Tuesday, September 12, 2017

Guest Post: Natural Disasters Are Not Good for the Economy

by Nicolás Cachanosky

Every time there is a natural disaster old economic fallacies make their appearance. And they are usually always the same. In particular, the argument that a natural disaster is good for the economy. This should make little sense.

Hurricane Irma natural disasters economic fallacyWealth is not created by destroying things. A natural disaster destroys wealth, doesn’t create it. I doubt anyone affected by a hurricane would argue that he is better off after the natural disaster than before.

The argument that an event such as a natural disaster is good for the economy rests in the positive impact seen in GDP (as is argued) after the natural event. If GDP increases, then the economy is doing better. But this is a misreading of GDP. This variable is a flow of wealth, it is not a stock of accumulated wealth. It is possible that wealth creation (flow) increases at the same time the stock of wealth is decreasing. And this is what happens during a natural disaster.

Imagine that someone’s house caught fire and burnt down. Because of this situation, this person decides to start working extra hours to increase his income and be able to buy a new one. The extra hours makes his income (GDP) increase. But his situation is considerably worse because he lost his stock of wealth (remember Bastiat’s broken window fallacy…?). Arguing that a natural disaster (or a war, etc…) is good for the economy is like arguing that this person is better of because he has to work extra hours to recover his loss.

This is just another case of a too common fallacy in economics. We know that if the economy is doing better the result will be better GDP and unemployment indicators. But from observing a better GDP and unemployment indicators we cannot, and should not, conclude that the economy is doing better. More important than observing what is happening to GDP is understanding why is changing its behavior.

It could be argued that one of the problems of the Keynesian view of the world is the focus on what happens to output and unemployment rather than why these variables are moving. Not surprisingly, we get to the conclusion that going to war (or having a natural disaster) would be a good way to achieve full employment.

Reprinted from Notes on Liberty.

 Nicolás Cachanosky Metropolitan State University of Denver Libertas Segunda Época
Nicolás Cachanosky is an Assistant Professor of Economics at Metropolitan State University of Denver, a co-editor of the journal Libertas: Segunda Época, and the manager of El Hub Económico, an index of Argentine economic series. He is a macroeconomist with interests in business cycles, monetary theory and policy, and comparative institutions.

This article was originally published on FEE.org. Read the original article.

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