Date created:12 February 1999

Last modified: 12 February 1999

Maintained by: John Quiggin

Economic rationalists are not so bad

December 30 1998

Making a break from algebra-laden tomes on option pricing theory, my reading for the summer has included Bob Ellis' latest book, First Abolish the Customer: 202 Arguments against Economic Rationalism. The most striking line in the book is the first one 'Economic rationalism at its heart is a refusal to spend money on the unnecessary'. This, along with a belief that 'the market should be allowed to do what it likes' is as far as Ellis goes in the way of defining economic rationalism. Ellis' mental image is that of an army of narrow-minded beancounters, slashing a path through the lives of ordinary folk in the pursuit of some free-market nirvana.

This is unfair, of course. Many who are happy to wear the 'economic rationalist' label are far from being uncritical apologists for free markets. And many supporters of free markets (for example, Milton Friedman) are humane and broad-minded. In response, to Ellis' claims, they would argue that they merely point to the principle of opportunity cost, that resources can only be allocated to one goal if some alternative goal is given up,

For ordinary people, however, the lived experience of economic rationalism and its advocates is something very close to the Ellis definition. On the same day as I read his book, the television news reported trials arising from a prison riot in Townsville. The prisoners' defence lawyer claimed that the riots were caused by overcrowded cells and that economic rationalism was the the real cause of the trouble. I was struck by the fact that neither the lawyer nor the television reporter felt any need to explain the link between economic rationalism and overcrowded prison cells (or schools, or hospitals). It was assumed that the connection would be self-evident to the court and to the television audience.

Ellis' main argument is that by sacking people and cutting expenditure, economic rationalists will 'abolish the customer', that is, that they will reduce the capacity of ordinary people to consume the goods produced by the market economy and therefore create a downward spiral towards economic disaster. He concludes that 'it is better to spend than save'.

Historically-minded readers will recognise this as a variant of the underconsumptionist argument first put forward by Bernard de Mandeville in his 1714 Fable of the Bees. Like Ellis, Mandeville ran into trouble with the courts - the Grand Jury of Middlesex ordered his book to be burned for subverting public morality.

The underconsumptionist argument remained in the economic underworld until it was developed in a more sophisticated form by Keynes. Since then, its support has waxed and waned. At present, most economists would agree that inadequate demand can reduce output in the short run. However, the predominant view is that in the long run, it is the supply side of the economy that matters. Keynes' famous dictum that 'in the long run we are all dead' is out of vogue, for the moment at least.

There is a more direct objection to Ellis' argument. It seems clear enough that the postwar mass market, based on a large middle class and a prosperous working class, is breaking down, particularly in the United States where the growth in inequality has been greater and more sustained. As the middle class dwindles, however, there is an explosion of products and services aimed at the prosperous 'upper tenth' of the population, as well as some expansion of low-end discount services aimed at the expanding class of working poor.

It is worth remembering that Mandeville's argument was a defense of luxury consumption by the rich as a source of employment for the poor. An economy in which a large underclass survives by providing services to a wealthy élite may be unattractive, but there is no reason to suppose it is unsustainable.

This brings us back to the claim that economic rationalism is ' refusal to spend money on the unnecessary'. Undoubtedly, economic rationalists been criticised unfairly for pointing to budget constraints and opportunity costs that others would prefer to ignore. The fact that 'free' university education must be paid for through higher taxes or more crowded high schools is real but inconvenient. But arguments of this kind seem hypocritical when their proponents turn around and explain that the million-dollar birthday bash of an Alan Bond (and his less flamboyant, but more numerous 90s equivalents) is the price the rest of us pay for the 'free' operation of the market.

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