Come now, and let us reason together … Isaiah 1:18
(c) Can Stock Photo / photography33

Following my post  Will Automation Require Progressive Unemployment Solutions?, a reader called Cai left a comment to register his profound disagreements. In fact Cai’s comment compared with the message of the essay forms a perfect contrast between the alternative views of Reality held by the political Left and Right. This contrast and the causes for their profound differences beg to be examined.

Cai’s Beginning Remarks

Cai begins his comment with a kind observation that my depiction of free-market wage and price adjustments to automation might have validity. Alas, he also mentions that he usually finds my use of the price mechanism in my writing repetitious (I do use it a lot), but that in this case “It does very well to explain how a rising tide lifts all ships, in an absolute sense, and that capitalism will not implode due to inherent flaws on its own.” However, he goes on to claim that such a result is nullified by purely psychological and sociological effects. In approximately the first half of his comment (which is almost as long as a complete post itself!), he writes:

If the price of goods fall, then lower or nonexistent salaries will be cancelled out by the price of goods. And, if people were strictly rational actors, mass unemployment might be cancelled out by cheap goods and services. But in this case, a rationalist approach proves itself to be mostly irrelevant to reality. Let me explain with an oft-overlooked “dictate of reality”:

People are concerned not only with their absolute material wealth but also their relative wealth and social standing.

Therefore, inequality matters even in the face of increasing absolute wealth. Some studies suggest it may matter more than absolute wealth. So reducing inequality is important if we are to prevent political strife and violence. Perhaps as important as improving GDP. Perhaps more. We’ve failed to do this, and we’re beginning to see the consequences.

As before, an increasing element has already armed itself with the confused ideology of Marxism, the only weapon they need to justify any act. So, this element is better educated this time. So, the element’s constituents have been given and have taken for granted material wealth that previous generations would have been awed by. It doesn’t change the underlying formula, which is based in the belief that the wealth of the capital owners in [Sic] not fairly distributed.

The vague gesture toward the concept of an ownership society is not enough of an answer from you, Charles, in the face of such peril. Even if neoliberal policy worked to increase GDP and reduce inequality, the “angry masses” would not care. You will never, ever convince the enough of them that it was through your effort and ideas that these things were accomplished. While such inequality exists, they will stew and foment discontent. They will only be appeased by a sincere effort to compromise, to take on faith that what they see is true, and that their experience is valid, which is that inequality and other issues that affect quality of life can be addressed by government intervention.

Here my argument is not an economic one, though there are the same old disagreements between us on how to run the economy as always. That disagreement is superseded by the more pressing risk that needs to be managed. As when we argued about global warming, you miss the forest for the trees. I say again, so what if the danger is overblown by the UN public relations literature. It matters more that there is a danger that needs to weighed against other priorities.

Let us then take a good look at what we could expect if either of the contrasting progressive and neoliberal views of reality were true.

Alternative Pictures of Reality

First, let us consider  what would happen if the progressive view of reality was really true. The core of the progressive picture is that free-markets create economic inequality, and that psychologically the masses of people on the lower end of the income scale will not tolerate such inequality, but will rise up in a socialist revolution à la the French Revolution. After that, the guillotines will solve the social problem of the fabled and despised “1%”.

That, progressives claim, is what will happen if we trust to free-markets to solve the problem of economic inequality. But what will happen if we follow their policy recommendations? They say that if we were to form welfare programs funded by taxing the more wealthy to redistribute the wealth toward those with lower incomes, the lower economic classes would be satisfied and view their social standing as equivalent to those possessing higher income. This would require taxing the wealthy at a high enough level so that the final wealth possessed by the formerly un-wealthy would be approximately equal to that of the formerly wealthy. The final goal would be to achieve a GINI index of zero, consistently year-after-year. Then everyone would be equally happy (or equally unhappy, as the case may be) if we live in the progressives’ universe.

However, suppose we do not really live in the progressives’ universe at all, but rather in the neoliberal universe. (I must here make my obligatory remark that neoliberals are usually mistaken as conservatives in the United States. Conservative is a misnomer, just as liberal is a misnomer for progressives.) Rather than creating more inequality, the more of a free-market an economy is, the more equal the income distribution will be. Clearly, this belief about reality fundamentally opposes that of progressives. Contrariwise, if we were to follow progressives’ policy recommendations in a neoliberal universe, income distribution would become even more unequal, and “the angry masses” even more angry.

However, according to neoliberal thought, the economic and social damage from following progressive policies does not end there. Generally, wealthy people will not reduce their personal consumption much if they are taxed more. If their taxes are increased, they will first cut whatever investments they make to satisfy their new taxes. This is a generally true statement even for that sector of the wealthy we call the upper middle class, but it also becomes even more true as the wealth of an individual or a family increases. Once you reach the level of multimillionaires, what they consume every year is only a fraction of their income, with the excess going generally either to charitable contributions or to investments of one kind or another. In fact, there is a Federal Reserve research paper,  Do The Rich Save More?, that shows that savings rates and therefore investments of individuals increase with current income. If you were to increase the taxes of the very rich by x%, the almost certain outcome is that total investments would decrease by a similar amount.

The level of investments in an economy, no matter whether socialist or capitalist, is a very big deal, since there can be no growth of the economy without investment. A certain level of investment used to replace outworn or obsolete capital, called replacement investment, is required just to maintain current levels of production. Without at least providing replacement investment, the production capacity and GDP of a country declines, and we all grow poorer. Yet, if the government were to tax enough to equalize welfare-adjusted income for everyone, it is hard to see how there would even be enough total investment for that!

In the neoliberal vision of reality, if government welfare programs do not actually equalize all redistributed incomes, then income inequality would grow under progressive policies, causing an actual increase in popular discontent. If the government were to tax enough to equalize incomes, then investment essentially will shut down. This then causes the GDP to contract and everyone’s income to fall, with everyone’s discontent again rising. Eventually, once GDP contracts to a sufficiently low level to motivate the would-be revolutionaries, the progressive policies themselves would cause a French-style revolution. The guillotines would then solve the problem of too many progressive politicians.

I have written a number of other essays that have criticized this and similar aspects of progressive ideology, which you can read in the following linked posts:

• Distribution and Use of Wealth in U.S. Capitalism
• The Actual U.S. Distribution of Wealth Today
• Can U.S. Capitalism Be Supported Politically?
• The Political Defense of U.S. Capitalism
• The Cultural Desirability of Capitalism
• The Cultural Desirability of Capitalism – 2
• Do the Rich Pay Their Fair-Share of Taxes?

What Does Data Say About What Kind of Universe We Inhabit?

Everything depends  on which of the two alternative universes we actually inhabit! Not being a believer in postmodern epistemology, but instead being a descendent of the the Age of Enlightenment, I firmly believe we can gain knowledge only through experience; that is, through empirically observed data. So what do data tell us about the kind of universe we inhabit? One of the more basic of the issues to settle is which kind of universe increases income inequality: the progressive or the neoliberal? We actually have conclusive evidence on this question: The GINI index for many countries courtesy  of the World Bank, and the index of economic freedom courtesy of the Heritage Foundation and the Wall Street Journal.

For those who have not met these two indices before, the GINI index is usually scaled to vary from zero to 100. When it is zero, the country’s total income, its GDP, is completely equally distributed among all  its citizens; when it is 100, only one citizen gets the entire GDP and nobody else gets anything. When the index of economic freedom is zero, the country’s government holds total control of the economy; when the index is 100, the government has absolutely no economic control. Clearly, the two endpoints of either index are not realistic possibilities. In general, however, as the index of economic freedom increases, the economy it characterizes is an increasingly free-market economy. Generally, as economic freedom decreases, the economy becomes more like one a progressive would desire. Nevertheless, as the index of economic freedom approaches zero, progressives might not necessarily view their economy as progressive if the index decreases too much toward total, dictatorial control. Similarly, if the index gets too close to 100, neoliberals might think other effects might prevent markets from becoming totally free. For example, if government has absolutely no control over the economy, it would not be able to enforce contracts, without which free-markets could not exist. However, as long as the extreme limits are avoided, an increasing index of economic freedom should be considered as traveling in a neoliberal direction; whereas change toward a smaller index should denote a progressive direction.

What do we expect? If a country’s income distribution becomes less equitable as the economy becomes more of a free-market, as the progressives expect, then we would expect a country’s GINI index to increase as the index of economic freedom increases. If on the other hand we are living in a neoliberal world, the GINI index should fall as economic freedom increases. If we plot a country’s GINI index versus its economic freedom index, one dot for every country for which there is data, we obtain the scatter plot below.

Note the blue trend line with negative slope, meaning all other factors being equal, a country becomes more equitable in distributing the GDP as its economic freedom increases.  We must conclude, as far as the equitableness of GDP distribution is concerned, we are living in a neoliberal, not a progressive world.

The actual relationship between the GINI index and a country’s economic freedom must come as a very worrisome puzzle to progressives, since they place so much importance on the distribution of GDP becoming less equitable as the economy becomes more of a free-market. Currently, we can only accept the actual, opposite result as an empirical fact, although it is easy to think of reasons why the inverse relationship should hold. One obvious explanation is that because so much more wealth is created in a free-market than in one not-so free (see plot below), more economic output translates into more jobs and economic opportunities for everyone. This provides channels for more wealth to flow to the less advantaged.

Yet another explanation arises from the connection between crony capitalism and progressive government. Crony capitalism is defined as an economy characterized by close and mutually advantageous relationships between business leaders and government officials. They happen when government gains more control over economic outcomes and is able to give favors to individual companies. The leaders of those companies then reciprocate with campaign contributions and other forms of support to the politicians leading the government. These are relationships like, say, that between the Solyndra corporation and the Obama administration. They are relationships that are naturally associated with progressive government. Yet, crony capitalism is the exact opposite of real capitalism because it gives the leaders of government more control over the parts of the economy led by the crony capitalists. Any country with a great deal of crony capitalism would receive a smaller score on economic freedom than a country with lesser or no crony capitalism, all other variables being equal. In such a crony capitalist state wealth flows preferentially to the owners of crony capitalist companies and to their political handlers. Therefore, the more progressive a government and economy becomes, the more their GINI increases and income distribution becomes less equitable.

If we plot countries’ per capita GDP versus their economic freedom, we also get a picture that favors neoliberalism over progressivism.

After the index for a country reaches roughly 60, countries’ GDPs begin to increase exponentially with the economic freedom index. More and more, it looks like we are in the neoliberal universe, not that of the progressives.

Yet, that is not all of the data we have favoring neoliberalism over progressivism for producing the most humane environment. There are a number of completely empirical relationships, particularly Hauser’s Law and the Rahn curve, that say neoliberalism is better. Hauser’s Law is the observation that since at least 1945 and no matter what the tax structure and the top marginal tax rate, federal tax receipts as a percentage of GDP have stubbornly remained around 19% ± 2%. In four years (1949, 1950, 2009, and 2010) federal receipts  were even less at around 15% of GDP. Eliminating those four years, the standard deviation is little more than 1%. A graph using data provided by the Office of Management and Budget Historical Tables is shown below.

This is a truly remarkable empirical fact! It becomes even more ominous when combined with the Rahn curve. The Rahn curve gives a theoretical relationship of an economy’s growth rate as a function of government expenditures as a percent of GDP, with a shape as shown below.

The basic idea behind the Rahn Curve is that when government spending is very low, any increase in government spending will increase the GDP growth rate. However, when that spending reaches some critical fraction of GDP, the government reaches a critical size where it begins to stifle economic growth by denying resources to the private sector, or by regulating and micromanaging private businesses too much. The curve then turns over and economic growth decreases as government’s share of the GDP becomes larger. Using data from the Federal Reserve Economic Data Base (FRED), I produced the scatter plot below showing points on this plot for every quarter from Q1 1960 to Q2 2015, which apparently were all on the descending branch of the Rahn Curve.

It is a little unclear from the labeling of the axes, but the horizontal axis on this plot is total government expenditures as a percent of GDP, while the vertical axis is the percent growth of real GDP, as is shown in the graph title. A short examination of the plot should convince you that any straight line fitted to the data would have negative slope. Now here is the chilling implication of our being on the declining branch of the Rahn curve combined with Hauser’s Law. Standard progressive doctrine, indeed standard Keynesian doctrine tells us we should allow government spending to increase as a share of GDP in order to stimulate the economy. However if we increase government spending as a share of GDP, we would move to the right on the Rahn curve, causing GDP growth to decrease even further.  With GDP growth currently at 2% or even a little below 2%, it would not take much of a shift to the right on the Rahn curve to put us in negative GDP growth territory, i.e. in a recession. Not only that, but if GDP decreases or grows very slowly, then because of Hauser’s law, government revenues will decrease or grow very slowly. That in turn makes the financing of the extra government spending, which kicked everything off, very hard.

Unfortunately, the story gets even worse than that. Because the federal government has rarely since the beginning of the 1960s been able to control its spending, our accumulated national debt is currently approximately 106% of GDP.  The Federal Reserve tells us that at the end of the fourth quarter of 2016, the total federal debt was $19.977 Trillion, while the GDP was $18.856 Trillion, giving a federal debt as a percent of GDP as 105.95%. The bulk of the increase in the national debt, approximately two-thirds of it, comes from mandatory entitlement spending, mostly for Social Security, Medicare, and Medicaid. These increases are disastrously on autopilot and can not be changed without a change in law that would almost certainly be filibustered to death by Democrats in the Senate. Assuming that federal spending habits do not change, an assumption I fervently pray will prove to be very wrong, I have extrapolated federal spending and revenues to 2045, yielding the following graph.

What this shows is that if government spending habits are not changed and spending is not drastically curtailed, by early 2031 just the spending by entitlements plus interest on the national debt will totally absorb every single penny of government revenues. If interest rates go up (as they almost certainly will), that date will come much, much sooner.  So-called “discretionary spending” including spending on defense will move that fatal date even closer. I suspect that a date in the middle of the 2020s would be a very good guess as to when the federal government will not be able to meet its obligations, i.e. when the government will become bankrupt.

Cai, this is a very bad time to suggest new federal entitlement programs! Fairly soon, the government is not even going to be able to pay for the old ones!

The Dictates of Ethics

Most of us, whether progressive or neoliberal, agree on the most fundamental ethical values that should inform our politics. I came to this conclusion while thinking about what separates neoliberals from progressives, and I very quickly decided that differences in fundamental ethics were not the explanation. In fact the most basic ethics are very similar around the world, as witnessed by the fact that just about every culture has some version of the Golden Rule. That fact should not be so surprising, since any culture that did not have a Golden Rule would probably have its members fighting each other so much, they might not be able  to cooperate in the competition with neighboring cultures. Their ability to survive as a separate, independent culture might then be questionable.

Much of our basic morality is based on the related notion that my freedom to swing my fist generally ends where it meets your nose. Another way of stating it is I have no right to harm you unless you have done something really bad to harm either me or some other innocent member of society. In this context, innocent means not doing harm to others without some extraordinary motivation. Motivation such as confronting a malefactor who has harmed others without an acceptable motivation. The exact moral rules of when it is acceptable to harm another and when not is a matter to be worked out socially and transmitted socially. At some point they then become codified in laws. The vast majority of all progressives, neoliberals, libertarians, and other American citizens would agree that no one should murder, steal from others, or lie (except for very special circumstances, such as give rise to “white lies”). More than that, we would agree that it is in fact a sin to intentionally cause another great distress without need. Again, the special circumstances for exceptions are something that are worked out and transmitted socially, and may or may not be codified into law.

This is not to say that the ethics of different ideological groups or different cultures do not have some differences, some of them very great. It does say their most basic ethical values are very similar if not identical. From what I have seen and heard, read and experienced, I am convinced most American neoliberals and progressives share the most fundamental ethical values.

A very common way of describing ethics is as a hierarchy of values, with the realization of the higher level values dependent on the realization of some set of lower level values. The lower level values are justified if their fulfillment achieves some higher level values without violating some other higher level value. The realization of a lower level value may in general be good, but if any act fulfilling it makes the fulfillment of any higher level value impossible, that act is by definition immoral. The values that are good in and of themselves without reference to achieving any other ethical purpose, are the most fundamental of ethical values. Those acts that violate the most fundamental values are always and under all conditions immoral. There are absolutely no justifications in the satisfaction of other values for setting up extermination camps and committing genocide.

These ethical considerations are very important for our present discussion because of the subsidiary values that neoliberals and progressives do not share. The differences in our lower level values are in fact caused by our different ideologies, our different pictures of reality. For example, a progressive believes government can find a way to safely direct economic assets without seriously damaging the economy’s capability to produce wealth. For a progressive, giving economic power to the government is a lower level value needed to meet social goals, such as allowing everyone a decent income and defusing social tensions. Providing that decent income and stabilizing society are the higher level values served by giving government more power.

On the other hand, neoliberals share the same values of providing a decent income to everyone and defusing social tension, but they believe those values can not possibly be achieved by giving government more power to achieve such goals. Instead, they believe world history has shown us that allowing government to provide decent incomes directly kicks off a chain of events that inevitably decreases an economy’s ability to produce. Everyone grows poorer if government uses the powers of taxation and regulation to equilibrate incomes. Everyone also grows poorer if government tries to directly stimulate the economy through either fiscal or monetary policy. The current situations in Europe, Japan, and the United States attests to this judgement.

Moreover, neoliberals believe that continually centralizing economic power in the government inevitably destroys some of the most important fundamental values, namely those individual rights enumerated in the Bill of Rights in the U.S. Constitution. Centralizing economic power in the government is usually begun with the very best of intentions, but the dynamics of human psychology, economics, and power make that path Friedrich Hayak’s Road to Serfdom [E2]. The ultimate destination down that road is totalitarian fascism.

Cai in his disagreement declares,

While such inequality exists, they [“the angry masses”] will stew and foment discontent. They will only be appeased by a sincere effort to compromise, to take on faith that what they see is true, and that their experience is valid, which is that inequality and other issues that affect quality of life can be addressed by government intervention.

However, we neoliberals believe we have shown that government intervention can never affect the quality of life by either stimulating the economy or by equilibrating incomes. Direct evidence from data shows that going in the direction of free-markets does a better job of making incomes more equal and of maximizing both economic growth and the available wealth. Data also demonstrates, along with history, that attempting to solve economic social problems with the direct application of government power is always self-defeating.

In this way judgements on economic problems become transformed into ethical questions. Not that I would want to get on my moral high horse and start accusing progressives of being immoral. (At least not to begin with!) Reality is just too complicated, and any of us can be confused about the exact relations between different aspects of reality. However, we should all remember that economic and social issues are also ethical issues.

I will answer Cai’s remaining disagreements with neoliberalism in my next post.

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