  This brought about an age of travel that made European destinations available to Americans, and made immigration affordable to Europeans.  The resulting improvements both to leisure and to the availability of labor helped bring about the modernization and unification of the United States into a coherent society and economy.

This wasn’t the end of the steam story, with respect to political entrepreneurs; an explicit monopoly charter isn’t the only way to grant a monopoly.  Samuel Cunard convinced the British government to subsidize his bimonthly transatlantic steam transport.  He carried mail between Britain and the United States, and used that as justification for the subsidy (an argument which, in updated form, still floats the United States Postal Service today).  Because his $0.24-per-letter price didn’t cover shipping costs, he was initially able to leverage $275,000 annually from the government in 1838, and the subsidy grew throughout the 1840s.  Edward K. Collins sold this same idea to the United States government, arguing that America needed subsidized steam travel in order to compete with Britain.  He asked three million in startup capital, plus $385,000 a year, with which to build five large steamships to outrace their British counterparts on the Atlantic route.

Collins would deliver the mail, too; and the Americans would get to “drive the Cunarders off the seas.”  Collins appealed to American nationalism, not to economic efficiency.  Americans would not be opening up new lines of communication because the Cunarders had already opened them.  Americans would not be delivering mail more often because Collins’ ships, like Cunard’s, would only sail only every two weeks.  Finally, Americans would not be bringing the mail cheaper because the Cunarders could do it for much less. 

Once the Senate established the principle of mail subsidy, other political entrepreneurs asked for subsidies to bring the mail to other places.  Soon Congress also gave $500,000 a year for two lines to bring mail to California:  an Atlantic line to get mail to Panama and a Pacific line to take letters from Panama to California.  As in the case of Cunard, Collins and the California operators, all argued that a generous subsidy now would help them become more efficient and lead to no subsidy later. 

Congress gave money to the Collins and California lines in 1847, but they took years to build their luxurious ships.  Collins, especially, had champagne tastes with taxpayers’ money.  He built four enormous ships (not five smaller ships as he had promised), each with elegant saloons, ladies’ drawing rooms, and wedding berths.  He covered the ships with plush carpet and brought aboard rose, satin, and olive-wood furniture, marble tables, exotic mirrors, flexible barber chairs, and French chefs.  The state rooms had painted glass windows and electric bells to call the stewards.  Collins stressed luxury, not economy, and his ships used almost twice the coal of the Cunard line.  He often beat the Cunarders across the ocean by one day (ten days to eleven), but his costs were high and his economic benefits were nil. 

With annual government aid, Collins had no incentive to reduce his costs from year to year.  His expenses, in fact, more than doubled in 1852:  Collins preferred to compete in the world of politics for more federal aid than in the world of business against price-cutting rivals.  So in 1852 he went to Washington and lavishly dined and entertained President Fillmore, his cabinet, and influential Congressmen.  Collins artfully lobbied in Congress for an increase to $858,000 a year (or $33,000 each for twenty-six voyages—which came to $5.00 per ocean mile) to compete with the Cunarders. 

Meanwhile, Vanderbilt had watched this political entrepreneurship long enough.  In 1855 he declared his willingness to deliver the mail for less than Cunard, and for less than half of what Collins was getting.  Collins apparently begged Vanderbilt not to go to Congress.  He may have offered to help Vanderbilt get an equally large subsidy from Congress—if only he wouldn’t open the transatlantic steamship trade.  But Vanderbilt had told Collins and Congress that he would run at Atlantic ferry for $15,000 per trip, which was cheaper than anyone else could do. 

So in 1855, Collins, the subsidized lobbyist, began battle with Vanderbilt, the market entrepreneur.  Collins fought the first round in Congress rather than on the sea.  Most Congressmen, former Whigs especially, backed Collins.  To do otherwise would be to admit they had made a mistake in helping him earlier; and this might call into question all federal aid.  Other Congressmen, especially the New Englanders, had constituents who benefited from Collins’ business.  Senator William Seward of New York stressed another angle by asking, “Could you accept that proposition of Vanderbilt[‘s] justly, without, at the same time, taking the Collins steamers and paying for them?”  In other words, Seward is saying that we backed Collins at the start, now we are committed to him, so let’s support him no matter what.  Vanderbilt, by contrast, warned that “private enterprise may be driven from any of the legitimate channels of commerce by means of bounties.”  His point was that it is hard for unsubsidized ships to compete with subsidized ships for mail and passengers.  Since the contest is unfair from the start, the subsidized ships have a potential monopoly of all trade.  But Collins’ lobbying prevailed, so Congress turned Vanderbilt down and kept payments to Collins at $858,000 per year.

Here, Folsom makes some tantalizing mentions of what I have identified as the feedback loops that reinforce the relationship between government and business.  Government’s unwillingness to admit error, face-saving efforts, and (oft-misdirected) sense of duty to commitment are all among these.  Once votes and political donations are brought into the mix, it becomes clear that the relationship is symbiotic, in the sense of being mutually-parasitic; the classes being given subsidies are exploiting government, and the politicians winning votes for those reasons are exploiting the public’s demand for that very relationship.  All that is needed to perpetuate it is the idea, easily fostered by propaganda, that the public needs to be protected from business.  (Friedman opines:  “Many people want the government to protect the consumer.  A much more urgent problem is to protect the consumer from the government.")  This relationship is the basis for corporatism, and it provides the inroads whereby corporations influence government.  Corporatism in turn is the basis for fascism.  Fascism represents a near-total loss of liberty among the populace, and as such it is hated and feared.  Not enough people, in my opinion, hate and fear corporatism, which is but a matter of degree less oppressive.  Perhaps there is no preventative like actual experience.

To beat the subsidized Collins, Vanderbilt found creative ways to cut expenses.  First, he had little or no insurance on his fleet.  He always said that if insurance companies could make money on shipping, so could he.  So Vanderbilt built his ships well, hired excellent captains, and saved money on insurance.  Second, he spent less than Collins did for repairs and maintenance.  Collins’ ships cost more than Vanderbilt’s, but they were not seaworthy.  The engines were too big for the hulls, so the ships vibrated and sometimes leaked.  They usually needed days of repairing after each trip.  Third, Collins, like Cunard in England, was elitist with his government aid.  He cared little for cheap passenger traffic.  Vanderbilt, by contrast, hired local “runners,” who buttonholed all kinds of people for travel on his ships.  These second- and third-class passengers were important because all steamship operators had fixed costs for making each voyage.  They had to pay a set amount for coal, crew, maintenance, food, and docking fees.  In such a situation, Vanderbilt needed volume business.  With third-class fares, Vanderbilt sometimes carried over 500 passengers per ship. 

Even so, Vanderbilt barely survived the first year competing against Collins.  He complained, “It is utterly impossible for a private individual to stand in competition with a line drawing nearly one million dollars per annuum from the national treasury, without serious sacrifice.”  He added that such aid was “inconsistent with the…economy and prudence essential to the successful management of any private enterprise.”

Vanderbilt met this challenge by spending $600,000 building a new steamship, immodestly named the Vanderbilt, “the largest vessel which has ever floated on the Atlantic Ocean.”  The Commodore built the ship with a beam engine, which was more powerful than Collins’ traditional side-lever engines.  In a head-to-head race, the Vanderbilt beat Collins’ ship to England and won the Blue Ribbon, an award given to the one ship owning the fastest time from New York City to Liverpool.  By 1856, Collins had two ships—half of his accident-prone fleet—sink (killing almost 500 passengers).  In desperation, he spent over a million dollars of government money building a gigantic replacement; but he built it so poorly that it could make only two trips and had to be sold at more than a $900,000 loss. 

Even Collins’ friends in Congress could defend him no longer.  Between Collins’ obvious mismanagement and Vanderbilt’s unsubsidized trips, most Congressmen soured on federal subsidies.  Senator Judah P. Benjamin of Louisiana said, “I believe [the Collins line] has been most miserably managed.”  Senator Robert M. T. Hunter of Virginia went further:  “the whole system was wrong; …it ought to have been left, like any other trade, to competition.”  Senator John B. Thompson of Kentucky said, “Give neither this line, nor any other line, a subsidy.…Let the Collins line die….I want a tabula rasa—the whole thing wiped out, and a new beginning.”  Congress voted for this “new beginning” in 1858:  they revoked Collins’ aid and left him to compete with Vanderbilt on an equal basis.  The results:  Collins quickly went bankrupt, and Vanderbilt became the leading American steamship operator. 

And there was yet another twist.  When Vanderbilt competed against the English, his major competition did not come from the Cunarders.  The new unsubsidized William Inman Line was doing to Cunard in England what Vanderbilt had done to Collins in America.  The subsidized Cunard had cautiously stuck with traditional technology, while William Inman had gone on to use screw propellers and iron hulls instead of paddle wheels and wood.  It worked; and from 1858 to the Civil War, two market entrepreneurs, Vanderbilt and Inman, led America and England in cheap mail and passenger service. 

The mail subsidies, then, actually retarded progress because Cunard and Collins both used their monopolies to stifle innovation and delay technological changes in steamship construction.  Several English steamship companies experimented with iron hulls and screw propellers in the 1840s, but Cunard thwarted this whenever he could.

There are several good points to take away here: 

--When a company doesn’t have to fear bankruptcy—and that’s the very definition of “subsidized”—it doesn’t have to compete on the basis of price or service, and doesn’t have to improve its technology or even its safety record.  (This also applies to governments, but that’s an entirely separate discussion.)

--When a company doesn’t have to fear bankruptcy, it can also expend vast sums influencing government in order to inhibit the development of technologies and methodologies that would grant advantages to competitors.  This in fact creates a feedback loop which enriches the pockets and political ambitions of the company’s political patrons in return for enriching the pockets and economic ambitions of the company.  This kind of loop is very difficult to eradicate, once entrenched.

--Competing on the basis of service can do as much as, or more than government regulation, when it comes to such matters as improving public safety; quality goes further than insurance in that regard.  (An ounce of prevention, and all that.  Insurance only provides monetary remediation; it cannot prevent any accident or disaster.  By providing a sense of security, it actually disincentivizes quality.)

--Quality is therefore of far greater market value than extravagance, and even of security…especially when it is being purchased with public funds.

But the most important point Folsom makes throughout this entire chapter is that when the government steps out of the way and allows the market to operate, the results are a benefit both to the entrepreneurs and to the consumers.  He goes on to make the case in other ways, devoting chapters to rail transport—pitting James Hill against the subsidized Transcontinentals—and steel—pitting the Scrantons of Pennsylvania against the British monopoly.  He devotes chapters to John D. Rockefeller and Charles Schwab, pointing out that firms can—in the utter absence of labor regulation—compete on the basis of wages and benefits to attract top talent, relying on price mechanisms rather than collective bargaining to achieve fairness.  Schwab’s labor practices were generous and effective, enabling him to put together a top-notch steel organization in which managers competed to be efficient, and employees were rewarded for making suggestions that improved productivity.  Class warfare simply did not exist for Schwab or his employees; and this can be said for many others of his time and since.  I would go so far as to say that where it exists today, it is the result of the welfare state and organized labor clamoring it into existence.

Folsom also provides a chapter on Andrew Mellon, who served as Treasury Secretary during the 1920s, the decade comprising the tail end of the age of industrialization in the United States.  This was also a period characterized by economic downturn and high national debt, both occasioned by recent participation in the Great War.  High tax rates had been employed to attempt to pay down the debt, but this was driving wealthier taxpayers to find tax shelters.  Mellon believed that it was possible to increase tax revenues by lowering tax rates, particularly on the top tier.  This he accomplished, lowering taxes across the board.  The “Mellon Plan” was based on four points:

--Cut the top income tax rate to 25%.
--Cut taxes on low incomes.
--Reduce the federal estate tax.
--Promote efficiency in government.

Some of these principles followed from others; by reducing all tax rates, for instance, Mellon was able to promote efficiency in government by requiring the employment of fewer tax processors and auditors (because lower tax rates meant that more people paid no taxes at all).  The second point was actually the most contentious. 

In 1921 Congress did cut the top rate from 73 to 58 percent; but after this the resistance stiffened.  The Progressives wanted a high tax rate on the rich and they had the logic of democratic politics on their side:  few voters earned large incomes; many voters resented those who did; and therefore there was always support for a soak-the-rich policy.  Mellon believed that about 25 percent was the most that investors would pay before they fled to tax-exempt bonds.  Cutting the top tax to 25 percent would, he predicted, bring the large fortunes back into productive enterprise and might generate a surplus of revenue for the government…. 

Tax policy, he argued, “must lessen, so far as possible, the burden of taxation on those least able to bear it.”  To further this end, he also suggested an income-tax credit of 25 percent on earned income—that is, income earned by wages would be taxed less than income earned through investments.  Mellon also proposed a repeal of the federal taxes on telegrams, telephones, and movie tickets.  The tax on movie tickets, especially, was a fee “paid by the great bulk of the people whose main source of recreation is attending the movies in the neighborhood of their homes.  The loss in revenue would be about seventy million dollars, but it would constitute a direct saving to a large number of people whose tax burden should be lightened wherever it is possible to do so.” 

But Progressives often opposed cutting the tax rates even on the lower-income groups.  When the income tax first became law, for example, Robert LaFollette wanted the taxing to start at $10,000, instead of $20,000.  In later Congressional debates he often tried to reduce the personal exemptions, so that taxes would start on incomes of $1,000, instead of $2,000.  As Governor of Wisconsin, he pushed for a bill that allowed the state to start taxing those who made as little as $800.  When LaFollette died in 1925, his son, Robert Jr., went to the Senate and picked up where his father left off.  He joined thirteen other Progressive senators in voting against Mellon’s bill to cut taxes from 1 ½ to ½ percent on those earning less than $4,000 per year.

This kind of politics shines an interesting light on conservatives’ efforts to cut taxes preferentially on the higher brackets.  On the one hand, this is (or can easily become) the kind of political hay that parties need to make in order to secure votes.  On the other, there is truth to the Republican assertion that keeping top rates low is beneficial to business and to the economy.  The fact that liberals fail to advocate in a similar manner on behalf of the poor is evidently only half-rooted in ideology; it also appears to be useful to the Democratic Party in a propaganda sense, both because the more aggressive anti-tax party favors the wealthy and because the soak-the-rich mentality has never been lost on progressives.  I view this as one symptom of a wider syndrome in which the Democratic Party trades in the class warfare mentality and the fear of the loss of entitlements.  By thrusting issues of moral variance (such as abortion and gay marriage) onto the national stage, it guarantees that they will never be settled to the population’s satisfaction (because such issues can only be satisfied at a local, or at most a state level, due to the geographic gradient along which norms and values are distributed); and this in turn creates the perpetual threat of overturning of welfare entitlements and SCOTUS decisions such as Roe v. Wade.  This phenomenon is in fact nothing more than the modern culmination of the feedback loops previously engendered by the actions of men like Seward and LaFollette.  Liberal economic theory breeds poverty, and poverty breeds liberalism.  And so the Democratic Party continues to be elected, year after year after year, and continues to perpetuate the very problems it purports to be eliminating.  The size of the welfare state, far from being permanently reduced by regulation and entitlement handouts, has ballooned enormously over the decades, with no end in sight.  Why, then, have no Democrats offered at least a token explanation for this?  Why are we not given reasons for the failure of the welfare state and regulation to meet their purported goals?  Well, we are, kind of:  we are told that these failures aren’t intrinsic to regulation or welfare legislation, but to the malice and greed of capitalists; we are in fact told that the problems don’t result from government activity, but from market activity (or conversely, from government inactivity), and that the answer isn’t less regulation, but more.  One has to wonder, given the economic disparity between the United States and China, where the sweet spot is:  will we have to become a command economy on the order of a Soviet state in order to wipe out our underclass, and if so, why haven’t any command economies ever accomplished this themselves?  The question can be generalized:  given how much the command economies of China, India, Cuba and Russia have deregulated, privatized, and otherwise shifted to the right, why are so many in this country so insistent that we should be shifting further to the left?  What is it about the economies of India, Russia, China and Cuba that is so attractive to progressives?  (The questions become more stark when we acknowledge that, despite their stated charter, none of these socialist systems ever accomplished the goal of a classless society.  In the Indian system, the entrepreneur class was always completely beholden to the bureaucrat class to accomplish anything at all; and in the Soviet systems, Party membership was always a requirement for any kind of privilege.  In the absence of classlessness, just what exactly is the advantage of socialism?)

Mellon’s ideas worked, though.  The Roaring 20s roared because the economy was surging.  Much more recently, pro-socialist economist Paul Krugman has issued a scathing critique of Mellon’s policies, what Krugman terms the “Mellon doctrine”:  in the words of Mellon himself to President Hoover, “liquidate labor, liquidate stocks, liquidate farmers, liquidate real estate…”   Krugman argues that this statement, more so than any actual policy enacted by Mellon during his Treasury tenure, typifies Mellon’s approach to economic management.  And Krugman clearly does not approve.  This is unsurprising, given that the liquidationist view is actually (and more properly) the ideology of the Austrian school of economics, comprising the followers of F. A. Hayek.  The idea in a nutshell is that poor performers should be allowed to fail, thereby improving the fitness of the economy overall.  Mellon was an early adopter of this idea, to be sure; he told Hoover that this would “purge the rottenness from the system” and encourage a more frugal, principled, and moral lifestyle.  But this is a footnote to Mellon’s overall economic policy, which is better characterized by the tax reductions and revenue increases.  And, quite interestingly, Krugman has had essentially nothing to say on this matter.  He is also silent on the remaining pillar of Mellon’s tax reform initiative, which was to distinguish between “earned” (labor) income and “unearned” (or investment) income.  Mellon regarded both kinds of income as valid, but sought to prioritize earned income by taxing it less heavily.

The facts speak for themselves:  between 1921 and 1930, the public debt was reduced by approximately $10 billion.  In 1921, 80% of the tax burden was borne by earners with incomes of $300,000 and lower; by 1926, only 35% was.  Far from shifting this burden onto the poorest, Mellon’s policy shifted the burden toward the richest, but in ways that were still seen as equitable and fair (as demonstrated by the wealthiests’ general refusal to shirk the tax obligation altogether).  Nor was Mellon swayed by his own personal stake; he became quite wealthy during this decade, and at one point was the third-highest taxpayer in the country (after John Rockefeller and Henry Ford).

When these facts are pointed out to Keynesians and socialists, the most common (and immediate) objection raised is that the 20s were followed by the Great Depression, and therefore Mellon must somehow be to blame.  However, to date I have not encountered a single lucid argument as to how.  Most commonly, the objection takes the form “Yeah, but the Great Depression happened next, so what does that tell you?”  Well, what does it tell me?  Is there any mathematical support for the idea that Mellon singlehandedly created the Depression?  Actually, as we’ve previously discussed, it’s fairly ridiculous to regard any single cause as the sole factor.  Moreover, the analyses of Folsom, Robbins et al provide convincing arguments that the Depression was in many ways inevitable, as a sort of perfect storm of recession (stemming from the regulatory activity of many governments worldwide, chaos injected into the global economy as many new players became integrated, and structural weakness due to the indebtedness of many WWI participants).  What set the Depression apart from other recessions, from the perspective of the consumer, is the length and depth of the contraction; what set it apart from the perspective of policymaking is the mass and complexity of the government initiatives brought to bear to defeat it…initiatives which, in the views of Folsom, Robbins et al, created the Depression from what would otherwise be just an ordinary pair of recessions.

If Mellon played any role in creating the Depression, it was in the fostering of what Austrian economists regard as the “irrational exuberance” that buoys markets and creates bubbles, which must then inevitably burst.  However, in the absence of the government’s disproportionate response to the disaster, this bust would not have become the Depression.  And even so, given the relatively temporary nature of the Depression, Mellon’s contributions can be seen as vastly outweighing the damage.  It is a standard Friedman argument that prosperity and liberty go hand-in-hand.  And it is easy to see that the 1920s represented, in many ways, a break from the traditions of the past.  Part of this is due to the availability of modern technologies, such as automobiles, airplanes and radios, all of which became available to the masses, and all of which contributed to a worldview in which technology represented wealth, leisure, and Man’s dominance over his environment.  But another part is due to the rising prosperity of the time, which, to drop a popular capitalist catchphrase, “lifted all boats.”  Much of the baggage of discrimination was washed away by that same rising tide.  Race relations improved nationwide, which was a factor in the ready acceptance of such “black” forms of entertainment as blues and jazz music.  Indeed, the 1920s are regarded by many as the “jazz era.”  Blacks and whites shared stages and cinema scenes for the first time.  Women took on a more active role in social and political affairs, eventually gaining the right to vote.  Social awareness grew; the Red Cross became a fixture on the social scene, and philanthropy became an end unto itself for many wealthy, led by Rockefeller and Mellon himself.  Cinema drew large, cosmopolitan audiences; social class all but ceased to be a factor in access to leisure and entertainment.  Racial equality was but one aspect of this change; homosexuality also became more tolerated, and “alternative lifestyles” became more accepted. 

And none of this would have been possible without that “irrational exuberance.”  The Great Depression is long gone, but these aspects of social progress remain.  The prevailing ideology of the time was liberalism, which as the 1950s and 1960s would later demonstrate, tends to get a boost during times of plenty.  (Modern radicals and adherents of the Port Huron Statement brand of student activism will disagree, of course, seeing liberalism as rising when social anger and upheaval drive it.  But the genesis of modern student activism was, of course, in the colleges, where it was necessarily the purview of the somewhat better-off.  Here, as elsewhere, Friedman appears to have been perfectly correct.  In the absence of the availability of leisure time and technology that would otherwise have been restricted to the uppermost classes, student activism would never have become a social force.  The 50s and 60s were, overall, times of  economic expansion.  The unrest that precipitated the student protests was less a result of poverty than of the perceived injustice of the Vietnam war draft, which was seen as hitting the poor and black individuals disproportionately.)  And while racial equality still seems today to be sort of a moving target, it’s clear that in the Twenties, it was well within range, possibly closer than in any of the several decades following.  In short, equality follows liberty (and not the other way around)…and liberty follows prosperity.  (I’d like to propose, to whomever comes up with historical taglines, that we regard this as the Friedman Doctrine.)  And it’s fairly obvious that with the hard times of the Depression came a resurgence of social conservatism; many gay actors who’d become famous during the Twenties were compelled to retire or at least go back into the closet during the Thirties.

Given the wild successes of Mellon’s plan, it is somewhat surprising to us today that so few aspects of it remain in play.  Almost immediately upon accepting office, FDR began rolling back elements of the Doctrine, such that by 1935, essentially none of Mellon’s initiatives were in place.  Part of this was due to FDR’s insistence that supply-side economics was bunk (an odd assertion, given his reliance on underconsumption theory); and part of it was due to his need to discredit any and all previous economic views, in order to self-promote as the nation’s savior.  Of course, the one may follow directly from the other, but given the wealth of uncharitable statements about FDR made later by many in his inner circle, it’s clear that consistency was not one of Roosevelt’s virtues.  Rather than adhere to a principle and set his compass by it, he would simply grab whatever expedient was handy.  To that end, he persecuted Mellon by initiating tax-evasion proceedings against him (a tactic he employed against many officeholders who either voted against his policies or sought publicly to discredit them).  Mellon was also impeached, although he retired from office before any punitive measures could be taken.

The Democratic scorn for Mellonism remains today; it is the basis for the attacks on Reaganomics and the decades-long smear campaign against the Reagan administration.  Few Treasury officials or Presidents would dare suggest improving the economy by cutting taxes; it happens from time to time, but such proposals are met with fierce resistance.  At the same time, these same Democrats lay all the blame for economic downturns on the wealthy.  We are told that the 2008 recession was caused by Wall Street, that housing bubbles are solely the fault of those issuing loans (absolving the loanees of all responsibility for participating), and that it is too little regulation, not too much, that exacerbates the impact of cyclical downturns.   Krugman inevitably is the loudest voice among this crowd, perpetually leading the charge against businessmen and wealth.  And it’s not the least bit surprising that his message reverberates with the least wealthy and the most angry; this is in fact precisely why he continues to enjoy his bully pulpit.

To hear Krugman talk, one would likely conclude that there are absolutely no gains to be made from deregulation, that the economy cannot operate at all in the absence of government intervention, and that not only do the wealthy not deserve their wealth, but it should be actively removed from them and forcibly redistributed (preferably through the expansion of the welfare state).  Krugman does deserve a certain amount of gravitas for having won a Nobel Prize in 2008 for his contributions to New Trade Theory.  However, he is rightly criticized for the overly partisan tone of his political rhetoric.  As an unabashed defender of the welfare state, he is at odds with the Chicago and Austrian schools on virtually every point, and this has evidently encouraged him to become increasingly strident in his opposition to conservative economic policy.  He has in fact crossed the line from economist to pundit, becoming in some ways the sort of self-parody of the Left that Rush Limbaugh represents on the Right.  And, in much the same way as the latter, Krugman has a way of ignoring historical evidence (and worse, actively denying that it exists).  Part of the strength of the New Trade Theory was its reliance on mathematical analysis; however, in practice, the evidence in favor of the Theory is so mixed and abstruse as to be mathematically highly questionable, and essentially worthless to the layman reader.  The Theory is noteworthy for its purported reliance on empirical study, via the gathering of “econometric” data, but as is the case with virtually all Keynesian and post-Keynesian theory, that reliance is so thin as to be essentially nonexistent.  The statistical analysis, for instance, relies on time scales that defy statistical analysis; beyond that, the scarcity of data points is such that statistical significance is highly questionable at best.  Indeed, the other originator of NTT, Victor Norman, regarded it as so insignificant that he never bothered to type up, much less submit, the initial draft of the paper in which he elucidated it. 

So whence Krugman’s fame?  Much like President Obama, he appears to have won a Nobel Prize for no reason in particular other than name recognition…or, perhaps, the ideological bias of those awarding the Prizes.  He has exploited a rising tide of anger at the wealthy—always a sure bet, even in good times—but has contributed essentially nothing of tangible value, either to the consumer or to the field of economics.  He is to macroeconomics what Paris Hilton is to entertainment.

Whatever the reasons for his fame, he certainly gets a great deal of mileage out of persecuting Friedman.  From his essay “Who Was Milton Friedman?”

What’s odd about Friedman’s absolutism on the virtues of markets and the vices of government is that in his work as an economist’s economist he was actually a model of restraint. As I pointed out earlier, he made great contributions to economic theory by emphasizing the role of individual rationality—but unlike some of his colleagues, he knew where to stop.  Why didn’t he exhibit the same restraint in his role as a public intellectual?

The answer, I suspect, is that he got caught up in an essentially political role.  Milton Friedman the great economist could and did acknowledge ambiguity.  But Milton Friedman the great champion of free markets was expected to preach the true faith, not give voice to doubts.  And he ended up playing the role his followers expected.  As a result, over time the refreshing iconoclasm of his early career hardened into a rigid defense of what had become the new orthodoxy.

Very interesting perspective, especially given the frequency with which I have levied similar criticisms against him.  Certainly his New York Times editorials are far more concerned with lambasting Republicans than with promoting utility.  His anger and contempt for half of the field in the political arena is why he is increasingly regarded as a pariah among professional economists.  In any event, the “new orthodoxy” is no longer as new as he claims, nor as orthodox; Friedman is on record as having softened his views over time, such as his position on monetary policy.

Krugman is more heavy-handed when targeting monetarism, ostensibly the practical application of Friedmannian economics (although to a large degree disavowed by Friedman himself).

First, when the United States and the United Kingdom tried to put monetarism into practice at the end of the 1970s, both experienced dismal results:  in each country steady growth in the money supply failed to prevent severe recessions.  The Federal Reserve officially adopted Friedman-type monetary targets in 1979, but effectively abandoned them in 1982 when the unemployment rate went into double digits.  This abandonment was made official in 1984, and ever since then the Fed has engaged in precisely the sort of discretionary fine-tuning that Friedman decried.

Here he disregards the fact that unemployment is typically quite temporary (and necessary, per the Mellon Doctrine, to correct the course of the market), and that in the United States, this sharp recession, while deep, was extremely short-lived (thanks to the supply-side, deregulatory policies already enacted by Reagan).  This thinking is common among leftists, who tend to regard unemployment as a worse evil than inflation.  The Austrian and Chicago schools seek to limit inflation first, and to allow unemployment to flex as necessary.  This is for a number of reasons:  inflation impacts everybody, whereas unemployment impacts a relative few; unemployment is not permanent; inflation impacts personal sovereignty and liberty as much as it impacts market participation.  The principle of “full employment” is and has long been the rallying cry for liberal economists, from Keynes onward.  However, the assumption appears to be that everybody who is unemployed now will also be unemployed next month, and next year, and next decade, in the absence of government intervention, and this is simply never the case.  Inflation, however, can become (in the words of Yergin), “entrenched in the economy,” as it was during the Stagflation era, and as it has been in every case of hyperinflation on the historical record.  Krugman might be forgiven for being ideologically inclined to favor employment over currency stability—maybe—but there is no rationale for blatantly disregarding the positive impact of the Reagan administration, which for some time was the longest peacetime expansion in the nation’s history.  Krugman is at best engaging in revisionism; at worst, in deception.  He carries out similar tactics when discussing deregulation:

It started well, with the deregulation of trucking and airlines beginning in the late 1970s.  In both cases deregulation, while it didn’t make everyone happy, led to increased competition, generally lower prices, and higher efficiency.  Deregulation of natural gas was also a success.

But the next big wave of deregulation, in the electricity sector, was a different story.  Just as Japan’s slump in the 1990s showed that Keynesian worries about the effectiveness of monetary policy were no myth, the California electricity crisis of 2000-2001—in which power companies and energy traders created an artificial shortage to drive up prices—reminded us of the reality that lay behind tales of the robber barons and their depredations.  While other states didn’t suffer as severely as California, across the nation electricity deregulation led to higher, not lower, prices, with huge windfall profits for power companies.

Those states that, for whatever reason, didn’t get on the deregulation bandwagon in the 1990s now consider themselves lucky.  And the luckiest of all are those cities that somehow didn’t get the memo about the evils of government and the virtues of the private sector, and still have publicly owned power companies.  All of this showed that the original rationale for electricity regulation—the observation that without regulation, power companies would have too much monopoly power—remains as valid as ever.

Should we conclude from this that deregulation is always a bad idea?  No—it depends on the specifics.  To conclude that deregulation is always and everywhere a bad idea would be to engage in the same kind of absolutist thinking that was, arguably, Milton Friedman’s greatest flaw.

Here, he finally admits that deregulation is not, in and of itself, a bad thing, but that the environment makes that determination.  (This is a huge admission for him, given that in virtually every other column on the subject, he viciously castigates the very idea of deregulation and blames virtually all economic ills on a lack of regulation.)  He also explicitly mentions the impact of deregulating a natural monopoly, but without acknowledging “natural monopoly” as such.  By refusing to point out this distinction between the electrical industry and other, more successful deregulations, he refuses to acknowledge the reasons for this particular “failure.”  He also fails to note that the market took up some of the slack; Texas energy companies helped cover some of the electricity shortages in California, in a move somewhat analogous to that described by Friedman in which the entertainment market continued to provide employment for blacklisted Hollywood screenwriters.  In Capitalism and Freedom, he writes of those who lost their jobs at the hands of Congressional witch hunter Joseph McCarthy.  The irony, to such screenwriters as actually were or had been communist sympathizers, was that had such blacklisting taken place in a communist nation, it might well have been the end of the writers, whose income would have derived exclusively from government largess.  In the United States, however, the market for screenwriting remained, and demand for its product was undiminished by the Red Scare.  The result was that many such screenwriters were able to simply change their names or adopt noms de plume and continue writing.  The capitalist system they so decried was their salvation.  The generalization of this scenario is that so long as a market exists, it can soften the impact of shocks that would be fatal in non-market economies.

This Krugmannian fallacy amounts to a conflation of “cyclical unemployment”—itself a Keynesian term—with “structural unemployment.”  And he also equates profit-taking electrical companies with the Robber Barons, in open defiance of the fact that the Barons weren’t market entrepreneurs at all but political entrepreneurs—beneficiaries of regulation.

Electricity deregulation proceeded despite clear warnings that monopoly power might be a problem; in fact, even as the California electricity crisis was happening, most commentators dismissed concerns about price-rigging as wild conspiracy theories.  Conservatives continue to insist that the free market is the answer to the health care crisis, in the teeth of overwhelming evidence to the contrary.

Krugman here disregards the principle that deregulation is not always desirable in sectors with natural monopolies.   No sane conservative economist argues that deregulation of natural monopolies is a good thing, but Krugman doesn’t appear to believe that any conservative economists are sane.  Nor does he bother to provide any of that “overwhelming evidence to the contrary,” a fairly frequent oversight in his columns.  Indeed, he seems perfectly willing, while touting government’s palliative benefits, to ignore what government itself has to say on the subject of its own policy results.  The Joint Economic Committee of the US Congress, in its report on the Reagan tax cuts, had this to say:

During the summer of 1981 the central focus of policy debate was on the Economic Recovery Tax Act (ERTA) of 1981, the Reagan tax cuts.  The core of this proposal was a version of the Kemp-Roth bill providing a 25 percent across-the-board cut in personal marginal tax rates.  By reducing marginal tax rates and improving economic incentives, ERTA would increase the flow of resources into production, boosting economic growth.  Opponents used static revenue projections to argue that ERTA would be a giveaway to the rich because their tax payments would fall.

The criticism that the tax payments of the rich would fall under ERTA was based on a static conception of human behavior.  As a 1982 JEC study pointed out, similar across-the-board tax cuts had been implemented in the 1920s as the Mellon tax cuts, and in the 1960s as the Kennedy tax cuts.  In both cases the reduction of high marginal tax rates actually increased tax payments by "the rich," also increasing their share of total individual income taxes paid.  Unfortunately, estimates of ERTA by the Democrat-controlled CBO continued to show falling tax payment by upper income taxpayers, even after actual IRS data had become available showing a surge of income tax payments by affluent taxpayers.

Given the current interest in tax reform and tax relief, a review of the effects of the Reagan tax cuts on taxpayer behavior and tax burden provides useful information.  During the 1980s ERTA had reduced personal tax rates by about 25 percent, while the Tax Reform Act of 1986 chopped them yet again.

Later, in acknowledgement of the politic cognitive dissonance that characterizes Krugmania, it added:

High marginal tax rates discourage work effort, saving, and investment, and promote tax avoidance and tax evasion.  A reduction in high marginal tax rates would boost long term economic growth, and reduce the attractiveness of tax shelters and other forms of tax avoidance.  The economic benefits of ERTA were summarized by President Clinton's Council of Economic Advisers in 1994:  "It is undeniable that the sharp reduction in taxes in the early 1980s was a strong impetus to economic growth."  Unfortunately, the Council could not bring itself to acknowledge the counterproductive effects high marginal tax rates can have upon taxpayer behavior and tax avoidance activities.

So it’s a matter of Congressional record that the Reagan tax cuts worked; yet Krugman denies that this evidence even exists.

At the same time, he neglects to mention that deregulation, while resulting in some price gouging, has overall contributed to conditions in which the individual homeowner can benefit immensely, provided he takes rational steps.  (A recent Houston Chronicle weblog article provided pointers and examples of how to profit from electric-power buyback:  “A combination of solar panels and an energy-efficient home have helped [homeowner Grady Hill] make more power than he uses for most of the year.  That excess power goes to his electric company, Green Mountain Energy, which gives him credits that he taps during the summer months, when he tends to use more than he generates.  He earns credits at the same rate he pays, 12.915 cents per kilowatt hour, for the first 500 kwh he generates.  Green Mountain buys the rest for half that rate.”)

Perhaps the most gaping omission in the screed, however, is the refusal to acknowledge that deregulation and a primordial absence of regulation are two different things.  In the absence of regulation, the economy’s equilibrium evolves in a characteristic way; in the presence of regulation, it evolves in a different way.  The sudden impact to that equilibrium that results from a change in environmental conditions can be destructive in the near-term, even if the long-term effects are beneficial.  In short, as Daniel Yergin argues in his latest book The Quest:  Energy, Security, and the Remaking of theModern World, it is often worse to deregulate than to never have regulated at all…but that in itself isn’t necessarily a valid argument against deregulation, when the long-term alternative presents us with a still worse outlook.  By focusing on the immediate aftermath of electrical deregulation, Krugman invites us to overlook the longer-term benefits, which are increasingly available to those in deregulated states.  The general increase in rates is inarguably a consequence of deregulation; Texans enjoyed rates that were consistently below the national average, and now pay rates that are consistently above the national average.  But it’s too early to argue that this is a persistent, long-term effect, especially given that many homeowners are now paying much less than they formerly did.  The difference between those who profit or pay very little, and those who are paying more?  Diligence.  Electricity is now a market commodity, and we must actively participate in shopping for lower rates.  The reluctance of homeowners to play a more active role in the market is one consequence of having been trained, by government and its regulatory activity, to passively accept whatever rates are demanded.  But as time passes, and more households benefit from deregulation, this reluctance will give way to active participation.  All that is really required is for the incentive to become entrenched, and this only requires that individuals become aware of the degree to which others have benefited.  And we are moving in that direction already; a recent (2011) study shows that upwards of 60% of Texas households have switched carriers at least once in that time.

Indeed, the increase in electrical rates doesn’t appear to derive directly from the increased competition in the market, but from the increased presence of speculators in the market.  Many companies do not generate power, but merely purchase it wholesale and then sell it retail.  This suggests that the government should consider implementing regulations that limit the role that speculators can play, but it also suggests that the consumer can benefit from simply doing the research and eliminating the middlemen as much as possible.  We simply have to learn how to benefit from the new environment; and this knowledge gap is as much a fault of the previous regulatory climate as the price increases are of the deregulatory initiative.

In the aftermath of the Great Depression, there were many people saying that markets can never work.  Friedman had the intellectual courage to say that markets can too work, and his showman’s flair combined with his ability to marshal evidence made him the best spokesman for the virtues of free markets since Adam Smith.  But he slipped all too easily into claiming both that markets always work and that only markets work.  It’s extremely hard to find cases in which Friedman acknowledged the possibility that markets could go wrong, or that government intervention could serve a useful purpose.

Krugman here is treating recession (and the Great Depression) in particular as “market failure,” disregarding the fact that recessions are part of the business cycle…and that the Great Depression was not caused by market failure at all, but rather by government intervention in what could otherwise have been just an ordinary recession.  It is in the area of deregulation where Krugman’s assertions fall the flattest.  We can, for example, point to numerous examples of deregulation directly and immediately benefiting the consumer.  The first, and most profound, was the currency reform instituted by Ludwig Erhard.  When price controls were abolished, the immediate effect was to eliminate the reliance on black and gray currencies; the longer-term effect was the elimination of hyperinflation.  It follows that price controls can not be effective at regulating prices if the populace does not acknowledge their legitimacy.  The market, not the government, is always and everywhere the only authority on the real values and prices of goods and services.  Similar phenomena have played out elsewhere in the world, most notably in the wake of the collapse of the Soviet empire.   In The Commanding Heights, Yergin recounts several stories of economic advisers abolishing price controls and then watching the markets, nervously, for days.  In Poland, the first sign of recovery was the sudden appearance of farm goods (eggs being the indicator of choice) in shop windows.  The historical evidence is clear:  it was government regulation that drove the markets underground, and the rolling back of regulation that propelled the markets back into view.

(There is a corollary to this, which I’ve hinted at previously in the context of corruption.  Eric Schlosser has won accolades and wealth for his books on the American economy.  In particular, Reefer Madness deals with three sectors of the American black market.  Schlosser and his adherents regard the black markets in pornography, drugs and migrant labor as inevitable consequences of a free market.  But Schlosser and his adherents radically miss the point.  The black market is never a consequence of a free market.  It is, always and everywhere, the consequence of regulations and laws that drive certain forms of commerce underground.  To blame the “free market” for the drug market is to commit the same fallacy that most liberals commit when they blame “market failure” on the free market.  The violence of the drug market is a direct result of law enforcement efforts.  Were drugs to be completely decriminalized, not only this violence but the entirety of the black market apparatus would dry up and blow away.)

With regard to Friedman’s stance on government intervention, however, Krugman is spot-on.  I find it interesting that his statement assumes that the reader will be in agreement with Krugman and disagreement with Friedman.  I for one have yet to find any examples of government intervention actually providing any net benefit.  If the expansion of the welfare state is Krugman’s compass for progress, then I submit to the reader that Krugman’s needle is bent.  The welfare state has refused to shrink, its demands on GDP have failed to diminish, and the cost to us and our progeny have ballooned, decade after decade, with no sign of improvement in sight.  Moreover, as Friedman artfully argues in the video series of his book Free to Choose, welfare entitlements come with a steep price not only to those of us subsidizing welfare recipients, but to the recipients themselves.  Welfare in fact represents the one evident exception to the Friedmannian principle that liberty and prosperity go hand-in-hand:  welfare recipients are hobbled by rules, bound by conventions, and closely watched by their handlers in government.  Privacy is traded for security, as is freedom of choice.  Of course, this is only a paradox if we regard welfare entitlement as “prosperity.”  In the eyes of many conservatives, and of many welfare recipients, welfare entitlement is merely a more modern, “enlightened” form of slavery.

The only lasting effect that welfare has had on our society, it seems, is to entrench the entitlement mindset, thereby guaranteeing that welfare serves not as a palliative to poverty, but as an incentive to fail.  And this is manifest not just in the writings of Friedman, but in any evaluation of government spending as well as in the words of welfare recipients themselves.  By any rational standard, Krugman is simply flat wrong about the utility of welfare.  He is arguing not from reason but from emotion…not from results, but from conscience.  Of course, “arguing from conscience” applies to most people involved in this debate; although liberals would prefer that we believe that most conservatives are anti-regulation because that’s the most self-serving position to take, the reality is much more complex.  The “rising tide lifts all boats” principle holds that prosperity is beneficial to everybody, not just the few.  As previously discussed, regulation actually benefits the unscrupulous by promoting monopoly, and thereby concentrating wealth.  It follows that those who argue against regulation are arguing on behalf of everybody but those political entrepreneurs.  There are many unscrupulous people in the world, but the fraction of those who are so sociopathic as to not have any conscience at all is quite small compared to the fraction of those who simply engage in opportunistic unethicality.  Many if not most people will attempt to circumvent the rules for their own benefit at least once in life; not all of those people, however, will make a lifelong program of it.  My observations are such that most people are less willing to risk being perceived as unethical than they are to actually break a law.  This appears to be because peer pressure is a greater force for conformity than is state pressure.  And if you, or anybody you know, has ever broken a law at the behest of peer pressure (such as buying or using illegal drugs, engaging in underage drinking or purchasing liquor for underage drinkers), then you also know this to be true.  The desire to be seen as ethical and to fit into the social context, is (at least most of the time and under most circumstances) more powerful than the desire not to face legal proceedings.  However, sociopaths are of course immune to this desire, as are the mega-wealthy whose resources permit them to live relatively isolated from society and its disapproval.  At any rate, to paraphrase my virtual mentor Robert Ardrey, conscience is simply not a good guide to the best policy.  Conscience is what guided Adolf Hitler to his monstrous abuses, and it is what convinced Pol Pot to murder millions of his own people.  Conscience drove Stalin to purge his own country and imprison untold numbers of dissidents, and compelled Pinochet to “disappear” hundreds of student demonstrators.  Conscience is simply far too subjective to be rational; only a reasoned analysis of the matter at hand can lead us to the correct solutions.  Krugman’s “conscience of a liberal” is just as fallible, and in this issue just as misguided, as the conscience of a Ho Chi Minh or a Chiang Kai-Shek…both of whom would clearly fall into the “liberal” column in any political evaluation.  (I could generalize here and state that it is the politically leftist leaders who have caused by far the most misery, death and destruction in the world with their policies…but I suspect I would lose such liberal readers as still remain at this point.)

On to Part 5