Productivity and Pay | Basic Economics by Thomas Sowell | Ch. 10

Continuing in Thomas Sowell's book, Basic Economics, we have now come to the 3rd part in the book, this time focusing on work and pay. If you want to see my previous chapter summaries or analyses, please click here.

Otherwise, here is the summary and analysis for chapter 10!

Chapter Summary

Beginning in this chapter, we start to deal with the “people” part of the economic equation. Namely, how payment and wages incentivize work, set limits on employers to prevent wasting resources unnecessarily (including labor itself), as well as the effects of supply and demand on wages.

Before we really get into it, there are a couple things to keep in mind. First, in general, employees desire being paid the highest wages possible, while employers desire to pay the least. This tension pushes and pulls how wages increase and decrease. Second, there are different levels of skill for labor. For the most part, the higher the skill required, the less people there are that have such a skill — thus demand for higher skilled workers is greater, and often results in more pay. A third part of the equation is that higher skilled work (i.e. engineering) tends to bring employers a higher level of income, whereas lower skilled work doesn't (mostly). This results in employers being able to pay higher skilled workers more.


Productivity, or how efficiently work is done, is a difficult thing to measure, since it depends on both the efficiency of labor as well as the quality of materials used for that labor. For example, when better quality machinery is used, productivity tends to be high. But if the management over those workers with better machinery is poor, then companies with lower quality machinery but better management can certainly overtake the former.

These variances apply everywhere, from the professional sports industry to acting and filmmaking to science labs and research facilities. They can even be affected by thing like whether the country in question has modern roads, or how much corruption there is in the local government. Because of these multiple factors, productivity is actually different from merit — where merit is a measurement of the individual, productivity must include a lot of different (sometimes uncontrollable) environmental effects.

Pay Differences

When it comes to pay, there is often a moral question. After all, few people like to see their fellow man suffer. Thus, when we think about pay, despite the fact that “income” is basically the same financially as “price”, we tend to look at it differently, and pour billions of dollars each year into humanitarian efforts.

As discussed before, prices are simply used to help people understand the work behind a good or service, without requiring them to have to know everything about it. But when social or political efforts attempt to change prices artificially, it makes prices less able to communicate that information, and thus hinders the ability for society to prosper, because that information has been hidden.

So why are there pay differences? In addition to what we've talked about above, there are differences in pay even with ages. In fact, a lot of the “rich” and “poor” dichotomy can be understood that people are paid differently by age. Those younger tend to be paid less, while those older tend to be paid more. It's a regular thing to find that the top 5 percent of income-earners are actually 45 years or older. After all, a 16-year-old is not going to have as much work experience as a 45 year old. This is oftentimes not published in mainstream media. But the reality is that people rarely stay in the same income bracket as they age.

There's also a false equivocation of “rich” and “high income”. High income earners are not necessarily rich, since wealth is more often measured by how much you keep and grow over time. Furthermore, people who are rich don't always stay that way. In 1982, about 1/5th of the richest 400 Americans inherited their wealth. By 2006, that had dwindled down to 2 percent. This goes against the idea that “society” determines some kind of distribution of wealth, which is misleading at best. Instead, we can look at both working hours as well as household earnings to see how income is earned across an economy.

For example, oftentimes, we're told by the mainstream media that the rich are really lazy and the poor are often the harder workers. And this is done through an analysis of individuals compared with their income. But if we look at that actual numbers, especially recently, this is patently false. Most of the time, both in household numbers and income earners, when we look at the top percentage of income workers, the vast majority work somewhere from 50 to 60 hours a week.

Another example: What's often reported is that households are still earning the 'same' wages. But when we look at households, we find that most of them are getting smaller. What this actually means is that a household of two people are earning the same as a household of three a few decades ago. That is an increase in wages, not a flattening.

This isn't to say that there aren't real rich or poor people. But poor people don't always stay poor, and rich people don't always stay rich. The real trend in society, then, is that incomes tend to change across time. For example, of the Americans in the bottom 20% in 1975, 98% of them had higher real incomes by 1991, and many had more than the average American. When you actually follow people through their lives, especially in more economically mobile societies (e.g. Canada or the United States), the differences between “rich” and “poor” fades away, since people move between those brackets frequently.

We can use this to gain insight into skill differentials as well. In the past, before machines took over human labor, strength largely determined income, as a stronger human being was desired more, so as to do more labor. This made younger men the most desired worker. However, as machines made strength a less important factor, older people became more able to work. This can even be seen in the 20th century in the United States. In 1951, those between 35-44 years of age were the highest income earners. Fast forward to 1993, and the majority of high income earners had were now in the 45-54 age bracket. Again, this was a change in skill level required, as society changed.

What about discrimination? After all, there could be lower income earnings as a result of sex, race, or other kinds of discrimination. The problem is that this is much more difficult to quantify. For example, on average, women tend to have lower incomes than men. But this can be explained by the fact that women can do something men can never do: give birth. Birthing and raising a child tends to interrupt the careers of women in the workplace, and thus inhibits their income. When we look at single women who have worked without being interrupted in such a a way, they actually tend to earn more than single men in the same age group. This tells us that, once again, skill (and experience) are the better determiners of pay than anything else.

Let's do a slightly different take: let's suppose that the general average of women's income was determined to be lower than men, even when accounting for pregnancy and raising children. All economically sound employers would then be incentivized to actually hire more women, since they could simply pay them less, and keep more money (something that all employers want to do). There would then be a shortage of women in the workplace, which would increase the demand for them, which would increase the payment. In the end, it would balance out economically, and the employer who discriminates against women by not hiring them would put himself at an increasingly stupid disadvantage. This actually happened in South Africa during apartheid, as employers would hire more blacks than was permitted by the government, because it was just more economically sound.

This is the difficulty of measuring discrimination. It may on the surface appear that discrimination happens. But oftentimes, when accounting for non-discriminatory explanations, the numbers become economically rational.

Capital, Labor, and Efficiency

When we talk about work, we must understand that both capital and labor are necessary. Labor is the work people put in, while capital is the material needed for that work. However, whether the labor and capital are being put to good use (i.e. efficient) is difficult to define.

For example, in agriculture, the output per acre is lower in the United States than in Europe (generally). However, if we look at output per agricultural worker, it tends to favor the United States. This is because a lot more land is available in the United States than in Europe. Third World countries similarly will be able to use their capital (i.e. tools) more than wealthier ones, due to the fact that they have fewer of them.

In this way, a principle mentioned in previous chapter comes to the fore: economies are not simply about money, but the scarce resources which are used in that society. Are those scarce resources being put to use in the best way? Just because a freight train in one country is used to move one material than in another country doesn't mean it is being used to maximum efficiency. It could mean that, in the latter country, those trains are also being used for something else (e.g. passengers).

And so, efficiency, like discrimination, is actually difficult to measure, and requires a closer look at what is going on, rather than blanket statements that don't give any real information.

My Thoughts

I didn't put any explicit examples in this time, but it's quite hilarious how Sowell often mentions the Soviet Union in comparison to the United States, as if to keep hitting the nail on the coffin of just how bad of an idea the communist nation was.

I don't have many thoughts on what was mentioned above, except at the end, in terms of efficiency and resource allocation. Let's get to it.

Cryptocurrency and Economic Efficiency

Almost everyone who follows XRP knows Brad Garlinghouse's famous statement on the ease of moving money across borders. Or rather, the lack of ease of moving money across borders. That famous line about it being faster to put money in a suitcase and send it on an airplane is probably going to be a meme at some point.

It does highlight the inefficiency of the monetary system at the moment, of course. Flying an airplane costs a ton of money and fuel, so while that idea clearly doesn't cost less, it does seem ludicrous that cross-border transactions take such a long time.

There is another side to money efficiency though.

Currently, Bitcoin is the most popular cryptocurrency in the space. According to Coinmarketcap, about 30 billion dollars are moved through it each and every day. The amount for Tether is even higher, at around 40 billion as of this writing. Both use blockchain protocols that absorb extraordinary amounts of energy to keep running. Bitcoin, by itself, requires energy greater than that of entire countries to maintain. In such a vacuum, as it grows more and more, the drain produced may actually begin to affect real countries' ability to sustain themselves. If we are to survive as a technologically advanced species, this clearly cannot continue to go on.

Furthermore, Bitcoin and Tether are quite slow in comparison to other cryptos today. But a question may now be important to ask: is society ready for near instant transactions?

If it costs nearly nothing, and no time, to move money from one person to the next (as in the case of XRP), there may be indirect consequences that we haven't thought of. Just like there are consequences of instant global communication, ala the Internet, and its effects on our society. Addiction to social media is a real thing, and it hasn't really been solved for the most part. Could fast-moving money have similar negative ramifications?