(Economics week at Createquity continues with this provocatively-titled post (don’t worry, it’s a reference) published in March 2010. In addition to the post itself, the original comment thread is well worth checking out (and generated a follow-up post, which is coming next). -IDM)

My around the horn post from this week included an item on the ethics of offering unpaid internships and a proposal under consideration across the pond to force arts organizations (and other employers, presumably) to pay interns the minimum wage if the engagement is longer than a month. This sparked a lively discussion, first on Michael Rushton’s Arts Admin blog, and subsequently on a site that’s new to me called Art and Avarice, written by young voice teacher and entrepreneur Milena Thomas.

The discussion quickly evolved into a back-and-forth on basic economic principles, and I don’t know why, but such topics always get me riled up. I found myself debating with a pseudonymous libertarian purist, the worst kind of people to argue with because the moral nihilism underlying their ideology amounts to a cop-out from considering society’s best interests at all.

In the course of doing some research a few weeks ago I came across a devastating takedown of libertarian ideology in, of all places, The American Conservative. Called “Marxism of the Right” (there’s an attention-getter for you), Robert Locke’s article argues that libertarianism is seductive on the surface but riddled with internal contradictions. Here are some of my favorite quotes:

If Marxism is the delusion that one can run society purely on altruism and collectivism, then libertarianism is the mirror-image delusion that one can run it purely on selfishness and individualism. Society in fact requires both individualism and collectivism, both selfishness and altruism, to function. Like Marxism, libertarianism offers the fraudulent intellectual security of a complete a priori account of the political good without the effort of empirical investigation.

Empirically, most people don’t actually want absolute freedom, which is why democracies don’t elect libertarian governments. Irony of ironies, people don’t choose absolute freedom. But this refutes libertarianism by its own premise, as libertarianism defines the good as the freely chosen, yet people do not choose it. Paradoxically, people exercise their freedom not to be libertarians.

A major reason for this is that libertarianism has a naïve view of economics that seems to have stopped paying attention to the actual history of capitalism around 1880. There is not the space here to refute simplistic laissez faire, but note for now that the second-richest nation in the world, Japan, has one of the most regulated economies, while nations in which government has essentially lost control over economic life, like Russia, are hardly economic paradises. Legitimate criticism of over-regulation does not entail going to the opposite extreme.

This contempt for self-restraint is emblematic of a deeper problem: libertarianism has a lot to say about freedom but little about learning to handle it. Freedom without judgment is dangerous at best, useless at worst. Yet libertarianism is philosophically incapable of evolving a theory of how to use freedom well because of its root dogma that all free choices are equal, which it cannot abandon except at the cost of admitting that there are other goods than freedom.

Anyway, I thought this would be a good time to break out a post I’ve been meaning to write for a while. I’ve gone on at great length about my various problems with the neoclassical economic model (someday I’ll collect them all into one place), but one I haven’t touched upon much yet is the way that economists deal with income.

Consider two people who are participating in an auction for a rare piece of Kevin Costner memorabilia. One is a billionaire who happens to be staying at the hotel where the event is held. The other is a teenager who has spent her (life) savings on the plane ticket that allows her to be at this event in person. She has a shrine to Kevin Costner in her room at home, and this is the one item that will complete her collection. If she misses out on it, she’ll never have another chance. Not only has she scrounged up all of her own savings, but she’s spent a month fundraising pledges from her friends and family to help her buy this item. After exhausting every avenue she can possibly think of, she comes to the auction with $3,000 to spend.

The auction begins, and she and the rich guy are the only two bidders. The price quickly gets up to her maximum of three grand, and she keeps going. It’s up to $4,000, $5,000—at this point she has no idea what she’s even bidding with, all she knows is that she has to have this item. After a while, though, it becomes obvious that she’s not going to win this contest, and she runs from the room in tears and defeat. She commits suicide the next day out of grief.

The rich guy, meanwhile, a big NBA fan, is a little dotty and thought it was an article of Kevin Johnson memorabilia. He takes it home and means to resell it, but he forgets about it (again, he’s a dotty billionaire) and it sits in his closet until he dies, whereupon it’s found by his son who doesn’t realize what it is and tosses it in the trash.

According to the neoclassical economic model, the above is a just and efficient outcome of a fair transaction. The rich guy prevailed in the auction because his willingness-to-pay, as judged by the price he actually paid, was higher than the teenager’s willingness-to-pay (as judged by the price she didn’t pay). Thus, economists would say, the dotty old rich guy “valued” the item more.

This absurd result is made possible because the neoclassical method of modeling demand has no real way of distinguishing between “don’t want” and “can’t afford.” All it sees is that a transaction didn’t happen, and the default assumption on the part of economists is that it must be because the girl didn’t want it as much as the rich guy. The economist’s response to “but I couldn’t afford it!” is, essentially, to say that if she’d really wanted it, she would have proven it by finding some way, somehow, to afford it, even if that meant selling her body or stalking the dude for another 15 years until she could buy it back from him. That the rich guy faces no such great sacrifice to obtain the item is irrelevant to them.

“But Ian,” I hear you thinking, “no one could possibly be that stupid. Real economists know what income effects are and of course they wouldn’t make policy recommendations based on what, on its own, seems like a blunt instrument for estimating demand.”

Ah, if only it were that simple! Alas, economists (with the exception of behavioral economists) all too often have a nasty anti-scientific habit of prescribing policy based solely on their flawed and incomplete theories rather than empirical observation and testing. It’s ingrained into them from their earliest training. And despite Michael Rushton’s protests that “only a fringe” of economists fail to understand the criticisms that I hurl against the neoclassical model, we’re not talking about wackos—these are mainstream, well-regarded figures in the field. I give you William J. Baumol and William G. Bowen, authors of the seminal study on the economics of the performing arts:

Not that [ticket scalping] is necessarily undesirable – indeed, as we have maintained, it is part of the normal allocation process. Suppose only one seat is left for a particular performance and two persons wish to buy it – a visitor to New York who will have no other opportunity to see the show and a native New Yorker who can attend almost any performance. If the two contenders have roughly equal incomes, the visitor will offer to pay more because the seat at this particular performance is of greater value to him; and we see nothing “immoral” in this act. Things go wrong only when someone tries to maintain a “just price” artificially, either through legislation or through self-denial on the part of the supplier in response to a questionable notion of public virtue. If those who supply the product are unwilling or unable to collect what would normally be its market price, invariably someone else will volunteer to take their place. The speculator who had nothing to do with the production will then reap the rewards which would otherwise have gone to those who contributed their labor and resources to the performance.

Nice trick there, guys, to cherry-pick the one extremely rare situation in which your logic actually works. In practice, of course, the two individuals’ incomes or asset levels will almost never be equal, and they could just as well be as divergent as our Kevin Costner-obsessed teenager and dotty old rich guy above. If the authors had stopped there, of course, that would have been fine—but they go on to disparage the “questionable notion of public virtue” that benefits “speculators” rather than “those who contributed their labor and resources to the performance,” completely ignoring the fact that some of those “speculators” might be people who actually really want to see the show who otherwise would not be able to. And sure, there would be some reselling on the secondary market, but if, say, legislation put in place a lottery system, that would arguably result in a more just sorting of tickets – because the lower-income people who wanted the tickets would keep them, while higher-income people who wanted tickets would still be able to obtain them. If the tickets are all uniformly at a high price, you would have some higher-income people with tickets who don’t actually want them as much as some lower-income people who don’t have a chance to access them.

Or take Tyler Cowen, a tenured professor and author of a fantastically popular economics blog:

One way of measuring the value of health insurance is by its market price and by that standard many of the current uninsured just don’t value health insurance very much.  That’s why they don’t buy it.

Riiiight, because the cost of health insurance strains people’s family finances beyond what is feasible, that means they don’t value health insurance at all. Having been uninsured for extended periods twice in my life (most recently just this past fall), I can serve as my own counterexample on this one – I certainly would have bought myself insurance had I the money.

Cowen goes on to qualify his statements in a way that makes it clear he is open to other interpretations. But that’s not good enough. To me, the notion that “the value of a poor man’s life is not measured by his money” is even a question up for debate is the ultimate sign of economics’ sickness. That Cowen has to lead off with the neoclassical interpretation almost apologetically before presenting alternative views shows how much weight that framework, with all its flaws, still carries with his readers.

We’ve learned this week that our aversion to economic inequality is not just a philosophical abstraction; it may in fact be hardwired into our brains. Human beings have a need for moral fairness and just desserts as part of our biological makeup, it seems, just like sex and food. But it’s no surprise that our economic models don’t take this into account; after all, it seems the people we put in charge of telling us how the world works are the rare people who don’t share this characteristic. In short, it’s true: economists really don’t care about poor people. It’s time we had a framework for understanding our actions that speaks for the rest of us.