Naked Economics (26 page)

Everyone despises earmarks, except for their own. A member of Congress who secures special funding to expand Children’s Memorial Hospital is a success. A ribbon-cutting ceremony will celebrate the project, with cupcakes and juice and speeches lauding this politician’s hard work in Congress. How did the funding come to pass? Not because this one politician gave a speech on the floor of the House that was so emotional and inspiring that the other 534 members decided to lavish funds on a children’s hospital in Illinois. He did it by supporting a bill with nine thousand earmarks, one of which was his. Such is the political reality in a democratic system: We love our congressman who finds funding for the hospital; what we hate are politicians who support earmarks.

Would campaign finance reform change anything? At the margins, if that. Money is certainly one tool for grabbing a politician’s attention, but there are others. If the dairy farmers (who benefit from federal price supports) can’t give money, they will hire lobbyists, ring doorbells, hold meetings, write letters, threaten hunger strikes, and vote as a bloc. Campaign finance reform does not change the fact that the dairy farmers care deeply about their subsidy while the people who pay for it don’t care much at all. The democratic process will always favor small, well-organized groups at the expense of large, diffuse groups. It’s not just how many people care one way or the other; it’s how
much
they care. Two percent who care deeply about something are a more potent political force than the 98 percent who feel the opposite but aren’t motivated enough to do anything about it.

Bob Kerrey, former Democratic senator from Nebraska, has said that he doesn’t think campaign finance reform would lead to much change at all. “The most important corruption that happens in politics doesn’t go away even if you had full public financing of campaigns,” he told
The New Yorker.
“And that is: I don’t want to tell you something that’s going to make you not like me. If I had a choice between getting a round of applause by delivering a twenty-six-second applause line and getting a round of boos by telling you the truth, I’d rather get the round of applause.”
⁷

So, if I were asked again why our growing knowledge of public policy does not always translate into a perfect world, this chapter would be my more complete answer.

A
s I have mentioned, in the late 1980s I was a young speechwriter working for the governor of Maine. One of my primary responsibilities was finding jokes. “Funny jokes,” he would admonish me. “Belly laughs, not chuckles.” Two decades later, one of those jokes stands out, not so much because it is funny now, but rather for what it tells us about what we were thinking then. Recall that George Bush, Sr., was president and Dan Quayle was vice president. New England was in the midst of an economic slump and Maine was particularly hard hit. Meanwhile, Japan appeared to be the world’s economic powerhouse. The joke goes like this:

While vacationing at Kennebunkport, George H. W. Bush is hit on the head with one of his beloved horseshoes. He slips into a coma. Nine months later, he awakens and President Quayle is standing at his bedside. “Are we at peace?” Mr. Bush asks.

“Yes. The country is at peace,” says President Quayle.

“What is the unemployment rate?” Mr. Bush asks.

“About 4 percent,” says President Quayle.

“Inflation?” queries Mr. Bush.

“Under control,” says President Quayle.

“Amazing,” says Mr. Bush. “How much does a loaf of bread cost?”

President Quayle scratches his head nervously and says, “About 240 yen.”

Believe it or not, that was good for a belly laugh. Some of the humor derived from the prospect of Dan Quayle as president, but mostly it was an outlet for anxiety over the popular notion that Japan was on the brink of world economic domination. Obviously times change. We now know that Japan went on to suffer from more than a decade of economic stagnation while the United States moved into what would become the longest economic expansion in the nation’s history. The Nikkei Index, which reflects prices on the Japanese stock market, peaked at 38,916 just around the time the governor of Maine was telling that joke. Today the Nikkei is just over 10,000.

Of course, Americans aren’t gloating about that these days. After fifteen years of a generally strong economy in the United States, we stumbled into the worst economic downturn since the Great Depression. Why is it that all economies, rich and poor, proceed in fits and starts, stumbling from growth to recession and back to growth again? During the robust growth of the 1990s, the labor market was so tight that fast-food restaurants were paying signing bonuses, college graduates were getting stock options worth millions, and anyone with a pulse was earning double-digit returns in the stock market. Consumers were buoyed by rising home and stock prices. Capital flowed in from the rest of the world, most notably China, making it easy for Americans to borrow cheaply.

And then everything went wildly off track, like one of those NASCAR wrecks. Consumers were suddenly overburdened with debt and stuck with homes they couldn’t sell. The stock market plunged. The unemployment rate climbed toward 10 percent. America’s biggest banks were on the brink of insolvency. The Chinese started musing publicly about whether they should continue to buy American treasury bonds. We liked it better the first way. What happened?

To understand the cycle of recession and recovery—the “business cycle,” as economists call it—we need to first learn about the tools for measuring a modern economy. If the president really did wake up from a coma after suffering a horseshoe accident, it’s a fair bet that he would ask for one number first: gross domestic product, or GDP, which represents the total value of all goods and services produced in an economy. When the headlines proclaim that the economy grew 2.3 percent in a particular year, they are referring to GDP growth. It means simply that we as a country produced 2.3 percent more goods and services than we did the year before. Similarly, if we say that public education promotes economic growth, we are saying that it raises the rate of GDP growth. Or if we were asked whether an African country is better off in 2010 than it was in 2000, our answer would begin (though certainly not end) with a description of what happened to GDP over the course of the decade.

Can we really gauge our collective well-being by the quantity of goods and services that we produce? Yes and no. We’ll start with “yes,” though we will come to “no” before the chapter is done. GDP is a decent measure of our well-being for the simple reason that what we can consume is constrained by what we can produce—either because we consume those goods directly or because we trade them away for goods produced somewhere else. A country with a GDP per capita of $1,000 cannot consume $20,000 per capita. Where exactly are the other $19,000 worth of goods and services going to come from? What we consume can deviate from what we produce for short stretches, just as family spending can deviate from family income for a while. In the long run, however, what a country produces and what it consumes are going to be nearly identical.

I must make two important qualifications. First, what we care about is
real
GDP, which means that the figure has been adjusted to account for inflation. In contrast,
nominal
figures have not been adjusted for inflation. If nominal GDP climbs 10 percent in 2012 but inflation is also 10 percent, then we haven’t actually produced more of anything. We’ve just sold the same amount of stuff at higher prices, which has not made us any better off. Your salary will have most likely gone up 10 percent as well, but so will have the price of everything you buy. It’s the economic equivalent of swapping a $10 bill for ten $1 bills—it looks good in your wallet, but you’re not any richer. We will explore inflation in greater depth in the next chapter. For now, suffice it to say that our standard of living depends on the quantity of goods and services we take home with us, not on the price that shows up at the register.

Second, we care about GDP
per capita,
which is a nation’s GDP divided by its population. Again, this adjustment is necessary to prevent wildly misleading conclusions. India has a GDP of $3.3 trillion while Israel has a GDP of $201 billion. Which is the richer country? Israel by far. India has more than a billion people while Israel has only seven million; GDP per capita in Israel is $28,300 compared to only $2,900 in India. Similarly, if a country’s economy grows 3 percent in a given year but the population grows 5 percent, then GDP per capita will fall. The country is producing more goods and services, but not enough more to keep up with a population that is growing faster.

If we look at real GDP in America, it tells us several things. First, the American economy is massive by global standards. American GDP is roughly $14 trillion, which is only slightly smaller than all the countries of the European Union combined. The next-largest single economy is China, which has a GDP of around $8 trillion. On a per capita basis, we are rich, both by global standards and by our own historical standards. In 2008, America’s GDP per capita was roughly $47,000, slightly less than Norway, Singapore, and a few small countries with a lot of oil, but still nearly the highest in the world. Our real GDP per capita is more than twice what it was in 1970 and five times what it was in 1940.

In other words, the average American is five times as rich as he or she would have been in 1940. How could that be? The answer is back in Chapter 5: We’re more productive. The day is not any longer, but what we can get done in twenty-four hours has changed dramatically. The Federal Reserve Bank of Dallas came up with a novel way to express our economic progress over the course of the twentieth century: Compare how long we had to work in 2000 to buy basic items with how long we had to work to buy the same items in 1900. As the officials at the Dallas Fed explain, “Making money takes time, so when we shop, we’re really spending time. The real cost of living isn’t measured in dollars and cents but in the hours and minutes we must work to live.”
¹

So here goes: A pair of stockings cost 25 cents in 1900. Of course, the average wage at the time was 14.8 cents an hour, so the real cost of stockings at the beginning of the twentieth century was one hour and forty-one minutes of work for the average American. If you walk into a department store today, stockings (pantyhose) are seemingly more expensive than they were in 1900—but they’re not. By 2000, the price had gone up, but our wages had gone up even faster. Stockings in 2000 cost around $4, while America’s average wage was over $13 an hour. As a result, a pair of stockings cost the average worker only eighteen minutes of time, a stunning improvement from an hour and forty-one minutes a century earlier.

The same is true for most goods over most long stretches of time. If your grandmother were to complain that a chicken costs more today than it did when she was growing up, she would be correct only in the most technical sense. The price of a three-pound chicken has indeed climbed from $1.23 in 1919 to $3.86 in 2009. But grandma really has nothing to complain about. The “work time” necessary to earn a chicken has dropped remarkably. In 1919, the average worker spent two hours and thirty-seven minutes to earn enough money to buy a chicken (and, I’m guessing, at least another forty-five minutes for the mashed potatoes). In short, you would work most of your morning just to earn lunch. How long does it take to “earn” a chicken these days? Just under thirteen minutes. Cut out one personal phone call and you’ve got Sunday dinner taken care of. Skip surfing the web for a little while and you could probably feed the neighbors, too.

Do you remember the days when it was novel, perhaps even mildly impressive, to see someone speaking on a cellular phone in a restaurant? (Okay, it was a short stretch of time, but a cell phone did have a certain cachet in the mid-1980s.) No wonder; back then a cell phone “cost” about 456 hours of work for the average American. Almost three decades later, cell phones are just plain annoying, in large part because everyone has one. The reason everyone has one is that they now “cost” about nine hours of work for the average worker—98 percent less than they cost twenty years ago.

We take this material progress for granted; we shouldn’t. A rapidly rising standard of living has not been the norm throughout history. Robert Lucas, Jr., winner of the Nobel Prize in 1995 for his numerous contributions to macroeconomics, has argued that even in the richest countries, the phenomenon of sustained growth in living standards is only a few centuries old. Other economists have concluded that the growth rate of GDP per capita in Europe between 500 and 1500 was essentially zero.
²
They don’t call it the Dark Ages for nothing.

We should also make clear what it means for a country to be poor by global standards at the beginning of the twenty-first century. As I’ve noted, India has a per capita GDP of $2,900. But let’s translate that into something more than just a number. Modern India has more than 100,000 cases of Hansen’s disease, better known to the world as leprosy. Leprosy is a contagious disease that attacks the body’s tissues and nerves, leaving horrible scars and limb deformities. The striking thing about Hansen’s disease is that it is easily cured, and, if caught early, recovery is complete. How much does it cost to treat leprosy? One $3 dose of antibiotic will cure a mild case; a $20 regimen of three antibiotics will cure a more severe case. The World Health Organization even provides the drugs free, but India’s health care infrastructure is not good enough to identify the afflicted and get them the medicine they need.
³

So, more than 100,000 people in India are horribly disfigured by a disease that costs $3 to cure. That is what it means to have a per capita GDP of $2,900.

Having said all that, GDP is, like any other statistic, just one measure. Figure skating and golf notwithstanding, it is hard to collapse complex entities into a single number. The list of knocks against GDP as a measure of social progress is a long one. GDP does not count any economic activity that is not paid for, such as work done in the home. If you cook dinner, take care of the kids, and tidy up around the house, none of that counts toward the nation’s official output. However, if you order out food, drop your kids off at a child care center, and hire a cleaning lady, all of that does. Nor does GDP account for environmental degradation; if a company clear-cuts a virgin forest to make paper, the value of the paper shows up in the GDP figures without any corresponding debit for the forest that is now gone.

China has taken this last point to heart. Chinese GDP growth over the past decade has been the envy of the world, but it has come at the cost of significant environmental degradation. Of the twenty-five most polluted cities in the world, sixteen are in China (you’ve never heard of most of them). China’s State Environmental Protection Administration has begun to calculate “Green GDP” figures, which seek to evaluate the true quality of economic growth by subtracting the costs of environmental damage. Using this metric, China’s 10 percent GDP growth in 2004 was really closer to 7 percent when the $64 billion in pollution costs are taken into account. Green GDP has an obvious logic. The
Wall Street Journal
explains, “While GDP looks at the market value of goods and services produced in a country each year, it ignores the fact that a nation might be fueling its expansion by polluting or burning through natural resources in an unsustainable way. In fact, the usual methods of calculating GDP make destroying the environment look good for the economy. If an industry pollutes in the process of manufacturing products, and the government pays to clean up the mess, both activities add to GDP.”
⁴

There are no value judgments whatsoever attached to traditional GDP calculations. A dollar spent building a prison or cleaning up after a natural disaster boosts GDP, even though we would be better off if we did not need prisons and if there were no disasters to clean up after. Leisure counts for nothing. If you spend a glorious day walking in the park with your grandmother, you are not contributing to GDP and may actually be subtracting from it if you’ve taken the day off to do it. (True, if you take grandma bowling or to the movies, the money you spend will show up in the GDP figures.) GDP does not take into account the distribution of income; GDP per capita is a simple average that can mask enormous disparities between rich and poor. If a small minority of a country’s population grow fabulously rich while most citizens are getting steadily poorer, per capita GDP growth could still look impressive.