Wednesday, November 17, 2010

Redistribution's Assumptions

In the WSJ Jonah Lehrer discusses a bizarre 'behavioral economics' type experiment that to him suggests people like taxes:
The study began with 40 subjects blindly picking ping-pong balls from a hat. Half of the balls were labeled "rich," while the other half were labeled "poor." The rich subjects were immediately given $50, while the poor got nothing. Such is life: It's rarely fair.
...
When people in the "rich" group were told that a poor stranger was given $20, their brains showed more reward activity than when they themselves were given an equivalent amount. In other words, they got extra pleasure from the gains of someone with less.

If life's rewards were primarily arbitrary I agree that people would would be in favor of higher taxes. Success in life is a combination of luck, effort, and ability. One big difference between Conservatives and Liberals is the relative weighting they see on luck and effort in our lives.

The Rawlsian Theory of Justice starts from the presumption that social status, intelligence, strength, even ambition, is exogenous, so rewards are all the luck of the draw. In that case, massive egalitarian redistribution would be preferred.

The problem, as Robert Nozick pointed out, is that people have preferences, and willingly pay to watch star athletes, or buy specific products (iPads), which then skew the distribution of income. To take away the rewards to such people and products will mean these services and products do not exist, which is a worse state of affairs, as demonstrated by people's willingness to pay for these things in the initial state. Virtue and vice are basically defined by their statistical results to the actor, so these payoffs are not incidental but rather intrinsically related to what is called good and bad behavior.

Nozick assumes effort is a function of reward; Rawls that painters, athletes, and inventors will be relatively unmoved by taxes and subsidies.

People like fairness, but this means different things depending on how rewards are created. It is fair to redistribute random bounties, not fair to redistribute wealth that motivated its creation. While one might think that if they had a mechanism to distinguish the two and tax accordingly this would be an improvement, the fact is taxes and state fees are created via a collective mechanism that is more about fortifying coalitions via patronage jobs on the one end and barriers to entry on the other. Thus, it is fairer in the real world to minimize the state Leviathon so these truly arbitrary allocations are minimized. For example, I'm sure many unskilled workers would prefer to have jobs at the Post Office, but these positions are primarily distributed independent of ability and effort.

11 comments:

Robert Johnson said...

"One big difference between Conservatives and Liberals is relative weighting they see on luck and effort in our lives. "

Maybe that's why the privileged children of the wealthy tend toward liberalism: because they know that luck has been the most important force shaping their privileged lives. They know that they haven't earned their comforts and status, and assume that what has been true in their own lives is largely true for most people.

Robert Johnson said...

"To take away the rewards to such people and products will mean these services and products do not exist..."

I think that statement is too strong. There would be less of those products and services, yes. But I think we'd still have athletes who played for the love of the game. Seems like I'm making a weak point here, but there's more to it in the paragraph below.

Markets have limits to what they can achieve because of the limits of convertibility. This isn't a small problem, it's a big one. I can't really trade money for everything I need. I can't actually buy respect, friendship, love, and to lesser degrees I can't buy health or equality. So markets start to not work well when we concern ourselves with filling those needs and desires.

Finally, there's a problem with money as a medium of exchange because the value you place on a dollar changes with your wealth. This is a problem because it means that when two parties try to transact, there's a gap between their relative valuation of the price, in dollars. An extreme example: a man dying of thirst who has no money values a glass of water a great deal, but still cannot agree on price (in dollars) with a water vendor who values a glass of water at 5 cents.

Anonymous said...

I would say this somewhat differently. Individuals' outcomes are driven by a combination of factors, including exogenous conditions beyond their control but also endogenous factors like the amount of effort and the quality of decisions the individual makes. There is no proven theoretical or empirical basis to identify how much of any one's outcomes are attributable to any of those factors. No complete data exist to enable any analytic model to be applied to individuals. In a condition where no one knows what is attributable to exogenous conditions or to endogenous acts of the individual in question, what is the most appropriate amount of coercive intervention - as is required for redistribution? You have to look at other values to make a proposal of any kind. What those are is beyond the scope of this comment.

Mark Schreiner said...

I think you have a great point Eric that rewards depend on effort, ability, and luck. A little introspection reveals to me that effort and ability matter, although it is generally very hard to determine the "luck" part.

In a cross-country perspective, I am pretty lucky to have been born in the USA and not, say, Haiti or Chad, because in the USA the rewards to my effort and ability are much greater than in Haiti.

My own feeling is that the USA provides a very high level of opportunity, even for relatively disadvantaged people, but in very poor countries, even the smartest, hardest-workingest people have very little chance of being rewarded beyond the average.

Anonymous said...

To me the biggest state-driven allocation is towards asset owners and those that work in and around credit creation.

Our economic system essentially works as follows: do whatever it takes to keep wages low (i.e., inflation) such that you can tolerate unlimited credit creation if need be. With low "inflation" you can have low interest rates and high asset valuations relative to underlying cash flows. Then, with all the wealth accumulated in the hands of large asset-owners you must do whatever it takes to support asset prices since they control the spending in aggregate. Assets up, inflation up, wages down - the American Dream.

I think the notion that Americans feel like things are unfair is a direct result of our "logical" system that allows wealth to be insanely concentrated in the hands of those who own assets (particuarly if bought pre-1990) and who work in finance.

As someone who works in finance I can tell you that equally smart and hard-working people in other industries earn about 1/5 of what we do. It's good to have state backing. Yet all the elite seem to focus on are the small obvious subsidies like who gets a job at the Post Office. The State has bankrupted the lower/middle classes and the upper class feels 100% as though they've earned it.

techperson said...

And it is only going to get much worse, because in an inflation the winner is he who owns the assets, and the loser is he who has to spend a significant fraction of his income to survive.

Bernanke’s biggest flaw is that he thinks this is only a credit contraction recession, so he can fix it with credit expansion tools. He doesn’t realize that he is up against (1) a generational shift to the Gen Xers who got buried in student loans, and view credit very differently from the Baby Boomers, (2) the retirement of said Boomers, the pig in the python with the largest cohort turning 48 ( the year of peak consumption per Harry Dent) in 2005 – did something change after that? And (3) technology, which slashes prices every year (OMG – deflation!).

SurviveTheGreatInflation.com the book launched yesterday – Bernanke isn’t going to change – given his history, he can’t – and Obama doesn’t have any idea how awful his appointments were. It's inflation coming, not deflation. Don't ever bet against the Fed.

E Hines said...

I can't actually buy respect, friendship, love, and to lesser degrees I can't buy health or equality. Market forces are irrelevant to the first three. We do maintain a great deal of personal control over whether, and how, we obtain respect, friendship, and love--our own actions earn/maintain these. We could buy health services (or not--used to be a personal choice) at far lower cost were free market forces allowed to play, leading to far lower taxes to support the truly indigent. Our social contract acknowledged our inherent equality; there's nothing here to buy, albeit a great deal yet to enforce (though not in terms of outcomes--see the discussion centering on earning, hard work, etc).

...what is the most appropriate amount of coercive intervention - as is required for redistribution? Since government-mandated redistribution, as implemented today, is little more than theft and generally the transfer of value from those who have earned it to those who have not, the answer quite clearly is zero. Until market forces are allowed freely to operate, we have no hope of identifying those who truly, through their own incapacity, as opposed to laziness, need redistributive assistance. Those who've had a run of bad luck need a hand up, not welfare.

Luck certainly is a player in success, but even luck can be manipulated to an extent, by preparation so as to be able to take advantage of luck when it happens. Successful gambling isn't about being lucky, it's about money management. Success in other endeavors stems from hard work, preparation, and risk adjustments.

We have a credit crunch today from a number of causes: one is political and an inability to set the rules vis-a-vis taxes; one is political and an inability for borrowers to identify quality credit risks, since "quality" now has political correctness criteria in addition to serious criteria; and one is a reluctance to borrow due to low inflation. In an inflationary environment, creditors are favored since they repay with devalued dollars. Not being able to repay in this fashion drives up the lifetime cost of borrowing. The tension over low wages involves not only the two parties of employer and employee, but very critically, the consumer, also. If labor costs go up too far, the product's price will go up far enough to negatively impact sales--and so employment. What's the value of a high wage job that disappears?

It's true enough that it's hard to sort out the success factors of effort, skill, and luck. But a free market does the best job of rewarding, over the long run, effort and skill, since over the long run, luck factors balance out. To denigrate effort and skill because we can't identify clearly the degree of luck, and to base redistribution policies on this is highly suboptimal. Robert Johnson was right, at the top of this thread.

Eric Hines

Anonymous said...

E Hines,

That sounds great in theory but there is no such thing as a free market. It is simply an illusion. Consider this, the Fed sets the price of short-term interest rates and the Chinese govt sets the price of CNY/USD. So there you have it - arguably the two most important prices in the world are set by the state.

These prices also have massive wealth consequences. So many of those who have "earned" their wealth have simply been on the right side of these governmetnal decisions. So many of those who lament that they must have done somethging wrong have simply been on the wrong side of these decisions.

There is no free market. If we can just realize that we'll be better off. We need to start focusing on all forms of wealth distirubtion not just those that are obvious and benefit the poor (e.g., welfare). You don't end up with the highest concentration of wealth in US history without the government playing a big role. The credit-creators have won. They think they earned it.

Anonymous said...

Last post just dangerously wrong. Govt screwing up markets, as justification for govt doing worse. And the disgusting view that MOST income difference is not merit based because some PRICES are set by interfering govt. Hard to achieve this type circular idiocy by accident.

Anonymous said...

"As someone who works in finance I can tell you that equally smart and hard-working people in other industries earn about 1/5 of what we do."

Uh, then why doesn't everyone work in finance? It is not close to hereditary. So why? Might it be your premise about equality is wrong?

Anonymous #5 said...

Maybe that's why the privileged children of the wealthy tend toward liberalism: because they know that luck has been the most important force shaping their privileged lives. They know that they haven't earned their comforts and status, and assume that what has been true in their own lives is largely true for most people.

Great point. This also explains why there is very little opposition to the estate tax in America, because the various billionaires who were wise enough to be born Waltons and such naturally tend to liberalism. This also explains why everyone who has ever made anything of himself is a conservative, while everyone of unreasonable privilege is liberal. (Cue defense of confirmation bias because a generalization doesn't have to hold in *every* case to be valid, it only has to hold in cases that support one's prior beliefs and prejudices.)