Stats

May 30, 2013

It was my 6th grade teacher, Miss Inez C. Searle, who gave me my introduction to economic theory according to the Austrian School, although at the time I had no idea she was giving our class an economics lesson. But, there it was — our very first lesson in Unintended Consequences on a Grand Scale.

The Austrians figured out that you can measure certain tendencies in decision making. For example, they measured how the price of an item could affect the actions of buyers and sellers by counting how many of the items were offered and sold at various price levels.

People study that question all the time. Businesses want to know: How many widgets did we sell when we ran that sale? If we raise prices next week, will we make more money or will we drive people to our competitors?

In the course of exploring questions like that, the Austrians also figured out why it almost never works out when a government decides to set a "fair price" for widgets. The Austrians became the intellectual heroes to the libertarian set, since their work made the case for individual liberty in practical terms. It turns out that countries where individual liberty is prized happen to be the wealthiest of nations.

It was the fall of 1958 at the John Fitch School in Windsor, Connecticut, and at that time Miss Searle was closing in on retirement. "Old school" didn't begin to do her justice. At age 66 she still taught penmanship according to the Zaner-Bloser method. We wrote with steel tipped pens that we dipped in ink. It was pretty messy until we got the hang of it. The little jars of India Ink fit right into a hole cut into the upper right hand corner of our desks. We'd uncap them for penmanship and cap them again for all the other subjects.

Unlike some teachers we hear of today, Miss Searle did not get into politics with us, but There was this one time, though, when she talked to us about policy. On that day she gave a rather passionate lesson on the effects of a price support. Now, some of us might have heard the term "price support" but we had no idea, nor did we really care, what it meant.

Miss Searle explained. The U.S. government had passed a law setting a minimum price for wheat. The idea was to make sure that the wheat farmers would get a fair price. But there was a problem because the higher wheat price, logically enough, encouraged farmers to plant more wheat than they would otherwise have done. A lot more wheat. Unfortunately, but also logically enough, the higher wheat price did not encourage anybody to buy it.

That meant farmers were going to get stuck with loads of extra wheat that nobody was willing to buy. That is, they would be stuck with it unless somebody did something about it. The government was that somebody. In order to make sure the plan to help the farmers actually actually helped the farmers, the government stepped in and bought all of the farmers' excess wheat. But that wasn't the end of it. Miss Searle went on to explain that having bought the wheat, the government was faced with a problem of storing it somewhere.

So on top of the tax dollars wasted on wheat that nobody wanted, the government added on the cost of storing the stuff. Miss Searle took a dim view.

The lesson was clear. By meddling with the price of wheat in order to to help the farmers, the government created such a huge surplus that storing the extra wheat was a problem.

Not long ago I found myself thinking about Miss Searle and her price support tirade, and I got to wondering what might have been going on around the time that would have set her off. I googled and found a couple of interesting things.

It was several years earlier that congress passed and President Eisenhower signed the Agricultural Act of 1954. Among other things the Act provided for various minimum and maximum quantities of agricultural "commodity set-asides."

TITLE I-SET ASIDE OF AGRICULTURAL COMMODITIES

SEC. 101. The
Commodity Credit Corporation shall, as rapidly as the Secretary of Agriculture
shall determine to be practicable, set aside within its inventories not more
than the following maximum quantities and not less than the following minimum quantities
of agricultural commodities or products thereof heretofore or hereafter
acquired by it from 1954 and prior years' crops and production in connection
with its price support operations:

Commodity

Maximum quantity

Minimum quantity

Wheat (bushels)

500,000,000

400,000,000

Upland cotton. (bales)

4,000,000

3,000,000

Cottonseed oil (pounds)

500,000,000

0

Butter (pounds)

200,000,000

0

Nonfat dry milk solids (pounds)

300,000,000

0

Cheese (pounds)

150,000,000

0

Such quantities shall be known as the "commodity
set-aside".

SEC. 102. Quantities
of commodities shall not be included in the commodity set-aside which have an
aggregate value in excess of $2,500,000,000.
The value of the commodities placed in the commodity set-aside, for the
purpose of this section, shall be the Corporation's investment in such
commodities as of the date they are included in the commodity set-aside, as
determined by the Secretary.

I'm speculating here, but it seems a stretch that mere passage of this law would cause Miss Searle such hearburn. After all, it was all of four years earlier, but then again when you're 66, four years is next to nothing. Trust me on this.

It strikes me, though, that this little excerpt from the Agricultural Act of 1954 indicates how badly legislators of the time misjudged the effect of their price supports. Apparently this legisation was passed to counter the effect of earlier legislation in which price supports had originally been instituted.

As I googled away, I came across something else that was going on at the time. In 1958, that same year I started 6th grade, there had been an uptick in the number of grain elevator explosions. It's wild speculation maybe, but I wonder if that's what got Miss Searle's attention.

HISTORY OF GRAIN DUST EXPLOSIONS
An Iowa State University study1 stated
that, of all the industrial dust explosions in
the United States, those in grain elevators occur most frequently and
cause the most injuries and property damage.
Between 1860 and 1975 there were 340 grain elevator explosions which
killed 170 persons and injured 638...

The Iowa State study showed that an average of
6.7 grain elevator explosions occurred each year from 1938 to 1946, with a
total of 130 injuries and 33 deaths. The
average dropped to about 2 explosions each year from 1947 to 1955, with a total
of 7 deaths and 13 injuries. There was
an increase to about 8 per year from 1958 to 1975, with a total of 37 deaths
and 215 injuries.

A sudden jump in the number of grain elevator explosions ties in very nicely with the theme of the unintended consequences. It was in the right time frame and you could make a plausible case that one thing led to the next. The government intervened with a price support for wheat, which caused a surplus of wheat, which in turn increased storage requirements, finally resulting in a higher frequency of grain elevator explosions. Maybe Miss Searle had a relative or friend who was injured or even killed in one of them. Probably not, but it makes for a dramatic story.

In any case, Miss Searle's lesson in the adverse effects of a price control made an impression on me that was reinforced some years later when I was a sophomore at the Hartford Branch of UConn.

One fine afternoon in his classroom I awoke to the sounds of Mr. Armentano explaining the effect of price changes on quantity supplied and quantity demanded. He a drew graph on the board like the one below.

Then he drew two horizontal lines straight across the graph, one above
and one below the intersection of supply and demand, just like the lines in the graph above.

I began to take interest in what Mr. Armento was doing. He explained how moving the price up or down from that point of intersection created a widening gap between the supply curve and the demand curve. If you go below that intersection point, he explained, you can expect a shortage, and the lower you go the more severe the shortage. If you go the other way you create a surplus. I was suddenly wide awake. That's exactly what Miss Searle said!

The embargo was a non-event. The production cutbacks were trivial.
The wrong lessons were learned. In short, everything we think we know
about the events triggered 30 years ago today is wrong.

Let’s start with the embargo. Most people believe that it was
directly responsible for long gasoline lines and for service stations
running dry. The shortages were, in fact, a byproduct of price controls
imposed by President Nixon in August 1971, which prevented oil companies
from passing on the full cost of imported crude oil to consumers at the
pump (small oil companies, however, were exempted from the price
control regime in 1973). In the face of increasing world oil prices,
“Big Oil” did the only sensible thing: It cut back on imports and
stopped selling oil to independent service stations to keep its own
franchisees supplied. By May of 1973 (five months before the embargo),
1,000 service stations had shut down for lack of fuel and many others
had substantially curtailed operations. By June, companies in many parts
of the country began limiting the amount of gasoline motorists could
purchase per stop.

By the Iranian oil crisis in 1979, the controls had grown unsustainable
as oil prices escalated in global markets. With lines forming once again
and fistfights breaking out at the pump, President Carter quickly
waived most of the controls on oil and gas prices to make more fuel available.

...

By the 1980s, Congress and the administration had figured out that price controls were not the answer.

President Reagan, who rode to office on anger over the recurrent energy
crises and inflation of the previous decade, immediately abolished what
remained of oil and gas price controls upon entering office in 1981.

...

By 1986, the deregulation of the petroleum industry led to record
production levels and a glut of oil that drove prices down to $10 a
barrel.

And it was only a few short years earlier that doomsayers were convinced we would run out of oil. Were they confusing geology with economics? I doubt it.

Over the years I'd find more examples of govenment trying to "help out the littel guy," or saying it is, only to find what it actually did was make things worse. Take those low interest college loans that were supposed to help more people go to college. The result? College tuitions rose to absorb all that borrowed money, countless graduates (and kids who didn't graduate) are now buried in student loan debt, and college is more expensive than it ever was.

How about housing? The government promotes home ownership by underwriting no-money-down mortgages through Fannie Mae and Freddie Mac. If mortgage companies were going to stay in the business there was no choice but to follow along. The result? People bought houses they would otherwise not have been able to afford, which drove housing prices through the roof, creating a real estate bubble that eventually burst. When prices stopped going up and the economy started cooling down, housing foreclosures turned a recession into a depression. And the government, naturally, blamed Wall Street.

The solution to any crisis is always a new or expanded government purpose.

I owe all of this marvelous insight to a couple of influential teachers who planted libertarian concepts in my brain. At the heart of their lessons is this one truth. Everybody is a capitalist in one way or another, even our left wing President Obama.

Still, you’ll hear voices that incessantly warn of government as nothing more than some separate, sinister entity that’s the root of all our problems, even as they do their best to gum up the works; or that tyranny always lurks just around the corner. You should reject these voices.

That's really the capitalist in Obama. He takes every opportunity to make his pitch. His product is government — the bigger, the better. When he vowed to transform America, what Obama did was to embark on a campaign to dramatically grow the progressive market share. There's a lot of money to be made.