Book review of The Essential Hayek by Donald J. Boudreaux
Let’s jump straight in and consider some of Hayek’s main points, as outlined in this brief book.
- Things are really, really complicated, but that’s okay because you only need to know your own little tiny bit of it.
Right now I’m drinking beer. It is good. It’s very cold because, as is my habit, I left it in the freezer for ten minutes before drinking. Sound pretty simple, right? Well, consider: it is in a bottle, and I have no idea whatsoever how to make glass except that it involves sand (I saw that in an episode of He-Man) and heat. And the freezer: I don’t know how it works except that it involves evaporation. I have absolutely no idea where the chemicals used come from. And the beer itself: I know just a tiny bit about growing grain and I recall little about the brewing process even though I’ve been to the Sapporo brewery and presumably saw the whole operation.
Goddamn those samples.
They deliver the beer in a truck. I have little understanding of how a truck’s engine works. I don’t know how to make the steel for its body. As for the rubber tires, the refined fuel in the tank, the duct tape holding the whole prehistoric construction together – where the base materials are sourced from, how they are transported and manufactured – I have no idea.
And yet I am drinking the beer.
The simplest act in a modern economy required a vast, vast amount of knowledge that no one man can possibly possess. We just do our own bit and hope everyone else has their bit under control.
It’s not in the book, but there’s a great story about a guy who tried to build a toaster from scratch, even going down mines to dig his own minerals etc. It illustrates Hayek’s point perfectly.
- Prices communicate information.
And as Thomas Sowell adds, sometimes they deliver bad news. I once went to the supermarket in Japan and saw that the tomatoes were about $2.50 each. It was so unbelievable I took a photo.
Why was this so? I don’t know. Maybe there was a typhoon down south that knocked them off the vines. In any case, I bought other veggies instead. As consumers, we don’t need to know all the whys and wherefores of price changes, though we are rightly curious. We just need to see the price and act accordingly. Someone who really needed a tomato for a recipe they’d long planned might lash out on one, but try to reduce the quantity.
If a computer company sees that the price of aluminium is up and steel is down, they might make more parts from the latter and less from the former. As to why the prices have changed, they don’t need to know. And by this mechanism information from down the line is passed along, people change their behaviour accordingly, and scarce resources are delivered where they have the greatest value.
The flow of information also goes the other way. If the brewer notices that his beer is selling well, he might produce more or put the price up, or both. He doesn’t need to know why demand has changed. He just needs to react. Again, prices efficiently summarize and pass on complex information that individual actors in the economy need.
My beer continues to be very good, by the way. The price recently came down dramatically due to cheap imports from Hated Neighbouring Country. Yay peace! But I didn’t really need to know the cause. I just needed to drink more.
By the same token, government intervention in the market messes up these price signals. A local example will again illustrate the point: the government has a monopoly on cooking gas and controls the price for The People. The People therefore have a false idea about its scarcity and use more of it than they would if prices were at the market rate. Of course, holding the price low does not actually increase supply. In fact it probably reduces it as the state-owned enterprise lacks a profit motive to quickly and efficiently meet demand. And so there are constant shortages and long queues as The People wait to get their allocated supply of gas. They are allowed to fill up once every two months, and if there’s none around when it’s your turn, too bad.
In the same way, artificially high agricultural prices prompt American farmers to overproduce, thus creating a glut that is often dumped on third world markets as ‘aid’, thus destroying their local producers.
In summary, no person or government knows everything that’s going on, but collectively we know enough to make it work just by responding to prices.
- There’s a difference between law and legislation
According to Hayek, law comes about naturally as a convenience to make society work. For example, in Tokyo one must stay on the left on escalators if stationary so that the less patient walkers can go up on the right. In Osaka this is reversed. Why? Well, in both of these giant, crowded cities people independently recognized the need for increased efficiency of moment in subways etc. so they instinctively developed these systems. No government or transit authority ever decreed it to be so or put up signs. People naturally order themselves so as to make things work more easily. In other words, laws evolve.
Legislation often simply codifies existing social standards, i.e. don’t kill people, leave other people’s stuff alone, etc. It was not okay to pinch stuff right up until the moment the Mesopotamian state etched its prohibition upon some long-lost tablet.
As for other legislation, this is called ‘malum prohibitum’, which means ‘only wrong because the government reckons it’s wrong, not because us dirt people really care about it’. This would include riding a bicycle without a helmet, using a VPN to buy music more cheaply by pretending to be in the US, or slaughtering live chickens right there in the market. And this legislation will only be real if governments enforce it – did you know that prostitution is illegal in Thailand? ‘Nuff said.
- Trying to make the economy more secure actually makes it less secure.
If you subsidize farmers or protect them with tariffs to make their livelihoods more stable, that money has to come from somewhere – and it comes from higher taxes or higher consumer prices. Unfortunately, the grim logic of democratic politics makes this almost certain to happen anyway.
You see, the farmers are super happy about the subsidies or other protections and so they will vote en masse for such measures. On the other hand, all the others who pay for it through higher taxes or prices don’t mind so much because the number of non-farmers is heaps higher than the number of farmers, so the effect is spread out among many people and therefore barely registers to them. If bread gets ten cents more expensive, for example, the average consumer doesn’t care much because bread is only one very small part of his total consumption, and the difference isn’t that great anyway.
Can you see where this is going? As more and more industries or interest groups demand special treatment – handouts, protections, or whatever – then taxes in general start to rise significantly, and prices across the board also begin to rise or just get out of whack with each other.
I saw this first hand in Japan, where the median income (would you believe) is below that of the United States. One reason is the high cost of living, and a very expensive part of any family’s budget is food. Because of huge agricultural protections, food is pricey. You can get rice far more cheaply in Australia, beef is far cheaper in much of Africa, and fruit is far cheaper on the Moon.
Here a direct quotation helps to summarize:
The fact that each person’s livelihood is tied disproportionately to what he or she produces rather than to what he or she consumes creates a practical problem, however. Each person, as a producer, works only at one or two occupations; each person earns an income only from one or two sources. Yet each person, as a consumer, buys thousands of different items.
So as consumers we favour a free market because we want more choice, but as producers we want the government to mollycoddle us, and the latter preference wins out as it makes a bigger difference to us. So we all end up poorer in the long run.
- Keynesian stimulus is bad, mmkay.
Okay I admit, I’ve been babbling on about Osaka escalators and Thai whores and have not yet made a single mention of Keynes as promised so dramatically in the title.
If you fell for it, you must be new here.
But now we come to him at last. Ya see, if you boost the economy with fresh injections of cash (i.e. quantitative easing, government spending etc.) that helps in the short run. The problem is that businesses will overproduce or over-expand due to a false price signal, i.e. the one that is only there because of the stimulus package. As soon as the stimulus is withdrawn, prices will fall back to their natural level (i.e. demand will decline) and those businesses will be left high and dry. It would be better to leave demand alone and let businesses make better long-term decisions in response to realistic prices at the time.
If banks are able to lend more, the new money will first hit whatever it is people are buying with those loans – let’s say, I don’t know, sex dolls. So sex doll companies think, bingo! Everyone’s after our stuff, and they will produce more and raise prices relative to other goods and services. But then the money spreads out and they find they have over-expanded their capacity. A whole lot of lonely, pouting sex dolls will be sitting unloved in giant warehouses, and a whole lot of sex doll line workers will be out of a job.
Keynesians would argue that it is increasing aggregate demand that counts, and that these sex doll quirks are temporary and short-lived. But Hayek reckons (a) that money spreads out unevenly, thus causing capital to flow in the wrong directions, and (b) that in any case, the generally higher prices will be generally out of whack. For example, artificially low interest rates tell companies that everyone’s saving so it’s a good time to invest in advanced sex doll research – but the price signal of low interest rates is false. People are not saving for the future, so there will not be such a big future market for super high-tech sex dolls as the false interest rate signals suggest. More laid-off workers, more unsold pouting dolls in warehouses, and across the economy as a whole, a bigger slump than if they’d just left prices alone.
The best way that government can ensure this is to keep the money supply stable, not to expand or shrink it according to the present state of the economy.
- Inflation sucks arse.
The trouble with inflation is that, for a government, it always looks like a problem can be fixed by adding just a liiitle bit more inflation. This usually happens through an increase in the money supply, as discussed above.
Governments can pay for some of their expenditure by creating a liiitle bit more money. This causes problems later on, but usually not before the next election. If it does come inconveniently before an election, what might the government do? Yup, increase the money supply again. And again. And again. If it ever stops, over-expanded businesses will contract and unemployment will shoot up. And the longer you leave it the worse it gets, like holding a bull by the balls. It gets angrier and angrier, and the longer you hold on, the worse it’s going to roger you when you finally let go.
I have not seen Hayek directly attack democracy anywhere, but you gotta wonder if he secretly harboured a bit of sympathy for Lee Kuan Yew-type dictators.
As a saver and investor, I really hate inflation. If it is running at 2% then I need to make a return of at least 6% net of tax just to get ahead any reasonable distance. And often inflation is higher than that.
Inflation helps losers who borrow money for consumption beyond their means and save nothing because the amount they pay back in future money will be worth relatively less.
Several cures have been suggested to this malaise, including a return to the gold standard, Friedman’s suggested prohibitions on expanding the money supply above a low ceiling, or taking the money supply out of the hands of government altogether (Hayak liked this last one the best).
I guess it was pie-in-the-sky during the twentieth century, but these days there are independent crypto-currencies that might do the trick. If some of them were to become stable and established, governments might find that their own currencies were treated like Monopoly money by their citizens, and they would forever lose their power to inflate their way out of (and into) trouble.
No doubt there are economists who masturbate to this very thought.
- Rules for friends and families ought to be different from rules for societies.
Say your grown son asks you if he can borrow $20,000. What would you do?
Whatever the answer, it is likely that you got it right. If you son is a no-good druggie who spends all day in the basement drinking Tang and jacking off to Pakistani goat porn then you’d tell him to get a haircut and join the army. If he’s a brilliant, hard-working techie who’s trying to expand his promising start-up, you’d be more willing to consider it.
On the other hand, when governments give handouts to individuals or industries they have much less information and are likely to make bad decisions in a greater proportion of cases.
For this reason, Hayak argues, charity should begin, and stay, at home (or in local communities where people know each other personally). Governments should instead focus on making sure that the rules are fair and consistent. The President or Prime Minister is not our dad, and is in no better situation to help us out through gibs or protections.
In families it is normal to determine a fair outcome, i.e. to subsidize a child who is studying or something like that. But in a big group like society, attempting to produce fair outcomes will not work due to the lack of information. It is better to let the information provided by profits and losses determine which sectors of the economy need to expand, and which need to contract. When we see a car factory close down it is natural to feel like we should help the workers in some way, but this instinct is an adaptation for dealing with people within our own circle. Our countrymen are not our family, and trying to treat them as such will prove counterproductive in the long run.
- Ideas have consequences
This is easily explained. If you write down a nice idea for building a perfect society and your book catches on, a century or so later your nice little idea might kill millions of people. But a good idea might do the opposite.
No stronger evidence of the power of ideas exists than the fact that totalitarian governments, without exception, go to extreme lengths to control the ideas that people encounter. If ideas have no consequences, dictators and tyrants would spend no energy and treasure on preventing people from publishing whatever they please and saying whatever they wish. Nor would governments waste money on spreading propaganda.
The open debate of ideas is therefore good for the world, with the ones that stand up to scrutiny being implemented and the ones that seem weaker being consigned to the dustbin. Discussing academic topics is not just pissing in the wind.
Having said all this, there are serious economists, including Thomas Sowell, who hold that some of Keynes’ ideas had merit. I have since read a more detailed history of the competing ideas of Keynes and Hayek, coming soon to a People’s Blog near you.
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