Tuesday, August 30, 2011

What I Don't Understand About Economics

Here is something I don't understand about economics, and maybe one of my smart commenters can educate me.

Jeff Jacoby has a column disputing that disaster relief and rebuilding has any stimulus for the economy. He notes Bastiat's parable of the broken window. As Jacoby tell it:
A boy breaks a shopkeeper’s window, and everyone who sees it deplores the pointless destruction. Then someone insists that the damage is actually for the good: The six francs it will cost the shopkeeper to replace his window will benefit the glazier, who will then have more money to spend on something else. Those six francs will circulate, and the economy will grow.

The fatal flaw in that thinking, Bastiat wrote, is that it concentrates only on “what is seen’’ - the glazier being paid to make a new window. What it ignores is “what is not seen’’ - that the shopkeeper, forced to spend six francs on that, has lost the opportunity to spend them on better shoes, a new book, or some other addition to his standard of living.
I'm with this so far. But then Jacoby concludes:
The glazier may be better off, but the shopkeeper isn’t - and neither is society as a whole.
Here's where I am puzzled -- why isn't society as a whole better-off? Or, at least, equally as well-off? It's true the shopkeeper isn't better-off and the glazier is. Why is this a bad thing, from a macroeconomic point of view?

My only guess is that shopkeeper is forced to spend money he might have used 'more wisely' (my quotes) -- to expand his business, or buy his wife some earrings, or buy stock in a business so they can built a new product. But then, the glazier is still worse-off and doesn't get to spend that money. If the shopkeeper buys stock the jeweler doesn't sell the earrings and he doesn't pay the earring maker, who then doesn't buy her kid a new pair of shoes. So what's the difference?

This is essentially the same question (isn't it?) of whether it's better for government to tax and then spend money, or not tax and let the citizens spend it himself. Which is better, macroeconomically? And why? Do citizens really make better economic decisions than does the government? If so, in what way?

9 comments:

Belette said...

> why isn't society as a whole better-off?

You've already quoted the answer! "the shopkeeper, forced to spend six francs on that, has lost the opportunity to spend them on better shoes, a new book, or some other addition to his standard of living". That is it: the money has to be spent on a new window, and cannot be spent more efficiently elsewhere.

> But then, the glazier is still worse-off

Presumably. But the shopkeeper has not been forced to make an effectively involuntary transfer of his money for a service he would rather not want. Perhaps it works if you say that only voluntary transfers improve things.

> Do citizens really make better economic decisions than does the government?

The argument is always that the closer the taxing and spending are together, the more likely people will act in the interests of those who have paid. When money is spent centrally, by bureaucrats who have little real interest in the cost of the project or indeed its worth, inefficiency is rife. Of course the other side is that it is hard to see some things done locally, but that is a slightly different question.

Belette said...

(ps: you could ask Tim Worstall: http://timworstall.com/; though he might irritate you somewhat. I think that is good, in moderation)

The Croquist said...

The net difference in any calculation is that the world is out a perfectly good window.

The storekeeper loses 6 francs. The glazier gains 6 francs.

What he would have done with the 6 francs is immaterial. The bottom line is that the world is out a perfectly good window.

Taking it to the extreme, that logic says that war is good for the economy. All those bombed out buildings will need to be rebuilt, the prosthetics industry booms and tombstones are selling like hotcakes. On the down side there are lots of dead people and the national debt soars.

I’d rather the government builds and gives away a home (and I’m not in favor of that) then destroy one. For the same money I’d rather have one more house in the world then one less.

Steve Bloom said...

Consider planned obsolescence, TC, wherein what you're deploring gets done intentionally and on a very large scale. Economists (plus Timmy, I expect) who argue that it's a good thing are thick upon the ground.

I keep reminding myself that the only thing that really matters is resource extraction. From that POV, the broken window is clearly a loss, but OTOH so is a vast swathe of economic activity.

charlesH said...

a) window breaks, shopkeeper spends 6 to fix it and just maintain his standard of living. Glazier gains 6.

b) window doesn't break, shopkeeper spends 6 to improve his standard of living. Someone gains 6.

Net difference is standard of living for shopkeeper improves in b stays the same in a.

charlesH said...

In general, if breaking good windows and replacing them was a net good for the economy one could destroy/bury all commodities and then replace them with new commodities and it would be a net plus for the economy.

An economic perpetual motion machine.

It's even worse if one destroys low cost commodities and then replaces them with higher cost commodities. A huge net negative for the economy.

charlesH said...

"This is essentially the same question (isn't it?) of whether it's better for government to tax and then spend money, or not tax and let the citizens spend it himself. Which is better, macroeconomically? And why? Do citizens really make better economic decisions than does the government? If so, in what way?"

No, citizens do not always make better economic decisions. That is why we have a mixed economy and we are always arguing over where the government or individual should make a particular decision (e.g. smoking, eating too much, driving fast, attending school, wearing seat-belts .....).

Dano said...

So, Irene: $5Bn to get back to square one. Whereas that $5Bn without Irene would get to square 2 or 3.

Best,

D

charlesH said...

"So, Irene: $5Bn to get back to square one. Whereas that $5Bn without Irene would get to square 2 or 3.

Best,

D"

Wow. Maybe a first here. Dano said something I agree with!