Mr. Buffett, Meet Ludwig von Mises and Murray Rothbard
by Michael S. Rozeff
by Michael S. Rozeff
Mr. Warren Buffett has retired. He has given away or plans to give away most of his multi-billion dollar fortune. Mr. Buffett, meet Ludwig von Mises and Murray Rothbard. Why not make a healthy contribution to the Ludwig von Mises Institute?
"It is the mission of the Mises Institute to restore a high place for theory in economics and the social sciences, encourage a revival of critical historical research, and draw attention to neglected traditions in Western philosophy. In this cause, the Mises Institute works to advance the Austrian School of economics and the Misesian tradition, and, in application, defends the market economy, private property, sound money, and peaceful international relations, while opposing government intervention as economically and socially destructive."
Remarked upon by both von Mises and Rothbard is the quite unbelievable but not at all unusual fact that some of the most important capitalists deny the efficacy and justice of free markets. Mr. Buffett is among them. I have singled him out only because it is part of his genius to simplify matters and speak of them clearly. We are not in doubt as to his views. The lessons we have to learn by analyzing views such as his go well beyond what he as an individual thinks and believes.
We have much to learn from Warren Buffett as investment genius and as business manager. But he and others have much to learn from Ludwig von Mises and Murray Rothbard and those following in their footsteps who are advancing the Austrian School of economics.
In accumulating his wealth, Mr. Buffett has followed the saying "Shoemaker, stick to thy last." He has stuck to investing in and managing businesses he knows about, while avoiding all others. He has resolutely stuck to his investment rules. He has patiently waited until the market has pitched balls that he can hit out of the park. He personifies focus, the opposite of conglomeration.
When he ventures out of his area of expertise, he often falls flat on his face. He needs to meet Ludwig von Mises and Murray Rothbard. He needs exposure to the Misesian tradition. He does not understand that government intervention is economically and socially destructive.
The Ludwig von Mises Institute should offer Mr. Buffett a place at Mises University. The intellectual sparks would fly! Mr. Buffett's views on related matters of economic, social, and political policies have already come in for analysis and criticism in the LRC pages. Mr. Buffett favors the estate tax. Lew Rockwell explains to Mr. Buffett and all of us that repealing the estate tax will generate more wealth and more charitable giving. Repeal makes it easier for new people, supported by inherited family wealth, to compete with the rich and super-rich.
Mr. Buffett is guilty over his wealth. He thinks he doesn't merit it and hasn't earned it. He thinks his talents came by birth and that he doesn't deserve them. He's an egalitarian who has publicly endorsed the Rawlsian veil of ignorance. St. Paul has written: "Nay but, O man, who art thou that repliest against God? Shall the thing formed say to him that formed it, Why hast thou made me thus? Hath not the potter power over the clay, of the same lump to make one vessel unto honour, and another unto dishonor?" Mr. Buffett is said to be agnostic. He does not endorse such ideas. But even if Mr. Buffett were a Christian, does he know what he was born with and what he developed? Can he or any of us distinguish? Isn't each one of us enfolded in a complex process of choice and external human and providential influences that is beyond our comprehension? And leaving aside all such considerations that raise doubt about the propriety of guilt and egalitarian ideas, there are no moral or practical grounds for Mr. Buffett to endorse government as the remedy. Government is an agency of violence; and government agents can't possibly know enough to reallocate human merits and demerits. And besides being disruptive and creating strife, political processes are anything but fair.
Greg Bacon brings us the information that Mr. Buffett favors the progressive income tax, on the ground that the market system produces inequitable results. Mr. Buffett's businesses have brought major benefits to consumers. He has invested large sums of money at times (like 1974) when others were fearful and assessed high risks. Although both kinds of activities have brought him large returns, maybe the uncertainties and risks were really high. He bought at low prices when conditions were bad and looked like they would stay bad. Mr. Buffett didn't think so. He doesn't think he was taking a chance. He held a long view. It encompassed eventual recovery. But he could have been wrong. He won a bet. He won a series of bets, but he does not look at it that way. He thinks he got a free lunch, that Mr. Market inequitably gave him a free lunch.
I don't doubt that Mr. Buffett's unique talents and mind have earned him some rent, but does that mean that everyone who does well in a market is earning rents? Mr. Buffett does not understand that the progressive income tax discourages entrepreneurial actions and risk-taking such as his. It acts as if market rewards are unearned rents that are unfair, as if they were compensation for nothing. And does the government of all things know what is rent and what is not? Does it know enough to manipulate tax rates for whole classes of people in such a way as not to undermine the economic incentives to produce wealth? Mr. Buffett naïvely thinks that the State is some kind of beneficent and all-knowing institution. He does not seem to grasp that politicians and interest groups are out for power and the dollar and willingly destroy wealth to get them.
Mr. Buffett's company (Berkshire) writes catastrophe insurance. It often writes policies that other companies won't touch. As long as no catastrophes occur, the company keeps the premiums and makes lots of money. When a catastrophe strikes, the company loses a great deal of money. In November of 2001, Mr. Buffett wrote a very revealing article on "An FDIC for Insurers." He revealed that his profits are not always a free lunch: "I did something very dumb: allowed Berkshire to provide insurance coverage for a huge catastrophe loss without its getting a premium for doing so. The risk we unthinkingly assumed was a loss from terrorism." Berkshire's loss from Sept.11 was $2.3 billion, he estimated. He pointed out that a nuclear device would have been much worse. "Given that kind of horrendous, but not impossible, nuclear scenario, insured losses could have been $1 trillion, an amount that exceeds the net worth of all property-casualty insurers worldwide."
Insurers can get off the hook by inserting clauses that exempt them from paying off for losses due to nuclear events, much in the same way that homeowners' policies do not cover earthquake damages. Nuclear catastrophe may simply be too uncertain, too widespread, and too damaging an event to be suitable for a company insurance policy.
Buffett went on to say that to insure such a loss required an entity greater than existed in the private sector: "Only the U.S. government fits the bill." Congress did pass the Terrorism Risk Insurance Act of 2002, extended and amended in 2005. While called insurance, it is not. The insurance companies now have unwilling partners, namely, the taxpayers. The insurance industry writes the policies insuring against terrorism losses. These losses are capped at a relatively low level. If the losses exceed that level, then taxpayers pay. Under this scheme, insurers can write policies profitable to them knowing that all losses beyond a certain amount will be shifted to taxpayers.
In true insurance, the pool of voluntary rate-payers shares a risk. Those who happen to be unfortunate are compensated by the premiums willingly paid into a pool by those who are fortunate enough not to have been hit. The government scheme has no such pool. Instead, the losers rob American taxpayers in general. If such losses could be $1 trillion, as Buffett suggests, the amount paid by each household would be $10,000! From this standpoint, attempting to insure against a nuclear terrorism event is absolutely pointless and counter-productive. If a large part of Los Angeles were destroyed, it is senseless to make every household in America pay a huge sum to compensate the survivors (if households could even pay such sums.) This would depress economic activity throughout the country and would not allocate resources to their most urgent rebuilding, survivor, and productive needs. It would be better to follow the normal course of allowing markets to transfer resources to where they are needed.
The argument that Buffett made for the government intervention was that cities are public goods and that their benefits are spread over the entire country so that their costs also should be similarly spread: "For example, the terrorism risk per dollar of insured value may be 10 or more times for iconic or critical properties in New York City what it is for properties in less-populated areas. But great cities are central to our society. We don't want them to wither under the burden of hugely disadvantageous insurance costs. Indeed, it's in America's interest for them to thrive. Citizens of our leading cities almost certainly bear above-normal physical risks in the war being waged upon us by terrorists. We should not impose crippling economic costs on them as well."
This argument was fully accepted by legislators. For example, one news report wrote: "The legislation helps assure that economic activity in U.S. cities can go on uninterrupted, said Rep. Barney Frank, Massachusetts Democrat. ‘The alternative is to let the terrorists put a terrorist tax on building large buildings in our large cities and we should not allow that.'"
Buffett went on to paint a dire picture: "At the moment, leaving aside insurance policies soon due to run out, millions of business owners, individuals, landlords and lenders bear the economic risk of terrorist attacks. Insurers won't step up to assume the risk — we were previously dumb, but we've learned. It isn't right, though, that these risk-laden millions should have to shoulder this burden themselves: That would be self-insurance, and the economic distortions it would cause would stagger our society. Who would ever build a skyscraper in a major city or lend against it?"
Mr. Buffett and Mr. Frank both badly need to attend Mises University in order to jumpstart their economic education. Neither one understands that their views are completely faulty. In lieu of their finding their way to Auburn, Alabama, a few comments are in order concerning their benighted thinking.
In the absence of any insurance against terrorism or a nuclear catastrophe, life can and will go on in cities exposed to these events. Let us think about an analogous case. If it were discovered that Omaha (where Berkshire is housed) sits atop a fault and is subject to uninsurable earthquake risk, what would happen? There would be a loss of value. Wealth would diminish. No amount of insurance can diminish such a loss. Insurance can only transfer wealth from those in an insurance pool who have been lucky. No amount of government forced wealth transfer can prevent the loss of value. It occurs the moment that the earthquake risk is discovered.
Meanwhile, Omaha would go on. It pays to continue using the capital stock insofar as possible and/or adapt it. The value of property in parts of Omaha exposed to possible damage would decline. The extent of the decline would depend on how individuals perceive factors such as location, chances of an earthquake, timing of a possible earthquake, and estimates of damages. If the event were thought to be 10—20 years into the future, the value impacts would be greatly diminished because of present-value mathematics; a large portion of the value of many assets hinges on their net cash flows in the immediate and near future. Events in the distant future have much lower present worth.
The more risk-averse portions of the population might leave the city. Less risk-averse persons might move in. People who place a high value on living in Omaha might stay. Others might leave. The city would go on.
Some people would take measures to mitigate the possible damages to existing structures. This depends on their cost/benefit calculations. People who built new structures would make them more earthquake-proof.
The more that people regard a nuclear or an earthquake event as imminent and serious, the more drastic will be the adjustments they make. They might indeed not decide to build a new skyscraper. They might instead decide to build elsewhere. This would obviously be a good thing! It makes no sense to build in dangerous regions. Diversification of location is a good idea if some areas are safer than others. Dispersal of resources is a sound idea under such circumstances. Under the Buffett/Frank scheme, first we encourage and subsidize people to stay in dangerous areas while taxing those who don't. Second, society concentrates its resources in those dangerous areas. Third, Buffett and Frank assume that the status quo ante is the best situation. But clearly the terrorism and/or nuclear risk has changed that. The best situation, which only individuals can discover for themselves anyway, may now entail spreading homes and businesses over broader and more defensible regions. Fourth, what right does the government have anyway to interfere in such matters as where we live? And what right does it have to steal from some in order to indemnify others? Many people choose not to live in vulnerable and unsafe cities. They prefer safer towns. Why penalize them? Why compensate and subsidize those who choose to live in cities?
It is truly amazing that such an intelligent figure as Buffett can make so many stupid arguments. But he himself knows this! He himself has written about this! He has observed that very smart people often invest badly because they fall prey to greed, envy, fear, boredom, extraneous factors, and emotions. He says that, in a word, they do not act rationally, or that their ego gets in their way. They need to insulate themselves from all of this to invest well. When it comes to politics, Buffett and others — he is far from being alone — allow extraneous and emotional factors to disrupt their thought.
Buffett argues that cities are central and we don't want them to wither under high insurance costs. In saying this, he fails to understand that the costs are sunk. The cities are where they are and as they are for many reasons, including government laws. If they have suffered losses due to terrorism or nuclear risks, and we really do not know much about these, they were brought on by the actions of our own State. If we inoculate the cities against nuclear risks, if it were even possible, that simply affirms the State's existing foreign policies. Why not change the foreign policies that have enhanced and continue to enhance the probability of more attacks on U.S. soil?
Buffett argues that we all get benefits (or positive externalities) from our cities. That is what he means by "It's in America's interest for them to thrive." He can't identify America's interest. Americans identify their own interests. Mr. Buffett is not sovereign over the interests of 300 million Americans, and neither are 535 members of Congress although they act as if they are. Even if Americans want thriving cities, it does not logically follow that the proper way to get them is through a government-coerced scheme.
Americans should thrive where and how they wish to thrive. If they choose cities or abandon them, that is their business. And if, in the process of choosing cities or not, they produce external benefits or costs, it is up to them to adjust accordingly.
Americans have already adjusted to the external benefits and costs of cities. They have already taken them into account prior to 9/11 in an infinite number of choices. Mr. Buffett simply wants to preserve the status quo, and for that emotional attachment there is no rationale.
Mr. Buffett thinks it is not right that people living in risk-prone areas should shoulder those risks. He thinks that the market system produces gains for people like him, and he thinks they are not proper gains. He is consistent in his thought. He also thinks that people living in the cities now have been hit with losses they should not have to bear. But if ex ante individual freedom of choice, including freedom to locate, is not right, why is it not right? What reason does any one of us have to distrust what millions of others choose to do as they make their economic choices? We have no good reason if we see them as sovereign human beings who are running their own lives. What justification do we have for interfering with some so as to benefit others? We have no good reason unless we wish to play God or unless we distrust individuals. If individual freedom is not right, then what is? Is ex post egalitarianism right? Who is to be the omniscient earthly God that dispenses the social justice that Mr. Buffett yearns for? He has nominated the State. He has chosen elitism over freedom.
Mr. Buffett says of us "We should not impose crippling economic costs on them [city-dwellers] as well." No, we should not; and we have not. Such costs as there are have arisen from terrorists who have beefs with the actions of the U.S. in distant and foreign lands. But why does Mr. Buffett make this statement? In what context? Mr. Buffett wants to shelter his insurance operations and those of other companies from some very large risks. He expresses this desire while making statements about public benefit. This is a matter of public record. It would be easy to infer cupidity, but I see no need for that. I charge him with economic, social, and political ignorance and naïveté. He thinks that if the government does not promise to pay for damages stemming from nuclear catastrophes, then we face staggering economic distortions. But what good is such a promise? If all we did was get such a promise and if a nuclear catastrophe then occurred in New York, it could cripple the entire financial structure of the world. If we did nothing but rest assured on a government promise that cannot be fulfilled if such an event occurred, we would make ourselves even more vulnerable to attack. Such promises underwrite counterproductive location decisions and subsidize not adapting to the threats. They create distortions.
The State operates a slew of phony "insurance" schemes. The promised payments (liabilities) of all of them combined are gargantuan. They cannot all be met or paid. Americans are living in a dream world based on paper promises. Someone as shrewd as Warren Buffett should understand this. His mis-education is symptomatic of a widespread problem. I do believe he would benefit from Mises University.
Left to its own devices, undistorted by government inducements, the private sector and private choices can reduce the prospective damages from terrorist and nuclear attacks. Companies will disperse and harden facilities. They will back up computer, information, and financial systems. They will purchase private protection forces. Individuals will locate to safer places. Free individuals in free markets will resolve or alleviate any and all risks in appropriate ways that even geniuses like Warren Buffett cannot conceive of.
June 11, 2007
Michael S. Rozeff [send him mail] is a retired Professor of Finance living in East Amherst, New York.
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