Thoughts on economics and liberty

Murray Rothbard’s critique of the concept of externalities

From Man, Economy, and State with Power and Market. My annotations in blue.


Two favorite, seemingly scientific, justifications for govern­ment activity and enterprise are (a) what we might call the argu­ment of “external benefits” and (b) the argument of “collective goods” or “collective wants.” Stripped of seemingly scientific or quasi-mathematical trappings, the first argument reduces to the contention that A, B, and C do not seem to be able to do cer­tain things without benefiting D, who may try to evade his “just share” of the payment. This and other “external benefit” argu­ments will be discussed shortly. The “collective goods” argu­ment is, on its face, even more scientific; the economist simply asserts that some goods or services, by their very nature, must be supplied “collectively,” and “therefore” government must supply them out of tax revenue.

This seemingly simple, existential statement, however, cloaks a good many unanalyzed politico-ethical assumptions. In the first place, even if there were “collective goods,” it by no means follows either (1) that one agency must supply them or (2) that everyone in the collectivity must be forced to pay for them. In short, if X is a collective good, needed by most people in a certain community, and which can be supplied only to all, it by no means follows that every beneficiary must be forced to pay for the good, which, incidentally, he may not even want. In short, we are back squarely in the moral problem of external benefits, which we shall discuss below. The “collective goods” argument turns out, upon analysis, to reduce to the “external benefit” argument. Furthermore, even if only one agency must supply the good, it has not been proved that the government, rather than some voluntary agency, or even some private cor­poration, cannot supply that good.

Secondly, the very concept of “collective goods” is a highly dubious one. How, first of all, can a “collective” want, think, or act? Only an individual exists, and can do these things. There is no existential referent of the “collective” that supposedly wants and then receives goods. [Sanjeev: this point is self-evident, in that something which might be a bothersome negative externality to some, e.g., soot from a factory, would hardly bother a poor worker who depends on the factory for the survival of his family]. Many attempts have been made, nev­ertheless, to salvage the concept of the “collective” good, to provide a seemingly ironclad, scientific justification for govern­ment operations. Molinari, for example, trying to establish defense as a collective good, asserted: “A police force serves every inhabitant of the district in which it acts, but the mere establishment of a bakery does not appease their hunger.” But, on the contrary, there is no absolute necessity for a police force to defend every inhabitant of an area or, still more, to give each one the same degree of protection. Furthermore, an absolute pacifist, a believer in total nonviolence, living in the area, would not consider himself protected by, or receiving defense service from, the police. On the contrary, he would consider any police in his area a detriment to him. Hence, defense cannot be con­sidered a “collective good” or “collective want.” Similarly for such projects as dams, which cannot be simply assumed to ben­efit everyone in the area.

Antonio De Viti De Marco defined “collective wants” as con­sisting of two categories: wants arising when an individual is not in isolation and wants connected with a conflict of interest. The first category, however, is so broad as to encompass most market products. There would be no point, for example, in putting on plays unless a certain number went to see them or in publishing newspapers without a certain wide market. Must all these indus­tries therefore be nationalized and monopolized by the govern­ment? The second category is presumably meant to apply to defense. This, however, is incorrect. Defense, itself, does not reflect a conflict of interest, but a threat of invasion, against which defense is needed. Furthermore, it is hardly sensible to call “collective” that want which is precisely the least likely to be unanimous, since robbers will hardly desire it! Other econo­mists write as if defense is necessarily collective because it is an immaterial service, whereas bread, autos, etc., are materially divisible and salable to individuals. But “immaterial” services to individuals abound in the market. Must concert-giving be monopolized by the State because its services are immaterial?

In recent years, Professor Samuelson has offered his own def­inition of “collective consumption goods,” in a so-called “pure” theory of government expenditures. Collective consumption goods, according to Samuelson, are those “which all enjoy in common in the sense that each individual’s consumption of such a good leads to no subtraction from any other individual’s con­sumption of that good.” For some reason, these are supposed to be the proper goods (or at least these) for government, rather than the free market, to provide. Samuelson’s category has been attacked with due severity. Professor Enke, for example, pointed out that most governmental services simply do not fit Samuelson’s classification—including highways, libraries, judi­cial services, police, fire, hospitals, and military protection. In fact, we may go further and state that no goods would ever fit into Samuelson’s category of “collective consumption goods.” Margolis, for example, while critical of Samuelson, concedes the inclusion of national defense and lighthouses in this category. But “national defense” is surely not an absolute good with only one unit of supply. It consists of specific resources committed in certain definite and concrete ways—and these resources are necessarily scarce. A ring of defense bases around New York, for example, cuts down the amount possibly available around San Francisco. Furthermore, a lighthouse shines over a certain fixed area only. Not only does a ship within the area prevent others from entering the area at the same time, but also the construc­tion of a lighthouse in one place limits its construction else­where. In fact, if a good is really technologically “collective” in Samuelson’s sense, it is not a good at all, but a natural condition of human welfare, like air—superabundant to all, and therefore unowned by anyone. Indeed, it is not the lighthouse, but the ocean itself—when the lanes are not crowded—which is the “collective consumption good,” and which therefore remains unowned. Obviously, neither government nor anyone else is normally needed to produce or allocate the ocean.

Tiebout, conceding that there is no “pure” way to establish an optimum level for government expenditures, tries to salvage such a theory specifically for local government. Realizing that the taxing, and even voting, process precludes voluntary demonstra­tion of consumer choice in the governmental field, he argues that decentralization and freedom of internal migration renders local government expenditures more or less optimal—as we can say that free market expenditures by firms are “optimal”—since the residents can move in and out as they please. Certainly, it is true that the consumer will be better off if he can move readily out of a high-tax, and into a low tax, community. But this helps the consumer only to a degree; it does not solve the problem of government expenditures, which remains otherwise the same. There are, indeed, other factors than government entering into a man’s choice of residence, and enough people may be attached to a certain geographical area, for one reason or another, to per­mit a great deal of government depredation before they move. Furthermore, a major problem is that the world’s total land area is fixed, and that governments have universally pre-empted all the land and thus universally burden consumers.

We come now to the problem of external benefits—the major justification for government activities expounded by economists. [Footnote: The problem of “external costs,” usually treated as symmetrical with external benefits, is not really related: it is a consequence of failure to enforce fully the rights of property. If A’s actions injure B’s property, and the government refuses to stop the act and enforce damages, prop­erty rights and hence the free market are not being fully defended and maintained. Hence, external costs (e.g., smoke damage) are failures to maintain a fully free market, rather than defects of that market. See Mises, Human Action, pp. 650–53; and de Jouvenel, “Political Economy of Gra­tuity,” pp. 522–26.] Where individuals simply benefit themselves by their actions, many writers concede that the free market may be safely left unhampered. But men’s actions may often, even inad­vertently, benefit others. While one might think this a cause for rejoicing, critics charge that from this fact flow evils in abun­dance. A free exchange, where A and B mutually benefit, may be all very well, say these economists; but what if A does something voluntarily which benefits B as well as himself, but for which B pays nothing in exchange?

There are two general lines of attack on the free market, using external benefits as the point of criticism. Taken together, these arguments against the market and for governmental inter­vention or enterprise cancel each other out, but each must, in all fairness, be examined separately. The first type of criticism is to attack A for not doing enough for B. The benefactor is, in effect, denounced for taking his own selfish interests exclusively into account, and thereby neglecting the potential indirect recipient waiting silently in the wings. [Sanjeev: this is the argument that A doesn’t build enough schools, or produce enough inventions] [Footnte: For some unexplained reason, the benefits worried over are only the indirect ones, where B benefits inadvertently from A’s action. Direct gifts, or charity, where A simply donates money to B, are not attacked under the category of external benefit.]  The second line of attack is to denounce B for accepting a benefit without paying A in return. [Sanjeev: this is the alleged free rider] The recipient is denounced as an ingrate and a virtual thief for accepting the free gift. The free market, then, is accused of injustice and distortion by both groups of attackers: the first believes that the selfishness of man is such that A will not act enough in ways to benefit B; the second that B will receive too much “unearned increment” without paying for it. Either way, the call is for remedial State action; on the one hand, to use vio­lence in order to force or induce A to act more in ways which will aid B; on the other, to force B to pay A for his gift.

Generally, these ethical views are clothed in the “scientific” opinion that, in these cases, free-market action is no longer optimal, but should be brought back into optimality by correc­tive State action. Such a view completely misconceives the way in which economic science asserts that free-market action is ever optimal. It is optimal, not from the standpoint of the personal ethical views of an economist, but from the standpoint of the free, voluntary actions of all participants and in satisfying the freely expressed needs of the consumers. Government interfer­ence, therefore, will necessarily and always move away from such an optimum.


It is amusing that while each line of attack is quite wide­spread, each can be rather successfully rebutted by using the essence of the other attack! Take, for example, the first—the attack on the benefactor. To denounce the benefactor and implic­itly call for State punishment for insufficient good deeds is to advance a moral claim by the recipient upon the benefactor. We do not intend to argue ultimate values in this book. But it should be clearly understood that to adopt this position is to say that B is entitled peremptorily to call on A to do something to benefit him, and for which B does not pay anything in return. We do not have to go all the way with the second line of attack (on the “free rider”), but we can say perhaps that it is presump­tuous of the free rider to assert his right to a post of majesty and command. For what the first line of attack asserts is the moral right of B to exact gifts from A, by force if necessary.

Compulsory thrift, or attacks on potential savers for not sav­ing and investing enough, are examples of this line of attack. Another is an attack on the user of a natural resource that is being depleted. Anyone who uses such a resource at all, what­ever the extent, “deprives” some future descendant of the use. “Conservationists,” therefore, call for lower present use of such resources in favor of greater future use. Not only is this com­pulsory benefaction an example of the first line of attack, but, if this argument is adopted, logically no resource subject to deple­tion could ever be used at all. For when the future generation comes of age, it too faces a future generation. This entire line of argument is therefore a peculiarly absurd one.


The second line of attack is of the opposite form—a denun­ciation of the recipient of the “gift.” The recipient is denounced as a “free rider,” as a man who wickedly enjoys the “unearned increment” of the productive actions of others. This, too, is a curious line of attack. It is an argument which has cogency only when directed against the first line of attack, i.e., against the free rider who wants compulsory free rides. But here we have a situation where A’s actions, taken purely because they benefit himself, also have the happy effect of benefiting someone else. Are we to be indignant because happiness is being diffused throughout soci­ety? Are we to be critical because more than one person bene­fits from someone’s actions? After all, the free rider did not ask for his ride. He received it, unasked, as a boon because A bene­fits from his own action. To adopt the second line of attack is to call in the gendarmes to apply punishment because too many people in the society are happy. In short, am I to be taxed for enjoying the view of my neighbor’s well-kept garden? [Footnote: “If my neighbors hire private watchmen they benefit me indirectly and incidentally. If my neighbors build fine houses or cultivate gardens, they indirectly minister to my leisure. Are they entitled to tax me for these benefits because I cannot ‘surrender’ them?” (S.R., “Spencer As His Own Critic”).

One striking instance of this second line of attack is the nub of the Henry Georgist position: an attack on the “unearned increment” derived from a rise in the capital values of ground land. We have seen above that as the economy progresses, real land rents will rise with real wage rates [Sanjeev: which rise because of productivity], and the result will be increases in the real capital values of land. Growing capital structure, division of labor, and population tend to make site land relatively more scarce and hence cause the increase. The argument of the Georgists is that the landowner is not morally responsible for this rise, which comes about from events exter­nal to his landholding; yet he reaps the benefit. The landowner is therefore a free rider, and his “unearned increment” rightfully belongs to “society.” Setting aside the problem of the reality of society and whether “it” can own anything, we have here a moral attack on a free-rider situation.

The difficulty with this argument is that it proves far too much. For which one of us would earn anything like our pres­ent real income were it not for external benefits that we derive from the actions of others? Specifically, the great modern accu­mulation of capital goods is an inheritance from all the net sav­ings of our ancestors. Without them, we would, regardless of the quality of our own moral character, be living in a primitive jungle. The inheritance of money capital from our ancestors is, of course, simply inheritance of shares in this capital structure. We are all, therefore, free riders on the past. We are also free riders on the present, because we benefit from the continuing investment of our fellow men and from their specialized skills on the market. Certainly the vast bulk of our wages, if they could be so imputed, would be due to this heritage on which we are free riders. The landowner has no more of an unearned increment than any one of us. Are all of us to suffer confisca­tion, therefore, and to be taxed for our happiness? And who then is to receive the loot? Our dead ancestors, who were our bene­factors in investing the capital?

An important case of external benefits is “external economies,” which could be reaped by investment in certain industries, but which would not accrue as profit to the entre­preneurs. There is no need to dwell on the lengthy discussion in the literature on the actual range of such external economies, although they are apparently negligible. The suggestion has been persistently advanced that the government subsidize these investments so that “society” can reap the external economies. Such is the Pigou argument for subsidizing external economies, as well as the old and still dominant “infant industries” argu­ment for a protective tariff. [Sanjeev: Pigou made an argument for protection of agriculture]

The call for state subsidization of external economy invest­ments amounts to a third line of attack on the free market, i.e., that B, the potential beneficiaries, be forced to subsidize the benefactors A, so that the latter will produce the former’s benefits. This third line is the favorite argument of economists for such proposals as government-aided dams or reclamations (recipients taxed to pay for their benefits) or compulsory schooling (the taxpayers will eventually benefit from others’ education), etc. The recipi­ents are again bearing the onus of the policy; but here they are not criticized for free riding. They are now being “saved” from a situation in which they would not have obtained certain ben­efits. Since they would not have paid for them, it is difficult to understand exactly what they are being saved from. The third line of attack therefore agrees with the first that the free market does not, because of human selfishness, produce enough exter­nal-economy actions; but it joins the second line of attack in placing the cost of remedying the situation on the strangely unwilling recipients. [Sanjeev: this is not correct. Even A is asked to pay – as a taxpayer: double expenditure!] If this subsidy takes place, it is obvious that the recipients are no longer free riders: indeed, they are simply being coerced into buying benefits for which, acting by free choice, they would not have paid.

The absurdity of the third approach may be revealed by pon­dering the question: Who benefits from the suggested policy? The benefactor A receives a subsidy, it is true. But it is often doubtful if he benefits, since he would otherwise have acted and invested profitably in some other direction. The State has sim­ply compensated him for losses which he would have received and has adjusted the proceeds so that he receives the equivalent of an opportunity forgone. Therefore A, if a business firm, does not benefit. As for the recipients, they are being forced by the State to pay for benefits that they otherwise would not have purchased. How can we say that they “benefit”?

A standard reply is that the recipients “could not” have obtained the benefit even if they had wanted to buy it voluntar­ily. The first problem here is by what mysterious process the critics know that the recipients would have liked to purchase the “benefit.” Our only way of knowing the content of preference scales is to see them revealed in concrete choices. Since the choice concretely was not to buy the benefit, there is no justifi­cation for outsiders to assert that B’s preference scale was “really” different from what was revealed in his actions. [Sanjeev: economists are not God, omniscient]

Secondly, there is no reason why the prospective recipients could not have bought the benefit. In all cases a benefit produced can be sold on the market and earn its value product to con­sumers. The fact that producing the benefit would not be prof­itable to the investor signifies that the consumers do not value it as much as they value the uses of nonspecific factors in alter­native lines of production. For costs to be higher than prospec­tive selling price means that the nonspecific factors earn more in other channels of production. Furthermore, in possible cases where some consumers are not satisfied with the extent of the market production of some benefit, they are at perfect liberty to subsidize the investors themselves. Such a voluntary subsidy would be equivalent to paying a higher market price for the benefit and would reveal their willingness to pay that price. The fact that, in any case, such a subsidy has not emerged eliminates any justification for a coerced subsidy by the government. Rather than providing a benefit to the taxed “beneficiaries,” in fact, the coerced subsidy inflicts a loss upon them, for they could have spent their funds themselves on goods and services of greater utility.






Please follow and like us:
Pin Share

Sanjeev Sabhlok

View more posts from this author
Social media & sharing icons powered by UltimatelySocial