The Road to Medicare, not The Road to Serfdom

Here is my latest NYT column, which they titled "The Pendulum Swings Back to Austerity."  Excerpt:

The unfolding of the financial crisis has also changed the public’s sense of where change is needed, both in the United States and Europe. The tragedies of 2008 were represented by Bear Stearns and Lehman Brothers – both private-sector institutions. In 2010, the financial crisis has spread to sovereign debt, with Greece as the most obvious example.

All of these developments are part of one broader story of overreach and complacency. Yet the 2008 crises were attached more directly to market institutions, while the 2010 crises are more closely linked to governments. Because politicians and voters are more influenced by the latest developments than by news from two or three years earlier, a cautious attitude toward public-sector spending has been further cemented.

And this:

Democracies, like markets, have some self-correcting mechanisms, and we are now seeing those at work in the United States and many European countries. (Spain and Britain, for example, are pursuing fiscal austerity aggressively.)

The lessons are straightforward. First, to paraphrase the French moralist La Rochefoucauld, things are never as good, or as bad, as they seem. Second, the Obama reforms, like the Reagan revolution, are turning out to be radically incomplete, which should come as no surprise.

Finally, effective political ideas are those that can still do good in half-baked form. We have neglected this insight in designing financial reform, and it remains to be seen if we can apply it successfully to climate change.

Overall, I believe we are headed toward slower growth and a larger public sector, but I do not believe we are headed down the road to serfdom.  At the same time, I am aiming at a different target.  Critics of incrementalism are usually too focused on the single issue at hand — where they are sure they know best — and not sufficiently aware of the efficiency properties of the broader system, which introduces self-correction mechanisms to counter or limit most major changes.

If I had to stress one sentence from the piece, it would be this one:

Finally, effective political ideas are those that can still do good in half-baked form.


Didn't the public choice school conclude that the self-correcting mechanisms in democracy very significantly lack compared to the market ones?

Didn't the public choice school conclude that the self-correcting mechanisms in democracy very significantly lack compared to the market ones?

No. They identified a lot of important failure modes in government, but one of the sad facts of life is that most of these failure modes apply to any bureaucratic organization, not just the government. For example, if you tweak the Gibbard-Satterthwaite theorem, you get Holmstrom's theorem, which says that there are no team incentive systems which are all three of Pareto-efficient, a Nash equilibrium, and budget-balancing. This means that efficiency theorems don't necessarily apply to markets consisting of firms, because firms do not in general behave like optimizing agents.

To really understand when efficient outcomes are possible, you really do have to study the market and firm structure in detail.

The median voter couldn't even define the world "sovereign," so that is definitely not on their mind. They are still in "spend big bucks for jobs" mode, not concerned about debt, deficits, etc.

Via a recent post at Andrew Gelman's blog, here's what recent public opinion data really show:

The public never overreacts to whatever is not currently working, thus shifting the pendulum. If so, they wouldn't have stuck it out through the New Deal. Once they saw everyone getting fat, sluggish, and diabetic, they would've junked the government recommended diet of grains, starches, and vegetables and gone back to eating meat, eggs, and dairy. They'd stop voting for all sorts of policies based on a blank slate view of human nature -- like throwing money at schools to make kids smarter.

In reality, the public whines that we aren't trying hard enough, bad guys are getting in the way of *truly* implementing the grand plan, etc. Voters can get stuck in a rut for a looong time.

Isn't your phrase a variant of "if a thing is worth doing, it's worth doing badly"?

Nice piece and I think you are correct about incrementalism. I think it only fair to note that much of the need for austerity originated from the need to bailout the banks and from the lack of revenue secondary to the world wide recession started by the financial institutions.


Serfdom results from the decline of a people, not an economy.

There is nothing in the article that addresses the real roots of freedom or tyranny.

Only a fool preaches calm now.

Does that mean that political ideas which are "correct" in some abstract sense but become very dangerous if even slightly misapplied should be eschewed in favor of "incorrect" but nevertheless more robust ideas?

The Canadian Century

However, the Overton Window combined with the median voter theorem defines what those incremental shifts will be, so, its actually better to be a radical if you wish to cause incremental shifts to occur in the direction you want.

Put in other words, the numbers and voice of radicals define the bounds of the distribution in public policy debates. The more radical one side is willing to get, the more water down versions of their views will be considered acceptable parts of the debate and will shift the debate in their direction.

This tactic is sometimes used by the environmentalist movement. They founded more and more radical clubs in order to make their actual views seem sane by comparison (despite being considered absurd at the time). In time, the moderate environmentalists became the mainstream and were able to get their bills passed.

'In the US, most of that has been paid back.'

No, it hasn't. The initial bailout money (TARP) has mostly been repaid. But this has been possible in large part because of a backdoor bailout via the Federal Reserve, which handed various banks large amounts of free money by buying up their toxic assets at face value. And let's not forget the Fannie and Freddie bailout, which functioned similarly albeit with a different timeline (they bought the junk earlier). Ultimately the $400 billion or so the taxpayer has contributed to that cause will probably not even be enough and will have to be topped off.

Perhaps Warren Buffett was thinking along the same lines when he said, "I try to buy stock in businesses that are so wonderful that an idiot can run them. Because sooner or later, one will."

In Sept. of 08, we faced a Debt-Deflationary Spiral. In response, we instituted Quantitative Easing & a Reinforcing Stimulus. This analysis of the problem and solution follows the views of Irving Fisher, and the Chicago Plan of 1933, whose signers included Fisher, Viner, Knight, and Simons.

Since we were facing Deflation, we didn't want to increase taxes or cut spending by throwing a lot of people out of work. We wanted Reflation. So the Govt Borrowed Money. That is the correct response to what we faced, and what we are still facing. This response also follows Milton Friedman's views in his 1948 paper A Monetary and Fiscal Framework for Economic Stability. You'll notice that I haven't referred to Keynes or Socialists in my views.

Prior to the crisis, the National Debt Exploded. It's that occurrence that needs explanation and justification, not the response to Debt-Deflation. Going forward, we face serious fiscal issues. Not facing up to those issues now also needs explanation. But responding reasonably to a Financial Panic does not need explanation.

If we were to follow Friedman's Plan, we would go a long way towards avoiding such an unjustified explosion of National Debt in the future, facing up to our future fiscal problems, and preventing Debt-Deflation in the future.

Eventually, things started to go wrong, in part because investors developed too much self-confidence and became complacent about systemic risk.

To me, it seems that the lack of the regulatory regimes that prevented financial crisis for the half century from the mid-30s to mid-80s allowed the private sector to exploit the system by creating systematic risk which in turn made highly leveraged bets even more profitable. While a small number of innovators created winners, the competitors to LTCM which didn't fail, and the LTCMs that failed, with the private sector bailing out LTCM to protect its competitors. If LTCM had been allowed to fail as Paulson, comanager of LTCM wanted, all the others who were highly leveraged but better capitalized would have seen their soundness questioned, and with prices moving in the wrong direction from LTCM failing, they would have ended up in LTCM's position, with cascading failures taking the system down.

To argue the private sector shouldn't have bailed out LTCN argues JP Morgan caused the 1929 crash by the private sector bailout of the banks in 1907. And that crash was caused by the private sector trying to profit by exploiting the increasing systematic risk with increasingly highly leveraged bets. Looking at the causes, two actions were taken, the Fed was created to do the job JP Morgan did to bailout the banks, and bucket shops were outlawed in most states.

State bucket shops laws crimped "innovation", so they were overriden in December 2000, making AIG FP and Goldman's sales of bets on stocks and bonds legal.


How are we doing with the rule of law.

How about the telling of the truth in the public square.

Or how are we doing with the worst getting to the top, or with the decline or advance of the character of the people.

Hayek talked about government which was compatible with freedom and comet ion and government which was not.

Hayek favored additional good regulations -- how are we doing on that front.

Your evaluation of where we are on Hayek's road was less substantive and had less to do with Hayek's actual ideas than even Glenn Beck's TV commentary.

I'd ask you to raise your game next time.

And I have one question for you. How many minutes have you spent reading Hayek in say the last 20 years?

Mulp's comments are worth listening to, but what I would add is that everyone seems to be mispecifying or failing to define what they mean by the "public sector" and "public expenditures" as they relate to economic growth or efficiency.

For example, the growth of the "public" sector is one thing if you INCLUDE MILITARY spending, and quite another if you don't; and, one has less beneficial effects on the economy (as a deadweight loss, if you asked me) than public spending if you exclude military expenditures.

Similarly, if you define the "public sector" as including basically forced savings for retirement via social security or other social insurance, these are simply transfer payments from one period to another, then the public sector looks big. (It is only when we have enlightened politicians who take a generational surplus (social security has been running a surplus for 25 years) and dole it out as a tax cut (as in 1983, and 2001) rather than reduce federal debt, do we have problems.) So, that part of the public sector will be growing, if you include those prefunded payments.

But, if you net out military spending and prefunded social insurance (SS for example, and even medicare which also has run surpluses), then, my goodness, there is very little as a percent of GDP that is actually supporting a modern society's infrastructure needs. And, infrastructure means investment in human capital as much as it means investment in physical assets used by everyone.

E.Barandiaran, you are back and pugnacious (belicoso) as ever. This must mean the World Cup has finished?

Yes, the system is self-correcting -- most of the time. But there is a critical point where a change (espeecially a targeted change) will disrupt the entire system and cause its collapse. It depends on what kind of system our economy is on what change or changes will cause that collapse, but it's important to understand that the econoy is not infinitely robust. It does have a tipping point. I don't want to find out where that is, do you?

Universal health care in Euurope

Posted by: Greg Ransom at Jun 27, 2010 4:47:12 PM

Hear! Hear!

Comments for this post are closed