Wednesday, July 9, 2014

Ft. Wayne, interest groups, diffuse costs, and Public Choice economics

I had an op-ed in one of the Ft. Wayne News-Sentinel-- on the brouhaha there over public sector pay for police and fire fighters...

I read your Mayor Tom Henry’s recent statements on collective bargaining with interest since they are a nice application of principles that I teach every semester.

The mayor, the City Council and public-sector unions are engaged in what is a common debate about pay.

We see this play out in the private sector all the time. For example, consumers want lower prices for goods and services; producers want higher prices. If markets are competitive, then the market will reduce prices to a level that reflects costs and a normal rate of return. It’s the tension of demand and supply — and the goals behind each — that yield market outcomes.

In the public sector, it’s more complicated for at least two reasons. First, the public sector tends to be much more monopolistic. From K-12 education to national defense to fire, police and roads, monopoly power is the rule more than the exception. And where government dominates, monopoly power and its problems tend to follow.

All things equal, this is a reason to avoid government solutions — particularly those that give public-sector providers a lot of power over consumers and taxpayers. Notably, Indiana has been ahead of the curve in terms of reducing government’s monopoly power over K-12 education, recognizing that competition is good for consumers — even though it’s not popular with producers.

Second, agents in the public sector are spending someone else’s money — and those costs are diffused among many, many taxpayers. It’s certainly possible to spend your neighbor’s money as carefully as you spend your own. It’s far less likely, however, that you would spend a stranger’s money as well — or that you would be as concerned if the costs were otherwise hard to trace.

Let’s assume 2,000 public-sector workers in Fort Wayne all receive an extra $1,000 in pay. The additional $2 million would cost $8 per person annually ($0.16 per week) for the 250,000 people in the city. Who would notice those few extra dollars in taxation?

As such, economists say that the general public is “rationally” ignorant and apathetic about such policies. It doesn’t make sense to learn about such things or to take action against them; it’s only $8. Those receiving the extra $1,000, however, will be excited — and they may engage in a number of activities to encourage the wealth transfer, i.e., voting, lobbying, campaign contributions, etc.

Proponents also will try to provide rationales for why this serves the common good. One of the most popular stories is the erroneous idea that such redistribution creates economic activity.

And you can see how someone could believe this. It’s easy to imagine the economic activity generated by this additional government spending. But the $2 million didn’t grow on trees; it came from other people, destroying at least as much economic activity. Although the costs are more subtle and require more sophistication to see, they are at least as large. Supporting higher pay might be a good idea but don’t imagine that it’s a boon for the community.

So, how does this apply to the controversy in Fort Wayne?

In one sense, we don’t know. We can be reasonably confident that most government workers will receive adequate compensation — wages, fringe benefits, working conditions, job security, deferred compensation, etc. If not, they would not accept the jobs or remain in them. But given the discussion above, we might expect at least some government workers to receive above-market compensation.

In any case, we can be confident that interest groups and politicians will, at least occasionally, be tempted to engage in mutually beneficial trade at the expense of the general public and the common good.

Finally, we trust in an effective media such as yours to do what it can to emphasize the less obvious consequences of public policy — and make it easier for the general public to become better inform


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