Chapter 12—The Economics of Violent Intervention in the Market (continued)
6. Triangular Intervention: Product Control
Triangular interference with an exchange can alter the terms of the exchange or else in some way alter the nature of the product or the persons making the exchange. The latter intervention, product control, may regulate the product itself (e.g., a law prohibiting all sales of liquor) or the people selling or buying the product (e.g., a law prohibiting Mohammedans from selling—or buying—liquor).
Product control clearly and evidently injures all parties concerned in the exchange: the consumers who lose utility because they cannot purchase the product and satisfy their most urgent wants; and the producers who are prevented from earning a remuneration in this field and must therefore settle for lower earnings elsewhere. Losses by producers are particularly borne by laborers and landowners specific to the industry, who must accept permanently lower income. (Entrepreneurial profit is ephemeral anyway, and capitalists tend to earn a uniform interest rate throughout the economy.) Whereas with price control one could make out a prima facie case that at least one set of exchangers gains from the control (the consumers whose buying price is pushed below the free-market price, and the producers when the price is pushed above), in product control both parties to the exchange invariably lose. The direct beneficiaries of product control, then, are the government bureaucrats who administer the regulations: partly from the tax-created jobs that the regulations create, and partly perhaps from satisfactions gained from wielding coercive power over others.
In many cases of product prohibition, of course, inevitable pressure develops, as in price control, for the re-establishment of the market illegally, i.e., a “black market.” A black market is always in difficulties because of its illegality. The product will be scarce and costly, to cover the risks to producers involved in violating the law and the costs of bribing government officials; and the more strict the prohibition and penalties, the scarcer the product will be and the higher the price. Furthermore, the illegality greatly hinders the process of distributing information about the existence of the market to consumers (e.g., by way of advertising). As a result, the organization of the market will be far less efficient, the service to the consumer of poorer quality, and prices for this reason alone will be higher than under a legal market. The premium on secrecy in the “black” market also militates against large-scale business, which is likely to be more visible and therefore more vulnerable to law enforcement. Paradoxically, product or price control is apt to serve as a monopolistic grant (see below) of privilege to the black marketeers. For they are likely to be very different entrepreneurs from those who would have succeeded in this industry in a legal market (for here the premium is on skill in bypassing the law, bribing government officials, etc.).
Product prohibition may either be absolute, as in American liquor prohibition during the 1920’s, or partial. An example of partial prohibition is compulsory rationing, which prohibits consumption beyond a certain amount. The clear effect of rationing is to injure consumers and lower the standard of living of everyone. Since rationing places legal maxima on specific items of consumption, it also distorts the pattern of consumers’ spending. Consumer spending is coercively shifted from the goods more heavily to those less heavily rationed. Furthermore, since ration tickets are usually not transferable, the pattern of consumer spending is even more distorted, because people who do not want a certain commodity are not permitted to exchange these coupons for goods not wanted by others. In short, the nonsmoker is not permitted to exchange his cigarette coupons for someone else’s gasoline coupons which have been allocated to those who do not own cars. Ration tickets therefore cripple the entire system by introducing a new type of highly inefficient quasi “money,” which must be used for purchasing in addition to the regular money.
One form of partial product prohibition is to forbid all but certain selected firms from selling a particular product. Such partial exclusion means that these firms are granted a special privilege by the government. If such a grant is given to one person or firm, we may call it a monopoly grant; if to several persons or firms, it is a quasi-monopoly grant. Both types of grant may be called monopolistic. An example of this type of grant is licensing, where all those to whom the government refuses to give or sell a license are prevented from pursuing the trade or business. Another example is a protective tariff or import quota, which prevents competition from beyond a country’s geographical limits. Of course, outright monopoly grants to a firm or compulsory cartelization of an industry are clear-cut grants of monopolistic privilege.
It is obvious that a monopolistic grant directly and immediately benefits the monopolist or quasi monopolist, whose competitors are debarred by violence from entering the field. It is also evident that would-be competitors are injured and are forced to accept lower remuneration in less efficient and value-productive fields. It is also patently clear that the consumers are injured, for they are prevented from purchasing products from competitors whom they would freely prefer. And this injury takes place, it should be noted, apart from any effect of the grant on prices.
In chapter 10 we buried the theory of monopoly price; we must now resurrect it. The theory of monopoly price, as developed there, is illusory when applied to the free market, but it applies fully in the case of monopoly and quasi-monopoly grants. For here we have an identifiable distinction: not the spurious distinction between “competitive” and “monopoly” or “monopolistic” price, but one between the free-market price and the monopoly price. The “free-market price” is conceptually identifiable and definable, whereas the “competitive price” is not. The theory of monopoly price, therefore, properly contrasts it to the free-market price, and the reader is referred back to chapter 10 for a description of the theory which can now be applied here. The monopolist will be able to achieve a monopoly price for the product if his demand curve is inelastic above the free-market price. We have seen above that on the free market, every demand curve to a firm is elastic above the free-market price; otherwise the firm would have an incentive to raise its price and increase its revenue. But the grant of monopoly privilege renders the consumer demand curve less elastic, for the consumer is deprived of substitute products from other potential competitors. Whether this lowering of elasticity will be sufficient to make the demand curve to the firm inelastic (so that gross revenue will be greater at a price higher than the free-market price) depends on the concrete historical data of the case and is not for economic analysis to determine.
When the demand curve to the firm remains elastic (so that gross revenue will be lower at a higher-than-free-market price), the monopolist will not reap any monopoly gain from his grant. Consumers and competitors will still be injured because their trade is prevented, but the monopolist will not gain, because his price and income will be no higher than before. On the other hand, if his demand curve is inelastic, then he institutes a monopoly price so as to maximize his revenue. His production has to be restricted in order to command the higher price. The restriction of production and higher price for the product both injure the consumers. Here the argument of chapter 10 must be reversed. We may no longer say that a restriction of production (such as in a voluntary cartel) benefits the consumers by arriving at the most value-productive point; on the contrary, the consumers are now injured because their free choice would have resulted in the free-market price. Because of coercive force applied by the State, they may not purchase goods freely from all those willing to sell. In other words, any approach toward the free-market equilibrium price and output point for any product benefits the consumers and thereby benefits the producers as well. Any departure away from the free-market price and output injures the consumers. The monopoly price resulting from a grant of monopoly privilege leads away from the free-market price; it lowers output and raises prices beyond what would be established if consumers and producers could trade freely.
And we cannot here use the argument that the restriction is voluntary because the consumers make their own demand curve inelastic. For the consumers are only fully responsible for their demand curve on the free market; and only this demand curve can be fully treated as an expression of their voluntary choice. Once the government steps in to prohibit trade and grant privileges, there is no longer wholly voluntary action. Consumers are forced, willy-nilly, to deal with the monopolist for a certain range of purchases.
All the effects which monopoly-price theorists have mistakenly attributed to voluntary cartels, therefore, do apply to governmental monopoly grants. Production is restricted, and factors are released for production elsewhere. But now we can say that this production will satisfy the consumers less than under free-market conditions; furthermore, the factors will earn less in the other occupations.
As we saw in chapter 10, there can never be lasting monopoly profits, since profits are ephemeral, and all eventually reduce to a uniform interest return. In the long run, monopoly returns are imputed to some factor. What is the factor being monopolized in this case? It is obvious that this factor is the right to enter the industry. In the free market, this right is unlimited to all and therefore unowned by anyone. The right commands no price on the market because everyone already has it. But here the government has conferred special privileges of entry and sale; and it is these special privileges or rights that are responsible for the extra monopoly gain from a monopoly price, and to which we may impute the gain. The monopolist earns a monopoly gain, therefore, not for owning any truly productive factor, but from owning a special privilege granted by the government. And this gain does not disappear in the long-run ERE as do profits; it is permanent, so long as the privilege remains and consumer valuations continue as they are.
Of course, the monopoly gain may well be capitalized into the asset value of the firm, so that subsequent owners, who invest in the firm after the capitalization took place, will be earning only the equal interest return. A notable example of the capitalization of monopoly (or rather, quasi-monopoly) rights is the New York City taxicab industry. Every taxicab must be licensed, but the city decided, years ago, not to issue any further licenses, or “medallions,” so that any new cab owner must purchase his medallion from some previous owner. The (high) price of medallions on the market is then the capitalized value of the monopoly privilege
As we have seen, all this applies to a quasi monopolist as well as to a monopolist, since the number of the former’s competitors is also restricted by the grant of privilege, which makes his demand curve less elastic. Of course, ceteris paribus, a monopolist is in a better position than a quasi monopolist, but how much each benefits depends purely on the data of the particular case. In some cases, such as the protective tariff, the quasi monopolist will end, in the long run, by not gaining anything. For since freedom of entry is restricted only to foreign firms, the higher returns accruing to firms newly protected by a tariff will attract more domestic capital to that industry. Eventually, therefore, the new capital will drive the rate of earnings down to the interest rate usual in all of industry, and the monopolistic gain will have been competed away.
Monopolistic grants can be either direct and evident, such as compulsory cartels or licenses; less direct, such as tariffs; or highly indirect, but nevertheless powerful. Ordinances closing businesses at specific hours, for example, or outlawing pushcart peddlers or door-to-door salesmen, are illustrations of laws that forcibly exclude competition and thereby grant monopolistic privileges. Similarly, antitrust laws and prosecutions, while seemingly designed to “combat monopoly” and “promote competition,” actually do the reverse, for they coercively penalize and repress efficient forms of market structure and activity. Even such a seemingly remote action as conscription has the effect of forcibly withdrawing young men from the labor market and thereby giving their competitors a monopolistic, or rather a restrictionist, wage. Unfortunately, we have not the space here to investigate these and other instructive cases.
Binary intervention occurs, we have seen, when the intervener forces someone to transfer property to him. All government rests on the coerced levy of taxation, which is therefore a prime example of binary intervention. Government intervention, consequently, is not only triangular, like price control; it may also be binary, like taxation, and is therefore imbedded into the very nature of government and governmental activity.
For years, writers on public finance have been searching for the “neutral tax,” i.e., for that system of taxes which would keep the free market intact. The object of this search is altogether chimerical. For example, economists have often sought uniformity of taxes, so that each person, or at least each person in the same income bracket, pays the same amount of tax. But this is inherently impossible, as we have already seen from Calhoun’s demonstration that the community is inevitably divided into taxpayers and tax-consumers, who, of course, cannot be said to pay taxes at all. To repeat the keen analysis of Calhoun (see note 6 above): “nor can it be otherwise; unless what is collected from each individual in the shape of taxes shall be returned to him in disbursements, which would make the process nugatory and absurd.” In short, government bureaucrats do not pay taxes; they consume the tax proceeds. If a private citizen earning $10,000 income pays $2,000 in taxes, the bureaucrat earning $10,000 does not really pay $2,000 in taxes also; that he supposedly does is simply a bookkeeping fiction. He is actually acquiring an income of $8,000 and paying no taxes at all.
Not only bureaucrats will be tax-consumers, but, to a lesser degree, other, private members of the population as well. For example, suppose that the government taxes $1,000 away from private people who would have spent the money on jewels, and uses it to purchase paper for government offices. This induces a shift in demand away from jewels and toward paper, a decline in the price of jewels, and a flow of resources from the jewelry industry; conversely, paper prices will tend to increase, and resources will flow into the paper industry. Incomes will decline in the jewelry industry and rise in paper. Hence, the paper industry will be, to some extent, beneficiaries of the government budget: of the tax-and-expenditure process of government. But not just the paper industry. For the new money received by the paper firms will be paid out to their suppliers and original factor-owners, and so on as the ripples impinge on other parts of the economy. On the other hand, the jewelry industry, stripped of revenue, reduces its demands for factors. Thus the burdens and benefits of the tax-and-expenditure process diffuse themselves throughout the economy, with the strongest impact at the points of first contact—jewelry and paper.
Everyone in the society will be either a net taxpayer or a tax- consumer and this to different degrees, and it will be for the data of each specific case to determine where any particular person or industry stands in this distribution process. The only certainty is that the bureaucrat or politician in office receives 100 percent of his governmental income from tax proceeds and pays no genuine taxes in return.
The tax-and-expenditure process, therefore, will inevitably distort the allocation of productive factors, the types of goods produced, and the pattern of incomes, from what they would be on the free market. The larger the level of taxing and spending, i.e., the bigger the government budget, the greater the distortion will tend to be. And moreover, the larger the budget in relation to market activity, the greater the burden of government on the economy. A larger burden means that more and more resources of society are being coercively siphoned off from the producers into the pockets of government, those who sell to government, and the subsidized favorites of government. In short, the higher the relative level of government, the narrower the base of the producers, and the greater the “take” of those expropriating the producers. The higher the level of government, the less resources will be used to satisfy the desires of those consumers who have contributed to production, and the more resources will be used to satisfy the desires of nonproducing consumers.
There has been a great deal of controversy among economists on how to approach the analysis of taxation. Old-fashioned Marshallians insist on the “partial equilibrium” approach of looking only at a particular type of tax, in isolation, and then analyzing its effects; Walrasians, more fashionable today (and exemplified by the late Italian public finance expert, Antonio De Viti De Marco), insist that taxes cannot be considered at all in isolation, that they may be analyzed only in conjunction with what the government does with the proceeds. In all this, what would be the “Austrian” approach, had it been developed, is being neglected. This holds that both procedures are legitimate and necessary to analyze the taxing process fully. In short: the level of taxes-and-expenditures may be analyzed and its inevitable redistributive and distortive effects discussed; and, within this aggregate of taxes, individual types of taxes may then be analyzed in isolation. Neither the partial nor the general approaches should be overlooked.
There has also been a great amount of useless controversy about which activity of government imposes the burden on the private sector: taxation or government spending. It is actually futile to separate them, since they are both stages in the same process of burden and redistribution. Thus, suppose the government taxes the betel-nut industry one million dollars in order to buy paper for government bureaus. One million dollars’ worth of resources are shifted from betel nuts to paper. This is done in two stages, a sort of one-two punch at the free market: first, the betel-nut industry is made poorer by taking away its money; then, the government uses this money to take paper out of the market for its own use, thus extracting resources in the second stage. Both sides of the process are a burden. In a sense, the betel-nut industry is compelled to pay for the extraction of paper from society; at least, it bears the immediate brunt of payment. However, even without yet considering the “partial equilibrium” problem of how or whether such taxes are “shifted” by the betel-nut industry onto other shoulders, we should also note that it is not the only one to pay; the consumers of paper certainly pay by finding paper prices raised to them.
The process can be seen more clearly if we consider what happens when taxes and government expenditures are not equal, when they are not simply obverse sides of the same coin. When taxes are less than government expenditures (and omitting borrowing from the public for the time being), the government creates new money. It is obvious here that government expenditures are the main burden, since this higher amount of resources is being siphoned off. In fact, as we shall see later when considering the binary intervention of inflation, creating new money is, anyway, a form of taxation.
But what of that rare case when taxation is higher than government spending? Say that the surplus is either hoarded in the government’s gold supply or that the money is liquidated through deflation (see below). Thus, assume that $1,000,000 is taken from the betel-nut industry and only $600,000 is spent on paper. In this case, the larger burden is that of taxation, which pays not only for the extracted paper but also for the hoarded or destroyed money. While the government extracts only $600,000 worth of resources from the economy, the betel-nut industry loses $1,000,000 of potential resources, and this loss should not be forgotten in toting up the burdens imposed by the government’s budgetary process. In short, when government expenditures and receipts differ, the “fiscal burden” on society may be very approximately gauged by whichever is the greater total.
Since taxation cannot really be uniform, the government in its budgetary process of tax-and-spend inevitably takes coercively from Peter to give to Paul (“Paul,” of course, including itself). In addition to distorting the allocation of resources, therefore, the budgetary process redistributes incomes or, rather, distributes incomes. For the free market does not distribute incomes; income there arises naturally and smoothly out of the market processes of production and exchange. Thus, the very concept of “distribution” as something separate from production and exchange can arise only from the government’s binary intervention. It is often charged, for example, that the free market maximizes the utility of all, and the satisfactions of all consumers, only “given a certain existing distribution of income.” But this common fallacy is incorrect; there is no “assumed distribution” on the free market separate from the voluntary activities of every individual’s production and exchange. The only given on the free market is the property right of every man in his own person and in the resources which he finds, produces, or creates, or which he obtains in voluntary exchange for his products or as a gift from their producers.
The binary intervention of the government’s budget, on the other hand, impairs this property right of every one in his own product and creates the separate process and the “problem” of distribution. No longer do income and wealth flow purely from service rendered on the market; they now flow to special privilege created by the State and away from those specially burdened by the State.
There are many economists who regard the “free market” as only being free of triangular interference; such binary interference as taxation is not considered intervention in the purity of the “free market.” The economists of the Chicago School—headed by Frank H. Knight—have been particularly adept at splitting man’s economic activity and confining the “market” to a narrow compass. They can thus favor the “free market” (because they oppose such triangular interventions as price control), while advocating drastic binary interventions in taxes and subsidies to “redistribute” the income determined by that market. In short, the market is to be left “free” in one sphere, while being subject to perpetual harassment and reshuffling by outside coercion. This concept assumes that man is fragmented, that the “market man” is not concerned with what happens to himself as a “subject-to-government” man. This is surely an impermissible myth, which we might call the “tax illusion”—the idea that people do not consider what they earn after taxes, but only before taxes. In short, if A earns $9,000 a year on the market, B $5,000, and C $1,000, and the government decides to keep redistributing the incomes so that each earns $5,000, the individuals, apprised of this, are not going to keep foolishly assuming that they are still earning what they did before. They are going to take the taxes and subsidies into account.
Thus, we see that the government budgetary process is a coercive shift of resources and incomes from producers on the market to nonproducers; it is also a coercive interference with the free choices of individuals by those constituting the government. Below, we shall analyze the nature and consequences of government spending in more detail. At this time, let us emphasize the important point that government cannot be in any way a fountain of resources; all that it spends, all that it distributes in largesse, it must first acquire in revenue, i.e., it must first extract from the “private sector.” The great bulk of the revenues of government, the very nub of its power and its essence, is taxation, to which we turn in the next section. Another method is inflation, the creation of new money, which we shall discuss further below. A third method is borrowing from the public, which will be discussed briefly in Appendix A below.
A. Income Taxation
Taxation, as we have seen, takes from producers and gives to others. Any increase in taxation swells the resources, the incomes, and usually the numbers of those living off the producers, while diminishing the production base from which these others are drawing their sustenance. Clearly, this is eventually a self-defeating process: there is a limit beyond which the top-heavy burden can no longer be carried by the diminishing stock of producers. Narrower limits are also imposed by the disincentive effects of taxation. The greater the amount of taxes imposed on the producers—the taxpayers—the lower the marginal utility of work will be, for the returns from work are forcibly diminished, and the greater the marginal utility of leisure forgone. Not only that: the greater will be the incentive to shift from the ranks of the burdened taxpayers to the ranks of the tax-consumers, either as full-time bureaucrats or as those subsidized by the government. As a result, production will diminish even further, as people retreat to leisure or scramble harder to join the ranks of the privileged tax-consumers. In the market economy, net incomes are derived from wages, interest, ground rents, and profit; and in so far as taxes strike at the earnings from these sources, attempts to earn these incomes will diminish. The laborer, faced with a tax on his wages, has less incentive to work hard; the capitalist, confronting a tax on his interest or profit return, has more incentive to consume rather than to save and invest. The landlord, a tax being imposed on his rents, will have less of a spur to allocate land sites efficiently.
It has been objected that since a man’s marginal utility of money assets increases as he holds less of a stock of money, lower money income will mean an increased marginal utility of income. As a result, a tax on money incomes creates both a “substitution effect” against work and in favor of leisure (or against saving in favor of consumption) and an “income effect” working in the opposite direction. This is true, and in rare empirical cases, the latter effect will predominate. In plain language, this means that when extra penalties are placed upon man’s efforts he will generally slacken them; but in some cases, he will work harder to try to offset the burdens. In the latter cases, however, we must remember that he will lose the valuable consumption good of “leisure”; he will have less leisure now than he would have if his choices were still free. Working harder under penalty is only a cause for rejoicing if we regard the matter exclusively from the point of view of those living off the producers, who will thereby benefit from the tax. The standard of living of the workers, which must include leisure, has fallen.
The income tax, by taxing income from investments, cripples saving and investment, since it lowers the return from investing below what free-market time preferences would dictate. The lower net interest return leads people to bring their savings-investment into line with the new realities; in short, the marginal savings and investments at the higher return will now be valued below consumption and will no longer be made.
There is another, unheralded reason why an income tax will particularly penalize saving and investment as against consumption. It might be thought that since the income tax confiscates a certain portion of a man’s income and leaves him free to allocate the rest between consumption and investment, and since time preference schedules remain given, the proportion of consumption to saving will remain unchanged. But this ignores the fact that the taxpayer’s real income and the real value of his monetary assets have been lowered by paying the tax. We have seen in chapter 6 that, given a man’s time-preference schedule, the lower the level of his real monetary assets, the higher his time-preference rate will be, and therefore the higher the proportion of his consumption to investment. The taxpayer’s position may be seen in Figure 86, which is essentially the reverse of the individual time-market diagrams in chapter 6. In the present case, money assets are increasing as we go rightward on the horizontal axis, while in chapter 6 money assets were declining. Let us say that the taxpayer’s initial position is a money stock of 0M; tt is his given time-preference curve. His effective time-preference rate, determining his consumption/investment proportion, is t1. Now, suppose that the government levies an income tax, reducing his initial monetary assets at the start of his spending period to 0M'. His effective time-preference rate, the intersection of tt and the M' line, is now higher at t2. He shifts to a higher proportion of consumption and a lower proportion of saving and investment.
We have now seen two reasons why an income tax will shift the social proportion toward more consumption and less saving and investment. It might be objected that the time-preference reason is invalid, since the government officials and the people they subsidize will receive the tax revenues and find that their money stock has increased just as that of the taxpayers has declined. We shall see below, however, that no truly productive savings and investments can be made by government, its employees, or the recipients of its subsidies.
Some economists maintain that income taxation reduces savings and investment in society in yet a third way. They assert that income taxation, by its very nature, imposes a “double” tax on savings-investment as against consumption. The reasoning runs as follows: Saving and consumption are really not symmetrical. All saving is directed toward enjoying more consumption in the future; otherwise, there would be no point at all to saving. Saving is abstaining from possible present consumption in return for the expectation of increased consumption at some time in the future. No one wants capital goods for their own sake. They are only the embodiment of increased consumption in the future. Saving-investment is Crusoe’s building the stick to obtain more apples at a future date; it fructifies in higher consumption later. Hence, the imposition of an income tax is a “double” tax on consumption, and excessively penalizes saving and investment.
This line of reasoning correctly explains the investment-consumption process. It suffers, however, from a grave defect: it is irrelevant to problems of taxation. It is true that saving is a fructifying agent. But the point is that everyone knows this; that is precisely why people save. Yet, even though they know that saving is a fructifying agent, they do not save all their income. Why? Because of their time preferences for present consumption. Every individual, given his current income and value scales, allocates that income in the most desirable proportions between consumption, investment, and additions to his cash balance. Any other allocation would satisfy his desires less well and lower his position on his value scale. The fructifying power of saving is already taken into account when he makes his allocation. There is therefore no reason to say that an income tax doubly penalizes saving-investment; it penalizes the individual’s entire standard of living, encompassing present consumption, future consumption, and his cash balance. It does not per se penalize saving any more than the other avenues of income allocation.
This Fisher argument reflects a curious tendency among economists devoted to the free market to be far more concerned about governmental measures penalizing saving and investment than they are about measures hobbling consumption. Surely an economist favoring the free market must grant that the market’s voluntary consumption/investment allocations are optimal and that any government interference in this proportion, from either direction, is distortive of that market and of production to meet the wants of the consumers. There is nothing, after all, particularly sacred about savings; they are simply the road to future consumption. But they are, then, clearly no more important than present consumption, the allocations between the two being determined by the time preferences of all individuals. The economist who balks more at interference with free-market savings than he does at infringement on free-market consumption is therefore implicitly advocating statist interference in the opposite direction. He is implicitly calling for a coerced distortion of resources to lower consumption and increase investment.
It was notorious, for example, that the bootleggers, a caste created by Prohibition, were one of the main groups opposing repeal of Prohibition in America.
The workings of rationing (as well as the socialist system in general) have never been more vividly portrayed than in Henry Hazlitt’s The Great Idea.
We might well call the latter an oligopoly grant, but this would engender hopeless confusion with existing oligopoly theory. On the latter, see chapter 10 above.
Monopoly privilege is granted by a government, which has power only over its own geographic area. Therefore, monopoly prices achieved within an area are always, on the market, subject to devastating competition from other countries. This is increasingly true as civilization advances and transportation costs decline, thus subjecting local monopolies to ever greater threats of competition from other areas. Hence, any domestic monopoly will tend to reach out to restrict foreign competition and block efficient interregional trade: It is no wonder that the tariff used to be called “The Mother of Trusts.”
We might note here that on a truly free market there would be no need for any separate “theory of international trade.” Nations become significant economically only with government intervention, either by way of monetary intervention or barriers to trade.
Monopolistic privileges to businesses may confer a monopoly price, depending on the elasticity of the firm’s demand curve. Privileges to workers, on the other hand, always confer a higher, restrictionist price at lower than free-market output. The reason is that a business can expand or contract its production at will; if, then, a few firms are granted the privilege of producing in a certain field, they may expand production, if conditions are ripe, and not reduce total supply. On the other hand, aside from hours worked, which is not very flexible, restriction of entry into a labor market must always reduce the total supply of labor in that industry and therefore confer a restrictionist price. Of course, a direct restriction on production such as conservation laws always reduces supply and thereby confers a restrictionist price.
It will be more convenient to use dollars rather than gold ounces in this section; but we still assume complete equivalence of dollars and gold weights. We do not consider monetary intervention until the end of this chapter.
This does not mean that resources will flow directly out of jewelry and into paper. It is more likely that resources will flow into and out of industries similar to each other, occupationally and geographically, and that resources will readjust, step by step, from one industry to the next.
In the long run of the ERE, of course, all firms in all industries earn a uniform interest return, and the bulk of the gains or losses are imputed back to the original specific factors.
For a further discussion of the economic effects of taxation, see the next section below.
A fourth method, revenue from sale of governmental goods or services, is a peculiar form of taxation; at the very least, to acquire the original assets for this “business,” taxation is needed.
In the less developed countries, where a money economy is still emerging from barter, any given amount of taxation will have a still more drastic effect: for it will make monetary incomes much less worthwhile and will shift people’s efforts from trying to make money back to untaxed barter arrangements. Taxation can therefore decisively retard development from a barter to a monetary economy, or even reverse the process. See C. Lowell Harriss, “Public Finance” in Bernard F. Haley, ed., A Survey of Contemporary Economics (Homewood, Ill.: Richard D. Irwin, 1952), p. 264. For a practical application, see P.T. Bauer, “The Economic Development of Nigeria,” Journal of Political Economy, October, 1955, pp. 400ff.
If any government taxes in kind, there is then no span of time between taxation and the extraction of physical resources from the private sector. Both take place in the same act.
For this shift to occur, the individual’s real monetary assets must decline, not just the nominal amount in terms of money. If, then, instead of this tax, there is deflation in the society, and the value of the monetary unit increases roughly proportionately everywhere, then the nominal fall in each individual’s money stock will not be a real fall, and hence effective time-preference ratios will remain unchanged. In the case of income taxation, deflation will not occur, since the government will spend the revenue rather than contract the money supply. (Even in the rare case where all the tax money is liquidated by the government, the individuals taxed will lose more than others and hence will lose some real monetary assets.)
Thus, cf. Irving and Herbert W. Fisher, Constructive Income Taxation (New York: Harper & Bros., 1942). “Double” is used in the sense of two instances, not arithmetically twice.
These economists generally conclude that not income, but only consumption, should be taxed as the only “real” income.
The bias in favor of investment, or “growth,” as against present consumption, is similar to the conservationist attack on present consumption. What is so worthy about future consumption and so unworthy about consuming in the present? Perhaps what we have here is an illicit smuggling of the less rational aspects of the “Protestant ethic” into economic science. Of the many problems involved, we may mention one here: What nonarbitrary quantitative standards for thrift can the economist establish once the free market’s decision is overridden?