Monday, February 9, 2009

Central Planning Never Works

In the discussion about a stimulus, some people are saying legislators should drop ideology and just "do something", presumably something that works to stimulate the economy.

But central planning doesn't work, nor has it ever worked. Thomas Sowell's Basic Economics explains precisely why. Fundamentally, central planning destroys information:
Under both capitalism and socialism, the scarcity of knowledge is the same, but the way these different economies deal with it can be quite different. The problem is not simply with the over-all scarcity of knowledge, but also with the fact that this knowledge is often fragmented into tiny bits and pieces, the totality of which is not known to anybody.

Imagine the difficulties of an oil company headquartered in Texas trying to decide how much gasoline-and what kinds-will be needed in a filling station at the corner of Market and Castro Streets in San Francisco during the various seasons of the year, as well as in thousands of other locations across the country. The people who actually own and operate the filling stations at all these locations have far better knowledge of what their particular customers are likely to buy at different times of the year than anybody in a corporate headquarters in Texas can hope to have.

Variations can be great, even within a single city at a single time. If people who live in the vicinity of Market and Castro Streets in San Francisco own more sports cars than people who live near the filling station at 19th Avenue and Irving Street, then the filling station owner at Market and Castro is likely to order more premium gasoline than the filling station owner who sells to people with cheaper cars that use cheaper gasoline or to truckers who want diesel fuel. No single person at any given location-whether at a filling station or in corporate headquarters-can possibly have all this information for the whole country at his fingertips, much less keep updating it for thousands of filling stations from coast to coast as the seasons and the neighborhoods change. But that is wholly unnecessary in an economy where each kind of fuel simply goes wherever the money directs it to go.

The amount of such highly localized information, known to thousands of individual filling station owners scattered across the United States, is too enormous to be transmitted to some central point and then be digested in time to lead to government allocations of fuel with the same efficiency as a price-coordinated market can achieve. No oil company knows or cares about this detailed information. All they know is that orders are pouring in for diesel fuel in North Dakota this month, while Massachusetts is buying lots of premium gasoline and Ohio is buying mostly regular unleaded. Next month it may be a totally different pattern and the oil company may not have any more clue about the reasons for the new pattern than about the reasons for the old. But all that the oil company has to do is to supply the demand, wherever it is and for whatever reason. Their job is infinitely easier than the task facing central planners under socialism.

The significance of free market prices in the allocation of resources can be seen most clearly by looking at situations where prices are not allowed to function. Two Soviet economists described a situation in which their government raised the price it would pay for moleskins, leading hunters to get and sell more of them:

State purchases increased, and now all the distribution centers are filled with these pelts. Industry is unable to use them all, and they often rot in warehouses before they can be processed. The Ministry of Light Industry has already requested Goskomsten twice to lower the prices, but "the question has not been decided" yet. This is not surprising. Its members are too busy to decide. They have no time: besides setting prices on these pelts, they have to keep track of another 24 million prices.

--Thomas Sowell, Basic Economics, Chapter 5 (emphasis mine)
This is one of the reasons (perhaps the second most important, the first being freedom) the free market is superior. It allows us to make decisions with prices conveying information about how much value is placed on certain goods and services.

The current package selects where money should go based on political expediency--it has little to do with where resources are needed or desired.

The quick way to get money into the economy is with a tax cut. A real tax cut, not a welfare program paying checks to people who don't pay taxes. That way, individuals can send their money to the resources that are really of value in the economy.

Even FDR's Treasury Secretary (Henry Morgenthau Jr. ) said their efforts failed, on May 9, 1939:
We have tried spending money. We are spending more than we have ever spent before and it does not work. And I have just one interest, and now if I am wrong somebody else can have my job. I want to see this country prosper. I want to see people get a job. I want to see people get enough to eat. We have never made good on our promises. I say after eight years of this administration, we have just as much unemployment as when we started. And enormous debt to boot.
Can we learn from history, please?

1 comment:

Big Jay said...

This whole fiasco going back several years, but at least a decade would not have been able to happen if the population were educated in basic economics.