Pathologies of Conservative Economics

I've been thinking that one of the things that I find most objectionable about the conservative view on economics is that the proposed policies can only produce results that are diametrically opposed to the stated objectives of those policies. They claim to wish to shrink the role of government in the economy, but the policies advocated can only serve to make government more essential at all points in the economy. Now for many on the right this is intended. They have no more interest in shrinking the governments role in the economy than they are interested in shrinking the deficit. They want rich people to not have to pay for any part of government. Others seem to believe that conservative policies are related to shrinking government, so I've identified, I think, two areas where the policies cannot have the intended effect. These are the pathologies I refer to in the title.

1) Low taxes reduce the amount that a business needs to pay for government supplied services such as incorporation, using the radio spectrum, dumping waste in the environment, copyright protection and others. If these services are supplied at rates below what the market would demand for them (that is the price that would be charged by a private company supplying the services if the government did not and a private company could) then businesses using these services are at an advantage in the market. The profit expected from a given amount of effort and a given supply of capital will be larger for businesses that rely on government services compared to those who do not. Business that do not use government services must pay for the full value of all the inputs they need to run the business out of the revenue they can earn. Businesses relying on government services need only pay for those goods and services not supplied by the government and a part of those supplied by the government. The difference between what the government charges in taxes and the market value of what the government supplies adds to the businesses profits. Thus in a low tax regime investment dollars will go toward businesses that rely upon government services, because the profit margin (or at least the apparent profit margin) will be greater. Eventually these businesses will use those investment dollars for ever more marginal uses until the general return on investment in the industry, however much it uses government services, is equal to other industries not dependent upon the government. However, that dollar level of investment in such a business will be much higher than it would be if the government were not supplying inputs at a reduced rate. So we can expect that in a general low tax environment investment dollars, and thus the asset values of industries should be dominated by those that heavily rely upon government services.

What we see in the US today is, I believe, an economy dominated by the financial sector which depends upon the security provided by such elements as the FBI white collar crime unit, the content industries which rely upon copyright protection, various businesses dependent upon dumping waste products into the general environment, businesses that need to be incorporated, and the like. In short we have an economy that is heavily dominated by businesses that rely upon government services precisely because of having adopted conservative policies supposedly intended to stop government expansion in the economy. If we wanted to shrink the government we should make the government expensive, not free.

2) The operators of a publicly owned company have a fiduciary responsibility to the shareholders to maximize the value of the company. If there is some option available to increase the value of the company to the shareholders and the CEO and other offices fail to take advantage of that opportunity they are failing in their responsibility and acting unethically. So if the government is to provide services at a rate below the market value (by this I mean the amount that would be charged by a private company if the services were provided by such an entity) then the operators are obliged to take advantage of this sub-market price to increase the value of the firm they operate.

To put this in specific terms, consider that there are many projects the firm can undertake that will bring in just a bit more revenue than it would cost to undertake. These the firm are most likely engaging in so as to maximize the firm's income and thus value to shareholders. There are other projects that would bring in less revenue than it would cost to carry out, these the firm does not undertake. But if the government is charging sub-market for some of the inputs the firm needs, that will make otherwise unprofitable projects, profitable, at least as far as the firm's books are concerned. As the price charged by the government falls, then the firm will increase the extent to which it engages in projects which are made profitable only due to the effective subsidy of the government providing services at below market rates. As the prices government charges fall a firm could certainly find itself so heavily invested in projects that depend upon this government subsidy that its overall profitability is dependent upon this government subsidy. I think it likely that, again as a result of conservative policies, a large fraction of American business remain a going concern only as a consequence of this government subsidy via below market pricing.

That is not to say that they could not become truly profitable again, should the government return to a more sensible pricing scheme. But at this point, it is likely that American firms are highly dependent upon the government.

Conservative Economics

The central mystery of conservative economics is that it is based on two fundamental truths

1. Without various services of government such as incorporation, copyright, licensing the radio spectrum and others, American business would not be able to compete and be profitable.
2. Government does nothing of any value for business, it only takes and hinders.

One might think these are contradictory, but this is just the central mystery.

Note: Actually, the above is tongue-in-cheek. A careful examination of conservative economic thinking reveals that they are not contradictory per se. Rather when providing the above services, they are essential. When charging money for them, they were never really needed.

Patent Madness

Matt Yglesias has had a few posts up (most recently here) about technology patents and their role in (both good and bad) in the economy.

So a bunch of patents have recently been sold by one company for a cool $4.5 billion. This is but a small part of the total value of patents. This doesn't even touch on the money put into suits and planning on how to use patents to stifle innovation and competition. The things are valuable.

My snarky observation is that whatever business or organization came up with the idea of patents and was able to enforce them, it should be making a mint off the things and paying a huge dividend to its shareholders. Off course, its the government that has created this valuable instrument and we shareholder are gripped with the bizarre belief that our prosperity is dependent upon giving these things away for free. Sigh.

Content Aggregators

This is an interesting article in the Atlantic from last week about the rise and success of Netflix. Netflix has been an enormously successful business operating on a model of aggregating content (TV shows, movies, stuff like that) and making it available for a fee to folks who want to view it. It turns out they've been a lot more profitable doing that than experts expected, indeed a good bit more successful than the produces of the content. According to the article this comes as a bit of a surprise to experts, expecting instead that the content produces would be mostly making money off of the content they produce.

Now the article points up a number of reasons why this expectation would turn up wrong and describes circumstances in which aggregators can be expected to be very profitable. It seems to me thought that the points I've been raising could play a role as well. Success as an aggregator of content depends upon a number of things, one of which is copyright. To be able to make money off of selling (or renting) content you need to be able to make sure that no one else can sell (or rent) that same content at a lower price. Given that the marginal price for providing content is about zero, the price competition would quickly doom any hope for a large revenue stream.

So this copyright protection service is really important, and copyright is provided only by the government. Given our recent passion for providing these government services for free (or as close to that as we can manage politically), business that rely upon them will be at a competitive advantage. The major inputs for a content aggregator include copyright, so given that it is provided at a rate far below market the aggregator can expect a higher return on investment than a business that must pay market rate for all the inputs to its business. A business like content producers for example.

There really are huge distortions to the economy if we are going to have the government provide these extremely valuable services and not charge money for them.