Further, our investigation has found that top pay is a symptom of market failure based on a misunderstanding of how markets work at their best.

Markets work at their best when people can trade freely.

Within companies, fair pay matters. It affects productivity, employee engagement

If it is true, free markets will discover it. The best performing companies will be the ones with the fairest pay. No commission needed.

and trust in our businesses.

This is a matter for the customers. In a free market, if they don’t trust a business, they don’t have to do business with it.

Pay in publicly listed companies sets a precedent;

That doesn’t make any sense. Pay is the result of negotiations in a free market; A’s pay is not influenced by B’s: both are affected by the presence of A and B negotiating in the market.

when it is patently not linked to performance, or rewards failure

In a free market, no-one is rewarded for failure. By definition, no-one voluntarily pays for something they do not want.

it sends out the wrong message

It is not a message. It is a transaction between private individuals.

and is clearly a symptom of a poor functioning market.

If people are paying for things they don’t want, then they cannot be doing so voluntarily, so yes, the market would be performing poorly. But the High Pay Commission does not agree with the decisions on pay that are voluntarily made.

In addition, high levels of inequality in income contribute to sectoral imbalances, regional disparities and asset bubble inflation.

Where to start? Inequality is measured wrong, anyway. Wealth is not proportional to money. The top 1% might have diamond encrusted watches, but a cheap Casio still tells the time. I don’t know what a sectoral imbalance is, but it’s probably to do with teachers getting smaller pay rises than the CEO of BP. In a free market, the top teachers might well get pay rises as big as the top executives. But then they’d be in the same sector. Regional disparities are probably caused by a combination of planning regulations and the plain fact that productivity increases with population density. Asset bubble inflation is caused by government policy that props up asset bubbles, like bailouts and manipulation of interest rates. None of this has bugger all to do with the CEO of BP’s £4.5m salary which, frankly, doesn’t even sound all that much.

I’m exhausted, and goes on like this for 65 pages.

Oh, here’s an enlightening quote:

“You have to realise: if I had been paid 50% more, I would not have done it better. If I had been paid 50% less, then I would not have done it worse.” –
Jeroen van der Veer, Former CEO of Royal Dutch Shell

This is probably true, and completely irrelevant. If they’d been prepared to pay 50% more, they could have hired someone else who was better.

For any society that prefers more goods and services to fewer goods and services, a high savings rate and low interest rates are certainly desirable, as these two will help build and maintain the capital stock that allows for high-productivity production processes. Yet, it is also clear that any attempt to force interest rates lower through market intervention is dangerous and ultimately futile. Low interest rates are of no use but, indeed, harmful if they do not correspond with the population’s time preference. If the government of a poor country managed to artificially lower the interest rates on the loan market with the aim of encouraging borrowing, investing, and the expansion of a wealth-enhancing capital stock, they would certainly not do their population any favors. The low rates would cause the reallocation of scarce resources away from where they help meet present consumption needs to where they will deliver future and better and cheaper goods. However, the time preference of the population is still high. Meeting the needs of the present is still a priority, and only higher interest rates will communicate these preferences correctly and ensure the appropriate use of resources. In an extreme scenario, we could imagine people having to go without food, clothes, or shelter while resources get shifted to building factories and office buildings.

Schlichter also shows how fractional reserve banks can reduce interest rates to encourage people to take out loans. This is how they decrease their reserve ratios, creating money.

in order to expand their loan business, fractional-reserve banks lower the interest rate on new loans and, as more loans are extended, bring new money into existence. Since the effect on the loan market is identical to an increase in voluntary savings, the entrepreneurs who take up the extra funds and invest them have no way of distinguishing one from the other.

So entrepreneurs, encouraged by all this cheap credit, invest in new projects. This applies particularly to marginal projects that would not be viable at a higher interest rate. These projects are likely to fail when demand fails to materialise and prices start to rise as a result of the new money creation.

What I don’t understand is how this fits in with the current situation. We are told that banks are not lending enough money and no-one is investing. And yet interest rates couldn’t be much lower. What is the missing part of the picture?

GDP is all well and good as a measure of productivity if it adds up all the values of the voluntary transactions. This is because any voluntary transaction must increase the wealth of both participants, otherwise they would not have volunteered for it.

But GDP also includes involuntary transactions, and these do not increase wealth. If they did, people would volunteer for them.

So let’s sort out the semantics: Let vGDP stand for the value of all voluntary transactions. Let GIT stand for “gross involuntary transactions”. Let GDT stand for the value of all transactions. This is what is popularly called GDP. Then:

GDT = vGDP + GIT

Rearranging:

vGDP = GDT – GIT

If the government increases taxes, all other things being equal, productivity is reduced.

It might be useful to measure vGDP.

Of course, when politicians fixate on something they can measure and try to improve it, they lose sight of what it is the measure means. So school targets result in a tendency for students being taught only to pass exams; crime targets result in police tending to investigate only the easiest to solve crimes.

And GDP targets result in money printing to boost GDP figures. But:

It will lift GDP statistics temporarily, never lastingly. It will not lead to a better use of resources, to better human cooperation in markets. It will not lead to innovation, creativity, or more entrepreneurship. It is a trick that the money producer plays on the economy for short-term effect, and it cannot increase the efficiency and productivity of the economy.

So says Detlev Schlicter in part two of his book Paper Money Collapse.

That’s because when new money is created its recipients spend it on goods and services, which increases the number of transactions and therefore GDP. But there aren’t really any more goods and services being produced. The economy hasn’t really grown. The recipients of the new money spend it, and the people they give it to spend it, and so on until prices start to rise, as they must because there is demand but no more supply, which causes the demand for money (as opposed to goods and services) to rise, so that the holders of the new money start to hold onto it, instead of spending it. Everyone whom the money has not yet reached is faced with rising prices but no new money.

The other way governments seek to increase GDP is by government spending, or to put it another way: involuntary transactions. These don’t create wealth in the way voluntary transactions do, because if someone takes your money by force, then buys you something they think you would like, it’s not likely to be something you really want. It *might* be, by pure chance, but it’s unlikely, so on average involuntary transactions don’t create wealth.

Paying one man to dig a hole, and another man to fill it in again increases GDP but doesn’t create wealth (and no-one would do this voluntarily, though it might make a nice government make-work scheme). Paying men to build a bridge might create some wealth by improving the transport infrastructure (which is seen), but if you’ve taken money by force to pay for it, then you’ve taken money that people would have preferred to have spent on something else (unseen). Something that would have created even more wealth than the bridge.

So if people say the government should not fixate on GDP, they are right, if probably for the wrong reasons. Growth as measured by GDP is only growth if it was caused by voluntary transactions. The only real growth is a growth in voluntary transactions. The best way a government can increase real growth is to increase the number of voluntary transactions which it can do by decreasing the number of involuntary ones, by cutting government spending.

A problem with social contract theories that allow taxation (and other forms of institutionalized conscription) in the name of some collective good is that they purport to bind people not yet able to participate in the decision-making process (future generations). This is especially pernicious when future resources are allocated for current consumption through government debt and deficit spending. Generational indentured servitude is incompatible with personal liberty, and it’s just one of the milder consequences of collectivist philosophies.

It really is that simple. So why do ministers and intergovernmental organisations struggle with it so much?

We’re tired of picking up the bills for other people’s kids. We already pay millions every year in school taxes.

— Lindsay Naegle

You can’t change the rules in the middle of the game! We never would have had these kids if we thought we had to pay for them. Promises were made!

— Homer Simpson

The Simpsons: Season 15 Episode 8

If I had a chance from birth of living in a competitive environment, based on hierarchical ranking, acording to ‘public achievement’, or a more cooperative one in which everyone thought more about the welfare of each other rather than themselves, based on ‘personal fulfilment’, I know which one I’d prefer.

What about you?

I think this explains a lot about why people find socialism appealing. They want to live in a village from a children’s story, with the postman always helping out the baker. They want to live in Happyland. But they forget that human nature makes this impossible, so they get into all kinds of trouble trying to bend human nature.

It is possible for people to co-operate and think about each other’s welfare. Families, groups of friends and even companies do it all the time. But it does not scale. It is not human nature to care very much about the welfare of someone in another city you’ve never met. You might say you care, but are you willing to sacrifice a family holiday for a random stranger?

The Spirit Level is not a book about places where people are co-operative and care about each other’s welfare. On the contrary, it describes societies where wealth is redistributed by force.

If people really cared more about the welfare of strangers than their own, you would not need the force. Wealth has to be redistributed through taxation, that is to say by threatening to put people in prison unless they pay money to the government. Since they’re not doing it voluntarily, it’s safe to presume that the people who are net payers into the system either resent it, or have been persuaded that they are really paying into a fund that will at some point in the future benefit them personally, or otherwise do not understand what is going on.

It’s not sounding much like Happyland.

So what really happens when people are forced to “co-operate” and “care” about each other’s welfare? Human nature is revealed: people follow the incentives in front of them. If I find that I have to do twice as much work to earn 50% more, I am likely to decide that it’s not worth it. So you lose some of my productivity. What you get from me will be less than my ability could provide.

If people find their needs are met without any effort, they’ll take that deal; it would be irrational not to. But it’s not a very satisfying existence, so you end up with lots of unemployed, unemployable people causing trouble, and the productive people resenting them. After all, people know what is fair. If half of your earnings are taken away so that a stranger can live in a big house for free, it’s not fair.

So perhaps if Happyland was on offer, I would choose to live there. But it’s not. Attempts to force Happyland into existence invariably end up like the Twentieth Century Motor Company of Starnesville, Wisconsin. Everyone might be equal, all right, but they’re a lot poorer and not too happy about it.

Now you might be getting the impression that I take a dim view of human nature. Far from it. If people are left to their own devices; if they stand by their own achievements; if they are not faced with perverse incentives such as being better off by not working; then they are resourceful, they co-operate, and they help each other. It’s much easier to help someone if you know him personally, and you can decide for yourself whether or not to help him based on your own judgement of his merits. You’ll do it willingly.

If you know you can work twice as hard and reap all of the benefits, you’re more likely to do so and your productivity will be of value to others. The generally increased productivity means people are richer.

If you know that your choices are to work hard to feed and house yourself, or to go cap in hand to your family, friends and neighbours, you will work hard. And if you fail, people will see that you tried and will help you. That’s human nature too.

It’s the Happylanders who think that freedom equals chaos who have a dim view of human nature.

So I’ll take the competetive environment, thanks. I’m a net producer, so I already know I’d do well in it. And given the chance, I’ll look after me and mine, and they’ll look after me.

Why do they answer like that? Surely you must do *something* in the civil service? Are you a tax inspector and don’t want to admit it in front of strangers, or do you do something utterly mundane and think that civil servants command respect? Or perhaps the explanation is mundane and your job is a bit hard to explain and it’s easier to be vague.

In any case, “did you go on strike?” asks the fireman. Apparently, the civil servant has to reapply for her job, and either had a day off to do that or had to go somewhere else to do it, because whatever it was that needed to be done, she chose to do it on the day of the strike. “Because I didn’t want to cross the picket line, but I didn’t want to lose a day’s pay either.”

“It’s terrible isn’t it?” says the fireman. “Something has to be done.”

“The MPs are riding roughshod over everyone,” says the civil servant. “*They* get better pensions than us. I wish I had gone on strike. I wouldn’t mind doing anything to annoy that lot.”

It really is another world.

I held my cool, only for my wife’s sake, really. I have no particular desire to be friends with such people. But if I was to say:

Reapplying for your job is par for the course in the private sector. We don’t get nice final salary pensions, either. And frankly, it sounds like you civil servants are riding roughshod over everyone, and perhaps the MPs are, for once, representing people like me who have to pay for your pensions. But they’re not going nearly far enough. There’s no money to pay for you any more. Taxes could be increased, but it would not increase revenue because we have reached the point where production is retarded enough by a tax to more than cancel out the benefit. The government is borrowing £5000 per household per year, and this cannot continue, partly because the people doing the lending are about to realise they will never get paid back. So I wish you would lose your job and go and do something that doesn’t cost me quite so much money.

If I were to say that, I would be considered a very bad and mean person and no longer welcome at the social gathering. And yet, I’m not the one whose income depends on violence against others.

The only way this state of affairs has come about is through euphemisms like “civil servant” and “tax”, and the failure of pretty much everyone to think properly.

He was jokingly persuading listeners to give breakfast show team members £200,000 each if they won the lottery. (With 8 million listeners someone is bound to win!) Then someone pointed out that they would only get £120,000 after tax.

…and the taxman goes [knock knock knock] “I think you’ll find a little bit of that belongs to me.” How does that work? He’s not done anything for it.

I have recorded the segment to MP3.

Now Moyles is a kind of man-in-the-street sort of character as far as views on this sort of thing go. So this could be considered what the man in the street thinks about tax. Most people would probably agree. So why don’t they follow opinions like this through to their logical conclusion?

Explains Andrew House from Sony:

“I think we need to do a better job of explaining issues around sales tax as well. The fact of the matter is the UK price will have 20 per cent VAT included in that, the US price by contrast in LA is without the sales tax included.

If you’re buying it in California you can add another 9 per cent thanks to Arnold Schwarzenegger.”

The 3G version of Vita has an estimated UK price of £279 of which a whopping £46.50 is tax.

I’d like to see more of companies saying this. The worst thing about UK VAT is that it is hidden.

Which strikes me as a pretty odd state of affairs. Imagine a business complaining of too many customers.

Anyway, I pointed out that this is a problem with “free” at the point of use health care. The flip-side is people not going to the doctors’ because they worry they’ll be wasting his time. I’ve certainly had this experience myself, where I’ve visited the doctor in the hope of getting stronger allergy medicine and left feeling like I have burdened him unnecessarily. The treatment you generally get from the receptionists boils down to the same thing. It’s more, “what are you doing here taking up space in my surgery?” than “how can I help you?”

At least with a vendor/customer relationship everyone knows where they stand. People will visit the doctor when they think the urgency of the situation outweighs the cost. The doctor will be pleased to see you whatever you are there for. 7% more customers would mean 7% more profit, not 7% more problems.

Someone replied wondering what would happen if there wasn’t an NHS, and you became seriously ill, unable to work, and therefore unable to afford treatment.

My answer is that that’s what families and communities are for. Previously such problems have been solved by friendly societies, or church congregations. Or you would have to rely on your family.

There was some discussion about whether this is a realistic notion in this day and age. There is no such thing as community, and who wants to look after ailing family members?

I think there is still community, it’s just that people are more dispersed because of modern transportation and telecoms. Your circle of close friends is your community.

But to the extent that community has been devalued, it’s probably a consequence of spending 60 years telling people they can rely on the state to provide for them: why go to the effort of being nice to your neighbours when the government will send round a nurse to look after you? I think when conservatives talk about family and community, this is what they mean, not any “Big Society” nonsense.

Similarly, no-one wants to pay for their friends’ operations. But why don’t they? It’s because the government does it for them. The expectation is there so they don’t save for the eventuality. And the high taxes don’t help with this, either.

But even if you don’t agree and think that the NHS is necessary, you have to accept that if you offer a service at no cost, there will inevitably be more demand than you can cope with.

Anyway, this bit got a folded corner, from the chapter ‘Is Electricity Fire?’. In the early 1950s Feynman gets invited to a conference on the “ethics of equality”.

There was a special dinner at some point, and the head of the theology place, a very nice, very Jewish man gave a speech. It was a good speech, and he was a very good speaker, so while it sounds crazy now, while I’m telling about it, at that time his main idea sounded completely obvious and true. He talked about the big differences in the welfare of various countries, which cause jealousy, which leads to conflict, and now that we have atomic weapons, any war and we’re doomed, so therefore the right way out is to strive for peace by making sure there are no great differences from place to place, and since we have so much in the United States, we should all give up nearly everything to the other countries until we’re all even. Everybody was listening to this, and we were all full of sacrificial feeling, and all thinking we ought to do this. But I came back to my senses on the way home.

The next day one of the guys in our group said, “I think that speech last night was so good that we should all endorse it, and it should be the summary of our conference.”

I started to say that the idea of distributing everything evenly is based on a theory that there’s only X amount of stuff in the world, that somehow we took it away from poorer countries in the first place, and therefore we should give it back to them. But this theory doesn’t take into account the real reason for the differences between countries — that is, the development of new techniques for growing food, the development of machinery to grow food and to do other things, and the fact that all this machinery requires the concentration of capital. It isn’t the stuff, but the power to make the stuff, that is important. But I realize now that these people were not in science; they didn’t understand it. They didn’t understand technology; they didn’t understand their time.

Feynman does not say these things because of party politics: he has looked at the world and this is how it works.

For beans I went to Has Bean. This is an internet roasting company. They source quality coffee from all over the world, and ship it out to customers the day they roast it. So you get freshly roasted coffee in the post. As far as I know, you can’t get coffee like this in supermarkets. Supermarkets sell whole bean coffee, but it’s bog standard coffee for the masses and it was roasted whenever. Most people think they are getting good coffee but they are buying pre-ground coffee in fancy packaging. It’s not the real deal. The point is it’s a different market: coffee geeks want something a bit special, while your average supermarket shopper is likely to think that splashing out on some slightly more expensive Fairtrade coffee is a good idea.

The man behind Has Bean, Steve Leighton, has other ideas about Fairtrade. He has written an article about why Has Bean do not carry Fairtrade coffees, and a review of the documentary Black Gold, both highly critical of the Fairtrade organisation. His arguments seem to boil down to:

• Fairtrade spend a lot of money on advertising, swanky offices, armies of administrative staff and highly paid executives, which is perfectly acceptable in itself but undermines the idea that Fairtrade is all about helping poor farmers.
• Fairtrade projects the idea that the Fairtrade brand is the only way a farmer can get a good deal: which is not true. They usually get better deals from speciality buyers like Has Bean who pay more for a higher quality product.
• There are no quality checks: Fairtrade coffee charges the buyer a premium for inferior coffee.
• The farmer is not paid enough to be able to invest and increase the quality of his beans, which is not good for him or you.
• Fairtrade does not offer a particularly good price. The retail premium is much greater than the premium that goes to the farmer. The minimum price Fairtrade offer is actually quite low, only enough to subsist on, and much lower than the prices that speciality buyers like Has Bean pay.
• When the market price of coffee goes above the Fairtrade price, farmers can end up tied to the lower Fairtrade price.

This is all interesting because I too have complained about the idea of fair trade. My angle is different: free trade is fair. My bullet points look like this:

• If the price of coffee is too low for people to make a living at it, there is probably a good reason, such as that supply of coffee outstrips demand. There is too much coffee.
• The fair trade movement inflates prices, thereby stimulating extra supply of something which there is already too much of.
• The fair trade movement detracts from the real problem, which is that trade tariffs prevent farmers in poor countries from exporting other crops. They are effectively forced to be coffee farmers even when the coffee price is low.
• Fair trade people are socialists, and only deal with co-operatives, and I have heard anecdotally that family run farms can end up having to join co-operatives to get the fair trade deals they think they need.

On the face of it, Steve and I don’t have much in common. He is a practical guy with the perspective of a speciality coffee roaster; I am a philosophical bloke with a libertarian outlook. But wait a minute. Steve writes:

An issue recently brought to my attention by a member of the trade, is that the commodity markets are the seller’s and buyer’s last resort. Coffees that end up on the commodity market are the surplus of over-production, beans which just aren’t good enough to sell to the speciality market (believe me if they could, they would sell to the speciality market, as this can mean as much as double the price).

So yes, there is too much coffee being produced. That’s why it is a cheap commodity. And Steve’s business is free trade in action. People want good coffee. Has Bean has direct relationships with farmers all over the world. They go out there, talk to the farmers, see how the farm operates and make deals based on the quality of the coffee.

Steve also talks about why it’s not a disaster for people to go out of business, which happens when trade is free:

For instance, in business, if a trader cannot cover costs, then it’s only a matter of time until the bank forecloses and the business is no more. This happens every day all around the world, but we need to look at why this happens. For example, the trader has a product no one will pay the wholesale price for, or, his product is not of a high enough quality to satisfy the market place.

In other words, if you can’t make good enough coffee to get a good price, your time would probably be better spent doing something else. Of course, it would help if you had a wider variety of things to choose from, which is where my criticism of trade tariffs comes in.

The other interesting thing about companies like Has Bean is that they illustrate the power of technology to make people richer: I can buy coffee from an obscure farm in Africa thanks to the power of the Internet. There are hardly any middlemen. Middlemen are always useful, of course, but the Internet removes the need for so many of them, which is a good thing. My middleman roasts the coffee for me. But I suspect the days of ordering green beans direct from farmers are not far away.

So between Has Bean and the internet we have half the solution to the problem of low coffee prices: I can buy non-commodity coffee. The other half of the problem is to get rid of daft injustices like the EU common agricultural policy, so that when coffee farms fail, they can profitably farm something else instead.

By the way, Steve Leighton is highly prolific. Have a look at his blog for more insight into coffee and the coffee market.

It is not from the benevolence of the butcher, the brewer or the baker, that we expect our dinner, but from their regard to their own self interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our own necessities but of their advantages.

So said Adam Smith. And it’s just so self-evidently obvious.

And yet tonight on Question Time, everyone agreed that the absolute worst thing that could happen to the NHS was for private companies could get involved and do things for profit.

People are strange.