# The Third Industrial Revolution Has Only Just Begun

Bob Gordon released a provocative working paper (ungated) back in August that made quite a splash on the blogs. It is an extreme, more pessimistic version of Tyler Cowen’s The Great Stagnation. Gordon argues—rightly, in my opinion—that economic growth is not automatic. There is no a priori reason to believe that real per capita GDP will grow at 2 percent in the future when it has grown at a rate closer to 0 for most of human history. Maybe the current period is unique—and coming to an end.

The question is worth considering, but in the details of his analysis, there is much that Gordon gets wrong. For example, Gordon looks at growth in the “frontier” economy, the economy that is most advanced in each period. This means the UK from 1300 to 1906 and the US from 1906 to 2007 (where he stops his story to abstract from the financial crisis). When looking at a single wealthy economy, global factor-price equalization that results in lower middle-class wages seems like a bad thing. But of course, these lower wages are the result of higher wages elsewhere—they are wages for poor people who can increasingly contribute to the frontier of innovation as they get wealthier. Limiting the analysis to a frontier national economy seems inappropriate when one of the major global trends is a reduction in the discreteness of national economies.

I have a lot of other complaints—for instance, I wanted to refer Gordon to Noah Smith on global warming—but for the rest of this post, I am going to focus only on one particular issue. Gordon divides our progress over the past 250 years into not one, but three Industrial Revolutions. IR #1 was from 1750 to 1830 and gave us steam power and railroads. IR #2 ran from 1870 to 1900 and yielded electricity, internal combustion, running water, indoor toilets, communications, entertainment, chemicals, and petroleum. IR #3 started in 1960 and gave us computers, the Internet, and mobile phones.

Gordon takes the view—entirely defensible—that IR #2 is the one that is the most important, and that it took about 100 years for its “full effects to percolate through the economy.” But both in his definition and discussion, he gives short shrift to IR #3.

The computer and Internet revolution (IR #3) began around 1960 and reached its climax in the dot.com era of the late 1990s, but its main impact on productivity has withered away in the past eight years. Many of the inventions that replaced tedious and repetitive clerical labor by computers happened a long time ago, in the 1970s and 1980s. Invention since 2000 has centered on entertainment and communication devices that are smaller, smarter, and more capable, but do not fundamentally change labor productivity or the standard of living in the way that electric light, motor cars, or indoor plumbing changed it.

Later in the paper, he writes,

Attention in the past decade has focused not on labor-saving innovation, but rather on a succession of entertainment and communication devices that do the same things as we could do before, but now in smaller and more convenient packages. The iPod replaced the CD Walkman; the smartphone replaced the garden-variety “dumb” cellphone with functions that in part replaced desktop and laptop computers; and the iPad provided further competition with traditional personal computers. These innovations were enthusiastically adopted, but they provided new opportunities for consumption on the job and in leisure hours rather than a continuation of the historical tradition of replacing human labor with machines.

I can see how if you’re comparing the advancements of the past few decades to the benefits of indoor plumbing you might come away a little disappointed, and I’m not trying to play IRs 2 and 3 against each other. But I think that Gordon unfairly or unwittingly understates the magnitude of IR #3, because IR #3 has only just begun.

## What is IR #3 and where is it going?

Again, Gordon defines IR #3 as the arrival of computers, the Internet, mobile phones, etc. But rather than focusing on the products, let’s focus on the processes and innovations that got us here—computation, miniaturization, packet switching, and so on. These ideas feature prominently in the products that Gordon uses to define IR #3, but they also have much wider conceivable applicability than just those products.

I think we are on the cusp of an important transition within IR #3. So far, we have used these innovations to make ever faster, smaller, and more useful computers, including mobile phones. We have created, as Gordon notes, a whole lot of dot-coms and online services. But we’re already starting to see engineers and companies dabble with new kinds of products. Rather than merely accepting, transforming, relaying, and displaying information, some new computer-based products have more of a physical—really, a kinetic—effect on the world.

The most obvious example of this new kind of kinetic computing is the autonomous car. Rather than simply gathering information and displaying it to the driver, like a GPS mapping system, we are empowering an onboard computer to make decisions about driving. These decisions have consequences, and it is difficult to program a computer to get them right—much harder than, say, inventing Facebook. But despite the difficulty of the problem, we have made a lot of progress in the last decade, and most of us can look forward to one day owning a robotic car or ordering a robotic taxi to come pick us up.

The point is that computing innovation is going to shift, and is already starting to shift, from the virtual to the physical world. The products that IR #3 has brought us so far are great fun, but because they only really display information to us, they leave a lot for us to do. The main benefit of iR #3 is going to arrive when new innovations make and do things for us.

## Ambient computing

Golden Krishna wrote an excellent blog post recently entitled “The best interface is no interface.” Read the whole thing. The point of the post is that we have not yet done a good job of replacing early computer interface paradigms like WIMP—window, icon, menu, pointer—with natural, unobtrusive, adaptive paradigms. Instead we slap a display on everything and call it progress.

Krishna provides some great examples of the alternative vision, what he calls “No UI,” which include the Auto Tab feature of Pay with Square and Nest. What these products and services have in common is that users empower them to make decisions without direct supervision. They require a little human interaction to set up, but from then on, unless something goes wrong, there is no need to do anything to use the product. The product adapts to you, it gets out of the way, and it feels natural.

We are only just now getting to the point where products like these are becoming possible. So far in IR #3, we have mainly trusted computers with information, not with decisions about the physical world. But as computing improves, we are going to automate more.

In What Technology Wants, Kevin Kelly writes about the “home motors” you could buy a century ago. The idea was that buy a single motor for interchangeable use in a sewing machine, a mixer, a fan, or an egg beater.

One hundred years later, the electric motor has seeped into ubiquity and invisibility. There is no longer one home motor in a household; there are dozens of them, and each is nearly invisible. No longer stand-alone devices, motors are now integral parts of many appliances. They actuate our gadgets, acting as the muscles for our artificial selves. They are everywhere. I made an informal census of all the embedded motors I could find in the room I am sitting in while I write:

[...]

That’s 20 home motors in one room of my home. A modern factory or office building has thousands. We don’t think about motors. We are unconscious of them, even though we depend on their work. They rarely fail, but they have changed our lives. We aren’t aware of roads and electricity either because they are ubiquitous and usually work. We don’t think of paper and cotton clothing as technology because their reliable presences are everywhere.

Once computer chips become as ubiquitous and invisible as motors, and we get competent enough at using them to empower them to make decisions for us without direct supervision, the result will be something like ambient intelligence. It’s hard to predict what people will use AmI for, but it certainly feels to me like a much bigger advance than Angry Birds and Facebook. We’re probably a decade or two away from high-quality ambient intelligence, but given its reliance on the innovations generated on IR #3, AmI should be counted as an IR #3 innovation when it arrives.

## Transport efficiency

The audacious idea that economic growth was a one-time-only event has no better illustration than transport speed. Until 1830 the speed of passenger and freight traffic was limited by that of “the hoof and the sail” and increased steadily until the introduction of the Boeing 707 in 1958. Since then there has been no change in speed at all and in fact airplanes fly slower now than in 1958 because of the need to conserve fuel.

Gordon is right that travel speeds have not increased much in recent decades. If you had told me in that 1980s that by 2012 I would still never have traveled faster than sound (relative to the Earth), I would have been very disappointed. And while some interesting technologies are in the pipeline—scramjets, spaceplanes, and so on—it will be a while before these are commercialized.

But in the meantime, the efficiency of transporting people and goods could explode in the near future. Gordon is well aware of autonomous cars, so I won’t belabor the point, but it seems obvious to me that a morning commute during which I am able to productively get started on my day is almost like no commute at all. An evening commute during which I am able to relax and unwind is almost like no commute at all. If we calculate effective speed by dividing travel distance by wasted time, then technologies like autonomous vehicles and to a lesser extent in-flight Wi-Fi are starting to make up for some of the stagnation in proper transport speed.

I have already written about how revolutionary commercial drones are likely to be. Local deliveries will be made robotic quadrocopters instead of by humans, and FedEx will switch to blended-wing unmanned cargo freighters that will reduce the cost of long-range goods transport by a factor of five, making air transport competitive with (only about twice as expensive as) ocean transport. A key point about the quadrocopter revolution is that it needed the iPhone market to get started:

As Dan Shapiro notes, “A single high-quality gyro used to go for a thousand bucks.  Now, you can get 3 gyros, 3 accelerometers, and a nice CPU to manage the whole thing for under a sawbuck.”

Commercial drones face some regulatory hurdles, but assuming these can be overcome, they will be an important contribution of IR #3.

## Matter compilers

Traditional printers have a kinetic effect on the world—they put ink to paper—but not really. We value them for the informational quality of the printed product, not for the physical structure of the object that comes out of the printer. 3D printing is not that different from traditional printing, but its impact is likely to be much larger. It is another element of IR #3 that is still in development.

When I got a chance to see a 3D printer in person earlier this year, I was underwhelmed. There is still very little that consumer 3D printers can produce that I would actually want. But future generations of printers will almost certainly be much more useful as they become able to print in a wider array of materials.

In particular, I am excited to see chemical printers. People will be able to make their own drugs—both medical and recreational. This may sound dangerous, and perhaps it will be. But with the adoption of quantum computing we will be able to simulate chemical reactions in advance, something that we still cannot do efficiently with classical computers. Such simulation will greatly improve the feasibility of moving quickly to human trials on new drugs, including self-experimentation. The combination of quantum simulation and chemical printing could lead to a golden age of pharmaceutical discovery.

## Synthetic biology

Relatedly, synthetic biology is another area where we seem to be observing rapid progress. I am woefully ignorant about synthetic biology—I am ashamed of this and will remedy it soon—so I should probably not be making very strong claims. But it seems important to mention that few if any of the advances in this field would have been possible without computers or prior research that has made heavy use of computers. Consequently, these advances are attributable to IR #3.

## Online education

Total educational spending in the United States is something like 7 percent of GDP (5.5% of GDP is public expenditure, I believe around 1.5% or so is private expenditure). And the quality of education for anybody but the best or richest students is not especially good—the US routinely posts middling scores in international comparisons for primary and secondary education. Even at the college level, where the US excels, a lot of students are being underserved, often because they need remedial help.

We are still using a medieval technology, the lecture, to educate our students. But increasingly entrepreneurs—both for- and non-profit—are looking for better ways of teaching. Many of the new crop of online educational institutions, such as Khan AcademyUdacity, and Marginal Revolution University, are completely free.

People are still experimenting with educational models (and business models), but education that leverages new technologies has several advantages over the old classroom model. For example, in what is known as “flipping the classroom,” students can watch lectures for homework, and do problem sets in class, where they can get help from teachers. The quality of teaching can be higher because everybody can be taught by the very best teachers. And separating the teaching component of school from the coaching and supervision component of school means lower costs and greater specialization, including jobs for people who are not good at teaching but who are nevertheless good at working with kids. At least until the robots can do that too.

Gordon argues that we got a one-time economic boost from educating more people, but now educational achievement has plateaued and we can no longer rely on more education as a source of economic growth. But this seems like a narrow perspective to me. The quality of education certainly has a lot of room for improvement, as does the cost. If we let computers help us teach, we can improve on both of these margins.

While it remains to be seen what the ultimately successful models of online education will be, it would be surprising to me if there is not a major change in the educational industry in the next couple decades. And when that change comes, I bet it will be due to IR #3.

## A new phase of IR #3

I’ve tried to review a number of emerging technologies that are likely to transform our daily lives, how we transport people and goods, how we make stuff, our health, and our educational system. Obviously this is an incomplete list; see Wikipedia for more.

There is still a lot of oomph in IR #3. All of the technologies that I have described are in development, and all of them owe their existence to digital computing. Some of them may founder, and some different technologies may turn out to be more important. But it is a big mistake to think that the world of computing can remain separate from the rest of the world for long. Computing started out set apart because it is safer that way—if your browser crashed or your web server goes down, there are not very large external consequences.

Experience and practice in the safe virtual world are leading to a greater desire and capability to extend these technologies to the physical world. It has taken 50 years, but we are now on the cusp of these changes. The remaining question is whether we will welcome them or try to smother them with regulations and arguments over the transitional gains. The best way out of the Great Stagnation is to eagerly embrace and support the new technologies. But they may be coming whether we want them or not, and that is why I am a long-run growth optimist.

# The Most Important Issue of the 2012 Election? TacoCopters

The election is in full swing, and both sides are trying to make it sound like there’s a lot at stake. But the truth is, on many of the issues that divide the country, there are not as many degrees of freedom as politicians claim. The government can’t keep running trillion-dollar deficits forever, so at some point that will stop. There will be some mix of tax increases and spending reductions regardless of who is elected. Many issues have already been decided cumulatively, over the last decade, and merely await congressional or presidential acceptance of reality.

But there are some important and under-appreciated issues that will genuinely be decided in the next four years. Chief among these is that the FAA is scheduled to make its first rules for the commercial use of drone aircraft by September 2015. Under current rules, such use is illegal. But the cost of drone components is plummeting so quickly that widespread use of drones is now an option. As Dan Shapiro notes, “A single high-quality gyro used to go for a thousand bucks.  Now, you can get 3 gyros, 3 accelerometers, and a nice CPU to manage the whole thing for under a sawbuck.”

When most people think of commercial drones, they think of TacoCopter, the fake-but-delicious-sounding taco delivery service. The idea is simple. Download an app, place your order, upload your location, and within minutes, a small unmanned quadrocopter shows up with your tacos. If the FAA makes good rules, such a service is likely to emerge. In fact, thousands of such businesses might even get started. FoodCopter services will be more convenient than food trucks, and more able to withstand local regulatory efforts provided that federal rules are well designed.

Other local delivery services will also suddenly become possible. Farhad Manjoo has written about how Amazon is making a push into same-day delivery. But package-delivering drones greatly reduce the logistical costs of the same-day delivery business, to the point that quite possibly most companies will offer same-day drone drop-off. Drones could change not just the way we shop, but the way our cities develop—we could live more densely, and with narrower streets, if we did not need to drive to the store so much, and if trucks did not need to make deliveries.

The use of commercial drones in long-distance delivery might be even more important. Chris Anderson says that FedEx founder Fred Smith is extremely interested in switching their fleet to unmanned aerial vehicles.

He says that they’d like to switch their fleet to UAVs as soon as possible but that this will have to wait for the FAA, which has a tough road ahead in figuring out the rules of NAS integration. Unmanned cargo freighters have lots of advantages for FedEx: safer, cheaper, and much larger capacity. The ideal form is the “blended wing” (example shown). That design doesn’t make a clear a distinction between wings and body, so almost all the interior of both can be used for cargo. The result is that the price premium for air over sea would fall from 10x to 2X (with all the speed advantages of air).

Reducing the cost of air transport by a factor of five and making it competitive with post-shipping container ocean transport would be an astounding achievement. It would increase the number of mutually-beneficial trades that are possible, which is pretty close to the definition of economic growth. And think also of the fuel savings and environmental gains.

Making air transport competitive with ocean transport would have additional benefits. When I was in Rwanda last year, a number of officials and business leaders that I talked to cited the fact that Rwanda was landlocked as an obstacle to growth. Even though there is little corruption in Rwanda, the corruption in neighboring countries is cutting Rwanda off from trade. As I reported with Rohac and Shah,

A study by the Rwandan Ministry of Trade and Industry reveals that in order to reach the port in Mombasa, Kenya, some 900 miles away from Kigali, a lorry driver needs to pay an average of USD 864 in bribes, and stop at 36 different road blocks and 10 weighbridges. The representative journey used for the study, using a tea shipment of two containers, took over 93 hours to reach the destination.

If the price of air transport fell to only twice the cost of ocean transport, corruption in neighboring countries would not disrupt the flow of goods. Rwanda would have a shot at more exports. Drones are a technology of resistance for Rwanda viz. its neighbors.

But of course, Rwanda is not where drones are going to be further developed, at least not any time soon. A lot of commercial drone development is going to happen—or not happen—in the US in the next several years. And the “not happen” possibility worries me. After all, consider that commercial use of the Internet was unnecessarily delayed for decades:

A handbook on computing at MIT written in 1982 warned students: “It is considered illegal to use the ARPAnet for anything which is not in direct support of government business. . . . Sending electronic mail over the ARPAnet for commercial profit or political purposes is both anti-social and illegal. By sending such messages, you can offend many people, and it is possible to get MIT in serious trouble with the government agencies which manage the ARPAnet.”

This doesn’t have to happen to drones. Instead of delaying the introduction of drones while the FAA writes tons of safety regulations, we should use the existing tort system to enforce safe operation of drones. Regulatory agencies are not well suited to managing highly dynamic sectors of the economy. The tort system, on the other hand, because it addresses cases and controversies after the fact, would be more capable of setting efficient safety guidelines for drone operators. And if we adopted a common law approach rather than a regulatory approach to drone safety, we could have our TacoCopters now, not several years down the road.

To my knowledge, no one has asked the candidates about this important issue. But I hope someone will. The American people deserve to know which one is more committed to opening up urban airspace to commercial use.

# Zero Marginal Utility Goods

Standard consumer theory says that rational consumers will select their consumption of goods A and B such that $\frac{MU_A}{P_A} = \frac{MU_B}{P_B}$, with of course the tiny disclaimer that for some pairs of goods, there will be a corner solution; that is, for some goods A and B, some consumers will optimize not according to the preceding expression, but by consuming zero of either good A or good B.

Now, is that really a tiny disclaimer? Don’t we each get zero marginal utility from most goods? I made this point on Twitter yesterday and got this reply from Alex Tabarrok.

Now, it’s true that in a world of discrete goods, when price is high, that will result in a corner solution. But sometimes marginal utility is just really low, zero, or even negative due to storage and disposal costs. There are some things that even most billionaires do not buy.

I pointed Alex to a squirrel yard statue, which I found by searching “knick knacks” on Amazon.com (it was the fourth item). He yielded.

This resulted in a fun game of finding weird, zero-marginal-utility stuff online. Among other good items, Adam Ozimek found Vanna Speaks, Adam Gurri the Misty Mate Pet Misting System, and Jim Ulbright a life-size Anubis statue.

What can we learn from this exercise? I think there are a few things. First, while it’s fun to have a laugh at some of the weird products on the market, somebody is buying at least some of this stuff at least some of the time. I was memorably reminded of this because when Daniel Lin nominated gold lamé MC Hammer Parachute Pants as a ZMU good, Adam Ozimek vociferously disagreed. He ended up buying a pair for himself.

It’s tempting to think of the economy as supplying goods we all want to everyone (in uneven proportions of course), but it’s important to remember that the economy also supplies goods that most of us would not want to the few people who want them, including ourselves. This is not a trivial problem and it may not be solved smoothly through time. Fischer Black built his theory of the business cycle around the idea that it is difficult to match today’s production to tomorrow’s tastes, but it is also difficult to find the right buyers for today’s products.

Second, there is a direct analogy from the goods market to the labor market. Once you concede that most goods provide zero marginal utility to most consumers, you almost must concede that most workers provide zero marginal product to most firms. The math is the same. The ZMP hypothesis, therefore, is not some extraordinary claim that defies common sense.

Just as matching weird goods to weird people is hard, matching some workers to the right firm is hard. Nominal shocks can make this harder even in the absence of sticky wages and prices. People who have nominal debt change their consumption patterns when a nominal shock hits, and both people and firms can misinterpret nominal shocks in the short run per the Lucas Islands model. In the face of changing consumption and production patterns, Black’s Noise plays a role, and when the consumer-product matching problem is hard, the firm-worker matching problem is that much harder. Again, this is true even if wages and prices are totally flexible, and even if you support NGDP targeting (I do).

Oddly since these ideas owe much to Hayek, some Hayekians are slow to accept the ZMP hypothesis. Don Boudreaux at Cafe Hayek tells a comparative advantage story to rebut ZMP that is completely devoid of firms and therefore employment, in which all parties have perfect information and do not need to discover patterns of production. But ZMP is on the march; Karl Smith, a diehard New Keynesian, is starting to make some pro-ZMP noises.

So when you start to think that ZMP is a weird claim, just remember ZMU goods. I myself am not expecting to have much difficulty remembering ZMU goods. One is on its way to me. Tweeter @fbaseggio has bought for me the squirrel yard statue.

I’m looking forward to installing it in Alex’s office when he isn’t there.

# What Does Steve Jobs Show Us About Central Planning, Democracy, and Occupy Wall Street?

Karl Smith playfully suggests that it is ironic that Steve Jobs has so many fans among Austrian economists:

Apple was principally the complete opposite of the decentralized local-knowledge driven catallaxy that Austrian’s trumpet. It was a highly centralized, tightly controlled integrated company that managed every step of the process from design to retailing.

…Apple seemed to operate on the basis of “Five Year Plans” in which the Politburo decided what the future was going to look like and did what was necessary to bring it into being.

This is exactly what is supposed to not work, yet it worked spectacularly.

I am not an Austrian, but I do have a certain fondness for Hayek. I also believe that Steve Jobs is about as close to a Randian hero as can be expected outside of a novel. But contra Karl, I don’t think there is any tension here. In fact, I think a Hayekian (and Alchianian) view of competition can help us better understand why Steve Jobs was so great, and Steve Jobs can show us why in politics central planning, democracy, and voice-based political reforms are doomed to mediocrity or failure.

As a preliminary, let’s get out of the way the fact that it is well understood by Austrians and their fellow-travelers that central planning will always exist in a market economy. Coase’s The Nature of the Firm makes exactly this point. Firms are islands of command and control in a sea of free exchange. The exact boundaries of the firm in a market economy depend on transaction costs and the costs associated with central direction of resources. Hayek also articulates this in his most popular article, The Use of Knowledge in Society. The question is not whether planning will be done, but who is to do the planning?

Readers may be less familiar with what I will call the Hayek-Alchian view of competition. In “The Meaning of Competition,” an essay in Individualism and Economic Order, Hayek argues that “competition is by its nature a dynamic process whose essential characteristics are assumed away by the assumptions underlying static analysis” (p. 94). Armen Alchian takes this further in his 1950 article, Uncertainty, Evolution, and Economic Theory. Alchian models the economy as an environment that selects practices for survival on the basis of positive or negative profits. It’s not firms’ motivation that matters; it is results. This evolution-based account is necessarily more dynamic than the profit-maximizing (motivation-driven) model that economists usually adopt.

Framed in this way, we can now ask the important question: Is Apple successful because it was big and centrally directed, or is it big and centrally directed because it was successful? From a Hayek-Alchian perspective, the answer is clearly the latter. Having a Randian hero centrally direct a lot of resources is not, in spite of Apple’s story, a recipe for success. Instead, following a recipe for success will result in a lot of resources to direct. Finding a recipe for success, not accumulating the resources to direct, is the hard part. That is why we need competition.

And that is why Steve Jobs was great. He had a recipe for success, a vision that worked, and he fought relentlessly for it. It could have been luck; an implication of Alchian’s view is that “[e]ven in a world of stupid men there would still be profits” (p. 213). But I don’t think it was pure luck. Here’s to the crazy ones.

The fact that Steve Jobs centrally directed billions of dollars of resources well does not mean that central planning has much hope in our political context. States do not face the market test, or if they do, it is on large time scales that make evolution toward relatively efficient forms of organization too slow to be useful.

However, if states did face the market test, I think I would be happy to live under the central planning of a Steve Jobs figure. Let a thousand nations bloom, let governance firms enter and exit, let customers migrate between jurisdictions easily. I think under these conditions, central planning would “work,” not in the sense that it would be 100 percent efficient, but that it would discover the recipes for the kinds of political products we all want to buy.

This is the biggest problem, in my view, with democratic political reform. Whether it’s the Tea Party or Occupy Wall Street, most reformers think things will get better if only their voices are heard more clearly. That is a pitiful, static, zero-sum conception of progress. What we really need are institutions that subject entire governments to Hayek-Alchian competition. When we have that, I think we’ll all be happy with centrally planned politics, but central planning won’t deserve the credit; the competitive process will.

# Genetic Lotteries and Egalitarian Redistribution

I wrote a comment on Karl Smith’s post about genetics and egalitarianism, but I thought it might be worth elaborating on the point.

Let’s suppose that a genetic lottery is about to be held. You have a fifty percent chance of ending up as Eli Dourado, gifted economist, chick magnet, high lifetime-earner. You also have a fifty percent chance of ending up as Friedrich Dourado, loyal beagle-German shepherd mix, chick magnet (though without the testicles to partake), low lifetime-earner.

Right before the lottery is run, someone (shall we call him Rawls?) offers you a deal. Rawls has a million dollars to give you, but you must allocate it between your two possible genetic outcomes. If you allocate the money to Eli and you end up as Friedrich, you get nothing, and vice versa. You can also split the million dollars any way you wish between the contingent persons. How do you allocate the money?

In Karl’s calculus, the decision is easy. Friedrich Dourado has much lower lifetime earnings than Eli Dourado, so most of the allocation should go to him. “If we could we would like [to] buy insurance against having been born with bad genes…[P]urely for the sake of economic efficiency it makes sense [for] society at large to insure you against risks for which the free market cannot possibly create insurance.”

There is of course a problem with this argument. Friedrich is a dog. He has very little use for money. As long as he is well stocked with food and chew toys and given plenty of exercise and socialization, he is happy. A million dollars would not change his utility that much. Eli is a human. He has quite a lot of use for a million dollars.

The point is that you do not buy insurance to transfer money from states of the world in which you are richer to states of the world in which you are poorer. You buy insurance to transfer money from states of the world in which you have lower marginal utility of wealth to states in which you have higher marginal utility of wealth. The optimal allocation of the million dollars between Eli and Friedrich is where their marginal utilities of wealth are equal—most of it should go to Eli.

Most people who advocate egalitarian redistribution do not extend it to include dogs (it’s genuinely puzzling why not, but that’s beyond the scope of this post). Let’s take for granted that if you’re in the genetic lottery, you’re going to be human. The same logic nevertheless applies. You want to transfer money to your high MU state. Other things equal, if you’re poor, you have high MU of wealth. But other things are not necessarily equal.

Suppose you are born with “impulsive genes.” This dramatically lowers your earning potential. You have lower lifetime income and this raises your MU of wealth. However, you also have dramatically lower appreciative capital. You never studied in school or read books outside of school. You know nothing about history, foreign languages, architecture, food, etc. What use would you have for, say, a trip to Europe? Or dozens of other expensive uses of money? Your lower appreciative capital decreases your MU of wealth.

The problem of redistributing money so as to mimic an efficient insurance market is much harder than egalitarians think. You cannot assume with certainty that someone who is poor has higher MU of wealth than someone who is rich. An efficient insurance market would probably not transfer wealth from poor people to billionaires, but it is entirely possible that it would transfer money from someone who is relatively poor to someone who is relatively rich at some point on the income spectrum. If you want to be an egalitarian, in other words, you should be in search of firmer ground to stand on than this particular market failure argument.

# The “Brutality” of Private Law

Today on Twitter, I got involved in a discussion of private law with Karl Smith (or whichever of the Modeled Behavior bloggers controls @modeledbehavior) [Update: It was Adam Ozimek]. My interlocutor was perfectly willing to accept that a system effectively of private law was suitable for non-violent offenses. Violators would pay restitution equal to damages times the reciprocal of the probability of detection (for optimal deterrence) and any enforcement costs such as court fees, the costs of investigation, and so on. Tort claims should be tradable so that the poor victims would get justice as well; they could sell their claims to wealthy entrepreneurs who would finance the up-front costs of investigating and litigating the tort.

However, I faced resistance when I said I favored such a system for violent offenses as well. Karl (or whoever) Adam said it would lead to mob justice in cases where the amount of restitution was too large to be repaid. In most customary, private legal systems, violators who cannot or do not comply with court-imposed demands for restitution lose the protection of the legal system.

As I read the literature, there is reason to suppose that private systems of law handle violent offenses relatively efficiently. Anderson and Hill argue that the American Wild West, on and beyond the fringes of government control, was not actually that wild. Bruce Benson documents the gradual transformation of customary Anglo-Saxon law to modern state-based law, which at each step seems to have been motivated by rent-seeking considerations, not by a desire to improve the efficiency of violent crime-fighting. Leeson explores the adjudication of violent offenses along the sixteenth-century Anglo-Scottish borderlands, effectively a war zone; this was not a pleasant place and time to live, but the system of adjudication was more orderly than might be supposed. Modern-day Somalia is under customary law, and while it doesn’t do a good job of protecting outsiders against pirates, it protects Somalis from other Somalis well enough that the Somali economy is outperforming that of its neighbors in many regards. Again, not where I’d like to live, but let’s not suppose that a public legal system would turn Somalia into Northern Virginia overnight either.

Nevertheless, the literature on private legal protection against violence leaves something to be desired. There are many more papers on how private legal systems such as the Lex Mercatoria arose to enforce contracts, even with heterogeneous agents in one-shot trades. At least that is the literature I am more familiar with (see, for instance, this survey by Powell and Stringham). To some extent this is because states have more thoroughly coopted control of the prosecution of violent offenses than that of non-violent offenses, and therefore there are fewer examples. But I’m interested to know if there are other papers I’m missing specifically on how violent offenses are handled in private courts, preferably as recently as possible (I know also about the systems of Medieval Iceland and Ireland).

But while it would be great if the literature on private enforcement against violent offenses were more plentiful, I doubt that the objection most people have to such a system is at root about efficiency or orderliness. Rather, the enforcement of violent offenses frequently involves penalties that we prefer to impose at arm’s length. A serial killer has so many victims and owes so much restitution that the legal system won’t protect him even after all of his assets have been seized to make partial restitution for his crimes. As a result, he’d likely be killed for his crimes under a private legal system. In a public legal system in much of the world he’d be killed as well, but the difference is that we’ve invented an entity called the public executioner to act as a moral veil between the public and its actions.

This reminds me of something that Tyler wrote in October:

Any social system must, at some stage of interactions, impose some morally unacceptable penalties.  If you are very hungry, and you shoplift food, they still might prosecute you.  If you don’t pay your taxes, and resist wage garnishes, they might put you in jail.  If you resist arrest, they might, at some point in the chain of events, shoot you while trying to escape.  Somewhere along the line there is a doctor who can treat your rare disease except he doesn’t feel like working so much, and so he lets you die or suffer; you can find both private and public sector examples here.

Social systems proceed by (usually) covering up the brutalities upon which they are based. The doctor doesn’t let you get to his door and then turn you away, rather his home address is hard to find.  The government handcuffs you so they don’t have to shoot you trying to escape.  And so on.

Those of us who believe that publicly-enforced criminal law leads to numerous injustices need to acknowledge the strength of the public system. It lets ordinary citizens feel like they are not the ones doing the enforcing. It enables a kind of self-deception that a private system does not automatically provide.

Is this a feature or a bug? On one hand, the world might be a gentler place if we were not able to self-deceive about the brutalities that we impose on each other. On the other hand, if the failure of private systems to supply this self-deception means that we are stuck with the many deficiencies of the public system (e.g., police discretion, which leads to corruption, rape of prostitutes, and victimization of the poor), then it’s imperative that we either try a) to discover ways for private law to provide self-deception or b) to unmask the brutality of the public system.

# Why I am not a Liberaltarian

Will Wilkinson offers what Karl Smith calls “Liberaltarianism in one sentence.”

It’s best to just maximize growth rates, pre-tax distribution be damned, and then fund wicked-good social insurance with huge revenues from an optimal tax scheme.

Karl muses, “A core hope of my engagement with the blogosphere is to determine why there is so much resistance to this idea.”

My resistance to this idea is not aesthetic. Max g sounds good to me, and fair, non-distortionary social insurance would be a great improvement over what we have now. Nor is it based on a priori taxation-is-theft libertarian dogma. I don’t believe in natural rights. My opposition, if you can call it that, to one-sentence liberaltarianism is practical, intellectual, and moral.

My practical objection is, simply stated, “You can’t get there from here.” If you study public choice, the economics of politics, you learn that there is a logic to why we have the institutions and policies that we have. To invert a title from Buchanan and Congleton, we have politics by interest, not principle. Or if you’re a Caplanian, majority rule means irrational rule.

Public choice issues are unavoidable. The interests that influence the government cannot be eliminated without eliminating the government, and possibly not even then. And if we eliminated democracy and therefore irrational voters, they would simply be replaced by irrational subjects, whose irrationality would constrain the dictator as surely as voters constrain democracy. There’s no way around public choice.

Liberaltarians sometimes point to Denmark (or wherever the example du jour is) and say, “If they can do it, why can’t we?” Leaving aside the question of whether Denmark actually achieves the liberaltarian ideal, most of the world is not Denmark. Certainly America will never be Denmark. It is too big and diverse. We could eliminate the federal government and divide into 50 states or an even greater number of city-states, matching Denmark’s size, but the people of most of these polities would still possess broader divergence of interests than Scandinavians do. In practice, the US will never get anywhere near a fair and efficient social insurance system (or max g for that matter), and the sooner we can all accept this, the better.

Intellectually, one-sentence liberaltarianism is better than pure leftism because it acknowledges some parts of economic reality. To maximize growth means to adopt free trade and low marginal tax rates and to drop the preoccupation with all forms of inequality. But it also adopts one of the worst features of leftism, the idea that there is a we that can choose how society should operate (conservatives and some libertarians think this too). Society is not designed. It emerges from our interactions. I can’t fully support any ideological statement that treats growth or goodness of social insurance as knobs on a dial that we can turn.

What troubles me the most, though, about one-sentence liberaltarianism is the moral poverty of the statement as the intersection of libertarianism and liberalism. I support Will’s and Brink Lindsey’s project of bringing modern liberals and classical liberals together for dialog. I think there is something very important that libertarians can learn from the left. Leftism, at its best, draws attention to the fact that there are people who are vulnerable and can be taken from. There is a caricature of libertarianism that avoids this and should not. What I wish would emerge from the dialog is an acceptance by liberals of economic reality—all of it, including public choice and the idea that society is a spontaneous order and cannot be designed—and an appreciation among libertarians that sometimes this vulnerability is a greater threat to well-being than bad economic policy is.

I think the liberaltarian coalition that I would like to see would come out strongly in favor of prison reform and of changes in criminal law. According to a friend of mine who studies these things, if you are sent to a medium- or high-security prison these days, the guards tell you on arrival that you must join the gang of your race because they, the guards, cannot protect you in there. Victimless crimes are prosecuted with discretion that inevitably gets used against the poor and vulnerable. I would like to see discussion of why in the world there should be criminal law in the first place. If all offenses were handled through the tort system, and tort claims were tradable so that the poor could always afford to prosecute, there would be no offense where there is no harm, and justice would be less discretionary.

Liberaltarians should come out strongly for open borders. Few people are more vulnerable than those who are born, by accident, in crappy places. They should be allowed to leave and live peacefully wherever they wish, including next door to me, by both liberal and libertarian principle.

Children are highly vulnerable in our society. Liberaltarians should oppose compulsory schooling, which in many places is hard to distinguish from incarceration. This is not to say that fewer children should attend school (though they should), but that giving them the right to leave would ensure that the worst abuses are avoided.

While I am gratified that liberals are learning about the enormous benefits of free trade and the very real harms caused by occupational licensing, my libertarianism is not primarily about max g. Rather, it’s mostly a moral judgment about how we should treat each other. Neoliberalism and one-sentence liberaltarianism obscure that to the point that I can’t really identify with either, though I’d be delighted for liberaltarians to meet me where I stand.