The Practical Science of Austrian Economics

The Practical Science of Austrian Economics
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The Austrian Economics Newsletter – An Interview with Thomas J. DiLorenzo

Winter 1999
Volume 19, Number 4

AEN: Your recent book, The Food and Drink Police, is quite timely.

DILORENZO: We’ve seen an explosion of litigation designed to destroy whole industries on grounds that they are inconsistent with the government’s ideal of health. The government and its connected nonprofits are waging war against cigarettes, but also fast food, liquor, chemical fertilizers, drugs, and biochemical methods of production all in the name of good health.

But it is important to remember that the state doesn’t actually desire that we achieve perfect health. This is only a convenient excuse to achieve the real goal, which is confiscation of wealth. They are just going after the money. If the state could accomplish this by promoting unhealthy products, and subsidizing personal decadence, and smashing the health-club industry, for example, it would gladly do that too.

The state is always in league with an intellectual class to provide cover for its misdeeds, and the public-health movement is only the latest. Using this cover, the state and the courts are targeting developed industries tobacco and gun manufacturers, for example and extorting them with litigation. They have even begun to drop the pretense; it is open robbery.

According to the Constitution, Congress has the power to raise taxes. But that path has become politically treacherous. What they have done, then, is to delegate that power to judges. The racket really began when judges started dictating to communities that they had to raise taxes to fund equal education for everyone. This practice is now being expanded to all industries.

AEN: What is the mechanism that makes this possible?

DILORENZO: There are nonprofit groups, funded in part by the government, whose main job is to demonize a particular industry. For example, Ralph Nader has about a dozen organizations that he heads, and they work hand-in-hand with the trial lawyers, who further fund the groups to do their dirty work. Then the law suits begin. The idea is to force a settlement to avoid the costs associated with lengthy court battles.

At the state level, many attorneys general are gubernatorial aspirants. The prototype is Mike Myers, the attorney general of Mississippi who honchoed the suit against the tobacco industry. This resulted in millions being dumped on the state government. The interest groups who get the money cheer and support the attorney general when he runs for governor.

Recall that Rudolph Guiliani, as U.S. attorney, had “inside traders” handcuffed, chained, and dragged down Wall Street. Why? These people were simply operating in the free market in an entrepreneurial fashion. But he turned them into criminals. This catapulted him into the mayoral position, and now he is running for the Senate.

The state governments are flush with revenue right now. But many of them are still in the process of suing tobacco companies, gun makers, and HMOs. Even the paint industry is under fire. It stopped making lead paint back in the 1950s as soon as it found out there were health hazards. But the state of Rhode Island has decided it is going to sue. Some of these companies were bought by other people long after they stopped making lead paint, but they are being sued anyway.

This model of government aggrandizement is making extraordinary gains. I also worry about the effects on other countries. If you look at the Tony Blair model he saw what worked politically in this country and copied it we can expect that lawsuits will become a chief means of expanding the state in many other countries as well. England, France, Spain, and Canada are absorbing these bad ideas.

AEN: And what is the ideological basis of these attacks?

DILORENZO: F.A. Hayek said in the Constitution of Liberty that one of the hallmarks of socialism is a relentless attack on the idea of individual responsibility. This attack has finally taken hold in the public mind. Thanks to the government schools, which have inculcated all this, people seem to accept this without fully understanding what it implies.

In Florida and Maryland, for example, tobacco companies were forbidden from arguing in court that smokers should be held responsible for their own health problems, even when they knew that smoking was bad for them. There are so many people on the public dole that they turn a blind eye to these outrages, perhaps on the theory that some of the money might eventually flow their way. Everyone has known for many decades that smoking can be bad for you. The phrase “coffin nails” was coined at the turn of the century. In the past, when tobacco companies were taken to court, they won, on grounds that the consumer should bear the liability for any dangers associated with products they consume. But when common-law precedents are thrown out, the result is a kangaroo court that loots anyone with deep pockets.

Each time the attacks are stepped up, past promises are thrown out the window. For example, the Clinton administration promised that if the tobacco companies settled with the state attorneys general, there would be no further legal action. But, sure enough, the Justice Department decided it wanted some of the money too, and it has now filed its own suit.

AEN: What do you expect will happen to the tobacco industry?

DILORENZO: It will move overseas. What choice does it have at this point? It has been so thoroughly demonized which is always the first step in destroying something that there can be no future in it, absent a radical political change.

Think of Microsoft. Here we have a company that was a model of an independent firm that dramatically improved our standard of living. Its competitors started to complain, and the attacks began. The Justice Department began talking about taking control of their product development and marketing strategies. The Washington Post piled on relentlessly, running articles denouncing Microsoft for not having enough lobbyists in Washington and not paying enough in bribes to special interests.

Now that Microsoft is giving big bucks to special-interest groups, and shelling out money to favored nonprofits, it may get a free pass. Really, it’s a type of nationalization. In the old days, the socialists had the government take over whole industries. Now, they call for them to be sued and regulated and controlled to the point that they have little autonomy left.

Corporations shell out all this money to left-wing groups as a way of keeping them off their backs. This is what Jesse Jackson figured out. He goes around to corporate America and says, if you give us money, we won’t call you a racist or foment boycotts against you. It’s really a stick-up. After Jackson and the rest get the money, they use it to lobby for more federal subsidies.

AEN: And this is what the welfare state is becoming?

DILORENZO: What people don’t realize is that the federal government has never really administered much of the welfare state. Instead, it set up thousands of nonprofits around the country and funded them to carry out an egalitarian agenda. They then turn around and lobby for more money and more programs.

In the research I’ve done on nonprofits, I’m astonished at how many can be seen as adjuncts of the federal government. The last figures I’ve seen show that 60 percent of their budgets come from the government. In recent years, the amount of money that has gone to politically-active nonprofits has reached $30 to $40 billion every year.

To put that into perspective, in the last election cycle, all the money spent on campaigning by members of Congress and challengers was under $1 billion. The nonprofit sector is no longer the “independent sector,” as it claims. Almost the entire system has been corrupted by government money. It forms what I’ve called a “shadow government” that is never counted when considering the size of the welfare state.

AEN: What do you think about the argument that the welfare state is a public good?

DILORENZO: It’s based on the idea that people are deadbeats by nature. There are all sorts of things people value very highly, protection in old age, extra cash when the going gets tough, medical care but because people are free riders, they are disinclined to pay for them, at least not in the quantity they really want them. Government has to step in and provide the goods to increase people’s welfare.

But this theory doesn’t hold water. The only way we can really know what types of economic goods people value is by looking at people’s preferences as demonstrated in the marketplace. Unless we can come up with some way to read minds, there is no other way to know. But if the market already reflects people’s preferences, there is no reason for the government to intervene.

And consider this. Government has a huge advertising budget. The Department of Agriculture is constantly fishing for new food-stamp clients, for example. If the government were really providing these as public goods, why should it need to advertise? If there really is an innate demand for what government does, why should anyone have to be recruited to consume its product?

AEN: You’ve also written some critiques of Constitutional Economics.

DILORENZO: That’s James Buchanan’s enterprise. In a paper I wrote with Walter Block, we quote Viktor Vanberg, a Buchanan protege, as saying that Constitutional Economics is really about developing a theory of the voluntary state. But we point out that this is a contradiction in terms, like military intelligence and jumbo shrimp.

There have been many books written on the voluntary theory of the state, and all suffer from this problem of failing to examine whether the rules under which society operates are enforced by private or public means. We conclude our paper with a suggestion. If you are really interested in studying voluntarism in society, why not do more work in the privatization of law? There’s plenty to do to show that privatization of everything, including law, is superior to the coercive state.

Paul Rubin at Emory University once wrote an article in the Journal of Legal Studies arguing that the common law is efficient. Of course the Chicago School loved that, since their mantra is that everything that exists is efficient. About seven or eight years later, Rubin published another article in the same journal in which he said he was wrong. He said the common law is not efficient because it has been corrupted by lawyers and politicians. The tobacco settlement is exhibit A.

AEN: Back to Buchanan: you have praised his work on cost theory.

DILORENZO: I’ve heard him say over and over again that his most important book was Cost and Choice (1969). I agree with him. This is really a classic in the Austrian literature, demonstrating that the only coherent way to understand cost is as a subjective notion. This theory is really at the root of his very best work in public finance, of which there is a lot. The Public Choice School has done a great service in reviving the old-fashioned study of political economy. But it is fundamentally based on the neoclassical model. It would be even better if it were based on the Austrian approach.

The rent-seeking idea began by focusing on the costs of lobbying for special favors, particularly protectionism. Rent-seeking was seen as a form of looting. There’s a similarity here with the classical idea that there are two ways to acquire wealth: through trade or through theft. But then the idea of rent-seeking went off the deep end. It became a synonym for any expenditure incompatible with perfect competition, and the old distinctions were lost entirely. Companies were said to be seeking rents and “wasting” resources through advertising and product development.

Another example: based on the perfect competition model, which sees many firms as preferable to only a few firms, public choicers have argued that many governments are preferable to fewer governments. This is just piling fallacy on top of fallacy. No, competition is not contingent on the number of firms; government is not a firm; and more governments, which usually means more levels of government, are not necessarily preferable to fewer. What Public Choice needs is an Austrian understanding of markets and government.

AEN: And the same goes for the Chicago School?

DILORENZO: Certainly. The dominant consideration with Chicago’s law and economics paradigm is wealth maximization. The view is that the courts need to intervene to establish rules that maximize wealth, without concern for justice or fairness. The assumption is that the court can measure such a thing, and it’s not true. Any Austrian knows that.

The tragedy is that their recommendations have taken hold. In cases where liability is in dispute, the courts sometimes assign the rights on the basis of their own ideas of efficiency. In many cases, the courts establish rules that require corporations to pay even though it is unclear whether the corporation is responsible for the damage. Peter Huber has very effectively criticized this approach, and shows that it is largely responsible for the liability crisis.

AEN: Would liability caps help?

DILORENZO: They don’t get to the root of the problem. The nuclear power industry has had caps on its liability since the beginning, and this is a government privilege. If one person causes another damage, I don’t see why the responsible party shouldn’t pay. Moreover, the caps are determined politically, so it will be the government’s friends who are protected. No, the real problem is not that there is too much money being spent. The problem is the crazy liability system itself that doesn’t assign individual responsibility properly.

There was a 100-yard dash in Florida. The winner would take home $10,000 but the trick was that you had to run with a refrigerator on your back. One of the participants slipped and threw his back out. He sued the refrigerator manufacturer, and won a settlement. The Chicago approach is to say it would be difficult to establish liability, so it might be more efficient to have the refrigerator manufacturer shell out money. But what about justice?

The whole approach of Chicago is that you can be objective and scientific in law and not make value judgments. But that’s impossible. For example, the Coase theorem seems to say that rights and justice are less important than efficiency. But the truth is that it really does matter who has the property rights. It matters for the good functioning of the economy. Property rights and justice have to be the forefront of the analysis.

Much has been written on the problem of transaction costs. Once these economists have found transaction costs that are high and persistent, they assume market failure. But costs associated with transacting are part of the market process. The more interesting question is how people deal with them and overcome them. The market is always better at overcoming imperfect knowledge than government.

Harold Demsetz coined the phrase “Nirvana Fallacy,” which refers to the tendency of economists to compare the real world with some idealized version that exists only in mathematical models. Joseph Stiglitz will probably receive the Nobel Prize someday for doing precisely that. His models are designed to show that the market fails everywhere because real-world markets are not omniscient. It is for this reason that a former colleague of mine called much of modern economics “exquisite trivia.”

AEN: And yet there are increasing complaints about this tendency.

DILORENZO: Yes, but the power of inertia in academe is very strong. The powers that be, the elite universities and the folks that run the American Economic Association, have a lot of capital built up in this way of doing economics. They aren’t going to let go until they have to. Deep down, they must know that it is a lot of baloney.

I just wrote a review of a new book by Robert Solow. Here’s a man who won the Nobel Prize sixteen years ago. He is a gray eminence of the economics profession. He is still trying to build models of the economy that don’t mention capital markets or labor markets. The math looks impressive but there is little economic content. Surely, he must realize that this is a foolish endeavor.

AEN: This is a great problem in economic history as well.

DILORENZO: There’s a tendency to look at small slices of reality to the exclusion of everything else. You end up with wildly distorted views of history. That’s why I wrote that Murray Rothbard should have been awarded the Nobel Prize for his book America’s Great Depression and for his economic history in general. It is revisionist and wonderful. Doing economic history to Murray meant that you had to know something about economic theory, history itself, philosophy, political philosophy.

You can’t be a narrow practitioner of one type of technical economics and do real economic history. You can’t pretend to know anything about the economic history of Elizabethan England relying only on econometric techniques. You also have to know real history if you intend to capture something about reality.

But economists have long attempted to ape the physical sciences in their methods. So history, to most economists, is not determined by the choices of individuals; it is driven by these social forces summed up in equations. This provides another great opportunity for Austrians. We need to look at all the economic controversies of the past and apply the Austrian way of scholarship.

Mises used to use the phrase “the relentless pursuit of truth.” That certainly has been the guiding principle of the Austrian School from the beginning to the present. The mainstream, in contrast, seems dedicated to the relentless pursuit of impressing their colleagues with their mathematical abilities. Paul Samuelson once wrote that “the applause of one’s colleagues is what motivates most economists.”

When I was in graduate school, a Big Shot was invited to give a lecture. He gave a paper on the hamburger market, which was all math. Gordon Tullock said: well, you know, this doesn’t operate at all like the real hamburger market. The lecturer responded that he wasn’t interested in the real hamburger market; he was interested in the consistency of his mathematical model. That is not an isolated anecdote. That is mainstream thinking.

If you look at the mainstream journals many of the articles are strangely disconnected from anything real. One person will prove that water runs downhill in ten steps. A comment will appear proving the same thing in nine steps. I cannot understand why anyone would want to spend their careers that way when they can get involved in Austrian economics and actually do important scholarship.

AEN: But then Austrians do have to think about their careers.

DILORENZO: Actually, I think Austrians underestimate the power of their own ideas. My colleagues are all mainstreamers, but I don’t miss a chance to educate them. They are very receptive. For example, the Wall Street Journal published a news story saying that hurricane destruction would actually be good for the economy. I passed out Lew Rockwell’s WorldNetDaily response, and a photocopy of Hazlitt’s version of Bastiat’s broken-window fallacy. You know what? Only one knew who Henry Hazlitt was. But everyone loved it. Several said they would use it in the classroom.

If you give fair-minded people an exposure to good ideas, they will gravitate toward them. I was around some Austrians in the middle 1980s, and they were glum because they figured they could never get published in the mainstream. But then soon after, Austrians started doing very well. The establishment of the Review of Austrian Economics was a great help, and we started getting published in journals, like the Journal of Economic Perspectives and elsewhere.

Of course students are very receptive. I just taught an undergraduate course this past semester in which I used Mises’s Socialism and The Anti-Capitalistic Mentality. The students thought it was fabulous. They gave me the highest evaluations I’ve ever received. They are so bored with mainstream economics that they are thrilled to be exposed to important ideas, big ideas, for a change.

AEN: In addition to your scholarly work, you have been effective in getting the word out to the general public.

DILORENZO: The general public has no necessary stake in the proliferation of bad ideas. Even so, it is hard for people to see cause-and-effect in political affairs. For example, it’s hard for people to understand the link between companies being driven into the ground and the regulation and lawsuits that were imposed years earlier. It is our job to connect the dots. For example, Shoney’s restaurant recently closed almost one hundred of its branches. The cause was a lawsuit a few years ago in which the company agreed to pay out millions and change its operations to make them more politically correct. But the events are not linked in time, so the causal link is not clear to people. Nowadays people don’t even flinch when a judge gives millions to undeserving participants in class-action lawsuits.

I’ve also come to believe the state educational system has been successful beyond its wildest dreams. The founders of state education wanted to inculcate loyalty to the regime. I just finished Rothbard’s Education: Free and Compulsory. There’s more scholarship in that than decades of educational theorizing from the establishment.

He points out that in any group of kids that you assemble randomly, among one hundred kids, there are going to be several who are just little devils, destructive and unteachable. They are going to harm their classmates to school with violent little devils. And yet we put up with this.

The only way we are going to fix schools up is through abolishing compulsory education, abolishing the property tax, repealing regulations on schools, and letting a thousand schools bloom via market means. In the meantime, the home-schooling movement represents a real source of hope. There are about a million homeschoolers now. This represents a secession from the government-school monopoly.

This is another thing Murray anticipated: he understood that public schooling would someday blow up in the face of the bureaucrats, and that there would be a reaction. The large public schools are a little like Lord of the Flies, especially with two parents working and nobody really paying attention. Many children are essentially being raised by their peers. When you meet a home-schooled child, the difference is sometimes quite astonishing.

AEN: Speaking of secession, you have recently been writing quite a lot on the topic.

DILORENZO: There hasn’t been enough work done on this important subject. But I’ve become convinced that the whole idea of decentralized government, the federal system the founders created, is essentially useless unless states have the rights of secession and nullification.

Thomas Jefferson warned that if the day ever came when the federal government could decide upon the limits of its own powers, the Constitution wouldn’t be worth the paper it was written on. That day came on April 9, 1865, when General Lee surrendered at Appomattox. Among other things, that destroyed the right of secession. Ever since, the federal government has been able to decide what its power should be. States used to nullify blatantly unconstitutional laws and programs. But that died too when Lee surrendered. Libertarians have always praised decentralized government. But without the right of secession, there is no substantial meaning to this concept.

AEN: Your research on Lincoln has also exploded a number of myths.

DILORENZO: The Great Emancipator has been made into a god. But it turns out he was just another politician, and a particularly menacing one. He was part of the Whig tradition in American politics, which had a three-point agenda: central banking, protectionism, and internal improvements (which means pork-barrel spending). This was the road to political power. Patronage would be virtually unlimited.

If you read Lincoln, he is perfectly clear about his ambitions. He was a mercantilist and an inflationist and he did exactly what he said he was going to do. When Lincoln was elected in 1860 and the South seceded, the central government was controlled by the Whigs (who were then called Republicans), and they implemented their agenda. After the war ended, they imposed their mercantilist system with a vengeance.

As for slavery, Lincoln never uttered a word on the subject until 1857. The Emancipation Proclamation didn’t liberate a single slave in the areas that the central government controlled. This document was a war tactic, not a principled statement on liberty.

I put together a chart that shows that from 1800 1860, there were dozens of countries that ended slavery peacefully. The only country in which it ended violently was the United States. The question becomes: why didn’t Lincoln use his legendary political skills to enact some sort of compensation scheme?

When you consider all the costs 620,000 people dead, hundreds of thousands maimed, the destruction of the Southern economy, the looting of the Northern economy by federal tax collectors, the destruction of economic and civil liberties it is a big question. The answer is that Lincoln had another agenda, namely, the imposition of mercantilist statism.

After the war, Gen. Sherman was given the assignment of eradicating the Plains Indians, and his Union troops mass murdered them. They snuck up on them in the winter and shot men, women, and children. Isn’t it interesting that this supposedly great army of liberation would be sent out to engage in ethnic cleansing so soon after its wonderful humanitarian act of liberating slaves? It is far more revealing to see this epoch as the bald-faced consolidation of political power by the Republican party.

AEN: What’s your impression of the young generation of Austrians?

DILORENZO: I’m very excited about them. I think we are reaching a point where people are just fed up with mainstream economics, and are gravitating to other things. The worse the mainstream of the profession gets, the better it is for Austrians. I recall meeting one student at the Mises University who was finishing up her PhD. I asked her why she came to the conference. She said that in her university, she was getting mostly mathematics and game theory. Before she completed her degree, she said, she wanted to be exposed to real economics.

From a political point of view, students are ready for new ideas. They are subjected to the worst form of indoctrination these days. They endure it but they don’t accept it. Faculty are harassed too. Last year, I received several notices telling me to attend some crazy indoctrination session on sexual harassment. I wrote back that I wouldn’t attend, because there’s only so much asinine political correctness that I can tolerate.

The left has become a caricature of itself, so much so that I really think there is a chance for a complete change. Already, young Austrians are having less trouble getting hired. Once the new professors get a few years of teaching under their belts, they’ll be ready to jump in and make major contributions to the body of knowledge. They will be leading the charge to restore honesty in scholarship and rationality in economics.

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The Austrian Economics Newsletter is the quarterly interview journal published by the Mises Institute. Each issue spotlights the writings and research of a scholar or financial journalist who works within the tradition of the Austrian School. The AEN began publishing in the Fall of 1977, under the auspices of the Center for Libertarian Studies, which was then located in New York, New York. The purpose of the AEN was to provide a forum for Austrian students and serve as a communication tool for the new movement. The Mises Institute assumed responsibility for the publication in 1984 and nurtured it to become the most closely read periodical in the world pertaining exclusively to the Austrian School. The AEN began to emphasize reviews, topical pieces, and, most of all, the extended interview as an effective means of highlighting the newest contributions of Austrians to the literature. Today, interview subjects are now chosen from a variety of disciplines to reflect the full influence of the Austrian tradition. The AEN is no longer published in the digital age in which its content has become as vast as itself but its archives are available here online.

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