Why you need a healthy amount of uncertainty in an economy

What insurers know: You can cash in on uncertainty.
What insurers know: You can cash in on uncertainty.
Image: Reuters/Francois Lenoir
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I was watching MSNBC the other day when one phrase stopped me in my tracks. Host Alex Wagner was promoting her new show when she declared:  “Economic security is foundational to American success.

The sentiment is common, especially in these jittery post-recession years. It’s behind the so-called basic income movement in Europe described in the New York Times Magazine last weekend. A proposal in Switzerland ensures that everyone, whether through work or government handouts, is paid enough money for a comfortable lifestyle. Artist and founder of the movement Enno Schmidt explained to the magazine: ”What would you do if you had that income? What if you were taking care of a child or an elderly person?” Schmidt said that the basic income would provide some dignity and security to the poor, especially Europe’s underemployed and unemployed. It would also, he said, help unleash creativity and entrepreneurialism: Switzerland’s workers would feel empowered to work the way they wanted to, rather than the way they had to just to get by.

But if we define success as economic growth, security hardly holds the key. Economic growth comes from employing labor and capital more efficiently. That comes from people working hard and innovating. Each of these requires motivation. Thus, motivation is the foundation of success. What drives motivation? The need to resolve uncertainty. In other words, the opposite of guaranteed security.

The mechanics of what drives motivation is still an open question for psychologists. Why some people are more motivated than others often comes down to cultural factors. According to professor emeritus at University of Connecticut Sam Witryol, who pioneered research on what drives motivation, “Motivation is part of curiosity. What sparks curiosity can be classified into three different categories: complexity, novelty and uncertainty. They form the hierarchy of curiosity where uncertainty is the most powerful motivator.”

Because uncertainty is inherently uncomfortable, when it crops up we’re compelled to resolve it. That’s how uncertainty motivates people. But Witryol cautions, uncertainty is only useful in doses, too much overwhelms and kills motivation. This suggests that some uncertainty is good for economic growth. The future is uncertain, but you can mitigate some of the uncertainty by educating yourself, working hard, and saving.

Yet, if there’s one thing, the right and left agree on it’s that uncertainty is bad for the economy. According to progressives, certainty spurs growth by strengthening demand, thus it’s the job of the government to guarantee a certain living standard for everyone. Conservatives argue that government programs create uncertainty, because it introduces human unpredictability, and this discourages business from expansion and hiring. Both of these arguments are true to an extent—but it’s also true that the economy depends on uncertainty.

Not only does uncertainty drive motivation, entire industries exist because of it. Some people or institutions are better positioned to tolerate uncertainty either because they are well-diversified financially or personal disposition. The purpose of insurance and financial markets is to redistribute uncertainty to people better equipped to handle it (or so you hope). Redistributing uncertainty based on people’s needs and desires is presumed to enhance efficiency and it makes up more than 8% of GDP in America. Perhaps that’s too large a share of the economy, but the business of uncertainty is an important part of the economy.

But not all uncertainty can be sold or overcome. University of Chicago economist, Steve Davis measures uncertainty in the economy. He found that, since 2008, the recession and political disfunction doubled policy uncertainty in America. He found large, post-recession uncertainty increases in Europe and China, too. The uncertainty he measured is correlated with depressed growth and employment. This highlights an important distinction. Uncertainty that can be overcome enhances growth—but too much depresses it.

Wagner may be wrong that security is “foundational” to success, but she brings up an interesting point. Her definition of success probably doesn’t just include growth, but also distribution and fairness. Some people, either by accident of birth, physical aliment, or bad luck can’t work and earn enough to reduce uncertainty. When you earn very little, it’s hard to save and have any job security. According to the Urban Institute, more than one-third of Americans will face financial hardship if an unexpected event happens like the death of a family member, divorce, or even a car breakdown. It seems simply paying them more would be the easiest fix.  But if you are certain to be paid a comfortable salary, no matter how many hours you work or education you have, there’s no motivation to become more productive or educated—and that undermines growth.

The natural tension between redistribution and growth exists in any welfare state. Ideally, policy strikes the right balance it protects the most vulnerable from hardship but also exposes people to the right kind of uncertainty. This requires ensuring that low-wage workers have viable way to provide their own security, by enhancing economic mobility. Achieving that will take more creativity, thoughtful policy, and hard choices than more handouts or guaranteeing a comfortable living for all.