Friday, August 14, 2009

The Broken Window, Revisited

Shikha Dalmia on the "Cash for Clunkers" plan:
[It] involves restoring the economy by destroying wealth and healing the environment by destroying resources. By this logic, we should use the stimulus money to fund a new Godzilla brigade to mow down the country and rebuild it in a more environmentally friendly way. Imagine how much richer and cleaner the planet would be.
Dalmia is slyly evoking Frederic Bastiat's classic Parable of the Broken Window, which goes something like this:

One morning, a shopkeeper discovers a young hooligan has thrown a brick through his storefront window. He calls a glazier, but it will take a couple of days to replace the glass. In the meantime, he brings in an extra employee to watch the shop while he goes to a hardware store for plywood to cover the gape. Two days later, the glazier replaces the window.

Adding up the costs, the broken window was responsible for providing income to the glazier ($80), the shopkeeper's employee ($15), and the hardware store owner ($5). Their gains will now be passed on to other businesses--department stores, gas stations, groceries. Thus, the broken window was a boon, since it provided $100 of "economic stimulus."

Not exactly. It's easy to see the $100 of economic activity that resulted from the broken window. Unfortunately, it's not so easy to see the $100 golf club set the shopkeeper was going to buy, which he now has to forgo. Had the hooligan not thrown the brick, the shopkeeper would have had his window and the golf clubs. Replacing the window returns the shopkeeper to his status quo. Nothing has been gained.

This is the story of "Cash for Clunkers." Many of the cars traded-in would have been traded anyway. But under the CFC rules, the engines of the cars are "euthanized," to make them unusable. In other words, not only are we subsidizing exchanges that already would have happened, but we're also destroying wealth.