Sunday, 13 February 2011

The biggest flaw in the logic of “hidden costs” and externalities

The flaw in stating that economic calculations cannot be conducted is the constant cry that not all costs can be calculated. This is true to an extent, but like all good sophisms, only to a degree.

The reality of the matter is that all valuations are subjective. No person has the same view as another. This is also one of the greatest flaws in calling human behaviour irrational. It is in assigning your subjective values as having more worth than those of another person. If the goal of a person is simply to watch sport and drink beer, this can be achieved simply. Not working hard and doing all one can to see sport is for that individual rational. It is not a view I would support, but it is one I subjectively do not agree with and not one that is irrational per se.

In economic calculations, the same applies. There are many possible ways to make the world a better place. Each person has their own idea of a utopia. That of Moore was close to my idea of hell. Yet for him it was the ideal society.

I support Education and Cancer research. If I could have tax payer money spent any way I like, it would be on increasing the amount of University based research in Mathematics and Science and also Medical research into cancer.


Then others have different subjective values from mine.

Some would do all they could to move us to bio-fuels and to save large tracts of land in a manner that isolates them for any use for all time. Each of these solutions to a perceived problem has costs. This is not the direct cost, but the flow-on costs. For instance, locking large tracts of land not only has the initial real estate cost as a component in it, but it also reduces the amount of available land for development and farming. This decrease in available land leads directly to an increase in the price of real estate and indirectly to the cost of food. As land prices increase, the amount of marginal land used for farming increases and the amount of land available for farming declines. The effects of this change in supply for land lead to an increase in the cost of food.

The same logic applies to bio-fuel. As arable land is used not for the production of food but is diverted into making fuel, the supply of arable land for food decreases. Again, the cost increases and the consumer pays more for each unit of food produced.

It also has the effect of making each additional section of land added to the non-use allocation more and more expensive. So, as the process continues, more and more wealth needs to be allocated to this end.

Of course, western nations will feel the increase in food prices far less than developing countries. Here, food inflation will lead to starvation at the extreme.
But this is also a subjective value, unless you are one of those who can no longer afford to buy food.

The flaw is that we do not all agree, this is the nature of a subjective evaluation. Some want to save the rain forest, some stop cancer, but we cannot use the same funds and resources to fund the same outcomes. We need to make choices. We need to choose between competing uses.

The argument behind regulation is that a select group of people know better than all others, that their subjective valuations mean more than the average person. This means that they will attempt to increase the funds they are allocated to make their values come to the fore. This occurs through government as taxation and is a means of a few selecting what is best for the majority.


The facts always remain, there is and never will be enough for all people to do all that they want. This is a world of scarcity. Should it be different, there would be no place for economics.

Unfortunately, there is just not enough wealth in the world to do everything.

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