Economics in One Lesson

by Henry Hazlitt

The Lesson after Thirty Years


The first edition of this book appeared in 1946. It is now, as I write this, thirty-two years later. How much of the lesson expounded in the previous pages has been learned in this period?

If we are referring to the politicians—to all those responsible for formulating and imposing government policies—practically none of it has been learned. On the contrary, the policies analyzed in the preceding chapters are far more deeply established and widespread, not only in the United States, but in practically every country in the world, than they were when this book first appeared.

We may take, as the outstanding example, inflation. This is not only a policy imposed for its own sake, but an inevitable result of most of the other interventionist policies. It stands today as the universal symbol of government intervention everywhere.

The 1946 edition explained the consequences of inflation, but the inflation then was comparatively mild. True, though federal government expenditures in 1926 had been less than $3 billion and there was a surplus, by fiscal year 1946 expenditures had risen to $55 billion and there was a deficit of $16 billion. Yet in fiscal year 1947, with the war ended, expenditures fell to $35 billion and there was an actual surplus of nearly $4 billion. By fiscal year 1978, however, expenditures had soared to $45’ billion and the deficit to $49 billion.

All this has been accompanied by an enormous increase in the stock of money—from $113 billion of demand deposits plus currency outside of banks in 1947, to $357 billion in August 1978. In other words, the active money supply has been more than tripled in the period.

The effect of this increase in money has been a dramatic increase in prices. The consumer price index in 1946 stood at In September1978 it was 199.3. Prices, in short, more than tripled.[12]

The policy of inflation, as I have said, is partly imposed for its own sake. More than forty years after the publication of John Maynard Keynes’ General Theory, and more than twenty years after that book has been thoroughly discredited by analysis and experience, a great number of our politicians are still unceasingly recommending more deficit spending in order to cure or reduce existing unemployment. An appalling irony is that they are making these recommendations when the federal government has already been running a deficit for forty-one out of the last forty-eight years and when that deficit has been reaching dimensions of $50 billion a year. [13]

An even greater irony is that, not satisfied with following such disastrous policies at home, our officials have been scolding other countries, notably Germany and Japan, for not following these “expansionary” policies themselves. This reminds one of nothing so much as Aesop’s fox, who, when he had lost his tail, urged all his fellow foxes to cut off theirs.

One of the worst results of the retention of the Keynesian myths is that it not only promotes greater and greater inflation, but that it systematically diverts attention from the real causes of our unemployment, such as excessive union wage-rates, minimum wage laws, excessive and prolonged unemployment insurance, and overgenerous relief payments.

But the inflation, though in part often deliberate, is today mainly the consequence of other government economic interventions. It is the consequence, in brief, of the Redistributive State—of all the policies of expropriating money from Peter in order to lavish it on Paul.

This process would be easier to trace, and its ruinous effects easier to expose, if it were all done in some single measure—like the guaranteed annual income actually proposed and seriously considered by committees of Congress in the early 1970s. This was a proposal to tax still more ruthlessly all incomes above average and turn the proceeds over to all those living below a so-called minimum poverty line, in order to guarantee them an income— whether they were willing to work or not—”to enable them to live with dignity.” It would be hard to imagine a plan more clearly calculated to discourage work and production and eventually to impoverish everybody.

But instead of passing any such single measure, and bringing on ruin in a single swoop, our government has preferred to enact a hundred laws that effect such a redistribution on a partial and selective basis. These measures may miss some needy groups entirely; but on the other hand they may shower upon other groups a dozen different varieties of benefits, subsidies, and other handouts. These include, to give a random list: Social Security, Medicare, Medicaid, unemployment insurance, food stamps, veterans’ benefits, farm subsidies, subsidized housing, rent subsidies, school lunches, public employment on make-work jobs, Aid to Families with Dependent Children, and direct relief of all kinds, including aid to the aged, the blind, and the disabled. The federal government has estimated that under these last categories it has been handing federal aid benefits to more than 4 million people—not to count what the states and cities are doing.

One author has recently counted and examined no fewer than forty-four welfare programs. Government expenditures for these in 1976 totaled $187 billion. The combined average growth of these programs between 1971 and 1976 was 25 percent a year—2.5 times the rate of growth of estimated gross national product for the same period. Projected expenditures for 1979 are more than $250 billion. Coincident with the extraordinary growth of these welfare expenditures has been the development of a “national welfare industry,” now composed of 5 million public and private workers distributing payments and services to 50 million beneficiaries. [*]

Nearly every other Western country has been administering a similar assortment of aid programs—though sometimes a more integrated and less haphazard collection. And in order to do this they have been resorting to more and more Draconian taxation.

We need merely point to Great Britain as one example. Its government has been taxing personal income from work (“earned” income) up to 83 percent, and personal income from investment (“unearned” income) up to 98 percent. Should it be surprising that it has discouraged work and investment and so profoundly discouraged production and employment? There is no more certain way to deter employment than to harass and penalize employers. There is no more certain way to keep wages low than to destroy every incentive to investment in new and more efficient machines and equipment. But this is becoming more and more the policy of governments everywhere. [14]

Yet this Draconian taxation has not brought revenues to keep pace with ever more reckless government spending and schemes for redistributing wealth. The result has been to bring chronic and growing government budget deficits, and therefore chronic and mounting inflation, in nearly every country in the world.

For the last thirty years or so, Citibank of New York has been keeping a record of this inflation over ten-year periods. Its calculations are based on the cost-of-living estimates published by the individual governments themselves. In its economic letter of October 1977 it published a survey of inflation in fifty countries. These figures show that in 1976, for example, the West German mark, with the best record, had lost 35 percent of its purchasing power over the preceding ten years; that the Swiss franc had lost 40 percent, the American dollar 43 percent, the French franc 50 percent, the Japanese yen 57 percent, the Swedish krone 47 percent, the Italian lira 56 percent, and the British pound 61 percent. When we get to Latin America, the Brazilian cruzeiro had lost 89 percent of its value, and the Uruguayan, Chilean, and Argentine pesos more than 99 percent.

Though when compared with the record of a year or two before, the overall record of world currency depreciations was more moderate; the American dollar in 1977 was depreciating at an annual rate of 6 percent, the French franc of 8.6 percent, the Japanese yen of 9.1 percent, the Swedish krone of percent, the British pound of 14.5 percent, the Italian lira of 15.7 percent, and the Spanish peseta at an annual rate of 17.5 percent. As for Latin American experience, the Brazilian currency unit in 1977 was depreciating at an annual rate of 30.8 percent, the Uruguayan of 35.5, the Chilean of 53.9, and the Argentinean of 65.7.[15]

I leave it to the reader to picture the chaos that these rates of depreciation of money were producing in the economies of these countries and the suffering in the lives of millions of their inhabitants.

As I have pointed out, these inflations, themselves the cause of so much human misery, were in turn in large part the consequence of other policies of government economic intervention. Practically all these interventions unintentionally illustrate and underline the basic lesson of this book. All were enacted on the assumption that they would confer some immediate benefit on some special group. Those who enacted them failed to take heed of their secondary consequences—failed to consider what their effect would be in the long run on all groups.

In sum, so far as the politicians are concerned, the lesson that this book tried to instill more than thirty years ago does not seem to have been learned anywhere.

If we go through the chapters of this book seriatim, we find practically no form of government intervention deprecated in the first edition that is not still being pursued, usually with increased obstinacy. Governments everywhere are still trying to cure by public works the unemployment brought about by their own policies. They are imposing heavier and more expropriatory taxes than ever. They still recommend credit expansion. Most of them still make “full employment” their overriding goal. They continue to impose import quotas and protective tariffs. They try to increase exports by depreciating their currencies even further. Farmers are still “striking” for “parity prices.” Governments still provide special encouragements to unprofitable industries. They still make efforts to “stabilize” special commodity prices.

Governments, pushing up commodity prices by inflating their currencies, continue to blame the higher prices on private producers, sellers, and “profiteers.” They impose price ceilings on oil and natural gas, to discourage new exploration precisely when it is in most need of encouragement, or resort to general price and wage fixing or “monitoring.” They continue rent control in the face of the obvious devastation it has caused. They not only retain minimum wage laws but keep increasing their level, in face of the chronic unemployment they so clearly bring about. They continue to pass laws granting special privileges and immunities to labor unions; to oblige workers to become members; to tolerate mass picketing and other forms of coercion; and to compel employers to “bargain collectively in good faith” with such unions— i.e., to make at least some concessions to their demands. The intention of all these measures is to “help labor.” But the result is once more to create and prolong unemployment, and to lower total wage payments compared with what they might have been.

Most politicians continue to ignore the necessity of profits, to overestimate their average or total net amount, to denounce unusual profits anywhere, to tax them excessively, and sometimes even to deplore the very existence of profits.

The anticapitalistic mentality seems more deeply embedded than ever. Whenever there is any slowdown in business, the politicians now see the main cause as “insufficient consumer spending.” At the same time that they encourage more consumer spending they pile up further disincentives and penalties in the way of saving and investment. Their chief method of doing this today, as we have already seen, is to embark on or accelerate inflation. The result is that today, for the first time in history, no nation is on a metallic standard, and practically every nation is swindling its own people by printing a chronically depreciating paper currency.

To pile one more item on this heap, let us examine the recent tendency, not only in the United States but abroad, for almost every “social” program, once launched upon, to get completely out of hand. We have already glanced at the overall picture, but let us now look more closely at one outstanding example — Social Security in the United States.

The original federal Social Security Act was passed in 1935. The theory behind it was that the greater part of the relief problem was that people did not save in their working years, and so, when they were too old to work, they found themselves without resources. This problem could be solved, it was thought, if they were compelled to insure themselves, with employers also compelled to contribute half the necessary premiums, so that they would have a pension sufficient to retire on at age sixty-five or over. Social Security was to be entirely a self-financed insurance plan based on strict actuarial principles. A reserve fund was to be set up sufficient to meet future claims and payments as they fell due.

It never worked out that way. The reserve fund existed mainly on paper. The government spent the Social Security tax receipts, as they came in, either to meet its ordinary expenses or to pay out benefits. Since 1975, current benefit payments have exceeded the system’s tax receipts.

It also turned out that in practically every session Congress found ways to increase the benefits paid, broaden the coverage, and add new forms of “social insurance.” As one commentator pointed out in 1965, a few weeks after Medicare insurance was added: “Social Security sweeteners have been enacted in each of the past seven general election years.

As inflation developed and progressed, Social Security benefits were increased not only in proportion, but much more. The typical political ploy was to load up benefits in the present and push costs into the future. Yet that future always arrived; and each few years later Congress would again have to increase payroll taxes levied on both workers and employers.

Not only were the tax rates continuously increased, but there was a constant rise in the amount of salary taxed. In the original 1935 bill the salary taxed was only the first $3,000. The early tax rates were very low. But between 1965 and 1977, for example, the Social Security tax shot up from 4.4 percent on the first $6,600 of earned income (levied on employer and employee alike) to a combined 11.7 percent on the first $16,500 (Between 1960 and 1977, the total annual tax increased by 572 percent, or about 12 percent a year compounded. It is scheduled to go much higher.) At the beginning of 1977, unfunded liabilities of the Social Security system were officially estimated at $4.1 trillion.[16]

No one can say today whether Social Security is really an insurance program or just a complicated and lopsided relief system. The bulk of the present benefit recipients are being assured that they “earned” and “paid for” their benefits. Yet no private insurance company could have afforded to pay existing benefit scales out of the “premiums” actually received. As of early 1978, when low-paid workers retire, their monthly benefits generally represent about 60 percent of what they earned on the job. Middle-income workers receive about 45 percent. For those with exceptionally high salaries, the ratio can fall to or 10 percent. If Social Security is thought of as a relief system, however, it is a very strange one, for those who have already been getting the highest salaries receive the highest dollar benefits.

Yet Social Security today is still sacrosanct. It is considered political suicide for any congressman to suggest cutting down or cutting back not only present but promised future benefits. The American Social Security system must stand today as a frightening symbol of the almost inevitable tendency of any national relief, redistribution, or “insurance scheme, once established, to run completely out of control.

In brief, the main problem we face today is not economic, but political. Sound economists are in substantial agreement concerning what ought to be done. Practically all government attempts to redistribute wealth and income tend to smother productive incentives and lead toward general impoverishment. It is the proper sphere of government to create and enforce a framework of law that prohibits force and fraud. But it must refrain from specific economic interventions. Government’s main economic function is to encourage and preserve a free market. When Alexander the Great visited the philosopher Diogenes and asked whether he could do anything for him, Diogenes is said to have replied: ‘Yes, stand a little less between me and the sun.” It is what every citizen is entitled to ask of his government.

The outlook is dark, but it is not entirely without hope. Here and there one can detect a break in the clouds. More and more people are becoming aware that government has nothing to give them without first taking it away from somebody else—or from themselves. Increased handouts to selected groups mean merely increased taxes, or increased deficits and increased inflation. And inflation, in the end, misdirects and disorganizes production. Even a few politicians are beginning to recognize this, and some of them even to state it clearly.

In addition, there are marked signs of a shift in the intellectual winds of doctrine. Keynesians and New Dealers seem to be in a slow retreat. Conservatives, libertarians, and other defenders of free enterprise are becoming more outspoken and more articulate. And there are many more of them. Among the young, there is a rapid growth of a disciplined school of “Austrian” economists.

There is a real promise that public policy may be reversed before the damage from existing measures and trends has become irreparable.

* Charles D. Hobbs, The Welfare Industry (Washington, D.C.: Heritage Foundation, 1978).