Learning about Hayek the hard way

Published in The Australian (Sydney), 9 March 2010

IN his masterpiece, The Road to Serfdom, Friedrich Hayek considered the follies of mistaken policies to conclude: “We shall not grow wiser before we learn that much that we have done was very foolish.”

If only Kevin Rudd heeded this advice, his much-televised apologies for the government’s insulation fiasco and other policy blunders would be more credible.

The Prime Minister is not the greatest fan of Hayek, as he has repeatedly made clear in several essays and speeches.

Yet Hayek’s economics offer some valuable explanations why the government’s big stimulus package was bound to run into difficulties. Furthermore, an injection of Hayekian thought into the policy-making process could save us from similar disasters in the future.

Although Hayek was one of the last polymaths, it is fair to assume that he had never heard of pink batts.

Nevertheless, he would not have been surprised that the government’s drive to quickly roll out a nationwide insulation policy would run into numerous difficulties. At the core, the government’s policies suffer from two connected problems: lack of knowledge and unintended consequences. Hayek had given both these challenges for public policy a great deal of thought.

Hayekian economics is built on the fundamental insight that modern societies are much too complex to be planned.

The sheer number of variables to be taken into consideration often exceeds the capacity of modern supercomputers.

It was the Prime Minister, in his interview on ABC1’s Insiders, who provided a good example of such virtually unmanageable complexity. Noting that Australia’s health system comprised 763 hospitals, 115 million [annual] visits to general practitioners and 49 million hospital services, he mourned how difficult that made it “to get it right”. Who could possibly doubt that? In the face of such complexities, all attempts to micro-manage the day-to-day workings of a system are futile.

No single government agency could gather the necessary knowledge to effectively control the operation of each and every one of the nation’s hundreds of hospitals.

It is dangerously naive to assume that bringing the health system under the central control of the federal government would miraculously make it more efficient. Quite the reverse may be the case.

In his Nobel lecture Hayek issued a stark warning against such micro-management: “To act on the belief that we possess the knowledge and the power [that] enable us to shape the processes of society entirely to our liking, knowledge [that] in fact we do not possess, is likely to make us do much harm.”

For any ambitious politician this is a sobering insight. It runs against all desires to “get on with the job” and “deliver outcomes”. When Rudd now says that “we didn’t properly estimate the complexity of what we are embarking on”, this shows how he is learning the meaning of the Hayekian knowledge problem the hard way.

At the same time, his government is also learning Hayek’s law of unintended consequences.

In The Road to Serfdom Hayek lays out how governments, lacking knowledge and foresight, often implement policies that create more problems than they solve. This in turn leads to yet more government action with yet more unintended consequences.

This precisely has been the story of the government’s insulation scheme.

What began with the best intentions of stimulating the economy and saving energy has not only tragically cost lives and caused much distress, it has become a policy that keeps dragging on long after the initial reason for stimulating the economy has disappeared.

Hadn’t we been promised “shovel-ready” jobs? And isn’t it ironic that the Reserve Bank of Australia now has to counteract the consequences of excessive government spending with higher interest rates?

Hayekian economists had been pointing out these difficulties with the government’s ambitious and rushed stimulus measures when hardly any politician was willing to listen. It is little consolation to them now when the Prime Minister tells presenter Kerry O’Brien on ABC1’s The 7.30 Report: “I am disappointed in myself for not asking more questions.”

Once you have understood the ubiquitous knowledge problem and the law of unintended consequences, policy-making does not become easier.

But at least it alerts you to the limitations of politics.

A certain Hayekian humility would certainly suit our politicians well.

How this may look in practice was demonstrated nicely by former Conservative British cabinet minister Peter Lilley. As minister, he famously instructed the civil service to always include one item on the list of policy options that was usually forgotten. In Britain this became known as “Lilley’s option” and it was very simple: “Do nothing.” Lilley later explained that he was convinced that “sometimes doing nothing was less bad than doing something”.

It’s an experience from which the present generation of politicians could still benefit.

Unfortunately, most of them follow neither Lilley nor Hayek but Winston Churchill: “Success is the ability to go from one failure to another with no loss of enthusiasm.”

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