Key Points from Books: Unraveled – The Life and Death of a Garment

During my Covid-related quarantine earlier this month, I stumbled into a fascinating book written by Maxine Bedat that tells the story of supply chain of a clothe that begins from a cotton farm in Texas, processed in countries such as China, Vietnam and Bangladesh, before finally being shipped to consumers around the world. Maxine details the consumerism culture’s impact towards the environment, and how we could participate in increasing the labor welfare in poor countries by demanding a more responsible practice from clothing brands.

In the rich world, we are used to discard our old and unwanted clothes without even knowing where our clothes will end up and its negative impact for many in the third world countries. Reading this book should make us think twice before buying clothes from “fast fashion” brands, if we still choose to buy them anyway. Below are some excerpts from the book that serves as a personal note to my future self.

Environmental degradation and poverty, for example, were both tied to how our things are made and paid for and how we use them. How global trade relationships are structured are a major determinant of whether people have the opportunity to make things and earn a living to begin with.

The story of a pair of jeans is the story of modern fashion and capitalism, another reason why they make a particularly fitting hero for our journey. Today, 1.25 billion (yes, that’s billion with a “b”) pairs of jeans are sold globally every year, and the average American woman has seven pairs in her closet. They are evidently a big player in the fashion world, which is itself a major player in the global economy.

One of the promises of capitalism—which, as we know, fashion helped create—is shared prosperity. Yet according to the Edelman Trust Barometer in January 2020, 56 percent of respondents found that the economy in its current form was not working for them. By 2020, when I completed the majority of the work on this book, a tsunami of conflict, upheaval, and loss had made the notion of “shared prosperity” seem utterly fantastical. The pandemic and its related societal and economic quakes exposed the fragile seams of our global fabric woven from exploitation and deception. And it laid bare how manufactured our desire and need for more is, and how quickly our craze for clothing can shift once the stakes get higher. At one point, jeans may have represented an ideal of democracy and equality, but the jeans our society is wearing have become frayed to the point of distaste. If we want to reclaim true democratic values, we need to reexamine how our political and economic systems are woven into the clothes we buy, wear, and discard.

There’s a whole world, full of people, plants, microorganisms, chemicals, and carbon, that also gets bought and sold each time we say “yes” to a new item of clothing. When it comes to cotton production, the United States comes in third worldwide, after China and India, thanks to the pillowy fields of white fluff like those on Carl’s farm. More than half of all land used for cotton in America is in Texas, and that land produces 40 to 50 percent of all the domestic harvest—in 2019, 8.8 billion pounds are estimated to be grown stateside. Worldwide, it’s grown in eighty different countries, and 2.53 percent of all land used for agriculture is planted for the sake of our jeans (and other cotton things). In 2019, the USDA estimated worldwide cotton production reached 58.5 billion pounds.

To battle the variations in price and output, the cotton industry has successfully lobbied for crop subsidies, which has amounted to an average government transfer to cotton farmers of $2.1 billion annually since 1995. The subsidies are primarily twofold: First is a guaranteed floor price for cotton, which takes the form of a payment the government gives to farmers when cotton falls below that price in the global market; second is government-financed insurance to protect against the vagaries of nature. Subsidies are a good reminder of how, when people (like cotton farmers) rally their political power together, they can get the government to institute policies in their favor. And these subsidies are a significant reason that cotton is even grown here; there are a lot of other places in the world where it’s cheaper to get our cotton.

Organic cotton farmers face significant risks, from the drawn-out certification process to the shrinking organic premium, to the unreliability of the harvest. And, for all this work and risk, researchers are finding that the organic label is not a perfect arbiter of sustainability.

After D-day, with war demand all but ceased, those factories stockpiled with nitrogen found a rather ingenious (though perhaps short-sighted) solution: converting all that ammonia-rich nitrogen into synthetic fertilizer. This development was revolutionary. Farmers got a way to replenish nitrogen in their soil artificially that didn’t require keeping the land fallow or using cover crops. Synthetic fertilizers not only perked up tired soil but seemed to make it better than before; chemically treated farms produced more and bigger crops than ever. Chemical insecticides (to control bugs) and herbicides (to control weeds) were developed around the same time, beginning with the well-known pesticide dichlorodiphenyltrichloroethane, or DDT. Its insecticidal properties were identified in 1939 by Paul Müller, a Swiss chemist who would win the Nobel Prize for his discovery. DDT was yet another answer to the world’s demands for more. DDT kept crops pest-free, which increased yields. Off the farm, it was used as a delouser for returning World War II soldiers and as mosquito repellant in suburban backyards. A 1947 ad proclaimed “DDT Is Good for Me!,” with an image of a singing milkmaid beside her cow, an apple, a potato, a rooster, and a dog; it explained that DDT could (and should) be used everywhere, from the farm to the home.

In one survey of the countries that grow 90 percent of the world’s cotton, all listed at least one hazardous pesticide as routinely used in cotton production. Behind just one T-shirt made with conventional cotton, there’s one third of a pound of chemicals; there’s three quarters of a pound in one pair of jeans.

Cancer is a big part of why Carl is an organic farmer today, but the lessons he’s learned from his family’s ordeal have brought him to a different conclusion about best practices when it comes to synthetic chemicals. On the one hand, not using synthetic chemicals—that is, organic—can help to improve soil health and thereby prevent the need for fertilizers and pesticides to begin with. Within five or six years of being organic, Carl said, you can start seeing changes in the soil—its crumble, ability to retain moisture, nutrient level, even the smell are all different.

Taking things one step further, the marketing model of the cooperative could connect farmers to clothing brands with greater transparency; and if we make over the system the way this book aspires to, the brands will relay that information to their customers. In Carl’s ideal world, “there would be a vertically integrated relationship between farm production methods to the consumer. Where there is transparency where everyone from top to bottom makes a good wage and the end user has a good product. And that transparency would deliver the economic stability that the farm needs, and it will give the consumer a unique connection and awareness of how their money spent is being used. There’s a healthy balance of the total cost of what it takes to make a garment.”

If the US spinners were just old and hard to maintain, that would be one thing. But these older machines had not caught up with the times in many other ways that put them at a clear disadvantage when it comes to the global scale of production now required of textile mills. As my host pointed out, the US machines were short. Shorter machines have fewer spindles, which translates to smaller outputs of fabric. China, in stark contrast, has the latest, and biggest, machines, hence immense outputs. Qing Mao was just a small speck of the 73 million meters of fabric in the galaxy of clothing (and all things) manufacturing that happens all over China 24/7. Between July 2019 and July 2020, China produced 45.86 billion meters of fabric. That’s enough fabric to wrap around the Earth more than 1,219 times. In 2015, China exported $284 billion worth of textiles and clothing and it commanded 43 percent of the global market. Growth has declined slightly in the sector since then due to a variety of circumstances, but in 2018, it still exported $119 billion worth of textiles that comprised 37.6 percent of the global market, far greater than the second-largest exporter, India, which has just 6 percent of the market. Hence its nickname, “the world’s factory.”

Levi’s no longer really makes anything. While the brand name has stayed the same, behind the name, the entire business has completely changed. Levi’s has transformed from a manufacturer into a merchant brand, the primary function of which is not to produce, as was the business model for clothing brands up until this point, but to design and execute on the best product assortment. This new business model—the merchant brand—was precisely what made the MFA go sour; since the model was less concerned with where and how things were made, CEOs closed their own manufacturing plants and were willing to drop longtime American manufacturers, like the kings and queens of denim in El Paso, for their less expensive counterparts overseas. We now see this business model reflected in the leadership of major fashion brands.

When you consider all of the clothing we buy, the number of energy-intensive steps to make the textiles of that clothing, and that China, which has such a carbon-intensive energy grid, is the leading producer of textiles, it’s simple math to see how, according to one report, textile production creates more than 75 percent of the clothing industry’s carbon footprint, and why the fashion industry more broadly is believed to contribute between 4 and 8.1 percent of the world’s total carbon footprint.

People, including those in the environmental community, tend to think of our climate impact as things that take place within our own borders. But this is deceiving. As we see with our clothing, our carbon footprint extends far beyond our borders and must be taken into account when developing carbon reduction policies.

It was a grassroots movement in the United States protesting this dangerous pollution that led to the Clean Water Act (1972) and the Environmental Protection Agency (EPA), which created laws and an enforcement mechanism to limit pollution from the textile and energy industries. And yet, when American companies moved their production to China (and elsewhere), these protections were disregarded. Governments seeking to attract Western businesses were disincentivized to create the same costly environmental protections. So while we no longer see this type of pollution in our backyards, and hear fewer Erin Brockovich–esque reports of cancer pods in suburban America, we shouldn’t boast about lowering US pollutants. We just shipped them halfway across the world (and for the pollution that does still happen here, we tuck that away in poorer and minority communities).

The first study ever to research microfibers released from clothing during a laundry cycle found a single garment could release more than 1,900 microfibers. A subsequent study found more than 700,000 released in a single load of laundry. Consistently, synthetics released more microfibers than natural fabrics. As much as 209,000 tons of synthetic microfibers enter the marine environment in a single year.

In one study, a quarter of fish in a California fish market were found to have synthetic microfibers in their systems. Microfiber-eating fish have been found to reproduce less, and their offspring, even if they were not exposed to plastic particles, also have been found to have fewer offspring—a big ripple effect in the marine ecosystems. Remember, plastic was beloved because it sticks around forever.

All told, Rima works about sixty-two hours per week, which is about average for garment workers in Bangladesh, according to a recent survey. At 8,000 taka a month—less than $100—Rima’s total income is just barely the minimum monthly wage in Bangladesh, even with the maximum overtime pay. But for Rima and many other workers in Bangladesh and Sri Lanka, overtime is the only way that they can come close to earning the legal minimum salary despite the very long hours it requires. And don’t forget the unpaid domestic work she is still expected to do for her family—that’s another conversation, or book, entirely. Rima is thus among the 64 percent of garment workers who did not receive legal minimum hourly wages in Bangladesh, according to a recent survey. What’s worse, a report from the Clean Clothes Campaign (CCC) found that the government-set minimum wage is less than half of what’s considered a living wage in most Asian countries. For all of that work, Rima and her husband can barely afford basic expenses: rent, food, and their children’s school fees. And she is not alone. In Bangladesh one study found malnutrition among garment workers to be rampant. A quarter of the garment workers were underweight, and of garment workers who are women, 77 percent were anemic.

That the garment and sex industries have a symbiotic relationship is really no surprise, since these offer the lowest-paid work and are done mostly by women. Without other skills to give to the patriarchal society, it’s the horrific reality that the only thing left they have to sell is their bodies.

The first and most critical thing to understand in today’s globalized world is that there are no strictly enforced universal laws on wages, worker safety, or treatment of the environment. Laws just by themselves are fairly meaningless—they are mere words. That is, their ability to get to the desired behavior exists in proportion to the extent to which they are enforced. Some things that we may think of as laws in the international context—ideas that relate to fair wages and protecting the environment, like the Universal Declaration of Human Rights or the Paris climate agreement—are really just “agreements” that countries sign on to. Countries may sign on to these declarations to protect a belief or principle, but it’s all on the honor system to see that those beliefs are respected.

Europe offers an example of how we might put domestic law into practice with more success. France’s 2017 Corporate Duty of Vigilance law sets forth regulations for human rights and environmental abuses for France’s largest companies (based on number of employees), the law requires that these organizations must establish a “vigilance plan” to identify and prevent “severe violations of human rights and fundamental freedoms, serious bodily injury or environmental damage or health risks resulting directly or indirectly from the operations of the company and of the companies it controls.” Companies must be able to identify risks for violations, have protocols in place for assessing and remedying violations, work with labor unions, and have a monitoring system. Any stakeholder can file a complaint against companies in violation. If deemed guilty, they have three months to rectify the situation. Originally, the law could fine companies between 10 and 30 million euros; but fining has since been removed, so penalties are unclear. That said, companies can still be held responsible for paying compensation to wronged workers.

The ascension of these working-class voices laid the groundwork for the even more sweeping, but not entirely inclusive, New Deal reforms under Franklin D. Roosevelt, in the wake of the Depression. (The New Deal left out many workers, a discussion we will continue in chapter 5.) As the market collapsed, the protective policies first demanded and secured by workers—specifically garment workers—were expanded into dozens of new government agencies, the most significant steps ever taken by the government to protect and advance workers. Frances Perkins, who played a crucial role in the initial factory review commission and would go on to become the secretary of labor responsible for crafting and implementing the New Deal herself, said that the New Deal began with the Triangle Shirtwaist Factory fire. Not a small win for the women making blouses.

For the unions that do exist, there is also a major qualitative difference between unions in America and elsewhere. Cooperation between corporations and the unions is one of those European things Americans just don’t get, like vacation from work and sitting down for coffee, which creates a checks-and-balances system in terms of demands. Contrary to Cesar’s fears of worker-based collapse, in Europe both parties know how far they can go before being shut down, so there is a much higher rate of success. In Germany, for instance, union members are also on the boards of corporations, so they are able to communicate transparently and with full knowledge between workers and managers.

Like brands’ personal shoppers, Li & Fung has been responsible for “optimizing each step in production” for companies such as Walmart, Kate Spade, Coach, Calvin Klein, and Tommy Hilfiger, among others. And yet I bet you’ve never heard of them. By playing middleman so efficiently, Li & Fung and others like them added layers of opacity to the supply chain for brands and consumers alike. Sourcing companies were not quick to reveal to the brands who was responsible for manufacturing. Likewise, the brands had equally little interest in knowing much about the factories.

In their mission statements, every company was out to do good and be the change they want to see in the world. But in their actual policies, there is a subtle but critical bait and switch: figuring out how to execute that mission falls not on the brand, but on the manufacturers. So when a factory collapses, or a newspaper reports on a manufacturer’s use of slave labor, the brands can wiggle out of the responsibility: We don’t actually make the clothes, they claim. It’s not our fault, it’s the factories’, they clamor. The space between some of the companies we think of as “ethical” or “sustainable” and those we think of as “fast fashion” collapses. All these brands seem to participate equally in shifting responsibility.

Auditing has become the centerpiece of so-called ethical manufacturing because it allows companies to show that they are doing something so they can market themselves as a company that looks out for the workers and cares about the environment. Having the audits performed by third parties provides a built-in scapegoat. If some tragedy happens, it’s clearly the factory’s fault and perhaps the auditor’s fault, but definitely not the brand’s. The game of responsibility hot potato goes like this. Brands tell their customers they’re saving the world, then pass off the world-saving responsibility to their factories and use the auditors to give them clean bills of health (though the auditors are themselves not in the business of ensuring that factories are saving the world, but rather ensuring that the brands are protected from the damning New York Times cover story if that hot potato were to get dropped). And, surprise, surprise, a lot of potatoes have dropped, which turns the whole cycle back around—the brands say, “not it,” point to their codes, and let everyone else scrape the potato off the floor.

Since brands have seemingly countless options when it comes to factories to make their garments (remember, factories are easy to set up), they have the upper hand. They make insane demands for the lowest prices, best quality, and fastest turnaround times, and factories, working with in an anemically regulated global system, have to do whatever they can to meet them if they want to stay in business. But every time a brand demands a redo on a batch of garments, or a lower price, they further compromise the factory’s ability to comply with whatever sustainability and labor codes might be in effect and limit the ability to raise the social or environmental bar.

According to the people I talked to in Bangladesh and Sri Lanka, with price and turnaround pressures so high, factories not only cut wages, they also cut costs in more indirect, and again scarcely documented, ways. First, they move workers from full-time employees (which may come with benefits) to short-term contracts, similar to what workers in the West have been experiencing when they become contractors as part of the so-called gig economy.

For a brand to really show that they are committed to labor having a voice, they have to stay committed to factories and stop shopping around for the best bargain on workers. They can give factories a more equal footing and fill in some of the gaping holes we saw earlier in the chapter. This looks like fairer purchasing practices that take into consideration the demands on the workers and the cost of environmental compliance, as well as ensuring that their auditors are well versed on what union representation means and looks like.

While some factory managers I spoke with were initially skeptical of what they characterized as outside meddling, most that I spoke to seemed to ultimately appreciate the work of the Accord, and the union leadership spoke of it in even stronger positive terms. The reasons for its success are manifold. First and foremost, it possesses the high-level enforcement power I’ve been harping on throughout this chapter that is necessary for change to occur. When brands sign on, they are legally bound to withdraw from factories that do not pass the Accord’s rigorous inspections. If they do not, the unions—the other parties in the agreement—can bring them to arbitration. Both parties, then, feel real pressure to change. If the brands do not support factory reform (by paying for the improvements), they have to find another supplier; and if the factories don’t make the changes, they lose vital business. Brands also don’t run the show, as they do with their own codes of conduct. With 50 percent of the board of Accord being nonindustry members (i.e., labor unions), the workers are actually represented when standards and other policies are created. The equal governance means policy is not overly swayed by industry.

The economist Joan Robinson said, “The misery of being exploited by capitalists is nothing compared to the misery of not being exploited at all.”

Amazon makes money from fashion in various ways: (1) by serving as a traditional retailer, where it buys garments at wholesale prices from a brand and sells them retail on its site; (2) by selling clothes under its own private label (in these two instances, the manufacturer sends the products directly to the Amazon fulfillment centers); (3) by having third-party companies sell on its platform—in this instance either the third-party company or Amazon does the fulfillment; and (4) fashion companies can sell products on their own sites (not on Amazon.com) and then pay Amazon to fulfill the orders. Amazon is becoming the infrastructure of commerce—selling things, competing against others selling things, all while owning the platform where most of the deals are done. It’s partly for this reason that Amazon has become a leading target for congressional hearings focused on unfair competition.

Indeed, managers didn’t just try to convince employees that unions were bad. Workers feared severe repercussions for organizing. They wouldn’t even speak of unions (if they had the energy at lunchtime) because they feared that everything could be seen and tracked. If she did speak out in any meaningful way, Becky worried that she could be fired from Amazon and blacklisted at its many subsidiaries. While Amazon spokespeople dispute the cause, there have been several reports of workers getting fired after speaking out about conditions within the fulfillment centers and further reports of Amazon monitoring the union-organizing efforts of their workers in Europe.

We have very clear evidence that the ability to work with a collective voice yields results. Union members earn on average 13.6 percent more than nonunionized workers. At present, Amazon management is setting the rules for everything that happens inside its walls; allowing unions would force executives and shareholders to share some of the pie—in power and in money. Unionizing would likely offer real benefits to workers, so much so that one former unnamed Amazon executive broke ranks and told Ghaffary and Del Rey that “unionization is likely the single biggest threat to [Amazon’s] business model.”

Data about the effects of COVID-19 on all aspects of life is limited and evolving, but one survey by McKinsey & Company of two thousand UK and German shoppers indicated that well over half expressed greater concerns about their purchases’ and brands’ environmental impact, and had made changes to their lifestyle that reflected greater sustainability. Durability of our clothing is also more important, as 65 percent of those surveyed planned to buy longer-lasting items, 71 percent are planning to keep what they have for longer, and 57 percent are open to repairing their clothes; there’s also been renewed interest in secondhand garments, especially among younger shoppers. Thanks to Claire’s and others’ revelations, the disposable fashion machine that produced all those cheap, nondurable clothes we’ve seen being made in previous chapters may be forced to slow.

Fashion occupies a unique place within the history of branding. We can look to the era of Louis XIV—the “Sun King” who transformed France into its très chic self—for the seed from which the market as we know it today grew. When the Sun King ascended to the throne in 1643, Spain, not France, was the regional superpower. Spain defined what it meant to be modern. As Spain expanded its trade network around the globe, and acquired lands and gold through imperialism and colonialism, its pinched and formal and mostly black (the most expensive dye at the time, and thus a display of wealth) dress was considered the most elevated among European courts. King Louis wanted France, not Spain, to be the economic superpower, so he developed his own economic stimulus plan and he used the fashion industry to get him there. Yes, the fashion industry has been a key to economic prominence from Louis XIV, to industrialized America, to modern China. He put the full strength of his court behind investing in the domestic textile industry, which would come to employ a third of Paris’s workforce. The government ensured its competitive edge by organizing guilds—the early days of industrial policy—and banned any imported goods that could be made in France, what modern economists call protectionism. Among his countrymen, Louis also took care to polish his own image as the representative of the new luxury brand France was becoming. A night at the opera was a chance for him to show off a daring ensemble, complete with his signature wig of curls and red pumps. He also circulated a series of fashion plates engraved with illustrations of French goods and garments, which could be passed around with a wink and a nod; the plates were accompanied by witty, sometimes naughty, captions. His version of our glossy magazines, TikTok videos, and Instagram posts. But to use fashion to become the superpower would require something more. The engine of fashion would need to be accelerated. And to do this the fashion season was born. Jean-Baptiste Colbert, the king’s finance minister, was instrumental in launching the two-season fashion calendar and the very notion that fashion would ever go out of style. This was not a stylistic choice, but more crucially an economic stimulus initiative to ensure that new styles were introduced at regular intervals, twice a year, year after year. The French fashion calendar was a sharp departure from Spanish culture, which took pride in its consistent look; by contrast, ever-changing French fashion meant that, by design, what you wore one season would be passé in the next. And now that Paris was the new fashion capital, France would be the economic beneficiary of all those outmoded clothes. It had a major impact. Colbert said, “Fashions were to France what the mines of Peru were to Spain.” Who’s calling fashion silly now? This was the original “planned obsolescence,” as the new fashion seasons demanded that people not only dress for beauty and the weather, but to meet now ever-changing social expectations. For a member of the French court, wearing summer ’44 (that is, 1644) attire on a warm summer ’45 day would have been unacceptable, rendering even the most luxurious clothing unusable. The manipulation of desires to promote economic growth had begun.

“When I came back to the United States [after the war],” Bernays said in an interview, “I decided that if you could use propaganda for war, you could certainly use it for peace. And propaganda had a sort of bad connotation because of the Germans using it. So what I did was try to find some other words so we found the words ‘Council on Public Relations.’” Bernays did have a bit of a leg up when it came to the PR game. His uncle was Sigmund Freud, who was turning the world of psychology on its head with his theories of the power of the unconscious mind to shape our feelings, behaviors, and sense of self. As the world erupted into conflict once again and Hitler came to power, Freud began to think that there was some evil at the core of humanity seeping out. Inspired by his uncle, Bernays signed on to the notion that you don’t buy a product just for its factual, useful attributes; rather, you buy because of an unconscious, emotional connection to the product. Frightened by how the Nazi regime channeled what Freud and his disciples believed to be the innate darkness of human behavior in World War II, Bernays decided the best thing to do was to rein it all in by distracting us with things, like pretty dresses and dress slacks. In the words of Peter Straus, one of Bernays’s employees, the strategy was this: “It’s not that you think you need a piece of clothing, but that you will feel better if you have a piece of clothing.” Shopping became a tool to control the masses.

In the words of Samuel Strauss, writing in 1924: “Something new has come to confront American democracy,” which he coined “consumptionism,” adding that “the American citizen’s first importance to his country is no longer that of citizen but that of consumer.”

Saxbe told me that she saw our relationship to stuff as analogous to our desire for fast food. When it comes to the chemicals in our brain, the dopamine-pleasure spike we feel when biting into a greasy, salty sandwich, or a sugar-loaded cookie, is identical to what we feel when we see a good deal and add it to our cart (real or virtual). Our society has become more and more aware of smart food choices, ones that sustain us for the long term instead of filling an immediate, often emotion-driven, craving. So if we can eat in a way that prioritizes nourishing our bodies for the future, can’t we also shop that way?

It’s not all our fault that we don’t know what kind of clothes we are wearing. Bernays, advertisers, and the fashion industry designed the system to be thoughtless: see ad, buy, the end. (The same mind-numbing is baked right into the production and distribution of clothing creation.) The speed of our disposable fashion cycles doesn’t help either. But educated shopping is at the core of what Paco Underhill, retail anthropologist and author of Why We Buy, predicts will lead us into the future of fashion. “Educating people at an earlier and earlier age that there are very few things that are transformative,” he told me, is going to check people before they buy, resulting in fewer regretted purchases that get returned, lobbed in the back of a closet, worn reluctantly, or kept and then tossed or donated. When people let go of the idea that one more thing will make them somehow different or better, they get clearer on who they really are, what they want, and what clothes can support that. And once those items are found, they’ll be more interested in caring for them. Finding out who “you” are style-wise means pushing against every grain of marketing know-how of the Mad Men dynasty, including the idea of market “segmentation,” in which marketers compile data about shoppers’ interests, demographics, and other likes to customize ads that make them feel like their unique needs are being met, and that the items they’re being sold are actually going to enhance their lives.

The approximately 92 percent of clothing that the Salvation Army is unable to sell is baled up on-site and sold to graders, where it is subject to further scrutiny to determine its next destination. According to the Secondary Materials and Recycled Textiles Association, 45 percent of these unsold donations is “re-used as apparel.” Why is that in quotes? We’ll get to that in the next chapter. Thirty percent becomes industrial and commercial rags. Even if clothes aren’t good enough to be reworn, they can have second lives as rags if they’re made of high-enough-quality material like absorbent cotton. Twenty percent gets reprocessed into its basic fiber content for things like furniture stuffing, insulation, and building materials, and the last 5 percent is trashed domestically. Garments that are wet, have mold, or are contaminated with substances are thrown away. Grading used to be done domestically, but as has been the case for nearly every step along our clothing’s journey, this process is also being outsourced with increasing frequency. Up to one third of all the clothes from Canada and the United States sent for grading lands at one location outside of the United States. Used Clothing Exports in Mississauga, Ontario, is a mecca of sorting (women’s versus men’s for example), grading (A/B quality or rags), pricing, and exporting, which amounts to 60 million to 70 million pounds of used clothing per year. But one goal of outsourcing, unsurprisingly, is to lower labor costs. The race to the bottom continues even at the end of clothing’s life. Instead of paying American minimum wages for people to sort and grade garments post–Salvation Army, ungraded clothes get sent to places like Panipat, in northern India. Panipat has the highest concentration of clothing recyclers in the world. Another alternative is Pakistan, where labor costs several hundred dollars a month less than in the United States.

Many retailers not only put their recycling bin in the store to encourage people to bring clothes back, but they also financially incentivize you to do so. It’s as if the recycling bin in the bathroom gave you money to put paper there, which you could use to buy a new roll of paper towels to bring home with you, in the paper towel store conveniently located next to the bathroom. But in reality, those take-back bins at H&M et al. follow a very similar path to the clothing dropped off at the Salvation Army. So the long and short of it is, while company investment in recycling material is very important, circularity as a marketing tool is the moral hazard of fashion. Don’t fall for it.

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Key Points from Books: The Examined Life

The last book I picked to read in 2021 was rather unique, far from the fields I’m working in or from the other books I have been reading over the year. The Examined Life is written by psychoanalyst Stephen Grosz based on the life of the patients he encountered during his practice. As I read through the chapters, I can’t help but think of similar occasion that happened when I was growing up, and probably shaped me into who I am today. Reflecting on each chapter, I found that some of the message struck directly to my heart and made me more conscious of my feelings and emotion.

Below are some passages in the book that I found most relevant, but it is far from substitute to reading the book itself.

The author Karen Blixen said, ‘All sorrows can be borne if you put them into a story or tell a story about them.’ But what if a person can’t tell a story about his sorrows? What if his story tells him? Experience has taught me that our childhoods leave in us stories like this – stories we never found a way to voice, because no one helped us to find the words. When we cannot find a way of telling our story, our story tells us – we dream these stories, we develop symptoms, or we find ourselves acting in ways we don’t understand.

Nowadays, we lavish praise on our children. Praise, self-confidence and academic performance, it is commonly believed, rise and fall together. But current research suggests otherwise – over the past decade, a number of studies on self-esteem have come to the conclusion that praising a child as ‘clever’ may not help her at school. In fact, it might cause her to under-perform. Often a child will react to praise by quitting – why make a new drawing if you have already made ‘the best’? Or a child may simply repeat the same work – why draw something new, or in a new way, if the old way always gets applause?

In a now famous 1998 study of children aged ten and eleven, psychologists Carol Dweck and Claudia Mueller asked 128 children to solve a series of mathematical problems. After completing the first set of simple exercises, the researchers gave each child just one sentence of praise. Some were praised for their intellect – ‘You did really well, you’re so clever’; others for their hard work – ‘You did really well, you must have tried really hard.’ Then the researchers had the children try a more challenging set of problems. The results were dramatic. The students who were praised for their effort showed a greater willingness to work out new approaches. They also showed more resilience and tended to attribute their failures to insufficient effort, not to a lack of intelligence. The children who had been praised for their cleverness worried more about failure, tended to choose tasks that confirmed what they already knew, and displayed less tenacity when the problems got harder. Ultimately, the thrill created by being told ‘You’re so clever’ gave way to an increase in anxiety and a drop in self-esteem, motivation and performance. When asked by the researchers to write to children in another school, recounting their experience, some of the ‘clever’ children lied, inflating their scores. In short, all it took to knock these youngsters’ confidence, to make them so unhappy that they lied, was one sentence of praise.

Being present builds a child’s confidence because it lets the child know that she is worth thinking about. Without this, a child might come to believe that her activity is just a means to gain praise, rather than an end in itself. How can we expect a child to be attentive, if we’ve not been attentive to her? Being present, whether with children, with friends, or even with oneself, is always hard work. But isn’t this attentiveness – the feeling that someone is trying to think about us – something we want more than praise?

In 1946, while working in a leprosy sanatorium, the physician Paul Brand discovered that the deformities of leprosy were not an intrinsic part of the disease, but rather a consequence of the progressive devastation of infection and injury, which occurred because the patient was unable to feel pain. In 1972, he wrote: ‘If I had one gift which I could give to people with leprosy, it would be the gift of pain.’ Matt suffered from a kind of psychological leprosy; unable to feel his emotional pain, he was forever in danger of permanently, maybe fatally, damaging himself. After Matt left my office and before writing up my notes, I did what I sometimes do after a knotty, affecting consultation. I walked round the corner to buy a takeaway coffee and then returned to my consulting room to zone out by reading who knows what on the Internet. The truth of the matter is this: there is a bit of Matt in each of us. At one time or another, we all try to silence painful emotions. But when we succeed in feeling nothing we lose the only means we have of knowing what hurts us, and why.

‘Love can’t change what’s wrong with me,’ Michael said, ‘because love feels threatening. It’s the thing that made me break down before my wedding. Being loved is the problem, because love is a demand – when you’re loved, someone wants more of you.’

Over the years, I’ve seen several male patients become obsessed with prostitutes. The pick-up, put-down nature of the experience – the avoidance of dependence and emotional intimacy – makes the sex feel safer. And of course prostitution is a monetary transaction, and this inspires fantasy. But for Joshua, Alison meant something else. ‘Listen to the words you’re using,’ I told him. ‘ “Launch her into the world”, “love you for what you’ve done for her.” You sound a little like a mother talking about a baby.’ Joshua took another sip of water. ‘So I’m doing all of this because I wish I was a mother too? I envy my wife?’ I didn’t answer. It might be true that he envied his wife, her relationship to their son; this would explain something of the nature of his relationship to Alison, particularly Joshua’s mothering and the absence of sex. And yet it also seemed possible that he was acting out of envy for his son. In trying to seduce Alison from prostitution he might be endeavouring to steal a woman away from men – as he felt his son had stolen his wife from him. ‘Have you gone to prostitutes before?’ I asked. ‘No, never,’ he said. He told me that he and Emma had been together for eight years and he’d never been unfaithful to her, until this. ‘Did I tell you she calls the baby by the nickname she used to call me?’ ‘You’re telling me that you’ve always been faithful to Emma, but something’s changed. I think you’re betraying your wife because you feel betrayed.’

‘And then I got it,’ Abby says, ‘the bigger the front, the bigger the back.’ Psychoanalysts call this ‘splitting’– an unconscious strategy that aims to keep us ignorant of feelings in ourselves that we’re unable to tolerate. Typically, we want to see ourselves as good, and put those aspects of ourselves that we find shameful into another person or group. Splitting is one way we have of getting rid of self-knowledge. When Abby’s father cut her off, he was trying to cut himself off from those hateful aspects of himself that he could not bear. In the short term, this gives us some relief – ‘I’m not bad, you are.’ But in denying and projecting a part of ourselves into another, we come to regard these negative aspects as outside of our control. At its extreme, splitting renders the world an unsettling, even dangerous place – rather than recognise his devils as his own, Abby’s father meets them, as if for the first time, in his daughter.

‘I’m awkward. Some people like that, some don’t. I always seem to say the unsaid thing, the thing everyone’s thinking but no one wants to say.’ I tried not to show it, but I think he sensed how I heard this – that he could say the unsaid thing about others, but not himself. Did he make it awkward for others so that he didn’t feel awkward?

Most, if not all, of us have had irrational fantasies at one time or another. And yet we rarely acknowledge them – even to spouses or close friends. We find them difficult, even impossible, to talk about. We don’t know what they signify or say about us. Are they a sign that we’re breaking down? Momentarily mad? There are various psychological theories about why paranoid fantasies are a part of normal mental life. One theory is that paranoia allows us to rid ourselves of certain aggressive feelings. Anger is unconsciously projected: ‘I don’t want to hurt him, he wants to hurt me.’ Another theory holds that paranoia allows us to deny our own unwanted sexual feelings: ‘I don’t love him, I hate him and he hates me.’ Both of these descriptions may well apply, but neither seems quite sufficient. Anyone can become paranoid – that is, develop an irrational fantasy of being betrayed, mocked, exploited or harmed – but we are more likely to become paranoid if we are insecure, disconnected, alone. Above all, paranoid fantasies are a response to the feeling that we are being treated with indifference. In other words, paranoid fantasies are disturbing, but they are a defence. They protect us from a more disastrous emotional state – namely, the feeling that no one is concerned about us, that no one cares. The thought ‘so-and-so has betrayed me’ protects us from the more painful thought ‘no one thinks about me’. And this is one reason why soldiers commonly suffer paranoia.

It seemed to me that Amira’s mother’s desire to protect her daughter from other people’s envy was rooted in her own feelings of envy. Amira was at first surprised by this idea. But as she thought about it, it became clear that her mother was probably missing an earlier time. Amira’s mother had once told her that one of the happiest times in her life was during her first year of marriage, when she and Amira’s father had lived in France. ‘It can’t be easy for her,’ Amira admitted. ‘I’m looking forward to a marriage and children, and she’s a widow, looking back.’ Later, Amira wondered if she had been insensitive, or had perhaps unwittingly tried to make her mother jealous. We often envy our children their treasures – growing physical and mental strength, liveliness, joy, material comforts. But above all else, we envy our children their potential. Robert B., a fifty-five-year-old civil servant, once described to me a dream he’d had: ‘I’m on a mountain. My dead grandparents are at the very top, above the clouds. They’re resting in a small wooden hut, waiting for my parents who are just below the summit. I’m further down the mountain from my parents. My children are at the foot of the mountain and have just left our base camp. I hide behind a rock and my children pass me. When I step back on to the path and see them high above me, I feel euphoric.’ Among other things, Robert’s dream depicts his view of life’s expedition from birth to death, from cradle (base camp) to grave (a small wooden hut). It also represents his unconscious wish to step out of time, to reverse places with his children, so that he might have an even longer future stretching out before him than they do. For the most part, the envy I’m describing is unconscious: furtive, resistant to investigation or corroboration. We glimpse it in our dreams, but also in our slips and blunders. A mother I know, raised in poverty, was thrilled to buy her daughter a wool suit at Prada but, within hours, had accidentally put the skirt in the washing machine, ruining it. Envy often comes disguised in a correction – a father deflates his enthusiastic child with words like ‘cheeky’ or ‘precocious’ a mother complains that her child is ungrateful: ‘You don’t know how lucky you are,’ ‘I never had a such-and-such like this.’ When we envy our children we deceive ourselves – we think too little of them and too well of ourselves. You don’t have to be a parent to feel this particular envy. A sports coach can envy his athlete, a teacher can envy his student, and – it would be unfair not to include this – a psychoanalyst can envy his patient. Sometimes our patients are younger, brighter and financially more successful than we are. And it is not all that unusual that a psychoanalyst can help a patient solve a problem that the psychoanalyst himself has been struggling with unsuccessfully in his own life. Any ‘parent’ can get snagged by this particular form of envy.

Most of us have come down with a case of lovesickness at one time or another, suffering its fever to a greater or lesser degree. In severe cases, lovesickness can lead to delusional behaviours (stalking, for example) or sexual obsession. When we are lovesick, we feel that our emotional boundaries, the walls between us and the object of our desire, have fallen away. We feel a weighty physical longing, an ache. We believe that we are in love. Many psychoanalysts think that lovesickness is a form of regression, that in longing for intense closeness, we are like infants craving our mother’s embrace. This is why we are most at risk when we are struggling with loss or despair, or when we are lonely and isolated – it is not uncommon to fall in love during the first term of university, for example. But are these feelings really love?

Scrooge doesn’t want to think about the death of his mother, the death of his sister, or the loss of his fiancée – he cannot bear the thought that love ends. Dickens tells us that, before bed, Scrooge eats alone and reads his banker’s book – his ledger of deposits, withdrawals and interest paid. I take this to mean that Scrooge spends his evenings comforting himself; as he reads his deposit book, he thinks to himself, ‘You see? No losses, only gains.’ Ultimately, Scrooge changes because the ghosts unpick his delusion that you can live a life without loss. They undo his delusion by haunting Scrooge with the losses he has already experienced, the losses now being endured around him, and the inevitable loss of his own life and possessions. Dickens’ story teaches another lesson: Scrooge can’t redo his past, nor can he be certain of the future. Waking on Christmas morning, thinking in a new way, he can change his present – change can only take place in the here and now. This is important because trying to change the past can leave us feeling helpless, depressed.

Research has shown that, when a fire alarm rings, people do not act immediately. They talk to each other, and they try to work out what is going on. They stand around. This should be obvious to anyone who has ever taken part in a fire drill. Instead of leaving a building, we wait. We wait for more clues – the smell of smoke, or advice from someone we trust. But there is also evidence that, even with more information, many of us still won’t make a move. In 1985, fifty-six people were killed when fire broke out in the stands of the Valley Parade football stadium in Bradford. Close examination of television footage later showed that fans did not react immediately and continued to watch both the fire and the game, failing to move towards the exits. And research has shown, again and again, that when we do move, we follow old habits. We don’t trust emergency exits. We almost always try to exit a room through the same door we entered. Forensic reconstruction after a famous restaurant fire in the Beverly Hills Supper Club in Kentucky confirmed that many of the victims sought to pay before leaving, and so died in a queue. After twenty-five years as a psychoanalyst, I can’t say that this surprises me. We resist change. Committing ourselves to a small change, even one that is unmistakably in our best interest, is often more frightening than ignoring a dangerous situation. We are vehemently faithful to our own view of the world, our story. We want to know what new story we’re stepping into before we exit the old one. We don’t want an exit if we don’t know exactly where it is going to take us, even – or perhaps especially – in an emergency.

I read ‘Bartleby, the Scrivener’ as a portrayal of the continuous struggle at the core of our inner world. In each of us there is a lawyer and a Bartleby. We all have a cheering voice that says ‘let us start now, right away’ and an opposing, negative voice that responds, ‘I would prefer not to.’ When we are in the grip of negativity, we lose our appetite for human connection. We become Bartleby and turn those close to us into lawyers. Unconsciously, we drag others into pleading our case to us.

‘Success has ruined many a man’, Benjamin Franklin once said. This is true enough, but what Franklin didn’t mention is that we often work the ruin upon ourselves.

there are many men and women who work hard to attain a goal, achieve success, and then suddenly, cataclysmically, fall apart. What are the unconscious forces that cause us to sabotage ourselves – sometimes in even the tiniest of ways – when we’ve achieved a success? To begin with, we may be undone if we don’t foresee that winning is also losing. Three years ago, I had a patient named Adam R., a teacher, who became extremely agitated and then dangerously depressed after being appointed headmaster of a well-known school – a job he had always wanted, but one that would require him to move to another town. At our first meeting, he told me about his past – he had felt a similar anguish after the purchase of his first flat and then again after his wedding. ‘I want to be headmaster,’ he said, ‘but I never imagined how I would feel about moving. My whole life is here.’ Like many of us, Adam was utterly surprised by the loss that winning can entail. But through our work together, Adam and I came to realise that it wasn’t just the move that depressed him. Unconsciously, he believed that each of his achievements took something away from his father. ‘I feel bad becoming headmaster just as my dad is retiring,’ Adam told me. I pointed out that the one thing had nothing at all to do with the other. ‘I can see that,’ he replied, ‘but it feels aggressive. For the first time, I’ll be earning more than my dad.’ In Daniel’s case, his first instinct, like mine, was to suspect that the loss of his wallet signified some similar drive to undo his own success. And he too worried about how his success would affect others. ‘It made me queasy when my office manager said, “We’re going to have a lot of fun and we’re going to make a lot of money.” I felt a bit of a fraud. Am I really better than the nine other architects on the shortlist? I don’t think so, and they won’t think so either,’ he told me.

There are various ways to circumvent depressed, anxious feelings. It’s not uncommon, for example, to exploit sexual fantasies, or to use hypochondriacal worries. Elizabeth employed her disasters to calm herself – they were her tranquilliser. It’s also not uncommon to use some large-scale calamity, or someone else’s personal disaster – the newspapers are full of both – to distract oneself from one’s own destructive impulses, and I soon noticed this tendency in Elizabeth.

In 1956, the psychoanalyst Donald Winnicott, in an essay on unconscious guilt, pointed out in passing that a melancholic patient may irrationally confess to starting some major disaster, one to which he has no connection whatsoever. ‘The illness’, he writes, ‘is an attempt to do the impossible. The patient absurdly claims responsibility for general disaster, but in so doing avoids reaching his or her personal destructiveness.’ In other words, sometimes we might try to assume responsibility for a major disaster in order to avoid responsibility for our own destructive behaviour.

Boredom can be a useful tool for a psychoanalyst. It can be a sign that the patient is avoiding a particular subject; that he or she is unable to talk directly about something intimate or embarrassing. Or it can mean that patient and psychoanalyst are stuck; the patient is returning again and again to some desire or grievance that the psychoanalyst is failing to tackle. A boring person might be feeling envious, and might kill a conversation – disrupting it or paralysing it – because he cannot bear to hear a helpful or compelling idea coming from someone else. Or the boring patient may be playing possum – just as there are beasts in the jungle that survive by playing dead, some people, when frightened, simply shut down. It’s also true that psychoanalyst and patient will sometimes unconsciously collude to desiccate the atmosphere between them because they fear things becoming too emotionally disturbed, or too exciting. (Some years ago, I found that my sessions with an attractive young female patient were getting more and more lifeless. If I had to guess, I’d say that we were unconsciously avoiding any sort of charge between us.)

During a session a few days later, he spent a very long time describing a relatively minor incident from his childhood. And it hit me that Graham was silencing me. He understood that I would consider dreams and memories important, that I would not interrupt him, and so he took his time, staying in those stories as long as possible. Graham’s being boring was aggressive – it was a way of controlling, and excluding, others: a way of being seen, but not seeing. It also served another purpose. Especially in the context of his psychoanalysis, it protected him from having to live in the present, from having to acknowledge what was happening in the room. When I spoke to him about what was happening in his life, his response was to look back, avoiding how he felt or what he thought now. ‘I was never there,’ says Hamm in Beckett’s Endgame, ‘Absent always. It all happened without me.’ Graham’s long detours into the past were a haven from the present. Over and over, without knowing it, he was refusing to let the present matter.

Psychoanalysts are fond of pointing out that the past is alive in the present. But the future is alive in the present too. The future is not some place we’re going to, but an idea in our mind now. It is something we’re creating, that in turn creates us. The future is a fantasy that shapes our present.

they suffer more because they’re stuck on the idea of closure. They suffer more because they both expect to make progress, to move through certain stages of grief. And when they don’t, they feel that they are doing something wrong, or, more precisely, that there is something wrong with them. They suffer twice – first from grief and then from a tyranny of shoulds: ‘I should have pulled myself out of this,’ ‘I shouldn’t be so angry,’ ‘I should have moved on by now,’ and so forth. There is little room here for emotional exploration or understanding. This way of being leads to self-loathing, despair, depression.

My experience is that closure is an extraordinarily compelling fantasy of mourning. It is the fiction that we can love, lose, suffer and then do something to permanently end our sorrow. We want to believe we can reach closure because grief can surprise and disorder us – even years after our loss.

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My New Year Covid Experience

After living quite responsibly for the pats two years, I finally tested positive for Covid-19 two days ago, after being tested negative 5 days earlier, the day when I did not feel particularly well. I was expecting a positive result for me and my girlfriend on the first test, hence my surprise for the negative result (NAAT). Fortunately, the illness does not affect my thinking and allows me to do daily activity normally, which may have boosted my productivity through less distraction during my quarantine period.

With the end of year coming and everyone at work is on holiday, and I’m being stuck inside a 2×3 sqm room, I have some time to kill and thought I should write about my Covid-19 experience instead, which hundreds of millions of people before me have suffered from.

Part I. The Illness

There are various possible events in the days before I was getting sick, but the most likely exposure is through my girlfriend’s co-worker who tested positive on Tuesday and came to the office after being in close contact with her sick husband the day before. Fortunately, and amazingly, my girlfriend is not sick and tested negative on two separate tests with three days gap in between, but another co-worker in the same department also tested positive. Below is my symptom progression by day.

Day 1 – Sunday: Mild fever, feeling cold. NAAT shows negative infection.

Day 2 – Monday: Mild fever, feeling cold

Day 3 – Tuesday: No fever, dry cough, muscle soreness, gastrointestinal discomfort

Day 4 – Wednesday: No fever, dry cough, muscle soreness, runny nose, gastrointestinal discomfort. Rapid test shows + infection.

Day 5 – Thursday: dry cough, slight muscle sores, runny nose, gastrointestinal discomfort, headache at night

Day 6 – Friday: dry cough (improving), runny nose (improving). Completely normal activity.

Thanks to the 2 doses of Pfizer Covid-19 vaccine, I consider my symptoms as mild and does not rank among some of my worst influenza. I had no smell or taste disturbance and eating reasonably well with decent appetite. The only discomfort I felt was related to my intestines, where I felt bloating on my belly and need to let it out at least twice a day, excreting white liquid mucus. And oh boy, for two or three days it was difficult to sleep with my nose blocked.

Part II. Life in “Prison”

Soon after I tested positive on the rapid antigen test and my girlfriend tested negative, I decided to separate our living space and barricaded myself on the study room with access to the nearest bathroom. My girlfriend happened to have an air mattress that could be electrically pumped up for me to sleep, and we moved the reading chair out to give some space. So here I am for the past few days, mostly in front of the computer monitor reading, working, or watching Netflix.

I woke up mostly around 7-8am and lie down in the bed checking my emails, messages, and social media for an hour. Then I would go to the bathroom and brush my teeth – and sometimes shower, depending on whether I took one the night before – before turning on my laptop and read market news. I usually start to work on my project afterwards until lunchtime.

For the past three days, apart from working from the dining table, my girlfriend cooks my meals and put it in a lunchbox. When she had the time, she would put my meals on a fancy setting and took a picture before giving it to me. I will then bring out during my toilet run, which I tried to limit it to 4-5x per day to avoid spreading the virus to the living room. Since I’m not terribly sick, sometimes we ordered take-out as well to give us some variations. I have to say that during the quarantine I have been eating well, if not better than my usual norms.

After my meal is done, I normally continue to relax until whatever movie I happened to be watching is finished, before going back to work or my reading. Often, my mom or sister would text me in between to check on my conditions or offering to cook some meals – which I always reject because first, I don’t want them anywhere near me and second, we got plenty of food or have delivery plan already.

At night, my eyes are usually tired, and I opt to lie on the bed, playing my phones. My girlfriend and I would have a video call despite I’m being able to perfectly hear her through the door. Tonight is the exception, as it is New Year’s Eve and I want to stay awake until midnight. As I’m typing these words, it is 9.39pm, two hours and twenty-one minutes away from midnight.

To be honest, I did not feel being limited at all during the quarantine period. Even when I was healthy, I spent most of my time reading and working on a project at my new work. The only thing that is bothering me during the whole quarantine period is sleeping on an air bed and unable to walk to stretch my legs, which is causing some back pain. Every few hours of sitting I would have to get up and do a 2-minute aerobic moves. So far, so good.

Part III. Something to be Grateful For

Regardless of my currently rather unfortunate situation, there are many things I could be grateful for. First, living in the developed country allows me to have access to vaccine soon as it was available (mid-2021). Many people in the developing countries still do not have access to vaccines, especially the mRNA-based vaccines produced by Pfizer and Moderna that are proven to give greater protection.

Second, despite living overseas alone for years, I’m happy to report that my mother is still worried when I am sick. Sometimes it feels good to be treated like a kid once more. Third, it looks like I have a good eye for dating a caring girlfriend! She took care of all my needs – without complain – and is a great conversational partner.

And lastly, I realized that I have over 20 people who still show concerns on my well being. I was swamped by their best wishes and warm messages the morning after announcing that I tested positive on my social media account. Perhaps the moral message here is to start appreciating the people we have around us.

Part IV. The Science

A pre-published study from HK (https://pubmed.ncbi.nlm.nih.gov/34915551/) shows that with the omicron variant 2 doses of Pfizer Covid-19 vaccine only protects 20-24% of the recipients, and none for those receiving 2 doses of Sinovac vaccine. This explains the explosion in number of cases globally and lower mortality rate as the omicron overtakes the delta variant.

Going forward, it is likely that omicron variant will spread to more countries and creating another surge in places that has previously weather the pandemic well. Southeast Asian countries are particularly vulnerable, where natural infection rate is low and most of the population is vaccinated using protein-based vaccine – either through donation or bought from China. I suspect the new variant will also make it impossible for Chinese government to maintain its “zero Covid” policy.

Having a third booster dose is also important in increasing the protection level against omicron variant (https://www.nejm.org/doi/full/10.1056/NEJMc2119358?query=featured_coronavirus). The study (using Pfizer Covid-19 vaccine):

“…found low neutralization efficiency with two doses of the BNT162b2 vaccine against the wild-type virus and the delta variant, assessed more than 5 months after receipt of the second dose, and no neutralization efficiency against the omicron variant. The importance of a third vaccine dose is clear, owing to the higher neutralization efficiency (by a factor of 100) against the omicron variant after the third dose than after the second dose; however, even with three vaccine doses, neutralization against the omicron variant was lower (by a factor of 4) than that against the delta variant. The durability of the effect of the third dose of vaccine against Covid-19 is yet to be determined.”

Part V. What’s in Store for 2022

As of today, the number of hospitalizations in Montreal is about 38% (652/1712) of its peak during the first wave. Although the omicron variant is estimated to be 5x less severe than earlier strains, the number of daily cases today is 5.6x greater than the peak early this year. This means an uncontrolled infection in the next 10-14 days could overwhelm the healthcare system with hospital beds reaching their full capacity, hence the Quebec government decision to impose strict restriction last yesterday.

It looks like twenty-twenty-two will looks like twenty-twenty too! Happy New Year Folks!

Time stamp: 11.01pm; 2021-12-31

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Key Points from Books: The Economist’s View of The World

As the year goes to an end and my book list is getting shorter, I thought I’d share another eye-opening book, for both economist and non-economist alike, written by Steven E. Rhoads. The version I’m reading was published in the middle of 2021, thirty five years after its first edition. In the book, the author discuss many topics that political and economic policy pundits often argue with one another, and the economic perspective of both camp’s argument. One important takeaway from the book is this: the market works, and harnessing the power of market could increase the overall public welfare. In a world that is increasingly felt being more divided, this book provides a light to what rational economic decision making should looks like.

I think it is a must read for both professionals and students. For someone educated in the field and actively read numerous books on the issue, there are many lessons I could pick from this book.

Markets can seem chaotic. Imagine a 12-year-old prodigy being asked to choose between two economic systems: one in which everyone works as much as they want, at whatever they want, while living wherever they want; whereas, in the second, the best minds in the country work together to decide what should be made, who should make it, and where they should make it. The 12-year-old might say, “Hey, that first system sounds neat.” But if he was then asked which system would produce the most economic growth, I think he would choose the second one. He would be badly mistaken. For one thing, in the second system, political sorts would decide who get to be the planners, and they would be more likely to choose those who will keep them in power than the best economic minds in the country. And, besides, most people could not earn a large income, or even a decent one, if the planners ignored market forces.

The economically correct response to steadily declining demand is to continue to operate with existing equipment as long as the firm can cover its variable costs of production. That is, if a company can cover its variable costs, any additional revenue it generates can be used to pay off fixed costs, such as paying off loans, which must be paid whether the firm is operating or not. It should rarely replace old equipment. To modernize equipment with high capital costs would make the firm’s plight worse, because costs would rise in the face of declining demand and prices.

In 1994 a group of economists compared the cost-effectiveness of various lifesaving interventions. Overall, they found that the median medical intervention cost $19,000 per year of life saved; the median injury prevention cost $48,000 per life-year saved; and the median toxin control intervention cost $2.8 million per year of life.38 It seems obvious that shifting funds from some toxic control interventions to injury prevention ones would save lives. Yet, when economists delve into quantifying the lifesaving effects of particular projects, their work often draws controversy. One study tried to put radiation-induced deaths at Chernobyl in the Soviet Union in context by expressing them as a small fraction of the cancers that probably would have occurred in the affected region even without the disastrous 1986 accident. Likewise, the coal-fired plants that nuclear energy would replace cost more lives per year than Chernobyl cost one time only.

polls have shown that 92 percent of Americans support requiring police officers to wear body cameras, but only 55 percent say they would be willing to pay higher taxes in order to outfit their local police department with body cameras.55 Similarly, 48 percent of Americans support a universal basic income program, but, among those who support it, 54 percent would not be willing to pay higher personal taxes to fund the program.56 Even when considering questions of basic health care, the same pattern holds. For example, 77 percent favor a provision of the Affordable Care Act (ACA) that requires insurance companies to cover anyone who applies for insurance, even if they have pre-existing medical conditions, but only 40 percent favor the measure if it means their taxes will increase.57 Politicians are also inclined to neglect opportunity costs, because unusually strong support for particular programs brings them many benefits. Programs important to a politician’s district will, of course, get special emphasis. But, beyond this, politicians will want the electoral support and psychological pleasures that come from standing for something. They want to be introduced amid applause as, say, “Mr. Solar Energy,” “Someone veterans can always count on,” or “A dependable friend of occupational safety.” The legislator who keeps opportunity cost in mind may have to forsake much of that.

Despite the schoolmarmish tone, Charles Schultze (former head of President Jimmy Carter’s Council of Economic Advisers) and Allen Kneese get opportunity costs exactly right when asking their readers to consider the costs of overambitious antipollution goals: These costs are not simply numbers for accountants or economists to ponder. They represent the value of the resources that must be channeled into controlling pollution and that will not be available for meeting the other wants of society. In the long run their principal source will not be the profits of industrial firms, but the higher prices and higher taxes that all of us will have to pay. Environmental goals therefore are not the simple consequence of decisions about how clean we want the air and water to be or how “tough” the government should be with particular industries. Establishing them confronts us, especially at the highest levels of control, with a set of hard choices between environmental quality and other aspects of living standards, in which the more we want of one, the less we can have of the other.

Writing in the eighteenth century, Adam Smith struggled with what came to be called the paradox of value-in-use versus value-in-exchange. To illustrate this paradox, let’s compare water and diamonds. Water is necessary for existence and is of enormous value in use. Diamonds are frivolous and clearly not essential. But the price of diamonds per ounce, their value in exchange, is far higher than that of water. Smith wondered: what accounts for this discrepancy? What troubled Smith is now explained in the first chapters of every college freshman’s introductory economics text; Smith had failed to distinguish between total and marginal utility. The elaboration of this insight transformed economics in the late nineteenth century, and the fruits of the marginalist revolution continue to set the basic framework for microeconomics. Most choices in life, economists argue, are made “at the margin.” You can live without diamonds, but you can’t live without water. Economists would therefore say that the total utility or satisfaction of water exceeds that of diamonds. But rarely do we face such all-or-nothing decisions. All of us, unless we’re dying of thirst, would prefer to win a prize of a one-ounce diamond rather than an ounce of water. In other words, marginal utility depends on how much of each we already have. Although the first units of water we consume are of enormous value to us, the last units are not. The utility of each additional unit – “at the margin” – decreases as we consume more and more.

In some cases, a comparison of the marginal utility and marginal cost of different alternatives may lead us to give priority to a relatively small “total utility” need rather than a relatively large and powerful one even though the latter is not close to being fully satisfied. And, if the costs of meeting needs change sufficiently, choices and behavior can change substantially while basic needs and preferences remain the same.

Indeed, from the patient’s point of view, the potential for entry into the category of need is enormous. Large numbers of people do not feel entirely well. An English study found that 95 percent of the people in one community considered themselves unwell during the 14 days prior to questioning. A survey in Rochester, New York, found that adults suffered from at least one disorder on 20 percent of the 28 days covered.11 In the absence of money costs, queues, or other allocative devices, many of those who are not now seeing doctors would do so. Doctors know that their science is uncertain, and, if there is no cost to them or their patient, many will do something. After all, further tests might find something, and extra days of hospitalization might prevent complications.

According to the economist Robin Hanson, “We see at best only weak aggregate relations between health and medicine, in contrast to apparently strong aggregate relations between health and many other factors, such as exercise, diet, sleep, smoking, pollution, climate, and social status. Cutting half of medical spending would seem to cost little in health, and yet would free up vast resources for other health and utility gains.”13 In an article published in the Journal of the American Medical Association in 2012, the midpoint estimate for waste in the US health system is 34 percent of total spending and the high end is 47 percent.14 The Institute of Medicine puts the level of waste in context by comparing it to total expenditures in other areas: “Unnecessary health care costs and waste exceed the 2009 budget for the Department of Defense by more than $100 billion” and “could pay the salaries of all of the nation’s first response personnel, including firefighters, police officers, and emergency medical technicians, for more than 12 years.”15 In 2008 Oregon decided to expand Medicaid but received far more applications than it could accept. It randomly chose some of the applicants to receive Medicaid coverage. This made possible a powerful natural experiment in which the Medicaid “winners’” medical care usage and health outcomes could be compared to those who were not selected. A leading article in the New England Journal of Medicine found that the “winners” used about 35 percent more medical service than the “losers,” who did not receive Medicaid. Financial strain was reduced for the winners, but there was a very modest difference in health. For example, the study found “no significant effect of Medicaid coverage on the prevalence or diagnosis of hypertension or high cholesterol levels or on the use of medication for these conditions.”

Schultze notes that we have largely ignored an alternative method of collective intervention: market-like incentives, such as taxes and subsidies, that make private interests more congruent with public goals. We acknowledge the power of markets and economic incentives to foster steadily improving private-sector efficiency and a higher standard of living. And “we would laugh if someone suggested that the best way to reduce labor input per unit of production was to set up a government agency to specify labor input in detail for each industry. But that is precisely how we go about trying to reduce environmental damage and industrial accidents.”1

Just as a business looks for ways to minimize what it must pay for electricity or raw materials, so it will look for ways to minimize expenses from dealing with the pollution problem. If it blithely pays the tax and passes the expense on to consumers even though it would be cheaper to clean up, it risks losing business to competitors whose prices can be lower because they behave more efficiently. Furthermore, investors are increasingly considering environmental sustainability when making investment decisions.

In his book What Price Incentives?, Steven Kelman argues that the environmentalists’ “license-to-pollute” retort reflects incompletely developed intuitive concerns that the economists’ responses cannot so quickly dispose of. Kelman notes that environmentalists are quite concerned with developing an environmental ethic. They want to heighten the public’s environmental consciousness. For these reasons, they want to stigmatize polluting behavior and avoid doing anything that might lower the value the public places on clean air and water. But a price for pollution may end the stigma by saying, in effect, “It’s okay to pollute as long as you pay a fee.” And the price itself may make it impossible for us to see unspoiled nature as priceless. 27 Kelman convincingly shows that an extremely strong environmentalist has reasons to have reservations about pollution taxes. Kelman may be wrong, however, to suggest that a pollution tax would remove the stigma from pollution. Although we tax and license many things about which we have positive or neutral feelings (driving, marriage), we do the same for others of which we do not wholly approve (gambling, liquor, cigarettes). It is not likely that people will stop having negative attitudes toward pollution merely because it is taxed. Some environmentalists, however, argue that we do not just tax murder or “rape, pillage and burning,” and some say that they feel the same way about polluting behavior (“crimes against nature”) as they do about these (“one day a courageous district attorney will prosecute these people for murder”).

three separate functions of government in the economy: allocation, distribution, and stabilization. Allocation questions ask whether particular government tax, expenditure, or regulatory programs improve the mix of goods and services produced by the economy. Distribution questions ask who benefits and who is harmed by such policies. Stabilization questions ask what effect all taxes and expenditures, together with monetary policy, have on aggregate employment, output, and prices.

Pareto improvements are those in which a change in resource allocation is preferred by one or more members of society and opposed by no one. It is an extremely strict criterion for improvement, and is almost never met; obviously, such changes are very hard to find. If any single person objects to changing the status quo, then the Pareto improvement criterion gives no unambiguous public policy guidance. The existing situation may be Pareto-optimal. But there are a nearly infinite number of other non-comparable Pareto optimums, and the concept is of little policy use. Economically efficient allocations are always Pareto-optimal allocations. But, if the initial allocation is inefficient, the achievement of economic efficiency does not require that no one be made worse off before a change can be recommended. Economic efficiency requires only that recommended changes use resources in such a way that it would be theoretically possible – assuming costless transfers of income between gainers and losers – to make some better off and no one worse off. Suppose that most people would gain from some change, but some would lose. If the gainers gain enough so that they could fully compensate the losers with money or goods and still have an improved situation themselves, the change meets what some economists call the “potential Pareto” criterion and would improve economic efficiency even if the transfer to the losers does not actually take place.

Free markets, with their flexible prices, provide more than the right information. They also give people an incentive to act on it. Economists find that the desire for wealth is a sufficiently common goal to ensure that resources will shift when financial incentives do. When consumers start to demand more pencils, the price of pencils goes up to ration the limited supply. The higher price induces the least eager (or the poorer) buyers to drop out of the market, or induces pencil buyers to use them less. The higher price also makes retailers quick to want to increase their supply of pencils so they can take advantage of the new demand and high price. They put pressure on their wholesalers, the wholesalers on their manufacturers, their manufacturers on the producers of wood. Each offers to pay more if necessary; they can do so and still increase profits given the higher price for pencils. The wood companies may, in turn, pay overtime to their employees to get an increase in production or cut back sales to other manufacturers whose consumers are less eager to buy and who therefore cannot afford to pay as much. When consumers are especially eager and drive up the price further and faster, businesses are more eager to meet their demand, and they respond more quickly. Firms that thrive do not often respond clumsily to consumers’ demands. Those that waste scarce resources when making their product have difficulty matching the price and quality of firms that do not. Firms with an inefficient scale of operation come under pressure from those of more optimal size. And firms that guess wrongly about whether consumers would prefer a higher pencil price or a smaller eraser lose business to competitors.

government will be needed to correct for market imperfections that prevent the allocation of resources in accord with consumer valuations. These imperfections may include concentrations of market power (monopolies and powerful labor unions), externalities, and public goods.

Assuming that people in political organizations are moved by narrowly selfish motives just as they are in markets, public choice scholars predict that a government bureaucracy will have little interest in efficiency or in satisfying citizen preferences. A federal administrator who spends more money on his program will find this has almost no effect on his tax bill. But it may help him in other ways. His salary, his power, his public reputation, and his perquisites of office (free parking, cheap lunches, etc.) are all likely to be greater if his budget is large and he has a lot of people working for him. What incentive is there then to run a lean and efficient bureau?

Public choice theory would predict greater private-sector efficiency because of competitive pressures and the greater ability of private firms’ managers to reap the rewards of efficient behavior. One of the most systematic of the comparative studies looked at residential refuse collection. The study found that, on average, US cities with over 50,000 residents get roughly 30 percent cheaper service when they hire firms to pick up refuse than when a city agency performs the work. Reasons suggested for the differences included higher municipal employee absentee rates (12 percent versus 6.5 percent); larger municipal crews (3.26 workers versus 2.15); and the longer time it took the municipal crews to service each household (4.35 work-hours per year versus 2.37).

This survey is sufficient to show that industrial policies in the United States have not had significant achievements. Similarly, economists think that the European experience has been “terrible” and “conspicuously unsuccessful.”53 Targeted industries, such as aircraft in the United Kingdom, computers in France, and the nuclear industry in Germany, have done poorly. For a time Japan’s growth rate was clearly superior to ours. But studies by economists found that government investment was not the secret to their success; in any case, Japan’s economic performance over recent decades is clearly inferior to ours.54

For economists, the biggest problem with the “Jobs, jobs, jobs” chorus is that the politicians usually emphasize preserving existing jobs because it is job holders in existing industries who are the voters. Thus, President Trump put a lot of emphasis on coal miners and steelworkers. Economists want us to understand that, if we want to continue to be one of the richest countries in the world, we have to be willing to work at new jobs at cutting-edge companies. Many of the jobs in older industries will inevitably be lost to labor-saving technologies and countries with significantly lower wages. Economists thus worry when they see evidence that workers are less willing to move for better job opportunities than they used to be.

For economists, profits are not an arbitrary decision to give business owners and managers more money – money that might instead have been transferred to workers. Good management emphasizes cost-cutting, creating and improving products, and accurately predicting consumer demand.85 Managers who are lousy at these tasks will not just have lower profits; they are likely to go out of business. Competing firms keep the pressure on for good performance.

We saw above that economists emphasize economic growth. Increased regulation is offered as one of the main factors reducing growth and new business expansion. Since small and large companies alike require staff to document compliance with regulations, regulatory costs, as a percentage of all costs, are higher for small than for large businesses.

Currently some planes have more legroom than others. If airlines think they can get more passengers with still cheaper tickets and still smaller seats, the market will tell them if they are right. And if they are wrong customers will desert them for other airlines. No one complains when restaurant prices are higher for large steaks than for smaller ones. Economists wonder why it should be outrageous if larger seats are priced higher than smaller ones.

Consumers would like products to be well made and cheaper. To accomplish this, businesses must reduce costs. Labor is an important cost. One way to reduce labor costs is to improve business procedures or equipment so as to be able to make the same product with less labor. This may mean firing people, but it need not. For example, some companies that need less labor give large bonuses to longtime employees who agree to take early retirement. And employers can’t completely ignore their workers’ morale, because there is a market for labor, and businesses that do not offer a competitive wage, fringe benefits, and a pleasant working environment will have a hard time attracting and keeping good workers. For example, when a new restaurant opens in Washington, DC, its managers are seen to frequent area restaurants and pass out their business cards to good waitresses and busboys. (It is important that such competition exist; some states have investigated restaurants that may have agreed to a “no poaching” pact.)

The Dodd–Frank law requires many companies to publish their CEO-to-labor salary ratio. In the 2020 campaign, Senator Bernie Sanders proposed a substantial increase in corporate taxes for businesses in which the ratio of CEO pay to median worker pay was very high.4 There may be excellent reasons, however, why company A’s CEO earns 50 times as much as its average worker whereas company B’s CEO earns only ten times as much. Company B may have 100 workers, most of whom are skilled. Company A may have 2000 workers, most of whom are unskilled. Company A’s CEO may be responsible for managing much more capital as well as more workers. His greater responsibility would justify a much larger salary in comparison to his workers than company B’s CEO receives. Moreover, if one thinks the top 1 percent have too much income, why focus on docking hardworking CEOs rather than others in the top 1 percent who don’t work at all? In any case, it would be easy for many CEOs to reduce their pay ratio by outsourcing low-income labor.

the broader forces that produced inequality will not go away: robots will replace labor and “there is the basic truth that technology and globalization give greater scope to those with extraordinary entrepreneurial ability, luck, or managerial skill.

Taxes will likely reduce innovation and investment, and higher taxes will reduce them more. Some potential entrepreneurs will decide the risks are not worth the rewards; they may instead seek a management position in an existing firm. Some engineers contemplating an advanced degree may decide that the high marginal tax on the added income made possible by their higher productivity makes it not worth the cost.29 More important still, with higher marginal tax rates the well off have greater incentives to think of ways to avoid taxes. Liberal and conservative economists agree that high marginal tax rates have a greater effect on the demand for fringe benefits and other untaxed income than on the supply of labor. As the economist Arthur Okun noted, “High tax rates are followed by attempts of ingenious men to beat them as surely as snow is followed by little boys with sleds.”30 One result is more bartering and “pay me in cash” transactions in the underground economy. Another result is businesses providing top executives with expensive tax-deductible cars and conferences in the Caribbean. Still another result is high incomes for lawyers who help the wealthy find tax loopholes.

percent growth rate over ten years raises real (inflation-adjusted) incomes 22 percent; a 4 percent growth rate raises incomes 49 percent. Both liberal and conservative economists think that, historically, economic growth is far more important in explaining the material progress of ordinary people than labor unions or political reform. From the conservative side, Thomas Sowell says: If you read many histories and hear many discussions of social issues, you get the idea that people are no longer in rags or hungry today because various noble reformers refused to accept such conditions and worked to alleviate them. Meanwhile, it was merely coincidental that the gross national product rose by 5 or 6 times over that same span. But if you really want to know why it is that the poor of the nineteenth century were in rags and those of the twentieth century typically are not, it is because a man named Singer perfected the sewing machine, putting factory-made clothing within the reach of great masses of people for the first time in history

survey of top economists found that most thought CEOs were paid more than their marginal contribution to firms’ value. But most mainstream economists think that executives do not have the free rein to boost their pay that economists on the left believe. They point out that, in privately held companies, CEOs are paid even more than they are in public companies. But the owners, usually private equity investors, hire the CEOs and determine their pay themselves.

political liberals usually place a strong emphasis on equality combined with a strong sense of empathy. This leads them to believe that fairness means embracing and championing groups “that seem to be oppressed, victimized, or otherwise dominated by the strong.” In contrast, conservatives think that equality and compassion can be unfair because they often break the link between hard work, self-control, and personal

responsibility, on the one hand, and money, respect, and other rewards, on the other. Conservative notions of fairness focus on proportionality, not equality. “People should reap what they sow. People who work hard should get to keep the fruits of their labor. People who are lazy and irresponsible should suffer the consequences.” Influenced by the anthropologist Christopher Boehm, Haidt believes that the origins of morality were in a “gossipy, punitive, moralistic community…that emerged when language and weaponry made it possible for early humans to take down bullies and replace them with a shared moral matrix.” He also believes that the propensity to punish is the “key to large-scale cooperation.” In experiments people “pay to punish selfish people even though they gain nothing from the punishment.” People pay to punish because it feels good. “We want to see cheaters and slackers ‘get what’s coming to them.’ We want the law of karma to run its course, and we’re willing to help enforce it.”

The reasons we give for policies matter. A welfare state – yes. A redistributive state – no. As Marc Plattner argues, Having government determine the level of people’s income by redistribution can be morally justified only if those who originally earn income have no legitimate right to it. By making the political process rather than the “honest industry” of private individuals the arbiter of each person’s income, redistribution undermines the notion of genuinely private property. […] By making everyone’s income directly dependent on government largesse, a policy of explicit redistribution must necessarily polarize society. In effect, each citizen would become the equivalent of a government grantee or a welfare recipient.75 Explicit redistributive goals would intensify the conflict between rich and poor that the framers sought to minimize. And, as Okun’s thinking shows, the conflict would not just be between rich and poor but between the upper middle class and the lower middle class.

I would guess that the free tuition policy sounds good to many if not most of the public. They probably believe that subsidies that encourage more people to further their education are obviously good for the country. But I doubt that most of the public understand why most economists on the left and the right would oppose free tuition for everyone. Economists, when looking at who benefits and who loses, oppose the policy. Economists are likely to be even more opposed to a proposal by Elizabeth Warren to wipe out up to $50,000 of student debt for those with household incomes under $250,000. The Brookings economist Adam Looney calculates that the Warren proposal would give the top 40 percent of households about 66 percent of the loan forgiveness, whereas the bottom 20 percent of borrowers would get 4 percent of the savings. No one would get additional education, but more well-off borrowers would get most of the money.

many of the distributional consequences of government policies are not what they appear to be on the surface. Often this is because the policies shift incentives in subtle ways. For example, businesses required to pay certain benefits or taxes will adjust so as to shift the real burden elsewhere. Although those in Congress spend much time deciding what proportion of social security and Medicare contributions should be paid by employers and what proportion by employees, their decisions probably have few significant economic effects. As a Brookings Institution study noted, “Economists generally believe that a payroll tax nominally paid by the employer is ultimately borne by the worker in the form of lower wages than he would otherwise receive or in higher prices for what he buys.”99 The shifting of burdens may also occur with the corporate income tax. Although there are economists who dissent, Columbia University’s Glenn Hubbard says “recent studies find that labor bears much of the burden of the corporate income tax.”

There has been a decades-long debate about whether raising minimum wages leads to a reduction in employment of low-skilled workers. All economists agree that there are more workers who gain from minimum wage increases than who lose, but the losers are often losing all their income. The city of Seattle, which began phasing in a $15 minimum in 2015, hired economists at the University of Washington to assess the results of the new policy. The authors of the resulting report introduced methodological improvements over earlier studies by getting data on individual employees. The report found that, on average, low-wage employees lost $125 a month. (A second paper by the authors found the loss to employees was $74 a month, not $125.)105 The losses occurred because employers cut workers’ jobs or hours and put off new hiring.106 Other studies, however, show that jobs lost because of the rise in the minimum wage are fully offset by increases in jobs paying just above the minimum wage

Just as landlords adjust when forced to keep rents low, employers adjust when required to pay low-skilled workers more than a market wage. If they have previously offered workers inexpensive insurance or partial daycare coverage, they can discontinue these nonwage benefits. Perhaps more important, they can discontinue on-the-job training. Jacob Vigdor, one of the University of Washington economists who conducted the Seattle study, worries that, by harming employment opportunities for junior workers, we may be removing the bottom rung of the ladder to future, better-paid jobs.110 Evidence for this process comes from the US construction industry. Many employers there have found it less expensive to hire unskilled workers at low wages and train them on the job. By accepting lower wages in return for training, unskilled workers increase their expected future income

Externalities are the most pervasive kind of market imperfection that may justify government intervention. When economists discuss “the desirable scope of government,” the externality concept is at the center of their analysis.

when a manufacturer harms his competitors by expanding output and thus forcing down prices, the effect on competitors is not inefficient and is thus not an externality. The effect is transmitted through the price system, in the form of lower prices, not outside the price system. If the manufacturer who had expanded production was forced to cut back and raise prices again to take account of the adverse effect his actions had had on rival businesses, customers would lose at least a dollar for every one the rival businesses gained.3 When Henry Ford put buggy whip manufacturers out of business, the effect on them was quite serious, but there was no inefficiency because Ford and his customers gained more than the buggy whip manufacturers lost. Changes in tastes and technology constantly exert both beneficial and harmful effects on employers, employees, stockholders, and even consumers (e.g., when a big, popular chain restaurant with many potential customers buys out a small, struggling eatery with a loyal clientele). Most of these effects are captured by the price system and are not externalities as economists define them.

The owners of chemical firms and their employees do not have precisely the same interests as the rest of us. Many of the chemicals dumped in “our rivers” will end up in other people’s neighborhoods, far from the homes of chemical industry employees. But, even if all the pollution caused by the chemicals remained in the communities surrounding the chemical plants, the plants’ owners and employees would still have different interests from their neighbors. As Ken Ficek notes, everyone would share in the benefits of cleaner water. But the costs of cleaning up would be far higher for owners and employees than for their neighbors. If chemical firms devote major efforts to reducing the pollution resulting from their manufacturing processes, their costs will increase significantly. They will thus have to raise the price of their products, causing demand for those products to fall. Profits in the industry will then fall as well. Some employees will lose their jobs as business declines, and others may lose their raises. If allowed to decide for themselves, the chemical companies may conclude that the costs of certain pollution control efforts – costs borne mainly by their management, stockholders, employees, and customers – exceed the benefits. But the overall benefits of cleaning up would far exceed those enjoyed by chemical industry folks. And these members of the relevant communities would not have cleanup costs to balance against the benefits of the cleaner rivers.

Donald Trump’s first EPA administrator, Scott Pruitt, said that he hoped Congress would end the tax breaks for wind and solar energy. As suggested in Chapter 4, I think most economists would agree with Pruitt that we should do away with production subsidies for first-generation green energy. (They would also strongly support ending tax subsidies for fossil fuels, which totaled $41 billion over ten years.42) Economists are, however, likely to support “green-energy initiatives focused on innovations, making new generations of technology work better and cost less.”43 Setting aside the notable failures of the subsidies discussed in Chapter 4, economists would remind us that the general public does not receive external benefits when, for example, energy is produced by wind power. In fact, it experiences external costs: the huge blades used to capture wind power create unsightly shorelines and dead birds. We don’t want more and more wind power any more than we want lots of interstate travel via railroad; what we want is less power from fossil fuels, which produce pollution. Many ways to accomplish this goal don’t require power of any kind. We could, for example, have more use of GPSs (thus lessening the frequency of wrong turns) and less traveling by cars. The problem with Pruitt’s stewardship of the Environmental Protection Agency was that he seemed uninterested in forcing polluting industries to clean up. He would sometimes suggest that he wanted to be evenhanded: he wanted wind and solar, coal and oil, to compete in the market. But a fair competition would occur only if subsidies for coal and oil disappeared and if polluting industries were forced to pay for the external costs of their pollution.

There are policy areas where the appropriate framework for analysis is not local, state, or national but international. I am thinking of global warming in particular. International organizations have no ability to enforce, whether by regulation or taxes, policies that force reductions in carbon. The free rider problem is pervasive. If we Americans cut carbon substantially, we pay the cost of the reduction, but other nations share in the benefits whether or not they implement carbon reduction policies of their own. Getting other nations to follow through on commitments is an enormous problem.

The real victims of aggressive regulations may be workers (who lose benefits or even jobs), consumers (who pay more for goods, or who may lose access to some goods altogether), or small enterprises (for whom regulation may serve as a stiff tax or even a barrier to entry).

As we have seen, Americans do not agree that people in other countries have as much claim to US taxpayers’ money as they do. They also would not agree that consumers are incapable of making reasonable decisions about which appliances to buy, once having been presented with good information on energy costs.

Despite the many available sources of information, consumers are never perfectly informed. But economists argue that they should not want to be. There are costs in time and money of both producing and consuming information. Imperfectly informed consumers thus seek more information only if they judge that the expected value of the information will exceed the costs of acquiring it. Although competitive pressures induce firms to provide much relevant information, they do not always yield important kinds of safety information.

Much consumer information about products comes from businesses’ advertising. Contemporary economists are qualified supporters of advertising. They find that, although advertising can help create monopoly power, it can also help break down such power. Moreover, heavy advertising for new products can make possible economies of scale in production and distribution, and thus lead to lower prices. Even for mature products, advertising can help medium-sized firms achieve scale economies. There are cases in which advertising seems to raise costs to consumers, such as aspirin, detergents, and breakfast cereals. But many empirical studies have found cases in which it has reduced prices. By “preselling” customers, advertising makes low-service, low-price discount stores possible. When heavy advertising of toys began in the 1970s, retailer prices and profit margins went down as sales increased. A study of eyeglass providers found lower prices where more advertising prevailed.

This section has argued that a man’s behavior does not necessarily indicate his preferences if “preferences” means what he thinks is best for himself or will maximize his well-being. Behavior seen in the market may be even further removed from what the man believes is best for the community.

William Breit points out that malevolence toward the rich could explain desires for redistribution as easily as does pity for the poor. But, although he discusses this and other possible explanations, he seems most attracted to the theory that the middle class want to take from the rich to give to the poor out of a self-interested desire to avoid “rioting, looting, burning and other crimes.”37 Bruce Bolnick points out that philanthropic activity enables one to avoid costs such as social pressures, psychological unpleasantness, and religious pangs of conscience. He thinks the “apparent irrationality” of philanthropy can be seen as an attempt to avoid these sorts of costs.38

In his book The Costs of Economic Growth, Ezra Mishan argues that commercial advertising teases our senses and taps repeatedly at our greed, vanity, and lusts; because business propaganda emphasizes the “mundane and the material,” it should be balanced by noncommercial attempts to influence tastes “for the better.”

Why are economists so defensive when someone suggests that commercial advertising may leave many consumers with an exaggerated opinion of the importance of goods and services to human happiness? There are a number of reasons for this. First, potential professional recruits very quickly learn that, in evaluative economics, the best thing that can be said about a policy is that consumers want it. Most of those who find this worldview uncongenial are likely to choose other professions. Thus, economics has a disproportionately large number of people who subscribe to a consumer sovereignty standard for public policy. Second, those in the profession also learn that, if consumer tastes can be assumed to be stable and real, economists can show themselves to be quite useful to policy makers. On the other hand, if an economist abandons this assumption, he calls into question the value of the competitive market and of many of his own professional tools. If we trust consumer sovereignty, we should be very concerned when economists locate inefficiencies, but, if consumers’ tastes are distorted and unbalanced because of one-sided propaganda, economic efficiency becomes much less important. Indeed, its very meaning becomes ambiguous. Two thoughtful mainstream economists have called the treatment of consumer tastes “the Achilles heel of neoclassical economics.”62 It is thus not surprising that economists protect this weak spot with such vigor. Third, as seen in the chapter on incentives, assuming self-interested behavior can point the way to good public policy. In his book offering sensible ways to reduce pollution, Charles Schultze is right to focus on redirecting economic incentives. In the middle of the book, however, he waxes philosophical, praising economic incentives because they “reduce the need for compassion, patriotism, brotherly love, and cultural solidarity as motivating forces behind social improvement.” Schultze goes on to say, “Harnessing the ‘base’ motive of material self-interest to promote the common good is perhaps the most important social invention mankind has yet achieved.”63 He suggests what Kenneth Arrow has argued, namely that altruism is a scarce resource that society should avoid depleting recklessly.

There are probably very few cultures that don’t have admirable aspects. We can do justice to diversity by calling attention to those aspects. But we don’t have to make believe that “no one culture is intrinsically superior to another.” High school students in my community and all over the country are now being told that “understanding” this “truth” is a measure of successful educational achievement.71 Tell it to the swimmers trying to get here from Cuba or Haiti or the boat people who set out from Vietnam. United States flags were visible in Tiananmen Square in 1989 and in Hong Kong in 2019. A desire for life, liberty, and the pursuit of happiness is not only a Western value.

Robert Frank leads a group of economists who think they can explain the weak association between income and happiness gains. Frank believes that, although Adam Smith was worthy of his reputation, Charles Darwin was worthier still. Indeed, Frank thinks Darwin was the real founder of economics, because he saw that it is relative income and status that bring the good things in life, not absolute income. Frank argues that what’s good for the individual may not be good for the group. Holding a child’s entry into kindergarten until a later age should help him excel in sports. But, if all parents with athletic children do the same, there will be no gain. If one job applicant buys an expensive suit to get a leg-up on competition, the money will be wasted if his top competitors also buy an expensive suit. When we buy a more expensive car to gain the admiration of neighbors, little will be gained if, a year later, our purchase leads our neighbors to trade in their perfectly good cars to buy a later model of our car. If we spend more money on cosmetic surgery so as to look better than our rivals, we will not gain an advantage if they also do the same.

In almost every happiness study done by psychologists, what is central is connection – to friends, spouses, religious institutions, charitable and recreational groups. Harvard’s Dan Gilbert, sometimes called Professor Happiness, says We know that the best predictor of human happiness is human relationships and the amount of time that people spend with family and friends. We know that it’s significantly more important than money and somewhat more important than health. That’s what the data shows.89

Arthur Brooks is one economist who objects more broadly to the idea of a work–leisure trade-off. He provides evidence showing that 89 percent of Americans say they are very satisfied or somewhat satisfied with their jobs. Even 87 percent of people who self-identify as working class say they are very or somewhat satisfied. When asked if they would continue working even if they had enough money to live as comfortably as they would like, 69 percent of Americans say “Yes.” Brooks says: Imagine two workers who are identical in every way – same income, education, age, sex, family situation, religion and politics – but the first is satisfied with his or her job and the second is not. The first person will be 28 percentage points more likely to say that he or she is very happy in life.99 So what makes for a good job? The European Social Survey finds people in well-paying jobs are happier but “a number of other aspects of jobs are strongly predictive of happiness.” When summarizing, the work–life balance was listed first; but the factors that came next were job variety and learning new things.

Learning also enables the pleasures of a job well done. It makes bakers good bakers and air-conditioning repair people good at their job as well. Both occupations yield big smiles from customers, which demonstrate appreciation and admiration. “Earned success” has been found to bring happiness in a host of occupations that don’t pay particularly well. “Americans who feel they are successful at work are twice as likely to say they are very happy overall as people who don’t feel that way.”

Bronfenbrenner recoils from Mill’s argument for favoring higher tastes, accusing Mill of “priggish condescension” and “intellectual snobbery.”115 Mill can be better understood, however, as anticipating today’s happiness researchers. He wanted people to lead more satisfactory lives and believed the main impediments are selfishness and lack of mental cultivation. No wonder so many of today’s economists would side with Bronfenbrenner! They take it as given that selfishness moves humans, and that encouraging higher tastes (learning) would violate their prized stance of scientific neutrality. Economists are wrong on both counts. We have seen that mitigating selfishness and continued learning are both important steps toward happiness. One major indicator that selfish motives do not dominate us is the growing number of investors who give up some economic returns so as to further their political ends. And economic success is by no means the surest route to happiness. Good friends and loving families are.116 Selfishness loses friends and destroys loving families. Acting on altruism and compassion stimulates these virtues further rather than using them up. Aristotle and Smith recommend practicing the virtues so that they become habitual and argue that being praiseworthy is more important than garnering praise.

Marshall’s great contemporary, P. H. Wicksteed, distinguished tastes further by noting that certain kinds of pleasures increased the capacity for future enjoyment. Intellectual, literary, artistic, and scientific enjoyment demand at some point “painful effort and discipline.” But, with greater study, one’s pursuit of these activities increases “hedonistic capacity,” which is not true of most other activities.

Among the important adverse effects of salesmanship and economic rivalry is their tendency to work against the appreciation of the “free goods.” They thus tend to undermine the “fairly established consensus that happiness depends more on spiritual resourcefulness, and a joyous appreciation of the costless things of life, especially affection for one’s fellow creatures, than it does on material satisfaction.”

Previously, some public choice economists suggested that the rational ignorance of voters would be randomly distributed across the policy spectrum, with mistakes canceling each other out until the well-informed voter’s policy preferences were adopted. Caplan claims that ignorance is not random but, instead, biased in certain directions. Because a single vote is almost never decisive, voters suspend their rational analysis – so crucial in consumer markets – and succumb to the charms of their preferred worldview, regardless of its practical implications. In economic terms, the political arena is unique, in that irrational behavior carries a low cost, allowing citizens to entertain, with apparent abandon, delusions and presumptions they would otherwise mute.15 Caplan uses the 1996 Survey of Americans and Economists on the Economy (SAEE) to identify several areas – such as free trade, the inefficiency of price controls, and labor-saving technologies – in which the public routinely rejects the consensus of economists.

James Madison and Alexander Hamilton believed that the true friend of democracy would support representative institutions that could preserve democracy by guarding against its excesses.20 Lincoln, who saw and condemned “wild and furious passions” and “worse than savage mobs,” agreed completely.21 Even Jefferson, though defending the right of the people to instruct their representatives and emphasizing popular control of government, supported nonetheless a government wherein the “natural aristocracy” held office. The people were “competent judges of human character,” capable of electing the “good and wise.” But the representatives’ independent judgment would be essential, for “the mass of individuals composing the society” are “unqualified for the management of affairs requiring intelligence above the common level.”

Widespread participation was not meant to provide an outlet for narrow self-interest but was, rather, a means of tempering it. Municipal government in America provided a way of “interesting the greatest possible number of persons in the Common weal.” It gave people a taste for liberty at the same time as it taught them the art of self-government.

As mentioned earlier, the founders expected elected representatives to be wiser and more virtuous than the average voter. In addition, the powerful offices created by the Constitution, with their fixed and fairly lengthy terms, would appeal to able men, those who “possess most wisdom to discern, and most virtue to pursue the common good of the society.”38 The founders knew, of course, that “enlightened statesmen will not always be at the helm.”39 But they thought that the large commercial republic they established would encourage quite ordinary representatives to behave in a more statesmanlike manner. In small republics there are few factions and interests, and it is easy for a single faction to compose a majority and proceed to oppress the minority. In a large commercial republic, however, even within an individual congressional district, there are a large variety of limited and specific interests. To win an election, candidates must appeal to diverse interests and win wide popular support. The ability to win such an election inclines the successful candidate toward the decent and moderate quality of representation which the system requires. Moreover, representatives from such districts need not be the captive of any one group but rather can find some elbowroom for statesmanship in the very confusion of factions.40 Even a representative from a district dominated by a single faction soon finds that he must cooperate with representatives with different constituencies if he is to obtain even a portion of what he wants. Thus, the large republic’s legislative process encourages temperaments predisposed to consider the needs of others and the “permanent and aggregate interests of the Community.”

Lincoln noted that the principles of the Declaration of Independence required not only government by consent of the governed but also respect for individuals’ unalienable rights to life, liberty, and the pursuit of happiness.51 He said that people outside the territories could not justly remain indifferent about whether citizens in the territories voted for or against slavery. To adopt a stand of moral indifference would be to enshrine in the body politic the pernicious doctrine that “there is no right principle of action but self-interest.”

Sometimes people vote on the basis of a candidate’s (or a party’s) stance on a policy issue important to them, but more often they vote on the basis of their assessment of a candidate’s experience, integrity, judgment, or capacity for leadership.

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Key Points from Book: The Magic Money Tree and Other Economic Tales

by Forni Lorenzo

My primary motivation for writing this book is that, all too often, economic policy seems to do harm and impose unnecessary costs on populations of many different countries. These costs result in the waste of scarce resources, which could have been used more productively – to alleviate the suffering and deprivation of the most vulnerable social groups and, more generally, to contribute to the broader well-being of the entire national community. This damage is almost always due to poor economic policy choices based on distorted beliefs about how national economies work.

politicians tend not to want to respect budgetary constraints. For them, the temptation to spend in order to buy consensus, with no one footing the bill, is strong, and as strong is the temptation to make others pay for their past excesses. The willingness of politicians to meet the growing demands for voter protection pushes them to promise and, sometimes, to implement policies that economists often consider ineffective and unsustainable in the medium to long term.

certain unsustainable policies have been implemented in the attempt to create more wealth and greater well-being, so that voters, as far as possible, are satisfied. However, often, the politicians’ horizon is short – extending to the next elections – and, therefore, they may be interested in supporting the economy only in the short term, without regard to whether the policies adopted are appropriate for the medium to long term. However, and this is a fundamental point, unsustainable macroeconomic policies sooner or later lead to crisis. Crises manifest themselves as more or less long and deep recessions, in which past excesses are corrected and citizens are called on to pay for them. If fiscal policy distributes resources that have not been produced, if a country spends more than it produces, in the end, someone has to pay for it: in short, sooner or later the budgetary constraint takes over. This leaves the question of who should pay, because in the distribution of the burden there is some leeway.

Interestingly this conflict between politicians and economists has often been seen in many developing countries and in dictatorial regimes. In the latter, as we shall see, the conflict is peculiar because dictatorships do not need democratic legitimacy and can therefore afford choices that would not be possible in other countries. But in many emerging countries the conflict has been and is still ongoing. There was a long sequence of economic policy errors in various South American countries that led to public debt crises in the 1980s, just as there were the Asian and Russian crises of the late 1990s. The most emblematic case, with a long history in this regard, is that of Argentina, which within a few years of defaulting on its public debt in 2001, fell back into crisis in 2018 due to excessive foreign borrowing and had to seek help from the international community. All this despite the fact that economists had warned that the policies adopted in the years running up to the crisis risked leading the country into a crisis

Attributing blame, for example, for the poor performance of the economy is less relevant when new candidates run for election, who cannot be held accountable for past performance, and who are free to make generous promises about future economic performance in order to win the voters’ favour. Some voters may not give much credence to unbelievable promises made by politicians, but will still vote for those who make the promises that are most pleasing to them. By doing so, they minimize the probability that the promise of some other politician will be carried through. Should the desired politician then win the election, in the worst-case scenario nothing will happen and in the best case some advantage may be gained.

Some might think that in reality politicians are not really interested in increasing economic growth per se, but only in favouring the social groups that support them or, even worse, their close friends. These different objectives are not in conflict. Of course, if I am a politician I can help my friends, but that will hardly be enough to win national elections. A more delicate question is that of favouring certain social groups over others. This typically happens when a government tries to introduce reforms with the aim of increasing the efficiency of the economic system. In doing so, in most cases, it will harm a few specific groups for the wider benefit of the community as a whole. From an electoral point of view, such a strategy may not pay off, because the groups adversely affected may team up to oppose the reform, while the beneficiaries may be widespread and unorganized and therefore politically less active. An alternative strategy might be to favour only certain social groups in order to build their loyalty to the government in office and to be sure of their support for the elections. The difficult part is doing this without harming other social groups as, for given resources, it simply means redistributing from one social group to another.

That is to say, the introduction of unsustainable policies, that is policies that violate the intertemporal budget constraint, inevitably leads to phenomena that restore its validity, even if in an extremely painful way: recessions and devaluations reduce imports and increase exports, leading to a trade surplus, and therefore help to satisfy the external budget constraint with foreign residents; inflation, often driven by currency devaluations, makes it possible to reduce the real value of public debt, effectively imposing a tax on its holders and helping to stabilize its dynamics;* and default is another way to devalue debts and restore the sustainability of the budget constraint.

Often, arriving at a crisis (of sovereign debt or foreign debt) is much more expensive from a social point of view, but it makes the problems “solve themselves”, in the sense that it requires fewer discretionary choices on the part of policy-makers. Strong devaluation with inflation, for example, could be avoided at times, if the central bank raised interest rates significantly. But to do so would be to admit that an unsustainable policy had been conducted in the past and to attract criticism from voters for the decision to raise interest rates that impose costs on citizens. If, on the other hand, there is an exchange rate crisis, the resulting sharp rise in domestic inflation will achieve much of the correction needed to restore and meet the budgetary constraint. The domestic authorities will be able to say that they are not to blame, in the sense that the devaluation and ensuing inflation are not their choice but the result of the actions of some foreign speculator. History is full of such cases.

Although the budgetary constraint of the state is perhaps the most obvious, another important budgetary constraint is the external one. While the state’s budget constraint measures the relationship between the state and the private sector, in the sense, for example, that a state usually has as creditors both domestic residents and citizens of other countries (a country’s government bonds are typically also sold abroad), a nation’s external budget constraint measures a country’s debt and credit relationship with foreign residents. For example, the external budget constraint measures whether a country’s residents, including the public sector, consume foreign goods – i.e. imports, which need to be paid in foreign currency – to a greater extent than foreigners consume domestic goods – i.e. exports, which are mostly sold in foreign currency and are therefore a source of it. If the two amounts are more or less similar, residents as a whole will be able to use export earnings to pay for imports. If, on the other hand, there is an imbalance, for example, residents import more than they export, the excess of imports would create a shortfall of foreign currency and would have to be paid for either by reducing domestic assets held abroad or by borrowing abroad. That is, a resident citizen can use export earnings to pay for imports, or pay with cash kept in foreign currency (for the sake of simplicity, an import from the United States to be paid in dollars), or finally incur a debt (in this example in dollars) to pay for the excess of imports. If there is a persistent imbalance in the foreign accounts, such that a country accumulates a significant level of foreign debt, this will have to be corrected sooner or later to allow the stabilization or repayment of the foreign debt. This basically means being subject to the external budget constraint.

The central bank is an atypical entity because it has the capability of printing money. This might lead you to think that the budgetary constraint does not apply to the central bank. And apparently, there are people who believe this, namely supporters of modern monetary theory (MMT).* After all, a central bank can print as much money as it wants and therefore there is no reason it will ever have to go into debt. But the point is that a central bank needs to maintain a healthy balance sheet in order to be credible in controlling inflation. If there are upward price tensions, central banks have a limited number of options to deploy. They can mop-up liquidity by selling assets, or by paying a high interest rate on banks reserves (commercial banks’ deposit with the central bank) in order to induce them to increase the liquidity deposited with the central bank. In both cases, the asset side of the central bank balance sheet has to be in the position to allow these operations to be sustained, possibly for a prolonged period of time. This implies that, ideally, the asset side has a monetary value close to the liability side (which is mainly comprised by money issued by the central bank) and that the returns on assets are sufficient to pay the high interests on reserves that may be required.

Easy credit enabled families to spend more than their incomes and to get into debt. Had the interest rates on their loans been less favourable, they would have had to devote more of their income to repaying the interest on the loans. Had they not decided to become indebted, they would have had to use a part of their income to pay rent. In both cases, easy credit allowed them to use more of their income for consumption other than housing. Similarly, easy credit allowed construction companies to create numerous construction sites, which, in turn, created demand for the goods needed for construction activity. Overall, this high level of demand from households and construction companies, exceeded the country’s production capacity. That is, at times, households’ demand for consumer goods and investment in construction could not be satisfied by domestic production. When demand exceeds supply, the balance often is restored through an increase in prices.

if there is excess demand, no rise in domestic goods prices and no increase in domestic supply to satisfy that excess demand, the solution is to increase imports. Indeed, the effects of the imbalance was felt in the foreign accounts. The granting of easy credit created two problems. The first was that productive activity was concentrated in the construction industry, which is a sector that produces non-tradable goods. The second was that, as already mentioned, it allowed families to acquire their own homes at low cost and, therefore, allowed them to devote a substantial part of their income to other purchases.

It should be noted that allowing inflation to correct imbalances is easy politically. The ruling party can put the blame for the crisis on foreign financial “speculators” who seek to weaken the economy and bet against the domestic currency. This avoids national politicians having to take any responsibility. There are, however, alternatives, but politically they are more costly. One can raise interest rates and, thus, reduce credit expansion (in the case of Belarus) or one can compensate the effects of easy credit by imposing restrictive policies such as reducing public spending. For the politician or head of government, this can mean backing down and reversing previous policies – in short, admitting to a mistake.

At the end of the 1990s, the US dollar strengthened accompanied by the Argentinian peso, based on the decision to maintain the one-to-one exchange rate. This led to a contraction in exports and contributed to a deep recession. At this point, the CBA’s lack of credibility and the lack of credibility of the Argentinian economic policy authorities more generally, was re-emphasized and took on a decisive role: the expectation grew among Argentinians and the markets that the authorities would not be able to operationalize the restrictive policies necessary to support the currency board and they would decide on a currency devaluation. This triggered a crisis of historic significance. The banks had frequently extended dollar loans to domestic companies whose revenues were in the domestic currency, leaving them unable to repay these dollar loans once the devaluation actually occurred. Bank savers began to withdraw their dollar deposits, fearing that the banks’ dollar reserves might be exhausted and the banks might fail; this triggered capital flight. In short, those able to grab dollars, even if it meant changing pesos into dollars, did so unhesitatingly. The CBA soon ran out of dollars and was forced to abandon the one-to-one exchange rate and let the currency fluctuate. The peso depreciated sharply and all the debts contracted by Argentinians, including the government, with foreigners in dollars, became impossible to repay. Hence, the 2001 Argentinian default on sovereign debt.

Central banks can print new money and add it to their existing stocks if the demand for money grows. For example, demand for money would increase if prices increased, because more money would need to be in circulation to make the same purchases at these higher prices. Similarly, demand for money grows if real national production grows, because there is a need for more money to pay for the increased sales and purchases accompanying higher levels of production. Demand for money grows when the interest rate is low, as the lower the amount of interest paid on other assets, for example government bonds, the higher the investor’s willingness to hold onto money. It increases also during periods of high uncertainty, as agents want to hold liquid assets as a buffer against unexpected events.

But if the amount of new money created is higher than the increased demand for money, agents will not want to hold it and most likely will exchange it for bonds, increasing bond prices and further compressing interest rates, or for other financial assets, inflating their value. It can also happen that some excess liquidity gets spent in consumption, creating some upward price pressure.

All things being equal, if the value of the central bank’s injection of liquidity, let us say the amount credited to the accounts of private banks, exceeds the increased production enabled by the loans made by banks to the private sector, then inflation of goods and services and/or of assets will likely result. That is, if the increase in the means of payment achieved by the granting of the loan by the private bank does not correspond to at least an equal increase in the goods produced, the effect of the loan will weigh on the economy’s purchasing capacity with no corresponding increase in the supply of products.

John Maynard Keynes (1936) taught us that if the economy is not in full employment and there is not full utilization of production potential, even “donated” money can increase national production because it activates additional demand. However, giving away money is certainly not the most efficient way to support the economy, and Keynes did not back this approach. Moreover, whether or not the economy is close to full employment is not something that politicians usually take into account, more often preoccupied by the need to win the approval of voters.

until the end of 2016, Egypt tried to maintain an exchange rate pegged to the dollar. However, to sustain the exchange rate in a situation of a trade balance deficit and, therefore, with a continuous outflow of US dollars, Egypt’s central bank was obliged to meet the demand for dollars. It had to sell dollars and buy Egyptian pounds continually at the fixed exchange rate. Dollars which were bought by Egyptian importers to buy goods from abroad in order to meet the additional demand caused by the growing fiscal deficit, thus closed the circle initiated by public expenditure in deficit. Indeed, the latter pushed up consumption and imports, and in turn increased the need for dollars to meet those imports and led importers to sell local currency in exchange for dollars, thus generating pressures for a currency devaluation.

The dynamics of these crises are simple. As long as credit or fiscal policy is excessively expansionary, citizens can consume more than they produce. This is facilitated by foreign borrowing, which allows these citizens to acquire those imports that fill the gap between demand for goods and services (high) and domestic supply (limited). However, at a certain point this situation becomes unsustainable; investors and foreign governments are no longer willing to grant further loans, which precipitates two responses: (1) repaying the debts incurred, and (2) not taking on any new debt. The latter translates into reducing the trade deficit, by returning domestic demand back to the level of domestic production. This can be achieved by reducing credit or public spending, for instance, but either way implies a retreat from the previous policies. It can be very difficult, politically, to have to admit to the electorate that it is necessary to suspend subsidies and guaranteed public employment because the money has run out. It is admission of a political failure from which few governments would be likely to recover. Moreover, if debt repayments are involved, it may be necessary to go into a trade surplus with foreign countries, which will require achieving an excess of domestic production over consumption, to enable their repayment. In this case, not only must subsidies be removed (and civil servants dismissed), but taxes must be increased. In short, all consumption that exceeded domestic production must be repaid – and with interest. This is when the budgetary constraint re-emerges.

If public expenditure is highly productive, in the example public investment increases income two-fold, then it might be the case that the increase in expenditure pays for itself and that it does not increase the deficit. This is the position taken recently, for example by the IMF, in support of large public investment programmes as a way to support economies out of the pandemic recession (IMF 2020). However, we must exercise caution, as in normal times multipliers of 2 or more are rarely found and are especially rare if the country is highly indebted. This is because the additional expenditure could lead to a further increase in indebtedness, if later it turns out that the investments made were less productive than expected. And history has plenty of examples of investment pushes by the public sector that were less successful than were hoped for, essentially because they cost more money and were less productive than planned. This uncertainty over the outcome of the public investment programme could lead to increases in the risk premium required by investors to hold government bonds and, therefore, in interest rates, which would probably offset the positive impact of the increased spending.

investing in education does not bring immediate benefits in terms of growth and material well-being. Voters, who, among other things, are no longer in receipt of education, may value this type of expenditure less or feel that it does not provide them with any benefit. Thus, these expenses may not be at the top of the politicians’ agendas. It is not surprising that debate often focuses on increasing transfers (pensions, subsidies) and reducing taxes. Rarely a politician’s main campaign message is a promise to spend more on primary schools, or reduce hydro-geological instability, or invest in research.

When the central bank buys government bonds, their seller is paid with newly printed money, which increases the amount of money held by the private sector. To a certain extent, central bank purchase of government bonds can be achieved without increasing this amount, that is, without any “easing” of the monetary conditions. This can be achieved in various ways. For instance, a central bank might first sell off some holdings on the asset side of its balance sheet to make room for government bonds; however, the amounts of these other assets tend to be limited and can include mainly foreign reserves and gold, which does not allow much scope to increase the bank’s government bond holdings. In addition, selling its reserves depletes the central bank of an important asset and will have effects on the exchange rate, typically leading to an appreciation which may be unwelcome. Another possibility would be to buy more government bonds and then try to absorb this additional liquidity by increasing the interest rate paid on banks’ deposits at the central bank, which would provide an incentive to maintain these deposits with the central bank and not lend their liquidity to the economy. However, this possibility could turn out to be very costly for the central bank and is, therefore, not popular. If the return on the asset side of the central bank balance sheet is lower than the interest paid on banks’ deposits, the central bank will run losses and its capital will be depleted. This situation could be maintained for a time without causing a major problem, but could not go on forever.

the large purchase of government bonds carries a risk that the government becomes overstretched and gradually – or in some cases very rapidly – slips into an unsustainable fiscal position. That is, it reaches a level of debt that, under reasonable assumptions, it will be unable to repay in the future. So, what are the consequences? One obvious consequence is that the central bank could suffer a loss in the value of some of its assets, specifically the government bonds, and – if these losses are sufficiently large – its capital will be wiped out. In this case, it would be left with more liabilities than assets, but still able to print money. Nowadays, money is fiat money. Its value is based not on some real asset, such as gold, but on the fact that it is the legal tender that can be used for payments, including tax payments. So, unless one is concerned about inflation and the value of money, there is no reason for not wanting to hold it even if the central bank has negative capital. In other words, one should hold onto one’s money for as long as there are no expectations of inflation or devaluation that would reduce its real value. This then raises the problem that the central bank’s reduced assets might limit its ability to control inflation. If or when it needs to reduce the liquidity in the system, this might require it to sell some assets in exchange for money. If there are insufficient assets on its balance sheet, the central bank might be unable to guarantee full control of inflation. If it tries to reduce the liquidity by increasing the interest rate paid on reserves (banks’ deposits at the central bank), it will likely be forced to run a loss since the returns on the asset side of the balance sheet may fall short of the interest paid on the liability side. These losses will reduce its capital even further and the central bank will not be able to raise finance by printing money because this would contravene its goal of reducing the amount of money in the system. Therefore, the only solution is to sell some assets, but the amount of these is limited and finite, therefore sooner or later the situation will become unsustainable. In this case, it is likely that the central bank will let monetary conditions run loose and choose not to mop up the extra liquidity, in the hope that the monetary stimulus could bring about higher inflation and an increase in the demand for money and, therefore, profits, thereby reinstating its capital.

The indebted entities must reduce expenditure and increase revenue. If increasing revenue (whether from business sales or taxes) is difficult, then all that can be done is contain expenses. However, this implies reducing consumption and investment and, thus, reducing aggregate demand. A reduction in aggregate demand, inevitably, will be accompanied by a reduction in supply and economic activity. In short, a country that wants to contain (and possibly reduce) debt growth in excess of economic activity must accept a certain level of decreased economic growth. The Chinese authorities are sufficiently far-sighted and politically stable to tackle this problem gradually and resolve it within a few years but they will have to accept lower rates of economic growth.

international trade free of constraints can only bring aggregate benefits for all, because each country is free to concentrate its production where it has higher productivity and can produce at lower costs, and import what is not produced at home. It is a matter, merely, of redistributing these benefits to compensate those damaged by free trade. For example, it would not be worth producing steel in Detroit if it was available, at a lower price, from China. If the United States were to spend less on producing steel by buying it from China, it would have more available to spend for example on education, care for the elderly, etc. What matters is ensuring that the steelworkers in Detroit who have lost their jobs are protected (supported financially, relocated, retrained, etc.). This might seem not to be too difficult, but this social support has not been forthcoming.

imposing tariffs on imports does not mean that only foreign producers pay. The intention is to introduce a wedge (the tariff) to increase the domestic price above the one prevailing on the international market. This implies that imports become more expensive than without the tariff and will diminish; domestic producers can increase their production to compensate for the reduced imports. How much domestic production increases, following the imposition of an import duty, depends on how the domestic producers respond to the import price increase. In the US case, if they were to increase their output to satisfy the domestic demand at a competitive price, then, in theory, the domestic price could remain unchanged at the level prevailing in the international market before the introduction of the tariff and domestic output could increase. However, this could not happen; had domestic producers been able to produce large quantities at low prices, there would have been no need to import steel from China. The fact is that US steel is less competitive than Chinese steel and, therefore, the price of the domestically produced steel has to be higher than the international one. Therefore, an increase in domestic prices due to the tariff is inevitable and will weigh on all activities using the goods on which the duty has been imposed.

A budget adjustment can be achieved by either cutting expenses or increasing taxes. If the adjustment occurs during a recession, the most frequent scenario, raising taxes is difficult because people’s incomes are already weakened. Therefore, the choice, usually, is to cut public spending on pensions, public-sector wages, education and healthcare. Acting on these expenditures contains domestic demand, which might be necessary to reduce the trade deficit without weighing directly on productive activities that are needed to support the potential recovery.

More fundamentally, the evidence suggests that, today, wages and inflation react less strongly to domestic economic activity than in the past.* The retail distribution structure is changing as a result of online trade and more intensive use of technology, so the configuration of the margins is changing; value chains are global, so prices are affected less by domestic cost elements; mechanization is increasing and reducing the share of labour in value added while also decreasing the impact of wage developments on prices; and workers’ preferences are shifting towards more flexible and part-time jobs in exchange for more moderate wages. All these factors have kept inflation low.

If independence were to be reconsidered and the central bank became subject to political power with the aim of printing money to meet politicians’ spending needs, it would not be difficult to predict that inflation would immediately emerge. This applies to the case of many emerging economies. In this scenario, in order to contain inflation, it would be necessary to increase real interest rates continuously and, especially where the central bank has poor credibility – as demonstrated in the case of Argentina – to a point where it would also probably cause a recession. Then, high real interest rates combined with recession would change the assessment of debt sustainability. Higher interest expenditure and lower tax revenues, as a result of the recession, would make debt difficult to sustain, lead to investor flight, an increased risk premium and, ultimately, a probable debt crisis. In short, the budget constraint would again regain the upper hand.

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