Monday, September 26, 2011

Efficiency and Inefficiency in Economics

When you make plans you have to balance income with expenditure while making sure your plans for growth exclude inefficiencies that would make your economic policy ineffective on a small or large level depending on the size of the inefficiency.

Dictionary Definition of Efficiency;

1: the quality or degree of being efficient
2a : efficient operation b (1) : effective operation as measured by a comparison of production with cost (as in energy, time, and money) (2) : the ratio of the useful energy delivered by a dynamic system to the energy supplied to it

Definition from Investopedia:

What Does Efficiency Mean?

A level of performance that describes a process that uses the lowest amount of inputs to create the greatest amount of outputs. Efficiency relates to the use of all inputs in producing any given output, including personal time and energy.

Investopedia explains Efficiency

Efficiency is an important attribute because all inputs are scarce. Time, money and raw materials are limited, so it makes sense to try to conserve them while maintaining an acceptable level of output or a general production level.

Being efficient simply means reducing the amount of wasted inputs.

Read more.

When a project is efficient you minimize waste. You put in money into a project and attain specific short-term and long-term goals. In some cases, efficiency and inefficiency is difficult to estimate, however in other cases it is easy.

Here is an example of gross inefficiency from Greece (money wasted into unfulfilled projects):

In the southern suburbs of Athens, the abandoned terminal building at the city's old international airport stands as a symbol of promises unfulfilled.

Closed down a decade ago, the site includes 170 acres of prime coastal land on the shores of the Aegean sea and for some time there have been ambitious plans to sell it for redevelopment to the Gulf state of Qatar.

But so far they are just that - plans. And that makes the rest of the eurozone jumpy.

Here is another example of gross inefficiency (money wasted by putting it into a project that was known to fail - a level of inefficiency that really is impressive);

Note: 4 mins and 30 seconds into the video above you discover that a report actually shows that this project would run out of money this month of this year. Clear sign of inefficiency.

The following is an extract from a news report about the same inefficiency in the video above:


Note: Oct 5 '11
An example of government inefficiency in tax implementation (and spin associated with corporate journalism):


Added Oct 25, '11 - More incredible inefficiencies...

Sunday, September 25, 2011

Sectors of the Economy and The Chain of Production

Every economy is divided into at least 4 sectors. The primary sector which includes basic production such as farming, mining or drilling. Then there is the secondary sector which includes all of manufacturing, such as making wheat into bread or steel into cars. Next is the tertiary sector which includes retail outlets and all services associated with getting the basic production, through its manufactured state to the consumer (these first three sectors are also the basic divisions in the chain of production from basic product to finished good to distribution). Next is sector 4 which involves government services such as libraries and roads. Then there is a fifth sector, or so its argued, of the very top elite of decision makers on the global and political scene which is supposed to constitute a separate sector of the economy. Since entrepreneurship is covered in the first 4 as are government services I will just be using the first 4 as the basic sectors of an economy. [Read about these classifications in full on]

The first 3 sectors of an economy, the primary, secondary and tertiary; constitute the chain of production that all businesses are concerned with:
Business activity is the process of transforming inputs into outputs by adding value. There are three main sectors of business activity:

Primary sector Involves the extraction and production of raw materials, such as coal, wood and steel. A coal miner and a fisherman would be workers in the primary sector.

Secondary sector Involves the transformation of raw materials into goods e.g. manufacturing steel into cars. A builder and a dressmaker would be workers in the secondary sector.

Tertiary sector Involves the provision of services to consumers and businesses, such as cinema and banking. A shopkeeper and an accountant would be workers in the tertiary sector.

Goods move through a “chain of production”. The chain of production follows the construction of a good from its extraction as a raw material through to its final sale to the consumer. So a piece of wood is cut from a felled tree (primary sector), made into a table by a carpenter (secondary) and finally sold in a shop (tertiary).

It is important to note that any one business can own the farm, the factory and the retail outlets (or services) related to a particular product. In such a case the business is large enough to have itself firmly establish in the whole chain of production.

In this case study the whole process is outlined, which the image below (also from this site) condenses into a simple visual representation...

It is possible to move a business to another country in every sector of the chain of production. Both for companies specializing in any one part of a sector and for those businesses that cover all the sectors and are thus somewhat self-sufficient (such as large multi-national conglomerates). In these cases, the global picture of the forth sector provide the structure for the business to maximize profit and countries will generally adjust their policies concerning all three sectors of the economy, concerned with the chain of production,  to maximize their own economic growth (all other factors remaining  equal).

In a democratic society economic growth is theoretically supposed to be balanced with appropriate distribution and burden sharing for balanced democratic structures (such as education increasing intellectual capital) and social balance (such as keeping society fair for all its citizens).

Basic question and answers of how the chain of production works are here.

Collective Bargaining: Labor Unions

Economics perspective: Generally large employers(such as large corporations or the government) dictate how much employees get in terms of wages and benefits. To maximize profit, the less labor costs the better it is. So on one side there are employers attempting to keep costs as low as possible to make as much money as possible (extreme example are 'sweat shops') and on the other side are labor unions which seek to maximize the welfare of its members (i.e. a higher paycheck or benefits). Having logical and rational discussions are key to attaining balance between the two to help economic and social balance.

Definition of LABOR UNION
: an organization of workers formed for the purpose of advancing its members' interests in respect to wages, benefits, and working conditions

Here is a fuller explanation from a basic economics tutoring page (in this example they call labor unions, 'trade unions'):

Trade unions are organisations of workers that seek through collective bargaining with employers to protect and improve the real incomes of their members, provide job security, protect workers against unfair dismissal and provide a range of other work-related services including support for people claiming compensation for injuries sustained in a job.

The following link is to a video that illustrates today's sudden economic challenges and the contradictions to a balanced economic approach one particular solution brings to the table... Click here To Watch Video: Are Public Sector Strikes Always Right?.

As far as economic and social balance goes, Ronald Reagan phrased it appropriately when he said, "Where free unions and collective bargaining are forbidden, freedom is lost".

Sunday, September 4, 2011

Government Spending in a Mixed Economy - Subsidies, Grants and the 'Stimulus' (Part 1)

[To understand this properly first read my posts on Opportunity Cost, then Laissez-Fair Capitalism and then Taxation]

A subsidy is the opposite of a tax. You give a subsidy to someone who is facing a loss to help break even, maybe make a little profit for the sake of survival. OR you give a subsidy as an incentive to encourage a certain type of industry to grow (such as a tax break or tax loop hole).

A stimulus is also a form of a subsidy as it pours income into sectors of the economy (or parts of the country) that need income or jobs.

Definition of subsidy:

A benefit given by the government to groups or individuals usually in the form of a cash payment or tax reduction. The subsidy is usually given to remove some type of burden and is often considered to be in the interest of the public.

Politics play an important part in subsidization. In general, the left is more in favor of having subsidized industries, while the right feels that industry should stand on its own without public funds.

Investopedia explains Subsidy

There are many forms of subsidies given out by the government, including welfare payments, housing loans, student loans and farm subsidies. For example, if a domestic industry, like farming, is struggling to survive in a highly competitive international industry with low prices, a government may give cash subsidies to farms so that they can sell at the low market price but still achieve financial gain.

If a subsidy is given out, the government is said to subsidize that group/industry.

The following is an example of a type of subsidy that has been called "stimulus" (stimulus and investing in infrastructure - a vital part of an economy - has been given an extremely negative connotation through 'echo chambers'), that allows investment in environmentally friendly energy while creating a few jobs.

FLAGSTAFF, Ariz. (AP) — A major manufacturer of small wind turbines will continue to call Flagstaff home for at least the next five years because of a major federal stimulus grant. The $700,000 grant puts to rest fears that Southwest Windpower would leave higher-cost Flagstaff for another city or even another country. The funds were funneled through the Arizona Commerce Authority and are expected to be approved by the Flagstaff City Council on Tuesday. They will help retain the existing 65 jobs and help expand Southwest Windpower in Flagstaff as the North American headquarters for at least the next five years. The company is expected to use the funds to underwrite the retooling of equipment to begin production on a new turbine.

Government spending to balance an economy is normal in all economies around the world. There is echo chamber rhetoric saying government spending is bad which flies in the face of the evidence of using government money (subsidy/stimulus/grant/handout) to help the economy and individuals. For example; Rick Perry used government money to balance the Texas budget (there would unlikely have been a good job rate in Texas if Rick Perry didn't do that). Rick Perry did the smart thing as a politician in a mixed economy seeking to help the local (Texan) economy. The negative echo chamber rhetoric about using stimulus/subsidies to boost the economy is a political tactic to stall the economy to win an election.


Gov. Rick Perry used federal stimulus money to pay 97 percent of Texas's budget shortfall in fiscal 2010--which is funny, because Perry spent a lot of time talking about just how terrible the stimulus was. In fact, Texas was the state that relied most heavily on stimulus funds, CNN's Tami Luhby reports. "Even as Perry requested the Recovery Act money, he railed against it," Luhby writes. "On the very same day he asked for the funds, he set up a petition titled 'No Government Bailouts.'" It called on Americans to express their anger at irresponsible spending. Thanks to the stimulus funds, Texas didn't have to dip into its $9.4 billion rainy day fund. Still, now that the stimulus is spent, Texas, like many other states, is facing severe cuts--$31 million must be carved from the budget.

Government spending is normal in modern economies. The debate should be over which direction spending should be made in so that it boosts the economy with a minimum amount of inefficiency (basic economics principle). To be against government spending itself is not economics, it's an echo chamber tactic to create negative perceptions around a normal economic policy tool to win elections through increase an in negativity and hate.

[Note September 5th 2011: I don't know how Rick Perry used the money he got from the government. If he just paid off debts without any expenditure for long-term growth then the Texan economy will crash soon. The balancing the budget act will just postpone the inevitable. But that may be all Rick Perry needs for the upcoming election.]

Taxes, Tax Burden and A Little Context for the Modern Tax "Debate" in The US

[The post on Opportunity Cost is important to understanding tax increases/decreases - note the nature of modern economies i.e. they are all 'mixed economies'].

Anyone who is a part of a society has to pay taxes. The taxes support the society by providing public goods (such as streets and street lights and libraries), social safety nets such as social security and medicare which help keep the elderly from dying on the streets (which, if allowed, would be a big moral and social problem - social safety nets makes society more livable and pleasant).

Anyone who doesn't want to pay taxes in their fair share is welcome to leave that society. [This sentiment is expressed by people saying "I'm American and Proud to Pay Taxes" - i.e. taxes are part of the American Society and its standard of living, as well as its way of life. You pay taxes to benefit on a social level. Third world countries where taxes go into government pockets and the military cannot offer a better society for its members for this very reason. A country using taxes appropriately for the benefit of all is like a beacon for democracy and of higher standard of living for the whole planet.]

For people who don't want to pay taxes, you can just say, "Just return all the profits you made by doing business in that society and you are even and you both can go your own ways". That is the benefit for a business paying taxes in a modern economy. You gain social benefits, infrastructure (such as roads so trucks or railways can carry your goods to market) and a population that has a higher standard of living and thus provide a market for your goods.

The Problem; Greed. We want all the benefits of a fully functioning and balanced society and democracy but we don't want to pay taxes. Thus you have the modern political problem in a mixed economy.

In the United States this natural problem with taxes is further compounded by people who are against tax increases for any reason, even if a decrease was bad economic policy. [Note: This modern economic problem can be understood as a result of 'echo chambers' employed by a small minority which seem to be above the law (at least as far as individuals in an environment without regulations/law can manipulate them to their own benefit. This has created an overly negative atmosphere. Sad thing is that this fake economics, if repeated often enough, can be believed as if it was actually economics.]

What is 'Tax Burden'?

[ Definition of tax burden: The amount of income, property, or sales tax levied on an individual or business. Tax burdens vary depending on a number of factors including income level, jurisdiction, and current tax rates. Income tax burdens are typically satisfied by deductions from an individual's paycheck each time he or she is paid. Depending on the amount of allowances claimed by the individual, a tax burden may exceed the total amount of money deducted during the taxable period.

Understanding tax burden is easy. If an increase in taxes weighs heaviest on the poor and middle class then these sections of society have a higher cost of living. For example; an increase in the price of bread by one dollar will effect the poor the most, middle class next and it will have no effect on the rich. So an increase in price by one dollar on bread has its heaviest tax burden on the poor.

[The following images to explain tax burden are from here .]

Another sign of a poorly balanced economy is a taxation system that presses heaviest on those least able to pay.

Larger amount of a poorer person's income is spent on food, so sales taxes press heaviest on the poor and middle class.

The following is an example of the tax burden being pushed onto the poor and middle class:

The video below summarizes how the 'conservative' echo chamber reacted to Warren Buffets article in the NY Times (Stop coddling the rich).

Note: A 10% tax on both rich and poor will have a greater tax burden on the poor as they have less money to buy basic goods for survival while it makes no difference to the rich (i.e. the rich get one less vacation or car while the poor has less to eat or no vacations or luxury items). To say that a rich person is paying more is correct as 10% or a rich person's wealth is allot more than 10% of a poor persons wealth. However, the tax burden is clearly on the less well off in society. When dealing with small percentages of tax increase, to fight it and push it onto the poor is the very essence of Laissez-Faire Capitalism.

Origin of today's tax debate;

4 notes on the above video:

1. Stephen Colbert keeps saying, "Taxes are job killers". This is a political slogan that has been emotionally charged with the use of echo chambers.

2. Important note about reversing a failed economic policy (i.e. The Bush Tax Cuts): The 90's were good for the economy and did not require a tax decrease.

3. The Bush Tax cuts have not created jobs but have done the opposite. This is an example of a failed economic policy (see opportunity cost)

4. The deficit can be solved without raising taxes on the rich by decreasing medicare and social security (this trade-off represents a society that is moving more wealth into the hands of the few, i.e. Laissez-Faire Capitalism )

Other problems in raising taxes:

Grover Norquist (in the interview below) is an example of someone who gets right-wing politicians, who are supported by a segment of the super rich who have the lowest taxes and tax burden in the States, to sign a pledge never to increase taxes.

Then Grover Norquist uses his access to huge monetary funds to attack anyone who goes back on their pledge to him for whatever reason. Thus many politicians refuse to raise taxes whatever the cost and will pretend there are other reasons that they don't raise taxes for.

Add all of the above to the new 'conservative' echo chamber (controlled by a few) and you have the nonsense that is today's tax "debate" in the United States of America.

Laissez-Faire Capitalism, Robber Barons and Another Reason for Mixed Economies

One reason for Mixed Economies is presented here. Another reason is presented below. First;

The definition of a mixed economy:

An economic system in which both the private enterprise and a degree of state monopoly (usually in public services, defense, infrastructure, and basic industries) coexist. All modern economies are mixed where the means of production are shared between the private and public sectors. Also called dual economy.

Laissez-Faire Capitalism is the idea that there should be no rules that in any way hinders private enterprise.

Here is the definition of Laissez-Faire Capitalism: 

Laissez-faire capitalism is an economic system. Capitalism involves the ownership of property by individuals. The individual's goal is to use this property, or capital (buildings, machines, and other equipment used to produce goods and services), to create income. Individuals and companies compete with one another to earn money. This competition between companies determines the amount of goods produced and the prices company owners may demand for these goods. The French term laissez-faire literally means "to let people do as they wish." Thus, supporters of laissez-faire capitalism do not want the government to interfere in business matters, or if governments do involve themselves in business matters, to keep government influence to a minimum.

One result of no rules in private enterprise is that a person with money and thus the ability to buy influence (i.e. allot of money equals greater power, political and social) can destroy any chance of a competitor entering the marketplace. In fact, without rules and law, people tend to be greedy and selfish. Something which is normally well-known.

With no law there is no control over anyone with power using it unfairly against someone who is socially and politically weaker. Generally, this is seen as immoral by all religions and philosophies as being ruthless means there is no 'charity' and others must be manipulated to gain even more wealth and control (a never ending process).

That is why religious sources tend to be against the 'might is right' belief embedded in Laissez-Faire Capitalism.

The following is a religious explanation(from Christianity) which is naturally against the type of behavior which takes from fellow human beings to the detriment of society;

Darwin's ideas played a critically important role in the development and growth, not only of Nazism and communism, but also of the ruthless form of capitalism as best illustrated by the robber barons. While it is difficult to conclude confidently that ruthless capitalism would not have blossomed as it did if Darwin had not developed his evolution theory, it is clear that if Carnegie, Rockefeller, and others had continued to embrace the unadulterated JudeoChristian worldview of their youth and had not become Darwinists, capitalism would not have become as ruthless as it did in the late 1800s and early 1900s. Morris and Morris (p. 84) have suggested that other motivations (including greed, ambition, even a type of a missionary zeal) stimulated the fierce, unprincipled robber baron business practices long before Darwin. Darwinism, however, gave capitalism an apparent scientific rationale that allowed it to be taken to the extremes that were so evident in the early parts of last century.

The basic argument against Laissez-Faire Capitalism (as opposed to a mixed economy with laws to help keep the market fair - see definition above) is that without rules, ruthlessness and "might is right" reigns supreme. Allowing the rich and powerful to take advantage of the weak.

In the feudal system, allot of power (through control of land and resources) was given to a few people by a king. These people would then do everything they could to take whatever they could at the cost of society and every other human that could be conned (that is generally in a different clan or family, though this didn't hold in all cases).

Such economic behavior (and an effect of Laissez-Faire Capitalism) was and is referred to as "Robber Barons"; 

What Does Robber Barons Mean?

A disparaging term dating back to the 12th century which refers to:

1. Unscrupulous feudal lords who amassed personal fortunes by using illegal and immoral business practices, such as illegally charging tolls to passing merchant ships.

2. Modern-day businesspeople who allegedly engage in unethical business tactics and questionable stock market transactions to build large personal fortunes.

Regulating immoral business practices is an old function of modern democracies and modern economies. This is another reason why in the modern world government is mixed with private enterprise. To provide rules and a framework for a fairer society with more opportunity for all its citizens not just a few who happen to be on top and thus have the wealth and influence to get more and more while giving back less and less to the community that these individuals are from.

Opportunity Cost and One Reason for 'Mixed' or 'Dual' economies

 Definition of Opportunity Cost from Invetopedia:

What Does Opportunity Cost Mean?
1. The cost of an alternative that must be forgone in order to pursue a certain action. Put another way, the benefits you could have received by taking an alternative action.

2. The difference in return between a chosen investment and one that is necessarily passed up. Say you invest in a stock and it returns a paltry 2% over the year. In placing your money in the stock, you gave up the opportunity of another investment - say, a risk-free government bond yielding 6%. In this situation, your opportunity costs are 4% (6% - 2%).

In economics, opportunity cost refers to what you can produce at the cost of another. 

For example; you could allocate more of the budget to weapons or more to a social safety net such as medicare. In choosing one over the other you face a 'tade-off'. An economy with all resources used up for war or all resources used up for social services only exist in extremely unbalanced economies and political systems and even then don't exist in its pure forms.

In economics you seek to balance one choice against another to find a balance that is right for that particular society. Going to extremes is not something economists are supposed to do (at least not as I was taught in my O and A levels and my undergraduate economics studies... so this is 90's education onwards). Reducing taxes to a degree can stimulate the economy and even create jobs. After a certain point it ceases to be useful and that point will change for each time and situation (economics is about understanding the currant situation and formulating a solution. Politics often works in reverse, particularly new Republican economics - see True Republicanism ).

If tax cuts already havn't worked so increasing them will also not work. In other words, decreasing taxes can be useful to a point and beyond that point they are detreminental to society. No taxes (revenue for a central authority) in a society would mean no public goods, i.e. parks, no streets, no street lights, no libraries, no medicare, no social security, no military (Since no society can exist without taxes this scenario is reffered to as 'hypothetical' by economists). In the same way, raising taxes to 100% or 90% or even 75% would be too much and it would be bad for the economy.

In social applications of economics going to an extreme in either direction is generally NOT done. Politics does take extrme views, however, it is important to keep in  mind that some political policies often have nothing to do with economics and are therefore extremely bad for an economy no matter how they are framed as the 'solution to everything'.

Balancing the public good with private enterprise (so that there is, at least some, opportunity for ALL citizens is one reason why economies exist as 'mixed economies'. i.e. government and the private sector is melded together to provide social and economic growth. This will hold true unless subverted by a few (such as an aristocracy) for personal gain.

Definition of mixed economy:

An economic system in which both the private enterprise and a degree of state monopoly (usually in public services, defense, infrastructure, and basic industries) coexist. All modern economies are mixed where the means of production are shared between the private and public sectors. Also called dual economy.