Although the phrase “nation-building” sounds much more constructive and well-intentioned than the destruction and death that have normally accompanied the use of American power, the reality is that attempts to build nations are likely to fail. What the nation-builders overlook is a distinction made by Ludwig von Mises almost 100 years ago: A nation is not necessarily the same as a “state.” In his underappreciated little book Nation, State, and Economy, Mises argued that “nations” are defined not by geography or by political institutions, but most fundamentally by language and other similar cultural institutions that provide a basis for “mutual understanding.”

Therefore the nation, Mises argued, cannot be understood as a static object that we can manipulate as we wish: “Nations and languages are not unchangeable categories but, rather, provisional results of a process in constant flux; they change from day to day, and so we see before us a wealth of intermediate forms whose classification requires some pondering.”

This evolutionary perspective on what constitutes a nation suggests that it may be very difficult for an external observer to even know whether a given mass of people constitutes a “nation,” much less be able to know what it would take to build a nation out of their current “intermediate form.” As we know from F. A. Hayek, people learn how to coordinate their behavior with one another via such evolutionary processes. In other words nations are spontaneous orders that emerge from the daily choices of people about the language they use and the other ways in which they participate in, or withdraw from, a variety of cultural forms. The people themselves constitute a “nation” by their individual choices.

States imposed on nations by princes, Mises contended, are doomed to fail because they normally attempt to eliminate all forms of community that lie between the prince and the people. Anything that doesn’t come from the State is to be dissolved. In other words imposed States dislike and destroy the delicate, complex, and evolved connections that comprise a true nation. This is why totalitarian regimes try to control language, religion, family, and all of the other intermediary institutions between individual and State: because those institutions help to define what it means to be a nation as distinct from a State. They provide a buffer between the evolving choices of individuals and the attempt to control those choices from the top down.

Like other attempts to control spontaneous orders, nation-building faces significant knowledge problems. It is no different in principle from attempting to plan an economy domestically. As Mises and Hayek pointed out decades ago, when planners attempt to allocate resources from the top down, they have no market signals to guide their behavior or to indicate what value people place on various outputs and inputs—that is, no prices with which to engage in economic calculation.

Nation-building is even harder than central planning at home. Once we understand that true nations are the unintended consequence of decentralized cultural processes involving millions of choices by millions of people, the absurdity of trying to build a nation as if it were a child’s toy or even a skyscraper becomes clear. Mucking around in processes that are too complex to understand in all of their relevant causal connections is almost certain to produce unintended and undesirable consequences. All the intermediary institutions that define a nation (such as language, customs, religion, and family) themselves have strong elements of spontaneous order to them because they grow out of the day-to-day practice of individuals with no overarching plan. These are ways in which individuals try to coordinate their behavior, slowly evolving institutions to assist them. Such processes of coordination work best when individuals and small groups are free to use their own particular knowledge to determine what will improve their lives. To build a nation, in Mises’s terms, would require one to be able to do a better job than the decentralized social processes described above.

Economist Chris Coyne, in his wonderful book After War, confirms that postwar reconstruction (the form recent nation-building has taken) suffers from the same sort of knowledge problem that faces those who would “build” an economy domestically. If Mises and Hayek were right about the impossibility of socialist planning because economies are simply too complex to be surveyed by one mind without the help of signals such as prices, then nation-building is equally impossible. Just as the intervention of economic planners inevitably produces results that run counter to their stated goals, leading them to intervene again to solve those problems, so will nation-building create pushback and new forms of culture and community that frustrate the designs of the builders. The quagmires of Iraq and Afghanistan are clear evidence for this argument.

Coyne articulates a number of propositions that explain the failure of attempts at “exporting democracy.” Three of those are of particular relevance to the argument here.

Why Democracy Can’t Be Exported

First, he argues that while economists and other social scientists have a pretty good idea of what constitutes a functional nation, they have much less knowledge about how to bring a “failed nation” to that point. How nations emerge is a process that is both complex and unique to each particular country. All that we can do is get out of the way and let people figure it out for themselves.

Coyne also distinguishes between the factors that nation-builders can control and those they cannot.

He argues that the uncontrollable factors are what we generally call “culture” or the “informal rules and institutions” that constitute societies. These factors constrain those that we can control. In other words there are things nation-builders can attempt to do, such as initiate democratic elections as the U.S. government did in Iraq, but the success of those formal changes depends greatly on whether they are consistent with the underlying culture. Just putting formal changes in place because you can control them does not mean they will produce the desired result.

Nirvana-Building

Finally, Coyne points out that many attempts at nation-building suffer from what economists have long called the “Nirvana fallacy.” That fallacy lies in comparing the imperfection of existing reality to the perfect world they can imagine in their theories or on their chalkboards, then condemning reality for failing to measure up. In the chalkboard descriptions of how nation-building should take place, planners are presumed to be guided by the public interest with all the information they need to generate the desired outcomes. I have already discussed the problem with the latter. The former, though, also omits the imperfections of politics. The knowledge problem is compounded by perverse incentives.

There is a pitfall in assuming that those charged with using the political process to build, or rebuild, a nation will ignore their self-interest and be motivated solely by the public interest. Nation-builders need to correctly identify the public interest. Although they may know what the endpoint is, knowing what path will generate that socially desirable outcome is the fundamental challenge. It is not possible for them to know if any given nation-building action is actually in the public interest. With that constraint we should not be surprised to see the self-interest of the nation-builders predominating. Coyne documents how political self-interest has ruled U.S. nation-building efforts in Iraq and Afghanistan, manifested in the cozy relationships American politicians and policymakers have with private-sector firms with whom they had preexisting associations. Nation-building is a fertile ground for the sorts of corporate-State partnerships that undermine genuinely free markets.

Liberalism and Anti-Imperialism

Coyne’s book and the broader arguments I have offered above are part of the long-standing classical-liberal tradition of anti-imperialism. Perhaps because of the accidental alliances created by the Cold War, many have forgotten that tradition. In fact, classical liberals have always believed that the best way to encourage national development is through trade in goods and services and ideas—not through political or military intervention, even in the name of helping others.

The arguments against nation-building are much the same as those against domestic intervention (which can be recast as “economy-building” or “morality-building”). Both spring from the mistaken belief that outsiders can do better than the arrangements that emerge spontaneously and evolve continuously as individuals engage with each other. Both suffer from insurmountable knowledge problems and the perverse incentives of the political process. A better choice is to encourage unhampered exchange—within and between nations. Failure to grasp the impossibility—and often brutal consequences—of nation-building can remove yet another bulwark against further domestic intervention. If we can build a nation to our liking overseas, after all, why can’t we do it at home?

As we see in Moore’s new movie, Capitalism: A Love Story, Moore is offended by some truly offensive things: banks engaging in wild speculation without concern for the risk, taxpayer bailouts for banks and other businesses, cozy relations between Wall Street and Washington, politicians getting favors from companies that want benefits from government, and big institutions pushing less powerful individuals around. True, he’s offended by some inoffensive things as well, such as the cut in the 90 percent top income-tax rate years ago. But by and large, what he rails against should be railed against.

Had he called his movie State Capitalism: A Love Story, I might be applauding (with some reservations). But he’s targeting the more ambiguous “capitalism,” which he uses interchangeably with “the free market.” He can be forgiven for this, however. Most people would say that the current U.S. economic system is capitalist. Moore has probably heard that all his life. He’d hear it if he watched a Fox financial program. Would Ben Stein or Lawrence Kudlow disagree? Moore has also heard Republican politicians—George W. Bush, for example—praise the existing system, with all its deep government interventions, as capitalist. Bush did this even as he and Treasury Secretary Henry Paulson, former chief of Wall Street behemoth Goldman Sachs, stampeded Congress into passing the $700 billion TARP bailout last year. Moore takes such people at their word: The free market is capitalism, and capitalism is what we have today.

Vulgar Libertarianism

Can we blame him for thinking this way?

Yes, it’s sloppy thinking, and had he been more curious and read beyond the confines of “Progressive” literature, he could have gotten the straight story. But many knowledgeable advocates of the free market contribute to the confusion by exhibiting what Kevin Carson calls “vulgar libertarianism,” or what Roderick Long describes as “the tendency to treat the case for the free market as though it justified various unlovely features of actually existing corporatist society.” How often have you heard a free-market advocate condemn pro-business intervention in one breath, then defend existing dominant corporations in the next—as though they did not arise in the interventionist environment just condemned? Pro-market is not the same as pro-business. If some market advocates don’t understand that, why should Moore?

This may go a long way in explaining Moore’s aversion to profit—at least other people’s. He associates profit with business, which he associates with (state) capitalism. So for him, profit per se is suspect. But he should see a problem here. Does he think he’s exploiting moviegoers when his production company ends up with a profit? Do the co-ops and worker-owned firms he loves exploit their customers when they sell their products for more than their money costs?

Cornered like this, Moore might say he’s only against the excessive profits that capitalist market power permits. But now we’re back where we started. To the extent that intervention hampers competition by erecting barriers to entry—which is the usual effect, intended or not—protected firms are free to charge higher prices and reap more profits than would have been the case in an open market. Corporate power and privilege derive from political power and can’t exist without it. In contrast to existing capitalism, the truly free market would have no legal barriers to competitive entry, assuring that prices and returns are economically justified and not the fruits of privilege. Only the State permits business to make profits by withholding benefits from consumers.

But Moore doesn’t know this. What he “knows” is that the choice is between the current corrupt system—and it is corrupt—and some vaguely defined scheme of control by benevolent politicians, which he calls socialism and democracy.

In his movie Moore expresses affection for socialism, but he’s not clear what he means. He never advocates collectivization of the means of production or the abolition of markets. Instead he suggests that socialism means workers having a say in how the companies they work for are run. But why assume that’s anti-free-market? He praises worker-owned companies and notes that hundreds of them exist in the United States today. He might be surprised to learn that these things are entirely compatible with the free market. In fact, it’s a perfectly libertarian intuition to abhor being subject to the arbitrary whim of anyone—yes, even a private employer. If government regulatory and tax obstacles to new competition and self-employment did not exist, workers would have their maximum bargaining power and widest array of alternatives. I imagine we’d see more departures from the traditional firm. People used to get their “social insurance” from mutual aid societies. Maybe in a true free market, we’d see a bigger role for the employment counterpart to these public, yet not governmental, organizations.

What would Moore think about a system in which no one could collude with politicians to legally plunder the rest of us for his or her own benefit and everyone was free to enter into any cooperative arrangements to produce and offer goods to others in voluntary exchange? Michael, that’s the free market!

The Nirvana Fallacy: A Love Story

Of course, Moore naively looks to government to provide things. His movie laments that FDR died before he could see his Second Bill of Rights enacted. Roosevelt wanted government to guarantee everyone a good education, job, home, health care, and so on. Has Moore ever wondered where government would get the resources for this? He can’t really believe that somewhere there’s a massive pot of collective wealth waiting to be distributed. He must realize that the tax system would provide the money. But how can he not know that if government appears to penalize wealth creation with confiscation, less wealth will be created?

Moore is unaware that he commits the “Nirvana fallacy.” This is the erroneous idea that our choice is between the admittedly imperfect world we’re bound to live in if government leaves us alone and an imagined utopia in which benevolent and all-wise rulers oversee and regulate everything. Of course that is not the choice. Moore’s preferred system, whatever he calls it, would be run by individuals whose insights into the public interest would be no sharper and whose motives no purer than other people’s. However, since they would wield political power—which is the legal authority to compel obedience—they would be far more dangerous than anyone in a free market could ever be. He knows how corrupt politicians are. Why does he think different people would run things in his utopia? Does he really want them in charge of everyone’s job, education, health care, housing, pension, and the rest? It’s hard to understand why he isn’t uncomfortable with the idea of the people being tenants and employees of the State.

Whether he realizes it or not, Moore favors a system in which an elite necessarily would make critical decisions for the rest of us. He’d be incredulous to hear that, but if he ever comes to understand it, libertarians might end up with an unlikely ally.

“The view that now pervades much public policy economics implicitly presents the relevant choice as between an ideal norm and an existing ‘imperfect’ institutional arrangement. This nirvana approach differs considerably from a comparative institution approach in which the relevant choice is between alternative real institutional arrangements.”

A common form of the fallacy is rejection of the imperfect free (or freer) market in favor of (presumably) omniscient, omnipotent, and omnibenevolent government regulation. A “flawed” but achievable arrangement is set against an (alleged) ideal, though it is left unestablished whether the ideal can in fact exist. The problem here should be obvious. If the ideal is not available, then the comparison is worthless. If the rejected option were compared to other achievable—also imperfect—alternatives, it might well be judged superior.

A recent example of the Nirvana Fallacy comes from Sen. Charles Schumer of New York. Asked how the Obama administration will prevent another financial crisis, Schumer said:

“You’re gonna find a different system of regulation. . . . So like when Bear Stearns began to run into trouble, they’re gonna call the heads of Bear Stearns in and say, ‘All right fellas, you’re getting rid of those two hedge funds; you’re gonna raise more capital—even if it means you have lower profitability. . . . [Y]ou do it or we’re gonna take sanctions against you.’ . . . You need a tough, strong regulator, unified—no holes in the system— . . . who . . . sees the problem ahead of time, so they have complete transparency, they know exactly what’s going on. . . .” (emphasis added)

We see at once that Schumer assumes what he must demonstrate: namely, that the regulator can overcome the Hayekian “knowledge problem,” the limits posed by the fact that the most critical economic information is not readily obtainable statistical data but rather is diffused and often unarticulated knowledge, including know-how.

Look at what I’ve highlighted in his statement, and ask yourself what Schumer apparently has not asked himself: How will the regulators “know exactly what’s going on”? Spotting Bear Stearns’s specific hedge-fund problems “ahead of time” would have required insights and hunches that only entrepreneurs with money at risk could be expected to have—and even those might not have been enough. Fortune-telling is not a widely distributed skill. It’s not a matter of toughness or access to Bear’s books but, at the very least, of entrepreneurship (not to mention luck), which is profit driven. Bureaucratic regulators bring no such talent to their jobs. More likely, they’d be enforcing formal (possibly outdated and irrelevant) rules, looking for a repeat of the last problem, while missing the next one entirely. As Nassim Nicholas Taleb might say, it’s the next black swan, not the last one, that bites you.

Schumer’s fallacy is actually worse than the standard Nirvana Fallacy. He doesn’t compare his unrealizable regulatory vision to the free market but rather to our corporatist economy replete with government bailouts, moral hazard, easy credit, and all the other ways of disabling market forces.

The closest we can get to what Schumer says he wants is through the discipline—that is, the regulation—imposed by the unfettered market. That includes bankruptcy’s Sword of Damocles and the freedom of traders to sell short—that is, to profit by betting that a company’s stock is overvalued and communicating that information to the market early. Predictably, the government is planning to restrict short selling. Bad regulation drives out good.

* * *

Advocates of big government claim they learned lots of lessons from the New Deal. But here’s something they missed: The post-1929 economy began to rebound before FDR’s programs could have taken effect and even before he took office. Jim Powell explains.

Government spending is said to be indispensable to recovery from a recession thanks to the magic of the “multiplier.” Is there really more bang from the government-directed buck? James Ahiakpor debunks the myth.

But surely the government is good at creating productive jobs when it spends money, no? Larissa Price, applying Bastiat’s lesson, throws cold water on that hope.

By now you may have bought some of those funny-looking spirally light bulbs after hearing they use less energy and save you money—only to find that they can’t hold a candle to the old incandescent bulbs. Thanks to Congress and former President George W. Bush, though, soon you won’t have a choice. Michael Heberling has the unfortunate details.

Last spring’s G-20 economic meeting called for a crusade against tax havens, places where people can protect their wealth from greedy politicians. Daniel Mitchell comes to their defense.

Can there be freedom when the state sees itself as Robin Hood? Carlos Rodríguez Braun shoots an arrow into the heart of that belief.

Land has been at the center of conflict from time immemorial. Even so-called capitalist countries have been blemished by land monopolies, government-sponsored speculation, and feudal-style interventions, such as property taxes. Joseph Stromberg conducts a tour of the great land question.

Our columnists again serve up an intellectual feast. Lawrence Reed writes about perseverance in the face of adversity. Thomas Szasz further documents psychiatric slavery. Burton Folsom takes a critical look at an economic interpretation of the Constitution. John Stossel examines the “fatal conceit” of interventionists. Walter Williams defends school choice. And Robert Murphy, encountering a free-market advocate’s case for government monitoring of derivatives, responds, “It Just Ain’t So!”

Our reviewers render verdicts on books about World War II, libertarianism, early globalization, and the Constitution.

In 1969 economist Harold Demsetz identified an important flaw in much public policy analysis, the “Nirvana Fallacy.” We would do well to keep it in mind as we think about solutions to the current economic problems.

The rest of TGIF is here.

Dr. DiLorenzo is professor of economics at Loyola College in Maryland.

The Good Life and Its Discontents, by journalist Robert J. Samuelson (no relation to the economist Paul Samuelson), is a well-written exposition of some of the failures of interventionist economic policy over the past 50 years. He roundly condemns this age of entitlement, defined not just in terms of the taxpayers’ incomes that special interest groups believe they are entitled to, but as the conviction that we could completely control our economic, social, and political surroundings with interventionist economic policies.

His thesis, in other words, is similar to F. A. Hayek’s fatal conceit, the idea that planners could somehow plan an economy better than the free market. As interesting as Samuelson’s book is, it does not come close to matching the depth of Hayek or of many other writers familiar to Freeman readers who have analyzed these same topics for the past several decades. Samuelson’s book is important not so much for its content, but for the fact that the author is a respected mainstream journalist (who writes for the Washington Post!) who has concluded that the welfare state has indeed been a monstrous debacle.

Samuelson asserts that Americans are an extremely unhappy lot not because their lives haven’t materially improved over the past several decades —he shows that they have —but because they have been misled, mostly by government propagandists and their intellectual supporters, into believing that they can achieve a more or less perfect world —if only government is given sufficient power. We supposedly suffer from what economists call the Nirvana Fallacy —comparing the real world with a utopian ideal will always make the world appear to have failed.

Samuelson smashes the huge conceit of the Keynesian economists of the 1960s (especially James Tobin and Paul Samuelson), who arrogantly believed that under their expert guidance the economy could be manipulated for the larger social good. The biggest disappointment of the book, however, is that Samuelson then endorses the misguided Keynesian view that the sole cause of the Great Depression was the desire by governments to stay on the gold standard. He ignores the Fed’s 30 percent drop in the money supply from 1929 to 1932; the fact that President Hoover increased government spending by 65 percent in just four years and raised the top marginal tax rate from 24 percent to 63 percent; Roosevelt’s massive 1933 tax increase and his economic planning program known as the New Deal; and the Smoot-Hawley tariff, which precipitated a worldwide trade war that reduced the volume of world trade by a third in just three years (1929-32). Samuelson is also unaware of the Austrian School’s boom and bust theory of the business cycle, which provides the best explanation of the Great Depression as an inevitable consequence of the Fed’s monetary expansion during the 1920s.

Samuelson makes a strong case that Americans need to return to an ethic of individual responsibility. People ought to do more for themselves and expect government to do less. Amen. But then he soft pedals on this, his strongest point, by noting the shortcomings of individual responsibility (i.e., some people can’t or won’t be more responsible). This is an odd feature of Samuelson’s writing: He seems to believe that economic truth can be gleaned by consensus. The free market has its virtues, but so does government intervention, so that the truth must lie somewhere in between. This might be a good strategy for selling books —appealing to virtually everyone’s biases —but is an annoying distraction in an otherwise useful and welcomed critique of the failures of social engineering schemes over the past half century.