Chapter 1 - The Lesson
Economics is haunted by more fallacies than any other study known to man. The inherent difficulties of the subject would be great enough in any case, but they are multiplied a thousandfold by an issue that is not present in, say, physics, mathematics or medicine - the pleading of selfish interests. While certain public policies would in the long run benefit everybody, other policies would benefit one group only at the expense of all other groups.
In addition to these endless pleadings of self-interest, there is a second main factor that spawns new economic fallacies every day. This is the persistent tendency of men to see only the immediate effects of a given policy, and to neglect to inquire what the long-term effects of that policy will be - not only on that special group but on all groups. It is the fallacy of overlooking secondary consequences. In this lies almost the whole difference between good economics and bad.
The whole of economics can be reduced to a single lesson, and that lesson can be reduced to a single sentence. The art of economics consists in looking not merely at the immediate but at the long-term effects of any act or policy; it consists in tracing the consequences of that policy not merely for one group but for all groups.
It is a sad fact that the bad economists present their errors to the public better than the good economists present their truths. Demagogues are usually more convincing putting forward economic nonsense then the honest man trying to show what is wrong with it.
A good economist or politician will look not only at the immediate impact of a policy, but the long-term effects on the country as well. Countries in financial distress had policies that failed to take into consideration the long-term effects of those policies.
Chapter 2 - The broken window.
A vandal throws a brick through the window of a baker’s shop. But the misfortune has a bright side. It will make business for some glass business. After all, if windows were never broken, what would happen to the glass business? The glass merchant will have money to spend with other merchants, and so on.
Now let us take another look. The baker was planning to spend the money on a new suit, but instead has to buy a new window glass. The glass business gain is merely the tailor’s loss of business. No new “employment” has been added.
Chapter 3 - the Blessings of destruction
In Chapter 2, we saw that an act of destruction caused economic activity. For decades, there have been people who claim that war brings on prosperity. They speak of the “miracles of production” war requires and “backed-up” demand for products. Even so, war does NOT bring on prosperity. Believing that destruction by whatever means (war, natural disaster, riots, etc.) brings prosperity is the broken window story of Chapter 2 magnified beyond recognition. Did rebuilding Europe after the destruction of WW2 create economic prosperity? No. Rebuilding from destruction creates economic activity, but not economic prosperity!
People confuse NEED with DEMAND. The more war destroys, the greater the post war needs. But need is NOT demand. Effective economic demand requires not merely need but corresponding purchasing power. Go to any third world country and you will see plenty of demand but no purchasing power.
No man would want to have his own house destroyed either in war or peace. What is harmful to an individual must be equally harmful to the collection of individuals that make up a nation. Those who think that the destruction of war increases total “demand” forget that demand and supply are merely two sides of the same coin. Supply creates demand because at bottom it is demand. The supply of the things people make is all that people have, in fact, to offer in exchange for the things they want. A farmer sells wheat so he can buy a car. An auto worker gets paid to build cars so he can buy food. This is the modern division of labor in an exchange economy.
It is sometimes said that the Germans or the Japanese had a post-war advantage over the Americans because their old plants were destroyed completely by bombs during the war. They could replace them with the most modern plants and equipment and thus produce more efficiently and at lower costs than the Americans with their older and half-obsolete plants and equipment. But if this were really a clear net advantage, Americans could easily offset it by wrecking their old plants and building new plants with entirely new equipment.
In all this discussion we have so far ommitted a central consideration. Plants and equipment cannot be replaced by an individual (or a socialist government) unless he acquires the savings, the capital accumulation, to make the replacement. But war destroys accumulated capital. The basic truth is that wanton destruction of anything of real value is always a net loss.
Chapter 4 - Public Works means Taxes
There is no more persistent and influential faith in the world today than the faith in government spending. Everywhere government spending is presented as a cure for all our economic ills.
We MUST recognize that EVERYTHING we get, outside of the free gifts of nature, must in some way be paid for! The world is full of so-called economists who in turn are full of schemes for getting something for nothing. These scheming economists tell us the government can spend and spend and continue to pile up debt without ever paying it off.
Here I am afraid I must point out that such pleasant dreams in the past in other countries has always been shattered by national insolvency or runaway inflation. Here we shall have to say simply that all government expenditures must eventually be paid out of the proceeds of taxation; that to put off the evil day merely increases the problem, and that inflation itself is merely a form, and a particularly vicious form, of taxation. Ultimately every dollar of government spending must be raised through a dollar of taxation.
A certain amount of public spending is necessary to perform essential government functions - roads, bridges, police, fire, the military. What I am concerned with is public works considered as a means of “providing employment” or of adding wealth to the community that it would not otherwise have had.
When providing employment becomes the end, need becomes a subordinate consideration. “Projects” have to be invented. Instead of thinking only of where bridges must be built, the government spenders begin to ask themselves where bridges can be built.
Two arguments are put forward for the bridge, one of which is mainly heard before it is built, the other of which is mainly heard after it has been completed. The first argument is that it will provide, say, 500 jobs for a year. The implication is that these are jobs that would not otherwise have come into existence.
But if we have trained ourselves to look beyond immediate to secondary consequences, a different picture presents itself. The bridge had to be paid for out of taxes. If the bridge costs $1,000,000 the taxpayers will lose $1,000,000. The people will have that much taken away from them which they could have spent on things they needed, creating jobs in other areas.
Therefore for every public job created by the bridge project a private job has been destroyed somewhere else. We can see the men employed on the bridge. But there are other things that we do not see, because, alas, they have never been permitted to come into existence. They are the jobs destroyed by the $1,000,000 taken from the taxpayers.
Now we come to the second argument. The bridge exists. Here again the government spenders have the better of the argument with all those who cannot see beyond the immediate range of their physical eyes. But if they have taught themselves to look for indirect as well as direct consequences they can once more see in the eye of imagination the possibilities that have never been allowed to come into existence. They can see the unbuilt home and unmade cars. What has happened is merely that one thing has been created instead of others.
We need a special effort of the imagination, which few people seem able to make, to look at the debit side of the ledger. If taxes are taken from people and corporations, and spent in one particular section of the country, why should it cause surprise, why should it be regarded as a miracle, if that section becomes comparatively richer? Other sections of the country, we should remember, arre then comparatively poorer.
I have not spoken of the hundreds of boondoggling projects that are invariably embarked upon the moment the main object is to "give jobs" and "to put people to work." For then the usefulness of the project itself, as we have seen, inevitably becomes a subordinate consideration. Moreover, the more wasteful the work, the more costly in manpower, the better it becomes for the purpose of providing more employment. Under such circumstances it is highly improbable that the projects thought up by the bureaucrats will provide the same net addition to wealth and welfare, per dollar expended, as would have been provided by the taxpayers themselves, if they had been individually permitted to buy or have made what they themselves wanted, instead of being forced to surrender part of their earnings to the state.
Chapter 5 - Taxes Discourage Production