by Brian Balfour
Senior Vice President of Research, John Locke Foundation
Imagine if tomorrow the output produced by our nation’s labor force was cut in half. The same number of people worked the same number of hours, but the quantity of goods and services produced dropped by 50%.
The heightened scarcity of such goods would make them unobtainable for many. Basic needs would go unmet. The results would be disastrous, with the poor especially hardest hit.
Now imagine the opposite – the same amount of labor effort creates twice the output. The dramatic spike in abundance would significantly lift human flourishing and ensure people’s basic needs were easily met, with plenty more to go around.
What does this mental exercise tell us?
The growth of society is determined by the productivity of society’s labor and means of production.
Poverty has no cause; it is man’s natural state. Poverty is the absence of wealth creation. So the relevant question is not “what causes poverty,” but rather, “what causes wealth creation”?
As noted above, wealth is generated via increased productivity. By that we mean an increase in the quantity of product created for a given amount of labor expended.
As John Chamberlain, the late economic historian, stated, “Poverty in society is overcome by productivity, and in no other way. There is no political alchemy which can transmute diminished production into increased consumption.”
How is productivity increased?
As the Austrian economist Ludwig von Mises wrote, it is the “accumulation of capital” that increases the productivity of labor, with capital largely referring to productive capital goods like machinery, tools, and other technology. The modern-day farmer is made more productive by his tractor, compared to the farmer of yesteryear who had only a horse and plow, who in turn was more productive than primitive farmers using just their bare hands.
Today’s automated factories produce far more cars than workers relying on basic tools like hammers and screwdrivers could.
The increased investment in capital goods is what makes workers more productive.
In tandem with the accumulation of capital, the division of labor enables greater productivity from a given amount of labor. As Mises wrote, “work performed under the division of labor is more productive than isolated work.”
The division of labor refers to the dividing up of a productive process into smaller and specialized tasks. Imagine the inefficiency of one person trying to produce a pencil from start to finish compared to the process being split up among specialists separately performing the task of cutting down the trees, shaving and shaping the lumber into smaller pieces, inserting the lead in the middle, acquiring and attaching the rubber for the eraser, etc.
With this understanding, we can see that policies that discourage increases in productivity will make us poorer.
For instance, taxes on businesses will discourage capital investment as taxation make such investments less profitable. Capital gains taxes are especially harmful on this front. Moreover, the more money taxed out of the hands of entrepreneurs, the less is left for them to invest.
Burdensome and intrusive regulations that eat away at business profitability and divert resources to compliance and away from capital goods have similar impacts.
Taxing and regulating productive activity are not just burdens on “corporations” but are an attack on the very source of poverty reduction; i.e., investments in productivity-enhancing capital.
Similarly, government policies like tariffs and regulatory burdens and restrictions that make it more expensive or difficult for goods and inputs to move across state or country borders stifle the benefits from the division of labor.
Furthermore, to maximize wealth creation and the benefits from investment in capital, the arrangement of productive factors must minimize opportunity costs. Opportunity costs are the value of the forgone alternate activity when someone engages in a particular activity. If what is forgone is more valuable than what is produced, society is made poorer as a result.
For example, if businesses are producing massive amounts of bicycles but what society actually needs is bread, society will suffer. The labor and capital resources devoted to producing bicycles could have instead been used to produce bread to feed hungry citizens.
The most effective mechanisms to minimize opportunity costs are the market signals of prices, profits, and losses. Losses tell an entrepreneur that his resources are not being efficiently used, while profits signal that resources are being used efficiently to satisfy consumer desires.
Prices contain both a signal and incentive for entrepreneurs to direct scarce resources toward where they are needed most. If the price of, say, wheat rises, a signal is sent that wheat is in high demand and in relatively short supply. The high price also incentivizes more entrepreneurs to shift more resources into producing wheat. The result is the production of more wheat, satisfying society’s urgent need.
Government interference with these signals through price controls, subsidies, or corporate welfare can direct scarce resources to less-desired or valued ends. Society is deprived of goods and services people value more as entrepreneurs chase distorted signals, which makes us poorer.
Rising productivity is the key to wealth creation and the alleviation of poverty. A growing, intrusive government inevitably stifles productivity.
And wealth creation benefits far more than just the rich.
Indeed, greater output and wealth would create far better conditions for the poor. The increased wealth would result in fewer people in poverty, with more resources available for charitable care for those remaining destitute.