The Economics Of What If Everyone Who Could Ran Everywhere They Went All The Time

Blog post challenge: "The Economics Of What If Everyone Who Could Ran Everywhere They Went All The Time".
— Modeled Behavior (@ModeledBehavior) April 25, 2013

I confess to having read this tweet a fair number of times, attempting to parse the meaning. I like a good challenge, but I also like a bit of clarity. In cases where clarity is not immediately forthcoming, I face the dilemma of whether or not to take the high road. Here, I must judge which topic to choose from among the following:

1. The use of clarifying punctuation when facing hard budget constraints (in this case, 140 characters).
2. What are the economic implications of everyone running in lieu of walking, loping, sauntering, sashaying, or otherwise taking to pedestrian locomotion. The effects of this change are to take place in the world as-is.
3. Replace all transportation with running. Again, the effects of this change are to take place in the world as-is.
4. Describe the economics of a world in which all capable members of the species homo sapiens sapiens has and always has run everywhere they went all the time.

I believe interpretation (1) is both uncharitable and boring. Doubly so when notepad and screenshots are eminently available. Sure, it's possible Ozimek tweeted this from a mobile device, but to bump it again a year and a half later as-is suggests an interest in the actual topic rather than the meta-topic implied by the lack of colons and commas. Interpretation (2) leaves room for a very large portion of the modern economy, transportation, that would otherwise be completely ruined by interpretation (3). A forklift operator or train engineer spends much of the day sitting or standing. If those sitting- or standing-in-motion tasks had to be replace by flesh-and-blood humans running about, it's pretty obvious that almost all modern industry would collapse. I used to work at Home Depot, and I assure you that if a floor worker had to scurry up to the top shelf to get a barbecue down, OSHA administrators would be doing a lot more running than is healthy for a human.

Interpretation (4) provides a great little window into specialization and exchange, however. But to get there, we have to return to pre-history. and imagine life before even the rudiments of modern man appeared on the scene.

Prior to the advent of farming, ca. 12kya. humans were primarily foragers, collecting berries, nuts, fish, and very importantly, mollusks. Mollusks are intensely important to the development of early humans. Since they are either slow-moving or completely stationary, the ratio of energy expended to energy captured is minuscule. Obtaining high-protein, high-fat nutrition while casually wading around in tidal pools is a pretty good way to select against huge jaw muscles and long, sharp canine teeth. Big brains begin with the humble oyster. So in that setting, I want you to imagine for a moment four clans. 

	Tidal Pool	Savanna
Running Only	A	C
All Locomotion	B	D

Clans A and C run everywhere they go all the time. On the savanna, this means they run when they collect fresh water, they run when they head to the privy, they run when they escape from hyenas, and they run to chase antelopes. In the tidal pools, this means they run across potentially slippery rocks and over barnacles. In both clans, running everywhere all the time is likely to be a liability. On the savanna, hunting is made next to impossible, since stalking prey is the only way apart from dumb luck to obtain meat. A physical defect that reduces the maximum running speed of a human to that of a crouched stalk would possibly aid in hunting, but the dubious benefits of silent hunting would be outweighed by the individual's propensity to be eaten by lions. The most likely evolutionarily stable outcome would be for Clan C genes to select for predator avoidance and gathering prowess. Members most fit to breed would probably be long-limbed and slender, with excellent fine motor skills, perhaps something like the Landstriders from The Dark Crystal, or maybe the extraterrestrials in Close Encounters of the Third Kind, only with small heads and muscular legs. Or maybe like kangaroos. 

Clan A, contrarily, would reward balance and surefootedness. Here, away from leopards, genetic modifications that hobbled individuals' ability run swiftly would lead to fewer slashed feet, fewer broken bones, and larger oyster harvests. Successful Clan A members would be stocky, stubby, and perhaps most closely resembling other great apes like mountain gorillas or orangutans in stance. Large, powerful hands with extra webbing would probably be more successful, since the ability to pry forage from rocks and carry it back while running full tilt requires both great strength and a good grip. 

Clans B and D, by their ability to modify their pace, are able to select for a general-purpose body, one not too different from the one you're inhabiting right now. You can slow down, pick your way along treacherous sea rocks, just as you're able to scramble up a tree to get away from a knot of snarling honey badgers. Clans B and D can intermarry, interbreed, and interweave no problem-o. 

But in an all-run world, given time sufficient for speciation, miscegenation is a real threat to offspring. A-C children would be too slow to escape predators among the acacia trees, and too clumsy and fast to navigate coastal slickrock at full pelt. It seems likely that strict rules would arise to prevent interbreeding. The important social question, and one that I confess is beyond my ability to forecast out-of-sample is under what conditions the gains to trade exceed the risk-adjusted downside of miscegenation between clans A and C. I can imagine that with enough tribal surplus, someone would eventually hit on the idea of creating special trade zones where either only men or only women would congregate to trade between clans, or something (note that because of evolutionary pressures, genocide is unlikely: Clan C cannot justify conquering Clan A since the land they would conquer would be effectively fallow permanently & vice-versa).

Assuming that durable trade could be established somehow, the next natural question is whether or not agriculture could arise in this setting. An important first step to animal husbandry is the domestication of canis familaris, the dog. Since it isn't perfectly clear how the dog was domesticated in the first place, it's difficult to project how either thin-limbed flatlander vegetarians or rumblebottom beachcomber dwarves might do the trick. At any rate, the marginal utility of a canine partnership is much lower for the A-C clans than for the B-D clans, thanks to diet specialization. Why even bother herding goats if all you eat is cactus nubs or whatever? As for scratch farming, I find the beer hypothesis pretty convincing. 

What's the beer hypothesis, you ask? Well, in the very same locations archaeologists find evidence of farming, they also find evidence of beermaking. Early farmers didn't grow grains to bake bread; they grew grains to get #drunj. Your oversalted late-Sunday-morning Bloody Mary hearkens back to the roots of humanity more than the bread you break over dinner that evening. Drunkenness is the cornerstone of civilization.

So picture that. First you'd have to run up and down the fields to prepare the soil, then you'd have to run up and down to sow, then you'd have to run up and down to harvest, and once your sour mash is good and fermented, you'd have to run around in a drunken stupor. Forgive me my Puritan sensibilities for a moment, but I suspect that this experiment would end at best as an aborted failure. You can only get away with drunken debauchery if you enjoy the luxury of staggering home to sleep it off afterwards. Drunk running is a recipe for ending up stuck between a rhino's toes. 

No beer means no agriculture. No agriculture means no industry. So it seems that the Clan C folks are doomed to perpetual foraging. How about our friends in Clan A? Would they ever invent beer? Here, it seems a little more likely. The trouble with these guys is that there isn't a lot of grain-arable land all that close to the coastline. Dogs might still be attracted to middens, and if they could bring back relatively fast-moving small game, they might be domesticated, eventually leading to penned sheep (somehow, even though the technical details of how to build an enclosure while running escape me). Grains are still a bit tough to predict. It's pretty easy to imagine that some sort of trade network would see that early grains and pulses made their way to coastlines and into the hands of Clanners A, and they would probably be better disposed to do the relatively slow-speed task of tilling, sowing, harvesting, and processing, but the whole drunkenness-near-water-and-slippery-rocks thing hints that the experiment wouldn't get that much farther than it would for Clan C. 

Now, if a few members of one of the clans had a predisposition for sobriety, and if the rest ended up weeded out through the inevitable mayhem of drunk running, it might be possible for agriculture to go "foom" and for one of the clans to dominate. As we see with homo floresiensis and other minor offshoots, early man had no trouble whatsoever with either outright genocide or just full-bore displacement. If that were to happen, the puzzle would then become what would the alt-prehistory look like with either homo kangaroosiensis or homo gimlisiensis ascendant. If this is the sort of question Ozimek is asking, I confess myself buffaloed. The technology we have now is completely contingent on our ancestors' natural propensity not merely to truck, barter, and exchange, but to modify personal locomotion to fit the particular circumstances of place and time. If you remove individuals' ability to stroll, saunter, trudge, march, meander, traipse, stalk, skip, sashay, tread, or sally at any pace other than pell-mell, there is absolutely no way to tell how individual incentives might change. There would probably be greater pressure to develop tech that would allow tasks to be completed from stationary positions, more investment into devices that convert running energy into useful work, and husbandry that focuses animals' efforts on slow-paced tasks rather than being bred for food. More donkeys, fewer sheep. 

Less clear is what would produce relative status. Clan A types would probably value a low center of gravity and good forearm strength. Clan C type would celebrate sprinters. Sports and warfare would likely reflect these things. It's possible that the rise of bourgeois dignity would never occur (though to be fair, it's entirely likely that it was a complete fluke as it actually turned out, by no means assured in the contours of history). Swolehate would almost certainly be a phenomenon found only among Clan A descendants. And I think that's actually the hidden question lurking in Ozimek's original challenge. Swolehate happens when you run around digging clams. It's just a fact of life. I hope this is a satisfactory first pass at a difficult analytical puzzle.

Summary: What If Everyone Who Could Ran Everywhere They Went All The Time is not euvoluntary when weighed against the alternative of What If Everyone Who Could Ran Everywhere They Went Only Some Of The Time.

Pole Tax

On Twitter, E.N. Brown asks:

Hey, #sexwork twitter: Any thoughts on Nevada declaring strippers employees, not independent contractors, who must be paid minimum wage?
— Elizabeth N. Brown (@enbrown) October 31, 2014

Concatenated, EE friend The Honest Courtesan replies: "I think it'd be better to leave them as contractors, but stop TREATING them like employees & cash cows. The biggest problem is that clubs SAY they're contractors, then charge extortive fees & impose draconian rules."

A glib take: the Uber of exotic dancing already exists, and it is called "escort services." The physical property of the gentleman's club (614 Wharf Ave.) acts as one or more of the following:

• A clearinghouse: it provides a centralized location to match clients with performers. A customer might want something in particular, but the act of browsing helps define specific desires. Nota bene, this works both ways. In a club, performers can quickly visually screen customers before approaching for private dances. Call-in services oblige escorts to haul clear out to the site before assessing whether or not the client is tolerable.
• A (for lack of a better term) sacred space. This land is for a single purpose. There may be libation here, but this is not where we drink. There may be food here, but this is not where we eat. There may be music here, but this is not where we go to get our Creedence fix (brb, getting my Creedence fix). This place is the place to see undulating flesh. This place is the place to be on the business end of an inviting smile. This place is the place to feel a tempting, inviting touch, to smell forbidden musk, to hear gracious lies, to forget your loneliness for a little while. This place is a place of great glamour, in the old sense of the word: a gratifying, glimmering shared falsehood that lifts the weight of the world if but for a fleeting moment. It is an important, valuable space and should be kept as such. 
• A warren. This is the less-charitable interpretation of the "sacred space" interpretation. Like it or not, a great many people are simply disgusted by sex work, no matter how sanitized or discreet it might be. Zoning legislation keeps exotic dancing segregated from the God-fearing, pearl-clutching types. I see quite a bit of this here in my uptight Northern Virginia suburban corridor. I won't Google any addresses here at my work machine, but I'm fairly certain that I'd have to make my way clear to DC to see a dancer half my age swivel her hips in my direction. The median constituent in my neck of the woods has uttered a pretty unambiguous "nope" towards pole grindin'. 
• A place of ordinary business. Payment for services rendered, like at the dentist.

Club owners can get away with extorting dancers because of the aforementioned land use restrictions (and if you think Nevada is some sort of free-for-all when it comes to opening a strip club, you have another think coming). In the terms of econ 101, clubs provide a rent, and the rents are generated by way of the first three above bullet points. The value added to the client, to the performer, and to the community accrue to the residual claimant, which under the ordinary rules of organization is usually the property holder, the person with his (and don't kid yourself, it's usually a man) name on the title deed.

Typically, Ray keeps the [value] streams separate through multi-part tariffs. The cover charge and the drinks minimum goes to the club owner, the dancers get their tips (or some fraction after they tip out the DJ and staff [I presume]). The details almost certainly vary from venue to venue. The idea of treating dancers as independent contractors renting out space is actually quite a clever one—by paying a fixed charge to perform, the club obliges dancers to deliver de minimus that much value to the clients, thereby increasing the prestige of the club. Paying wages and heavily garnishing tips gives dancers an incentive to shirk (on the margin) and to hide tips (on another margin). Shirking and evading is evidence of a hostile relationship between owners, performers, and clients. This is less euvoluntary than a situation of mutual respect and service.

How to collect and distribute rents is a matter of negotiation. The minimum wage idea is perhaps one way to get to a just outcome, but it isn't the only one. Relaxed land-use regulations help to strip the location premium from the owner. Re-formatting the multi-part tariff might also help. Most of all, it's important to recognize which property rights regimes lead to the most efficient allocation of scarce resources. Treating exotic dancers like factory workers is probably a lousy approach. Then again, treating factory workers the way they're typically treated is no great shakes either. Hm.

Obligatory:

Occupational Licensing

My patron here at EE is visiting Australia for the nonce. Surely while on walkabout in a fried-out combie, he's been neatly sheltered from the vicissitudes wrought by an unfettered supply of prostitution.

You see, the Land Down Under employs a Prostitution Licensing Authority. Well, Queensland does anyway. The GTM is in NSW the last I heard. Still, if he heads up the coast to Brisbane, his Vegemite will doubtless go unmolested.

When Friedman criticized occupational licensing in Chapter 9 of C&F, he explained clearly so that laypersons could understand that licensing was an anti-competitive measure. Licensing removes marginal producers from the marketplace, raising relative prices for reasons that have nothing to do with underlying scarcity.

Here's an IJ video making the standard case:


Tullock took it one step further, noting that the deadweight loss from schemes like this might actually exceed the value of the prize. How does that work?

Well, suppose that in the city of Wilsonville, Mayor Sam issues exactly 50 licenses for streetwalking every year. Bidding is competitive. The value of the license comes to $10,000, and the next best alternative for the relevant labor pool is worth $8,000. This means that each bidder should be willing to spend up to but not including $2,000 in lobbying efforts to obtain a license. If bidding is particularly fierce, it only takes 55 aspirants to squander the entire value of the license. Rent dissipation is one of the first things we teach in a Public Choice course and it's a lesson pretty easily absorbed by even the thickest students, so what gives? Is there something else behind the moral intuition of licensing that perpetuates the practice?

Yes. I think so. I think that the marginal suppliers that licensing schemes elbow out are not euvoluntary. That's why we get decisions like Thomas v Collins, 1945 and very little voter pushback against the metastasis of licensure. Kleiner and Krueger estimate (2009) that 38% of all occupations require government-issued licenses (working paper here). And attention is scarce. It's unreasonable to expect the median voter to be well-informed about the economics of licensing, and the mental shorthand of license=quality is a lot easier than carefully parsing present discounted value estimates under different discount rates coupled with systematic risk assessment that adjusts for Poisson elements.

Perhaps there is indeed some public interest tale to weave where customers are routinely fleeced by unscrupulous vendors. How would you analyze this problem if you had to start from scratch? What tradeoffs would you identify? What alternatives would you present? What's the probability that state-issued licenses would end up on your short list of solutions?

And even more interestingly, Andrea's Question again crops up: it's painfully obvious that the growth of licensing carries with it a lot of unfortunate consequences, but what should we do with that knowledge? Is it enough to point out the rank absurdity of manicurist licenses and hope that politicians notice? Probably not.

Also, how does this issue intersect with immigration and global trade?

Edit [a]: Larry White and Frank Stephenson discuss this very issue here.
Edit [b]: A "fried out combie" is a broken-down passenger van. It's Australian slang popularized by 80s pop sensation Men At Work.

AirBnB: Cost and Choice.

AirBnB is an online service that matches travelers with property owners. The two can then negotiate for a night's stay. Yesterday, I scanned past a comment somewhere that warned of thinking that this idea is all that much of a boon. After all, the opportunity cost of peer-to-peer hosting is that established hotels lose out on business. The comment surprised me, coming as it did from an economist I respect quite a bit.

Consider the purpose of production in very broad terms. The means of production exist to serve the ends of human wants. Here, we've got a matching problem. Under the technology of its time, hotels were a way to match the itinerant with a soft pillow, a roof, and a mass-produced flea market painting. Before that, medieval codes of hospitality had to suffice. Before that, you slept in your caravan or more likely never traveled at all. And it's BATNA all the way back. I've slept under the stars before, and you probably have too. So one way of looking at it is that AirBnB is just another technology that fulfills human wants. And it's not like access to the impersonal market is barred, so folks are unlikely to find systematic exploitation in the business model.

It seems then that most of what the AirBnB service does is permit transfers from firms to property owners. It injects substitutes into the market, making overnight stay services more competitive, more elastic, and therefore closer to marginal cost. Hello people, that's economic efficiency. AirBnB is a high-volume, low-overhead mancgere.

From there, it's a matter of comparison. Compare the reliability of reputational capital between private homeowners and hotels. Compare arguments about economies of scale when it comes to housekeeping and laundry services, or about the lumpiness of opportunity cost. It's easy enough for modeling purposes to assume that people value their time equal to their wage rate, but that's just an assumption. There's no a priori reason to confidently assert there's a linear relationship there, at least much beyond the bounds of a normal workday.

The residual euvoluntarity is a curious question. City elites seem to be comfortable protecting the rents of hoteliers (no surprise there, PAA), and you might see how this service could grate against conventional capacities of trade and ownership and trip over the regret condition. Despite this, I have a hunch that the democratizing of overnight stays is a power-to-the-people sort of thing and I expect that if not this particular service necessarily, then some clone of it will end up the new normal with a bit of spit and polish.

Bet on it.

GDP vs. EE Round 2: Papola's Socks

The sage and puissant Russ Roberts and his accomplice John Papola recently appeared on Stossel discussing "austerity" (a heartbreakingly awful term) and the role of fiscal policy. I don't know how to embed the video, but this link is here. Keen-eyed observers will identify an error made by Mr. Papola when discussing measured prosperity. He says that he could sell his sock to Stossel, who could just turn around and sell it back to him, lather, rinse, repeat and that counts as prosperity to the state accountancy.

While technically wrong, Papola hits on (or at least hints at) an ecstatic truth squirreled away in how GDP is actually reckoned.

You may have already read some of my comments on the shortcomings of GDP here. Recall that the kernel of my argument is that welfare economists use GDP as a metric for prosperity and that the negative sign on imports implies that goods purchased from foreigners make Americans worse off. This is patently and obviously false. What Papola's comment reveals is interesting for the virtue of being factually incorrect.

The error is not obvious to the casual observer, so let me remind you how GDP is approximated.

Y = C+I+G+(X-M)

Output (Y) is the sum of private consumption (C), investment (I), government expenditure (G) and net exports (X-M).

I've already griped about the last term, so let's now gripe about the key differences between the first and the third. To wit, it's only the purchase of final, new goods that count in C. Flea markets need not apply, neither do intermediate goods like bulk paper sold by a mill to a printing press. John's socks got counted as part of GDP when he bought them from Brooks Brothers, but no subsequent sales count towards our official prosperity measure.

Unless of course they're bought by Uncle Sam. All 'G' counts. Every joint strike fighter, every pension check, [edit] every Congressional toilet seat, every button on every uniform paid for out of the Treasury gets added up and rolled into GDP, but nada, zilch, zero, bupkis from the high school kid getting her first used VW from the local dealership.

Curious that, eh? I think most folks would agree that secondary market sales are indeed welfare-enhancing, particularly if they help encode structural changes that reduce recycling costs. Yet the great productive strides made possible by Craigslist and the like are studiously ignored by national income accounting, while any and all government spending plugs right straight into the identity.

How about that.

Euvoluntary Truck (Sixteen Tons)

North, Wallis and Weingast (NWW) refine concepts of violence and social orders in their instant classic “A Conceptual Framework for Interpreting Recorded Human History” (2006, available from NBER) by modeling what they call “limited access orders”, in which elites curb private predation by establishing well-guarded rents and “open access orders”, in which elites abdicate strict control over the portals to political and economic activity. 

Some people say a man is made outta mud
A poor man's made out of muscle and blood
Muscle and blood and skin and bones
A mind that's a-weak and a back that's strong

 Limited access orders feature a panoply of picayune practices that drive those of us immersed in open access orders to mercilessly, (and as I shall argue) mindlessly mock. Well-heeled Westerners see squabbling bazaars, chicken-and-bead in-kind haggling over barter goods, even wink-wink nudge-nudge under-the-table black or gray market trades and shake their heads ruefully at the poor, benighted rubes who don’t know how to conduct civilized business. As you might predict, I think such mockery is hogwash.  Folks in limited access orders labor under alien institutional constraints that are easy for folks in open access orders to miss. After all, good institutions are invisible: we don’t have to meditate on each point of coordination that tells us to drive on the correct side of the road before getting behind the wheel. Sloppy thinking draws conclusions from mere practices.

GDP vs. EE

Double-entry accounting serves commerce well. I don't pretend to know the intricacies of GAAP  beyond what I picked up as an undergrad, but as an improvement over the single-entry ledgers of antiquity, modern standards are fair, transparent, uniform, and reliable. For the purpose for which they were tailored, they serve admirably.

Repurposed, accounting standards may be misleading. Consider national income accounting. National accounts treat sovereign nations as if they were meaningful business entities and estimate* the productive activities within. Annual GDP figures are sort of like a nation's income statement. Recall from your intro to macroeconomics course its components:

GDP = C+I+G+(X-M)

or;

Gross Domestic Product is the sum of the following:

1. Consumer expenditures, which includes final purchases of new non-capital products. From a business accounting perspective, this would be stuff that gets filed under "expenses". For people, it's everything you buy at the grocery store.
   
2. Investment expenditures, which are goods that get capitalized. It's true that the line between expenses and durable assets can be a little blurry at times, but in general, if you buy something that you can apply depreciation to, it counts as investment expenditure. Note again, these are purchases of new capital equipment. A fresh-off-the-floor front end loader would count, a used quarry truck would not.
   
3.  Government expenditures, including local, parish, county, state and federal outlays. Note the sign here. G is counted as directly contributing to GDP. Because of this, you might be able to squint your eyes and see how the "growth" camp in Europe could become convinced that more government spending is "good for the 'economy'", in the sense that more G directly boosts GDP (and possibly again using the curious logic that is the fiscal multiplier). There's quite a lot to say about this component, and perhaps I will return to it in another post, but for today, I'd like to consider:
   
4. Net exports. X stands for "exports", M for "imports". Again, the idea of (X-M) makes sense for firms. Firms sell what they produce (X) and purchase intermediate goods for transformation (M) or for to run the company or whatever. A firm that has more value coming in the aft hatch than going out is on a fast boat to Puerto de Bankruptia. 

The advantages to using an accounting technique among nations are similar to those for firms: you can write neat ledgers, tidy balance sheets, and give currency traders the information they need to ensure the capital account matches the current account. All very nice and proper.

Except when GDP pulls double duty.

Where GDP is usually referenced by economists and the press is as a proxy for the health and vitality of the economy. Higher GDP per capita tends to correlate well with higher standards of living and better material well-being. There are quite a few things folks consider desirable that track well with high GDP, like lower violent crime, longer life expectancy, lower infant mortality, et al. That's great, but if we're measuring prosperity, it seems kind of perverse to ding your metric for exchanges that happen in one particular direction across one particular type of border. By using GDP as a proxy for prosperity, the deck is sort of stacked against the euvoluntarity of international trade, and this is completely independent of any intertemporal, loanable funds considerations. It's almost tacitly suggesting that imports are something we have to suffer for the privilege of exporting. How strange.

I can perhaps understand how economists might want to concern themselves with prosperity maximization. I'm more puzzled by ones who translate this to "GDP maximization".

I'm sort of curious if folks' moral intuitions towards overseas trade would change if some snickering rogue could convince the profession to switch the sign on imports.

In the past, I've puzzled over which component of EE is violated by international trade, and I have a suspicion that this might have a little something to do with it. Anti-foreigner bias really does seem to be worse (anecdotally, mind you--I haven't done any rigorous research on this) for buying than for selling. Folks seem to be happy to sell American-made goods to the rest of the world, but bristle when it's cheap imports arriving in large ships. Maybe the GDP calculation links moral intuitions to the conventional capacity to exchange. Maybe. What do you think? Are national accounting techniques endogenous to intuition? The other way round? What other plausible stories can be told about the euvoluntarity of international trade and GDP accounting?

Bonus link: Munger on price-gouging and Locke, tied closely with his forthcoming follow-up work on Euvoluntary Exchange. Enjoy.




*Note that I use the word "estimate" and not "calculate". For practical purposes, GDP reckonings are usually close enough as to make little difference for panel comparisons among entities with similar regime characteristics, but rare events can introduce bias into the measure. This phenomenon is extremely interesting and fuels quite a bit of research, but it's a bit off topic, so I won't dwell on it here.

Is Ronald Coase a Euvoluntaryist? (Part 1 of 2)

Of all of the Big Names of 20th Century economics, Coase's work is at once the most widely known and the most widely misinterpreted (even in the peer-reviewed literature!). Ronald Coase wrote two papers so good that subsequent economists have made very successful careers elaborating on his themes. The first, The Nature of the Firm, asks why it is that if the market is so all-fired good, we see firms? The First Welfare Theorem tells us that voluntary trade inevitably produces maximum surplus: it is Pareto efficient. Here at EE, we hold that if voluntary trade meets the conditions for euvoluntary exchange, not only is it economically efficient in the FWT sense, it meets generally accepted standards for fairness and social justice. How is it then that we'd ever see people organizing into firms? If we agree that a just, peaceful society is desirable (and to be sure, this is simply an assumption and may not necessarily be true), then should we not rely on (eu)voluntary exchange as much as possible? Should it not be a maximand?

Not so, says Coase, and with good reason. Bargaining is expensive: it requires time and effort. In a production process, it can be prohibitively wasteful. Let me give you a real-life example from my own experience working in a factory.

I used to make buttons. Like, shirt buttons. There's one remaining button factory in the United States and it stays open mostly because voters get bent out of shape when they discover materiel is produced abroad. Therefore, the Pentagon buys its domestically produced uniform buttons from a factory in a sleepy Connecticut mill town. The production process is something like this: raw melamine is compressed in pill-making machines by worker (A) and loaded into barrels. The barrels are sent to be mashed in a hot press by worker (B). From there, the button rounds are sent upstairs in an elevator that would feel at home in a David Lynch movie to be tumbled in big ol' rollers stuffed with pincushioned golf balls to remove the flashing by worker (C). Worker (D) then takes the cleaned buttons and applies the relevant finish before sending them to workers (E) through (H) to be inspected, sorted, boxed, and shipped. Workers (I) through (T) perform additional duties, from order processing to machine maintenance to, I don't know, ombudsmanning. I didn't really work there long enough to get a feel for what the office workers did, plus I was a third shift press monkey, pretty low in the organization. The point is, I didn't have to sit down and haggle with the pill masher and the flash buster to buy my raw materials and sell my finished product. As a worker (B) (no pun intended), I was spared the costs of repeated negotiation. By organizing as a firm, US Button consolidated all those micro-transactions (even if they would have been purely euvoluntary piecewise) into one larger transaction, namely, "do you agree to work here under the following conditions...?" In economics, this is a component of what we call "economies of scale", that is, for some operations, bigger is better. If the bargaining costs can be trimmed away by absorbing impersonal, anonymous market operations into the firm, then the firm can operate cheaper, which means we get more stuff using fewer inputs. In a liberal industrialized economy, this improves everyone's BATNA, since widely available cheap products help resolve problems of material scarcity. In 1912, my BATNA to toil was starvation or charity. In 2012, it's Skyrim and Cheetos. Now, I'm not saying it's particularly fun being poor, but it's a lot less fatal and more comfortable these days than even a century ago and a big part of that is the huge decline in real prices due in part to the way industry is organized. Because of the forces Coase pointed out in The Nature of the Firm, the world is a more euvoluntary place.

In my next post on Coase, I'll talk a little bit about his other famous paper, The Problem of Social Cost and I'll address how well-defined property rights can help identify space over which agreements can be struck. In the meantime, I'll leave some additional considerations:

• If modern industry makes us all better off by improving everyone's BATNA, does this imply that labor transactions are necessarily euvoluntary? Why or why not? How do workers move along the euvoluntary spectrum over the course of their careers?
• Are there some aspects in which modern industry gives people a worse BATNA? Is overabundance of choice (for example) welfare-destroying? Do the extra transaction costs of having to choose from 500 varieties of breakfast cereals at the store impoverish me? How would Coase respond? How would Munger respond?
• Ceteris parebus, is working in a firm more or less euvoluntary than working on your own? Why or why not? What are the relevant considerations? What are the relevant EE conditions?

Euvoluntary Exchange, Efficiency Criteria and the Social Contract

The classroom description I usually give for Pareto efficiency is something like this: an outcome is Pareto efficient if no one can be made better off without making somebody else worse off. When discussing economic efficiency, this is usually a pretty good place to start. Unfortunately, it's not an especially good guide for allocation. Very few actions are truly costless and someone always bears the cost, which is why economists are fond of what might be in contention for the most awkward acronym of  all time: "TANSTAAFL", There Ain't No Such Thing As A Free Lunch. If we had to rely on Pareto criteria to make any changes to the status quo ante, we'd be paralyzed. That's why when evaluating what it is economists evaluate (a list that seems to get bigger by the year), we rely more commonly on the Scitovsky criterion, more commonly called Kaldor-Hicks efficiency or just cost-benefit analysis. K-H efficiency relaxes the Paretian concern over making no one worse off by simply insisting that the total benefits to exchange or production or whatever exceed the total costs. That is to say that when someone else is made worse off, they could be compensated using the residual value generated by the economic activity.

It sounds simple, but like with many seemingly simple things, there are hidden depths that complicate matters.When we're talking about routine exchange choices, it's pretty easy to identify the affected parties. When I buy a bucket of ice cream (euvoluntarily), I'm better off, my grocer is better off, and to the extent that sufficient stock remains that the next guy who wants rocky road is able to find what he's looking for, I'm not harming anyone. It might be true that I'm ever so slightly bidding up the price for ice cream in my gluttony, but by K-H criteria, the imperceptible effect my purchase has on the market is swamped by the surplus claimed when a deal is struck. But what happens when the parties to a decision don't yet exist?

Smarter people than me (like Scitovsky himself) have rigorously proven that Pareto improvements are necessarily K-H improvements, though the reverse need not be true. I am willing to make the intuitively plausible claim that euvoluntary exchanges are local* Pareto improvements under condition 4, no uncompensated externalities, and local K-H improvements in the absence of condition 4, as in the GTM's original paper. Note that this does not necessarily imply that all K-H improvements need stem from euvoluntary exchanges, but it does mean that if a trade is not K-H efficient, it cannot be euvoluntary.

Why is this important and what does it have to do with contracting with not-yet-existent parties? Quite a bit, really. Consider an honest-to-goodness Hobbesian wilderness: all against all, two men enter, one man leaves, you scratch my back, I bludgeon you and steal your stuff. From this condition, a Rosseauvian social contract is unquestionably a Kaldor-Hicks improvement. Future generations benefit twofold: first, they can enjoy law, order, and the social welfare and eventual economic growth that accompanies peace. Second, they get to exist. The easiest way to anthropomorphically increase the Earth's human carrying capacity is to cooperate. I am obviously better off for my ancestors' decision to form rules of law. Despite this, I have a hard time concluding that the social contract is euvoluntary. If for no other reason than confederacy with the state is not alienable nor are terms negotiable, the social contract does not conform to contract law. There is no meeting of the minds, no offer, default acceptance under penalty of imprisonment, no intent, and no remedy for usury or breach of merchantability. Lest I sound too glib here, let me give more concrete examples. Suppose I oppose a portion of my income bent towards violence against foreign nationals or directed towards the oppression of recreational drug users. Under normal contract law, I would be able to explicitly stipulate the acceptable use of my contribution towards services rendered. Under the social contract, if I'm in breach of terms I never agreed to, I become a tax cheat and a felon. I cannot for the life of me square this with the principles of euvoluntary exchange, even if I'm unmistakably better off living under the social contract. This suggests to be that this Euvoluntary Exchange project has even more to offer than is evident at a casual glance.

Indeed, we might use EE as another tool to examine the ethics of transacting across time and with absent parties. This is especially true of directional vs. destinational euvoluntarism. Perhaps when pondering how to treat unborn generations, we might also use an EE yardstick in addition to K-H and Pareto criteria when making sticky meta rules or writing constitutions.

Some questions for consideration:

• Can ex ante institution creation be purely euvoluntary? If so, what are the natural limits to those institutions?
• What components, if any, of EE should meta rules consider?
• To what degree are EE conditions substitutes for standard efficiency criteria? To what degree are they complements?
• When are constitutional rules not coercive over future generations? Does this question ultimately matter?
• How do you suppose ordinary folks develop moral intuitions towards the social contract?

* by "local" I mean here that we're ignoring any psychic discomfort felt by curmudgeons who bear an aesthetic grudge against what ordinary people would regard as mundane, acceptable trade.That is, I mean to exclude the reductio ad absurdum often brought to bear against the Paretian criterion.