Why visible benefits always trump invisible costs

Last year two women police officers were found to have a reciprocal childminding arrangement. Initially, it was declared unlawful. Childminders who receive payment for their services must be registered with Ofsted.

And receiving payment is not restricted to receiving money. Anything of value counts, including “free” minding of your own child. These unregistered women were wrongdoers.

Public outrage at the absurdity of preventing friends from looking after each other’s children caused Ed Balls, the Secretary of State for Children, Schools and Families, to intervene. He declared that reciprocal childminding was not a kind of payment, after all. The women congratulated him on this small victory for common sense.

Which just goes to show that the common sense of women police officers cannot be relied upon. For, despite Mr Balls’ great powers, he cannot by mere proclamation stop reciprocal childminding from being a kind of payment. His decision simply exempts this barter payment from the tax that Ofsted’s rules and registration fees impose on childminding when other forms of payment are used.

If one of those women quit her police job but offered to continue minding her friend’s child for £50 a day, Ofsted’s requirements would reimpose themselves. The child may be cared for by the same person in the same place, but the introduction of money to the deal would bring with it the State’s administrative and financial burdens. Mr Balls’ “common sense” intervention thus encourages a barter economy in childcare.

This is a silly thing to do because money is a better method of payment than barter. While the police officers barter, they can consume the value of the childminding work they do only in the form of childminding for themselves. This means that they will restrict the amount of childminding they supply to the amount they want to consume. If they paid each other in cash, this restriction would disappear.

As all economists know, money increases the opportunities for trade. Limit its use and many potential transactions will not take place; valuable goods and services will not be produced. And, when they are, often they will be produced by the wrong people.

For where money-based exchange is restricted, people must produce a wider range of goods, either for their own consumption or to increase the chance of having something they can swap for something they want. This is unfortunate, because the more things you do, the worse you will be at them.

In short, discouraging the use of money constrains trade, which limits the division of labour, which leads to inefficiency. Politicians ought not do it. Yet they do it all the time. They impose burdens on activities when done in exchange for money that they otherwise leave alone.

Consider the minimum wage. I am not allowed to pay someone £4 to spend an hour shopping for me. According to our Government, that would be unfair, even if my employee agreed to it. Yet I am free to add an hour to my own shopping by walking to a distant supermarket in search of a £4 saving.

I am also allowed to spend an hour cooking my dinner, even if I would be unwilling to pay someone more than £3 to do it for me. Contrary to what you may have read on the Directgov website, working for less than £5.80 an hour is not illegal in Britain. It is illegal only if the payment is made in money.

Taxes have the same effect. Because most are levied on money-based transactions (with the notable exceptions of poll and property taxes), they inhibit trade and, hence, the division of labour. And the greater the rate of tax, the greater this malign effect.

Suppose, for example, that you are willing to pay up to £10 an hour to have some work done and that the cheapest qualified labourers are willing to work for anything over £9 an hour. Then you should find someone to do the job. But if incomes are taxed at 20 per cent, the most the labourers can earn from you is £8 an hour and they will be unwilling to take on your job. You will have to do it yourself or go without.

Britain’s enormous regulatory and tax burdens on trade lead to an excess of do-it-yourself. People with neither talent nor inclination cook, garden, teach, drive and shop, to name but a few of the more common amateur activities. They are thereby drawn away from doing things they are better at and enjoy more.

What is the cost of such restrictions on the division of labour? Terry Arthur, of the Institute of Economic Affairs, has estimated that, at present tax levels, the cost is two thirds of every pound of tax collected. In other words, the marginal cost of transferring a pound from private hands into the coffers of Her Majesty’s Revenue is 67p.

Mr Arthur may be wrong, of course; estimating such “invisible”, deadweight costs is notoriously difficult. But even if his estimate is three times the real cost, the implications are profound. Taxes, minimum wages and the other regulatory burdens the Government places on money-based commerce are far more costly than politicians and voters seem to realise.

Indeed, most do not recognise this cost at all. Some lament the futility of a system in which people are taxed only to receive their money back in the form of government-provided services, such as education and healthcare. But they fail to see that the spinning of this money-go-round creates a terrible economic drag.

Alas, there is no prospect of an end to this waste, even if politicians understood it. When invisible costs are incurred for the sake of visible benefits, a politician will never consider them too great.

• Jamie Whyte is head of research at Oliver Wyman and the author of Bad Thoughts: A Guide to Clear Thinking

Jamie Whyte, The Times 08-01-2010

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Jamie Whyte, The Times

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