Sometimes the truth hurts.

The economic understandings or misunderstandings of our members of government get reflected in our laws and regulations.   And at the end of the day, it is the economic understandings or misunderstandings of our electorate that determine which individuals serve there.    In this past election, in siren-song fashion, Barack Obama convinced a majority of voters to act on misunderstandings of how the economy works and became President.

The repercussions of such economic illiteracy are now being played out.    First there was last February’s massive “stimulus” bill.    Most recently there has been the take-no-prisoners battle to re-make the healthcare portion of our economy.    “Cap and Trade” looms in the not too distant future.   Obama remains determined to re-pay unions via passage of “Card Check”.  Calls for a second stimulus are rising even as majority of the first one’s dollars have not been spent.  The list goes on and on.   Elections do indeed have consequences.

One of the most fundamental fallacies being followed by Washington these days is the belief that in the face of a slumping economy, government must “stimulate demand”.  In the most basic of economic courses, the student is taught that “economic equilibrium” is achieved when demand equals supply, and that markets are always trying to move towards that state.   Many in Congress, and the many voters that put and keep them there, seem to think that demand equaling supply falls under the “Which came first, the chicken or the egg?” category.   They are sadly mistaken.

Who will defend the practice of “demanding” without first “supplying”?   We supply so that we can demand — supply must come first.  This truism renders any attempt to “stimulate demand” not just backwards, but practically immoral.

For example, who “demands” that they have gasoline for their car without first supplying their labor in some fashion in order to have money to pay for the gasoline?      And is it truly the government’s function to provide that job that will then pay for the gasoline?    If so, who supplies the government with that job that can then be dispensed?   Should the government command someone to provide the job by force?    We’re now only a couple steps away from slavery.     Note also that any consumable, such as food, clothing, shelter, or even healthcare, substitutes nicely in this line of reasoning.

“Creating jobs” is not described in the Constitution as a function of government.   Only a tortured interpretation of things like the “General Welfare” or “Commerce” clauses would begin to assign that role to government.    The moment we look to government to create a job, we fall onto a slippery slope:  Who decides what jobs to create?  How are they funded?  How do we evaluate job performance?    As a nation we are now collectively bruised and battered from falling down this slope for several generations.  It’s also worth noting that it is exactly when voters “demand” that the government “create jobs” using its redistributive techniques that we wind up with stimulus programs where the effective cost of those “created jobs” runs into the hundreds of thousands of dollars per job.    Indeed, if the $787 million February stimulus, according to The White House, “creates or saves” 3.5 million jobs (ignoring for now how we’d actually measure that), that works out to nearly $225,000 per job.

What is fundamentally not understood amongst an apparent majority of voters is that entrepreneurs and their financiers, (often being one in the same), create jobs.   They perform the vital discovery mechanism of demand assessment and supply a potential solution, risking their own resources to do so.   It is a truly virtuous circle, in which the entrepreneurs who best understand the needs and desires of their customers — their demands — are rewarded most handsomely.   Likewise, through the vital role of failure, bad assessors of demand are punished, and collectively we can all watch and learn what works and what doesn’t.

A critical point to realize about the above process is that no central orchestrator directs the entrepreneur as to what action to take.    They might do exactly the wrong thing.   They might also supply a solution for which there was no prior demand.   Yet this is precisely how things like the personal computer or iPhone came about.   There was no government program to initiate the demand of having a computer in one’s house, let alone in one’s pocket.

Unfortunately due to a general lack of understanding of this process, we’ve tolerated an increasingly hostile environment towards fostering supply, such as ever-escalating taxes, oppressive regulations and minimum wage laws that prevent employers from putting that first rung on the economic ladder closer to a reaching hand.

Getting back to the election, in the case of Barack Obama, another dynamic was also present:  Many voters became further enamored with the historic possibility of electing the first black President.  Yet with painful irony, these voters ignored Dr. Martin Luther ‘s historic plea to judge instead by the content of one’s character.    Had the philosophies behind Obama’s economic agenda (a major part of his “character” in this case) been more widely understood, a majority of voters would have realized that much of what he wanted to do (and indeed is now trying to do) has been tried before and has failed.   They simply would never have elected him because doing so would cause themselves great economic harm.    And sadly, as prominent economists like Thomas Sowell have noted, it is exactly these failed economic policies that have disproportionately harmed blacks ever since FDR’s New Deal,  accelerating through Johnson’s Great Society to today.   Voters should have rejected these policies in the same way that they reject being told that 2+2=5.  Fortunately our collective mathematical literacy has not yet caused us to re-write that fact (although Congress often makes valiant attempts).

Ironically, economic illiteracy also kept Obama’s opponent, John McCain, from being able to convincingly articulate an alternative to Obama’s vision of a bigger, more activist government.   So perhaps it is fair to say that more economically literate voters had no horse in that race.   But it’s also fair to say that an economically illiterate mainstream media fanned the flames in Obama’s favor, recklessly avoiding any kind of challenge to his audaciously hopeful plans.  As the saying goes, “hope is not a strategy.”

So will 2010 be the year that voters snap out of it and send the likes of Nancy Pelosi, Barney Frank, Maxine Waters, Christopher Dodd and the rest of them packing?   With incumbent reelection rates in the mid-90% range, it would be fair for Congress to think the voters have approved of their actions so far.    To the voters we say,  “we have met the enemy, and it is us.”

What happens to healthcare reform if the people invited to pay for the party don’t show up?   Honest historians already know:  It won’t be pretty.

Even voters of the most liberal persuasion have a hard time arguing against the economic truism, “tax something and you’ll get less of it”.   So check out this bag of goods:  Among the key funding mechanisms for the healthcare bills being promoted are a 40% excise tax on so-called “gold-plated” or “Cadillac” plans, and a windfall profit tax on insurance companies themselves.    When even the unions are raising an eyebrow to taxing high-cost plans, you know something’s up.

Senator Max Baucus and others have run their numbers and see a moneypot in these high-cost plans.   Their spreadsheets look really simple and have formulas in them like “Tax Revenue = MoneyPot * 40%”.      What is being attempted here is something akin to studying physics without calculus, calculus being the “language” of dynamic processes.  The planners and masterminds in control insist on using static analysis, a simplification that results in financial recklessness.

History shows conclusively that people don’t sit back and accept 40% tax rates with glee.   In an instinctive pain-avoidance maneuver, they change their behavior in an attempt to minimize the tax.    Some percentage, likely bigger than Sen. Baucus will ever admit, will reduce their high-cost plans one way or another.    The unions certainly realize this — they’re likely to see the value of their plans cut closer to, or under, the tax-trigger threshold, all via reduced benefits.   In any case, the total taxable dollars to drive the Senator’s moneypot is going to go down.     Witness, the birthplace of government program cost overruns.   Calls for further tax increases and/or limitation of services (also called rationing) will be soon to follow.

In another form, this dynamic is happening today in the form of shrinking state tax revenues.   In New York, thanks to the  ongoing economic illiteracy of the state legislature, the Working Families Party was able to convince them that their budgetary woes could be solved by raising the taxes on the “rich”.     Things haven’t gone according to plan, and they’re about $500 million short (note that a sad side-effect of the staggering numbers being bandied around the health care, stimulus, cap & trade and other policy debates is that $500 million now seems like chump change).    Steve Malanga’s excellent article goes on to describe similar stories in New Jersey, Maryland and elsewhere as high-wage earners pack up and leave.

But for striking parallel to the tax on luxury insurance plans, we can visit the boatyards up and down the Eastern Seaboard in the early 1990’s.   In an attempt to get the “rich” to pay their “fair share” of taxes, liberal Democrats in Congress enacted a family of taxes on “luxury” goods, as defined by them, including boats costing more than $100,000.    Ironically, Ben Bernanke, along with Robert Frank, wrote about the backfiring of this legislative mess in their 2003 book “Principles of Microeconomics“, quoted here:

pg 96:

“Before these taxes were imposed, the Joint Committee of Taxation estimated that they would yield more than $31 million in revenue in 1991.   But in fact their yield was little more than half that amount, $16.6 million.   Several years later, the Joint Economic Committee estimated that the tax on yachts had led to a loss of 7,600 jobs in the U.S. boating industry.  Taking account of lost income taxes and increased unemployment benefits, the U.S. government actually came out $7.6 million behind in fiscal 1991 as a result of its luxury taxes — almost $39 million worse than the initial projection.    What went wrong?

The 1990 law imposed no luxury taxes on yachts built and purchased outside the United States.   What Congress failed to consider was that such yachts are almost perfect substitutes for yachts built and purchased in the United States.   And, no surprise, when prices on domestic yachts went up because of the tax, yacht buyers switched in droves to foreign models.   A tax imposed on a good with high elasticity of demand stimulates large rearrangements of consumption build yields little revenue.   Had Congress done the economic analysis properly, it would have predicted that this particular tax would be a big loser.   Facing angry protests from unemployed New England shipbuilders, Congress repealed the luxury tax on yachts in 1993.”

Other accounts of the yacht tax put the job losses at upwards of 25,000, or as high as 45,000, with sales revenues plunging as much as 71%.    But if you think the lesson here is that Congress should have only taxed imported yachts, or all yachts, you’ve sadly missed the point.

Finally, there is the self-defeating notion of taxing “windfall profits”.   Simply put, if one of the stated goals of the left is to reduce the profits of the insurance companies, is funding health care legislation with a “windfall profits tax” nothing more than a parasite killing its host?

Just like the yacht buyers who changed their behavior, or the people voting with their feet and moving out of high-tax states, the “dynamic” will with certainty trump the “static” when it comes to trying to raise big dollars to pay for big health care.    When it does, and the budget hole is measured in 12 or 13 digit numbers, to what peg will Congress turn?   Once again, it won’t be pretty.

So does the President support Read The Bill, or not?

This past Wednesday morning, Representatives John Dingell (D, Michigan) and Kevin Brady (R, Texas)  sat down for an interview with CNBC’s Becky Quick, Carl Quintanilla and John Harwood.   Discussing healthcare legislation, bipartisanship and the law-making process in general, some unintentional revelations of our completely dysfunctional Congress were laid bare and proved stunning.

A few minutes into the discussion, Becky Quick questioned whether or not a “public plan” was needed to achieve the goal of “lowering the cost curve”.   Here is Dingell’s response:

“Well, I think a public plan is an absolute necessity, and the reason is, that we have found, that the current pattern of state regulation does not work.  There’s no way, whatever, that we can control the costs and the behavior of the insurance companies.  And so we’ve got to substitute for that, competition.   And the only way we can get that competition that will work is by seeing to it that we do have a public plan.“

Nevermind that many Republicans believe that it is exactly all the state and federal regulation prohibiting competition that is a big contributor to our dramatic health care cost inflation.   What was truly remarkable was that even with the admission of a non-working public policy, there has been no call from these same people to repeal it.   Rather, a massive new program must be put in place which will correct for the failings of the first one, which will be left in place.

Dingell was also proud of the Congressional Budget Office’s estimate that through the inclusion of a public option there would be “an increase the number of persons receiving employer based health insurance by about 2 million people”.   Using his number of 46 million uninsured, that’s a little over 4%.   Enough said.

But it got better.   Minutes later, following a discussion of whether or not there was bipartisan cooperation, Rep. Dingell, elected to the House in 1955, initiated the following exchange:

Rep. Dingell: “One of the problems that exists, and this is a very real one, is that we are engaged now in the public [his emphasis] drafting of legislation.  This leads to all manner of unfortunate misunderstandings as to what it is that we are doing.”

Becky Quick:   “But you say doing this in ‘public’.  That means doing it under the light of day where people can actually see what’s happening?”

Dingell:  “Uh, you’re just seeing the unfortunate consequences of public drafting of legislation and it makes a fine mess because people don’t understand the complexities of this.”

Quick:  “So it should done behind closed doors…?”

Dingell:  “Bismark observed, ‘If you like sausage, or legislation, don’t watch either one made.'”

Carl Quintanilla:  “Right, right. We’re watching it get done this time.”

Quick: “I don’t know, I’ve always thought that the openness is something that’s a good thing though, the more people that are involved, the better.”

Rep. Brady: “It is.”

Quintanilla:  “That’s assuming that people really understand and have time to pay attention to the detail, right?”

Quick: “I guess it depends on whether you trust what’s happening behind closed doors or not though.”

Brady:  “I’ll tell you… We held over 51 Town Hall meetings, the people who came to our Town Hall meetings were knowledgeable, they’d read the bill, they knew health care issues. Their problem is too much of this has been done behind closed doors.   They want it to be open.  They want their ideas heard.  And it’s not.”

At an earlier point in the interview, John Harwood turned to Rep. Brady and said “Are you really going to stand in the way of the Congressman realizing his dream”?    Brady calmly ticked off a number of initiatives that Republicans would do instead.   But the point is that this isn’t about Dingell’s dream.   It’s about doing what will produce the best result, according to the people affected, in the most fiscally responsible manner, which just might include having the government doing a whole lot less than what’s been done thus far.

It would seem that the truth about the nasty rotten sausage that pass for many of our laws, and the factory conditions where they’re produced, are exactly what is getting people worked up and causing them to look more closely over the process.    Dingell’s obviously not happy with that (and we can probably count on him never signing on to H.R. 554, requiring that all non-emergency legislation and conference reports receive 72 hours of Internet exposure prior to debate).   When people see something disgusting,  a common reaction is to recoil and try to ensure that they don’t see it again.  Better yet, they act to find the cause of the disgust and fix it.

It’s safe to say that we’d all be better off by ramping down the production lines at the sausage factory that is the US Congress.

Something’s askew with President Obama’s stance towards unions.

As reported by Neil King Jr. in a September 30th Wall Street Journal article,  Education Secretary Arne Duncan is staring down opposition from the teachers’ unions in his bid to (gasp!) improve outcomes within public schools through the promotion of charter schools, merit pay, and changing the rules for hiring and firing teachers.   Duncan’s plans reflect Obama’s vision from his campaign, and as someone who considers himself entirely pro-teacher, but anti-teacher-union, I want to applaud and give credit where due.

But such support flies in the face of Obama’s otherwise strong support for union organizing and one would think by extension, what unions are all about.   Such support includes the promotion of the Orwellian-named “Employee Free Choice Act” where simply put, workers would lose their right to a secret ballot on whether or not to have a union.   You read that correctly, and it is comical to listen to union leaders try to defend the proposal.      Note that the March 6, 2009 low in the S&P500 was within days of the revelation that EFCA  might not be the legislative layup many people anticipated.

Reviewing the text of Obama’s September 15th speech to the AFL-CIO, where he spoke of the need to grow the nation’s labor unions, it is impossible to not see the similarities in his descriptions of the state of labor in the early 1930’s and the state of big government today:

“It was a tough place for workers in the 1930s. “A benevolent dictatorship,” said the local steel boss. Labor had no rights. The foreman’s whim ruled the day, and the company hired workers from different lands and different races, the better to keep them divided, it was thought at the time.”

Isn’t Obama himself relishing the opportunity to be nothing less than a benevolent dictator?   His stable of “czars”, upwards of two dozen depending on who’s counting, could be straight out of Stalin’s Russia of the 1930’s.   Rahm Emanuel, Nancy Pelosi and Harry Reid play the roles of foremen very well, thank you.   And the very presence of a union in any company acts to keep labor and management divided.

Specifically regarding merit pay, if it is appropriate for teachers, how is it not appropriate for all workers?    Yet one does not suspect that unions are chomping at the bit to see EFCA passed so that they can then push merit pay for all.   As Dennis Van Roekel, president of the National Education Association has said, “If you pay one teacher more you have to pay someone else less.”    Merit pay contradicts the very essence of a union’s purpose, which is to promote equality and unity of the group at the expense of the individual.   Any principal who might be inclined to pay their standout teachers more may in fact be restricted by their need to then pay all teachers more, including those not deserving.   Obama can not simultaneously encourage the creation and expansion of unions, but be against their most fundamental philosophies.

A clear alternative

It is instructive to envision a potential public school system without a union.   It would start with the district superintendent, hired by the school board, a body that must answer to the voters.   The superintendent’s mandate would be to implement the vision and objectives of the voters as discerned by the school board.   The superintendent would in turn hire the management staff of each of the schools in the district: principals, assistant principals as well as district-wide administrators.    In turn, each of the principals would hire the staff of their particular school, coordinating with the district wherever operational efficiencies can be gained.   Department heads, working closely with the principal, would complete the staffing process with teachers and assistants.

Teacher compensation and school operating procedures would be dictated entirely by the management of the school district, according to whatever standards and requirements were necessary to hire the proper staff.  Principals could use any number of techniques, including sign-on bonuses, short or long-term contracts and performance bonuses, customized work schedules and job descriptions, etc., as they see fit. The principal might consider soliciting regular feedback from parents about all aspects of staff performance, and the superintendent might do likewise for their principals.

Competition between school districts would ensure that they treated their teachers fairly.  The best teachers would quickly see their value rise in the marketplace, and a district would have every incentive to keep them happy, according to a personalized definition of happiness as defined by each particular teacher.   To some it might mean more pay.  To others, greater flexibility in scheduling or job description, or any combination of factors.  Likewise, principals would have total flexibility over replacing teachers that were not meeting performance standards.    Measurement of performance would exist at all stages in the system, with the buck ultimately stopping at the public voting booth.

There’s actually nothing novel about such a system.   It’s already in place at thousands of highly successful public companies large and small around the world, with shareholders and customers voting with their dollars in real-time.  And they don’t have unions.

“But hey, schools are different!   How can a principal have so much control over a teacher’s job when their class may have any number of challenges that change year to year? A teacher can’t pick their students!  How could a teacher’s performance ever be fairly evaluated, with their compensation controlled by that?”   Indeed, at a dinner years ago where I sat next to the local teachers’ union president, he described these very concerns to me at length.

These concerns are a complete red herring.  Hundreds of millions of employees work effectively with their management teams to solve tremendously difficult problems all the time and have done so for decades.    It is what makes them “professionals”.    None of this is to suggest that today’s teachers are not professionals.   Hardly.   But the above system would respect that professionalism more, attract and retain the best and most qualified personnel, treat them as individuals and not segregate them into groups of convenience, and produce a better product for the customer – the students, parents and taxpayers.

Perhaps you think that the school dynamic represents the most challenging managerial problem conceivable.   It still does not follow that the solution would involve inserting a group of people unaccountable to the customer, a group whose very presence guarantees the introduction of additional complexity and inefficiency between the two parties involved, into the equation.   Yes there are occasionally times for “mediation”, but why require building that in from the start?

As parents we’ve already done the hard part:  We’ve entrusted our most valuable possessions, our children, to the staff of our school system.   So why can’t we trust the school staff, working closely with us as parents and voters to come up with fair and reasonable organizational systems that all can live with, ones that work best to meet the objectives of the voters?  And if there are laws in place that prevent the above from happening, like New York’s Taylor Law, then that is where legislative action must take place.   We need to start thinking about some basic questions:  What do the teachers’ unions do to advance the goal of providing a great education at a reasonable and sustainable cost, and why is their existence even necessary?  Just who’s running our school districts anyway?   Who should be running them?

With successes like those seen in Philadelphia, teachers’ unions are terrified by the prospect of more widely exposing themselves as an emperor with no clothes.   Unions in general have seen their ideas losing attraction in the marketplace, in the form of steadily declining memberships, and are now seeking to use the force of big government to achieve their goals.  We should all have the “audacity of hope” to see that campaign politics stay out of this trend.