Tag Archives: Washington

North Carolina Reconsiders its Rejection of Corporate Welfare

A couple of weeks ago, something surprising happened in North Carolina. As the Carolina Journal explained:

RALEIGH — Twenty-eight House Republicans bolted party ranks Tuesday, joining 26 Democrats to defeat an economic incentives program that some labeled “corporate welfare.” It was a rebuke to House Speaker Thom Tillis, R-Mecklenburg, Senate leader Phil Berger, R-Rockingham, and Gov. Pat McCrory, all of whom championed the legislation.

The 47-54 vote against House Bill 1224 signaled that the end of the meandering 2014 “short session” of the General Assembly could be nigh, arriving perhaps as early as today.

The move marked an unusual triumph of economic rationality over special-interest politics. As Brian Balfour explained it in the Civitas Review, the bill combined two unrelated policies: it capped local sales tax rates while expanding the state’s corporate welfare efforts. Now, however, the Washington Post is reporting that the governor is under intense pressure to call a special session so the legislature can reconsider the legislation.

If they do come back into session, legislators would be wise to study up on the issue before they reconsider their votes. A good place to start would be a recent Mercatus working paper by George Mason University Professor Christopher Coyne and GMU Ph.D. candidate Lotta Moberg. The paper explores the effects of targeted economic development incentives, stressing two under-appreciated downsides to the policies:

(1) they lead to a misallocation of resources, and (2) they encourage rent-seeking and thus cronyism. We argue that these costs, which are often longer-term and not readily observable at the time the targeted benefits are granted, may very well outweigh any possible short-term economic benefits.

To gain a better understanding of the effects of these policies, my colleague Olivia Gonzalez and I have begun looking at the empirical literature. While our results are still preliminary, what we have found so far should give Tar Heel legislators pause in re-thinking their decision. We found 26 peer-reviewed papers that assess the effect of targeted incentives on the broader economy (a surprisingly large number of studies only look at whether incentives help the privileged firms and sectors, ignoring how they affect the broader economy).

The pie chart below shows what we’ve found. Just 2 studies, constituting 8 percent of the sample, found that targeted incentives positively affect the economy-at-large. Four studies (15 percent of the sample) found that targeted incentives negatively affect the broader economy. Another 6 studies found that they produce some positive effects (such as higher employment) but also some negative effects (such as lower labor force participation). One study in the sample found a distinct group (manufacturers) benefited while others (finance, insurance, and real estate) lost. Thirteen studies (half the sample), simply found no statistically significant effect of targeted incentives.

Targeted incentives research pie chartOn balance, this is not a strong case for the effectiveness of targeted economic development incentives. It suggests that when states privilege particular firms or industries, they are wasting taxpayer resources, benefiting some at the expense of others, and potentially harming the broader economy. Of course, some pathologies of privilege such as long-term resource misallocation, rent-seeking waste, and corruption may not manifest themselves for years and are not likely to be picked up by these studies.

Ex-Im’s Deadweight Loss

To hear defenders of Ex-Im talk, you’d think that export subsidies are ALL upside and no downside. Economic theory suggests otherwise.

Clearly, some benefit from export subsidies. The most-obvious beneficiaries are the 10 or so U.S. manufacturers whose products capture the bulk of Ex-Im’s privileges (if they didn’t benefit, their “all hands on deck” public relations campaign to save the bank wouldn’t make a lot of sense).

Foreign purchasers who receive loans and loan guarantees from the bank in exchange for buying these products also clearly benefit.

The least-conspicuous beneficiaries are the private banks who finance these deals and get to offload up to 85 percent of the risk on to U.S. taxpayers. But they too clearly benefit.

Those are the upsides. But as economists are wont to say, “there is no such thing as a free lunch.”

Behind each of these beneficiaries is someone left holding the bag: there are taxpayers who bear risks that private lenders are unable or unwilling to bear. There are consumers who must pay higher prices for products that are made artificially expensive by Ex-Im subsidies. And there are other borrowers who lose out on capital because they aren’t lucky enough to have the full faith and credit of the U.S. taxpayer standing behind them.

One might be tempted to think that gains of the winners roughly offset the losses of the losers. But basic economic analysis suggests that the losses exceed the gains.

A few simple diagrams illustrate this point.

First consider any subsidy of a private (that is, excludable and rivalrous) good. Perhaps the most relevant example is a subsidy to private lenders. This is shown in the familiar supply and demand diagram shown below. The quantity of loanable funds is displayed along the horizontal axis and the price of a loan—the interest rate—is shown on the vertical axis.

People want loans to invest in their projects. We call this the “Demand for Investment.” It is shown as the blue, downward-sloping line. It is downward sloping because there are diminishing marginal returns to investment and because if you have to pay a higher interest rate, you will borrow less.

Other people have money to lend. We call this the “Supply of Savings.” It is depicted below as the solid red, upward-sloping line. It is upward sloping because there are increasing opportunity costs to lending out money and lenders must be enticed with higher and higher interest rates to lend more and more money.

The key to understanding this diagram—and this is a point that non-economists tend to find unintuitive—is that there is an optimal quantity of loans and it is not infinity. There is some point beyond which the marginal opportunity cost of further lending exceeds the marginal expected benefit from these investments.

Now consider what happens when the government guarantees the loans. Knowing that taxpayers will cover up to 85 percent of their losses, rational lenders will be willing to supply any given quantity of loans at a lower interest rate. Thus, the supply of savings shifts to the lower, dashed red line. But just because loan guarantees shield lenders from the true opportunity cost of these funds, it does not mean that the true opportunity cost goes away. In this case, taxpayers wear the risk. (For a dated but lucid explanation of the true opportunity cost associated with Ex-Im, see this Minneapolis Fed paper).

Society as a whole is made poorer because scarce resources are redirected from higher-valued uses toward lower-valued uses. In other words, those who lose end up losing more than the winners win. Economists call this “dead weight loss” (DWL). It is represented by the red triangle in the diagram below (click to enlarge).

DWL of a Subsidy

So far, this is the basic economic theory of a subsidy. But economists have developed more-specific models to understand subsidies in the context of international trade.

To get a handle on this, check out some videos by Professor Michael Moore of George Washington University. If international trade diagrams are new to you, I’d recommend looking at these diagrams before watching his videos. Then watch Professor Moore’s excellent illustration of an export subsidy in a small country, followed by the slightly more-complicated—but more relevant—case of export subsidies in a large country.

Small country case:

Large country case:

This is the basic case for free trade and it is widely accepted by economists. Some astute readers may know that there are some interesting theoretical exceptions to this rule. These exceptions derive from what are known as “strategic trade” models. They posit that in some situations—such as oligopolistic industries—governments can theoretically manage to use subsidies to make domestic firms win more than domestic consumers lose. The world is still poorer, but domestic winnings outweigh domestic losses.

These models are worth understanding. But the truth is they have not—and should not—undermine the basic economic case for free trade. The best exposition of this point is a classic piece by Paul Krugman called “Is Free Trade Passe?” In it, Krugman carefully walks the reader through the logic of these models. He then notes, quite rightly, that:

The normative conclusion that this justifies a greater degree of government intervention in trade, however, has met with sharp criticism and opposition—not least from some of the creators of the new theory themselves.

Krugman then ticks through the reasons why free trade should still be the reasonable rule of thumb. For one thing, since the strategic trade models seem to only work in oligopolistic industries, policy makers would need to know exactly how oligopolists will respond to these subsidies and the fact is “economists do not have reliable models of how oligopolists behave.” Then there is the problem of entry. Even if a government does solve the empirical problem of anticipating and accurately responding to oligopolists, it “may still not be able to raise national income if the benefits of its intervention are dissipated by entry of additional firms.”

Krugman’s final two critiques are fascinating because they are precisely the sorts of concerns a George Mason economist might raise. First, there is what Hayek might call the information problem:

[T]o pursue a strategic trade policy successfully, a government must not only understand the effects of its policy on the targeted industry, which is difficult enough, but must also understand all the industries in the economy well enough that it can judge that an advantage gained here is worth advantage lost elsewhere. Therefore, the information burden is increased even further.

And finally, there is the public choice problem. At the international level, “In many (though not all) cases, a trade war between two interventionist governments will leave both countries worse off than if a hands-off approach were adopted by both.” And at the domestic level:

Governments do not necessarily act in the national interest, especially when making detailed microeconomic interventions. Instead, they are influenced by interest group pressures. The kinds of interventions that new trade theory suggests can raise national income will typically raise the welfare of small, fortunate groups by large amounts, while imposing costs on larger, more diffuse groups. The result, as with any microeconomic policy, can easily be that excessive or misguided intervention takes place because the beneficiaries have more knowledge and influence than the losers.

To this, one could add a host of problems that arise when governments privilege particular firms or industries.

Which (finally) brings me to the bottom line: the economic case remains strong that export subsidies to domestic firms like Boeing and GE end up costing American consumers, borrowers, and taxpayers more than they end up benefiting the privileged firms.

Conservatives, Liberals, and Privilege

Utah Senator Mike Lee (R) delivered an important, and timely address at the Heritage Foundation this week. It was focused squarely on what he called “America’s crisis of crony capitalism, corporate welfare, and political privilege.”

It is a problem, he said, that “simultaneously corrupts our economy and our government.” He pointed to a number of ways in which it manifests itself, including “direct subsidies,” “indirect subsidies, like loan guarantees,” “tax carve-outs and loopholes,” “bailouts,” the implicit bailout of “too big to fail,” and “complicated regulations.”

The Senator is careful to point out that the problem has a long history:

Just like the crises of lower-income immobility and middle class insecurity, the crisis of special-interest privilege is not Barack Obama’s fault. It predates his presidency. And though his policies have made it worse, past Republican presidents and Congresses share some of the blame.

He also stresses that the problem is bipartisan:

Too many in Washington have convinced themselves that special-interest privilege is wrong only when the other side does it.

And he’s willing to call Republicans to task for the part they have played:

We [Republicans] have tried being a party of corporate connections and special-interest deal-making. And we’ve lost five of the six presidential popular votes since [Reagan left office].

But though he believes Republicans bear some blame, the Senator contends that government-granted privilege is fundamentally incompatible with conservatism:

Properly considered, there is no such thing as a conservative special interest.

While I agree, I have a more ecumenical view of the issue.

Yes, privilege is incompatible with properly-considered conservatism, but I also think it incompatible with properly-considered progressivism (and properly-considered libertarianism, for that matter). The Senator, on the other hand, believes that “Liberals have no problem privileging special interests, so long as they’re liberal special interests.” As evidence, he quotes progressive thinker Herbert Croly, who wrote:

In economic warfare, the fighting can never be fair for long, and it is the business of the state to see that its own friends are victorious.

I won’t dispute that many progressives continue to view things this way. But I think there is value in framing the elimination of government-granted privilege in terms that attract progressives to the cause rather than in terms that seem destined to repel them.

And there is plenty of evidence that many progressives are at least open to the anti-privilege agenda. As I note in the beginning of the Pathology of Privilege, both the Tea Party and the Occupy movements oppose corporate bailouts. Consider the way progressive economist and Nobel Laureate Joseph Stiglitz framed the issue in Zuccotti Park:

Our financial markets have an important role to play. They are supposed to allocate capital and manage risk. But they’ve misallocated capital and they’ve created risk. We are bearing the cost of their misdeeds. There’s a system where we socialized losses and privatized gains. That’s not capitalism, that’s not a market economy, that’s a distorted economy and if we continue with that we won’t succeed in growing, and we won’t succeed in creating a just society.

Those words could have come out of Milton Friedman’s mouth.

Or consider the way progressives Mark Green and Ralph Nader framed regulatory capture in 1973:

The verdict is nearly unanimous that economic regulation over rates, entry, mergers, and technology has been anticompetitive and wasteful.

The result, they wrote, is a system which “undermines competition and entrenches monopoly at the public’s expense.”

Green and Nader’s concern about regulatory capture wasn’t just an academic exercise. It helped propel one of the most successful eliminations of government-granted privilege in U.S. history: the deregulation of trucking, air travel, and freight rail in the late 1970s. To the considerable benefit of consumers, these industries were substantially deregulated and de-cartelized. And it happened because liberals like Ted Kennedy and Jimmy Carter eventually joined the cause.

Our task today is to get modern libertarians, conservatives, and progressives to once again rally against government-granted privilege.

With Government Shekels Come Government Shackles

Though privileged firms may not focus on it when they obtain their favors, privilege almost always come with strings attached. And these strings can sometimes be quite debilitating. Call it one of the pathologies of government-granted privilege.

Perhaps the best statement of this comes from the man whose job it was to pull the strings on TARP recipients. In 2009, Kai Ryssdal of Marketplace interviewed Kenneth Feinberg. The Washington compensation guru had just been appointed to oversee compensation practices among the biggest TARP recipients. Here is how he described his powers:

Ryssdal: How much power do you have in your new job?

FEINBERG: Well, the law grants to the secretary who delegates to me the authority to determine compensation packages for 175 senior executives of the seven largest corporate top recipients. The law also permits me, or requires me, to design compensation programs for these recipients, governing overall compensation of every senior official. And finally, the law gives me great discretion in deciding whether I should seek to recoup funds that have already been distributed to executives by top recipients. So it’s a substantial delegation of power to one person.

Another example of shackles following shekels comes from Maryland. That state has doled out over $20 million in tax privileges to a film production company called MRC. MRC films House of Cards, a show about a remarkably corrupt politician named Frank Underwood. The goal of these privileges was to “induce” (others might call it bribe) MRC to film House of Cards in Maryland. One problem (among many) with targeted privileges like this is that there is no guarantee that the induced firm will stay induced; there’s nothing to keep it from coming back for more.

In this case, MRC executives recently sent a letter to Governor Martin O’Malley threatening to “break down our stage, sets and offices and set up in another state” if “sufficient incentives do not become available.” Chagrined, state Delegate William Frick came up with a plan to seize the company’s assets through eminent domain. It is clear that Delegate Frick’s intention was to shackle the company. He told the Washington Post:

I literally thought: What is an appropriate Frank Underwood response to a threat like this?…Eminent domain really struck me as the most dramatic response.

As George Mason University’s Ilya Somin aptly puts it:

But even if the courts would uphold this taking, it is extremely foolish policy. State governments rarely condemn mobile property, for the very good reason that if they try to do so, the owners can simply take it out of the jurisdiction – a lesson Maryland should have learned when it tried to condemn the Baltimore Colts to keep them from leaving back in 1984. Moreover, other businesses are likely to avoid bringing similar property into the state in the first place.

My colleague Chris Koopman notes that there are also a number of practical problems with this proposal. The only real property the state could seize from MRC would be its filming equipment: its cameras, its lights, maybe a set piece or two. And by the U.S. Constitution, it would have to offer MRC “just compensation” for these takings. The company’s real assets—the minds of its writers and the talents of its actors—would, of course, remain intact and free to move elsewhere. So essentially Mr. Frick is offering to buy MRC a bunch of new cameras, leaving the state with a bunch of old cameras which it will use for…well that hasn’t been determined yet.

In this case, it would seem that the shackles are more like bangles.

The Maryland State House adopted Frick’s measure without debate. It now goes to the Senate.

Profiles in Privilege

  1. When powerful politicians give no-bid construction contracts to their friends, you get Olympic bathrooms with two toilets to a stall. Thank god we don’t have those sorts of problems here in the West, right?
  2. Sheldon Adelson, owner of one of the largest (off-line) gambling ventures in the world, is really worried about on-line gambling. And, apparently, he “can sound surprisingly like a Southern Baptist preacher.” Bruce Yandle probably saw this coming.
  3. Remember that time when the D.C. City Council tried to side with the local taxi monopoly to keep out an innovative new competitor that was wildly popular with customers? Remember how Council members backed down after they were inundated with protests from angry constituents? Politicians in Pittsburgh, Chicago, Milwaukee, and Paris (France) don’t.
  4. In an effort to catch up with the private sector, the Obama Administration wants to move more government business from paper to the web. The paper industry is not a fan of this. In Bastiat’s telling, candlestick makers didn’t like competition from the sun either.
  5. Makers of maple syrup want more exacting grading standards for maple syrup. In other news, I would like a law saying that only economists who attended ASU and GMU can call themselves economists.
  6. Soccer star and aspiring (unproductive) entrepreneur David Beckham is trying to get a stadium built. He says “We don’t want public funding…We’ll fund the stadium ourselves. It’s something where we have worked hard to get this stage, to fund it ourselves.” In other reports, however, “Beckham’s group has hired prominent Tallahassee lobbyist Brian Ballard to help seek a state sales-tax subsidy similar to what other professional sports teams across Florida have received for building stadium facilities.”
  7. Elsewhere in privileged Floridian soccer news, the city of Orlando plans to use eminent domain to seize a church in order to tear it down and build a parking lot for Orlando’s new soccer stadium.
  8. WAMU’s Patrick Madden tweets that Mayor Vincent Gray has assured voters they will not be paying for soccer team D.C. United’s stadium….Voters will, however, pick up the cost of the land at $150,000,000 and then rent it back to the team for $1.00 per year. Sounds too crazy to be true? Read the terms here (to be fair, it looks to me like taxpayers will only be paying $140,000,000).
  9. Pat Garofalo writes: “In a move its protagonist, Vice President Frank Underwood, could be proud of, the studio that produces Netflix’s “House of Cards” is all but attempting to extort tax dollars out of the state of Maryland. As the Washington Post reported, Media Rights Capital has threatened to move production of its show about an absurdly corrupt Washington elsewhere if it doesn’t get a new slew of taxpayer money.”
  10. According to this report, FBI agents posed as film executives to bribe a California state senator to expand film tax credits. This sort of film subsidy corruption scandal will likely sound familiar to those in Iowa. And Massachusetts. And Louisiana. Makes you think that P.J. O’Rourke was right: “When buying and selling are controlled by legislation, the first things to be bought and sold are legislators.”

Does the minimum wage increase unemployment? Ask Willie Lyons.

President Obama recently claimed:

[T]here’s no solid evidence that a higher minimum wage costs jobs, and research shows it raises incomes for low-wage workers and boosts short-term economic growth.

Students of economics may find this a curious claim. Many of them will have been assigned Steven Landsburg’s Price Theory and Applications where, on page 380, they will have read:

Overwhelming empirical evidence has convinced most economists that the minimum wage is a significant cause of unemployment, particularly among the unskilled.

Or perhaps they will have been assigned Hirschleifer, Glazer, and Hirschleifer’s widely-read text. In this case, they will have seen on page 21 that 78.9 percent of surveyed economists either “agree generally” or “agree with provisions” with the statement that “A minimum wage increases unemployment among young and unskilled workers.”

More advanced students may have encountered this January 2013 paper by David Neumark, J.M. Ian Salas, and William Wascher which assesses the latest research and concludes:

[T]he evidence still shows that minimum wages pose a tradeoff of higher wages for some against job losses for others, and that policymakers need to bear this tradeoff in mind when making decisions about increasing the minimum wage.

Some students may have even studied Jonathan Meer and Jeremy West’s hot-off-the-presses study which focuses on the effect of a minimum wage on job growth. They conclude:

[T]he minimum wage reduces net job growth, primarily through its effect on job creation by expanding establishments. These effects are most pronounced for younger workers and in industries with a higher proportion of low-wage workers.

Students of history, however, will be aware of another testimonial. It comes not from an economist but from an elevator operator. Her name was Willie Lyons and in 1918, at the age of 21, she had a job working for the Congress Hall Hotel in Washington, D.C. She made $35 per month, plus two meals a day. According to the court, she reported that “the work was light and healthful, the hours short, with surroundings clean and moral, and that she was anxious to continue it for the compensation she was receiving.”

Then, on September 19, 1918, Congress passed a law establishing a District of Columbia Minimum Wage Board and setting a minimum wage for any woman or child working in the District. Though it would have been happy to retain Ms. Lyons at her agreed-upon wage, the Hotel decided that her services were not worth the higher wage and let her go.

Ms. Lyons sued the Board, claiming that the minimum wage violated her “liberty of contract” under the Due Process clauses of the 5th and 14th Amendments.* As the Supreme Court would describe it:

The wages received by this appellee were the best she was able to obtain for any work she was capable of performing, and the enforcement of the order, she alleges, deprived her of such employment and wages. She further averred that she could not secure any other position at which she could make a living, with as good physical and moral surroundings, and earn as good wages, and that she was desirous of continuing and would continue the employment, but for the order of the board.

For a time, the Supreme Court agreed with Ms. Lyons, finding that the minimum wage did, indeed, violate her right to contract.

The minimum wage was eliminated and she got her job back.

——————-

*Legal theorists might well claim that the Immunities and/or Privileges clauses of these amendments would have been more reasonable grounds, but those had long been gutted by the Supreme Court.

FDR’s Failed Thanksgiving Experiment: Benefiting Big Business, Dividing a Country

Nothing is free from the threat of political favoritism.  Not even the holidays.  And, as it turns out, Thanksgiving actually fell prey to it for a few years under Franklin Delano Roosevelt.

But first, a bit of Thanksgiving History.  At the request of the first Federal Congress, President Washington issued a proclamation naming Thursday, November 26, 1789 as a “Day of Publick Thanksgivin [sic].”  Subsequent presidents followed Washington by issuing their own Thanksgiving Proclamations.  However, the dates and months of the proclamations varied.  Eventually, under Abraham Lincoln, Thanksgiving was set to be regularly commemorated each year on the last Thursday of November. Franklin and Eleanor (FDR Bio, part 1)

In 1939, the last Thursday in November fell on the last day of the month.  As a result, President Franklin D. Roosevelt issued a Presidential Proclamation moving Thanksgiving to the second to last Thursday of November.

Why did Roosevelt see the need to move Thanksgiving?

The Huffington Post’s Sam Stein and Arthur Delaney explain that “Roosevelt was responding to pressure from retail lobbyists who worried that Christmas shopping would lag because Thanksgiving was set to fall particularly late that year, on Nov. 30.”

In fact, Stein and Delaney note:

Lew Hahn, general manager of the Retail Dry Goods Association, sent a message to Secretary of Commerce Harry Hopkins that although he didn’t dare bring this to the president’s attention, a late Thanksgiving might have a ‘possible adverse effect on the production and distribution of holiday goods.’

Hopkins told Roosevelt anyway, and the president, sensitive to the needs of business, moved the date of the holiday.

However, not everyone was interested in moving the holiday for the benefit of big retailers.  Small businesses wrote to the President, explaining:

[W]e have waited years for a late Thanksgiving to give us an advantage over the large stores, and we are sadly disappointed at your action, in this matter.  Kindly reconsider and oblige thousands of small retail storekeepers throughout this country.

Ultimately, 32 states issued proclamations moving Thanksgiving to the second to last Thursday, while 16 states refused to change and proclaimed Thanksgiving to be the last Thursday in November.   For two years, the United States had two Thanksgivings.  The President and part of the country celebrated it on the second to last Thursday in November.  The rest of the country celebrated it a week later.

After two years, and four Thanksgivings, Congress put an end to the confusion by setting a fixed date for the holiday.  In 1941, the House of Representatives passed a resolution declaring “the last” Thursday of November to be Thanksgiving Day.  The Senate amended the resolution to read that it be celebrated on “the fourth” Thursday, to take into account those years when there are five Thursdays in November.  On December 26, 1941, Roosevelt signed the resolution, thereby establishing the modern Thanksgiving Holiday.

Did Roosevelt’s “Franksgiving” experiment work?  Not exactly.  Stein and Delaney write that the Commerce Department found that expected expansion of retail sales never occurred.  In the end, they note, Roosevelt conceded that the economic benefits of moving Thanksgiving had not been worth the struggle.

Enjoy your Thanksgiving turkey.  Just think, at one you time, you could’ve done it twice.

All votes are thrown away, so vote sincerely

Virginians go to the polls tomorrow to select a new governor. To be more precise: a modest minority of eligible voters—maybe about 35 percent—will go to the polls to select a new governor. The rest will stay at home, work late, or spend time with loved ones.

Seventh grade civics teachers and mothers everywhere wonder why more people don’t exercise their precious right to vote. Public choice economists wonder why anyone does.

Here is how I typically talk about the vote decision in my public choice classes. Perhaps it will help you think through how you’d like to spend your day tomorrow.

Let’s start with a simple model and add complexity as we go.

We are going to be “modeling” an individual’s decision to vote based on the idea that voting brings some satisfaction. We call this satisfaction “utility” and say that people will vote so long as the utility from voting is positive.

Utility from voting = a function of stuff

But what should we put on the right hand side? We know people vote so we know utility from voting is positive. What gives them this satisfaction from voting?

Let’s begin with the assumption that people vote because they want to affect the outcome, to make a difference. They derive some joy from the outcome of the election. Let’s call this joy B for benefit:

Utility from voting = B + other things

B is equal to the difference in benefits the voter obtains when one outcome beats another. B could be the benefit of a government job that the voter expects to have once his brother-in-law becomes mayor. Or it could be the benefit he expects to enjoy once the entire economy improves as a result of a candidate’s policies. It need not be personal benefits. It could also include the joy one might obtain from seeing more redistribution from one group to another. And, of course, it could be all of these. The point is that B captures the expected gain in utility from one outcome prevailing over the alternatives. Note that if you think that there is essentially no difference between the candidates, B will be zero since it represents the difference in benefits obtained from one outcome prevailing over the others.

We can say more. Voting is costly. When you vote, you have to give up time you could have spent working, reading public choice books, or playing with your children. Voting is also risky. You risk being selected for a boring jury pool, you risk getting your finger jammed in the voting machine, and you risk sustaining a life-threatening accident on the way to the polls. To account for these costs, we subtract a term called C:

Utility from voting = B – C + other things

But there is still more. Remember that the B term represents the difference in utility you obtain from seeing your preferred outcome prevail. But what if you expect to see your outcome prevail whether you vote or not (think: those who voted for Reagan in ’84)? Or what if you expect to see your outcome lose whether you vote or not (think: those who voted for Gary Johnson in 2012)? The point is that if you vote in order to make a difference, then your chance of making a difference is important in your decision to vote. So we should include that as part of the gross utility term. If P is the probability that your vote will make a difference then we can write:

Utility from voting = P*B – C

In words: the utility from voting is equal to the chance that one’s vote will make a difference, multiplied by the difference in benefits one expects to obtain from one outcome beating the others, minus whatever costs are incurred in the act of voting. So long as P*B > C, people will vote.

We call this the “instrumental theory of voting” because it describes a voter who uses her vote as an “instrument” to affect the outcome. Unfortunately, there is a problem with it.

It turns out that P is small, vanishingly small. By one estimate, the chance of casting a decisive vote in the 2008 presidential election was 1 in 60 million. Why so low? Your vote only makes a difference when the rest of the electorate is evenly split. In the case of a presidential election, you’d need your state to be the decisive state in the Electoral College and you’d need all the other citizens of your state to be exactly evenly divided. That’s not terribly likely. Of course, you have a greater chance of casting a decisive vote in a smaller election such as a governorship. But even in these cases, the probabilities are extraordinarily small. I estimate that there have been over 2,000 gubernatorial elections in the U.S. Not one has come down to a single vote (the closest was Washington state’s 2004 election which came down to 133 votes but even in this case no single vote could be said to have “made a difference”).

It turns out that the chance of sustaining a life-threatening accident on the way to the polls (an element of C) is actually greater than 1 in 60 million. So this leaves us with two conclusions:

  1. Perhaps B is so great that even when multiplied by a very tiny P, it is still enough to overcome C. In other words, perhaps people are willing to risk life and limb to obtain their preferred outcome in the election. This seems less than plausible.
  2. Perhaps people obtain some benefit from voting that has nothing to do with changing the outcome. In this case, we need to add something to our model, another gross benefits term that is not affected by P. Let’s call this “D”:

Utility from voting = P*B – C + D

Here, D represents some benefit from the act of voting that has nothing to do with changing the outcome. Different authors have suggested different ideas of what D might be. It might be the sense of pride one obtains in fulfilling one’s civic duty. Or it might be the joy one gets from “cheering” on one’s side even if it doesn’t make a difference. Think of fans at a football game. They “vote” by cheering even though they know that their own cheer won’t produce a victory. This is known as the “expressive theory of voting” since it captures the notion that people vote to express opinions, not necessarily to change the outcome.

Expressive Voter

Expressive Voter

 

So what is the implication of all of this? Some say that the implication is that it is irrational to vote. It is costly and has almost no chance of making a difference, which gives voting about the same ROI as a sacrifice to the rain gods.

I disagree.

There’s nothing dumb about someone feeling that they have a civic duty. There’s nothing irrational about cheering on a cause even if you know it won’t make a difference. It is no more irrational to vote than it is to cheer for the Redskins (okay, so maybe it’s a little irrational).

It is irrational, however, for someone to believe that their vote makes a difference. Despite what MTV says, not every vote matters. In fact, the only time any one vote “matters” is when the electorate is perfectly split. And in that case, the only vote that really matters is Anthony Kennedy’s.

Some of you may find this depressing. It means you don’t matter. Worse, it means that you and your fellow voters have little incentive to gather or to process information about the issues, which means we are all destined to be uninformed and irrational when we step into that voting booth.

But there is some good news here: freed from any concerns that your miniscule vote will make a difference, you should feel free to vote your conscience. So if your conscience compels you to vote for a third (or fourth or fifth) party candidate, don’t listen to the nonsense that you are “throwing your vote away.” ALL votes (except for Anthony Kennedy’s) are thrown away. So, if you’d like to express your opinion, to cheer for a cause, then vote sincerely for the candidate that you think is best.

Then go home and spend time with your loved ones.

The Myth of Deregulation and the Financial Crisis

In an opinion piece on American Banker, Rep. Jeb Hensarling wrote that:

The great tragedy of the financial crisis, however, was not that Washington regulations failed to prevent it, but instead that Washington regulations helped lead us into it.

Even putting aside the issue of causality, my colleague Robert Greene and I recently examined the data on regulatory growth as we sought to answer the question, “Did Deregulation Cause the Financial Crisis?” Our conclusion was that there was no measurable, net deregulation leading up to the financial crisis.

The data on regulatory growth came from RegData, which uses text analysis to measure the quantity of restrictions published in regulatory text each year.  The graph below shows the number of regulatory restrictions published each year in Title 12 of the Code of Federal Regulations, which covers the subject area of banks and banking, and Title 17, which covers commodity futures and securities trading.  Deregulation would show a general downward trend.  Instead, we see that both titles grew over that time period. The only downward ticks we see occurred because of some consolidation of duplicative regulations from 1997 to 1999 (see our article for more details on that).

As we wrote at the time:

[W]e find that between 1997 and 2008 the number of financial regulatory restrictions in the Code of Federal Regulations (CFR) rose from approximately 40,286 restrictions to 47,494—an increase of 17.9 percent. Regulatory restrictions in Title 12 of the CFR—which regulates banking—increased 18.2 percent while the number of restrictions in Title 17—which regulates commodity futures and securities markets—increased 17.4 percent.

Why a shutdown threat won’t work

There are many people who think that the Affordable Care Act (ACA) is bad policy. I am among them. There are also many who think that the current trajectory of government spending is unsustainable and economically harmful. I am also among them.

Then there are people who think it would be wise to shut down the federal government if they can’t get language passed that threatens to defund the ACA. (Notice that I didn’t say language that “defunds the ACA”; I said language that “threatens to defund the ACA.” Much of the ACA is actually funded through mandatory spending so Congress would need to pass a full repeal of the bill to defund it. What these folks want is language in the budget resolution saying that the ACA ought to be defunded. The bill might strip out some discretionary funding but most of the ACA would go forward.)

I am not among them.

To help us think through the options, let’s borrow from game theory and employ a decision tree. The House (H) can either choose to pass a continuing resolution (CR) that funds the ACA or a CR that calls for de-funding the ACA. The Senate (S) can choose to pass whatever the House sends them or to reject it. If they reject it, and no CR is passed by October 1, the federal government will shut down. In this case, as the CRS puts it, “substantial ACA implementation might continue during a lapse in annual appropriations that resulted in a temporary government shutdown.” If the Senate passes whatever the House sends them, then it will go to the President (P) who can either sign it or veto it.

At the end you can see the outcomes and the way that each group feels about them.

Options are happy, sad, neutral, and outwardly sad but secretly happy. (click on the images to enlarge):

decision tree

 To figure out the most likely outcome (the “equilibrium”) you do a fancy thing called “backwards induction.” It is actually quite simple: think about how each player would act at each stage, starting at the end of the game, and cross off implausible actions. This will help you eliminate unlikely outcomes. This is what I’ve done below, with dashed lines indicating an action that a particular player is unlikely to take.  

We can with confidence cross off the possibility that the President will veto a CR that keeps the government open and fully funds his signature initiative or that the Senate would reject such a bill.

We can also cross off the possibility that the President would sign or that the Senate would send him something that calls for defunding his signature initiative.

That leaves us with two plausible scenarios: the House doesn’t use the CR as a means to attack the ACA, the CR passes the Senate, and the President signs it. This is the top branch of the game tree. House Republicans will be neutral about this outcome since they will have escaped blame for a shutdown but will have done nothing to stop the ACA. Senate Democrats and the White House will be pleased.

The other somewhat plausible scenario is that the House passes a CR calling to defund the ACA, and the Senate rejects it. The government would shut down and the ACA would mostly be untouched. I’m guessing Republicans would get most of the blame for shutting down the government since they lack a bully pulpit, aren’t as gifted as the president at communicating, and the ideological stereotype is that Republicans would like to see the government shut down any way. The White House and Senate Democrats will be outraged—simply outraged—that Republicans would do this but they will secretly be happy to have one more reason to say Republicans should never be trusted with power.

If Republicans see all of this, they will likely flinch, hold their noses, and pass a CR that doesn’t touch the ACA and hopefully come up with more constructive ways to challenge the policy. But, it is a close call for some House Republicans so for this reason, I’ve only partially crossed off the first bottom fork of the decision tree. decision tree 2

What the tree doesn’t indicate is the long run consequences of a government shutdown. Two and a half years ago, when Washington was staring down a different government shutdown, I drew from the experience of U.S. states to conclude that a shutdown is not in the interest of those who advocate for limited government:

As is often the case, we can look to the American states for some guidance. It turns out that in 23 U.S. states, the government will automatically shut down in the event that the governor and the legislature fail to agree on a budget. In his work on budget rulesDavid Primo examined the theoretical impact of these provisions from a game theoretic perspective. He noted that in states with an automatic shutdown provision, “the legislature will be able to achieve its ideal budget, so long as the governor prefers it to no spending.” (p. 102)

He therefore predicted that states with such a provision will spend more than states without such a rule. He then tested the hypothesis, controlling for a number of other factors known to impact state spending and found that states with an automatic shutdown provision actually spend about $64 more per capita than other states. As he notes, “This effect is remarkably large, given that shutdowns occur rarely.” (p. 103)

This suggests that the federal government’s automatic shutdown provision—by making Congress’s desired spending level a take-it-or-leave-it offer—tends to bias the government toward more spending. By extension, it also suggests that a government shutdown will shift negotiating power toward those who favor more spending. So, paradoxically, fiscally conservative tea partiers stand to lose the most if the federal government shuts down.

Perhaps it is time for them to rethink their support of a shutdown.