Knowledge is Half the Battle

In my previous post, I talked about what I see as Economics’ contribution to the larger body of sciences.  But that is not the full story.  Formulating the cost-benefit analysis (henceforth in this post called “CBA”) is one thing.  Properly applying it is another.  By way of example, let’s look at some comments at a recent EconLog post:

Commentator Thaomas [sic] says (emphasis added):

But I’ve noticed that when it comes to policies people DO expect free lunches, or at least will not eat unless lunch is free. Take minimum wages. Folks point out that transferring income to low paid workers will cost some jobs (most folks think not very many, but some). Lunch is not free, but some people are willing to accept the cost.

Thaomas correctly notes that minimum wages cost jobs.  However, his mistake is his last line.  As Don Boudreaux explains (emphasis added):

You write, about minimum-wage policy, that you notice that “some people are willing to accept the cost” of lost jobs. Do you mean the people who actually lose, or who never get, jobs because of the minimum wage are among those who are “willing to accept the cost”?

…

But even for those relatively few minimum-wage proponents who admit that the minimum wage reduces job prospects for the very group of workers that it is ostensibly designed to enrich, it is not the minimum-wage proponents themselves who are “willing to accept the cost.” Instead, these proponents are willing to have others accept the cost.

Don’s last sentence is key.  Despite acknowledging CBA, Thaomas incorrectly applies it.  Those making the decision are not the ones facing the costs of their decision (if they face any at all).  Indeed, they may stand to benefit substantially (though political praise or power, for example).  This means that their own CBA is skewed positive since they face no costs but all benefits!  To them, this is a good move given the incentives they face.

But there is another group who actually faces the costs of a policy.  To them, the CBA is different and more personal.  And, dare I say, more accurate since they are the ones who bare the full responsibility for their actions.  The CBA of the policymakers leaves out a key factor: the subjective judgments of those involved.  This is key and something no policymaker can truly know (and even if they did not be able to act upon since they do not face the trade-off).

This is one of the more subtle aspects of CBA.  CBA is a powerful tool, but it can be misued or misunderstood as we see above.