Naked Economics: Undressing the Dismal Science pdfdrive com

CHAPTER
3

---

Government and the Economy:
Government is your friend (and a round of applause for all those
lawyers)
T
he first car I ever owned was a Honda Civic. I loved the car, but I sold it with
a lot of good miles left in it. Why? Two reasons: (1) It didn’t have a cup holder;
and (2) my wife was pregnant, and I had become fearful that our whole family
would get flattened by a Chevy Suburban. I could have gotten beyond the cup
holder problem. But putting a car seat in a vehicle that weighed a quarter as
much as the average SUV was not an option. So we bought a Ford Explorer and
became part of the problem for all of those people still driving Honda Civics.
*
The point is this: My decision to buy and drive an SUV affects everyone else
on the road, yet none of those people has a say in my decision. I do not have to
compensate all the owners of Honda Civics for the fact that I am putting their
lives slightly more at risk. Nor do I have to compensate asthmatic children who
will be made worse off by the exhaust I generate as I cruise around the city
getting nine miles to the gallon. And I have never mailed off a check to people
living on small Pacific islands who may someday find their entire countries
underwater because my CO
2
emissions are melting the polar ice caps. Yet these
are real costs associated with driving a less fuel-efficient car.
My decision to buy a Ford Explorer causes what economists refer to as an
externality, which means that the private costs of my behavior are different from
the social costs. When my wife and I went to the Bert Weinman Ford Dealership
and the salesman, Angel, asked, “What is it going to take for me to put you in
this car?,” we tallied up the costs of driving an Explorer rather than a Civic:
more gas, more expensive insurance, higher car payments. There was nothing on
our tally sheet about asthmatic children, melting polar ice caps, or pregnant
women driving Mini Coopers. Are these costs associated with driving an
Explorer? Yes. Do we have to pay them? No. Therefore, they did not figure into
our decision (other than as a vague sense of guilt as we contemplated telling our
environmentally conscious relatives who live in Boulder, Colorado, and flush the
toilet only once a day in order to conserve water).
When an externality—the gap between the private cost and the social cost of
some behavior—is large, individuals have an incentive to do things that make
them better off at the expense of others. The market, left alone, will do nothing
to fix this problem. In fact, the market “fails” in the sense that it encourages

---

individuals and firms to cut corners in ways that make society worse off as a
result. If this concept were really as dry as most economics textbooks make it
seem, then a movie like Michael Clayton would not have made millions at the
box office. After all, that film is about a simple externality: A large agribusiness
company stands accused of producing a pesticide that is seeping into local water
supplies and poisoning families. There is no market solution in this case; the
market is the problem. The polluting company maximizes profits by selling a
product that causes cancer in innocent victims. Farmers who are unaware of (or
indifferent to) the pollution will actually reward the company by buying more of
its product, which will be cheaper or more effective than what can be produced
by competitors that invest in making their products nontoxic. The only redress in
this film example (like Erin Brockovich and A Civil Action before it) was
through a nonmarket, government-supported mechanism: the courts. And, of
course, George Clooney looks good making sure justice is done (as Julia Roberts
and John Travolta did before him).
Consider a more banal example, but one that raises the ire of most city
dwellers: people who don’t pick up after their dogs. In a perfect world, we would
all carry pooper scoopers because we derive utility from behaving responsibly.
But we don’t live in a perfect world. From the narrow perspective of some
individual dog walkers, it’s easier (“less costly” in economist speak) to ignore
Fido’s unsightly pile and walk blithely on. (For those who think this is a trivial
example, an average of 650 people a year break bones or are hospitalized in
Paris after slipping in dog waste, according to the New York Times.)
1
The
pooper-scooper decision can be modeled like any other economic decision; a
dog owner weighs the costs and benefits of behaving responsibly and then
scoops or does not scoop. But who speaks for the woman running to catch the
bus the next morning who makes one misstep and is suddenly having a very bad
day? No one, which is why most cities have laws requiring pet owners to pick up
after their animals.
Thankfully there is a broader point: One crucial role for government in a
market economy is dealing with externalities—those cases in which individuals
or firms engage in private behavior that has broader social consequences. I noted
in Chapter 1 that all market transactions are voluntary exchanges that make the
involved parties better off. That’s still true, but note the word “involved” that has
left me some wiggle room. The problem is that all of the individuals affected by
a market transaction may not be sitting at the table when the deal is struck. My
former neighbor Stuart, with whom we shared an adjoining wall, was an avid
bongo drum player. I’m sure that both he and the music shop owner were both
pleased when he purchased a new set of bongos. (Based on the noise involved,

---

he may even have purchased some kind of high-tech amplifier.) But I was not
happy about that transaction.
Externalities are at the root of all kinds of policy issues, from the mundane to
those that literally threaten the planet:
The Economist has suggested somewhat peevishly that families traveling
with small children on airplanes should be required to fly at the back of the
plane so that other passengers might enjoy a “child-free zone.” An editorial
in the magazine noted, “Children, just like cigarettes or mobile phones,
clearly impose a negative externality on people who are near them.
Anybody who has suffered a 12-hour flight with a bawling baby in the row
immediately ahead or a bored youngster viciously kicking their seat from
behind, will grasp this as quickly as they would love to grasp the
youngster’s neck. Here is a clear case of market failure: parents do not bear
the full costs (indeed young babies travel free), so they are too ready to take
their noisy brats with them. Where is the invisible hand when it is needed to
administer a good smack?”
2
Mobile phone use is under stricter scrutiny, both in public places, such as
restaurants and commuter trains, where the behavior is fabulously
annoying, but also in vehicles, where it has been linked to a higher rate of
accidents. Texting is the second-most dangerous thing you can do while
driving a car, next to driving drunk.
In Chicago, Mayor Richard Daley attempted to impose a 1-cent tax on
every $2 of take-out food purchases, arguing that the “litter tax” would
reimburse the city for the costs of picking up litter, much of which consists
of discarded fast-food containers. The mayor’s economics were sound—
litter is a classic externality—but a judge ruled the ordinance
unconstitutional because it was “vague and lacking in uniformity” in the
way it dealt with different kinds of fast-food containers. Now there is talk at
the federal level of a junk food tax (or a soda tax) to deal with a different
kind of food-related externality: obesity. The health care costs associated
with obesity are now roughly as high as those related to smoking. Society
picks up at least some of the tab for those bills through the costs of
government health programs and higher insurance premiums—giving me a
reason to care whether you have a Big Mac for lunch or not.
Global warming is one of the most difficult international challenges in large