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Profit, Loss, and Pluto

October 11, 2004

Tags Free MarketsU.S. EconomyInterventionism

On October 4, the privately funded SpaceShipOne climbed to an altitude of over 70 miles, clinching the $10 million "X Prize."  Many analysts were excited by the prospects for commercial space travel, and the day when orbital or even interplanetary flights would be affordable for the average person.  As if to rebut the naysayers who dismissed SpaceShipOne as a mere tourist attraction for millionaires, Las Vegas hotel magnate Robert Bigelow capitalized on the event by announcing a fifty million dollar prize for the first team to put a privately funded space station into orbit.

Beyond the obvious implications for sci fi buffs and other space enthusiasts, the episode sheds light on the versatility of free enterprise. Most obvious, we see that the government is not necessary for space exploration; engineers and pilots do not suddenly become smarter when they are hired by NASA. Indeed, because a free market in space industries would be open to all competitors, we have every reason to expect technological innovation to be much quicker than in a monopolized space program.

In a free market, the maverick pioneer just needs to convince one or a few capitalists (out of thousands) to finance his revolutionary project, and then the results will speak for themselves. In contrast, an innovative civil servant at NASA needs to convince his direct superiors before trying anything new. If his bosses happen to dislike the idea, that’s the end of it.

Private Sector Can’t Afford It? 

Prior to the exploits of SpaceShipOne, the standard justification for government involvement in space was that such undertakings were "too expensive" for the private sector.  But what does this really mean? The Apollo moon program certainly didn’t create labor and other resources out of thin air. On the contrary, the scientists, unskilled workers, steel, fuel, computers, etc. that went into NASA in the 1960s were all diverted from other industries and potential uses. The government spent billions of dollars putting Neil Armstrong on the moon, and consequently the American taxpayers had billions fewer dollars to spend on other goods and services.

This is just another example of what Frederic Bastiat described in his famous essay, "That Which Is Seen, and That Which Is Not Seen."  Whenever the government creates some public work, everyone can see the obvious benefits. For example, everyone can appreciate the fact that we put a US flag on the moon, and listened as Neil Armstrong apparently flubbed his memorized line.[1] Or to use a more mundane example, everyone can see a beautiful new sports stadium financed (in part) by tax dollars.

What people can’t see are the thousands of other goods and services that now won’t be enjoyed, because the scarce resources necessary for their production were devoted to the government project. Politicians may break moral laws, but they can’t evade economic ones: If they send a man to the moon (or build a new stadium), consumers necessarily must curtail their enjoyments of other goods.

Thus the question becomes: Was the Apollo program (or new stadium) sufficiently valued by consumers to outweigh its opportunity cost (i.e., the value consumers place on the goods that now cannot be produced)? At first glance, this seems to be a difficult question to answer. After all, how can we possibly compare the benefits of the Apollo program with, say, the benefits of the additional shoes, diapers, automobiles, research on cancer, etc. that could have been alternatively produced?

The short answer is, we can’t. This is just a specific example of the more general principle elaborated by Ludwig von Mises: the impossibility of economic calculation under socialism.  Even if a central planning board were truly benevolent, and even if it had access to all of the technical conditions (such as resource supplies and technological recipes) of the economy, the planners would be at a loss to deploy the scarce resources in an efficient way. There would be no way to determine whether the chosen output goals were good ones, or whether an alternative plan could have provided the subjects with a better outcome.

The Profit and Loss Test

The above analysis might puzzle the reader. Yes, it is certainly difficult in practice to tell whether the Apollo program (or any other government project) is worth its cost, but isn’t that true of any undertaking?  Why should this be a unique drawback for government endeavors?

The crucial difference is that private projects are subject to the profit and loss test. The owner of a private firm must pay market prices for all of his or her scarce resources. If the consumers do not then voluntarily spend enough money on the final product or service to recoup these expenditures, this is the market’s signal that the resources are more urgently needed in other lines (according to the consumers).  It can never be the case that all entrepreneurs find a particular resource "too expensive" to use; if no entrepreneurs were buying it, then the price of this resource would fall until some did.

For example, it would be unprofitable—"wasteful"—to use gold in the construction of bridges; the extra money motorists would pay to drive across a golden bridge would not cover the additional expense. Yet it is profitable to use gold in the construction of necklaces or rings.  Consumers are willing to pay enough for golden necklaces (versus silver or copper ones) that it makes it worthwhile for jewelers to buy gold for this purpose.  Hence, the high price of gold is (among other things) a signal to engineers not to use gold in building bridges, because consumers would rather the scarce metal be used in jewelry.

The principle is the same when it comes to space travel. The reason private entrepreneurs would never have financed the moon program in the 1960s is that the financial returns from such a project wouldn’t come close to covering the expenses. Yet this is just the market’s way to tell these entrepreneurs that the computers, scientists’ labor, fuel, etc. would be better devoted to other ends.  By seizing tax dollars and financing the Apollo program, President Kennedy et al. simply forced Americans to forgo the thousands of products that, according to their own spending decisions,[2] they would have preferred to the space adventures.

"Just because something doesn’t make a buck, doesn’t mean we shouldn’t do it."

In response to an article that made the same argument as above, several people criticized my crude materialism.  They pointed out that there were all sorts of things that were not profitable in the narrow sense, and yet were of tremendous importance to humanity.  Consequently, they argued, we couldn’t rely on the money grubbing capitalists to finance them, but instead needed the vision of noble politicians acting in the public interest.

Such a response is particularly ironic in light of the ten million dollar X Prize.  This was a gift designed to promote space exploration.  The same is true of Bigelow’s $50 million prize.  The private sector’s promotion of abstract knowledge (as opposed to practical, marketable discoveries) is nowhere better demonstrated than in the Clay Mathematics Institute’s million dollar awards for the solution of any of seven important problems.  Historically, there were many rich patrons of the arts and science; did the Vatican pay Michelangelo in order to increase donations from parishioners?

Indeed, it is a common misconception that in the free market, "the highest bidder" determines things.  No, in a free market, the owner determines the use of a piece of property.  When a man lets his teenage son take the car for the night, is he renting it to the highest bidder?  Of course not.

A system of property rights, and the freely floating prices that accompany the exchange of these rights, is necessary to ensure the best possible use of resources. This is true in something as mundane as car production, or something as exotic as trips to Mars. The private sector can finance safe and efficient space exploration, but it will only do so in projects where the benefits (including donations from enthusiasts) truly outweigh the costs.

The success of SpaceShipOne illustrates these facts.  Now that the public has seen the potential of private spaceflight, perhaps it will become politically possible to axe NASA and return its budget to the private sector.


Robert Murphy is an adjunct scholar of the Mises Institute. He teaches economics at Hillsdale College and is an adjunct scholar of the Mackinac Center for Public Policyrobert_p_murphy@yahoo.com. See the Murphy Archive. Discuss this article on the blog


[1]
What everyone hears is, "A small step for man, a giant leap for mankind," but this of course makes no sense.  However, I have heard that Buzz Aldrin claimed Armstrong did say, "A small step for a man…" and that his microphone didn’t pick it up.

[2] I am neglecting the complication that the moon landing is a "public good."  Unlike tickets to a game in a sports stadium, private entrepreneurs would have difficulty charging consumers for the benefits flowing from the placement of a man on the moon.  (Perhaps the privately funded astronaut would place a McDonald’s flag?)  However, this is an entirely separate issue, and is not what the average person has in mind when he or she reflects on the glories of the space program in the 1960s.


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