TCS Daily


The Original Freakonomics

By Max Borders - June 6, 2005 12:00 AM

People are freaking out over Freakonomics. As they should be. Authors Steven Levitt and Stephen Dubner make the dismal science a lot less dismal by regaling readers with one counterintuitive economic analysis after another. I even found the book in a bohemian bookstore called Malaprops in Asheville, N.C. where I stood agog for a solid forty five minutes before heading to the checkout counter. Are lower crime rates since the 90s a result of the Roe v. Wade decision? What can be learned from the accounting notes of deceased crack dealers? Can economics help explain the memetics of baby names?

I'm happy to see that someone has managed to push interest in economics into the mainstream. The discipline is finally getting the credit it deserves as a social science with the power to explain a lot, not only about human behavior, but about human nature. But in case you thought Freakonomics is the first book to generate interesting, counterintuitive insights about life and the world -- you're mistaken. Economists have been doing it for a while. Here are my top ten favorites (sans math, of course) from the original Freakonomists:

 

1. Comparative Advantage Imagine you have a tribe (or country) of technologically capable people, and a neighbor tribe of less capable folk. Chances are the more technologically advanced tribe will be willing to trade with the less advanced tribe. Why? Consider the anecdote of Winston Churchill (thanks to Rick Stroup and Jim Gwartney for the example). He happened to be a fantastic bricklayer. Funnily enough, however, Churchill once actually hired masons to build a wall on his property. Why didn't he just do it himself? Turns out he was an even better politician and historian. If he'd spent all his time laying brick, he might not have been the Bulldog who helped win WWII, or might not have penned A History of the English Speaking Peoples. The same can be said for groups. David Ricardo, the first to identify this phenomenon, argued that having more efficient and more productive trading partners can -- and usually does -- benefit both parties. This concept is also called "Gains from Trade."

 

2. Whose Laffing Now? This one may just be operating as we speak. Arthur Laffer said: if you reduces taxes from a certain level, you'll increase tax revenues. Who woulda thunk it? Evidently not those who opposed the Bush Administration's tax cuts. Of course, this result depends on where in the Laffer Curve you are, but the US and most European countries would benefit from a reduction in income taxes, other things being equal. While some opponents of tax cuts are correct in saying that we in the US need to reduce the budget deficit, they're wrong in the simple assertion that tax increases are the way to do it. But zero-sum thinking is still the norm in Washington. (And if we can just get both parties to cut federal expenditures, we could really make progress.)

 

3. Simon says Be not afraid of scarcity Julian Simon could be the most underrated economic mind of the twentieth century. Simon, posthumously, is still humiliating the likes of Paul Ehrlich (and recently, Jared Diamond) who have tried a number of epicyclical arguments to undercut Simon's basic assertions about natural resources: if resources have private owners and their prices are on the common market, we won't "run out" of them. But how can that be?

 

If you have a finite amount of a resource, at some point we'll just use it up, right? Indeed, Paul Ehrlich bet Simon that higher prices would reflect the scarcity of specific resources over time. But Simon had an insight: while resources might be scarce, the creative capacity of the human mind is infinite. Technological advances and other innovations have not only allowed us to extract and use resources that we might not have 50, even 20 years ago -- but that self-same ingenuity allows us to be more productive and efficient with what we extract. Therefore, the price of resources (barring government subsidies, cartels and other market distortions) should remain basically constant, even drop, over time -- oil included. Simon ended up winning the bet against Ehrlich. (Get the full story here.)

 

4. Spontaneous Order Taking insights from the emerging biological sciences, F. A. Hayek was able to cotton on to a valuable insight: if the conditions are right, highly complex social orders will emerge on their own without any planning from a central authority. What are these conditions? Hayek's short answer would be: the basics of free societies. You know -- don't do harm to others, don't think you know more than you do, and don't try to plan an economy.

 

Perhaps the best, most intuitive example of this is Leonard Read's I, Pencil . In this famous article, a pencil gives a first person account of how it comes to be. The process is long and complicated. Involved is: paraffin wax from Mexico, cedar from California, graphite from Sri Lanka, rubber from Southeast Asia, etc. And all of this had to be hauled, cut, honed, and assembled. And all this hauling, cutting and assembling was carried out by complex machines with yet more complex stories behind them. Through the magic of prices, all of this can be delivered as a complete product to your neighborhood store for you to purchase for a measly nickel. That, folks, is spontaneous order at work.

 

5. Soul-selling and Logrolling Tullock and Buchanan were the first to formalize the idea that politicians operate more out of self-preservation than in the "public interest." The conclusions of public choice theory often come as a shock to people who believe politicians are paladins for the right and the good (Beltway types, themselves, are the most deluded in this way). The layperson's general mistrust of politicians gets it mostly right, but perhaps not always for the most cynical of reasons.

 

The idea is this: Apply general economic assumptions about incentives and outcomes to political actors (as opposed to economic actors) and you'll observe familiar patterns; chiefly among them: concentrated benefits (goodies to special interests) and dispersed costs (aka logrolling and pork-barrels funded by taxpayers); unholy alliances between special corporate interests and moral crusaders (see also Yandle's Bootlegger's and Baptists); and basically anything you have to do to satisfy your constituents up-to-and-including selling your soul. We shouldn't be too hard on the politicos, though -- as most of this behavior is predictable precisely because it is systemic.

 

6. Property Rights Saving Species Poachers in many countries have decimated prized species. Animals are killed for their horns or tusks. Some prize the horns for jewelry or artifacts, others for trophies. Of course, as the availability of rhino horns declines (supply), the value of horns increases due to their rarity. This creates an incentive for poachers to continue killing the rhino (even to extinction) despite fines, bans and threats levied by governments (and NGOs).

 

Enter CAMPFIRE. Their idea is simple. Give local villagers property rights in endangered animals like elephants. When the villagers didn't own the animals, they had no incentive to protect them. Often, in fact, the animals were nuisances. But once the villagers owned the brutes, they were able to extract their value. Then, of course, they had an incentive to protect the animals as a resource. Villagers ran off the poachers and created fruitful relationships with rich hunters. In countries where the CAMPFIRE program was implemented, elephant numbers were reported to have increased by as much as 20 percent. Formerly destitute villagers gained greater purchasing power and improved their quality of life -- all while saving the animals.

 

7. Broken Windows The pervasive failure to anticipate unintended consequences is something economists have talked about until they're blue in the collective face. Hardly anyone listens today. And none of Frederic Bastiat's contemporaries listened to him during the 19th century, either. Bastiat used the example of the "broken window," which points out the absurdity of the following logic:

 

If someone throws a stone through a shop window, the owner has to repair it. This puts people to work and increases output. Since such creates jobs, wouldn't we be better off breaking lots of windows and repairing them?

 

A little reflection reveals that this is not only destructive to shop windows, but to the economy as well. When shop owners spend their money on repairs, they have less to spend on other goods and services in the economy. Such represents the unseen costs. Seems pretty simple. But you couldn't tell that to people who cook up wacky public works initiatives and or other wasteful pork-barrel projects that amount to zero wealth creation.

 

8. Environmental Kuznets Curves (EKC) Here's a paradox for you: industrial output, levels of consumption, and incomes have all increased over the last 50 years, but measures of most major pollutants continue to show correlative declines. How can this be? This phenomenon is best described by the EKC hypothesis, which is a spin on the original Kuznets Curve that describes the relationships between income inequality and development. If the EKC hypothesis is correct, according to Yandle, Vijayaraghavan, and Bhattarai, "[i]t implies that some environmental degradation along a country's development path is inevitable, especially during the take-off process of industrialization. Second, it suggests that when a certain level of per capita income is reached, economic growth helps to undo the damage done in earlier years. If economic growth is good for the environment, policies that stimulate growth (trade liberalization, economic restructuring, and price reform) should be good for the environment." Think you'll hear that at the next Sierra Club meeting?

 

9. New Institutional Economics Looking at the numbers is fine, but you'd do better to look at which institutional structures are in place. People like North, Weingast, and Nye have discovered that there are certain commonalities among prosperous nations. Institutions like property rights, solid judicial systems, and the rule of law are critical elements of wealth creation. Why? These institutions help to reduce the costs of starting up and doing business in a society, argue the New Institutionalists. In other words, watching the price of eggs is well and good for short-term solutions to massive economic catastrophes. But for the long haul, one must take a look at the institutional rules of the game. Jeffrey Sachs, Bono, and Sharon Stone would do well to take a few leaves from their playbooks.

 

10. The Invisible Hand Of course the classic, original Freakonomic concept, which has freaked out everyone from Marx to Galbraith, is Adam Smith's invisible hand. How is it that a bunch of people out scrambling to make a buck simply do a better job of providing for the general welfare (if such there be) than any other social arrangement or central plan? Because the best way to benefit yourself in life is to cooperate with others. And the best way to elicit cooperation is to specialize and to trade freely.

  

Max Borders is a writer/philosopher in the Washington, DC area who admires economists, but the math is all Greek to him.

 

(Thanks to Courtney Knapp and Chris Martin for their input on this article.)

Categories:
|

TCS Daily Archives