Wednesday, November 20, 2013

Economic Analysis of Laws

The law of supply is a fundamental law in economics.  It is used in the majority of economic theories either implicitly or explicitly.  There are many factors that go into how supply is calculated but one of them is input prices.  Basically, this says as input prices go up/down, suppliers will produce less/more and therefore the supply curve will shift.

Let's use this theory when considering laws.  First, I will use a simple example like littering.  Littering in my home state results in a $500 fine.  The fine is set at this level not because littering actually merits a $500 fine but rather, it is unlikely to get caught littering so the price must be high enough to deter littering.  There are some mathematics behind how they come up with $500 that I will not get into but that is the general theory.  Clearly, if there was no such fine littering would increase due to the first paragraph.  The price is less so therefore there will be more "supply".

Now, lets extrapolate this example to larger crimes.  What is the price of murder?  It could be a death sentence, or, if someone making $40,000 a year gets caught murdering someone 20 years before retirement that will cost him $800,000 (20*40K).  This is not even including the chance of getting a pay raise, the cost of his leisure, his price on his right to vote etc etc.

I said all of that to reference a point of view I find to be absurd.  Recently, I was in a discussion with someone that argued because murders take place even though laws prohibiting murders exist the laws prohibiting murder are unnecessary.  The idea is the law does not deter the action so the law is useless.

This argument is simply ridiculous.  Laws prohibiting murder exact a cost that is extremely high for those contemplating such action.  However, without the law the cost drops to 0.  To claim that murders won't increase, as my opponent claimed,  is to defy economic law.  Clearly, the marginal benefit of murdering someone will be greater than the marginal cost if the cost of murdering someone is nil.  However, if the marginal cost is $1,000,000+ it is much more difficult for marginal benefit to be greater than marginal cost.  Hence, increasing the price will deter people from committing murder.

Another economic reason why these kinds of laws are good for society is based on the division of labor.  We allow other people to enforce justice on our behalf.  When criminal activity ensues and harm is realized on ourselves or a loved one it is human nature to demand justice.  If we were expected to enact justice every time a crime was committed against our person, property, or loved one we would have to stop our productive lives to pursue justice against the perpetrator.  The lack of division of labor in this regard would lead to economic inefficiency.

This argument has nothing to do with governmental laws, governmentally provided police forces, or governmentally provided national defense vs. private laws, privately provided police force, or privately provided national defense.  My argument is merely pointing out that any civil society requires these laws.  Understood in this sense, I am appealing to how Bastiat understood the law; laws are instituted because the laws are meant to protect what preceded the legal institution in the first place, namely, person and property.

Saturday, November 16, 2013

Cubic Spline Interpolation and Econometrics

This paper was written for my Numerical Analysis class.  It was a small project in which I had to write a code and also answer a real world problem.  One of the problems I face as an aspiring economist is finding appropriate data to run regressions on.  If the data does not have the same time frequency, the model is meaningless.  Hence, I wrote a code for Cubic Spline Interpolation and showed it accurately interpolates data.

The paper requires a bit of mathematical maturity, but the idea can still be clearly understood.

Note: I did not include any of the appendices, and the format of the paper was altered when I turned it into a PDF for some reason.

Monday, November 11, 2013

An Analytical View of The Chilean Miracle.

(Image Courtesy of Google Images)

The dynamics of the economic marketplace in many South American countries has been due mainly to political instability based on the effort of South American leaders to centralize government’s economic and political power at the expense of individual liberty. Economic mechanisms are sometimes used to subsume the individual into the state, and grow executive power. However, neo-liberal market reforms instituted in Chile after the coup that ousted Allende, slowly eroded executive power during a tacit shift towards individual freedom and increased economic production that eventually lead to the peaceful ousting of Pinochet’s authoritarian dictatorship, and a thriving economy. The failure of other Latin American democracies in South America has been due to the political insecurity of the executive to relinquish total economic control.        
Freedom isn’t only the right to be politically free, via the rule of law and democratic elections, but also economically free, via voluntary transactions. The free market principles of market reform in South America are based on the idea of Adam Smith’s “invisible hand”, the notion that the allocation of scarce resources with multiple uses is best organized by free people in voluntary, mutually beneficial transactions, as opposed to government coordination of economic arrangements. This spontaneous order, according to Dr. Milton Friedman, can also remove some of the political constraints by government over the individual, “By removing the organization of economic activity from the control of political authority, the market eliminates this source of coercive power. It enables economic strength to be a check to political power, rather than reinforcement.” (Friedman 15) The more economic control the government has over the individual, the more one will look to the government rather than themselves or others, to solve their problems, directly correlating to increased political power for the state.        
Immediately following the global economic instability of the Great Depression beginning in 1930, dictators and presidents have been using economic control to gain and maintain political power. For instance, in the 1930s, Brazil’s Getulio Vargas backed by the military, instituted the “Estavo Novo” or “new state” and declared himself dictator. His government interventions into the economic realm were modeled after Italian fascism of the same time period. He instituted import substitution and corporatist policies that “…combined strong government involvement in economic activities with the organization of workers into government controlled unions.” (Vanden and Provost 229). Peron, in Argentina followed a similar model to that of Vargas in Brazil, “In power, Peron’s strategy was similar to that of Vargas… his rule took on nationalistic tones and policies of economic protectionism were implemented. The government took a strong hold of the economy…” (Vanden and Provost 229). These two populist leaders in Latin America derived their power by controlling individual’s economic situation by limiting competition for both input and output, while dissipating the costs among the population as a whole.      
This corporatist/fascist mentality is largely associated with the political “right” and perceived to be on the opposite pole of the political spectrum than communism. However, this conclusion disregards altogether the relation of the individual to the state in both systems and his subjugation thereof; both fascism and communism are different degrees of statism, as both clearly institute various degrees of dirigisme. In professor Peter Drucker’s study of totalitarianism, he saw fascism as the logical ideological progression of socialism, “Fascism is the stage reached after communism has proved an illusion, and it has proved as much an illusion in Stalinist Russia as in pre-Hitler Germany.” (Hayek 80) Moreover, after his research on the origins of fascism and it’s relation to communism, largely from first-hand accounts, led prominent economist F.A. Hayek to conclude, “While to many who have watched the transition from socialism to fascism at close quarters the connection between the two systems has become increasingly obvious…” (Hayek 81-82). Furthermore, prominent 21st century economist Dr. Thomas Sowell adds, “…there is remarkably little difference between Communists and Fascists, except for rhetoric, and there is far more in common between fascists and the moderate left…” (Intellectuals 99).             

The intervention into the economy by government is primarily out of political expediency; ensuring political longevity and increasing the concentration of power afforded to the state, specifically the executive branch. Dirigiste economies are inherently flawed and tend to fail irrespective of where state control is focused (socialism/fascism), and thus provides the political capital needed to employ such a blatant political power grab. For example, in Argentina during the military regime of the late 70s and early 80s the military junta, despite economic counsel citing the economic instability was due to an interventionist state and the ISI strategy, advised the junta that, “loosening of free market forces would not only create the conditions for renewed economic growth but also discipline the social actors…” The junta’s inability or “persistent refusals” to relinquish “their state-oriented expectations and behaviors… led to economic disaster.” (Vanden and Provost 435). The state, rather than implementing economic freedom that could threaten their political power, chose the status quo at the economic peril of the people. 
The junta’s inability to relinquish control over the economy eventually did them in. This dissatisfaction with the economic instability perpetuated by the state eventually paved the way for Carlos Menem’s democratic election in 1989, and the political capital needed for market reform, albeit partial. Despite growing inflation and economic instability that had been growing for decades, Menem was able to quell the inflation by his “convertibility law”, which pegged the Argentine peso to the U.S. dollar, stabilizing the money supply and bringing down inflation by using their foreign exchange reserves as a commodity (Schamis 71). In addition to a stable currency, Menem promulgated market reforms, which “included trade-liberalization, deregulation, and privatization.” (Schamis, Transition 72). In Short, the parity of the Argentine peso and the U.S. dollar, proved to be a Trojan horse and eventually became its demise. “Bank money” and ensuing credit expansion due to lax reserve requirements eventually lead to an economic bust in 2001-2002 (Schamis, Transition 73).

Menem’s partial market reforms were initially successful, and a statist political power grab ensued as he attempted to capitalize on his economic success with increased political power (Schamis 72). Thus, leading to centralized state power corrupting the entire economy, particularly in Menem’s case, running up massive federal deficits in order to sustain Menem’s “strategy for achieving constitutional reform and winning reelection.”  And eventually lead to the economic collapse in 2001-2002 (Schamis, Transition 72). A few years later the Kirchner’s, beginning with Nestor and then later his wife Christina, implemented pragmatic policies to stabilize the economy. From there, following a well established pattern in South America, the political power grab ensued. Christina’s political and economic overreach—far more egregious and further “left” than her husbands before her—advocated for more state control of the economy and a nationalization that Professor Schamis describes as “more Chavez-like than anything else” (Schamis, Decay 72). Schamis describes further the goal of such economic and political power grabs by the state in broader terms:
"Social policy through government discretion in a system marked by concentrated executive authority is fundamentally a tool to give rulers more resources for their patronage—that is, to control social groups and diminish the autonomy of civil society. The idea that some rights have to be violated for others to be advanced is thus perverse; it is just about abusing power, which plants the seeds of an undemocratic political order." (Decay, 74)
No matter where on the political spectrum one may be, violations of political and economic rights are inevitable in a system where government is concentrated in an all-powerful executive; as individual rights are manipulated by the state to erode the civil society as means to end. In the case of Chile, the situation is somewhat symmetrical to Argentina, yet in many ways asymmetrical. The key difference being more pragmatic and realistic macroeconomic advice under the junta by the “Chicago boys”, a group of Chilean economists that had studied under the tutelage of Milton Friedman at Chicago University (Stephens). The market reforms success came in spite of a ruthless dictator and an economy in shambles, as Bret Stephens explains, “Inflation topped out at an annual rate of 1000%, foreign currency reserves depleted, and per capita GDP was roughly that of Peru…”    
The cause of the economic catastrophe was inherent in Allende’s statist economic policy that was rife with expropriations; often by force, nationalization, wage and price controls and rationing of consumer goods by local boards called the “Unions of Supply and Price Controls” know as JAP (Lira). The latter was instituted due to the inflation and lack of consumer goods as an economic consequence of the former. Lira describes how rations were distributed if an individual was openly opposed the state, “these people perceived as “unfriendly” to Allende… received insufficient rations for their families, or no rations at all.” (Lira). The socialist policies of Allende worked to stifle political freedom just as much as economic freedom. The complete decimation of the economy by the Marxist economic policies of Allende lead ultimately to a military coup led by Augusto Pinochet and a period of 17 years of dictatorial rule. 
Once in office, Pinochet’s ultimate goal was to stamp out socialism, not just programmatically, but by force. The statist, authoritarian junta persecuted anyone associated with the socialist or communist parties; many were killed, tortured, imprisoned or exiled at the hands of junta (Vanden, Provost 466). Like Allende and others before him, as well as other leaders In South American politics during his time, Pinochet, “commander-in-chief of the army, centralized power in his person…” (Vanden, Provost 466). The transition from Marxism to Pinochet and the Chicago boys didn’t occur simultaneously, rather the “continuing economic decline forced him to look for some new policy alternatives.” (Stephens). It wasn’t until March 1975 that the Chicago boy’s policies had been implemented.   
The market reforms instituted under Chile were congruent to that of Argentinean President Carlos Menem, and were not at all entirely “laissez-faire” or free market. Moreover, the reforms pursued were not to the extent espoused by Milton Friedman, as Jonathan Marshall explains in an 1983 article, “Freidman’s own protégés abandoned laissez-faire economics at certain critical junctures, and these departures, not any maniacal monetarism, produced Chile’s suffering.” (Doherty) This article written in the in early 80’s when Chile was in the midst of a slow economy, most likely due to a restriction and correction of the monetary policy (Doherty). One deviation was pegging the Chilean peso to U.S. dollars in the early 80’s, subsequently overvaluing the peso and hurting exports (like Menem's convertibility law). Another deviation was Pinochet, like Peron and Vargas before him, oversaw a system of corporatism that protected state favored business’ from the competition of the free market in the form of government credit and bailouts (Doherty). 
However, these limited market reforms, in spite of corporatism and devaluation of the peso were reasonable steps in the right direction. Two of which made this possible, monetary stabilization (Martinez) and the other, was giving the means of production (private property) back to the people (Vanden, Provost 466). Private property rights are essential to any world economy and a backbone of neo-liberal market reforms. Economist Dr. Thomas Sowell explains, “For economic activities that take some time, property rights are a prerequisite, so that those who farm or invest in business can feel assured that the fruits of their activities will be theirs.” (Facts and Fallacies 218). Many believe wrongly that property rights only benefit the wealthy, but Sowell delves further and explains that even those without property have a huge stake in private property rights, “if they are to be employed in an economy made prosperous by the presence of property rights.” (Facts and Fallacies 218). Moreover, in the absence of such rights, as seen under the Allende regime, production drastically decreases or ceases altogether. 
Like Milton Friedman, who once proclaimed back in 1962, while discussing individual freedom in economic arraignments, he explicitly states that it is a vehicle to political freedom, ...economic freedom is also and indispensable means toward the achievement of political freedom.” (Friedman 8). Not only did the reforms help Chile, Friedman’s assertion proved to be substantive. The eventual macroeconomic stability in the late 80’s, among other factors, was a large part of the eventual democratic transition in 1990 (Martinez). When Pinochet finally stepped down in 1990, GDP had risen by 40% (in 2005 dollars); by comparison, Peru and Argentina during the same time period, stagnated (Stephens). As of 2010, and a result of their market reforms Chile has become South Americans richest people, with the lowest levels of corruption, lowest infant mortality rate and lowest number of people living below the poverty line (Stephens).

In conclusion, not only are economic freedoms separate from political freedom, they are both components of a greater whole: individual liberty. The only mechanism that protects both the worker and the consumer is competition in a free market. As we have seen in South America, leaders use economic arraignments and coercion to increase their power at the expense of political and economic liberty; both fascism and socialism employ this tactic in similar fashion to achieve the same result. Chile is a unique case in which a military junta, a top down organization, promoted an economic policy that was bottom up. The success of their economic structure in comparison to the Marxist policies before is undeniable. The political atrocities committed by Pinochet are deplorable, yet the neo-liberal market reforms remain today, despite two moderate socialist presidents from 2000-2010, a clear vindication of the Chilean market reform's success (Vanden, Prevost 467-468).