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Tuesday, October 30, 2012

Economic Impact of Disasters

Read this article on CNN Money today and I immediately began to think about the misconceptions with economic growth and disaster recovery.

Many people think that the period after a disaster is an economic boon. Specifically, industries related to rebuilding; like construction, home improvement stores, and insurance  will benefit greatly and help to stimulate the economy.

Hooray for the car industry?

Nancy Pelosi (D-CA) famously* said this about the "benefits" of the tragic 2010 earthquake in Haiti:
*[Maybe not so famously... the exact quote was hard to find.]
“I think that this can be an opportunity for a real boom economy in Haiti,” she told reporters in the Capitol, drawing from her experience in San Francisco. Haiti “can leap-frog over its past challenges, economically, politically, and demographically in terms of the rich and poor and the rest there, and have a new — just a new, fresh start,” (The Washington Times)

While this may be true for some industries, losses in other areas are guaranteed to outweigh the benefits.
Surprisingly, the 'CNN Money' touches on this:
Sandy's economic impact
By Chris Isidore @CNNMoney October 30, 2012: 3:32 PM ET
NEW YORK (CNNMoney) -- The impact of Hurricane Sandy on the lives of residents of the Northeast will be great.
Millions are without power, likely for an extended period of time. Businesses -- from the nation's stock exchanges and all the way on down to thousands of corner stores -- have been shut down.
The total cost of property damage and lost business is estimated to run between $10 billion to $20 billion, according to Eqecat, which provides loss estimates to the insurance industry.
Insured losses, excluding those covered by National Flood Insurance, are expected to be between $5 billion to $10 billion.
And total losses could go as high as $25 billion including interruption to business, according to estimates by Kinetic Analysis Corp.
But economists surveying the immediate aftermath of the storm say there may be little if any impact on the nation's overall economy.
The loss of business and wealth caused by the storm will likely end up being roughly balanced out by money that will go into rebuilding and recovery efforts from insurers, the government's national flood insurance program and private savings.
Granted, they present the information as if this is an isolated incident and some other disasters are potentially beneficial.
"The bottom line is, it's very disruptive, very painful, but at the end of the day these kinds of natural disasters typically don't show up in national economic data," said Mark Zandi, chief economist for Moody's Analytics. "There will be a lot of offsetting effects, both winners and losers. Restaurants get hurt. Grocery stores do better."
The same is likely true with measuring the impact on income and jobs. Zandi said the number of workers who are off the job and not being paid because their employer is temporarily shut down will likely be balanced by those working overtime clearing debris, moving a backlog of shipments or helping in rebuilding. (CNN Money)
You can read the rest of the article here, but the rest is more of the same: Some people will benefit, while others will be hurt.

While this may seem obvious now, many people (like Pelosi) believe destruction and reconstruction could be beneficial to an economy and more of it should be done.

I could try to explain the fallacy of it all, but Frederic Bastiat has already done so, and in a more eloquent manner, when he explained "That Which Is Seen, and That Which Is Not Seen".

My thoughts exactly, Frederic!

An excerpt:
(But be sure to read the rest of the example here)
Have you ever witnessed the anger of the good shopkeeper, James B., when his careless son happened to break a square of glass? If you have been present at such a scene, you will most assuredly bear witness to the fact, that every one of the spectators, were there even thirty of them, by common consent apparently, offered the unfortunate owner this invariable consolation: "It is an ill wind that blows nobody good. Everybody must live, and what would become of the glaziers if panes of glass were never broken?" 
Now, this form of condolence contains an entire theory, which it will be well to show up in this simple case, seeing that it is precisely the same as that which, unhappily, regulates the greater part of our economical institutions. 
Suppose it cost six francs to repair the damage, and you say that the accident brings six francs to the glazier's trade — that it encourages that trade to the amount of six francs — I grant it; I have not a word to say against it; you reason justly. The glazier comes, performs his task, receives his six francs, rubs his hands, and, in his heart, blesses the careless child. All this is that which is seen
But if, on the other hand, you come to the conclusion, as is too often the case, that it is a good thing to break windows, that it causes money to circulate, and that the encouragement of industry in general will be the result of it, you will oblige me to call out, "Stop there! Your theory is confined to that which is seen; it takes no account of that which is not seen." 
It is not seen that as our shopkeeper has spent six francs upon one thing, he cannot spend them upon another. It is not seen that if he had not had a window to replace, he would, perhaps, have replaced his old shoes, or added another book to his library. In short, he would have employed his six francs in some way which this accident has prevented. 
Let us take a view of industry in general, as affected by this circumstance. The window being broken, the glazier's trade is encouraged to the amount of six francs: this is that which is seen.
If the window had not been broken, the shoemaker's trade (or some other) would have been encouraged to the amount of six francs: this is that which is not seen
And if that which is not seen is taken into consideration, because it is a negative fact, as well as that which is seen, because it is a positive fact, it will be understood that neither industry in general, nor the sum total of national labor, is affected, whether windows are broken or not.
Now let us consider James B. himself. In the former supposition, that of the window being broken, he spends six francs, and has neither more nor less than he had before, the enjoyment of a window. 
In the second, where we suppose the window not to have been broken, he would have spent six francs in shoes, and would have had at the same time the enjoyment of a pair of shoes and of a window. Now, as James B. forms a part of society, must come to the conclusion, that, taking it altogether, and making an estimate of its enjoyments and its labors, it has lost the value of the broken window. 
Whence we arrive at this unexpected conclusion: "Society loses the value of things which are uselessly destroyed," and we must assent to a maxim which will make the hair of protectionists stand on end — to break, to spoil, to waste, is not to encourage national labor; or, more briefly, "destruction is not profit."
The point is that, while you could say broken windows are required to keep the window makers in business, the money used for repairs/reconstruction could be saved for something else.
Contrary to the Keynesians' belief, savings are not a bad thing. They could be saved for disasters (if they are deposited in a bank, the money could be lent to another business) or spent on something else, fueling another industry.

Anyway, just a short intro to Bastiat. Be sure to read his full essay here.
The full text is a bit long and the language isn't the easiest to read, but I think it is an excellent explanation of the concept.

*edit* Found this John Stossel piece when searching for the Pelosi quote. It does a good job explaining the idea as well.
(He also cites Bastiat. Great minds....)

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