Recently, Krugman wrote that if you think the iPhone 5 will boost the econonmy, then you believe in the Broken Window theory. The Broken Window Theory, more accurately described as the Broken Window Fallacy, is the belief that destruction can boost the economy, as people, companies, and governments spend to replace them. Krugman is a big proponent of this plan, even going as far to argue that spending to prepare against a space alien threat would be good for the econonmy, even if it turned out to be false.
But I’ll focus here on Krugman’s iPhone argument. He writes:
If the iPhone 5 boosts the economy, and I believe it probably will, it’s because consumers feel it will create more value for them than the other uses they may have for their money. The “destruction” Krugman refers to people’s previous phones. But their other phones are not destroyed!
They could sell their old phone, give it to a family or friend, donate it to charity, or any number of other options. But they find purchasing a new phone to be worth it. If their previous phone was so truly bad that it doesn’t have other uses anymore and the best thing to do is throw it away, then by definition nothing of value has been lost, so even in this case there is no real destruction as meant by the Broken Window Fallacy, where the owner of property suffers an involuntarily loss.
But suppose there was an involuntary loss. Let’s say their old phone broke down and was out of warranty. In this case there certainly was destruction, and the person is buying the new phone to replace their old one. Maybe this is the case that Krugman means, although I would argue this is small minority of the iPhone 5 purchasers. But if these people wouldn’t have bought an iPhone 5 if their broken phone still worked, is that really a boost to the economy in the aggregate? Only if you look at what is seen (buying the iPhone 5 and creating employment in that industry). But we also need to look at what is unseen: Not buying the iPhone 5 would mean spending that money on something else, which creates employment in whatever industry the money would be spent on otherwise. So really when the person’s old phone breaks, the economy is down one phone, which makes it worse off, not better.
Krugman attacks the Broken Window fallacy, as he doesn’t believe it’s a fallacy at all. But the truth is that economic growth created by the iPhone 5 will be because it creates more value for consumers than it costs them to buy it, not because of any destruction that is happening. For a more thorough explanation of why the Broken Window Fallacy is a fallacy, I highly suggest watching this video:
Filed under: Economic Theory
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