Hurricane Sandy and the Broken Window Fallacy

A number of analysts have tried to paint a silver lining around Hurricane Sandy by toting the increased spending that will result from the clean-up. On its face, it seems a fair enough statement, but is it?

The possible benefits from destruction is a topic that has been debated in economics for years. Many people claim World War II and its increased spending is what brought the United States out of the Great Depression. But, is that a fair assessment?

In an 1850 essay, Frédéric Bastiat put forth the idea of the Broken Window Fallacy. Below is a short video explaining Bastiat's theory. To put it briefly, Bastiat says spending from a destruction event can never help an economy because it merely diverts money that already would have been spent in other ways. As such, while it may help some sectors of the economy, others will suffer as a result.

Now, the most compelling argument I can see against Bastiat is an economy with excessive resources not being used. With company balancesheets near record highs, it's probably a fair assessment to put the state of U.S. business in this category. In this case, Sandy may end up freeing capital that has been held in reserve, and thus stimulating the economy.

In any case, Bastiat at least puts the lost opportunity costs associated with a destruction event into context. Whether you agree with him or not, at the least we have to consider that not every disaster (natural or otherwise) will end up helping the economy in the long run.

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Michael McFarlin

Michael McFarlin


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