An examination of some of the sinews of the Invisible Hand.
The first issue is why I called this article The Slavery Attractor when I will be discussing several of the attractors in the chaotic system that is economics. So why pick just the slavery attractor to name the article? The first reason is that it is a dramatic title and I want to sell as many copies of the article as I can manage, being both a capitalist and concerned about not just my next meal, but the one after that. However, there is another reason. The slavery attractor is the most politically-charged of the attractors I discuss and, at the same time, it is utterly ignored and averaged into a closet.
A bit of history is necessary to explain that last statement. From Adam Smith’s day economics has been a statistical science. And the math we use in describing the world affects our perception of it. A basic—even a fundamental—belief in statistical analysis is that things average out. A quote from John Maynard Keynes goes: “In the long run we will all be dead.” Which, tied as he was to the statistical model of economics, was as close as he could get to the realization that things wouldn’t balance out. That basic false assumption that things will and must balance out is still persistently coloring the thinking about economics and still leading to wrong assumptions. In the case of the slavery attractor, it gets blended in with the innovation attractor to form the efficiency attractor. Getting people to work for less is more efficient. So is a new machine that produces more for less. From a statistical analysis point of view, they look like they are the same economic force. They get averaged together and treated as one thing, in spite of the fact that the innovation attractor is a positive sum attractor and the slavery attractor is a zero sum attractor. And even more importantly they pull the economy in almost opposite directions.
Correction here: When you add in everything involved the Slavery attractor is actually a negative sum attractor. The advantage gained by the slave owner is less than the disadvantage to the slave. The overall effect on the creation of wealth is negative. Note these two things balance of advantage and effect on overall growth don’t have to match up but often do.
What is an attractor?
If you are familiar with chaos theory and the use of attractors in it, please bear with me while I explain a little about it for those who aren’t. From Wikipedia: “An attractor is a set towards which a variable moving according to the dictates of a dynamical system evolves over time.” Mathworld says in part: “An attractor is defined as the smallest unit which cannot be itself decomposed into two or more attractors with distinct basins of attraction.” Put in less mathematical parlance, an attractor attracts, or pulls, the result toward itself. Centripetal force is an attractor. It’s a very useful concept that doesn’t describe one thing but anything that has a particular effect. Centripetal force is any force that tries to pull something into a circle. It’s the sling that pulls against the rock in your slingshot as you swing it about your head. It’s the gravity that keeps the earth in orbit around the sun. It’s the friction between the tires and the road when you make a turn in your car. Likewise, an Attractor is anything that tends to shift outcomes toward a path. A series of Attractors temporarily working together produce a low pressure zone which itself is an Attractor, a centripetal force at the center of a hurricane.
What I am going to talk about are several of the main attractors that interact to make up the anatomy of Adam Smith’s invisible hand of the market. We will examine the slavery, innovation, concentration, utility, money, anticipation, and MV attractors, then look at whether the intervention of government is part of the invisible hand. In so doing, I hope to make the consequences of leaving that invisible hand “unrestrained” clear.
The Slavery Attractor
The simplest, easiest, way to increase your profit margin is to pay your employees less. Not paying them at all would be most profitable. However, they have a tendency to leave at that rate of pay given the choice. So take away the choice and you can optimize your profit. Think I am kidding? Slavery has existed throughout recorded history and there are more people in some form of forced labor now than ever before. The slavery attractor has been in operation since the beginning of recorded history, and it is still in operation today—and not just in the Third World.
There is an oft quoted homily that goes: “Slavery is unprofitable in a technological society.” It would be a really great thing if that were true. Unfortunately, it’s not. Slavery worked well for the slave owner in the stone age and works well for the slave owner today. You will note the caveat “for the slave owner.” The effect of slavery is different for the slave owner than it is for the society. Slavery may and usually does damage the state, national or international economy. But when he can get away with it, it generally works fine and dandy for the slaver. An unbiased look at history doesn’t support any major affect of technology on the profitability of slavery. See Note 1. What is apparent is that slavery has become less acceptable over the last few hundred years. We can hope that the trend continues, but I wouldn’t bet the farm on it if I were you. It has also become less essential as the percentage of the cost of finished goods that is tied up in labor has decreased. We can also hope that that trend continues but less essential doesn’t mean useless.
A close look at the recent German employment miracle, the one at the beginning of the twenty-first century, shows the slavery attractor in operation. “How do you compete with nations with a lower standard of living?” they asked. And the answer they came up with was “Weaken the social safety net.” though not in those words. Take away some of the options of the German work force so that they are willing to take worse jobs at worse pay. And it worked. Unemployment in Germany has gone down. Note that an attractor doesn’t necessarily always pull the result into alignment. Simply toward alignment. The citizens of Germany are not slaves. Yet.
The Slavery attractor will function in any economy, pulling workers toward slavery. But law and custom may well prevent it from pulling them into that condition. There is no guarantee that law and custom will continue to protect them and weakening laws that protect workers doesn’t satisfy the slavery attractor any more than opening a trap door satisfies the gravity attractor. The slavery attractor works because it optimizes profit. In general strengthening the social safety net improves the workers bargaining position and weakening the social safety net improves the employer’s bargaining position. Therefore, people work for less and sometimes that translates into more hires.
If the only way to get medical coverage is to take a crappy job come in early and stay late, without putting in for overtime, you’re more likely to do it than if you can get medical coverage from the government or from another job. If your unemployment insurance is good you’re more likely to file a grievance that will get you fired then if unemployment means you lose your home and your family ends up sleeping in the street. Note this applies to baseless grievances as well as to reasonable ones.
The slavery attractor’s societal drawbacks are long-term and have to do with the effects of several other attractors interacting with it. The slavery attractor weakens, but does not eliminate, the innovation attractor. Innovation is slowed first because it becomes less necessary. Why risk investing in a new device when labor is cheap? Second, because the person most likely to see a better way to do something is the person doing it. A slave has little motivation to do the extra work necessary to turn that observation into a functional improvement. A slave also can’t quit and start a competing business if he sees a better way of making the product.
Whether practiced by individuals as in the antebellum south, or the state as in the old Soviet Union, the effect is the same: a general lack of industry and innovation. This general lack doesn’t damage the individual slave owner particularly, but it is slow suicide for the state. It doesn’t damage the slave owner as much as it benefits him because of the very different ways that the individual and the state gain their income. See: How Private and Public Enterprises are Funded.
For the individual slave owner or the upper level state official, the difference between his girlfriend getting a mink coat and all the workers getting new cloth coats matters. For the state, it doesn’t. It might matter to the politicians running the state, but not to the state itself. The loss of productivity matters to the state, but slave owners–private or government–have always been very good at finding other things to blame that loss of productivity on: outside agitators, counter-revolutionaries, liberals.
For the individual, the advantages in concentrating the wealth strongly outweighs any decrease in individual productivity. For the state, the decrease in productivity as exemplified by the quote of a Soviet era worker: “We pretend to work and they pretend to pay us” is slow poison. However, decisions are made by individuals and the ability of individuals to convince themselves and others that what is to their benefit is to the benefit of society should not be underestimated.
Put another way, the basin of attraction for the slavery attractor is a world of many slaves and few masters: a world where the slaves doing the work have little motivation to innovate and the masters are generally not close enough to the action to see the innovations. Also the masters have, if anything, less interest than the slaves in innovations which might upset their apple cart.
Note 1 The statement “An unbiased look at history doesn’t support any major affect of technology on the profitability of slavery.” is literally true but disingenuous in its implication. As technology advances the percentage of the cost of most products that is labor based becomes less. You still save just as much by not paying Joe as you did when Joe was Ugg a neandertal flint napper. but when Joe is using a drop forge to make steel knife blades turning out hundreds of knife blades an hour the percentage of your profit eaten up by Joe’s paycheck is much less.
The Innovation Attractor
Innovation, either through the improvement of production methods or the introduction of new products, increases the general level of wealth. And there is a tendency among some (of which I am one) to see it as something of a panacea. However, it is not perfect medicine that tastes great in the bargain. It has drawbacks that make it less initially attractive than for instance the slavery attractor.
Innovation doesn’t mean everyone wins. When you replace the ox-drawn plow with a tractor, you decrease the number of farmers needed to plow a field and bring in a crop, which puts farmers out of work even as it lowers the cost of food. The world is richer, but not everyone in it is richer. If you’re the farmer thrown off your family farm, it can be a horrible thing.
Innovation involves gambling. Building something that was never built before is a risky undertaking. What if your new product finds no market? What if, after investing great wealth, the new invention simply doesn’t work? Innovation is the only gambling house you will find where the payback percentage is in favor of the player, but that doesn’t mean you can’t lose your shirt.
Still, the innovation attractor is a positive sum attractor. Its basin of attraction is a world where people are, in general, better off: a world with a bigger pie. Not necessarily a world where every slice is the same size, or one where only a few have big slices and everyone else has slivers. The innovation attractor has only limited influence on how the pie is sliced. But how the pie is sliced as evidenced by the previous discussion of slavery can have a significant influence on the strength of the innovation attractor.
The Concentration Attractor
In general, the market favors ventures with a large payout even if they carry greater cost and greater risk. This naturally inclines the market toward the city power plant over the home power plant or the massive factory over the many small shops, even when the shops in total have equal or greater overall economic potential. In part this is because even when they have greater economic potential, less of that potential profit goes into the pockets of the investor. More of it goes into the pocket of the small business person that owns the shop.
When you put your money in the market, you want to be invested in the next Microsoft, not the next Joe’s Hardware. This is partly because if you invest in enough Joe’s Hardwares to equal your investment in Microsoft, the income of a lot of Joes is coming out of the profits before any of that profit gets to you.
In part that is because it takes less effort to make and track, one million dollar loan than it does to make a thousand thousand dollar loans. That extra effort translates to increased administrative costs and decreased profits. The bank makes more on the million dollar loan than on the thousand, thousand dollar, loans. Assuming of course everyone pays off the loans. This also applies to things like using lots of little suppliers in your business versus one big one or selling your product to lots of small businesses versus one big one. Also, there are any number of things that simply take large concentrations of wealth to accomplish. And finally, it’s simply human nature to want the big pay off.
Consistently putting all your eggs in one basket is the cheapest, most immediately efficient, attractive and sometimes only, way to go. Of course, I put it that way in full knowledge of the old saying about not putting all your eggs in one basket.
The perceptions of risk, profitability and difficulty, all play their parts in determining investments, whether in the form of the purchase of stock, the making of loans, even the taking of a job. So Joe’s hardware either gets charged more or must be a much safer bet to get picked up. Microsoft or Greek bonds don’t need to pay such dividends or be quite so safe to get picked up.
The concentration attractor’s basin of attraction is overwhelming concentrations of wealth. An oligarchy of massive businesses. The trusts of the nineteenth century and the “too big to fail” banks and businesses of the twenty-first.
Aside from the fact that such large concentrations of wealth carry with them tremendous political power, they also make the economy less stable. The greater the concentration of wealth, the fewer mistakes are needed to crash the system. It would be nice if there was some dispersion attractor to make it all work out naturally. If concern for the overall welfare of the system would encourage Ma Bell to turn itself into Baby Bells on its own initiative. Instead, you get the first triumvirate, followed by the second triumvirate, followed by “Hail Caesar” and “Goodbye, Roman Republic.” The first triumvirate was an unofficial alliance between the richest man in Rome, Marcus Crassus, Julius Caesar, and Pompeius Magnus, which alliance was basically a political action committee. That got the three elected consul and lasted till Crassus invaded Persia and got himself killed. The second triumvirate had actual legal standing and involved Octavian (later Augustus) Caesar, Marcus Lepidus and Mark Anthony. After that triumvirate fell apart, Augustus became the first emperor of Rome and the republic was effectively dead.
The end of the Roman Republic is just one of many examples of what happens when the Sociological Attractors get too weak to counter act the concentration attractor. But we will talk about the sociological attractors later.
The Utility Attractor
Depending on what you need the value of a knife can be greater than a pair of pliers or the pair of pliers can have the greater value. If you have a Swiss army knife (of the right sort), you have a fairly limited knife and a fairly limited pair of pliers, plus maybe a corkscrew. It, in general, has greater practical value than either a knife of similar size or a pair of pliers of similar size. This is a pretty basic example of the utility attractor.
Money, as it happens, has great utility because it can be traded for a knife, a pair of pliers, a night on the town, a college education, or any number of other things. In fact the utility of money is entirely based on what it can be traded for. Equity has almost the utility of money because it can be traded for money. Equity is the monetary value you can borrow on a property you own. House, baseball card, tulip bulb, gold ring, silver statue of Venus on the half shell, whatever: If you can borrow money against it and still have use of it, then it has equity. In deference to 2008, we are going to use houses—but the attractor applies to anything that can be used as money or readily traded for money.
So, just as the Swiss army knife has value as knife and pliers, the house has value as a place to live and as a slightly difficult to get at savings account. The equity in your house is its expected sales price minus what you already owe on it. But the utility of the equity in your house affects its value. You are paying not simply for a place to live, but for an equity account that you can use to buy a new car, put your kids through college, or whatever else you want.
The value of anything falls between the minimum that someone is willing to accept and the maximum that someone else is willing to pay. When you increase somethings utility, you increase the amount someone will pay and the minimum someone will accept you increase the market value.
Take a home that is worth $20,000 as a place to live. That starts the recursive process of valuation. It is a $20,000 house so you can borrow $18,000 on it, giving it a utility value of $38,000, which in turn pushes its market value up to $36,000 ($38,000 minus a little for the trouble of converting the equity into cash). Of course, it’s still a perfectly usable home, which makes it more valuable than, say, a bank account with $38,000 in it. After all, you can’t live in a bank account. So the original $20,000 is added in again, giving it a market value of $55,000. This process repeats as property values go up and more houses get built. $55,000 becomes $75,000 becomes $100,000 because everyone knows that the prices are only going to go up. Then $150,000, $250,000 and so on till someone stops and says “Hey, wait a minute! This is a $20,000 shack.” And everyone ignores that statement, because it may be a $20,000 shack, but it’s also a $250,000 loan that you can get easily. And those voices crying in the wilderness are ignored till people start to wonder if they can indeed get a loan that big on this house. When that happens, the utility attractor first weakens, then starts to act in the other direction. It all happens gradually, over months and years. Though in some cases, like the freeze of 2008, the drop can be kind of sudden.
This is how the housing bubble worked. It’s also how the stock market bubble worked in the 1920s and how the tulip bubble worked. It is even how the longest running bubble in history, the gold bubble, works.
This is not as has often been suggested the result of criminality immorality sloth or of any of the deadly sins. It is in fact an intelligent and reasonable response to the utility of money and therefore anything that can be used to get a loan of money. It would not go away “if people would just be honest and careful.” because it is not a function of dishonesty or a lack of care.
The Money Attractor
Wait! Didn’t we just cover this in the utility attractor? In fact, we didn’t. The money attractor works totally differently. The Money attractor is very much a macroeconomics attractor and to understand it we need a clear idea of what money is.
There are quite a lot of definitions of money, some of them contradictory, but the best and most basic I have been able to come up with is: Money is a transferable loan. When you sell something, you are making the loan and when you buy something, the loan is being paid back. Generally speaking, the person that you made the loan to isn’t the one who pays you back. Instead, the loan is transferred to you when you sell, then transferred to the person you buy from when you buy.
The reason it works is because of the transferable part. Money works better than trade because of its flexibility. If you have a golf ball, you can’t trade till you find someone who wants a golf ball. But there are lots of people who will trade for money, and you can divide it up to trade for lots of different things or pull it together to trade for one big thing. That convenience of conveyance pays for the loan.
Also, money is like the current in a circuit or the oil in an engine. It does no good in the oil pan, and the number that matters is the amount of cash multiplied by the velocity. It doesn’t matter to the economy if one million dollars is spent once in a given period of time, or if one dollar is spent one million times in the same period. In terms of its effect on the economy, increasing the speed at which money moves is increasing the money supply. This is how banks “create” money. They move money from a place where it won’t be used for a while to a place where it will.
Having, I hope, given a fairly clear notion of what money is, the next question is: what is the money attractor? The economy will, with consistency, try to fit itself to the money supply as long as there is confidence in the money. More money equals growth, less money equals contraction.
There is a perception among some economists, and a lot of non-economists, that the valuation of the money will adjust instead. That as the dollars become scarcer they will become more dear. That if we just decrease the number of dollars we can go back to the days of the nickel hamburger or the three-cent gallon of gas. This perception seems to be supported by the Great Depression in which there really was significant price deflation. However, the price deflation didn’t happen without the economy first contracting as much as it could and it never caught up with the economic contraction. Alternatively, when the freeze of 2008 happened and the government tried to compensate for loss of monetary velocity with an increase in base money supply, economic contraction was only decreased but deflation was completely avoided. Note: In my view the government failed to inject enough M into the economy to compensate for the loss of V, which is why the recovery has been sluggish.
The M V attractor
The M V attractor is a fairly technical attractor, but nonetheless an important one. If M is the amount of dollars and V is the number of times they are traded, then the amount of money in the economy is M times V over a given period of time. In terms of economic impact, through the money attractor, it doesn’t matter whether it’s one dollar spent a billion times or a billion dollars spent once. However, there is a way in which it does matter: economic stability versus flexibility.
First imagine a world without loans (except for money itself). No banks. When you sell something, you carry the money around with you till you decide to buy something. You can’t have a financial panic in that world because if the price of houses go down, you can’t be underwater and unable to move because you couldn’t borrow money on it—or even money to buy it in the first place. No one can call in a note, pulling money out of the economy.
On the downside, you couldn’t buy a house or a car till you had saved up the money to pay cash for it. Which generally means you couldn’t buy a house at all because you’re spending too much of your income renting a shack or a room to save much.
Now, take the opposite extreme case. There is one dollar in the world; loaned, spent, re-loaned, re-spent, at an incredible rate. The whole multi-gazillion dollar economy of the world works on that one super-fast buck. Till one day Hector’s mother-in-law rags on him once too often and Hector puts the buck in his pocket and the whole world’s economy comes crashing to a screeching halt.
It doesn’t matter. Nor does it matter where he lives or who or what convinces him not to spend that dollar.
What matters is the attractor in the ratio between base money and monetary velocity. The economy becomes more flexible but less stable as V gets bigger and M gets relatively smaller.
A world without banks has a very stable money supply, but also a very sluggish economy—perhaps “glacial” would describe it better. It is a world with very little innovation because no one can afford the risk and because, due to the money attractor, even if you innovate in one place the most likely outcome is that someone else will cut production to compensate. Not cut prices, cut production.
On the other hand, a world with too much velocity and not enough base money is a world of economic crashes falling one upon the other. No trusted projections of costs or benefits and nothing stable enough to plan for. Anyone, for any reason, can crash the economy and destroy the futures of millions of people.
Where along that spectrum we wish to live is a political decision and one that is at the core of banking law.
The Anticipation Attractor
Markets anticipate. The local grocer or gas station, when setting their prices, aren’t just looking at how much it cost them to buy the groceries on their shelves or the gas in their tanks but especially at how much they think it will cost them to restock. So expectation of higher prices causes higher prices. However, it doesn’t generally work the other way. Expectation of lower restocking cost is usually only reflected in the merchant rubbing his hands together in anticipated increased profits.
Only if you get both lower restocking costs and loss of sales can you expect lower prices, and not always then. In the Great Depression, farmers poured their milk out on the road while school children went hungry, and it wasn’t because the farmers were heartless fiends. It was because they had fixed costs that weren’t going down as the price of milk did. So they poured the milk out on the street to make the point that they couldn’t sell their milk for the price the market demanded, not and survive.
Market anticipation is very much a self-fulfilling prophecy. And it doesn’t only affect the price of a loaf of bread. People buy stocks because they expect those stocks to rise. They sell them because they expect them to fall. More people buying stock caused the price to go up. People selling makes the price go down. This is what is known as a “positive feedback loop.”
The primary cause of inflation is the expectation of inflation, not any real increase in the money supply. The money supply fluctuates all over the place all the time with changes in V, mostly without anyone noticing. On the other hand, increases in M are more noticeable. The reason—and the only reason—that an increase in M has a greater effect is because it’s easier to notice than an increase in V.
The above attractors and many others (including such basic things as the desire for a safe investment or the desire for a high return and such temporary things as a heavy snowfall closing a mountain pass and also, no doubt, including attractors I have not seen) all interacting, produce what Adam Smith referred to, just once in The Wealth of Nations, as “an invisible hand.” In the time since the writing of The Wealth of Nations, that bit of alliteration has been converted into the hand of God gently guiding humanity to a better place and the justification for every act of greed and corruption imaginable because “it’s all part of the workings of the invisible hand.”
The problem is that it’s not completely untrue. The market, with the right restrictions placed upon it, can produce amazingly good results. At no point in the modern era has the invisible hand been unrestrained by law and custom. I would say never but for all I know there was some neolithic tribe that tried the unrestrained invisible hand at some point. If so it left not a trace. However, in periods when the restrictions of law and custom have weakened, become too strong, or been misdirected, the hand of the market has gone bonkers in some rather predictable ways.
If the restrictions get too weak, there is a shift toward oligarchy and slavery.
If the restrictions grow too strong, there is a shift toward oligarchy and slavery.
If the restrictions are misdirected, there is a shift toward oligarchy and slavery.
Is anyone seeing a pattern here? Forms of oligarchy and slavery are much the most common forms of culture throughout recorded human history.
If the restrictions grow too weak, the oligarchs are the business interests which concentrate into smaller and smaller groups of greater and greater wealth, crushing potential competition through sheer size (the trusts of the 19th century and the “too big to fail” banks of the early 21st century), then pushing the general populace toward a state of servitude.
If the restrictions grow too strong, the government becomes the oligarchs and operates not unlike a really big corporation or trust. (The Soviet Union, North Korea)
If the restrictions are misdirected, particular groups gain great advantage at the expense of others. (Nazi Germany.)
Social attractors shift and change as the circumstances change. They include; economic factors, morality, prejudice, and the better angels of our natures. They are influenced by passionate beliefs of minorities, by pragmatic resentments of the competitive advantage gained by cheaper labor or a new machine, and by any number of other factors. They are often a reaction to the overly blatant abuse of the system by those in power.
Communism was at its core a backlash against the actions of the nineteenth century capitalists. Yet those same nineteenth century capitalists produced the groundwork for the twentieth century’s prosperity. It has been argued that those excesses were necessary to the building of that infrastructure. But the slavery attractor and the innovation attractor are not the same thing, nor do they generally support each other.
In all probability, the mistreatment of the work force—whether through chattel slavery in the antebellum south, child labor in Europe, even the long days for a flat daily wage—impeded rather than encouraged the productivity increases in the twentieth century. (And, no, I am not equating chattel slavery with long days. They are both examples of the Slavery Attractor in action, but are in no way equal in degree of suffering.) Innovation becomes more attractive as an option when the option of mistreating the workforce is taken off the table. This is another place where social attractors in the form of government action changed the direction of the invisible hand. Labor laws in Europe and the abolition of slavery in the US were what forced the increased rate of innovation.
Are the sociological attractors part of the invisible hand or restrictions placed upon it?
This is an insignificant question. Or it would be, were it not for the fact that many people claim that government actions are not part of the invisible hand and then give the invisible hand credit for government actions. For instance, the railroad system that played a crucial role in the economic boom in the late-nineteenth and early-twentieth century, United States of America. Produced by capitalism at its finest. Except that in order to get the railroads built, the government had to bribe the railroad companies to build the railroad with massive government handouts in the form of land.
It doesn’t matter a lot whether this government intervention in the economy is called “the workings of an invisible hand that includes government action” or “control of an invisible hand that doesn’t include government by the government.” But when a pundit or economist gives the invisible hand credit for the railroads then says or implies that the invisible hand doesn’t include government intervention, they are lying. Not necessarily in either statement by itself but in the combination of the two.
Likewise, when the historian talks about the industry and respect for work in the free north and the lack of industry or respect for work in the slave south, it is intervention of government restricting the institution of chattel slavery that is the cause behind the industry and respect for work in the north. And it is the intervention of government which by protecting the property rights of the slave holders, causes the lack of respect for work in the south. Without the intervention of government, the hand of the market doesn’t seek greater efficiency with much effort. In fact, absent government intervention, the invisible hand will generally suppress innovation. It is only when the easy road to profit is taken away that industry begins, and the masters are never happy to give up their slaves.
How Private and Public Enterprises are Funded
As touched on in the discussion of the concentration attractor, it’s easier to have one customer than a thousand and for private enterprise it is often impossible to get payment from everyone that benefits from your business. You set up a business and build a toll road. You can then charge a toll on everyone that uses it. There is, of course, the expense of the toll booths. But that is the least of your problems. How do you gauge the profit each user gains from the use of your road? You can’t. For one user it’s life and death, for another it is a trip to visit relatives that they don’t like and would really rather avoid, given a good excuse like a toll that’s too high. For a third, it’s the greater profit that they can get for their goods or services by selling them at the far end of the road. Which might be a lot for a glove compartment full of diamonds, or a little for an eighteen-wheeler full of manure.
A private road company must calculate its prices on averages. Worse, on estimates of averages. Even if those estimates are spot on, the point of greatest profitability for the private road will leave many people not using it, and many people using it for considerably less than they could and would afford.
The core of the difficulty is the point of payment. At that toll booth, there is no knowledge of how valuable the cargo is or to whom. It may be that the load of manure in the eighteen wheeler is crucial to the year’s corn crop or it may not. There is no practical way for the toll road company to know or adjust its price accordingly.
Even if the manure is vital to this year’s corn crop, that doesn’t necessarily mean that it’s vitally important to the truck driver. Classical economic theory assumes that importance of the fertilizer to the farmer is reflected in the price they are willing to pay the trucker. Which in turn affects that load’s importance to the trucker. Which is then reflected in the price the trucker is willing to pay to the toll road company. But as we have already seen, there is no effective way for the toll road company to judge value or adjust price, so what we are left with is the binary choice of the trucker to take the toll road or to pass on that contract. When the trucker passes and the crop don’t come in, classical economics calls it an adjustment. To the kids that don’t get to eat that winter because the crop suffered from a lack of fertilizer, it’s something different.
This is crucial in a private business because the income is generally derived from only the person using the service. The trucker in the case of the toll road, not the kids that go hungry, or even the farmers. The toll road company has no way to know and no reason to care about its effect on the general economy unless that feedback increases or decreases the use of the toll road. Which doesn’t always happen, and even when it does often has a long feedback loop.
The disconnect between who pays and who benefits introduces a palsy into the movements of the invisible hand of the market. The significance of that palsy is not consistent throughout the market or with all industries. The candy store owner can adjust his prices as he watches the child counting out his pennies or not, as he sees fit. And while it’s true that most products have some part to play in the production of other goods, like the google docs I am using to write this and the computer and internet provider I am using to access google docs, for most of them—even the toll road company—the effect is unlikely to be fatal. Depending, of course, on where they put the toll road. Instead of bankrupt toll road companies, you get companies that ignore, as unprofitable, options that would be of great benefit to the overall economy, in favor of projects that are more specifically profitable. Projects were either the gain is greater or more of it will end up in their pockets.
On the other hand, governments get their cut indirectly. Income to the government is mostly not a direct fee for service. Instead, the government gets its income from people who don’t necessarily have anything to do with the particular project.
The government builds a road between two cities, making them more accessible to one another. Both cities grow as they take advantage of the available raw materials and markets in the other city. A store that opens in the first town to serve the travelers from the second town also serves citizens of the first town. So a person from the first town who never buys or sells anything directly to the second town benefits from the new store anyway and pays more taxes. The ramifications of the new road are not accurately measured by a toll on the road, because not everyone that benefits from it uses it.
This makes projects that are not profitable, or are not profitable enough, for the market to fund very good investments for the government.
Absent a repeal of those laws preventing indentured servitude, the profit to a business in educating its workers is limited by the fact that once educated they can quit and go to work for the competition, which doesn’t educate but does pay more. But unless they are going to move out of the country, the increased revenues from a better-educated work force do accrue to the country that provides the education.
Providing health care is not profitable to a private business because it is, in most cases, more cost effective to fire the sick employee and hire a replacement. For society the medical costs of the sick are unavoidable. If not paid directly, they are paid indirectly through loss of labor productivity or through medical treatment that is not paid for being passed on to those who can pay, in the form of higher prices.
There are many examples of things that are profitable for both government and private individuals. Even many roads fall into this category. A road might be built as a toll road and be profitable to the private company that built it. The same road might be built by the state without tolls, but simply using the increase in commerce to pay for the road. There are also examples where private industry will not and should not make the necessary investment because not enough of the benefits find their way into its pockets. And a surprising number of the successes of the invisible hand when examined turn out to be cases of government intervention.
The railroad system in America was produced privately but wouldn’t have been—at least not nearly so quickly—had the government not bribed private industry with massive land grants. The railroads were very profitable but probably not profitable enough to pay for the truly massive initial investment. Not in terms of the fees they could charge, in the sort of time frames that would have interested investors and quite possibly not at all. Considering that railroads have fallen into such a state of disrepair because of the cost of simply maintaining them, it’s probable that without massive government intervention they, or at least most of them, never would have been built. And without them, the massive economic growth of the tail end of the 19th century and the first half of the 20th century wouldn’t have happened.
It must be acknowledged that much of the trouble of the railroads in the later part of the twentieth century is also the government’s fault. Not, however, the fault of intrusive laws or regulations.
No, what hit the railroads was the highway system—built mostly by the government also used to transport goods and passengers from one place to another, but both more flexible and cheaper. Not in total cost but in direct costs to the users. The government builds the roads and the fees it charges the users in the form of license plates is nominal at most. It doesn’t begin to pay the cost of building or even maintaining the road system, but the road system is worth it to the government because it facilitates trade.
If the government were maintaining the railroad system—and assuming the railroad system was open to competition—the price of travel and transport by rail would be markedly less than the cost of transport by road because rail transport is more efficient. A train ticket would cost less than a bus ticket and much less than airfare.
So the rail industry was built by government subsidies and is being injured by competition that is effectively subsidized through the use of the road system. Including, by the way, you and your family car when you drive to grandma’s house rather than taking the train.
Attractors in Action
All the attractors have one thing in common. They give or promise to give some advantage to someone operating in the economy. But the advantage comes from different sources and those sources control how the economy is directed by the given attractor. Everyone is looking for the best deal they can make, but the way that deal affects the economy is a function of the form it has to take.
If there was just one way for social interaction to work, the actions of the economy would be easily predictable. The strongest would beat the weaker into submission till accident or illness made him weak, at which point he would be displaced. But even for chimps it’s not that simple. Several weaker chimps can band together and by social compact defeat the strongest. Thus social interaction, social compacts and agreements acted to restrain the law of the jungle even before people became people. (No insult to chimps or other non-humans is intended here.)
Given that there are more than one attractor, let’s spend some time looking at how they interact. Since we aren’t talking about the interaction of amoeba, we start with some government interference in the law of the jungle. There are laws to enforce contracts and slavery is illegal.
Assume that you own a business and are faced with the choice of whether to support or oppose universal health care. (We are also starting with the assumption that you are amoral: strictly concerned with the best financial deal you can achieve.)
At the start, with no other constraint, you oppose universal health care because it would involve you paying for the insurance of your fellows. But contracts are enforceable, and you have a union to deal with and a contract which requires you to provide them with health care. Now universal health care starts to look very good, because it would eliminate the cost of providing insurance for your employees.
However, there is still another factor. Where the government doesn’t provide health care and a single individual or a single family has almost no bargaining power, the provider of health care gains considerable power over those who need, or expect to need, health care. To put it another way, as long as the government doesn’t provide health care then quitting or being fired, causes your employees to lose their health care and they may not be able to get it back, especially if they have some sort of pre-existing condition. That makes it much more risky for them to argue with you when you need them to work overtime . . . or anything else you may need or want them to do.
So government interference in the form of laws against slavery encourages you to oppose universal health care. Fire them and hire someone new.
Government enforcement of contracts, in this case a contract with a union, encourages you to support universal health care. Let the government pay.
And, finally, because the weaker social safety net improves your bargaining position, you oppose universal health care. They must do what you say or lose their health benefits.
And that’s a fairly simple interaction. Each of these attractors has complex effects depending on the specific circumstances. However, the general flow can be predicted to a great extent. For instance: in general for a small business, the expense of providing health benefits is likely to outweigh the benefits of an improved bargaining position, while the larger business with a larger pool of employees can get a better deal per employee, so will find the weaker safety net more beneficial. For one thing, the weaker safety net means that employees can’t quit the large companies and go to work for small businesses who can’t afford to provide insurance. So even if small businesses don’t provide insurance for their employees, they lose from its lack in that they are at a competitive disadvantage in hiring.
Since I wrote this, Obama care has become law, but it doesn’t change the calculations above. More importantly it doesn’t even brush at the more general point. Any financial interaction takes place in a complex of law and custom and is affected by those laws and customs. Those laws and customs are not something that can be averaged out and ignored.
There are quite a number of things that small groups or individuals do better than large groups. There are also a number of things that large groups do better than small. There is no plausible evidence that I have seen that there is any inherent superiority of either private or public organizations in terms of efficiency. Size has effects, public vs. private doesn’t.
Where there are differences, they are in the way public and private acquire their funding and, to an extent, on the sorts of pressures public and private managers work under. Public managers get in trouble when the roads have pot holes, private managers when the dividend drops. Things that are not profitable for private businesses are profitable for government, and it can be harder to prove a causal relationship in public enterprises. How, after all, can you prove that the new road is the reason that Sam built a new store?
Where innovation is needed and high failure rate is acceptable, private works better, because lots of different people trying lots of different things are more likely to find successful answers than a few people finding a few things. If, however, a high failure rate is not acceptable—for instance where failure means poisoning the ground for the next hundred years—you want public involvement. Not necessarily government business, but certainly government licensing.
Where the benefits are by nature widespread, public is generally the better option.
Innovation is, in general, not something that large organizations, public or private, do well. Though there are exceptions, like the Apollo program. And private industry will cherry-pick those solutions that are most profitable, not necessarily those that are best for society in general.
Society has several ways that it can influence the invisible hand of the market.
It can bribe private industry, as in the case of the railroads, either directly with land grants or with tax abatements or deductions.
It can hire private contractors to build things that the government owns and which can be used by the public, either freely or for a nominal fee, like roads, parks, and national parks.
It can manage the business itself, as in the post office in the US and several other businesses in other countries.
It is important to note that the government being in a business doesn’t preclude private industry from being in the same business. UPS is not made illegal by the existence of the post office. It is only in very special cases that the government should insist on being the exclusive provider of services. It might be unwise to let Rupert Murdoch have his own armed forces, for instance. But that, as I said, is a very special case. For the most part, if there is a public version of a service, that should not preclude the private version. Public zoos are fine, but outlawing private zoos to give the public zoo a monopoly is a bad idea. In general, monopolies are bad ideas. They restrict innovation and should be avoided where possible.
But what should government do to influence the invisible hand of the market? That is something for society to decide, but it is vital to remember that the question is how society should interfere, not whether, because the market cannot exist without that interference. It never has and never can.