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Compensating Variations
The British Parliament was debating how much slave owners should be compensated for their losses, 20 million pounds as it turned out, when a furious John Stuart Mill rose to his feet thundering, "I should have thought it was the slaves who should be compensated."
I am reminded of this story, which is probably apocryphal, whenever I hear about how we must compensate "the losers" from globalization. Really? Why should they get any compensation at all?
Imagine that transportation costs fall so that Joe buys his shoes from China. Why do lower transportation costs impose an obligation on Joe to compensate Mary, a U.S. shoe maker? If transportation costs rise (say because the price of oil increases) does Mary have an obligation to compensate Joe?
Or imagine that tariffs have long protected the shoe industry and now the tariffs are lifted allowing Joe to save some money. Why does this impose an obligation on Joe to compensate Mary? Indeed, shouldn't Mary have to compensate Joe? After all because of the tariffs for many years Joe had to labor extra hours to buy shoes - shouldn't Joe be compensated for this injustice?
Think about it this way: Suppose the mafia threatens to do you harm if you don't buy at over-inflated prices from Guido's Supplies. For many years you buy but one day the mafia is forced out of business. Now you are free to buy from any supplier. Must you compensate Guido for his losses?
Of course, I understand that we might have to compensate the losers from globalization because without compensation they won't allow us to trade. My question is different. It might be expedient to compensate slave owners but is this justice?
Addendum: It was Benjamin Pearson not Mill (see my comment below for citations).
Posted by Alex Tabarrok on July 2, 2007 at 07:26 AM in Economics | Permalink
Comments
This is just silly! Nobody is suggesting that the Chinese should compensate America for being a “loser” in globalisation (which is of course a silly premise to start with).
Mary may be owed compensation from her own political community because she was made dependent on artificially high shoe prices by her state (through its trade restrictions and policies) and then when there was much more money to be made by opening trade the world was changed around her by forces she could not control. This happened very quickly giving her little time to adapt and the money made by this change of rules did not flow to her.
Mary’s accepting a job in a shoe factory cannot be equated with her responsibility for the way the world is organised by elites. If you want to change the rules of the game fine, but calculate in equitable transfers of the profit from the start.
As for which way the compensation should flow at the global scope, it should flow from those that have used military power to impose terms of trade that harm the world’s poor (where these exist).
Posted by: aaron_m at Jul 2, 2007 7:43:14 AM
There are a large number of people who shrug off global warming, saying, "Wouldn't the world be better off 3 degrees hotter? People can move their coastline property, no problem! There will simply be a new beach. No one loses!"
We compensate the losers to globalization (individuals, mainly) because of the abruptness of their loss and the inefficient means to recover towards some equilibrium. The argument is that it's unreasonable to have expected a worker to anticipate the large scale disappearance of her line of work, so they have not taken proper safeguards (like learning new skills). Since at old age it is even harder to learn these new skills, an extra amount of money is necessary to overcome the burden.
Isn't it just an example of a market failure that needs to be corrected by larger government?
Posted by: Chi at Jul 2, 2007 7:43:45 AM
alex, your argument is 100% correct. note that the reasons the two commenters give of abruptness and change of rules without advance warning could be applied to teh mafia example as well. fact is the question of compensating globalizations's losers have little to do with logic and more to do with getting a buy-in and out of a sense of moral compunction.
Posted by: sa at Jul 2, 2007 8:46:23 AM
Sound economic policy advocates strong property rights, not "justice". Property rights cannot be disentangled from other aspects of the legal system. When legal changes transfer wealth from one entity to another without corresponding compensation this encourages rent seeking.
It's not casually easy to identify a historical opportunity which would have been more clearly advantageous than that of compensating the US South instead of fighting the Civil War.
Posted by: michael vassar at Jul 2, 2007 8:49:06 AM
"Mary may be owed compensation from her own political community because she was made dependent on artificially high shoe prices by her state"
The recipient of monopoly profits must be compensated for their loss? Doesn't this just turn welfare economics on its head?
Posted by: McLoving at Jul 2, 2007 8:51:53 AM
I wonder if the social welfare function one adopts is important here. Mary's utility losses could be massive, while Joe's gain relatively trivial. If one avoids any such calculation and defines as justice any arrangement that emerges by free association, then Alex must reconsider his view that it is just to kill an innocent to save many. You can't have it both ways.
Posted by: Guido at Jul 2, 2007 8:57:28 AM
Yes, Guido should be compensated - for the losses incurred in the interim of adjustment, not his continual loss relative to his former profits.
If you feel that this is outrageous, then there's your "moral compunction" acting.
Posted by: david at Jul 2, 2007 9:12:38 AM
But, hasn't Mary already been compensated by having had the benefit (by virtue of working in a protected sector for n years) of an above market wage for n years? Why should she be compensated again when these rents are taken away and her wage must now fall to the market rate?
Posted by: Thomas at Jul 2, 2007 9:21:27 AM
Um. I think the underlying justification is pretty obvious and not at all incoherent: a prioritarian/egalitarian concern for the worse off. No one would be pushing for "compensation" if all of the winners were poor and the losers rich.
Maybe you don't want to call this "compensation", but as far as I'm concerned that's a second-order issue.
Posted by: conchis at Jul 2, 2007 9:32:03 AM
I just dont understand why we need to compensate trade's losers in a relatively free market context. If it is true that "FREE" trade or commerce without the consent of political actors leads to the MOST efficient allocation of SCARCE resources, then why would we need to compensate anyone for their short run pain? We have chosen the most socially optimal path precisely because we are playing in a system that does a GREAT job of sorting out the winners and losers. That is the beauty of the system, even though there will be losers in the short run they will still be better off in the long run because the most efficient producers are succeeding. What the losers need more of is better allocative efficiency, not transfer programs that will only aid in the VERY short run.
Posted by: john pertz at Jul 2, 2007 10:06:24 AM
I just dont understand why we need to compensate trade's losers in a relatively free market context. If it is true that "FREE" trade or commerce without the consent of political actors leads to the MOST efficient allocation of SCARCE resources, then why would we need to compensate anyone for their short run pain? We have chosen the most socially optimal path precisely because we are playing in a system that does a GREAT job of sorting out the winners and losers. That is the beauty of the system, even though there will be losers in the short run they will still be better off in the long run because the most efficient producers are succeeding. What the losers need more of is better allocative efficiency, not transfer programs that will only aid in the VERY short run.
Posted by: john pertz at Jul 2, 2007 10:09:05 AM
So there's three reasons for potential compensation being brought up here. Roughly speaking they are:
pragmatism - you want to buy off those who will lose from the policy change so that they'll let the change go through. This is the "so they'll let us trade", "so we won't have to fight the civil war" argument. It's fine as far as it goes, but it has nothing to do with "justice".
egalitarianism - if it so happens that the policy change will make those already poor even poorer then we want to compensate them not because it's "just" but because we like egalitarianism. Of course in the context of globalization you got to mix up your egalitarianism with a good bit of nationalism for this to hold.
justice - when a policy change occurs there are losers and there are winners. Hence this policy change is "unjust" to the losers. Of course this particular argument is bunkum. The "status quo" is "unjust" to the potential winners. And this is what Alex is pointing out.
Posted by: notsneaky at Jul 2, 2007 10:16:00 AM
Years of rents collected as a result of political action ought to be enough to compensate Mary, frankly. The cynic in me says those who think Mary should be otherwise compensated are 1) economically ignorant and 2) unable to properly understand the relevant moral community.
Posted by: Timothy at Jul 2, 2007 10:16:18 AM
Sound economic policy advocates strong property rights
Which we all know are sacrosanct in China.
Honestly, I don't know what the best policy is, but I do know that outsourcing to China is not merely an arbitrage of labor costs. (My wife is from China and currently doing here Ph D in Shanghai.)
Posted by: Derek Scruggs at Jul 2, 2007 11:00:47 AM
“Sound economic policy advocates strong property rights, not ‘justice’.”
More silly nonsense! What counts as sound, maximizing economic output, maximizing freedom, maximizing the income of the poorest, etc? Soundness instead of justice is simply code for ‘me and my buddies all agree on what is right so we are not prepared to discuss it,’ unless of course what you mean by soundness is that hyper inflation is not a good thing (in that case thanks for the tip).
Property rights are important because of the outcomes for people that live in systems with strong property rights, and it is how the economic system serves those that live within it that a theory of justice cares about. There is no such thing as “sound economics” independent of its affects on people.
“The recipient of monopoly profits must be compensated for their loss? Doesn't this just turn welfare economics on its head?”
The point I was making was that at a very minimum when regulation generates monopoly profits there are clear reasons to transfer resources from those that greatly profit by controlling regulation for their own ends to those that simply enjoyed a low paying job among a large set of low paying “career” paths they could have chosen. It does not make much sense to claim that the person who chooses to work in a shoe factory that has been operating for 30 years instead of selling shoes should be held responsible for the insecurity of the sector produced by big business and the government through their rent seeking efforts. And the worker made insecure by the larger society’s public policy has a clear claim to some compensation for creating those conditions.
Changing the policy for an overall welfare gain for the community (i.e. in the form of a dollar off on all t-shirts) can be justified to those who will loose their livelihoods by saying, ‘well we won’t leave you high and dry’. I guess the logic behind such transfers even makes sense in welfare economics.
“abruptness and change of rules without advance warning could be applied to teh mafia example as well”
My argument would amount to Soldati within the “family” business having claims against the Bossess. I think that was pretty clear in the original post.
Posted by: aaron_m at Jul 2, 2007 11:07:02 AM
Does it really clarify anything to compare protectionism to slavery? Usually when these proposals are made, they involve giving help to people from the working class who have lost their jobs after tariffs are removed. It's hard to see any comparison to slave owners.
Posted by: Justin at Jul 2, 2007 11:28:07 AM
It's bribes. If there was justice, there wouldn't be any restrictions on trade. The best form of "compensation", if necessary, would be to phase out the tariffs.
Posted by: 8 at Jul 2, 2007 12:12:30 PM
Chi comments above:
"The argument is that it's unreasonable to have expected a worker to anticipate the large scale disappearance of her line of work, so they have not taken proper safeguards (like learning new skills). Since at old age it is even harder to learn these new skills, an extra amount of money is necessary to overcome the burden.
Isn't it just an example of a market failure that needs to be corrected by larger government?"
No, it most assuredly isn't an example of market failure. It's a "pecuniary externality", an interdependence through the price system. It's not a technological externality, a interdependence outside the price system, which is what is required for market failure. Gains and losses from price changes are not examples of market failures. They are an inescapable part of reallocating resources to their new highest-valued uses following supply or demand changes.
Posted by: Lawrence H. White at Jul 2, 2007 12:15:14 PM
This is a perfect example of why libertarians are crazy. Alex writes a post that explicitly compares the position of a moderate-low skilled laborer in a tariff protected industry to a slave owner. And nobody even blinks.
Mary doesn't owe Joe anything b/c Mary hasn't made any extra money due to rent collection. Aaron and others have already made this argument quite effectively. The guy who owns the company Mary works for has probably made quite a bit of money, but he can just take the assets he has accumulated and reinvest them elsewhere. Mary is just another moderate-low skilled laborer who chose to develop her minimal skills in that line of work b/c there was a shoe factory in her town instead of something else. She would have made the same wages developing a similar skill level in whatever factory existed in her town. When the shoe factory closes, she loses her investment in developing that particular skill and has to start over- when she is older and has more liabilities.
I know why libertarians don't like compensating Mary for her loss- b/c they dumb people should be punished. But compensating Mary for her loss does not even create the market inefficiencies that maintaining a tariff to protect a previously existing industry does. (which is a harder to defend practice and should have been the actual topic of this post). Capital plays at rent-seeking by taking advantage of protected industries, but non-union labor certainly does not. Given that libertarians are on some level aware of the cruelty of their philosophical position, they try to turn things around by comparing the powerless Mary to slave owners and the mafia. It might appear expedient to make this comparison, but will anyone actually fall for it?
Posted by: mpowell at Jul 2, 2007 12:46:29 PM
Why does everyone assume Mary is a poorly-paid worker? Alex doesn't say this. He merely calls her a "shoemaker", which often refers to a shoe shop owner. Alex's critics here are bringing in a lot of ideological baggage that wasn't in the original post.
Posted by: DK at Jul 2, 2007 1:07:26 PM
This argument cuts both ways. Imagine the government seizes your property for some other use, whether economic or otherwise. The Libertarian (read "anti-government") crowd would be the first to demand market compensation for the property owner. And, clearly were "slaves" not just legal property at the time?
Posted by: martin at Jul 2, 2007 3:16:17 PM
Really, Alex? Slavery? Really?
You must not have read anything Stiglitz or Blinder have wrote on this subject, because you are much too smart to have missed their reasons for supporting compensating globalization's "losers". IIRC, Stiglitz and Blinder argue that globalization has proven to be a destabilizing for many industries, eroding economic security for those affected. Thus, in order to promote economic security, the losers should be compensated via training, work programs, insurance, or something similar.
And it's odd that you would argue against compensation without mentioning either of these two, especially since Blinder wrote an op-ed on this subject in the Post not too long ago.
Posted by: eriks at Jul 2, 2007 3:27:06 PM
Yes, it does serve justice to compensate slave owners... and peace and tranquility to boot. Slaves in the U.S. system were, by law, property. Any change in policy, that would have granted freedom to slaves, should have included compensation to the holders of that property. Had we pursued such a policy in the U.S. we may have averted a war that claimed over 600,000 lives. So for justice sake and for practical reasons the slave owners should be compensated.
Posted by: Martin Kennedy at Jul 2, 2007 3:41:51 PM
1. When slavery was being discussed, the example of a poor widow with nothing but her slaves was one of the arguments for it. Who will take care of that poor woman? 2. If the relevant political or moral community does not include foreigners, why should it contain the slaves?
Posted by: luispedro at Jul 2, 2007 3:55:04 PM
Is "compensation" even at issue?
So far as I follow the general discussion, the intent is to do things so that the structurally unemployed can re-join the work force.
I don't even know how one would figure out compensation.
So I look at job retaining and such as strictly in my own self-interest (as one of the employed) who would like to get as many people back to work being useful and paying taxes etc.
Posted by: David Sucher at Jul 2, 2007 4:10:25 PM
