Free Markets, Free People

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Austrian economics – "It ain’t rocket science"

I‘ll never forget Dale telling me during a phone conversation, "the more I look at the economy and what the Austrians have been saying about it, the more I find their arguments compelling".

He’s not the only one.

"The Austrians", of course, are those economists from the "Austrian school", which is a true free market school. Probably the most famous of the Austrians is Frederic Hayek. Hayek wrote "The Road to Serfdom" and the "Constitution of Liberty". If you don’t mind my saying so, they’re "must have books".

Another "must have" is "Human Action" by Luwig von Mises.

The point, however, is their writings seem more and more valid each day as we watch the policies that are driving this economic debacle play out.

Anyway, the article tells about Prof. Pete Boettke at George Mason University who is leading the charge for the Austrian brand of economics. And, as you might imagine, there’s a increasingly bigger demand for information pertaining to it.

From the article about the concerns of the Austrians:

Economics, they [the Austrians -ed.] feared, was increasingly narrow and technical but not necessarily wise. They also remained skeptical of the Fed’s approach to targeting stability in consumer prices.

That shouldn’t be the Fed’s goal, says Mr. Boettke, who a friend lured back to George Mason a year after he was denied tenure. The Fed, he says, should be to make money "as neutral as possible, like the rule of law, which never favors one party over the other."

That sometimes means letting prices fall. There’s little to fear in deflation, he adds, when it accompanies periods of strong productivity growth. However, "anytime you saw the price level starting to fall, the Fed flooded the economy with cash," he says. "And that resulted in asset-price inflation, which set us up for these crises."

It wasn’t a lack of government oversight that led to the crisis, as some economists argue, but too much of it, Mr. Boettke says. Specifically, low interest rates and policies that subsidized homeownership "gave people the crazy juice," he says.

Boettke also participates in a group blog about Austrian economics if you’re interested.  One of the posts is about the fact that in most cases, economics isn’t “rocket science”. That’s something I’ve been saying for years in various ways – human nature 101, common sense 101, economics 101.

All economics action is based deeply in individual actions of human beings driven by  human nature.  One of the reasons that von Mises named his book “Human Action” is he and the other Austrians recognize that fundamentally all economics is based in just that – human action.  In other words, grassroots up.  Not the other way – top down. 

That’s precisely why you’ll constantly see Austrians claim “it ain’t rocket science” when they explain why central planning never works.  And what we’re going through now is no exception.  Boettke:

I don’t possess a crystal ball, so I cannot forecast the economic future. But I do know that it is not good to expand the monetary base 140% or to run deficits the size we have, or accumulate public debt as we have. See Laurence Kotlikoff in The Economist.  This "ain’t rocket science"!  There will be a day of reckoning due to the monetary mischief and fiscal irresponsibility.

I also know that the problems we are facing are not "market problems" — it is not that actors are all of a sudden ‘irrational’, and it is not that markets are inherently ‘unstable’.  Everything we are seeing in market behavior is a rational response to the environment created by public policy.  This is not a psychological problem we are dealing with, it is a public policy problem.  Bad public policy produce bad incentives which in turn produce bad results.  Ultimately, this is a problem of bad ideas which result in bad public policies.  Again, this ain’t rocket science.  The role of the economists in all of this should be like my Dad when I was a teenager (and truth be told an adult), and grab policy makers by the shoulders star them squarely in the face and state clearly "this isn’t rocket science" and explain clearly the Econ 101 basics of why the decisions we have made so far have not been correct.

Gerald O’Driscoll over at ThinkMarkets does precisely this today.  Nothing that has gone on so far with the housing market would be unpredictable with a little return to the lessons of Econ 101 about incentives and information, and how markets work to coordinate plans through time via relative price adjustments and profit and loss accounting.  Policies produce incentives, when individuals in the system follow the path those incentives lead them to pursue, we should not be surprised (and certainly not disappointed). The policies adopted produced the results we see, not individuals behaving badly or behaving ‘irrationally’.  Unfortunately, in our efforts to be ‘sophisticated’ we often confuse simple economics with simple-minded economics.  But there is nothing simple-minded about returning to simple basics of economic science.  This ain’t rocket science, but individuals respond rationally to incentives and demand curves slope downward and supply curves slope upward.

Read through that carefully and recall how many times here we’ve discussed how humans respond to incentives and why a certain policy seems to ignore that and the "experts" seem "surprised" by the "unexpected" outcome.

It ain’t rocket science, for heaven sake, but like Boettke and the Austrians claim, we’ve decided mathematical models and technical arguments are more persuasive – in the policy making arena – than are human nature and common sense.

I mean, look around you at the shambles the other schools of economics have made this place.

If I had to give the Austrian school of economics another name it would be the common sense school. It is based exactly at the level it should be based, recognizes the fundamental role that individuals play in economics and economies, and the realize, from that fundamental truth – common sense – that top down, central planning is the wrong place to start when devising economic policy.

Unfortunately that’s precisely where our present economic policy is formulated and the result is fairly easy to predict.

The article ends with:

But as much as the Austrian diagnosis may resonate now, it doesn’t provide a playbook for what to do next, which could limit its current resurgence.

Mr. Hayek rightly warned of the dangers of central planning, Mr. Boettke says, but "he didn’t give a prescription for how to move from ‘serfdom’ back."

I disagree.  If “serfdom” is found at the end of the policy road we’re traveling right now, then the prescription for how to move from “serfdom’ back is to reverse the route we’ve traveled.

It ain’t rocket science folks.  We may not like the prescription, and it may include quite a bit of hardship, but there is a road back from the economic serfdom we’re destined for if we don’t do something and do it fairly quickly.


The Lure Of Price Controls

It is a dream all central planners have – the ability to change the laws of economics to the extent that the planner can decide on what a “fair price” might be and market dynamics will adjust themselves to the price and all will be unicorns and rainbows.

Of course we know from our experience with that application in various areas that the market doesn’t adjust to price and it is never unicorns and rainbows when price controls are applied. In fact price controls consistently spawn pretty predictable market reactions and, depending on how vast the price controls are, have the ability to bring down whole economies, or at least put them into a shambles. The latest price control paradise is Zimbabwe where a wheelbarrow full of Zimbabwean currency may be enough to buy an egg in the morning but not in the afternoon.

I bring this up because there’s a growing call for lawmakers to consider price controls for health care insurance, as demonstrated yesterday in the LA Times.

In the drive to bring health coverage to almost every American, lawmakers have largely rejected restrictions on how much insurers can charge, sparking fears that consumers will continue to face the skyrocketing premium increases of recent years.

The legislators’ reluctance to control premium costs comes despite the fact that they intend to require virtually all Americans to get health insurance, an unprecedented mandate — long sought by insurance companies — that would mark the first time the federal government has compelled consumers to buy a single industry’s product, effectively creating a captive market.

Nancy Pelosi has articulated the price control “dream” for health insurance – “a cap on what you pay and no limit on what you get back” if I recall correctly. Of course what she doesn’t say is not even Medicare does that and it has about 43 trillion in unfunded liabilities at this point. But understand that at the bottom of Pelosi’s statement is the reality of imposing price controls – you can’t have a “cap” on what you pay without them.

Thomas Sowell touches on the real intent that sort of Pelosi-talk:

Liberals especially tend to think up all sorts of good things we want — a “living wage,” “affordable housing,” “universal health care,” and an ever-expanding wish-list of things that everyone should receive as “rights” — with little or no awareness of the economic repercussions of turning that wish list into laws.

He then provides a little primer about price control:

Prices are perhaps the most misunderstood thing in economics. Whenever prices are “too high” — whether these are prices of medicines or of gasoline or all sorts of other things — many people think the answer is for the government to force those prices down.


Prices are not just arbitrary numbers plucked out of the air or numbers dependent on whether sellers are “greedy” or not. In the competition of the marketplace, prices are signals that convey underlying realities about relative scarcities and relative costs of production.

Those underlying realities are not changed in the slightest by price controls. You might as well try to deal with someone’s fever by putting the thermometer in cold water to lower the reading.

What most who believe they can thwart the laws of economics and use price controls never seem to understand is that economic law requires the price mechanism in order to properly allocate goods. Without it, some other mechanism must take its place. Those are usually found in forms of evasion. One evasion is deterioration of quality. The old saw “you get what you pay for” is never more true than under price controls. The time allocated to a doctor visit might get shorter and shorter in order for the doctor to see enough patients to meet his and his practice’s financial needs. That could also mean he can’t afford the newest equipment or diagnostic tools. Consider what price controls would mean to a pharmaceutical company and its incentive to create new and better drugs.  Or a medical implements company, etc.

Another evasion may be alternate markets – you pay a physician a yearly fee and don’t use the price controlled system in place – that has already begun in anticipation of this.  Doctor’s networks are springing up all over the country. Of course with a mandatory insurance requirement, you’d still have to pay into the price controlled system. But that sort of evasion takes doctors out of the price controlled market and creates another shortage with which that market has to contend.

And, of course, there’s queuing. If the price imposed is low, the tendency for those paying is to use it more frequently. There’s no penalty for doing so. That leads to a shortage (in the case of medicine, doctors still only have 24 hours in a day and can still see only a finite number of patients during that time) of available appointments and thus it extends the time before you can see a physician.

Some would call these “unintended consequences” of price controls. But they’re certainly not unknown consequences. They’re consequences on display all over the world in systems which do, in fact, impose such price controls.

Sowell concludes:

Costs don’t go away because you refuse to pay them, any more than gravity goes away if you refuse to acknowledge it. You usually pay more in different ways, through taxes as well as prices, and by deterioration in quality when political processes replace economic process.

But the lure of the free lunch goes on.

With the same disastrous results it has always had.  Yet our would-be central planners seem obvious to the fact.  That’s one reason government debt is at the horrendous level it is today and headed for even higher levels.


Straight Talk on Health Care

We need to face a few facts about health care reform.  Our current system of health care funding is broken.  It’s not broken because we have a free market in health care. It’s broken because we don’t.

Spending in the US health care system is essentially out of control.  The US spends almost 16% of GDP on health care.  Canada, our nearest neighbor, spends a bit more than 10%.  In western Europe, the figure is generally between 7% and 9% of GDP.  It’s something I addressed in my book a few years ago:

Why is spending so much higher in the US, with its supposedly free-market system?  Why is it, with all that spending, that regular medical coverage doesn’t exist for 40 million Americans, when, in the rest of the industrialized world, there is 100% health coverage?

Something is deeply wrong with the financing of the US health-care system.

Part of the problem is that we really don’t have a free market in health care. Individuals, by and large, don’t buy health care policies. Health insurance is employer-provided. In effect, however, this is underwritten by the US government by making health care premiums deductible for businesses, which results in billions of dollars in lost tax revenues. And then, of course, you have to throw in the $300 billion or so that the state and federal governments spend outright to provide health care.  And, of course, once you hit 65, you’re on the government’s health care gravy train, because you’ve got your Medicare, which also covers prescription drugs, now.

Why do we spend too much for health care in the US? The Heartland Institute, a public policy think-tank, has listed several reasons:

1) Government subsidies to health care increases demand by artificially lowering costs.

2) Favorable tax treatment of employer-provided health care has the same effect.

3) Lower-income people without health care must rely on emergency room health care delivery at substantially higher cost.

4) Health care buyers and sellers meet in a “market” that is heavily regulated by the government.

5) State governments increase health care costs by mandating benefit coverages.

6) State governments artificially reduce the supply of health care by requiring Certificates of Need before health care providers can expand services.

7) States interfere with the creation and operation of PPOs by fixing prices or the range of services they can offer.

So, really, we have what is, in many ways, the worst of both worlds. We have a market-based system, but one in which market incentives are minimized through regulation and subsidies. In effect, government policy bids up health care prices, while at the same time interfering with the market forces that keep a lid on prices.

It’s no wonder that more and more people are looking at single-payer, government-provided health care as an alternative to what we already have. At the very least, a single payer system would end the inefficient and fragmented ways by which health care is currently purchased.

This is not a situation we can afford to ignore for long.

We have ignored it, though–although that appears to have come to a screeching halt.

Because of various government intereferences, more than 1/3 of all health care spending is purely administrative.  By contrast, Canada’s administrative burden on health care funding is about 1%.  If we were to switch over to a single payer system, there is an excellent chance that we would, in fact, spend less money on health care than we currently do.

Are there horror stories about health care in Canada or the UK?  Sure.  There are horror stories about our system, too.  For instance, you can find stories of families that were denied coverage, and were forced in to financial disaster all the time.

Canada, of course, has the rather unique problem of being a country with 1/10 of our population being spread over an equal amount of real estate.  In that situation, if you don’t live near a major metropolitan center–and Canada only has about 10 of them, there’s a shortage of available services.  In Britain, there are terrible NHS hospitals, but there are also excellent ones.  But the same it true in the US.  If you live in, say, Houston, Ben Taub Hospital probably wouldn’t be your first choice for treatment.  M.D. Anderson, however, would.

The bottom line, however, is that a single payer system would, in fact, deliver an equal or better level of health care as we currently receive, and probably do so at a lower cost.

But there is a fundamental problem with our current debate.  We are arguing over whether we should keep the system we have, or move to a system that sets us on the path to a single-payer system.  But those aren’t the only alternatives. There is another option that is being lost in this debate.  The democrats don’t want to mention it for ideological reasons.  The Republicans don’t mention it because of…well…incompetent buffoonery, I guess.

The alternative, of course, is to make the case that our current system costs so much, and is so distorted, because of government interference.  We have a mixed system of health care funding in which the government’s intervention imposes a  wide range of unnecessary costs.  So our choice is not to keep what we have, or eliminate the administrative overhead by turning it all over to the government.  The third choice is to return to a free market in health care.

Eliminate state by state coverage mandates, which result in 50 different–and sometimes wildly so–regulatory regimes.  Eliminate federal and state laws that prevent insurers from creating nationwide plans and risk pools.  Eliminate employer health-care coverage, and personalize it, to make it personal and portable.

Here’s another idea:  allow people to buy health insurance.  That isn’t what we have now.  We have pre-paid health care.  The two things are wildly different.  For example, look at how auto insurance works.  Imagine how much your car insurance would cost if we expected our insurance to cover 80% of the cost of oil changes, tire rotation, wiper blades, new tires, regular service, etc.  But that’s precisely what we expect medical insurance to do.  And then we wonder why it costs so darn much.

We need to allow insurers to offer simple catastrophic care coverage, with varying deductibles.  That way, you can pick up the tab for your own doctor’s visits, but you don’t have to worry about bankrupting yourself if some idiot runs a stop sign and knocks you off of your motorcycle.  We need to allow anyone who wants to set up a medical savings account.  Heck, if we really want “the government” to finance it, we could offer a 100% tax credit for health care expenditures.

We don’t need the government to rescue us from the unsatisfactory state health care is in.  We can accomplish the same goals of universal coverage and lower cost, by getting the government out of health care as completely as possible.  There are so many ways we could use free markets to relieve us of the distress the current system of funding is in, that they’re almost impossible to enumerate.

And best of all, doing so would comport with the country’s traditions of freedom, and individual choice.

And one final thing.  With a real free market in health care, if there’s a problem, you’ll also get accountability.  You’ll get access to courts where you can sue a private insurer who defrauds you, or someone who gives you substandard care.  What you’ll get with a single-payer system is no recourse.  If the government turns down your procedure, or you don’t get the health care you should, or if you keel over before your slot on the waiting list comes up, there’ll be nowhere to go, and no one accountable, any more than there is now if the public schools fail to adequately educate your children.

But free market reform doesn’t even seem to be on the table.

Podcast for 12 Apr 09

In this podcast, Bruce, Michael, Bryan, and Dale discuss the Maersk Alabama Piracy conclusion, President Bush’s Obama’s military and terrorism policies, and the poll that found only 52% of Americans beleive that Capitalism is superior to Socialism.

The direct link to the podcast can be found here.


The intro and outro music is Vena Cava by 50 Foot Wave, and is available for free download here.

As a reminder, if you are an iTunes user, don’t forget to subscribe to the QandO podcast, Observations, through iTunes. For those of you who don’t have iTunes, you can subscribe at Podcast Alley. And, of course, for you newsreader subscriber types, our podcast RSS Feed is here. For podcasts from 2005 to 2007, they can be accessed through the RSS Archive Feed.