This is a CLASSIC from Milton and Rose Friedmans’ Free to Choose that should be remembered when thinking about policy at all levels, from government programs to holiday gift giving.
Today all of us are paying out of one pocket to put money-or something money could buy-in the other.
A simple classification of spending shows why that process leads to undesirable results. When you spend, you may spend your own money or someone else’s; and you may spend for the benefit of yourself or someone else. Combining these two pairs of alternatives gives four possibilities summarized in the following simple table:
[Had to modify the look of the table for the blog]
On Whom Spent:
Whose Money ¦You ¦Someone Else
Yours I II
Someone Else’s III IV
Category I in the table refers to your spending your own money on yourself. You shop in a supermarket, for example. You clearly have a strong incentive both to economize and to get as much value as you can for each dollar you do spend.
Category II refers to your spending your own money on someone else. You shop for Christmas or birthday presents. You have the same incentive to economize as in Category I but not the same incentive to get full value for your money, at least as judged by the tastes of the recipient. You will, of course, want to get something the recipient will like-provided that it also makes the right impression and does not take too much time and effort. (If indeed, your main objective were to enable the recipient to get as much value as possible per dollar, you would give him cash, converting your Category II spending to Category I spending by him.)
Category III refers to your spending someone else’s money on yourself-lunching on an expense account, for instance. You have no strong incentive to keep down the cost of the lunch, but you do have a strong incentive to get your money’s worth.
Category IV refers to your spending someone else’s money on still another person. You are paying for someone else’s lunch out of an expense account. You have little incentive either to economize or to try to get your the guest the lunch that he will value most highly. However, if you are having lunch with him, so that the lunch is a mixture of Category III and Category IV, you do have a strong incentive to satisfy your own tastes at the sacrifice of his, if necessary.
All welfare programs fall into either Category III–for example, Social Security which involves cash payments that the recipient is free to spend as he may wish; or Category IV–for example, public housing; except that Category IV programs share one feature of Category III, namely, that the bureaucrats administering the program partake of the lunch; and all Category III programs have bureaucrats among their recipients.
In our opinion these characteristics of welfare spending are the main source of their defects.
This has touches so much, but we rarely discuss it. This is a root cause to many problems. We act as if these different incentives across the four categories of spending do not exist or that we can somehow fix it because its driven by evil things like greed, not realizing that it’s not evil. It just the way things are. I simply can’t make as a good of a decision as you, consistently, about what you value.
Consider the profit-motive, which gets bandied by the Right as why capitalism works and the Left as the source of all things evil. The word profit is a hot button. I think the profit-motive is not named correctly.
Perhaps we should call it the Category I motive or ownership motive. That’s really what it is. When we have to directly live with the consequences of our decisions based, we own that decision. That’s what causes us to take some care in making sure we economize, but get the value for our money. That’s why Category I activity is typically judged on the true merits of the decision. For example, I won’t continue to give money to a poorly run restaurant, I’ll seek better value at a competitor.
Contrast that to the Category IV spending. We don’t necessarily have to directly live with the consequences of that spending, so we don’t own that decision as much. That’s why Category IV spending is largely judged on the intentions of that spending, not the true outcome (”It’s the thought that counts!).
