progress,ifnotutopia - cato

54 / Regulation / WINTER 2019–2020

I N R E V I E W

regulation is essential for the public goodand the only real regulation is done by gov-ernment. If we don’t have some arm of thestate in control, we have no control at all.

Wright State University economist EvanOsbornedeliversapowerfulcounter tothatassumption in his book Self-Regulation andHuman Progress. He makes the case thathuman action is subject to control throughvoluntary market processes and that suchregulation is nearly always more conduciveto innovation and harmony than is controldictated by some authority figure or group.He writes:

There is substantial historical reason tobelieve, as I seek to demonstrate, thatas society becomes more complex, theinadequacies of political regulation,and therefore the need for self-regula-tion, actually grow. But if instead it ispolitical regulation that grows, existingproblems fail to be addressed effectively,generating more anger and in turn morepolitical regulation.

Replacing order from above / Peering farback into human history, Osborne findsthat people generally looked to their rulersfor order. Labor was assigned to people,

for example, rather than having a compet-itive labor market where individuals couldseek the best compensationfor their talents. The idea ofcontrol from above becameingrained; it was a long timebefore people began to con-sider anything other thangovernment regulation oftheir lives. For that reason,economic progress was dor-mant for much of humanhistory.

In time, however, someindividuals began to thinkfor themselves, contemplat-ing the world and how lifemight be improved. Thosepeople thought scientificallyand wanted to communicatewith each other. The scientificmethod arose spontaneouslyoutof theirexchanges,unhin-dered by governmental dic-tates. The whole enterprise of science grewthroughself-regulationandcertainlywouldhave suffered if rulers had managed to reg-ulate it.

An important contributor to scientificprogress was England’s Royal Society of

London for Improving Natural Knowledge(chartered by King Charles II but not underthe crown’s control). Scientists of the day(mid-17th century) decided that experi-ments done privately had to be conductedagaininfrontofanaudienceofSocietymem-bers in order for the findings to be accepted.Hence the Society’s motto, Nullius in Verba(“Take nobody’s word for it”). Osbornewrites, “Under such conditions, experimen-tation became in the eyes of the scientificcommunityasclosetoanunbiasedfeedbacksystem as has so far been imagined.” FromEngland, the scientific method, a marvel-

ously self-regulating system,spread worldwide.

Equally important wasthe concept that speech didnot need, and indeed shouldnot have, government reg-ulation. In 16th and 17thcentury Europe, the headsof the Church and nationalmonarchs were particularlyconcerned with what peopleread once Gutenberg’s pressmade the production of writ-ten material inexpensive. Nat-urally, they didn’t want tractsor books that were in any wayheretical or treasonous in cir-culation, and punished thosewho defied their restrictions.It was widely accepted thatreligious and secular officialswere entitled to do this.

The case for the right of free commu-nication appeared first in England withJohn Milton’s Aeropagitica. In it, he arguedfor an almost complete freedom of pressand speech and showed why systems ofstate licensing of printers were undesir-able.SummarizingMilton,Osbornewrites,“Speakers who must answer to a possiblycritical audience, in true self-regulatingstyle, would always get closer to truth thantheir censors will.”

Intellectuals in the Netherlands, France,the German states, and other nations tookupMilton’sarguments.Forexample, inDen-mark, JohannStruensee, theking’spersonalphysician, was appointed royal adviser in

Progress, If Not Utopia✒ REVIEW BY GEORGE LEEF

Aphrase we often hear these days is, “We cannot allow X to gounregulated.” That is commonly said with regard to some newgood or service, such as cryptocurrencies or vaping, but the

notioncouldapplytoanythingthat isn’talreadysubjecttodetailedover-sight by some governmental agency. The assumption behind it is that

About Our Reviewers:

ART CARDEN is associate profes-sor of economics at Samford Uni-versity and a senior fellow with theAmerican Institute for EconomicResearch.

DAVID R. HENDERSON is aresearch fellow with the Hoover In-stitution and emeritus professor ofeconomics at the Graduate Schoolof Business and Public Policy atthe Naval Postgraduate School

in Monterey, CA. He was a senioreconomist with President RonaldReagan’s Council of Economic Ad-visers. He is the editor of The ConciseEncyclopedia of Economics (LibertyFund, 2008). He blogs at EconLog.

GEORGE LEEF is director ofresearch for the James G. MartinCenter for Academic Renewal.

PIERRE LEMIEUX is an economistaffiliated with the Departmentof Management Sciences of theUniversité du Québec en Outaouais.

His latest book is What’s Wrong withProtectionism? (Rowman & Little-field). He blogs at EconLog.

VERN MCKINLEY is a visitingscholar at the George WashingtonUniversity Law School and coauthor,with James Freeman, of BorrowedTime: Two Centuries of Booms, Busts andBailouts at Citi (HarperCollins, 2018).

PETER VAN DOREN is editor ofRegulation and a senior fellow at theCato Institute.

Self-Regulation andHuman Progress:How Society GainsWhen We Govern LessBy Evan Osborne

251 pp.; StanfordEconomics andFinance, 2018

WINTER 2019–2020 / Regulation / 55

1770. A “wild-eyed child of the Enlighten-ment” as Osborne describes him, Struen-see issued a number of decrees to liberalizeDanish law, including complete freedom ofthe press. Arguments for freedom of com-munication captured the minds of thinkersthroughout Europe and North America.The Virginia Declaration of Rights in 1776,for example, included freedom of the press.

John Stuart Mill’s On Liberty made suchanoverwhelmingcaseforfreedomofspeechthat by the closing decades of the 19thcentury the idea that governments shouldregulatecommunicationswas insuchdisre-pute that it survived in only a few backwarddomains such as Russia and the OttomanEmpire.

Economic self-regulation / But what aboutthe socio-economic aspects of life? Early inhuman history, they too were heavily con-trolled by religious and secular authorities.Eventually, however, the idea developedthat we could rely on self-regulation in thesocio-economic realm.

OsbornetracestheearliestexpressionsofafreemarketphilosophytoIndia.Hewrites,“Theideathatrulerscanmerely improvethecommercial environment, but the welfareof the people ultimately is achieved by mer-chants and farmers on their own, withoutany particular guidance from those rulers,was found in ancient thought there.”

Most of Europe resisted self-regulatoryideas until the 16th century. At the Uni-versity of Salamanca in Spain, however,scholars began to question the beliefs thatsupported top-down regulation of com-merce, such as the concept of the “justprice.” Those scholars argued the just priceshould simply be whatever price was agreedto by both seller and buyer.

From Spain, the free market conceptsdrifted northward into France, the Neth-erlands, and England. Frenchman RichardCantillon set forth the fundamental con-cepts of price equilibrium and the coordi-nation of resources to produce the mostdesiredgoods inhisEssai sur lanatureducom-merce. The Dutchman Bernard Mandeville,inhis Fable of the Bees:Or, PrivateVices,PublickBenefits, anticipatedAdamSmithinarguing

that the pursuit of self-interest is condu-cive to prosperity for all. And of course,Smith systematically explained why nearlyall political interference with productionandcommercewouldbecounterproductivefrom the standpoint of public welfare.

Against social Darwinism / These ideas weredeveloped further by philosophers Her-bert Spencer in England and William Gra-ham Sumner in the United States. Bothopposed coercive government at home andinternationally—that is, imperialism. Theymaintained that a minimalist state led toeconomic and moral progress. Osborne

defends Spencer and Sumner against thecalumny that their philosophy boileddown to saying that the poor deserve theirlot in life.

Of course, opponents of the self-regu-lated economy made its alleged unfairnessthe central thrust of their case for a large, ifnot omnipotent, government to regulatethe economy, redistribute income, protectconsumers, provide for old age, care formedical needs, and so on. The Americanintellectual Richard Hofstadter, for exam-ple, denounced what he saw as the crueltyof the free market. It was he who coined thepejorative term “social Darwinism” to turnpeopleawayfromthegovernmentminimal-ism of Smith and other liberals.

Osborne devotes two chapters toresponding to attacks on the idea thatself-regulation is preferable to politicalregulation. Some critics argued that theself-regulating mechanisms were ofteninadequate (what we now term “marketfailures”) and therefore state interventionwas needed to ensure a just society. Otherssaid that society had to be entirely trans-formed, eliminating private property andcompetition.Osbornenotesthe ironyinthe

fact that skepticism about free markets wasitself “generated through self-regulatingcommunication—not just reaction to theseeming excesses of the industrial age, butfromtheincentivespublic intellectualshaveto say something counterintuitive.”

In the 18th century, a number of star-ry-eyed opponents of free-market societ-ies founded socialist communities, believ-ing that people would flock to their morehumane,property-lessmodeofliving.Thosecommunities were perfectly consistent withtheself-regulationconcept,buttheiralmostuniversalfailureconvincedopponentsof lais-sez-faire thatthesocialchangestheythought

necessary had to beimposed by government.Thusgrewpoliticalmove-ments for wage and hourregulation, safety legisla-tion, progressive incometaxation,andmuchmore.

An outgrowth of thisbacklash against self-reg-

ulating societies, Osborne writes, wasnationalism. He observes that while mon-archs had occasionally extended the reachof the state into socio-economic concerns,

it takes national leaders to ask (and claimto know how to answer) such questionsas “How should French schools be run?”or, “How should the German economybe managed?” Chancellors and parlia-ments ask those questions; kings andqueens seldom did.

Using their power to regulate away thesupposed horrors of industrial capitalism,leaders sought to create a tribal loyalty tothe nation. The worst consequences of thatwere wars far bloodier than any before.

The other prong of the counter-reac-tion against the liberal, self-regulatingpolity was totalitarianism. All-powerfulgovernments would tolerate no oppositionwhile attempting to create perfect humansfor the perfect state. Dissent would betaken as a sign of mental illness to be“treated” with re-education camps—or abullet to the head. Our author wants us tocompare that with the free, self-regulating

All-powerful governments wouldtolerate no opposition while attemptingto create perfect humans forthe perfect state.

I N R E V I E W


investment houses. The most high-profileof them toil in the field of public policy.Whether they hold current positions ingovernment or are former governmenteconomists now in the private sector or inacademia, they can be viewed in the mediaeach day weighing in on a variety of con-temporary subjects.

In The Economists’ Hour, New York Timeswriter Binyamin Appelbaum scrutinizesthe changes wrought over the last 50 yearsin the public policy role of economists. Hestarts his book by explaining the attitudepolicymakers held, before the golden age ofeconomists, at one of the major employersofPh.D.economists, theFederalReserve:“Inthe early 1950s … the central bank’s leader-ship included bankers, lawyers, and an Iowahog farmer, but not a single economist.” Atthat time, there were staffeconomistsat theFederalReserve,butinthewordsoftheFed’schairman at the time, William McChesneyMartin, “They are all located in the base-ment of this building, and there is a reasonwhy they are there…. They don’t know their

Milton Friedman Causedthe Financial Crisis—and Other Tall Tales✒ REVIEW BY VERN MCKINLEY

According to the American Economic Association, there areabout 1,000 newly minted Ph.D. economists each year. The pri-mary professional options for them once they complete their

degree include working in an academic environment, in government,at an international agency, or in the private sector with banks and

own limitations, and they have a far greatersense of confidence in their analyses than Ihave found to be warranted.”

Appelbaum traces how the world ofpublic policy has evolved in its views ofeconomists since that time, at the FederalReserve and elsewhere. The term “Econo-mists’hour,”embeddedinhisbook’s title, ishis description of the four decades between1969 and 2008. He demarcates those yearsas the time frame that economists beganto play a leading role in curbing taxationand public spending, deregulating largesectors of the economy, and clearing theway for globalization. He claims that theEconomists’hourendedin2008duringtheGreat Recession when “trust-the-marketeconomists” saw their theories disproven.

Appelbaum does not have a Ph.D. ineconomics. (Heholdsabachelor’s inhistoryfrom the University of Pennsylvania.) Hehas spent much of the time since the earlystages of the financial crisis writing about itanditsaftermath.Priorto joiningtheTimes,he wrote for the Charlotte Observer where he

developed a series on subprime lendingthat nearly won him a Pulitzer Prize. TheEconomists’ Hour is his first book.

Appelbaum clearly does not see all thedevelopmentsduringtheEconomists’houras having good results:

The embrace of markets lifted billionsof people around the world from abjectpoverty…. But the market revolutionwent too far. In the United States andin other developed nations, it has comeat the expense of economic equality, ofthe health of liberal democracy, and offuture generations.

He compares the U.S. economic growthrate of just over 3% during the 1960s tothe just under 1% growth during the 2000sand blames the market revolution:

Political and social constraints on therole of markets were set aside. Govern-ments pulled back from efforts to regu-late the marketplace, to invest in futureprosperity, or to limit inequality.

Greatest economist of the 20th century? /Without a doubt, the book’s lead characteris Milton Friedman. The references to himoccupy over half a page in the index; noother individual or topic comes close.

This prominence is because Friedman’srise in importance largely correspondedwith the timing of Appelbaum’s Econo-mists’ hour. Harvard’s Andre Shleifer callsthe period from 1980 to 2005 “the Age ofMilton Friedman.” This age began just afterthe breakdown in confidence in Keynesianeconomic principles during the 1970s.

Appelbaum at times shows admirationforFriedmanandatother timeshe isclearlydisdainful. Glowing quotes about Fried-man are front-loaded in the book’s earlychapters: “The most creative social politicalthinker of our age” (Sen. Daniel PatrickMoynihan); “Around any academic lunchtableonanygivenday, thetalk ismore likelyto be about Milton Friedman than aboutany other economist” (economist RobertSolow); “He has had more influence on eco-nomic policy as it is practiced around the

society that leaves people alone to maketheir own choices.

In the end, Osborne impresses uponthe reader that there is inevitably a tradeoffbetween increasing government regulationand decreasing private-sector innovationand problem solving. “Imagine if all thebile spent over the last several decades inarguingoverhowtoalterpoliticalprovisionof health care had instead been spent as

energy improving it from below,” he writes.Thomas Sowell likes to point out that peo-ple who have “cosmic visions” usually can’tbe bothered to contemplate the world asit actually exists, with marginal gains andlosses; Osborne’s book makes that clear toanyone with an open mind. Self-regulationdoes not result in utopia, but it does farmore to promote progress than does reli-ance on political regulation.


world today than any othermodern figure” (economistLarry Summers). In describ-ing some of Friedman’s earlywork, Appelbaum seems toapprove of his influence onRichard Nixon in eliminat-ing the compulsory draft andreplacing it with an all-volun-teer military force paid mar-ket wages. Appelbaum nicelysummarizes Friedman’s phi-losophy on the historical evi-dence of government action:“Ambitious interventions… tended to make mattersworse.”

LivingthroughtheEconomists’

hour/ After the initialchaptersprimarily devoted to Fried-man, the subsequent ones fall into a regularcadence. They are narrowly focused on adiscrete issue over a 50- or 60-year period ofpublic policy discourse: the turbulent mon-etary policy environment; the ever-evolvingparameters of taxation; corporate antitrustlitigation; industry-wide deregulation;benefit–cost analysis; exchange rates; casestudies of the Chilean and Taiwanese econ-omies; and the financial industry up to andincluding the 2007–2009 financial crisis.In most of these chapters, Appelbaum dis-cusses Friedman’s influence on the topicsandgenerally insertsacriticismofhispublicpolicy stance or those of other like-mindedeconomists.

There are some not-so-endearing qual-ities to Appelbaum’s historical compila-tion. Many of his statements need to befact-checked. Case in point (in a chapterentitled “Representation Without Taxa-tion”), he describes the aftermath of theReagan years: “It took most of the next twodecades to repair the damage to the govern-ment’s finances.” This is what he has to say,notwithstanding the fact that the deficitas a percentage of gross domestic productblew up during the early 1980s because ofa recession that Appelbaum admits Reaganinherited, peaking at 6% of GDP. After thedeficit peaked, it drifted downward for the

remainder of the 1980s to alevel of under 3% of GDP.

Appelbaum also sneaksin some sarcastic comments,such as this zinger about thelink between the Rockefel-lers and what he calls the“anti-antitrust” philosophyof the University of Chicago:“The University of Chicago,endowed with Rockefellermoney, had found a way toreturn the favor.” He alsouses euphemisms to describecountries that, in the name offairer trade, put up barriersto competition from foreignproducts: “Sheltering thesenascent industries fromforeign competition jump-started Taiwan’s industrial-

ization: output nearly doubled between1951 and 1954.”

Economists’ hour, meet the Great Recession

/ Appelbaum pulls together the windinghistory of the rise and fall of economists ina concluding chapter. He starts off with arather extraordinary statement about theGreat Recession: “Friedman had as largea hand in causing the crisis as any man.”There are no citations to support thisstatement in his meticulously compiledendnotes that go on for a full 89 pages.I assume that he feels this conclusion isobvious based on the prior 10 chaptershe has set forth before the reader, but itis not obvious. The financial bubble thatbegan in the 1990s was brought on byheavy-handed intervention in the housingmarket, intervention that Friedman wasdead-set against. As part of Appelbaum’spost mortem on the financial crisis, he failsto mention Fannie Mae and Freddie Mac,their housing goals, or any of the othersocial engineering that pushed peopleinto buying homes they could not affordand goosed the homeownership rate to anunsustainable level.

Appelbaum casually describes the fed-eral government’s massive interventionsto shore up the financial sector: “The gov-

ernment had tried to support the banks bypurchasing bonds in the open market, butthe market had collapsed, so the govern-ment decided to save the financial systemby taking ownership stakes in the largestfinancial firms.” Yet again, he cites no sup-porting facts that this particular interven-tion is what brought the financial systemback from the edge.

Many progressives believe that the Fed-eral Reserve was too accommodating to thewishesoffinancial institutions inprovidingeasy money and massive, opaque bailouts.Appelbaum is not one of them. Instead, heelevates an emerging breed of economistspresumably for a new, interventionist era:

Almost the only policy makers willing topersist in efforts to revive growth werethe small coterie of former economicsprofessors who ran the Federal Reserve.In November 2010, with the unemploy-ment rate still at 9.8 percent, the Fedended four decades of single-mindedfocus on inflation and launched a cam-paign to stimulate job growth.

He cites this intervention as the deathknell for the Economists’ hour:

The Economists’ hour did not survivethe Great Recession…. In the depthsof the Great Recession, only the mostfoolhardy purists continued to insistthat markets should be left to their owndevices.

Conclusion / Appelbaum’s book is engag-ing and well researched, but it is not foreveryone. If readers tend to agree with thelimited-government perspective, they willhave doubts about—and strong argumentsagainst—his theories of economics. Thosewho believe that government should striveto reduce income inequality, provide uni-versal health care, bolster the minimumwage, “build a more generous social safetynet,” and “extend protection to the less for-tunate” will appreciate his conclusion thatFriedman has been public enemy numberone, as evidenced by the recent history ofeconomic policy.

The Economists’ Hour:False Prophets, FreeMarkets, and theFracture of SocietyBy Binyamin Appelbaum

448 pp.; Little, Brown,2019

I N R E V I E W


and Benjamin Powell step to remind read-ers that Socialism Sucks.

I’ve been friends with the authors for avery long time, and they are accomplishedand prolific producers of the kind of dry,academic treatment for which economistsare (in)famous. This book, however, ismost certainly not what you would get at auniversity seminar or in a conference roomat the annual meeting of a professionalscholarly organization. Picking up Social-ism Sucks is like walking into the middleof the conversation at the hotel bar aftera long day at one of those conferences,after everyone has had a few drinks. Thelanguage gets a bit salty and some of thejokes are crude and corny, but perhaps youshould expect nothing less from a booksubtitled Two Economists Drink Their WayThrough the Unfree World.

The authors’ message is fundamentallyno different from what one might glean byreading their academic work, albeit by read-ing it through a pair of strong beer goggles.They warn readers early that this isn’t anormal academic book and “if that offendsyou, you can put this book down and readone of our boring academic journal articlesinstead. It will make the same points butwithout the local color.” I recommend thatyou keep reading the book.

Sweden doesn’t suck / The book beginswith a spicy foreword from libertarian fire-brand Tom Woods and an introductionthat finds our authors drinking “excellentbut highly taxed Belgian beer in Sweden.”That this is an introduction and not anactual chapter is important, and that’sreflected in its title: “Not Socialism: Swe-

Choking Down Socialism✒ REVIEW BY ART CARDEN

The aphorism is right: the good ideas do need to be relearnedevery generation. Just three short decades after the Berlin Wallfell, we’re sitting amidst a revival of enthusiasm for “social-

ism.” Various organizations report that a rising tide of young peopleview socialism favorably, and it’s into this reality that Robert Lawson

den.” It’s a clarifying exercise as much asanything. When neo-socialists look atSweden and say “socialismworks,” they’re not actuallytalking about socialism. Swe-den doesn’t get its own actualchapter in a book aboutsocialism because Swedenisn’t actually socialist. It’s arobust free-market economythat has high taxes and a bigwelfare state. It’s not a soci-ety in which the state ownsand manages the means ofproduction.

Lawson is one of the prin-cipal investigators compilingthe Fraser Institute’s Eco-nomic Freedom of the WorldIndex.Accordingtothe index,Sweden and its Nordic neigh-bors are solidly free-marketcountries. They have hightaxes, big welfare states, andheavily regulated labor markets comparedto the United States, but they perform verywell on other free-market margins like thequalityoftheir legalsystemandthesecurityof Swedish property rights, access to soundmoney, freedom to trade internationally,and regulatory burden.

As Lawson and Powell note, Swedenbecame a rich country by liberalizing. As lateas 1950, Swedish taxes as a percentage ofgross domestic product were 19%, lowerthan in the United States and elsewhere inEurope.ThesizeoftheSwedishgovernmentexplodedbetween1960and1980,andit fellfrom fourth-richest country in the devel-oped world in 1970 to 14th richest in 2000.

Seeing socialism / If you can’t find realsocialism in Sweden, then where is it?Here is where Lawson and Powell beginvigorously and enthusiastically drinkingtheir way through the unfree world, withstops in Venezuela to see “Starving Social-ism,” Cuba to see “Subsistence Socialism,”and North Korea to see “Dark Socialism.”(Well, actually, the authors didn’t enterNorth Korea, but rather visited the Chineseside of the Korean border to learn about lifenext door; they had promised their wivesthey wouldn’t be killed or imprisoned onthe trip.) They also visited China to see

“Fake Socialism,” Russia andUkraine to see “HungoverSocialism,” Georgia (thecountry, not the state) to see“New Capitalism,” and finallya socialism conference in Chi-cago where they wanted tofind out why, exactly, self-de-scribed American socialistslike socialism and what theymean by the term.

Along the way, their boozyadventures show how social-ismsucks.Beardedneo-social-ist enthusiasts for local craftmicrobrews might rethinktheir enthusiasm upon real-izing that there are only twokinds of beer in Cuba. (On theother hand, Bernie Sandershas said he worries that Amer-icanshavetoomanychoices in

deodorant, so maybe two is the right num-ber of beers for socialists.) Georgia, theirlast stop before heading back to the UnitedStates, has a unique regional wine traditionthat was almost completely destroyed bycommunism,but ithasexperiencedaresur-gence as economic freedom has increased.

It’seasytogetconnedbyromanticvisionsofsocialistparadise.Socialistreality isdiffer-ent.Theauthors’ triptoCubaisanexcellentillustration.TheCubangovernment isfilledwith canny propagandists who are good atputting on a wonderful show for rich tour-ists, including noting that Havana’s HotelNacional is “reportedly one of the world’sgreat hotels.” But the authors want to get

Socialism Sucks:Two Economists DrinkTheir Way Throughthe Unfree WorldBy Robert Lawson andBenjamin Powell

224 pp.; RegneryPublishing, 2019


behind the curtain, so to speak, and have alook at the grittier reality of Cuban social-ism. What they find is depressing: (again)only two kinds of beer, rotting and decrepithotelrooms,andblandfoodeveninthelegalprivate restaurants. The reason for that lastfinding is that the proprietors still have tosource their meats, vegetables, and spicesthrough the government. Lawson and Pow-ell highlight the difference between Cubancuisine in Miami’s Little Havana—whichis excellent—and Cuban cuisine in actualHavana—which sucks.

They also address the “whatabouts”common to any defense of socialism, e.g.,access to health care, education, etc. For thisthey use a summary of research by Pow-ell and coauthors Gilbert Bertine and Vin-cent Geloso in which they take a criticallook at Cuba’s vaunted life expectancy andinfantmortalitynumbers.First,communistregimescananddoimprovethesemetricsbysheer brute force: they pour resources intohealth care, for example. Second, the dataare misleading. Abortion rates, for example,are very, very high, and a lot of high-riskpregnancies are terminated (presumablyunder pressure from health officials) lestthey ultimately be carried to term wheretheycanadverselyaffectthehealthstatistics.

Socialism, American style / The book endswith our authors doing more field research(and drinking) at a conference in Chicagoorganized by the International SocialistOrganization. They noted the thrivingblack market of unregistered vendors sell-ing t-shirts, knick-knacks, and calendars, aswell as the absence of “a clear definition ofwhat constituted socialism.” The apparentincoherence was underscored “when at onepoint early in the rally, most of the peoplein the room started a spontaneous, ‘Freeabortion on demand. We can do it. Yes, wecan,’ chant that lasted a good minute ortwo.” Lawson and Powell point out thatwhile socialist countries have high abor-tion rates, “abortion is not exactly a centralpillar of a socialist system” and therefore“an odd item to draw such enthusiasm.”

In their conversations with attendees,the authors learn that a lot of the people

there were drawn from environmental andabortion-rights activism and seemed to beunited not by socialism per se but by theirposition to the left of the Democratic Par-ty’s mainstream. Or, as the authors put it,“Manyoftheconferenceattendeesweaskedthought socialism meant simply aspiringtoward a world with better conditions forvarious marginalized groups.” By that defi-nition,LawsonandPowellaresocialists. I’ma socialist. The staff of the Cato Instituteand the readers of Regulation are socialists.It’s a definition devoid of meaning.

It’s here that the authors—and Lawsonin particular in his work on the EconomicFreedom of the World Index—do an espe-cially valuable service by highlighting theslipperiness of the meaning of “socialism,”which seems to change based on who is inpower and which regimes are doing well.The right, obviously, did no one any favorsby crying “Socialism!” every time BarackObama said anything. American intellec-tuals, academics, andcelebritieshailedVen-ezuela as a socialist success story, a proof-of-concept for the better world that would

follow la revolución, and they wrote fawningobituaries for Hugo Chavez after his deathin 2013. Then, all of a sudden, Venezuelabecame “not real socialism” once it startedfalling apart. The Revolution apparentlywill not be televised on the basis of thingsas trivial as clear theory, carefully collectedevidence, and on-the-ground observations.

The conviction that socialism can andwill work, it appears, is immune to evidence.That problem will only get worse as the hor-rors of the Soviet gulags and the mass star-vation of China’s Great Leap Forward andtheUkrainianHolodomorrecedeintohistory.

SocialismSucksmaynotsucceedasanexer-cise in persuasion. As some reviewers havepointedout, itprobablywon’tappealtopeo-plewhoaren’talreadyontheauthors’“side.”But as George Mason University economistBryanCaplanhasnoted,thismaynotdetractfromthebook’svalue. It isausefulreminderfor people who are already broadly sympa-thetictothelibertarianworldviewthatforallof the ways actually-existing, actually-prac-ticed “capitalism” falls short of perfect, wecan thank God it’s not socialism.

Would Bagehot Be Smiling?✒ REVIEW BY VERN MCKINLEY

During the 2007–2009 financial crisis, Walter Bagehot’s name(pronounced “Badge-it”) crossed the lips of many centralbankers, notwithstanding the fact that he had been dead for

some 130 years and he was not a central banker. This relevance camefrom his belief that the Bank of England needed to act as a lender oflast resort during a financial crisis. For-mer Federal Reserve chair Ben Bernanke,writing in his 2015 memoir The Courage toAct, confidently declared that the string ofprograms he helped to implement duringthe 2007–2009 crisis “prevented the finan-cial system from seizing up and helped tokeep credit flowing. Walter Bagehot wouldhave been pleased.”

In this new biography of Bagehot, finan-cial writer James Grant considers the role oftheBankofEnglandandBagehot’sbroaderfootprint on financial policy. Grant is a

prolificwriterwhoprimarily focusesonvol-umes tracing markets and finance from ahistorical perspective. His last book wasThe Forgotten Depression: 1921—The Crash thatCured Itself. That book explained Grant’snarrative that the deep U.S. recession of theearly 1920s was resolved largely throughmarket forces that addressedthemalinvest-ment of that era, in contrast to the heavy-handed government intervention that wasapplied during the Great Depression ofthe 1930s and the Great Recession of theBernanke era.

I N R E V I E W


capitalized the initial letters‘F’ and ‘T’).” Bagehot and thepages of The Economist railed(at least since the 1850s)against those investors who,in a time of “corruptingly lowinterest rates,” would seek outinvestments in risky markets:“People who lend to Stateslike Spain and Turkey andEgypt deserve to lose theirmoney, and the clever peoplewho think they will go in fora little time and get out beforethe crisis comes are amongthe most likely to lose.” Inthe realm of politics, Grantdescribes Bagehot as some-one “who believed in prog-ress, religious liberty, limited

government, clean elections, non-entan-glement in foreign wars, free trade, and …free banking.”

A life marked by financial crises / Bage-hot was a banker and a close observer ofthe financial system from his perch atThe Economist. Grant manages to weavethrough the events of Bagehot’s life, punc-tuating them with references to the major

banking panics of his era: 1825, 1837,1847, 1857, and 1866. The last of thosepanics saw the collapse of the bills, bro-kers, and money dealers Overend, Gurney& Co., which had a great deal of influenceon how Bagehot viewed a central bank’srole in a crisis.

He was initially duped about the condi-tion of Overend, commenting in The Econo-mistaboutarestructuringofthe institution:

Overend’s must have much money leftwith them…. The house is not weakened

In this book, Grant looksat a true renaissance manof the Victorian Era, thatperiod of time in the UnitedKingdom dominated by thereign of Queen Victoria. Thebook makes clear the broadarray of accomplishmentsBagehot claimed during his51 years of life.

A wonderful (conflicted)

life / Bagehot’s most widelyknown accomplishmentsinclude that he was a bankerand the author of the bookLombard Street, named afterLondon’s counterpart toWall Street. In that book,he set forth his views on theneed for the Bank of England to provideemergency lending during a financial panicand hold the nation’s bullion reserve (sobanks would not have to take on that costlyburden). He was also the editor of the peri-odical The Economist, which was founded byhis father-in-law, James Wilson.

Bagehot weighed in on many of themajor issues in 19th century financethrough his writings and in discussionswith the technocrats and politicians of theday. What may be known by fewer people isthat he also put himself in the running forParliament on multiple occasions. Grantnotes that someone taking on such a broadrange of roles in the 21st century wouldlikely be labeled as conflicted:

It was, indeed, in the multifaceted capac-ity of banker–lobbyist–editor–politicalaspirant that Bagehot visited the chan-cellor on March 3, 1864. Today, such anoverlay of professional roles might set inmotion half a dozen ethics committees,but not then.

In his 30 years of leading The Econo-mist, Bagehot felt strongly about manyissues beyond financial panics. He carriedforth the mantle of Wilson on mattersof trade, as Grant illustrates: “Free trade(The Economist sometimes reverentially

but strengthened by what has occurred.As to the management, there ought tobe, and must be, great traditional knowl-edge and skill in a concern which hasbeen so very profitable so very long.

Grant then writes of Bagehot’s optimis-tic outlook, “He would soon rue it.” Over-end would unravel in short order:

By the time the Overend Gurneydirectors met in the first week of Mayto consider a capital call, the situationwas irretrievable. Their only recoursewas … the Bank of England…. The Bankdispatched a three-man team to inspectthe supplicant’s books. The verdictwas negative—the Corner House wasinsolvent—and the Bank [of England]declined to assist…. Overend Gurneyclosed its doors. The ensuing panicexhausted the descriptive powers of thefinancial press.

A life consumed with the Bank of England’s

role / Bagehot will likely always be mostknown for his views on central bank lend-ing. His thoughts on the matter were devel-oped in a number of intellectual battleswith the likes of Thomson Hankey, a mem-

ber of Parliament and agovernor of the Bank ofEngland, and GeorgeNorman, a director at theBank of England for 50years. Hankey was of theview that “a good bankerhad no need of a centralbank and a bad banker

had no claim on a central bank.” As part ofa lecture series he released, Hankey gave abrutal assessment:

The Economist newspaper has put forth… the most mischievous doctrine everbroached in the monetary or bankingworld in this country; that it is one ofthe proper functions of the Bank ofEngland to keep money available at alltimes to supply the demands of bankerswho have rendered their own assetsunavailable.

Bagehot: The Life andTimes of the GreatestVictorianBy James Grant

368 pp.; W.W. Norton,2019

Although many modern-day centralbankers claim Bagehot as a kindredspirit, Grant makes clear that 19thcentury finance was vastly different.


Norman made similar principled argu-ments:

Some solvent businesses might beunable to borrow and that such depriva-tion could force some into bankruptcy.Well, if so, it was their own fault forsailing too close to the wind. In any case,crises soon passed. The solvent wouldswim—the insolvent sink—and the pub-lic at large would learn a valuable lesson.

These discussions “nudged the editorof The Economist in the fruitful direction ofLombard Street—that seminal description ofthe workings of Victorian finance.” Givenhis role as a banker, Grant calls Bagehot an“interested party” on matters of the role ofthe Bank of England. Bagehot’s own bank,Stuckey’sBankingCompany,wasnotalikelyrecipientoflendingduringacrisis:“Stuckey’sseemedcrisis-proof. Itsailedregallythroughthe Panic of 1857, the American Civil Warand the occasional poor West Country Har-vest.” But if the Bank of England did notplay the role supporting Lombard Street,Stuckey’s “would earn a great deal less if themonetary rules required it to stockpile itsshare of non-interest bearing cash that theBank of England now husbanded for thebanking community as a whole.”

In his Author’s Note, Grant’s admi-ration for Bagehot is on full display forthe sheer volume of his work: “His out-put astounded me—5,000 words a weekat least, and each word placed just whereit should be. Was such a thing possible?”But in the same breath Grant excoriatesBagehot for the weak intellectual supporthe provides for his notions of central banklending and reserves:

His embrace of the dubious notion, socorrosive to financial prudence, that thecentral bank has a special obligation tothe citizens who present themselves asborrowers and lenders, investors andspeculators. No other class of personenjoys access to the government’s moneymachinery.

But much of Grant’s harshest scorn is

reservedfortoday’scentralbankers.Doeshethink the Fed and other central banks havebastardized Bagehot’s dictum in its crisisresponse? The answer clearly is yes:

Because Bagehot’s words are so easilyquoted, they are often misquoted. Hisprescription that, in a panic, a centralbank should lend freely at a high rateof interest against good collateral hasvirtually become, following 2007, “Lendfreely at low rates of interest while mate-rializing immense sums of fiat moneywith which to raise the prices of finan-cial assets in order to stimulate spendingby the people who own the assets.”

Although many modern-day centralbankers claim Bagehot as a kindred spirit,Grant makes clear that the world of 19th

century finance was vastly different. Bage-hot believed that “money was gold andsilver and that alone…. [Bagehot] neverchanged his publicly expressed view about[the importance of] the gold standard orthe abomination of fiat currency.” In sodoing, Grant openly questions the intel-lectual honesty of those modern centralbankers who pick and choose the writingsof Bagehot that they happen to agree with,rather than taking a more holistic view ofhis philosophy on all matters finance.

Bagehot is a great read, supported byGrant’s usual painstaking historicalresearch. That said, I would have preferreda volume narrowly focused on Bagehot’sviews on the role of central banks. Somequestions remain in my mind on that issue.But that is not the book Grant chose towrite and I will defer to his judgment.

Did Germany Contribute tothe U.S. Great Depression?✒ REVIEW BY VERN MCKINLEY

The interwar German economy was truly a “basket case.” Mostpeople know this because of the anecdotes from the WeimarRepublic’s bout with hyperinflation during the early 1920s.

What student of economics or finance has not seen the photos ofGerman children playing with stacks of worthless German currency?

But a much less known event was themajor financial crisis in Germany that fol-lowed less than a decade later. This dearthof common knowledge prompted TobiasStraumann to write 1931. Straumann is anassociate professor of economic history atthe University of Zurich who specializes inthestudyof20thcenturyEuropeanfinanceand economic history. In his preface heexplains that the idea for the book camefrom his conclusion “that the wider publichas little knowledge of the 1931 Germanfinancial crisis and its key role in Hitler’ssudden electoral success.” My own researchhad made me aware of a major debt-mor-atorium that the large New York banksadopted in 1931, the so-called “standstill

agreement”negotiatedbyAlbertH.Wiggin,who was chairman of Chase Bank. Thatagreement was intended to give the Ger-man governmentbreathing roomby reduc-ing its immediate repayment obligations.Needless to say, the moratorium made lifedifficult for the U.S. banks in the midst ofthe Depression.

Reparations / As Straumann explains, theTreaty of Versailles, which ended WorldWar I, assigned blame for the war to Ger-many and its allies and imposed generalcompensation mandates for the damagedone. It was left to the diplomats to workthrough the details of that compensation.

Straumann writes that the reparations

I N R E V I E W


saga began in earnest in 1921:

The London Ultimatum of May 1921 wassupposed to resolve the issue, but onlymade things more complicated by fixingthe final bill at the extremely high level of132 billion gold marks…. Economically,Germany could have paid the repara-tions, but politically, such a scenario wassimply unenforceable, as most Germancitizens were convinced that their countryhad not lost the war. Thus, when the costof the reparation bill became known inGermany, a sort of tax boycott ensued.

In the end, there was a large shortfall inreceipts and the Reichsbank monetized theexcess, boosting an already lofty inflationrate and leading to the widely known exam-ple of “full-blown hyperinflation.”

After the hyperinflation, reschedulingof debts was addressed in the Dawes Plan(named for Charles Dawes, later CalvinCoolidge’s vice president) and a new Ger-mancurrencywasput inplace.TheGermanandtheglobaleconomyimprovedforatimethrough most of the 1920s. But as withnearly all such plans, the Dawes Plan alsohad its flaws, resulting in its replacementwith the Young Plan (named for Americanindustrialist Owen Young) of 1930. Thestruggle with the implementation of theYoung Plan is where the story of the 1931financial crisis really starts.

There are four major overlapping his-torical lines at work in 1931: the diplomaticefforts to address reparations; the instabil-ity in the banking systems in Austria andGermany; the intervention of the UnitedStates,primarilythroughtheeffortsofPres-ident Herbert Hoover; and the politicaldynamics in Germany, which ultimatelyled to the ascension of Adolf Hitler to theposition of chancellor.

Diplomatic efforts / The Young Plan wassigned in the Hague in January 1930. Thediplomatic agreement tried to resolve thepreviously unresolved: “it redefined theterms of the reparations payments andwas thought to be a complete and final set-tlement” on the subject. The plan reduced

the yearly payments for Germany, reducedforeign financial control, and committedthe Allies to withdrawal from the Rhine-land. But it also required Germany tomake payments for 58 years (into the late1980s) and that gave the Nazi Party fuelfor arguments that the agree-ment imposed massive bur-dens on the nation for “threegenerations.”

The plan also altered thepriority of payments for Ger-many’s foreign debts. Politi-cal pressures from each of thestakeholder nations imme-diately caused tension in theimplementationof theYoungPlan, solidifying decades-oldanimosities on all matter ofdiplomatic, financial, andstrategic issues.

Financial instability / By early1931, German f inancesbegan to unravel: “TheReich’s revenues were deteriorating rap-idly. Brutal measures will be unavoidable.”The financial systems in Germany andAustria showed signs of instability.

The crisis started with the failure ofCredit–Anstalt, the largest financial insti-tution in Austria, in May 1931. AustrianChancellor Otto Ender announced a bailoutplan that involved a capital injection by thegovernment, supplemented by funds fromthe central bank and the renowned Roth-schild family. Notwithstanding the govern-ment’s effort to prop up the bank, a runensued, carrying off a full 30% of deposits.

By early June, the second-largest Ger-man bank, Danat, was being hurt on thefunding side by withdrawals of foreigndeposits and was being dragged downby write-downs on bad debt for one ofits biggest clients, textile manufacturerNordwolle. The bank was headed by JakobGoldschmidt, who led the bank into a uni-versal banking existence that was a mix ofcommercial and investment banking witha thin level of capital supporting theserisks. By July, Danat was ready to close itsdoors, which it did temporarily with the

government guaranteeing all deposits andliabilities. A broader run on a number ofbanks was triggered, leading to a generalbank holiday. Three other large Germanbanks that survived into the 21st century,Deutsche Bank, Dresdner Bank, and Com-

merzbank, held firm withstronger capital positions tosupport operations, althoughDresdner did have its share oftroubles.

America gets involved / Thepopular narrative of the U.S.Great Depression is thatHoover was unwilling to getthe government involved tocounteract the Great Con-traction. History tells a dif-ferent story: Hoover wasquite the activist by 1931.Very late in the game and asStraumann describes it, “outof the blue” Hoover got per-sonally involved in trying to

foster economic recovery in the UnitedStates and Europe. At home he proposedthe bureaucracy known as the Reconstruc-tion Finance Corporation (RFC) to bol-ster troubled financial institutions. ForEurope, in June 1931 he proposed “a one-year moratorium on all war-related debts”to support Germany, which included inter-governmental debts, reparations, and reliefdebts. After weeks of multilateral nego-tiations delayed by France’s initial slowresponse, a moratorium was agreed to.

Neither of Hoover’s remedies, the RFCnor the moratorium, had much effect. InGermany, capital outflows later in Juneand the instability of its banking systemoverwhelmed any benefit that might havecome from temporarily easing paymentmandates. The final standstill agreementwent into effect for six months, but it waslater extended into early 1933.

The Nazis and Hitler / Early on in 1931Straumann cites a clear beneficiary of theturmoil flowing from the Young Plan:

One figure profited enormously from

1931: Debt, Crisis andthe Rise of HitlerBy Tobias Straumann

272 pp.; OxfordUniversity Press, 2019


the campaign against the Young Plan:Adolf Hitler…. Before the vote [on theYoung Plan], hardly anybody outsideof the radical Right took notice of thishysterical politician with the comedicmoustache and the strident voice.

The turmoil from the Young Plan facili-tated Hitler’s coming to power. The book’sjacket emphasizes this by including hisimage. Less than a year after the Young Planwas signed, the Nazi Party leapt from a 3%share in the Reichstag to 18% in September1930; by July 1932 it had grown to 37%.“In his very first campaign speech … Hitlersingled out the Young Plan as the sym-bol of failure of the Weimar elites,” Strau-mann notes. German Chancellor HeinrichBrüning was stunned by the 1930 electionresults, as he had hoped the vote “wouldwiden his political support.”

That election was a key turning point asthe economy began to turn and “marketswere in a manic-depressive mood.” Hitlerwas politically successful because

he managed to monopolize the wide-spread criticism of the post-war orderestablished by the Versailles Treaty andthe Young Plan. Relentlessly, he hadmade the link between Germany’s debtand the economic crisis…. He sensedthat blaming foreign powers for domes-tic misery was extremely effective andenjoyed broad support across all partiesand all classes in society.

The worst of the crisis in 1931 coincidedwith the further rise of the Nazi Party.

Conclusion / Straumann’s book is well-re-searched and the story well-told, with oneexception. He argues that the instability inGermany led to the global and U.S. bank-ing crisis:

Germany’s 1931 crisis not only gavethe Nazis the opening they needed, butalso triggered an international liquiditycrisis, throwing banks and financialmarkets across the globe into chaos…,prompting a wave of devaluations in

such distant places as India and Japan,a run on the dollar, and a banking crisisin the United States.

He presents no evidence for this statementabout cross-border contagion, includinga contribution to the U.S. economic col-lapse. The National Bureau of EconomicResearch puts the beginning of the Great

Contraction that ushered in the Depres-sion at August 1929, well before the insta-bility discussed in this book. A bankingcrisis was underway in the United Statesbefore 1931. Some spillover from theinstability in Germany no doubt madethe situation here somewhat worse, but itis not at all clear that it triggered the U.S.banking crisis.

Was There a Housing BubbleLast Decade?✒ REVIEW BY DAVID R. HENDERSON

In his recent book Shut Out, Kevin Erdmann, a finance expert andvisiting fellow at the Mercatus Center at George Mason Univer-sity, has two main messages. The first, which is not controversial

among economists, is that restrictions on residential construction incoastal California and the urban Northeast have constrained supplyso much that housing in those areas isvirtually unaffordable for people in thelower- and middle-income classes. Hisother message is more controversial: thefinancial crisis last decade was not due toa housing bubble but, rather, to bad policydecisions based on the idea that there hadbeen a bubble. Whereas I was already con-vinced of his first point, I, like the majorityof economists, was skeptical of his second.But because of all the data and reasoninghe brings to the issue, I now find myself atleast 90% convinced.

Probably because his second point isthe more controversial, Erdmann spendsroughly the first half of the book makingthat case. At times his narrative gets boggeddown and his language is often sloppy. Forexample, he uses the word “shortage” torefer to a situation where demand increasesbut supply doesn’t. Economists, however,tend to reserve that word for situationswheretheprice fails toclearthemarketsuchthat quantity demanded exceeds the quan-titysupplied.Thegoodnewsis thatheoftensaves the day with pithy, clever quotes thatsum up his message. Also, the more than100 graphs he uses in the book seem like

overkill, but that is better than underkill.

Types of cities / Erdmann makes his case bylooking at the diverse characteristics of U.S.citiesratherthanlumpingthemalltogether,and by studying changes in housing pricesand rents over time. He focuses on the 20largest U.S. metropolitan areas and dividesthem into four categories: Closed Accesscities, Contagion cities, Open Access cities,and Uncategorized cities. The five ClosedAccess cities are New York City, Los Ange-les, Boston, San Francisco (including SanJose), and San Diego. In those cities, localandstategovernmentshave imposedstrongrestrictions on construction.

Erdmann seems a little vague aboutwhen those restrictions got really tight. Hisnarrative suggests that it was in the 1990s,but there’s no index to help one look for aclear answer; he did confirm in an email tome that he dates it to 1995. In those cities,housingstarts,evenineconomicexpansions,havebeenlow, incomeshavebeenhigh,rentshave been high (and rising) even relative toincomes,andtherewerelargeratesofout-mi-gration of households with low incomes.

The four Contagion cities are Miami,

I N R E V I E W


Riverside, CA, Phoenix, and Tampa. Whydoes Erdmann call them Contagion cities?Because the price increases in the ClosedAccess cities caused a massive number oflower- and middle-income people to movefrom them to the Contagion cities wheretheycouldaffordhousing,andbiduphous-ing prices there to the point where they arestill affordable but less so than before.

The Open Access cities are Dallas–FortWorth, Houston, and Atlanta. Erdmannexplains, “These growing cities are able tobuildenoughnewhomestomeetdemand.”By “able,” he means that builders wereallowed to build, not hemmed in by gov-ernmentrestrictionsas intheClosedAccesscities. By “meet demand,” he means thatthe increase in the quantity supplied at aroughly constant inflation-adjusted priceequaledthe increase inquantitydemanded.

The last group, Uncategorized cities,are Chicago, Philadelphia, Washington,Detroit, Seattle, Minneapolis, St. Louis,and Baltimore. Washington, Seattle, andChicago, writes Erdmann, “are dealingwith the same pressures that the ClosedAccess cities are.” Housing costs (by whichhe means prices) have increased but at themetropolitan level,housingstartsaremuchhigher than in Closed Access cities, “hous-ing costs as a proportion of income are nearnational norms,” and domestic migrationout of them isn’t as extreme as for ClosedAccess cities. Even though Erdmann writesin the present tense, presumably he meansto use the past tense given that his narrativeis about the past. In St. Louis and Detroit,housing permits issued were higher than inthe major Closed Access cities.

Why choose just 20 cities total? Erd-mann explains in a footnote that these 20cities “capture the bulk of the aggregatestory.” That seems reasonable.

Challenging the standard story / The stan-dardstorythatmostpeople, includingecon-omists, have accepted about last decade isthat therise inhomepriceswas fueledbyanexpansionofcreditandthatbothborrowersand lenders naively expected the growth inhome prices to continue.

Erdmann rejects this story with a com-

plex analysis that considersmany factors. In his intro-duction to the book, he nicelysummarizeshisthesis,writing:

These findings suggest thatwe did not have a housingbubble. We had a housingsupply bust—first in theplaces where people wantto live, in places where thereis more opportunity. Thatsupply bust caused pricesto rise in those cities—mostnotably in New York City,Los Angeles, Boston, andSan Francisco—metropol-itan areas I call the ClosedAccess cities. After the turnof the century, millions ofhouseholds flooded outof those cities because of the shortageof housing—so many that they over-whelmed cities in the main destinationsfor those households, such as inlandCalifornia, Arizona, and Florida. Then weimposed a credit and monetary bust onthe entire country in a misplaced attemptto alleviate the problem.

Erdmann has many objections to thestandard narrative. One thread of the nar-rative is that subprime lending was a majorcontributortotheincreaseintheU.S.home-ownership rate from 64% in 1994 to an all-timehighof69.2%in2004.Erdmannclaimsthatsubprimelendingwasnotanimportantfactor. Why? If it were an important causeof higher homeownership, he argues, thereshould have been a fairly pronounced cor-relation between the homeownership rateand housing prices. There wasn’t. He pointsoutthathomeownershiphadrisento66.5%by late 1998, halfway to its peak, while realhome prices were still about the same.

In the standard story, subprime mort-gages were granted to relatively low-incomefamilies that were unwise to buy houses butwere able to do so because of lax lendingstandards. But, notes Erdmann, between1995 and 2004, the huge increase in newowners was among people in the top two

income quintiles. For the topquintile, he notes, over 40% ofnon-owners became ownersversusabouta20%increaseforthe middle quintile and virtu-ally no change in the bottomtwo quintiles. That doesn’t fitthe standard narrative.

Erdmann cites an August2017 working paper by Ste-fania Albanesi, Giacomo DeGiorgi, and Jaromir Nosal onthe characteristics of individ-ual borrowers. Even in ZIPcodes with high levels of sub-prime lending, they found,borrowers tended to havehigher credit scores. Also,the debt growth for borrow-ers with lower credit scores,writes Erdmann, “tended to

be among young borrowers who subse-quently maintained rising incomes andrising credit scores.” The bottom line, hewrites, is that “there was no shift to highcredit risks during the housing boom.”

Another part of the standard storyinvolves so-called “liar loans”: mortgagesrequiring little documentation that osten-sibly were made by predatory lenders tonaive borrowers who did not understandthe terms. Erdmann quotes a study by Fed-eral Reserve Bank of Chicago economistGene Amromin finding that these loanswent primarily to high-income householdswith high credit ratings. The borrowers,accordingto Amromin,expectedboth theirincomes and their house prices to grow.While he and Erdmann both dismiss theidea that these borrowers were naive, I dothinkit’snaivetoexpecthousepricesalwaysto rise. But Amromin and Erdmann’s pointseems to be that they were not so naive as tonot understand the terms of the loan. Thatis probably correct.

Another part of the standard story isthat private securitizations of mortgagesresulted in ample lending, producing ris-ing homeownership and house prices.Erdmann shows that the timing for thisdoesn’t fit the narrative. He has a graphshowing that most of the boom in private

Shut Out: How a Hous-ing Shortage Caused theGreat Recession andCrippled Our EconomyBy Kevin Erdmann

309 pp.; Rowman &Littlefield, 2019


securitizations, which happened betweenthe second quarter of 2004 and the end of2006,cameafter therise inhomeownership,whichpeakedinthesecondquarterof2004.For the increase in private securitization ofmortgages to be a major cause of the boomin homeownership, most of it would havehad to happen just before or at the sametime as the increase in ownership.

Inachapteronmigrationbetweencities,Erdmann notes that for his story aboutmigration from and to Closed Access cit-ies to make sense, people in those citieswho have families would move out andbe replaced by people with fewer children.Sure enough, federal tax data show thathouseholds moving into Closed Access cit-ies had 0.2 fewer members per householdthan households moving out. That soundssmall, but it’s one-third of the drop in theaverage size of an American family betweenthe 1960s and 2018.

Tight money, tight housing markets / In oneof the final chapters, “A Moral Panic and aFinancial Crisis,” Erdmann shows that theFederal Reserve responded to the finan-cial crisis not by flooding the market withliquidity, as Alan Greenspan did after the1987 stock market crash, but by bailing outparticular financial institutions and thensopping up the added liquidity by sellingbonds. The technical term for what the Feddid is “sterilization.”

Erdmann could have strengthened hiscase by pointing to the well-developed eco-nomics literature on this point. San JoseState University economist Jeffrey RogersHummel has laid out the facts on this indetail (see “Ben Bernanke versus MiltonFriedman,” Independent Review, Spring2011) and notes that both Rutgers Univer-sity economics professor Michael Bordoand monetary blogger Scott Sumner havealso made this point. Maybe it’s all themore impressive that Erdmann, who isnot an economist, appears to have come tothis conclusion on his own. Moreover, henotes, the Federal Reserve started payinginterest on bank reserves, which, of course,caused banks to hold on to reserves thattheyotherwisewouldhave lent.Thisstarted

in October 2008, which has to be one of theworst-timed Fed decisions since the GreatDepression. The result of the relativelytight monetary policy was a large increasein mortgage delinquencies.

Erdmann’s best chapter is his epilogue.In it,heshows justhowdysfunctionalhous-ing policy has been in the Closed Access cit-ies.Heincludesatwo-and-a-half-pagequotefrom an April 2016 article in the San Fran-cisco Chronicle about the barriers state andlocal governments have erected to preventnew housing. That passage is heart-break-ing and, in my case, anger-inducing.

The epilogue also includes a nice dis-cussion of one of the few cases where theterm “trickle-down” makes sense: housing.Erdmann argues that when new housing issupplied to the top end of the market andhigh-end tenants move into the new luxury

units, thevacatedhousingisoftenoccupiedby people with lower income. I’ve oftenmade that point with an analogy to cars:youdon’tgenerallysee lower-incomepeopledriving relatively new Cadillacs, but you dosee them driving 10-year old Cadillacs. Erd-mannsupplieshisowncaranalogy,writing,“We don’t insist that auto manufacturersonly produce new cars that are worse thanthe existing used cars in order to be equita-ble.” Moreover, he notes, whatever policy ischosen leads to some form of trickle-down:“When new units don’t ‘trickle down’ tohouseholds with lower incomes, house-holds with lower incomes have to ‘trickledown’ to Phoenix or Las Vegas.”

Erdmann,quitereasonably,seesthesolu-tion in allowing more construction, espe-cially in Closed Access cities. His last linesums up his policy message: “Let it rip.”

A Dangerously SeductiveTheory✒ REVIEW BY PIERRE LEMIEUX

Consider “fake news”—the real sort, based on demonstrably falsefacts or false narratives. Actual fake news is ubiquitous andspreads like wildfire, thanks in part to the internet.

In his new book Narrative Economics, Nobel economics prizewinnerRobert Shiller cites research that “found that false stories had six times

the retweeting rate on Twitter as true sto-ries.” Moreover, he notes, “truth is notenough to stop false narratives,” especiallywhen the latter thrive on identity and “usversus them” thinking.

Somepeopleevenenjoy stories that theyknow are false, much like “pro” wrestling.(We know people realize pro wrestling isfake because few people bet on matches.)“Fake news,” Shiller writes, “seems to bepart of the normal human condition.” Thisbookaimstoshowthat“contagious”narra-tives—both false and true—“are responsiblefor many of the changes we observe in eco-nomic activities.”

What are narratives? / A narrative is a story

or other representation that explains orjustifies some event or institution and thataffects people’s behavior. Economic nar-ratives relate to economic events or insti-tutions. For example, the Laffer curve andthe story of its originally being drawn on arestaurant napkin went viral around 1980and may have influenced voters and pol-iticians.

According to Shiller, neuroscience andneurolinguistics suggest that the humanbrain is organized around analogies, met-aphors, and stories—all the stuff of narra-tives. In short, people love stories.

Paraphrasing psychologist JeromeBrunner, Shiller writes that “we shouldnot assume that human actions are driven

I N R E V I E W


in response to purely objective facts.” Thisshould remind the reader of FriedrichHayek’s insistence that the “objective facts”of the social sciences include “the beliefs oropinions held by particular people” andthat“sofarashumanactionsareconcerned,the things are what the acting people thinkthey are” (The Counter-Revolution of Science,1953). Disappointingly, Shiller fails to citeHayek in his book.

Shiller is a practitioner of “behavioraleconomics,” a different school of economicanalysis than Hayek’s. Behavioral econo-mists argue that narratives are based onimagined representative situations (“fram-ing”) or emotions. Many random and arbi-trary factors are involved in the formationof narratives. Further, individuals are asirrational as the narratives they follow.

Going viral / Shiller argues that economicnarratives can affect major economicevents when they go viral either online orthrough other media. But why does a nar-rative go viral?

Theshortanswer isthatwedon’tknow—but,Shilleremphasizes,wemusttryto learnmore. He theorizes that a constellation orconfluence of narratives may be necessaryfor an idea to catch fire. Other factors, likeglamor, may also be required for a narrativeto go viral.

Shiller argues that epidemiologicalmodels of contagious diseases are usefulfor understanding the spread of economicnarratives. The simple Kermack–McKen-drick mathematical model developed in1927, which measures the strength of anepidemic from its early growth to its peakand eventually its decline, used three equa-tions to show how the infected fraction ofthe population is equal to the contagionrate minus the recovery rate. This simpleand attractive model is said to fit the evolu-tion of internet “memes.”

In a similar pattern, an economic nar-rative that goes viral starts slowly, increasesrapidly, reaches its peak, and eventuallydies down—if it does not mutate and getcontagious again. For example, the Laffercurve went viral and reached its peak in theearly1980s.Otherviralnarrativesdiscussed

causal effects of different narratives or thedirection of causality. Perhaps it is becauseof the Great Depression that consumptionplunged?

Another narrative that peaked duringthe Great Depression was that people can-not buy what they produce, meaning thata capitalist economy is marred by generaloverproduction or underconsumption.

This idea (which had beenrejected by French economistJean-Baptiste Say in the early19th century) was revivedacademically by Keynes in his1936 General Theory of Employ-ment, Interest and Money, but itwas already in the zeitgeist ofthe time. It appeared in Ald-ous Huxley’s 1932 book BraveNew World in the depth of theGreat Depression: Babies areconditioned by an untiringwhisper, including the man-tra: “We always throw awayold clothes. Ending is betterthan mending. … The morestitches, the less riches.”

Yet another narrativethat may have contributedto the pessimism of the

Great Depression concerns labor-savingmachines. The idea that these devices hurtlabor was popularized by the early 19thcentury Luddites and then reappearedduring the global depression of the 1870s.Shiller quotes the Philadelphia Inquirer ofFebruary 3, 1876: “The steam-power ofseven tons of coal is sufficient to make33,000 miles of cotton thread in ten hours,while, without machinery, this wouldequal the hand labor of 70,000 women.”He also reports that in Germany in 1933,the worst year of the Great Depression, aNazi Party official promised to ban thereplacement of men with machines.

SimilarnarrativesreappearedafterWorldWar II as a fear of automation and artificialintelligence. According to Shiller, this fearmay have contributed to the 1957–1958and 1960–61 recessions, as well as those of1980, 1981–1982, and 2000–2001. A recentnarrative on the dangers of machine learn-

by Shiller show the same evolution as mea-sured by the frequency of related keywordsin books.

Influence of economic narratives / Manysorts of narratives can drive the major eco-nomic events that are booms and bustsalong the business cycle. Consider the fol-lowing examples.

Stock market bubblesfeed on narratives of confi-dence or panic. A massive anddecades-old economic litera-ture debates why bubbles andcrashes can happen if finan-cial markets are efficient (the“efficient market hypothesis”or EMH), that is, if they incor-porate all available informa-tion.Withoutgettingintothisdebate, it is useful to knowthat Shiller has been a majorcritic of the EMH. In NarrativeEconomics he shows that refer-ences to the expression “stockmarket crash” started around1926 and, reaching epidemicstatus, may have contributedto the wave of pessimism thatcrashed the market in 1929.

Narratives that encourage panic maycontribute to a recession, while those thatfavor confidence can boost the economy.From a Keynesian perspective, a recessionresults from a drop in aggregate demand,leading to declines in production andemployment. But it is not as obvious asShiller believes that an aggregate demandshock is either sufficient or necessary for arecession, yet this notion is very much partof his understanding of the economic cycle.

In this Keynesian perspective, itbecomes important to increase consump-tion during an economic slowdown, at thevery time when people have less moneyto do so. Hence, there is a narrative thatfrugality prolonged the Great Depressionand that conspicuous consumption andpursuit of “the American Dream” afterWorld War II fueled economic growth.Note that the analyst’s theoretical perspec-tive may affect his hypotheses about the

Narrative Economics:How Stories Go Viraland Drive MajorEconomic EventsBy Robert Shiller

384 pp.; PrincetonUniversity Press, 2019


ing seems to have peaked in 2016, though itdid not cause economic damage.

Likewise, a narrative that single-familyhomes make good speculative investmenttook off in the second half of the 20th cen-tury. This contributed to the housing bub-ble of 1997–2006 and, Shiller argues, to theGreat Recession of 2008–2009.

Narratives of profiteering and evil busi-ness can affect the course of economicevents. One such narrative became “highlycontagious” in 1918: a report that an anon-ymous woman in a street car had hit a busi-nessman with her umbrella after the latterwas overheard boasting about the moneyhe made from the war. Narratives of warprofiteering peaked during the 1920–1921recession. In 1920, Sen. Arthur Capperdeclared, “Profiteers are more dangerousthan Reds,” and called for boycotting highprices. Still, it’s hard to be convinced bythe hypothesis that narratives of profiteer-ing can prolong a recession by preventingpeople from buying; man does not live bynarratives alone.

Perceived profiteers in popular narra-tives can also be labor unions if they obtainwage increases that result in so-called “cost-push inflation.” This narrative, which wentviral just after World War II and again inthe 1970s, assumes that the governmentaccommodates these cost increases withan increase in the money supply. Withoutthis accommodation, prices would have todecrease somewhere else in the economy(other things equal, everybody cannot con-sume more simultaneously), with no netinflation as the result.

Even when central bank actively anddirectly creates inflation by increasingthe money supply, rationally ignorant (ifnot simply ignorant) voters look for otherscapegoats than their own government,as happened in the wake of World War II.“The mass of people … are not very wellinformed,” Shiller notes, which is one rea-sonwhytheymustbasetheiractionsonnar-ratives. During the German hyperinflationof 1917–1923, a contemporary observer,American economist Irving Fisher, notedthat the citizens did not blame their owngovernment.

What did we learn? / All these stories areno doubt interesting, but do they reallyimply that a new “narrative economics”is needed? What do readers learn, exactly,from this book?

Perhaps we learn that viral narrativescan have big economic effects, for betteror worse. But didn’t we already know that?Prices and resource allocations changeif some fad increases the demand forsomething. The theory of informationcascades, where people rationally followthe opinions of people they trust, addsto this explanation. (See “Following theHerd,” Winter 2003.) Aren’t contagiousideas and “memes” just another way to saythat individuals, when they make choices,

decide on the basis of how they believe theworld works?

The book does explain how to formalizethespreadofnarrativeswithasimpleepide-miological model, but is that really useful?Perhaps yes, but the sort of interdisciplin-ary approach advocated by Shiller has itsdangers too. Hayek warned social scientistsabout the danger of “scientism”—that is, a“slavish imitation of the method and lan-guage of Science.”

Another positive danger (“positive” byopposition to “normative”) is to forget thatpeople have conscious minds and inten-tions, that they are different from atomsandanimals.Shilleracknowledgesthisdan-ger. Moreover, it seems, you can always findsome narrative that fits with the events youwant to explain.

The normative danger may be worse. Itconsists in considering some ideas as con-tagious diseases, just as the public healthmovement views preferences and lifestylesit dislikes. (See “The Dangers of ‘PublicHealth,’” Fall 2015.) Public health expertsand activists call “epidemics” the spread ofeverythingtheydon’t like, suchassmoking,

vaping, and guns. Between Shiller’s use ofthenotionof“thoughtviruses”andcalls forquarantining the bearers of these viruses,thedistancemaybesmaller thantheauthorof Narrative Economics probably thinks.

Shiller’s appeal to qualify economists’basic assumption of actor rationality is notnew either. Hayek, for one, already incor-porated such qualifications in his theory.Many standard (neoclassical) economistsdo so in other ways, although not as radi-cally as some behavioral economists.

Shiller does remind us that it is tempt-ing, and sometimes rational, for indi-viduals to follow viral narratives thatend up generating bubbles and crashes.Sometimes they act on the basis of purely

emotional narrativesand false news. But thistypically happens whenindividuals follow thecrowd and have littleprivate incentive to stopand think. When a per-son privately purchases a

car from which he will get all the benefitsand pay all the costs, he has an incentiveto make a rational decision. At least in afree society, not everything falls under theoverwhelming influence of mobs.

That narratives can contribute to majoreconomic events such as booms and bustsseemsanintuitive idea,andShillerprovidessome evidence for it. However, the frequentif not usual presence of a constellation ofnarratives, sometimes pointing in differentdirections, seems to attenuate the explan-atory power of any specific narrative. Fur-thermore, the direction of causality is notalways clear: is it a narrative that caused anevent or the event that generated or fueledthe narrative? Often, causality can go bothways. “Ultimately,” Shiller admits, “we cangive no final proof of causality.”

Focusing on narratives can lead toneglecting other factors hidden in plainsight. For example,hedownplays the role ofthe federal government in the Great Reces-sion through its active and (often coercive)encouragement of, and participation in,the supply of mortgages to low-incomeindividuals.TheauthorofNarrativeEconom-

It’s hard to be convinced that narrativesof profiteering can prolong a recessionby preventing people from buying; mandoes not live by narratives alone.

I N R E V I E W


Health Policy■ “Medicaid and Mortality: New Evidence from Linked Survey and

Administrative Data,” by Sarah Miller, Sean Altekruse, Norman John-

son, and Laura R. Wherry. July 2019. NBER #26081.

How should we evaluate health insurance policy initia-tives? One obvious metric is whether increases in thepopulation covered by health insurance reduce mortal-

ity. A previous Working Papers column (Summer 2019) revieweda paper that described the statistical difficulties in ascertainingwhether publicly subsidized health insurance expansions reducedmortality. Because most people are insured and mortality ratesamong the non-elderly are low, the detection of an incrementalmortality reduction from increased insurance coverage in theentire population would require a sample size of 40 millionpeople. Because such a study is not feasible, the use of generalmortality rates to evaluate the effects of policies to expand cov-erage is also not feasible.

This paper modifies that conclusion in an important way. Ifthe analysis could be confined to a smaller population in whichmany people were not insured and the existing mortality rate washigher, the sample size required to detect an effect would be muchsmaller. This paper studies only individuals ages 55–64 who hadincomes equal to or lower than 138% of the poverty level or whoseeducational attainment was less than high school. The annualmortality rate in this sample was 1.4%.

The paper compares mortality rates in those states thatexpanded Medicaid coverage under the 2009 Affordable CareAct to those states that did not. Prior to Medicaid expansion, themortality rates among those in the expansion-eligible popula-tion were parallel in the two groups of states and not statisticallydistinguishable.

After Medicaid expansion, the mortality rate in the near-retire-ment-age low-income population in the expansion states fell to1.27%. Given an estimate of 3.7 million people in expansion statesages 55–64 whose incomes were less than 138% of the poverty lineand thus eligible for Medicaid under expansion, about 4,800 fewerpeople died annually because of Medicaid expansion.

Mutual Funds and Antitrust■ “Common Ownership Does Not Have Anti-Competitive Effects

in the Airline Industry,” by Patrick Dennis, Kristopher Gerardi, and

Carola Schenone. July 2019. SSRN #3423505.

Institutional investors that sponsor index funds—Vanguard,BlackRock, Fidelity, etc.—are now among the largest share-holders of most publicly traded companies. They frequently

hold significant stakes in all the firms within a market. Criticsof this pattern of “common ownership” theorize that suchinstitutional investment could reduce market competition andincrease consumer prices. There are empirical papers in thepublished literature that ostensibly demonstrate such harm isoccurring.

A previous article in Regulation (“Calm Down about CommonOwnership,” Fall 2018) criticized the common ownership thesison logical grounds. The diversified shareholders of index fundsnot only own all airline stocks or bank stocks (the industriesexamined in two empirical articles that concluded that consumersare hurt by common ownership), they also own all other firms,including firms whose profits would be hurt by high prices forairline and banking services. So why would shareholders want tohurt themselves by exercising market power in some economicsectors that would reduce profits in (many) other sectors?

Another logical argument in the Regulation article noted that

Working Papers ✒ BY PETER VAN DORENA SUMMARY OF RECENT PAPERS THAT MAY BE OF INTEREST TO REGULATION’S READERS.

ics overlooks the insights of public choiceeconomics.

A subliminal idea / Assume for a momentthat individuals are by-and-large irratio-nal, as behavioral economists believe, andthat they follow more or less arbitrary nar-ratives, as Shiller claims. Given this, howcan one believe that governments—that is,individuals in their political and bureau-cratic roles—will be more rational thanprivate actors? Shiller easily falls into thenarrative that government is populated

by disinterested politicians who rationallyadopt policies proposed by omniscientbureaucrats and consultants. He arguesthat “policymakers should try to create anddisseminate counternarratives that estab-lish more rational and more public-spir-ited economic behavior.”

This is strange because he previouslyadmitted that government actors areinfluenced by narratives. Moreover, gov-ernments often amplify dangerous nar-ratives and fake news instead of dampen-ing them—not to mention the frequent

use of straight propaganda. The Trumpadministration is only an extreme versionof what we are used to seeing in developedcountries.

I suspect that most readers will like thenumerous illustrations given in NarrativeEconomics, from charts of viral “epidemics”to fascinating quotes from old newspapers.Theymayalsobetemptedbythesubliminalidea that the state—the ideal state—shouldtry tocontrol theseepidemics inthepursuitof social nirvana. Shiller’s is a seductivetheory, but a perilous one.


the mutual fund companies that offer index funds also offermanaged funds, which differ in their ownership stakes of firmswithin industries. One Vanguard managed fund, for example,owns similar amounts of American, Delta, and United Airlines butno Southwest, while another Vanguard fund owns Southwest butno American, Delta, or United. Thus, the economic interests ofthe mutual fund companies regarding intra-industry competitionare not obvious.

Finally, the article argued that the measure of common own-ership used in the empirical studies (the “modified Herfindahl–Hirschman Index” [MHHI]) was not a pure measure of commonownership, but also of market share. Thus, increased demandcould cause both prices and market share—and this measure ofcommon ownership—to increase.

This article explores that statistical problem in detail. The con-ceptual problem is that the MHHI includes both ownership andcontrol terms as well as airline market shares. This is importantbecause the widespread interpretation of the empirical results inthe literature is that increased common ownership by institutionalinvestors increases airline ticket prices. If the results are insteaddriven by variation in airline market shares, then the policy impli-cations are unclear.

The authors conclude that the positive relationship betweenthe measure of common ownership and airline ticket prices is theresult of variation in airline market shares rather than variationin common ownership among institutional investors. The paperdemonstrates this result by constructing two alternative “placebo”measures of common ownership: one in which variation in marketshares is muted by design while variation in common ownership isretained, and a second measure in which variation in common owner-ship is muted by design while variation in market shares is retained.The authors find that the first placebo measure is uncorrelated (ornegatively correlated in some specifications) with average prices,while the second measure is positively correlated with prices. Thus,it is variation in market shares, not ownership, that drives the cor-relation between this measure of common ownership and prices.

Consumer Credit■ “Does Price Regulation Affect Competition? Evidence from

Credit Card Solicitations,” by Yiwei Dou, Geng Li, and Joshua Ronen.

March 2019. SSRN #3361050.

■ “The Economic Consequences of Bankruptcy Reform,” by Tal

Gross, Raymond Kluender, Feng Liu, et al. September 2019. NBER

#26254.

The Credit Card Accountability Responsibility and Dis-closure Act (CARD Act) was enacted in 2009 as an osten-sible enhancement of consumer protection. A previous

Working Papers column (Winter 2014–2015) reviewed a paperthat concluded that consumers benefited from the legislation

because fee reductions mandated by the law occurred withoutany offsetting interest rate increases.

Another provision of the law prohibits interest rate increaseson new transactions within the first year of opening an accountand on existing balances in the first year (except when the rateon existing balances was explicitly described as a time-limitedintroductory rate). The first of these papers examines how theseprovisions affected consumers.

The authors examine credit card mail solicitation offers from2001 through 2016, comparing offers to consumers, which areregulated, to offers to small businesses, which are not. The authorsuse the solicitations to examine the responsiveness of offers tothose of other companies. Given that the CARD Act regulatedonly interest rate increases, how did firms respond to interest ratedecreases of other firms? The paper concludes that issuers’ offeredinterest rates to consumers were about 1.3 percentage point higherbecause of reduced responsiveness to competitors’ interest rateoffers in the post–CARD Act period.

Relatedly, the consumer bankruptcy rate rose from 0.3% ofhouseholds in the early 1980s to 1.5% in the early 2000s. In 2005,Congress passed the Bankruptcy Abuse Prevention and ConsumerProtection Act, which made filing for bankruptcy more difficultand expensive. Reform supporters argued that the savings fromreduced bankruptcy (the greater amount of loans repaid to banks)would be passed on to consumers in the form of lower interestrates.

The second of these papers finds that reform reduced thebankruptcy rate by 50%, resulting in roughly 1 million fewerbankruptcies in the two years after reform (even after accountingfor the dramatic increase in bankruptcy filings just before thereform took effect). The authors conclude that 60–75% of thesavings from reduced bankruptcies were passed on to consumersin the form of lower interest rates.

Franchise Laws■ “Trouble Brewing? Impact of Mandated Vertical Restraints on

Craft Brewery Entry and Production,” by Jacob Burgdorf. September

2018. SSRN #3392392.

Manufacturers and distributors need each other, butdistributors often believe that manufacturers makemoney at distributors’ expense through what econ-

omists describe as opportunism. In this narrative, distributorsengage in costly, irreversible investments that help the sales oftheir product, only to have their distribution relationship subse-quently terminated in an attempt by the manufacturer to expro-priate the profits from the distributors. Or manufacturers forcedistributors to purchase products during sales slumps so thatdistributors, rather than manufacturers, suffer wealth losses.

In some industries, distributors use the political system tomandate the nature of the relationship between manufactur-

I N R E V I E W


ers and distributors. The contentious history between automanufacturers and dealers led dealers to lobby successfully inall 50 states for legislation that prohibits manufacturers fromforcing dealers to accept unwanted cars, protects dealers againsttermination of franchise agreements, and restricts additionalfranchises in a franchised dealer’s relevant market area. Thelaws also prohibit a manufacturer from selling directly to thepublic through vertical integration. Tesla has run afoul of thisprovision in its attempts to sell cars directly to the public,bypassing the existing dealer network. (See “Tesla and the CarDealers’ Lobby,” Summer 2014.)

This paper describes an analogous history in the beer indus-try. Almost all states have beer franchise laws. They were passedin the 1970s as wholesalers became concerned about increasedconsolidation among national brewers. The laws make renewalof brewer distributor contracts more or less automatic and thetermination of such contracts extremely difficult. Twenty states,though, allow brewers to distribute their own beer withoutrestriction. This freedom puts an important check on the roleof distributors.

The role analogous to Tesla in the beer story is played by craftbrewers. In states with beer franchise laws but with no possibilityof self-distribution, craft brewers had to use distributors that

JOIN TODAY IJ.ORG/ACTIONI N S T I T U T E F O R J U S T I C E

Real ActivismReal ActivismReal ActivismReal ActivismReal ActivismReal ActivismReal ActivismReal ActivismReal ActivismReal ActivismReal ActivismReal ActivismReal ActivismReal ActivismReal ActivismReal ActivismReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal ResultsReal Results

were oriented toward serving the large national brands. Craftbrewers often felt ill-served by these mandated distributor rela-tionships.

Bell’s Brewery, a highly regarded craft brewer in Kalamazoo,MI, illustrates the defects of mandated franchise restrictions. In2006, Bell’s Chicago wholesaler was owned by National Wine andSpirits (NWS), which planned to sell the rights to distribute Bell’sproducts to another wholesaler. Bell’s opposed the sale, worryingthat its beers would not be promoted well by the new wholesaler.Rather than engaging in a costly legal battle trying to end thewholesale contract, Bell’s pulled distribution of its beer out ofthe entire state of Illinois, despite the state comprising over 10%of Bell’s sales. Exiting the state allowed Bell’s to end its contractwith NWS. Bell’s returned to Illinois nearly two years later, onceNWS lost its wholesale license and the right to sue.

This paper examines craft brewer entry from 1984 through2016. The average was 0.880 breweries per million people peryear. But in states that had franchise laws that restrict brewerydistribution and require the use of independent wholesalers,net entry decreased by 30–60% (0.320 to 0.518 breweries permillion people per year). In the states in which brewers couldself-distribute, the decrease was just 0.16 breweries per millionpeople per year.

If you’re considering acollege in North Carolinafor your student or yourself,visit NCCollegeFinder.org!

NCCollegeFinder.org

Information on all 54 four-yearcolleges located in NC.Sections include:

• The basics

• Academic quality

• Financial matters

• The political climate on campus

• Pope Center articles on each school

Is your North Carolinacollege still the way youremember it?

AlumniGuide.org assists alumniin determining if their alma matersare worthy of their donations.

• Provides a survey that will allow youto see how your college ranks amongothers in North Carolina

• Shows the percentage of revenuereceived from taxes

• Shows the percentage of alumni whogive to their college

Two valuable online resources from theJohn W. Pope Center for Higher Education Policy

Visit both sites today!

AlumniGuide.org

progress,ifnotutopia - cato

Documents