Essential UCLA School of Economics: The Nirvana Fallacy

Welcome to the essential ideas of the UCLA School of Economics.

One of the many contributions of Harold Demsetz, a key economist at UCLA,

is how economists, and people more generally, compare the status quo to alternatives.

Demsetz observed that people advocating government intervention often do so based on an imagined

solution rather than a real world alternative. As Demsetz explained, all real-world alternatives

have faults because nothing is perfect, and if improving the status quo is the goal,

the appropriate comparison is between real-world, imperfect alternatives–

not imagined, perfect ones. His theory became known as the “Nirvana fallacy.”

Let's explore this idea with rent-controlled housing. Anti-poverty groups often argue that

housing provided by private companies fails to provide enough affordable housing. And so

these well-meaning groups lobby government to regulate the price that can be charged for rent,

which they assume will fix the problem and provide more affordable housing for low-income people.

One of the assumptions they're making is that landlords, developers, and investors

won't respond to the new limit placed on rent. But the imposition of rent control in the real

world has consistently resulted in less rental housing being built and current rental housing

being converted to condominiums – all of which reduce the availability of rental housing.

Ignoring real-world alternatives and instead relying on imagined solutions

often results in outcomes that are worse than the initial perceived problem.

Demsetz's insights into how we should compare alternatives to the status quo is a powerful

reminder of the importance of examining real-world alternatives rather than imagined solutions.

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