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Free-market economists have
triumphantly cited the broken-window fallacy whenever someone opines that a destructive
act, whether a natural disaster or man-made catastrophe, is paradoxically
"good for the economy." The reference is to a classic lesson given
by the economist Frédéric Bastiat in 1850.
Especially after Paul Krugman went on CNN and discussed the virtues of faking an alien invasion, libertarians were
having a field day with the "broken-window" charge. The so-called
progressive Left have been pushing back, claiming that Krugman's critics don't really understand what Bastiat was saying.
In the present article, we'll
review Bastiat's original lesson and apply it to
modern-day disputes over the possible benefits of destructive events.
Bastiat's Fable
Let's quote extensively from Bastiat's opening example in his classic work, That
Which Is Seen, and That Which Is Not Seen:
Have you ever witnessed the anger of the good shopkeeper, James B., when his
careless son happened to break a square of glass? If you have been present at
such a scene, you will most assuredly bear witness to the fact, that every
one of the spectators, were there even thirty of them, by common consent
apparently, offered the unfortunate owner this invariable consolation:
"It is an ill wind that blows nobody good. Everybody must live, and what
would become of the glaziers if panes of glass were never broken?"
Now, this form of condolence contains an entire theory, which it will be
well to show up in this simple case, seeing that it is precisely the same as
that which, unhappily, regulates the greater part of our economical
institutions.
Suppose it cost six francs to repair the damage, and you say that the
accident brings six francs to the glazier's trade — that it encourages
that trade to the amount of six francs — I grant it; I have not a word
to say against it; you reason justly. The glazier comes, performs his task,
receives his six francs, rubs his hands, and, in his heart, blesses the
careless child. All this is that
which is seen.
But if, on the other hand, you come to the conclusion, as is too often
the case, that it is a good thing to break windows, that it causes money to
circulate, and that the encouragement of industry in general will be the
result of it, you will oblige me to call out, "Stop there! Your theory
is confined to that which is seen;
it takes no account of that which is
not seen."
It is not seen that as our shopkeeper has spent six
francs upon one thing, he cannot spend them upon another. It is not seen that if he had not
had a window to replace, he would, perhaps, have replaced his old shoes, or
added another book to his library. In short, he would have employed his six
francs in some way which this accident has prevented.
Let us take a view of industry in general, as affected by this
circumstance. The window being broken, the glazier's trade is encouraged to
the amount of six francs: this is
that which is seen.
If the window had not been broken, the shoemaker's trade (or some other)
would have been encouraged to the amount of six francs: this is that which is not seen.
And if that which is not seen
is taken into consideration, because it is a negative fact, as well as that
which is seen, because it is a positive fact, it will be understood that
neither industry in general,
nor the sum total of national labor,
is affected, whether windows are broken or not.
There are two important elements in
Bastiat's analysis:
1.
an assumption about what we now call
"crowding out" or, what is the same thing, denying that there are
"idle resources", and
2.
the distinction
between wealth and employment. Below we'll handle each in turn.
Bastiat Assumes "Full Employment,"
i.e., No "Idle Resources"
In reaching his conclusion that the
hooligan boy has conferred no economic benefit on the community, Bastiat first establishes that there is no net
stimulus to employment or income. It's true, the glazier's
income is higher than it otherwise would have been. This is what is seen.
However, Bastiat argues that this undeniable boon
to the glazier is perfectly offset by a reduction in income to somebody else
in the community, who is now earning less because of the hooligan.
Specifically, Bastiat
assumes that the shopkeeper would have spent his six francs somehow,
and that the boy has merely forced him to spend the money on repairing the
broken window. It is wrong to view the employment of the glazier as a net
gain to the economy, because the shopkeeper (in the absence of the broken
window) might have spent that six francs getting his
shoes repaired, for example. In that case, the glazier's gain is exactly
counterbalanced by the cobbler's loss.
Thus, if we assume that the workers
in the community would have been "fully employed" had the boy not
broken the window, then it's clear that the boy
isn't "creating jobs" or "boosting total income." All
he's done is to give more work/income to the glazier, at the expense of
work/income for some other people in the community.
Wealth versus Income/Employment
At this point, one might think that
the whole episode is a wash. Sure, the boy's vandalism doesn't help,
but how does it hurt things? Is Bastiat
implicitly arguing that it's better to give business to the cobbler, rather than
the glazier? Where does he get off making that judgment?
The answer involves the distinction
between wealth versus income or employment. Just because "total
income," or "total employment," or "total GDP"
hasn't been changed by the boy's action — it's just that the
composition has been rearranged — nonetheless the hooligan lad has
objectively made the community poorer.
Specifically, by destroying the
window, the boy has made it necessary for people in the community to devote
their scarce labor time (and other materials) in order to merely restore the
amount of tangible wealth back to its original state. Yet if the boy had not
broken the window, then the labor and other materials would have been used
(again, assuming full employment in both scenarios) in order to make the
community's tangible wealth grow.
In summary, Bastiat
is arguing that the boy hasn't stimulated total employment or income at all;
he has merely shifted it from one sector to another. But when all is said and
done, the community will have less wealth following the boy's vandalism than
it otherwise would have had. Specifically, the gains and losses in the rest
of the community wash out — the glaziers will have more wealth while
the cobbler has less — but the shopkeeper is definitely poorer. Rather
than having a window and a new pair of shoes, now he will only have a window.
Ironically, it has taken several
paragraphs of economic analysis to come full circle back to what common sense
told us all along: When a hooligan boy breaks a shopkeeper's window (and the
shopkeeper is the one who has to pay for replacing it), the shopkeeper is
made poorer by the amount it costs to replace it. The boy's action is
destructive; it has made the community poorer; he should not be congratulated
in any sense. Duh.
The Keynesians Flirt with Praising
Disaster
Especially in light of the recent hoax conducted at Paul Krugman's expense, we should tread carefully here. In fairness,
let me be clear: Paul Krugman has never actually
pined for an alien invasion, nor has he said that he wants another world war.
However, he has indeed written
things that understandably gave his critics that impression. This is why so
many libertarians were going bonkers with references to the broken-window
fallacy. Here are the two most damning quotes from Krugman
(in addition to the alien invasion analysis discussed earlier):
Life and business go on; so I guess we have to talk about the economic
impact of the Fukushima nightmare.
One set of impacts involves disruption of supply chains…
But what I'm hearing a lot is worries about financial impacts. Japan will
clearly have to spend hundreds of billions (dollars, not yen) on damage
control and recovery, even as revenue falls thanks to the direct economic
impact. So Japan will become less of a capital exporter, maybe even a capital
importer, for a while. And this, so the story goes, will lead to soaring
interest rates.
What's going on? The story about rising interest rates would be right in
normal times. But we're not in normal times: we're — still — in a
liquidity trap, with short-term rates up against the zero lower bound.
…
So government borrowing doesn't have to come at the expense of private
investment, driving up interest rates; instead, it just mobilizes some of
those desired but unrealized savings.
And yes, this does
mean that the nuclear catastrophe could end up being expansionary, if not for
Japan then at least for the world as a whole. If this sounds crazy, well,
liquidity-trap economics is like that — remember,
World War II ended the Great Depression. (Paul Krugman, March 15, 2011; emphasis added)
And this one:
It seems almost in bad taste to talk about dollars and cents after an act
of mass murder. Nonetheless, we must ask about the economic aftershocks from
Tuesday's horror.
These aftershocks need not be major. Ghastly as it may seem to say this, the terror attack — like
the original day of infamy, which brought an end to the Great Depression
— could even do some economic good ….
About the direct economic impact: The nation's productive base has not
been seriously damaged. Our economy is so huge that the scenes of
destruction, awesome as they are, are only a pinprick…. Nobody has a dollar
figure for the damage yet, but I would be surprised if the loss is more than
0.1 percent of U.S. wealth — comparable to the material effects of a
major earthquake or hurricane.
The wild card here is confidence …. For a few weeks horrified
Americans may be in no mood to buy anything but necessities. But once the
shock has passed it's hard to believe that consumer spending will be much
affected.
Will investors flee stocks and corporate bonds for safer assets? Such a
reaction wouldn't make much sense — after all, terrorists are not going
to blow up the S.&P. 500 …. By the time
the markets do reopen, the worst panic will probably be behind us.
So the direct
economic impact of the attacks will probably not be that bad. And there will,
potentially, be two favorable effects.
First, the driving force behind the economic slowdown has been a plunge
in business investment. Now, all of
a sudden, we need some new office buildings. As I've already indicated, the
destruction isn't big compared with the economy, but rebuilding will generate
at least some increase in business spending.
Second, the attack opens the door to some sensible recession-fighting
measures. For the last few weeks
there has been a heated debate among liberals over whether to advocate the
classic Keynesian response to economic slowdown, a temporary burst of public
spending. … Now it seems that we will indeed get a quick burst of
public spending, however tragic the reasons. (Paul Krugman,
September 14, 2001; emphasis added)
The relevance of Bastiat's fable to Krugman's
(typical Keynesian) analysis should be clear. There is just one last hole to
plug in the case against the "silver lining" of broken windows,
tsunamis, and terrorist attacks.
What's the Point of Employment?
As I said earlier, the Keynesians
lately have been launching a counterattack on the charge that they are
committing the broken-window fallacy. One of their responses is to claim that the
conservative/libertarian critics are ignoring the distinction between wealth
and employment, and that they are unwittingly assuming that there is full employment
(i.e., that there are no "idle resources").
Sympathetic onlookers have jumped into the debate, claiming that Bastiat could have been wrong. After all, suppose a hurricane
came along and struck a community that initially had a large number of
unemployed construction workers. Who would deny that the hurricane might
(under the right circumstances) actually lead to more employment and a higher
"gross domestic product" as it is currently measured?
At this stage of the argument, I
think there are two main answers. In the first place, we have to inquire why are there so many "idle resources" lying
around? If it turns out that destructive government and
central-bank policies are to blame — and not a
sudden unwillingness for people to "spend enough" — then
forced expenditures (due to a natural disaster or terrorist attack) won't
actually fix the labor market. Mysteriously, the economy will suddenly
become "worse than we realized," so that even in light of the new
spending, unemployment is still too high. (This is what happened with the Obama stimulus package.)
Second, we can take the critique on
frontally. Suppose it really is the case that in the absence of a hurricane
(terrorist strike, tsunami, alien invasion, etc.), that people in a community
would work fewer hours, and that measured GDP would be lower. Does this mean
that there is some "silver lining" to the disaster that might at
least partially offset the undeniable loss of wealth?
For example, does it possibly make
sense to say, "Sure, the aliens came and blew up a few buildings, and
forced us to use up some of our cruise missiles and a lot of jet fuel in
repelling them, but at least they stimulated our depressed economy; so we
have to add up the loss in wealth on the one hand, and balance it against the
gain in economic activity on the other, to see if overall the aliens were a
net benefit"?
The standard free-market position
on this question is no, it doesn't make sense to talk like this. The goal of
economic activity is to produce consumption goods and services. Work
is a necessary evil, not an end in itself. As Henry Hazlitt said in a similar context,
It is no trick to employ everybody,
even (or especially) in the most primitive economy. Full employment —
very full employment; long, weary, back-breaking employment — is
characteristic of precisely the nations that are most retarded industrially.
To adapt another analogy from
Hazlitt, suppose Jim sees his neighbor sitting in a lounge chair, sipping a
martini on a Saturday evening. Jim then decides to set his neighbor's house
on fire. Obviously, the neighbor jumps up out of his chair, and spends (let
us say) the next hour putting out the fire and minimizing the damage the best
he can. Would anyone in his right mind say of this scenario, "Sure, Jim
caused some physical destruction of wealth, and that is a bad thing; however,
let's not lose sight of the upside: the neighbor used more of his labor than
would otherwise have been the case"?
The same principle operates on a
communal level, when it comes to hurricanes, terrorist strikes, and alien
invasions. The only difference is that specific individuals might actually
benefit — yet the community as a whole is still poorer. For example, if
an alien spaceship blows up a (deserted) factory and then leaves, it's
possible that certain people (such as construction workers and their
suppliers) will, on net, benefit. They will have gladly given up their
leisure time in exchange for the wages they receive to rebuild the factory.
However, there are other people in
the community who are clearly the losers. Not only are they "out"
the wealth of their factory but they must then pay enough out of their
remaining wealth to induce the construction workers and other people to
rebuild it.
When reckoning costs and benefits
on a societal level, the fact that hundreds of workers have to give up hours
of their time, and that owners of scarce shingles, bricks, concrete, etc.,
have to give up some of their property, is a cost of the alien attack.
Those are not benefits.
It's difficult to see this, because
the people involved view it as an "increase in demand" for their
services and products. The construction workers are happy to report to the site
everyday at 8 a.m. rather than sleeping in, because
now they "have a job."
Yet when we push the analysis
further and ask why it's good to have a job, the answer isn't that
they want to stay fit. The answer, of course, is that they get a paycheck
with which they can buy other goods and services.
We have come full circle. The
Keynesians assume that a market economy can get stuck in a "liquidity
trap" in which mutually advantageous gains from trade are not occurring.
The possible benefit of alien invasions and terrorist strikes, in this view,
comes from their ability to jumpstart the private sector out of its funk.
Yet for those economists who reject
such a notion and instead think that markets can use resources efficiently
when they are left alone, there is no upside at all to destructive
events. Even though we can imagine situations in which these events confer
benefits to particular groups, on net society is always made poorer, because
the necessity of applying more labor power — just to return to the status
quo in terms of tangible wealth — is a cost of the episode, not
a benefit. Other things equal, we are better off when people have to work less
to achieve a given level of wealth or flow of consumption.
Robert P. Murphy
Essay originally published
at Mises.org here. With permission
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