Wednesday, February 20, 2013

Work Place Discrimination, Profit Maximization and in College, the Effects of Student Grants v. Loans? ... Food for Thought

A brilliant economist died Tuesday at age 98. Most people had never heard of him.

So let's tell his story today.

Economist Armen Alchian said something quite meaningful about the difference between discrimination in the unregulated and heavily regulated private sector work places, respectively, as well as the profound difference between student grants and loans for college attendees.

His unconventional but highly logical view was that work place discrimination in regulated industries is more prevalent than other private sector companies and that student grants are inappropriate and unintended contributors to increasing income and wealth inequalities in society.

What he had to say was both logical and thought provoking, and therefore worth taking a few minutes to consider.

An Economist Who Made the Science Less Dismal in part contains what he had to say about work place discrimination as well as the 'fairness' of college tuition subsidies:

"Alchian also used the analysis of property rights to explain racial and ethnic discrimination. In a 1962 paper coauthored with the late University of Chicago economist Reuben Kessel, Alchian—himself subject to anti-Armenian discrimination early in his life—pointed out that discrimination was more pervasive in private firms whose profits were regulated by the government. Alchian and Kessel explained that discrimination is costly, not just to those discriminated against, but also to those who discriminate. The discriminators give up the chance to deal with someone with whom they could engage in mutually beneficial exchange.

Therefore, argued Alchian and Kessel, discrimination would be more prevalent in situations where those who discriminate don't bear much of the cost from doing so. A company whose profits are not regulated would see the cost of discrimination in the form of lower profits. A company whose profits were limited and that was already at the limit would face no cost from discriminating.

Alchian's first major article, "Uncertainty, Evolution and Economic Theory," was published in 1950. It was his response to a controversy about whether companies really do maximize profits. Alchian argued that even though all companies may not maximize profits, those that survive will be ones whose managers, by luck or design, came close to maximizing profits. Therefore, those that we observe will have maximized profits. So, for the long term at least, Alchian argued that economists don't need to show that all companies try to maximize profits in order to derive the standard conclusions from the profit-maximization assumption.

My personal favorite of his published papers is "The Economic and Social Impact of Free Tuition" (1968). Alchian pointed out that government aid to higher education is a transfer to the relatively rich. . . .

He compared subsidizing college to subsidizing drilling expenses for someone sitting on a large pool of oil. The untapped student's potential is the analogue of the untapped oil. Alchian argued that lack of current income might be a justification for loans to aspiring college students but not for outright subsidies. He cinched the argument with the following story:

One poor, "uneducated" resident of Watts, upon hearing Ralph Bunche [a well-known black educator and diplomat] say that he could not have had a college education unless tuition were free, opined, "Perhaps it's time to repay out of his higher income for that privilege granted him by taxes on us Negroes who never went to college."

I still make Alchian's point in my classes and, although it upsets my students, not a single one has been able to undercut the fundamental soundness of Alchian's argument."

Summing Up

Just like a sports team that plays the best players who can help the team win, private sector employers have every reason not to discrminate in their hiring and promotional policies. That's not the case with heavily regulated companies whose profits and success are largely controlled by government.

But the best example is that of granting tuition subsidies to college students. All those citizens who don't attend college are in effect subsidizing those who do and contributing to future income inequality in America.

I wonder what the "progressives" have to say about that.

RIP, Mr. Alchian.

Thanks. Bob.

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