Does stimulus cure recession?
“If people won’t spend, the Government must spend in their place” — Christopher Smallwood
Let us take a small fishing community as an example of how recessions work. They have a money in the form of tokens (easily manufactured and branded by their Government at negligible cost). We all know what happens if the number of these tokens is suddenly doubled. Prices double. If the doubling took place individually so that everyone got double overnight, then the prices – all prices – would double pretty quickly and, apart from the dreadful inconvenience, it would not matter too much (as long as repeats were not expected). But if the doubling occurred unevenly and if the process took a few months, say, then the path to universal price doubling would be very rough and fortunes and disasters would be commonplace.
If, for example, the under 30s got all the new tokens they would gain; but the spread of the corresponding loss would not be clear. If the under 30s bought fish then the fishermen would eventually react and some of the smart ones might even do a bit of stockpiling until prices rose. The boatbuilders would be even further down the queue. The original price relativities might never return, but eventually things would settle down much as before except for the one-off gains and losses caused by the uneven distributions of the new tokens.
But what would happen if the new tokens were not dropped down people’s chimneys, but made available for lending – at a knock down interest rate? I suggest something like the following sequence:
- Some of the boatbuilders will calculate, using these knock down rates and current “token prices” of wood and fish, that they can continue what they are doing and invest in making some megaboats which take five years to get sea-borne. They borrow the tokens, buy some wood, take on labour and set to work.
- The labourers, hired from the fishing industry by offering higher rates, soon feel quite flush with tokens. They too hear about the loan facility and decide not only to eat more fish but also to build themselves some bigger and better wooden huts.
- Soon, however, the new demand from both the boatbuilders and their labourers begins to affect the price of wood. It also begins to affect the price of fish now that there is more demand and fewer fishermen since many of them have gone off to build boats. It has also affected the price of trees and land to build the huts on.
- To cap it all, the new loans of tokens have been exhausted. The private loan market has got very expensive as everyone wants fish today and not tomorrow, so time-preferences widen. The original loans to the boatbuilders also suffer a hike in their rates. The price of their input, wood, has gone up and they are having to spend more on fish to stay alive because its price is higher too. They hastily recalculate and find that the megaboat idea is not on and will have to be abandoned.
- They dump their stocks of wood on the market and the price collapses. They hastily seek tokens (cash) to stay alive and this gives another twist to time-preferences and interest rates. They dump their labour back to the fishmarket which will not take them all on and which offers lower wages to those they accept.
- At the same time the labourers have to abandon their ideas about bigger huts, for similar reasons. The situation intensifies.
- A lot of the specialist tools which the boatbuilders made to help with their megaboat project become useless and they are no good for anything else.
I hope that some of this is familiar. With sincere apologies to F.A. Hayek, Ludwig von Mises and all those other wonderful economists of the Austrian School for my simplifications, this illustrates their theory of the business cycle. Injection of new money via credit expansion introduces false signals about interest rates to entre- preneurs, who then undertake projects and bid up the prices of the associated resources including labour. This in turn bids up the prices of consumer goods; it also adds to the clamour for credit and bids asset prices up further. The rise in the prices of consumer goods causes a compensating rise in nominal interest rates which triggers the collapse of the whole pack of cards. The following recession is inevitable and is in essence a restructuring following the liquidation of the original malinvestments caused by the false interest rate signal.
The important points to note concern capital goods. Firstly, at the outset there are no additional capital goods and the aggregate of the entrepreneur’s plans (including the continuation of existing operations) is unattainable because resources are insufficient. Secondly capital goods are to some extent inflexible or inconvertible and those used in the new (false) projects are partially wasted. This fact, plus the rearrangement required for production to fit true consumer demand including their time-preferences, causes the recession.
Spare Capacity and Stimulation
It may be argued: “This is all very well in theory but it assumes that the economy was working to full capacity prior to the credit expansion. But if there were idle resources then the stimulation would work”. This is the argument for stimulating a recession away once it has arrived. The stimulation need not be in the form of credit expansion. It could be in the form of crude inflation or contracyclical expenditure. Nowadays we do not hear so many arguments for crude inflation, although the old Keynes argument for stuffing pound notes into bottles, burying them and putting people to work to find them is now being revived. Marginally more sophisticated is the idea for “contracyclical” public spending, especially “capital” spending, like building new roads, railways, hospitals or other infrastructure. All of these arguments are based on the premise that there are idle resources – land, equipment and, most importantly, people. Would stimulation work, in these circumstances? The answer is no – whether we are formally in a recession or not.
In a market economy entrepreneurs normally see to it that resources are fully utilised. (They do not always get it right but who does?) “Fully utilised” means that there is no additional activity which could be undertaken with costs (i.e. resources used) lower than prices (i.e. resources diverted from elsewhere including idleness).
A recession is different, of course; there are, unquestionably, idle resources including a significant percentage of the workforce and there are certainly potential productive uses. The problem is that you cannot “ring fence” either the resources or the productive uses even if you know what they are. You cannot put specific people to particular work, leaving the rest undisturbed. You cannot give them the right “idle” tools – you have to buy them and bid them away from other activities. And that assumes you can find them to buy, bearing in mind that capital goods are fully or partly specialised and never entirely flexible. If you pay the people to work without tools, or pay them not to work, you are back to crude inflation. If you resort to credit expansion you are adding insult to injury by compounding the original error. (That is not an argument for maintaining the absurdly high interest rates of 1991/92. In real terms, with inflation probably around nil in autumn 1992, they are still miles too high.)
The key to ending a recession is to know what caused it, namely malinvestment caused by credit expansion and now being liquidated. The only way of arresting these liquidations and ending the recession more quickly is through more saving and hence more capital goods which will make more of the existing projects profitable and thus avoid their liquidation. This is the exact opposite of the conventional cries for more consumer spending and cancellation of debt, because debt cancellation removes the need to save.
All the Government needs to do is remove interest rate distortions, get out of the way and watch the market work. On second thoughts, whilst you are removing distortions, how about clearing some of the barriers to employment you have erected over the years, from tax rates which rake off half the benefits of the division of labour in the first place, to a hundred and one pettifogging employment regulations?
Any economy is always in transition and this means, inevitably, some attendant additional idleness. Usually this “unnecessary idleness” is relatively small; sometimes, like now, it is not. But it too is transitionary. The problem with all talk about “getting the economy going” is that it means getting yesterday’s economy going, which is of course a futile quest. Yesterday was a Government- induced unsustainable boom and we must not forget that in the UK pretty well any period since the last World War has featured some form of stimulation by credit expansion and thus pretty well any period features transitions which would be described more accurately as “corrections”. These corrections are merely delayed and hampered by further stimulation or even the possibility of it.
Back To Saving
They are not hampered, however, by a surfeit of saving. As suggested in Fable 1, it is ridiculous to talk of “over-saving”. Any extra saving simply nudges things in the direction of higher order goods from lower order goods. There is no such thing as being over-capital-intensive. In any sophisticated economy the role of plain saving (under the bed or stocking up of beans) is minimal and the vast bulk is “capitalistic” saving which cannot fail to end up in capital formation. New capital goods take time, and labour, to build. There can be no question of having nothing to do!
In any case there are no ill effects of consumers paying off debt or even hoarding – under the bed or elsewhere. Paying off debt to others who will thus take up any spending slack is clearly what the authorities like to call a “transfer payment” which disappears on consolidation. Paying off net debt to the banking system (ultimately the Central Bank) may be “deflation” but there is nothing wrong with that since it is voluntary deflation – another correction of mal- investment – and the money relation (RPI if you like) will adjust accordingly. Hoarding will have a similar effect. Most modern “hoarding” is saving via the banking system but even if it is not there is no waste. Any excess of production over consumption means immediately and inevitably (however the excess is dealt with) that capital goods are created. (Stocks of baked beans are capital goods; they give the capacity to consume whilst building better methods of production.) All true wealth is fully embodied in capital goods and none of it becomes disembodied by shuffling around the paper claims to it.
There is no doubt that a sharp move towards increased saving could have severe short-term dislocations because of the necessary shift up the order of capital goods (away from immediate consumption goods along the spectrum towards longer-term capital goods). But such a sharp move is hard to envisage (unless it is compensating for an earlier opposite sharp move; hence the long recession). Sharp moves like this have the Government behind them, not the market. In any case it is best that the economy restructures as quickly as possible (help to those dislocated is another issue) unless it is seen as a temporary fad and I would bet strongly against the Government being able to distinguish between a fad and a forever!
Any restructuring caused by a consumer-led savings increase is eased, co-ordinated and dampened by the market in the shape of market interest rates. Consumer preferences for greater saving mean lower time-preferences for the present against the future and thus lower interest rates. Or if you find it easier to follow supply/demand terminology, greater saving at attractively high interest rates will be accompanied by lower interest rates until demand for funds matches supply. These lower rates push entrepreneurs into longer projects to satisfy the new consumer preferences and all is smoothly achieved.
Here again (1990-92), the Government has been preoccupied with its own fad, namely the ERM. Interest rates were kept artificially high and the natural co-ordination referred to above was not being achieved. These high interest rates do not permit entrepreneurs to respond with longer-term projects and – to the extent that they affect the private supply and demand for loans – curtail economic activity anyway by ensuring (through price-fixing) that the market is not cleared.
This article is an extract from Terry Arthur’s The Consumer Failed to Deliver Last Year, And Other Fables, which was originally published in 1993.
Law and order in Kenya: BABS Security Services Ltd
Excerpted from the forthcoming work: “Business, Casual: The Spontaneous Order of the Kenyan Street Trade” My first real encounter with the Kenyan police came late one night on a motorcycle. I rounded a corner in the darkness of Langa-Langa, a large neighborhood on the outskirts of the city of Nakuru, Kenya. I was sleepy and my dinner-host – a young Kenyan named Dickson – had stuffed me full of delicious local cuisine. The motorcycle’s headlights illuminated a Soviet-era military truck with several heavily-armed men scattered around its edges. All of them peered with hostility from the shadows cast along its camouflage lining. I felt my stomach sink. They muttered something threatening in Swahili — one thrust his assault rifle skyward and stepped out to block the road. I tapped the driver on the shoulder “Twendeni! Let’s go!” I shouted over the engine. We accelerated past, the men in the truck yelling after us. “Who are they?” I asked. “The police,” he said.
Many times the police are conspicuously absent with most of their resources devoted to protecting formal, well-established (and usually well-connected) firms and streets near City Hall or in a city’s central business district. But private security is everywhere in Kenya. A local bar and mzungu (Swahili for ‘foreigner’) haunt proudly displays on its entrance: “Protected by Robinson Security.” Two stoic guards in pressed blue uniforms frame the open gate of a supermarket in Nakuru. Before entering a night club, a friendly but stern door guard frisks those entering. Indeed, throughout Kenya’s cities and along the roads to and from the capital, cars emblazoned with security services roll past stalled motorcycles and traders hawking their wares to trucks ensnared in Nairobi’s impenetrable traffic.
* * *
Barack Ouma is tall, unassuming, even a bit camera-shy. He is from the same village as the father of the American president sharing his first name; when asked about it, he responds in a clear baritone, “It is a good, Christian name.” He works for BABS Security Services Limited (pronounced like the bunny), a large Kenyan security firm with nearly 10 years of service. All of their offices – the brochure lists 12 branches spread throughout Kenya – operate 24 hours a day, 7 days a week.
It’s not hard to see why: BABS is a security juggernaut. BABS’ philosophy is clear: the name is an acronym for the straight-forward guarantee, “Be Assured of Best Services”. They hire, screen, train and equip security guards for commercial and residential clients. They have a fleet of vehicles, which can be hired for patrols anytime, day and night. For those so inclined, they have a full service facility to breed, train, and sell guard dogs to protect homes or businesses. BABS employs people of all security backgrounds: Ouma himself has years of experience in a field he terms simply “VIP Protection”.
Security in Kenya is a paramount concern. Many people distrust government police, especially street traders whose regular encounter with the law is often as the victim of extortion or beating. With few opportunities for regular, formal employment, some young men turn to crime like home-invasions or carjacking. Businesses like resorts or clubs with reputations to protect or wealthy homes (often owned by foreigners) support a massive industry in private security. For all its size, BABS is only one of many competing firms.
Strolling through Nakuru, one is immediately struck by the macabre method used by the average resident to protect neighborhoods and compounds from unwelcome guests: courtyard walls are lined with glass shards, wedged down creases in the stone. “A man’s house is his castle,” the saying goes, and BABS offers much more than recycled defenses: CCTV, alarms, electric, razor, and (my personal favorite) electric-razor wire fencing. Outside my own house, pieces from bottles of Tusker – Kenya’s premier beer – jut out overhead.
Hiring BABS is simple, Ouma explains. Just like a travel agent or a cable TV provider – their brochure is even titled “Our Menu” – you need only call or schedule an appointment. BABS will arrive on your property, make an assessment of the neighborhood and the risks a customer faces, and suggest one of their many packages. Fees are charged monthly: packages usually have a set number of ‘activations’ included in the subscription – additional activations require a per-response fee. A standard residential subscription includes alarm services as well as the speedy arrival of BABS guards and vehicles in the event of an emergency.
But, as Ouma points out, BABS has wider ambitions. The subscription packages are named Swahili words for “countryman” or “friend”, with each ascending tier signaling a deeper relationship to the firm. One elaborate subscription includes escort services (guards, not girls), regular patrols, and road-side rescue – even across international boundaries. Using the growing drive to integrate East Africa politically and economically, BABS is able to rescue and escort its clients throughout the region. Ouma claims they’ll soon be opening offices far beyond Kenya.
For BABS, security means much more than guards and cameras. Kenya’s dysfunctional State has failed to provide many services traditionally considered the purview of “public” authorities. BABS runs a growing courier service, delivering domestic and international mail. I ask Ouma what a person could have delivered. “Anything,” he retorts nonchalantly. BABS also consults for companies to protect themselves against industrial espionage and even helps industry comply with safety and health regulations. BABS has a staff of private investigators and can even be hired to do forensics: physical and digital.
More surprising still, they supply and maintain all the equipment and staff necessary to operate a full-service firefighting outfit. Contracts are typically annual and tied to individual properties – not neighborhoods or cities. BABS will work with your insurance company to lower premiums if you take out a contract with their fire service, since some municipal services are unreliable or just nonexistent.
I was struck by the novelty of these security services in Kisumu, a city in western Kenya. I arrived outside my hotel on a dusty street along Lake Victoria and had a noisy disagreement with the men that dropped my companions and me along the curb. Out from the hotel, a lean Kenyan man carrying a billy-club appeared. He was easily six and a half feet tall, standing stoically like a sentry until we said our farewells. His presence immediately defused the situation and he escorted us inside, bidding us a goodnight. I handed him a 50 shilling note and he smiled: his uniform read “KK Security.”
Walking home several days later down a deserted, moonlit street, I wondered about the safety of my choice. A local Street Trader had counseled to be aware of ‘street boys’: bands of orphans aged about 13-30 that sometimes mug and harass travelers. The street was in eerie silence, except for the distinct sound of snoring nearby. Local businesses had hired security guards to sit outside their stores. In fact, so many had been hired that the dusty street was literally lined with guards on both sides, each resting in a plastic chair and most nodding off. Like an elaborate machine, I would pass through the field of vision of each sleeping guard and he would awaken, give me a look over, and then return to sleep. Occasionally one would wave or whisper a greeting, amused by the foreigners wandering the desolate night. The police were nowhere to be found. It was private security, at the hands of these small business owners, who secured this public street.
BABS and these late-night streetwatchers raise some interesting questions for those studying economies. In a strict sense, the street-side guards should not exist. The road is public, and I pay them nothing for sitting in their chairs scaring off criminals and making the path safe for reckless visitors like me. They provide what’s called in economics jargon an ‘externality’. It’s a clunky term for a simple idea: an externality is value ‘external’ to the ones creating it – enjoyed, uncompensated, by third-parties. A positive externality is seeing a beautiful girl from my taxi window, or passing by my neighbor’s flower garden. A negative externality is dumping your litter in the local stream, or loudly listening to bad pop music at 3 AM. At no point do I hunt down the gardener or girl to compensate them. Indeed, if I tried in the case of the girl, I’d probably be arrested. For once, I ‘get something for nothing’. My late night stroll is an image of the limitations of standard ideas of efficiency and economic theory: things get complicated when they’re brought into the messy, uncertain realm known as reality.
Clearly, keeping the streets safe is a positive externality. A profit maximizing business hires a guard to secure itself, but by sitting along the street some of the ‘guarding’ they produce spills over to benefit passerbys like me. In most strict economic models, externalities break down social cooperation since each person has an incentive to piggyback on the efforts of others and shirk contributing themselves. But nevertheless, there the guards sit: a quiet, snoring counterargument to the clear logic of economics.
Another well-known argument from economics is that private security is a ‘natural monopoly’1. In other words, when a firm like BABS goes out on patrol, they scare away criminals along a whole block of houses who are casing up the neighborhood for an easy burglary. They’re scared off by the passing BABS-wagon whether everyone subscribes to their service, or just one person does at the end of the street. Therefore, so the argument goes, everyone on the street (or neighborhood, or city) will use the same security provider and BABS becomes a de facto monopolist.
The logic is compelling, but there’s one problem: all over Kenya, businesses on the same street use different firms. Indeed, even next-door neighbors in residential areas have signs on their walls or front gates advertising their subscription to competing security firms. In affluent neighborhoods where homeowners employ a full-time guard at their gates, the employees of different firms literally stand next to one another or across the street, eyeballing each other from their posts or sharing morning salutations.
This arrangement, seen as utterly bizarre and even impossible by standard economics, is all taken for granted as a feature of daily life in Kenya. The average resident or tourist, unburdened by the ‘chalkboard logic’ of economics, patronizes businesses or resorts or clubs or homes protected by competing security firms every day. Economists take heed.
[1] For the technically inclined, the natural monopoly argument referred to here is usually considered a product of “network externalities” or “economies of scale”. See “Law as a Public Good: The Economics of Anarchy” by Tyler Cowen in Anarchy and the Law: The Political Economy of Choice, ed. Edward P Stringham (2006).
System-wide studies of the for-profit effect on student test scores
In the US, the most noteworthy study of the for-profit effect has been undertaken by Hill and Welsh, who used school-level data to compare for-profit and non-profit charter schools in Michigan. A four year panel of data was constructed (2001-02 to 2004-05) , with all Michigan charter schools which had students taking either the required 4th and/or the 8th grade state level math exam, referred to as MEAP scores (Michigan Educational Assessment program), included in the analysis. A random effects model was employed, controlling for student and district characteristics. The results were published as ‘For-profit versus not-for-profit charter schools: an examination of Michigan test scores’ (Education Economics, 2008), with the authors concluding that they could find no evidence to suggest that the type of ownership of a charter school (profit or not‐for‐profit) affects the delivery of education services either way.
In the same year, Chumacero and Paredes published a study, analysing Chilean voucher reform (‘Should For-Profit Schools Be Banned?’ (MPRA Paper 15099, University of Munich, 2008). In respect of standardised test performance at 4th grade, they showed that pupils in for-profit voucher schools scored 3-15 points higher than their peers in government schools. While non-profit schools performed higher than for-profits on this study, their findings were sufficient to show fears of the profit motive in Chilean education to be unwarranted.
In 2010, Peterson and Chingos’ study of the Philadelphia School Reform Commission’s intervention 2002-08 broke new ground (‘Impact of for-profit and non-profit management on student achievement: the Philadelphia Intervention, 2002-08’, Program on Education Policy and Governance Working Papers Series PEPG 09-02 (Harvard University, 2010). Their research took individual test score data in maths and reading from 2001 and 2002 and then tracked student performance annually to 2008 in order to estimate the relative impacts of the different management frameworks. The study encompassed all 30 elementary and middle schools contracted out to for-profit EMOs, and all 16 contracted out to not-for-profits, in addition to the 71 schools remaining under regular school district management. The impact of not-for-profit management, when compared with regular school district management, was negative in respect of both maths and reading, and more markedly so in maths (albeit statistically significant in only the first year after the intervention began). The impact of for-profit management, on the other hand, was generally positive, though only in maths was it deemed statistically significant. In comparing the relative performance of for-profit and not-for-profit EMOs however, Peterson and Chingos commented as follows:
‘The differential impact of for-profit and non-profit management is especially sizable. Using the estimates given above, students in schools under for-profit management gained between 70 per cent and greater than a full year’s worth of learning in math more each year than they would have had the schools been under non-profit management. All of these differences are statistically significant. In reading, students learned approximately two-thirds of a year more in a for-profit school than they would have had the school been under non-profit management. All but one of the differences are statistically significant’ (p. 4).
Later in the same year, Gabriel Sahlgren provided an even more comprehensive school-level data-set, this time comprising all Swedish schools with at least 15 9th-grade students on roll between 2005 and 2009 (‘Schooling for money: Swedish education reform and the role of the profit motive’ (IEA, 2010). The data-set amounted to 6,935 observations (1,543 schools) and included 725,195 students out of a total of 737,788 graduating in that period, excluding only Special schools and those that do not conform to the standard grading practice.
Sahlgren set out to test the ‘deterioration thesis’ – that is, that the profit motive steadily compromises educational standards over time. Having coded the schools according to ownership structure, straight statistical-profiling showed significant differences in the performance of for-profit, not-for-profit and municipal schools. For-profit independent schools did better than municipal schools and not-for-profit independent schools did better than for-profit schools. In the regressions however, controlling for a wide range of demographic, socio-economic and other contextual factors that influence grades, post-reform for-profit and non-profit independent schools emerged showing more similar positive effects on the average school GPA, raising it by 5.61 points and 6.16 points respectively. (A dummy variable was included to control for the influence of the more exclusive independent schools established prior to the 1992 reforms.)
Applying further controls for (regional) municipality variables, non-profit independent schools raise the average GPA by 5.74 points, whereas the for-profit schools raise it by 4.50 points (p. 18). The impact of the for-profit independent schools was strongest where there were high numbers of pupils from low socio-economic backgrounds, increasing the average school GPA by 11.64 points, compared with non-profits’ 4.39 points (p. 19). For-profit schools were further shown to be beneficial for students from all backgrounds, with the largest effect for students from low-educated families. (Note that this contrasts with the findings of the more widely publicised study of the overall Free School effect by Böhlmark and Lindahl which found the positive effect for pupils with low-educated parents or an immigrant background to be ‘insignificant’ (Böhlmark, A. and Lindahl, M. ‘The Impact of School Choice on Pupil Achievement, Segregation and Costs: Swedish Evidence’, IZA Discussion Paper No. 2786 (Bonn: Institute for the Study of Labor, 2007). Accordingly, Sahlgren concludes, the performance of for-profit independent schools should serve as a guideline for municipal schools regarding minimum acceptable levels of student achievement (p. 20).
In a subsequent study, appended to a later version of the 2010 paper, Sahlgren addresses the problem of endogeneity – that even after controlling for these variables it might still be the case that pupils in Free Schools may be more, or less, able, motivated, etc. than those in municipal schools. Citing a study by Tegle (Tegle, S. ‘Påverkar förekomst av friskolor betygen i grundskolan? – En statistisk analys av samtliga elever i årskurs 9 år 2006’ (Stockholm: Svenskt Näringsliv, 2010), which suggests that not taking this into account would be to significantly underestimate the positive effect of Free Schools generally, Sahlgren explains that he initially decided not to apply controls addressing this phenomenon so as to err on side of caution in testing the deterioration thesis (p. 24). After employing Instrumental-Variable models explicitly designed to deal with endogeneity, the influence of both for-profit and non-profit Free Schools was found to be much stronger, increasing the GPA by 33.74 and 33.86 points respectively and representing an increase of 16.3% in comparison with municipal schools (p. 25).
In summary, not only did Sahlgren’s results overturn the deterioration thesis, but they also strongly suggest that, taking endogeneity into account, for-profit and non-profit schools are equally good at raising standards.
To my knowledge, there have been no further systematic, long-panel evaluations of individual test score gains that estimate relative impacts under similar operating conditions since the publication of Sahlgren’s study.
Revised extract from ‘Profit-making free schools: Unlocking the Potential of England’s Proprietorial Schools Sector’ (© ASI, 2011). James Croft is an IEA education research fellow and Director of the Centre for Market Reform of Education.
Why private schools have a moral duty not to support government schools
First, it is important to remember that the government initially intervened in education in the late 19th century to help support the growth and development of education in deprived areas. However, instead of subsidizing parents and allowing them to choose between a variety of different schools, previous governments directed all public subsidies towards its own free schools, whilst neglecting and ignoring all private alternatives. This subsequently forced the closure of thousands of private and voluntary schools leaving only a small number of private schools to cater for families on a higher income.
As a result, instead of focusing on the development of education in deprived areas, the government soon found itself attempting to manage and control the vast majority of schools serving both rich and poor alike. Unfortunately, any system of education which restricts the freedom of parents to choose will hit those on low incomes the hardest. While better off families can either move to the suburbs in search of a better school or purchase private tuition, those on low incomes who live in deprived areas are forced to accept their local government school, irrespective of how it performs. Government intervention has therefore had the opposite effect from the one that was originally intended.
However, after forcing the vast majority of private and voluntary schools out of business and after creating a system of education which restricts parents’ right to choose and penalises those families living in deprived areas, the government now attempts to blame the remaining private schools for all of the problems which they themselves have just created. And to put things right the guilty private schools must now give a helping hand to the failing government schools which they have helped to create. However, let’s be clear – all apartheid, social division and barriers in education are a direct result of the way in which all previous governments have directed public funds to government schools only, thereby denying parents their fundamental right to choose and eventually crowding out the majority of private alternatives.
Second, to suggest that Eton can help to transform a failing inner city comprehensive government school is to completely misunderstand the nature of the problem. First, I suspect that the knowledge and experience required to educate children who live in deprived areas is slightly different from the knowledge and experience required to educate children who attend Eton. Therefore as Eton will have very little if any knowledge or experience of educating children who live in deprived areas, it is difficult to see what they can bring to the table. Second, all failing (or coasting) government schools located in deprived areas exist because of the way in which all previous governments have directed public funds to government schools only, thereby denying parents their fundamental right to choose and eventually crowding out the majority of private alternatives. It should therefore be blatantly obvious that the only way to solve this problem is for the government to change the way they fund education by creating a level playing field, giving all schools an equal opportunity and by directing all public funds to parents.
Third, by lending their support to failing government schools, private schools will help to prolong the life of a stagnant and immoral government system, which restricts the fundamental right of parents to choose and restricts the freedom of a variety of different organisations to invest and compete in the delivery of children’s schooling. Private schools therefore have a moral duty not to support failing government schools.
Fourth, during the period in which the government proceeded to distort, disrupt and completely undermine the natural growth and development of education in the UK, the private schools that survived have simply gone about their business, doing what they do best, which is providing a unique educational experience to those parents who can afford to purchase it. Therefore to accuse these schools of perpetuating social division, suggests that freedom in education will make those who receive this education better off, only at the expense of those who don’t receive it who will end up worse off. However, one of the key reasons to justify government subsidies in education is because education has some public good qualities, in that the education received by some children will not only benefit these particular children but will also benefit the wider public, who can enjoy the benefits of living in a more educated and civilised society. The better education that one child receives can therefore only be a good thing for the child concerned and for the rest of society.
That said, if Wellington College want to help transform a failing government school then as a private and independent organisation, they are perfectly free to do so. However, attempting to claim the moral high ground by undertaking such an act is a different matter altogether and one that fails to take into account the reason why these schools are failing in the first place and the desperate need for the government to change the way it subsidises and intervenes in education. Therefore, if private schools want to help improve education in deprived areas, they could do much more good by lobbying the government and promoting a change in policy.
In the meantime, if some government schools want to benefit from receiving a service from a local private school then they should be prepared to pay for it. In education, as elsewhere, there is no such thing as a free lunch.
James B. Stanfield is Development Director at the E.G. West Centre. Comment on this article here.
The future of long-term care
As the encroachment of government grows larger and larger, so does corruption, greed, and dictatorial behaviour grow likewise. The dumbing down of state education ensures that “we the people” will become less and less knowledgeable about what is a proper role for government.
A case in point is the issue of Long Term Care (LTC) – a crisis which has been building up for decades, at the same time as we the people have come to expect a growing NHS and, in many cases, would now expect the NHS to expand as necessary to cover long term care of the elderly. Nor have governments done anything to abuse us of that impossible notion any more than has the NHS which, on the contrary, has encouraged it and advertised “NHS continuing health care” as “a package of continuing care provided outside hospital, arranged and funded solely by the NHS, for people with on-going healthcare needs”.
Governments don’t do long term. Few readers may recall that way back in 1997 LTC funding was made a priority by the Labour government, with a Royal Commission reporting in 1999 – at which point it was thrown into the long grass. Pension schemes (similar in many respects to LTC) have been peppered with reams of rules and regulations throughout my long career in that industry and get worse by the day. The 1997 raid on occupational schemes by Gordon Brown via changing the ACT tax rules virtually killed off final salary-related schemes in the private sector. This raid was upon existing assets, which were backing promises in respect of years of service already accrued, so naturally it plunged many thousands of schemes, large and small, into insolvency. (1, see references below) This is a crucial matter because pensions and LTC have many similar features. It is all too easy to see that another “Brownian raid” may hit LTC providers retrospectively.
In the short run, governments can and do divert resources for anything that may bring votes. The money which Brown threw at the NHS over the last decade like confetti is frightening, yet it did nothing to improve matters at all. Far from it; the MRSA and Clostridium Difficile fiascos were not seen in private hospitals and the scandalous treatment of the elderly in 2009 in many NHS hospitals are just two recent problems in the NHS.
So it is not surprising that when LTC reached the government’s radar screen again a year ago, its reaction was to appoint the economist Andrew Dilnot to prepare a report on “Social Care”. At least Dilnot had the sense to recognise the weasel word “Social” and actually reported on “Care Funding”; unfortunately this assumes all the other issues away!
Despite this, and despite a year in the making, the report released on 4th July, is hardly revolutionary. Essentially it recommends that the current means-tested threshold, above which people are liable for their full care costs, should be raised from £23,250 to £100,000. There would also be a total cost “cap” after which individuals would pay only food and accommodation costs (say £7,000 – £10,000 pa). The cap would be a once-and-for-all capital amount of some £35,000, after which the taxpayer stumps up the rest – estimated to reach at least £200 pa per household in the next few years – another significant ratcheting up of the welfare state.
Insurance
Given the major role of insurance in occupational pension schemes and annuities, insurance would seem to be a natural way to finance LTC. In fact Dilnot does see a role here but he argues that it will always be a limited one, citing difficulty in pricing (the time period is long and the risks uncertain; a lack of understanding; a belief that care is free like the NHS; a preference for individuals to take a risk rather than an unpredictable cost, etc). Nevertheless he believes that the risks remaining after the taxpayer stumps up will be contained sufficiently to allow “new financial products”. But he claims that as of today “no major financial services provider offers pre-funded insurance against care costs”. This is disingenuous to say the least; apart from the fact that there are several such providers, there is also a number of providers of similar products which are not fully pre-funded but very often serve the purpose just as well. (2)
Furthermore, Dilnot’s idea that bringing in the state to take some of the risks will result in more insurance providers seems very wide of the mark. If taxpayers take on more risk that will reduce their capacity to take out insurance and will in any event mean a net loss of utility. (3) He ignores the point that governments are never interested in the long term. He misdiagnoses the relative paucity of care insurers; the real reason is the same as that which killed salary-related pension schemes – endless regulatory intrusions from governments including the European Commission, plus Brown’s outright theft as mentioned above. (Both my wife and myself have policies which are no longer available to newcomers). (4) Insurers would need an enshrined law on no retrospective taxation.
Sadly most commentators accept Dilnot’s assertion that there are no current insurers, and often cite “market failure” as the reason. It is disingenuous to reverse the blame in this way; what we are seeing is Government Failure. Insurers are risk takers; just get the regulators out of the way.
Admittedly LTC policies do face great risks due to the relationships between the movements of mortality rates and morbidity rates. It is very possible to see elderly people living longer and longer and thus needing more care than ever before. But all this does is to make LTC more expensive than would otherwise be the case; without insurance the problem would mean even greater depredations on taxpayers. There is no magic bullet. If the government wants a role (and it shouldn’t) why not insist that all retired people take out a LTC policy, just as motorist must have motor insurance? Then we can all watch LTC insurers grow forth and multiply! Indeed such a policy could often be part of a retirement package under revived occupational pension schemes.
In fact compulsion is a bad idea because it crowds out a number of private alternatives, as we shall see later.
A digression on the definition of what constitutes the private sector
Way back in their October 1974 election manifesto the Tories made their attitude to free markets very clear. Arguing against outright nationalisation, the manifesto said “the desired results can be achieved just as effectively through taxation and regulation”. Since then (even in the Thatcher era) it has been made plain that if you want genuine free markets you can forget the Tories.
In recent years, the march to corporatism, in which government is the senior partner in industry, is rife. In this partnership Big Business often promotes state regulations to keep out pesky little competitors; not difficult because in large part the huge cost of regulations tends to be independent of size.
The benefits of corporatism to government are immense; if things go well government takes much of the kudos, while if they go badly it can, and does, blame the company. Good examples of corporatism today include (i) the railway industry, where government owns the track and dictates the prices of train journeys (ii) banking, where both the government and the nationalised Bank of England pull the strings to the point that few bankers (including Mervyn King) have any idea of what banking really is, and (iii) utilities, where Steve Holliday, the Chief Executive of the National Grid, announced “I love the fact [that] we have seven regulators”. (5) Edison must be turning in his grave. Nowadays the major attribute for a CEO of such a company is a highly tuned political ear rather than an entrepreneurial spirit.
As Ross Clark wrote in the Spectator (11th June 2011) in an article specifically on care homes “the problem with private provision is that in so many cases bureaucrats remain the direct customer”. Unfortunately he did not go on to the inevitable conclusion: the problem with public provision is the same with knobs on; only private companies, having no business with the bureaucratic public sector, are directed by what the ultimate customers want.
Hence in the most recent major scandal in a care home (Winterbourne View as shown by Panorama at the end of May 2011) was the result of the fact that Winterbourne, financed entirely by the NHS, had no paying residents.
To make this abundantly clear, let’s say a fruit wholesaler sells to Waitrose a batch of apples which, unknown to either party, has been contaminated with poison by some rogue employees at the wholesaler. Waitrose sells them on in good faith to customers who subsequently become ill. Would Waitrose get away with citing the wholesaler? Of course not; if it tried, its reputation would take a huge dive and customers would disappear in droves, making their individual alternative choices. This would happen in any case because of its failure to strictly monitor its wholesaler. All this happens without any state regulator such as a “Food Quality Commission”. The only way customers can get what they want is if they can walk away and go elsewhere (as individuals, rather than in groups). In other words “exit” not “voice”.
Care in the Public Sector
Dedicated care homes are provided by the genuine private sector (as discussed above), hybrids involving Local Authorities, and the NHS. Wherever you look in the public sector you find many examples of scandalous treatment. Chutzpah is the only word to describe the NHS. Continuing Health Care package alongside its clear policy of ageism against the elderly – and also alongside its policy of forcing them to endure long delays for treatment or to go private. Only last month the British Geriatrics Society found that the 400,000 elderly in NHS care homes were “betrayed” by the lack of access to basic medical treatment.
Finally the scandals two years ago in several hospitals, including Mid-Staffs which suffered 1200 unnecessary deaths, and Basildon, to name but two, can never be forgotten. At the time, Cynthia Bower was the CEO of the Mid-Staffs Hospital. As a reward, she is now the CEO of the newly formed regulator, the Care Quality Commission (CQC). Such an appointment can mean only that the CQC is an attack dog to destroy private care homes or at least their independence while the State and Local Authorities run amok. (6)
The record of Local Authorities is abysmal in their directly-owned homes be they for the elderly or children. Meanwhile their policy of snatching children from their parents, increasingly on the flimsiest evidence at an alarming pace has similar results.
That’s all very well, you may say, but private care homes have their own scandals; what about Southern Cross, for example? There are two quite separate issues here; the first relates to the financial position of such homes, and the second relates to the influence of Local Authorities who pay for the care of the large majority in many homes in the same way as the NHS paid Winterbourne.
Firstly the finances of private care homes are essentially bound up with properties, the prices of which suffered heavily in the recession of the last three years, and which is still not over. (This too can be laid at the government’s door; its policy of artificially low interest rates fuelled the boom.) The second issue is the baleful influence of those Local Authorities who in many cases pay for a large number of residents, which immediately means that the relevant homes cannot be described as being in the private sector. In the past year or more the Local Authorities have squeezed mercilessly the amounts they will pay whilst continuing or increasing their own earnings and lifestyles.
In other words most of the damage to a majority of care homes is due to the fact that they did not forecast the recession, and little else. They were hardly alone! Yet most of the esteemed broadsheet newspapers simply parrot the phrase “they should have factored it in”. Meanwhile several private care homes have learned their lessons and are deliberately trying to attract those who are paying their own way so as to escape the fickle Local Authorities. Welcome to the private sector, the true Big Society. Even as I write this, the private breaking up of Southern Cross appears to be proceeding as quickly and humanely as possible in the circumstances. (7)
Where have all the families gone?
Any sensible approach to LTC should start by acknowledging the failures of the welfare state; like Edison, Lord Beveridge must be turning in his grave. Of particular interest here is the large scale crowding out of families, friendly societies, and charities, with disastrous consequences. It is sad that most of today’s large charities in this field give ringing support to Dilnot instead of suggesting that they should open for business. Unfortunately many large charities have supped with the devil and become little more than deliverers for state benefits, often having accepted with open arms government funding to the tune of some 50% of their incomes.
The expanding welfare state has severed many families from any obligation to their parents, exacerbated by easy divorces, generally pooh-pooing the value of married parents, indeed penalising them in the tax and benefit system, and crowding out charities.
Naturally, similar interventions have been foisted on formal pension schemes with compulsory contributions for both state and private arrangements starting from an early age when other valid concerns are more pressing. State schemes are nearly always financed on a “Pay-As-You-Go basis (PAYG) i.e. not funded, leaving benefits open to demographic changes so that PAYG is effectively Pay-As-You-Pray. This applies to many countries – often via paternalism propelled by the World Bank, in turn often ignorant about the true situation especially in LCDs (less developed countries). Yet in Hong Kong, which until recently had no state pension system, retirement incomes were far higher than in other countries with state systems. Again, the real problem is crowding out by the Welfare State and government meddling. Not least here are the effects on parents and their decisions about when to retire and indeed about whether to have children, and if so, how many. There is every reason for government to step aside and allow insurers and revived occupational pension schemes to bundle LTC arrangements into a coherent package. (8)
Indeed there is every reason to remove all compulsion regarding saving for both retirement and long term care. All families and householders are different. It is absurd to insist that workers as young as 16 should be legally obliged to start salting money into “National Insurance” arrangements. One can envisage that some households may find that it makes financial sense to prioritise other issues (such as paying back a mortgage as quickly as possible) for many years before even beginning to think about locking in savings for the rest of their careers as opposed to using ISAs and, for that matter, entirely informal saving for as much as half a career, before considering locking in funds for retirement and long term care.
Satisfying demand
With or without the Dilnot report, it will not be long before we see the burgeoning demand of potential new LTC residents. This situation is very similar to that of new schools, where Michael Gove will soon see that private finance is the only way to expand over a reasonable short time-scale. Perhaps he has already done so. It is now well known that the Swedish experience in school expansion was jet-propelled only because capitalists were allowed to tender, rather than Gove’s nonsensical limitation to local parents’ groups and charities. (9) Other means of finance are limited to borrowing in one form or another, such as the PFI which has been a huge and costly mistake.
What kind of homes should be targeted for the future?
If you look into other parts of the developed world, such as the US or Canada or Australia, you will realise that three features are common – the locations, the variation, and the facilities to move in three or more stages on the same complex from a personal home with little care, to a fully cared-for resident in a “proper” care home.
It is worth suggesting here that “being forced to sell one’s home to pay for LTC” should not be looked upon as wicked. On the contrary, it often makes very good sense all round. The maintenance of a house can become more and more difficult as the owner(s) get older; a purpose built suite in a congenial atmosphere can be bliss. This is a complex area especially for married couples but the shrill cries demonstrate a lack of thought to say the least.
By location, I mean primarily that there is often merit if the home is in a wider setting, containing facilities such as shops, cinemas, and so on. Many elderly people are unnecessarily isolated through lack of mobility.
Variation speaks for itself; with price one of the drivers. This is an important argument in favour of privately owned homes and the entrepreneurial spirit. It is impossible to be sure in advance what features will be the most popular so that building and equipping require risk capital. Local Authorities and the public sector generally are not only short of capital in the first place (rightly); also they don’t, and can’t, employ entrepreneurs, i.e. individuals who gain or lose directly according to their decisions.
Conclusion
To sum up, government should forget about funding long term care in any shape or form. At the current marginal tax rate of 50% (all taxes combined) every additional pound of tax reduces productivity (via a weakening of the division of labour) by more than 60%, net of all benefits, ignoring the costs of regulation and government waste. All that is required of government is to phase out the welfare state via sales to the genuine private sector.
References
1) My 2008 estimate of the losses involved was £225 billions; it is much greater now – probably nudging £20,000 per household.
2) There are several types of insurance policies providing funds for LTC. It is true that if “pre-funded” means that premiums are paid over many years (as in pension schemes) are rather thin on the ground at present and that this is partly due to the risks of mortality and morbidity together. But there is no reason whatsoever why such policies cannot be provided, given private demand, the revival of occupational pension schemes and a guarantee against retrospective tax claims. Examples include Friends Life, Partnership, British Friendly Society.
3) See my article on Tax & the Division of Labour.
4) A recent example of the European Commission’s destroying the market is the proposal to end “sex discrimination” in annuities caused by the fact that on average women live longer than men!
5) Originally banking was the safe storage of gold, for a fee. But bankers soon realised that many demand deposits lasted for long periods which provided the opportunity not only to cancel storage fees but to provide interest as well. That involves “lending long” because interest comes out of the additional production from new capital provided by savers. Increasing the supply of fish by building a new boat can’t be done overnight. Demand deposits don’t fit the bill unless they are resilient. The Scottish bankers of 150 years ago held large fractional reserves of deposits (made in gold) and if any bank tried to steal a march on the rest it would be called to account immediately because inter-bank clearances had to be made daily, in gold. All this and more came from free markets.
6) See Reflections on Regulation; Experience and the Future, Adam Smith Institute.
7) Readers may want to look at the ASI blog on “Lessons from Southern Cross”.
8) See “Pension Provision: Government Failure around the World” by Laveesh Bhandari and Philip Booth (Institute of Economic Affairs, 2008).
9) It is my understanding that Michael Gove may be reviewing his position on this issue.
Democracy and the economy
Even within democratic societies there has always been a tension. The poor are more numerous and have more voting power; the rich have more resources and can use them to influence opinions. In many democracies there is at least one party broadly sympathetic to the interests of those with wealth to protect, and at least one committed to a broader distribution of that wealth.
Both are restrained by circumstance. If the wealth of the few is inaccessible to the many, and there are scant opportunities for people to see their lives improved, there is the possibility of social unrest and upheaval, not something most wealthy people would wish to see.
On the other hand, if the poor vote to take and distribute too much of the assets and income of the rich, they might well stop the wealth-creating process and leave the whole of society poorer. High achievers and earners need an incentive to engage in their activity; with insufficient reward they might move abroad to do it, or simply choose to do something else instead.
In many societies a balance has been maintained, with sometimes one side gaining an advantage, and then the other in turn. Some societies ruled overwhelmingly for the advantage of the rich have seen revolution; and those which have confiscated wealth in the name of equality have seen economic breakdown and ruin. Most have done neither.
Politicians in Britain have bid for the votes of the poor to win power, and have done so by promising to divert some of the wealth of the rich in their direction. They have been restrained by the need to keep the wealth-creating process functioning. Some have argued that the excessive taxation and redistribution by post-war governments went too far, such that Britain’s economy sank into decline, making it “the sick man of Europe.” One of the achievements of the post-’79 government was to restore incentives and opportunities, and kick-start the wealth-generating process again.
Two modern developments have impacted upon this constant tension between democratic resolution and economic expansion. One has been the spread of globalization, and with it the mobility of talent and capital.
When the achievers and earners feel that their home government is taking too large a share of their rewards, they have an increasing option to move their productive activity abroad, and sometimes even themselves. This exit opportunity has put more restraints on how much of output government feels able to appropriate and redistribute.
The EU response has been to seek for circumstances in which every country has high levels of tax and regulation so there simply are no more exits and refuges. They are restrained in this by the reality of a diverse world. If there are no business-friendly places in Europe, people will move to where there are. It would take a world government to prevent this, and there are some redistributionists who actually want this.
The other development is less benign. Limited in the degree to which they can take resources from the rich to buy votes, democratic politicians have discovered a new source of funds. Increasingly they have been taking wealth from the future in order to fund the social programmes with which they solicit the votes of the poor today. They have introduced a third group, the future, into the age-old tension between rich and poor.
They have borrowed to fund today’s spending the money that will have to be repaid in the future. The future cannot escape, as the high achievers and earners can. It will not vote against the political leaders who have raided it, because it does not yet have any votes. Politicians have discovered a way of maximizing their advantage and that of their supporters without incurring the antipathy and resentment of those they take from. People in the future might well feel hostility and anger at those who burdened them with such debts, but they are not here now, and their reactions to not have to be factored into today’s political calculations.
The restraints that limit what can be taken from the rich are not in place to restrict what can be taken from the future, and the result has been that many democracies now have an unprecedented overhang of debt. There is one ultimate stopping point, however: it is that the burden is now so large that many people believe the future will refuse repay it. This makes them less inclined to lend more money to governments. When that point is reached the whole house of cards comes crashing down and nations go bankrupt.
There might be a solution to this problem if cast-iron constitutional rules could be imposed to limit the degree to which governments could raid the future in order to fund their present spending. In the absence of such rules it might well be that there is nothing to stop democratic governments from destroying their economies. Indeed, the present system positively encourages them to do so.
Do libertarians apologise for autocracy?
Lind’s thesis is that libertarian objectives are incompatible with the democratic system of governance that most people value. This is a valid argument, and indeed one that has been made by some libertarians. Where Lind gets it wrong is in his seemingly-wilful misreading of key libertarian thinkers (like Mises and Hayek) and his shallow understanding of the libertarian movement in general.
Lind opens by quoting Ludwig von Mises’s Liberalism. This book, written in 1929, contains a discussion of fascism in which Mises appears to praise this system. Lind quotes Mises:
It cannot be denied that Fascism and similar movements aimed at the establishment of dictatorships are full of the best intentions and that their intervention has for the moment saved European civilization. The merit that Fascism has thereby won for itself will live on eternally in history.
It’s a pity that Lind’s article links to the Amazon page for Liberalism, rather than the free download from Mises.org. If he had linked to the full version, the meaning of this strange statement would have become clear. Cato at Liberty have the full quote:
Fascism can triumph today because universal indignation at the infamies committed by the socialists and communists has obtained for it the sympathies of wide circles. But when the fresh impression of the crimes of the Bolsheviks has paled, the socialist program will once again exercise its power of attraction on the masses. For Fascism does nothing to combat it except to suppress socialist ideas and to persecute the people who spread them. If it wanted really to combat socialism, it would have to oppose it with ideas. There is, however, only one idea that can be effectively opposed to socialism, viz., that of liberalism.
It has often been said that nothing furthers a cause more than creating martyrs for it. This is only approximately correct. What strengthens the cause of the persecuted faction is not the martyrdom of its adherents, but the fact that they are being attacked by force, and not by intellectual weapons. Repression by brute force is always a confession of the inability to make use of the better weapons of the intellect — better because they alone give promise of final success. This is the fundamental error from which Fascism suffers and which will ultimately cause its downfall. The victory of Fascism in a number of countries is only an episode in the long series of struggles over the problem of property. The next episode will be the victory of Communism.
The ultimate outcome of the struggle, however, will not be decided by arms, but by ideas. It is ideas that group men into fighting factions, that press the weapons into their hands, and that determine against whom and for whom the weapons shall be used. It is they alone, and not arms, that, in the last analysis, turn the scales.
So much for the domestic policy of Fascism. That its foreign policy, based as it is on the avowed principle of force in international relations, cannot fail to give rise to an endless series of wars that must destroy all of modern civilization requires no further discussion. To maintain and further raise our present level of economic development, peace among nations must be assured. But they cannot live together in peace if the basic tenet of the ideology by which they are governed is the belief that one’s own nation can secure its place in the community of nations by force alone.
It cannot be denied that Fascism and similar movements aiming at the establishment of dictatorships are full of the best intentions and that their intervention has, for the moment, saved European civilization. The merit that Fascism has thereby won for itself will live on eternally in history. But though its policy has brought salvation for the moment, it is not of the kind which could promise continued success. Fascism was an emergency makeshift. To view it as something more would be a fatal error. (From Ludwig von Mises, Liberalism, section I:10)
As Jason Kuznicki says, ‘The word I’d reach for wouldn’t be “fascist.” It would be “prophetic.” Especially given that these words were written in 1927.’ The Mises Institute blog links to a long New York Times Magazine piece from March 1933 – six years after Mises wrote, and two months after Hitler’s rise to power – that praised Mussolini effusively:
One may object to any form of dictatorship, but one cannot help being stimulated by the phenomenal vitality of this man who, in his role of dictator, has commanded the barren soil of Italy to produce wheat within a given time. … Here I had the feeling that there is no limiting condition imposed on any Fascist project; a strange impression that whatever Mussolini commands is executed without being hampered by problems, practical or financial.
While the establishment was praising fascism, Mises was denouncing it as the violent evil that it was. For Lind to quote Mises out of context in order to make it look as if he was praising fascism is disingenuous. It’s also a bit rich for someone like Lind, who has written much on his desire for a revival of nationalism in the US, to try to smear other people as sympathetic to the fascism of the 1920s.
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Next is Hayek and Friedman’s supposed admiration for Augusto Pinochet, the dictator of Chile during the 1970s and 80s. Lind quotes the historian Greg Grandin:
Like Friedman, Hayek glimpsed in Pinochet the avatar of true freedom, who would rule as a dictator only for a “transitional period,” only as long as needed to reverse decades of state regulation. “My personal preference,” he told a Chilean interviewer, “leans toward a liberal [i.e. libertarian] dictatorship rather than toward a democratic government devoid of liberalism.”
In a letter to the London Times he defended the junta, reporting that he had “not been able to find a single person even in much maligned Chile who did not agree that personal freedom was much greater under Pinochet than it had been under Allende.” Of course, the thousands executed and tens of thousands tortured by Pinochet’s regime weren’t talking.
How Grandin knows that Friedman and Hayek viewed Pinochet as “the avatar of true freedom” is unclear, since their public statements never showed this.
Friedman has been famously smeared by people like Naomi Klein as an apologist for the Pinochet regime. In fact, his involvement with the regime extended to an hour-long meeting with Pinochet during a lecture tour in the country, and a letter he sent to Pinochet outlining the country’s key economic problems.
That criticism has always puzzled me. Was Friedman supposed to have refused to help Chile? Certainly, you can argue that his policy recommendations were wrong, but is Lind’s argument that economists should not try to help evil regimes to make their people richer? In fact, there is widespread agreement among historians that it was Chile’s rising middle class that drove Pinochet out of power. What does Lind think of the many economists who have tried to help the Chinese government hurt its people less through bad policies?
Hayek’s defences of Pinochet are more dubious but, again, misrepresented by Lind. Hayek’s defences of Pinochet were always framed in comparison to the alternative – the socialist Allende regime, which brought Chile to its knees in the early 1970s by collectivizing much of Chile’s industry and land, setting wage and price controls that made unemployment skyrocket, and creating hyperinflation by attempting to print money to finance government expenditure.
Allende used the police to break strikes against his actions – which was ruled unlawful by the Chilean Supreme Court – and ultimately drove the country to deep recession (an average contraction of 5.6% every year between 1971 and 1973). Many feared that Allende would become another Castro, whom he was diplomatically close to.
All this excused neither the Pinochet coup nor his regime’s murder of dissidents. But it highlights the fact that Pinochet was seen not as an ideal, but as a lesser of two evils. This thinking was present on all sides during the Cold War, where the Third World’s choices of government were widely viewed as being between communism or right-wing autocracy. The “lesser of two evils” realist approach to foreign policy is unpleasant, but it has many supporters on both the left and right. As Harry Truman said, “He may be a bastard, but he’s our bastard.”
Even if Mises, Hayek and Friedman had been the collaborationists that Lind accuses them of being, what would that mean about libertarian philosophy? Sheldon Richman says:
Lind’s article contains much to comment on, but here I want to make just one or two points. Even if Mises, Hayek, and Friedman really approved of fascist regimes (one can disagree with them while maintaining that things aren’t quite so simple), it would take more than that to indict libertarianism. Lind never explains why this alleged record doesn’t merely reflect on the particular named individuals who for one reason or another departed from their stated libertarian principles.
If Hayek had been a crack cocaine addict, what would that say about his business cycle theory? If Mises was a gambler, would his theory of money and credit be discredited? No. Lind’s desperation to play the men makes him miss the ball entirely.
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Lind goes on to claim that:
When it comes to American history, libertarians tend retrospectively to side with the Confederacy against the Union. Yes, yes, the South had slavery — but it also had low tariffs, while Abraham Lincoln’s free labor North was protectionist. Surely the tariff was a greater evil than slavery.
Sadly, this is a very blatant and false straw man. A minority of libertarians argue that the legal right of secession was legally preeminent during the American Civil War. I don’t agree – slavery nullified the Southern states’ right to legal recognition, in my view. But the debate is a complex legal argument that returns to the American Revolution: if it was just for the American colonies to secede from the Crown, why is it unjust for an American state to secede from Washington DC?
Lind again misleads his readers by quoting David Boaz, the Vice-President of the Cato Institute:
Boaz asked his fellow libertarians, “If you had to choose, would you rather live in a country with a department of labor and even an income tax or a Dred Scott decision and a Fugitive Slave Act?” It says something that in 2009 this question stirred up a controversy on the libertarian right.
Where was this controversy? Lind doesn’t say. Certainly, I have not encountered it anywhere among American libertarians.
I cannot believe that anybody with any knowledge of the historical debate around the American Civil War could believe, as Lind claims, that the defence of the right to secede is down to people disliking tariffs more than slavery. This goes beyond the disingenuousness of the rest of the piece. It is a simple, wilful smear that should bring Lind’s integrity as a journalist into question.
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Moving onto 20th Century politics, Lind says:
For that matter, where was the libertarian right during the great struggles for individual liberty in America in the last half-century? The libertarian movement has been conspicuously absent from the campaigns for civil rights for nonwhites, women, gays and lesbians.
Steve Horwitz – an Austrian school economist and libertarian who is also a staunch advocate for gay marriage – has nicely skewered this claim:
Which US political party was the first to have a gay rights plank in its platform? It wasn’t the Democrats, Michael, it was the Libertarian Party, back in 1980.
Indeed. And few other policies hurt more innocent people – and, disproportionately, innocent African-Americans – than the War on Drugs. Where is Lind’s on that? Where are his political allies?
And if Michael Lind had done more than read the Wikipedia page on libertarianism, he might have read about civil rights advocates like Moorfield Storey, the first president of the NAACP (National Associate for the Advancement of Colored People), who was a classical liberal; Zora Neale Hurston, the African-American feminist and libertarian, a committed opponent of the New Deal and interventionist foreign policy; Karl Hess, who fought the Vietnam draft; and the early women whose writings helped to create popular libertarian movement like Rose Wilder Lane, Isabel Paterson and, of course, Ayn Rand.
Milton Friedman was instrumental in the abolition of conscription in the United States.David Warsh writes:
Three months after he was elected, in the midst of a hugely unpopular war, Nixon named a fifteen-member “Advisory Commission on an All-Volunteer Armed Force.” Among its members were Friedman and his old friend Allen Wallis, president of the University of Rochester. … Five members were avowed supporters of the draft, five advocated an all-volunteer force, and five were said to be uncommitted. Former Secretary of Defense Thomas Gates was the chair….
General William Westmoreland appeared before the commission to testify. Like most military leaders, Westmoreland opposed the idea of an all-volunteer force. … At one point, Westmoreland declared that he wouldn’t wish to command “a band of mercenaries.”
In his memoirs, Friedman recalled, “I stopped him and said, ‘General, would you rather command an army of slaves?’ He drew himself up and said, ‘I don’t like to hear our patriotic draftees referred to as slaves.’ But I went on to say, ‘If they are mercenaries, then I, sir, am a mercenary professor, and you, sir, are a mercenary general; we are served by mercenary physicians, we use a mercenary lawyer, and we get our meat from a mercenary butcher.’ That was the last we heard from the general about mercenaries.”
And so the Gates Commission went forward, recommending unanimously … in February 1970, just a few weeks before the Cambodian invasion, that the draft be abolished.
It isn’t surprising that Lind makes no mention of this in his piece at all, but it is depressing that such an omission made it past the editors at Salon.com.
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Like John Stuart Mill, Hayek was fearful of the tyranny of the majority – the ability of a majority to use a democratic system to infringe on the rights of minorities. Mill and Hayek both recognized that the argument for democracy is the outcomes that it brings, not the democratic process in and of itself. Liberals value individual liberty above all else; the strength of democracy is that it tends to deliver the most liberal outcomes compared with other systems. The process of choosing leaders should be judged by its outcomes.
This is important, because it shows Lind’s key error: to focus on process rather than outcome. I don’t know what Lind values, but if an electorate voted to enslave all redheaded people I would hope that he would oppose it, and denounce it as an infringement on the rights that all people should have in a civilized society. That 51% – or even 91% – of people voted for it is would be irrelevant. It would still be wrong.
If libertarians are sceptical about unlimited democracy, and refuse to praise democracy in and of itself, it is because they value the rights and welfare of the minority as well as the majority. This doesn’t imply that a benevolent dictator would be better (or even possible), just that fetishizing democracy can lead to illiberal outcomes that we don’t like. Zachary Caceres outlines the desperately poor record of democracies in protecting weak members of society in an excellent post here. And the idea that democracy is not intrinsically just is not unique to libertarianism – see Richard Arneson’s paper on this topic for one example. (H/T to Rajiv Shah for this link.)
There are no libertarians that I am aware of who want to overthrow any democratic regime. Indeed, I can think of no political movement that focuses more on debate and education than the libertarian one. I can’t put it any better than Roderick Long: “libertarians don’t oppose democracy (in the conventional sense) because they hanker after autocracy; they oppose democracy because it is too much like autocracy.”
Lind’s other error is to focus on individuals rather than ideas. This is lazy, unpleasant smear tactics. But it should be taken as a good sign by libertarians. People like Lind, who promotes nationalism and corporatist economic policy, are scared of our ideas, and are reacting to their rise. More than anything, Lind’s post reminds me of an overused but apt quote: First they ignore you, then they laugh at you, then they fight you, then you win.
Are we doomed?
Problem 1. Sovereign Debt
Put simply, governments throughout the West have borrowed, and continue to borrow, too much money. They have become accustomed to living far beyond their means, and seem to be unable to stop. Some countries have already hit the point of no return, while others are fast approaching it. What the markets are most concerned about is the prospect of sovereign default – that is, governments holding up their hands and saying, “sorry, we just can’t pay you back.” Sovereign defaults in major economies (like Italy) would likely have disastrous knock-on effects.
Problem 2. An exposed financial sector
The reason sovereign default is such a big problem is that governments bonds have long been considered more-or-less the safest kind of investment. They form the ‘security’ part of most portfolios. Indeed, one of the main ways we have tried to make our banks safer since the financial crisis is to force them to invest more in government bonds. So if the sovereigns go, so do many of our banks. And there does come a point where more bailouts just aren’t possible.
Problem 3. Sclerotic growth
Normally, one wouldn’t be too worried about sovereign debt. Governments are seen as going concerns, with extremely secure revenue streams. How can you run out of money when you are legally entitled to force people to give it to you? The difficulty comes when your growth rates are so low that there isn’t enough money to give. Then you have a big problem.
Of course, I’ve long argued that a quick bounce back from the recent recession was unlikely. Those countries that experienced a major credit-fuelled boom were left with severe economic distortions. Unsustainable bubbles had built up in financial services, housing and construction and the public sector. Given that these sectors form a major part of many country’s GDP figures, and given that a necessary part of the economic adjustment process was that these sectors would shrink, it was always hard to see where significant growth was going to come from.
But there’s also a broader point here. We may actually be witnessing the inevitable breakdown of the modern, bureaucratic welfare state. Countries are finding themselves with too many unproductive people for a dwindling stock of productive people to support. To put it more colourfully, the parasites are taking over the host, and they are slowly strangling it to death.
Problem 4. Low private sector confidence
The one peculiar thing about the current outbreak of economic doom mongering is the there a lot of private enterprises that actually look pretty good. Particularly in the US, there have been strong earnings and good profits reported, and cash flow looks very positive. Yet businesses aren’t investing. Why? The main reason is a lack of confidence – they don’t want to invest in projects that will take time to come to fruition when the future is so uncertain. And who can blame them? When political failure is raising the spectre of sovereign default and financial collapse, when severe deflation and hyperinflation both look like genuine possibilities, and when you don’t know where the next tax or regulatory burden is coming from, who would want to take on any extra risk?
Policy implications
The first policy implication is straightforward enough. Governments have to come up with credible plans to eliminate their deficits and stabilize, then reduce, their levels of accumulated debt. Put simply they need to cut spending and live within their means. But they also need to do more than that. They need to fundamentally reform the state. They need to roll back bureaucracy, free up entrepreneurs, and reduce the burden of welfare. We cannot achieve what we need to achieve through efficiency alone. And we cannot pretend that governments can continue to do everything they currently do. We need a programme of reform that rivals the post-war settlement in its radicalism, but which heads in precisely the opposite direction.
The second policy implication concerns the financial sector. We need to accept the fact that we can’t keep bailing out failure, and find a way of managing it instead. The government needs to develop a credible method for ‘resolving’ banks that become insolvent. It needs to come up with a plan for winding up failed financial institutions without threatening the system as a whole. We’ve wasted three years obsessing over bank bonuses and arguing about whether retail and investment banking should be separated, but it’s not too late to switch our focus to something that would actually make a difference.
The third policy implication is that central banks desperately need to maintain monetary stability. That means keeping the money supply constant in the absence of changes in velocity, but increasing it if velocity falls and decreasing it if velocity rises. The second half of that task is not easy. Indeed, there’s a good case to be made for it being impossible. Firstly, in times of uncertainty, velocity tends to be volatile. Secondly, velocity can’t be observed directly. Thirdly, changes in the money supply take time to filter through the system. Fourthly, even if you could overcome those first three points, you still wouldn’t have a simple formula to work to – the economy is full of complex interrelationships and feedback loops, and people’s psychology and expectations play a far more important (and unpredictable) role than economic ‘scientists’ care to admit. Simply avoiding a severe deflation, on the one hand, or a hyperinflation, on the other, might be the best we can expect from central banks.
The bigger picture
What we are witnessing now are the concluding chapters of a credit-cycle that began in the early 2000s, when the US Federal Reserve decided to avoid the recession that should have followed the collapse of the dot-com bubble by flooding markets with easy money and cheap credit. But one could also argue – as Detlev Schlichter does – that we are really approaching the endgame of a much larger economic super-cycle that began when President Nixon closed the gold window in 1971 and removed the last vestige of restraint from government’s fiat money systems.
It is easy to construct an apocalyptic narrative from where we are today. One can easily imagine sovereign defaults triggering bank failures, which in turn would trigger more sovereign defaults as incompetent governments rushed to throw money at every emerging problem. You can picture financial collapse sparking a severe monetary contraction and plunging us into a 30s-style depression. Or you can see governments making a last-ditch attempt to monetize out-of-control debts, and prompting a hyperinflation that would also lead to systemic collapse and widespread economic depression.
And while, yes, there are those who argue that a more rational system would emerge phoenix-like from the ashes – ushering in fiscally-disciplined governments, a sounder international monetary regime, and greater freedom for private enterprise – it is more likely that wholesale collapse would lead to the resurgence of nationalist socialism. That would spell an end for liberty and private wealth-creation, and could even mark the return of large-scale international conflict. This is a Road to Serfdom that the world has walked before.
But as I said, it is easy to contruct an apocalyptic narrative. And when the headlines are dominated by doom and gloom, it is very tempting to do so. But we should also remember what Adam Smith said: “there is a great deal of ruin in a nation”. The reality is that doomsday is probably not upon us. If we get things wrong, then, yes, we may face a prolonged period of Japanese-style stagnation. But it is also possible that we could get things right. We could emerge from our current troubles with a brand of capitalism that is more robust, and better able to deliver real, lasting, sustainable prosperity than ever.
Ultimately, economics is all about choices. Right now, we just need to make the correct ones.
LulzSec and the open society
I was stunned: mandating shoes for frisbee constituted a wanton and savage violation of both natural justice and the very raison d’être of the sport. When I quite rightly asked how such a rule had come about, I was told by the supervising faculty member that it was “policy” put into place by a personal edict from the school’s athletic director, a highly unpleasant man whom for present purposes we shall call “Rupert”. This only made matters worse: I’d crossed paths with Rupert before and did not care much for him, nor he for me. So, within earshot of forty people or so, I offered a pithy but nonetheless colourful one-liner about Rupert’s abilities as a policymaker (which I shall not repeat, save to say that it included the word “worthless”). In exchange for my wise counsel, I was invited to spend a day working in the school’s mail room. But gosh, was it fun – and totally worth it.
With that in mind, you might understand why I was disappointed when, a few weeks ago, the infamous hacker group known as Lulz Security disbanded. Claiming loose affiliation to the global Anonymous movement, LulzSec – in a series of very public and highly illegal operations – fiddled with the computers of major international companies and organizations including Sony, Petrobras, News Corp., and various government agencies, including the CIA. (They even hacked my brain: after visiting their website, I had the theme song to “the Love Boat” stuck in my head for over a week.)
But hacking into a computer and my brain is not, on its own, newsworthy: people do this sort of thing all the time without getting mentions in the Wall Street Journal and the FT. What makes these fellows special is that they aren’t doing it for financial gain, or for fame and glory; they’re doing it, above all, because it was amusing: “we’ve been disrupting and exposing corporations, governments, often the general population itself, and quite possibly everything in between, just because we could.” But even this is insufficient to explain the popular fascination with this merry band of computer hackers – for awhile, the whole world knew what they were doing, and seemed utterly fascinated by it. So why did they get so much attention?
LulzSec has managed to latch on to something primal, and long absent from public discourse: public subversiveness. By “subversiveness” I do not mean conduct which is illegal by necessity, but rather I mean a flagrant refusal to behave, an attempt to change social conditions through ridicule or contrast, grounded in an ethically legitimate and justifiable desire to change attitudes to power and the way things are. It is undeniable that, over the last two months, much of the blogosphere and the media has excitedly watched this scrappy group of young people embarrass one corporate giant after another at great personal risk to themselves.
But I suspect that the reason the hacks have been so well-received is not because the world population has suddenly caught an affinity for breaking into computer systems, but rather, it’s because we don’t get to see proper subversion anywhere else, and in recent years it has been seriously on the wane. Take, for example, Glastonbury festival, which was founded on a subversive new age hippie philosophy in the 1970s (its infamous “Pyramid Stage” was first built on a ley line), but which is now totally corporatized: this year’s bash featured a performance by Beyonce Knowles, attracted counterculturists like Wayne and Colleen Rooney, and for just a tad over $9000, you could enter the Age of Aquarius in a luxury yurt.
In day-to-day life, the sense of loss is palpable. We have few opportunities to accidentally stumble upon information which gives us pause to think about the established order, certainly not on television, or over the airwaves, or in music, or in the written word (when was the last time anyone can recall being handed a pamphlet that had anything meaningful written on it, or saw a particularly controversial position adopted by a newspaper?) – we can only really encounter it when we look for it, on the Internet, and even then the fact that the reader is looking for the material means that the content loses much of its subversive strength. So this leads us to a question: where have all the subversives gone? And why?
This is a problem that traditional libertarian ideas are not well-equipped to solve. If genuine subversiveness is dying out, it is certainly not because of the state: in liberal society, the only serious penalty that remains for most out-of-fashion ideas is ostracism (but, as Hubert Humphrey pointed out, the the right to free speech never included a right to be taken seriously). Nor is it because the technology isn’t there: there are myriad forms of free and anonymous expression around today, and people regularly avail themselves of these. We must, therefore, look elsewhere to try to fill in the gaps, to learn where our understanding of society is deficient. I suggest we look at capitalism.
That’s right, capitalism, that thing which libertarians almost never question. I have been fortunate to encounter, and have had time to read, bits of the outstanding critique of capitalism provided by Critical Theory – in particular the views of Theodor Adorno, Max Horkheimer and Herbert Marcuse. For if, like the three men aforementioned we begin by looking at capitalism as a force which takes all things and ideas and commodifies them, giving them a price and a value and incorporating them into a total system, it is possible to draw parallels between these leftist ideas and our own – and, I believe, find a suitable compromise.
To the critical theorists, high culture- art, music, literature and the like- is, when properly constituted, meant to serve many functions and be “many things- opposition and adornment, outcry and resignation.” But, wrote Marcuse, “it was also the appearance of the realm of freedom: the refusal to behave”, a subversive function. With this in mind, the critique of capitalism in Critical Theory can best be summed up thus: capitalism as a cultural force destroys freedom by creating a scenario where “[art and mass communications] no longer need to present themselves as art. The truth that they are nothing but business is used as an ideology to legitimize the trash they intentionally produce.” This results in in “a system of nonculture to which one might even concede a certain ‘unity of style’ if it made any sense to speak of a stylized barbarism.” (Adorno and Horkheimer) In other words, art and music – among other things – lose their subversive character and turn into servants of the established order.
Bear with me for a minute here.
As a liberating force, high culture used to place a degree of distance between ourselves and reality, and through the negation of reality it revealed “a dimension of [truth about] man and nature which was repressed and repelled in reality.” However, “art has this magic power only as the power of negation. It can speak its own language only as long as the images are alive which refuse and refute the established order”; and by ‘negation’, we mean not the “[distinction] between art created in joy and art created in sorrow, [or] between sanity and neurosis, but that between the artistic and the societal reality… the Great Refusal – the protest against that which is.” (Marcuse)
Unfortunately, the Critical Theory view argues that the capitalism we, as libertarians, place so much faith in tends to break down this distinction, incorporating art (and everything else, for that matter) for its own purposes, especially “[when] an art is in vogue which is adept at promoting the right attitudes” (Adorno), forcing art to not stand in opposition to social reality but rather be employed by it. When this occurs, “the Great Refusal is in turn refused; the other dimension is absorbed into the prevailing state of affairs… [and works of art are] deprived of their antagonistic force, of the estrangement which was the very dimension of their truth.” (Marcuse)
But what the hell does all of this actually mean? In practical terms, it means that art, a tool we once used to both discover and combat oppression, is now part and parcel of it. We will recall, just last year, how a popular revolt against a Simon Cowell television showaccidentally sent not one but two songs that were ultimately owned by Sony-BMG racing to the top of the charts. Rage Against the Machine, though it preaches a subversive message, is a paper tiger; the group possesses no power to refute the established order, as it has long-since been pressed into service for it.
Even worse, say the Critical Theorists, commodification destroys not just the art, but also the listener too: for example, if you tune in to “Classic FM” at any point of the day you might be be bombarded by a “popular,” but aesthetically nonsensical mish-mash of Fauré, Tchaikovsky, Grieg and Mozart in the space of 20 minutes or less. This accomplishes two things. On the one hand, the music is ruined (as Richard Wagner realised: he refused for years to consent to the performance of the Walkürenritt on its own, calling such a move “an utter indiscretion”). On the other hand, art-presented-as-commodity also “positively debars… the spectator from thinking”, since when presented in a bite-size format, it is designed to “be alertly consumed even in a state of distraction”, conditioning the listener to lose his or her ability to reflect on it, with the consequence that “the power of industrial society is imprinted on people once and for all.” (Horkheimer and Adorno) In the end, “the seriousness of high art is destroyed in speculation about its efficacy; the seriousness of the lower perishes with the civilizational constraints imposed on the rebellious resistance inherent within it as long as social control was not yet total.” (Adorno)
And this, I think, is why subversiveness is disappearing: if social control is not yet total, it is very close to being so. From a young age, we are conditioned to accept all manner of absurd propositions through quasi-artistic media forms. Many of us, rich and poor, dutifully tune in once a week to watch a stage-managed, airbrushed Simon Cowell castigate a bunch of decidedly unremarkable vocalists; we then read about the false drama the following day in the Metro on the way to work, without really questioning the manufactured nature of the entire enterprise. We are told: “don’t conform: buy a Citroen” by our television sets, and rather than point and laugh at the manifest absurdity of such a statement, we sit quietly and accept it while munching away at our dinners. The competitive drive in something as mundane as the newspaper industry is capable of consuming entire professions, and even the rule of law.
Even our politics, the centre of democratic power, cannot escape: politicians’ “appearance on television… is hardly suitable for drama beyond that of the advertisement, while the consequences of their actions surpass the scope of the drama” (Marcuse), and the drama itself masks that there is, in fact, not much politics left: most political disputes have degenerated to petty arguments over the redistribution of money for use in the market.
But I am a libertarian, not a Marxist, and believe that capitalism with free markets is the greatest economic system yet created. It has done more to improve human knowledge and living conditions than any before it, and its more comprehensive and perfect implementation is a central objective for most libertarians living today. But it is far from perfect, and as we try to create new theory to match our rapidly-changing facts, we should understand that the creation of a libertarian, free-market capitalist state is not going to be our endpoint.
We may safely assume that much which is true today would, at the completion of this project, be long obsolete, and capitalism’s better-disguised contradictions would by then have drifted to the fore. But we will be able to adapt if we realise that certain things are as true now as they will ever be, namely, we are neither liberated nor enslaved by our tax bracket, bank balance, or station in life. At the end of everything, it is what von Mises called the ‘ultimate given’ that creates change, brings it to pass, and allows us to be free – the individual, “internal world of thought, feeling, valuation, and purposeful action.” And very little else.
How better regulation can make Private Military Contractors work
To Adam Smith, the first duty of the sovereign is the task of “protecting the society from the violence and invasion of other independent societies”. Smith did not specify how the end might be achieved, writing, “preparing this military force…is very different in the different states of society.” Libertarians debate whether defence is a public good. I am of the opinion that it is; national defence seems a true collective action problem and, like Smith, I believe that whatever government exists has a duty to provide it. However, I read Smith’s latter statement as acknowledging that this responsibility to provide does not confer an obligation to in-source.
The military should not be taken as sacrosanct, and immune to privatisation. Defence contracting is a legitimate complement to national militaries. In recent years, governments have failed to properly manage private military contractors (PMCs). Defence departments need to reform the way that they deal with contractors. With better oversight, competitive bidding, and clearer legislation, though, Britain and other nations can contract out more functions to cut defence spending while maintaining defence standards.
A discussion of defence contracting is timely because of the host of private military contractors (PMCs) in Afghanistan and Iraq. The United States is the single largest client. That country now has 15 times more contracts with PMCs than it did during the Balkan wars, and has more than doubled its spending on military contracts since 2001, reaching $500bn in 2008. According to Graham Binns, a retired British Army officer and current CEO of Aegis Defence Services, the UK has been “more reluctant” to outsource, but has increasingly done so since entering Afghanistan and Iraq. A 2009 report estimated that the Foreign Office had spent £51m on PMC contracts in Afghanistan and Iraq in 2008. Last year, it spent £29m on contracts in Afghanistan. Britain is also important on the supply side. At the height of the two wars, the UK was home to approximately 60 PMCs.
Why the sudden increase? One of the chief advantages of contractors is their flexibility. Unlike the military, which is slowed by its own bureaucracy and that of its civilian masters, streamlined PMCs can quickly adapt to meet new needs. The rise in military contracting might therefore be the consequence of more involved technology of war. It might be that the supply chain needed to support far-flung military operations has become more complex. It might be that new programmes are needed to meet the demands of counterinsurgency strategy; Iraq and Afghanistan are not the first far-off lands that the U.S. and UK have fought in, but they are remarkable for their “hearts-and-minds” state building mandate. Additionally, contractors fill gaps in modern militaries left by low recruitment rates in all-volunteer professional forces. Peter W. Singer of Brookings writes that private security firms “have been essential to the U.S. effort.” The U.S. is nowdependent upon contractors, and the UK seems to be heading in this direction.
Politics also makes PMCs more attractive, at least in the U.S.. Singer claims that governments have turned to PMCs to limit the growth of their payrolls and keep troop – and casualty – levels lower than they would otherwise be. The unpopularity of the wars in Afghanistan and Iraq also encourage PMC use. Domestic political pressures mean that British and American troops must leave Afghanistan and Iraq. The uncomfortable reality, though, is that neither country is yet stable. To advise on state building, President Obamahas announced that “a civilian effort led by our diplomats” will replace departing troops. Someone will have to protect these people, and with a skeleton crew of soldiers, that “someone” will be a throng of contractors. The U.S. State Department plans to doublethe number of private guards in Iraq to protect this civilian detachment, to around 7,000. Far from heralding the end of the modern condottiere, the draw-downs may create a void for contractors to fill.
What is a PMC?
Before continuing, some dissection of the catch-all term “private military contractor” would be useful. I would roughly divide PMCs into support services (cooking, truck driving, etc.), military technology and equipment (weapons making, building fighter jets), training, security (guarding compounds and officials), and intelligence (risk management and political analysis). Many of these functions are uncontroversial: few would think it strange that the RAF uses the Lockheed Hercules as transport aircraft or object to private truck drivers and cooks. Private firms with core competencies and private sector incentives can do the supply and R&D work more efficiently than can quartermasters and government bureaucrats.
More at issue is contracting with private security firms. One main objection seems to be that it is somehow inappropriate to contract out security. A second objection is the belief that contractors hinder rather than help war efforts. Neither of these things is true.
Let us begin with the charge that it is inappropriate to contract out security. This would be true if professional volunteer soldiers were the only people capable of properly providing security – if all security work were “inherently military.” What does inherently military mean, though? Are there even inherently military functions?
There are. Some may disagree, but defence seems a rare, perhaps unique, area where some government monopoly is a good idea. If defence is a pure public good, as I claim, then it requires a force whose loyalty is assured and which civilian leadership can control. This is more likely to go awry with private contractors than with volunteer soldiers. People whose services are bought should not handle sensitive information, as their loyalties might be bought as well. Hired personnel should not create policy in the stead of elected representatives, as this is undemocratic and potentially dangerous.
Beyond these red flags, though, defining “inherently military” is difficult. The U.S., where the debate has been had with greater vigour than in the UK, may prove an illustrative case. In the U.S., only federal employees may perform “inherently governmental” functions. Last year, the Obama administration defined the term as activities “that [are] so intimately related to the public interest as to require performance by Federal Government employees.”
Of course, this is circular logic. There are tests for it – judging whether the function requires the direct exercise of sovereign power and whether the discretion of the contractor could preempt government decision-making – but the definition is still open to interpretation. According to its understanding of the term, the U.S. Army has identified2,357 contractors as being paid to perform inherently governmental jobs. The U.S. Departments of State and Defence, who hired these people, clearly disagree.
Governments need to clarify what contractors may do and what they may not. If there really are 2,357 people doing work that taxpayers would consider inherently military, this must end. Most security work, though, should be included in the list of acceptable contracts. Security work is certainly not as benign as staffing a mess hall. Private security contractors are allowed to carry weapons, something forbidden logistics staff. They may engage in combat operations against the enemy. This merits caution, but it does not make private security mercenary work. Security contractors guard compounds and officials. But they do not hunt terrorists or make military policy.
Whatever Erik Prince is up to in Abu Dhabi, his Blackwater security contractors were not under contract with the U.S. State Department for the same service in Afghanistan and Iraq. Using the Justice Potter Stewart test – “I know it when I see it” – guarding convoys of political analysts and their translators simply does not seem the same as operating a Predator drone or advising the Ministry of Defence.
The second objection to private security is the claim that it harms the war effort. Detractors point to the scandals in which some private security contractors have been implicated. In 2007, Blackwater guards shot and killed 17 Iraqi civilians in Nisour Square. In 2005, “trophy videos” allegedly showed British contractors shooting indiscriminately at Iraqi civilian vehicles. To point to these incidents as damning of all security firms is unfair, though. Military units have also been involved in scandals (Abu Ghraib, anyone? Friendly fire?) and not all security firms have seen controversy. At the same time, there have been serious issues regarding the regulation of security contractors, and this merits some discussion.
Regulating PMCs
A 2010 U.S. Senate Armed Services Committee inquiry into PMCs in Afghanistan found that security personnel were so inadequately vetted and trained that their operations seldom met Department of Defense contractor standards. In some cases, contractors had not supplied their personnel with sufficient ammunition to defend the compounds they were hired to guard. A lengthy section of the report is dedicated to a case where contractors hired known Taliban sympathisers who actively worked against NATO and U.S. interests. The committee concluded, “The proliferation of private security personnel in Afghanistan is inconsistent with the counterinsurgency strategy.” One wonders, though, if the problem is inherent in the private security industry or rather a matter of inadequate oversight on the part of the client.
The advantage of a contractor is that he or she has profit-based incentives to perform well and be cost-effective, as well as core competencies that mean more value for money. These advantages only materialise when clients are demanding and when there is competition amongst contractors, though. That neither of these conditions has been met is a failure on the part of government, not an innate weakness of defence contracting. Ensuring that everyone’s incentives line up requires that the client be clear on what the contractor is to do and how. Commercial outsourcing contracts contain what are called “statements of work” (SOWs) which list the services to be rendered. The contractor is to meet these contractual commitments, and failing this, will usually face financial penalties.
It is up to the government, as the client, to monitor compliance and ensure that the SOWs are met. If the contractors listed in the SASC inquiry were operating below Department of Defense standards, then this is because of inadequate monitoring, poor auditing of performance, and insufficient penalties for failures to perform to standard. The government was unclear on its standards or neglected to enforce these, thus providing insufficient incentives to perform properly. There have been egregious failures on the part of some contractors, but there have been equally egregious examples of failures of oversight. Taxpayers should be furious about both.
Some of the trouble also seems to be a lack of transparency. Many contracts have not been awarded through competitive procurement processes. A 2007 New York Times report showed that while 79% of contract actions were competitive in 2001, only 48% were in 2005. Some of the contracts let in 2005 may have been renewals of previous contracts, which are often subject to less scrutiny than the initial award. Regardless, there has been a marked decrease in the openness and fairness of the contract procurement process. Halliburton won its $7bn Iraqi oil and infrastructure contract after it bid against…no one. There may have been firms that could have done the job better and for less, but we will never know this as the Department of Defense chose to sole source the contract, or not put it to competitive tender. David Isenberg of the CATO Institute claims that frequent sole sourcing has resulted in situations that are “quasi-monopolistic,” and therefore stifling of innovation and cost-effectiveness. The government must entertain open bidding and cease its wastefulness and favouritism.
This opacity in awarding contacts may also help to explain why there is something of a correlation between contractors who spend heavily on lobbying and those who are hired. Lockheed Martin has the greatest number and value of American government contracts of any PMC. It has also spent $105,967,413 to date on lobbying the American Congress since the War in Afghanistan began in 2001, according to American watchdog Open Secrets. The stuff investigative reporters’ dreams are made on, I’m sure.
Cronyism appears to be rampant as well. Ex-military and secret services men frequently assume lucrative posts at PMCs: Erik Prince, Blackwater’s founder, was a Navy SEAL; Binns ended his career as a Major General in the British Army; Cofer Black, the chairman of Total Intelligence Solutions, was once head of counterterrorism at the CIA. Former soldiers and analysts can make two to ten times more in the private sector than in the service. This raises suspicions about the efficacy of the oversight system; presumably, few would want to irritate a contractor for whom he or she wishes to work after retirement, on a generous government pension to boot. Some governments have adopted cooling off periods, periods following retirement during which officials cannot work for a company that does business with its department. This does little to stop the brain drain from the military, but may be a helpful good governance and anti-corruption effort with regards to the bureaucrats that monitor contracts. The devil is always in the details, though. Such restrictions are ineffective if they are too narrow, and only restrict someone from, say, working for contractors who dealt directly with their department and not with other departments.
Another issue is the overuse of the “cost-plus” model for contracts. Cost-plus and fixed price contracts are all about risk sharing: fixed price places the risk with the contractor, while cost-plus locates it squarely on the shoulders of the government—and taxpayers. Cost-plus contracts are appropriate where the scope of the project cannot be accurately estimated, and thus neither can the risk of cost overruns. The problem is using cost-plus as a default, without thinking what incentives and risk burdens it creates. As it stands, the cost-plus model seems in some cases to have encouraged companies to exceed limits and engage in profiteering. A 2004 U.S. Government Reform Committee report found that Halliburton had overcharged the Department of Defense for gasoline by over $165m.
There are also serious gaps in the law regulating the private security industry. Contractors are not quite civilians, yet they are still outside the military chain of command. International anti-mercenary agreements do not quite fit modern PMCs. The nature of the countries in which contractors do business is such that courts are weak, so trials there are largely a non-starter.
In the U.S., the Alien Tort Statute (Alien Tort Claims Act, ATCA) allows the court to hear human rights torts cases brought by foreign nationals related to acts committed abroad. The actual language reads, “The district courts shall have original jurisdiction of any civil action by an alien for a tort only, committed in violation of the law of nations or a treaty of the United States.” This does not include criminal liability. More to the point, no cases brought under ATCA against contractors have found in favour of plaintiffs. Two cases were brought by Abu Ghraib detainees against Titan Corporation and CACI, contractors allegedly involved in the prisoner abuse at Abu Ghraib. Both Ibrahim v. Titan and Saleh v. Titan were dismissed. This was despite a U.S. Army finding that contractors had participated in 36% of proven incidents. The petition for appeal at the Supreme Court on Saleh is pending, but the lower court found that claims for war crimes could not be brought against private actors under ATCA and that a “battlefield pre-emption” granting immunity extended to contractors as well as soldiers. A private act of torture does not a war crime make, apparently. No case against the guards involved in the Blackwater Nisour Square shootings has ever been successful, either.
The consequence of the legal grey area in which contractors exist may be to sometimes incentivise inappropriate risk-taking and, as with Abu Ghraib, serious wrongdoing. Contractors’ legal status must be clarified. The 2008 Montreux Document is an international agreement that gives recommendations for state regulation of PMCs. The UK and the U.S. are among the seventeen states that have ratified Montreux. This is movement, but the agreement has no real teeth. Courts must set a definite precedent, or legislatures in the U.S. and UK must pass acts regulating security contracting. Stronger international law would not go astray either.
Part of the problem may also be that there is very little public access to information on PMCs and their contracts, and thus little accountability to the public. Taxpayers fund the military and thus have access to non-classified information so that they may scrutinise the actions and spending of the armed forces. The same logic should be applied to PMCs. The American Freedom of Information Act has been interpreted as not applying to PMCs and their contracts. In the UK, the Freedom of Information Act has been used to force government disclosure of contract costs and awardees. The Act still includes an absolute exemption for information regarding security matters (Section 23), though. As with most other government documents, contracts that do not involve classified activities should be available to the public upon request.
Conclusion
There have been problems with the performance of some security contractors over the past decade. It would be foolish to continue to ignore these. It would be equally foolish to condemn private security, close one’s eyes, and hope that contractors merely go away. Private security contractors have the flexibility, manpower, and potential for cost-effectiveness that the military currently lacks. The military needs them.
Moreover, the issues with private security to date have been largely on account of government oversight failures. Privatisation of military functions can work, and work well, but the government has to tighten its standards as a consumer, free up bidding, and clarify the contractors’ legal status. The transition to a largely civilian presence in Iraq and Afghanistan may be just the chance to do this.