The leading petrolhead - Jeremy Clarkson, the host of Top Gear

What would happen if some roads and highways were owned by private entrepreneurs? What if they could write and enforce their own rules? These are questions you could hear an Austrian economist ask you, given that you would run into one.

The Austrian School is a proponent of free trade, freedom of choice, small government and they are commonly referred to as being libertarian . I have to admit that I am quite drawn to some aspects of libertarianism, because I feel that freedom of choice is one of the most important things in life (of course, with liberty comes responsibility). But there are some ideas that the libertarians are quite silly about, actually. But more on that some other time.

Need for Speed

Now, let’s get back to the highways. Currently, highways are managed by governments wherever you go. Governments impose speed restrictions, safety standards, maintain the roads and so forth. But what if an entrepreneur was given the opportunity to operate a network of roads on his own terms? Sound interesting? Well, it is, because before long there would be roads for petrolheads like Jeremy Clarkson, who would be happy to pay a bit more to have the chance to really test the limits of their cars. Of course, the roads would have to be safe but I presume a road with serious maintenance problems would not have many customers. Roads akin to the third lane of the Autobahn would sprout up all over the place and people could satisfy their need for speed there, rather than risk other people’s lives doing it, illegally, on roads with low speed limits.

Of course, some roads would have lower speed limits than other, but they would all require the users (the customers) of the roads to agree with the terms of use of each specific road. Naturally, that would mean taking full responsibility for any damage to the road and to other users. Although the petrolheads would surely celebrate higher speed limits, they are still only humans and they are not accustomed to moving at high speeds (the highest speed a human could travel used to be the top speed of a horse). This means that sooner or later they will crash as they are unable, as humans, to consider all the information entering their brain at high speeds. There is a reason for speed limits. If you are unconvinced, take a look at these pictures of streetracers: here, here and here.

Cost

The Austrians claim that the government spends a huge amount of money and gets little in return. That’s 100% on target, as most of us would agree. Private roads would be better managed in order to attract as many drivers as possible. Private roads would also be modernized according to necessity, not according to them whims of politics. Bus companies would be a possible beneficiary as well, because they could make long term contracts with the roadowners as they use the roads more often and on a regular basis (sort of like a loyal customer benefit).

While the theory of all this is very exciting, the reality might not turn out to be as great. The Austrians claim that any public service is a waste as the money and resources would be much more efficiently used in the hands of enterprises. In theory, this might be true, but in reality, things are quite different. There are many cases where public companies have been privatized, only to be bought back by the state because of bad management, price hikes and the like. Not all cases turn out as bad when given some time, as is the case with the privatization of British Rail. The aim of any private company is to make money. The aim of the state, as the owner of any given utility company, is to provide a public service. The privatization of roads would surely give way to immediate price hikes and a bitter war between rivalling road companies. It might turn out as the libertarians have described it, but there is really to evidence to back it up. Right now, the benefits of road privatization remain a theory.

– more on the Austrian theory of road privatization:
The Road to Freedom: An Interview with Walter Block, Mises Daily by Walter Block

The  leaders of the world run around telling everybody that now is the time for action and the time for discussion is over. The loudest plea for action comes from the new president of the United States, Barack Obama. Of course, in a time of crisis, immediate action is necessary. When a man gets shot, there is not debate over what to do because everyone knows that you need to get the bullet out and the wound closed.

When it comes to the economy, things are far more complicated. President Obama has put forth a stimulus package, titled American Recovery and Reinvestment Act of 2009, which weighs in at around $800 billion. Mr. Obama has repeatedly emphasized the need to invest in infrastructure, education and energy projects to get the economy going again. But according to the Congressional Budget Office cost estimate, only $92 billion would be spent fiscal year 2009 (ending in September 30, 2009), with another $225 billion spent in 2010 and another $159 in 2011. Furthermore, only around $70 billion of that would be spent on infrastructure.

The Obama stimulus package is clearly about Democratic pork, not stimulating the economy. And even though there is all this talk about renewable energy, only $18.5 B of would be spent on renewable energy and energy efficiency (according to the original plan outlined in the CBO report). And only $4.5 billion would be spent on modernizing the electrical grid, which is the backbone of any developed economy. In fact, it was the high energy prices that led to high inflation and decreased spending in 2008.

Clearly, right now is the time for discussion, not “bold” and “swift” action, especially when considering the span over which the money would be spent. It is important to remember that Obama is good with words, but that doesn’t necessarily mean that he and his administration knows what’s best for the economy as demonstrated by the CBO report.

Spending like there is not tomorrow

Imagine a situation where a man has a cardiac arrest. The doctor gives him two options: either stop smoking, start exercising and eating right; or take drugs that will make him feel better. Now, the obvious choice should be the first one and this is the only viable option in the long term. Taking pills won’t cure him, it will only make the pain go away for a while. Eventually, he is going to have to change his lifestyle.

The economies of the US and many Western countries face a similar decision – they can either cut spending and eliminate inefficient and unsuccessful state programs that are a drain to the state’s budget; or they can print new money, increase taxes and fees and sell more government bonds to finance their ever-increasing spending. Fortunately, the general public is not falling for Obama’s rhetoric and there is some real discussion over his plans in the media. But what we lack right now is a full out discussion over the soundness of Keynesian economics, which is the theory behind the whole spending concept.

Short term fix for a long term problem

The size of the US economy is around $14.3 trillion and spending $90 – 200 billion to stimulate the economy is a drop in the bucket. Financing this enormous recovery package is not going to be easy – the US government can’t really raise taxes, in fact, they are proposing the opposite. So the only two options left are issuing more government bonds or monetizing debt by printing new money. In essence, this is equal to taking away money from the public, thereby decreasing their ability to spend, but this is ignoring the fact that the stimulus package is intended to promote spending! So in essence they are taking the money away only to give it back again! This is like taking a hundred dollars from the right pocket, putting it into the left one and claiming you are wealthier. It’s preposterous!

Eventually the US is going to have to repay all that debt. During 2009, the US has to find buyers for $2.2 trillion dollars worth of Treasury bills and bonds (the size of the US budget for fiscal year 2008 was $2.979 trillion). This will drive the interest rate higher for commercial bonds and will further exacerbate the state of the US economy as companies will cut spending and lay off millions of people. In the short run, the stimulus package might work, although the odds for it happening are increasingly slim. In the long run, the US is deeply in trouble and needs to pull it’s act together by spending less, saving more and actually producing stuff, not only consuming it.

Outlook for the world

Even though I’ve been focusing on the US economy, the outlook for the world is pretty bleak as well. The bank bailouts have only had a mild effect on the economy and the financial sector, but they haven’t had a positive effect of the banks’ willingness to lend money, which is why these bailouts were given to them in the first place. This can be attributed to the “boldness and swiftness”, or in other words, blind impulsiveness. The packages were pushed through in a hurry and there wasn’t much debate about how the money should be used. In the case of the TARP, the outlook is even worse as the Treasury Department doesn’t have to tell anyone how the money has been used.

The economies of the world are interconnected and the whole world has gone through a simultaneous real estate boom and a successive crash. Due to the interconnectedness of the commercial banks, there is not really a great amount of hope out there, the credit market is cold as ice and the current trends point to a decrease in the amount of outstanding debt (meaning that more loans are paid back than are taken out).

More on the Greatest Depression in the coming days, when I will be looking at the data – unemployment numbers, GDP, auto sales, exports etc. Also, we’ll be taking a look a other countries’ statistics.

Further reading:
Arnold Kling: Against the Big Stimulus
Martin Fackler (NYT): Japan’s Big-Works Stimulus Is Lesson
Anthony Gregory: Jobs Government Creates, and Destroys
Richard Benson (FSN): Keynes, Upside Down

What are your thoughts on the stimulus package?

In the recent months, capitalism has received a lot of criticism from a number of sources. The actions and words of politicians and central bankers have only exacerbated the situation. Some people have even blamed capitalism for the current unfolding financial crisis. To refute these claims, I have written a series of articles to explain the basics of why capitalism is good for society, why the current system is not based on sound money, why the current economic system failed and why we are headed for a depression.

Increase in living standards

Thanks to the capitalist system, we have witnessed an increase in living standards unrivalled by any other in human history. Before the industrial revolution, there were only the rich and the poor. Things have changed a lot since that time and you don’t have to be rich to afford housing, food, medicine, transportation and a vacation every now and then. The Green Revolution, led by the increased production of fertilizers and other agricultural chemicals, increased agricultural production, which increased the world population, which, in turn, gave birth to new industries that would have been unimaginable before.

A larger population means there is a bigger market, hence economies of scale were born. Economies of scale make everything from toothpaste and toilet paper to household appliances and cars affordable to the average person. This is only possible in a market where the producers are rewarded for their innovation. The fact that they produce better and cheaper goods only because they are interested in bigger profits is not of significant importance. Making a profit is not inherently bad and should not be viewed as such, because it is not only the companies that aim to increase their utility in life, but also the people who work for these companies. Money is the only thing that keep these companies in business, whereas in a planned economy it is the state that keeps the companies afloat. This means less innovation, more inefficiencies, more job injuries, lower quality standards et cetera, all due to no competition between companies.

Trade

“Productivity is what makes us rich. Specialization is what makes us productive. Trade allows to specialize.”[1]

These are the words of Charles Wheelan, from the book “Naked Economics” (a superb read). The point he is trying to make is pretty clear – we would not have the kind of specialization witnessed today without global trade because everyone would be growing wheat, weaving baskets and repairing their homes. The system is not perfect, illustrated by the fact that a large percentage of people still live below the poverty line, but I am not saying it is. Child workers in China and Thailand are clearly something we should try to change but not through boycotts and trade barriers. Not so long ago, Victorian England was using child labor and the only thing that led to the de facto abolishment of this, was economic development. It was economically more reasonable to use child labor in factories and have adults work on more complicated things, until the development and implementation of better machines that could replace child labor. Once again, I lend a helping hand from Mr. Wheelan:

“They are paid very little by Western standards because they accomplish very little by Western standards. If foreign companies are forced to raise wages significantly, then there is no longer any advantage to having plants in the developing world. Firms will replace workers with machines, or they will move someplace where higher productivity justifies higher wages. If sweatshops paid decent wages by Western standards, they would not exist. There is nothing pretty about people willing to work long hours in bad conditions for several dollars a day, but let’s not confuse cause and effect. Sweatshops do not cause low wages in poor countries; rather, they pay low wages because those countries offer workers so few other alternatives. Protesters might as well hurl rocks and bottles at hospitals because so many sick people are suffering there.”[2]

When you take a look at the facts, you will see that for a rural family in China, it is more sensible to send a child to work rather than send him to school, which bring with it additional expenses. What we are witnessing here is an economy in transition and the children are just inevitable victims of it. Over time, as their economy develops, people will have better access to education, which will lead to more skilled workers. Obviously, a person with a diploma will not be sowing together jeans; but maybe he will be designing a machines that would do the work better than humans or perhaps find a cure for cancer. The thing that keeps workers in sweatshops is not the mean capitalist, the oblivious consumer or the central planner; it is, rather, the combined effect of lack of skills and the need to earn income.

The price is right

The sensationalist news media is always on the hunt for market speculators because they make a great story for the masses, who usually do not understand basic economics. During the summer of 2008, crude oil prices were pushed to $147 a barrel, a price that was not sustainable, witnessed by the precipitous fall afterwards. The only reason the price was driven so high was the excess capital on the marketplace, which led investors and speculators to allocate their assets in commodities and stocks. One could argue that governmental price caps would keep these wild fluctuations from happening but this would completely miss the whole point of free markets. The idea behind a free, capitalist market is that companies will compete to offer the best product and the lowest price. Short-term fluctuations will occur every now and then due to the increased supply of goods, or, in this case, capital. If the state were to keep a lid on the price of goods and services, companies would have no interest in research and development and would halt new projects as soon as the market goes against them. When the price of producing something is bigger that the government mandated sale price, there would be no reason for the company to produce anything. It would simply seize to exist! In a free market, companies are allowed to adjust prices according to production costs, which will lead to long-term price stability because higher prices draw more investment, which makes for increased supply.

Capitalism created freedom

Capitalism has led to the development of highly specialized sciences, which the modern world is built upon. It has freed the human population from having to spend day after day on the field, growing food. This has led to the creation of true freedom in which a person is free to choose a lifestyle and occupation that best suits his needs and aspirations.

“Under capitalism, each person’s life is his or her own, not the property of the state, the public nor the “common good.” As capitalists, we are neither slaves nor masters, but traders whose relationships are voluntary and to mutual benefit. And while we are free to pursue happiness, we aren’t guaranteed to find it nor permitted to sacrifice other individual’s rights in order to obtain it.”[3]

Compare a capitalist society with a state planned society and you will see that capitalism is not about limits, it’s about choices. You are free to pursue your dreams, whatever they might be. There are so many success stories out there and you could be one of them. Choices require decisions and commitment, which is one of the reason so many people are unhappy with capitalism. Society has changed so much and people have not been able to keep up with it, they are confused and want someone to make those decisions for them. People of all races and nationalities want stability in life and in work. The rapid development of technology means that millions of people who used to do the work of machines have had to readjust their whole lives. But this should not be viewed as something inevitably bad, rather, it should be taken as a chance to start over, to learn new skills and develop into a better person for the good of society, but, more importantly, for the good of oneself. Learning new skills is not only about getting a better job, it is about pushing the limits of personal development, of finding out who you truly are and what you want from life. This allows you to take greater pleasure from your work and you life.

References
1. Charles Wheelan, “Naked Economics”, p 191
2. Charles Wheelan, “Naked Economics”, pp 201-202
3. “In Defense of Capitalism” by Jonathan Hoenig, Smart Money