TCS Daily


Order and Disorder

By Arnold Kling - September 14, 2007 12:00 AM

"There is an equivalence between a tariff and a quota as these are drawn on the blackboard...They are not, however, equivalent in practice. A tariff and a quota generally involve different institutional frameworks...With the quota, the distribution of sales across vendors and the specific types of products sold are not determined through ordinary commercial arrangements. Rather, they are determined through a political process where those who hold offices of political power are able to award allotments to the particular vendors that those holders of power choose. A quota necessarily injects venality, inequality, and hierarchy into political practice and changes the character of effective commercial conduct."
--Richard E. Wagner

One of the most important ideas of the late Nobel Laureate Friedrich Hayek was the concept of "spontaneous order." This can be a difficult concept to explain.

When spontaneous order exists, we take it for granted and make little effort to understand it. If your body is healthy, you do not need to think about how your muscles work, how your heart and brain function, or how your metabolic processes operate. You only notice it when order breaks down, and you are sick or in pain.

Similarly, when the economy is functioning properly, we do not notice all the behaviors that are required to make it work. We go to the supermarket and find grapes available, and we do not wonder why or how.

In theory a central grape distributor could be at work. A single entity could try to assemble all of the information that pertains to grape production and grape consumption. In addition, the grape-distribution czar would master all of the details of storage and transportation systems. Using this information, the czar would send instructions to all of the individuals involved in production, storage, and distribution, telling them what to do and where and when to do it.

In practice, there is no grape-distribution czar. Grapes make their way from distant lands to your neighborhood supermarket via a series of local decisions guided by prices and self-interest. No one person has all the information necessary to direct the distribution of grapes properly. But each participant, guided by prices, knows what to do. Their collective interaction results in grapes available at nearly all supermarkets nearly all the time. This is an example of spontaneous order.

Disorder in Gasoline, 1974-1975

One characteristic of the order created by markets is that there are no persistent shortages or surpluses. This in turn means that people do not crowd into lines or fight one another to obtain goods and services.

If you want to see disorder, all you have to do is implement price controls. Price controls create shortages or surpluses, and the result is chaos. The failure of the Soviet economy reflects that disorder.

We saw an example of Soviet-style economics in the United States in the mid-1970's, when we maintained price controls on gasoline. This was in response to the Arab oil embargo.

In Oil Econ 101, I explained that because "oil is oil," it is not really possible to boycott Saudi oil. If we do not use Saudi oil, someone else will. The oil we use will come from country X, and Saudi oil replace the oil of country X somewhere else.

The same logic says that the Saudis cannot boycott us. If they stop selling to the United States, but they continue to supply their oil to the market, then we will get more oil from other countries instead.

If markets had been allowed to operate in 1974 and 1975, the effects of the oil embargo almost surely would have been minor and temporary. Instead, price controls created a massive disorder.

Because gasoline prices could not rise, there was no natural incentive to increase supply or to curtail demand. The result was a shortage.

As people found that gasoline stations were occasionally running out of gas, they reacted by raising their demand for gasoline. Whenever you saw a station that had gas, your impulse was to fill up, because you did not know whether the next station you passed would be out of fuel.

If there were order, your normal reaction to seeing a line at a gas station would be to pass up the station in order to avoid wasting time in the line. But with the disorder of price controls, your reaction was the opposite. Seeing a line meant the station had gasoline, so your impulse was to join the line! At some stations, hundreds of cars lined up, and occasionally tempers flared and fighting erupted.

Those of us who lived through the gasoline crisis of 1974-1975 will never forget the frustration, perverse incentives, and absurdity of the disorder caused by price controls. That is why very few experienced politicians argued for price controls after Hurricane Katrina shut down many oil refineries.

Rent Control and the Minimum Wage

Another example of a disorder created by price controls is the market for rental housing in New York City. The annual construction rate of new apartments in New York is less than 10 percent of what it was in the 1920's. For many renters, the net result is higher cost of renting. However, instead of this rent going to landlords where it would induce supply, it goes to people taking advantage of the system. Brokers earn fees for finding people apartments. People who sublet their rent-controlled apartments earn profits from tenants. This disorder makes for high cost to renters while short-circuiting the process by which higher rents would encourage more apartment construction. Of course, as supply has been held back, the true cost for renters has risen, which only reinforces the demand for controls. For sixty years, New York has been in a vicious cycle of price controls and undersupply.

The minimum wage is another example of a government policy that fosters disorder. Harvard economist Greg Mankiw aptly describes the minimum wage as:

  1. A wage subsidy for unskilled workers, paid for by
  2. A tax on employers who hire unskilled workers.
Other economists, including recent Nobel Laureate Edmund Phelps, prefer the idea of a pure wage subsidy for unskilled workers, paid for out of general income taxes. A minimum wage lowers the demand for unskilled workers. A pure wage subsidy does not.

Drug Prohibition

What difference does it make whether you address substance abuse with taxes, as we do with alcohol and tobacco, or with prohibition, as we do with cocaine and heroin? There is a sense in which the two approaches lead to similar results--an increase in price and a reduction in available supply. However, the tax maintains order while prohibition produces disorder.

As Richard E. Wagner points out in the essay quoted at the beginning of this article, the spontaneous order of the market can adapt to a tax relatively easily. However, when government tries to control supply, disorder emerges. Profit opportunities are created in crime and corruption. Compare the crime and mayhem in the market for drugs with that in the market for cigarettes. Or compare the disorder that resulted from alcohol Prohibition with the order that prevails today.

The Great Depression

I have argued that the spontaneous order of the market system serves to head off incipient shortages and surpluses. However, during the Great Depression, there was a long period of high unemployment--a surplus of labor. This makes the Depression an important episode in economic history.

Most economists believe that the Depression required a disruption to the financial order as well as a disruption in the wage-setting mechanism. I believe that the most important financial disruption was the run on banks. As I pointed out in my essay on recent financial turmoil, financial intermediation involves the management of risk by the intermediary. If I trust the intermediary, then I lend my money at a low risk premium, and the intermediary can pass this along to the borrower. If I lose trust in the intermediary, then the risk premium goes up. At the onset of the Great Depression, people lost trust in banks, many banks closed, and financial intermediation was curtailed. The most prominent exponent of this theory of the financial causes of the Depression is none other than the current head of the Federal Reserve, Ben Bernanke.

The cause of labor market disorder is somewhat more difficult to pin down. In theory, an excess supply of labor should cause wages to fall, until additional demand and reduced supply have eliminated the surplus. There are some intrinsic reasons that this mechanism works less well in labor markets than in other markets, but I think that President Roosevelt's New Deal policies, which were intended to boost wages and prices through cartel mechanisms, played a role in prolonging the disorder. See Amity Shlaes' The Forgotten Man.

In any case, the disorder of the Great Depression was a traumatic experience. To this day, many people distrust the market system because of the breakdown that occurred in the 1930's.

Carbon Emissions

Today, the most important issue with a potential to create disorder is the desire to reduce emissions of carbon dioxide. The most orderly way to achieve such a reduction would be through taxes. The next most orderly way would be through an auction of tradable permits.

Disorderly ways to reduce carbon emissions include emission controls and "cap-and-trade" systems where the government assigns caps to specific industries. These sorts of approaches insert politics into the process at a narrow, personal level, ensuring widespread and persistent lobbying, cronyism, and corruption.

Oil, Aid, and Populism

In The Bottom Billion, Paul Collier points out that countries with a lot of wealth concentrated in a natural resource, such as oil, tend to function poorly. When people have to work to earn wealth, there is order. When wealth is there for the taking, then people focus on exactly that--taking. The rewards go to those who know how to use violence and power. Ironically, countries that are rich in resources are "cursed," because the disorder caused by the fight over ownership undermines the wealth of the resources themselves.

Foreign aid can have the same impact as a resource. It can foster disorder by creating a climate in which ambitious people, instead of engaging in productive activity, fight for control over the distribution of aid.

Populist economics, as propounded by a John Edwards or practiced by a Hugo Chavez, is a recipe for disorder. It tells people that they do not have to earn wealth. Instead, the government will redistribute wealth to its consiosing policies that would exacerbate disorder.

In the United States, I hope that enough people appreciate the spontaneous order of markets to keep the politicians at bay.


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24 Comments

"When people have to work to earn wealth, there is order."
This is why the USA prospered. People could come to the New World and keep the fruits of their labor and not be slaves to some manor lord.

Disorder increases as the welfare state increases. Why work if the state will pay you not to? This perpetuates the need for more 'state'.

This is one reason I support open immigration. Let all those who want to work into the USA. But they must want to immigrate, not be guest workers. And the federal government must cut any welfare to these people as well as citizens. Leave that up to states if they wish.

A Non-Rhetorical Question
Can somebody explain the difference between "auctioning tradable permits" and "cap-and-trade" for carbon emissions? At first glance, both would involve the government setting supply. What's the difference in outcome?

A possible answer
I think auctioning permits means the government would sell a fixed number of permits, and anyone could buy them, including speculators or environmentalists who might let them expire. In cap-and-trade, the government would set limits and issue permits to the businesses for free, and they could buy/sell among themselves as required.

Great article but the evidnce that oil resorces...
...make a country more dificult to govern is questionalbe. Canada and Norway are governed OK while Syria, Afganistan, Cambodia and Egypt etc. are governed badly.

Think Twice
Canada and Norway are peaceable, but they are not governed as well as the United States.

You would not want to move from the US to either one of those culturally-fine nations and pay their tax rates. The need for excessive taxes is indicative of a less-efficient central government.

In addition, precisely due to the fact that Canada and Norway have arguably richer cultures than the other nations you mention (not to mention more abundance of clean water and timber), their oil industries are only part of the resources picture; whereas with a nation like Syria, what else have they got besides oil?

Unrealistically low quotas on immigration also create disorder
For one thing, street gangs are becoming increasingly involved in the transport of illegals across the border. It's big business. There's an up front fee and the opportunity for continuing extortion or other exploitation.

More Order and Disorder
I'm an interdisciplinary scholar who studies similarities among complex systems. Here are a few things I have learned about complex systems. They all have rules that govern behavior in the system. In order to maintain order in the system, the system has to constantly be changing -- energy must go into the system, and it must exit the system. Also, all complex systems exist on the borderlands of order and chaos. Finally, the order we find in complex systems emerges from the apparently disorderly interactions of the parts. Order emerges -- it is not imposed from the outside. Further, if order is imposed, the system collapses. The heart is a good example -- so long as it beats in a way that is both orderly and disorderly simultaneously, you have a healthy heart. The minute it starts to be in an orderly fashion, you are getting ready to have a heart attack.

All of the order in the natural world is a bottom-up process involving the random interaction of initially disordered parts. A few years ago, the journal Science ran an article that described how rocks in Antartica organized themselves into rings -- really, bowls, with all the small rocks in the center, and increasingly larger rocks out to the edges, until the edges were made up of the largest rocks, giving the appearance of rings. These rocks self-organized due to the interactions of the differently sized rocks with freezing and thawing water. Here differently sized rocks, water, and varying temperatures gave rise to spontaneous order. Nobody had to come out and organize the rocks.

Living cells are organized the same way, as are living organisms (evolutionarily). So are social groups, including humans. The economy is a natural system too, and we should not be surprised when it works best when it is allowed to act like a natural system. Each individual part, interacting with others in natural, rule-creating ways, allow for the emergence of a new kind of order that benefits the system as a whole, as well as the individual parts of the system. That is how systems work -- and it is exactly how Adam Smith said a nation is able to create wealth. His "invisible hand" now has a more scientific name: an emergent property.

not "difficult to explain"
Good article and true, but I disagree that the concept of 'spontaneous order' should be difficult to explain. It basically means freedom of individuals to make all those little decisions all day long, all thru life. That would be opposed to elites in a command-economy making those same decisions for us. This was one of the main contributions of this 'Austrian School' economic hero. He said it's a tremendous presumption, arrogance, and naivete that a handful of bureaucrats at some central planning dept. can make all those decisions for millions of people. It just means freedom, and thank goodness that austrian economics is making a comeback these days, after all the crappy socialist, and socialist-lite, policies about.

re: think twice about Canada & Norway
Yes, greatone is right. Both those countries are very restrictive high-tax socialist-lite welfare nanny states. The only immigrants they can attract are the free-loading refugees from third world places. You don't see many refugees going up to Canada either, not even the blacks, but many Canadians go down to live in the states. Indeed, my relatives in Canada say that even many of their so-called refugees just use Canada as a stop-over, because it's easier to get into for free-loaders, then move down to the States later. And yes, they're willing to give up their 'free' rationed 3rd rate medical care.

Economics ... in 6 lessons! Spontaneous Order is honest
Perhaps the most succinct, clearly reasoned wide-ranging article I've seen -- after 30 years of being Libertarian.

Spontaneous Order is very hard to explain for solving any particular problem, relative to an elite issuing commands. With Freedom, most folks clearly see that some folks might make mistakes. With Commands, the "mistakes" are less easy to see. In Theory, the 'good Commander' (benign dictator) won't make mistakes. In practice, they always do, tho some are better than others. (Singapore's was pretty good.)


The focus on corruption is excellent -- the most likely path towards more freedom is constantly fight corruption.

excellent example
That's why I think we should use a price system rather than a quota system to regulate immigration and temporary workers.

Scarcity in Norway
I've been to Norway several times. Prices are bizarrely high while selection is low and quality is ridiculously sub-par accross the entire price range (except for the lax and aquavit). And this for a nation that sits on a pile of petro-dollars which, if they were passed out on per-head basis to all Norwegians, would make each and every one of them rich.

Norway is a silly illustration of the theory that the state should control wealth to affect a net social gain.

Labor disorder
LIFO rules create rents in labor markets defying rationalizing economic forces. These rents operate both in tandem and apart from labor unions while obviously exacerbated thereby. Couple this with the imprecise criteria employers use to asses the value of human capital, and one sees why the labor market is the last to adjust rationally to market forces.

On another note, I favor the argument that the imprecise criteria available to asses the value of human capital, particularly that segment of newly educated labor market entrants, goes far in solidifying the left's stranglehold of academia and the consequent deleterious economic and social effects thereof. If there is no such thing as truth, but only versions of truth, and if the history of ideas is nothing more than a perpetual conflict, then who can compain of today's socialist academia's assertion of the victor's right of rule?

Racist Norwegian policies
In the early '80s I visited a distance cousin near Stavanger. His wife, a first generation Norwegian from the USA wanted to adopt. They were both classic Scandinavian with blond hair. The government would only allow them to adopt children from third world countries.
Children that would look nothing like them.
They did not adopt.

Collaboration
The free market is the best example of collaboration the world has ever seen.

Why not open borders?
With a few caveats like medical and criminal checks, let all in who will work or start a business.

They must become citizens or go home after 5 years and receive NO federal welfare.

Imagine what would happen in other countries. They would have to compete to KEEP their best and brightest.

Society, i.e. "the common good", is everything in Skandinavia ...
while the hopes, dreams and opportunities of individuals count for nothing, justifiying the state's crushing weight on people's lives. Life there seems like an endless cycle of the state slamming doors in your face for "the common good".

Because envy occupies and defines the Skandinavian character, they seem not to mind this. But it runs directly counter to the animating virtues of the American character. Let's see how Americans respond when the Democrats impose Skandinavian-style governance on them; will it take in the Land of Opportunity?

Maybe that's why they drink so much.
Bootlegging is very common on Norway. High alcohol taxes drive private stills for home consumption.

Don't forget the booze cruise
The ferry industry in Scandinavia does business at a swinging clip shipping thirsty Scands to Germany to stuff their cars with a six-month supply of cheap booze, oftentimes beyond the legal axle-weight. There are massive booze retail outlets catering to this horde of tax evading alkies located within a short drive of just about every North Sea ferry terminal in Germany.

But here's the best part: Just about each and every one of these loose-footed lushes will say that he supports the high booze taxes back home out of social solidarity for his alkie homies. If this bizarre but ubiquitous sentiment doesn't incite a frenzy of near-injurious forehead slapping, I don't know what can. Brainwashing is truly powerful stuff, and no one does it better than the Scandinavian governments and their henchmen.

With the Massive Brainwashing Campaign Waged by the Dems,
it might, for a while.

But sooner or later, the American public will see that the office of pseudo-king that Tricky **** has carved out of the Executive Branch can be assumed by any party's President, and they'll then feel betrayed by the "imperialism" of the Democratic President as well.

Drama, drama, everywhere, and all the minds did shrink!

Order and disorder
In the third-to-last paragraph the author describes the effect of foreign aid. I've worked with a lot of people in the Department of Interior and it strikes me that the budget process has the same effect on federal bureaucracies as foreign aid does on foreign governments. People within the bureaucracies spend way too much time capturing budget dollars instead of engaging in productive activity.

There are still Americans who'd do those jobs...
Employers don't want to hire older American workers when they can hire a field full of Mexican teenagers! If there weren't enough Mexicans to do the work, it would be easier for Americans to get the jobs they theoretically "won't do" which they did quite well before the Mexican invasion. That AND there used to be more manufacturing jobs before Walmart & exporting all those jobs to China or where ever became the order of the day. It used to be relatively easy to start out looking for a job & come back home employed. Good luck to anybody trying that anymore! Self employment of some sort becomes the only thing that makes financial sense.

Canada good other than medical care...
There wouldn't be many blacks who would choose Canada if they wanted to leave the USA. Too cold up there when they could just as easily move to Jamaica. Prescription drugs are cheaper in Canada than in the USA for people that use meds. If I were going to move out of the USA I would put Canada on my short list.

How long do you wait in line to get the precription from the DR?

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