Do You Know Why Moral Decisions Aren't the Best?

Making decisions based on morals seems like the right thing to do. But doing so often makes us miss the unintended consequences and externalities we create. To improve your decision-making, think through all of the ramifications of your choice.

Politicians and special interest groups often justify economic policies based on moral grounds. But, when our moralistic ideals blind us to these policies' actual results, we make our situation worse. So, the best course of action is to not focus on achieving a moral outcome. But to let the free market operate to maximize our standard of living.

In this article, I'll show that using morals to make economic decisions won't improve our living standards. I'll also explain how we can use the lessons from that discussion to improve our decision-making.

Economics is Rife with Fallacy

The economy is a complex system. Millions of products and services flow through it daily. Also, many people have a limited understanding of how the economy works. Take those together, and we get a subject littered with fallacies.

And one of the biggest misunderstandings? It's that we can ignore economic principles when they don’t fit our moral framework.

As Henry Hazlitt said in Economics in One Lesson: The Shortest and Surest Way to Understand Basic Economics:

“Economics is haunted by more fallacies than any other study known to man. This is no accident. The inherent difficulties of the subject would be great enough in any case, but they are multiplied a thousandfold by a factor that is insignificant in, say, physics, mathematics or medicine-the special pleading of selfish interests. While every group has certain economic interests identical with those of all groups, every group has also, as we shall see, interests antagonistic to those of all other groups. While certain public policies would in the long run benefit everybody, other policies would benefit one group only at the expense of all other groups. The group that would benefit by such policies, having such a direct interest in them, will argue for them plausibly anmoral decisions aren't the best, minimum wage, economic principles, supply and demand, free marketd persistently. It will hire the best buyable minds to devote their whole time to presenting its case. And it will finally either convince the general public that its case is sound, or so befuddle it that clear thinking on the subject becomes next to impossible.

“In addition to these endless pleadings of self-interest, there is a second main factor that spawns new economic fallacies every day. This is the persistent tendency of men to see only the immediate effects of a given policy, or its effects only on a special group, and to neglect to inquire what the long-run effects of that policy will be not only on that special group but on all groups. It is the fallacy of overlooking secondary consequences.”

So, fallacies result from people misrepresenting the impact of their policies and our failure to look past the immediate impact of the decision.

Economics is More Like Physics Than You Think

I like to compare economics to physics. Both are amoral. Gravity works the same for sinners and saints. And no amount of moral superiority will change that. We can’t rid the world of immoral people by selectively turning gravity off and letting the evil people float away into space.

Economics is no different. Supply and demand work the same for all. No matter if you're a government crony or an entrepreneur with a social conscience.

The Purpose of the Economy is to Allocate Scarce Resources

Before we discuss why we can’t use economic policies to achieve moral outcomes, we first need to understand the purpose of an economy.

Our challenge in life is to maximize the standard of living in our society. To do so, we must divide our scarce resources among their competing uses to maximize our wealth.

Thomas Sowell discusses the purpose of an economy in his book, Basic Economics, Fifth Edition: A Common Sense Guide to the Economy. In that book, he explains that the economy is the mechanism we use to allocate scarce resources.

So, the economy's purpose is to allocate scarce resources to maximize our standard of living.

You Can’t Bend Economic Principles to Fit a Moral Framework

One viewpoint is that the government should divide resources using moral principles. This is necessary, it's argued, to ensure everyone has enough to meet some minimum standard of living.

The problem is that in doing so, we're trying to force an amoral system to fit a moral framework.

Why is this a problem? What happens when we try to make an amoral reality conform to a subjective morality?

Think of forcing a square peg into a round hole. When we do so, we change the shape of both the hole and the peg. We distort them to force them together.

The economy is the same. When we ignore economic principles to achieve a moral outcome, we create distortions in the form of unintended consequences and externalities. These distortions end up creating more problems than they fix.

An Example: The Minimum Wage

Let’s look at the minimum wage as an example.

Background

Without government intervention, the market sets the appropriate wage for a given job. It does so through the supply and demand mechanism.

The argument behind the minimum wage is that everyone has the right to a living wage. But, we run into a problem because the market wage for low-skill jobs isn't enough to live on. And businesses don’t want to pay more for a job than the value it receives.

So, many politicians and pundits say the government should force companies to pay a higher wage for these low-skill jobs.

The argument boils down to the idea that business owners are hoarding profits. And in doing so, they're refusing to pay wages that people can live on. This reasoning rests on moral grounds while ignoring the principle of supply and demand.

What is a Minimum Wage Law?

A minimum wage law is a price-fixing policy. It's when the government forces a company to pay a specified minimum price for labor.¹ In most instances, the government fixes the wage above the market price for the work. So, the government is forcing businesses to pay more for a worker than the value it receives from the worker.

It's important to understand that a wage is a price for labor. Since wages are a price, they're governed by the same principles as prices.²

Based on the law of supply and demand, fixing a price above equilibrium creates a surplus of the item.

First, suppliers enter the market to take advantage of the higher price. At the same time, the higher price causes consumers to lower their consumption of the item. So, we end up in a situation where supply increases while demand decreases, creating a surplus.

For example, let's look at baseballs. Say the equilibrium price for a baseball is $10. A well-meaning politician comes along and sets the price of baseballs at $15. The price increase causes suppliers to make more baseballs. And new suppliers also enter the market.

But demand also decreases. Consumers who value baseballs below $15 will stop buying them. And, we end up with more baseballs than we can sell.³

So, What Happens When the Minimum Wage Increases?

On to our discussion. What happens when the government forces an employer to pay a wage (say $15/hr) higher than the market rate ($10/hr)?

Economics in One Lesson has an excellent discussion of minimum wage laws. Here’s what Hazlitt has to say:

“Yet it ought to be clear that a minimum wage law is, at best, a limited weapon for combating the evil of low wages, and that the possible good to be achieved by such a law can exceed the possible harm only in proportion as its aims are modest. The more ambitious such a law is, the larger the number of workers it attempts to cover, and the more it attempts to raise their wages, the more certain are its harmful effects to exceed any possible good effects.”

So, what are the harmful effects Hazlitt referred to above? In what instances is a minimum wage beneficial? And what do we see when we compare the harm to the benefit?

Demand for Labor will Decrease

A minimum wage will decrease the demand for labor resulting in a drop in employment.

Employees who don't provide $15/hr of value either aren't hired or will lose their jobs. For example, a shop owner values sweeping floors at $10/hr. When the government forces the owner to pay a floor sweeper $15/hr, the owner will opt to sweep the floor himself.

In this case, the government is depriving the worker of a wage and the opportunity to gain experience. The government is also denying the community of the worker's productivity.

The core concept to remember here is that we can’t make someone’s labor more valuable by passing a law. No one can use the force of morals to move an equilibrium price to a higher level.

If sweeping floors is only worth $10/hr in the market, then that is what the market will pay. Forcing a higher wage, only distorts the market. And it deprives the floor sweeper of the opportunity to earn a living, even if it is meager.

But, let's say the business must keep the employee for some reason, so it has to pay the higher wage. In that case, the company can pass the increased labor cost on to the consumer, or it can absorb the increased cost.

The Impact of Rising Prices

In the case where the business raises prices, several things can happen.

Consumers can pay the higher price. But, this will cause them to cut back purchases of that product or other products. Either way, sales decline.

Consumers can also shift purchases to goods not affected by the minimum wage.

For example, City A passes a minimum wage law raising wages to $15/hr. This causes Sock Manufacturer A, located in City A, to raise prices from $5 to $8. A competitor in City B is not subject to the increased minimum wage, so it's able to continue selling socks for $5. People in City A will start buying from Sock Manufacturer B to get a lower price. This price disadvantage could cause Sock Manufacturer A to lay off workers and, in time, go out of business.

Business Investment Will Decrease

An alternative is that some companies may absorb the cost increase. But this has a negative impact as well. A company with a thin profit margin would get forced out of business, causing a loss of jobs.

Other companies with a healthier profit margin can absorb the cost increase. But the narrower profit margin will cause it to slow down reinvestment in its business. That would make the company shelve plans to increase hiring. So, in this case, there wouldn't be a loss of jobs, but the rate of job growth would slow.

The Rare Case When Minimum Wage Laws are Beneficial

To be fair, there is one narrow circumstance when a minimum wage law is a benefit. That’s in cases where the wages paid are below the market wage for some reason. This is rare and usually only seen in cases where competitive forces can’t operate. Otherwise, competition keeps wages at market rates.

Minimum Wage Laws Hurt the People They Are Trying to Help

In the end, our attempt to run an economy based on morals does more harm than good. In the case of the minimum wage, the policy hurts the people we intended to help.

The alternative is to leave the market to function unhindered. When we do, we get an efficient allocation of scarce resources. Such a division maximizes the standard of living for all based on the value they provide.

So, what we should strive for is not a moral system. We should instead let the free market operate to provide the greatest good. But we must accept that some immoral actors will thrive.

What does this teach us?

So, what can we learn from the minimum wage?

Incentives Matter

First, incentives matter.

People often use morals to hide when they're acting in their own self-interest. Politicians want to win votes, and workers want higher wages. Instead of being honest about their motives, they'll hide behind moral platitudes. Then they'll call their opponents immoral when the opponent points out the flaws in their policy.

Always ask what incentives the parties have for pushing a policy. Often, you'll find the real motivation is financial instead of moral.

We Create Distortions: Unintended Consequences and Externalities

Second, when we ignore economic principles, we create unintended consequences and externalities.⁴

Unintended Consequences

Unintended consequences occur when a purposeful action creates an unforeseen outcome. When we alter a complex system, such as the economy, we cause unintended consequences. Remember the decreased demand under a minimum wage? Or the slowed business investment?

Unintended consequences can sometimes be a benefit. But, the unintended consequence is often worse than the original problem.

Externalities

An externality is a cost or benefit that affects a third-party who did not choose to incur that cost or benefit. The increased demand for Sock Company B’s product is an external benefit.

As with unintended consequences, externalities can be good or bad. It’s often a matter of perspective. Increased demand for A’s product is good for A but bad for B.

Application Outside of Economics

We can take these lessons and use them to improve our decision-making.

First, when making decisions, don’t assume that the moral choice will lead to the best outcome.

Always consider the unintended consequences and externalities created by your decision.

When working in a complex system, unintended consequences and externalities are the rule. Don’t ignore them. Instead, think through the total impact of your decision.

Second, after you've determined the impact of your decision, do a cost-benefit analysis. Doing so will help you determine if the benefit outweighs the cost. And ensure you're making an informed decision.

The Minimum Wage Can Improve Your Decision-Making

The economy is an amoral system. So, it works the same for everyone.

When we try to ignore economic principles, we create unintended consequences and externalities. Moral justifications won't change that. Sometimes these distortions create a larger problem than what we started with.

The same is true for many of the decisions we make in life. Improved decision-making frees us from dealing with bad choices and helps us gain independence. So, when you face a big decision, don't jump at what seems like the best solution at first glance. Instead, consider all the possible outcomes. Then, decide if the benefit outweighs the cost.

1 Setting the minimum wage below the equilibrium price would not have any effect because employers are already paying the equilibrium rate.

2 Because we call the price for labor a wage instead of a price hides the fact that the same principles govern both.

3 This is a straightforward example of how a price floor, such as the minimum wage, distorts the market. To see how a price ceiling distorts the market, research the impact of anti-price gauging laws.

4 Unintended consequences and externalities deserve more in-depth discussions. But the short explanations I provide here give you the general idea.

Image by Arek Socha from Pixabay