Ideas On Liberty October 1999 Vol. 49, No. 10

, 8 The "Berry Bikes": A Lesson in Private Property by DanielL. Alban and E. Frank Stephenson 10 The Encryption Scramble by Claude V. Z. Morgan 14 Bought and Sold: Drug Warriors and the Media by Paul Armentano 19 Wilhelm Ropke: A Centenary Appreciation by Richard M Ebeling 27 My Barbers by Joseph S. Fulda 31 Money and Gold in the 1920s and 1930s: An Austrian View by Joseph T. Salerno 43 Market Money and Free Banking by Bettina Bien· Greaves

4 THOUGHTS on FREEDOM-Who's "Locked In" to What? by Donald J. Boudreaux , 17 IDEAS and CONSEQUENCES-Where Are the Omelets? by Lawrence W. Reed 25 POTOMAC PRINCIPLES-Health Care: Over the Canadian Cliff? by Doug Bandow 29 PERIPATETICS-The Love of Economics by Sheldon Richman , 41 ECONOMIC NOTIONS-Comparative Advantage by Dwight R. Lee 51 ECONOMICS on TRIAL-Chicago Gun Show by Mark Skousen 63 THE PURSUIT of HAPPINESS-Conflicting Visions by Walter E. Williams

2 Perspective-Ever Striving by Sheldon Richman 6 Legalized Theft Is Good for the Poor? It Just Ain't So! by Thomas J. DiLorenzo 50 Capital Letters 53 Book Reviews The Great Philanthropists and the Problem of "Donor Intent" by Martin Morse Wooster, reviewed by George C. Leef; The Crisis of Global Capitalism by George Soros, reviewed by Brink Lindsey; Nixon's Economy: Booms, Busts, Dollars, and Votes by Allen 1. Matusow, reviewed by David L. Littmann; To Serve and Protect: Privatization and Community in Criminal Justice by Bruce Benson, reviewed by Morgan O. Reynolds; Seeing Like a State: How Certain Schemes to Improve the Human Condition Have Failed by James C. Scott, reviewed by Aaron Steelman; Silencing Science by Steven Milloy and Michael Gough, reviewed by Kenneth Silber; Staring into Chaos: Explorations in the Decline ofWestern Civilization by B. G. Brander, reviewed by Gleaves Whitney. THE

F'EEMANIdeas On Liberty Ever Striving Published by The Foundation for Economic Education It is not "mere theory" to say that entrepre­ Irvington-on-Hudson, NY 10533 neurs, lured by the prospect of pure profit, Phone (914) 591-7230 FAX (914) 591-8910 constantly strive to make our lives better. It E-mail: [email protected] FEE Home Page: http://www.fee.org happens somewhere every moment ofthe day, usually out ofsight. It is so ubiquitous we take President: Donald 1. Boudreaux it for granted. Editor: Sheldon Richman One of the most fascinating lectures I ever Managing Editor: Beth A. Hoffman heard was about how the Coca-Cola Company Editor Emeritus Paul L. Poirot works assiduously to make cans and bottles Book Review Editor with fewer materials and less energy. A few George C. Leef decades ago, only an arrogant he-man could Editorial Assistant crush a can against his head. Today, a 90­ Mary Ann Murphy pound weakling can do it. As a result ofCoca­ Columnists Charles W. Baird Cola's efforts, we have lighter containers and Doug Bandow more resources for other things that enhance Dwight R. Lee our lives. (Why environmentalists think busi­ Lawrence W. Reed ness has an interest in using more resources Russell Roberts than necessary continues to mystify me. Are Mark Skousen businessmen "greedy" or not?) Thomas Szasz Walter Williams Now comes news that Hewlett-Packard is Contributing Editors developing computer parts the size of-hold Peter J. Boettke on-molecules. According to researchers, Clarence B. Carson we could someday have computers 100 bil­ Thomas J. DiLorenzo lion (that's not a typo) times faster than the Burton W. Folsom, Jf. Joseph S. Fulda best personal computers available today. (Pre­ Bettina Bien Greaves diction: We'll still be impatient.) Not only Robert Higgs that, these computers will be cheap. John John Hospers Markoff ofthe New York Times writes that the Raymond J. Keating researchers "envision a world in which super­ Daniel B. Klein computing power is so pervasive and inexpen­ Wendy McElroy Tibor R. Machan sive that it literally becomes an integral part of Ronald Nash every man-made object." Edmund A. Opitz Markoff explains that today's computer James L. Payne technology is limited by the wavelength of William H. Peterson light, which is used to create integrated cir­ Jane S. Shaw cuits on silicon chips. But the research team Richard H. Timberlake Lawrence H. White "has found a way to build circuits using chem­ ical processes rather than light, making the The Freeman is the monthly publication of The Foundation for Eco­ nomic Education, Inc., Irvington-on-Hudson, NY 10533. FEE, switches as small as a molecule," Markoff established in 1946 by Leonard E. Read, is a non-political, educational champion of private property, the free market, and limited government. writes. "As a result, the researchers believe FEE is classified as a 26 USC 501(c)(3) tax-exempt organization. that they can make components for future Copyright © 1999 by The Foundation for Economic Education. Per­ mission is granted to reprint any article in this issue, provided credit is computers several orders of magnitude tinier given and two copies of the reprinted material are sent to FEE. The costs of Foundation projects and services are met through dona­ than today's smallest transistors." tions, which are invited in any amount. Donors of $30.00 or more receive a subscription to The Freeman. For delivery outside the United The smaller integrated circuits will work States: $45.00 to Canada; $55.00 to all other countries. Student sub­ much faster and use less electricity. The mar­ scriptions are $10.00 for the nine-month academic year; $5.00 per semester. Additional copies ofthis issue of The Freeman are $3.00 each. ginal cost of production will approach zero. Bound volumes of The Freeman are available from The Foundation for calendar years 1972 to date. The Freeman is available in microform Researchers say such tiny computers will per- from University Microfilms, 300 N. Zeeb Rd., Ann Arbor, MI 48106. 2 mit vast increases in the storage ofdata. But it attention one of the intellectual heroes of our gets more exciting than that. Markoff reports time. that they "could create a new class of 'Fantas­ At the center of capitalism is the entrepre­ tic Voyage'-style machines, like sensors trav­ neur. While big entrepreneurs like Microsoft's eling within a person's bloodstream, issuing Bill Gates and Wendy's Dave Thomas get lots alerts if health problems are encountered." of attention, little ones, like the barber on the Who can predict what other valuable services comer, are usually taken for granted. Joseph they will render? Fulda pays proper tribute. Scientific problems remain to be solved, Did the Federal Reserve expand or restrain and it will be several years before the tiny the supply of money in the fateful 1920s computers become consumer products, but before the stock market crash and Great we'll be hearing more about this. Watch for the Depression? In recent months, Richard Tim­ term "moletronics" (molecular electronics). berlake argued in these pages that the Fed Isn't capitalism wonderful? practiced restraint to a fault. In a rebuttal this month, Joseph Salerno argues that the Fed *** was the engine of inflation that wrecked the American economy and paved the way for the It seemed liked a good idea. At a small, iso­ New Deal. lated private college, students were invited to Understanding the Fed and the depression use any of 20 collectively owned bicycles to requires an understanding of the nature of get around campus. What could go wrong? money. Bettina Bien Greaves offers a primer Plenty, write Daniel Alban and E. Frank in the tradition ofLudwig von Mises. Stephenson in their story of the relationship In our columns this month Donald between private property and responsibility. Boudreaux discusses government, markets, The Clinton administration wants to make and the real source of "inefficient lock-in"; sure it can unscramble your encrypted e-mail Lawrence Reed asks where the omelets are; and computer files. That requires controls on Doug Bandow documents the Medicare security programs that the government can't nightmare; Dwight Lee takes up the law of crack. Claude Morgan has a status report on comparative advantage; Mark Skousen aims this latest power grab. at gun control; and Walter Williams identi­ The "war on drugs" has eroded property fies a conflict of visions. Thomas DiLorenzo, rights and a host ofwhat are called civilliber­ contemplating the alleged need for the gov­ ties. Now it even jeopardizes freedom of the ernment to give away other people's money, press. Paul Armentano demonstrates that in declares: "It Just Ain't So!" the name ofkeeping young people from using In the book section, reviewers evaluate drugs, the federal government is undermining works on philanthropic foundations gone the integrity ofthe news media. astray, George Soros's lament about global Wilhelm Ropke, an important German capitalism, Nixon's economic record, crimi­ classical liberal during the darkest days ofthe nal justice, the conduct of states, attempts to twentieth century, would have been 100 years impede scientific progress, and the literature of old this month. Richard Ebeling's apprecia­ the decline ofWestern civilization. tion of Ropke's life and work brings to our -SHELDON RICHMAN

3 by Donald J. Boudreaux

Who's "Locked In" to What?

oliticians and bureaucrats are prone to New Justification for Poveremphasize problems with the world Government Activism and to propose command-and-control "solu­ tions." Economists, sad to say, have aided and But government's thirst for power is abetted that mindset with a series of suspect unquenchable, .as is the willingness of some theories of how markets are doomed to per­ economists to provide intellectual cover for form inadequately. regulatory activism. Evidence of how such Thankfully, not all economists have played activism is bolstered by new theories is the this game. Many ofthe better ones have done current antitrust case against Microsoft. Crit­ outstanding research showing that free mar­ ical to this case is the government's charge kets consistently deliver maximum value. that consumers continue to purchase For example, while most economists 50 Microsoft software only because they are years ago were convinced that only vigorous "locked in" to these products. antitrust enforcement could keep industries The allegation is that most consumers want from becoming monopolized, far fewer econ­ to purchase software from other suppliers, but omists today hold such a belief. One reason Microsoft's very dominance locks these con­ for this change is that a handful of sumers into its products, now and forever. researchers during the mid-century wisely re­ After all, the story goes, because a great examined the theoretical grounds supporting majority of other computers currently use antitrust. (Aaron Director, Milton Friedman's Microsoft's Windows operating system, it brother-in-law, deserves special recognition doesn't pay for you-to buy another software­ for conveying to countless law students a maker's less-expensiye or technically superior deep understanding ofhow free markets keep operating system. If you did, your computer unregulated industries from becoming couldn't communicate with all those many monopolized.) But another reason is that­ others that use Windows. guided by these better theories-other The market, therefore, locks consumers researchers found persuasive evidence that into products and suppliers that by right ought the market doggedly resists monopolization. to lose their market shares to firms offering Faced with solid evidence of the robustness superior deals. Naturally, the story concludes of unregulated markets, most economists with the assertion that such inefficient "lock­ grew appropriately skeptical of claims that in" is a widespread threat in markets and that markets are prone to monopolization. The only government can spring consumers from perceived need for antitrust enforcement these traps. declined. This "lock-in" theory is dead wrong. Anyone who cares to look will discover the Donald J. Boudreaux is president ofFEE. incredible entrepreneurial dynamism that has 4 long characterized our market economy. Ifthe was shown recently by Professors Richard "inefficient lock-in" tale were true, we would McKenzie and Dwight Lee, who calculated all still be listening to AM radio, for no one that a 38-year-old worker today, earning no would have built an PM transmitter when vir­ more than $40,000 annually, must live to be tually no one owned an FM receiver. And no 143 years old before getting as good a return one would have bought an FM receiver when as he would by investing. And a worker ofthe virtually no one broadcast FM signals. Like­ same age earning at least $68,400 per year has wise for color televisions. And for CD play­ to pray for true earthly immortality, for only if ers. (I recall a conversation during the early he or she lives forever will Social Security 1980s with a fellow graduate student who pay off.2 insisted that compact-disc recordings would Social Security has long been known to be never catch on because too many people disastrous for young people. No sensible per­ owned vinyl LPs. I hope he isn't now an son would today voluntarily join this system. investment adviser.) In each ofthese cases, the But join they must. The reason is that Social market smoothly performed the complex task Security-by its very existence, by the fact ofcoordinating the switch by millions ofpeo­ that it transfers wealth from the many to the ple from a less desirable to a more desirable few-has created its own hardcore con­ product standard. stituency who benefits directly from its forced Not surprisingly, there's no evidence that continuation. Because ofthe gargantuan polit­ the market dynamism that assured substantial ical clout of today's Social Security recipi­ progress for consumers in the past isn't work­ ents, Americans are locked into this nefarious ing now in the computer industry. In a thor­ scheme. oughly researched new book, economists Stan Of course, there are good people working Liebowitz and Stephen Margolis document now to help liberate Americans from the not only how the market has never been inef­ Social Security trap. (For two excellent ficiently locked into old technologies or prod­ efforts, see www.socialsecurity.org and ucts, but also that Microsoft owes its current www.praonline.org.) These efforts, though, success to its consistency in offering quality ultimately require politicians to release citi­ deals to consumers. 1 zens from Social Security. Perhaps it will hap­ pen. I'm hopeful. But no significant scale-back in govern­ Stuck with Government ment power can occur until large numbers of Ironically, those who demand that govern­ people are educated and mobilized to support ment police against inefficient lock-in are the change. In contrast, inferior products and oblivious to the fact that it is government, not programs supplied by the market are assured­ the market, that locks people into bad situa­ ly and quickly doomed. No political consen­ tions. Once created, government power sel­ sus is necessary to free consumers from unre­ dom disappears. Statutes, regulations, and sponsive suppliers. All it takes in the market is bureaucracies remain cemented in place long a creative idea, entrepreneurial gumption, and after their original justifications have evaporat­ consumers who recognize superior bargains. ed. In short, government-not the market-is If government is to launch a campaign the principal source ofinefficient lock-in. against programs, products, and institutions Consider, for example, one of America's that are protected from competition-"locked most regrettable government programs: in"-it had best look in the mirror. D Social Security. Aside from those with naked 1. Stan J. Liebowitz and Stephen E. Margolis, Winners, Losers, political or material stakes in this deluxe and Microsoft (Oakland, Calif.: The Independent Institute, 1999). boondoggle, no one today argues that it 2. Richard B. McKenzie and Dwight R. Lee, "Security in Old Age-and We Mean Old Age," Wall Street Journal, June 17, 1998, works. That argument would be ludicrous-as p.AI6.

5 Legalized Theft Is Good for nomic success and should be imitated by the the Poor? United States. Now that the Japanese system has collapsed in a sea ofcorruption and bank­ ruptcy, Reich is silent on the issue. The late Murray Rothbard once asked Lud­ wig von Mises if he thought there was one It Just Ain't So! single thing that designated an economy as primarily capitalist. Mises's response was yes, a vigorous private capital market. For it is ormer u.s. Secretary of Labor Robert capital markets that facilitate the constant F Reich spent the 1980s at Harvard's reallocation of capital, guided by consumer Kennedy School of Government spreading sovereignty, in a capitalist economy. So, natu­ lies in the service of socialism. Not socialism rally, Reich next wrote a book and a series of as government ownership of the means of magazine articles criticizing private capital production but rather, as F. A. Hayek defined markets as essentially useless, part ofa "paper it in The Road to Serfdom, "chiefly the exten­ economy" that supposedly adds nothing to sive redistribution of incomes through taxa­ production. tion and the institutions of the welfare state." He's at it again now that he's back in academe The Latest Crusade as a professor of social and economic policy at Brandeis University. In a May 16, 1999, Washington Post article Reich began the decade ofthe '80s writing titled "To Lift All Boats," Reich is back to his books and articles with the Marxist economist old tricks. This time he endorses the Clinton Barry Bluestone about the "deindustrializa­ administration's scheme to use tax dollars to tion ofAmerica," which, in their view, could set up "Universal Savings Accounts" worth only be stopped by the introduction ofcentral up to $2,000 for citizens with incomes under planning, euphemistically called "industrial $40,000 per year. Another variant of this policy." ButAmerica wasn't deindustrializing. scheme that Reich writes approvingly of is In a 1984 study published by the Heritage Senator Bob Kerrey's plan to give each new­ Foundation, I showed that the U.S. Commerce born child $1,000 in tax money, along with Department's Index of Manufacturing was at $500 per year every year until age 21, to be an all-time high, and that manufacturing as a deposited in a government-operated "savings percentage of GDP was about the same in account." Then there's Yale Law School's 1980 as it was in 1950. American industry Bruce Ackerman, who favors giving every 21­ was evolving, as it always has, but it wasn't year-old $80,000 of someone else's hard­ disappearing. earned income, no questions asked. This latter Then came the myth of the "great U-turn" proposal really gets Reich excited. It can be in wages, with the average worker allegedly funded, he says, with a mere "2 percent suffering a decline in wages and living stan­ wealth tax on the wealthiest 40 percent of dards. This myth was debunked by Richard Americans." That's any family with an annual McKenzie, who showed that if one considers income ofmore than $40,000 per year, hardly total employee compensation, and not just what one would consider to be "wealthy." (For wages, there is no "U-turn." those who believe the tax rate under such a Reich and Ira Magaziner also championed scheme would remain at 2 percent, I've got the view that the Japanese system of crony some oceanfront property in Arizona I'd like capitalism was the key to that country's eco- to sell you.) 6 7

All these socialistic share-the-wealth plans by people's desire to better themselves finan­ are based on profound economic ignorance. cially and materially. Giving some of them The most fundamental problem is a problem something for nothing, as Reich's proposal ofsocialism generally, as Mises pointed out in does, can only diminish that incentive. his 1922 classic, Socialism: "The socialist In their book, Myths of Rich and Poor, community is characterized by the fact that in Michael Cox and Richard AIm examine a it there is no connection between production sample of more than 50,000 Americans from and distribution. The magnitude of the share all socioeconomic backgrounds whose [of income] which is assigned for the use of incomes have been tracked for more than 20 each citizen is quite independent ofthe value years. They found that those who started out ofthe service he renders." in the bottom fifth of income earners in 1975 Reich's share-the-wealth plans are just gained more than four times the income by another "entitlement" (to other people's 1991 than did the top fifth in 1975. In a money) that will continue to destroy the work dynamic, capitalist economy the "rich" may ethic by paying people for not working. Since get richer, but the "poor" do even better. economic reward is divorced from one's ser­ Reich argues that the enormous flow of vice to consumers, the principle is the antithe­ funds into the stock market in recent years sis of how a market economy works. Reich, doesn't seem to have benefited "the bottom however, absurdly claims that it would expand 30 percent" very much. But those funds have "the benefits ofa market economy." financed the capital expansion and job cre­ It would induce people to save less on their ation that have made the U. S. economy the own, just as Social Security does. But once envy of the world. The "bottom 30 percent" again, Reich gets everything backwards, argu­ has benefited as much as anyone, if not ing that it would "encourage saving." In reali­ more. ty, the reduced savings rate .would diminish Reich's share-the-wealth plan is nothing but the rate of capital accumulation and reduce another Ponzi scheme, not unlike Social economic growth. The annual cost ofthe pro­ Security, that is designed to help politicians grams, which would run in the tens ofbillions buy the votes of a majority (the "bottom 60 of dollars, would in itself depress the private percent") by taxing a minority. As Rothbard sector because the opportunity cost of such wrote in The Ethics ofLiberty, "the State is programs is returning those tax dollars to their a coercive criminal organization that sub­ rightful owners, the people who earned them. sists by a regularized large-scale system of taxation-theft, and which gets away with it by Static View engineering the support of a majority ... through securing an alliance with a group of Reich's case is based on a static view ofthe opinion-moulding intellectuals whom it economy and the old socialist canard that there rewards with a share in its power and pelf." is a "lump" ofwealth out there: if one person Professor Reich, take a bow. has more, others must have less. But the econ­ -THOMAS J. DILORENZO omy is dynamic; there is great mobility in a Professor ofEconomics capitalist economy, and that mobility is driven Loyola College, Maryland 'Economies

The "Berry Bikes": A Lesson in Private Property by Daniel L. Alban and E. Frank Stephenson

erry College is a private college located tions, many of which are campus religious Bon a large campus adjacent to Rome, groups. Observers report a tendency for stu­ Georgia. In March 1998, the Berry College dents there to split the difference during in­ Student Government Association (SGA) used class market simulation exercises, rather than student activity funds to purchase 20 bicycles compete to maximize personal gain, suggest­ for student use on campus. ing that Berry students are not unusually self­ The bright red bicycles, each with an iden­ centered. tifying plate reading "Berry Bike," were avail­ Moreover, the student body is relatively able to all students on a "first-come, first­ small. Anyone who abused a bicycle could be served" basis, making them a common prop­ readily identified, and the students harmed by erty resource. In spite of the relatively having bicycles mistreated would not be favorable environment for common-property strangers. These factors would presumably bicycles at Berry, it took less than two months deter would-be vandals. Finally, and directly for many of the bikes to be lost, stolen, or pertinent, privately owned bicycles were not abused. This story illustrates the importance being lost or abused. of private property rights and the folly of common property. Dismal Results The SGA purchased 20 Schwinn Cruiser bicycles for $190 each. The rationale for Unfortunately, the results ofthe Berry bike spending student fees was that the distance project were dismal. It took little time for the between some buildings on campus made get­ misuse of the bicycles to become evident. ting to classes on time difficult. Several fac­ Writing in the April 2, 1998, Campus Carrier, tors would seem to favor the plan. The cam­ student Liz Hill reported that "Chains have pus is relatively self-contained; it is unlikely been broken, tires punctured, handlebars bent, that townspeople would enter college proper­ and seats tom" after "only a couple ofweeks." ty to use the bikes or that students would ride Recognizing the underlying cause ofthe mis­ them off campus where they could be aban­ treatment, Hill implored students to "treat the doned, lost, or stolen. Berry students probably bikes as ifthey were your own property." Evi­ have a more cooperative ethic than students at dently, her column spurred little change. many other colleges. For example, there is rel­ On April 21, SGA President M. Lynsey atively high participation in student organiza- Morris e-mailed all students that "It has come to our attention here in the SGA office that Daniel Alban is a senior with an interdisciplinary major at Berry College, in Mount Berry, Georgia. many students are failing to take care of the Frank Stephenson is an assistantprofessor ofeconom­ Berry Bikes.... These bicycles are top qual­ ics in Berry College's Campbell School ofBusiness. ity and should not be bending and breaking 8 9

the way they are. The [SGA] officers and nature and Berry students' respect for proper­ other students have seen many people riding ty." Was that the problem? Or was it that the the bikes at absurd speeds, doing tricks, and SGA did not understand the role of incen­ just abusing the bicycles in general." She too tives? Only a month into the new semester, requested that students "treat [the bikes] as the SGA suspended the program with the you would your personal property." Morris's intention of leasing the remaining bicycles to appeal apparently met with little success; a students on a semester-by-semester basis, survey at the end ofthe semester revealed that thereby alleviating the problems associated four ofthe 20 bikes were lost or stolen and 11 with common-property resources. were in a state of disrepair-a 75 percent Although it may seem cynical or impolitic casualty rate in a mere two months. to point out the failure ofthe project, we think Undeterred, the SGA had the bicycles just the opposite. A primary goal ofcollege is repaired over the summer recess and resumed for students to learn, both in and out of the the program in the fall. It soon became appar­ classroom. At a cost of about $2 out of each ent that the abuse would continue. The Sep­ student's activity fees, the failed Berry bike tember 10 Campus Carrier editorialized experiment provides an inexpensive example about "mangled corpses of twisted red metal ofthe "tragedy ofthe commons" that students that lie about campus" and concluded that can remember vividly for the rest of their "Perhaps SGA put too much trust in human lives. D The Encryption Scramble by Claude V Z. Morgan

hen law professor Peter Junger penned world market that they are currently growing W a small computer program for his at two-and-a-half times the rate of other U.S. computer-law class at Case Western Reserve industrial sectors. But hampered by the cur­ University School of Law, he never dreamed rent regulations, they have so far managed to he'd be battling the U.S. Commerce Depart­ win only a meager portion of the world's ment for the right to post it on his Web site. booming encryption software market. In 1997 the Commerce Department Critics of the Clinton administration's informed Junger that he would need a special communications and technology policies munitions export license to publish "Fid­ charge that backward export regulations are dle"-a small encryption program that scram­ blocking the industry from competing in the bles computer files into gibberish-over the world market. Furthermore, they say, lagging Internet. "When I realized that I could not behind in encryption sales isn't just about publish my little program, or any other losing profits, it's about undermining nation­ encryption program, without asking for per­ al security. mission from the bureaucrats," he says, "I was shocked and angry." Protecting Data Junger sued the Commerce Department for violating his First Amendment rights-the "Encryption really is the backbone ofeffec­ fifth freedom-of-speech case filed against the tive privacy on the Internet," says Linda department in as many years. As he argues Bloss-Baum, manager of public policy at the that "Fiddle" is protected speech, U.S. soft­ Business Software Alliance (BSA), a public­ ware makers gather at the sidelines to await policy group representing 17 leading U.S. the outcome of his case. They say that the software makers. By converting data in files very same export regulations that prevent to gibberish and requiring mathematical Junger from posting "Fiddle" on the Net "keys" to unlock them, encryption products could cost their industry as much as $60 bil­ have protected sensitive data from unautho­ lion and 200,000 high-end jobs by next year. rized users since the earliest days of comput­ Domestic software makers currently com­ ing, says Bloss-Baum. mand 70 percent ofthe world's software mar­ Encryption guards flight-control data, tele­ ket, with sales that topped $135 billion at phone networks, and power grids from home and abroad in 1997 alone. In fact, U.S. mishaps and sabotage. It cloaks online finan­ software makers are so adroit at capturing the cial transactions, trade secrets, and sensitive business and military data. It can also be used Claude Morgan writes on culture and technology to scramble telephone calls and e-mail. In from his home in Portland, Maine. fact, Bloss-Baum says, "without strong encryp- 10 11 tion, anyone would be able to break into your Banisar, who recently gained national notori­ files and gain access to your identity." ety spearheading a boycott against the Intel But if encryption software protects sensi­ Corporation for loading its new chip, the Pen­ tive data from saboteurs and high-tech mis­ tium III, with trail-blazing serial numbers. chief-makers, it can also be used to conceal "From a social and ethical standpoint," he that information from law-enforcement agen­ says, "the concept that your communication cies, the Clinton administration argues. Citing should never be private, but subject to the national security and endorsements from the whims of government, turns the basic princi­ National Security Agency (NSA) and FBI pIes of free speech and privacy on their director Louis Freeh, the administration in heads." 1996 banned the export of all "strong" encryption software and technology to U.S. Impeding the Market subsidiaries, trading partners, and all foreign markets. The administration defined "strong" That's not the only principle turned upside encryption as any software with key lengths down, Bloss-Baum says. Current regulations of 40 bits or more. (Each bit represents an prohibit American companies from compet­ order of magnitude in the complexity of the ing against foreign firms. "There are a lot of decoding key.) 128-bit products already out there in the mar­ Domestic sales and the domestic use of ketplace," she says. "Products are being man­ strong encryption remain exempt from Com­ ufactured by foreign providers in countries merce Department regulations. Banks and that have no export controls on how long the other financial institutions have been given bit-strength is on their encryption." Because special dispensations to glide the Internet that technology is already widely available, safely with strong encryption. she says, American companies should be The administration only briefly considered allowed to compete with the same types of raising the export bar to 56 bits when a grad­ products. uate student cracked the 40-bit code in three­ More than 900 software makers in nearly and-a-half hours using simple desktop com­ 70 countries currently produce and market puters. After similar demonstrations and strong encryption software. Foreign competi­ pressure from high-tech industry, the admin­ tors also produce "patches" and "plug-ins" to istration presented software makers with this boost weak encryption exports from the Unit­ proposal: Software stronger than 56 bits can ed States. be exported to friendly nations only after a Bloss-Baum, who has been lobbying Con­ Commerce Department review and only ifthe gress to lift the ban on encryption exports for code-breaking key can be held in "escrow" by three years, says that most U.S. intelligence a government-authorized third party. This so­ agencies support industry's position that called "key recovery," or "key escrow," plan encryption software can be widely and safely would allow law-enforcement agencies to distributed. She, Banisar, and others point fin­ obtain keys from escrow agents in much the gers at Louis Freeh for driving the adminis­ same way that police currently obtain evi­ tration's policy into its current regulatory dence through search warrants or wiretaps. waters. So far, the plan has won few friends among "The law enforcement argument has been industry, public-interest groups, or private cit­ wagging the Administration's whole Internet izens. The key recovery plan is riddled with policy," says Alan Davidson, counsel for administrative and ethical flaws, says David the Center for Democracy and Technology Banisar, policy director at the Electronic Pri­ (CDT), a nonprofit public-research group pro­ vacy Information Center. It calls for central­ moting constitutional liberties on the Internet. ized databases-places to store keys-that Davidson argues that a lack of security and would make appealing targets. Key recovery privacy actually slows economic growth on is therefore a bad strategy that jeopardizes the Net, leaving consumers distrustful and national as well as corporate security, says U.S. technology and infrastructure vulnerable. 12 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999

"There are serious inconsistencies between As to more serious programs, they are all the administration's free-market version ofthe available on Web sites outside the United Internet and the administration's law enforce­ States anyway, so allowing their publication ment version," says Davidson. "Encryption is on Web sites within the United States could only the most glaring example." not possibly endanger any United States Davidson believes that the export controls security interest." are destined to fail because ideas cannot be stopped at the border. "People have good encryption outside of the U.S. and they're Government Waffiing going to keep having that," he says. "Key Since April 1996 the administration has recovery is a real problem because it builds a waffled on its export policy at least four times, backdoor that people don't like, and thatjeop­ amending, changing, updating, even reversing ardizes their privacy. As a whole, the policy the Commerce Department's complicated really leaves people without the tools they application process. Loopholes in the regula­ need to protect themselves on the Internet." tions make it possible to export strong Vulnerability has never appealed to the pio­ encryption software, says Banisar. But that neers of the Internet. As early as 1990, Net­ process can be expensive. Software makers surfers began inventing their own tools to must document that they are trying to comply shield themselves from observation. with the key recovery plan before export In 1990, Phillip Zimmermann, a Denver­ licenses are granted. based software engineer, wrote a small but Loopholes have led to skirting the law. Net­ powerful encryption program called Pretty work Associates, the current distributor of Good Privacy (PGP) and distributed it to PGP and popular software like the McAfee friends. The program found its way onto the anti-virus programs, exports PGP's 6,000 World Wide Web in 1991, and the Commerce pages of raw binary code to a Swiss sub­ Department found its way to Zimmermann in sidiary, which then compiles, packages, and 1993. sells it to foreign markets. That's legal. Yet He became the focus of a two-and-a-half­ U.S. regulations forbid the California-based year Justice Department investigation during company from e-mailing the small compiled which he gained cyber-folk-hero status, as program abroad. well as a $35 million offer from a leading But using loopholes and complying with software maker to purchase and distribute regulations are too expensive, software mak­ PG~ Zimmerman fought the Justice Depart­ ers say. The regulations are opaque, and the ment's charges, which were dropped unex­ review process often runs late. Foreign manu­ pectedly in 1996. facturers are not bound by similar restraints. In 1995, university professor Daniel Bern­ It's not just encryption software like PGP stein filed suit against the government for pro­ that gets snared by the regulations, says hibiting him from publishing "Snuffle," Bloss-Baum. Mass-market software like another homemade encryption program. A Lotus Notes and Microsoft Word have federal judge ruled in favor of his First encryption capabilities built into them for the Amendment suit in 1997. The government domestic market. "So those parts ofthese pro­ promptly appealed, but in May the Ninth Cir­ grams would also be subject to the export reg­ cuit Court of Appeals upheld the decision. ulations," she says. There are currently three constitutional cases That means that when U.S. companies sub­ challenging the export regulations in court, mit operating systems or Internet browsers for says Banisar. The Supreme Court is likely to export, says Banisar, "they either have to find hear all three. an overseas partner who can provide the "The government has never demonstrated, encryption part of the system, or they forgo and can never demonstrate," says Junger, the whole contract altogether." "any threat to security interests that would Who currently outside the United States arise from my publishing my little programs. buys American encryption software and tech- THE ENCRYPTION SCRAMBLE 13 nology? The answer is no one. Foreign buyers If the legal issues surrounding encryption show little or no interest in the bit-strength of software aren't complicated enough, says American exports or in the prospects ofhand­ Davidson, philosophical issues about privacy ing over their keys to a U.S.-based escrow in the information age are about to muddy the agent. CDT says not one major key recovery waters further. "This is really about some very product is being widely used by consumers different views of how we protect privacy today. online," he says. "There are two different The cost of buying American can be pro­ visions: one is where individuals have the tools hibitive, as well, says the BSA. U.S. industry to be able to protect themselves; another is can plan on shelling out $4.2 billion annually where we build backdoors to the system, where for the first five years to set up and maintain we rely on government to be the protector. One the key recovery system. Start-up costs for minute I'm e-mailing somebody down the small businesses will average $2,500. Large street, but the next minute that message is corporations may have to cough up as much going across ten different countries. And each as $25,000. ofthose countries has different laws." Consumers will chip in $1.8 billion annual­ Getting the lawmakers to understand that ly for the first five years. Escrow agents will has been difficult enough, says Bloss-Baum. earn $6 billion a year for keeping the con­ But for the time being, she and her colleagues sumer and business keys available to law­ plan to focus the argument on free-market enforcement agencies. principles. In 1997, she says, a handful of Who exactly is a key recovery agent? lawmakers endorsed federal legislation to lift While details of the plan remain sketchy, the ban on encryption strengths already avail­ many analysts believe that contracts will be able on the world market. That bill failed with awarded to banks, post offices, or private 205 supporters. mail handlers like Mail Boxes Etc., according This year a similar bill was introduced with to a security spokesman for a leading soft­ 210 endorsements. The Safety and Freedom ware maker. Large corporations may be through Encryption Act of 1999 (SAFE), allowed to "post their own centers" provided which in March passed the House Judiciary investigations and warrants can be conducted Committee, would prohibit the government discreetly-that is, without alerting the boss­ from requiring keys to be held in escrow, but es upstairs. the secretary of commerce would still have the power to review encryption products and Freedom of Speech control exports. On the Senate side, the PRO­ TECT Act of 1999 (Promote Reliable On Despite the business concerns, free-speech Line Transactions To Encourage Commerce arguments will likely play a decisive role in and Trade) would immediately raise the bar to overturning the regulations. But the law is not 64 bits and open the floodgates for exports of clear on high-tech definitions of "speech" in any strength by 2002. Bloss-Baum says she's the information age, says Davidson. "We optimistic that the ban will be lifted this year. think that there are free-expression issues "People are already moving their lives implicated by the export controls," he says. online," says Davidson. "There has to be a "But we're treading on new legal ground here. very broad discussion about how we're going Its difficult getting courts to understand why to protect what's seen ofus online. Encryption there's an expressive quality to Professor is just one small piece ofit. I think this is the Junger's little programs." first skirmish in a very long campaign." D Bought and Sold: Drug Warriors and the Media by Paul Armentano

mericans pride themselves on their inde­ publishing strategy." Apendent press. Yet some media outlets McCaffrey found the MPA more than will­ and networks are compromising their autono­ ing. "[We] accept the challenge presented to my and objectivity by welcoming the federal the magazine industry by the General [Barry government as a major paying advertiser. This McCaffrey] to join with the Ad Council, the alarming union is the latest outgrowth of the Partnership for a Drug-Free America, and the "war on drugs," and the launch ofa new $775 Office of National Drug Control Policy million White House campaign to promote its [ONDCP]," a spokesperson for the MPA objectives through television, radio, and print board of directors announced following the advertising. drug czar's visit. "The MPA will use its best The message to media moguls is simple: efforts to coordinate member participation in Promote the continuation of the drug war in a national magazine 'roadblock' ... to raise advertisements, editorial content, and fea­ the level ofawareness ofthe campaign among tures, and we, as federal officials, will reim­ parents and kids." burse you by spending millions of taxpayer dollars for ads. The better government mouth­ piece you are, the more advertising space we Disturbing Implications will buy. The implications of the publishing indus­ Not surprisingly, America's print and tele­ try's new alliance with the federal government vision media hierarchy are lining up for a are disturbing. Michael Hoyt, senior editor for slice ofthe pie. the Columbia Journalism Review, warns that Last fall, the board ofdirectors ofthe Mag­ the industry's involvement sacrifices credibil­ azine Publishers ofAmerica announced their ity and journalistic integrity. "I don't think participation in the federal crusade, dubbed that the MPA should be urging members to the "National Youth Anti-Drug Media Cam­ provide editorial support for anything at all," paign," by agreeing to run "compelling ads in he says. "And it doesn't matter how worthy their magazines and providing editorial sup­ they think the cause is. That's particularly true port for their audiences." Their decision came where there can be a perceived conflict of immediately after a meeting with White interest, such as urging that support in return House drug czar Barry McCaffrey, who urged for tax dollars." the industry to begin a "nationwide antidrug Indeed, federal officials made it clear that the MPA's portion of the White House's war Paul Armentano is the publications director for The NORML Foundation, a Washington, D.C.-based chest hinged on its willingness to espouse the research and legal foundation that examines drug government's party line. "We want ... the policies. magazine industry to be a critical player in 14 15 this effort," McCaffrey told the publishing madness" inspired allegations. For example, heads. "However, ... we have yet to deter­ visitors will find no mention of a May 1999 mine exactly how much of the roughly $775 John Hopkins University cognition study, the million ad dollars will go to magazines. ... first ever to investigate the long-term effects That proportion depends on your response. If of marijuana on mental function in a large you deliver the commitment ofyour industry, epidemiological sample, that found "no sig­ we will provide the [financial] resources nec­ nificant differences in cognitive decline essary to deliver the message on your pages." between heavy users, light users, and nonusers As expected, the drug czar's bribe achieved ofcannabis." the desired union. Unfortunately, this is not The White House drug control office spent the first time the media have enlisted in an additional $5.5 million on Fox, $1.8 mil­ this governmental campaign. Previously, lion on NBC, $600,000 on CBS, and the National Association of Broadcasters $800,000 on the WB Network, according to announced that it would cooperate with the USA Today columnist Melanie Wells. In U.s. Department of Health and Human Ser­ return, the major networks "donated" $24.4 vices and the advertising conglomerate Part­ million of free air time to promote the feds' nership for a Drug-Free America to launch a political antidrug agenda. This public-private nationwide television campaign demonizing partnership makes the White House campaign marijuana's alleged dangers. The ABC televi­ one of the top 15 single-brand campaigns in sion network also broadcast a month-long the nation, even outspending (in unadjusted federally backed antidrug media blitz two dollars) the public service campaign run dur­ years ago that raised eyebrows among many ing World War II in support ofthe war effort. media critics. Tom Haines, chairman of the drug-policy "All of us can benefit from an honest alternatives group Partnership for Responsi­ message about the risks of substance abuse, ble Drug Information, denounces the emerg­ but it must be credible," wrote national ing alliance among the government and media columnist Robert Scheer, who called the as a threat to America's free press. "We are earlier ABC/Partnership for a Drug-Free seeing the unification of the business end of America effort a "propaganda campaign." "The the media community and the government for government-sanctioned anti-drug message, an advocacy campaign where only one point inserted by corporate fiat into all [ABC] pro­ of view is coming across," he says. "If this gramming, including news, criticizes only were happening in any other country, it would those vices that are not legally profitable, be denounced as propaganda." while the network's advertising continues to glorify those that are. Surely, those sales peo­ Shifting Roles ple at ABC know that a warning that is trans­ parently dishonest is worse than useless." Also critical is New York Times writer Frank Apparently not. Today, the White House Rich, one ofthe few columnists to question the drug-control office is one of ABC's best­ shifting roles ofthe government and the media. paying clients. ABC accepted over $14 million This new ad campaign "may introduce a new in paid ads from the ONDCP in the first five economic model to the long and tortured histo­ months of the federal advertising campaign, ry of the drug war," he wrote in a syndicated more than twice as much as any other network. column. "Where we once had companies that ABC also combined efforts with Disney laundered drug money, we now have corpora­ Online to establish the drug propaganda Web tions synergizing anti-drug money." site, Freevibe.com, which targets visitors with One thing is for certain, as long as there are baseless drug "facts" like: "Pot turns people dollars to go around, expect the networks and into potheads." This statement, like most oth­ much of the Fourth Estate to keep buying. ers appearing on this and other government­ "One of the most surprising results we've influenced sites, conveniently ignores the sci­ seen has been the tremendous response by the ence exonerating marijuana of such "reefer media and entertainment industry," Alan 16 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999

Levitt, who oversees advertising for the In different eras, various other myths have ONDC~ said in a recent interview. "They're gained prominence (marijuana kills brain willing to listen to what we're saying ... and cells, marijuana causes amotivational syn­ they [are] willing to change storylines." drome, marijuana harms sexual maturation Such may have been the case last spring and reproduction, and so on), but few have when the NBC show "Hang Time" aired an been abandoned. Indeed, many ofthe "reefer ONDCP-friendly episode regarding marijua­ madness" tales that were used today to gener­ na. "When kids and teens across the nation ate support for early anti-marijuana laws con­ tuned into the popular TV show, they saw a tinue to appear in the government's media group of high schoolers catch their friends campaign and bureaucratic reports today, smoking marijuana, witnessed the negative despite scientific studies demonstrating the consequences of drug use, and saw some real contrary. For example, just one month after friends convince their pal to get help," the the May 1999 National Academy of Sciences drug czar's office bragged after NBC aired the Institute of Medicine report concluded that show, declaring the network had "adopted" marijuana withdrawal symptoms evidenced the prevention theme in their broadcasts. in humans are "mild and subtle," the federal Other NBC shows followed suit, including National Institute on Drug Abuse said that "One World," "City Guys," and "Saved by the marijuana smokers who abstain from the Bell: The New Class," each emphasizing the drug become aggressive. Assertions like "negative consequences" of drug use. The those form the backbone of the federal network and the White House also combined antidrug campaign, while nongovernment efforts to produce and distribute "study studies that fail to find deleterious or toxic guide" pamphlets to public high-school stu­ effects from marijuana and other drugs are dents. Teachers were encouraged to use the ignored. materials as a basis for initiating drug "educa­ The unholy taxpayer-financed alliance aris­ tion" classroom discussions. "The program­ ing among federal drug warriors and the ming and surrounding activities were made media threatens to usher an unparalleled cam­ possible by a unique collaboration among the paign of government propaganda into our ONDCP [and] NBC television ..., arising homes, lives, and public schools. In addition, from the powerful messages of the National by waving taxpayer dollars, federal officials Youth Anti-Drug Media Campaign," the are presenting many within the Fourth Estate White House summarized. with a conflict of interest that threatens not Is the campaign really propaganda rather only their credibility and objectivity, but also than good science? The federal government's their ability to maintain a proper role as a marijuana policy has long been based on pro­ watchdog over big government and its poli­ paganda. Government witnesses advocated cies. How likely is the media to question the passage ofAmerica's first prohibitive federal drug-war party line when the warriors are marijuana law in 1937 by telling Congress some of their biggest advertisers? The feds that marijuana consumption inevitably causes are spending $775 million of your hard­ violence, insanity, and death among users. earned dollars to find out. D

The apple icon , identifies Freeman articles that are appropriate for teaching stu­ dents several major subjects~including economics, history, government, philosophy, and current issues. We also provide sample lesson plans for these articles on our Web site www.fee.org and in written form. Professors, teachers, and homeschooling parents need only to visit our Web site or request written lesson plans to take advantage ofthis unique service. Ideas and Consequences by Lawrence W. Reed

• Government

Where Are the Omelets?

'0 n ne saurait faire une omelette sans they kill or impoverish other people in the casser des oeufs." Translation: "One process. If socialism ever earns a final epi­ can't expect to make an omelet without taph, it will be this: "Here lies a contrivance breaking eggs." engineered by know-it-alls and busybodies With those words in 1790, Maximilian who broke eggs with abandon but never, ever Robespierre welcomed the horrific French created an omelet." Revolution that had begun the year before. A Every collectivist experiment ofthe twenti­ consummate statist who worked tirelessly to eth century was heralded as the Promised plan the lives ofothers, he would become the Land by statist philosophers. "I have seen the architect of the Revolution's bloodiest future and it works," the intellectual Lincoln phase-the Reign of Terror of 1793-94. Steffens said after a visit to Uncle Joe Stalin's Robespierre and his guillotine broke eggs by Soviet Union. In The New Yorker in 1984, the thousands in a vain effort to impose a John Kenneth Galbraith argued that the utopian society based on the seductive slogan Soviet Union was making great economic Hliberte, egalite,fraternite." progress in part because the socialist system But, alas, Robespierre never made a single made "full use" of its manpower, in contrast omelet. Nor did any of the other thugs who to the less efficient capitalist West. But an held power in the decade after 1789. They left 846-page authoritative study published in France in moral, political, and economic ruin, 1997, The Black Book of Communism, esti­ and ripe for the dictatorship of Napoleon mated that the communist ideology claimed Bonaparte. 20 million lives in the "workers' paradise." As with Robespierre, no omelets came Similarly, The Black Book documented the from the egg-breaking efforts ofLenin, Mao, death tolls in other communist lands: 45 to 72 Pol Pot, Adolf Hitler, and Benito Mussolini million in China, between 1.3 million and 2.3 either. million in Cambodia, 2 million in North The French experience is one example in a Korea, 1.7 million in Africa, 1.5 million in disturbingly familiar pattern. Call them what Afghanistan, 1 million in Vietnam, 1 million you will-leftists, utopian socialists, radical in Eastern Europe, and 150,000 in Latin interventionists, collectivists, or statists-his­ America. tory is littered with their presumptuous plans Additionally, all of those murderous for rearranging society to fit their vision of regimes were economic basket cases; they "the common good," plans that always fail as squandered resources on the police and mili­ tary, built vast and incompetent bureaucracies, Lawrence Reed is president ofthe Mackinac Center for Public Policy (www.mackinac.org), afree market and produced almost nothing for which there research and educational organization in Midland, was a market beyond their borders. They Michigan, and chairman ofFEE's Board ofTrustees. didn't make "full use" of anything except 17 18 THE FREEMAN/IDEAS ON LIBERTY. OCTOBER 1999 police power. In every single communist coun­ African postcolonial socialism, Cuban com­ try the world over, the story has been the same: munism, on and on ad infinitum. Nowhere in lots ofbroken eggs, no omelets. No exceptions. the world has the statist impulse produced an F. A. Hayek explained this inevitable out­ omelet. Everywhere-it yields the same: eggs come in his seminal work, The Road to Serf­ beaten, fried, and scrambled. People worse off dom, in 1944. All efforts to displace individ­ than before, impoverished and looking else­ ual plans with central planning, he warned us, where for answers and escape. Economies must end in disaster and dictatorship. No lofty ruined. Freedoms extinguished. vision can vindicate the use ofthe brute force It is a telling conclusion that statists have necessary to attain it. "The principle that the no successful model to point to, no omelet end justifies the means," wrote Hayek, "is in they can hold up as the piece de resistance of individualist ethics regarded as the denial of their cuisine. Not so for those of us who all morals. In collectivist ethics it becomes believe in freedom. Indeed, economists James necessarily the supreme rule." Gwartney, Robert Lawson, and Walter Block The worst crimes of the worst statists are in their survey, Economic Freedom of the often minimized or dismissed by their less World: 1975-1995, conclude that "No coun­ radical intellectual brethren as the "excesses" try with a persistently high economic freedom of men and women who otherwise had good rating during the two decades failed to intentions. These apologists reject the iron fist achieve a high level ofincome. In contrast, no and claim that the State can achieve their country with a persistently low rating was egalitarian and collectivist goals with a velvet able to achieve even middle income status. glove. ... The countries with the largest increases in But whether it is the Swedish "middle way," economic freedom during the period achieved Yugoslavian "worker socialism," or British impressive growth rates." Fabianism, the result has been the same: bro­ Perhaps no one explained the lesson of all ken eggs, but no omelets. this better than the French economist and Have you ever noticed how statists are con­ statesman Frederic Bastiat more than 150 stantly "reforming" their own handiwork? years ago: Education reform. Health-care reform. Wel­ "And now that the legislators and do-good­ fare reform. Tax reform. The very fact that ers have so futilely inflicted so many systems they're always busy "reforming" is an implic­ upon society, may they finally end where they it admission that they didn't get it right the should have begun: May they reject all sys­ first 50 times. tems, and try liberty; for liberty is an The list is endless: Canadian health care, acknowledgment of faith in God and His European welfarism, Argentine Peronism, works." 0 Wilhelm Ropke: A Centenary Appreciation by Richard M. Ebeling

n January 30, 1933, German president principle ofviolence in favor ofthe principle OPaul von Hindenburg appointed Adolf of reason. Violence is relegated to the very Hitler chancellor ofGermany. One week later, bottom ofthe scale ofvalue; its use is admit­ on February 8, Wilhelm Ropke, a 32-year-old ted only as a last resort and with the utmost professor of economics at the University of reluctance. This, ultimately, is the essence of Marburg, delivered a lecture in Frankfurt am civilization." Main with the title "End of an Era?" But Nazism was the culmination of Ger­ Ropke told his audience that Germany was many's sinking into "illiberal barbarism," in the grip of a "revolt against reason, free­ Ropke said, the elements ofwhich were based dom and humanity." The National Socialists on: (1) "servilism," a "longing for state slav­ under Hitler were now the dominant force in ery," with the state becoming the "subject of an attack against the fundamental principles unparalleled idolatry"; (2) "irrationalism," in of liberalism and Western civilization. Liber­ which "voices" in the air called for the Ger­ alism, correctly understood, represented a man people to be guided by "blood," "soil," 2,000-year-old intellectual heritage of politi­ and a "storm of destructive and unruly emo­ cal, civil,- and economic liberty. Liberty tions"; and (3) "brutalism," in which "The required the rule ofreason, resting on "truth­ beast ofprey in man is extolled with unexam­ fulness instead of obscurantism, clarity pled cynicism, and with equal cynicism every instead of hysteria, the advancement of immoral and brutal act is justified by the sanc­ knowledge instead of sensationalism for the tity of the political end." Ropke warned that, masses, logic instead of wallowing in moods "a nation that yields to brutalism thereby and emotion. ... It is only the liberal ideal of excludes itself from the community of West­ the use of Reason in the service of truth that ern civilization." He hoped Germany would has engendered science ... that alone has lib­ step back from this abyss before its people erated Europe from the stupor and wretched­ had to learn their mistake in the fire ofwar. 1 ness ofbarbarism." Ropke also spoke out against the Nazi dis­ An additional element in the philosophy missal ofJewish professors and students from of liberalism, rightly understood, Ropke German universities, which began in April explained, was the idea of humanity. "The 1933. The Nazis denounced him as an "enemy idea ofhumanity is seen in all its full signifi­ ofthe people" and removed him from his pro­ cance when conceived as the rejection of the fessorship at the University ofMarburg. After an angry exchange with two SS men sent to Richard Ebeling is chairman of the economics "reason" with him, Ropke decided to leave department at Hillsdale College, where he is the Lud­ Germany and accept exile rather than live wig von Mises Professor ofEconomics. under National Socialism.2 19 20 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 Leading Figure lems. But he soon discovered that the only realistic solutions were to be found in classi­ Wilhelm Ropke was a leading intellectual cal liberalism and the market economy.4 figure of twentieth-century Europe. He com­ Among the most important influences in that bined conservatism with classical liberalism discovery were the writings ofAustrian econ­ to develop a political philosophy he called omist Ludwig von Mises. "It was his book, a market-oriented "middle way" between Nation, State and Economy (1919) ... which nineteenth-century capitalism and twentieth­ was in many ways the redeeming answer to century totalitarian collectivism. He also the questions tormenting a young man who became a spiritual guide and political-eco­ had just come back from the trenches," Ropke nomic architect of Germany's "social market wrote. And it was Mises who "rendered me economy" in the post-World War II era. As immune, at a very early date, against the virus Ludwig von Mises wrote when Ropke died in ofsocialism with which most ofus came back 1966 at the age of 66, from the First World War."5 For most ofwhat is reasonable and benefi­ In 1922, Ropke became an adviser to the cial in present-day Germany's monetary German government on the problems ofrepa­ and commercial policy credit is to be ration payments resulting from the Treaty of attributed to Ropke's influence. He-and Versailles. From 1924 to 1928 he was a pro­ the late Walter Eucken-are rightly fessor at the University ofJena, spending part thought of as the intellectual authors of of the time, in 1927-1928, in the United Germany's economic resurrection.... States studying American agrarian problems [T]he future historians ofour age will have under the auspices ofthe Rockefeller Founda­ to say that he was not only a great scholar, tion. After returning to Europe he was a pro­ a successful teacher and a faithful friend, fessor ofeconomics at the University ofGraz, but first of all a fearless man who was Austria, in 1928-1929. In 1929 he was never afraid to profess what he considered appointed professor of economics at the Uni­ to be true and right. In the midst of moral versity of Marburg, a position he held until and intellectual decay, he was an inflexible his expulsion by the Nazi regime in 1933. He harbinger of the return to reason, honesty also served as a member of the German and sound political practice.3 National Commission on Unemployment in 1930 and 1931, and as an adviser to the Ger­ Ropke was born October 10, 100 years ago man government in 1932. in Hanover, Germany. He grew up in a rural After leaving Germany in 1933 he accepted community of independent farmers and cot­ a position at the University of Istanbul, tage industry craftsmen. His father was a Turkey, which he held until 1937,· and during country doctor. That upbringing can be seen which he undertook the reorganization of its in his later belief that a healthy, balanced, department of economics. He also founded small community is most fit for human life. and was the first director ofthe Turkish Insti­ The event, however, that shaped his chosen tute ofthe Social Sciences. purpose in life was his experience in the Ger­ man army in the First World War. War was Teaching Career in Geneva "the expression of a brutal and stupid nation­ al pride that fostered the craving for domina­ In 1937 he was invited to become a profes­ tion and set its approval on collective sor of international economic relations at the immorality," Ropke explained. The experi­ Graduate Institute of International Studies in ence of war made him decide to become an Geneva, Switzerland, a position he retained economist and a sociologist when the cannons until his untimely death on February 12, 1966. fell silent. He entered the University of Mar­ The Graduate Institute had been founded in burg, from which he earned his doctoral 1927 by the famous economic historian Paul degree in 1921. At first, Ropke thought that Mantoux and the internationally respected socialism was the answer to the world's prob- economist, political scientist, and leading WILHELM ROPKE: A CENTENARY ApPRECIATION 21 classical liberal William E. Rappard. In the on the subject.7 Ropke argued that a complex Graduate Institute's comfortable building division oflabor with a developed structure of overlooking Lake Geneva, Ropke took up his roundabout methods of production, held teaching duties. He was in the company of together by the delicate network of market such colleagues as Mises, the eminent Italian prices for finished goods and the factors of historian Guglielmo Ferrero (an exile from production, had the potential to occasionally the fascist regime in Italy), the Polish free­ suffer from the cyclical waves of booms and market economist Michael Heilperin, and the depressions. The cause of such cycles was Austrian legal philosopher Hans Kelsen. periodic imbalances between savings and After the German occupation of France, investment in the economy. While not com­ Ropke was three times offered a teaching pletely following the "Austrian" theory ofthe position at the New School for Social business cycle, Ropke's approach moved Research in New York (in 1940, 1941, and along similar lines, arguing that a monetary 1943) as a means of escape from Nazi­ expansion that kept the market rate ofinterest occupied Europe. But each time he turned below the level that could maintain a balance down the invitation to leave neutral Switzer­ between savings and investment would feed land, having decided to continue to be a voice investment projects and cause misdirections for freedom and reason in a totalitarian­ of labor and resources into production dominated Europe. In the immediate after­ processes in excess ofthe savings available to math of the Second World War, Ropke circu­ sustain them in the long run. lated a memorandum offering a "plan for an Ropke's particular contribution to the analy­ international periodical" that would be devot­ sis ofthe business cycle was his theory ofwhat ed to the restatement and defense of classical he called the "secondary depression." When liberalism and the free-market economy the boom ended, an economic downturn was against all forms of political and economic inevitable, with the investment excesses ofthe collectivism. The journal was never estab­ upturn having to contract and be readjusted lished, but the ideas conveyed in the memo­ to the realities of available savings and the randum served as support for F. A. Hayek's market-based patterns of supply and demand. successful founding ofthe Mont Pelerin Soci­ But while serving on the German National ety in 1947, an international association of Commission on Unemployment in 1930-1931, scholars and opinion makers dedicated to the he came to the conclusion that there were neg­ philosophy of freedom. Ropke served as the ative forces at work at that time far beyond any society's president from 1960 to 1962. normal type of post-boom adjustment. The In the 1950s, he was an economic adviser failure ofcost prices to promptly adjust down­ to the government ofWest Germany. He also ward with the decline offinished-goods prices was one of the leading figures of a group of was causing a dramatic collapse ofproduction market-oriented German economists who in and employment. Rising unemployment result­ the postwar period became known as the ed in declining incomes that then created a new Ordo-liberals; their purpose and goal was the round of falling demands for goods in the construction of a "social market economy" economy, that in tum brought about another that assured both an open, competitive order decrease in production and employment. At the and minimal social guarantees. 6 same time, growing unprofitability of industry made businessmen reluctant to undertake new investments, resulting in the accumulation of Business-Cycle Theory idle savings in the financial markets. Such a In the 1920s and for part ofthe 1930s, a pri­ sequence of events generated a cumulative mary focus ofRopke's writings was business­ contraction in the economy that kept feeding cycle theory and policy. His most significant on itself. work in this field was his 1936 volume Crises Ropke concluded that this secondary and Cycles, which summarized and elaborat­ depression served no healthy purpose, and the ed on his earlier writings, mostly in German, downward spiral of a cumulative contraction 22 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 in production and employment could only be and defended the market economy, but also broken by government-induced credit expan­ strongly criticized the ideas of socialism and sion and public-works projects. Once the gov­ interventionism. 11 This was followed in 1942 ernment introduced a spending floor below by International Economic Disintegration, in which the economy would no longer go, the which he detailed the disastrous consequences market would naturally begin a normal and that collectivist economics produced by healthy upturn that would bring the economy destroying the international division of labor back toward a proper balance.8 through trade restrictions, exchange controls, In 1933, when Ropke published in English govemmentplanning, domestic interventions, an article explaining the findings ofthe Ger­ and policies ofnational self-sufficiency.12 man Commission on Unemployment, John But the heart of Ropke's critique of the Maynard Keynes expressed to Ropke his decay ofWestern civilization and the path for "great satisfaction" that German economists its renewal was in a trilogy published during were reaching the same conclusions as he the war: The Social Crisis ofOur Time, Civi­ had, namely, that government needed to take tas Humana (later re-issued as The Moral an active role in steering the economy. But Foundations of Civil Society), and Interna­ Ropke had no sympathy for Keynes's belief tional Order. 13 This was followed at the end that the market was inherently unstable and of the war by The Solution of the German permanently in need of government manage­ Problem (1945).1 4 And a further reformula­ ment of"aggregate demand." In Ropke's view tion of his conception of a properly ordered the Great Depression represented a "rare and balanced society was offered in A occurrence" of an "exceptional combination Humane Economy: The Social Framework of of circumstances" that required "a deliberate the Free Market (1958).15 policy of additional 'effective demand' into The achievements of the eighteenth centu­ the economic system." But, Ropke continued, ry, in Ropke's view, were the use ofreason for Keynes's construction of a "general theory of a balanced understanding of both the natural employment" based on the exceptional cir­ and social world; the awakening ofan insight cumstances ofthe early 1930s was a "counsel into the possibilities of a free, spontaneous of despair" and an extremely dangerous one, order ofmarket relationships; a conception of because it created a rationale for continuous man that looked at him in proportionate government tinkering and a strong inflation­ human terms; and a sense of humanity in ary bias harmful to the stability ofthe market appreciating and wanting to improve the economy in the long run.9 Indeed, Ropke human condition. Out of these insights came became a leading critic of Keynesian eco­ the physical and biological achievements of nomics after World War 11. 10 modern science and medicine; a free-market order that both liberated man from the status The Crisis ofWestem Civilization and caste society ofthe past and dramatically improved his standard ofliving; and the liber­ But the central issue that absorbed almost al, democratic ideal in which the individual all of Ropke's intellectual and literary efforts possessed rights to life, liberty, and property, in the 1930s and 1940s was what he consid­ and in which peace and tolerant political plu­ ered the crisis ofWestern civilization, the most ralism replaced imperial violence and politi­ stark and terrible symptom of which was the cal absolutism. rise of totalitarian collectivism as represented But as Ropke saw it, many ofthese achieve­ by Soviet communism, Italian fascism, and ments and successes had been twisted in the German National Socialism. He devoted all nineteenth century. The use of reason had his efforts to opposing and challenging this become "unreasonable," as there emerged a horrible trend in a series of important and hyper-rationalism that claimed to have the highly influential books. In 1937 he published power to discover the secrets for social engi­ Economics of the Free Society, a treatise on neering. The triumphs ofthe natural sciences economic principles that not only explained in mastering the physical world had fostered a WILHELM ROPKE: A CENTENARY ApPRECIATION 23

"cult of the colossal," in which there was a construction of an institutional order that worship of the things of the material world incorporated the market in a wider social set­ and the desire for the creation of objects big­ ting. It was in this context that Ropke pro­ ger than human life. The grand accomplish­ posed the distinction between "conformable" ments of the market economy had not only and "nonconformable" interventions in the freed man from his previous social restraints, market. Nonconformable interventions went but cut him loose from all the societal moor­ against the natural workings of the market ings offamily, community, and the harmonies through the introduction ofprice and produc­ oflocal life, and in its place reduced man to a tion controls, which disrupted the normal proletarianized "mass" in an anonymous, coordinative processes ofmarket competition. impersonal urban existence. And the ideal of Conformable interventions influenced the democratic pluralism had been undermined underlying supply and demand conditions, and reduced, increasingly, into an arena of and the institutional arrangements on which special-interest political plunder. those conditions are based, for the purpose of modifying the results that competitive process "Termite State" would generate. Ropke, for example, believed that: antitrust The loss of traditional human connections, laws were necessary and desirable as a the dehumanization of man in mass society, method of limiting some private industrial and the corruption of the political and eco­ concentration; urban development restrictions nomic marketplaces, Ropke argued, had cre­ were needed to limit the growth of city size ated the sociological and psychological condi­ and foster a retention of rural life; income tions for the emergence of and receptivity to redistribution was legitimate to narrow signif­ the collectivist idea and its promise of a new icant income inequalities; and moderate and community of man, a transformation of the limited welfare "safety net" programs were human condition, and a better society designed consistent with a humane society that according to a central plan. All these were false remained essentially market-oriented. In fair­ promises and hopes. Collectivism, whether of ness to Ropke it should be pointed out that in the fascist or communist sort, meant the end of the wake of the Great Depression and the a rational economic order, threatened the loss growing appeal of socialist planning, a large of freedom and the end to human dignity, and number of market-oriented economists at the required the reduction of man to the status of time accepted a greater degree of interven­ an insect in what Ropke often referred to as the tionism and welfare-statist programs than socialist "termite state." many free-market economists would consider Ropke was uncompromising in his insis­ legitimate nowadays.17 tence that only the market economy was con­ But by the 1950s, Ropke began to have sistent with both freedom and prosperity. serious second thoughts about the welfare Only the market, with its system of private state and its tendency to grow beyond the nar­ property rights, provided the framework to row bounds that he considered reasonable.l8 harness individual incentives and creativeness Ropke agreed with his German liberal col­ for the benefit of society. Only the market league Alexander Rustow, who in a paper could generate the competitive process neces­ delivered at a Mont Pelerin Society meeting sary for the formation of prices that could in the 1950s referred to the welfare state as successfully coordinate supply and demand. "the other road to serfdom." Ropke feared that Only the market gave each individual the free­ the welfare state, in a democratic system open dom to be an end in himself while also serv­ to the pressures of special-interest groups, ing as a voluntary means to the ends ofothers threatened to grow to monstrous proportions through the mechanism ofexchange.l 6 and create an increasing dependency on the Yet in Ropke's view the market by itself paternalistic state. Furthermore, the costs of was not enough. The humane society required funding the welfare state and Keynesian "full going "beyond supply and demand," to the employment" policies acted as an engine for 24 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 worsening inflation as government resorted to March 8, 1966, p. 200; also, F.A. Hayek, "Tribute to Ropke," in Peter G. Klein, ed., The Collected Works ofF. A. Hayek, Vol. 4: The 19 the printing press to pay its bills. Fortunes of Liberalism (Chicago: University of Chicago Press, Finally, Ropke argued that the growing 1992), pp. 195-97. 4. Wilhelm Ropke, "The Economic Necessity ofFreedom," Mod­ politicization of economic and social life ern Age, Summer, 1959, pp. 227-36. through an expanding interventionist-welfare 5. Wilhelm Ropke, "Homage to a Master and a Friend," The Mont Pelerin Quarterly, October 1961, p. 6. state undermined the possibility for a success­ 6. For an account ofthe German Ordo-1iberals and Ropke's con­ ful international order based on peace, mutu­ tribution to their ideas and policies, see Anthony J. Nicholls, Free­ dom with Responsibility: The Social Market Economy in Germany, al prosperity, and a rational allocation and use 1918-1963 (Oxford: Clarendon Press, 1994); for a critical compari­ of the resources of the world. International son of the Ordo-liberals with the Austrian economists, especially Mises, see my "The Limits ofEconomic Policy: The Austrian Econ­ order required countries to practice sound omists and the German ORDO Liberals," in Richard M. Ebeling, ed., policies at home: respect for private property, The Age of Economists: From Adam Smith to Milton Friedman (Hillsdale, Mich.: Hillsdale College Press, 1999), pp. 145-66. enforcement of contracts, protection for for­ 7. Wilhelm Ropke, Crises and Cycles (London: William Hodge eign investments, limited government inter­ Co., 1936). 8. Wilhelm Ropke, "Trends in German Business Cycle Policy," vention, and non-inflationary monetary poli­ The Economic Journal, September 1933, pp. 427--41. cies. Networks of international trade and 9. Wilhelm Ropke, "Keynes Revisited," National Review, March 26, 1963, pp. 239-41. investment would then naturally and sponta­ 10. Wilhelm Ropke, "The Economics of Full Employment" neously connect the world through private [1952], reprinted in Henry Hazlitt, ed., The Critics ofKeynesian Eco­ nomics (Princeton: D. Van Nostrand Co., 1960), pp. 362-85. market relationships.20 For this reason, Ropke 11. Wilhelm Ropke, The Economics ofthe Free Society (Chica­ was doubtful that European economic and go: Henry Regnery Co., 1963 [1937]). 12. Wilhelm Ropke, International Economic Disintregration monetary integration could be successfully (Philadelphia: Porcupine Press, 1978 [1942]); also "International imposed as long as the member states were Economics in a Changing World," in William E. Rappard, ed., The World Crisis (Freeport, N.Y.:Books for Libraries, 1969 [1938]), pp. unwilling to follow the necessary domestic 275-90; "Fascist Economics," Economica, February 1935, pp. policies of limited government and open, 85-100; and "Totalitarian 'Prosperity,' Where Does It End?" Harp­ er's Magazine, July 1939, pp. 165-70. competitive market capitalism. Tensions and 13. Wilhelm Ropke, The Social Crisis of Our Time (New conflicts were inevitable in an age dominated Brunswick: N.J.: Transaction Publishers, 1992 [1942]); The Moral Foundations of Civil Society (New Brunswick, N.J.: Transaction by collectivist and interventionist ideas.21 Publishers, 1996 [1944]); International Order and Economic Inte­ Wilhelm Ropke was more than just an gration (Dordrecht, Holland: D. Reidel Co., 1959 [1945]). 14. Wilhelm Ropke, The Solution ofthe German Problem (New economist. During some of the darkest York: G. P. Putnam's Sons, 1947 [1945]); also "The German Dust­ decades of the twentieth century, he sounded Bowl," The Review ofPolitics, October 1946, pp. 511-27. more like an Old Testament prophet warning 15. Wilhelm Ropke, A Humane Economy: The Social Frame­ work ofthe Free Market (Chicago: Henry Regnery, 1960 [1958]). of the dangers from a loss of our moral com­ 16. Wilhelm Ropke, "The Problem ofEconomic Order" [1951], pass. Collectivism had few opponents in our reprinted in Johannes Overbeck; ed., Two Essays by Wilhelm Ropke (Lanham, Md.: University Press ofAmerica, 1987), pp. 1-45. century with as much of a sense of ethical 17. Among American market-oriented economists in the 1930s purpose. Precisely because he was an econo­ and 1940s who shared some ofRopke 's views on these policy issues were Henry Simon and Jacob Viner at the University ofChicago, and mist by training, Ropke understood the indi­ Frank Graham at Princeton University; in Europe the group includ­ visibility ofpersonal, political, and economic ed F. A. Hayek and Lionel Robbins at the London School of Eco­ nomics, Walter Eucken and many other market economists in Ger­ freedom in a way that many other critics of many, and Eli Heckscher in Sweden. socialism in its various forms could never 18. Wilhlem Ropke, "Is the German Policy the Right One?" [1950] in Wolfgang Stutzel, Christian Watrin, Hans Willgerodt, Karl articulate. The appreciation ofhistory and the Hohnmann, eds., Standard Texts on the Social Market Economy historical context in his analyses only (New York: Gustav Fischer, 1982), pp. 37--48. 19. Wilhelm Ropke, "Welfare Freedom and Inflation" [1964] in enriched the persuasiveness of his message. Overbeck, pp. 49-103; also "Repressed Inflation" Kyklos, vol. 1, no. The rebirth of the market economy in Ger­ 3, 1947, pp. 242-53; "Inflation-Hot and Cold," National Review, January 18, 1956, pp. 15-17; and "The Creeping Inflation of Our many and in other parts of Europe after 1945 Times and Values," Freedom and Union, September 1961, pp. 12-15. owes a great deal to his intellectual efforts and 20. Wilhelm Ropke, "Economic Order and International Law," in Recueildes Cours, vol. 86, pt. II, 1954, pp. 202-71. legacy. 0 21. Wilhelm Ropke, "Political Enthusiasm and Economic Sense: Some Comments on European Economic Integration," Modern Age, 1. Wilhelm Ropke, "End ofan Era?" [1933] in Against the Tide Spring 1958, pp. 170-76; A World Without a World Monetary Order (Chicago: Henry Regnery, 1969), pp. 79-98. (Johannesburg: South African Institute of International Affairs, 2. Wilhelm Ropke, The Solution ofthe German Problem (New 1963); "European Economic Integration and Its Problems" Modern York: G. P. Putnam's Sons, 1947), pp. 59-60; and J. Kaufmann, "In Age, Summer 1964, pp. 231-44; "European Prosperity and Its Memoriam, Wilhelm Ropke: Humanistic Liberal," Nieuwe Rotter­ Lessons," South African Journal ofEconomics, September 1964, pp. damsche Courant, February 19, 1966. 187-98; and "The Place of the Nation: Beyond the One World," 3. Ludwig von Mises, "Wilhelm Ropke, RIP," National Review, Modern Age, Spring 1966, pp. 119-30. Potomac Principles by Doug Bandow

Health Care: Over the Canadian Cliff?

veryone in Washington recognizes that (HI) portion would cost $9 billion in 1990, a E Medicare is headed over a financial cliff. staggering $58 billion underestimate. HI out­ The growth in spending continues to outpace lays first exceeded $9 billion in 1974. that of revenues; America's aging population The initial costs ofMedicare's kidney dial­ will increase the gap as we enter the next cen­ ysis program, passed in 1972, were more than tury. Obviously serious reform is a must. twice projected levels. And just eight months So what does President Bill Clinton pro­ after passage of the 1988 Medicare Cata­ pose? A massive taxpayer bailout combined strophic Coverage Act, quickly repealed in with tighter price controls on existing 'response to a firestorm ofpopular protest, the providers, subsidies for employers who cover Congressional Budget Office hiked its five­ retirees, and expanded benefits for program year cost estimates by upwards of 100 per­ recipients. The GOP Congress, lacking both cent. The problem is endemic to third-party philosophical principle and political courage, payment programs, which naturally inflate has done little more than mumble that it too demand and thus expenditures. desires to reform Medicare. It is the sort of There's no reason to believe that the admin­ irresponsible behavior that we've come to istration's proposed pharmaceuticals coverage expect from Washington. would be any different. On average, people The Clinton package would be dubious with insurance use as much as 60 percent enough if the administration's cost estimates more physicians' services and three times as could be taken seriously. Alas, federal health­ much hospital care as uninsured people. Amer­ care programs always end up more expensive ica's staggering health-care cost increases in than predicted. Medicare, Medicaid, renal recent years largely stem from what is essen­ dialysis coverage, and the short-lived cata­ tially cost-plus medicine predicated on third­ strophic health-care initiative all suffered party payment ofmost medical expenses. from soaring costs almost immediately. The inevitable response offuture Congress­ For instance, within eight years after es and presidents to soaring costs would be to Medicare's creation, that program's tax rate impose price controls on prescription drugs, was running at twice the initial projections; just as on other treatments. However, such Medicare now spends well over 75 times what past efforts have achieved little. it did in its first full year. In fact, at Medicare's Congress has steadily tightened its re­ inception the House Ways and Means Com­ imbursement policy over the last couple of mittee predicted that the hospital insurance decades, yet federal outlays for Medicare still jumped from $32 billion in 1980 to an Doug Bandow, a nationally syndicated columnist, is a senior fellow at the Cato Institute and the author astounding $205 billion this year. The suc­ and editor of several books, including Tripwire: ceeding waves ofprice controls did, however, Korea and U.S. Foreign Policy in a Changed World. reduce services for Medicare recipients. Lim- 25 26 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 its on drug prices would hinder the develop­ times as many lithotriptors, which smash gall ment of new pharmaceuticals, as well as and kidney stones with sound waves, per restrict patient access to drugs. patient as does Canada. On average, cancer Unfortunately, the United States seems to be patients wait three times as long as Americans slowly slipping into the sort of collectivist for treatment; they are routinely denied cancer health care that dots the globe. Whatever the treatment for longer than what their doctors actual intent of a succession of presidents and consider to be clinically reasonable. legislators, their endless interventions­ The problem involves more than high-tech provider payments, business subsidies, polyglot procedures. In Montreal an obstetrician was regulations, and price controls-are turning the suspended for exceeding his hospital-imposed health market into a government-run system. quota of deliveries. Delays of months for That we don't want to go there should be operations on hands, hernias, cataracts, hip evident from the experience of the highly transplants, varicose veins, and tonsils are touted Canadian system. Once promoted by a typical. Patients have to wait even if they are significant segment of the Democratic party in pain and have limited physical mobility. Yet as the answer to America's health-care crisis, the Fraser Institute reports that the delays only it is now suffering rising costs and declining get worse year after year. quality. In fact, Canada's arbitrary budget controls The most important benefit of single-payer caused the province of Ontario to shut entire medicine theoretically is its thrift. Yet the hospitals during Christmas 1993. Explained only way Canada has been able to constrain Theodore Freedman, president of Toronto's spending while offering "free" care has been Mount Sinai, which was shuttered for two to explicitly ration medical services. The weeks, "This is not about health care. This is Vancouver-based Fraser Institute last year esti­ about the deficit." Hospitals have also tem­ mated that 187,416 people were on surgical porarily dropped specific practices, such as waiting lists, up from 172,766 the previous neurosurgery, to save money, and have year. Waiting times, too, were up-11.9 weeks refused to reopen even for emergency cases. to see a specialist after referral by a general Ironically, despite these draconian efforts to practitioner, for instance. It takes another 6.8 contain costs, health care isn't really cheaper weeks to actually receive treatment. in Canada. After accounting for differences in In Toronto "emergency" heart patients are population-America has a larger proportion operated on within 48 hours. "Urgent" cases of elderly, poor urban dwellers, and war vet­ have to wait up to six weeks. Elective patients erans, all ofwhom use more health care-and can sit for four months or more, and year-plus including costs of tax collection, Canada waits are common elsewhere in Canada. One spends roughly the same share of its GDP on Canadian doctor wrote the New York Times to health care as the United States. Indeed, in complain that "the risk of dying on the wait­ recent years Canada's spending has been ris­ ing list for cardiac surgery is greater than the ing faster than America's. actual operative risk." The United States faces a stark choice Equipment that Americans take for granted regarding health care: government control or is rare: Tennessee has more magnetic reso­ a free market. Medicare's impending col­ nance imagers than does all of Canada. As a lapse should concentrate legislators' minds. result, Canadians with brain tumors have to Instead of approving the President's counter­ wait up to a year for an MRI scan. It typically productive package of greater government takes three months to receive a CAT scan spending and regulation, Congress should (though pets with paying owners can be test­ emphasize individual responsibility and pri­ ed within a day!). The United States has three vate choice. D My Barbers by Joseph S. Fulda

hen Alex, my Greek barber, retired, I W tried several haircutters before settling on a barbershop on West 180th Street on the corner of Broadway, up a bit toward Fort Washington Avenue, in New York. Although Spanish-speaking like all the neighborhood's barbers, the three barbers working at this shop were able to understand my instructions. They did a really fine job, too. Some years passed, and they grew increas­ ingly disenchanted with the new owner ofthe store, who wanted them to pay for their own tools of the trade and wouldn't allow them common decencies. So what did they do? Sue? No. File a complaint with a city, state, or federal agency? No. In the best American individualist tradition, they quit to go into business for themselves. To this day the owner of that barbershop has not found success in his replacements. But our heroes pooled their money, bought equipment, and a mere month or two later were in business again-as the competition, located on West 180th Street on the corner of Broadway diagonally across from their old place, a bit down toward Wadsworth Avenue. They did well in that location, and one of the three eventually retired. The barbershop was located in the first chamber within the building. Through the outer door, one could

Joseph Fulda, a contributing editor ofThe Freeman, is author, most recently, of Eight Steps Towards Libertarianism (Free Enterprise Press). He can be reached [email protected]. 28 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 agencies flourish, but there is stiff competi­ conditions) and government obstacles are not tion among them for the large market. just resourcefulness, ingenuity, and determi­ nation. They also benefited from their ability to cooperate-none would have been able to Still Partners open their second store without the other two I continued to use my barbers, going some­ and neither of the remaining barbers would times to one, sometimes to the other. As a lib­ have been able to open the third store without ertarian, I felt a special need not to help the the other. I suspect most people would have state destroy these men's living-and I severed the partnership or acted in a way that recalled that when Alex retired and I started would have made maintaining it an insupera­ looking for a replacement, I got some fairly ble obstacle-and that would have proved unwelcome haircuts in the interim! I learned their undoing. in discussions with them that my barbers These three entrepreneurs and countless remained partners, splitting their expenses others like them across this land are the real, and proceeds. The small space was not if unsung, heroes of American capitalism. designed for comfort, but the haircuts were Their stories do not make for captivating still up to par. Unfortunately, their hope to biography; they are not the stuff of heroic reopen their store was not to be realized, as a novels; they are neither titans ofindustry, nor restraining order was eventually posted on great innovators, inventors, or investors. But their old place ofwork. they epitomize the Franklinesque virtues that Undaunted, the two barbers showed their made America great, and they and others like resourcefulness yet again and somehow man­ them are the reason why not everything in this aged to obtain a store on Broadway between fair land is sold in chains and franchises, as West l80th Street and West 179th Street. The marvelous as those bulwarks of capitalism reader can visit them there and attest to the have admittedly proven themselves. They're truth ofthis tale while having his hair cut. the sort of entrepreneurs who provide much The qualities these barbers showed in the more than labor and capital in a felicitous face of market adversity (the change of own­ combination; they give the word "indepen­ ers in their original place and the bad working dent" a strong, favorable cast. D

"With his masterful grasp of history and his ingenious insight into economics, phi­ losophy, politics, and human nature, Dr. Faria has provided us with an enormous contribution to the recent literature on health care reform, and an important weapon in our life-or-death struggle to preserve private medicine." - Jerome C. Arnett, Jr., M.D. Medical Sentinel Miguel A. Faria, Jr., M.D. argues that managed care and HMOs are not "free market" alternatives, but rather an unholy partnership of government and corporate interests seeking monopolistic government protection to eliminate competition... Miguel A. Faria, Jr., M.D. Editor-in-Chief of the Medical Sentinel of the Association of American Physicians and Surgeons (A.APS), and author of \;cmdals at the Gates of Medicine - Histaric Perspecm'eS on the Battle Over Health Care Refonn. ~OrderDirect OaII1-800-757-9873 $23.95 • Hacienda Publishing ISBN: 0-9641077-2-4 Fax: 1-912-757-9725 • P.O. Box 13648 • Macon, GA 31208-3648 Peripatetics by Sheldon Richman

The Love of Economics

attended a lecture recently on romantic plishment. This has many implications. Act­ I relationships, and some in the audience ing is choosing. To pursue an end is to choose became agitated when the speaker invoked it from an array of alternatives, including the economics in his analysis. Beyond the obvi­ option of "doing nothing." To embark on a ous financial issues, many people just did not course ofaction intended to obtain an end is a understand what economics has to do with form of exchange. The actor opts for the dating and marriage. This points to an unfor­ intended state of affairs over the future cir­ tunate feature ofmany people's understanding cumstances envisioned in the absence of the ofeconomics. action. Implicit in the necessity of choice is Economics is not primarily about money the idea ofscarcity. All means, beginning with and stock markets. Those are topics within time, are scarce. You can't choose A and non­ economics. Economics is the study ofcertain A at the same time and in the same respect. implications and consequences of human You can't "have it all." action; hence the title-Human Action-of Ludwig von Mises's magnum opus. Opportunity Cost "Human action is purposeful behavior," Mises writes at the start ofhis treatise. We can If action entails choosing one thing rather identify a long series of facts about human than another, all action requires giving some­ action without doing "research." This is what thing up, namely, the most highly valued distinguishes economics from physics. In eco­ alternative not pursued. The alternative for­ nomics the unit of analysis is the individual, gone is the cost ofthe action, more precisely, which we know from the inside, so to speak. the opportunity cost. We can say with certain­ As human beings we can observe introspec­ ty that when we act, we value the satisfaction tively the features ofaction. In contrast, when from achievement of the end sought more we observe stars or molecules, we are out­ highly than the satisfaction expected from the siders. We can make repeated observations highest value forgone. (Anticipated satisfac­ and experiments to discover the principles tion can't be measured or subjected to mathe­ and relationships of entities, but we cannot matical operations; nor can it be compared have the same intimate knowledge that we can person to person.) have about human action. Some have criticized this Misesian We can all readily see that when we act, approach as mere tautology, true by defini­ certain things must be true. An action consists tion. But clearly it is more than that. One's in the pursuit of an objective, or end, using action demonstrates a preference for the cho­ means perceived as appropriate to its accom- sen objective over anything else one could have aimed at. Hence, Murray Rothbard's Sheldon Richman is editor a/The Freeman. term "demonstrated preference." This is not 29 30 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 an empty tautology; it is a truth that underlies unit (the last one or next one obtained) dimin­ and makes sense of our observations of the ishes as I acquire more. human world. An attempt to refute it is a This all applies to the individual acting self-contradiction: the attempt requires in isolation, what Mises calls "autistic action. Thus, these principles ofhuman action exchange." But the principles apply to has the status ofan axiom. exchange between individuals too, which pre­ The focus on the individual's selection of occupies most ofeconomics. Things get more goals does not presume egoism or any other complicated-money eventually evolves from ethical category. Nor does it presume that the barter, long structures of production goal must be money or any other material emerge-but the broad outline is the same. good. These principles held true for Mother Exchange between two people entails some Teresa as well as for John D. Rockefeller. necessary truths. Each party intends to Each chose objectives and suitable (in their achieve a value through the exchange. Each judgment) means. Mother Teresa wished to be ranks what he is willing to give up lower than efficient in ministering to the poor in India, what he will receive. Why exchange other­ just as Rockefeller wished to be efficient in wise? Each therefore comes out ahead. producing kerosene from crude oil. Their par­ There's a "surplus" on each side. The same ticular ends dictated what "efficiency" meant, amount of stuff is there; it's only changed but the framework was conceptually the same. hands. Yet each has "more" than he started Economics is concerned with neither why with. (Either party, being fallible, can err and people choose as they do or nor what they regret the exchange. But each enters the rela­ ought to choose. Those matters are left to psy­ tionship anticipating gain.) chology and ethics. This is a good time to raise the idea ofsub­ jectivism, a concept much misunderstood. Marginal Utility The economic meaning of subjectivism dif­ fers from its meaning in ethics. In ethics sub­ A further implication of human action is jectivism means that human beings can arbi­ the law ofdiminishing marginal utility. We act trarily determine what is good for them. In to attain values, in effect, according to a scale economics it means that to understand market of descending importance. As we obtain suc­ phenomena such as prices, the focus must be cessive units of a good, we devote them to on subjects-acting beings-not objects. lower priorities. Anyone unit is only as (Thus, there is no conflict on this count important as the lowest priority. For example, between Mises and Ayn Rand.) What we I have three cups ofwater and plan to devote observe in markets grows out of the choices them to these three objectives ranked in people make about things based on their descending importance: quenching my thirst, beliefs and intentions, not out of anything quenching my dog's thirst, watering my intrinsic to those things. The price of a slow­ rhododendron. If as I begin to drink I acci­ acting lethal poison might rise as people erro­ dentally drop the cup, I do not forgo quench­ neously come to believe it is nutritious. But ing my thirst and devote the remaining cups to the poison will still kill them. the other objectives. Rather, I move the Once economics is seen as focused on remaining cups up the scale, leaving the least human choice, it is no great leap to grasp its important objective unfulfilled. (Sorry, rhodo­ relevance to other areas of life not usually dendron.) In other words, the value to me of thought of in economic terms, such as dating anyone unit of a good is determined by the and marriage. This is not to say that econom­ value to me of the least important end that ics is all that is relevant, only that the laws of good can serve. The utility of the marginal human action apply. 0 Money and Gold in the 1920s and 1930s: An Austrian View by Joseph T. Salerno

n consecutive issues of The Freeman, culpability for the economic events of these I Richard Timberlake has contributed an tragic years that diverges radically from interesting trilogy of articles advancing a Timberlake's. monetarist critique of the conduct of U.S. monetary policy during the 1920s and 1930s. 1 The Meaning of"Inflation" In the first of these articles, Timberlake dis­ putes the late Murray Rothbard's "Austrian" Let me begin with Timberlake's contention account of the boom-bust cycle of the 1920s that. Rothbard imputes a meaning to the word and 1930s. Timberlake contends that Roth­ "inflation" that is both new and unacceptable. bard proceeds on. the basis of a "new and In fact Rothbard's definition of inflation as unacceptable meaning" for the term "infla­ "the increase in money supply not consisting tion" and a contrived definition of the money in, i.e., not covered by, an increase in gold," is supply to "invent" a Fed-orchestrated inflation an old and venerable one. It was the definition of the 1920s that, in fact, never occurred. that was forged in the theoretical debate Moreover, Timberlake alleges, Rothbard's between the hard-money British Currency account was marred by a "mismeasurement of School and the inflationist British Banking the central bank's monetary data" as well as School in the mid-nineteenth century. by a misunderstanding ofthe nature and oper­ According to the proto-Austrian Currency ation of the Fed-controlled pseudo-gold stan­ School, which triumphed in the debate, the dard by which U.S. dollars were created dur­ gold standard was not sufficient to prevent the ing this period. booms and busts ofthe business cycle, which In the two subsequent articles, Timberlake had continued to plague Great Britain despite also takes issue, respectively, with the U.S. its restoration ofthe gold standard in 1821.2 Treasury's policy ofneutralizing gold inflows Briefly, according to the Currency School, and the Fed's policy ofsharply raising reserve if commercial banks were permitted to issue requirements in the mid-1930s, arguing that bank notes via lending or investment opera­ these complementary policies aborted an tions in excess of the gold deposited with incipient economic recovery and brought on them this would increase the money supply the recession of 1937-38. In what follows I and precipitate an inflationary boom. The will address the weighty charges brought resulting increase in domestic money prices against Rothbard and, in the process, offer an and incomes would eventually cause a balance­ evaluation of the Federal Reserve System's of-payments deficit financed by an outflow of gold. This external drain oftheir gold reserves Joseph Salerno is a professor of economics in the and the impending threat of internal drains Lubin School ofBusiness at Pace University. due to domestic bank runs would then induce 31 32 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 the banks to sharply restrict their loans and investments, resulting in a severe contraction oftheir uncovered notes or "fiduciary media" and a decline in the domestic money supply accompanied by economy-wide depression. To avoid the recurrence of this cycle, the Currency School recommended that all fur­ ther issues of fiduciary media be rigorously suppressed and that, henceforth, the money supply change strictly in accordance with the inflows and outflows of gold through the nation's balance of payments. The latter pro­ vided a natural, noncycle-generating mecha­ nism for distributing the world's money sup­ ply strictly in accordance with the internation­ al pattern ofmonetary demands. Following the triumph of the Currency School doctrine and the implementation ofits policy prescription by the Bank of England, its definition of inflation became accepted in the English-speaking world, especially in the United States, where there existed a much Francis Amasa Walker (1840-1897) more radical and analytically insightful Amer­ ican branch of the School. The term "infla­ While this version of the definition is applic­ tion" was now used strictly to denote an able to inconvertible paper fiat currency, increase in the supply of money that consist­ Walker also believed that inflation was an ed in the creation of currency and bank inherent feature ofthe issuance ofconvertible deposits unbacked by gold. Thus for example, bank notes and deposits that lacked gold the American financial writer Charles Holt backing. In Walker's words, "there resides in Carroll wrote in 1868 that "The source of bank money, even under the most stringent inflation, and of the commercial crisis, is in provisions for convertibility, the capability of the nature of the system which pretends to local and temporary inflation."6 lend money, but creates currency by discount­ Unfortunately, however, because the writers ing such bills when there is no such money in of the British Currency School, unlike their existence."3 Even earlier, in 1858, Carroll had American cousins, neglected to consider bank written, "Instead of using gold and silver for deposits as part of the money supply, their currency they are merely used as the basis of policies as adopted in Great Britain failed to the greatest possible inflation by the banks," prevent inflation and the business cycle. Con­ and that "we should prevent any artificial sequently, and tragically, the School's doc­ increase of currency to prevent a future ... trines and policies fell into profound disrepute catastrophe."4 So it was the "artificial increase by the late nineteenth century, and its defini­ of currency" only-through the creation of tion of inflation was replaced by that of the unbacked bank notes and deposits-that con­ opposing Banking School, which saw infla­ stituted inflation. tion as a state in which the money supply The leading monetary theorist in the Unit­ exceeds the needs oftrade. ed States in the last quarter of the nineteenth Early American quantity theorists follow­ century was Francis A. Walker. According to ing the proto-monetarist Irving Fisher, in par­ Walker, writing in 1888, "A permanent excess ticular, seized upon and adapted this defini­ of the circulating money of a country, over tion to their peculiar analytical perspective. that country's distributive share ofthe money Thus, Edwin Kemmerer wrote in 1920 that, of the commercial world is called inflation."5 "Although the term inflation in current dis- MONEY AND GOLD IN THE 1920s AND 1930s: AN AUSTRIAN VIEW 33 cussion is used in a variety ofmeanings, there is one idea common to most uses ofthe word, namely, the idea of a supply of circulating media in excess of trade needs."? Kemmerer went on to define inflation as a state in which, "at a given price level, a country's circulating media-money and deposit currency­ increase relatively to trade needs." From here it was a short step to the currently prevailing definition of inflation as an increase in the price level.8 So Rothbard's theory is surely not new and to say that it is "unacceptable" is simply to express one's agreement with the long­ entrenched preference among orthodox quan­ tity theorists, including contemporary mone­ tarists, for the Banking School over the Cur­ rency School.

Defining Money Irving Fisher (1867-1947) Timberlake also challenges Rothbard's sta­ tistical definition of the money supply for they could legally delay such repurchase for including savings and loan share capital and shorter or longer periods depending on their life insurance net policy reserves, alleging individual bylaws. Nonetheless such delays that Rothbard contrived this definition in rarely occurred and "for many years savings order to make the rate of monetary growth and loan associations have made the proud appear larger than it actually was during the boast 'every withdrawal paid upon demand' 1920s. Timberlake argues that the two items or some similar statement."11 in question are not money because "they can­ Moreover, while Timberlake is right that not be spent on ordinary goods and services. "shareholders" had to trade their share To spend them, one needs to cash them in for accounts in for currency or bank drafts (at par other money-currency or bank drafts."9 Let and on demand) before they could spend them us take these items one at time. on goods and services, this was equally true In the case of savings and loan share capi­ of savings depositors at commercial banks. tal, there are two responses to Timberlake. Thus the public has always considered dollars First, the "share accounts" offered by savings held in savings and loan share accounts or and loan associations are and always have savings accounts as readily spendable as dol­ been economically indistinguishable from the lars held in commercial bank savings deposits. savings deposits offered by commercial Second, Timberlake curiously does not banks, included in the older (pre-1980) defin­ object to Rothbard's inclusion of the savings ition of M2 that Timberlake apparently deposits of mutual savings banks in the upholds as the appropriate definition of the money supply, although they also are not money supply.lO In practice depositors could included in the M2 definition he favors. 12 withdraw their savings deposits from com­ What makes Timberlake's position even more mercial banks on demand, because the law puzzling is that mutual savings banks were that permitted the banks to insist on a waiting practically identical in economic function to period was rarely if ever invoked. Similarly, savings and loan associations and were also while savings and loan associations were con­ technically "mutually" owned by their depos­ tractually obligated to "repurchase" their itors. 13 So why, then, does Timberlake insist "shares" at par on request ofthe shareholder, so vehemently on treating the liabilities of 34 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 these two institutions differently? A resolution ofthis mystery can perhaps be found in the work of Milton Friedman and Anna Schwartz, who excluded the share accounts of savings and loans (and of credit unions) from their definition of the money supply on the grounds that these institutions are technically not banks as defined "in accor­ dance with the definition of banks agreed upon by federal bank supervisory agencies" since "holders of funds in these institutions are for the most part technically shareholders, not depositors." Despite this legal technicali­ ty, however, even Friedman and Schwartz were forced to admit that those who place funds with these institutions "clearly ... may regard such funds as close substitutes for bank deposits, as we define them."14

Life Insurance Reserves This brings us to the issue ofthe net policy reserves of life insurance companies. Roth­ bard claimed that the cash surrender values of Murray Rothbard (1926-1995) life insurance companies, that is, the immedi­ ately cashable claims possessed by policy­ banking textbooks in the 1960s and 1970s holders against life insurance companies, sta­ recognized that cashable life insurance tistically approximated by the companies' net reserves possessed some ofthe characteristics policy reserves, represent a source ofcurrent­ of money. For example, Walter W Haines ly spendable dollars and should be included in characterized insurance companies as "sav­ the money supply. Once again the question is ings institutions" and noted that these savings not whether insurance companies superficial­ "can be withdrawn at any time" simply by ly resemble banks or can be technically clas­ allowing the policy to lapse, a feature that sified as such according to some arbitrary reg­ marks them as a "near-money" on a par with ulatory definition. It is whether they essential­ savings accounts. 15 M.L. Burstein maintained ly function like depository institutions, that the cash value of a life insurance policy receiving funds from the public with which to offered "ready convertibility" into cash, was make loans and investments, while contractu­ "almost as liquid as a mattressful of curren­ ally promising that such funds are available cy," and satisfied the "precautionary motive" for withdrawal on demand by the policyhold­ for holding liquid assets no less than savings er. In Rothbard's view, the policyholder is and loan accounts and savings bonds.16 Albert economically in precisely the same position Hart and Peter Kenen included the "net cash as a bank depositor (and thrift institution values of life insurance" in the broadest class shareholder) in holding an immediately cash­ of financial as'sets possessing the attribute of able par-value claim to dollars. "moneyness," while Thomas F. Cargill ranked Now admittedly, Rothbard's inclusion of them on a liquidity spectrum immediately this item in the money supply is controversial, below large certificates of deposit, which are much more so than his inclusion of savings included in the current M3 definition of the and loan share accounts. However, he was money supply. I? hardly alone in maintaining this position. A More important, however, even if we grant number of mainstream writers of money and for the sake of argument that net life insur- MONEY AND GOLD IN THE 1920s AND 1930s: AN AUSTRIAN VIEW 35 ance reserves should be excluded from the Fed's legal-tender reserves, mainly the gold money supply, we find that it makes very little stock, whose size depends on balance-of­ difference to Rothbard's characterization of payments flows and is not under the immedi­ the 1920s as an inflationary decade. With this ate control of the Fed. What remains is the item included, the increase in Rothbard's M "net monetary obligations" ofthe Fed or "Net between mid-1921 and the end of 1928 Fed," which, according to Timberlake, "faith­ totaled about 61 percent, yielding an annual fully indicates the intent of Fed policy."21 rate of monetary inflation of 8.1 percent a From 1921 to 1929, this aggregate declined year; with this item left out (but savings and by 8 percent per year, leading Timberlake to loan share accounts included), the money sup­ conclude that the intent of Fed policy was ply increased by about 55 percent over the decidedly deflationary during this period. The period or at an annual rate of 7.3 percent. I8 motive for this deflationary policy bias was, Mirabile dictu, by using a definition of the Timberlake suggests, to aid Great Britain in money stock that arbitrarily excludes savings re-establishing and maintaining gold convert­ and loan share accounts while including ibility for the pound sterling. mutual savings bank deposits on the basis of However, as important as it is, the gold an inexplicable adherence to a legalistic regu­ stock is not the only factor that lay beyond latory definition ofbanks, it turns out that it is the Fed's control. For as Rothbard points out, Timberlake (and Friedman and Schwartz) currency in circulation, which improperly who have mismeasured money supply growth remains in Timberlake's Net Fed aggregate, is during the 1920s. not controlled by the Fed at all but by the banking public. Any time a depositor with­ draws cash from a bank, currency in circula­ Flawed Institutions tion increases and bank reserves decline, dol­ Timberlake also criticizes Rothbard for lar for dollar. Under a fractional-reserve "ignorance of the flawed institutional frame­ banking system, this loss ofreserves causes a work within which the gold standard and the multiple contraction of bank deposits that far central bank generated money" and also of exceeds the original increase in currency in "mismeasurement ofthe central bank's mone­ circulation that induced it and therefore tary data."19 But this is surely a curious charge results in a net deflation ofthe money supply. to level against Rothbard, steeped as he was in Conversely, a decline in the amount of cur­ Currency School doctrine. In fact, Rothbard rency held by the public causes an overall was quite cognizant that the U. S. monetary increase in bank reserves and an overall infla­ regime ofthe 1920s and 1930s was not a gen­ tion ofthe money supply. uine gold standard in which the supply of This is not all, however-Timberlake also money was determined exclusively by market ignores the fact that under the prevailing pol­ forces, that is, by the balance ofpayments and icy regime the banks themselves could the mining of gold, but a hybrid system in autonomously reduce the amount of bank which the Fed possessed substantial power to reserves and thus the quantity of money in manipulate the money supply by pyramiding existence by deliberately reducing their paper bank reserves atop its stock of gold indebtedness to the Fed. During this period, it reserves. Indeed, Rothbard went much further was the chosen policy of the Fed to lend lib­ than Timberlake in rigorously and completely erally and continuously to all banks at an separating those factors affecting the money interest, or "discount," rate below the market supply that were subject to Fed control from rate. While the Fed was legally authorized to those that the Fed had no control over. 20 make such loans to its member banks, it was In analyzing the central bank monetary not mandated to do so. Furthermore, it also data, Timberlake starts with the monetary retained complete power to set the "discount base or "Total Fed," which is equal to curren­ rate" it charged on these loans. Hence, if it cy in circulation plus member bank reserves. had chosen to, the Fed could have restricted From this aggregate he properly subtracts the its lending to emergency situations and 36 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 charged a penalty rate substantially above the percent per year during this seven-and-one­ market rate, so as to discourage all but the half year period, while uncontrolled reserves most seriously troubled banks from applying fell by 89 percent or 11.9 percent per year. for loans. In short, it could have almost com­ Thus Rothbard correctly concluded that the pletely neutralized the inflationary impact of 1920s were an inflationary decade and that it its discounting operations. This "emergency was indeed the intention of the Federal lending" policy had been urged by some Reserve System that it be SO.23 prominent officials within the Fed establish­ The Fed's inflationary intent is perfectly ment itself.22 consistent, moreover, with its motive ofhelp­ The fact that the Fed chose instead to pur­ ing Great Britain re-establish and maintain sue a "continuous lending" policy meant that the pre-war parity between gold and the the increase in bank reserves that resulted British pound. While Timberlake properly from the origination of new Fed loans to recognizes this motive underlying Fed policy, member banks via the rediscounting of busi­ he is incorrect in suggesting that it necessi­ ness bills or advances on collateralized bank tates a deflationary policy on the part of the promissory notes was under the exclusive Fed. In fact, the precise opposite is required. control of the Fed. But it also meant that the The British pound in the mid-1920s was over­ reduction in bank reserves entailed by the net valued vis-a-vis gold and the U.S. dollar, repayment of discounted bills was uncon­ causing British products to appear relatively trolled by the Fed, because it depended solely overpriced in world markets. As a result, on the decisions ofthe banks. Given the Fed's Great Britain experienced imports chronically indiscriminate, below-market rate discount in excess of exports accompanied by persis­ policy, the banks were always in a position to tent balance-of-payments deficits and out­ maintain or augment their debts to the Fed if flows of gold reserves. Had the Fed deflated they so desired simply by discounting addi­ the U.S. money supply, thus lowering U.S. tional bills with the Fed. Thus, as Rothbard prices even more relative to British prices as concluded, when "Bills Repaid" exceeded Timberlake claims was its intention, it would "New Bills Discounted," banks were deliber­ have exacerbated, and not resolved, Great ately and autonomously diminishing their Britain's gold drain. Clearly, then, the Fed's level. ofindebtedness to the Fed and this must desire to aid Britain in reversing its balance­ be counted as an uncontrolled deflationary of-payments deficits and rebuilding its gold influence on bank reserves. stocks called for an inflationary policy intend­ ed to pump up U.S. prices, thereby rendering Real Fed Intent British products relatively cheap and enhanc­ ing the demand for them on world markets.24 If we follow Rothbard, then, in identifying This point about the motive for the Fed's currency in circulation and the reduction of easy-money policy in the 1920s was not only bank indebtedness to the Fed along with the advanced by Rothbard, but by other econo­ gold stock as the main "uncontrolled" factors mists, including monetarists such as Kenneth affecting bank reserves, we get a picture of Weiher. According to Weiher: the Fed's intent during the 1920s and early 1930s that is poles apart from the one sug­ Great Britain was calling for help [in 1924] gested by Timberlake. Indeed, we find that and Benjamin Strong [president of the from the inception of the monetary inflation New York Fed] heard the call. Expansion­ in mid-1921 to its termination at the end of ary monetary policy in the U. S. would 1928, "uncontrolled reserves" decreased by drive prices up and interest rates down in $1.430 billion while controlled reserves this country, which would tend to send increased by $2.217 billion. Since member gold flowing toward Great Britain, where bank reserves totaled $1.604 billion at the prices were lower and interest rates higher. beginning ofthis period, this means that con­ These changes would help America's ally trolled reserves shot up by 138 percent or 18.4 build up its stock of gold.... [T]here can MONEY AND GOLD IN THE 1920s AND 1930s: AN AUSTRIAN VIEW 37

be no question that the Fed would not have al rate of3.6 percent. But this monetary defla­ moved when it did were it not for concern tion was not caused by the Fed, which over the gold standard and the plight of pumped up controlled reserves by $672 mil­ Great Britain.... By 1927, the stagnant lion or at an annual rate of 17 percent during British economy needed help from the the period, while uncontrolled reserves United States and the rest of Europe. ... declined by $1,063 million or by 27 percent Just as had been the case in 1924, mone­ per year. During 1932, RM continued to tary policy was shifted to an expansionary decline, falling to $64.72 billion or by 5.2 per­ program in an effort to aid Great Britain's cent. But bank reserves increased sharply dur­ struggles to return to the gold standard.25 ing the year from $1.96 billion to $2.51 bil­ lion, as the Fed furiously inflated controlled Rothbard's reinterpretation ofthe monetary reserves. In the last ten months of the year, data also cuts against Timberlake's claim that controlled reserves rose by a staggering the Fed "monetarily starved the country into $1,165 million, or at an annual rate of76 per­ the worst economic crisis it has ever experi­ cent. Fortunately, this attempted massive enced."26 On the contrary, the factors con­ inflation of the money supply was undone by trolled by the Fed continued to exercise a the domestic public, foreign investors, and the highly inflationary impact on bank reserves banks as uncontrolled reserves dwindled by and the money supply from late 1929 through $495 million and banks began to accumulate 1932, as the Fed attempted desperately to substantial excess reserves. ward off the depression precipitated by the The story was much the same in 1933 as a termination ofthe bank credit inflation that it determined inflationary campaign conducted had orchestrated in the 1920s. by the Fed in the early part ofthe year-con­ The deflation of the money supply, there­ trolled reserves rose by $785 million in Feb­ fore, was caused wholly by factors beyond the ruary alone-was defeated by the public and control of the Fed. First, there was a loss of the banks, and RM declined by over $3 bil­ confidence in the Fed-dominated phony gold lion, or by almost 5 percent.27 standard among the domestic public and for­ So once the data have been properly eign investors. As a result there occurred an arranged and interpreted, it becomes clear increase in currency in circulation and a that the Fed does not deserve praise for the decline in the Fed's gold stock, both ofwhich bank credit deflation of 1930-1933. This caused bank reserves to decline. Second, u.S. honor goes to private dollar-holders, domes­ banks prudently attempted to save themselves tic and foreign, who attempted to reclaim and their depositors by restricting their loans their rightful property from a central bank­ to overcapitalized and failing businesses and manipulated and inflationary financial system instead using these funds to pay down their masquerading as a gold standard that had indebtedness to the Fed, which gave further repeatedly betrayed their trust. impetus to the "uncontrolled" reduction of bank reserves. Third, in the second quarter of "Sterilizing" Gold 1932, the banks also began to increase their liquid reserves beyond the legal minimum. In two follow-up articles, Timberlake The accumulation of "excess reserves," as extends his attack on what he considers to be they were called, constituted a separate the "deflationary" monetary policies pursued uncontrolled factor that reinforced the defla­ by the Treasury and Fed in the mid-1930s. In tionary influence of the uncontrolled decline particular, he criticizes the Treasury's policy in bank reserves on the money supply. of"neutralizing," or "sterilizing," the effect of From the end ofDecember 1929 to the end the inflow of gold on bank reserves from late of December 1931, bank reserves fell from 1936 to early 1938 and the Fed's policy of $2.36 billion to $1.96 billion causing RM (for increasing reserve requirements in 1936 and Rothbard's money supply) to drop from 1937. But neither of these policies caused $73.52 billion to $68.25 billion or at an annu- a contraction of the money supply. They 38 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 merely temporarily interrupted a massive any extraneous effects ofa demonetized asset monetary inflation caused by the abolition of on the money supply. the gold standard and subsequent devaluation Even if gold were permitted to continue in of the dollar engineered by the Roosevelt its monetary function, however, Timberlake administration. would still be wrong in criticizing the policy It is important to recognize that this influx ofneutralizing its effect on bank reserves. For ofgold was not a result ofthe "uncontrolled" under a genuine, Currency School-type gold operation of the gold standard, which had standard, a country's money supply would been abolished in 1933. Rather, it was the increase by exactly the amount of the gold result ofthe deliberate and steady increase in inflow from abroad. This is not inflationary the price at which gold was purchased by the and represents precisely the proper amount by U.S. Treasury and the Reconstruction Finance which the money supply should expand, Corporation. By January 1934, the price of because it is the outcome of the deliberate gold had risen from $20.67 to $35.00 per actions of the country's residents who are ounce, or by almost 70 percent, where it was decreasing their purchases of foreign imports officially pegged by the Gold Reserve Act of and increasing their sales of exports in order 1934. The Treasury was now legally mandat­ to satisfy their desires for greater money hold­ ed to maintain this devalued exchange rate ings. This balance-of-payments mechanism is between gold and the dollar by freely pur­ a natural part of the market economy and chasing all the gold offered to it at this price. works continually on all levels-including the In effect, then, Treasury gold purchases were region, state, town, and even household-to now economically identical to inflationary efficiently adapt money supply to relative Fed open market purchases, substituting changes in money demand. demonetized gold for government securities. A problem arises, however, when these Consequently, in response to this unilateral benign, money demand-driven gold inflows increase in the price of gold above its world are used, as they were in the 1920s and early price, there occurred a prodigious influx of 1930s, as bank reserves to create unbacked gold into the United States-a "golden notes and deposits. In this case, as F. A. Hayek avalanche" it was called at the time-which has so aptly described, international gold vastly increased bank reserves. The result was flows will regularly cause a serious distortion an unprecedented inflation ofthe money sup­ ofthe free-market interest rate and investment ply (M2) during 1934, 1935, and 1936 at pattern in the affected countries, leading to a annual rates of 14 percent, 14.8 percent, and business cycle.29 The reason is that the need­ 11.4 percent, respectively.28 ed adjustment in national money supplies With respect to its influence on the supplies upward or downward now entails creating or ofbank reserves and money, the demonetized destroying fiduciary media by expanding or gold stock thus had been transformed into a contracting bank loans in defiance ofthe pref­ factor "controlled" by monetary-in this case erences of the economy's consumers and Treasury-policy. Given that the use and savers. Thus, a policy of neutralizing the . ownership of gold money by the public had effect of gold flows on bank reserves in the been legally suppressed, gold was effectively context of a fractional-reserve banking sys­ demonetized and its continued purchase by tem dominated by a central bank does not the Treasury was purely a matter of discre­ constitute a gross violation ofthe rules ofthe tionary monetary policy. Accordingly-and gold standard; to the contrary, it tends to facil­ contrary to Timberlake's assertion-when itate the operation of the natural money­ during 1937 the Treasury began to finance its supply mechanism that prevails under a gen­ purchases ofgold in a manner that neutralized uine gold standard. their effect on bank reserves, it was not Not surprisingly, in the third article of the engaging in deflation. The simultaneous sales trilogy, Timberlake also objects to the Fed's ofgovernment securities to finance these pur­ policy ofraising reserve requirements in 1936 chases were simply and properly eliminating and 1.937, which was undertaken to mop up MONEY AND GOLD IN THE 1920s AND 1930s: AN AUSTRIAN VIEW 39 the massive amounts of excess reserves held Unfortunately Timberlake's strained and by the banking system. Timberlake advances narrow emphasis on Fed deflationism as the two criticisms against this policy. First, the cause ofall the woes ofthe 1930s causes him policy was unnecessary because, even if all to ignore a plausible "Austrian" explanation the excess reserves that existed on the eve of ofthe relapse of 1937. As a result ofa spurt of its implementation were subsequently fully union activity due to the Supreme Court's loaned out by the banks, the inflationary upholding of the National Labor Relations potential was relatively minor. Appealing to Act of 1935, money wages jumped 13.7 per­ the Banking School definition of inflation, cent in the first three quarters of 1937. This Timberlake pronounces the 52 percent sudden jump in the price of labor far out­ increase in the money supply that would have stripped the rise in output prices and, with resulted as only mildly inflationary because labor productivity substantially unchanged, the larger money supply would have exceeded brought about a sharp decline in employment the needs oftrade of a fully employed econo­ beginning in late 1937.33 The large upward my by 5.6 percent at 1929 prices, which were spurt in excess reserves and the accompany­ about 25 percent higher than prices prevailing ing decrease in the money supply that we in June 1936.30 In plain language, Timberlake observe in Timberlake's data between June is literally defining away a potential money 30, 1937, and June 30, 1938, therefore, can be and price inflation of gargantuan proportions explained as the result, and not the cause, of because of its perceived expedience in the recession.34 As business profits were expanding employment and output and extri­ squeezed by the run-up of labor costs and the cating the economy from a depression. But as economy slipped into recession, banks pru­ Timberlake himself admits in a footnote­ dently began to contract their loans and pile and as Rothbard and other Austrians have up liquid reserves to protect themselves never ceased to argue-what impeded the against prospective loan defaults and bank economy's natural and noninflationary recov­ runs. To offset this uncontrolled decline ofthe ery from the depression was the existence of money supply, beginning in mid-1938 the Fed "government programs [that] had actively (and the Treasury) once again resorted to an worked against money price declines for ten inflationary policy, reversing the reserve years."31 requirement increase and allowing gold inflows to once again pump up bank reserves. Growing Money Supply As a result, M2 increased by 5.9 percent, 10.1 percent, and 12.5 percent in 1938, 1939, and In his second criticism, Timberlake con­ 1940, respectively.35 tends that the increase in reserve requirements Our conclusion, then, is that the Fed's mon­ went beyond closing off a potential avenue of etary policy, except for very brief periods in recovery for the economy and "turned what 1929 and 1936-1937 when it turned mildly had been an ongoing recovery into another disinflationist, was consistently and unremit­ cyclical disaster." But ifwe once again turn to tingly inflationist in the 1920s and 1930s. This Timberlake's data we find that the money sup­ inflationism was the cause of the Great ply (M2) continued to grow, from $43.3 to Depression and one ofthe reasons why it was $45.2 billion or by 4.4 percent, between June so protracted. D 30, 1936, and June 30, 1937, the year in 1. Richard H. Timberlake, "Money in the 1920s and 1930s," The which this policy was implemented. Even if Freeman, April 1999, pp. 37-42; "Gold Policy in the 1930s," The we focus on the last six months ofthe period, Freeman, May 1999, pp. 36-41; and "The Reserve Requirement Debacle of 1935-1938," The Freeman, June 1999, pp. 23-29. there was hardly a wrenching deflation, as the 2. For areview ofthis debate, see Murray N. Rothbard, Classical money supply increased at an annual rate of Economics: An Austrian Perspective on the History of Economic 32 Thought, Volume II (Brookfield, Vt.: Edward Elgar Publishing Com­ 0.8 percent. Even from Timberlake's mone­ pany, 1995), pp. 225-74. tarist standpoint, then, it is difficult to blame 3. Charles Holt Carroll, Organization ofDebt into Currency and Other Papers, ed. Edward C. Simmons (Princeton: D. Van Nostrand the "recession within a depression" of Company, Inc., 1964), p. 333. 1937-1938 on deflationary Fed policy. 4. Ibid., p. 91. 40 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999

5. Francis A. Walker, Political Economy (New York: Henry Holt 1961), pp. 4-6; Thomas F. Cargill, Money, the Financial System and and Company, 1888), p. 151. Monetary Policy (Englewood Cliffs, N.J.: Prentice-Hall, Inc., 1979), 6. Ibid., p. 171. p. 11. 7. Edwin Walter Kemmerer, High Prices and Deflation (Prince­ 18. I have based this calculation on Rothbard's data. See Roth- ton: Princeton University Press, 1920), p. 3. bard, America's Great Depression, p. 88. 8. Ibid., p. 4. 19. Timberlake, "Money in the 1920s and 1930s," p. 38. 9. Timberlake, "Money in the 1920s and 1930s," p. 38. For Roth­ 20. Rothbard, America's Great Depression, pp. 94-100. bard's explanation and defense of his broader definition of the 21. Timberlake, "Money in the 1920s and 1930s," p. 40. money supply, see Murray N. Rothbard, America's Great Depres­ 22. On the Fed's discount policy in the 1920s, see Rothbard, sion (Los Angeles: Nash Publishing Corporation, 1972 [1963]), America's Great Depression, pp. 111-16. pp.83-86. 23. For an analysis ofthe factors involved in the development of 10. I say "apparently," because he states that "No basis exists for the monetary inflation ofthe 1920s, see ibid., pp. 101-25. a more inclusive money stock than M2" (ibid., p. 42, n. 3). It should 24. On the desire to help Great Britain restore the gold standard be pointed out that, since February 1980, savings accounts ofsavings at an overvalued gold parity without having to endure the conse­ and loan associations and credit unions have been included, along quences of deflating its economy as an important motive driving with savings deposits ofcommercial and mutual savings banks in the the Fed's inflationary monetary policy in the 1920s, see ibid., pp. new M2, an official Fed statistic that is today considered to be the 131-45. most reliable indicator of movements in the money supply by many 25. Kenneth Weiher, America's Search for Economic Stability: economists. Monetary and Fiscal Policy Since 1913 (New York: Twayne Pub­ 11. John G. Ranlett, Money and Banking: An Introduction to lishers, 1992), pp. 48-49. Analysis and Policy (New York: John Wiley & Sons, Inc., 1969), p. 26. Timberlake, "Gold Policy in the 1930s," p. 36. 251. 27. On the factors responsible for the monetary deflation of the 12. Paul A. Meyer, Monetary Economics and Financial Markets early 1930s, see Rothbard, America's Great Depression, pp. (Homewood, Ill.: Richard D. Irwin, Inc., 1982), pp. 31-32. 186-295 passim. 13. Walter A. Haines, Money, Prices, and Policy (New York: 28. Weiher, pp. 75, 79-82. McGraw-Hill Book Company, Inc., 1961), pp. 249-50. 29. F. A. Hayek, Monetary Nationalism and International Sta­ 14. Milton Friedman and Anna Jacobson Schwartz, A Monetary bility (New York: Augustus M. Kelley Publishers, 1971 [1937]), History ofthe United States, 1867-1960 (Princeton: Princeton Uni­ pp.25-32. versity Press, 1963), p. 4, fn. 4. The essential economic-as opposed 30. These figures are calculated from Timberlake's data. See to the technical legal-identity between commercial bank deposits Timberlake, "The Reserve Requirement Debacle," p. 27. and all kinds ofinstantaneously cashable savings accounts held at the 31. Ibid., p. 29, n. 11. various nondepository or thrift institutions was established many 32. Ibid., p. 27. years before Friedman and Schwartz wrote, in 1937, in a brilliant but 33. Richard K. Vedder and Lowell E. Gallaway, Out of Work: neglected article by Lin Lin ("Are Time Deposits Money?" Ameri­ Unemployment and Government in Twentieth-Century America can Economic Review, March 1937, pp. 76-86). This article was not (New York: Holmes and Meier, Publishers, Inc., 1993), pp. 129-36. cited by Friedman and Schwartz but greatly influenced Rothbard. For a similar explanation of the 1937 slump, see Benjamin M. 15. Haines, pp. 253-54, 31-32. Anderson, Economics and the Public Welfare: A Financial and Eco­ 16. M. L. Burstein, Money (Cambridge, Mass.: Schenkman Pub­ nomic History ofthe United States, 1914-1946 (Indianapolis: Liber­ lishing Company, Inc., 1963), p. 111. tyPress, 1979 [1949]), pp. 432-38. 17. Albert Gaylord Hart and Peter B. Kenen, Money, Debt, and 34. Timberlake, "The Reserve Requirement Debacle," p. 27. Economic Activity (Englewood Cliffs, N.J.: Prentice-Hall, Inc., 35. Weiher, pp. 75-86. Classic Satires

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Comparative Advantage

ne of the most powerful and straightfor­ because ofdifferences in soil and climate, the O ward economic concepts is "comparative United States is better at producing wheat advantage." As important and simple as this than Brazil, and Brazil is better at producing concept is, however, it seldom seems to coffee than the United States. Obviously both inform public discussions of international countries are better off when Americans pro­ trade. Almost everyone "knows" that we can't duce wheat and exchange a portion of it for compete with countries that have cheap some ofthe· coffee that Brazilians produce. labor-if we have free trade with such coun­ But does this mean that a country with an tries either wages will be driven down or absolute advantage in the production of a many workers will lose their jobs. As Will good should always produce that good rather Rogers once observed, "It's not what people than import it? No, as the English economist don't know that is the problem, it is what they David Ricardo first explained in the early do know that's not true." l800s. A country can have an absolute advan­ Understanding comparative advantage has tage in the production of a good without hav­ the same effect on concerns about free trade ing a comparative advantage. Comparative as water had on the Wicked Witch ofthe West. advantage is what determines whether it pays Free trade with other countries (regardless of to produce a good or import it. how much or little their workers are paid) Assume that there are only two goods, cars doesn't increase unemployment or lower and computers, and one productive resource wages. Indeed, one of the best ways of which is some composite of land, labor, and increasing the wages of U.S. workers is by capital. Assume also that producing 100 cars allowing them to compete with workers (even requires two units of the productive resource very low paid workers) in other countries (PR) in the United States and four units in through free trade. Brazil, and producing 1,000 computers requires three units ofPR in the United States Absolute Versus and four in Brazil. Thus: Comparative Advantage u.s. Brazil The most straightforward case for free 100 cars 2 4 trade is that countries have different absolute 1,000 computers 3 4 advantages in producing goods. For example, Americans have an absolute advantage in pro­ ducing both cars and computers. Dwight Lee is Ramsey Professor at the Terry College ofBusiness, University of Georgia, and an adjunct It may seem that Americans can realize no fellow at the Center for Study ofAmerican Business gain by trading with Brazilians. Why not pro­ at Washington University. duce both cars and computers here? Because 41 42 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 it costs more to produce computers in the computers in Brazil, we never mentioned how United States than in Brazil. All costs are much U.S. or Brazilian workers are paid. opportunity costs. The cost ofproducing com­ Workers in the United States will be paid puters is the cars that could have been pro­ more than those in Brazil because they are duced. Using the three units ofPR required to more productive in our example. So in terms produce 1,000 computers in the United States of output, lower wages don't mean lower requires sacrificing the production of 150 costs. Indeed, asking whether U.S. or Brazil­ cars. Using the four units of PR required to ian workers are less costly ignores the rele­ produce 1,000 computers in Brazil requires vant question: less costly doing what? U. S. sacrificing only 100 cars. workers are less costly at producing cars, but So even though Americans have an Brazilian workers are less costly at producing absolute advantage in producing computers, computers. This is true no matter what U.S. Brazilians have a comparative advantage. and Brazilian workers are paid. Compared to what has to be sacrificed, Brazil Moreover, free trade does not cause unem­ produces computers for only two-thirds as ployment in either the United States or Brazil. much as it costs in the United States. The True, free trade eliminates U.S. jobs in the United States, of course, has a comparative computer industry and Brazilian jobs in the advantage over Brazil in the production of car industry, but it increases U.S. jobs in the cars. Producing 100 cars here costs 666 com­ car industry and Brazilian jobs in the comput­ puters, while producing 100 cars in Brazil er industry. costs 1,000 computers. Furthermore, the jobs that free trade elimi­ Clearly the United States benefits from spe­ nates are lower-paying jobs than the ones it cializing in cars, which it produces more creates. Without free trade, the United States cheaply than Brazil, and trading with Brazil and Brazil would each employ workers who for some of the computers it produces more produce both cars and computers. This means cheaply. If, for example, the United States pro­ that many workers in each country would be duced both cars and computers it might devote doing jobs in which they do not have a com­ 70 units of PR to car production and 30 units parative advantage, and therefore in which to computer production, yielding 3,500 cars they are less productive than they could be. and 10,000 computers. IfBrazil produced both With free trade these workers would be direct­ products, it might devote 56 units ofPR to car ed into more jobs where they are more pro­ production and 24 to computer production, ductive and receive higher pay, since the com­ yielding 1,400 cars and 6,000 computers. On pensation workers receive ultimately depends the other hand, by specializing in their com­ on how productive they are. parative advantages, the United States can pro­ The concept of comparative advantage is duce 5,000 cars and Brazil can produce 20,000 deceptively simple. Tiger Woods surely has computers, or a total of 100 additional cars the potential ofbeing one ofthe best caddies and 4,000 additional computers. The United in the world. How many people could give States could trade 1,450 cars to Brazil for you better advice on lining up a putt or 12,500 computers and have 50 additional cars selecting a club? He has an absolute advan­ (3,550) and 2,500 more computers (12,500), tage. But everyone knows that the opportuni­ while Brazil would have 50 more cars (1,450) ty cost to Tiger Woods ofbecoming a caddie and 1,500 more computers (7,500). Trade is is too high to make that a sensible option. He productive since it generates more output of would be sacrificing the return from being a both products. professional golfer, the activity in which he has a strong comparative advantage. Under­ Low Wages Don't Mean standing why Tiger Woods doesn't become a caddie is enough to understand why high­ Low Cost paid U. S. workers benefit when free trade Notice that in determining that it is less puts them in competition with lower-paid for­ costly to produce cars in the United States and eign workers. D Market Money and Free Banking by Bettina Bien Greaves

"Ifwe want to have money, it must be something that cannot be increased with a profit by anybody, whether government or a citizen. The worst failures ofmoney, the worst things done to money were not done by criminals but by governments, which very often ought to be considered, by and large, as ignoramuses but not as criminals." -LUDWIG VON MISES, speaking at the Foundation for Economic Education, November 8,1969.

ost people who write about money and As an alternative to national control ofthe M banking nowadays from a free-market monetary system, these free-market critics of perspective criticize the Federal Reserve­ the Fed would prefer private banking. In their and rightly so-for contributing to uncer­ view, private banks would be well able to sat­ tainty by alternating between expansion and isfy the market's "need" for currency by issu­ contraction. They point to the Fed-induced ing bank notes to satisfy the demands oftheir monetary manipulations that have led to the clientele. Such issues of currency would hold boom-bust business cycle. They criticize no threat of inflation, they say, for the issues especially the Fed's arbitrary contractions of would necessarily be limited by the competi­ 1929-1933 and 1936-1938, which resulted tion of the issues of other private banks as in economic downturns and were alleviated well as by the obligation of each bank to only when monetary expansion resumed. redeem its notes in real commodity money They fault the Fed for sitting on its stockpile according to terms agreed upon. ofgold and for not using it as a basis for fur­ Private banks with the freedom to issue ther expansion. They object to the Fed's notes are certainly consistent with free­ inconsistency, alternating between easy market theory. However, by starting from the credit one moment and tight credit the next. premise that the very purpose offree banks is At the root oftheir criticism there appears to to issue currency, it would seem that the advo­ be a belief, however, that a continual expan­ cates of private banks ignore basic econom­ sion in the quantity of money is not only ics; they fail to consider, first, what market desirable but also necessary for an economy money is and, second, the basic role ofbanks to prosper. in a free market. Money is not a piece ofpaper with a dollar Bettina Greaves is resident scholar at FEE. sign printed on it; money is basically a medi- 43 44 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 urn ofexchange, something with market value producing and there wouldn't be anything to that market participants are willing to accept buy-at any price. in exchange. Second, banks are institutions dedicated to handling, safeguarding, lending, and!or managing the funds of depositors, Continually Increasing Money according to agreed-upon terms. Emphasiz­ Fortunately economists see through such ing the note-issuing aspect ofprivate banking proposals and do not recommend the unlimit­ assumes (1) that the paper currency itself is ed issue ofpaper money. However, many per­ money, (2) that the economy "needs" a cer­ sons, unfortunately, believe that for an econo­ tain supply of readily available paper bank my to prosper the total quantity of money in notes, and (3) that a less-than-"adequate" the economy must be continually increased.! amount of currency necessarily leads to eco­ They point to occasional monetary contrac­ nomic disaster. tions (deflation) in this country and claim that Everyone wants more money-you, I, our the economy began to pick up only after the friends, families, employers, businessmen. It Federal Reserve began again to inflate. Defla­ is not money per se that we want, but pur­ tion, they say, must be avoided at all costs. chasing power; we want what money can And most people believe it is the task ofgov­ buy-food, clothing, and shelter, of course, ernment and of the banks to provide the cur­ and also automobiles, televisions, computers, rency, to keep prices relatively stable, and to medical care, travel, and entertainment. There prevent deflation. is practically no end to the wants we can sat­ Private banking, according to its advocates, isfy if we have more money. Government too would eliminate violent monetary fluctua­ wants more money to buy things-guns, tions. Private banks of course should be free planes, highways, and the ability to pay its to issue currency, but their notes would not be employees; it wants to provide health care, to legal tender. Their paper notes would repre­ take care ofthe poor and the elderly, to clean sent the medium-of-exchange-commodity on up pollution, to insure bank deposits, to give deposit at the bank and would be redeemable humanitarian aid to foreigners, to assist some by the bank at any time. As such, their notes foreign governments militarily, and so on ad could become the community's money. But infinitum. There seems to be no limit to the their status as money would have to be amount ofmoney people would like to have. earned; it would not result from the mere Some people carryover into the field of issue of paper currency labeled "money." A economics the idea that each ofus would like private bank's notes would have to compete more money in his own wallet or bank with readily marketable commodities, as well account. They reason that if everyone would as with other bank notes, for acceptance as be better off if he had more money, then it media of exchange. The bank would have to should follow that the more money in the persuade market participants that its notes had whole economy the more prosperous the value on the market, were generally accept­ whole economy would be. Some have even able to traders, and thus were reliable media carried this idea to the extreme and have rec­ ofexchange. ommended that the government needn't col­ The method for introducing the bank's lect taxes at all but may simply print all the notes into circulation and the interest rate it paper money it wants, and hand it out to peo­ asked of borrowers would limit the effective­ ple on the theory that their spending will then ness of supply and demand in checking bring prosperity. Of course, if this idea were under- and over-issue. For instance, a below­ really put into practice, the printed money market interest rate would invite an increased would soon be so plentiful that it wouldn't be demand for loans, which the bank could satis­ worth anything on the market; it would no fy only by expanding its note issue; an above­ longer be serviceable as a medium of market interest rate would discourage loan exchange, and thus, also, it would no longer applications and lead to contraction. Howev­ be any good as money. Producers would stop er, it is true that the bank's willingness to MARKET MONEY AND FREE BANKING 45 redeem on demand all its notes submitted for one, no one will be willing to take it in trade redemption would prevent any over-issue. for what he is selling. Such a "free good" will The monetary problem that the advocates never become a medium of exchange. of free banking are trying to solve, as The availability of a medium of exchange described by modern monetary economists, is was a big step forward toward economic very complex. But this complexity is not a progress. The name given to it is "money." consequence of the economics of money. Over millennia, many commodities have been Rather it is caused by governmental, not eco­ used as money-gold, silver, wampum, nomic, factors-especially the designation of tobacco, cattle, and more. As a result of vol­ government's notes as legal tender for the untary transactions undertaken by countless payment ofdebts. The complexity ofthe mon­ traders over years, the various commodities etary situation is the outcome ofmany regula­ used as money were finally narrowed down to tions and controls. To analyze the problem practically only one-gold. and the views of today's advocates of free Although we now talk about our paper U. S. banking, one must review some basic eco­ dollars as if they were money, we should nomic principles. never forget that whatever we use as money must be something people will take in trade. Medium of Exchange Only its tradability, its acceptability, assures that money is something you and I can There is really nothing complex about exchange for things we want. It should be money itself. Money is simply a medium of "something that cannot be increased with a exchange. Money came out of barter as a profit by anybody, whether government or a result of countless purposive actions of indi­ citizen," lest that government or citizen take viduals. As the development ofspecialization advantage of the situation to increase its and the division oflabor expanded to encom­ quantity until it loses its value as a medium of pass more and more persons, it became diffi­ exchange. cult and cumbersome to exchange goods for However, we should not dismiss money as goods, that is, to engage in direct exchange, to unimportant because it is simply a medium of barter. IfJones wanted to trade his output for exchange. In today's world, almost every things to consume, he was not always able to interpersonal transaction depends to some locate a would-be trader willing to take his extent on a reliable money. It is essential for a goods and services in exchange for the pre­ viable economy. It facilitates trade, calcula­ cise items he wanted. As a result, step by step, tion, and production. It enables entrepreneurs Jones and other would-be traders discovered operating in a finely specialized division of in time that exchanging what they had for a labor to estimate production costs, calculate more widely desired commodity would bring potential income, and anticipate future mar­ them one step closer to a successful exchange. kets. It makes it possible for entrepreneurs to Traders came to recognize, as the outcome carry out far-ranging and complex financial of countless voluntary exchanges, agree­ transactions over long periods of time and ments, and contracts, that some particular across great distances. commodity could serve as a generally useful Strictly speaking, the government-issued medium of exchange in their community. currency in use today, the U.S. dollar, is not Such a readily marketable commodity might money per se. It is a transmogrification of be held for a while and then used later when a market money foisted on the people by force suitable trading opportunity arose. Thus, over through the legal-tender laws. It is a derivative centuries, perhaps millennia, money evolved. of the commodity-gold-that emerged over No government conceived the idea; it came centuries as the market's medium of out ofthe market. The medium ofexchange in exchange. Similarly, privately issued notes any community must be something that has would have to earn their reputation as reliable market value, purchasing power. If a com­ media of exchange to become accepted as modity is easily available and free to every- money. 46 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 Banks and Banking Banks are expected, of course, to lend the money that savers leave with them for that To understand money, it is important also purpose, sharing part of the interest earned to analyze banks and their economic begin­ with those who furnished the funds. But even nings. Banks originated as market custodians in such cases, banks must be cautious. They for funds entrusted to them by depositors. soon learned from experience that the periods They soon began to serve as middlemen to for which loans are made must be coordinat­ help arrange financial transactions for cus­ ed with the dates when the money lent has to tomers. A bank's assets consisted of the be repaid to depositors. In other words, funds left with it for safekeeping and money deposits that its customers could claim on entrusted to it for managing and/or lending. demand at any time must always be If banks lent funds left with them for safe­ redeemable from funds on hand. Funds to keeping they did so only at the risk that their repay short-term loans must be financed by depositors, who expected their money to be credits that will be repaid by the end of the kept safe and available on demand, might short terms specified. And long-term loans ask for it and find it gone. However, experi­ may be financed by funds repayable to the ence taught bankers that all depositors would bank over longer periods. But those funds too not ask for all their money at the same time; must be back in the bank by the date when so a bank could lend a portion of these they must be repaid to the depositors. For funds-if it was careful. The bank knew that instance, if a bank's short-term loans are the rate of interest it asked could influence a backed by long-term mortgages, the bank person to borrow more or less. If the bank would be in trouble. lowered its interest rate, it could expand its currency issue and lend more for its own The Role of Government profit. But lending more increased the bank's risk. It always realized that such over-lend­ Much has changed over the centuries since ing might be discovered and it would then money first evolved on the market and since have to make up the shortfall from elsewhere entrepreneurs first opened banks to serve the or face bankruptcy. needs ofpersons who engage in money trans­ It is argued that expanding credit to lend actions. But the basic economic principles more money promotes prosperity because it remain the same. To serve as money, a com­ puts money in the hands ofbusinessmen who modity must still possess widespread mar­ can use it to good advantage. This argument ketability as a medium of exchange. And to depends on considering the "seen" and ignor­ remain in business private banks must still ing the "unseen." It ignores the fact that new fulfill their obligations. credit over and above the available supply of Governments have become more and more savings can be granted only by issuing loans involved with monetary matters. It started at below-market interest rates. This means when they were called on to settle disputes expanding credit artificially. Those who bene­ that arose over contracts. Courts and judges fit from the additional new credit, createdfor were frequently asked to decide whether the the profit ofthe issuing bank, are helped; they two parties to an agreement had actually com­ appear on the market ahead of others, bid up plied with the terms agreed upon. Suppose prices, and walk offwith their credit-financed one person agreed to exchange bushels of purchases. Those who do not benefit from the wheat for money of the realm, and the other new credit, the savers on whose funds the agreed to pay a certain amount of money for expansion was based, are hurt. But they are wheat. When the time came for the farmer to not seen. Not having received any ofthe new deliver wheat and the buyer to deliver money, credit, they do not become visible spenders; one or both parties might object that the other they are prevented by the beneficiaries of the had not complied with the agreement. It was new credit from using their own money as then up to the courts to decide. Was the wheat they wish. delivered actually the quantity and quality MARKET MONEY AND FREE BANKING 47 specified in the contract? Was the money promises to redeem its bonds and debts in paid-whether gold, silver, wampum, tobac­ gold. In January 1975, U.S. citizens regained co, dollars, or pesos-actually "money" as the right to own gold, but they are still com­ called for in the contract? Only that, and noth­ pelled to accept the government-issued legal­ ing more than that, the courts and judges had tender notes. to decide. Throughout all the years since the Federal Government's role in the field of money Reserve Banks opened, the quantity of legal­ was soon broadened. From the idea that tender money has continually increased. And courts must settle disputes over what was the market value, the purchasing power, per meant by "money" in specific cases, there unit of this money has continually declined, developed the doctrine that money was what­ reflecting the subjective value that individual ever the government said it was. Governments market participants place on the dollar rela­ took advantage of this situation. They not tive to other goods and services. only decreed what money was but they expanded for their own profit the quantity of whatever they decreed to be money. Then they Inflation: More Money or compelled people to accept that money in Higher Prices? trade by declaring it to be legal tender for the payment of debts. One reason for confusion over money Counterfeiters try to piggyback for their results from the changed definition of the own profit on a community's money. A gov­ word "inflation." Originally and traditionally ernment does essentially the same thing. In it meant an increase in the quantity ofmoney ancient times, governments clipped or adul­ and/or credit, and it is so defined in Merriam terated their coins and then compelled the Webster s Second International Dictionary people to accept them at their previous nomi­ (1954).2 Only in recent decades has the word nal value. Later, with the invention of the been widely used to refer to one consequence printing press, it became easier to debase the ofa monetary increase: an increase in prices. currency. The government could simply Granted, this new definition is now widely declare anything to be money, even a piece of accepted, but that does not make it correct or paper. Then government privileged certain expedient. Not only does it leave the lan­ banks and protected them from bankruptcy if guage without a term for a monetary they printed bank notes for the profit of the increase, but it shifts the blame away from the government over and beyond the gold or silver real culprits to the victims. While the U.S. deposits in their vaults. And the government government and the government-established gave these bank notes legal-tender status. Federal Reserve are responsible for increas­ With the establishment ofthe Federal Reserve ing the quantity of money for their own system in this country in 1913, the monetary profit and hence for causing prices to rise, it system oflegal-tender paper bank notes based is the victims-businessmen, savers, work­ on reduced gold and silver backing was for­ ers' investors, consumers, and so on-who malized. In time the U.S. government itself, are blamed for asking or paying higher through the Federal Reserve, assumed the prices. responsibility for issuing this country's cur­ Now let us consider the Federal Reserve as rency. And these paper notes enjoy legal­ "an engine of inflation." Granted, it is diffi­ tender status today. cult to compare the number of dollars in cir­ The redemption in gold or silver of legal culation over the years. Statisticians fre­ tender was at first discouraged and then halt­ quently revise their "money stock" estimates, ed completely. In 1933 it became impossible even changing what they include. However, for citizens to obtain gold for their paper there can be no doubt that there has been a money, and they were eventually prohibited tremendous increase in the number of dollars from owning any monetary gold at all. The since 1913 when the Fed was established. U. S. government even reneged on its own There was a Fed-inspired monetary expan- 48 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 sion from 1921 to 1929. In 1913, the coun­ The Effects of Inflation try's "money stock" (gold, coins, and notes) was estimated at $3.798 billion.3 On June 30, Supply, demand, and competition for the 1929, at the peak of the stock market boom, medium-of-exchange commodity are deter­ this figure had more than doubled to $8.538 mined by the subjective values ofmarket par­ billion, representing a substantial inflation. If ticipants. This is true whether the medium is market prices did not climb to the same gold, a paper substitute for gold, a paper note extent during those years, as most economists decreed by government to be legal tender, or a agree they didn't, it is because the effect of private bank's paper note. Every dollar added the monetary increase on prices was hidden to the existing supply of money to which the by increased production, due to the initiative, market has adjusted has at least three innovation, and productivity of entrepre­ inevitable consequences: (1) it confiscates neurs, creating a downward pressure on some wealth from anyone who owns dollars; prices. (2) it upsets the calculations ofentrepreneurs; To return to the statistics, the money stock and (3) it reduces purchasing power. reported on June 30, 1930, dropped slightly New issues of money and/or credit with­ from 1929 to $8.306 billion, but by June 1932 draw or extract some value, some purchasing it had climbed to $9.004 billion. The Fed's fig­ power, from every. existing dollar asset, ures show that the country's money has been whether in a wallet, savings account, bond, increased more or less steadily ever since, insurance policy, or debt payable in dollars. bounding up especially during war years.4 By The value of every person's dollar holdings the end of 1998, M2 figures came to $4,288.3 shrinks even as he sleeps. New issues of billion. And they continue to climb. If U. S. money and/or credit upset the calculations prices have not risen proportionately, it is due entrepreneurs made in dollar terms, distort­ not only to the tremendous initiative, ingenu­ ing production, causing malinvestment, and ity, adaptability, and productivity of entrepre­ setting the stage for a boom/bust business neurs but also to the mushrooming demand by cycle. Of course, holders of privately issued foreigners to hold dollars-as their preferred currency that does not enjoy legal-tender sta­ medium of exchange-for their own security tus are not helpless; they may refuse to and as a hedge against the potential loss in accept it if it loses value and turn to some value from inflation of their own country's other medium of exchange. currencies. When the quantity of money is increased, Being unable to trade in gold, and having the new ·money is passed from one person to long since been compelled to accept the U.S. another throughout the economy. But this legal-tender dollars in payment ofdebts, mar­ takes time. Every additional monetary unit ket participants have come to accept them by created-whether by gold miner, the printing default as the best available medium of press, credit expansion, or deficit financing exchange. Having no other realistic alterna­ (monetization of debt)-goes to some indi­ tive, entrepreneurs do their best to calculate viduals first. It necessarily affects their value . their costs and potential markets in terms of judgments, reducing in their minds the mar­ dollars. In making business plans, they try to ginal utility ofeach unit ofmoney. Those who anticipate future fluctuations in the value of receive the new money or new credit first ben­ the dollar. And as long as the Federal Reserve efit, feel more affluent, spend more freely, and practices relative restraint, market partici­ are willing to offer higher prices for goods pants worldwide adjust and adapt fairly suc­ and services. Their demand for goods and cessfully. But in the last analysis, the market services creates pressures on the market push­ value of the U.S. paper/credit dollar depends ing prices upward. The delayed and uneven on the judgment offallible human beings who effect on the market of an inflation helps the take into consideration, among other factors early recipients of the new money at the the political climate, the interests and profit of expense of others. Those who do not receive the U.S. government. any ofthe new money until later are hurt; they MARKET MONEY AND FREE BANKING 49 must pay the higher prices resulting from the units ofmoney, and more or less for goods and pressure ofthe increased demands ofthe early services, depending on their subjective values. beneficiaries before they get any of the new The purchasing power per monetary unit will money themselves. tend to decline as the number of monetary There have been many times in history units increases. It will tend to rise as the num­ when the value of money has dropped drasti­ ber of monetary units drops. In the end, the cally because governments have increased the purchasing power per monetary unit will quantity for their own profit. One ofthe most shrink or stretch so that the total available dramatic cases is that of th~ German mark quantity of money, large or small, will suffice after World War I. By 1923, the number of to purchase the available goods and services. German marks was increased by billions, the Thus, any amount ofmoney is enough money, market value of a single mark fell practically if it is not changed abruptly or arbitrarily and to zero. The marks still enjoyed legal-tender ifit is not made legal tender. D status. However, they were no longer reliable 1. This article was sparked by Professor Richard H. Timberlake's and ceased to serve as money. Creditors three articles in The Freeman (April, May, and June 1999). engaged in all kinds of subterfuges to avoid 2. It defines inflation basically as a "Disproportionate and rela­ tively sharp and sudden increase in the quantity ofmoney and cred­ being repaid in marks, and debtors tried vari­ it, or both, relative to the amount of exchange business." ous tactics to trick their creditors into accept­ 3. Statistics approximate, taken from the monthly Federal Reserve Bulletins. ing payment in the depreciated marks. 4. The Fed's monetary statisticians apparently took a holiday in Many other national currencies have suf­ 1933 along with the banks. But they returned to the task after the gold stock was revalued from $20.67 to $35.00 per ounce by FDR's fered similar fates in recent years-the Boli­ diktat. The value of the money stock as of December 3, 1933 vian and Argentine pesos, the Russian ruble, ($17.470 billion) reflected the increased value of the government's gold holdings. By December 1941, when World War II started, the the Italian lire, the Thai baht, the Indonesian money stock had increased to $90.435 billion. By the end ofthe war, rupiah, the Hungarian forint, to name a few. it had been expanded to $113.597 billion. In the 1950s, the u.s. gold holdings began to go down as other countries started to withdraw Such examples show clearly that there can be their gold from the United States. However, money stock statistics too much money. continued to climb. At the end of the Korean War (1955) it was approximately $133.3 billion. In 1971, Federal Reserve statisticians revised their money stock figures (M2 consisted of currency outside ofbanks, demand deposits, plus time deposits at commercial banks) and backtracked, calculating M2 in 1964 to have been $273.8 billion. How Much Is Enough? In 1971, Nixon stopped the sale ofgold to foreign governments and foreign central banks. He devalued the U.S. dollar in December Any quantity ofmoney is adequate because 1971, to $38 an ounce, and then again in February 1973 to $42.22. In January 1975, the U.S. government resumed selling gold and U.S. prices will adjust. Individual market partici­ citizens regained the right to own gold coins and gold bullion. The pants, bidding and competing with one anoth­ price ofan ounce ofgold zoomed offthe charts, indicating the extent to which the effects of inflation, defined as monetary increases, had er, will bring the purchasing power parity prin­ been suppressed. After the end ofthe Vietnam War, M2 figures came ciple into effect. They will bid more or less for to $576.5 billion. out ofthe legal argument and the "new world disorder" is for the U. S. Senate to repeal CAPITAL approval of the U.N. Charter and the North Atlantic Treaty. LETTERS -EARL ZARBIN Phoenix, Arizona

David Mayer replies: The "Supremacy Clause" of Article VI, Constitutional Question paragraph 2, notwithstanding, there is one and only one way in which the U.S. Constitu­ To the Editor: tion can be amended, and that is by the proce­ Concerning David N. Mayer's article in the dure stipulated in Article V. Neither the U.N. July issue of The Freeman, yes, "Monica's Charter nor the North Atlantic Treaty can give Wa~" (as broadcaster Paul Harvey labeled it) the U.S. president powers he does not have; agaInst Yugoslavia was "immoral," but as to the sole source of presidential power is the whether it was "unconstitutional" requires U.S. Constitution. The Constitution provides clarification. that Congress alone has the power to declare In Mayer's article, I find no mention of war, and that power (to be meaningful) today Article VI, paragraph 2, ofthe U.S. Constitu­ means the power to decide where and when tion, which states: U.S. military force should be used offensive­ ly; the president has only the power of com­ This Constitution, and the Laws of the mander-in-chief, which (properly viewed) is United States which shall be made in Pur­ the power to determine how, not where, U.S. suance thereof; and all Treaties made or m~litary force is used. Constitutionally, then, which shall be made, under the Auth;rity pnor to any U.S. military involvement under of the United States, shall be the supreme either U.N. or NATO auspices, Congress Law of the Land; and the Judges in every should debate and vote whether or not to com­ State shall be bound thereby, any Thing mit U.S. troops: under our constitutional sys­ in the Constitution or Laws of any State ~em,. it is a question to be decided by the leg­ to the Contrary notwithstanding. (empha­ IslatIve, not the executive branch, of the U.S. sis added) government. We needn't repeal our ratifica­ tion of either ofthese treaties (although there ~~is, I presume, was the basis for Mayer's may be other good reasons for doing so) in wntlng that "Some legal scholars have order to follow the separation ofpowers man­ advanced the extraordinary argument that dated by the Constitution. Congress has neither a constitutional obliga­ tion nor a right to declare war before the Unit­ ed States joins in a 'police action' sanctioned by either the United Nations or NATO. They We will print the most interesting and argue that U.S. ratification ofthe U.N. Charter provocative letters we receive regarding or the North Atlantic Treaty after World War Freeman articles and the issues they raise. II made us part of a 'new world order' in Brevity is encouraged; longer letters may which member nations can no longer 'make be edited because of space limitations. Address your letters to: The Freeman FEE war,' in the classic sense." Irvington-on-H~dson: Because of paragraph 2, I see nothing 30 S. Broadway, extraordinary in the legal argument that the NY 10533; e-mail: [email protected]; fax: United States is bound by the U.N. Charter 914-591-8910. and the North Atlantic Treaty. The certain way 50 Economics on Trial by Mark Skousen

OCTOBER 1999

Chicago Gun Show

"According to the economic approach, criminals, like everyone else, respond to incentives." -GARY BECKER1

he Chicago boys are at it again. This time • The Brady five-day waiting period, gun Tthe economists at the University of buy-back programs, and background checks Chicago are making headlines in today's hotly have little or no impact on crime reduction. disputed debate about gun control. Milton • States that have recently allowed con­ Friedman set the general standard a genera­ cealed weapon permits have witnessed signif­ tion ago by insisting on rigorous empirical icant reductions in violent crime. work to support sound (though often unpopu­ • Guns are used on average five times more lar) theory and policy. More recently, Gary frequently in self-defense than in committing Becker extended Chicago-style economic a crime.2 analysis into contemporary social problems such as education, marriage, discrimination, According to Lott, recent legislative efforts professional sports, and crime. to restrict gun ownership may actually keep Now John R. Lott, Jr., until recently the many law-abiding citizens from protecting John M. Olin Law and Economics Fellow at themselves from attack. (There's that Law of Chicago, is making the case that a well-armed Unintended Consequences again.) citizenry discourages violent crime. Lott ana­ lyzed the FBI's massive yearly crime statistics for all 3,054 U.S. counties over 18 years, the The Incentive Principle largest national surveys on gun ownership, Underlining Lott's findings is a basic eco­ and state police documents on illegal gun use. nomic concept, the law of demand: If the His surprising conclusions, published in his price ofa commodity goes up, people use less recent book, More Guns, Less Crime: ofit. In the case ofcriminal activity, ifthe cost and risk of committing a crime rises, less • States now experiencing the largest drop crime will be committed. This is often in crime are also the ones with the fastest­ referred to as the market's incentive principle. growing rates ofgun ownership. Gary Becker has showed that increasing the Mark Skousen (http://www.mskousen.com; mskousen cost of crime through stiffer j ail sentences, @aol.com) is an economist at Rollins College, quicker trials, and higher conviction rates Department ofEconomics, Winter Park, FL 32789, a Forbes columnist, and editor of Forecasts & effectively reduces the number of criminals Strategies. See the next pagefor details on his newly who rob, steal, or rape. 3 published textbook, Economic Logic. Similarly, Lott argues that state laws per- 51 52 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 mitting concealed handguns deter crime. Lott's crime figures also remind me of "When guns are concealed, criminals are Frederic Bastiat's brilliant essay "What Is unable to tell whether the victim is armed Seen and What Is Not Seen." In 1850, this before striking, which raises the risk to crim­ great French journalist wrote, "In the eco­ inals."4 He produces a variety ofstatistics and nomic sphere,... a law produces not only one graphs to support his case. For example, the effect, but a series ofeffects. Ofthese effects, following graph compares the average num­ the first ... is seen. The other effects emerge ber of violent crimes in states before and only subsequently; they are not seen."5 after the adoption of a concealed-handgun According to Lott, Bastiat's principle applies law. in crime statistics. "Many defensive uses [of guns] are never reported to the police."6 Lott gives two reasons. First, in many cases ofself­ 400 defense, a handgun is simply brandished, the assailant backs off, and no one is harmed. Sec­ ond, in states that have stringent gun laws, cit­ izens who use a gun for protection fail to report the incident for fear of being arrested by the police for illegal use of a weapon. Thus, Lott confirms (through extensive surveys) the initial work ofGary Kleck, professor ofcriminal jus­ tice at Florida State University, that guns are used far more frequently in self-defense than in committing crimes. Kleck, by the way, used to have a strong anti-gun bias until he uncovered this revealing statistic. All this confirms a long-standing constitu­ tional principle: People have the right to own 300 a gun for self-protection. D

1. Gary S. Becker and Guity Nashat Becker, The Economics oj ~ ~ 4 0 2 4 6 Life (New York: McGraw-Hill, 1997), p. 143. Years before and after the adoption 2. John R. Lott, Jr., More Guns, Less Crime (University ofChica- of concealed-handgun laws go Press, 1998). 3. Becker and Becker, p. 137. The effect ofconcealed-handgun laws 4. Lott, p. 5. 5. Frederic Bastiat, "What Is Seen and What Is Not Seen," Select­ on violent crimes ed Essays on Political Economy (Irvington-on-Hudson, N.Y.: Foun­ dation for Economic Education, 1995 [1850]), p. 1. Source: John R. Lott, More Guns, Less Crime, Figure 4.5 6. Lott, p. 5.

Professor Skousen's Economic Logic Now Available "Economic Logic is a first-rate and exciting introduction to economics. It's clear and accessible, uncommon among today's textbooks." -DON BOUDREAUX The first volume of Mark Skousen's breakthrough college textbook, Economic Logic, has just been published. This "micro" text covers supply and demand, monopoly vs. competition, entrepreneurship, wages, capital and interest, and the financial markets. Economic Logic is a no-compromise free-market college textbook, with a hands-on approach (it begins with a profit-and-Ioss income statement). Price is $29.95 each. Send your order to: Skousen Publishing Co., P. O. Box 2488, Winter Park, FL 32790, or e-mail [email protected]. Instructors should e-mail requests for a review copy. 53

foundations ofthe great capitalists. The book explains how it happened. BOOKS Consider John D. Rockefeller, creator of Standard Oil. During his lifetime, he made sure that his charitable giving did not promote The Great Philanthropists and dependency or waste. But people were con­ stantly hounding him for money, and he was the Problem of "Donor Intent" persuaded that he could insulate himself from by Martin Morse Wooster that hounding by setting up a foundation and Capital Research Center • 1998 • 198 pages letting others handle the giving away of his • $15.00 money; this was "wholesale" rather than "retail" philanthropy. Within one year of the Reviewed by George C. Leef establishment of the Rockefeller Foundation in 1913, Wooster writes, "many foundation ccording to a book titled The Right Guide trustees and employees were looking for ways Aand its companion volume, The Left to exclude Rockefeller from the foundation's Guide, funding for the various organizations affairs." They would succeed. that promote the expansion of government is Equally harmful was the fact that John D. between three and four times as great as the Rockefeller, Jr., was philosophically much funding for the organizations that seek to pro­ different from his father. Young Rockefeller tect freedom, private property, and limited surrounded himself with advisers who were government. The principal reason for this hostile to capitalism and allowed them to lamentable situation is that several huge foun­ quickly steer the foundation radically away dations that were built on the fortunes ofmen from the desires of the senior Rockefeller. who were staunch laissez-faire advocates This was a heist worthy ofthe most audacious have been turned into cash cows for statist bank robbers, yet all done perfectly legally. advocacy, among them the Ford, Rockefeller, In 1919, Rockefeller, Sr., tried to reassert and MacArthur foundations. control. He wrote to his attorney explaining The Great Philanthropists examines the what he wished to do to put his foundation problem of the subversion of the wishes of back on what he regarded as the right track. individuals who create vast wealth and foun­ The lawyer, however, was aghast at the idea of dations to disburse that wealth after their Rockefeller's controlling his own money and deaths. The villains ofthe piece are the "pro­ maneuvered to thwart his client's intentions. fessional" and almost invariably statist foun­ The foundation continued on its merry statist dation managers who think that they know way, as it does to this day. how to use the fortunes amassed by entrepre­ The story ofthe Ford Foundation was sim­ neurs to refashion society and have no qualms ilar to Rockefeller's. Henry Ford was a whatsoever about employing the funds in staunch advocate ofcapitalism. He was virtu­ ways the donor would not have approved. ally the only prominent industrialist who Wooster introduces us, for example, to refused to cooperate with the National Recov­ William H. Allen, one of the earliest of these ery Act, thus making himself a target ofFDR types, who denounced the "dead hand" of and his New Dealers. donor intentions and argued that trustees Confronted with New Deal "share the should be free to use foundation money for wealth" legislation that threatened to cost the any purpose they thought worthy 20 years Ford family control over the business he had after the donor's death. (In truth, many don't built, Ford established the Ford Foundation in see why they should have to wait 20 minutes.) 1936. The foundation remained relatively The philosophy and objectives of"profession­ small and unobtrusive until after World War als" like Allen usually differ markedly from II, but a tremendous infusion ofwealth came those of the wealth creators, yet in case after in following Ford's death in 1947. Henry Ford case, they succeeded in taking control of the II, a political moderate, allowed the founda- 54 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 tion to fall into the hands of statist philan­ In The Crisis ofGlobal Capitalism, Soros thropic professionals. Eventually, the younger rails against what he calls "market fundamen­ Ford would resign from the board after being talism," or the belief that "the common inter­ haughtily told by the foundation's president, est is best served by allowing everyone to McGeorge Bundy, that he was just one vote look out for his or her own interests and that out of 16 and his family lineage meant noth­ attempts to protect the common interest by ing. On resigning, Ford wrote that "the foun­ collective decision making distort the market dation is a creature of capitalism, a statement mechanism." This dogma, he asserts, "has that, I'm sure, would be shocking to many rendered the global capitalist system unsound professional staff people in the field of phil­ and unsustain,able." anthropy. It is hard to discern recognition of His proposed response to the present peril: this fact in anything the foundation does." "To stabilize and regulate a truly global econ­ Wooster recounts other such disasters, but omy, we need some global system ofpolitical he also points to several instances where the decision making. In short, we need a global wishes of the donors have been honored by society to support our global economy." their foundations, showing that the problem is Specifically, Soros recommends the creation not insoluble. He identifies several means by ofan International Credit Insurance Corpora­ which wealthy individuals can ensure that tion, which would add up-front guarantees of their money is not later turned to purposes of foreign loans to the IMF's current post hoc which they would disapprove. mop-ups. The most important step is simply deciding To assert as Soros does that the world to buck the trend ofgiving a free hand to "the today is in the grip of "market fundamental­ professionals." Wooster writes, "The funda­ ism" reveals a profoundly distorted view of mental problem of philanthropy today is not events. Where are the governments today "dead hand" control. It is donors who meekly that toe a strict laissez-faire line? Where follow prevailing wisdom and leave their for­ even are the opposition parties of any size tunes to professionals who spend the money that do so? on causes they like-which are usually not Certainly the world has moved in leaps and the causes preferred by the donors." bounds toward more market-oriented policies A timely, much-needed book. D over the past couple ofdecades, but look who George Leefis director ofthe Pope Centerfor High­ has led the charge-in China, Deng Xiao­ er Education Policy at the John Locke Foundation ping, a committed Communist; in India, ~ V. and book review editor ofThe Freeman. Narasimha Rao, a product of the Congress Party that instituted Soviet-style central plan­ ning there; in Argentina, Carlos Menem, a The Crisis of Global Capitalism Peronist; in Peru, Alberto Fujimori, an agri­ cultural engineer and ideological cipher; and by George Soros so on and so on. Yes, there have been reform­ PublicAffairs • 1998 • 245 pages • $26.00 ers who made their case in ideological terms-Ronald Reagan, Margaret Thatcher, Reviewed by Brink Lindsey Vaclav Klaus-but they have been exception­ al. By and large, the worldwide rediscovery eading George Soros on international ofmarkets has been guided by pragmatism­ R economic policy is like watching a rejection of the failed dogma of collec­ Michael Jordan-at bat. Both experiences tivism in favor of something, anything, that reinforce the lesson that excellence in one works. field of endeavor doesn't necessarily translate And, of course, the move toward market­ into other areas. In Soros's case, success at oriented policies still has a very long way to playing the market does not extend to success go. Although collectivism may have perished at understanding it-or more precisely, the as a living ideal, government interventionism government policies that shape or distort it. remains a huge and distorting presence in the BOOKS 55 world economy. Market forces enjoy nothing regularly replaced by the electorate; that is like the unchallenged ascendancy that Soros how the system is designed. But democra­ claims for them; rather, they must contend cy seems incapable of correcting its own with, struggle against, and slip through the excesses. loopholes ofa massive and overextended pub­ lic sector. Well, well. If Soros would only take his It is this uneasy coexistence between mar­ own words to heart, he would see that opposi­ kets and statism that is the true source of tion to his interventionist nostrums need not instability in the global economy today. And be a matter of dogmatic "fundamentalism." oddly enough, Soros is not blind to this fact. Simple realism is all that's required. Mean­ The author frequently acknowledges how while, it is the continued recourse to govern­ misguided interventionist policies-including ment interference which requires blind faith unsustainable currency pegs and moral that somehow, this time, it will succeed. D hazard-infected financial systems-led to the BrinkLindsey is director ofthe Centerfor Trade Pol­ recent crises in Asia. Nevertheless, Soros icy Studies at the Cato Institute. urges, as a response to those crises, the cre­ ation of another layer of moral hazard in the form of international credit guarantees. Talk Nixon's Economy: about the triumph ofhope over experience! Booms, Busts, Dollars, and Votes Soros's hostility to markets stems from his theory of "reflexivity"-which boils down to by Allen 1. Matusow the common-sense observation that some­ University Press ofKansas • 1998 • 324 pages times people act not because of what they • $35.00 think, but because of what they think other people think. In financial markets, this phe­ Review by David L. Littmann nomenon can cause herd behavior, which in turn can cause bubbles and panics. llen Matusow's book is a play-by-play Let's admit that all this is true. But what of A description ofNixon's overwhelming pri­ it? The question isn't whether markets are ority-get elected! Not that Nixon was unin­ perfect; it's whether markets and competition terested in the economy. He fully understood generally and in the long run work better than the political punishments and rewards that are centralized bureaucratic control. The fact is meted out by rising or falling unemployment that markets do sometimes overshoot, but and interest rates. Nixon's feel for fiscal and there are limits: bubbles eventually burst, and monetary policies probably exceeded that of panics subside. When a market trend begins most, if not all, of his economic advisers, to look precarious and unsustainable, there from whom he received a lot of dreadful are enormous incentives-namely, the advice. prospect of making a killing-to buck that But Nixon, the author observes, madeeco­ trend and bring it down. George Soros should nomics subservient to politics. Economic poli­ know: he's made billions that way. cies were simply tools ofpolitical expedience. What are the equivalent feedback mecha­ Matusow portrays a President Nixon bored to nisms that restrain and reverse the mistakes death and even irritated by economic advice or governments make? Are they as effective and theories that were not clear catalysts to his reliable as those ofthe market? Let's see what political ambition. Conversely, when econom­ Soros himself has to say: ic theories, such as the "full employment bud­ get" concept or quotas on Japanese textiles, [M]arkets have a way of correcting their seemed to further his objectives, he was rapt in excesses; bull markets are followed by bear attention, participating actively in the ensuing markets. Representative democracy seems policy debates and critiques. to be less successful in this respect. It is Nixon s Economy is well organized to take true that governments and legislatures are us through the economic turbulence of the 56 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999

Nixon years. Its chief strength is Matusow's inflation is always and everywhere a monetary description of the duplicity of Nixon's con­ phenomenon. duct of economic policy. He reveals the bla­ This unevenness is forgivable for a non­ tant contradictions between the so-called con­ economist. But some shortcomings cannot be servative philosophy that one might think excused. The story of the Nixon years would would have led Nixon to advocate tax cuts, have been a considerably more valuable expo­ smaller government budgets, repeal ofregula­ sition for future generations of readers and tions, removal of trade barriers, and other economists had the author included fewer ret­ laissez-faire policies. But no, precisely oppo­ rospective testimonies from apologists for the site policies prevailed, culminating in the Keynesian school, and instead emphasized 1971-74 wage and price controls. the disservice of "political economists" and Matusow's commentary on the contradic­ power-hungry advisers, such as Paul Volcker, tions between theoretical Republican support Arthur Burns, and John Connally. Also, con­ for markets versus actual adoption by the trary to the author's gratuitous statement that administration of socialism is illuminating. "no one in or out of government [in 1973] Few politicians are long able to resist the foresaw the approach of the [inflation] cata­ temptation to wield governmental power for clysm," there were many non-political econo­ short-run political advantage. Professed mists who foresaw and wrote about the limited-government principles are forgotten futility of controls and catastrophes that or deliberately cast aside when intervention­ awaited economies adopting these bankrupt­ ism seems to offer better political rewards. ing policies. (The author's observations are also relevant to Nixon s Economy is worthwhile and ger­ what has befallen the "Republican Revolu­ mane reading, making clear the important tion" since 1995.) point that the incentives ofpoliticians tend to Sadly, Matusow, professor of history at put them disastrously at odds with sensible Rice University, is himself weak on econom­ economic policies. The author's own lack of ics. While good at exposing the weaknesses economic comprehension, unfortunately, ren­ and contradictions in Nixon's economic poli­ ders the book less valuable than it might oth­ cies, one sees little indication that he is famil­ erwise have been. Read the book for its good iar with serious free-market analysis. Espe­ history and take the author's economic pro­ cially as regards monetary policy and the ori­ nouncements with a grain ofsalt. 0 gins of the lethal inflation generated by the David Littmann is senior vice president and chief Nixon programs of the late '60s and early economist with Comerica Bank in Detroit, Michigan. '70s, the author confuses cause and effect. For example, in chapter three Matusow claims that "the main reason why prices kept rising To Serve and Protect: Privatization and through 1970 ... was the big wage increases Community in Criminal Justice that workers were demanding and getting." He compounds this confusion in later chap­ by Bruce Benson ters, suggesting that currency devaluation and New York University Press, Political Economy of oil price hikes are causes ofinflation. the Austrian School Series • 1998 • 416 pages Errors like this are not isolated. By chapter • $37.50 six, perhaps in an effort to make the book more readable, the author resorts to normative Reviewed by Morgan O. Reynolds assertions, using "good" and "bad" with ref­ erence to Uncle Sam's manipulation of the ver the last three decades, the share of dollar vis-a-vis foreign currencies. Later, O GDP consumed by the public sector on Matusow falls into the trap of stating that crime control has tripled and now exceeds "controls deserved some credit for declin­ $100 billion annually, or about $1,000 per ing inflation." Yet, he elsewhere credits Mil­ household. Crime rates have declined in the ton Friedman's monetarist warning that 1990s, suggesting some benefit from the BOOKS 57

expenditure, yet crime stubbornly remains thereby promoting efficiency in apprehension three times higher than 30 years ago, accord­ and liability. ing to FBI statistics. These data imply a sub­ Our present reliance on the state to protect stantial decline in the productivity of law­ our property rights and control criminals is enforcement bureaucracies. very recent, less than two centuries old in The natural thought of a public choice most respects. The historical reason for this economist is, "So what else would you evolution was that kings took away victims' expect?" Big government is no more likely to property rights to restitution, and the path of be the answer to crime than to any other prob­ criminal justice in England then wandered lem. Private-sector solutions and market­ away from individualism toward collectivism. driven reforms are more likely to work. The In the tradition of Ronald Coase and Steven root solution for crime is a set of institutions Cheung, who debunked the theories that pri­ that get incentives right. Custom and law must vate markets must fail to supply lighthouses internalize (privatize) more benefits for crime or pollinate fruit, Benson's historical research suppressors and make crime producers pay explodes the doctrine that a justice system is more ofthe costs they impose on victims. a "public good" that only government can Bruce Benson, professor of economics at provide. Florida State University, pursues this logic Perhaps Benson's most arresting evidence brilliantly. Benson is a veteran researcher on comes from Japan, which has the lowest crime and law, and in this volume he inte­ crime rate among industrialized nations by grates a sprawling literature in a way that far. A primary reason, claims Benson, is that changes the whole discussion. The book their system is more privatized and victim­ works on two distinct levels. First, it provides oriented than ours. There, the fundamental nearly encyclopedic coverage ofprivate tech­ right is for the victim to be restored to his niques in criminal justice that range from original condition. In contrast to our culture, medieval Anglo-Saxon days to contracting in the Japanese culture there is no acceptable out ofprisons today. Second, and more impor­ excuse for criminal activity. The criminal tant, it elevates us to a high philosophical must bargain for forgiveness with the victim plane by redirecting our attention from social­ and ifthe wrongdoer negotiates an acceptable engineering goals like deterrence and rehabil­ settlement package and shows contrition, itation toward a focus on justice and individ­ public-sector punishment is lenient. ual rights and responsibilities. Benson documents the substantial private Like education, criminology has long been effort to combat crime in the United States, a field rent by fads. Lacking a real intellectu­ estimated at $300 billion a year, and therefore al anchor and populated primarily by sociolo­ larger than the public-sector effort. This will gists, criminology has for the most part continue to grow rapidly, Benson predicts, if ignored a rights-based perspective. Benson's only to compensate for continuing public fail­ book fills that void. His premise is that justice ure. Our system is also moving toward vic­ for victims should be the goal of our justice tims' rights, recently enshrined in many system. All else follows from that premise. state statutes and constitutions. Benson sees Offenses thought of as crimes today, like these as largely illusory gains because law­ murder and robbery, were once treated as pri­ enforcement bureaucracies have co-opted vic­ vate torts, with economic compensation as the tims' rights organizations. He warns victims' primary remedy. This private system of jus­ groups that they must forge an independent tice worked well and could do so again, path in order to transform criminals' "debts to according to Benson. With the prospect of society" into private, transferable debts to recovery ofdamages, the victim had a greater individual victims. incentive to report a crime, correcting a major Shortcomings in the book are few and usu­ failing in our present system where victims ally amount to legitimate differences ofjudg­ only report about 40 percent of crimes to the ment or opinion. Benson sometimes fails to police. Restitution rights were transferable, use the latest data available, and ignores the 58 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999

best estimates, say, for the probability ofpros­ tion registers, and the standardization of ecution on arrest. Sometimes he attributes language. facts like exclusionary rules to the statist Second is what Scott calls "high-modernist" nature of the justice system too quickly, ideology. "It is best conceived," he writes, "as ignoring competing hypotheses like rent­ a strong, one might even say muscle-bound, seeking by lawyers. version ofthe self-confidence about scientific Clearly, the crime solution lies in more and technical progress, the expansion of pro­ individual responsibility and less public duction, the growing satisfaction of human responsibility. Benson's daring conclusion­ needs, the mastery of nature (including privatize both the demand for and the supply human nature), and, above all, the rational of criminal justice services-leaves us with a design ofsocial order commensurate with the wealth of provocative diagnoses and exam­ scientific understanding of natural laws." ples for further research. Benson has given us National economic planning during World a breakthrough book. D War I excited high-modernist theorists and Morgan Reynolds is professor ofeconomics at Texas led them to believe that society actually could A&M University. be run by enlightened technocrats. The third element is an "authoritarian state that is willing and able to use the full weight Seeing Like a State: How Certain of its coercive power to bring these high­ Schemes to Improve the Human modernist designs into being." Such regimes Condition Have Failed often gain power during times ofwar, revolu­ < tion, depression, and struggle for national by James C. Scott liberation. Yale University Press • 1998 • 445 pages • $35.00 The last element is a "prostrate civil society that lacks the capacity to resist these plans." Reviewed by Aaron Steelman "In sum," Scott writes, "the legibility of a society provides the capacity for large-scale mazing progress has been made in the social engineering, high-modernist ideology A twentieth century. The Western world has provides the desire, the authoritarian state grown tremendously rich, and many develop­ provides the determination to act on that ing countries around the world have desire, and an incapacitated civil society pro­ "emerged." Today, most people enjoy living vides the leveled social terrain on which to conditions that their ancestors could have build." When those four elements are present, only dreamed about. the stage is set for the likes of Hitler, Stalin, But the twentieth century has also wit­ and Pol Pot-and for the forced villagization nessed horrific brutality. Millions have been of5 million Tanzanians in the 1970s, a lesser­ killed in wars. And an even greater number, known tragedy that Scott recounts in a fasci­ perhaps, have been killed by their own gov­ nating chapter. ernments in the name of"progress." What has High-modernist ideology, Scott points out, been the source of such inhumanity? manifests itself in less disastrous ways, too. In Seeing Like a State, Yale political scien­ Consider centrally planned cities. Traditional­ tist James C. Scott examines "the failure of ly, cities have grown naturally to fit the desires some of the great utopian social engineering and needs of their citizens. The streets of schemes of the twentieth century." He argues many European and Middle Eastern cities that "the most tragic episodes of state­ don't fit a grid-like pattern: they sprang up as initiated social engineering originate in a per­ the population grew and moved. To a resident, nicious combination of four elements." everything makes sense. But to a government First, Scott argues, are "transformative state official who thinks he knows best, it appears simplifications," that enable the state to easily chaotic. Surely, a planned city would be much track and classify its citizens. This includes better than one developed seemingly by the creation ofpermanent last names, popula- chance. BOOKS 59

Such was the mindset of architect Charles­ the other way around. Scott fails to grasp that Edouard Jeanneret, better known as Le Cor­ point. Nevertheless, Seeing Like a State is a busier. He wished to redesign Paris, Buenos brilliant work ofremarkable scope. 0 Aires, Algiers, and Moscow according to his Aaron Steelman is a graduate student in the social own plans. He argued, "We must refuse to sciences at the University ofChicago. afford even the slightest concession to what is; to the mess we are in now. There is no solution to be found there." He envisioned a world, Silencing Science Scott writes, in which "door frames, windows, bricks, roof tiles, and even screws would all by Steven Milloy and Michael Gough conform to a uniform code. [Le Corbusier] Cato Institute • 1998 • 68 pages • $8.00 paperback called for the new standards to be legislated by the League ofNations, which would develop a Reviewed by Kenneth Silber universal technical language to be compulsori­ ly taught throughout the world." his slim volume is an ironic how-to In the end, Le Corbusier built only one city, Tguide for heavy-handed regulators, a provincial capital in India. Scott notes, how­ panic-mongering activists, demagogic politi­ ever, that he influenced many people, includ­ cians, venal trial lawyers, dogmatic religion­ ing Brazilian president Juscelino Kubitschek. ists, and anyone else with an interest in sti­ Kubitschek created the city of Brasilia from fling or manipulating science. In breezy style, scratch and made it the country's capital. the authors explain how to impede research Originally, there was one huge public square, and suppress data, using lawsuits, regulation, but few informal gathering places such as intimidation, and other methods. They also parks, and all its residents were supposed to show how to fill the resulting void with mis­ live in uniform housing projects called information. "superquadra," which had their own nurseries, The authors-Milloy is publisher of the schools, stores, and clubs. Junk Science Home Page (www.junkscience. The planned city quickly failed; people com); Gough is the former director ofscience found life in it undesirable and stifling. Now, and risk studies at the Cato Institute-draw on most of the population lives in settlements numerous examples of science under siege. that were never anticipated by Brasilia's plan­ They present the persecution of Galileo as a ners. High-modernist ideology didn't result in cautionary tale (the Inquisition didn't crack mass slaughter in the case of Brasilia, but it down quickly enough to eliminate his influ­ did produce great unhappiness. People didn't ence) and cite the Scopes Monkey Trial as a want what the planners tried to force on them. useful model for interfering with science edu­ The planners weren't able to acquire the cation. They then launch into more recent "practical knowledge," as Scott calls it, to pull anecdotes of obscurantism and obstruction­ off such a grand scheme. They were ignorant ism. Unfortunately (or fortunately, if one of "the limits ... of what we are likely to remains in the book's ironic mode), there are know about complex, functioning order." many ways to silence science. This is excellent analysis, but unfortunate­ Outlawing research is one option, the ly, Scott thinks "large-scale capitalism" suf­ authors explain, pointing to efforts to place a fers from similar defects. It "is just as much wide-ranging ban on cloning experiments. an agency of homogenization, uniformity, Alternatively, science can be regulated into grids, and heroic simplification as the state is the ground, as when the Environmental Pro­ .... [I]n markets, money talks, not people," tection Agency moved to control pest­ he argues. But when I decide to eat breakfast resistant plants as if they were pesticides. at McDonald's, who is making the decision? I Government purse strings can be useful in am. I'm using money to buy the meal, but I'm tying up undesired research, such as fetal tis­ the one doing the talking. In the market, pro­ sue studies during the Reagan-Bush years. ducers cater to the consumers' desires-not Nor is privately funded science immune to 60 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999 political attack; one need only stigmatize the science-whether motivated by politics, ide­ research as profit-driven or linked (however ology, or personal and financial gain-pro­ tenuously) to Big Tobacco. duces bad decision-making, increased risk, Legal harassment works well, too. The and diminished freedom. One comes away authors describe how lawyers representing the from this book with a heightened awareness alleged victims of silicone breast implants ofdanger-a danger not only to scientists but intimidated the Mayo Clinic with onerous to anyone who depends in any way on their demands for medical records. Another form research (everyone, that is, whose participa­ ofharassment is to make bogus claims ofsci­ tion in modern society exceeds that of, say, entific misconduct; this approach was used by the Unabomber). "multiple chemical sensitivity" activists The book's format does impose certain against researchers who raised doubts about constraints. The "how-to" approach, while that "disease." And don't forget about street funny, would start to wear thin if the book protests and celebrity letter-writing cam­ were to go on much longer; at the same time, paigns; such techniques helped animal-rights the overall subject deserves a more extensive proponents prevent NASA from studying treatment. A somewhat broader picture ofthe monkeys in orbit. threats to science would take notice of acade­ Even after a research project has been com­ mic postmodernism and New Age mysticism, pleted, there are various ways to hide or dis­ movements that go unmentioned here. A tort the resulting information, the authors deeper analysis, rather than merely reporting point out reassuringly. Careful editing, for anecdotes, would delve into the conditions instance, allowed a United Nations report to that enable anti-scientific tactics to thrive. overstate the threat ofglobal warming. Anoth­ Nevertheless, Silencing Science packs a er method is simply not to publish the data; great deal of valuable and thought-provoking the Energy Department has kept a major radi­ material into its slender frame. The book ation study under wraps for years, providing deserves a wide readership. May that reader­ only a brief summary in an obscure bulletin. ship not include the anti-science types who California's environmental agency went this might actually take its advice. D one better, systematically destroying research Kenneth Silber has written about science and tech­ documents that did not support the agency's nology for Reason, Insight, the New York Post, and final decisions. other publications. The authors explain how to replace genuine science with various phony substitutes, such as "official science," "consensus science," and Staring into Chaos: Explorations in the "the precautionary principle." The first con­ Decline ofWestern Civilization sists of governmental or other seemingly authoritative pronouncements that happen to by B. G. Brander be unsupported by evidence, such as a U.S. Spence Publishing • 1998 • 418 pages • $29.95 Senate resolution that women in their 40s should have mammograms. The second Reviewed by Gleaves Whitney involves claiming that there is agreement when in fact there is not, as occurs often in the he right is temperamentally pessimistic. global-warming debate. The precautionary T The left is philosophically nihilistic. Both principle, embraced by environmentalists, camps have long tended to see the West as means that industrial chemicals and radiation culturally decadent, a civilization in decline. are to be regarded as extremely dangerous, So it is odd that, for decades, virtually every while contrary evidence and uncertainties are major English-language reference work in the swept under the rug. social sciences included articles about While Silencing Science takes a lightheart­ progress, but not its opposite. It was as though ed approach, the underlying seriousness ofthe Americans were reluctant to give the impri­ subject shines through. The suppression of matur to decadence and decline as major cat- BOOKS 61 egories of thought. One had to look to the interest in all three, but perhaps most of all French for scholarship on decadence-per­ Sorokin because of his concern over the fate haps because they have had more firsthand of freedom and the rule of law. Sorokin, a experience with it than Americans. Harvard sociologist, was already arguing in Only in recent years has cultural pessimism the 1930s that the West was undergoing one received the attention it deserves on this side of the greatest transitions in history. Brander of the Atlantic. After all, one cannot do seri­ encapsulates some of Sorokin's predictions: ous intellectual history without confronting "Governments will turn increasingly fraudu­ the pessimism ofNietzsche, Burckhardt, Dar­ lent and tyrannical. Contracts and covenants win, and legions of other theorists of decline will lose binding power and contractual soci­ since the Renaissance. Their works are so ety will collapse. Democracy, capitalism, and numerous as to constitute a veritable type of [our] free society offree people will be swept literature, what I call the "decline-of-the­ away. Freedom will become a mere myth for West" genre. the majority of people, whom centralized Because English-language surveys of that governments will deal with as puppets. Mean­ genre have been few and far between, it is a while, the dominant majority will turn their pleasure to discover B. G. Brander's most freedom into unbridled licentiousness." And recent book, Staring into Chaos: Explorations this: "Private educational institutions will in the Decline ofWestern Civilization. Bran­ lose autonomy from government control der is a full-time writer and a former editor and diminish in favor of public or state­ for National Geographic-not the typical cre­ controlled schools." Prescient. dentials for a student of cultural pessimism. One question that inevitably arises in a sur­ Yet it is precisely because Brander is a layman vey is why certain thinkers were not included who has escaped the perils of academic spe­ or were given only cameo roles. Christopher cialization that he is able to read the classic Dawson, for example, qualifies as one of the statements of the decline of the West from a twentieth century's most insightful historians fresh perspective. and theorists of decline. Brander, however, Brander is clear about his purpose from the cites him only once in the text, and then fleet­ outset, and readers should be too. He aims to ingly, and lists none ofhis books in the bibli­ "distill the insights of more than two-dozen 0graphy. Perhaps this oversight will be thinkers into this single volume. ... Where addressed in a later edition. writers contributed whole books on the topic, As we approach the millennium, many will I offer concise digests of their works." Thus seek to understand the signs of the times; Brander's book, while not categorized as many will have premonitions ofdecline. They such, functions as a reference work that will would do well to go behind the culture wars of give readers a crash course in the decline-of­ the present day and seek perspective through the-West literature. the provocative historical and social analysis Early chapters introduce notions ofcultural of these giants. In Brander, they will find a decadence and civilizational decline in the competent and congenial guide. 0 thought ofAlbert Schweitzer, Nikolai Berdyaev, Gleaves Whitney is chiefspeechwriter for Michigan Ernst von Lasaulx, Nikolai Danilevsky, and Governor John Engler, senior fellow at the Russell Henry and Brooks Adams, among others. Kirk Center for Cultural Renewal, and the senior Brander then trains his sights on three twenti­ scholar ofthe Center for the American Idea. eth-century giants of the genre-Oswald Spengler, Arnold Toynbee, and Pitirim Sorokin (to whose memory the book is dedi­ cated). In some 400 pages of text, Brander devotes about 100 pages to each one ofthese three, ably surveying their works and making them accessible to the educated lay public. Readers ofthis magazine will find much of Have you heard the latest from Washington?

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Conflicting Visions

eople generally share common goals. monly shared goals that may indeed produce PMost of us want: poor people to enjoy polar-opposite results? One possible explana­ higher standards ofliving, greater traffic safe­ tion in the case of unions and companies ty, fewer wars, greater racial harmony, clean­ seeking protection from imports is that they er air and water, and less crime. are dishonest and simply promoting their own Despite their common goals, more often interests. Their political strategy is to express than not we see people grouped into factions, concern for the unskilled and to lobby for fighting tooth and nail to promote differing greater employment opportunities simply as a government policies. The policies are often ruse to conceal their true agenda: higher unproductive and have the unintended conse­ wages, profits, and monopoly wealth. quence ofsabotaging the goal. But there's another answer. They share dif­ A good example ofthis conflict is found in ferent visions of how the world works. Con­ the periodic debates over the minimum wage sider the effects of different visions by going and tariffs. Many people profess concern back to a time prior to Pythagorean and Ptole­ for the welfare of low-skilled workers. To maic proofs that the earth was round. Imagine achieve their goal of helping those workers, two honest and intelligent people in 1000 one group adamantly demands that Congress B.C. One person's premise is that the earth is legislate higher minimum wages. Another flat. Based on that premise, he would argue group professing the identical concern is just strenuously that it is not possible to sail west as adamant in demanding that Congress not from Greece and reach the Orient. The other legislate higher minimum wages. Similarly, person, whose premise is that the world is one group of advocates for greater employ­ round, would argue just as strenuously that it ment opportunities might lobby Congress for is possible to reach the Orient by sailing west higher tariffs and stricter quotas on imports. from Greece. Another group sharing the identical goal will Given the premise, the conclusions (one fight against tariffs and quotas and lobby for can or cannot reach the Orient by sailing west fewer trade restrictions. from Greece) are internally consistent and Why do people, who are assumed to be logical. After all, if the world is flat, one honest, intelligent, selfless, and not motivated would sail right off the edge and into the by a hidden agenda, arrive at polar-opposite abyss before reaching the Orient. On the other policy proposals as a means to achieve com- hand, if the earth is round, the trip can be safely made. Incidentally, before one con­ demns the flat-earth vision it should be noted Walter Williams is the John M Olin Distinguished Professor of Economics and chairman of the eco­ that, while inaccurate, it was nonetheless use­ nomics department at George Mason University in ful, providing reliable navigation over rela­ Fair/ax, Virginia. tively short distances. 63 64 THE FREEMAN/IDEAS ON LIBERTY • OCTOBER 1999

Of course, the flat-earth vision was ulti­ The vision that higher mandated wages mately laid to rest when people actually cir­ (that exceed productivity) produce no employ­ cumnavigated the globe. Also, scientific evi­ ment effects also assumes that investors are dence and simple empiricism weighed in to insensitive to the company's profits and settle the debate. People saw that the shadow customers are insensitive to higher product ofthe earth on the moon during eclipses was prices. Neither is likely. If companies are round, and they also saw that the mast of a required to pay higher wages and make no ship approaching from the sea is visible response they will see their profits decline rel­ before the hull. The incorrect vision about the ative to companies that do respond. In turn, shape ofthe earth was demolished by falsify­ investors will see a reduction in their return ing its premise-not by questioning the inter­ on equity and will likely move their capital nal consistency ofthe arguments. elsewhere. Often the underlying premises supporting The company might try to forestall declin­ the conclusions of some arguments are so ing profits by attempting to recover higher baseless they are deliberately left unstated. labor costs by raising product prices. Howev­ In these cases, they must be teased out by er, consumers are not insensitive to higher questions such as: for that conclusion to prices. They will seek cheaper substitutes, hold, what assumptions are being made thereby reducing the company's sales. In the about human behavior? Consider the mini­ wake of higher minimum wages, surviving mum-wage debate. Assuming that both pro­ companies will be those that have found ways ponents and opponents of higher minimum to economize on labor. wages are guided solely by an honest con­ cern for low-wage, low-skilled workers, Zero Elasticity of Response what is the premise held by those who favor increases in the minimum wage versus that The premise that employers are not respon­ held by opponents? If one's premise (stated sive to changes in the cost of labor is what or not) is that employers need a certain num­ economists call a zero elasticity of response. ber of employees to do a particular job, the Put another way, changes in the independent logic behind increasing the minimum wage variable (wages) have no effect on the depen­ as a means to raise incomes of low-skilled dent variable (the number of workers hired). workers is internally consistent. The effect of There is little evidence that people are insen­ a higher minimum wage would be higher sitive to price changes, whether it be changes wages for workers and lower profits for in taxes, gas prices, food prices, labor prices, employers. or any other price. The issue is not whether Opponents ofhigher minimum wages have people change their behavior when relative a different premise. They assume that employ­ prices rise or fall; it is always how soon and ers are responsive to changes in labor costs. how great the change. Thus with minimum­ They believe that there are alternative meth­ wage increases it is not an issue of whether ods to accomplish a particular task. Employer firms will economize on labor, it is how much responses to higher labor costs might include: they will economize and who will bear the substitution of capital for labor (automation), burden ofthat economizing. employment of self-service techniques (such Thus, it is easy to see how two groups of as self-service gas stations), relocation to a honest and caring people with the same con­ country that has cheaper labor, use of dispos­ cern for low-skilled, low-wage workers can able utensils instead of washable ones, fewer advocate opposite policies. They simply have theater ushers, and automatic elevators. These different visions of how the world works. and many other substitutes allow employers to Convincing people how the world really economize on labor and produce fewer works, in the hopes of promoting better poli­ employment opportunities for low-skilled cies, requires examining and debunking false workers. visions and premises-a yeoman's task. D