You can't give money away. Now that sounds crazy, but it's true. This is even more
true for government programs that try to give away money through grants, subsidies, and
other handouts. Do you want to know why? To explain I'll need to tell you about something
called rent seeking.
Now if you try to give away money, unless you're giving it to one person or group
in particular without opening it up to any competition, people or firms will expend resources
in order to get the money you're giving away. In effect, they're paying for the
opportunity to get the money.
Here's an example you'll all recognize. Suppose a college gives a scholarship for
the best 20-page essay. The scholarship is $10,000. In this case, you have to write about
"what kind of flower would you like to be?" The money the college is trying to give away
is what economists call a rent.
A rent is a prize, something more than you could normally get and more than you could
get from any other activity. Now the rent is not the problem, or it wouldn't be if
the school just gave it away in a lottery. The problem comes when we ask people to compete
for the money. That competition is called rent seeking.
All the applicants will expend a lot of time and effort trying to make their essay the
best. So suppose 100 students apply for the $10,000 scholarship, and on average they spend
15 hours working on the 20-page paper. And suppose their time reading, doing chores,
or working in a job is worth about $8 an hour. Let's add the cost of this competition up.
The school tried to give away $10,000, but the students spent over $12,000 of effort
without really edifying themselves in the process. The scholarship was a net loss overall.
Sure the winner's better off, but even her net benefit is slightly less than $10,000.
Then she had to work so many hours to win it. In other words you can't give away money—at
least not without incurring a lot of cost in the process.
This is an extremely important lesion to remember when we talk about the government giving money
away. When the government has money to give away, people or firms will spend time and
resources competing for that rent through applications, proposals, lobbying, and other
means.
This rent seeking wastes resources, and it leads to contracts being awarded to the companies
that are the best at lobbying for the rent, not the companies that are best at producing
the service we want to contract for. Worse, much or even most of the money being given
away is wasted, dissipated in the competition to win the rent in the first place.
And yet so much of our political discourse focuses on how much money should be given
away and to whom, without acknowledging the problem of rent seeking. It's time for voters
and politicians alike to learn that you can't just give money away.