Considering Consequence in Public Economics

With exam season just a week away, I thought I would take this procrastination opportunity to (continue to) pretend to revise. However instead of productively using this post to clarify my thoughts in an area of weakness, I am going to be considering a relatively trivial part of my public policy module to highlight a pitfall of working as a policy adviser within economics.

Formulation of theory and models makes up a considerable proportion of core economic study. Within applied economics modules such as my introductory public policy course, the assumptions made within such models are put to the test. The introduction of a policy has two classifications of consequence: direct and indirect. The direct consequences of a policy are more predictable, however act under the assumption that economic agents who are affected by the policy do not change their behaviour in response to said policy. The indirect consequences challenge this assumption and can be more difficult to predict. To illustrate this policy dilemma I will turn to my lecture notes to compare a more comical instance to one holding greater long term impact.
In 1974, in the midst of the oil crisis, the United States decided to lower the speed limit from 70mph to 55mph, partially as a solution to fuel shortages. This legislation would add 16 minutes to a 70 minute trip. In economics, the value of time is often considered in terms of wages, or the price of a portion of your time. Using the average wage, the additional time for journeys equated to roughly $1.15. This cost turned out to be a great enough financial incentive for drivers to continue using the old speed limit and attempt to evade penalties. By 1984, in New York drivers were above the speed limit 83% of the time. Alongside this staggering statistic, drivers were purchasing radios in order to warn other drivers about the whereabouts of speed traps. The number of these radios purcheased, admittedly unable to be linked completely to this trend, rose from 800000 in 1973 to 12.25 million in 1977. By 1995, congress voted to repeal this legislation, implicitly acknowledging the failure to account for indirect consequences of policy.
This funny example of the lengths people will go to in order to avoid legislation unfavourable to their goals is taken a step further following policy introduced by Reagan in 1986. Tax deductability- effectively allowing a lower liable taxable income- was ended for all loans except mortgages. This led to banking solutions being developed to package loans (car, credit cards etc) in a manner which would allow for the tax deductibility criterion to be reached. Whilst in 1989 just under 6% of households had a mortgage, by 2010 this had surpassed 20%. The erosion of norms of mortgages being paid on time led to riskier mortgage loans, contributing in part to the housing crash precipitating the 2008 financial crisis.
Ultimately, these two examples illustrate that policy is not easy to formulate, whether economic or otherwise, with indirect consequences potentially haunting any expected legacy of reform.


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