Classical Economics’ Crucial Flaw — The Lag Time It Needs To Correct Problems
The Bay Area’s housing shortage is a case study in the inability of classical economics to timely deal with large problems
By David Grace (www.DavidGraceAuthor.com)
People Often Fail To Consider How Long A Strategy Will Take To Work
When people run a cost/benefit analysis for a proposed action they often fail to properly choose a long enough time frame over which they will count up the possible costs and the potential benefits.
[See my column: Risk/Reward Analysis Doesn’t Work The Way You Think It Does. People Often Ignore The Hidden Dimension Of Time]
The element that humans most often ignore in constructing their governmental and economic theories is also time.
You have to ask, not just “Will this theory actually work in the real world as promised?” but also “How long will this theory take to work and what costs will people suffer over that lag time between when the problem arises and when your pet theory eventually resolves it?”
Assuming Nature Can Self-Heal A Problem, How Long Will It Take?
If we were having a huge problem with swarms of insects and someone said, “Ignore it. More insects means more food for birds. The bird population will increase. The additional birds will eat the insects and Nature will even things out” the first question you would need to ask would be, “How long will Nature take to get rid of the plague of insects?”
If the answer is “Ten years” then, no, that’s not a good solution because the damage suffered during those ten years would be much greater than the cost of a more active, direct solution.
You always need to know how much damage will be inflicted during the lag time between the manifestation of the problem and its resolution by your pet theory.
An Example: The SF-Bay Area Housing Shortage
Why It Happened — A Confined Geography
In the San Francisco Bay Area, Stanford University spawned a technological revolution with students, alumni, faculty and research technology incubating revolutionary companies that grew to massive proportions.
Unfortunately, the City of San Francisco and Stanford University to the south are located in a valley on a peninsula with limited available land. Even worse, access to and from the valley is restricted to a few bridges over the Bay to the east and essentially only two highways through the low range of mountains to the ocean on the west.
There was neither a great deal of room in the valley to build hundreds of thousands of new housing units nor a transportation infrastructure that could transport people from any new housing to new jobs, leastwise from housing outside the Bay Area to and from new jobs.
The Founders Did Not Want To Move Their New Companies
These facts did not deter HP, Cisco, Netflix, Yahoo, Facebook, Google, Apple, Intel, AMD, Adobe, Twitter, AirBNB, Uber, Salesforce, etc. from locating their headquarters on the SF Peninsula.
Why? The founders of these companies lived in the Valley and they didn’t want to move, nor were they willing to split their businesses across several cities hundreds or thousands of miles apart. Instead, as their companies grew they continued to locate or expand their operations on the SF Peninsula in spite of the growing housing shortage and the ever-increasing transportation gridlock.
Government Greed Made Everything Much, Much Worse
The local governments, heavily composed of lawyers, realtors, and property developers whose motto was “More is better” were only too happy to accommodate them in this explosive growth.
For the members of these city councils the mantra was: “More jobs? Great! More people? Great! More building? Great! More tax money? Super great!”
When Google, Facebook, Adobe, Yahoo, Netflix, Intel, Apple, etc. applied for permits to construct new buildings that would employ 5,000, 10,000, 20,000 new workers in the already overcrowded, under-housed and gridlocked SF Peninsula, the governments of San Francisco, San Jose, Cupertino, Palo Alto, Menlo Park, Redwood City, etc. universally responded “Great!” secure in the belief that more tax money and more jobs were always a good thing, and that, eventually, the rules of classical economics would balance things out.
The “More Is Always Better — Problems Will Fix Themselves” Philosophy
Questions about what the cost of these new jobs to their communities would be and how long that “balancing out” would take never deterred the cities’ thirst for more, More, MORE.
Like the believer in allowing Nature to take decades to solve the insect-plague problem, the believers in classical economics were sure that the Market would, eventually, balance everything out.
“Hell, we’ll just build more housing. More is better, right?”
“What, people can’t get from these new apartment buildings to their new jobs? OK, we’ll just build more roads. More roads are good, right?”
“What, all these new people need new stores, new schools, more government services? OK, we’ll just create more buildings and hire more government employees. More buildings and more employees are good, right?”
“Don’t worry. The Market will balance everything out.
“As more people move into the area, the demand for housing will increase in relation to the supply. This will cause rents to increase.
“As rents increase, entrepreneurs will be motivated to build more housing to meet the increased demand.
“Until the supply increases to meet the new demand, the high rents will put pressure on employers to pay higher salaries. Those workers who cannot get higher wages will move away because they cannot afford to live here anymore, thus reducing demand.
“Those employers who are faced with higher salaries will be motivated to move their companies to areas where wages are lower.
“Noting the higher cost of housing and higher wages, new companies will not locate here and existing companies will expand their firms in other locations, all further lowering the demand until the new housing being constructed coupled with the lower demand will bring everything into balance. Problem solved.”
And that’s what they did.
They did not ask the Time question.
Politicians Failed To Consider How Long Things Would Take To Fix Themselves, If They Ever Would
This “Don’t worry. Everything-will-fix-itself” theory did not tell these politicians how long this “balancing out” would take.
When you realize that the time frame to balance housing with demand to the extent that rents will fall to levels similar to those in other parts of the country is “twenty to forty years, if ever” it then becomes obvious that sitting back and waiting for the problem to solve itself was an extremely foolish strategy.
An none of that considers the massive pressure on infrastructure, overcrowding, and pollution from this huge increase in population in a confined area.
Timely Government Action Could Have Avoided The Problems In The First Place
Had the Bay Area’s local governments been composed of practical people concerned with their existing citizens’ best interests instead of how much more money the developers, lawyers and corporations could put into their pockets over the next 24 months, they would have responded to Google’s request, for example, for permits to construct new buildings that would employ 5,000 new workers with these questions:
“Are there 5,000 vacant housing units available within a ten mile radius of this proposed new business development? No? Come back when you can show us where you’re going to house these 5,000 new workers.
“Is the current highway/road system capable of moving these 5,000 new workers from these available housing units to your new facility in thirty minutes or less? No?
“In that case, how are you going to transport these 5,000 workers from these 5,000 available housing units to your facility in half an hour or less?
“You don’t know? Come back when you can show us how these new workers are going to get from their new homes to your new facility in half an hour or less.”
Had that been done, there would be no Bay Area housing crisis because Apple, Google, Facebook and the rest would have been unable to build their new facilities on the SF Peninsula in the first place.
No new facilities, no flood of new jobs. No new jobs, no new people who need housing. No new people, no transportation gridlock, pollution, or billions in new taxes to fund new freeways, bridges, etc.
Instead, the companies would have been forced to expand into Oregon, Nevada, Ohio, Michigan or some other area where a sufficient housing and transportation infrastructure either existed or could be created.
Had that been done:
- Their employees’ real net pay would have been higher because of the far lower cost of housing and commuting in another location.
- Their employees would have had more free time because they wouldn’t be spending several hours every day stuck in commute traffic
- The company’s payroll would have been lower because it wouldn’t have had to pay a premium to cover the high cost of housing and commuting
- There would be less pollution because of far fewer vehicles on the roads for shorter periods of time
What The Local Governments Never Understood
But that didn’t happen because the local governments equated more money, more people and more jobs with Better and assumed that, eventually, the Market would balance everything out.
They never understood that
- The Market would not balance everything out in less than decades, if ever
- More jobs are not automatically a good thing
- The costs of gridlock and a housing shortage
— — — make it difficult to hire teachers, police officers and other public employees, and waiters, bus drivers, clerks, and other private employees
— — — raise the rents for commercial properties so that it becomes difficult to operate bakeries, retail stores, and restaurants
— — — force people to live farther away which massively increases gridlock, commuting times, and pollution,
Classical Economics’ Laissez Faire Philosophy Caused The Problem
Classical economic theory that promises that everything will automatically even out all on its own, eventually, is unable to take into account the huge costs imposed on individuals, businesses and government agencies over the ten, thirty or forty years that this evening-out process will require, if, in fact, things ever even out at all.
Rather than these housing and transportation problems being solved by classical economic theory, they are largely caused by adherence to laissez faire classical economic theory.
These problems instead would have been solved not by the do-nothing principles of classical economic theory but by the government refusing to grant building permits unless and until the proponents of expansion provided the new housing needed for their new employees who were going to work in the new buildings and paid for the additional transportation infrastructure necessitated by their proposed expansion.
It’s Gov’t’s Job To Prevent Businesses From Inflicting Their Costs On Taxpayers
Instead of the principles of classical economic theory that everything will fix itself without governmental action, the better path would have been that the government not allow businesses to impose their collateral costs of operation on
- The taxpayers by requiring them to fund more roads and bridges
- The existing businesses in the form of materially higher commercial rents and wages
- The governmental agencies in the form of higher salaries for police, teachers and other employees
- The citizens in the form of increased pollution and traffic gridlock
For The Market To Work Properly, Businesses Need To Pay Their Own Costs, Not Make Taxpayers Subsidize Them
The rule should be that businesses need to pay for the housing and transportation infrastructure that the expansion of their businesses will require.
Those costs, like other costs of producing a product, should be folded into the product’s price so that the consumers and the Market can determine if their products are worth that price.
When businesses’ actions impose material, third-party, collateral costs, it is the job of the government to require those businesses to pay those costs themselves instead of passing them onto the taxpayers and the population at large.
The only way that the Market can properly price goods and services is if all of the costs of products are reflected in the price instead of some of those costs being transferred to the taxpayers and the public at large.
— David Grace (www.DavidGraceAuthor.com)
