Harry Johnson, a Canadian, was one of the most active and prolific economists of all time. His main research was in the area of international trade, international finance, and monetary policy. One of Johnson’s early articles on international trade showed that a country with monopoly power in some good could impose a tariff and be better off, even if other countries retaliated against the tariff. His proof was what is sometimes called a “possibility theorem”; it showed that such a tariff could improve the country’s well-being, not that it was likely to. Johnson, realizing the difference between what could be and what is likely to be, was a strong believer in free trade. Indeed, he often gave lectures in his native Canada excoriating the Canadian government for its protectionist policies and arguing that Canada could eliminate some of the gap between Canadian and U.S. standards of living by implementing free trade. In international finance Johnson’s seminal 1958 paper named the growth in the money supply as one important factor that affects a country’s balance of payments. Before then, economists had tended to focus on nonmonetary factors. Johnson’s article began what is now called the monetary approach to the balance of payments. In the field of monetary economics Johnson made an early attempt to do for Britain what milton friedman and Anna Schwartz were doing for the United States: measure the money supply over time. Although he did not achieve as much in this area as Friedman and Schwartz did, his work led to other, more careful and detailed studies of the British money supply. In 1959, after having been a professor at the University of Manchester in England, Johnson moved to the University of Chicago as the token “Keynesian.” He learned a lot from monetarist Milton Friedman and others at Chicago, just as he had learned from Keynesians in England. Although never a monetarist himself, Johnson became increasingly sympathetic to monetarist views. One of his classic articles, written in his early years at Chicago, is his 1962 survey, “Monetary Theory and Policy.” The article is a graduate student’s delight—tying together apparently disparate insights by other economists, pointing out their pitfalls, and laying out an agenda for future research—all in a clear, readable style that still manages not to sacrifice subtle distinctions. In a relatively short career Johnson wrote 526 professional articles, forty-one books and pamphlets, and more than 150 book reviews. He also gave a prodigious number of speeches. According to paul samuelson, when Johnson died he had eighteen papers in proof. (Commented Samuelson: “That is dying with your boots on!”) Johnson also earned many honors. In 1977, for example, he was named a distinguished fellow of the American Economic Association, and in 1976 the Canadian government named him an officer of the Order of Canada. Johnson graduated from the University of Toronto in 1943 and earned his Ph.D. from Harvard in 1958. Selected Works   1953. “Optimum Tariffs and Retaliation.” Review of Economic Studies 21, no. 2: 142–153. 1959. “British Monetary Statistics.” Economica 26 (February): 1–17. 1961. “The ‘General Theory’ After Twenty-five Years.” American Economic Review 51 (May): 1–17. 1963. The Canadian Quandary: Economic Problems and Policies. Toronto: McGraw-Hill. 1969. Essays in Monetary Economics. 2d ed. Cambridge: Harvard University Press. 1971. “The Keynesian Revolution and the Monetarist Counter-revolution.” American Economic Review 61 (May): 1–14. 1972. Further Essays in Monetary Economics. London: George Allen and Unwin.   (0 COMMENTS)

  In 2002, Daniel Kahneman, along with Vernon Smith, received the Nobel Prize in economics. Kahneman received his prize “for having integrated insights from psychological research into economic science, especially concerning human judgment and decision-making under uncertainty.” Kahneman did most of his important work with Amos Tversky, who died in 1996. Before their work, economists had gotten far in their analyses of decision making under uncertainty by assuming that people correctly estimate probabilities of various outcomes or, at least, do not estimate these probabilities in a biased way (see Rational Expectations). Even if some people place too low a probability on an event relative to what was reasonable, economists argued, others will place too high a probability on that same event and the results would cancel out. But Kahneman and Tversky found that this is not true: the vast majority of people misestimate probabilities in predictable ways. One bias they found is that people tend to believe in “the law of small numbers”; that is, they tend to generalize from small amounts of data. So, for example, if a mutual fund manager has had three above-average years in a row, many people will conclude that the fund manager is better than average, even though this conclusion does not follow from such a small amount of data. Or if the first four tosses of a coin give, say, three heads, many people will believe that the next toss is likely to be tails. Kahneman saw this belief in his own behavior as a young military psychologist in the Israeli army. Tasked with evaluating candidates for officer training, he concluded that a candidate who performed well on the battlefield or in training would be as good a leader later as he showed himself to be during the observation period. As Kahneman explained in his Nobel lecture, “As I understood clearly only when I taught statistics some years later, the idea that predictions should be less extreme than the information on which they are based is deeply counterintuitive.”1 Another bias Kahneman and Tversky found to be common in people’s thinking is “availability,” whereby people judge probabilities based on how available examples are to them. So, for example, people overstate the risk from driving without a seat belt if they personally know someone who was killed while driving without. Also, repetition of various stories in the news media, such as stories about children being killed by guns, causes people to overstate the risk of guns to children (see risk and safety). Kahneman and Tversky also introduced “prospect theory” to explain some systematic choices most people make—choices that contradict the strictly rational model. Kahneman later admitted that their theory’s name was meaningless, but that it was important for getting others to take it seriously, thus giving even more evidence that the framing of an issue matters. (See the next paragraph for an example.) Imagine, for example, that someone is given a chance to bet $40 on some outcome and that he is told, accurately, that his probability of winning $40 is 60 percent, which means that his probability of losing $40 is 40 percent. Most people will refuse such a bet. Kahneman and Tversky called this “loss aversion.” This could be written off as simple risk aversion, which is certainly not irrational. What makes it strange, if not outright irrational, is that people act so differently with bigger gambles. Kahneman and Tversky found, for example, that seven out of ten people prefer a 25 percent probability of losing $6,000 to a 50 percent probability of losing either $4,000 or $2,000, with an equal probability (25 percent) for each. In each case the expected loss—that is, the loss multiplied by its probability, is $1,500. But here they prefer the bigger loss ($6,000) to the smaller one ($2,000 or $4,000). This choice demonstrates what economists calling risk-loving behavior, the opposite of the risk aversion noted for the smaller bets. Kahneman and Tversky also used prospect theory to explain other systematic behavior that departs from the economist’s rationality assumption. Consider the following situation. Many people will drive an extra ten minutes to save $10 on a $50 toy. But they will not drive ten minutes to save $20 on a $20,000 car. The gain from driving the extra ten minutes for the car is twice the gain of driving the extra ten minutes for the toy. So a higher percentage, not a lower one, of people should drive the longer distance for the saving on the car. Why don’t they? Kahneman’s and Tversky’s explanation is that the framing of the issue affects the decision. Instead of comparing the absolute saving in price against the cost of going the extra distance, people compare the percentage saving, and the percentage saving in the case of the car is very small. Kahneman’s and Tversky’s work spurred a great deal of work by economists on systematic departures from rational behavior. See behavioral economics for an introduction to many of the issues. Kahneman was born in Tel Aviv, Israel, and grew up in France. He earned his B.A. in psychology and mathematics at Hebrew University in 1954 and his Ph.D. in psychology from the University of California at Berkeley in 1961. He was a psychology professor at Hebrew University from 1961 to 1978, at the University of British Columbia from 1978 to 1986, at the University of California at Berkeley from 1986 to 1994, and has been a professor at Princeton University since 1993. Selected Works   1972 (with Amos Tversky). “Subjective Probability: A Judgment of Representativeness.” Cognitive Psychology 3: 430–454. 1973 (with Amos Tversky). “On the Psychology of Prediction.” Psychological Review 80: 237–251. 1974 (with Amos Tversky). “Judgment Under Uncertainty: Heuristics and Biases.” Science 185: 1124–1131. 1979 (with Amos Tversky). “Prospect Theory: An Analysis of Decision Under Risk.” Econometrica 47: 263–291. 1986 (with Jack Knetsch and Richard Thaler). “Fairness and the Assumptions of Economics.”Journal of Business 59: S285–S300.   Footnotes 1. See http://nobelprize.org/economics/laureates/2002/kahnemann-lecture.pdf.   (0 COMMENTS)

  Leonid Kantorovich shared the 1975 Nobel Prize with Tjalling Koopmans “for their contributions to the theory of optimum allocation of resources.” Kantarovich was born and died in Russia and did all his professional work there. His first major breakthrough came in 1938 when he was consulting with the Soviet government’s Laboratory of the Plywood Trust. Asked to devise a technique for distributing raw materials to maximize output, Kantorovich saw that the problem was a mathematical one: to maximize a linear function subject to many constraints. The technique he developed is now known as linear programming. In The Mathematical Method of Production Planning and Organization (1939), Kantorovich showed that all problems of economic allocation can be seen as maximizing a function subject to constraints. Across the world, John Hicks in Britain and Paul Samuelson in the United States were reaching the same conclusion at around the same time. Kantorovich, like Samuelson, showed that certain coefficients in the equations could be regarded as the prices of each input. Kantorovich’s best-known book is The Best Uses of Economic Resources, in which he developed some of the points made in his 1939 book. He showed that even centrally planned economies have to be concerned with using prices to allocate resources. He also made the point that socialist economies have to be concerned about trade-offs between present and future—and therefore should use interest rates just as capitalist ones do. Unfortunately, as hayek has shown, the only way to use prices is to have a price system—that is, markets and private property. Besides receiving the Nobel Prize, Kantorovich was awarded the Soviet government’s Lenin Prize in 1965 and the Order of Lenin in 1967. From 1944 to 1960, Kantorovich was a professor at the University of Leningrad. In 1960 he became director of mathematical economic methods at the Siberian Division of the Soviet Academy of Sciences. In 1971 he was appointed laboratory chief of the Institute of National Economic Management in Moscow. Selected Works   1939. Translated as “The Mathematical Method of Production Planning and Organization.” Management Science 6, no. 4 (July 1960): 363–422. 1959. Translated as The Best Uses of Economic Resources. Oxford, N.Y.: Pergamon, 1965.   (0 COMMENTS)

  So influential was John Maynard Keynes in the middle third of the twentieth century that an entire school of modern thought bears his name. Many of his ideas were revolutionary; almost all were controversial. Keynesian economics serves as a sort of yardstick that can define virtually all economists who came after him. Keynes was born in Cambridge and attended King’s College, Cambridge, where he earned his degree in mathematics in 1905. He remained there for another year to study under alfred marshall and arthur pigou, whose scholarship on the quantity theory of money led to Keynes’s Tract on Monetary Reform many years later. After leaving Cambridge, Keynes took a position with the civil service in Britain. While there, he collected the material for his first book in economics, Indian Currency and Finance, in which he described the workings of India’s monetary system. He returned to Cambridge in 1908 as a lecturer, then took a leave of absence to work for the British Treasury. He worked his way up quickly through the bureaucracy and by 1919 was the Treasury’s principal representative at the peace conference at Versailles. He resigned because he thought the Treaty of Versailles was overly burdensome for the Germans. After resigning, he returned to Cambridge to resume teaching. A prominent journalist and speaker, Keynes was one of the famous Bloomsbury Group of literary greats, which also included Virginia Woolf and Bertrand Russell. At the 1944 Bretton Woods Conference, where the International Monetary Fund was established, Keynes was one of the architects of the postwar system of fixed exchange rates (see Foreign Exchange). In 1925 he married the Russian ballet dancer Lydia Lopokova. He was made a lord in 1942. Keynes died on April 21, 1946, survived by his father, John Neville Keynes, also a renowned economist in his day. Keynes became a celebrity before becoming one of the most respected economists of the century when his eloquent book The Economic Consequences of the Peace was published in 1919. Keynes wrote it to object to the punitive reparations payments imposed on Germany by the Allied countries after World War I. The amounts demanded by the Allies were so large, he wrote, that a Germany that tried to pay them would stay perpetually poor and, therefore, politically unstable. We now know that Keynes was right. Besides its excellent economic analysis of reparations, Keynes’s book contains an insightful analysis of the Council of Four (Georges Clemenceau of France, Prime Minister David Lloyd George of Britain, President Woodrow Wilson of the United States, and Vittorio Orlando of Italy).     Keynes wrote: “The Council of Four paid no attention to these issues [which included making Germany and Austro-Hungary into good neighbors], being preoccupied with others—Clemenceau to crush the economic life of his enemy, Lloyd George to do a deal and bring home something which would pass muster for a week, the President to do nothing that was not just and right” (chap. 6, para. 2). In the 1920s Keynes was a believer in the quantity theory of money (today called monetarism). His writings on the topic were essentially built on the principles he had learned from his mentors, Marshall and Pigou. In 1923 he wrote Tract on Monetary Reform, and later he published Treatise on Money, both on monetary policy. His major policy view was that the way to stabilize the economy is to stabilize the price level, and that to do that the government’s central bank must lower interest rates when prices tend to rise and raise them when prices tend to fall. Keynes’s ideas took a dramatic change, however, as unemployment in Britain dragged on during the interwar period, reaching levels as high as 20 percent. Keynes investigated other causes of Britain’s economic woes, and The General Theory of Employment, Interest and Money was the result. Keynes’s General Theory revolutionized the way economists think about economics. It was pathbreaking in several ways, in particular because it introduced the notion of aggregate demand as the sum of consumption, investment, and government spending; and because it showed (or purported to show) that full employment could be maintained only with the help of government spending. Economists still argue about what Keynes thought caused high unemployment. Some think he attributed it to wages that take a long time to fall. But Keynes actually wanted wages not to fall, and in fact advocated in the General Theory that wages be kept stable. A general cut in wages, he argued, would decrease income, consumption, and aggregate demand. This would offset any benefits to output that the lower price of labor might have contributed. Why shouldn’t government, thought Keynes, fill the shoes of business by investing in public works and hiring the unemployed? The General Theory advocated deficit spending during economic downturns to maintain full employment. Keynes’s conclusion initially met with opposition. At the time, balanced budgets were standard practice with the government. But the idea soon took hold and the U.S. government put people back to work on public works projects. Of course, once policymakers had taken deficit spending to heart, they did not let it go. Contrary to some of his critics’ assertions, Keynes was a relatively strong advocate of free markets. It was Keynes, not adam smith, who said, “There is no objection to be raised against the classical analysis of the manner in which private self-interest will determine what in particular is produced, in what proportions the factors of production will be combined to produce it, and how the value of the final product will be distributed between them.”1 Keynes believed that once full employment had been achieved by fiscal policy measures, the market mechanism could then operate freely. “Thus,” continued Keynes, “apart from the necessity of central controls to bring about an adjustment between the propensity to consume and the inducement to invest, there is no more reason to socialise economic life than there was before” (p. 379). Little of Keynes’s original work survives in modern economic theory. His ideas have been endlessly revised, expanded, and critiqued. Keynesian economics today, while having its roots in The General Theory, is chiefly the product of work by subsequent economists including john hicks, james tobin, paul samuelson, Alan Blinder, robert solow, William Nordhaus, Charles Schultze, walter heller, and arthur okun. The study of econometrics was created, in large part, to empirically explain Keynes’s macroeconomic models. Yet the fact that Keynes is the wellspring for so many outstanding economists is testament to the magnitude and influence of his ideas. Selected Works   1913. Indian Currency and Finance. Reprinted in Keynes, Collected Writings. Vol. 1. 1919. The Economic Consequences of the Peace. Reprinted in Keynes, Collected Writings. Vol. 2. 1920. The Economic Consequences of the Peace. New York: Harcourt, Brace, and Howe. Available online at: http://www.econlib.org/library/YPDBooks/Keynes/kynsCP.html. 1923. A Tract on Monetary Reform. Reprinted in Keynes, Collected Writings. Vol. 4. 1925. The Economic Consequences of Mr. Churchill. Reprinted in Keynes, Collected Writings. Vol. 9. 1930. A Treatise on Money. Vol. 1: The Pure Theory of Money. Reprinted in Keynes, Collected Writings. Vol. 5. 1930. A Treatise on Money. Vol. 2: The Applied Theory of Money. Reprinted in Keynes, Collected Writings. Vol. 6. 1936. The General Theory of Employment, Interest and Money. Reprinted in Keynes, Collected Writings. Vol. 7. 1971–88. Collected Writings. London: Macmillan, for the Royal Economic Society.   Footnotes 1. General Theory, pp. 378–397.   (0 COMMENTS)

Lawrence R. Klein received the Nobel Prize in 1980 for “the creation of economic models and their application to the analysis of economic fluctuations and economic policies.” Klein began model building while still a graduate student. After getting his Ph.D. from MIT, he moved on to the Cowles Commission for Research in Economics, which was then at the University of Chicago. While there he built a model of the U.S. economy, using jan tinbergen’s earlier model as a starting point, to forecast economic conditions and to estimate the impact of changes in government spending, taxes, and other policies. In 1946 the conventional wisdom was that the end of World War II would sink the economy into a depression for a few years. Klein used his model to counter the conventional wisdom. The demand for consumer goods that had been left unsatisfied during the war, he argued, plus the purchasing power of returning soldiers, would prevent a depression. Klein was right. Later he predicted correctly that the end of the Korean War would bring only a mild recession. Klein moved to the University of Michigan, where he proceeded to build bigger and more complicated models of the U.S. economy. The Klein-Goldberger model, which he built with then graduate student Arthur Goldberger, dates from that time. But in 1954, after being denied tenure because he had been a member of the Communist Party from 1946 to 1947, Klein went to Oxford University. There he built a model of the British economy. In 1958 Klein joined the Department of Economics at the University of Pennsylvania. He has been a professor of economics and finance at the university’s Wharton School since 1968. During his tenure there he built the famous Wharton model of the U.S. economy, which contains more than a thousand simultaneous equations that are solved by computers. Klein was coordinator of Jimmy Carter’s economic task force in 1976, but he turned down an invitation to join Carter’s new administration. In 1977 he was president of the American Economic Association. Selected Works   1950. Economic Fluctuations in the United States, 1921–1941. Hoboken, N.J.: Wiley. 1955 (with Arthur S. Goldberger). Econometric Model of the United States, 1929–52. Hoboken, N.J.: Wiley. 1966. The Keynesian Revolution. 2d ed. New York: Macmillan. 1975 (with Gary Fromm). The Brookings Model. Hoboken, N.J.: Wiley. 1983. The Economics of Supply and Demand. Baltimore: Johns Hopkins University Press.   (0 COMMENTS)

  The British economist John Hicks is known for four contributions. The first is his introduction of the idea of the elasticity of substitution. While the concept is difficult to explain in a few words, Hicks used it to show, contrary to the marxist allegations, that labor-saving technical progress—the kind we generally have—does not necessarily reduce labor’s share of national income. His second major contribution is his invention of what is called the IS-LM model, a graphical depiction of the argument John Maynard Keynes gave in his General Theory of Employment, Interest and Money (1936) about how an economy could be in equilibrium with less than full employment. Hicks published it in a journal article the year after Keynes’s book was published. It seems safe to say that most economists became familiar with Keynes’s argument by seeing Hicks’s graph. Hicks’s third major contribution is his 1939 book Value and Capital, in which he showed that most of what economists then understood and believed about value theory (the theory about why goods have value) can be derived without having to assume that utility is measurable. His book was also one of the first works on general equilibrium theory, the theory about how all markets fit together and reach equilibrium. Hicks’s fourth contribution is the idea of the compensation test. Before his test, economists were hesitant to say that one particular outcome was preferable to another because even a policy that benefited millions of people could hurt some people. Free trade in cars, for example, helps millions of American consumers at the expense of thousands of American workers and owners of stock in U.S. auto companies. How was an economist to judge whether the help to some outweighed the hurt to others? Hicks asked if those helped could compensate those hurt to the full extent of their hurt and still be better off. If the answer was yes, then the policy passed the “Hicks compensation test,” even if the compensation was never paid, and was judged to be good. In the auto example economists can show that the dollar gains to car buyers far outweigh the dollar losses to workers and stockholders, and therefore, by Hicks’s compensation test, free trade is good. In 1972 John Hicks and kenneth arrow jointly received the Nobel Prize for economics “for their pioneering contributions to general economic equilibrium theory and welfare theory.” Educated at Balliol College, Oxford, John Hicks returned there as the Drummond Professor of Political Economy, a post he held until his retirement in 1965. In 1935 he married the economist Ursula Webb. He was knighted in 1964. Selected Works   1937. “Mr. Keynes and the ‘Classics.’” Econometrica 5 (April): 147–159. 1939. “The Foundations of Welfare Economics.” Economic Journal 49 (December): 696–712. 1939. Value and Capital. Oxford: Clarendon Press. 1940. “The Valuation of the Social Income.” Economica 7 (May): 105–124. 1965. Capital and Growth. Oxford: Clarendon Press. 1973. Capital and Time: A Neo-Austrian Theory. Oxford: Clarendon Press. 1974. The Crisis in Keynesian Economics. Oxford: Basil Blackwell.   (0 COMMENTS)

  Gustav Cassel, a Swedish economist, developed the theory of exchange rates known as purchasing power parity in a series of post-World War I memoranda for the League of Nations. The basic concept can be made clear with an example. If US$4 buys one bushel of wheat in the United States, and if 120 Japanese yen exchange for US$1, then the price of a bushel of wheat in Japan should be 480 yen (4 × 120). In other words, there should be parity between the purchasing power of one U.S. dollar in the United States and the purchasing power of its exchange value in Japan. Cassel believed that if an exchange rate was not at parity, it was in disequilibrium and that either the exchange rate or the purchasing power would adjust until parity was achieved. The reason is arbitrage. If wheat sold for four dollars in the United States and for six hundred yen in Japan, then arbitragers could buy wheat in the United States and sell it in Japan and would do so until the price differential was eliminated. Economists now realize that purchasing power parity would hold if all of a country’s goods were traded internationally. But most goods are not. If a hamburger cost two dollars in the United States and three dollars in Japan, arbitragers would not buy hamburgers in the United States and resell them in Japan. Transportation costs and storage costs would more than wipe out the gain from arbitrage. Nevertheless, economists still take seriously the concept of purchasing power parity. They often use it as a starting point for predicting exchange rate changes. If, for example, Israel’s annual inflation rate is 20 percent and the U.S. inflation rate is 4 percent, chances are high that the Israeli shekel will lose value in exchange for the U.S. dollar. Cassel was a professor of economics at the University of Stockholm from 1903 to 1936. His dying words were, “A world currency!” Selected Works   1921. The World’s Monetary Problems. London: Constable. A collection of two memoranda presented to the International Financial Conference of the League of Nations in Brussels in 1920 and to the Financial Committee of the League of Nations in September 1921.   (0 COMMENTS)

Joseph Schumpeter described Bastiat nearly a century after his death as “the most brilliant economic journalist who ever lived.” Orphaned at the age of nine, Bastiat tried his hand at commerce, farming, and insurance sales. In 1825, after he inherited his grandfather’s estate, he quit working, established a discussion group, and read widely in economics. Bastiat made no original contribution to economics, if we use “contribution” the way most economists use it. That is, we cannot associate one law, theorem, or pathbreaking empirical study with his name. But in a broader sense Bastiat made a big contribution: his fresh and witty expressions of economic truths made them so understandable and compelling that the truths became hard to ignore. Bastiat was supremely effective at popularizing free-market economics. When he learned of Richard Cobden’s campaign against the British Corn Laws (restrictions on the import of wheat, barley, rye, and oats), Bastiat vowed to become the “French Cobden.” He subsequently published a series of articles attacking protectionism that brought him instant acclaim. In 1846 he established the Association of Free Trade in Paris and his own weekly newspaper, in which he waged a witty assault against socialists and protectionists. Bastiat’s “A Petition,” usually referred to now as “The Petition of the Candlemakers,” displays his rhetorical skill and rakish tone, as this excerpt illustrates: We are suffering from the ruinous competition of a foreign rival who apparently works under conditions so far superior to our own for the production of light, that he is flooding the domestic market with it at an incredibly low price…. This rival … is none other than the sun…. We ask you to be so good as to pass a law requiring the closing of all windows, dormers, skylights, inside and outside shutters, curtains, casements, bull’s-eyes, deadlights and blinds; in short, all openings, holes, chinks, and fissures. This reductio ad absurdum of protectionism was so effective that one of the most successful postwar economics textbooks, Economics by Paul A. Samuelson, quotes the candlemakers’ petition at the head of the chapter on protectionism. Bastiat also emphasized the unintended consequences of government policy (he called them the “unseen” consequences). Friedrich Hayek credits Bastiat with this important insight: if we judge economic policy solely by its immediate effects, we will miss all of its unintended and longer-run effects and will undermine economic freedom, which delivers benefits that are not part of anyone’s conscious design. Much of Hayek’s work, and some of Milton Friedman’s, was an exploration and elaboration of this insight. Selected Works   1850. Economic Harmonies. Translated by W. H. Boyers, 1964. Available online at: http://www.econlib.org/library/Bastiat/basHar.html 1845. Economic Sophisms. Translated by A. Goddard, 1964. Available online at: http://www.econlib.org/library/Bastiat/basSoph.html Includes “A Petition.” 1848. Selected Essays on Political Economy. Translated by S. Cain, 1964. Available online at: http://www.econlib.org/library/Bastiat/basEss.html Includes “What Is Seen and What Is Not Seen.” 1850. The Law. Translated by Dean Russell, 1995. Available online at: http://www.econlib.org/library/Bastiat/basLaw.html   Articles by Bastiat in Lalor’s Cyclopaedia: “Spoliation by Law” “Plenty and Dearth” Miscellaneous quotes, discussions, and references (0 COMMENTS)

  Irving Fisher was one of America’s greatest mathematical economists and one of the clearest economics writers of all time. He had the intellect to use mathematics in virtually all his theories and the good sense to introduce it only after he had clearly explained the central principles in words. And he explained very well. Fisher’s Theory of Interest is written so clearly that graduate economics students can read—and understand—half the book in one sitting, something unheard of in technical economics. Although he damaged his reputation by insisting throughout the Great Depression that recovery was imminent, contemporary economic models of interest and capital are based on Fisherian principles. Similarly, monetarism is founded on Fisher’s principles of money and prices. Fisher called interest “an index of a community’s preference for a dollar of present [income] over a dollar of future income.” He labeled his theory of interest the “impatience and opportunity” theory. Interest rates, Fisher postulated, result from the interaction of two forces: the “time preference” people have for capital now, and the investment opportunity principle (that income invested now will yield greater income in the future). This reasoning sounds very much like Eugen von Böhm-Bawerk’s. Indeed, Fisher dedicated Theory of Interest to “the memory of John Rae and of Eugen von Böhm-Bawerk, who laid the foundations upon which I have endeavored to build.” But Fisher objected to Böhm-Bawerk’s idea that roundaboutness necessarily increases production, arguing instead that at a positive interest rate, no one would ever choose a longer period unless it were more productive. So if we look at processes selected, we do find that longer periods are more productive. But, he argued, the length of the period does not in itself contribute to productivity.     Fisher defined capital as any asset that produces a flow of income over time. A flow of income is distinct from the stock of capital that generated it, although the two are linked by the interest rate. Specifically, wrote Fisher, the value of capital is the present value of the flow of (net) income that the asset generates. This still is how economists think about capital and income today. Fisher also opposed conventional income taxation and favored a tax on consumption to replace it. His position followed directly from his capital theory. When people save out of current income and then use the savings to invest in capital goods that yield income later, noted Fisher, they are being taxed on the income they used to buy the capital goods and then are being taxed later on the income the capital generates. This, he said, is double taxation of saving, and it biases the tax code against saving and in favor of consumption. Fisher’s reasoning is still used by economists today in making the case for consumption taxes. Fisher was a pioneer in the construction and use of price indexes. James Tobin of Yale called him “the greatest expert of all time on index numbers.”1 Indeed, from 1923 to 1936, his own Index Number Institute computed price indexes from all over the world. Fisher was also the first economist to distinguish clearly between real and nominal interest rates. He pointed out that the real interest rate is equal to the nominal interest rate (the one we observe) minus the expected inflation rate. If the nominal interest rate is 12 percent, for example, but people expect inflation of 7 percent, then the real interest rate is only 5 percent. Again, this is still the basic understanding of modern economists. Fisher laid out a more modern quantity theory of money (i.e., monetarism) than had been done before. He formulated his theory in terms of the equation of exchange, which says that MV = PT, where M equals the stock of money; V equals velocity, or how quickly money circulates in an economy; P equals the price level; and T equals the total volume of transactions. Again, modern economists still draw on this equation, although they usually use the version MV = Py, where y stands for real income. The equation can be a very powerful tool for checking the consistency of one’s thinking about the economy. Indeed, Reagan economist Beryl Sprinkel, who was the U.S. Treasury undersecretary for monetary affairs in 1981, used this equation to criticize his colleague David Stockman’s economic forecasts. Sprinkel pointed out that the only way Stockman’s assumptions about the growth of income, the inflation rate, and the growth of the money supply could prove true would be if velocity increased faster than it ever had before. As it turned out, velocity actually declined. Irving Fisher was born in upstate New York in 1867. He gained an eclectic education at Yale, studying science and philosophy. He published poetry and works on astronomy, mechanics, and geometry. But his greatest concentration was on mathematics and economics, the latter having no academic department at Yale. Nonetheless, Fisher earned the first Ph.D. in economics ever awarded by Yale. After graduation he stayed at Yale for the rest of his career. A three-year struggle with tuberculosis beginning in 1898 left Fisher with a profound interest in health and hygiene. He took up vegetarianism and exercise and wrote a national best-seller titled How to Live: Rules for Healthful Living Based on Modern Science, whose value he demonstrated by living until age eighty. He campaigned for Prohibition, peace, and eugenics. He was a founder or president of numerous associations and agencies, including the Econometric Society and the American Economic Association. He was also a successful inventor. In 1925 his firm, which held the patent on his “visible card index” system, merged with its main competitor to form what later was known as Remington Rand and then Sperry Rand. Although the merger made him very wealthy, he lost a large part of his wealth in the stock market crash of 1929. Selected Works   1906. The Nature of Capital and Income. New York: Macmillan. 1907. The Rate of Interest. New York: Macmillan. 1911. The Purchasing Power of Money. New York: Macmillan. 1921. “Dollar Stabilization.” Encyclopedia Britannica 30: 852–853. Available online at: http://www.econlib.org/library/Essays/fshEnc1.html. 1922. The Making of Index Numbers. Boston: Houghton Mifflin. 1922. The Purchasing Power of Money. New rev. edition. Available online at: http://www.econlib.org/library/YPDBooks/Fisher/fshPPM.html. 1930. The Theory of Interest. New York: Macmillan. Available online at: http://www.econlib.org/library/YPDBooks/Fisher/fshToI.html.   Footnotes 1. James Tobin, “Irving Fisher,” in The New Palgrave: A Dictionary of Economics Vol. 2. Ed. John Eatwell, Murray Milgate, and Peter Newman. (New York: Stockton Press, 1987), pp. 369–376.   (0 COMMENTS)

  Henry George is best remembered as a proponent of the “single tax” on land. The government should finance all of its projects, he argued, with proceeds from only one tax. This single tax would be on the unimproved value of land—the value that the land would have if it were in its natural state with no buildings, no landscaping, and so on. George’s idea was not new; it was largely borrowed from David Ricardo, James Mill, and John Stuart Mill. In his heyday Henry George was very popular, with his ideas inspiring passionate debate among young intellectuals. After George published Progress and Poverty in 1879, a political movement grew in the United States around his work. He later narrowly missed being elected mayor of New York. Most taxes, noted George, stifle productive behavior. A tax on income reduces people’s incentive to earn income, a tax on wheat would reduce wheat production, and so on. But a tax on the unimproved value of land is different. The value of land comes from two components, its natural value and the value that is created by improving it (by building on it, for example). The value of a vacant lot in its natural state comes not from any sacrifice or opportunity cost borne by the owners of the land, but rather from demand for a fixed amount of land. Therefore, argued George, because the value of the unimproved land is unearned, neither the land’s value nor a tax on the land’s value can affect productive behavior. If land were taxed more heavily, the quantity available would not decline, as with other goods; nor would demand decline because of land’s productive uses. By taxing the whole of the value of unimproved land, the government would drive the price of land to zero. George was not simply trying to design a system of taxation devoid of untoward consequences; he felt that virtually all economic problems arise from “the fact that the land on which and from which all must live is made exclusive property of some.” His goal was nothing less than to make all land common property, but he realized that, “[i]t is not necessary to confiscate land; it is only necessary to confiscate rent.” George was right that other taxes may have stronger disincentives, but some economists now recognize that the single land tax is not innocent, either. Site values are created, not intrinsic. Why else would land in Tokyo be worth so much more than land in Mississippi? A tax on the value of a site is really a tax on productive potential, which is a result of improvements to land in the area. Henry George’s proposed tax on one piece of land is, in effect, based on the improvements made to the neighboring land. And what if you are your “neighbor”? What if you buy a large expanse of land and raise the value of one portion of it by improving the surrounding land. Then you are taxed based on your improvements. This is not far-fetched. It is precisely what the Disney Corporation did in Florida. Disney bought up large amounts of land around the area where it planned to build Disney World, and then made this surrounding land more valuable by building Disney World. Had George’s single tax on land been in existence, Disney might never have made the investment. So even a tax on unimproved land can reduce incentives. As certain as George was that “the value of land can always be readily distinguished from the value of improvements,” he was aware that over a long period some improvements blend with the natural state of the land and can be “considered part of the value of that land.” George was also aware that “[a]bsolute accuracy is impossible in any system, and to attempt to separate all that the human race has done from what nature originally provided would be as absurd as impracticable.” Frank Knight argued that the entire value of land is the value of its improvements because of a need to discover it and bring it into production. Zachary Gochenour and Bryan Caplan have pointed out that while the surface value of land is more apparent, especially for farming purposes, many lands have hidden natural resources, such as gold, water, and oil. These resources require investment on the part of owners to discover and produce. “Information about the land can be considered an improvement in its own right.” To tax the entire, or even a large, value of the mineral resources would create enormous disincentives for exploration and production.1 Objections aside, Henry George may have been arguing for what is really the least offensive tax. As Milton Friedman said almost a century after George’s death: “In my opinion, the least bad tax is the property tax on the unimproved value of land, the Henry George argument of many, many years ago” (Mark Blaug. Economica, New Series, 47, no. 188 [1980] p. 472). Henry George was also a passionate advocate of free trade and opponent of protectionism. He saw clearly that protectionism is a misleading term for barriers to trade and identified whom “protectionism” hurts. George wrote: To every trade there must be two parties who mutually desire to trade, and whose actions are reciprocal. No one can buy unless he can find some one willing to sell; and no one can sell unless there is some other one willing to buy. If Americans did not want to buy foreign goods, foreign goods could not be sold here even if there were no tariff. The efficient cause of the trade which our tariff aims to prevent is the desire of Americans to buy foreign goods, not the desire of foreign producers to sell them. Thus protection really prevents what the “protected” themselves want to do. It is not from foreigners that protection preserves and defends us; it is from ourselves. (Henry George 1980, Protection or Free Trade, pp. 45–46) About the Author Charles L. Hooper holds an M.S. in engineering-economic systems from Stanford University and is a visiting fellow with the Hoover Institution. He is president of Objective Insights, a consulting company. Selected Works   1879. Progress and Poverty. 1912 ed. Garden City, N.Y.: Doubleday, Page. Available online at: http://www.econlib.org/library/YPDBooks/George/grgPP.html. 1886. Protection or Free Trade. 1905 ed. New York: Doubleday, Page. Available online at: http://www.econlib.org/library/YPDBooks/George/grgPFT.html   Footnotes 1. Zachary Gochenour and Bryan Caplan, “A Search-Theoretic Critique of Georgism, February 4, 2012”, online edition http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1999105.   (0 COMMENTS)