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The Undercover Economist Strikes Back

How to Run - or Ruin - an Economy

by Tim Harford

Hardcover, 245 pages, Penguin Group USA, List Price: $27.95 |


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How to Run - or Ruin - an Economy
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NPR Summary

The author of The Undercover Economist moves beyond the spin and jargon of macroeconomic hype to explain how the world's economy actually works, revealing what is really happening behind today's headlines and what everyday people can do to understand it better.

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Note: Book excerpts are provided by the publisher and may contain language some find offensive.

Excerpt: The Undercover Economist Strikes Back

The Babysitting Recession

The inspirational tale I have to tell concerns a recession that began in the early 1970s, and was entirely created on Capitol Hill, the heart of American government.

Why am I not surprised?

I'd probably better be clear about this: it wasn't an ordinary recession in the U. S. economy; it was a recession in a babysitting circle called the Capitol Hill Babysitting Cooperative. The co‑op was a group of parents who would babysit for one another, and most of them were members of the congressional staff who worked in or near the U. S. Capitol—hence the co‑op's name. With almost two hundred families in

the circle, working out who was owed an evening of sitting, and who was owing, would have been a tricky bookkeeping problem. Instead, a quasi-currency, or scrip, was used. Families who joined the co‑op were issued forty pieces of scrip—effectively, these were like banknotes, each worth half an hour of babysitting, or fifteen minutes at specified peak times. Families exchanged these pieces of scrip with one another in return for babysitting services. If they left the co‑op, they had to pay all

their scrip back to the organizing committee.

(If you've heard this story before, it is likely to have been from Paul Krugman, a winner of the Nobel memorial prize in economics and now more famous as a pugnacious columnist for The New York Times. But there's a twist in this tale, so if you think you have heard the story already, you may have a surprise in store.)

To understand the roots of the problem, imagine you're a new recruit to the co‑op. You look at your forty pieces of scrip, and you think: "Hmm. That's only ten hours of prime-time babysitting. That's not much. I was thinking of taking my partner out for a meal and a movie this weekend, but that would use up five or six hours. What if next week we got invited to some important social event at the last minute, and we didn't have enough scrip left to get emergency babysitting? On reflection, we'd better not go out this weekend. Instead, let's first put in a couple of evenings of babysitting to build up our reserves of scrip."

Perfectly reasonable.

So reasonable that everyone else was thinking it, too. Longer-standing members of the co‑op weren't any more flush with scrip themselves. In fact, because of a glitch in the way the co‑op paid its

administrators, scrip was slowly being removed from the co‑op and the typical member had fewer than forty pieces. It wasn't just the new parents who wanted to stay in and save up some scrip—everybody

wanted to stay in and save up some scrip. And if nobody goes out, who's going to get the chance to babysit and earn scrip? Nobody gets the chance to build up their reserves and nobody feels comfortable going out. It was a self-perpetuating circle, because each couple's income could only be the result of some other couple's spending. If there was hardly any spending, then there was hardly any income either.

The result was a babysitting recession—one that can help us to think more clearly about the nature of recessions in the wider economy. Leave aside recessions caused by wars or natural disasters, and think about those curious instances where economies just take to their sickbed for no obvious reason. The underlying resources in the economy are no different. It's not like there are suddenly any fewer factories or office buildings or roads, or metals and fossil fuels under the ground. It's not as if people in the economy have suffered sudden mass amnesia about how to make things or perform services. Entrepreneurs would prefer to be employing more workers and producing more goods, and unemployed

people would prefer to be earning and spending. But, for whatever reason, it just doesn't happen. Likewise, all the congressional staffers in the babysitting co‑op would rather have been in a booming

babysitting economy—that is, one where all were partying one weekend and babysitting the next. But it wasn't happening. Instead, everyone was mostly staying in with only their own children for company,

and feeling miserable and frustrated.

The co‑op was largely run by lawyers (we're talking about Washington, D. C., here), so they tried a legalistic approach to solving the recession."The thinking was that some members were shirking, not going out enough, displaying the antisocial ways and morals that were destroying the co‑op," wrote Joan and Richard Sweeney in a famous short paper published in 1977 in the Journal of Money, Credit and Banking, the leading academic journal on the subject of monetary economics. (One of the Sweeneys was a mid-ranking Treasury official specializing in monetary research; both of them were members of the Capitol Hill Babysitting Co‑op.) The co‑op introduced a rule making it mandatory to go out every six months. I'm no party animal, but "go out at least twice a year" isn't much of a minimum. If it was intended to rev up the babysitting economy by forcing the co‑op parents to liven up their social lives, things must have been desperate.

Is this my inspirational story, then? Did the rule work?

No, it didn't. But eventually, the co‑op committee abandoned the ineffective legalistic tactics and switched to economics, and that did work. The solution was actually rather simple: print more money. Specifically, each member received an extra twenty pieces of scrip (worth ten hours of babysitting, or five hours prime time), and new members were also given an extra twenty pieces when they joined, but departing members had to pay back only forty pieces, not the sixty they had received in total. The money supply, once small and shrinking, was now generous and growing. And—miracle of miracles!—the recession abated.

This is a striking story for many reasons. First, it shows that even a simple economy—a few hundred like-minded adults and a central committee with everyone's phone number and address, trading a single service—can be difficult to manage. Second, it shows that mere stories, if chosen well, can tell us quite a lot about how economies work. But the most remarkable thing about the story is the way that monetary policy—which means altering the supply of money in the economy—cured the recession in a perfectly straightforward way. It was simple: there was a recession; a central authority conjured money

from thin air (or more correctly, from thick sheets of paper); then the recession ended.

Of course the recession ended. If you can print money, you can fix most economic problems, can't you? It's so easy, it's cheating.

It's interesting that you think that. You're in charge of an economy yourself. You can print as much money as you like.


Sure. You don't even have to print it. You can call up your central bank, the Federal Reserve or the Bank of England or wherever, and ask the governor to add a few zeroes to the sums of money held electronically in the central bank's accounts. Deciding how much money is in the economy is what central banks do.

Well, in that case, why am I reading a book about how to solve economic problems? Print the money. Problem solved.

A pretty good starting point for understanding how an economy works is that production depends on the underlying resources available—labor, machinery, infrastructure. Printing money doesn't create more roads, factories or workers.

But in the babysitting coop, printing money did solve the problem.

Yes it did, and that's what makes the babysitting co‑op such a fascinating example. Those underlying resources I was talking about were unchanged: there were parents who wanted to go out; there were parents who were willing to stay in and babysit. And yet to unlock that preexisting potential for babysitting trades, the co‑op committee had to print the correct amount of scrip—scrip that, let us remember, was nothing but a way of keeping track of who was babysitting and who was going out all the time. Printing money really did help, and rather than that fact being obvious, it should be profoundly surprising—a fact worth explaining. And explain it we shall.

From The Undercover Economist Strikes Back: How to Run—or Ruin—an Economy by Tim Harford. Copyright © 2013 by Tim Harford. Excerpted with permission of Riverhead Books, a member of Penguin Group (USA) LLC, a Penguin Random House Company.