The Core of What Economics Teaches

0:00Our first speaker is a senior fellow here at the Ludwig von Mises Institute and he teaches, by the way, at Auburn University across the street. In fact, he just got back and he is giving us our time today, giving you his time, rather than the folks over at Auburn. So we We feel good about that. He's one of the few people in the building who used to work for the government. And I'm not sure he ever wants to do that again. But he was the assistant superintendent of banking, of all things, under Governor Fobb James, way back in the late 90s. But now he's a senior fellow of ours.

0:47He's written a number of books. The Economics of Prohibition, Tariffs, Blockades, and Inflation, Economics of the Civil War, the Bastiat Collection, the quotable Mises, graduate of St. Bonaventure University and received his PhD in economics right across the street at Auburn University. He's talking about the core of what economics teaches. Please help me welcome Mark Thornton. Thank you, Doug. It is a real pleasure to be here, and I don't know if you're happy to have me here, but my students across the street are happy to have me here today. Now, there are tons of things. My lecture today is about what the core of economics teaches.

1:35and believe me there's a ton of things that I don't understand I don't understand for example air conditioning and I don't understand how planes fly but I do know that economics tells us how the world works and this is a very important thing it tells us the rules basically of success and failure why Why things work in the economy and why sometimes they don't. So this is very important for each individual person for their own selves in terms of understanding the world and it's also important for all individuals to understand this material because of our actions as citizens and as voters and as participants in society.

2:25So it is very important. It's like mathematics, you know, I liked mathematics for a while in school and then in high school I learned to sort of hate it because they never told us why it was important and it wasn't until I was long gone out of college that I finally figured out is that most people end up working in their careers under somebody who is better at math. So that's the main reason to study math. Now, in the United States, we have a very successful economy, one of the most successful economies in the world, in the history of the world. Countries around the world, some of them don't like everything about the United States, but they all want to emulate our economic success and even parts of our culture.

3:20And if we look at places like Africa, what we find is the polar opposite of a very unsuccessful economy of people dying of starvation and of billions of people around the world living on less than one dollar a day. And that, of course, is a bad thing. And we want to know why it happens. Okay, so we want to know success and we want to know failure. And we can also look at an example of the city of Atlanta, for example, which most of you have probably visited before. It's a city of millions of people, a diverse group of people from many different places spread out over a large area, and yet somehow everyone gets fed every day pretty much what they want, when they want it.

4:15And we have to ask ourself, how can that possibly get done? That's a very complicated task. If you had to sit down and write out all of the inputs, all of the ingredients, and where is this food going to be delivered, and when is it going to be consumed, and how should it taste, you realize the complexities of the world we live in. And economics is what What explains why the United States is so successful, why Africa is so unsuccessful, and how such a complicated thing is feeding the entire city of Atlanta, actually gets done successfully every day. So that's what economics is all about. In Austrian economics in particular, because there's different flavors of economics and and you're going to be exposed to the Austrian flavor of economics.

5:07We're the oldest continuously existing school of economics. We're also the smallest school of economics. And we're also the fastest growing school of economics. So you can chew on that one for a little while. But it's Austrian economics that actually explains How we got into the mess, the economic mess that we are in today. Today in the United States we have 10% unemployment. That's twice as much as normal. That's 7 million people who want to work and who cannot find a job today. And 10% unemployment is basically the cutting edge of the difference between a Recession and an Economic Depression.

6:04So we're in a big economic mess currently. And the federal government has been spending trillions of dollars to try to clean up the mess that they have made of this economy. And the Austrian economist placed the blame for this economic depression on the government itself. And a trillion dollars is a big pile of money. It's enough money to give each and every one of you in this room today one million dollars every day for two whole years. So that's a lot of money. As a matter of fact, if we decided to put the trillion dollars in the bank and we could earn 5.5% interest, 5.5% interest, we could give everyone in this room a million dollars Wars a day, every day, forever, and never touch the original principle.

7:07So this is a big mess if they're spending more than a trillion dollars to try to clean it up. So the next time your parents bring up the big mess that you have made, just remind them that it's still not as big a mess as the politicians have made in Washington D.C. Now in economics, simple things can be complicated and complicated things can be made very simple. Take for example that pencil that you have and pick it up and take a look at it. What do you see? Well, it's not much. There's wood, there's paint, there's the graphite that we write with in the middle, And there's some metal and a rubber eraser at the end.

7:58So this is pretty simple stuff in terms of the economy compared to like an iPod, which is another thing I don't understand. Despite its apparent simplicity, there is no one in the world that knows how to make a pencil. Not a single person on earth knows everything that's involved in making a pencil. And I know that sounds a little unbelievable given that millions and millions and millions of pencils are made, but think about it. Each component in this pencil, the wood, the graphite, the metal at the end, the paint and the rubber eraser is made of raw materials that have been individually harvested using specialized labor and specialized tools.

8:56These materials have also been processed and transported to the pencil factory. Each and every piece has to be cut into precise size pieces. And finally, these pieces have to be ultimately assembled at the factory. And so at each stage of production of each of the inputs requires a whole lot of specialized labor and specialized tools. The people who harvest the trees, for example, for these pencils, as well as the people who harvest the rubber, for the rubber erasers, they don't even know one another. They never come in contact with another, with one another. They probably couldn't do each other's job very well. For example, somebody who's harvesting rubber plants is probably not going to be a good lumberjack. And they also probably have no idea that the products that they're harvesting are actually going to be made into pencils. And they certainly don't know that their efforts have ultimately gone into the production of pencils for students Students and Parents here at the Ludwig von Mises Institute in Auburn, Alabama.

10:16All of the tools that all of those people used for their individual roles in the production process, they also are using tools made by a whole entirely different set of workers using an entirely different set of machines and inputs. So this goes on and on all along the chain of production and when we get to the factory floor of the actual making of pencils we find yet still another specialized set of labor using highly specialized machines and as well as million dollar machines in some cases. So all of these tools are in turn made by another set of people in another locations and it's a very, very complicated process that's almost difficult to imagine.

11:15So that you can see something as simple as a pencil involves a very, very complicated production process involving thousands and thousands of people working in different places Often in Different Countries. The question then becomes how do all these people cooperate with one another? How do all these individuals, companies and individuals within companies coordinate all of their activities so as to bring us a product that has a useful life of a very long period of time? I mean, how many times have you actually gotten down to where the pencil is so small to write with before you lose it or give it away or something?

12:01And it actually costs less than a dime. Okay, so it's a very remarkable result that we get using this highly complex means of production that is fairly smoothly operating and involves the cooperation of many people both within companies and between all of the companies along the chain of production from raw materials to finished consumer products. How does all that get accomplished? Well, basically, it's the price system. The price of consumer goods is established by competition between competing producers and their potential consumers. Consumers, of course, get to choose amongst all the various brands of pencils offered at different qualities and different prices and they also, of course, get to choose between alternative to pencils such as pens, mechanical pencils and so on.

13:04The revenue from the selling of pencils is then used to pay for workers, to buy the inputs, to pay for the machines and all the other expenses. And if there's any money left over, okay, that is the profit to the owner of the company and all the various companies along the chain of production. If there's no money left over and there's not enough money to pay all the expenses of the workers and the raw materials and the machinery, then the company is going to suffer a loss. and the important thing here is that we have this system of profit and loss which keeps everything in line with the satisfaction of the consumers.

13:54The owners of companies have to put up a large investment in order to build the company itself, to hire the labor, everything has to be there before they can make one single pencil or for make the product along the chain of production. So owners have a large investment in their company and therefore they have an automatic incentive to want to keep the company going and to make profits because if they suffer losses on a regular basis, they go out of business. So we have an automatic system in the economy of profits and losses and incentives to protect to protect your capital and to make profits that keeps that whole system along that entire chain of production moving smoothly and cooperatively in a coordinated fashion.

14:51Now in order to get to profits and losses, we need prices. Everything along the chain of production to get to this pencil is going to be priced out. and so we want to know how do prices get set. Well, the curious answer to how prices are determined is that no one gets to actually set prices. For example, I, as a professor, if I was in charge of setting the price for my services, my wages, I would naturally set the price for my services. I would naturally set my wages at what I truly deserved, which I'm guesstimating here is around one million dollars a year.

15:44Well, what are you laughing about? I mean, what I do for society is certainly more valuable than the average baseball player on the Atlanta Braves. I mean, they're just playing a game, especially the way they've been hitting lately. So, I mean, I don't think one million dollars is really out of the question, but if I went to my employer at Auburn University, you know, they have a certain amount of money and a certain amount of revenues that they have, and they have a lot of alternative uses for those revenues, improving the football stadium, paying higher salaries for administrators,

17:26The supply side, in my case, being all those people who are offering their services as an economics professor and the demand side being all of those people who are in need of or want to hire people to give economics lectures. And so in that fashion, market wages and market prices get determined. There are always competitive forces in existence to force prices that are out of competition back into competition. For example, if the University of Alabama was paying economics professors twice what Auburn University is paying economics professors, then you would have all the economists at Auburn University filling out application forms to the University of Alabama, in Alabama, even if they weren't an Alabama football fan.

18:20And you'd have other people also applying to Alabama so that they could lower their wage rates, and of course Auburn, as they see their economists leaving for other institutions, they would have to say, well, we're going to have to pay more to keep what we have and to bring more people to Auburn to teach economics. So prices are determined by the competitive forces of supply and demand in a free and open marketplace. So it's these same competitive forces that set the prices of everything involved in the production of pencils. Everything from the trees standing in the forest, to the wages of lumberjacks, to the wages of the truckers who bring the raw materials to the factory, to the people who sell the to itself, machines and tools, to all of those productive laborers, to the factory itself, and even ultimately to the pencil salesman himself.

19:21Now, in order for the system of prices and the system of profits and loss to remain effective, here we're getting into enough different things that I'll give you my little graphic there, So, this whole system to be fully functioning and to be fully efficient and also to be fair requires a system of property rights, of private property rights in all aspects of the economy. First of all, you have the right to your body, to your person. So that's the first and most important property right.

20:06No one has the right to make a slave out of you, except, of course, your parents. You have the rights to the fruits of your labor and to any material objects that you may own. And finally, you have the right to make contracts with others. And actually, there is a legal stipulation that minors cannot make valid contracts, Contracts, but as soon as you reach the age of majority, everyone has the right to make contracts. You also have the right to any unclaimed natural resources. Of course, most natural resources are claimed by someone or another, but there probably still are some out there yet to be found.

20:57As a matter of fact, the first use of a pencil occurred almost 500 years ago, or at least the first use of the graphite in the pencil occurred 500 years ago when a Scotsman discovered a solid graphite rock formation on his property. He used chunks of the graphite for purposes of marking his sheep. So he was a sheep farmer and of course they didn't have fences so the sheep were always wandering away and like branding the cattle, the Scotsman started the tradition of putting his mark on the sheep so that they knew whose sheep was whose and so he was in a sense branding his sheep with the graphite and he also sold chunks of the graphite to other sheep owners so that they could likewise mark their sheet and have a better claim, a more solid claim to their property.

22:02It wasn't, it took more than 200 years for someone to figure out how to put the wood around the pencil and to form the modern pencil as we now know it. Now violations of property rights are very important. So we need a system of valid, protected property rights to make this whole economy thing work. And in the United States, we have one of the better forms of protecting property. People respect property naturally in the United States. It's almost customary, for example, that you don't walk across your neighbor's yard.

22:51Violations of property rights, however, make us poor. Think of Africa. If someone enslaves you, then you are obviously poor as a result. If somebody steals your stuff, you're going to be obviously poor as a result. If somebody taxes your income, you're going to be poor, so that theft and taxation, especially if they occur on a regular basis, makes us lose our incentive to work hard, to produce, and to save, and everyone is going to be poor as a result if we have systematic violations of property rights in society.

23:39And that's true even of the thieves themselves, or the government itself. If the government is systematically taking away all of our stuff, then we're going to be less likely to produce more stuff. The most common fallacy in economics is that you can make everyone better by violating property rights. Consider what happens any time the government tries to direct the economy in any particular way, including the current effort to stimulate the economy. Any time government does this, the problem is that government must first take away resources from the taxpayer. Because government itself has no resources, it has no money of its own.

24:28It has to get everything that it uses from us. So even if government were to actually solve any kind of problem, which I've yet to come across really, it has created a whole bunch of unseen problems, a bunch of unseen new problems for us. Thomas Frederic Bastiat tells a story of a young boy who was throwing rocks and broke a window. He broke the window of Felix's shoe store and a crowd gathers around the broken glass when somebody remarks that this will be good news for Oscar the Glazier, or the person who actually fixes windows, because he will probably earn more than $1,000 from installing The New Window for Felix. Then Thelma says, well that's good news for me because Oscar and his family are overdue to buy new clothing at my clothing store. And then Louise then says well that's also good news for me too because Thelma now can purchase the necklace that she has been looking at in my jewelry store. And then George explains, well this

25:49here broken window thing is the greatest thing that ever happened in our town. And then Barack The fallacy of the broken window is basically that Felix could have still had his thousand dollars to spend and still have his unbroken window, and spent the thousand dollars on something else. So there is no silver lining to the broken window. It's a loss, plain and simple. But it's a fallacy that is alive and well. And every time we have a natural disaster, someone brings up this fallacy, and unfortunately it's often an economist. For example, headlines, the earthquake destroys hundreds of homes, but economists say it will stimulate the economy.

26:50Or the hurricane destroyed buildings, homes and knocked down power lines for several miles, but experts expect it to stimulate the economy. Okay, there's no silver lining. This is nonsense. Destruction does not stimulate an economy. It simply forces people to rebuild who would rather spend their time and money on other things. If we had a choice to push a button that would prevent any future earthquake or hurricane, is there anyone in favor of not pushing that button? This nonsense about destruction also applies to government efforts to stimulate the economy. When government spends a trillion dollars on a stimulus package, they must take that money away from taxpayers or borrow the money, which means higher taxes and more inflation in the Future.

27:45What this really means is four things. One, taxpayers have fewer resources to solve their own day-to-day problems. Two, higher tax rates give people less of an incentive to work, produce and save. Three, higher taxes inflation discourage investment in the future, which means less economic growth. And four, government spending rarely ever that I can think of actually stimulates an economy. It actually retards the economy. So there's an opportunity cost to all of this government stimulus, bailout, package money that seems to come out of thin air.

28:35An opportunity cost is important in economics. For example, you can buy a half a gallon of milk at the grocery store for about $2, or you can buy it at a gas station for $3. So why would anybody ever buy milk at a gas station? It's because sometimes our opportunity cost is too high to take the time to go to the grocery store simply for one half gallon of milk. So we always have to think of the alternative. And when it comes to government stimulus packages, we have to finance those stimulus packages with our taxes, both in our current and our future tax bills.

29:23And what this really means is that there's a whole lot of things that we could have done with that money, but that we will never actually see to fruition. And I must say that government spending is really often no better than breaking windows. What they are actually spending the money on is things like keeping government bureaucrats in their high paying, no work job, hiring census workers and building bridges to nowhere. This type of spending, I suggest, is every bit of destruction, is the bad boy with his rocks. Thank you very much.