Fallacy of the Free Lunch

The watchword in today’s political economy is “stimulus.”  President Barack Obama is traveling the country to raise political support for his new plan in which the government would spend about $800 billion beyond what was supposed to be budgeted in the upcoming year.

That’s a lot of money, but some people, including recent Nobel Prize winner Paul Krugman, believe that the amount being proposed is too stingy.  Krugman writes that $800 billion isn’t “enough to fill the looming hole in the U.S. economy, which the Congressional Budget Office estimates will amount to $2.9 trillion over the next three years.”

There is term to use for someone who insists that government can costlessly come up with hundreds of billions of dollars to throw out in new spending; it is called someone who believes in the “fallacy of the ‘free lunch.”  Fortunately, Lawrence Reed dealt with this point nearly three decades ago.  He wrote:

The Garden of Eden is a thing of the distant past yet some people (yes, even some economists) occasionally think and act as if economic goods can come with no cost attached. Milton Friedman is one economist who has warned repeatedly, however, that “there is no such thing as a free lunch!”

Every “something for nothing” scheme and most “get rich quick” plans have some element of this fallacy in them. Let there be no mistake about this: if economics is involved, someone pays!

An important note here regards government expenditures. The good economist understands that government, by its very nature, cannot give except what it first takes. A “free” park for Midland, Michigan is a park which millions of taxpaying Americans (including Midlanders) actually do pay for.

A friend of mine once told me that all one needs to know about economics is “What is it going to cost and who is going to pay for it?” That little nutshell carries a kernel of advice for the economist: don’t be superficial in your thinking!

All of this relates to the story told by Frederic Bastiat about the young boy who becomes a “public benefactor” by throwing a brick through a shop window.  The people who gather after the incident become convinced that the money the shop owner has to pay to replace his window will circulate through the economy, creating new wealth, providing jobs, and generally helping to bring new prosperity.

What the crowd – like many “sophisticated” economists today – had forgotten is what good economists call “opportunity cost,” which is the value of the forgone alternative.  Since the shop keeper has to buy a window, he can’t spend his money on something else. There is no gain to the community.

The “lunch” is not free precisely because it is a scarce good, and all scarce goods have an opportunity cost. There is no way around that little truth.  Let us look at the opportunity cost of the proposed “stimulus.”

The “stimulus” will be financed by huge amounts of government borrowing, which means that taxpayers will have to pay back that amount plus interest in the future.  Furthermore, the funds raised by the huge government borrowing will be diverted from other uses.  The “jobs” funded by the “stimulus” will go to people with political connections, which imposes the real cost of politicizing the economy.

Unfortunately, President Obama and Krugman are touting the “stimulus” as something akin to a “free lunch”—as though in a free market the resources would otherwise be left idle.  They argue that unless government spends these “new” funds — and quickly — the economy will go into a freefall.  That is nonsense.  As Reed has eloquently noted, this kind of action imposes a real cost on the economy. While the media no doubt will focus their coverage on the people receiving the “benefits,” those who have to bear the costs will be invisible.