ECONOMIC ANALYSIS: Why economists focus on increasing the size of the pie

June 23, 2008

I recently was invited to attend a t ow n - h a l l - s t y l e debate between members of a local fire department and an a n t i - p r o p e r t y - t a x group. For those of you who are sporadic readers of this column, it is important for me to clarify that I have recently angered both groups. It seems my research on government consolidation and property taxes fell between both of their lobby positions.

So, I thought it was likely the invitation was extended as a sort of team-building exercise by both groups. Perhaps lynching an economist would pave the way for more constructive dialogue. Sadly, my calendar was full, and I could not attend. But, it did get me thinking that I ought to explain a bit about how economists evaluate public-policy decisions such as tax reform and government consolidation.

First, economists worry most about what I call the "size-of-the-pie problem." We like to see policies in place that provide more goods and services for all. The technical jargon for this process is "welfare maximizing." Now, before you anti-consumerists out there bemoan this objective, keep in mind by goods and services I also mean clean air and water, health, national security and a wellfunctioning justice system, not just consumer electronics.

So, it is completely consistent with market economics for me to think that air pollution should be regulated or taxed to mitigate its negative effects on a third party. Clearly, the size of the tax or the scope of the regulation matters, but the basic principle is one that is shared by all economists I know. The same is true with other issues involving public funding.

Economists also care about what I call the "slice-of-the-pie problem"-or who gets how much-but not in the way most folks would suppose. Economists like to see rewards for the economic value of labor, and we insist property rights protect the investment and innovations of those expending that labor. So, I don't mind that Bill Gates makes tons more money than me. It is this incentive that causes the pie to get bigger through innovation.

Economists also don't much like policies that distort individual behavior. We think folks are mostly rational, and can be left to make grown-up decisions. Fighting over the slice of the pie, or carefully redistributing the pieces so that we all get the same size, leaves us all a smaller "economic pie."

This economist is not so naïve to think that everyone thinks this way. Interest groups exist solely to fight over their slice of the pie. Members of the anti-property-tax lobby want lower taxes for themselves (even if it shifts the burden to others). The firefighters worry about their job security (even if many Hoosier cities have twice the national per-capita average of firefighters). So I understand that people who struggle over their slice are going to be upset when they are scolded by an economist armed with facts. In the end, rational people armed with facts are a lobbyist's nightmare.

Hicks is director of the Bureau of Business Research at Ball State University. His column appears weekly. He can be reached at bbr@bsu.edu.
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