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Boudreaux: The Inefficiency of Rent Control

Don Boudreaux over at Cafe Hayek does a nice piece a few weeks ago, outlining the inefficiency of rent control. As his comments on the subject were part of a larger discussion, I have summarized his points below. If you want to go back to the original, you can go here.
Brian,

Boudreaux notes that “the assumption of a perfectly inelastic supply of rental housing is not realistic.” But at the same time, he wagers it is incorrect to say that, were this assumption to hold in reality, rent control would create no deadweight loss.

In what Deirdre McCloskey calls “the first act” there is indeed, unlike with an upward-sloping supply curve of rental housing, no deadweight loss. It’s all transfer from landlords to tenants. But unless we assume also a perfectly inelastic demand for rental housing, rent control will in the second act cause current and prospective renters to waste resources as each competes to increase his or her chances of securing one of the rent-controlled apartments. Losses – ones in every relevant way comparable to conventional deadweight losses – ensue.

Picture a standard supply-and-demand graph, but one in which the supply curve is perfectly vertical. With the demand curve shaped as it usually is – namely, sloping downward to the right – rent control will still cause a shortage of rental housing. Tenants will therefore compete more vigorously – now using only non-price means of competition – to secure these rental units. The use of resources in such non-price competition – for example, wining and dining landlords, racing or keeping constant vigilance to sign up for newly vacated rental units, whatever – is a waste of resources from society’s perspective.

It’s true that these wastes are conventionally called “rent-seeking wastes” rather than “deadweight losses.” But Boudreaux takes Gordon Tullock’s point to be that rent-seeking-‘rectangle’ losses are no less real or important losses than are deadweight-loss (or Harberger) ‘triangle’ losses: both losses act as deadweights on society. Valuable goods and services that would otherwise have been produced remain unproduced because of the interventions that cause these losses. Both losses emerge because government interventions render uses of resources that were once profitable now unprofitable. Both losses ‘measure’ the reduction in valuable output. Both losses ‘measure’ the reduction in the size of the economic pie.

Boudreaux doesn’t wish to defend too strongly his claim that rent-seeking losses should be called and classified as “deadweight losses” (although I do believe that that claim is defensible). But he does wish to insist that the absence of conventionally defined deadweight losses does not mean that an intervention, such as rent control, effects only a transfer and, therefore, causes no real losses. The resulting non-price competition among potential renters results in losses.

Note too that he mentions neither rent-seeking efforts by tenants to secure rent-control regulation from government nor rent-‘protecting’* efforts by landlords to fight rent control. These rent-seeking and rent-‘protecting’ efforts only increase the social losses from rent control beyond the losses that Boudreaux identifies above.

Cafe Hayek and the Minimum Wage


CHayek
On a recent post over at Cafe Hayek, my friend Don Boudreaux discusses the merits of minimum wage policy. A gentleman, Mr. Hutcheson, wrote in to chide the writers, saying that Boudreaux and others “who argue that the minimum wage destroys some jobs miss the point.” Mr. Hutchinson insisted that the real point is “the amount of harm to low income workers compared to the benefits of going to other low-income workers.”

Boudreaux correctly responded that minimum wage legislation is unethical because the government strips “some people of economic opportunity in order to artificially enhance the opportunities available to other people.”

Although Don’s response is certainly correct, I do not believe arguments of fairness, morals, or constitutionality carry much weight with the standard liberal position espoused by Mr. Hutcheson. I believe that he needs to understand that raising the minimum wage hurts everyone, as other individuals and the economy as a whole are outright harmed by such policy by much more than than those who are helped. This can be seen by realizing that the money that is now going to a higher minimum wage WILL NECESSARILY cause one or a combination of the following:

1) In an attempt to offset the higher minimum wage, the business will fire or refuse to hire other employees. Especially from the poorest among us, many individuals. will either lose their job or not be able to get jobs at all moving forward. The cost of raising the minimum wage is just like the cost of raising a commodity. For instance, consider the scenario where the price of apples — a basic pantry item for most everybody — goes from $1.50/pound to $2.00/pound. Fewer people will buy the apples, or people will buy fewer apples overall. So it is also with a higher minimum wage; if a unit of labor costs more,fewer units of labor will be purchased overall. As a result, the economy will likely contract because of the loss of jobs resulting from a wage hike.

2) The business can simply earn less profit. If more of the earnings must go to the cost of labor, the business earns less profit overall. For some minimum wage advocates, perhaps that is the actual goal — to keep businesses from earning too much at the top. But in reality, the loss of business capital (from both large corporations to small mom and pops) means there is less money to grow the existing business, or for future business endeavors. Whether it is reinvested directly back into the business with equipment upgrades or growing the business through new employees or expansion, earning less money for the company creates a ripple effect. The less a company can earn, the less it can help grow the economy. Impeding its ability to do so, through the imposition of mandated wage increases, is harmful.

3) In order to offset the increased wage cost, a business, if possible, can choose to raise its prices. This will attempt to ensure that the company earns the same amount as before. But the effect of the price increase is negative. As prices increase, supply and demand dictates that some customers will simply not buy (reducing GDP) and the rest will have their standard of living go down (because they are paying more just to have the same product as before).

Every one of these responses — cutting jobs, loss of business capital, and raising prices — are bad for the employees and the economy as a whole. Though the minimum wage hikes sound good in theory, in reality, economies don’t exist in a vacuum. These types of policies hurt more than help. The three aforementioned points overwhelm anything positive going to minimum wage recipients; in reality, it is a bigger net cost to the system.

Would ⅔ of the population still support the minimum wage it if they understood how devastating it would be both to the most economically disadvantaged people and to the economy as a whole? People have continuously been pitched the false idea that the economy improves because minimum wage recipients will spend their extra money. Minimum wage policy is an impediment. Economics 101 reminds us that in fact, it is more stimulative for the economy that the employer keep the money and reinvest it than for the worker to merely spend it. That is how you grow the economy.