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10/30/2013 2:00:00 PM
Coastal Economist
By Marcus Hutchins

The biblical tale of the Tower of Babel recounts the confounding of the world's languages. I conjecture that this conversational confusion commenced with economists.

During the past few centuries, economists have developed their own language, which in turn, affects their thought process. A discussion with one of these practitioners of the dismal science can cause one to feel as though he or she has just stepped into that tower of antiquity.

To make matters worse, we economists use the same words as normal folks. Yet, we assign enigmatic alternative definitions to those words and assume that others understand our thoughts and intents. My wife assures me that we are wrong in this assumption.

One of the terms, without which economists can scarcely pen a sentence, yet whose economic meaning is not to be found in Miriam-Webster, is the word "efficient." According to the dictionary, efficient means "capable of producing desired results without wasting materials, time, or energy."

I have a friend who tells me that an economy can be efficient only through competition. As an economist this thought is nonsensical. Yet, under a certain definition of "efficient" this statement has some validity.

Consider the auto industry for a moment. Without competition from Honda, Toyota, Mercedes, Kia, Ford, and the rest, GM would likely produce cars with less "efficiency."

This is not how economists use this term. Economists typically ignore this type of "efficiency." Matters concerning effective production are relegated to the business folks and industrial engineers. Economists will not trifle with things so tangible and practical. We assume this type of efficiency through competition.

So how do economists define the term "efficient?" Efficiency occurs when the marginal cost of any product or service equals the marginal utility. Obviously, right?

For as long as my mind can recall, I have heard people of all sorts, the learned and the illiterate, the wise and the otherwise, utter the tired old adage, "If a thing is worth doing, it is worth doing well." To an economist, not only is this an absurd declaration, it also strikes a blow to the heart of efficiency. Efficiency happens when the cost of the last bit of effort is just barely compensated by the benefit derived therefrom.

An example might help, but this example comes with a warning. I suggest you withhold this illustration from your children and grandchildren who might yet be in school.

Back when I was in grad school, the Ph.D required one class in the history of economic thought. This topic was, at the time, of marginal interest to me. To be fair, I enjoyed history. Further, I retained terrific memories of my undergrad economic history class in which I met my wife-to-be. However, while at Columbia, other studies were of much greater interest to a guy who aspired to trade international financial markets.

Getting back to our illustration, on the first day of class, the economic history professor informed us that we could either write a paper or take an exam for the course credit. As soon as I heard that, I was elated. I silently stood up, tiptoed out of class, and determined to write a paper, never to return to class.

About half way through the semester, having put a fair amount of thought into it, I dictated a 25 page paper to my wife who dutifully sat at a typewriter pecking to paper each of my words. The next day I handed the humble offering to my professor whose face I scarcely remembered from that 10 minute solo encounter at the start of the semester.

After a few days I met with the prof to discuss the paper. He informed me that it was actually quite good, worthy of a B+ in the class. He further explained that if I were to rewrite two sections to include a few minor items, he would give me an A. At this point economic efficiency immediately came to mind.

It had taken me one evening to dictate this paper to my wife. With that degree of effort I had gone from an F to a B+. Now I was presented with the option that, with a few days of actual hard research, followed by another, longer evening of dictating and typing, I could move from a B+ to an A. This was a lot of work for what I felt was a small gain.

After a very quick calculation of this additional effort ("marginal cost") and its accompanying improvement in grade ("marginal utility"), I replied, "B+ is good enough for me in this class."

That was efficient. If a thing is worth doing, it is worth doing up to the point where the cost of additional effort just matches the value of the additional benefit. Sometimes, if a thing is worth doing at all, it is only worth doing "half-baked." I further add that if a thing is not worth doing, it is not worth doing well.

Often, when economists are looking into notions of efficiency, they are considering what and how much of a good or service is produced in an economy. In other words, is it possible to rearrange the quantities produced of certain goods and services, through taxation, subsidies, outright public production, or outright prohibition, and thereby bring a higher level of economic welfare (what we call "utility")?

The libertarian perspective addresses this question as follows; everyone who spends money in the economy gets to vote, in proportion to his or her income and wealth, on what will be produced. The products which people want will be brought forth, since these are the products for which money is spent. The products people do not want, will not be produced since no one will pay for them.

So does it not follow from this that the economy will naturally move toward efficiency if the public sector simply stays out of the markets? Since we vote with our money, should we not expect that companies will manufacture just what people want in just the amounts we most desire, which is, after all, "economic efficiency?"

We will examine this question next week. I can hardly wait.

(Marcus Hutchins, MA, M. Phil, Economics, Columbia University, NYC, is a former economist, treasury bond arbitrage trader and hedge fund manager. He retired to Southport in 1997 where he resides with his wife Andrea and his youngest daughter Abbey. He welcomes feedback at

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