Frédéric Bastiat (1801-1850)

Claude Frédéric Bastiat was born in Bayonne, France, on June 30, 1801, 207 years ago today.  The easiest way to depict him is as the French Adam Smith, a free-market advocate whose main weapons in debate were wit and satire.  In most economic textbooks, he is described as a "pamphleteer" touting free trade in particular, free enterprise more generally, and economic and political liberty.  I suppose today he would be considered a Classical Liberal or Libertarian, and he would be a frequent and very popular guest on CNBC's Kudlow and Company.

In 2001, I gave the keynote at a conference in Dax, France, celebrating Bastiat's 200^th birthday.  The title of my remarks was "Why Bastiat is My Hero."  I followed up with a piece in the Wall Street Journal, "In Praise of an Economic Revolutionary."  If you are interested — and you should be — click here for the speech and here for the article.

While Bastiat wrote over 200 years ago, his writing is just as fresh and his views are just as relevant today.  We need him.

His football record was 87 wins and 27 losses

       

Owner Sonny Seiler permitted me the honor of meeting UGA in his Savannah Office last January.

Sonny was the defense attorney in the trial depicted in Midnight in the Garden of Good and Evil. He played the judge in the movie.  Damn good man!

Tax policy is perhaps the most important issue in the coming Presidential election: whether to keep the Bush tax cuts, let them expire, or modify them.  If no action is taken, the tax rates on capital gains and dividends will rise automatically at the end of 2008 while the others will go up at the end of 2010.  Mr. McCain and most Republicans wish to keep the lower rates, and perhaps lower some others.  Mr. Obama and most Democrats apparently wish to allow the reduced rates to expire, especially those on higher income levels.

When the latest tax cuts were enacted in 2003, their sponsors never intended them to be temporary.  A sunset provision was needed to keep the scoring within certain legal limits, but everyone understood that the intention was to renew them.  To allow the cuts to expire is a tax increase, and its merits should be judged on that basis.

Although not often mentioned, the Laffer Curve, which shows the relationship between tax rates and tax revenue, is central to the tax debate.  Republican "supply siders" are the chief advocates of keeping the low rates where they are and possibly lowering other taxes as well.  Supply siders generally believe the Laffer Curve proposition that lower tax rates generate higher tax revenue; so to raise tax rates, or let them rise automatically, would not only hurt taxpayers, but would also, by depressing the economy, actually reduce the tax revenue raised by the government.  This would be especially true of the tax on capital gains and dividends where tax payers have some control over their realization.

The other side of the tax debate believes that the supply-side position is nonsense in general and that its intellectual core, the Laffer Curve, in particular, is a proven failure.  George Bush, the father, once famously labeled the supply side position, "Voodoo Economics."

There appears to be no middle ground in this debate because each side is engaged in "all or nothing thinking."  Laffer Curve predictions either work as advertised, or they don't.  Higher tax rates either lower tax revenue or raise tax revenue.  Each side thinks the other side just doesn't get it.

This great divide might not be so great if more people actually had a look at a Laffer curve such as the one below.  Although it's not clear how steep the slope of the curve should be, it is still rather obvious that whether tax collections rise or fall depends on where we are on the curve.  The higher the existing tax rate, the less revenue is likely to be generated by even higher rates.  At some point, the peak, higher rates will start producing lower revenue.

In a world of all or nothing thinking, it is unfortunate that the Laffer Curve was originally over-hyped.  It was advertised as allowing tax rate cuts to "pay for themselves."  That didn't happen completely, to a large extent because of higher government spending, especially on the military, so the budget deficit grew.  As a result, the critics declared the Laffer Curve a failure.

In a more rational world, the fact that it happened largely, if not completely, would be classified as a success, or, at least, a partial success.  All or nothing standards rarely produce successes of any sort.

Instead of arguing whether tax cuts work (pay for themselves) or not, the question should be to what degree they pay for themselves. How much disincentive is there in the present tax structure, and how can it be reduced?  Surely, even the tax increasers don't have maximum tax revenue as their goal.

All-or-nothing thinking is responsible for other needless irrationalities in the tax debate.  For example, one side says "the rich" are the main beneficiaries of the Bush tax cuts without acknowledging that those same rich still pay most of the taxes collected.  And they never acknowledge that many on the lower end of the income scale pay no income tax at all and that number was increased by the Bush tax cuts.  The Orwellian language used in these debates rose to a new level when the government giveaways in the recent stimulus were called "rebates."  Rebates of what?

Taxes are only one area where all or nothing thinking makes debate and rational policymaking more difficult:

In energy policy, it's said there is no policy because prices have risen, or because we are importing more oil, or because oil companies make too much profit or their executives are paid too much.  There is either the preferred outcome in all respects, or there is no policy.

All or nothing thinking bedevils monetary policy as well.  In the recent credit crunch, at first the Fed just didn't get it.  It should be reducing rates for heavens' sake.  Then, when rates were reduced, the Fed was pushing on a string, and ineffective.  When inflation rose, predictably, why did the Fed let that happen?  They pushed rates too low; now look what's happened to the dollar as a result.  Nowhere in the dialog can you find discussion of trade-offs, balancing objectives, or substantial successes.  Monetary policy either works, or it doesn't.  Apparently it doesn't.  Neither, in the view of the all-or-nothing crowd, does anything else.

Last night I revisited one of my old journals — an activity Randy Travis might call "Digging up Bones: exhuming things better left alone." I came across a page labeled "Bad Thinking Habits." Here are a few examples from my list.  I claim no originality.

*Choice of percentages vs. dollars.  [See my confession below.]

*All-or-nothing thinking.  [Stay tuned.]

*Confusing hindsight with foresight, or hindsight with insight.

*Being a slave to habits.

*Filtering out unwanted conclusions.

*Staying married to earlier positions.  (Being born to a belief; being a victim of history or family.)

*Focusing too much on arbitrary time segments (years, months, weeks) when time is continuous.

*Failing to account for diminishing marginal utility.

*Overgeneralization.

*Overly strong or weak time preference.

*Changing value of time vs. money

*Splitting the difference when inappropriate.

There are more in my list, but you get the idea.  See below for my confession regarding bad thinking habit number one.

Percentages vs. Dollars

I struggle with this type of bad thinking all the time, but my most memorable failure came in Seoul, Korea, in 1998.  I was there for a central banking conference, and one afternoon a couple of us went to a famous shopping district to look for bargains.  I found some beautiful silk ties that cost a fraction of what I was used to paying.  I bought only three, for $7.50 each, as I recall, the only three at that price that appealed to me.

They had more ties that appealed to me, but they were priced higher.  I believe they were $10.  I was torn, but in the end I just couldn't justify paying $10 when just-as-good ties cost only $7.50.  After all, that's a third more — 33.33% more. ("No McTavish was ever lavish." Ogden Nash.)

Needless to say, my perspective changed once I got home where my ties costs many times $10.  I had let percentages blind me to the dollar costs.  Dollars are real; percentages are abstract. From an economist's viewpoint, I'd also used the wrong opportunity cost.

That incident didn't cure me, of course.  Yesterday, I spent considerable time in the grocery story comparing the unit costs on cashews, trail mix, and candy, all of which probably came to about $10.  Perhaps that is an accurate reflection of the current value of my time.  At any rate, I bought an expensive mid-life-crisis sports car last year after giving price considerations about the same amount of time.  I should have listened to Benjamin Franklin's caution about being not being penny wise and pound foolish.

Footnote to the Korean trip:  I returned via Tokyo on Japan Airlines. When I plugged my earphones into the seat outlet, guess what was playing:  Elvis's 1968 Comeback Special.  Is this a great country world, or what!

Bear Wasn't a Bailout

Don't Second Guess Fed

"Hey Dad, Look at Me"

Me with my sons circa mid-1960s

"Hey Dad, look at me."  That's what dads are for.  You go to dad when you're right proud of yourself.  "Look, Dad, no hands."  "Hey Dad, I made the team."  "We won the game, Dad."

Recently, on an international trip, I had two firsts.  I sent e-mails from the airport in Zurich, and I plugged my laptop into a power outlet on the airplane.  Even though I was a few years late and way behind the curve in such matters, I felt the urge to tell my dad what I had done.  He is long gone, but he couldn't have related to my accomplishments anyway.  He never would have been part of the New Economy, and he never would have owned a laptop or any of its other toys.  But I could have told him it was a big deal, and he would have believed me.  And he would have been proud of me.  Dads are proud of their sons.  It's part of their job description, and it's what sons strive for.

There are no good substitutes for dads.  All my friends with laptops would not have been impressed.  They've all been there and done that, years ago.  My other friends would have not been impressed either — for opposite reasons.

My dad attended some of my high school basketball games.  He didn't know much about basketball and cared less.  But he was proud of me.  Mostly, he was proud that the bigger guys didn't knock me off my feet.  I wasn't that good, but I held my ground — on my feet.  Dads like that.

Until he died, my biggest dread was that he would die.  I used to dream about it.  They were nightmares.  Now that he's gone, I still dream about him.  In my dreams, he still lives.  And I'm still trying to make him proud.

In reading Alan Greenspan's book recently, I was reminded once again that nothing is new under the sun.  I'm embarrassed to admit that I did not recall the term "Dutch disease," which is a label that fits my "original" insight pretty well.

According to Greenspan the term was coined by The Economist in the 1970s "to describe the travails of manufacturers in the Netherlands after the discovery there of natural gas.  Dutch disease strikes when foreign demand for an export drives up the exchange value of the exporting country's currency.  This increase in the currency's value makes the nation's other export products less competitive."

So there! While I was intrigued with the coincidence of finding a name for a phenomenon I was struggling to describe, the term is usually associated with — as was the case with Greenspan — the role of natural resources in economic growth.  As he put it on page 257 of his book,

     "Paradoxically, most analysts conclude that, particularly in developing countries, natural-resource bonanzas tend to reduce rather than enhance living standards." 

In addition to the impact of Dutch disease on other exportable goods or services, there appears to be a stifling of productivity and hard work when wealth is found underground.  It reminds me of Dolly Parton-who else?-who said she was lucky enough to be born poor.

While any movement in the dollar helps some people and industries and hurts others, the consensus is that the combination of winners and losers created by a strong dollar is ideal.  My efforts to remind people of the need to use our temporarily "weak" dollar to reduce our humongous trade deficit and provide stimulus to a weak economy as well as slow the foreign accumulation of dollar assets haven't produced any kudos.  One reason, I believe, is my rookie's mistake in using the term "weak."  Since then, I happened to see Marty Feldstein on TV making similar points to mine, which pleased me greatly since I believe him to be at the top of the profession.  However, he wasn't touting a "weak" dollar; he was describing the advantages just now of a "competitive" dollar.  And, to think, I've read Frank Luntz's excellent book, Words that Work.  Hey, guys, I meant a competitive dollar.

Of course, as I attempted to demonstrate in my blog posting on the Big Mac Index, the dollar is not easily characterized as weak or strong, as competitive or not competitive.  It's weak, and increasingly competitive, against the Euro, but strong against many other currencies, particularly Asian countries.  I guess what I meant was that capital inflows had prevented its depreciation from correcting the trade balance.  I still think it's fortunate that that has changed somewhat recently and that the smaller drag on GDP from the foreign trade sector is keeping us out of recession.  So far!  The correction has begun and the dollar can gradually climb back to its lofty heights on the sounder basis of more balanced trade.