Free Market Mythology
Why Nobody Wants to Work Anymore
This essay is part of a series comparing the twilights of (1) Rome's slave-based economic system and (2) the Middle Ages' feudal system to (3) today's capitalist economic system. In addition to the broad life cycles of these economic systems, we'll note similarities between infectious diseases and changes in communication technologies common to all three eras. Finally, we'll see how belief systems rise and fall in tandem with these broad economic systems. When these systems seize up and stop functioning, people begin questioning authority. And that, in turn, leads to collapses of bedrock conceptions of reality itself.
Introduction
The Industrial Revolution was an economic revolt against feudal landowners. Classical economists ushered in the modern era by championing markets free from these extractions. They distinguished between earned income from productive work and unearned income from land rent or speculative gains. Unfortunately, this distinction has eroded over time, allowing rent-seeking to resurface, inflating housing costs, limiting economic productivity, and endangering the modern economy.
The Industrial Revolution
The Industrial Revolution was a revolution against the old feudal lords left over from the Middle Ages. Contemporary economists like Adam Smith, John Stuart Mill, and David Ricardo described this revolution as an economic revolt against the nobility, which still charged people rent to live on land conquered by their ancestors centuries before.
Classical economists objected to land rent because the new entrepreneurial class—who were building factories all over England and beyond—ultimately had to pay whatever price these landlords demanded. Landlords knew that if employers failed to cover their employee's cost of living, they wouldn’t be employers for long.
To the classical economists, these rentiers were helping themselves to profits they hadn’t earned. The violent conquests of their ancestors during the Middle Ages had put them in a position to extract wealth from the emerging capitalist class as they busily set up new businesses and pushed the pace of technological innovation. “The landlords,” wrote Adam Smith in 1776, “love to reap where they never sowed.”
Free Markets
The classical economists' objection to rentier extraction took the form of a distinction. They strictly defined earned income as income from the actual provision of goods and services while defining unearned income as land rent, monopoly rent, and the rental price of money itself, or “interest.”
Furthermore, they coined the term free markets, meaning markets free from rentier extraction. According to classical economic theory, economic growth is maximized when employers can hire employees without compensating them for unearned tribute due to non-productive landholders. Classical economists proposed prohibitively taxing unearned income to create these free markets. That way, people would be rewarded only for actual economic contributions, like building functioning roads. Meanwhile, unproductive extractions, like toll booths on roads, would be taxed out of existence.
But in the neo-liberal economic paradigm we’ve lived in since the 1970s, free markets no longer mean markets free from rentier extraction. The term now means the exact opposite; free markets are now conceived as “free” from exactly the sort of state intervention (e.g., taxes) advocated by classical economists.
Despite classical economists' best efforts, we’re effectively blind to the difference between earned and unearned income. And now the chickens are coming home to roost…
Capital Gains & Housing Prices
Failing to distinguish between earned and unearned income inflates housing prices by enabling unearned income—such as speculative gains and land rents—to dominate housing markets.
Buyers are willing to pay higher prices for homes if they believe the asset’s value will continue to appreciate, justifying the inflated cost. However, if these capital gains were heavily taxed, buyers would no longer be willing to overpay based on future expectations of rising prices. Tax policy could be used to curb speculative demand and stabilize housing prices.
Classical economists would be horrified to discover that our tax policies incentivize this unproductive rent-seeking by taxing it just like income derived from actual work. “The increase in the value of land,” wrote John Stuart Mill, “arising as it does from the efforts of an entire community, should belong to the community and not to the individual who might hold title.”
Landlording & Housing Prices
In addition to capital gains, speculation in the housing market is also driven by landlords. Our failure to make the classical distinction between earned and unearned income has allowed the Industrial Revolution to reverse course. The wealthy landlords that were once a holdover from feudalism are now making an aggressive comeback.
The ability to rent homes to those unable to afford ownership makes them monetizable assets. The prospect of generating rental income fuels further speculation in housing markets, as investors see homes not only as appreciating assets but also as sources of ongoing profit.
All this speculation in housing markets has inflated prices to the point that huge swathes of the population are locked out of homeownership. Those households are forced to rent at rates over and above the cost of ownership, thereby ensuring landlord profits. Corporate entities now hoard huge tracts of the national housing stock, seeking an intoxicating blend of capital gains and rental income.
Renters are stuck paying rent to current owners, and new homeowners are stuck paying off the capital gains of previous owners. These inflated housing costs are taking up an increasing portion of each household’s overall monthly budget. That money could be spent on buying goods and services in the real economy, the potential size of which is contained by rampant rent-seeking.
Nobody Wants to Work Anymore
Classical economists understood that employers must cover the costs of housing on behalf of their employees in order for those employees to be in any position to show up regularly to work. Landlords could name their price, and employers were forced to pay it out of their profits, reducing the volume of potentially profitable business models.
A similar dynamic is occurring today. Formerly profitable businesses, particularly bars and restaurants, are finding it difficult to hire staff at rates that once attracted employees. Many entrepreneurs have seen their business models priced out of existence and closed their doors for good.
From the employee’s perspective, working a job that doesn’t cover the basic cost of living makes no economic sense. Memes like the one below are now commonplace on the internet as employers and employees alike are forced to pay increasing amounts of tribute to rent-seeking entities. Absent any understanding of classical economics, this phenomenon is simplistically understood as no one wanting to work anymore.
Belief
During the Middle Ages, the Church couldn’t resist using its influence over public belief to make itself wealthy. The most famous example is the Sale of Indulgences, in which true believers paid the Church to shorten their sentences in Purgatory. This corrupt practice was a primary cause of the Protestant Reformation that curtailed the political power of the Vatican.
The loss of the classical distinction between earned and unearned income and the redefinition of free markets are modern parallels to the Sale of Indulgences. This time, it is the rent-seeking class that finds itself in a position to mold public opinion. Unsurprisingly, it has done so in a financially self-serving way.
Conclusion
Our failure to distinguish between earned and unearned income blinds us to the cause of the mounting economic dysfunction we’re living through. We count unearned income in our Gross Domestic Product, which is supposed to measure our annual productive output. Unproductive extractions like rent increases are counted as if they increase productive output when, in reality, they actually limit the size of the productive economy. This example shows how popular belief is often not shaped by reality but instead by the desire of authority to funnel wealth to itself.
Further Materials
As soon as the land of any country has all become private property, the landlords, like all other men, love to reap where they never sowed, and demand a rent even for its natural produce. The wood of the forest, the grass of the field, and all the natural fruits of the earth, which, when land was in common, cost the labourer only the trouble of gathering them, come, even to him, to have an additional price fixed upon them. He must then pay for the licence to gather them, and must give up to the landlord a portion of what his labour either collects or produces. This portion, or, what comes to the same thing, the price of this portion, constitutes the rent of land, and in the price of the greater part of commodities, makes a third.
Adam Smith, An Inquiry into the Nature and Causes of the Wealth of Nations, 1776, Book I, Chapter 6
Landlords grow rich in their sleep without working, risking or economizing. The increase in the value of land, arising as it does from the efforts of an entire community, should belong to the community and not to the individual who might hold title.
John Stuart Mill, Political Economy, 1848, Book V, Chapter 2