Ch. 10 Implications for Our View of Society

The previous chapter showed the far-reaching implications of changes that at first sight appear to be local and limited in both scope and scale. In our example, adding a subsidy – even if we for simplicity assume that it is financed privately rather than through taxation – to increase the production of bread completely changed the market’s response to the new revealed demand for house building. Indeed, we saw that walking through the responses to Deborah and Gregory’s and Gordon’s demand for houses showed that the outcome between the unhampered market and the subsidy-affected market is very different. This difference can be measured in terms of aggregate economic growth of the little society as its Gross Domestic Product (GDP). But doing so necessarily hides the details of the change by focusing on the net observable value.

What is not shown in GDP is, to borrow the language of Bastiat and as discussed in chapter 5, the “unseen” – that which didn’t happen. But the discussion in chapter 9 showed that there is more to it than simply an unseen chain of events resulting from, as in the case of Bastiat’s original illustration, some destruction or hindrance. The chain of events that happens (or not happens) facilitates not only consumption but also production: choices throughout the market are affected by a change by making specific alternatives available or unavailable. The point of analyzing the “unrealized” alternatives – the lost optionality – was that even a limited restriction placed on the market can have far-reaching effects in seemingly very distant and different parts of the market. Who would have guessed, for instance, that the subsidy for bread would mean that Adam will not move into the new occupation of plank maker? Luke certainly didn’t see this and didn’t intend for it to happen. The intention with subsidizing bread making was to get more bread, nothing else. But there are unintentional (and perhaps unpredictable) consequences to any apparently limited economic action for the simple reason that the economic organism is endogenous and all types of production are interdependent. We can see how things are connected and therefore affected when walking through the changes and their implications logically, but this is not observable in aggregate statistics. Looking at the statistical data shows neither the unseen nor the unrealized – in our example above, the data would show that the economy with a subsidy would also get one new house (Deborah and Gregory’s) but would not show that Gordon isn’t getting one, that Adam doesn’t go into plank making, that Bob doesn’t become a nail smith, and also not that Adele, Eric, and Gregory will not experience increased demand for their food products (that is, bread substitutes). The unseen effects are hidden, and the alternatives that are unrealized affect people’s behavior by removing potential choices that would have been made.

The unrealized affects individual persons in a very real way by limiting their scope of action. As they are not provided with options that the might have otherwise chosen, their potential for value creation is limited compared to what otherwise would have been the case. In other words, their standard of living, and thus ability to lead their lives as they see fit, is restricted. This, in turn, means the alternatives that would be presented to other actors also are not realized. While a restriction on the unhampered market is a net overall loss, the effect on specific individuals could be anything from disastrous to limiting. At the same time, others – such as Becky and Fred – benefit from the artificial restriction by experiencing higher demand and, consequently, greater profitability. This profit, while it is the result of satisfying real wants, is made possible because the means for satisfying other and more highly valued wants is not realized. The loss on society consists of these unrealized want satisfactions, which would cause responses reallocating resources throughout the market and thus not provide some of the now experienced profits for Becky and Fred. In some sense, we can say that they profit from the fact that other people no longer can satisfy highly valued wants since those means aren’t made available.

This, of course, happens in the unhampered market as well – it is not nearly perfect in the nirvana sense. But the unhampered market places no arbitrary restrictions on people acting in their own best interest and thus, through the workings of the market, facilitate other people’s consumption and wants satisfaction. The unhampered market has many limitations, but as it has no specific aim but is rather involved in continuous discovery, and is highly interdependent through production and exchange, attempts to correct, rectify, adjust, and redirect the market will almost exclusively result in failures to attain the end that is attempted. Not only will added restrictions such as regulations and taxes, or the support that can be offered as a result, produce a shift in whose wants are satisfied – from individual actors’ to those preferred by the policy maker – but the outcome is a net loss in value creation. The effect is also that winners and losers are created, either directly by receiving a subsidy or being burdened by regulation, or indirectly through artificially high or low profitability – or loss of well-being due to unrealized alternatives that would or would not have been chosen.

So what does the issue of the unrealized tell us about the real market and suggested or already implemented policy? Firstly, it redirects our attention to the looking at the direct and indirect effects on real individuals – and their ability to make choices that improve their standard of living. By doing this, we can identify the real winners and losers, and thereby also identify the real extent of the consequences of a certain policy measures. And secondly, it allows us to trace the real effects – whether intended or unintended – of policy. This is not restricted to assessing a proposed policy measure by estimating the real effects and their scope, but the unrealized can serve as a lens that allows us to analyze any real situation after the fact. We will now turn to a real world example with the purpose of illustrating the power of using the unrealized as lens.

The Sweatshop and the Unrealized

The term “sweatshop” is often used pejoratively about a production facility, commonly in developing countries, where working conditions are harsh – at least from the point of view of us living in developed economies. These factories provide jobs, but those employed often have to work very long hours in potentially dangerous jobs without much protection and in poor working conditions. The wage offered for workers in these positions is often ridiculously low, at least compared to what a worker in North America or Europe would make in similar occupations and types of production. For these reasons, sweatshops are described as a symptom of unbridled capitalism, where the underpaid workers (and their health) are readily sacrificed by profit-hungry corporations eager to make short-term gains that boost their income statements, increase the stock market value, and thereby earn their executives excessive bonuses. Consequently, the modern sweatshop – while in many ways similar to the work in factories in the West in the nineteenth century – is often rejected as exploitative and a horrible fate for those ending up with such a job. Indeed, long hours at low pay and with terrible working conditions is hardly a dream job, and many Westerners of today would never accept a job like that. This is the seen.

As we discussed in the previous chapters, however, the seen is hardly sufficient for analyzing a situation. In line with our analysis in chapter 5, a common retort to the rejection of the sweatshop based only on what is seen utilizes the unseen. This argument thereby contextualizes the sweatshop economically by pointing to the facts of the situation: the sweatshop may be bad or even horrible, but it is the better – or even best – option available to poor people in poor countries. Indeed, it is not seldom the case that workers in sweatshops make more money than their peers, have better (and sometimes much better) working conditions, and benefits. Even though each of these as well as the combined picture is socially unacceptable from a Western or developed-world perspective, it provides a valued means toward wants satisfaction to the people in poor countries and significantly raises their purchasing power. But, as is often claimed to be the case, the possibility of being employed in a sweatshop is often considered a boon for the people living there. The reason is that their real alternative is rarely (if ever) the type of employment that is taken for granted in the West, with higher salary, better working conditions, and perks and benefits. Instead, the alternative they’re presented with may be starvation, toiling with manual labor in the fields for very limited harvests, or sending sons and daughters to make whatever money they can through selling themselves (that is, prostitution). The rejection of sweatshops based only on what is seen is therefore a conclusion based on the nirvana fallacy: if we consider the real alternatives, calling for the prohibition or boycott of sweatshops is certainly not in the interest of the people working in sweatshops. Rather, such measures would seem to harm the very people they are intended to help.

Indeed, it can even be argued that the sweatshop may be a means toward economic development in developing countries.[1] Work in sweatshops provides a higher – and sometimes much higher – standard of living for those who are employed and their families. This, in turn, frees up their time to do other productive work, invest in productivity-increasing capital or education, and their increased purchasing power soon benefits others in the community as those benefitting directly from sweatshop employment increase their consumption through exchange. For instance, those employed in sweatshops can make enough money to repair and even expand their dwellings, purchase better foods and means of transportation. The money spent is somebody else’s income, and the flow of value follows what we have discussed above with respect to the economic “ripple effects.” In this sense, sweatshops can provide a well needed push for a local economy toward capital accumulation and specialization under the division of labor. Consequently, as the new wealth is spread throughout this economy, the sweatshop could indirectly increase everybody’s standard of living. It is from this perspective that we should understand Harvard economist Jeffrey D. Sachs’s statement that his “concern is not that there are too many sweatshops but that there are too few.”[2]

Whereas the analysis of sweatshops is indeed better when considering both the seen and the unseen, rather than only the seen, it is incomplete unless we also consider the unrealized. Focusing on what is seen, we would reject the sweatshop; adding to the picture and even focusing on the unseen, we see sweatshops in a much more positive light. This more nuanced image doesn’t mean that we must love sweatshops, of course, but it means we must take into consideration their real effects on real people. The realized changes our analysis yet again and adopts a different perspective by looking not at the effects of the sweatshop per se, but what may be the cause of the situation in which the sweatshop is the better alternative. As we have discussed in the chapters above, what matters to real people is their situation in terms of optionality or, as is the other side of the coin, the opportunity costs in their choice situation: what alternatives do they actually have, and what is the value of these alternatives?

If we first look at the choice situation, a person living in a rural village in a developing nation – Rashid – would have a very limited number of alternatives to earn a living. For instance, these alternatives would include producing rice by toiling on the family’s piece of land, enter into an apprenticeship with the village’s blacksmith or house builder, weave baskets by hand to sell at the side of the road, and move to a large city several hundred miles away to try to get a job. Neither of these alternatives offer much reward, so they are similar in terms of the value created and thus wage earned. In other words, the opportunity cost is relatively high whereas the absolute outcome is not. This is expected in a situation characterized by equality in poverty: there are no obvious alternatives that will take you out of poverty, so the effort is intended to secure your own and your family’s survival.

Enter a sweatshop in the form of a factory in the textile industry in a nearby small town, which offers employment for low-skilled labor to carry out repetitive tasks such as sorting and packaging produced goods, refill cotton used in spinners and yarn used in looms, and unpack delivery trucks, restock and reshelf inventory of produced goods, and so on. Production takes place in a newly built warehouse, which is simply four walls and a roof made of steel. There is no air conditioning but only a few fans in the wall. The building is hot, humid, and noisy, and the workers must work quickly to not stall the production process; the risk of being injured by the large machines is high because of the lack of safety measures and the high pace of the job. Workers are paid $0.25 per hour working 12-hour shifts six days of the week but receive no benefits or insurance, so if they’re injured or cannot keep up with the expected pace they are readily fired and replaced.

For Rashid, however, the sweatshop offers an opportunity for income that vastly exceeds what he would be able to make toiling in the field or weaving baskets by hand. In other words, his opportunity cost for employment in the sweatshop – the highest value of alternatives foregone – is comparatively low. By getting a job in the sweatshop, he would be able to support his family – and then some. So it is obvious to him that he must attempt to secure employment in the sweatshop, which in fact offers an opportunity to improve his own and his family’s situation. Rashid doesn’t have a problem with getting up in the morning, so he manages to be one of the first seeking employment when the sweatshop opens for applications. And as he is a strong and healthy young man, the sweatshop managers eagerly offer him a job with the task of moving delivered cotton from the dock to the spinners. It is hard labor and he needs to be quick to make sure the machines always have enough cotton fiber to keep spinning. He gets a lunch break if he can work up enough cotton during the morning to keep the spinners busy while he devours the rice leftovers from yesterday’s dinner that he brings with him.

Rashid leaves home before 5 am on work days to begin work at 6 am, and returns home just after 7 pm. Needless to say, when he gets home there is little energy to do anything but have dinner with his family and then go to bed to regain some of his strength for the next day. Despite the long days and hard work, both Rashid and his family are happy that he has the job. His mother even hopes that his younger brother Hiran can get a job at the factory when he gets a little older. The factory hires boys and girls from the age of 12 if they’re strong and hard-working, so Hiran still has a couple of years before he’s eligible for employment.

So far, Rashid’s story is a story about the seen and the unseen – but not the unrealized. Though his starting point – before the sweatshop – was one with optionality according to our definition (the opportunity costs of the alternatives were approximately the same), it was also a situation in which the family was utterly poor. The sweatshop was not yet an available choice, since the textile factory still hadn’t been established. Yet the sweatshop cannot properly be thought of as an unrealized opportunity in the sense we’re using the term here, for the same reason that buying a Volvo or Mercedes automobile was not an “unrealized” possibility in the 18th century – or a week-long vacation to a luxury resort on the planet Saturn is not an “unrealized” possibility today. If the reader recalls, we specifically refer to opportunities as unrealized not simply because they have yet to emerge but when they are options that would have been available had the economy not been distorted. So the fact that the sweatshop entrepreneur (or, which may be as likely, the management team of the corporation owning it) had not yet made the decision to establish the textile factory does not itself imply that there is an unrealized opportunity – even though it does not yet exist and is about to emerge.

The opportunities that are unrealized for Rashid, therefore, are the opportunities that would have been available in the absence of restrictions on the market. Such restrictions include regulations that are common in developing nations, such as barriers to trade raised as protectionist measures (both by the government in the developing nation and by governments in the developed world), difficulty and wait times when starting a business (due to both bureaucratic requirements and corruption),[3] monopoly privileges, and redistribution of funds from taxpayers to representatives of the regime. We cannot know what exact alternatives would be available for Rashid had the economy been unregulated. However, the fact that a sweatshop is established provides a good indication of what is possible but isn’t realized.

As the textile factory can be built and starts producing suggests that there are no economic limitations to this type of industrialized production. Indeed, even if this sweatshop is subsidized, it is embedded in an economic reality that supports it: there is sufficient infrastructure for delivering inputs and shipping out puts, available building materials and power, access to underutilized labor, and there is even access to capital in the form of machines used in manufacturing (the spinners and looms). The subsidy could have caused the factory to be built in this location, or perhaps sooner than would otherwise have been chosen, but the fact that there are no economic limitations, except for the ever present profitability concerns, means the market is mature enough to include this type of production. We can therefore conclude that the standard of living in the village would likely have been at par with that which is offered through employment in the sweatshop. In other words, the poverty experienced by the villagers is artificial, as is Rashid’s choice situation when he chooses between the comparatively high-paying job in the sweatshop and toiling in the fields or weaving baskets by hand.

Considering what we know about how the economic organism functions, it should of course be the case that an economy that can support sweatshop-level technology in production would be able to equally support competition on this particular productivity level. If one sweatshop is economically feasible with respect to the existing level of economic development, but not considering profitability (which is a function of entrepreneurship, not development level), there could as easily be many. But whether or not this would be the case, the fact that this could be the case combined with the fact that there are no artificial barriers to entry (such as regulation) in a market, suggests that the sweatshop would face competition – either competition by existing firms or by potential entrants. With competition, the sweatshop would need to compete not only to sell what is produced but also for inputs, including labor. In other words, we should expect to see higher salaries and/or better working conditions than is the actual case in the sweatshop.

Indeed, the new textile sweatshop that we discussed above competes for labor only with the other choices available to Rashid and the other villagers: toiling in the field, weaving baskets by hand, or moving to a large city in hope of employment. As these alternatives are so much less valued by Rashid and the others – which we know from obviousness of the choice, that is the much lower opportunity cost of the other choices – means that the sweatshop is indeed a much better choice. But it is better because the other alternatives of similar or greater value that would have been available remain unrealized.

It follows that the villagers’ actual situation suffers from the lack of highly valued alternatives. Even if there is no regulation directly affecting the villagers, such as taxation or licensing requirements or restrictions of land use, they are victims of regulation. The reason there is only one sweatshop in the region, for instance, could be a result of regulations specifically targeting international trade – that result in forcing wages down below their market level and keep them at this artificially low level. This is easy to see if we apply the logic discussed in the previous chapters. The higher barriers to international trade, for instance exports of textiles, is a cost on establishing textile factories (including the sweatshop where Rashid works) and therefore restricts the number of actors who can profit in this space. For this reason, entrepreneurs and industrialists with better a political network or a more extensive lobbying apparatus will be able to exploit the opportunity resulting from lacking competition: with competition, wages would rise and working conditions would improve, cost of inputs would rise, and the price that can be charged for outputs would go down. As there is no competitor – and there likely can be no competitors, since they’re artificially restricted from entering the market – the only existing player gains the market power that monopolists experience, and reaps the rewards thereof. In other words, the poverty of the villagers has the same cause as the low wage offered to them in the sweatshop: lack of competitive discovery due to the restricted market and, consequently, malfunctioning economic organism.

In other words, the profits earned by the sweatshop corporation are artificially high despite their business being regulated – the sweatshop is, in a sense, protected because it is an insider, an incumbent to a protected market niche, in a market that cannot support more players because there are artificial restrictions. The other side of the coin is the choice situation of the villagers, which is artificially limited for the same reason. They could potentially have had a choice between several competitive employers in the textile business or other manufacturing industries, likely with higher wages and better working conditions, but are instead left burdened with choosing between comparatively unfavorable employment in the sweatshop and the much worse choices that entail struggling in outright poverty. The effect of the regulation, by restricting and thus distorting the market, therefore produces a result that is similar to redistribution in how it distorts value creation: sweatshops with poor working conditions earn artificially high profits while people are kept in abject poverty.

Of course, as the illustration above shows, there is no real redistribution taking place – no money is actually taken from the poor villagers and then given to the sweatshop. Instead, the villagers are stripped of the options that they would have had but that now remain unrealized; the competitive situation in manufacturing that likely would have emerged and created value also does not take place. But the effect is the same, and this inhibits economic growth and development.

Implications of the Unrealized

The example of sweatshops illustrates the power of adopting the perspective of what remains unrealized when assessing a situation in an economy. The discussion about the effect and ethics of sweatshops has primarily been between two camps adopting the seen and the unseen, respectively, as their focus. Whereas the latter may have a more nuanced perspective on the situation by contextualizing the phenomenon rather than looking at it separately and, in a sense, in a vacuum, both perspectives assume that significant portions of the status quo are real and proper points of departure in analysis.

Those focusing on the seen assume that their frame of reference is a proper lens for analyzing and assessing the phenomenon at question, even devoid of contextualization. This view looks at the phenomenon as though it were not embedded in an economic context, and could even at times wander from recognizing that it is in fact an economic phenomenon. Instead, the phenomenon is taken at face value and evaluated without recognizing fundamental truths about economics, including that of simple trade-offs. As the “seen” analysis of sweatshops shows, the sweatshop is evaluated from the observer’s point of view with no consideration taken to the situational conditions of those choosing employment in sweatshops. From this point of view, it would be as logically stringent to reject the workers’ choice of employment as it is to reject the existence of sweatshops. The reason for coming out on one side and not the other is due to a biased position with respect to the involved parties: from a pro-business perspective, the workers could be blamed for having assumed exploited positions in a sweatshop that, legally speaking, does nothing wrong; from an anti-business perspective, the sweatshops can be blamed for employing workers at low wages under poor working conditions. Neither conclusion accounts for the trade-offs made by the involved parties.

The “unseen” analysis of sweatshops focuses instead on the trade-off as it exists for the workers (and, sometimes, the sweatshop owners and management), and consequently concludes that the sweatshop offers higher income and better working conditions than all existing alternatives. This, of course, is true, since Rashid and others are presented with the rather obvious choice of poverty and hard, traditional labor in the village or, as an alternative, a higher (perhaps even much higher) income and hard labor in the sweatshop. Seeing it from Rashid’s and the villagers’ perspective, prohibiting or condemning sweatshops would make their situation worse than it already is. So the argument from the perspective of what is seen, often with the conclusion that sweatshops should be abolished, would actually make the situation worse for most if not all of those employed in sweatshops.

Using instead the unrealized as lens, we look not only at the phenomenon or the trade-off as Rashid and others have to deal with, but on what caused this choice situation – and whether those causes are legit. In order to assess the situation as it really is, the proper benchmark or contrast is not what we would instead like to see without considering economic reality (that is, the view using the “seen”) or the options that have already been realized (that is, the view using the “unseen”), but what otherwise would have been. The error of the analyses focusing on the seen or the unseen is that they draw conclusions using improper counterfactuals. They are comparing apples and oranges.

Consider if we are tasked with trying to figure out the value of getting a college degree in terms of the salary earned and that we have John, who just graduated, as an example. Using only the seen, we would focus on John’s salary in his first job after graduating college and we would make a judgment about whether college education is worth it. Say he makes $35,000 in his job. Is that enough to warrant going through four years of college? It depends on whether we think that is a good salary or not. So maybe we would say that John’s salary stinks, because it is less than the average American household income. That statement would be true, but it says nothing at all about whether the college degree was worth it (and even less if it was worth it to John).

Looking at the unseen in the same sense as when analyzing sweatshops, we would compare John’s salary after graduation with the salary he earned before going to college. Perhaps he earned $22,000, then we would say that he makes $13,000 more each year because of graduating. While the arithmetic is correct, there is nothing to say that it was the degree that made him earn those additional $13,000. Lots of things change in four years: the job market has changed, the jobs available to John are different with and without a degree, John has matured and has more life experience, and so on. So what part of the salary increase is due to the degree? The only way of figuring this out is to look at what John would have earned had he not gone to college. This alternative reality doesn’t exist, of course, so we need to figure out a way of simulating it. A way of doing this is to assume that he would get pay raises at par with everybody else in that particular job category, that he would have a similar chance to be promoted as others like him, that he would be offered other and better job at the same regularity as others in the job market, and so on. If we are able to think of all things that would have significantly affected his salary had he not gone to college, then we can with some certainty say that the remaining difference is due to his degree. So we compare what actually exists with what would have existed, and this counterfactual is the only way of properly assessing the value of John’s degree.

What we did with respect to analyzing the value (in terms of salary) John’s degree is exactly what we’ve done above with the unrealized. We have looked at the choice situation, the presented trade-off, for people like Rashid, in terms of the sweatshop job, Adele, in terms of the orchard, Adam, in terms of becoming a plank manufacturer, and so on. Their choices are of course made in a real situation and thus based on the seen and the unseen – that’s all the information and optionality they have. But to analyze their situation, we must take into account what otherwise would have been: the unrealized. Rashid is better off employed in the sweatshop, Adele was better off creating the orchard, and Adam was better off as a plank maker. But we also saw that the reason Rashid was presented with an “obvious” choice was that his situation was in fact severely restrained by burdensome regulations in other parts of the economy – he was in a worse position than he otherwise would have been, and the choice presented to him was likely worse than it otherwise would have been. Adele, in contrast, acted in an unhampered economy and therefore benefitted from a full choice set, limited only by what is not economically possible. Adam, when the little society in chapter 9 was burdened with Luke’s subsidy to increase the supply of bread, was never presented with the opportunity to specialize in plank making, and was as a result worse off than he otherwise would have been. Indeed, the whole economy was deprived of the value that could have been created.

What this discussion suggests is that the choices that are actually made are not the full story. It is obvious that the choice we make, when in a choice situation, is the one we think is superior to the alternatives. So we always choose in line with our perception of opportunity costs, even if we would change our minds or acquire missing information after the fact. But this fact about the choice says little if anything about the choice situation. Many of the choices we make are artificial in the sense that we would have made other choices had we not been placed in a disadvantageous situation with a restricted or perhaps suboptimal set of choices.

This becomes very obvious in choice situations such as the one Rashid finds himself in above, where there is very limited optionality. Indeed, using colloquial language we would say that there is not much of a choice for Rashid, while in real terms there is of course a choice if there is a tradeoff. But there is “no choice” for the reason that one option is so superior to all other options, that one single value of that choice exceeds all other possible values. Even if Rashid was allergic to cotton, if his health would be seriously compromised by working indoors, if the early mornings would make him have a heart attack, the difference in terms of standard of living between the job in the sweatshop and staying in the village makes it worth it. His choice is still voluntary, despite the downsides, but it is not euvoluntary, to borrow a term from Duke political scientist Michael C. Munger.[4] What this means is that the choice is formally voluntary because there is no coercion involved and therefore no restrictions on choice-making itself, but the situation is so dire – and the one option so much better – that the choice is in practice reduced to simply acting on it, not actually choosing between valuable options. Our analysis is different from Munger’s, however, because we do not here focus on the fairness of the choice, but on the causes of the choice situation. The concept of the unrealized is important because it helps us trace the origins of the choice situation and therefore identify what is missing from it: that is, what choices no longer exist, what choices have been created artificially (that is, through non-economic means), and how this affects the individual chooser and society at large. Indeed, while we have discussed the implications of policy we have only considered the economics of it, but not made a value judgment with respect to whether it is “good” or “bad.”

The Unrealized and Policy Analysis

The model of the market that we presented in the first several chapters in this book provides a model against which we can evaluate existing situations (as we did above with respect to sweatshops) and attempt to predict the implications of changes such as public policy. By focusing on effects in terms of what options become unrealized, and how the unrealized distort the choice situation, the true cost (and benefit) of policy can be approximated for both individual actors (or classes of actors) and the economy overall.

As is well known, policy tends to produce both intended and unintended consequences, of which the former are the direct and anticipated consequences and the latter are the indirect and unanticipated consequences. The unintended consequences of policy have received some attention, primarily through attempts to explain the highly complex situation in which specific policies attempt to create specific results. Very often, as history shows, the economic organism is too complex and endogenous for policy-makers and analysts to be able to predict the exact implications. As we saw above, the effects of policy can be far-reaching, and as each specific effect depends on individual choices in very specific situations, where the individual chooses based on his or her subjective understanding and assessment of the options, it is almost impossible to estimate the effects prior to the fact. And even after the fact, only changes in the aggregate are observable – and they can rarely be traced to a single cause.

Unintended consequences refer specifically to the measurable effects that were not intended and, therefore, not foreseen. This is a very important aspect of analyzing the implications of policy, and the reality of unintended consequences indicates the immense uncertainty with which policy must wrestle. Social sciences like economics and sociology may help in estimating the effects, and even though such analyses are often made they are of very limited value since they tend to be wide of the mark. Indeed, economists can approximate the effect on overall unemployment and employment shifts between sectors of the economy by for instance an increase in the minimum wage,[5] but these approximations should be taken with a large scoop of salt. The reason is that the effects approximated and measured, are changes in aggregates in the economy rather than real choice made by economic actors.

The unrealized explains both the intended and the unintended consequences of policy by tracing the real effects, step by step, from the change as they proliferate through the market. What can be measured empirically after the fact as real effects of the policy on an economy are the net effects of the unrealized. To illustrate using our example from chapter 9, in which Deborah and Gregory as well as Gordon wish to build new houses, what can be actually collected and measured are aggregate data that are descriptive of the situation. In other words, data collected before the two houses are ordered would include things like how many three-inch nails and how much bread is produced, and what incomes are earned, and so forth. Collection of data after the orders would show the differences in these figures, which means the economic implications of Luke’s subsidy of bread on house-building would never be shown. Indeed, the fact that Adam never specializes in making planks and that Edda never enters the house-building trade cannot be measured. Looking specifically at the consequences of policy necessarily leaves out anything that is unrealized.

To estimate the real effects of policy, however, it is necessary to trace the effects as they ripple through the economy and not just look at the net effects. It is also important to use a proper counterfactual to assess and determine the real magnitude of these effects. Advanced economic analyses attempt to construct a counterfactual using sophisticated statistical methods that allow us to simulate data describing a plausible alternate reality. However, statistics are necessarily net rather than gross, and they provide a snapshot whereas the economy is better understood as a process. For this reason, sophisticated statistical economic analyses can only provide answers that are wrong, if they are at all relevant.

Nevertheless, even if we accept these sophisticated techniques and assume that they are relevant to analyzing the implications of policy, they are intended to only measure (and simulate) effects in the aggregate. As we saw above, however, the unrealized focuses on the real effects – based on the proper counterfactual – for each decision-maker in the economy. While it is different from standard approaches by acknowledging that an economy is more like an organism than a machine, and that it is an open-ended process rather than a state or circular flow, what really sets the unrealized apart and makes it useful is how it identifies and explains specific changes as they happen in time, and traces the causal chains of events that make up market responses as well as emphasize the interdependence between actors in production and consumption. While this provides a more realistic view of the economy, it is also much more accurate analysis of the effect of policy on individuals’ economic actions.

As we emphasized already in the beginning of this book, the perspective we adopted that treats the economy as an organism explains both economic growth and development, the structure of production, and the origins and causes of prosperity. It is neither unrealistic nor utopian, but acknowledges that the market economy is very far from efficient. But we also recognized that efficiency – in the sense of theoretically maximized resource utilization – is neither possible nor desirable. It is even a poor benchmark for assessing the present state of the economy and therefore also the implications and effects of specific policy, because comparing what is real with its unrealistic perfect state can only draw our attention away from the real problems and issues that adversely affect people. It is therefore questionable whether economic efficiency serves a purpose in analyzing the economy, especially when attempting to approximate the effects of policy.

What does matter is the real effects on people’s lives, which is primarily captured by theorizing on what options are unrealized – that is, what options would have been made available but aren’t. It is safe to say that very few people are troubled by who far apart their real situation is from an efficient economy as in the model of perfect competition. However, they should be troubled by the wealth-diminishing consequences as they are stripped of options that they should have had were it not for the distortive effects of attempted improvements.

The same should be true for policy-makers and their staffs, who after all mostly have good and proper intentions and wish to do good. Had they been aware of the real effects of specific regulations, and the far-reaching consequences of apparently specific regulations, they may have chosen a more conservative approach. After all, our analysis above suggests that the real costs of restrictions placed on the economic organism are hidden for the simple reason that the value that would have been created was never realized. The choices that otherwise would have been made and that would have served consumers were never realized and thus not chosen. This cost, which is the true burden on society by policy, is yet to be recognized and approximated.

 

Munger, M. C. (2011). Euvoluntary or not, exchange is just. Social Philosophy and Policy, 28(02), 192-211.

Powell, B. (2014). Out of Poverty: Sweatshops in the Global Economy. Cambridge: Cambridge University Press.

 

[1] For an interesting elaboration on the implications of the sweatshop, see (Powell, 2014)

[2] Cited in the New York Times, “In Principle, a Case For More ‘Sweatshops’” by Allen R. Myerson, June 22, 1997

[3] Data from the World Bank shows that it can be significantly more difficult and take much longer time to start a business in developing as compared to developed countries. See http://data.worldbank.org/indicator/IC.REG.DURS/countries/1W?display=map

[4] See (Munger, 2011)

[5] A policy-mandated increase is often referred to as “raising” the minimum wage, but whereas this suggests that wages will increase the law does not raise wages but prohibits jobs earning a wage lower than the mandated minimum.