Monday, August 27, 2007

Understanding Government: Responsibility

Many different goals can potentially be achieved by different means. Specifically, they can either be accomplished through government programs and regulations, or through the free market.

In the free market, human interaction is voluntary. People freely choose to trade when they believe it to be in their interests. Violence is forbidden, and may be resisted if attempted.

Government programs are necessarily based on coercion. They require the threat of violence to force people to comply with them.

This would seem to be a strong moral argument in favor of the free market. This essay will bypass the question of morality, however, and instead economically analyze the question of which type of solution is more effective.

The key difference between government and the free market is responsibility. That is, who bears the consequences of government or private actions?

In the free market, the consequences of actions are borne primarily by the actor himself. This is true of both positive and negative consequences. If a private interest uses its resources effectively, offering some product or service that benefits humanity, it can profit from its action. However, if it squanders its resources, it will experience losses.

Government programs are different. Because they are funded by taxes and based on force, they will exist whether or not people want them to exist. Those who create and staff them will not experience the consequences of their actions. This does not mean that the consequences will disappear. Instead, they will be borne by others who are not responsible for the creation of the program. Taxpayers will be forced to fund the program, and the program may create incentives that will have unexpected consequences for others.

In the free market, private interests must serve the customer to stay in business. The profit and loss system provides information to tell them how they are doing. The free market rewards success and discourages failure. In contrast, government programs can continue taking taxpayer money regardless of whether they succeed or fail. Without a profit and loss system, it may not be easy to tell whether a program is succeeding or not.

When a government program fails, it could have its budget cut, but actual experience shows that this is unlikely. More likely, it will be continued by politicians who refuse to admit failure, or for the benefit of its own employees, or because people see only some results of the program and not others. In the unlikely event that a government program succeeds, it risks having its budget cut as unnecessary. In any case, those responsible for the success are not rewarded as they would be in the free market.

Different incentives face people in the free market and government. In the free market, those who wish to succeed must please the customer. Government employees will continue to be paid regardless whether they are helpful or harmful. Thus government programs promote bad service and harmful results.

Different types of people are attracted to different types of jobs. Private entrepreneurs may be self-interested, but they must be willing to serve the customer to succeed. They must also be willing to take risks and possibly lose their jobs if they do not succeed. Government employees can count on being funded by the taxpayers regardless how well they do. Thus people who are less willing to work hard and effectively are attracted to such jobs.

In the free market, people can forcibly resist those who seek to use force to harm them. Government's near monopoly on force prevents people from resisting harm by government this way.

Democracy attempts to impose some consequences for government programs, but they are woefully inadequate. Politicians can lose their jobs, but this can occur regardless whether it is deserved. Politicians can enact policies that kill thousands of people and waste billions of dollars, but job loss is the worst consequence they are likely to face.

Again and again, the free market out-performs the government. There may be some functions that only the government can perform, but when there is a choice between a government and free market solution, the free market consistently works better.

8 comments: said...

Free market? What's a free market?

Signed, Carl Levin's CAFE standard increase.


Matthew said...

Another great post, Allan. One of your best.

Anonymous said...

Allan has deleated a comment! He has done it again! Matthew, please help your friend understand that the world is not black and white like he is trying portray. You are a pretty decent economist. Why are you letting Allan slide here? The choice is not free market or government, it simply doesn't work like that and I know you know better Matthew. Please, for Nick's sake, be honest with Allan for once in your life!

Matthew said...

You are making a strawman fallacy argument here. Allan did not say that we must make a black and white decision between the free market and government. Here, again, is what he did say:

"Again and again, the free market out-performs the government. There may be some functions that only the government can perform, but when there is a choice between a government and free market solution, the free market consistently works better."

Anonymous said...

Matthew, Matthew...what of cases where, by exercise of the free market, certain producers achieve monopoly status? The result is market failure as competition is eliminated and resources are no longer allocated so as to maximize societal welfare. The free market is not a perfect system. It is prone to crisis and readjustment and even Adam Smith recognized that regulation was necessary to the function of the market. I know you know this. Why let Allan slide? Why Matt?

Matthew said...

Regulation is not necessary for the market to function. In some instances, it may be possible that intervention by government may correct externalities and failures. Unfortunently, in practice government tends to make markets function worse, rather than better. This can be attributed to the incentives facing actors in government.

Monopolies are very difficult to acheive in a free marketplace. What was the last monopoly successfully prosecuted? AT&T? Even for Ma Bell, it took government regulation to create the monopoly in the first place. And even when a business may acheive monopoly status, they cannot act like an economic monopoly unless it is sheilded from the threat of competition.

Indeed, because most all monopolies are created with the help of government and a seldom few are dimantled by government, we would have fewer monopolies if it were not for government's meddling in the market.

Anonymous said...

You fail to see huge holes Matthew. How many choices do you have when you look for cable TV service? How many choices do you have when you decide who you want to buy electricity from? Let's say you want to propose to your sweetheart; from whom are you overwhelmingly likely to by a diamond? These are certainly not isolated cases. Moreover, the operation of the free market, with its tendency towards centralization of production and logic of profit maximization does produce consequences such as environmental degradation. In admitting that such externalities arise and, moreover, that government can address these problems, you have made the case that the free market is only likely to produce the best outcome. I must say however, that it is certainly refreshing to see a reasoned position appear on this blog.

Matthew said...

You bring up cable and electricity as examples of private market monopolies? Those industries are two of the more heavily regulated, and in most cases the monopoly is government-mandated. Not just the creation of the business, but with many specific aspects of how the businesses run their day-to-day operations. The existence of monopolies in the cable and utilities markets are textbook examples of the failures of government intervention in these markets.

Furthermore, DeBeers does have a near-monopoly on new diamond origination, but the strength of the robust secondary market ensures that DeBeers cannot operate as an economic monopoly when it comes to pricing.

I've yet to see you produce an example of a monopoly that a) isn't created by the government or its intervention into the market, and b) is able to exploit the consumer through monopoly pricing.


The trouble with externalities is that sometimes the medicine can be worse than the sickness. In government's attempt to fix some externalities, it can often make problems worse through the unintended consequences of its actions. The "centralization of production and logic of profit maximization" is not what produces the consequence of negative environmental degradation; rather, it is the fact that the costs of said degradation are not borne by the same actor that induces them and reaps the benefits of said degradation.

One would assume that some pollution does benefit society; would we be better off in a world without plastics, antiseptics, or engines? The problem is that, those that do pollute do not directly pay for the costs of that pollution. If someone wants to dump their trash on my lawn, they cannot do so without my consent (and to get that will probably require some sort of compensation). However, if that same person wants to pollute my air, they can do so with near-reckless abandon. With better-protected property rights, this problem could be corrected or reduced.