'The Economic Naturalist's Field Guide'

Classic economic models often fail in explaining real life. Economist Robert Frank knows why economists make bad calls. In his new book, The Economic Naturalist's Field Guide, he explains why real life often defies theory.

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NEAL CONAN, host:

This is TALK OF THE NATION. I'm Neal Conan in Washington.

Economic theory predicts that nobody would ever vote, hockey players wouldn't wear helmets, and if you found a wallet on the street, you'd keep it. Classic economic models assume that self-interest overrides every other motive, that there is no payback for casting a ballot, that competitive advantage would outweigh safety on the ice rink and that a rational actor would take the cash and toss the wallet. Economist Robert Frank disagrees and he joins us now from our bureau in New York. Nice to have you with us today.

Professor ROBERT FRANK (Economist; Author, "The Economic Naturalist's Field Guide"): Nice to be back, Neal.

CONAN: And wouldn't most people who find a wallet on the street just pocket the money?

Prof. FRANK: Some would, yes, and that's what the narrow self-interest model that we economists have always relied on predicts. But the fact is about half of the people who find wallets stand in line at the post office and mail them back to the owner, usually anonymously, no expectation of reward. So, it's glass half full or glass half empty, your pick.

CONAN: And that disconnect between theory and actual human behavior, you argue is one of the reasons economists are held in such low regard.

Prof. FRANK: I think we are right lots of the time, we offer good arguments, but there are so many occasions when our models seem, just to the average person, transparently unrealistic. And when we're wrong on those occasions, I think we really squander our credibility.

CONAN: Robert Frank teaches economics at Cornell and we also want to hear from you today. Are there examples in your life that defy economic theory and make you skeptical of economists? Our phone number (800) 989-8255, email us talk@npr.org. You can also join the conversation at our Web site, that's at npr.org. Click on TALK OF THE NATION. Later in the program, we want to hear about the word that you flubbed in the spelling bee. You can email us now at that same address: talk@npr.org. But let's get back to Robert Frank, who teaches economics at Cornell. He is the author most recently of "The Economic Naturalist's Field Guide: Common Sense Principles for Troubled Times." And Robert Frank, you write in your book that when searching for examples that contradict the predictions of standard economic models, a good rule of thumb is to start in France.

Prof. FRANK: It works for me. I spent a sabbatical in France earlier in this decade, and one of the experiences I'll never forget was a transaction I had with a local wine merchant. It was almost Thanksgiving and I was shopping for some champagne, we had friends coming over and so he proudly told me about a bottle that was from a good producer on sale for only 18 euros. It had been normally priced at 24 euros. He was sure I would like it, so I was all set to buy. And then I asked him, could he recommend a bottle of cassis. I knew some of our friends would want a Kir Royale, a cherry liqueur mixed with champagne.

He said oh, well, in that case, you won't need any good champagne. Once you mix cassis in with it, nobody will know the difference whether it's high quality or not. Oh. In that case, what would you recommend? I asked him. And he said he had just the one to bring out, and he brought one out that was not on sale, it was selling for 20 euros and he recommended it. So my choice then was between buying the premium one, on sale for 18 euros and the lesser one for 20 euros. I looked at him, I said, I thought I knew the answer to the question but I asked him would the Kir Royal taste worse if we made it with a premium champagne.

(Soundbite of laughter)

CONAN: The good champagne.

Prof. FRANK: And he seemed dumbfounded that here is this barbarian American asking such a question. He says, well, no, of course not, and so I ordered the good champagne and I could just tell he was rolling his eyes as I left the store, as here is another guy who just doesn't get it. You're not supposed to waste the good champagne on the stuff with cassis in it.

CONAN: So, the aesthetics of the French wine merchant overruled, in this case, the Homo Economis.

Prof. FRANK: That's right. The economic model predicts clearly you will go with the cheaper one and that's what I did. But their system makes a certain amount of sense if you are looking to make the best use of the champagne overall; it'll be put to better uses if you follow their system.

CONAN: Yeah, but efficiency. There's lots of arguments amongst economists over efficiency and it seemed to me by getting the lower-priced premium champagne, you are being more efficient.

Prof. FRANK: Yeah. I think from my perspective, it was a clear choice. The nice thing is, sometimes individual interest is in conflict with group interest; that was an example. If you can figure out schemes to get individuals to set their own interests to one side, often the whole society can do better. Whether they had a realistic scheme for doing that, I don't know. It wouldn't work in the U.S., I'm sure, to do it the way they were doing it. But we do look for schemes and sometimes moral norms, social norms are how we get people to set aside their own personal interests for the greater good. You mentioned the returning of wallets that people find. You know, people don't do that because it's the narrowly self-interested thing to do. They do it because they feel that's what they should do.

CONAN: And interestingly, you make an argument about the hockey players and helmets. There is a marginal competitive advantage to not wearing a helmet. You can see a little bit better, you can hear what's going on a little bit better. So, if there weren't any regulations, there will be some certain percentage of hockey players who would not wear helmets, even though it's not safe. Yet they secretly rule - root for regulations so that they can all be safer.

Prof. FRANK: They'll vote unanimously in a secret ballot for a rule requiring helmets. That was always the mystery. Tom Schelling, the Nobel Laureate in 2005, said if helmets are so great, why don't you just wear them. And he thought it through and reasoned that well, if it's individually advantageous to take them off for the reasons you suggest, then of course individual players will do it. Then the other side is going to match, they don't want to fall behind. So you've got an equilibrium where everybody is skating without a helmet. That's not good. Nobody has a competitive advantage and so it's easy to see why each side would favor a rule requiring helmets. You can't just put a notice in the locker room saying you might get hurt if you don't wear one. You really do need a rule.

CONAN: I guess the competitive advantage in that situation goes to the dentist.

Prof. FRANK: Exactly.

CONAN: Let's see if we can get some callers on the line. We are looking for examples, stories from your life where what might be predicted by classic economic theory is - it's not really the way real life works out. Give us a call. 800-989-8255. Email us, talk@npr.org. And Bob is on the line. Bob calling us from I-90 in South Dakota.

BOB (Caller): Oh, good morning. Or good afternoon. I just wanted to put forward a idea that a lot of rural people, in rural America, farmers, traditionally allow people to come onto their land and hunt without cost. And in recent times, there has been some movement towards charging people to hunt on private lands. And the area where we live, that's - that really goes against the grain. And my wife who is not from the area, we own a small farm of about 350 acres, she says why do you let these people hunt on the land for free when you could be charging somebody to come out and deer hunt or whatever the case might be? And I simply tell her that I couldn't stand the embarrassment of facing my neighbors with them knowing that I'd actually charged people to hunt on our land. So I think that there's concepts beyond just economics, social relations between individuals and in communities that rational actions are not always going to be what would be considered to be rational by an economist.

Prof. FRANK: Yeah. That's a great example and I think it's really an example of the favor bank and how it works in areas where people know one another well. So, you know, you take your friend to the airport, he takes you to the airport on some other occasion. You don't charge one another for this service. I mean it all evens out, roughly speaking, in the long run. I help you, you help me, we are all better off as a result of that. And I think that's the way communities have always functioned.

CONAN: Bob, let me ask you a question, though. If there are deer on your property, presumably it's a good thing. You'd prefer that somebody hunt them in season rather than they eat your crops. So, having them come on for free might be an economic advantage.

BOB: Well, but you would get more hunters if you were advertising to bring people on because what we're at, it's trophy buck, whitetail country and you could get a lot of money for having people come on and hunt deer. What we simply do is when the neighbors ask if they want to hunt or if we want to hunt, we just stipulate, well yes, but if you can, shoot a doe besides shooting a buck and shoot one, and shoot many until your tags, but the idea of having - of charging somebody to do it just kind of goes against, just totally against the way you are raised and how you treat your neighbors and how you view and utilize your land.

CONAN: Bob, thanks very much.

BOB: Thank you.

CONAN: Bye-bye, and let's get back to the other example, Robert Frank, that we mentioned at the beginning, casting ballot for president of the United States. The example you give in your book is that well, everybody thinks that one ballot, one vote for or against somebody, is not really going to make any difference.

Mr. FRANK: It might in a local election. There are plenty of examples where one vote has tipped the balance, but if you're talking about a presidential election in the United States, there the electoral votes are awarded on a statewide, winner-take-all basis in most cases, and there's never, ever been a case where a state has been decided by one vote. It could happen in principle, but we'll all live out our natural lives and never see it happen. And so…

CONAN: We're not going to mention the Minnesota Senate race here, but…

Mr. FRANK: The Minnesota Senate race is not going to end up being decided by one vote.

CONAN: By 312, but...

Mr. FRANK: It was as close as could be, but not one vote. So if anybody had stayed home that day, the outcome would have been the same. That leads economists to predict that since your vote won't be decisive, and since it's costly to go to the polls, then people won't bother, and again, half of them do stay home. So the prediction isn't completely full of hot air, but half of them do vote. And we don't have an explanation for that other than to say we encourage people to do their citizen's duty. We think we'd rather live in a society where people took voting seriously and took the effort to do it.

CONAN: And it's simply that interest in - that civic pride, and that interest in the outcome that you think motivates people to do it?

Mr. FRANK: I think that's most of it. There have been studies that show that if it's a close election, people are more likely to turn out. If the issues are emotional, people are more likely to turn out. You know, it's all as if it were a small-scale election where one vote might matter. The kinds of things that you would expect to matter matter still at the larger-scale elections.

CONAN: And economists - when you try to apply common-sense principles to economics, there's some resistance.

Mr. FRANK: There is. I think we'll look back 100 years from now and reject the idea that Adam Smith really laid the groundwork for modern economics. That's the conventional view now. I think when we look back 100 years from now, we'll recognize that it was really Charles Darwin who laid the foundations for our discipline.

He had a very much more subtle view of competition than Adam Smith's modern disciples do. I think the idea of the invisible hand was a good idea, you know, the idea that producers compete with one another to expand their market share and that consumers ultimately benefit from that when they cut their prices and come up with cost-saving innovations in the process. That's true. It happens often, but Smith was under no illusions that you always turn selfish people loose, you get good outcomes. It was really Darwin who saw clearly that the evolutionary forces really operate on the individual's interest, not on the group's interest. And often they coincide, but often they don't.

CONAN: And we'll talk about how that can lead to some economic messes when we come back from a short break. Robert Frank's latest book is titled "The Economic Naturalist's Field Guide: Common Sense Principles for Troubled Times." Are there examples in your life of how you violate a basic law of economics? We'll get to more of your calls when we get back, 800-989-8255. It's the TALK OF THE NATION from NPR News.

(Soundbite of music)

CONAN: This is TALK OF THE NATION. I'm Neal Conan in Washington. We're talking today with economist Robert Frank, the author of "The Economic Naturalist's Field Guide: Common Sense Principles for Troubled Times."

Just before the break, he was telling us that Adam Smith's invisible hand, normally given credit for the foundation of modern economics - he plumped instead for Charles Darwin's natural selection. But Robert Frank, you've also written: Human brains forged by natural selection do not work as assumed in economic textbooks.

Mr. FRANK: That's right. I think the standard economic model assumes, against all available evidence, that people get satisfaction based primarily, or even only, on the absolute amount of stuff they consume.

That does matter, to be sure, but I think what's equally important in many contexts, even much more important, is how much you consumer relative to the frame of reference that you find yourself in. So if you think about an investment banker who's been commuting to Nantucket in his twin-engine Cessna and feeling very good about it, is that person going to be just as happy when a new neighbor moves in, and he sees him commuting at the same airport he uses in a Gulfstream IV international jet?

I think the model says it won't matter, but all evidence suggests it does matter. He's going to be less happy about his Cessna than before. And when context matters in ways like that, we get very different results from the kinds of choices people make, the kinds of patterns that emerge from them.

CONAN: Indeed the kinds of investments that people make. Even knowing, you argue, that the run-up in the real estate market was a bubble and was bound to pop sooner or later, people did it anyway.

Mr. FRANK: You know, we saw it during the tech bubble, too. Warren Buffett was the most respected investor in the land. He'd achieved the highest returns of anybody over the long term. He wasn't investing in tech stocks during the late 1990s. Tech stocks were going up rapidly in price. Everybody saw their neighbors making money. There were good reasons to be wary that they were overpriced. Buffett himself said I don't understand the business model. I can't invest in that, and he didn't. And so people just deserted his fund, and that's what the money managers discover.

If there's something that's going up in price, and they offer it, people buy it. People flock to them from other funds, and that's how they get paid. They get paid by how much money they manage, not by any other variable. And so when you're not offering the thing that's rising in price, then people desert you, and so everybody does it. You can't just sit out of the market and watch your neighbors, who are dumber than you, get rich while you're not in on the action.

CONAN: Again getting back to Darwin, natural selection, we were selected to be a short-term benefit analysis, not for the long term.

Mr. FRANK: You know, the human brain really focuses very intently on immediate costs and benefits. We're not sure why that is, but a good guess is that while the brain was evolving, there were just so many immediate threats to survival that if you focused on anything else than the immediate threats, then you just wouldn't live to see the long run.

And so sure, you might be at risk in the long run if you invest in a certain way, but it's the short run that really dominates people's thinking. And when people are allowed to borrow a lot of money and lever up their portfolios and invest in a rising price asset like houses, as we saw in the most recent bubble, we always get a crash in the wake of that.

CONAN: 800-989-8255. Email is talk@npr.org. What in your life violates basic economic principles? Let's go to Jeff(ph). Jeff's calling us from Grand Rapids.

JEFF (Caller): Hi, am I on?

CONAN: You are.

JEFF: Yeah, you know, this has always kind of confused me. I do professional soccer coaching for a living, and I find that the more I charge, the better business is.

CONAN: That doesn't seem to make sense, Jeff.

JEFF: It doesn't, but the less I charge, the less likely they are to ask for my services.

CONAN: Is this a prestige thing, do you think, that expensive coaches are better than cheap ones?

JEFF: I think maybe that's the - I think maybe that's what they're thinking, but it's never made much sense to me because, you know, coaches, we're - all of us professional coaches are credentialed, and there are coaches that have - that aren't as high - don't have as high a license as I do who if they charge more, sometimes they seem to get more business.

CONAN: Robert Frank, is Jeff the equivalent of a Philippe Patek watch, when a Timex would do just as well?

(Soundbite of laughter)

Mr. FRANK: You know, I think it's not at all unreasonable for consumers to make a quick guess about the quality of a product or service by looking at how much it costs. It's true in general that the better things cost more. They cost more to make.

There's a famous story of a beer manufacturer who was trying to phase out a line of beer that it didn't want to keep selling, and so it was - its plan was they were going to gradually keep raising the price of the beer until people quit buying. And they discovered to their surprise that sales went up each time they raised the price.

CONAN: They'd invented super premium.

Mr. FRANK: Yeah, I think it's a testament to Jeff that when he charges the higher prices, it's not so surprising that people would assume at first that that means he's higher quality. The fact that they stick with him after deciding to sign on with him is a testament that he must be higher quality, I think.

CONAN: Jeff, congratulations.

JEFF: Well, thanks.

(Soundbite of laughter)

CONAN: Appreciate it. And Robert Frank, some people might be confused by part of the title of your book, the economic naturalist, getting back to Darwin - of course, was a naturalist, is what he called himself. What is an economic naturalist?

Mr. FRANK: Well, this is a play on the title of my most recent book, which appeared - you and I discussed it, in fact, in 2007, called "The Economic Naturalist." It was just a collection of examples in which we use economic principles, very simple economic ideas, to try and answer some interesting questions based on personal observation and experience. Many of them were posed by former students of mine.

This particular collection is a collection mostly of my New York Times columns, where again, each example begins with a question. Instead of being only personal observations about idiosyncratic events that you run into in everyday life, there are also examples that include policy decisions, personal finance decisions, things of that sort, too.

CONAN: Let's see if we can get another caller on the line. This is Jason(ph), Jason with us from Boulder, Colorado.

JASON (Caller): Yeah, hi. So I was living in Japan for a few years, where vending machines are ubiquitous. And one day, I - there was a can of Coke, a very small can for a buck twenty, and then a very, very tall can for a buck, and I of course bought the tall can for a buck. But my Japanese buddy bought the small can, which was more expensive.

So I asked him why in the world he would do that, he said, I didn't want to drink that much Coke, and I think it's just a microcosm of different ways of thinking.

CONAN: Maybe this is the French model again.

Mr. FRANK: Yeah, this is exactly the French merchant model. Yeah, it rears its head in Japan, too.

CONAN: Thanks very much, how was the Coke?

JASON: It was too much.

(Soundbite of laughter)

CONAN: It was too much. All right, bye-bye. Let's see if we can next go to Bob(ph), Bob with us from Morristown, New Jersey.

BOB (Caller): Yes, how are you? I have a summer place on an island off the coast of Portland, Maine, and from there, I can see a little town called Harpswell Neck. Harpswell Neck a couple of years ago voted down a proposal from a liquefied natural-gas carrier to build a port and a pipeline through its town, and it would have virtually - it would have guaranteed them a tax-free future. And they said no to it, which you would think in - you know, it's a lower-middle-class fishing village, and here comes along this big company to offer this tax-free future, and the people of the town said no.

CONAN: People dislike paying taxes generally. Isn't that right, Robert?

Mr. FRANK: Yeah, it sounds like they considered the trade. They would have more money to spend on other things if they didn't have to pay taxes in the future, but you also care about your environment. If you're going to have a port and a pipeline going right through the middle of it, that fundamentally changes the way you've experienced the environment you've grown up in. And I don't know the facts on the ground of this case, but it's not hard to imagine that people might have considered that a price not worth paying.

BOB: Well, wouldn't this go against the economic models that say people act in their own self-interest because a tax-free future, they're free from property taxes, is a pretty good incentive, I would think.

Mr. FRANK: Well, that's less paradoxical than it might seem at first glance. The model doesn't say that you care only about cash. You care about cash and other good things. The appearance of your environment is also something you care about, and you're willing to give up some cash in order to have your environment more the way you want it.

People don't work 24 hours a day, even though they could earn more money by doing that. At some point, they decide they'd rather take time off. So it's not just about maximizing cash.

BOB: Well, it was impressive to me because, you know, before the vote came up, I thought wow, these people are going to vote, you know, for their economic future. And then I'd get a chance to sell tickets to witness the explosion. But none of that happened.

(Soundbite of laughter)

CONAN: Well Bob, we wish you good luck in selling tickets to see them bring home any fish if there's any fishing allowed in the Atlantic this year.

BOB: Oh yeah there are. There's stripers, and there's some mackerel out there. So we'll get them.

CONAN: Okay, have a great time.

BOB: Thank you.

CONAN: Bye-bye. Let's talk about another, well, axiom of economic theory, Robert Frank, and that is that the private sector is always more efficient than the government.

Mr. FRANK: That really is the basis of the slogans. You can't deny the power rhetorically of the slogan that we've heard so often in the last decades. It's your money. You know how to spend it better than any bureaucrat in Washington does. And then we hear again…

CONAN: It's usually a faceless bureaucrat. Yeah.

Mr. FRANK: A faceless bureaucrat, exactly. And - but then it's fleshed out with examples. The Pentagon, for example, bought a $640 toilet seat. Well, no homeowner would ever spend that much on a toilet seat. So, yeah, it seems to drive home the point that the bureaucrats are just careless with your money.

Actually, that's not such a good example because it was a toilet seat for the Space Shuttle, which had some complex technical requirements it had to meet. But you can imagine the public sector officials being a little less careless with other people's money than they would be with their own. So it seems to make sense.

Yet when we try to cut the public sector, we try to reduce waste there, you cut the programs you can, not the ones that you really ought to cut. Every program has constituents. And so when we most recently were cutting government expenses during the Bush years, we cut the Energy Department's program for rounding up loose nuclear materials in the former Soviet Union.

These were hot nuclear materials guarded by soldiers who drink a lot, poorly fortified facilities, not paid regularly. There's a terrorist trying to get that stuff. We ought to lock that down as quickly as we can, yet we cut the budget for that.

In the private sector, there's a lot more waste, it turns out, not because people pay too much for toilet seats - that doesn't happen - but because what you need to spend often is way out of proportion to what would reasonably be necessary to achieve the goal. So think about trying to stage a special occasion for your 25th anniversary. Mine's coming up. What am I going to have to spend on a gift?

Well, I was a Peace Corps volunteer in Nepal long ago. If I still lived in Nepal, I can tell you I'd be spending way less on a gift there than I'll have to spend on this upcoming anniversary. For kids, how much do you have to spend so their party will seem special to them? That's a relative concept. You know, you have to spend as much as people like you spend, or else you risk being seen as somebody who doesn't appreciate that it's a special occasion.

So I think there's oftentimes an escalation of spending to really no point. It's as if everybody stood to see better. No one sees better than if everybody had remained seated. That's a good example, really, of Charles Darwin's insight that competition works at the individual level, primarily, not at the group level.

CONAN: We're talking with Robert Frank, the economist, about his new book, "The Economic Naturalist's Field Guide: Common Sense Principles for Troubled Times." And you're listening to TALK OF THE NATION from NPR News.

Here's an email from Jenny in Stanford, California. My husband is a professor of economics at Stanford, and I spend a good deal of time debunking his theories.

(Soundbite of laughter)

CONAN: One of his long-held views is that more information is always better, so he does not understand why some people choose to wait to find out the sex of their baby until it's born. This drives him nuts. He argues there is zero economic benefit to waiting, that someone will have equal surprise either at five months or at nine months, and that given all the things that need to be purchased for a newborn, waiting to find out is just mind-bogglingly silly.

Mr. FRANK: Yeah. It's often puzzling that people seem not to want the information. Huntington's disease - Woody Guthrie died of it. Arlo Guthrie didn't know whether he was carrying it. There's a test, actually, that reveals whether you are carrying it. You can take that test early in life, and you'll know whether or not in middle age you're going to get this dread disease.

Most people don't want to take the test. And what's especially puzzling there is that the people who do take it seem happier whether they learn that the result is positive or negative. Even if they learn they're going to get the disease, that seems somehow comforting. They can organize and plan accordingly.

So I understand Jenny's husband's prejudice in favor of wanting to have more information. There's some evidence that it helps, but not in all cases. There are times when knowing is just going to be a big distraction. And so I think if you imagine that the brain isn't a perfectly rational calculating machine, that it's just really a bunch of protoplasm and it's got constraints and it doesn't work perfectly, some information's better kept out of there.

CONAN: And if there was one thing that you thought economists could do to restore their credibility with the general public, assuming they ever had any, what would it be?

Mr. FRANK: You know, it's happening gradually, Neal. The behavioral economics revolution has been in full swing now for two decades. It's not true any longer that the young economists assume context doesn't matter for people's choices. How big a house do you need? Well, that depends how big the houses are where you live. The young economists seem to know that.

Are people perfectly rational? The young economists are quite willing to admit the possibility that people use rules of thumb to make decisions, that they don't always get it right, that there are systematic errors the way they frame specific decisions that they make.

So there's been real progress. I think the old saying goes, in science you make progress with every funeral. Gradually, the young will replace the old, and our credibility will be back on target, I think, at that point. We're gradually reestablishing ourselves. We've got a model now that actually does enable us to write about what people do without insulting the reader's intelligence.

And as people see more of that, I think economics will become a more attractive way of thinking about the world.

CONAN: Let's see if we can squeeze in one quick call. This is Gary, Gary with us from Cincinnati. Gary, we only have a minute.

GARY (Caller): Okay. What - I'm in a vending business, so we handle snack and pop machines and food machines. And one of the problems we've been having is trying to get the pop price to where it should be to maintain our margins. Currently, we try to charge a dollar and a quarter. We've had a hard time going there.

People think nothing of going into a convenience store - which we're considered a convenience store - and they'll pay $1.37 plus tax, but we have a very hard time getting up to a dollar and a quarter. Also, like with energy drinks, you know, they'll pay two and a quarter for an energy drink of basically the same buy yield. And so we've been having a hard time understanding that strategy.

CONAN: In 30 seconds, Robert Frank, can you explain his problem?

Mr. FRANK: Yeah. I think when you're putting cash into a machine, you know, it's a lot easier if it's a dollar than if it's a dollar and a quarter. If you're at a convenience store, you just put whatever bill you happen to have on the counter and you get the change you need. So I think people are more habit-bound when they're dealing with machines. But no, I don't think that's really a compelling answer to the question. Let's keep working on that one.

CONAN: Gary, good luck.

GARY: Thank you.

CONAN: And Robert Frank, thank you so much for your time today.

Mr. FRANK: Oh, my pleasure.

CONAN: Robert Frank's new book is "The Economic Naturalist's Field Guide: Common Sense Principles for Troubled Times." And he joined us from NPR's bureau in New York. Coming up, spell insouciant. If you were in a spelling bee, what word brought you down? Give us a call: 800-989-8255. Email us: talk@npr.org.

Stay with us. I'm Neal Conan. It's the TALK OF THE NATION from NPR News.

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Excerpt: 'The Economic Naturalist's Field Guide'

The Economic Naturalist's Field Guide
Phil Gallo

In the long run, governments, like individuals and families, must live within their means. Although Republicans used to take pride in championing fiscal discipline, the national debt exploded on their watch. This resulted partly from rapid increases in government spending, but mostly it was a consequence of large tax reductions concentrated on the wealthiest families.

There are essentially two ways to reduce the federal deficit — cut government spending or raise revenue. Every presidential candidate since Harry Truman has campaigned on a promise to reduce government waste, and some presidents have made energetic attempts to do so. But not one ever managed to halt the upward march of federal spending. Deficit reduction has occurred only when the amount collected in taxes has increased.

Because no one likes to pay taxes, proposals to raise them rarely generate praise. So I've learned to anticipate a flood of angry emails whenever I write a column about the government's need to raise additional revenue.

The day after one such column appeared, I started getting messages from students saying that Rush Limbaugh was attacking me on his show. I don't have a radio in my office, but that evening I listened to Limbaugh's remarks on his website. No surprise. He merely reprised his familiar "It's your money" argument — people have a moral right to spend their pretax income in whatever way they please:

It's none of your business, Mr. Frank, what people do with the money they earn. It's not your business to judge it. It certainly isn't your business to start making tax policy and economic policy based on it. But that's who the educated among us are, folks. These are the smart people, these are the learned ones. They know better than you and I.

It's easy to see why variants of this argument have long been among the most effective arrows in the right-wing rhetorical quiver. Because most people work hard for their money, they feel resentful when government takes some of it away. Yet consider the absurdity of the claim that we have a right to spend every nickel of our pretax income. If taxes were purely voluntary, our government would not be able to raise revenue to build roads or schools. It could not field an army, and if we were invaded by some other country, we would end up paying compulsory taxes to that government.

Perhaps those who oppose compulsory taxation should just move to a country where taxes are voluntary. But there is no such country. Given that reality, our best option is to have an intelligent conversation about what services we want government to provide and who should be taxed to pay for them.

The columns selected for this chapter dissect the objections of those who, like Limbaugh, want to shut down that conversation. The first selection, written as the Bush administration was pressing for additional tax breaks for top earners in the fall of 2005, points out that although the earlier Bush tax cuts produced no real gains for their wealthy beneficiaries, the spending changes made necessary by those same cuts imposed significant costs on them.

Did the Bush Tax Cuts Actually Help the Rich?

When market forces cause income inequality to grow, public policy in most countries tends to push in the opposite direction. In the United States, however, we enact tax cuts for the wealthy and cut public services for the needy. Cynics explain this curious inversion by saying that the wealthy have captured the political process in Washington and are exploiting it to their own advantage.

Yet a careful reading of the evidence suggests that even the wealthy have been made worse off, on balance, by recent tax cuts. The private beneficiaries of these cuts have been much smaller and their indirect costs much larger than many recipients appear to have anticipated.

On the benefit side, tax cuts have led the wealthy to buy larger houses, in the seemingly plausible expectation that doing so will make them happier. As economists increasingly recognize, however, well-being depends less on how much people consume in absolute terms than on the social context in which consumption occurs. Compelling evidence suggests that, for the wealthy in particular, when everyone has a larger house, the primary effect is merely to redefine what qualifies as an acceptable dwelling.

So, although the recent tax cuts have enabled the wealthy to buy more and bigger things, these purchases appear to have had little impact. As the economist Richard Layard has written, "In a poor country, a man proves to his wife that he loves her by giving her a rose, but in a rich country, he must give a dozen roses."

On the cost side of the ledger, the federal budget deficits created by the recent tax cuts have had serious consequences, even for the wealthy. These deficits will exceed $300 billion for each of the next six years, according to projections by the nonpartisan Congressional Budget Office. The most widely reported consequences of the deficits have been cuts in government programs that serve the nation's poorest families. And since the wealthy are well represented in our political system, their favored programs may seem safe from the budget ax. Wealthy families have further insulated themselves by living in gated communities and sending their children to private schools. Yet such steps go only so far.

For example, deficits have led to cuts in federal financing for basic scientific research, even as the U.S. share of global patents granted continues to decline. Such cuts threaten the very basis of our long-term economic prosperity. As Senator Pete Domenici, Republican of New Mexico, has said, "We thought we'd keep the high-end jobs, and others would take the low-end jobs. We're now on track to a second-rate economy and a second-rate country."

Large deficits also threaten our public health. Thus, despite the increasing threat from microorganisms like E. coli 0157, the government inspects beef processing plants at only a quarter the rate it did in the early 1980s. Poor people have died from eating contaminated beef but so have rich people.

Citing revenue shortfalls, the nation postpones street and high¬way maintenance, even though that means spending two to five times as much on repairs in the long run. In the short run, bad roads cause thousands of accidents each year, many of them fatal. Poor people die in these accidents but so do rich people. When a pothole destroys a tire and wheel, replacements cost $63 for a Ford Escort but $1,569 for a Porsche 911.

Deficits have also compromised the nation's security. In 2004, for example, the Bush administration reduced financing for the Energy Department's program to secure loosely guarded nuclear stockpiles in the former Soviet Union by 8 percent. Sam Nunn, the former United States senator, now heads a private foundation that raises money to expedite this effort. And despite the rational fear that terrorists may try to detonate a nuclear bomb in an American city, most cargo containers continue to enter the nation's ports without inspection.

Large federal budget deficits and low household savings rates have forced our government to borrow more than $650 billion each year, primarily from China, Japan, and South Korea. These loans must be repaid in full, with interest. The resulting financial burden, plus the risks associated with increased international monetary instability, fall disproportionately on the rich.

At the president's behest, Congress has enacted tax cuts that will result in some $2 trillion in revenue losses by 2010. According to one recent estimate, 52.5 percent of these cuts will have gone to the top 5 percent of earners by the time the enabling legislation is fully phased in. Republicans in Congress are now calling for an additional $69 billion in tax cuts aimed largely at high-income families.

With the economy already at full employment, no one pretends these cuts are needed to stimulate spending. Nor is there any evidence that further cuts would summon outpourings of additional effort and risk taking. Nor, finally, does anyone deny that further cuts would increase the already high costs associated with larger federal budget deficits.

Moralists often urge the wealthy to imagine how easily their lives could have turned out differently, to adopt a more forgiving posture toward those less prosperous. But top earners might also wish to consider evidence that their own families would have been better off, in purely practical terms, had it not been for the tax cuts of recent years.

From the book The Economic Naturalist's Field Guide: Common Sense Principles for Troubled Times by Robert H. Frank. Excerpted by arrangement with Basic Books (www.basicbooks.com), a member of the Perseus Books Group. Copyright © 2009.

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