Saturday, September 5, 2015

Knowing The REAL Disparities In Profitability


Dollar voting is super solid! The rest of your story seems… shaky. In your previous story you wrote this… 

The sooner more of us buy organic (increased demand), then the sooner more companies will enter the market and create more (increased supply to meet demand), and the sooner the price will drop (due to increased competition and economies of scale).

This is super solid! 

But here’s what you wrote in this story…

Say we remove minimum wage and we remove all government social services. This would obviously lead to a short term disaster with many people living in poverty, homeless and hungry. But eventually these people would die, its a competitive world right?

This is super shaky!

Honestly, it seems like these two scenarios were written by two entirely different people. I’m sure that this isn’t the case… it just seems that way. 

If we eliminated the minimum wage and removed all government social services… then all companies would become more profitable as a result of lower taxes. The companies that were no longer required to pay minimum wages would become even more profitable. Because of these higher profits, more companies would enter the market… which would increase competition. Increased competition would have two counterbalancing effects…

  1. The prices of all products would decrease. The prices of products made by unskilled labor would decrease even more. 
  2. The cost of unskilled labor would increase… which would increase the prices of products made by unskilled labor. 

None of this is theoretical. A multitude of companies entered China’s market because they wanted higher profits. Higher profits were possible because labor was a lot less costly in China. Labor was cheaper in China because China used to have a massive labor surplus. Now labor in China isn’t so cheap. The large increase in wages had absolutely nothing to do with mandating minimum wages and everything to do with maximizing the demand for labor.

The demand for productive labour, by the increase of the funds which are destined for maintaining it, grows every day greater and greater. Labourers easily find employment, but the owners of capitals find it difficult to get labourers to employ. Their competition raises the wages of labour and sinks the profits of stock. — Adam Smith, Wealth of Nations 

Of course there’s no guarantee that this is exactly how it would play out if the US eliminated the minimum wage and cut taxes. For all I know… maybe the day after the minimum wage was eliminated… some company would launch a line of robots that could do everything that unskilled workers could do but at a fraction of the cost. Life is dynamic. Conditions and circumstances are constantly changing. 

The key concept is that the real disparities in profitability are absolutely necessary in order to optimally incentivize companies and workers to exit from less profitable areas and enter into the most profitable areas. 

A minimum wage arbitrarily decreases the disparity in profitability. It decreases the incentive for workers to go into more profitable fields and it decreases the incentive for companies to enter into fields which utilize unskilled workers. Just like subsidizing regular farmers would decrease their incentive to become organic farmers. 

Eliminating the minimum wage would increase the disparity in pay between unskilled workers and skilled workers (ie plumbers, electricians, carpenters). How much would the pay disparity increase? It’s impossible to say. But the greater the disparity in pay between unskilled workers and skilled workers … the greater the incentive for unskilled workers to make the effort to become skilled workers. Just like the greater the disparity in profitability between regular farming and organic farming… the greater the incentive for regular farmers to become organic farmers. 

Incentives matter…

If by law every human being wanting support could be sure to obtain it, and obtain it in such a degree as to make life tolerably comfortable, theory would lead us to expect that all other taxes together would be light compared with the single one of poor rates. The principle of gravitation is not more certain than the tendency of such laws to change wealth and power into miser and weakness; to call away the exertions of labour from every object, except that of providing mere subsistence; to confound all intellectual distinction; to busy the mind continually in supplying the body’s wants; until at last all classes should be infected with the plague of universal poverty. — David Ricardo, On the Principles of Political Economy and Taxation

When kids are in school… we really want them to have the optimal incentive to make the effort to learn and develop the skills that they need in order to maximize their contribution to society. We really want students to fully appreciate the real disparity in benefit between studying and slacking. We really don’t want to make unskilled labor appear more attractive or acceptable or adequate than it truly is. If being unskilled means barely scraping by and living uncomfortably… then we really want students to clearly see and appreciate this. This essential information will help them make far more informed career decisions. 

Knowing the real disparities in profitability isn’t just fundamentally important when it comes to different fields… it’s also important when it comes to different locations. 

If the US is suffering from a massive surplus of unskilled labor… then eliminating the minimum wage would result in a massive decrease in wages. Earning a lot less money would push some unskilled workers into much more profitable fields and it would push other unskilled workers into much more profitable countries. The two closest countries are of course Canada and Mexico. The question is… which country would it be most profitable for unskilled workers to move to? Does it matter? Of course it matters! Which is why it would be a big problem if Canada and Mexico lied, via minimum wages, about their respective labor situations. 

It would be extremely beneficial if every country in the world eliminated minimum wages. Unskilled workers would be pushed from the least profitable countries and pulled towards the most profitable countries. Companies would be pushed from the countries with too few workers (labor shortage = expensive labor) and pulled towards countries with too many workers (labor surplus = cheap labor). Eliminating the minimum wage would optimally incentivize workers and jobs to go where humanity needed them most. 

Markets maximize benefit because they create an accurate and interactive treasure map that everybody has access to. If consumers demand more organic food… then the treasure map will be updated accordingly and automatically. Everybody will clearly be able to see the actual size of the organic food treasure. This essential information will help people make an informed decision whether it’s worth it to go after the treasure. Whoever does decide to take the risk and make the effort of going after the treasure…if they manage to reach it before it’s all gone… then they will reap the reward of successfully benefiting society. 

The government, by mandating minimum wages, decreases the accuracy of the treasure map. Nobody benefits when the treasure map shows that the US needs more unskilled workers when it actually has too many unskilled workers. Everybody benefits when the treasure map accurately shows where in the world unskilled workers are needed most. Just like everybody benefits when it’s easier, rather than harder, for unskilled workers to go where they are needed most. 

The reality is, capitalism is doing just fine. The problem is not the system, the problem is what we tell the system to do. The purpose of capitalism should never have been the pursuit of profit. That is not what it was designed for and that is the reason for all the failings listed above.

I disagree with the first sentence because government intervention (minimum wages, numerous barriers to entry, subsidies, tariffs, quotas, unnecessary restrictions on immigration, etc.) decreases, to an incredible extent, the accuracy of the treasure map. An extremely inaccurate treasure map prevents capitalism from doing as well as it should. There would be infinitely more abundance, prosperity and progress if people truly understood the problem with decreasing the accuracy of the treasure map.

The second sentence is true inasmuch as it relates to dollar voting. Consumers are the compass…

The management of a socialist community would be in a position like that of a ship captain who had to cross the ocean with the stars shrouded by a fog and without the aid of a compass or other equipment of nautical orientation. — Ludwig von Mises, Omnipotent Government

The last two sentences really seem to miss the point of profits…

It is thus that the private interests and passions of individuals naturally dispose them to turn their stocks towards the employments which in ordinary cases are most advantageous to the society. But if from this natural preference they should turn too much of it towards those employments, the fall of profit in them and the rise of it in all others immediately dispose them to alter this faulty distribution. Without any intervention of law, therefore, the private interests and passions of men naturally lead them to divide and distribute the stock of every society among all the different employments carried on in it as nearly as possible in the proportion which is most agreeable to the interest of the whole society. — Adam Smith, Wealth of Nations 

If the US ends up with too many unskilled workers… then their wages should naturally decrease in order to automatically alter this “faulty distribution” (misallocation, inefficient allocation). By mandating a minimum wage… the government prevents faulty distributions from being automatically altered. The distribution of workers becomes even more faulty when the minimum wage is increased. It pulls even more workers to the US when it should be pushing them to countries that have a greater demand for unskilled labor. It pulls even more students out of school when it should be pushing them into learning and developing skills that there’s a greater demand for. 

As a collective society we need to reframe our willingness to pay based on the value that something brings to our society. We need policies that prioritize the collective utility over our individual needs.

There are a lot of movies that deal with the idea of the greater good. My favorite is Hot Fuzz. Another movie that comes to mind is The Cabin in the Woods

The idea of placing a higher priority on collective rather than individual utility is, to put it bluntly, entirely nonsensical. The only way that you can truly know whether something has actually increased the collective’s utility is to get accurate feedback from the collective. But the collective is simply a collection of individuals. 

With our current system… we elect representatives who determine whether something truly is in the greater good. And, if we disagree with their assessment of what the greater good truly is, then we replace them with better representatives. 

The premise of representative democracy is that it somehow produces a more accurate treasure map. Yet, for some reason, nobody ever wants to use the same system in the private sector. 

What few people understand is that the accuracy of the treasure map can only be increased by clarifying demand. Clarifying the demand for public goods can easily be accomplished simply by allowing taxpayers to choose where their taxes go (pragmatarianism). This would create a market in the public sector… which would help ensure that the treasure map is just as accurate for public goods as it is for private goods.  

Clearly a market in the public sector wouldn’t have “profits”. But government organizations would gain or lose revenue according to how effectively they served the public. 

Again, incentives matter…

Public services are never better performed than when their reward comes only in consequence of their being performed, and is proportioned to the diligence employed in performing them. — Adam Smith, Wealth of Nations


See also: Workers: Beggars or Choosers?

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