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In Policy Battle, It’s Heartless vs. Mindless: News Analysis

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This week, the Federal Reserve dropped two bombshells—the news that from 2007 to 2010 household wealth dropped 39% to a level last seen in 1992 and the smaller but perhaps more fraught headline that median income fell 8% in those three years.

The fall of median family net worth to $77,300 from $126,400 is mostly a real estate phenomenon; homeowners certainly feel less wealthy and the statistic reminds Americans that happy days have yet to return.

But the slide in income reflects that fact that Americans remain financially pinched with less to spend, and reduced incomes have a depressing economic effect: When the policeman lessens the frequency of dentist visits, the dentist will buy fewer baseball tickets or have less wealth for his financial advisor to manage.

Politicians will doubtless spin the vanishing wealth in predictable ways. Conservatives will say the president’s policies have been calamitous; liberals will note the timeframe 2007 to 2010 includes the administration of the president’s predecessor, whose policies they hold responsible. The former generally want to see tax reduction, expanded trade and deregulation while the latter generally favor income redistribution and government programs targeted to middle-class and poor Americans.

But let’s try and put politics aside and examine principles that may help in evaluating proposed policy fixes. The debate in economics often comes down to whether to pursue efficiency or equity. Advocates of equity, or fairness, think the efficiency crowd is heartless, while those most focused on the efficient use of resources think their opponents are dimwits for not understanding that inefficiency shrinks the pie that is to be carved up and shared.

The fact is that both sides are correct, and the art of economic policy is understanding which to emphasize at different historical moments. To give some extreme examples, I recall a friend in college arguing in favor of the death penalty—not because someone who has taken a life deserves to lose his own and not because he felt it had a deterrent effect, but because it was “inefficient” to spend so much in tax dollars on the maintenance of criminals.

I have little as little sympathy for criminals as most people do, but I suspect most people will agree with me that decisions over life and death should be made on the basis of principles of justice rather than economic efficiency grounds.

Another college-era story (that was a long time ago!) illustrates the trouble with misdirected compassion. The liberal college town I lived in had a strict rent-control regime. When I left the dorm and had to find an apartment of my own, I quickly discovered that the “cheap” rent did not help me solve my housing problem. There was very little availability, since older, wealthier people often stayed in the apartments until they died, and when vacancies occurred apartment managers were taking money under the table. So the wealthiest students could afford an apartment with “cheap” rent, while the less fortunate lived in more distant towns, resulting in longer commutes and higher rents.

So here’s the key to the art of policymaking: the central element in economic decisions should be human relationships. In an extreme efficiency environment, the economically powerful will exploit the economically vulnerable. Think orphans working at looms all day, with a little bit of gruel to eat.

In an extreme equity environment, the wealth of productive members of society is confiscated. Think farmers hording their crops, and not growing any more, while the peasants starve.

Again, eschewing politics, but looking at the human dimension of American’s sliding income, it seems clear to me that the single greatest problem today is the persistently high unemployment rate, which hovered at 8.2% in the most recent employment report. The unemployed are losing income, independence and a sense of self-worth, and adding pressure to strained government and family budgets.

The party or politician that can, through efficiency or equity, convince Americans there is a path to alleviating this grave social ill, will likely prevail in November’s elections. But it is entirely possible that neither presidential candidate will make that case persuasively and the election will be decided on other issues. And that would indeed be an indictment of economics, the dismal science, when creative thinking in this field is needed more than ever.