Saturday, August 01, 2009

What Is Seen and What Is Not Seen

What is Seen and What is Not Seen is an essay written by Frederic Bastiat in July 1850. Before you discount this as an old idea remember that (1) Adam Smith laid down the foundations of our economy in 1776 with the Wealth of Nations and (2) good ideas never age and do survive the test of time.

Consider these first three paragraphs from Frederic Bastiat (then go read the rest):

"In the economic sphere an act, a habit, an institution, a law produces not only one effect, but a series of effects. Of these effects, the first alone is immediate; it appears simultaneously with its cause; it is seen. The other effects emerge only subsequently; they are not seen; we are fortunate if we foresee them.

"There is only one difference between a bad economist and a good one: the bad economist confines himself to the visible effect; the good economist takes into account both the effect that can be seen and those effects that must be foreseen.

"Yet this difference is tremendous; for it almost always happens that when the immediate consequence is favorable, the later consequences are disastrous, and vice versa. Whence it follows that the bad economist pursues a small present good that will be followed by a great evil to come, while the good economist pursues a great good to come, at the risk of a small present evil."

(You are going to go read the rest aren't you?)

Consider the heralded Cash for Clunkers passed this year to be effective to November, but ran out of money in just the first week. So the House has approved an additional 2 billion dollars bring the total to $3 billion dollars. What is seen? The consumers are diverted towards buying a new car and the dealers benefit from new car sales and the car industry receives an influx of cash that certainly helps them. What is unseen? The price of new cars are typically discounted in periods of slow sales and this props up the price. The trade in clunker is destroyed (see economist mom) and is denied to the used car market. And more, but first:

In the transaction to the above new car sales, there are three parties. (1) the consumer who buys the new car, (2) the seller of the new car, and (3) everyone else in the economy who is the "forgotten man." (The forgotten man is (3) above as first explained by William Graham Sumner also from the 1800s who wrote a lecture against progressives in defense of classical liberalism and as cited on pages 12 and 13 of Amity Shlaes The Forgotten Man.) We could list the government here, but I want to take up that later.

Before pursuing this consider two things that all economists teach in their classes: (1) incentives matter and (2) opportunity costs of things foregone are critical for understanding human behavior. The incentive here is I can pick up a hefty government sponsored rebate if I trade my clunker so I am more likely to buy a new car than other things because of the rebate. The opportunity cost if I do that is my money spent can not be used elsewhere harming for example new computer sales (as an example of spending foregone) or my retirement (if saving foregone).

So what is the unseen from the cash for clunkers. Here are some ideas.
(1) the consumer will:

  • reduce sales in other markets and industries harming sellers of items other than new cars.
  • reduce their savings for some item in the future or their "retirement."
  • not be purchasing a used car
  • be going into credit that may not have been the best idea for them in the absence of the government rebate.

(2) the auto sellers will:

  • not be selling used cars due to lower demand
  • will see a reduction of the supply of used cars since they have to be destroyed.
  • reduced demand and reduced supply of used cars may result in upward pressure on used car prices, but will definitely reduce revenue from sales of used cars.
  • if you are a used car seller without new cars to sell you just got killed.

(3) the "forgotten man" includes:

  • sellers of items that do not get purchased because consumers have bought new cars and if new car buyers take on more credit than they would have without the cash for clunkers then the effect on other markets may be not only large, but lasting for years
  • banks who do not get interest on the savings of consumers
  • children of new car buyers who get less gifts (if I buy a new car, there is less for my kid when he wants something.)
  • all of us who pay taxes used for this purpose and do not benefit directly from this transactions.
  • and a list of individuals who are demanders and suppliers in the society that do not receive and who may never even recognize that they have been harmed.

What about the role of government? Government can not enter a market without creating distortions. In this case, they distort by increasing the demand for new cars (arguably a good thing) and the markets have adjusted faster and more quickly than the "government" expected since they have run out of money in the first week and have no money for the next 2 months of the planned time period. But let's not forget that the same action that so many are lauding has also distorted other markets not immediately seen. Sometimes the harm not seen is worse than the good that is seen.

Bastiat suggests that we can learn from experience or from foresight. The former is easy, but brutal and rude, the latter turns out to be more gentle. Can we not learn to think through the economic problems and balance the seen with the unseen?

3 comments:

  1. Then there is the shameful waste of destroying productive assets. "Clunkers" is a terrible misnomer, hiding a perfectly good fleet of used cars. "Cash for Clunkers" is an environmental disaster. Scraping cars years before the end of their useful life is the height of profligate and wasteful consumption. The thousands of pounds of energy-intensive, highly-processed materials and advanced engineering equipment in cars is an enormous investment based on massive inputs of energy, mining, water, labor and materials. It makes no energy, environmental or economic sense to destroy the cars engines and render the investment useless years before the end of their useful life. The premise that buying a new car to get better gas mileage than a scraped car will save energy and be good for the environment is myopic and false when applied to scraped cars that would have had years of useful life. "Cash for Clunkers" is a net energy waster, and a colossal waste of resources.

    By disabling the engines and scraping perfectly good used cars, the "Cash for Clunkers" program is hurting the used cars industry and the poor and moderate income folks who can only afford used cars. The "Cash for Clunkers" is largely benefitting the haves and hurting the have-nots.

    Like a mind, a car is a terrible thing to waste.

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  2. I did some research and made a list of Pros and Cons to the Cash for Clunkers program. So far, it’s 6-Pro, 12-Con.

    http://www.CashForClunkersInstructions.com

    (And I added a video - Jon Stewart on Cash for Clunkers, for kicks)

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