Monday, August 15, 2011

Hard Examples

I have a theoretical mind. I can't help it. I have always been that way, and being trained as a scientist hasn't made it any better. It is both a strength and a weakness. It is a strength in that I can sift through situations and ideas that most would find immensely boring, and then apply my theoretical understanding to new circumstances usefully. It is a weakness in that many people are not so oriented, or at least not so heavily so, and I have a difficult time relating to them.

'Hypertheoreticalism,' which is what I'm dubbing my mental malady, is an excessively Greek outlook. The Greek way of explanation and understanding is through chains of reasoning – if A, then B and not C, and so on. Think Euclid's Elements. Most people, truth be told, prefer Hebrew explanations and understanding – 'Let me tell you a story.' This is the narrative way of understanding, which is a long way of saying that most people like hard examples that they can relate to. I do too, when it comes down to it, and my mind can't handle the theory I'm throwing at it.

I have a second problem as well. I was once a sort of mini-expert on the Myers-Briggs personality type model, where this shortcoming was revealed to me. In the Myers-Briggs model, personality characteristics are assigned as four sets of paired dichotomies, the most important of which – at least as far as learning and understanding is concerned – is the final quality, whether one tends to perceive, or to judge, as his primary means for ascertaining new knowledge or truth. I am a Perceiver, which means that I look for consistencies or patterns across a wide range of observations, but neglect strict internal consistency within my ideas. Judgers, on the other hand, tend to neglect observation and instead derive new knowledge on the basis of trusted information which they already know. Thus they focus on rigorous internal consistency at the expense of breadth.

Most people – especially the argumentative types that one encounters on the blogsphere – are Judgers, so again, I tend to fail to impress. This same orientation is reflected, I think, in an old description of philosophers as being either bees – who fly about all over from flower to flower, taking whatever there is to offer – or spiders, who weave their intricate, perfect webs in a tiny corner somewhere and rarely venture out. Again, I am a bee, and most people seem to be spiders.

Narratives have generally been useless to me unless I have had a theory against which to understand the story. Unfortunately, it is stories which most people need to see the utility and relevance of theory. So, I have typically been dealing in theories and generalities, when it appears that narratives and particulars are what is most needed. I admit that this is my weakest suit but I shall here try to oblige.

The following three examples, I think, reflect the theories I have been dealing with in action. At least, I will try to show that they do, though I am not a professional economist and am not really equipped at actual practice. But I will try. They will also still at least have some generality to them, as I wish to protect identities.

Case 1 – The Uncrooked Crook

I know of a man who is a millionaire. He became so by the use of a particular scam, of which he became a master. This seems to be the model of a great number of 'successful' men – identify a useful loophole in the system that others do not really understand, and use it to the hilt. But I am digressing into theory again. He repeated it over and over, and it never seems to have failed him. To my knowledge, he never landed himself in jail, because what he does is not illegal.

The basic scam consists of about three parts, although I am sure that there are other elements which I am not familiar with that are necessary to make it work, as it is so brazen a pilfering. No doubt one of them is personality and charm. In the first step he would get a job at a fairly large company as a purchasing agent or with some role in such a capacity. The specifics are not so important. In the second step he would set up a separate company which sells some item which the company that he works for uses. The specific instance that I know of was delivery vans. The company which he worked for (but did not own) would be used to buy the vans from the company which he did own. Of course, in his capacity as owner, he had bought the vans cheaply and sold them dearly at the larger company's expense and his own great profit, using his capacity as a purchasing agent to ensure that his company got the contract.

He would modify the vans very slightly and make some excuse as to why the company he worked for needed those particular vans. But in the end, the company would notice the hemorrhaging cash at some point, and he would be fired. He would then move on, and repeat the same procedure at another company, building a fortune in the process as he ripped off one employer after another.

So far as I can tell, he was was utterly destructive of wealth and human happiness, but was able to profit from it by making use of two market limitations. First, he created a market restriction for himself by dealing only with himself at two separate companies. He had a monopoly of van sales to the company he worked for (but did not own), which allowed him to evade competitive pricing. Secondly, he obviously made use of limited information at at least two points. He used the limited knowledge of the larger company about vans (or whatever he was peddling to them at the time), which he had been hired as a purchasing agent to deal with, but obviously did so in bad faith. Secondly, he used limitation of knowledge in the business community at large and the labor market in order to get job after job and use the same scam over and over.

As described by the Porter 5 forces, markets need perfect access to information and competitive bidding, in addition to some other criteria, to work efficiently. When these conditions are not satisfied, and everyone pretends that markets still work anyway and everything is still fine and dandy, this is an example of what can happen. It is not a knock against capitalism or markets, it is an example of a failure of capitalism in theory to deal with markets in reality. In the old days, I would have said that the fact that he was fired shows that markets do work. Today I would say that the fact that he profited – and, might I add, continues to profit over the course of a long and distinguished business career – through the destruction of wealth shows, well, something else, but at the least that this outlook is naive. (In case you can't tell, I've been mired in something of an existential crisis these past few months and have generally been avoiding the topic in favor of things like idiotic dating theories and trippy quasi-theological utterings.)

Business schools specifically teach budding businessmen these kinds of tactics (check that link! Go to 23:00 or so and watch from there if you are pressed for time) – how to undermine markets. Note that this is exactly what Veblen said they would do – insert a market restriction by which to undermine the market and disproportionately profit at the expense of others.

Case 2 – Graduate School

I offer up this second broad category of cases in contrast with the one above.

There are so many misconceptions about higher education that it would take a multi-volume work to begin to expunge them and replace them with a remotely accurate understanding in the minds of people who haven't taken part – and even in many who have. By 'higher' here, I actually mean the highest – the graduate schools, where Ph.D.'s and such are conferred.

I will limit myself here to point out that 1) such 'education' is heavily subsidized by taxpayers, especially in the hard sciences, and 2) that the US 'imports' and 'educates' hordes of such 'students,' mostly from places like China and India. I am not sure of the statistics, but if I were to find that US schools awarded more Ph.D.'s to foreign than domestic students, it would not surprise me, especially if the inquiry were limited to those fields most heavily subsidized.

Many people are under the delusion that this situation arises because Americans are not so much up to the rigor of the task, or have no inclination towards it. I assure the reader that this is largely untrue. I do not deny the talents of those who come here – even, on average, a general superiority in some aspects, anyway (but not necessarily the most important ones.) No, Americans who do have the talent for graduate studies not generally go for it because of a fairly well-kept secret of science and engineering – there is not that much money in the field, and certainly not enough to justify the hell of higher education, even when it is 'free.'

I have known brilliant engineers and scientists whose products have made millions and millions of dollars for companies who themselves make little. Most of the Ph.D. holders I know make about what public school teachers make, and often less. This is because the field is flooded with them. They are a dime a dozen, businesses know it, and they treat them that way. Contrast their reward for productivity and their contributions with the man described above. If markets reward value contributed, what is going on here?

Again, to understand the theoretical how's and why's, consult Porter's 5. An advanced education is a market barrier – a natural restriction. Normally, not that many people would try to surmount it to enter a particular career. A business bidding for such a worker would necessarily have a smaller pool to choose from, pushing up wages. They know this. This is exactly the type of restriction they try to use in their own favor (except for the personal price tag which it takes to 'install,' of course) now working against them. Their business models tell them to eliminate restrictions among their suppliers – like labor – just as much as to install them against their customers. That is the way to maximize profits. So, they do, and especially in such a way that attempts to minimize costs to themselves.

Industry lobbies government with laments of insufficient scientific and engineering talent, the magical boon of technology, and a crisis of national security. Can't have the Chinese catching up, after all. Government responds by handing out subsidized and often free educations, and when the market gets so thoroughly saturated with degree holders that Americans get discouraged with prospects in the field, government begins importing poorer nationalities. All courtesy of the taxpayer. The whole thing has become such a racket now that it has become self sustaining in that insiders of the system have become dependent on the cash flows and are committed to its continuation. It doesn't matter how little graduates are needed or desired by markets, so long as it remains possible graduate schools will continue to churn out degree holders with little or no prospects for getting a position appropriate to their abilities. Believe me, 'the fruit rots on the vine' does not begin to describe the situation. Some spend their entire 'careers' seeking full employment, and instead get stuck in the barely remunerated pit of 'postdoctoral training' forever.

Again, the 'capitalist' may point out that it was an anti-capitalist action by government which created the situation, with which I would agree. But again, I would remind him that it was profit-seeking business motivated by well-established business models that incited the action, using constitutionally protected freedom of speech and petition to attack the system. As well, it was democratically elected politicians which carried out their wishes. Again – non-capitalistic, but a real part of the real world that is subject to influence by the goings-on of a capitalist market.

It is not a failure of capitalism per se, it is a failure of capitalism to survive the collision with reality, or perhaps reality to survive a collision with capitalism, and yet further testimony that without established habits and customs to limit the application of freedoms to undermine said freedoms and rights, a free system can rapidly decay into the Servile State of Belloc or the Imperialist State of Veblen. This is an excellent demonstration of Veblen's contention that the competition between businessmen would rapidly spread from the goods market, to the capital market, and eventually to the political arena of government and the legislature. If not limited to legitimate competition, it will rapidly devolve into illegitimate competition. Again – limited, the opposite of free.

Case 3 – The Destruction of Honest Enterprise

This last case will primarily be a demonstration of illegitimate competition in capital markets, made possible by an illegitimate treatment of money and banking on the basis of pure contract.

I have a friend whose father used to own and operate a successful gravel pit operation. I say 'used to' because he no longer does. He was run out of business in a method almost exactly described by Veblen in the Theory of Business Enterprise. Now he is a freelance welder.

To my abilities to analyze the situation, it it appears that the situation was set up by two market restrictions, both 'natural.' The first is that gravel is generally so cheap and abundant -- a fraction of a cent on the pound at the time – that it cannot profitably be transported long distances. A gravel pit is therefore geographically limited to deliveries of perhaps a few tens of miles from where the gravel is unearthed, so that a large company will be forced to operate several pits in different locations if it is to expand, rather than one giant pit for a large area -- which it would rather do, to minimize the necessary invested capital.

The second is that it takes a considerable capital investment to open a competitive gravel pit, which functions as a pretty heavy barrier to entry, as does the expertise of how to operate the equipment. I would estimate the cost of equipment of opening a gravel pit at several million dollars or so.  It requires very big, heavy, expensive equipment. Labor is expensive enough that it takes considerable mechanical equipment to make for a profitable venture, at least under present conditions. Most people would agree that this, at least, is a good thing.

These two restrictions create an economic situation which might be characterized as local oligopoly. At most, a few firms might be able to service any particular spot of geography, and each firm competes only with a few nearby neighbors.

Those firms in my friend's father's vicinity, naturally, tried to use this to their advantage. They realized that to get prices up, they would have to choke off supply somehow and eliminate competitive pricing. Enter the inflationary banking system. Note – if you do not understand how the banking system is inflationary or why this situation is economically illegitimate, I do not have time or space to explain here. Suffice it to say that it is not, and the reason why and how it works is somewhat complicated, and the situation is made possible by a strict belief that keeping a contract is all that matters, regardless of the integrity of money or its ability to actually reflect economic reality. The competing firms borrowed loads of money at artificially suppressed interest rates and bought up all the available land leases in their vicinity at prices which were simply unprofitable.

Throughout the seventies, my friend's father did fine, as most businesses were afraid to borrow, with or without inflation. They were, in fact, being crowded out by Washington's borrowing. He had no trouble with availability of land. But when rates fell in the eighties, and especially in the nineties, suddenly this monopolistic approach took off, and he was left high and dry. Eventually, he simply ran out of gravel. Though there was plenty physically available around him, all the rights had been bought with inflating money. He was forced to close the business and sell off his capital, a lot of it for scrap. The competing firms no longer competed, at least with him.

With my friend's father's firm eliminated, the competing firms closed their own facilities and opened much larger sites further away from the city.  This way they could service a larger area with a minimal capital investment.  It didn't matter that these facilities were less efficient and they had to pay more to transport the gravel -- they had pricing power over their customers, so they just rammed higher prices down their throats.  With a barrier to entry on the order of millions of dollars, and a stranglehold on supply, they do not have to worry about a new competitor coming in and taking away customers for a product that would otherwise sell for less than a penny a pound.

The consumer was hurt. Market efficiency was damaged. My friend's father and his family were hurt. The only people who came out well were the businessmen that caused the damage. In return for their nefarious rent-seeking genius, screwing their customers, destruction of economic efficiency, and undermining of markets, they get to live high on the hog.  Meanwhile, the honest man who did make markets more efficient and served his customers well had his business destroyed.  This is not how capitalism is supposed to work.  This is not a process of 'creative destruction' for the sake of economic growth. This is destructive destruction for the express purpose of parasitism and economic decay.

I can honestly say of him and his wife that they are The Nicest People I Have Ever Met. They are not theoretical, hypothetical beings. They are real human beings with real families and lives, not fodder to send through an ideological meatgrinder.

Nowhere have I invoked an anti-capitalist action or sentiment to tell their story. The FED would not have had to exist, nor any other government agency or intervention take place for it to happen. It is purely an outcome of the free market, applicable to any similar situation.


I'm not sure how to conclude this thing. I would think I'd made my point to exhaustion by now and it was time to move on, but no doubt the response to this will be 'well, these are just isolated cases...' or 'you're not really describing capitalism...' or some other no-true-Scotsman type argument.

I think it was Aristotle who came up with the idea that a thing could not be itself and not itself at the same time. It was certainly popularized by Ayn Rand, capitalist apologist extraordinaire. One cannot have freedom of contract and not freedom of contract at the same time. One cannot have absolute property rights and limited property rights at the same time. One cannot even have freedom of contract and property rights at the same time, because property rights place limitations on freedom of contract, and certain applications of freedom of contract will interfere with itself. Something has to give. The freedoms one does have, and the rights that one does have, must be defined, qualified, and limited in some manner, or else they don't make sense and the situation will lead to its own destruction. For example, one can only divorce so much sovereignty from his property before it ceases to be property. But if one cannot freely divorce his sovereignty piecemeal, or that sovereignty which has formerly been surrendered by a previous owner is not allowed to stand, does anybody have freedom of contract? Do contracts mean anything anymore?

I would think that most of this was elementary once it had been pointed out, and my continued commentary on it was beginning to border on the absurd.

Whatever the case, my main argument is about the nature of the collision between capitalism as an ideal and the real world, and what to do about it. For the capitalist who complains that people should not behave in an anti-capitalist manner, I must say that I agree. I have said this myself, and I am also a capitalist. And socialists should not steal from the system they belong to, either. In both cases they should not, and in both cases they do. A system that is designed to govern the behavior of people who do not exist, who are purely theoretical people, is perfectly fine for those purely theoretical people and a purely theoretical world. But for real people, demands and expectations must be a little different.

Capitalism must survive practical tests of the real world with a certain amount of integrity if it is to perform 'as advertised.' If it is not to morph into a horrendous monstrosity, such behavior must be curtailed in some manner. Businessmen that are free to destroy the free market most certainly will, and they are perfectly able to do it within the rubric of capitalism. Capitalism itself is insufficient to stop them.

For capitalism to survive, something else must be invoked. If the capitalist says that markets were more free in the past, such that it is in fact possible to have more free markets than exist today, I say that he is right. And markets today are less free than they were, so it is also possible for them to get less free. The question is really about what drives things in each direction.

It was not the free market that produced the free market. Causes necessarily come before effects. Yesterday gives rise to today. The free market, in practice, as a practical matter, has produced the welfare state. It did not sustain itself. It was medievalism that produced the free market, and I am beginning to suspect that it is the residues of medievalism – which are wearing away as we speak – which made the old style free markets possible. Medievalism almost did sustain itself, but then it didn't. That is not to say that any of this had to be that way, or that it is always that way, but the more I look into it, the more it seems to be the case.

What is for certain is that capitalism is not sticking around on its own. If it is to stick around, and to work as the capitalists advertise, it needs help – in the form of behavioral restraints.

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