The Economics of Injustice
I see that Richard Posner has entered the lists in the debate over David Brooks’ column about debt. See my earlier contribution here and Reihan’s contribution (where he says I am making sense!) here.
Posner is a genuinely interesting fellow. His strength and his weakness is his willingness to follow his premises through to their conclusions. This is a strength, because it means he’s honest, and because you really see where his premises lead. It’s a weakness in that sometimes these premises lead to really crazy places. I recall a college seminar where we read his Economics of Justice and trying to figure out why, logically, under his schema, debtors’ prison was unjust. (Ultimately, I think the big problem with the “law and economics” crowd is that they have a very useful perspective on the law, but it’s not a theory of justice – justice and efficiency are different things, as are justice and aggregate utility, as are justice and maximizing liberty. But that’s another topic for another time.)
In any event, I found his contribution to the “Great Seduction” debate relatively unconvincing. Here’s why:
But saving plays a less important role in economic progress today than it did in the sixteenth century. Its role in powering economic growth has been taken over, to a large extent, by technology. The great rise in standards of living worldwide is due far more to technological progress than to high rates of savings, that is, to deferring consumption.
That’s true, but incomplete. The big driver of economic progress is increasing productivity. Increasing productivity is increasingly (but not exclusively) driven by application of technology. But technological advancement is very capital-intensive. And the only way to generate capital is, ultimately, through savings.
If we don’t save, we have to borrow from others who do. Right now, as a country we’re borrowing substantially from the whole world: China, Japan, the Gulf states, and Europe (a lot of the sub-prime debt that was securitized was placed in Europe).
Is that a problem? It depends what we’re borrowing for. If we’re borrowing to invest in physical plant or human capital that will make our economy more productive, then it might be a good thing. If we’re borrowing to finance consumption, that’s a bad thing. Unfortunately, it’s not as easy as one would like it to be to determine whether we’re doing the one or the other. But the evidence that we’re doing bad borrowing grew substantially during the 2000s: the government increased borrowing to spend more on defense (unproductive) and individuals borrowed to buy bigger houses (unproductive) or borrowed against existing real estate to finance other consumption (unproductive). Corporations, meanwhile, were rebuilding their balance sheets, reducing borrowing and reducing capital investment.
In situations of desperate poverty, one can expect a heavy debt load; but such a load can also be positively correlated with prosperity, which cushions the risks that debt creates. It is especially odd to suggest as Brooks does that taking on debt is antithetical to hard work; on the contrary, it increases the incentive to work hard by making it at easier for people to obtain the goods and services they want by borrowing the money they need to pay for them, yet at the same time increasing the risk of bankruptcy should they slack off on their work and so let their income fall.
Well, yes. But let’s turn that around. Debt is good, Posner says, because it forces people to work. In other words: if people couldn’t consume what they haven’t yet earned, they might work less hard and spend less on consumer goods. They might, for example, spend more time with their kids or their elderly parents. Or they might just loaf about. Either way, they’d have more freedom than they do once they’ve committed to the installment-plan life. I can see why a habit of hard work is good. I can also see why freedom is good. And there’s a trade-off.
More to the point, having piles of debt you have to service will make you much more conservative about your income stream, as anyone with a big student loan can attest. Someone with more confidence he or she could survive a drop in current income without bankruptcy might be more likely to get involved in not-for-profit activities – or might be more willing to take the risk of starting (or joining) a new business with little short-term cashflow potential but big potential upside. So there may be a tradeoff with entrepreneurialism as well.
The very high interest rates for payday loans tell us that many people will pay a very high premium to shift consumption from future to present. As long as they understand what interest rates are and what interest rates they are paying, it is hard to see why their preference for present over future consumption, and hence for spending and borrowing rather than saving, should have social implications. People who take out payday loans are unlikely to be potential savers (i.e., lenders); and by taking on heavy debt they force themselves to work very hard; and I have suggested that saving is not as important as it once was.
I particularly do not understand how, if high interest rates for payday loans are a problem, loans by foundations and churches are a solution. If, as I assume Brooks must mean, these loans are to made be at lower interest rates than payday loans, the former payday borrowers will borrow more. If to try to prevent this the charitable lenders ration their credit tightly, the payday borrowers will borrow what they can from those lenders and top off with a payday loan; their total debt burden is unlikely to fall.
Posner basically just assumes that there is never an information asymmetry or a cognitive asymmetry between bargainers, or that the social consequences of such asymmetries are not worth discussing. Perhaps the amount that people would choose to borrow against their paycheck is inelastic, so that if the price of borrowing drops, they don’t borrow more, they just pay less? Does he have any data to back up his assertion that people will borrow more if the price of paycheck borrowing dropped? What’s more likely is that if rates of lending were regulated that such lending would simply cease, or diminish, or move into the underground economy; because abnormally high profits attract competition, the current profit margin is probably close to what a private interest would demand. Which is why, if you want to get those rates down below the market rate, you need to turn them into charity, which may not be able to supply sufficient capital. But the “people will just borrow more if the cost of borrowing drops” objection strikes me as kind of weak.
As for the “tax on stupidity,” it is of course irresistible to finance as much as government as possible by a system of voluntary taxation, which is what a state lottery is. And I don’t think “stupid” is the right word to describe all or even most of the people who buy lottery tickets. I do think that some of them consider themselves “lucky” and so in effect recalculate the odds in their favor. That is stupid; in a game of chance, “luck” is randomly distributed. Some people, though, simply enjoy risk. Others like to daydream, and a daydream is more realistic if there is some chance it may come true, even if a very small chance. And finally and most interestingly, there are people whose marginal utility of income is U-shaped rather than everywhere declining. Usually we think of it as declining: my second million dollars confers less utility on me than my first million, and that is why I would not pay a million dollars for a lottery ticket that gave me a 50.1 percent or probably even an 80 percent probability of winning $2 million. But maybe I lead a rather drab life, and this might make such a gamble rational even if it were not actuarially fair. Suppose that for a $2 lottery ticket I obtain a one in a million chance of winning $1 million. It is not a fair gamble because the expected value of $1 million discounted by .000001 is $1, not $2. But if having $1 million would transform my life, the expected utility of the gamble may exceed $2, and then it is rationally attractive.
He’s right that some people enjoy taking risk enough to spend exhorbitant percentages of their income on risks that are rationally foolish. Why, precisely, should the government encourage such behavior? Is he unaware that public lotteries are much poorer bets than private gambling institutions? For the sake of argument, posit that it’s OK for the hypothetical private lottery company to offer a product at a market-set rate of return; why does he think it’s acceptable for the government to fund itself in this manner? The problem is similar to the moral problem of sin taxes: if the government depends on (say) cigarette taxes for revenue, then it has a financial incentive to encourage smoking. Even if it doesn’t act on this incentive, the government is still taking advantage of addicts who can’t respond to higher cigarette prices by dropping consumption. But lotteries are much worse; the government acts against incentive with regard to smoking, spending significant funds on ads to discourage smoking and so forth, and, indeed, the tax on cigarettes is explicitly justified as a mechanism to discourage smooking. But the government actively encourages people to buy their (uncompetitive, monopoly) lottery product. Why is calling that a “tax on stupidity” – or, if you prefer, a “tax on desperation” – incorrect?
More globally, let’s put Posner’s argument together and see what it amounts to. He’s arguing that debt is good because it forces people to work harder; that lotteries are OK because some people like to “daydream” about getting rich quick; that high rates of interest on paycheck borrowing are OK because otherwise borrowers would just “borrow more.” These amount to a highly regressive argument for paternalism: if the poor got a better deal, they’d squander it. Without debt, they’d be idle; with cheaper debt, they’d borrow “too much”; without lotteries, they’d get angry and protest their fate. That’s a pretty ugly combination when you put it together.
I like Posner a lot, but you need to keep in mind that he’s a pretty classic Asperger’s intellectual. Years ago he told me I should never use the phrase “the exception that proves the rule.” I responded that the phrase is commonly used to mean that exceptions that are famous for being exceptional (like Beethoven is famous for being a deaf composer) show that there exists a tendency (that most composers can hear). But he couldn’t wrap his head around that.
— Steve Sailer · Jun 19, 12:54 AM · #
Perhaps this sounds like something an “Asperger’s intellectual” would say, but the primary historical meaning of “prove” is “test.” So the phrase “exception that proves the rule” means “exception that tests the rule.” It makes no sense to say that an exception to a rule confirms its truth, since every exception to a rule weakens its force. But that’s how I, anyway, hear people use the phrase all the time: they invoke a rule, someone comes up with an exception to it, and they say “Ah, that’s the exception that proves the rule!” — as though their case has just been somehow strengthened. Which it hasn’t; it’s been weakened. (Okay, that’s my pedantic comment for the day.)
— Alan Jacobs · Jun 19, 02:30 AM · #
Posner thinks debt makes people work hard. Japan has one of the world’s highest savings rate for private citizens, and one’s the (developed?) world’s highest hours worked per individual. Sociology FAIL.
…sorry, couldn’t resist.
— Justin · Jun 19, 05:24 AM · #
Alan, it doesn’t make no sense, precisely — what Steve (and Derbyshire, who wrote a lot on this question) mean is that (1) if you grant that the exception is rare (and therefore exceptional), (2) the fact that it is notably rare tends to offer support for the trend.
So if I say “Successful basketball players tend to be tall” and you say “What about Muggsy Boggs?” it’s reasonable for me to say “He’s the exception that proves the rule.” I’ll grant that we are using “prove” and “rule” somewhat loosely, but not, IMHO unreasonably.
On the other hand, if I say “It is impossible to build a perpetual motion machine,” and you say “What about this perpetual motion machine on my desk?”, I need to come up with a better response than “That’s the exception that proves the rule.”
— J Mann · Jun 19, 01:17 PM · #
Noah, IMHO Posner didn’t say that it is rational to “spend exhorbitant percentages of their income on risks that are rationally foolish,” he said that lotteries are not solely a tax on the stupid, or, to quote Posner, “I don’t think “stupid” is the right word to describe all or even most of the people who buy lottery tickets.”
IMHO, Posner is right that people who buy a lottery ticket or two may be behaving quite rationaly and in a utility-maximizing way. He’s therefore right that “all” lottery players are not “stupid” for doing so; I don’t have any data to judge whether he is right that “most” lottery players are not stupid, but it doesn’t seem like a laughable guess. I’m also sure he would agree with you that a government/Indian tribe/horseracing oligopoly is not a rational way to allow people to gamble.
You’re right that he doesn’t address the moral question of whether, even assuming that it’s rational for you, me and Posner to buy the occasional lottery ticket, it is still morally acceptable for the government to raise money by entering a field that takes advantage of at least some people.
He also doesn’t really confront Brook’s argument that neo-Calvinism leads to a more prosperous society than economic rationalism. Ultimately, Posner only argues that for some people, going for the easy path is rational, but I doubt Brooks would argue with that.
— J Mann · Jun 19, 01:28 PM · #
J Mann: I insist, the phrase “exception that proves the rule” as it is commonly used makes no sense at all. I would first protest that you shift (and weaken) the terms a bit by replacing the word “rule” with concepts like “trend” and “tendency” — but even using those weaker terms, my point still holds. Every Muggsy Bogues or Spud Webb or Earl Boykins or Nate Robinson in the NBA weakens the tendency towards tallness among basketball players, makes the claim less strong. They are counter-examples, not examples. If exceptions proved the rule, then the more exceptions you have, the more you confirm the rule, which is nonsense. So you shouldn’t say that Muggsy Bogues is the exception that proves the rule, you should say that there are far more basketball players above average height than below it, and therefore your claim that basketball players tend to be tall is accurate.
But I’ll stop now because I’m hijacking Noah’s thread.
— Alan Jacobs · Jun 19, 01:51 PM · #
Alan – I demand an exception/rule post where this can be argued well beyond the point of any reason, but will also agree to a truce. (The “exception” that “proves” Godwin’s law, if you will ;-P ).
— J Mann · Jun 19, 05:23 PM · #
Hmm, I hadn’t thought to say this before (I was busy with inanities), but I’d always thought that it was the notability of the exception that proved the rule. I.E, the mere fact that Mugsy Bogues attracts such attention shows that height is the norm for NBA players. Of course, I probably just confabulated that explanation.
— Justin · Jun 20, 12:32 AM · #
That’s exactly the reasonable way to use the phrase “the exception that proves the rule.”
That Tiger Woods is famous for being not white but Koby Bryant isn’t illustrates that most star golfers are white but most star basketball players aren’t.
Intellectuals, though, tend to get hung up on taking the word “rule” too literally, in a Platonic sense. The real world isn’t Platonic, it’s statistical. So, it’s handy to have a familiar phrase that reminds us of a quick and dirty way to figure out what the tendency is in a situation: if something is famous for being exceptional, then the average is in the other direction.
— Steve Sailer · Jun 20, 08:10 AM · #
In Posner’s defense, he’s a judge, so he’d be right to be object to “well, that’s the old exception that proves the rule!” in a legal brief. But I was using it in an empirical sense: e.g.,:
For example, that Spud Webb was famous for being a 5’-7” NBA player suggests that most NBA players are tall. In contrast, I’ve never heard of a soccer player being famous for being 5’-7”, so I presume that soccer players are not extraordinarily tall on the whole.
I really don’t know anything about the average height of soccer players, but I presume from this that it’s not terribly tall.
— Steve Sailer · Jun 20, 08:15 AM · #
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