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The Broken Window Fallacy and the Corresponding Fallacy of Beneficial Government Spending – THINKING OUTSIDE THE BOX

By: Dr. Charles Ormsby – October 2013

A student recently stopped by my office and opined that the destruction caused by war has positive economic consequences because of the demand generated to rectify the resulting damages. He claimed that post World War II Europe proved his point.

My student’s misguided belief is an example of the broken window fallacy exposed by Frederic Bastiat in 1850. Bastiat told the tale of the baker’s son who breaks the bakeshop window. The crowd that gathers discusses the consequences and concludes that, all in all, it is a good thing since it generates a never-ending chain of economic activity. The baker pays the glazier to repair his window; the glazier can then use the money received for a suit of clothes, which enables the clothier to buy something, etc., etc.

But a correct analysis considers both the “seen” – the economic activity just described – and the “unseen” – the economic activity that would have taken place if the window had not been broken.

Had the window not been broken, the baker could have spent the money he used to replace the window on a new oven, and the oven maker spent the additional revenue on a new forge, and so on. An equivalent stream of economic transactions occurs in BOTH cases. The difference is that in the first case the baker and society has lost forever the value of a window, just what common sense would tell us.

The acceptance of such fallacious economic reasoning by our ignorant electorate is threatening America’s economic wellbeing.

Bastiat’s broken window fallacy was re-popularized by Henry Hazlitt in his 1946 book “Economics In One Lesson.” Hazlitt exposed numerous economic fallacies and showed how distorted economic reasoning often turns common sense upside down. Only a fuzzy-headed economist can tell you, contrary to common sense, that wonton destruction of valuable property will cause greater prosperity.

Why is economics so plagued by persistent fallacies while the hard sciences – such as physics, chemistry and mathematics – immediately shun such fallacies when logic or experimental evidence demonstrates they cannot be valid?

The answer is because powerful special interests benefit from acceptance of these economic fallacies, a situation that rarely occurs in the physical sciences (Global Warming being a prominent exception – a discussion for another day).

If acceptance of an economic fallacy serves to promote a policy that provides one group an economic advantage, that group will spend considerable sums to promote that fallacy. If a policy makes one percent of the population substantially richer every year while the rest of society is rendered just slightly poorer, that one percent will spend considerable sums to hoodwink the electorate while the 99 percent will not bother to mobilize.

Similarly, some policies may yield short term benefits for many while imposing substantial future burdens – typically on individuals not present to vote or to enjoy the immediate benefits.

As a result, Hazlitt suggests that, “The art of economics consists in looking NOT MERELY at the immediate, but at the longer effects of any act or policy; it consists in tracing the consequences of that policy (both seen and unseen) NOT MERELY for one group but for all groups.”

Have you noticed how the statists, who seek to control every aspect of our lives, consistently try to divide us into special interest groups? Government programs impact distinctive groups differently, so such divisions provide fertile soil for mischief.

What groups do you belong to? A particular ethnic or racial group? Are you a homeowner? A public employee? A union worker? A business owner? A taxi driver? A student? An unemployed worker?

It is not a problem that we are those things. It is just that the statists have a strategy to use these group identities to their advantage. They propose policies that provide significant advantages to each group – one at a time – at the expense of everyone else. Since the target group in each case is much smaller, its benefits can greatly exceed the costs imposed on society’s remaining individuals. A motivated target group is easy to mobilize while the greater population sleeps. As a result, the proposed policies become law.

Of course, once this strategy has worked its magic for every group, we are all poorer because the advantage we gain from the policy targeted to help us is vastly outweighed by the sum of the costs to us for all the policies targeted to all the other groups … a sum that is rarely if ever appreciated or understood.

And, of course, it is not a zero sum game. Each policy comes with significant additional costs. Each comes with the cost of government overhead: thousands of government workers to provide enforcement. Each imposes economic uncertainties and inefficiencies that discourage productive economic activity. And, each comes with a diminution of our human liberties.

Society has only so many resources that can be directed towards productive activity. When the government spends a dollar, it exhausts one dollar’s worth of society’s resources and that dollar can no longer be directed by that dollar’s original owner.

Government expenditures do not add to productive expenditures; they merely eliminate an equal expenditure of resources elsewhere. As such, they cannot create jobs. Why? Because they destroy at least one job for every job they create. Government spending doesn’t create additional wealth because it eliminates at least an equal value of private, wealth-creating investment.

But, of course, the expropriation of private capital by the government to fund government projects is not a zero sum exchange. Instead, it represents an extraordinary engine of wealth destruction – destruction that lowers the standard of living and life expectancy of all Americans regardless of income level.

What are the mechanisms of this destruction? Here are just three:

1. Government spending, to state it kindly, is poorly directed. It is not difficult to understand that you are more careful at investing your own money than Congress is. Bad investments destroy wealth. Just look at the hundreds of millions of dollars the federal government has lost/wasted on solar energy companies that went bankrupt.

2. The only reason to invest capital is to make profits. Government spending requires taxation and taxes reduce net profits. Reduced rewards equal reduced incentives to take risks and invest, and thus less wealth is ultimately created.

3. Finally, capital lost due to poor investments and investments that are avoided is lost forever and the loss is cumulative. How many trillions of dollars of capital has government spending destroyed? Capital that could be generating additional wealth every minute but isn’t.

The next time you hear Obama, Pelosi or Reid tell you what wonderful things they can do if we let them spend more money, hold on to your wallet and run. Then send them a copy of Hazlitt’s book (Economics In One Lesson) and ask them to learn something about economics before they spend another nickel of your money.

It’s time we elected some competent people to represent us in Washington who have at least a rudimentary understanding of economics if we are going to survive as a nation.

 

Dr. Charles Ormsby

Dr. Charles Ormsby

Dr. Charles Ormsby served two terms on the North Andover School Committee, co-founded of the North Andover Taxpayers Association, is a a co-founder of and columnist for The Valley Patriot, broadcasts weekly opinion pieces for WCAP (980 AM) in Lowell, and is a faculty member in the Department of Mathematical Sciences at the University of Massachusetts Lowell. Dr. Ormsby is a graduate of Cornell and has a doctorate degree from MIT. You can email him at ccormsby@verizon.net

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