Saturday, November 15, 2008

Economics, part 2: the role of government

So, what about the role of government in the economy? What can government do to fix things? Ok, back to our island.

Let's say our island society, population 13, meets in solemn assembly and elects a Ruler. What can that august Ruler do to effect the economy? Well, for one, by becoming Ruler, he just hurt the economy, as the island economy just lost one producer. Let's say our Ruler's mandate is to provide Equality, and he decides to spread the wealth. He comes to your house, grabs a box of your coconuts, and gives them out to everyone else on the island.

As you can see, you personally have relatively less wealth, the others have marginally more wealth, but the island economy as a whole remains exactly the same. Has our Ruler "stimulated the economy"? Plainly not, as the economy is in exactly the same state of total wealth. The only difference is that, through his redistribution, some have gained and some have lost. They have more wealth, you have less, net effect on economy: zero.

The only thing a Ruler could do to "stimulate the economy" is force people to work who weren't working. Let's say 3 of our islanders are doing nothing productive, just lounging on the beach. If the Ruler carries his whip down to the beach and cracks it on their backs until they start working, THEN the economy would be stimulated, as 3 more people are now producing. If our Ruler takes wealth from you and the other 9 producers, and distributes that wealth to the 3 who are doing nothing, the economy has not been stimulated, as the total amount of wealth remains the same, just having changed hands. The potential economy is actually hurt, as he has thus encouraged their sloth, a day having passed with their doing nothing, when it could have seen their productive work.

Thus, we see another law of economics: more productive time worked is good for the economy. Imagine your 13 islanders work every single day, never taking a day off, while the 13 people on the neighboring island take every other day off. Even if both groups are equally productive on the days they work, your island will be twice as wealthy, because you produce twice as much wealth, working twice the time they do. A Ruler can only increase total wealth by encouraging more productive work. Nothing else helps wealth, everything else is a political gimmick.

In the old days, governments would often rely on forced-work measures to increase productivity. In fact, the historical basis of government is usually conquest and subjugation, one tribe enslaving another for their own economic benefit.

In contemporary times, government has relied on the device of money to increase productivity. As we have already seen, money cannot increase wealth in itself, but it CAN trick people into working more. On our island of 13, a ruler handing out paper with numbers on it is not going to fool anybody. The paper itself is worthless, unless you need to start a fire or wipe your ass. Our islanders, being directly connected to the source of their wealth, would see right through such gimmicks.

But in large societies that use paper certificates of wealth as a medium of exchange, people are no longer immediately knowledgeable about the total amount of wealth in society. On the personal level, paper money represents the ability to increase individual wealth, so individuals are prone to think an increase in money is an increase in wealth.

Governments increase the amount of money in two ways: both the obvious printing of more paper money, and the issuance of more debt. Flooding an economy with paper money or debt has no real effect on wealth. However, it can trick people into working more! Namely, the producers. Producers will ramp up production if they expect people to buy their goods. Since creative production is the basis of wealth, an increase in production actually does increase wealth. Thus, our Rulers have engineered a constant inflation most of this century, which, until recently, appeared to have been working quite well.

Next: what went wrong

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