Perpetual Cycle of Life

There is one word that has befuddled all talk of political versus economic power. It is a word that is used by "social reformers" to mean a kind of "injustice" perpetrated by the moneyed class on the poor. The word goes as far back as Marx himself, who used it to characterize capitalism.

 

In simplest terms, the communist definition of exploitation is paying somebody to perform some service. You are exploiting me if the only reason I would do something for you is because you are or will be paying me for my services. By this definition, exploitation exists by the mere fact that you have more money than I have, and the only way to get rid of exploitation is to equalize our wealth. Indeed, the goal of communism is an egalitarian society, a society whose ideal is equality of outcome. Communism aims to establish a non-competitive race in which participants are constrained to reach the finish line at the same time.

 

Capitalism (the free market) recognizes that both inequality of outcome and competition are a given in nature. The only constraints in the race for wealth or any advantage are that the participants follow simple rules: we all start at the same point, but by competition we are allowed to reach the finish line at different times. We are only equal in how the rules are applied, but there can be winners and losers.

 

Capitalism prescribes the freedom to enter into open transactions, and by "open" is meant that all information relevant to the transaction is available to both parties. A transaction can be as simple as you hiring me to perform services. Every transaction involves an exchange of value: you give me money in exchange for what I do for you. Exploitation can only occur if some information was not available to a party when the transaction was consummated. Exploitation can occur both ways: you can exploit me by withholding information about another party who is willing to pay more for the same service (you pay me below market price), and I can exploit you by hiding my intention to perform less than you expected.

 

Anybody can allege exploitation for almost any transaction. A company that sells building materials to victims of a storm at higher prices than other customers can be accused of exploitation. Multi-national companies like Nike can be accused of exploiting cheap labor in third world countries. Offshore outsourcing companies are no less immune to such accusations. All of these accusations are an emotional cry against the law of supply and demand. In the case of storm victims, building materials naturally go up in storm-ravaged areas because supply is quickly depleted in such areas, and extra cost of distribution is incurred by suppliers. In the case of Nike and the outsourcing companies, the cry is against the reality of supply and demand of labor.

 

It is not obvious to most people that salaries are very low in third world countries because the supply of labor far exceeds the demand from businesses, and this is mainly because it is not easy to start a business in these countries. Also, once started, a business is subject to all kinds of laws that discourage hiring (one being a minimum wage law). In some countries, political instability and rampant crime and corruption are valid excuses for the low demand for labor; but I suspect that even these twin maladies of political instability and rampant crime are a result (and not a cause) of low demand for labor. (In this blog I discuss the relationship between government benevolence and corruption.)

 

Citizens suffer because of low demand for labor. The Philippines prides herself in exporting labor, but wouldn’t it be much better for any family that the breadwinner comes home every day? The current situation is deplorable and is nothing to be proud of. Meanwhile, those who remain in the islands are still subject to the suffering of the unemployed. In the absence of any other viable work, multitudes of college graduates are left with nothing but the option of working as house servants, for a very low salary (about US$40 a month) and harsh conditions. One measure of demand for labor in a country is the salary of house servants: the higher that salary, the better the demand must be for labor.

 

I have a dream, a dream that someday nobody will be able to afford house servants in the Philippines because there would be other career choices: people will be working in much better conditions and much better salaries in factories and knowledge-based industries all over the islands. (At the moment I will be hiring house servants myself, because I can still afford to. This is one of the main reasons for going home, in fact. By hiring help, I can have more time for my creative passions: programming and writing this blog.)

Like Yin and Yang, the perpetual conflict between reason and emotion goes on in each of us. The conflict is complex because our minds are complex. It is also very hard in some cases to distinguish between the two. What is rational for me may be emotional for you. I can defend capitalism in purely rational terms, but like Karl Marx you can easily impugn my motives because I benefit from it, and I am passionate (read emotional) about spreading freedom. You say that my defnition of freedom (least government control) is either not complete or outright bogus. You think that poor people are not free because they can be controlled by the rich. I say your logic is flawed and in fact is very emotional because government coercion is very negative compared to the positive persuasion of money. Which would you rather deal with: a smiling man holding a gun aimed at your head, or a rich and ugly person offering you money to do something you’re not inclined to do? But, you say, I am cleary being emotional because government is nothing like somebody with a gun aimed at our heads. I say it is: government is the only entity in society that has dominion over its people. Freedom means that such dominion should be very well defined and delineated.

 

In politics and economics, most people are driven by compassion, which is a purely emotional reaction. That emotional reaction is not always conducive to freedom, which is an abstract, purely logical idea. Emotions cause people to act in a much more powerful way than logic alone can. This is why a good politician like Obama uses emotional appeal more than reason alone: politicians love to pit the poor against the rich. Words like "injustice" and "freedom" are twisted when coming from liberal politicians: these abstract ideas are redefined (unbeknownst to the audience) in the context of the imaginary battle of rich versus poor.

 

The fact is, each one of us is capable of deluding ourselves to think that we are being reasonable when in fact we are emotionally reacting to a particular situation. Take despots like Fidel Castro, for example, who would rather that millions of their people suffer starvation than accept the practicality of rewarding entrepreneurial energy to distribute rice (or any other produce) for profit. It is indeed very difficult to be rational and objective in any area of study, specially politics and economics. In order to be objective, we have to be able to apply the scientific method and open any idea, even established ones, to verification by experimentation and pure logic.

 

To illustrate how difficult it is to apply the scientific method to politics and economics, let’s take one area of physical study, thermodynamics. Air is composed of several types of gas, and air pressure is not constant when measured at varying heights. In order to prove the relationship among pressure, volume, and temperature, we first have to simplify some physical realities: instead of doing experiments on air itself, we can do experiments on one homogeneous gas, and we can isolate our experiment from the effects of the bigger, real environment. It took us several generations to draw conclusions; but with these simplifications, we are now able to predict with high accuracy what the pressure would be of a gas confined to a certain volume with a certain temperature. If we do this simplification similarly for politics and economics, our conclusions may hold true for the simplified cases, but may not be applicable in the real, more complex case. Why? Let me go one step deeper into thermodynamics before I explain why simplifications in political economics are very difficult.

 

Once we establish (by a series of isolated experiments) the mathematical relationship among pressure, volume, and temperature, someone comes along and looks at the same problem from a completely new standpoint. This new standpoint should also confirm the same mathematical relationship: if it does not, either the new view of gas is not valid, or the established mathematical relationship is now invalidated. In the case of thermodynamics, the new viewpoint consists of studying a gaseous substance as a large collection of gas particles or molecules. Armed with this new viewpoint, we can devise experiments and gain new insights into the problem that either correlate with the previously established relationship among pressure, volume, and temperature; or the new and the old viewpoints may be deemed to be in conflict and require more study. As it turns out, the new thermodynamics, based on particles does validate the old. In fact, the new particle thermodynamics (based on classical Newton’s laws or even modern particle physics) affords us the beautiful relationships among micro and macro measurements. We can now relate temperature to the kinetic energy (speed and mass) of each particle, for example, and each of the three macro measurements to average collision among the particles per unit time.

 

Particle thermodynamics can show us why it is very difficult to apply simplifications to the study of economics and politics. In particle thermodynamics, even if the subject gas is not homogeneous, each particle is very simple and predictable with regards to how it interacts with the other particles. Billiard-ball collisions are easy to deal with both mathematically and conceptually. Economics and politics, on the other hand, are the study of groups of people made of individuals with volition. It is difficult enough to predict how an individual would decide what to do in a particular situation, it is infinitely more difficult to predict aggregate decisions of people with complex interactions. Add to this our capacity for self-delusion and propensity to be emotional rather than rational, and the complexity would seem insurmountable.

 

Nevertheless, it is immensely interesting that certain laws of economics are now established. These are simple laws, and yet powerful. An example is the law of supply and demand. This simple law does make at least a couple of simplifying assumptions: that each individual in society is both free to demand and free to supply goods, and that each individual acts in self-interest. As in particle thermodynamics, wherein average temperature is "communicated" to each particle by way of collisions, so in economics demand is communicated to suppliers by way of prices by which demanders are willing to pay for supplies.

 

In the name of compassion and fairness, a government can try to circumvent the law of supply and demand by way of price controls. During the oil and gas shortage of the 1970s, then President Carter enforced price controls. The immediate effect was gas lines across the country. Demand was very strong, but because the price controls rendered the medium of communication (prices) inoperational, the demand signal was not fed back to the suppliers. Without the feedback there was no motivation for the suppliers to increase the supply of oil. The results were not beneficial for consumers and suppliers alike.

 

Now don’t get me wrong and conclude from this that compassion has no place in human affairs. Compassion has no place in government, but each individual should be free to be compassionate. The problem with most liberals is that they show their compassion by voting for a government that is compassionate, and thereby absolving themselves of guilty feelings. Conservatives realize that a compassionate government is necessarily a tyrannical government; therefore, they generally oppose a charitable government, even though they are themselves naturally more charitable than liberals (there are statistics that prove this).

How can we fix the problem of corruption? I believe there is a solution, but it requires an overhaul of our perceptions about government benevolence. Before I go into how corruption and benevolence are linked together, let me go through a couple of alternative solutions, thereby also shedding light into the nature of this problem. This is an important question because a very popular figure (Obama himself) advocates government benevolence.

Red Meat for Dogs

I understand that there is a certain breed of dogs that can be trained to behave with remarkable self-control when juicy, fresh red meat is dropped right under their noses. I once saw a video of this, by way of dogs being tested. The dogs have just completed a training to be companions for the disabled. The dogs are lined up, in sitting position. Somebody carrying a bag of red meat comes into view, plopping about a pound of juicy meat on the floor, right in front of every dog. The video then zooms in on a dog that passes the test: the dog salivates, but it does not grab the pound of meat until commanded to do so. Amazing behavior, but these dogs are truly exceptional. In other words, of all the population of dogs, a relevant question to ask with respect to our current topic is: "How much percentage of all dogs behave this way?" That percentage must be very low (less than one percent I suppose) by definition of being "exceptional".

A similar test for humans would be to put a handbag full of hundred-dollar bills in a private place where nobody can possibly witness the subject, say in a toilet. When confronted with this situation, how much percentage of people in a certain population would behave honestly? (Honest behavior in this case means presenting the lost and found bag to the authorities.) It would depend on the characteristics of the population, but even in populations where the authorities themselves are presumed to be honest, I bet that the percentage of people who would behave honestly in this case is pretty low. (I would welcome any attempt to shoot holes into this assumption with actual experiments — in fact there may be existing reports posted on the Internet — but for now if you buy this assumption, the following discussion should be interesting.)

A Solution to Endemic Corruption

So, assuming that those who hold the highest levers of power in government are themselves honest, one solution to the corruption problem would be to hire exceptionally honest people in government, from the commissioners all the way down to supervisors. This is a tall order, but even if this can be done at the rate of say 80% (as in the percentage of honest officers in a government hierarchy), the problem would remain, at least in the Philippines. Here’s why. We have a history of corruption, and there will be a certain period of adjustment necessary among citizens. I doubt this period of adjustment can be overcome. Right now, for example, it is generally assumed that customs officers are corrupt. If a customs officer were to change his ways and start charging full for all items imported with no exception, he/she would in fact be risking her own life. Because of the assumption that she is corrupt, people would normally think that she is pocketing all the money, and so it is justified to kill her. So assuming that we can have 80% of honest customs officers, there will be a period in which the life of these customs officers would be in danger. No problem, we can just assign bodyguards to all customs officers. However, if part of our purpose is to increase government revenues, these extra personnel would be a big drain. Therefore, I am sure the "return on investment" for the government would still be low, at least for some time. Even if we can achieve 80% honesty in a government organization such as the Bureau of Customs (which by itself is highly doubtful), there are natural forces that go against this solution.

One reason I think it is very difficult to achieve 80% honesty in government is that honest individuals are naturally expensive. Remember that these are exceptional folks, and in order for them to remain exceptional in an average populace (let alone remain employed by government), they have to have exceptional pay. Aside from the problem of how we can pay exceptional salaries for what mostly are boring jobs, there is the problem of keeping the whole organization disciplined. All personnel will have to be trained like an army. This level of honesty is indeed difficult to achieve, even in first-world countries, specially if the laws or rules governing behavior are not clear. (More on clarity of rules later.)

Another Solution: Lowering the Price of Legitimacy

Another solution is to simply lower the price of compliance, or what economists call the "price of legitimacy". In other words, remove the red meat from the dogs’ view altogether, or reduce its size or attractiveness.

This is very easy to implement; the only problem is that there are strong interest groups that keep the price of compliance high. Take for example, the current ban on importation of used cars in the Philippines. (An outright ban in this case is equivalent to the highest possible price of compliance.) Ostensibly the purpose of this is to protect car assemblers or even manufacturers in the Philippines, but I doubt it. It would be more plausible to say that the purpose is to protect the environment, but even that I would doubt. I think the real purpose of this law is to protect the large importers of brand-new vehicles (Japanese and American vehicles), an industry group that has traditionally had real clout in government. Given the huge price differences between used and new vehicles, this law ("Executive Order") is very difficult to enforce and therefore encourages a lot of corruption. Lowering the price of compliance in this case can mean charging a percentage of the value that is inversely proportional to the age of the car. Let’s say we charge 50% maximum: 10% for cars between 0 (brand new) and 2 years old, 20% for 3 to 4 years old, 30% for 5 to 6 years old, etc. and 50% for cars 10 years or older. The car I want to import is about 9 years old. At 50% tariff rate, I would still take it with me. (We have finally determined that the duty or tariff is in fact 100%, and we have decided not to take the 2000 Sienna minivan with us.) At 50% tariff rate, I can imagine my conversation with the customs officer to proceed as follows:

"What year model is your car?"
"Year 2000."
"You will have to pay 50% of the value, and according to my calculations, that’s $5,000 dollars."
"I have documentation that proves I bought this car more than six months ago for $6,000 dollars, so the duty should only be $3,000."
"OK, but this is just between you and me: I can release your minivan for that much and I won’t even look at your documents."

If I were tired and grumpy, I would probably just pay the $3,000; but the point is that now I have a certain incentive to insist on proper compliance. It should be clear to you at this point that lowering the duty even more would increase my incentive to comply with the law, instead of giving the money to the customs officer. There would also be less incentive for corruption; and, because the customs officers would more likely follow the law, there would be increased revenue for the government. Having read this blog up to this point, the last assertion (increased government revenues) should be clear to you. However, this conclusion is far from obvious and is in fact counter-intuitive. "How can lowering taxes INCREASE government revenue?" your favorite senator would ask.

By the way, if it is not clear to you that lowering the price of legitimacy dramatically would also make government officers more likely to follow the law, just put yourself in the place of the officer. Even if you have a hungry family to feed, the risk of non-compliance would not justify the possible gain, which is now much smaller.

Simple but Strict Versus a Benevolent Government

Lowering the price of legitimacy is compatible with democracy and freedom. This is all very well, but there is one last important matter to consider. As I said, we have definitely decided not to take our Sienna minivan with us. We will only be taking only our furniture and other belongings. The law says we do not have to pay duty on these. However, our import broker tells us that even if no payment is due to the government in our case, added to his price of service is a certain amount of "grease money" to ease the release of our belongings. The customs officer still has the power to delay the processing of our belongings, and he can still earn some money by that power. It is also possible that the broker is lying to us, and the alleged corruption is just smoke-screen for his large profits. Nevertheless, I intend to face to customs officer myself, and I will report my experience in this blog.

Power over any group, large or small, provides myriad opportunities for proportionate corruption. Given that government has the monopoly on power (socialists and other folks think that corporations have more power than government, but that is another interesting point of discussion that I can write about in another blog), the objective of lessening or even eradicating corruption altogether requires limiting those powers over society. What is needed are well-defined powers, simple but limited powers. This requires a certain view of freedom that must be ingrained all the way up to the constitution, which I hold is lacking in the Philippine constitution. This view of limited government, in which laws are simple but strictly enforced, stands in stark contrast to another view, that of a benevolent government. A benevolent government is one in which "kindness" has a higher priority over strict adherence to impersonal rules.

Let’s talk about a recent phenomenon to illustrate the contrast between benevolence and strict simplicity. At the risk of over-simplification, I can say that one big cause of the recent credit crisis is government benevolence. A couple of quasi-government agencies (Fannie Mae and Freddie Mac) were created to encourage home ownership by families in the low-income groups. These two agencies not only guaranteed loans made by low income families, but also loans made by pure speculators. The unintended consequence is that house prices balooned to ridiculous levels. Eventually, the prices went beyond affordability and the buyers walked away, thereby causing prices to drop and mortgages to go underwater. If lawmakers were committed to the simple but strict principle instead of benevolence, Fannie Mae and Freddie Mac would not have even existed.

The fact is, even in industrialized countries, a large percentage of the electorate are for government benevolence. Just take Obama’s pronouncements on the subject. The electorate’s choice would even go as far as appointing Supreme Court justices who would judge on the basis of who appears to be the "victim" in a case (and putting more weight on the victim’s side), instead of equal and consistent application of the law.

Benevolence and Corruption

People for a benevolent government certainly have good intentions, but the consequences of this misguided principle can be destructive. A benevolent government is necessarily a corrupt government. How so? First of all, a benevolent government tries to fix more and more societal maladies, and therefore naturally grows in size. Secondly, if benevolence is more important than clarity of the law, laws tend to be complex and inconsistent, even self-contradictory. Thirdly, even if lawmakers try to limit the applicability of a benevolent benefit in an attempt to limit abuse, the result would be laws that subdivide the populace into ever smaller granularity of differences. A good example of this is the U.S. tax code: the longest text of law that nobody really understands. A large government let loose on the people with laws that even the Supreme Court itself cannot interpret is a sure breeding ground for corruption. (Even with the least of corruption, highly complex laws are a heavy burden on the population.)

Sadly, a very large and benevolent government is what characterizes our situation in the Philippines, and change in the opposite direction is very difficult. A non-benevolent government is a difficult thing to sell to the electorate. For now, I would be content with lowering the price of legitimacy. If the benefits of a lower priced legitimacy can be explained in a simple and compelling way, I think people can and will buy it.

Our ongoing experience with the big move, specifically with regards to the used Toyota minivan that we want to take with us, is giving us a foretaste of how it is like to do business in our homeland. I know that the Philippines has one of the lowest scores on the economic freedom index, but knowing that score alone is quite different from knowing the specifics of why that score is low.

 

At one point this past week, we changed our minds and decided not to take the minivan with us. Our shipper instructed us to get a definite ruling from the

Bureau of Import Services, and so we called the consulate in San Francisco to ask about the procedure for getting such ruling. The person on the phone told me that the consulate’s role in this process is only to notarize the application. He asked me the specifics of the minivan, but could not tell me how I can obtain the form I needed to fill out, except to say that it’s available from the Bureau of Import Services. He did advise us that, given the amount of tariff we would be paying and the trouble involved, it did not make sense that I was importing a non-luxury minivan. Why not buy a Mercedes Benz or a Lexus? I told him I did not want to have to spend the money, and all I’m after is saving more money compared to selling the minivan here in the U.S. and then buying another used minivan in Cebu.

 

"You will not be saving money," he warned me.

"Why not?" I asked.

"You will have to pay 500,000 Pesos." (This amount is more than $10,000 at current exchange rates. Our 2000 Sienna cost us about $7,000 last May.)

"Shoudn’t that depend on the price of the minivan I am taking in?"

"No. You pay the same amount no matter what kind or brand of car you import."

 

The conversation discouraged us so much that we changed our minds: we would not take any car with us. I changed my mind again when I received a text message from one of Eureka’s relatives. She wrote that she knew about returning nationals who have a taken a used car with them, and that it was definitely OK to take a car with us.

 

I did more research on the Internet. I found the import form required by the Bureau of Import Services here. I also found this news item about an executive order issued in 2002 that bans the importation of used cars. The ban itself is unclear and appears to be enforced inconsistently. (It cannot be applied consistently because the Senate opposed it, and a Supreme Court ruling made it even more muddled.) Nevertheless, all the shippers I have talked to indicate that the ban does not apply to used cars taken in by returning nationals like me. What we really need to know is how much we have to pay in order to come to a definite decision. We don’t have much time because if we decide too late to leave the car, we won’t have enough time to sell it. I will leave for San Francisco this week just to have the importation form notarized. I will then send the form to Manila where our shipper/broker will have it processed at the Bureau of Import Services. This process should allow us finally to determine how much taxes we have to pay. If it is too high, we can still decide to leave the minivan and sell it.

 

It’s not too bad. At least there is an established process for returning families. As for the ban on importation of used cars, yes it is still unresolved; but the reason why it is yet unresolved is because the Philippines is a working democracy. We Pinoys can make it better, but it would require changing the core principles behind our constitution, and that would be very difficult. For now we can only be satisfied with the admonition that democracy is always messy.