Thursday, August 06, 2009

Of Broken Windows and Crushed Clunkers

The "popular" Cash for Clunkers program (as popular as throwing money in the street and watching people scramble for it would be) is the most clear, sparkling, perfect example of Bastiat's broken window fallacy since the dark days of the Great Depression. I was wondering whether I should do the heavy lifting involved in making that point when I saw this column by Jonah Goldberg, which makes it very well. Now I don't have to. Thanks Jonah! Here's his column:

Ce qu'on voit et ce qu'on ne voit pas.

That may exhaust my French phrase quota for the year, but it's worth it. The saying is the title of an essay by the 19th century French economist Frederic Bastiat and means "that which is seen, and that which is not seen."

Bastiat's essay is most famous for the "parable of the broken window," in which a young boy shatters a shopkeeper's window and, after some initial outrage, the villagers conclude that the rascal helped the local economy. Why?

Because if no one broke windows, then the window makers would be out of business, and if the window makers were out of business, they wouldn't buy any more bread or shoes, hurting the bakers and the cobblers. So the six francs the shopkeeper must shell out for a new window is really a boon to the community.

The problem with this argument can be gleaned from the title of Bastiat's essay. By counting the money the shopkeeper spends to replace a perfectly good window (that which is seen), we ignore the money he might have spent on something else (that which is unseen). The shopkeeper might have instead dropped six francs on new shoes or a book or on a bonus for his assistant. Those who celebrate the broken window as a generator of growth take "no account of that which is not seen."

Sorry for what may seem like a long digression, but the parable of the broken window is worth keeping in mind, perhaps even updating, to the parable of the crushed clunker.

This parable is more convoluted, but the upshot is that Uncle Sam pays people to destroy their own cars as long as they use the money to buy a new, more expensive car.

As you've no doubt heard, the "cash for clunkers" program gives buyers up to $4,500 of taxpayer dollars toward the purchase of a new car, if they trade in their old cars for vehicles with better gas mileage. The old cars, still roadworthy, are then destroyed just like the shopkeeper's window.

The thinking behind the program is that the car companies need a boost, Michigan needs a boost, the environment needs a boost (through lower emissions) and Americans need help too.

Unsaid, but just as relevant, is that the authors of the government's mammoth stimulus plan need some proof that something is being stimulated.

So this scheme is win-win-win-win. Within days, the $1 billion that was supposed fund the program through at least October was used up as consumers, most of whom had been waiting to trade in their old cars anyway, took advantage of the free-money program. Indeed, Washington is agog with its own success, stunned to discover that Americans like getting free money.

That this news shocked so many on both the right and left shows how thick the Beltway bubble really is.

Like the drunk who only looks for his car keys where the light is good, Washington can only see the economic activity it has created, not the activity it has destroyed.

For starters, who says the smartest thing for people with working cars is to buy new ones? Indeed, because personal debt is supposed to be a problem, why not look at this as bribing consumers into taking out car loans they don't need? Even with the $4,500 subsidy, not all of these customers are going to be paying cash upfront for their new cars. So they'll be swapping serviceable-but-paid-for cars for nicer cars that are owned by the banks.

Besides, maybe some people would be smarter to buy a savings bond or max-out their kid's college fund or -- here's a crazy thought -- buy health insurance. But instead they've been seduced into spending the equivalent of their six francs on a car they don't really need.

But, you might say, some buyers surely do need a new car. True enough. But if they need a new car, they'd get one anyway, eventually. Indeed, they might already have gotten it, but rationally opted to wait for the program to kick in.

Or they might have needed to wait until next year or to buy a more affordable carbecause the normal trade-in for their clunker might not be as generous as Uncle Sam's $4,500. They might even have opted for a cheap used car, which will now become more difficult for poor people to find because we are taking all these cheap cars off the market.

But at least, under these scenarios, they'd be spending their own money.

Under the government's program, my tax dollars are being diverted to people with cheap cars so they can buy expensive ones. That's just really inefficient wealth distribution, not wealth creation. But government can see it, and that's all that counts.
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