Seen and Unseen: Effects

The Democrats have a policy that resonates with many. Consider the issues they talk about: poverty, more accessible health care, education, and mortgage crises, among others. Many Americans understand these are big problems, and they want a solution to make it better, or better yet, to solve the problem entirely. If Republicans were honest enough, they would also want those same problems fixed. Libertarians and independents, too, for that matter (including myself). Democrats talk the talk, and generally, seem as principled as Republicans: they will try to follow their campaign promises at least as much as Republicans, despite much complaining to the contrary.

So why am I not a Democrat? That is a great question, and one that should be addressed.

Henry Hazlitt, an old-school free market economist, quoted the French political thinker Frederic Bastiat, who said that a great economist can see both what is seen and what is unseen. A poor economist cannot see what is unseen. Jibberish? Let me see if I can illuminate, for this is the reason why I am not a Democrat.

We see problems with poverty, health care, education, and housing. The problems are seen. Two things are unseen: 1. What caused these problems in the first place, and 2. What effect a proposed solution would have on these problems: would the problems get solved completely, mitigated partially, stay the same, or get worse? Would other problems pop up as a result of such policies? What would their effect be? You can see a complicated tree of cause and effect.

A discussion of what caused these problems is beyond the scope of this essay. Here, we will discuss the second question: what is the effect of the proposed solution? Keep in mind we are only doing a cursory discussion of the effects, as the effects are widespread and complicated.

Well-meaning politicians propose relatively simple solutions to these problems. This is essential. If they were too complex, few could understand their merit and support them. Usually, they involve the government increasing subsidies to some group, like schools, families, or individuals. States, cities, and federal agencies also receive subsidies, according to the plan. The intent is usually to put money right in the hands of those that need it most (those suffering the most, those hardest hit). Again, this seems like a valid plan. The proposed solution and projected outcome are seen.

But what is unseen? One unseen and often undiscussed factor is the effect of subsidies.

Generally, subsidies increase prices. People have more money to spend, and a corresponding price rise occurs. You can see this with farm subsidies: when we subsidize farmers, prices increase. When we subsidize education, prices increase. When housing is subsidized, prices increase. When health care is subsidized, prices increase. Why is this so? One way to think of this is that subsidies inflate demand. As demand increases, prices rise. If this is coupled with a contraction in supply (i.e. farm subsidies) then prices really go up.

Of course, no one really wants high prices. So the politicians propose price ceilings: an upper limit for rent or health care or education or what have you. Those well-meaning but misguided individuals who support price ceilings often say profits are a result of companies’ “greed,” and so the profit must be reduced. They could get by with less profit, right? So let’s give the CEOs and the big management (and the shareholders, too, of course) less profit.

What’s the big deal? Less profit for the big companies, more money for you and me, right? Not exactly. Again, the proposed plan is seen; the true effects are unseen.

Prices fluctuate relatively quickly. Many different factors go into prices for just one item. For instance, higher gas prices mean higher food costs, as the transportation costs must be passed on. So what happens when prices increase (remember, they increase when we subsidize something) and hit a ceiling? Profits go from small to zero to negative. A business becomes unprofitable and unsustainable. The political solution? To keep businesses afloat, especially small businesses, more subsidies are recommended. Of course, larger companies have more resources and therefore usually have an easier time getting more subsidies. Family farms often suffer as a result. Suppose the prices go back down. Would the subsidies be repealed? History suggests that subsidies are extremely difficult to repeal. There is a huge amount of pressure for the revenue from subsidies to keep flowing, and so the subsidies continue. Big companies can fork over a lot of cash to pay a lobby to make sure that subsidies keep on comin’. Small companies have much fewer resources.

There’s another problem with price ceilings. Prices reflect scarcity of a good or service. If prices are artificially low as compared with what people would be willing to pay in a free market (no subsidies), then more people will buy. Vacant housing, for instance, will fill up quickly, leaving others to join a waiting list. This has happened in Sweden, for instance. To solve this problem, the liberal may decide the government needs to create more housing to fill the demand. In the free market, however, if demand increases, then there is a corresponding price increase to reflect the supply and the demand. But with price ceilings, shortages result. This happened in the 1970s when gasoline prices were forced to be artificially low. (I say “artificially” because the market would have had a higher price.) People had to wait in long lines early in the morning to get gas. If the prices were allowed to increase, fewer people would wait in line. We can imagine price increasing to a point where there would be no line at all, and no shortages. This didn’t happen at that time, of course. The simple problem was the price did not reflect the scarcity of the resource, and a shortage resulted. So in any area with a price ceiling, this becomes a real possibility.

There’s another problem with subsidies: there are distribution and enforcement costs. So the consumer must pay not only for the subsidy, but for the bureaucratic infrastructure to determine who gets how much, how one can apply, how one can qualify, etc., and the distribution infrastructure to make sure the money gets where it is supposed to go. Some liberals (like Ralph Nader, for instance) want more government oversight of programs like this, to prevent corruption. Sounds reasonable. But, of course, that costs money, and that money must come from somewhere. These administrative bureaucratic costs are not insignificant. Also consider that there are no competitors for this service driving prices down or quality up, as is the case with private industry. One must deal with the same agency and the same government. It is a monopoly.

Let’s summarize. Prices increase when we subsidize something (say we hand out food stamps). And so we subsidize the producer (say the dairy farmer) to make sure he has enough, too. Shortages can result from price ceilings, which shortages can be avoided by a price increase.

Unseen effects are that those not receiving the subsidies pay higher prices. Those who pay for the subsidies pay not only the higher prices, but pay for the consumer’s and the producer’s subsidies. So they get whacked three times: once for the higher prices, and twice for each subsidy. Of course, we can imagine much more complicated situations, too, where even more subsidies are involved. For instance, in addition to subsidy of production, there are also subsidies related to transportation costs (maybe the trucking industry has fallen on hard times in addition to gas supply issues) and supplies (maybe the feed industry fell on a hard time thirty years ago, and the subsidies have just stuck around). One can question the fairness of this scenario to those who must pay for the subsidies, and for the related price increases.

The complexity of these subsidies and their relationships can make one’s head spin. But these are the unseen effects of this mindset. You can probably understand why I think it is a slippery slope.

We can also imagine, of course, that if these subsidies were never there, prices would have been much lower to begin with, and individuals would have more money to spend. Removing subsidies once they have been put in place has a similar result: lower prices and more money to spend as one would wish. There is some complexity involved when there are so many subsidies involved. But the end result is the same: more money in the hands of the consumer, and lower prices.

Ultimately, what is unseen is what people could have done with their money, if prices and taxes were lower. Imagine the education or retirement savings, the Christmas presents, the charitable donations. All are possible when we choose what to do with our money, but none are possible with subsidies firmly entrenched.

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2 Comments

Filed under Austrian Economics, fiscal policy, Libertarian, politics, role of government

2 responses to “Seen and Unseen: Effects

  1. MJ "revoltingpawn"

    Can’t really agree with most of your post. So know I am an Independent and not a Democrat… Why are you talking about “liberal” Democrats? They have not been in power since the late 1970’s. On economic policy their is not much difference between Democrats and Republicans of late. In fact the Clinton administration was pro deregulation just like Reagan and Bush I & II and was more fiscal responsible then either of them.

    You said… “Well-meaning liberal Democrats (called Social Democrats in Europe) propose relatively simple solutions to these problems.” Have you ever listened to any of the Republican debates? Talk about offering easy solutions (no new taxes) to all our problems.

    I agree subsidies can be problem but we really just need smarter subsides. You mentioned the small farmer… Congress has been trying to pass a new farm aid bill for a while (may have passed – correct me if wrong) that would help small farmers more then corporate farmers. Forget subsidies and what about corporate welfare?

    Sorry don’t think a more free market with less deregulation is the answer to education, the economy or helping the poor. Need to take in account big corporations don’t really want a free market but a controlled one for their advantage. Government is the balance to protecting us from corporate America dominating us. Better and smarter (not less) government is possible and don’t let them tell us we can’t do it!

    I just think your post would have been better severed if stuck to talking about subsidies and not playing the “liberal” fear card.

  2. plato04

    If you don’t like the “liberal” tag, then I suppose you could substitute it with “big government spender” or some such phrase.

    The idea of central economic planning vs. the free market really blossomed under the administrations of FDR and LBJ, two American Presidents I would characterize as “liberal.” And so the term is a link to this philosophy, not the current party structure.

    What got me started on this article was listening to the Democratic debate the other night, when promise after promise was for more and more subsidies. That’s the typical promise. Though I share your disdain for the GOP, Republicans actually stick to their talking points and often oppose these spending increases (one of the rare instances when the Republicans actually stick to some principle; and of course it’s purely for political reasons: they outspend anyone when they are in charge). I should point out that in general, Democrats are much more consistent in following their principles, in my observation.

    Agreed that the Republicans share the same philosophy. Mitt Romney wants to increase subsidies for corn production. I consider this a liberal, not a conservative, idea. Republicans make no sense: they support subsidies, just less than the Democrats. If I really think subsidies should work, then why go halfway? The GOP really has no leg to stand on (and that’s not even talking about foreign policy), especially considering their spending habits. You’re absolutely right about how fiscal responsibility (and government growth and spending, too) is stronger under a Democratic administration than a Republican one when comparing the last thirty years. There’s really not anything conservative about the spending habits of Presidents Reagan, Bush I, or Bush the Lesser.

    Corporate welfare is a big problem. Why are we subsidizing oil companies, for instance, when they are making record profits? Why do we subsidize flood insurance in high-risk coastal areas? (I don’t think too many poor and needy people live on the Florida coast, for instance.) One of my points is that once a subsidy is in place, it is nearly immortal. Good luck trying to get rid of it. Death, taxes, and subsidies. So even if it is a good idea at the time, what about thirty or forty years from now, when someone else could use the money more? Do you think that it is easy to just cut off subsidies?

    Agreed also that big corporations do not want a free market: they want a corner on the market. They want government favors and subsidies and regulations which benefit them but hurt existing or potential competitors. This philosophy affects nearly the entire bureaucratic structure, from the FDA to the military-industrial complex to OSHA to the EPA to telecom regulation to nearly any other government-business interface. Huge companies spend unreal amounts of money to lobby for their pet project, whatever it may be. I can think of GE lobbying for carbon credits (guess who has a huge business plan lined up?). Government somehow is supposedly objective in these decisions while using taxpayer dollars, so the reasoning goes. The result is usually fewer companies, with lower quality and more expensive service. Market innovation slows considerably. Monopolies are really government-induced rather than government-opposed. But sadly, dear revoltingpawn (what a cute name, by the way) few see it that way. Naderites see this as a problem, just as I do, but think that more government (i.e. audits, oversight) solves that problem. Not sure how we can trust government when they got us into this mess.

    I also have a hard time seeing any evidence that indicates that the current structure improves our quality of life. Government economic intervention is responsible for the boom-bust cycle, the Great Depression, high unemployment, inflation, and a host of other economic ills blamed frequently on the free market. There’s nothing free about how America’s corporate (near fascist, really) state is run.

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