CDU chief Friedrich Merz’s economically suicidal net-zero constitutional change in the Bundestag and the recent spate of anti-capitalist legal judgements in Britain and the U.S. highlight the alarming rise in economic illiteracy not only in the legal profession, but among politicians, journalists and pundits in general. Big Government, regulation and above all the rise of the pernicious nonprofit and consultancy sectors have dangerously reduced the percentage of our masters who have ever had to meet a private sector payroll or understand what it requires to do so. Remedying this will take more than one short-term fix of Elon Musk.
In the late 18th and early 19th centuries in Britain and the United States, somewhat later in continental Europe depending on when serfdom was abolished, for example, ordinary people began to grasp the basics of free market economics. They did not need to read Adam Smith to do so, though a gentle perusal of Jean-Baptiste Say, Friedrich List or Thomas Malthus (to prevent them from having more children than their income would permit) would not have hurt. There was very little government outside the Army and Navy, and everybody knew success in that field depended on connections, which you either had or lacked.
Outside that modest arena, every economic activity was dependent on the market. Farmers depended on reducing costs by hard work and a little machinery, with the price of their crop dependent mostly on supply and demand, although the government might possibly intervene as with the Corn Laws. In towns and villages, the simple trades also depended on the market for them – you knew it was pointless to set up in competition with the local blacksmith unless he was incompetent or about to retire, or the local area was very prosperous and growing rapidly.
If you worked for a larger company, perhaps a textile mill, your wages were often directly dependent on output – “piece work” — and in any case would depend on the prices of textiles and that of raw cotton inputs. Fashion designers were sufficiently aware of the market that, as the cost of cotton textiles declined with mechanization, the amount of textiles required for a lady’s dress increased, from 12 yards with the “Empire” styles of 1800 to the 100 yards of the crinolines of 1855, with the overall cost of fabric per costume remaining the same or declining slightly. (Eventually ladies decided they could not manage costumes weighing more than about half a ton, so the trend reversed.)
In that way, almost everybody involved in the economy had a basic idea of economics, without needing direct training in the subject. Since economics was so market-oriented and straightforward, “economists” were compelled to keep to a market-based explanation of their doctrine. That way, even the government of Lord Liverpool, for example, followed economically sound policies and was not diverted into fashionable shibboleths. For example, one of my ancestors, a blacksmith in 1825, though barely literate (he spelt his first name “Gorge”) was sufficiently market savvy to switch from shoeing horses to become a spindle forger for the machines of the rapidly growing Lancashire textile industry – a much more reliably lucrative employment.
The change began with the Peelite decision to seek a low-wage economy, which clearly hurt the skilled workforce, and the universal passion for unilateral free trade, which caused many workers to find their jobs wiped out by “dumped” imports. The connection became blurred between the market and the economic reality felt by ordinary people.
Economists also began to obfuscate their subject rather than clarifying it. The first example was William S. Jevons, the inventor of econometrics, who propounded as absolute truth two fallacious long-term projections: that the real price of gold would inevitably decline (it actually rose over the next 30 years, until the 1890s gold discoveries) and that Britain was in serious danger of running out of coal (his prediction of 1965’s coal production exceeded the peak output ever reached in 1913 by a factor of 10). Jevons’ fallacious projections were based on linear extrapolation of an apparently exponential trend, a habit that has got many more recent economists into error, notably the 1970s Club of Rome and the climate change maniacs. At least Jevons did not have the problem of exploding error terms (which invalidated the Club of Rome’s model, for example) since he was projecting by hand, with no computer making rounding errors.
Jevons’ obfuscation of economics was accompanied by a growth in the size of companies which removed those working in them from market forces. If you were working for Standard Oil, your employer monopolized the oil market, and so oil market trends mattered much less to your welfare than your political position within the corporation.
The 20th century exacerbated both these trends. Two world wars wrecked everybody’s welfare and gave governments infinite excuses to grab power and resources from the private sector – which grabs were never more than minimally reversed. They also wrecked the connections between resource needs and prices – in a war, most prices are fixed by government and many resources are rationed or unavailable. Thus, after two world wars, ordinary people’s understanding of economic realities and the price mechanism was much attenuated.
Economists themselves then got into the act, led by Maynard Keynes. They had an ideological dislike of the free market, which tended to regard oikish businessmen more generously than economists. They therefore concocted ever more fantastical schemes by which economists would allocate resources, with the advice of “experts” for the benefit of the hoi polloi, who need not bother their pretty heads about economic problems, too complicated for them to understand.
That is where we are now. While the total market takeover by “experts” propounded in the Soviet Union has been discredited, various price-fixing schemes have been implemented, which blur whatever realities remain from the market. At the extreme “Modern Monetary Theory” claims that the state can spend infinite amounts of money without bothering to raise the cash, and monetary policy can then be arranged to accommodate it. This seems to have been the theory behind the Biden administration’s budget deficits of $2 trillion and rising, which have sent the U.S, careening towards a future of debt default and impoverishment.
However, the “net zero” targets, which assume Germany can relinquish both Russian gas and its own coal, close down its nuclear power stations and still run a modern industrial economy reflect equal degrees of economic folly. Indeed, the whole theory propounded by Ben Bernanke, that interest rates can be managed by a benign Fed with no reference to the market, removes the economy from market mechanisms as surely as if it were being administered by GOSPLAN.
Besides the dozy theories of modern economists, there are many structural reasons why modern citizens’ economic understanding is far less reliable than that of their forebears. We have economic statistics, but they are misleading – GDP measures the whole of government output at cost, rather than at its much lower value, thereby inflating government-bloating periods like the New Deal, the World Wars and the Biden administration. Lawyers have made contracts far more incomprehensible even to the average educated person. The lawyers themselves spend most of their time working for governments, non-profits or corporate behemoths where market forces are notably absent.
The infinite multiplication of idiotic regulations, especially in Europe, has made large businesses unable to move without expensive legal advice and small businesses blocked out of the market altogether. Consultancies, like lawyers, make the straightforward as complicated as possible and, when they consult to the public sector, have no need to take their market into their calculations. As for nonprofits, their output is by definition not measured by profit and loss, yet they become an ever-expanding percentage of our sclerotic economy and an increasing drag on everything else – at least, removing their undue tax advantages should be a first order of business.
There are further factors tending to reduce economic understanding. The computer software sector, the main engine of growth in the last two decades, is subject to network effects, whereby by Metcalfe’s law the financial value or influence of a network is proportionate to the square of the number of users connected to it. Consequently, if you work for such a business, your salary, bonus and the value of your stock options are not subject to the ordinary laws of economics (which in any case do not apply to a business whose customers pay nothing) but instead are subject to Metcalfe’s Law. You either work for Google, Yahoo or AskJeeves; for Facebook, MySpace or Friendster and which employer you (probably randomly) pick initially determines your whole future. Conversely traditional manufacturing, where you make a physical product and its success determines your financial well-being, is far less common today and much of it is automated – there are few spindle-forgers like my ancestor.
Overall, as you would expect, the result has been a sharp slowdown in the number of startups, from 13% of all employers in 1978 to 8.9% in 2021, itself a COVID-related uptick from the previous year. With economic awareness among the population lower and the cost of regulation far higher, this should surprise nobody. However, it is extraordinary that a marked slowdown in startups should have coincided with a huge surge in venture capital, which from almost non-existent in the late 1970s reached an all-time historic peak in 2021, boosted by the ultra-low interest rates of that year. There are two possible conclusions: (i) either the private equity industry does not finance real startups, but only tech-related scams, and/or (ii) the business startup rate would be even lower without this gigantic bubble-subsidized lottery. Both could be true, of course.
Overall, it is difficult to see a solution to the progressive economic illiteracy of the populace. Sending everybody to economics courses would do no good – the economics professors vie with each other to produce the most misleading anti-market theories. Still, without some such renaissance, and the resurgence in business startups that it would produce, we are condemned to inevitable economic decline, with economic policy and the structure of the economy combining to make us ever poorer and more wasteful.
Maybe we could set up a system of blacksmiths, where young people would be compelled to work for six months, with their reward depending on the amount and value of output. As my ancestor “Gorge” proved, the value of the economic understanding thereby gained far exceeds that of mere literacy.
-0-
(The Bear’s Lair is a weekly column that is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that the proportion of “sell” recommendations put out by Wall Street houses remains far below that of “buy” recommendations. Accordingly, investors have an excess of positive information and very little negative information. The column thus takes the ursine view of life and the market, in the hope that it may be usefully different from what investors see elsewhere.)