PDF Summary:Economics in One Lesson, by Henry Hazlitt

The field of economics is plagued by fallacies, which inevitably influence national policies that end up doing more harm than good. At the root of these fallacies is a tendency to consider only how economic policies will affect specific groups of people in the short term, while neglecting the long-term effects on other industries and consumers. Failure to consider the long-term, broad effects of policies leads the government to impose policies that sometimes exacerbate the problem they intend to solve.

In this often-cited book, Henry Hazlitt gives a clear, concise explanation of the secondary consequences of a range of economic policies—including rent control, inflation, and tariffs. In this summary, you’ll learn how labor-saving technology actually creates more jobs, why minimum wage laws increase unemployment and decrease collective wealth, and how saving money supports the economy more than spending it.

(continued)...

Exports and Imports Should Be Equal

Fallacy: Having more exports than imports leads to higher employment, wages, and national wealth.

Reality: The value of exports and imports must be equal.

Many people assume that more exports means more American profits, which means more American wealth—but, in reality, exports merely pay for imports. When a British company imports American goods and pays in British pounds, the American company then has two options:

1. Use the pounds to buy imported goods from a British company
2. Exchange the pounds for U.S. dollars, which is essentially selling the British currency to someone who can use the pounds to buy imported goods

Alternatively, when the transaction is done with American dollars instead of British pounds, the British importer can only pay if she has access to dollars from a previous export. American exports bring in the money to pay for imports, and imports give other countries the dollars to pay for American exports.

Rescuing an Industry Interferes With Natural Selection

Fallacy: Saving one industry from dying benefits all industries, thereby supporting employment and the creation of wealth.

Reality: Saving one struggling industry prevents other industries from growing.

The government sometimes enacts policies intended to save a struggling industry, an effort based on the fallacy that if one industry dies, those workers will become unemployed and unable to support other industries, which will have a negative ripple effect throughout the economy. However, some industries must shrink and die so that the capital and resources going to the dying industry can be diverted to industries that are growing. The workers who lose their jobs in the dying industry will find work in the growing industries.

Artificially Altering Prices Has Negative Effects

Sometimes the government’s efforts to help businesses includes artificially raising or lowering the prices of goods. As with other government interventions, price setting throws off the balance of supply and demand and, thus, creates ill effects.

Parity Pricing Hurts Consumers

Fallacy: Parity pricing protects farmers’ profits, which allows them to buy industrial goods, thus contributing to full employment.

Reality: Parity pricing hurts consumers and decreases national wealth.

Through exports and domestic sales, there is a steady demand for agricultural goods—but their prices and profits are not always as stable. Parity pricing establishes a price for farm goods that is equal to the cost of the industrial goods that a farmer must buy to produce those goods.

The fallacy behind parity pricing is that when farmers get higher prices for their goods, they’ll be able to buy more industrial goods, which will support full employment. In reality, the prices of farm goods are often raised by reducing supply in order to increase demand—the government often mandates that farmers produce less, or the government pays the farmers to hold some goods off market to limit the supply that’s available to sell. The bottom line is that a smaller supply of farm goods makes the nation poorer overall—in other words, reducing national wealth—while also raising the price of farm goods for consumers.

While parity pricing applies to agriculture, the government artificially adjusts prices in other industries, as well. Artificially raising prices means that consumers have less money to spend on other goods, which deprives other industries of that money to support wages and production. Additionally, when this policy involves restricting production, it leads to fewer total goods, which equates to less collective wealth.

Price Ceilings Have Hidden Costs

Fallacy: Artificial price ceilings on goods help consumers by preventing the cost of living from rising.

Reality: Artificial price ceilings create shortages of goods, which cause the government to impose other remedies, which each create additional negative ripple effects.

During wartime and other circumstances when inflation causes prices to balloon, the government attempts to help consumers by putting a ceiling on the price of goods—particularly essential goods, such as food. But the government’s attempt to make essential goods more universally accessible to consumers actually leads to a supply shortage, because the low costs of goods cause people to buy more, and the constrained profits from low prices inhibit companies from making enough to keep up with demand.

Rent Control Hurts Tenants

Fallacy: Rent control protects tenants from skyrocketing housing prices.

Reality: Rent control hurts tenants by discouraging building maintenance as well as construction of new affordable housing.

Another form of price-fixing is rent control, which is often viewed as a method to support low- and middle-income tenants. However, in the long run, rent control hurts not only low- and middle-income tenants, but also landlords, communities, and cities. Among the consequences, rent control:

• Encourages wasteful use of space by disincentivizing tenants from leaving apartments that may be too big for their needs
• Discourages new housing construction—especially affordable housing—because rent control leaves landlords and builders with little to no profits to invest in construction
• Discourages maintenance and remodeling in rent-controlled buildings, because the lower rents can cut into landlords’ profits so much that they can’t afford to make necessary improvements

Artificially Raising Wages Decreases Productivity and Hurts Workers

Adjusting wages is another form of price setting, since wages are simply the price of labor. Artificially raising wages decreases productivity as well as overall wages.

Fallacy: Minimum wage laws benefit workers.

Reality: Minimum wage laws increase unemployment and decrease productivity.

Raising the minimum wage forces companies to do one of two things:

1. Companies can raise the prices for their products, in order to pass the burden to consumers. However, higher prices can cause consumers to either buy less or find cheaper or alternative goods, which cuts into companies’ profits and lowers employment and productivity levels.
2. Companies can absorb the higher cost of labor, without raising prices on their products. In this case, marginal companies will go out of business, leading to unemployment and less overall production.

Outside of government efforts to raise the minimum wage for all workers, trade unions also push to secure higher wages for their members. The companies that hire the union workers are likely to raise the cost of goods in order to cover the wage raises. The price hikes raise the cost of living for everyone—essentially taking more money out of other people’s paychecks—while only those union workers have the increased wages to cover the higher cost of living.

Furthermore, when unions push for fair wages, there is no universal standard for what is considered fair, and unions often demand that workers earn enough to purchase the product they help create. However, that is vague and doesn’t increase productivity in order to support higher wages. Rather than aiming for an ambiguous goal of having workers earn enough to buy back the products they create, wages and prices should be set based on supply and demand.

Supply and Demand Keep the Economy in a Natural Equilibrium

Despite occasional short-term pains to specific groups (which government interventions often aim to prevent), the economy maintains balance and high productivity levels when it’s governed by supply and demand.

The Price System Supports Efficient Industries

Fallacy: The price system—in which supply and demand dictate prices for goods—serves the desires of greedy businesses rather than the needs of the consumers and the national interest.

Reality: The price system naturally diverts capital and manpower to the industries that produce most efficiently and contribute the most to national wealth.

As discussed, various industries grow and shrink in a perpetual circle of life, naturally diverting capital and manpower to the industries that produce goods efficiently and contribute the most to national wealth and standard of living. Similarly, through the price system, the price of goods naturally fluctuates to reflect supply and demand and to keep finite money and capital flowing to the most productive and efficient industries. In other words, every dollar that consumers spend is a vote for production in that industry.

In an effort to set wages and costs that benefit everyone, the government occasionally proposes limiting companies’ profits to levels it considers reasonable—but profits play a critical role in regulating supply to meet demand, because high demand leads to high profits, which the company can use to expand production. Additionally, profits put pressure on corporate leaders to constantly find more efficient and affordable methods of producing goods, because cutting production costs increases profits more effectively than raising prices.

Miscellaneous Fallacies

A few fallacies don’t fit into any broad categories, but they are still critical to understand and are relevant to the modern economy.

Destruction Doesn’t Stimulate New Business

Fallacy: Destruction—for instance, storm damage or war—requires repair, which leads to a net economic gain (the broken-window fallacy).

Reality: Destruction diverts money from recreational spending to obligatory spending to repair the damage.

One common fallacy in economics is the broken window fallacy, which says that destruction leads to recovery, that recovery creates a boost to the economy. To illustrate why this is a fallacy, imagine that someone throws a brick through a bakery window, and the bakery owner has to pay $250 to replace the window. As a result, the glass repair person will get $250 that he wouldn’t have otherwise had, and, if he uses it to buy a new bike, the bike shop owner will have $250 that he wouldn’t have had. On and on it goes, as the money continues to change hands.

Per the broken-window fallacy, people look at the destruction of the baker’s window and see a net positive effect, as the money cycles through the community. However, this view overlooks the fact that the baker had planned to use that money to buy a new suit. Now, the tailor has $250 less than he would have if the window hadn’t been broken, and the stores where the tailor would have spent that money are losing out on his business, and so on. In reality, the broken window didn’t stimulate any new business—it just shifted how that money was spent.

Inflation Reduces Consumers’ Purchasing Power

Fallacy: Inflation puts more money in the hands of consumers, which boosts purchasing power, stimulates the economy, and supports full employment.

Reality: Inflation reduces consumers’ purchasing power by raising the prices of goods and decreasing the value of each dollar.

Inflation is the result of the government taking on a cost that it can’t pay or doesn’t want to pay with tax dollars, so it simply prints more dollar bills. Inflation raises one group’s incomes, which leads to increased demand and higher prices for goods, which raises another group’s incomes, and the cycle continues until the effect has rippled through the economy. Groups whose incomes rise later are forced to manage rising prices before their incomes have caught up. Additionally, since prices rise proportionately to the rise in incomes, collective wealth does not grow.

Saving Increases National Wealth

Fallacy: Saving money doesn’t benefit national productivity and wealth because it’s not being spent directly with businesses.

Reality: Saving money in banks or through investments increases national productivity and wealth.

The belief that saving money deprives the economy of a boost incorrectly assumes that savings sit idly in a vault. In reality, people either save money through investing it or putting it into a savings account, where banks loan it to businesses to invest in buying capital (such as factories and machinery). In either scenario, savings increases the capacity for production, which increases employment and collective wealth.

Three decades after the book was first published,. the author concludes that not only are the harmful policies still being imposed, but they are more deeply embedded into the economic system of the United States and most other countries in the world.