The Institutional Framework: Period of Adjustment, Externalities, Law and Order

The importance of economic theory (and this is an idea the great French economist, Bastiat, understood very clearly) lies in that it reveals not only what is plain and obvious, what is easily observable, but above all, consequences which are not immediate or short term—the indirect (and thus, not obvious or noticeable), medium- or long-term consequences of all phenomena. Good economists are characterized by not only their attention to the seemingly obvious, but also their ability, through their reasoning and their knowledge of market processes, to anticipate inevitable medium- and long-term effects. As Bastiat said, they focus not only on that which is seen, but also on what is most important: That which is not seen. So, if there is poverty and someone suggests, “Let us pass a minimum-wage law,” ignorant people all say, “Fantastic! A higher minimum wage. Why have we not thought of that before? We will double the minimum wage. Everyone who is hired will make twice as much. Why on earth has such a simple idea for escaping the poverty in the world not occurred to us before? Of course! In India and China, where people are dying of hunger, only one thing is necessary: the establishment of a minimum wage for everyone—three times what people are earning now. That is the answer! Do-goodism, voluntarism. That is the solution to our problems.” Nevertheless, this notion is utterly absurd. It rests solely on what is seen.