Mises Wire

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• A Critique of Neoclassical and Austrian Monopoly Theory
• Rising Interest Rates Are Revealing the True Damage Done by the Fed
• Markets Promote Real Equality Much More Than Progressive (and Conservative) Critics Claim
• Don't Blame Social Media. Blame the Politicization of Nearly Everything
• A Looming Recession: How Bad Is It?
• We're All Nullifiers Now + Roe v. Wade Talk
• Even after Admitting She Underestimated Inflation, Janet Yellen Still Doesn't Understand What It Is
• The Pigouvian Tax Is a Myth
• The Consumption Tax: A Critique
• Guns and Self-Defense
• No, It's Not "Greed" or "Price Gouging" That's Driving up Gas Prices
• Government Intervention Is Fueling Food Shortages
• Who Owns Federal Reserve Losses and How Will they Impact Monetary Policy?
• The Great Reset: Turning Back the Clock on Civilization
• Back to the Future: Progressives Imagine the Good Old Days of Price Controls
• California Scheming: The Progressive Leadership's New Plan to Impose High-Cost, Low-Quality Medical Care
• The Return of the Anguish of Central Banking: Why the Fed and Inflation Go Hand in Hand

A Critique of Neoclassical and Austrian Monopoly Theory Posted: 25 Jun 2022 12:00 PM PDT One of the most controversial areas in Austrian economics, and one where even long-established Austrian theorists differ sharply, is monopoly theory. Indeed, as we shall see below, the differences are not merely semantic, nor are they confined to detail or some minor theoretical implication. Rather, there are major and fundamental disagreements between some of the leading Austrians, and these disagreements are created by wholly different theories concerning the definition of monopoly, the origins of monopoly, and the supposed effects of monopoly on consumer sovereignty and efficient resource allocation. NEOCLASSICAL MONOPOLY THEORY By way of contrast, and in order to place the Austrian theories of monopoly in perspective, it is perhaps necessary to review and criticize the traditional (neoclassical) theory of monopoly.1 A monopolist in neoclassical analysis is a firm that faces the entire demand for the product under consideration. In order to maximize its profits, it produces an output where the marginal revenue associated with the last unit sold is just equal to the marginal costs associated with producing and selling that final unit. But since the demand function facing the monopolist is necessarily sloped downward (perhaps even steeply downward), the price charged for the output is greater than both marginal revenue and marginal cost. This situation, it is argued, compares "unfavorably" with price and output (and cost) under competitive conditions. Under competitive conditions, since price and marginal revenue are equal, price is always identical with marginal cost when profits are maximized. Further, under competitive equilibrium condi­tions, price is always driven down to the minimum point of the average cost function, so that production tends to take place at its most "efficient" point. Therefore, monopoly prices are higher than competitive prices, outputs are less, and average costs greater than under comparable competitive (cost) conditions. But, importantly, how is a firm able to obtain a monopoly position in the market and, thus, "misallocate" economic re­sources? In the first place the monopoly could simply be due to governmental prohibition of competitive entry, and there is certainly a recognition of this source of monopoly in the neoclas­sical literature. However, more recently it has been popular to stress certain non-legal "barriers to entry" that, allegedly, preserve monopoly and resource misallocation.2 These barriers would include any difficulty or impediment that a new firm might have to overcome in order to compete successfully with an existing firm (monopolist). Thus, scale economies enjoyed by an existing firm, or commercially successful product differentiation employed by such a firm, becomes, in the new jargon, a barrier to entry that limits competition and reduces society's "welfare." CONTEMPORARY MONOPOLY THEORY: A CRITIQUE There are two avenues of criticism that one might take with respect to neoclassical monopoly theory. In the first place, one might criticize the purely competitive model which is employed as a benchmark and as a basis of comparison with monopolistic situations. And secondly, one might criticize the whole concept of non-legal barriers to entry, arguing, instead, that it is simply consumer preference that "limits competition" and that, con­sequently no misallocation of resources occurs. Most economists would agree that pure competition is not actually possible. Some would agree, perhaps reluctantly, that it might not even be desirable or optimal if it could exist. (If they agree to this, of course, then they must also agree that moving toward pure competition is not necessarily desirable, either.) But few economists have noticed or emphasized the fundamental flaw of the purely competitive model, namely, that it is not a descrip­tion of competition at all.3 Pure competition is a static, equilib­rium condition whose very assumptions are such that competi­tive process is ruled out by definition. Or to put the matter more charitably, while pure competition may describe the final out­come of a particular competitive situation, the ultimate end result, it does not describe the competitive process that produced that particular outcome. The purely competitive theory is not a theory of competition as such. The neoclassical habit of confusing competitive process with a final, static equilibrium condition makes for gross errors in economic analysis. For instance, product differentiation, adver­tising, price competition (including price discrimination), and innovation are rather routinely condemned as "monopolistic" and, thus, as resource misallocating and socially undesirable. This condemnation follows "logically" since not one of these activities is possible under purely competitive conditions. Hence everything that is truly competitive in the real world, truly rivalrous, gets labeled as "monopolistic" and resource misallocating in the Alice-in-Wonderland, purely competitive world. The analytical conclusions one is forced to come to, employing the purely competitive perspective, are not just wrong, not just unrealistic, but the very opposite of the truth. Far from being able to "predict," or, tell us anything meaningful concerning competitive behavior, pure competition can only describe what things would be like if the world contained zombie-like consumers with homogeneous tastes, atomistically structured firms identical in every important respect, with no locational advantages, no ad­vertising, no entrepreneurship, and no rivalry whatever. Surely this is the major flaw and absurdity inherent in the purely com­petitive perspective.4 BARRIERS TO ENTRY: A CRITIQUE Discussions about the non-legal barriers to entry suffer from the same difficulties. The two most popular and important "bar­riers to entry" are product differentiation and scale economies. Product differentiation limits competition since it makes competitive entry more costly. To use a favorite neoclassical example, the fact that the major automobile companies change styles every year increases the costs of competing in this industry. Would-be competitors must be willing and able to undergo the same or similar procedures, else they simply cannot compete. Even worse, once competition is "limited," the auto companies routinely pass along the higher costs in the form of higher prices, which contribute, it is alleged, to a real reduction in consumer welfare. On the other hand—indeed, on the opposite hand—scale economies also limit competition. The fact that certain firms realize lower costs per unit because of large volumes gives these firms the "power" to exclude smaller firms, or smaller potential entrants, from the market. Ergo, we are supposed to regret the reduced competition and consequent resource misallocation since inefficient firms cannot compete with efficient ones. Actually, of course, the neoclassical theorists have gotten the matter completely and precisely backward. It is because, and only because, consumers find resources satisfactorily allocated that would-be competitors find entry difficult or impossible. Product differentiation, especially differentiation that does raise prices, can only act as a barrier to entry if consumers prefer that differentiation, and pay the presumably higher prices associated with, say, new annual auto styles. If consumers do not prefer such differentiation and, instead, reward the firms that change styles less often, or not at all, then product differentiation could hardly act as a barrier to competitive entry. Indeed, in the case just postulated, product differentiation would be an open invitation to entry and to competition. To condemn commercially successful product differentiation as a misallocation of scarce resources, therefore, is to condemn the very "resource allocations" that consumers apparently pre­fer. It is the neoclassical economist's allegedly "optimal" alloca­tion of resources under purely competitive conditions that product differentiation upsets, and not any allocation that can be as­sociated with free consumer choice. The same sort of argument can be made—and even more obviously—with respect to scale economies. Consumers do not regret the economies nor the consequent reduction in competi­tion. Consumers could "increase competition" any time they choose to by indicating their willingness to pay higher prices to cover the higher costs of the smaller firms. That they do not usually do this indicates the resources are correctly allocated so far as they are concerned. Again, it is the economist's vision of the purely competitive wonderland that is upset by the large, efficient firm, and not allocative efficiency from a consumer perspective. The final absurdity in this area is to observe where such incorrect theories of competition are likely to lead. If product differentiation limits competition, i.e., limits the number of competitors, then more competition can be obtained by limiting product differentiation—by law. If efficient techniques of pro­duction or scale economies limit competition, i.e., the number of competitors, then more competition can be obtained by raising either costs or prices for the efficient companies—by law. Thus, to take the barriers-to-entry theory seriously is to end up propos­ing as rational public policy—in the name of consumer welfare—the very procedures that consumers would likely find most harmful. The only thing sadder than all of this is that such ideas have actually been taken seriously in some antitrust circles and by the courts, and we have had some real world legal deci­sions that reflect such theoretical nonsense.5 As should be quite clear from the above review and critique, there is much dissatisfaction with the traditional notions of monopoly and competition, and with the simplistic antitrust policies (anti-merger policy, for instance) founded on such as­sumptions. But if the neoclassical approach to monopoly and competition is defective, what is the correct approach in this area? Indeed, is there a logical and rational theory of monopoly and, accordingly, an appropriate public policy to complement that theoretical approach? In the sections below we will turn to a critical examination of Austrian monopoly theory in an attempt to answer these questions. The views of von Mises, Kirzner, and Rothbard will be taken as representative of various Austrian positions concerning monopoly. MISES'S MONOPOLY THEORY Monopoly exists for Ludwig von Mises when "…the whole supply of the commodity is controlled by a single seller or a group of sellers acting in concert."6 This condition puts the monopolist (or cartel) in the position of being able to restrict supply in order to raise market price without having to "fear that his plans will be frustrated by interference on the part of the other sellers of the same commodity."7 Mises holds, however, that monopoly prices do not result unless the restriction in supply produces prices that actually increase the monopolist's "total net proceeds." Only if the demand for the product is inelastic in the price range under discussion could "monopoly prices emerge as differentiated from competitive prices." Hence, it is not "monopoly" as such that is catallactically relevant for Mises, but only the "configuration" of the demand function and the emergence of monopoly prices.8 Importantly if such monopoly prices do exist, then they are an "infringement of the supremacy of the consumers and the democracy of the market."9 Mises even goes further: Monopoly prices are consequential only because they are the outcome of a conduct of business defying the supremacy of the consumers and substituting the private interests of the monopolist for those of the public. They are the only instance in the operation of a market economy in which the distinction between production for profit and production for use could to some extent be made…10 And again: The characteristic feature of monopoly prices is the monopolist's de­fiance of the wishes of the consumers.11 Mises also argues that although most monopolies and monopoly prices are made possible by government intervention in the free market (tariffs, licenses, etc.), there are certain instances in which monopoly (and monopoly prices) arise in the unhampered market. He specifically mentions natural resource monopoly,12 geographic monopoly,13 limited-space monopoly,14 and monopoly that might arise because consumers place a "special confidence…on the individual or firm con­cerned on account of previous experience,"15 as with certain trademarked drugs. KJRZNER'S MONOPOLY THEORY Professor Kirzner's theory of monopoly can be derived logi­cally from his well-articulated theory of the competitive pro­cess.16 Kirzner views the market process as one in which market sellers are continually attempting to inch ahead of rivals by offering more attractive opportunities to potential buyers. And he views this process as inherently competitive since the key in­gredient that makes the process function—entrepreneurship—can never be monopolized. For Kirzner, pure entrepreneurship requires no resources whatsoever; hence the freedom to enter the market is absolute since no obstacles to entry can ever exist in a free market. However, the exercise of entrepreneurship is quite another matter. Here the exclusive ownership or control of "all the current endowment of a certain resource" is defined by Kirzner to be monopoly, can indeed block entry into the production of some specific good, and can hamper competition and "impede the course of the market process." A monopoly producer for Kirzner is one whose "exclusive input blocks competitive entry into the production of his products."17 To employ Kirzner's example, without access to oranges, "production of orange juice is blocked."18 Kirzner notes that monopoly should not refer to a producer who—in the absence of resource monopoly—is the single supplier of some product in the market. That firm, he reasons, is still fully subject to the market process since entry into competi­tive production is always possible. On the other hand, when "needed resources" are restricted because of monopoly ownership or control of a certain resource, the very possibility of competition—and the benefits to consumers that are the con­sequences of competition—are eliminated.19 Here, according to Kirzner, the monopolist is completely "immune from the com­petition of other entrepreneurs who might, in other cir­cumstances, enter his field of activity."20 Kirzner is quick to note, however, that the monopolist is not immune from the competitive process itself. Although entry into some specific activity is by definition blockaded, entry into similar activities is not. Monopoly control over a resource simply diverts the competitive, entrepreneurial process into other similar ac­tivities, employing other resources which create a "turbulence" that surrounds and impinges upon the monopolist's, original activity. Importantly, Kirzner hints that the equilibrium tendency of a market containing resource monopoly is to produce a higher than "competitive-equilibrium price" for the resources and also a higher "surplus" for the product produced with that resource. This surplus can be accomplished by withdrawing some of the stock from the market and "forcing" up the market price.21 Thus, consumers might be harmed by such activity since scarce monopolized resources are not being employed to the "fullest extent compatible with the pattern of consumer tastes in the market."22 ROTHBARD'S MONOPOLY THEORY Professor Rothbard's analysis of monopoly, monopoly price, and the welfare implications of such economic conditions differs radically from that of both Mises and Kirzner. Indeed, in his discussion of monopoly, Rothbard is sharply critical not only of the neoclassical monopoly theories, but also implicitly critical (and occasionally explicitly critical) of views held by his fellow Austrian theorists as well.23 As far as Rothbard is concerned, there are three possible definitions of monopoly: one, the single seller of any given good; two, a grant of special privilege by the state, reserving a certain area of production to one particular individual or group; and three, "a person who has achieved a monopoly price."24 Although Rothbard admits that the first definition (single seller) is a coherent and even a "legitimate" one, he rejects it as impractical because it is too broad and all-inclusive. The impracti­cal nature of this definition can be illustrated, Rothbard argues, by noting that any difference (differentiation) in any two goods or resources and, more importantly, any consumer-perceived dif­ference in any two commodities or resources will make them unique (specific) goods and thus, by definition, "monopoly." Hence, "the single seller of any given good" could always reduce to the notion that everyone is a monopolist since each person in a market system is presumed to have exclusive ownership of his own (unique) property. But a definition that makes everything monopoly and everyone a monopolist is barren, "confusing," and "absurd" according to Rothbard.25 Rothbard clearly prefers the second definition of monopoly—i.e., a grant of privilege from the state restricting competitive production or sale. This is a monopoly since entry into the privileged activity is prohibited by the state; logically, no such monopoly could ever exist in a free market. This definition will be adopted as the "proper" one should the final alternative definition prove nonsensical or illegitimate.26 Rothbard's criticism of the theory of "monopoly price" (as well as his criticism of the theory of "competitive price") is certainly a controversial contribution to the literature on monopoly. For here he argues that in a free market there is simply no way of conceptually distinguishing "monopoly price" from a free-market competitive price. On the free market there is no way of distinguishing a "monopoly price" or a "subcompetitive price" or of establishing any changes as movements from one to the other. No criteria can be found for making such distinctions. The concept of monopoly price as distinguished from competitive price is therefore untenable. We can speak only of the free market price.27 It has been common, of course, to speak of monopoly price as that price accomplished when output is restricted under condi­tions of inelastic demand, thus increasing the net income of the supplier. Even Mises, it will be recalled, employed the term in this manner and drew some fairly dismal welfare implications from the "restriction." Rothbard argues, however, that there is no objective way to determine that such a price is a monopoly price or that such a "restriction" is antisocial. All we can know, according to Rothbard, is that all firms attempt to produce a stock of goods that maximizes their net income given their estimation of de­mand. They attempt to price (other things being equal) such that the range of demand above the asking price is elastic. If they discover that they can increase their monetary income by pro­ducing less—or even destroying existing stock—in the next sell­ing period, then they do so. Rothbard maintains that to speak of the initial price as the "competitive" price, and the second-period price as the "monopoly" price makes no objective sense. How, he asks, is it to be objectively determined that the first price is really the "com­petitive" price? Could it, in fact have been a "subcompetitive" price? Indeed, the entire discussion is absurd for Rothbard since there are no independent criteria that would allow either determi­nation. All that can be known for sure, he argues, is that the prices both before and after the supply change are free-market prices. Rothbard also argues that "monopoly" prices cannot be in­ferred by comparing such prices to prices charged for similar factors. So long as the factors are not perfectly identical in the eyes of buyers, the differences in price (or profits) are simply free-market determinations of value for different goods. And any talk of monopoly price or monopoly "gain" when two dif­ferent factors or goods are being compared is analytically in­correct.28 Finally, the welfare implications concerning alleged monopoly prices would not follow even if such prices could exist. Since the inelasticity of demand for Rothbard is "purely the result of voluntary demands" of the consumers, and since the exchange (at the higher prices) is completely "voluntary" anyway, there is no way to conclude that consumers or their "welfare" have been injured.29 Thus, for Rothbard there is no social "problem" as­sociated with monopoly in a free market. Monopoly prices can­not be defined logically, let alone established in a free market. CRITICAL REVIEW OF AUSTRIAN MONOPOLY THEORY The views of Kirzner and Mises that monopoly consists of exclusive control over the whole supply of some specific resource create a number of familiar difficulties. In the first place, there would appear to be no objective way to define beforehand some "homogeneous" stock of resources that might be monopolized. All individually owned stocks of a resource could be differen­tiated at least with respect to location; in addition, the private-property system itself necessarily imparts a "differentiation" to all privately owned stocks. Further, even identical units of some given stock might be regarded differently by potential users, and there would be no way to determine this beforehand. Hence, this view of monopoly could reduce logically to the notion that each and every unit of everyone's property stock is owned "mo­nopolistically." Rothbard, it will be recalled, was critical of this definition of monopoly because its all-inclusiveness made it "impractical," confusing, and, ultimately, "absurd." But we can be critical of it on different grounds, employing Professor Kirzner's own (cor­rect) view of the competitive market process. It will be recalled that Kirzner had argued that the key to competition was freedom of entry and that entry was impossible if potential entre­preneurs could not gain access to monopolized resources.30 Yet, as has been noted above, if all individual stocks of resources are, in fact, monopolized, it would seem to follow that Kirzner's definition of monopoly would completely negate his own views on competition and market process. Indeed, it is difficult to under­stand how any competition or market process would even be possible with this definitional approach. How could any competi­tion occur if all resources are monopolized? Even if it were to be assumed for the moment that resources are not uniquely specific and are, instead, completely homogeneous, additional difficulties remain. Why, for instance, ought monopoly ownership to preclude the possibility of competi­tion from potentially rivalrous entrepreneurs that purchase needed resources? Indeed, Kirzner himself has already stated that the market process is "always" competitive so long as there is freedom to buy and sell in the market.31 Even monopoly owner­ship does not erase the freedom to buy and sell since it is possible that access to resources could be obtained, say, through pur­chase. Yet Kirzner argues that the "very possibilities themselves" of competition may be eliminated by monopoly ownership of a resource.32 Another difficulty with Professor Kirzner's approach is his use of the qualifying term, "current endowment of a certain re­source."33 Obviously, nothing prevents potentially rivalrous en­trepreneurs from exploring for and exploiting new supplies of a specific resource. Indeed, "current endowment" of a resource is an ambiguous phrase since supplies of resources are normally classified as "proved," "probable," and "possible." If Kirzner means to imply that a monopoly over the current proved endowment of a particular resource precludes the possibility of competition and allows the resource owner to be "immune from entrepreneurial competition," 34 he would be arguing a tenuous point at best. Clearly such a "monopoly" allows no such thing. In this example, future 35 entry is clearly possible and cannot be precluded a priori. And since the entire Austrian tradition in this area is to treat the competitive process as one that unfolds through time anyway, how are the potential entre­preneurs effectively blocked from "discovering unexploited op­portunities for profit"? As a final point, monopoly over a resource would appear to make rational economic calculation difficult (if not impossible) since no "market" would then exist for the resource. 36 Without markets economic calculation is impossible since objective prices cannot be determined. A firm that monopolized "oranges" for instance, would have no objective way of knowing, subsequently, whether it was employing its resources efficiently in the produc­tion of "orange juice," or even whether it ought to be producing orange juice at all. This "definition" of monopoly, therefore, would appear to be operationally self-destructive. The monopoly position would tend to generate inevitable ir­rationalities in production since entrepreneurs would have no objective way to calculate "costs." Mises, it will be recalled, realized the inherent difficulties of defining monopoly, and so he moved on to the catallactic significance of monopoly: obtaining the monopoly price and, thus, frustrating "the wishes of the consumers." Professor Kirzner, although he denies that the elasticity of the demand function has any bearing whatever on whether a monopoly exists or not, nonetheless does argue that resource monopoly is likely to result in a restricted employment of such resources, higher prices, and larger surpluses for the producer employing the resource.37 Importantly, such ownership (at least in the short run) has "harmful effects" since it creates an incentive "for not using a scarce resource to the fullest extent compatible with the pattern of consumer's tastes in the market."38 It is really difficult to see, however, why any of this argument necessarily follows. The "pattern of consumer tastes in the mar­ket" would appear to be, simply, consumer demand. Consumer demand is the variable amount of some homogeneous stock that consumers would be willing and able to purchase at various prices. The important point to be made here is that in a free market such "demand" determinations by consumers are com­pletely voluntary on their part, and all price-output combinations on that hypothetical function faithfully reflect that choice and relate those "wishes" to the producers. Consequently, consumers are at all times in complete control of (fully sovereign over) their own property at any given price-output combination, It appears completely arbitrary to argue that only "low" prices, or "lower" prices induced by "supply increases," or only the "elastic" portions of a consumer's demand function are compati­ble with consumer sovereignty. Why are not consumers fully "sovereign" throughout the entire price-output range of their own demand function? After all it is they who determine, in certain instances, that they will trade greater volumes of dollars for fewer units of some good. Indeed, to prevent them from engaging in such exchanges would more accurately infringe upon their "sovereignty." If and when consumers become dis­satisfied with such combinations, they are perfectly free to change the "elasticity" of their own demand to combinations that they do prefer. If the above analysis is correct, it follows that resource owners or producers that voluntarily "restrict" their supplies to obtain higher prices (not "force" them up as Professor Kirzner asserts)39 have committed no socially harmful act. Restricted supplies and higher prices relative to what? All suppliers in free markets restrict their supplies in the sense that they only supply as much of a good or resource as they determine will maximize their monetary or psychic income. But, importantly, this is precisely what the "monopolist" does. If his action is "harmful," then so is the economic activity of all other suppliers in the market. Alternatively, it cannot be argued that what distinguishes "monopoly" supply from "competitive" supply is the con­sequently higher prices. In the first place we have already ar­gued that the new price-output combination is perfectly compat­ible with expressed consumer demand and, therefore, with con­sumer sovereignty. Secondly, prices are always "high" relative to lower prices that could exist, but do not. Indeed, any price at all is "high," "frustrates" consumers, and reduces their ultimate util­ity from consumption. But surely the ability to charge a lower price than the prevailing market price, or no price at all, can hardly be a correct criterion for judging whether a supply is competitive or monopolistic. Indeed, since producers are also sovereign under free-market conditions, we must conclude that any supply is competitive and any price is "compatible" with consumer sovereignty and consumer satisfaction. ROTHBARD'S MONOPOLY THEORY RECONSIDERED Rothbard it will be recalled had defined monopoly as "a grant of special privilege from the State reserving a certain area of production to one particular individual or group." This defini­tion of monopoly would appear to be immune from the sort of criticism employed above against both the neoclassical and Mises-Kirzner theories of monopoly. In the first place, we can be confident that competition is "lessened" by this sort of monopoly, and that resources are non-optimally allocated so far as consumers are concerned, since governmental monopoly re­stricts by law both competitive entry and, consequently, free consumer choice. Legal barriers to entry restrict entry by definition. Areas of production that are truly "naturally" monopolistic would hardly require governmental entry restrictions. Con­sequently, consumer choke must be distorted, and the sub­sequent resource allocations must be "inefficient," since consum­ers are prevented by law from making choices that differ from those already made for them by the political authority. Hence, we conclude that governmental monopoly always restricts com­petition, always violates consumer (and producer) sovereignty, and always "injures" consumer welfare. It would be tempting to argue that these "restrictions" and "injuries" are, perhaps, minor in the case of "minor" legal im­pediments to either production or exchange. Yet, there is no satisfactory way to cardinally measure either "competition" or consumer "utility." Since utility is a completely subjective notion, and since interpersonal comparisons of utility are not possible, there is no objective way to determine how severe even "minor" state impediments to entry and competition actually are. It is completely possible, for instance, that what may appear to be an extremely inoffensive governmental regulation, i.e., setting minimum safety standards for sellers, may in fact be harmful in the extreme with respect to certain potential businessmen and specific classes of consumers. We conclude, therefore, that any and all state restrictions are "monopolistic," competition reducing, and destructive of consumer satisfaction vis-à-vis alternative free-market situations. We also conclude, in summary, that this particular theory of monopoly is the only theory that meets all the standard critical objections and remains entirely consistent with the general Austrian methodology. 1. For a review of this position see, for instance, Edwin Mansfield, Microeconomics, Second Edition (Norton, 1975), Chapters 9 & 10. 2. Willard F. Mueller, A Primer on Monopoly and Competition (Random House, 1970), Chapter 2. 3. Israel M. Kirzner, Competition and Entrepreneurship (University of Chicago Press, 1973). 4. D. T. Armentano, The Myths of Antitrust: Economic Theory and Legal Cases (Arlington House, 1972), Chapter 2. 5. Ibid., pp. 212–15, 246, 267–68. 6. Ludwig von Mises, Human Action (Yale University Press, 1963), p. 358. 7. Ibid. 8. Ibid., pp. 358–60. 9. Ibid., p. 358. 10. Ibid., p. 371. 11. Ibid., p. 373. 12. Ibid., p. 371. 13. Ibid., p. 373. 14. Ibid., p. 375. 15. Ibid., p. 364. 16. Kirzner, op. cit., Chapter 1. 17. Ibid., p. 21. 18. Ibid., p. 103. 19. Ibid. 20. Ibid., p. 105. 21. Ibid., p. 110. 22. Ibid., p. 111. 23. Murray N. Rothbard Man, Economy, and State , Volume II (D. Van Nostrand Co., Inc., 1962), pp. 561–66. See also Journal of Economic Literature, September-October, 1974, pp. 902–3. 24. Rothbard, op. cit., pp. 590–93. 25. Ibid., p. 591. 26. Ibid., p. 593. 27. Ibid., p. 614. 28. Ibid., pp. 608–9. 29. Ibid., p. 564. 30. Kirzner, op. cit., p.103. 31. Ibid., p. 20. This statement would seem to refute Kirzner's entire position on monopoly. If markets are always competitive so long as there is freedom to buy and sell, then in a free market there is always competition and never any monopoly. 32. Ibid., p. 103. 33. Ibid., p. 21. 34. Ibid., p.110. 35. And "future" in an entrepreneurial sense can mean the next moment competitive supply appears or threatens to appear. 36. See Rothbard's discussion of similar problems for cartels in Man, Economy, and State. 37. Kirzner, op. cit., p. 110. 38. Ibid., p. 111. 39. Ibid., p. 110.

Rising Interest Rates Are Revealing the True Damage Done by the Fed Posted: 25 Jun 2022 08:30 AM PDT Janet Yellen admits she underestimated inflation, but she still does not realize that inflation is not higher prices, but the increase in fiat money that forces up prices. Original Article: "Rising Interest Rates Are Revealing the True Damage Done by the Fed" This Audio Mises Wire is generously sponsored by Christopher Condon.

Markets Promote Real Equality Much More Than Progressive (and Conservative) Critics Claim Posted: 25 Jun 2022 04:00 AM PDT The economy consists of a huge chain of the division of labor that is interlocked to such a limit where there exists hardly any single individual or firm that produces the whole of the product alone. This is famously illustrated in the essay "I, Pencil," by Leonard Read. Each element of this complex chain is a firm that consists of many individuals, therefore one of the first questions one might ask is, "Why do individuals engage in these complex economic activities?" The answer to this fundamental question lies in the understanding that individuals undertake any economic activity with the expectation that it would make them better off than their present situation. Individuals, thus, in regard to their own interests engage in voluntary cooperation in the market economy. Although modern discussions in social consciousness on the presence of inequality makes it seem that unequal outcomes are unfair and thus morally unacceptable. Reality, however, is contrary to their beliefs, as the equality of markets always exists until external constraints in the form of barriers to entry are imposed upon it. Whenever a new product is introduced into the market and there are no externally imposed barriers to entry, the equality of the market lies in the equal opportunity it affords to each producer to participate in the market and accumulate resources. The crucial point being the reproducibility of the product demanded or the producibility of its alternative. The firm that introduces the new product for sure gets a leading advantage in the game but such advantages rarely lead to the firm acquiring a monopoly position in the market for a long period of time. This phenomenon is most effectively demonstrated in the history of commercial personal computing, where pioneers such as the J. Lyons Company, Eckert-Mauchly Computer Corporation, and Gavilan Computer Corp., many of whom introduced personal computing in its nascent form, couldn't capitalize on it to gain supernormal profits. As these products came on to the market, it started a process of entrepreneurship where due to lack of barriers to entry many other new entrepreneurs and firms could capitalize on the existing product and through innovation and upgrades grab a lot of market shares, this was how Apple and IBM managed to capture a large part of the market despite not being first movers. Today other new companies such as Lenovo (24.7 percent), HP (24.0 percent), and Dell (17.6 percent) are dominating the market. While this affords equal opportunity to all producers who want to sell their products and outcompete other existing firms due to their efficiency and better products, it also rewards success with an accumulation of resources that pass hands from the less effective to the more effective producers. The process in the personal computing market is sure to continue in the future as long as external barriers in form of licensing, quotas, and other competition entry measures are not introduced externally by the government. The critics of the existing distribution of resources argue that due to the fact the distribution is not equal, i.e., some have more and others have less, therefore it is wrong, but this is an understanding only of a superficial nature. Markets consist of numerous sellers engaging in competition with each other to attract and satisfy the consumers in the best manner possible. In any market, the sellers who are able to attract and satisfy the consumers better than their competitors reap higher profits. These profits accrue to firms because they perform better than their competitors and in return get to accumulate money capital. This monetary capital then may allow them to be in a better position than other firms that have either lost monetary capital in terms of losses. This process wherein monetary capital gets transferred from lower-performing firms to higher-performing firms is the reason behind the allocative efficiency of the marketplace, which on one hand minimizes wastage of resources and on the other builds a structure of good decision making. This is an example of unequal outcomes that are borne out of the equal nature of competition. The equality of competition lies in the equal opportunity that is afforded to each firm such that it can enter the marketplace, use its resources in any way it desires to satisfy the consumers. While inequality of this kind is morally acceptable, since it is borne out of equal opportunity afforded to all, there are inequalities in the marketplace that are a result of special privileges that inhibit the equality of markets. A situation in a market in which a producer of a product gets exclusive rights to produce that commodity and subsequently gets an accumulated monetary capital based on the high monopoly profit it earns is an example of unequal outcomes, which creates inequality that isn't morally acceptable. Inequality in the Modern World Entrepreneurs produce with the expectation of future revenue, which they seek to derive from their consumers. They advance wages to workers before the output is produced in order to help the workers finance their consumption. The core competition between entrepreneurs on an economy-level basis happens in terms of the ability of entrepreneurs through their goods to get consumer's money income. The process by which consumers act in regard to their own desires by buying goods from entrepreneurs they prefer based on the relative abilities of goods to satisfy their desires naturally creates a distribution of money income where the bulk of the total amount of money that consumers received while working goes back to entrepreneurs who were best able to satisfy their desires. At the same time, a significant portion of entrepreneurs who advanced wages to workers and introduced additional money income into the society through investments fail to generate a revenue stream. This is the reason why it was found that every fifth new business in the UK fails within its first five years and that the Bureau of Labor Statistics (BLS) had shown in the US that about 20 percent of new businesses fail during their first year of trading. Less than 50 percent of businesses succeed past the first five years of operation, and by the tenth year in business, about 65 percent have failed. The results of maximizing economic efficiency that the market brings about is a result of the competitive process in which different firms engage with the central prize being chased is the consumers' money. The lack of understanding of the competitive process of the market has led to the formation of a number of misguided notions, the most impactful of them being the notion of big businesses and market share. Accumulation and Market Share Today big and successful companies such as Amazon are described as monopolies where its critics point to its increasing market share as indications of its market power. While amazon's market share has been increasing over the last decade, its much lower relative prices and better services to consumers appear as a contradiction this worldview.  As we have seen earlier, the ability to satisfy the consumer in a better manner than one's competitors leads to accumulation of money. Companies such as Amazon have been firms that have satisfied consumers in a much better manner than other firms, although this past success of a large market share doesn't provide Amazon "monopoly power," as critics believe. Large market share in traditional economic theory states that since the firm has managed to satisfy the consumers in a relatively better manner in the past, it gains a hold upon its buyers whereby it can effectively set its own market rules and gain a significant profit rate. However, this belief is based on a misunderstanding of how the competitive process in markets actually works. Large and successful firms such as Walmart and Amazon have significant portions of their own respective consumer market segments. While Amazon boasts of having the largest retail e-commerce market share of over 38 percent, a study found: In 43 metropolitan areas and 160 smaller markets, Walmart captures 50 percent or more of grocery sales, our analysis of 2018 spending data found. In 38 of these regions, Walmart's share of the grocery market is 70 percent or more. Despite such levels of market power that these firms seem to enjoy among consumers, their net profit margins, which illustrate how much of each dollar in revenue collected by a company translates into profit, have been consistently low and had been decreasing during the periods where they had gained their respective market shares. Walmart, which had a net profit of margin of about 3.33 percent in 2010, saw it consistently decline over an eight-year period to 1.02 percent in 2017, while its revenue grew from $403.12 billion to $510.16 billion during this period. Amazon had a similar story in which it went from 3.83 percent in 2010 to 1.20 percent in 2017, and even being in net loss for two years, its revenue during the same time going from $28.66 billion to $177.86 billion. The path followed by the net profit margins in both these cases is not a random phenomenon but a result of the competitive process. Firms competing in the market for money look to undercut competitors in order to attract the marginal consumers toward them. This allows them to engage in monetary accumulation, demonstrated by the increase in revenue in both cases, but it is not the case, as the critics claim, that the gaining of market power of a firm allows it to overcome the discipline of the market and become monopolies. Amazon's net profit margin, despite its massive accumulation of money and a market share of almost 50 percent, has experienced only an addition of 3.28 percent. Walmart during the same period experienced only a nominal increase of 1.24 percent. The fact that the gains in net profit are low is a testament to discipline of the competitive process, in which even the possibility that a competitor can take away a firm's customers keeps the big firms in line. The growth of the Dollar Tree, which caters to the needs of middle- and lower-income groups by undercutting Amazon and Walmart, has been astonishing. Its revenue has grown from about $4 billion to $26 billion, working within some of the overlapping consumer base of Amazon and Walmart with a consistent average net profit margin of more than 5 percent. These results demonstrate that a firm's market share is no guarantee against facing competition. Firms that have been successful continuously find ways to reduce their costs and undercut competitors, while firms that accumulate large sums of money succeed by becoming more efficient in serving needs of consumers. Thus, inequality borne out of the competitive process is morally acceptable, as it is the result of the superior ability of an enterprise to satisfy consumers in an environment in which opportunities to satisfy consumer desires is afforded to all. This posting includes an audio/video/photo media file: Download Now

Don't Blame Social Media. Blame the Politicization of Nearly Everything Posted: 25 Jun 2022 04:00 AM PDT The increased division between people based on political affiliation has been recognized by many and has frequently been attributed to technological developments. Outlets like Facebook and Twitter are blamed for increased hostility, disinformation, and hateful attitudes spreading across the political discourse. But maybe politics has itself to blame. The influence of social media is usually attributed to the platforms' fundamental structure. Government officials and those loyal to their message emphasize this a lot. Their explanation for polarization is that serious disagreement with their policies stems from "disinformation," which is amplified by algorithms that match users with information that they will be more likely to engage with. Supposed disinformation receives exponential aggrandizement because of platforms' promotion of popular content, which gives this kind of information better chances to become even more popular. Further, false statements tend to become popular because they evoke stronger emotions compared to the truth. Content creators are incentivized to postulate incorrect statements to market themselves, because the truth about the targets of such statements, such as government officials, wouldn't evoke such anger and dislike as can be observed today. Thus, supposedly, the political process is damaged, since the most popular ideas are false. Narrowly ascribing the drive toward increased disagreement, dislike, and other aspects of polarization to social media platforms is difficult. The empirical data that are sometimes claimed to support the notion that social media drives political polarization more accurately show that politics evoke polarization on social media. One study by Antoine Banks, Ernesto Calvo, David Karol, and Shibley Telhami presumably shows that browsing on Twitter can increase polarization. Their experiment shows that exposure to "negative tweets" about a candidate that you don't like can increase your immediate perception of the contrast between yourself and that candidate. Another study, by Jaeho Cho, Saifuddin Ahmed, Martin Hilbert, Billy Liu, and Jonathan Luu, showed that algorithmically recommended content on YouTube can influence the feelings one has toward a political candidate. Both of these highly esteemed, peer-reviewed studies are held up as prime examples of social media driving polarization, but they fail to show anything but that an increase in political content can increase indicators of polarization like perceived difference and personal emotions. The empirical literature also contributes with data that is directly inconsistent with the social media polarization case. Levi Boxell, Matthew Gentzkow, and Jesse M. Shapiro reveal that polarization has increased the most in the sixty-five and over age group—the group least likely to use social media but not unlikely to receive a lot of political content through other media sources, such as cable news! Further, the large increase in polarization in the developed world noted within social science is specific to the US. Other countries have experienced only a small increase, or even a decrease, in polarization, whereas social media use as a variable seems similar, or "constant," among the examined nations. Further, Isaac Waller and Ashton Anderson conducted an enormous investigation into Reddit, looking at individuals and communities and how the content and "level of polarization" changed over time. Among individuals and communities, change was rare and prior use did not explain later polarization. On the other hand, political events such as the 2016 US presidential election seem to explain waves of new users that have influenced the discussions on Reddit forums. Hence, Reddit became a more political place due to real political events and did not itself drive users to attend more to politics. Looking beyond empirical science, it's easy to find examples of social media use that seem counterindicative of a general polarization effect. Through social media, we have seen the emergence of collaborative connections in an unprecedented manner. Online communities share tips and tricks for everything from potted flowers to garage mechanics. They have helped local and international trade surge. Video game communities are connecting kids and adults around the world, enhancing language skills and advanced collaboration. People are trusting strangers to advise them about hotels, restaurants, and taxis. Programmers help each other and customers in an extremely decentralized and global infrastructure of collaboration. Anecdotally, social media have also fostered unity in cohorts otherwise unlikely to see eye to eye. Fan groups in European soccer are notorious for fuss and fights. Explicit hate due to historical rivalry, local loyalty, and even political affiliations is widespread. But when a group of very influential European soccer clubs made an effort to Americanize European soccer and create an National Hockey League–style covenant (the "European Soccer League") across the continent without risk of relegation, fans from all across Europe came together despite all differences and commonplace mutual hate. The engagement online was enormous, and the publicity became extremely negative for the clubs, since social media helped to canalize the different fractions' agreement. Fans from rival clubs also arranged physical protests outside stadiums and headquarters. A few clubs soon left the project, which was shortly thereafter canceled altogether. It's hard to imagine this kind of public collaboration in a conventional political setting. One would imagine such a blameworthy intervention as the lockdowns being the fuel needed, but lockdowns have instead distinguished themselves by accelerating polarization. Instead of blaming the structure of social media, it might be time to consider the structure of politics. The monopoly of violence and the administrative state's lust to utilize it for a growing body of projects turns everything into everybody's business. Any opinion that you hold may be related to my freedom or welfare. And it doesn't stop at specific issues. If I reckon that one party disregards my welfare or values at one time, that affects my general assessment of that party. If it happens a thousand times, the mere indication of support for that party will be annoying. Political discourse becomes an intricate web of cues about where others are positioning themselves and how the power struggle is going. Psychologically, it's no wonder that polarization increases as the political domain increases in scope, a trend that may be apparent specifically in the US. Social media is just another channel for politically relevant information, which makes people angry wherever it shows up. Social media can increase the velocity of information sharing, but if that causes polarization itself, we would expect it to be omnipresent in social media, which is not true. Polarization rather seems contingent on political information. If government officials and those loyal to them are concerned about polarization, they should contemplate how their own work is driving unrest on social media and elsewhere. This posting includes an audio/video/photo media file: Download Now

A Looming Recession: How Bad Is It? Posted: 24 Jun 2022 05:30 PM PDT Mises.org economist and senior editor Ryan McMaken joins Jeff and Bob for a hard look at the economic reality Americans face today. Shostak on the true definition of a recession: Mises.org/HAP349-Shostak Bob's article in the QJAE: Mises.org/HAP349-Murphy

We're All Nullifiers Now + Roe v. Wade Talk Posted: 24 Jun 2022 01:15 PM PDT On this episode of Radio Rothbard, Ryan McMaken and Tho Bishop talk about the increasing decay of federal legitimacy. Republicans are threatening to nullify federal law. Democrats want to nullify Supreme Court decisions. Oh, and the Supreme Court just eliminated one of the most political, ill-reasoned decisions in its history. Recommended Reading "Abolish the Supreme Court" by Ryan McMaken: Mises.org/RR_87_A "Make Every State a Sanctuary State" by Ryan McMaken: Mises.org/RR_87_B "End Roe v. Wade: It's Time to Defederalize Abortion Policy" by Ryan McMaken: Mises.org/RR_87_C Be sure to follow Radio Rothbard at Mises.org/RadioRothbard.

Even after Admitting She Underestimated Inflation, Janet Yellen Still Doesn't Understand What It Is Posted: 24 Jun 2022 12:30 PM PDT Janet Yellen admits she underestimated inflation, but she still does not realize that inflation is not higher prices, but the increase in fiat money that forces up prices. Original Article: "Even after Admitting She Underestimated Inflation, Janet Yellen Still Doesn't Understand What It Is" This Audio Mises Wire is generously sponsored by Christopher Condon.

The Pigouvian Tax Is a Myth Posted: 24 Jun 2022 12:00 PM PDT A familiar question in a standard microeconomics graduate seminar goes something like this: a Pigouvian tax is not market distorting. True or false? The expected answer: true. True? Any fiscal intervention being definitionally a distortion of how a given market would otherwise operate, how can this be? Spoiler alert: it boils down to little more than academic charlatanry. First, a Pigouvian tax is a type of tax "levied on an activity that raises a good's price to take into account the external marginal costs imposed by a negative externality" (all definitions come from Austan Goolsbee, Steven Levitt, and Chad Syverson's Microeconomics, 3rd ed.). Along with Pigouvian subsidies, which are "paid for an activity that can be used to decrease a good's price to take into account the external marginal benefits," such interventions rest on the same mistaken assumption as every other government intervention in the market: that the optimal quantity of a good and its price can be known in advance of the individual actions of consumers and producers in the given market. Apart from a jargonistic label meant to obscure this basic fact, a bit of mathematical manipulation is used to further belie the truth. Consider the following illustration of a hypothetical electricity market with a single producer: the government has decided that it would be better if the supplier produced less electricity at a higher cost to consumers, a dubious notion our current situation is well suited to illustrating. To the concerned technocrat, however, the SMC, or social marginal cost, of electricity, a completely fictional metric, is higher than the producer's marginal cost (a very real and measurable thing), thus necessitating intervention! Figure 1: A Pigouvian Tax Corrects for a Negative Externality solis-mullen_graph_1.jpg Source: Austan Goolsbee, Steven Levitt, and Chad Syverson, Microeconomics, 3rd ed. (New York: Worth Publishers, 2019). Applying its tax and shifting the supply curve up and to the left, the technocrat effectively chooses a price suited to their political agenda. Unsurprisingly, as with the progressives' obsession with handicapping and eliminating America's own fossil fuel industry, a policy meant to optimize a desired outcome fails, resulting in all new negative externalities—which no doubt must be addressed as well! The truth is that all subsidies, tariffs, regulations, and taxes distort how actors would otherwise behave. When tragic shortages result, however, as in the recent case of baby formula, the finger will be predictably pointed everywhere but at the source: government interventions in the market. The solution, it follows, is more intervention—stunting all possible innovation that might have sprung from other producers attempting to provide a service or good that addresses the supposed problem. The promise is always that this time is different, but history shows this to be either a deliberate lie or a lesson still unlearned. The total compensation of the average public sector employee being fully twice that of their private sector counterparts, it is just as easy to believe the one as the other. But in either event, it is unacceptable. This example of the regular poverty of academic economic thinking only further illustrates the need for alternative institutions to educate the public. It is the responsibility of concerned and honest intellectuals, therefore, to offer such alternatives, and to fight the obvious lies, half truths, and mistaken assumptions that drive much of what passes for public policy in the United States. As the Biden administration continues to pursue Donald Trump's turn toward autarky, we can expect ever more such interventions—such as subsidies to industries supposedly vital to "national security interests." One such example is the microchip industry, which because of covid-induced supply chain disruptions has seen billions mindlessly thrown down the domestic manufacturing drain. Though undeniably popular with voters, the long-term effects of overproduction will be lost in the shuffle of all the later problems the government's other interventions will have caused. Or perhaps the government will see fit to address that problem, too, with a new tax. Such is what passes for thinking in Washington and in the much of the ivory tower, and it is this intellectual poverty and obsession with control that is largely responsible for the multifront economic mess were are in now—not the actions of an autocrat half a world away, whatever the Republicans, Democrats, and their loyal corporate media and think tank accomplices would have you believe. This posting includes an audio/video/photo media file: Download Now

The Consumption Tax: A Critique Posted: 24 Jun 2022 12:00 PM PDT The Alleged Superiority of the Income Tax Orthodox neoclassical economics has long maintained that, from the point of view of the taxed themselves, an income tax is "better than" an excise tax on a particular form of consumption, since, in addition to the total revenue extracted, which is assumed to be the same in both cases, the excise tax weights the levy heavily against a particular consumer good. In addition to the total amount levied, therefore, an excise tax skews and distorts spending and resources away from the consumers' preferred consumption patterns. Indifference curves are trotted out with a flourish to lend the scientific patina of geometry to this demonstration. As in many other cases when economists rush to judge various courses of action as "good," "superior," or "optimal," however, the ceteris paribus assumptions underlying such judgments—in this case, for example, that total revenue remains the same—do not always hold up in real life. Thus, it is certainly possible, for political or other reasons, that one particular form of tax is not likely to result in the same total revenue as another. The nature of a particular tax might lead to less or more revenue than another tax. Suppose, for example, that all present taxes are abolished and that the same total is to be raised from a new capitation, or head, tax, which requires that every inhabitant of the United States pay an equal amount to the support of federal, state, and local government. This would mean that the existing total government revenue of the United States, which we estimate at $1.38 trillion—and here exact figures are not important—would have to be divided between an approximate total of 243 million people. Which would mean that every man, woman, and child in America would be required to pay to government each and every year, $5,680. Somehow, I don't believe that anything like this large a sum could be collectible by the authorities, no matter how many enforcement powers are granted the IRS. A clear example where the ceteris paribus assumption flagrantly breaks down. But a more important, if less dramatic, example is nearer at hand. Before World War II, Internal Revenue collected the full amount, in one lump sum, from every taxpayer, on March 15 of each year. (A month's extension was later granted to the long-suffering taxpayers.) During World War II, in order to permit an easier and far-smoother collection of the far-higher tax rates for financing the war effort, the federal government instituted a plan conceived by the ubiquitous Beardsley Ruml of R.H. Macy & Co., and technically implemented by a bright young economist at the Treasury Department, Milton Friedman. This plan, as all of us know only too well, coerced every employer into the unpaid labor of withholding the tax each month from the employee's paycheck and delivering it to the Treasury. As a result, there was no longer a need for the taxpayer to cough up the total amount in a lump sum each year. We were assured by one and all, at the time, that this new withholding tax was strictly limited to the wartime emergency, and would disappear at the arrival of peace. The rest, alas, is history. But the point is that no one can seriously maintain that an income tax deprived of withholding power could be collected at its present high levels. One reason, therefore, that an economist cannot claim that the income tax, or any other tax, is better from the point of view of the taxed person, is that total revenue collected is often a function of the type of tax imposed. And it would seem that, from the point of view of the taxed person, the less extracted from him the better. Even indifference-curve analysis would have to confirm that conclusion. If someone wishes to claim that a taxed person is disappointed at how little tax he is asked to pay, that person is always free to make up the alleged deficiency by making a voluntary gift to the bewildered but happy taxing authorities.1 A second insuperable problem with an economist's recommending any form of tax from the alleged point of view of the taxee, is that the taxpayer may well have particular subjective evaluations of the form of tax, apart from the total amount levied. Even if the total revenue extracted from him is the same for tax A and tax B, he may have very different subjective evaluations of the two taxing processes. Let us return, for example, to our case of the income as compared to an excise tax. Income taxes are collected in the course of a coercive and even brutal examination of virtually every aspect of every taxpayer's life by the all-seeing, all-powerful Internal Revenue Service. Each taxpayer, furthermore, is obliged by law to keep accurate records of his income and deductions, and then, painstakingly and truthfully, to fill out and submit the very forms that will tend to incriminate him into tax liability. An excise tax, say on whiskey or on movie admissions, will intrude directly on no one's life and income, but only into the sales of the movie theater or liquor store. I venture to judge that, in evaluating the "superiority" or "inferiority" of different modes of taxation, even the most determined imbiber or moviegoer would cheerfully pay far higher prices for whiskey or movies than neoclassical economists contemplate, in order to avoid the long arm of the IRS.2 The Forms of Consumption Tax In recent years, the old idea of a consumption tax in contrast to an income tax has been put forward by many economists, particularly by allegedly pro-free-market conservatives. Before turning to a critique of the consumption tax as a substitute for the income tax, it should be noted that current proposals for a consumption tax would deprive taxpayers of the psychic joy of eradicating the IRS. For while the discussion is often couched in either-or terms, the various proposals really amount to adding a new consumption tax on top of the current massive armamentarium of taxing power. In short, seeing that income tax levels may have reached their political limits for the time being, our tax consultants and theoreticians are suggesting a shining new tax weapon for the government to wield. Or, in the immortal words of that exemplary economic czar and servant of absolutism, Jean-Baptiste Colbert, the task of the taxing authorities is to "so pluck the goose as to obtain the largest amount of feathers with the least amount of hissing." We the taxpayers, of course, are the geese. But let us put the best face on the consumption-tax proposal, and deal with it as a complete replacement of the income tax by a consumption tax, with total revenue remaining the same. Our first point is that one venerable form of consumption tax not only retains existing IRS despotism but makes it even worse. This is the consumption tax first prominently proposed by Irving Fisher.3 The Fisher tax would retain the IRS, as well as the requirement that everyone keep detailed and faithful records and truthfully estimate his own taxes. But it would add something else. In addition to reporting one's income and deductions, everyone would be required to report his additions to or subtractions from capital assets (including cash) over the year. Then, everyone would pay the designated tax rate on his income minus his addition to capital assets, or net consumption. Or, contrarily, if he spent more than he earned over the year, he would pay a tax on his income plus his reduction of capital assets, again equaling his net consumption. Whatever the other merits or demerits of the Fisherine tax, it would add to IRS power over every individual, since the state of his capital assets, including his stock of cash, would now be examined with the same care as his income. A second proposed consumption tax, the VAT, or value-added tax, imposes a curious hierarchical tax on the "value added" by each firm and business. Here, instead of every individual, every business firm would be subjected to intense bureaucratic scrutiny, for each firm would be obliged to report its income and its expenditures, paying a designated tax on the net income. This would tend to distort the structure of business. For one thing, there would be an incentive for uneconomic vertical integration, since the fewer the number of times a sale takes place, the fewer the imposed taxes. Also, as has been happening in European countries with experience of the VAT, a flourishing industry may arise in issuing phony vouchers, so that businesses can overinflate their alleged expenditures, and reduce their reported value added. Surely a sales tax, other things being equal, is manifestly both simpler, less distorting of resources, and enormously less bureaucratic and despotic than the VAT. Indeed the VAT seems to have no clear advantage over the sales tax, except of course, if multiplying bureaucracy and bureaucratic power is considered a benefit. The third type of consumption tax is the familiar percentage tax on retail sales. Of the various forms of consumption tax, the sales tax surely has the great advantage, for most of us, of eliminating the despotic power of the government over the life of every individual, as in the income tax, or over each business firm, as in the VAT. It would not distort the production structure as would the VAT, and it would not skew individual preferences as would specific excise taxes. Let us now consider the merits or demerits of a consumption as against an income tax, setting aside the question of bureaucratic power. It should first be noted that the consumption tax and the income tax each carry distinct philosophical implications. The income tax rests necessarily on the ability-to-pay principle, namely the principle that if a goose has more feathers it is more ripe for the plucking. The ability-to-pay principle is precisely the creed of the highwayman, of taking where the taking is good, of extracting as much as the victims can bear. The ability-to-pay principle is the philosophical embodiment of the memorable answer of Willie Sutton when he was asked, perhaps by a psychological social worker, why he robbed banks. "Because," answered Willie, "that's where the money is." The consumption tax, on the other hand, can only be regarded as a payment for permission-to-live. It implies that a man will not be allowed to advance or even sustain his own life unless he pays, off the top, a fee to the State for permission to do so. The consumption tax does not strike me, in its philosophical implications, as one whit more noble, or less presumptuous, than the income tax. Proportionality and Progressivity: Who? Whom? One of the suggested virtues of the consumption tax advanced by conservatives is that, while the income tax can be and generally is progressive, the consumption tax is virtually automatically proportional. It is also claimed that progressive taxation is tantamount to theft, with the poor robbing the rich, whereas proportionality is the fair and ideal tax. In the first place, however, the Fisher-type consumption tax could well be every bit as progressive as the income tax. Even the sales tax is scarcely free from progressivity. For most sales taxes in practice exempt such products as food, exemptions that distort individual market preferences and also introduce progressivity of taxation. But is progressivity really the problem? Let us take two individuals, one who makes $10,000 a year and another who makes $100,000. Let us posit two alternative tax systems: one proportional, the other steeply progressive. In the progressive tax system, income-tax rates range from 1 percent for the $10,000-a-year man, to 15 percent for the man with the higher income. In the succeeding proportional system, let us assume, everyone, regardless of income, pays the same 30 percent of his income. In the progressive system, the low-income man pays $100 a year in taxes, and the wealthier pays $15,000, whereas in the allegedly fairer proportional system, the poorer man pays $3,000 instead of $100, while the wealthier pays $30,000 instead of $15,000. It is, however, small consolation to the higher-income person that the poorer man is paying the same percentage of income in tax as he, for the wealthier person is being mulcted far more than before. It is unconvincing, therefore, to the richer man to be told that he is now no longer being "robbed" by the poor, since he is losing far more than before. If it is objected that the total level of taxation is far higher under our posited proportional than progressive system, we reply that that is precisely the point. For what the higher-income person is really objecting to is not the mythical robbery inflicted upon him by "the poor"; his problem is the very real amount being extracted from him by the State. The wealthier man's real complaint, then, is not how badly he is being treated relative to someone else, but how much money is being extracted from his own hard-earned assets. We submit that progressivity of taxes is a red herring; that the real problem and proper focus should be on the amount that any given individual is obliged to surrender to the State.4 The State, of course, spends the money it receives on various groups, and those who claim that progressive taxation mulcts the rich on behalf of the poor argue by comparing the income status of the taxpayers with those on the receiving end of the State's largess. Similarly, the Chicago School claims that the tax system is a process by which the middle class exploits both the rich and the poor, while the New Left insists that taxes are a process by which the rich exploit the poor. All of these attempts misfire by unjustifiably bracketing as one class the payers to, and recipients from, the State. Those who pay taxes to the State, be they wealthy, middle class or poor, are certainly on net, a different set of people than those wealthy, middle-class, or poor, who receive money from State coffers, which notably includes politicians and bureaucrats as well as those who receive favors from these members of the State apparatus. It makes no sense to lump these groups together. It makes far more sense to realize that the process of tax and expenditures creates two and only two separate, distinct, antagonistic social classes, what Calhoun brilliantly identified as the (net) taxpayers and the (net) tax consumers, those who pay taxes and those who live off them. I submit that, looked at in this perspective, it also becomes particularly important to minimize the burdens which the State and its privileged tax consumers place on the productivity of the taxpayers.5 The Problem of Taxing Savings The major argument for replacing an income by a consumption tax is that savings would no longer be taxed. A consumption tax, its advocates assert, would tax consumption and not savings. The fact that this argument is generally advanced by free-market economists, in our day mainly by the supply-siders, strikes one immediately as rather peculiar. For individuals on the free market, after all, each decide their own allocation of income to consumption or to savings. This proportion of consumption to savings, as Austrian economics teaches us, is determined by each individual's rate of time preference, the degree by which he prefers present to future goods. For each person is continually allocating his income between consumption now, as against saving to invest in goods that will bring an income in the future. And each person decides the allocation on the basis of his time preference. To say, therefore, that only consumption should be taxed and not savings is to challenge the voluntary preferences and choices of individuals on the free market, and to say that they are saving far too little and consuming too much, and therefore that taxes on savings should be removed and all the burdens placed on present as compared to future consumption. But to do that is to challenge free-market expressions of time preference, and to advocate government coercion to forcibly alter the expression of those preferences, so as to coerce a higher saving-to-consumption ratio than desired by free individuals. We must, then, ask, By what standards do the supply-siders and other advocates of consumption taxes decide why and to what extent savings are too low and consumption too high? What are their criteria of "too low" or "too much," on which they base their proposed coercion over individual choice? And what is more, by what right do they call themselves advocates of the "free market" when they propose to dictate choices in such a vital realm as the proportion between present and future consumption? Supply-siders consider themselves heirs of Adam Smith, and in one sense they are right. For Smith, too, driven in his case by a deep-seated Calvinist hostility to luxurious consumption, sought to use government to raise the social proportion of investment to consumption beyond the desires of the free market. One method he advocated was high taxes on luxurious consumption; another was usury laws, to drive interest rates below the free-market level, and thereby coercively channel or ration savings and credit into the hands of sober, industrious prime business borrowers, and out of the hands of "projectors" and "prodigal" consumers who would be willing to pay high interest charges. Indeed, through the device of the ghostly Impartial Spectator, who, in contrast to real human beings, is indifferent to the time at which he will receive goods, Smith virtually held a zero rate of time preference to be the ideal.6 The only coherent argument offered by advocates of consumption against income taxation is that of Irving Fisher, based on suggestions in John Stuart Mill.7 Fisher argued that, since the goal of all production is consumption, and since all capital goods are only way stations on the way to consumption, the only genuine income is consumption spending. The conclusion is quickly drawn that therefore only consumption income, not what is generally called "income," should be subject to tax. More specifically, savings and consumption, it is alleged, are not really symmetrical. All saving is directed toward enjoying more consumption in the future. Potential present consumption is foregone in return for an expected increase in future consumption. The argument concludes that therefore any return on investment can only be considered a "double counting" of income, in the same way that a repeated counting of the gross sales of, say, a case of Wheaties from manufacturer to jobber to wholesaler to retailer as part of net income or product would be a multiple counting of the same good. This reasoning is correct as far as it goes in explaining the consumption-savings process, and is quite helpful in leveling a critique of conventional national income or product statistics. For these statistics carefully leave out all double or multiple counting in order to arrive at total net product, yet they arbitrarily include in total net income, investment in all capital goods lasting longer than one year—a clear example itself of double counting. Thus, the current practice absurdly excludes from net income a merchant's investment in inventory lasting 11 months before sale, but includes in net income investment in inventory lasting for 13 months. The cogent conclusion is that an estimate of social or national income should include only consumer spending.8 Despite the many virtues of the Fisher analysis, however, it is impermissible to leap to the conclusion that only consumption should be taxed rather than income. It is true that savings leads to a greater supply of consumer goods in the future. But this fact is known to all persons; that is precisely why people save. The market, in short, knows all about the productive power of savings for the future, and allocates its expenditures accordingly. Yet even though people know that savings will yield them more future consumption, why don't they save all their current income? Clearly, because of their time preferences for present as against future consumption. These time preferences govern people's allocation between present and future. Every individual, given his money "income"—defined in conventional terms—and his value scales, will allocate that income in the most desired proportion between consumption and investment. Any other allocation of such income, any different proportions, would therefore satisfy his wants and desires to a lesser extent and lower his position on his value scale. It is therefore incorrect to say that an income tax levies an extra burden on savings and investment; it penalizes an individual's entire standard of living, present and future. An income tax does not penalize saving per se any more than it penalizes consumption. Hence, the Fisher analysis, for all its sophistication, simply shares the other consumption-tax advocates' prejudices against the voluntary free-market allocations between consumption and investment. The argument places greater weight on savings and investment than the market does. A consumption tax is just as disruptive of voluntary time preferences and market allocations as is a tax on savings. In most or all other areas of the market, free-market economists understand that allocations on the market tend always to be optimal with respect to satisfying consumers' desires. Why then do they all too often make an exception of consumption-savings allocations, refusing to respect time-preference rates on the market? Perhaps the answer is that economists are subject to the same temptations as anyone else. One of these temptations is to call loudly for you, him, and the other guy to work harder, and save and invest more, thereby increasing one's own present and future standards of living. A follow-up temptation is to call for the gendarmes to enforce that desire. Whatever we may call this temptation, economic science has nothing to do with it. The Impossibility of Taxing Only Consumption Having challenged the merits of the goal of taxing only consumption and freeing savings from taxation, we now proceed to deny the very possibility of achieving that goal, i.e., we maintain that a consumption tax will devolve, willy-nilly, into a tax on income and therefore on savings as well. In short, that even if, for the sake of argument, we should want to tax only consumption and not income, we should not be able to do so. Let us take, first, the Fisher plan, which, seemingly straightforward, would exempt saving and tax only consumption. Let us take Mr. Jones, who earns an annual income of $100,000. His time preferences lead him to spend 90 percent of his income on consumption, and save and invest the other 10 percent. On this assumption, he will spend $90,000 a year on consumption, and save-and-invest the other $10,000. Let us assume now that the government levies a 20 percent tax on Jones's income, and that his time-preference schedule remains the same. The ratio of his consumption to savings will still be 90:10, and so, after-tax income now being $80,000, his consumption spending will be $72,000 and his saving-investment $8,000 per year.9 Suppose now that instead of an income tax, the government follows the Irving Fisher scheme, and levies a 20 percent annual tax on Jones's consumption. Fisher maintained that such a tax would fall only on consumption, and not on Jones's savings. But this claim is incorrect, since Jones's entire savings-investment is based solely on the possibility of his future consumption, which will be taxed equally. Since future consumption will be taxed, we assume, at the same rate as consumption at present, we cannot conclude that savings in the long run receives any tax exemption or special encouragement. There will therefore be no shift by Jones in favor of savings-and-investment due to a consumption tax.10 In sum, any payment of taxes to the government, whether they be consumption or income, necessarily reduces Jones's net income. Since his time-preference schedule remains the same, Jones will therefore reduce his consumption and his savings proportionately. The consumption tax will be shifted by Jones until it becomes equivalent to a lower rate of tax on his own income. If Jones still spends 90 percent of his net income on consumption, and 10 percent on savings-investment, his net income will be reduced by $15,000, instead of $20,000, and his consumption will now total $76,000, and his savings-investment $9,000. In other words, Jones's 20 percent consumption tax will become equivalent to a 15 percent tax on his income, and he will arrange his consumption-savings proportions accordingly.11 We saw at the beginning of this paper that an excise tax skewing resources away from more desirable goods does not necessarily mean we can recommend an alternative, such as an income tax. But how about a general sales tax, assuming that one can be levied politically with no exemptions of goods or services? Wouldn't such a tax burden be only on consumption and not income? In the first place, a sales tax would be subject to the same problems as the Fisher consumption tax. Since future and present consumption would be taxed equally, there would again be shifting by each individual so that future as well as present consumption would be reduced. But, furthermore, the sales tax is subject to an extra complication: the general assumption that a sales tax can be readily shifted forward to the consumer is totally fallacious. In fact, the sales tax cannot be shifted forward at all! Consider: all prices are determined by the interaction of supply, the stock of goods available to be sold, and by the demand schedule for that good. If the government levies a general 20 percent tax on all retail sales, it is true that retailers will now incur an additional 20 percent cost on all sales. But how can they raise prices to cover these costs? Prices, at all times, tend to be set at the maximum net revenue point for each seller. If the sellers can simply pass the 20 percent increase in costs onto the consumers, why did they have to wait until a sales tax to raise prices? Prices are already at highest net income levels for each firm. Any increase in cost, therefore, will have to be absorbed by the firm; it cannot be passed forward to the consumers. Put another way, the levy of a sales tax has not changed the stock already available to the consumers; that stock has already been produced. Demand curves have not changed, and there is no reason for them to do so. Since supply and demand have not changed, neither will price. Or, looking at the situation from the point of the demand and supply of money, which help determine general price levels, the supply of money has remained as given, and there is also no reason to assume a change in the demand for cash balances either. Hence, prices will remain the same. It might be objected that, even though shifting forward to higher prices cannot occur immediately, it can do so in the longer run, when factor and resources owners will have a chance to lower their supply at a later point in time. It is true that a partial excise can be shifted forward in this way, in the long run, by resources leaving, let us say, the liquor industry and shifting into other untaxed industries. After a while, then, the price of liquor can be raised by a liquor tax, but only by reducing the future supply, the stock of liquor available for sale at a future date. But such "shifting" is not a painless and prompt passing on of a higher price to consumers; it can only be accomplished in a longer run by a reduction in the supply of a good. The burden of a sales tax cannot be shifted forward in the same way, however. For resources cannot escape a sales tax as they can an excise tax—by leaving the liquor industry and moving to another. We are assuming that the sales tax is general and uniform; it cannot therefore, be escaped by resources except by fleeing into idleness. Hence, we cannot maintain that the sales tax will be shifted forward in the long run by all supplies of goods falling by something like 20 percent (depending on elasticities). General supplies of goods will fall, and hence prices rise, only to the relatively modest extent that labor, seeing a rise in the opportunity cost of leisure because of a drop in wage incomes, will leave the labor force and become voluntarily idle (or more generally will lower the number of hours worked).12 In the long run, of course, and that run is not very long, the retail firms will not be able to absorb a sales tax; they are not unlimited pools of wealth ready to be confiscated. As the retail firms suffer losses, their demand curves for all intermediate goods, and then for all factors of production, will shift sharply downward, and these declines in demand schedules will be rapidly transmitted to all the ultimate factors of production: labor, land, and interest income. And since all firms tend to earn a uniform interest return determined by social time preference, the incidence of the fall in demand curves will rest rather quickly on the two ultimate factors of production: land and labor. Hence, the seemingly common-sense view that a retail sales tax will readily be shifted forward to the consumer is totally incorrect. In contrast, the initial impact of the tax will be on the net incomes of retail firms. Their severe losses will lead to a rapid downward shift in demand curves, backward to land and labor, i.e., to wage rates and ground rents. Hence, instead of the retail sales tax being quickly and painlessly shifted forward, it will, in a longer run, be painfully shifted backward to the incomes of labor and landowners. Once again, an alleged tax on consumption, has been transmuted by the processes of the market into a tax on incomes. The general stress on forward shifting, and neglect of backward shifting, in economics is due to the disregard of the Austrian theory of value, and its insight that market price is determined only by the interaction of an already-produced stock, with the subjective utilities and demand schedules of consumers for that stock. The market supply curve, therefore, should be vertical in the usual supply-demand diagram. The standard Marshallian forward-sloping supply curve illegitimately incorporates a time dimension within it, and it therefore cannot interact with an instantaneous, or freeze-frame, market-demand curve. The Marshallian curve sustains the illusion that higher cost can directly raise prices, and not only indirectly by reducing supply. And while we may arrive at the same conclusion as Marshallian supply-curve analysis for a particular excise tax, where partial equilibrium can be used, this standard method breaks down for general sales taxation. Conclusion: The Amount vs. the Form of Taxation We conclude with the observation that there has been far too much concentration on the form, the type of taxation, and not enough on its total amount. The result has been endless tinkering with kinds of taxes, coupled with neglect of a far more critical question: how much of the social product should be siphoned away from the producers? Or, how much income should be retained by the producers and how much income and resources coercively diverted for the benefit of nonproducers? It is particularly odd that economists who proudly refer to themselves as advocates of the free market have in recent years led the way in this mistaken path. It was allegedly free-market economists for example who pioneered in and propagandized for the alleged Tax Reform Act of 1986. This massive change was supposed to bring us "simplification" of our income taxes. The result, of course, was so simple that even the IRS, let alone the fleet of tax lawyers and tax accountants, has had great difficulty in understanding the new dispensation. Peculiarly, moreover, in all the maneuverings that led to the Tax Reform Act, the standard held up by these economists, a standard apparently so self-evident as to need no justification, was that the sum of tax changes be "revenue neutral." But they never told us what is so great about revenue neutrality. And of course, by cleaving to such a standard, the crucial question of total revenue was deliberately precluded from the discussion. Even more egregious was an early doctrine of another group of supposed free-market advocates, the supply-siders. In their original Laffer-curve manifestation, now happily consigned to the dustbin of history, the supply-siders maintained that the tax rate that maximizes tax revenue is the "voluntary" rate, and a rate that should be diligently pursued. It was never pointed out in what sense such a tax rate is "voluntary," or what in the world the concept of "voluntary" has to do with taxation in the first place. Much less did the supply-siders in their Lafferite form ever instruct us why we must all uphold maximizing government revenue as our beau idéal. Surely, for free-market proponents, one might think that minimizing government depredation of the private product would be a bit more appealing. It is with relief that one turns for a realistic as well as a genuine free-market approach to Jean-Baptiste Say, who contributed considerably more to economics than Say's law. Say was under no illusion that taxation is voluntary nor that government spending contributes productive services to the economy. Say pointed out that, in taxation, The government exacts from a taxpayer the payment of a given tax in the shape of money. To meet this demand, the taxpayer exchanges part of the products at his disposal for coin, which he pays to the tax-gatherers. Eventually, the government spends the money on its own needs, so that in the end … this value is consumed; and then the portion of wealth, which passes from the hands of the taxpayer into those of the tax-gatherer, is destroyed and annihilated. Note that, as in the case of the later Calhoun, Say sees that taxation creates two conflicting classes, the taxpayers and the tax gatherers. Were it not for taxes, the taxpayer would have spent his money on his own consumption. As it is, "The state … enjoys the satisfaction resulting from that consumption." Say proceeds to denounce the prevalent notion, that the values, paid by the community for the public service, return it again … that what government and its agents receive, is refunded again by their expenditures. Say angrily comments that this "gross fallacy … has been productive of infinite mischief, inasmuch as it has been the pretext for a great deal of shameless waste and dilapidation." On the contrary, Say declares, "the value paid to government by the taxpayer is given without equivalent or return; it is expended by the government in the purchase of personal service, of objects of consumption." Say goes on to denounce the "false and dangerous conclusion" of economic writers that government consumption increases wealth. Say noted bitterly that "if such principles were to be found only in books, and had never crept into practice one might suffer them without care or regret to swell the monstrous heap of printed absurdity." But unfortunately, he noted, these notions have been put into "practice by the agents of public authority, who can enforce error and absurdity at the point of a bayonet or mouth of the cannon."13 Taxation, then, for Say is the transfer of a portion of the national products from the hands of individuals to those of the government, for the purpose of meeting the public consumption of expenditure.… It is virtually a burthen imposed upon individuals, either in a separate or corporate character, by the ruling power … for the purpose of supplying the consumption it may think proper to make at their expense.14 But taxation, for Say, is not merely a zero-sum game. By levying a burden on the producers, he points out, taxes, over time, cripple production itself. Writes Say, Taxation deprives the producer of a product, which he would otherwise have the option of deriving a personal gratification from, if consumed … or of turning to profit, if he preferred to devote it to an useful employment.… [T]herefore, the subtraction of a product must needs diminish, instead of augmenting, productive power. J.B. Say's policy recommendation was crystal clear and consistent with his analysis and that of the present paper. "The best scheme of [public] finance is, to spend as little as possible; and the best tax is always the lightest." This article serves as a complete response to Alan Greenspan's call for a consumption tax. It originally appeared in the Review of Austrian Economics 7, no. 2 (1994): 75–90. It appeared on mises.org on March 18, 2005. 1. In 1619, Father Pedro Fernandez Navarrete, "Canonist Chaplain and Secretary of his High Majesty," published a book of advice to the Spanish monarch. Sternly advising a drastic cut in taxation and government spending, Father Navarrete recommended that, in the case of sudden emergencies, the king rely solely on soliciting voluntary donations. Alejandro Antonio Chafuen, Christians for Freedom: Late Scholastic Economics (San Francisco: Ignatius Press, 1986), p. 68. 2. It is particularly poignant, on or near any April 15, to contemplate the dictum of Father Navarrete, that "the only agreeable country is the one where no one is afraid of tax collectors," Chafuen, Christians for Freedom, p. 73. Also see Murray N. Rothbard, "Review of A. Chafuen, Christians for Freedom: Late Scholastic Economics," International Philosophical Quarterly 28 (March 1988): 112–14. 3. See, for example, Irving and Herbert N. Fisher, Constructive Income Taxation (New York: Harper, 1942). 4. For a fuller treatment, and a discussion of who is being robbed by whom, see Murray N. Rothbard, Power and Market: Government and the Economy, 2nd ed. (Kansas City: Sheed Andrews & McMeel, 1977), pp. 120–21. 5. See Murray N. Rothbard, Man, Economy, and State: A Treatise on Economic Principles. 6. See the illuminating article by Roger W. Garrision, "West's 'Cantillon and Adam Smith': A Comment*," Journal of Libertarian Studies 7 (Fall 1985): 291–92. 7. See Rothbard, Power and Market, pp. 98–100. 8. We omit here the fascinating question of how government's activities should be treated in national income statistics. See Rothbard, Man, Economy, and State, 2, pp. 815–20; idem, Power and Market, pp. 199–201; idem, America's Great Depression, 4th ed. (New York: Richardson & Snyder, 1983), pp. 296–304; Robert Batemarco, "GNP, PPR, and the Standard of Living," Review of Austrian Economics 1 (1987): 181–86. 9. We set aside the fact that, at the lower amount of money assets left to him, Jones's time-preference rate, given his time-preference schedule, will be higher, so that his consumption will be higher, and his savings lower, than we have assumed. 10. In fact, per note 9, supra, there will be a shift in favor of consumption because a diminished amount of money will shift the taxpayer's time preference rate in the direction of consumption. Hence, paradoxically, a pure tax on consumption will and up taxing savings more than consumption! See Rothbard, Power and Market, pp. 108–11. 11. If net income is defined as gross income minus amount paid in taxes, and for Jones, consumption is 90 percent of net income, a 20 percent consumption tax on $100,000 income will be tantamount to a 15 percent tax on this income. Rothbard, Power and Market, pp. 108–11. The basic formula is that net income, where G=gross income, t=the tax rate on consumption, and c, consumption as percent of net income, are givens of the problem, and N = G – T by definition, where T is the amount paid in consumption tax. 12. Rothbard, Power and Market, pp. 88-93. Also see the notable article by Harry Gunnison Brown, "The Incidence of a General Sales Tax," in Readings in the Economics of Taxation, R. Musgrave and C. Shoup, eds. (Homewood, Ill: Irwin, 1959), pp. 330–39. 13. Jean-Baptiste Say, A Treatise on Political Economy, 6th ed. (Philadelphia: Claxton, Remsen & Heffelfinger, 1880), pp. 412–15. Also see Murray N. Rothbard, "The Myth of Neutral Taxation," Cato Journal 1 (Fall 1981): 551–54. 14. Say, Treatise, p. 446.

Guns and Self-Defense Posted: 24 Jun 2022 09:00 AM PDT The recent school shootings have led many people to want to restrict or deny altogether our right to own guns, and in these troubled times, it is all the more essential to bear in mind the reasons for that right. To that end, I'd like in this week's column to discuss the excellent essay by the philosopher Lester H. Hunt "Guns and Self-Defense," which has just been published in The Routledge Companion to Libertarianism. (It's a nice touch to have someone named Hunt defending gun ownership.) Hunt points out that from a libertarian point of view, the case that we have a right to own guns is straightforward, and, perhaps to one's surprise, this case does not depend on the right of self-defense, though the right of self-defense is of course relevant to when you may shoot others. Rather, we have a right to do whatever does not involve violence or the threat of violence against others, and the mere ownership of a gun passes this test. What then are the proper limits to state interference with the ownership and use of such weapons? On the basis of the libertarian version of Lockean natural rights theory, the answer would seem to be fairly straightforward. Merely having a gun in one's possession is not what Nozick called a "boundary crossing."… it does not involve a physical invasion of any territory over which others have legitimate rights. Even shooting somebody is no violation, providing that the victim is an aggressor and the shooting is a reasonably necessary act of self-defense…. There is nothing about being a civilian that makes one, per se, a violator of the rights of others. To use the coercive powers of the state to deprive people of access to weapons, apart from any evidence that they will use them for criminal purposes, is an illegitimate use of state coercion against the innocent. (Hunt is in the article writing from a minimal state rather than an anarchist position, but the issue can be readily reframed to cover the latter view. The question would become "Does the libertarian law code allow a ban on, or restriction of, gun ownership?) The case seems closed, but, as Hunt notes, most people are not libertarians. Can the right to gun ownership be defended on nonlibertarian grounds, in a way that will have wider appeal than arguments from libertarian premises? Here the right to self-defense assumes primary importance, as most people will acknowledge this right, although sometimes in an attenuated way. You might be inclined to object to Hunt's procedure in this way. Shouldn't we support our views from what we take to be the correct premises, rather than assume other premises for the purposes of persuasion? Hunt could reply to this that the premise from which he starts, the right of self-defense, is one that libertarians accept, so he is not open to objection on this score. If, as the morality of common sense suggests, we have a right to self-defense, how can it be denied that we have the right to own and use guns? Guns are a very effective means of self-defense. "Since a gun is the one instrumentality for self-defense that comes closest to being an effective means, the right of self-defense brings with it the right to acquire and use a gun." One answer, given by the philosopher Jeff McMahan, is that this argument looks at the right to self-defense in the wrong way. It is not, as McMahan takes it, a right in itself but a mere means to safety. As Hunt explains, McMahan "maintains that a gun ban is, quite simply, good for everyone. The right of self-defense is a mere means to increasing one's safety, and since a gun ban achieves that result for everyone, it does not violate that right." Hunt objects that this argument misconceives the nature of the right of self-defense, taking it to be a right to be in a certain state, "safety," rather than an "option right" to defend oneself. McMahan's argument only works if one makes a certain assumption: that the right of self-defense is a right to be in a certain state: namely, that of having the probability of bad future events (injury, property loss, death, and so forth) reduced … the conception of the right of self-defense that is typically assumed by these [restrictionist] arguments is not the one found in common-sense morality and is highly counterintuitive. The self-defense right that is recognized by common-sense morality is clearly … an option right, to do or not do something. It is a right to defend oneself…. By itself, this does not mean that these restrictionists are wrong, but it does seem to mean that there is a burden of proof that has not yet been shouldered by them: how might they justify this sharp departure from ordinary morality? One might object to Hunt in this way. "Aren't arguments about whether the right to self-defense is an 'option' or a 'welfare' right a matter of interest only to philosophers? How can you claim that the answer you want is part of 'common-sense' morality? Common-sense morality is not concerned with this issue." Hunt has a convincing response to this objection. The welfare rights view is not just a different way of looking at the right of self-defense but abolishes that right altogether, and that is indeed something of great concern to commonsense morality. "This self-defense welfare-right is not a right of self-defense at all since it implies … that if some other agency has put you in the right state—namely, safety—you have no further rights to do anything in the matter." Readers will, I am sure, have taken note of a simpler objection to McMahan's argument; it does not work on its own terms. His argument is that if there is a total gun ban, then we are all "safe." If that is true, why would anyone need a gun? But of course it isn't true. McMahan is making the risible assumption that the ban is totally effective, but it is much more likely that criminals will disobey the ban than that ordinary people will, as Hunt does not fail to mention. We would not all be safe with a gun ban; far from it. Further, even if the ban on guns were totally effective, this would not make people safe, and this point is different from that of safety against government aggression, which Hunt doesn't deal with in his article. People would not be safe from physical assault that doesn't use guns, and strong, aggressive people in a society without guns would have a great advantage over the weak. If you are hunting for good arguments in favor of our right to own and use guns, I highly recommend Hunt's outstanding article.

No, It's Not "Greed" or "Price Gouging" That's Driving up Gas Prices Posted: 24 Jun 2022 06:30 AM PDT By late 2021, fueled by trillions in newly printed money, gasoline prices had surged to ten-year highs. Now, even in inflation-adjusted terms, gasoline prices are surging to new highs. Original Article: "No, It's Not "Greed" or "Price Gouging" That's Driving up Gas Prices" This Audio Mises Wire is generously sponsored by Christopher Condon.

Government Intervention Is Fueling Food Shortages Posted: 24 Jun 2022 04:00 AM PDT Many have read that there is a food crisis looming and there are significant concerns about grain shortages. The main reason for this possible crisis is the Ukraine invasion. However, this is not the full picture. Many countries around the world have a large deficit of cereal, which is essential to feed livestock. The main culprit is rising government intervention, which has made costs soar even in periods of low energy prices and an unsustainable level of restrictions that has made it impossible for farmers to continue planting and producing grain. In 2020, Ukraine produced 4 percent of the world's wheat production and Russia 10 percent. Together they produce almost as much wheat as the entire EU, but the reason is that the EU has made it impossible to produce wheat in an economical way. According to the European Union website, the main costs (categories of expenditure) in cereal production are seeds, fertilizers, crop protection products, and machinery/infrastructure. According to the EU report on cereal farms, the EU average total operating cost for cereals was €635 per hectare in 2020. In terms of crops, the EU admits that maize production has higher costs at all levels except for crop protection, which is higher for common wheat production. Typically, cereal farms in economies with high levels of government intervention were already loss making in 2019, according to the Center for Commercial Agriculture. "Average losses for the typical farms from Argentina, Australia, Indiana, and Kansas were $46, $1, $94 and $16 per acre, respectively during the five-year period ($114, $1, $231, and $39 per hectare, respectively). German farms had the highest direct cost, operating cost, and overhead cost per hectare ($535, $573, and $506 per hectare, respectively)," As such, German farms were also uneconomical. While most average farms yielded a loss even in prepandemic periods, the highest economic profit earned was $68 per acre ($167 per hectare) for the typical Russian farm. The rising cost of production came from increasing administrative burdens, environmental pressures, and rising taxes for farmers in the middle of challenging weather periods, as we have seen throughout Europe. In Europe, farmers have seen rising minimum wages and increasing direct and indirect taxes, on top of soaring energy costs driven by the multiplying cost of CO2 emissions even before oil and natural gas rose due to the war. The average direct and indirect cost has increased even in the periods when inflation in the energy inputs was low. This has made the marginal producers react less quickly to price changes and has caused many farms simply to give up. In any other circumstance, the partial collapse of supply from Ukraine and Russia would not have a significant impact, as analyst Aaron Smith points out. "How common are market shocks of this magnitude? Russian and Ukrainian wheat exports were 7.3% of global production in 2020. Wheat production declined 6.3% in 2010, in part due to a drought that reduced Russian production by 20 million metric tons. Similarly large declines also occurred in 1991, 1994, 2003, and 2018." This may prevent a global food crisis, although countries like Egypt, Lebanon, Sudan, and other Middle Eastern and North African countries may have a very difficult time, as between 60 and 90 percent of their wheat supply comes from Ukraine and Russia. We cannot forget that the "Arab Spring" protests at the end of 2010 came after the unbearable rise in food prices. The risk of a similar situation now is not small. Governments around the world should have learned from these previous experiences and eased the administrative and tax burdens on farming to allow the market to provide flexibility in times of concern about the supply from one or two nations. Instead, we have seen more rigidity, taxes, and higher restrictions that have limited the possibility of easing supply chain issues. Excessive regulation and cost-driven government nudging have limited farmers' ability to successfully face external challenges. Raising the biofuel mandate, which requires that a minimum 10 percent of all US gasoline come from corn ethanol, when millions may face food shortages is one of those illogical decisions. Neither the Ukraine war nor tough weather changes would cause a global food shortage in a normal environment of free trade and ease of doing business. If there is a risk of food shortage, it comes from years of limiting the farmers' possibilities and continuously raising their production costs with unnecessary direct and hidden taxes. This posting includes an audio/video/photo media file: Download Now

Who Owns Federal Reserve Losses and How Will they Impact Monetary Policy? Posted: 23 Jun 2022 12:45 PM PDT Introduction Among Federal Reserve officials and many economists, it is fashionable to argue that any losses the Federal Reserve should suffer, no matter how large, will have no operational consequence. Is this true? If so, how does the Fed account for its losses and stay solvent? And who ends up paying for these losses? As the Fed executes its strategy to reign in run-away inflation, the answers to these questions take center stage as the Fed has already experienced mark-to-market losses of epic proportions and will soon post large operating losses, something it has never faced in its 108-year history. We estimate that, between December 31, 2021 and the end of May 31, 2022, the Federal Reserve lost $540 billion in market value on its huge portfolio of investments in Treasury bonds and mortgage securities. To put this loss in perspective, $540 billion is equivalent to 60 percent of the value of the Federal Reserve System's entire asset holdings on September 1, 2008, just prior to the onset of the financial crisis. $540 billion is more than 13 times the Federal Reserve System's recently reported consolidated capital of $41 billion meaning that the market value of the Fed's outstanding liabilities—primarily member bank reserves and Federal Reserve notes—exceed the market value of the assets the Fed owns by about half a trillion dollars. As interest rates go higher, this loss increases. Moreover, if the Fed's inflation-fighting campaign eventually requires short-term interest rates to rise above 2.7 percent, we project the Federal Reserve will experience net operating losses, in addition to its mark-to-market losses.  Unlike banks and other financial institutions, no matter how big the losses it may face and how negative its true capital position, the Federal Reserve will not fail. But if losses, however large, can't end the Fed, who pays for these losses? Will the Fed's shareholders be hit in some fashion or will the losses be monetized and contribute to spiraling inflation? Should member banks be paid interest when the interest payments cause Federal Reserve losses? In recent years, questions like these have been irrelevant because the Fed has made very large profits. But this year is different. Federal Reserve officials try to downplay the gravity of these issues. For example, at a recent Federal Reserve Bank of Atlanta Financial Markets Conference, Federal Reserve Bank of Cleveland president Loretta Mester said that losses would have no impact on the Fed's ability to conduct monetary policy, but admitted they could raise "communication challenges" for the system. This rather cavalier treatment of massive Federal Reserve losses is curious since it is potentially at odds with the way Federal Reserve losses should be treated according to the Federal Reserve Act. Moreover, given the large interest income banks earn on their reserve balances, the issue of burden sharing of Federal Reserve System losses may become much more contentious as the Fed executes its inflation-fighting policies in the coming months. The real story of how the Fed accounts for losses, how the losses impact monetary policy, and who ultimately pays for these losses is a complicated one. The details are in some little-known provisions of the Federal Reserve Act of 1913, in more recent Federal Reserve Board policy decisions regarding the Fed's accounting standards, in legislation changing its dividend and capital surplus policies, and in its post-financial crisis decision to pay interest on banks' reserve accounts. The Federal Reserve Act stipulates that Federal Reserve shareholders—the member banks-- should bear at least some Federal Reserve System losses, but to date, this has never happened. "Innovations" in accounting policies adopted by the Federal Reserve Board in 2011 suggest that the Board intends to ignore the law and monetize Federal Reserve losses, thereby transferring them indirectly through inflation to anyone holding Federal Reserve notes, dollar denominated cash balances and fixed-rate assets. Federal Reserve System Current and Prospective Losses In the Federal Reserve System's most recent financial statements for the quarter ending March 31, 2022, the fair value note to the statements shows a total unrealized capital loss of $458 billion during the quarter on the Fed's $8.8 trillion book value of the Fed's System Open Market Account (SOMA) securities holdings. This loss took the fair value of the portfolio from a mark-to-market gain of $128 billion on December 31, 2021, to a mark-to-market loss of $330 billion on March 31. With interest rates continuing to increase, we estimate that the Fed's unrealized capital loss grew by an additional $210 billion, bringing the Fed's total unrecognized capital loss to an estimated $540 billion as of May 31, 2022. Losses continued to grow through mid-June and should the Fed maintain its plan to continue raising interest rates to fight inflation, these losses will only increase. If the Fed was a bank or other regulated financial institution, it would be closed because it is already deeply economically insolvent. In addition to the deleterious impact of rising interest rates on the market value of its SOMA portfolio, rising interest rates will sharply reduce the Fed's net interest income. In the first quarter of 2022, the Fed reported net interest earnings of $35 billion which, when netted against expenses, yielded a reported operating income of $32 billion, a figure that excludes the mark-to-market loss on its securities portfolio. As interest rates continue to increase, the Fed net interest revenue and operating income will decline as the Fed pays higher interest rates on $3.3 trillion in member bank reserve balances and its nearly $2.3 trillion (as of June 1) in reverse repurchase agreements while it earns interest on the largely fixed-rate securities its SOMA portfolio. According to our estimates, if short-term interest rates were to reach 2.7 percent, the Fed's net interest income would no longer be sufficient to cover its approximately $9 billion in annual operating costs, and the Fed would post an annual operating loss. This fact is especially relevant given that the FOMC forecast has the federal funds rate at 3.4 percent by year-end 2022. With annual inflation currently running at 8.6 percent, 3.4 percent may not be a high enough short-term interest rate to tame inflationary pressures. Federal Funds futures and several bank economists project that policy rates will need to rise to 4 percent or higher in 2023. Ignoring market-to-market losses on its SOMA portfolio, and absent any realized losses from SOMA asset sales, we project that the Fed will post an annual operating loss of $62 billion if short-term rates rise to 4 percent. A $62 billion loss is 150 percent of the Federal Reserve system's current capital. This unenviable financial situation in which the Fed has placed itself—huge mark-to-market investment losses and declining, and eventually negative operating income—is the predictable consequence of the balance sheet it has created when the stance of Fed monetary policy transitions to fighting inflation. The balance sheet now combines paying rising rates of interest on bank reserves and reverse repurchase transactions after more than a decade of Fed quantitative easing and zero interest rate policies that stuffed the Fed's balance sheet with low-yielding long-term fixed rate securities. In short, the Fed's earning dynamics now resemble those of a typical failing 1980s savings and loan. Does the Federal Reserve Need a Positive Capital Cushion? In 1913, the members of the 63rd Congress which passed the Federal Reserve Act, decreed that the Federal Reserve's 12 district banks should be capitalized by their member banks. The Act also specifies that member banks must absorb the first tranche of losses should Fed revenues fail to cover expenses. Indeed, as discussed below, Section 2.4 of the Act specifically says that member banks are liable for an amount up to double the value of their subscribed stock to cover Federal Reserve district bank losses. The Federal Reserve system comprises a Board of Governors and the Federal Open Market Committee in Washington DC, and 12 district Federal Reserve banks. All the financial assets and liabilities of the Federal Reserve are held by the district banks. Each district bank is owned by the commercial and mutual savings banks of that district that applied for, and were granted, Federal Reserve membership. District banks issue equity shares with a par value of $100. Member banks must subscribe to the shares issued by their district bank in a dollar value equal to 6 percent of a member institution's paid in capital and surplus. Member banks only pay in half the subscribed share value "while the remaining half of the subscription shall be subject to call by the Board." Each member bank must true up its district bank stock subscription annually to reflect changes in the member bank's capital and surplus. The 1913 Federal Reserve Act required that district banks have positive capital. In particular, the 1913 Act stated that, "no Federal Reserve bank shall commence business with a subscribed capital less than $4 million." $4 million in capital was the minimum amount needed to open a district reserve bank, but those organizing each district bank could require a higher initial capital threshold should prudence dictate. If a district bank failed to generate the capital needed to commence operations from member bank contributions, the Act authorized the sales of district bank shares to the public, and should public subscriptions prove insufficient, sales of shares to the U.S. Treasury. Clearly, Congress placed a high priority on ensuring that each district reserve bank had adequate capital before commencing operations. A reasonable interpretation of this legislative language is that Congress established $4 million as the minimum required capitalization of a Federal Reserve district bank. Accounting for inflation, the minimum capital needed operate a Federal Reserve district bank would exceed $110 million today. Member banks earn dividends on their Federal Reserve district bank stock holdings and the Federal Reserve system dividend policy impacts the Fed's capital surplus account, which according to the GAO (p.9) is "intended to cushion against the possibility that total Reserve Bank capital would be depleted by losses incurred through Federal Reserve operations." In return for providing the district bank's capital base, all member banks were initially entitled to receive a generous 6 percent dividend on the par value of their paid-in shares. The dividend was cumulative in the event a district bank had insufficient operating revenues to cover expenses and dividends in any given year. More recently, the dividend rate was reduced for large banks, currently defined to be banks with assets in excess of $11.2 billion. The annual dividend rate for these banks is the lesser of, "the high yield of the 10-year Treasury note auctioned at the last auction held prior to the payment of such dividend, or 6 percent." Since the change, large bank dividends have been less than, sometimes substantially less than, half of the 6 percent rate promised in the original Federal Reserve Act.  Federal Reserve Board policies concerning member bank dividends and Federal Reserve System capital surplus confirm the view that district reserve banks need to maintain positive capital. In a 1922 memorandum, the General Counsel of the Federal Reserve Board clarified the cumulative nature of the dividend on bank share subscriptions and established a target value for the Federal Reserve System's capital surplus account: "[T ]he earnings of the Federal reserve banks shall be used for the following purposes in the order named: (1) For the payment of or provision for expenses. (2) For the payment to stockholders (who are member banks exclusively) of cumulative dividends at the rate of six percent per annum on paid-in capital. (3) For creating and adding to a surplus fund until such fund equals 100 percent of subscribed capital. (4) The balance to be paid 90 percent to the United States as a franchise tax and 10 percent into surplus. …No payment can be made into the surplus fund unless the earnings for the current year are sufficient to pay in full the dividends for that year and any dividends for past years that may remain unpaid.  Effective January 1, 2021, revisions to the Federal Reserve Act limit the aggregate Federal Reserve system surplus account to $6.785 billion. Federal Reserve district banks now remit earnings to the U.S. Treasury to the extent that these earnings exceed member bank dividend commitments and any contributions necessary to maintain the Federal Reserve system's surplus at $6.785 billion. The original Federal Reserve Act, revisions to the Act, and subsequent Federal Reserve Board policy statements regarding dividends and the Federal Reserve system surplus account all suggest that the Federal Reserve system faces a minimum capitalization requirement codified in law and in the Federal Reserve Board policies that govern member bank dividend payments. But in the remaining sections will we explain how the Fed's accounting policies belie its Congressional mandate and Federal Reserve Board policies designed to ensure that the Fed maintains a positive capital cushion. Unrealized Losses, Realized Losses and Operating Losses Unlike other financial institutions that must comply with GAAP accounting standards, the Federal Reserve Board decides on the accounting standards it uses to report the Federal Reserve system's income and balance sheet positions. Under the Fed's accounting rules, the implications of a Federal Reserve system loss depend on how the loss is generated. The Fed's accounting standards distinguish among three types of losses: unrealized losses, realized losses, and operating losses. Today, the Fed's SOMA portfolio includes $8.8 trillion in interest-bearing assets, $7.8 trillion of which have a maturity of over 1 year. The Fed accounts for its SOMA securities using held-to-maturity accounting conventions. Securities are valued at par value with amortization of any price premium paid, or price discount received, at the time the Fed purchased the security. Premiums or discounts are amortized over the remaining life of the security. The SOMA portfolio's assets are fixed-rate instruments with market values that depend on the current interest rate environment. In general, the book value of the Fed's securities holdings will not equal the current market value of the portfolio. The Fed does not recognize mark-to-market gains or losses on its SOMA securities portfolio when it calculates its earnings or losses. The Fed only recognizes realized gains or losses on these securities. If the Fed sells a security from the SOMA portfolio for greater (lower) than its amortized cost, it records a realized gain (loss) in income. Realized gains or losses are included in the Fed's reported operating earnings but, as we explain below, under the Federal Reserve Board's current accounting policies, negative earnings will not negatively impact the Fed's reported capital or surplus accounts. The third category of income (losses) important for Federal Reserve System account statements are total reserve bank income (losses) from operations [a.k.a. operating income (losses)]. Operating income (losses) are defined as: (1) net interest income (interest earnings less interest expense); plus (2) other income (loss) items that include realized losses on SOMA securities, foreign exchange translation gains (losses) and income from services provided, including those reimbursed by the government and other income; (3) less Federal Reserve district bank operating expenses; less (4) Federal Reserve Board operating expenses and currency printing costs; less (5) the assessment to pay the expenses of the Bureau of Consumer Financial Protection. The Federal Reserve Act and Federal Reserve System Operating Losses The authors of the 1913 Federal Reserve Act never envisioned that Federal Reserve district banks would suffer large capital losses on their investments since Section 14 of the Act restricts their asset holdings to gold, gold coins, gold certificates, short-term banker's acceptances, real bills eligible for rediscount, US government notes and bonds, and short-term tax anticipation notes or revenue bonds issued by eligible state and local governments. Unlike the Fed's current portfolio, the market value of district bank asset holdings was not sensitive to changes in market interest rates because most Fed assets matured very quickly, or in the case of gold-based assets, had values that were fixed by the international gold standard. Further, member bank reserves which are deposit liabilities of the Fed district banks, did not pay interest. According to the 1913 Federal Reserve Act, should there be a need to fortify any Federal Reserve district bank's resources because of operating losses, member banks were subject to call on the second half of the par value of their equity subscription. Moreover, the Act includes the little-known requirement that member banks contribute additional funds to cover district reserve bank operating losses up to an amount equal to the par value of their membership subscription. In other words, member banks were to be assessed for district bank annual losses in an amount up to twice the par value of their Federal Reserve district bank stock subscription. Note especially the use of the term "shall" and not "may" in the original 1913 Federal Reserve Act language: "The shareholders of every Federal reserve bank shall  be held individually responsible, equally and ratably, and not one for another, for all contracts, debts, and engagements of such bank to the extent of the amount subscriptions to such stock at the par value thereof in addition to the amount subscribed, whether such subscriptions have been paid up in whole or in part under the provisions of this Act." (bold italics added) Despite Congressional revisions to the Act over more than a century, the Federal Reserve Act still contains this exact passage—this provision of the law has never been changed. Has the Federal Reserve System Ever had an Operating Loss? In the early years after the Fed was organized, district reserve banks operated fairly independently. Member banks had a strong voice in appointing the officials who managed the operations of their district banks. District banks earned revenue primarily from discounting bills of exchange with a small amount of revenue from interest on government bond holdings. Gold and other eligible reserve assets did not generate revenue. Bills of exchange were discounted at a penalty rate by design, a feature not conducive to generating district bank revenues. In 1915, the district reserve banks had combined negative earnings before dividends of $141,000. At a September 1915 meeting, the Board of Governors voted1 to approve assessing member bank stockholders to cover district bank operating losses. The district reserve banks, however, never made the assessment, reasonably fearing that an assessment would discourage state chartered banks from applying for system membership. In the wake of the 1915 experience, district banks focused on generating revenue. Facing weak discount revenues, district banks bought tax anticipation notes and Federal government notes and bonds2 to generate interest income. According to Meltzer (p. 77):  "[Open market operations were combined] to avoid any effects of competitive purchases on market rates. Although effects on the market were recognized, purchases were made principally to increase the earning of reserve banks and were allocated to the individual banks in part based on their need for earnings. Reserve banks retained the right to purchase independently. Some claimed that New York did not buy enough so their earnings were held down."  The pressure to generate revenues eased as district banks began doing a brisk business discounting the Liberty Bonds issued to finance World War I. Modern Federal Reserve Board Policy Regarding Federal Reserve System Losses Today, the Federal Reserve official position regarding gains and losses in the market value of it SOMA portfolio is, [T]he fair value of the Federal Reserve's portfolio as well as its earnings, gains, or losses do not affect the ability to carry out its responsibilities as the nation's central bank, which is to conduct monetary policy to achieve its statutory goals of maximum employment and stable prices. Regarding realized losses on its SOMA portfolio, the Fed's official position is, [I]n the unlikely scenario in which realized losses were sufficiently large enough to result in an overall net income loss for the Reserve Banks, the Federal Reserve would still meet its financial obligations to cover operating expenses. In that case, remittances to the Treasury would be suspended and a deferred asset would be recorded on the Federal Reserve's balance sheet, representing a claim on future net earnings that the Reserve Banks would need to realize before remittances to the Treasury would resume. Today, the Federal Reserve Board's official position is that, should it face operating losses, it would not reduce its book capital surplus, but instead would just create the money needed to meet operating expenses and offset the newly printed money by creating an imaginary "deferred asset" (Section 11.96) on its balance sheet. Subsequently, sometime in the future when reserve banks start making positive operating earnings, after paying dividends, district reserve banks will apply any remaining income to reduce the deferred asset balance to zero before resuming their remittance payments to the U.S. Treasury. By accounting for losses in this manner, the Federal Reserve's reported capital and surplus account balances are not depleted by system operating losses. According to the Financial Accounting Manual for Federal Reserve Banks (p. 201), bank dividend payments will continue to be paid as long as a reserve bank has a positive surplus account. Under this policy and the rules that have been proposed to account for operating losses, it would appear that member banks dividends will be paid regardless of Fed operating losses.  Could Federal Reserve Losses Impact Monetary Policy? The current Federal Reserve Board plan to manage losses is: (1) ignore any mark-to-market losses on its SOMA portfolio; (2) recognize realized losses on securities sales, if any; (3) monetize any operating losses and offset the liability on the Fed's balance sheet by creating or increasing a deferred asset account. The Board has adopted this accounting policy notwithstanding an explicit Federal Reserve Act requirement that member banks be held liable for district reserve banks' operating losses—a requirement still codified in law. The issue of maintaining a positive Federal Reserve system capital cushion, once a necessity to maintain public confidence in convertibility under the international gold standard—and still a requirement in the current version of the Federal Reserve Act—is no longer an issue of practical importance. Federal Reserve notes and member bank reserve bank balances have not been convertible into gold in the US for more than 90 years and there has been no required gold backing for Federal Reserve notes for more than 50 years. The pure fiat currency the Federal Reserve issues today has no commodity backing and there is no longer any constraint on the amount the Fed can issue. Given the Fed's stated intention to monetize operating losses and back any newly created currency with an imaginary "deferred asset", the Federal Reserve Board has demonstrated it no longer has a concern in maintaining the value of loss true absorbing assets backing the Federal Reserve system's capital and surplus accounts. The Federal Reserve Board's proposed treatment of system operating losses is wildly inconsistent with the treatment prescribed by the Federal Reserve Act. In all likelihood, operating losses, should they occur, will in large part be a consequence of the interest payments made to member banks for reserve balances held at Fed district banks. It is impossible to imagine that the authors of the Federal Reserve Act would have approved of allowing the Fed to create an imaginary "deferred asset" as a mechanism to hide the fact that the Fed is depleting its cushion of loss-absorbing assets while paying banks interest on their reserve balances when the Act itself makes member banks liable for Federal Reserve district bank operating losses. Under the international gold standard, before and after the founding of the Federal Reserve system, banks earned nothing on their gold reserves, so today's arrangements where the Fed pays interest on bank reserves would have never been considered at the time the Fed was founded. If the Federal Reserve were to comply with the language in the Federal Reserve Act and exercise its right to assess member bank resources to cover operating losses, monetary policy could be significantly impacted in a number of ways. As short-term interest rates rise and the interest expense needed to fund reverse repurchase agreements and member bank reserve balances consumes more of the interest earnings on its SOMA portfolio, the Fed's willingness to shrink its balance sheet by liquidating SOMA assets at a loss could become constrained to member bank assessments to cover Fed operating losses. Just as it did in 1915, the issue of operating losses would focus the attention of the district bank presidents who vote on Federal Open Market Committee monetary policies. The prospect of passing on the Federal Reserve system's operating losses to member banks could also create pressure to attenuate these losses by lowering the interest rate paid to member banks. Should this occur, it would directly impact Fed operations by constraining the short-term interest rate increases the Fed uses to constrain inflationary pressures. Under its post-crisis monetary operating policies, as the Fed raises rates, banks will earn larger interest payments on the reserve balances held at the Fed district banks while continuing to accrue dividends on their Federal Reserve district bank shares. Meanwhile, the Fed's actions, though necessary, will impose higher interest rates on the public at large, losses in the value of the public's bonds and stocks in their savings and retirement accounts, reduced growth, and likely cause a significant increase in unemployment before the Fed successfully arrests inflationary pressures. If Fed policies lead to operating losses, and the Fed follows its plan to monetarize these losses, the losses will only contribute to the inflationary pressures the Fed seeks to control. Should the public understand the implications of these policies, the Fed could well face a contentious "communication problem." Conclusion For only the second time in its history, the Federal Reserve system is facing the prospect of losses, only this time the losses are massive. The Fed already has huge market-value losses on its SOMA portfolio that it chooses not to recognize in its formal financial accounting statements. Any financial institution other than the Fed faced with market-value losses greater than 13 times its capital would have already lost public confidence and probably be in receivership. And soon the Federal Reserve will face large operating losses, losses which it must recognize on its financial statements. While the Federal Reserve Act explicitly requires that Federal Reserve member banks be assessed to cover operating losses, the Federal Reserve Board's stated plan is to monetize these losses and still report a positive capital and surplus position through the use of "creative accounting" entries not seen since the 1980s savings and loan crisis. Those that recall that historical period know that relying on "regulatory accounting standards" to create phantom capital cushions did not turn out well. In the Fed's case, failure is not an issue because the Fed can literally print as much money as needed to pay its expenses and member bank dividends. Monetizing operating losses will however enrich the Fed member banks that are supposed to be bearing the loss, while the public at large will face higher interest rates, higher unemployment, reduced growth, and the inflationary consequences of the new money printed to cover Fed losses. The Fed seems to be hoping that nobody notices. 1. Allan Meltzer, History of the Federal Reserve Volume I: 1913-1951, p. 29. 2. As authorized by the Section 14 of the Federal Reserve Act. This posting includes an audio/video/photo media file: Download Now

The Great Reset: Turning Back the Clock on Civilization Posted: 23 Jun 2022 12:30 PM PDT The so-called Great Reset is an attempt by wealthy elites and their allies to control people's lives. Their schemes need to be both exposed and resisted. Original Article: "The Great Reset: Turning Back the Clock on Civilization" This Audio Mises Wire is generously sponsored by Christopher Condon.

Back to the Future: Progressives Imagine the Good Old Days of Price Controls Posted: 23 Jun 2022 09:00 AM PDT When the Bourbon dynasty was restored to power in France in the early 1800s after Napoleon's abdication, the French statesman Charles-Maurice de Talleyrand famously said of that family: "They had learned nothing and forgotten nothing." In modern economic parlance, one can say the same thing about progressives, who once again are demanding price controls to "fight inflation." Not surprisingly, Sen. Elizabeth Warren is leading the way. She recently introduced a bill that outlaws "price gouging," which in her definition involves a seller increasing prices for reasons that Warren would consider to be unjustified. It declares: It shall be unlawful for a person to sell or offer for sale a good or service at an unconscionably excessive price during an exceptional market shock, regardless of the person's position in a supply chain or distribution network. While at least Warren is not calling (yet) for criminal penalties, she would empower the Federal Trade Commission to investigate such price gouging and to levy fines of either $25,000 or 5 percent of revenues, whichever is higher. That there is no way, economically speaking, to coherently define something like price gouging is no deterrence to Warren, who for many years has tried to move to the left of Bernie Sanders on nearly all issues. But Warren is not the only progressive to call for price controls. Harold Meyerson, the socialist who also is an editor for the American Prospect, is demanding price controls, declaring that levying them will help keep Democrats in power. He writes: As if inflation on that scale weren't bad enough, its electoral consequences are likely to shift control of Congress to racist, insurrectionist, conspiracy-addled nitwits in November's elections. How, then, can the Democrats forestall or at least mitigate this grim double whammy? Joe Biden appears to grasp the peril he's in; it's compelling him to make a pilgrimage to Saudi Arabia and its murderous crown prince in the hope that the prince will bring more of his nation's oil to market, thereby driving down prices. But there's a less morally bankrupt, economically more effective, and far quicker way of achieving the same ends. It's called price controls. Before anyone rolls the eyes and reminds this socialist sage that price controls have a long history of failure, Meyerson has a ready answer: Contrary to what economic orthodoxy would have us believe, such controls have been markedly successful at various times in our nation's history. (Economic orthodoxy is often clueless about history in its preference for theory over fact.) According to Hugh Rockoff, a professor of economic history at Rutgers, price and wage controls brought the yearly rate of inflation down from 32.4 percent to 7.1 percent during World War I, and from 11.9 percent to 1.6 percent during World War II. Of course, as Jason Zweig pointed out in a recent Wall Street Journal column, people are more likely to accept such controls during wartime than they are during peacetime. Then again, having not really experienced a run of inflation for the past 40 years, Americans are rapidly going into shock as food and fuel prices continue to run amok. Selective controls on key commodities might not only provide the only way to achieve some fast relief, but also demonstrate, in tandem with legislation to cut the price of prescription drugs and the cost of child care, that the Democrats can actually and effectively legislate and implement policies in the public good. One is not sure how sound economic theory such as the laws of demand, supply, marginal utility, and diminishing marginal returns really are nothing more than social constructs that easily are undone by "facts," but one has to remember that socialists have their own rewritten history. Furthermore, like most progressives (and socialists), Meyerson assumes that the only things that will change under a price control regime are the prices themselves, with no accompanying shortages and other dislocations. But what about the "markedly successful" price controls of which he writes? Not surprisingly, Meyerson turns to the experiences of the USA during two world wars as the example of success. While he does not define what "success" meant in those situations, he implies that price controls kept the official rate of inflation lower than it would have been without the controls. Yet that tells us absolutely nothing, for he fails to mention the shortages, official rationing of goods, and the general economic misery that Americans faced during those conflicts, when the economy, geared to total war, vacuumed up vast numbers of resources, leaving Americans on the home front to scramble for the leftovers and, with much difficulty, scratch out a living. Economist Robert Higgs, who is well aware both of economic facts and theories, laid out a much different scene in his authoritative 1992 paper in the Journal of Economic History. Entitled "Wartime Prosperity? A Reassessment of the U.S. Economy in the 1940s," Higgs looks well beyond the official numbers that Meyerson gives to see how Americans really lived under price controls. Regarding the official inflation numbers, Higgs writes: In fact, conditions were much worse than the data suggest for consumers during the war. Even if the price index corrections considered above are sufficient, which is doubtful, one must recognize that consumers had to contend with other extraordinary welfare-diminishing changes during the war. To get the available goods, millions of people had to move, many of them long distances, to centers of war production. (Of course, costly movements to areas of greater opportunity always occur; but the rate of migration during the war was exceptional because of the abrupt changes in the location of employment opportunities.) After bearing substantial costs of relocation, the migrants often found themselves crowded into poorer housing. Because of the disincentives created by rent controls, the housing got worse each ear, as landlords reduced or eliminated maintenance and repairs. Transportation, even commuting to work, became difficult for many workers. No new cars were being produced; used cars were hard to come by because of rationing and were sold on the black market at elevated prices; gasoline and tires were rationed; public transportation was crowded and inconvenient for many, as well as frequently pre-empted by the military authorities. Shoppers bore substantial costs of searching for sellers willing to sell goods, including rationed goods, at controlled prices; they spent much valuable time arranging (illegal) trades of ration coupons or standing in queues. The government exhorted the public to "use it up, wear it out, make it do, or do without." In thousands of ways, consumers lost their freedom of choice. He adds: People were also working harder, longer, more inconveniently, and at greater physical risk in order to get the available goods. The ratio of civilian employment to population (aged 14 and over) increased from 47.6 percent in 1940 to 57.9 percent in 1944, as many teenagers left school, women left their homes, and older people left retirement to work. The average work week in manufacturing, where most of the new jobs were, increased from 38.1 hours in 1940 to 45.2 hours in 1944; and the average work week increased in most other industries, too—in bituminous coal mining, it increased by more than 50 percent. Night shifts occupied a much larger proportion of the work force. The rate of disabling injuries per hour worked in manufacturing rose by more than 30 percent between 1940 and its wartime peak in 1943. It is difficult to understand how working harder, longer, more inconveniently and dangerously in return for a diminished flow of consumer goods comports with the description that "economically speaking, Americans had never had it so good." Likewise, Meyerson does not remind his readers of the energy price control regime of the 1970s, which led to huge fuel shortages, long lines at the gasoline pumps, and huge disruptions in production. Then, like now, the progressives that supported price controls blamed "corporate greed" and "big oil" for the problems, not wanting to admit that price and allocation controls created the havoc that seemed to disappear once the government lifted controls in 1981. Declaring that price controls were "successful" is reminiscent of the US end game strategy in the Vietnam War: declare victory and leave, paying no attention to what is happening on the ground. Likewise, the progressives and their socialist allies demanding yet another price control regime want to drag the rest of the country into their world of economic make-believe. There is no doubt that if Joe Biden were to slap down price controls (declaring an "economic emergency" or something similar), such a move would resonate with at least some of the voters. Moreover, when the inevitable shortages and long lines appear, he can denounce "corporate greed" and he and his cabinet can look indignant at their photo ops. One suspects that the New York Times, Washington Post, and CNN would gladly jump on the bandwagon. But none of these optics can hide the true costs of price controls. Progressives might control the media and the government, but they cannot control reality. Contra Meyerson, facts and economic theory have a long history of fitting one another. This posting includes an audio/video/photo media file: Download Now

California Scheming: The Progressive Leadership's New Plan to Impose High-Cost, Low-Quality Medical Care Posted: 23 Jun 2022 06:30 AM PDT California's progressive political classes now have a scheme to impose a single-payer system for medical care. If imposed, it will be costly but also ineffective. Original Article: "California Scheming: The Progressive Leadership's New Plan to Impose High-Cost, Low-Quality Medical Care" This Audio Mises Wire is generously sponsored by Christopher Condon.

The Return of the Anguish of Central Banking: Why the Fed and Inflation Go Hand in Hand Posted: 23 Jun 2022 04:00 AM PDT (The following text is a revised update of an article that was first published in 2005.) The recent outbreak of price inflation with the jump to an annual rate of 8.6 percent in May 2022 came as a surprise to the US central bank (the Federal Reserve). Having ignored the warnings of the Austrian school economists, the policy makers were paralyzed in the face of a phenomenon they deemed impossible to happen. None of their forecasting models had triggered an inflation alert. Central Banks Don't Fight Inflation Failing to apply countermeasures in time, the Fed is now faced with the hard job of bringing down the price inflation rate without causing a recession. Prolonged stagflation may characterize the next decade. Are we back in the 1970s? During the stagflation at that time, Arthur Burns was the chairman of the Federal Reserve. After having left his job in 1978, he held an alarming speech at the meeting of the International Monetary Fund in Belgrade, on September 30, 1979. His presentation bore the title "The Anguish of Central Banking." In his talk, the former chairman of the American Federal Reserve explained why central banking and price inflation go hand in hand. In his presentation, Burns offered little hope for an escape from secular inflation. Current worldwide philosophical and political trends, Burns diagnosed, would continue to undermine wealth creation. These modern cultural trends spilled over to politics, produced permanent budget deficits, and introduced "a strong inflationary bias" (p. 13) into the economy.  Reviewing central bank action in the 1960s and 1970s, Burns stated in his speech that "viewed in the abstract, the Federal Reserve System had the power to abort the inflation at its incipient stage fifteen years ago or at any later point, and it has the power to end it today. At any time within that period, it could have restricted money supply and created sufficient strains in the financial and industrial markets to terminate inflation with little delay. It did not do so because the Federal Reserve was itself caught up in the philosophic and political currents that were transforming American life and culture" (p. 15). Modern central banks lack the stamina to fight inflation in a consistent way. They may try to curb the inflationary pressure, but "by and large," monetary policy has fallen under the spell of being "governed by the principle of under nourishing the inflationary process while still accommodating a good part of the pressures in the marketplace." Burns explained that it is the same in other parts of the world where almost all modern central banks are functioning basically in a similar political environment, and thus behave in the same fashion leading to the "anguish of central banking" (p. 16). Central banks are not only hostages of their political environment, but they are also technically and intellectually not up to their job. Central bankers make errors and encounter surprises "at practically every stage of the process of making monetary policy" (p. 18); misinterpretations of statistics abound, and there is also no reliable scientific guide for central banking: "Monetary theory is a controversial area. It does not provide central bankers with decision rules that are at once firm and dependable" (p. 17). Burns ended his speech by saying:  My conclusion that it is illusory to expect central banks to put an end to the inflation that now afflicts the industrial democracies does not mean that central banks are incapable of stabilizing actions; it simply means that their practical capacity for curbing an inflation that is continually driven by political forces is very limited. (p. 21) Secular Price Inflation What has changed since then? Are central banks up to their job by now? Have they learned how to interpret statistics correctly? Have they gained true independence? A superficial answer may say, "Yes." Paul Volcker came in 1979 as the successor to G. William Miller (who replaced Burns in 1978) and Volcker put the foot on the brakes, wiped out inflationary expectations, and opened the door to decades of stability. Then came Alan Greenspan to carry on and brought modern central banking to its current epitome. In a more realistic assessment, however, the answer is that not much has really changed. Inflation seems to be more benign nowadays, but it is a harsh twist of words to say price stability has been achieved when, since 1980, the official price index has doubled. Central bankers still meet surprises "at practically every stage of the process of making monetary policy", and modern interventionist academic monetary theory has actually contributed very little "to provide central bankers with decision rules that are at once firm and dependable". Seen from a long-term historical perspective, we still live in an inflationary age, and the turning point for the US can be clearly defined in 1914 when the US central bank began to operate. It took only a couple of years for the newly created Federal Reserve System to finance the American entry into World War I and to create an inflationary boom in the 1920s that prepared the way for the deflationary period during the Great Depression in the 1930s. After the Second World War, prices began their steady rise again, first slowly, then, since the early 1970s, in an accelerated way (figure 1). Figure 1 Consumer price index of the United States, 1950–2022 (1982–84=100) mueller_graph_1.png Source: FRED (Consumer Price Index for All Urban Consumers: All Items in U.S. City Average [CPIAUCSL], accessed June 22, 2022). Since abandoning the gold standard after the Smithsonian agreement of December 1971, the American people entrust the central price of the modern economy—the interest rate—to governmental bureaucrats for them to manipulate. Presumably, they know what they are doing, and they are doing it for the best of the country. Yet the facts speak against this presumption. After a short period of forcefully curbing the money supply in the late 1970s—more by accident in its impact than by deliberate design—the US central bank has turned into a debt machine that inundates the government, households, companies, and the globe with dollars.  The success of the monetary policy in 1979/1980 of dampening the inflation and wiping out inflationary expectations was mainly due to a false estimation of the future growth of the velocity of money. Paul Volcker, then chairman of the Federal Reserve, wanted to curb inflation, but he did it in this swift form largely inadvertently, by squeezing the money supply at an amount consistent with a supposedly rising velocity of money circulation. As it turned out, the velocity of circulation had—contrary to expectations—slowed down. Thereby, the intended "gradualist approach" had become a much more radical monetary experiment than planned (see p. 169 in Changing Fortunes: The World's Money and the Threat to American Leadership). Incessant Debt Creation Global debt creation has been going on at an unprecedented pace, and the major players in this game are the central banks under the obvious or implicit tutelage of their governments to whom they own their jobs (figure 2). Figure 2: Global debt, 2007–20 mueller_graph_2.png Source: Vitor Gaspar and Ceyla Pazarbasioglu, "Dangerous Global Debt Requires Decisive Cooperation," IMFBlog, April 11, 2022. Note: GFC = global financial crisis. A paradoxical situation has arisen. The monetary system of a fiat standard entails an internal mechanism to drive toward debt creation. At first, central banks provide liquidity that allows debt accumulation. Then, because of the rise of the debt burden, central banks become reluctant to raise the interest rates and curb the debt expansion as they fear the negative consequences for the financial markets and their impact on the economy. Over the past decades, several situations happened when the leading central banks refrained from continuing with a restrictive policy because the stock and bond markets came under stress. Equally problematic is the case of the European Central Bank. Although the inflation rate in the euro area has risen to over 8 percent in May 2022, the ECB has remained reluctant to raise the interest rate. Led by its chairwoman, Christine Lagarde, the European Central Bank rather lets the debt growth continue and the price inflation rise than risk debt service problems of the highly indebted countries in the south of eurozone along with France. Modern central banks will do little other than to "under nourish" the trend toward inflation—when they are good at their job and helped by some luck. Faced with the serious choice between putting serious strain on the financial markets and industry to terminate inflation or letting the boom go on beyond control, they will opt for the latter. In the current institutional setting, it is the natural tendency of central banks to produce unsustainable booms first and prolong the inevitable slump in the aftermath. In Human Action, Ludwig von Mises put the problem this way: "Credit expansion is the government's foremost tool in their struggle against the market economy. In their hands it is the magic wand designed to conjure away the scarcity of capital goods, to lower the rate of interest or abolish it altogether, finance lavish government spending, expropriate the capitalists, contrive everlasting booms, and make everybody prosperous"—with the consequence that such an artificial boom inexorably will lead to the bust.  In this perspective, it seems an idle game to expect better central bankers or improved analytical tools, or more reliable econometric models. The right way to look for an escape is to move toward different institutional settings. Main proposals to dissolve the monopolistic structure of central banking include the "denationalization of money" and letting free banking flourish, to establish a modern gold standard or the concept of a bitcoin standard. All these schemes aim at attacking the problem of establishing a limit to monetary expansion. This way, freezing the stock of the monetary base also needs to be discussed as a solution to permanent debt creation. Conclusion Registered inflation rates have been somewhat subdued in the 1980s, but inflation certainly is not "dead", and the inflationary age has not yet ended. It will not end as long as central banks and governments hold the lever to create money more or less at will. No less so when Arthur Burns practiced central banking, the interventionist policies of today's central banks lack a reliable basis in monetary theory, diagnostic errors abound, and the inherent inflationary bias of central banks is still alive. While seemingly benign for some time, price inflation has come back with a vengeance. This posting includes an audio/video/photo media file: Download Now

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