I'm currently putting together, as part of my series of articles on markets, a multi-part segment on regulation and deregulation, income inequality, and living standards. I would first like to introduce the subject here, in a brief preface, to be followed by approximately 5 posts on the impact of regulation on the American economy, finishing up with a treatise on the causes of income inequality.
The arguments I'd like to lay out here are as follows:
1. A market economy tends to function better when external regulations are not imposed on it, because of the inherently self-regulating nature of complex systems.
2. There are unintended consequences for economic regulations, most of which exacerbate economic conditions.
3. But perhaps some of these "unintended" consequences are in fact intended to exacerbate economic conditions, in order to foster demand for still more regulation.
4. The "well-meaning" intent of regulation, and of government intervention in general, has a way of forgiving, or even masking entirely, the negative consequences of regulation, because the government's motives are, in the eyes of the media and of society's liberal contingent, beyond reproach (at least when compared to the greedy ulterior motives of industrialists).
5. Therefore conservatives and libertarians, who tend to champion free-market principles, are treated in the media as unfeeling, selfish and heartless, whereas liberals, legislators in general, and regulators are treated as magnanimous, charitable, and compassionate, regardless of the actual outcomes of their actions. History paints a rosy picture of the tragically flawed New Deal, of Keynesianism in general (despite its fatal refutation in the guise of Stagflation), of fiscal stimulus packages that had little to no economic impact. And effective measures like the Mellon Doctrine and Reaganomics are castigated and blamed for systemic problems well outside the scope of their consequences.
6. One result of all this is that policies that actually increase income inequality are promoted and perpetuated by "well-meaning" liberals, while those who strive to reduce or eliminate these policies are fought tooth-and-nail in Congress, in the news media, in social media, and elsewhere in the public discourse.
These six points can be summarized in a fairly straightforward assertion: the "free market"--which no longer exists in our country, and hasn't for more than a century--is blamed for problems endemic to a regulated market.
There are different kinds of regulation, with different kinds of effects. Few reasonable people would argue against the existence of environmental regulations, although it’s not unreasonable to challenge the effectiveness of environmental regulations (considering how much pollution and environmental abuse continues despite them). I don’t know how liberals break regulations down, but I’ve identified four basic categories, and there is some overlap between them: the aforementioned environmental regulations; so-called “social value” regulations that govern product and workplace safety; “rules of the game” regulations that provide structure for financial and investment activity; and commercial regulations, which place limits on economic activity. It is this latter class to which I am most opposed, as it is the most destructive category; it distorts the market, it slows the flow of funds, and it vastly increases public expense, with very little gain for the consumer.
Market distortion is the most onerous effect. Any time the government places limits on the price or availability of a commodity, it disturbs the interplay between supply and demand. Supply and demand signals are the means whereby producers and consumers allocate resources, so any distortion to this relationship results in disruption to either production or distribution. This goes for minimum wage, which is in effect a price control on labor. Labor, being a commodity like any other, is subject to supply and demand, and when we arbitrarily define its value, we toss supply and demand aside. This is why minimum wage laws never have their intended effect: when the minimum wage is hiked, unemployment spikes, because the arbitrary price imposes limits on the availability of labor. Unfortunately, this unemployment spike disproportionately affects those that the minimum wage laws are most intended to help: unskilled laborers such as young urban black males.
This is actually analogous to how tax hikes impact economic development; minimum wage requirements can be thought of as a tax on labor, and it’s obvious from history that higher tax rates result in reduced economic activity. Or to put it another way, from Heritage Foundation: Tax Cuts, not Clinton Tax Hike, Produced the 1990s Boom:
A growing body of literature and experience indicates that higher taxes are associated with a smaller economy.[1] It is generally axiomatic that the more one taxes something, the less there is of the item taxed.
There is surely no reluctance among proponents to argue that higher taxes on tobacco materially reduce tobacco consumption or that higher taxes on energy would appreciably reduce energy consumption. Yet, somehow, the argument persists that raising taxes on labor does not diminish the supply of labor or that raising taxes on capital does not appreciably reduce the amount of capital in the economy. In both cases, tax hikes weaken the economy and reduce the amount of income earned by American families.
There are unintended consequences to every change we impose on natural systems. And make no mistake: the market economy, having evolved from the trade economies that have preceded it all the way back to the inception of civilization, is just such a natural system. It was not created deliberately, nor by any particular set of rules; it evolved on its own, in response to environmental pressures and the collective necessities of the participants. Complex systems do not operate like machines, in which all parts move in lockstep according to a single unifying design; they operate like jungles, in which all parts are independent and constantly making and breaking cooperative and competitive relationships with the other parts. When Man tries to regulate a jungle, he usually ends up turning it into a parking lot. Because complex systems involve innumerable hidden variables, the only way such a feat can be managed is by dramatically reducing its diversity. Unfortunately, the robustness of complex systems depends on their diversity, and when it diminishes, the system loses its ability to respond to shocks. This is why ecosystems that have been stressed by human activity can suddenly collapse when a single new stress is added, and in a larger context is why mass extinctions can occur when climate changes or gradual reductions in genetic diversity reach tipping points. When deciding on whether regulation is effective in general, or whether a specific regulation is worthwhile when measured against its public cost, we have to be willing to face the unintended consequences in addition to the stated objectives. And this is something that liberals have an extremely difficult time bringing themselves to do. So here, I want to present a few recent examples of regulation gone awry, so you can examine the facts and challenge your assumptions.
Last year, the FDA granted exclusive license to a single manufacturer, KV Pharmaceutical, for the production of Makena, a pregnancy treatment intended to reduce the risk of premature birth. Doses are required periodically throughout pregnancy, and a dose was previously $15 – 20. Following the enactment of the exclusive license, the price increased over a hundredfold, putting it well out of the reach of most of the women who most needed it. A full term’s worth of treatment could cost some mothers as much as $30,000. The reason for the cost increase is the reduced production capacity resulting from the monopoly that the FDA created. It’s the same story that has played out dozens of times over the past two centuries: the government crafts regulation, the regulation creates a monopoly, and consumer choice and purchasing power suffer.
The FDA has also created scarcity by interfering not only with production, but with distribution. There is currently a nationwide shortage of as many as 20 different chemotherapy drugs, and as a result, cancer mortality has risen during 2010 and 2011. The shortage is also affecting clinical trials. Despite the widespread rationing, the FDA claimed as recently as July of this year that there was no national shortage, only a number of local shortages. The FDA is being blamed for the shortages by economists who see more examples of KV Pharmaceutical-style consolidation and monopoly taking place, and who also point out that the FDA’s quality standards are severely limiting the portion of vendor output that actually makes it to market. The issue caught the attention of President Obama in October of this year, and he has ordered the FDA to ease the shortages. Time will tell whether the FDA can regulate its way back out of over-regulation of this market.
The root of the problem appears to be the relative inability of planned mechanisms to provide for the production and distribution of any product, a problem that has plagued communist nations since the USSR first adopted a command economy. So far in human experience, only a market system appears to be capable of producing and allocating resources where they are actually needed. A complicating factor is the tendency of complex systems to resist external regulation.
Complex systems exhibit what are termed “emergent properties,” and a common emergent property is “intelligence,” as defined as the ability to self-regulate in order to maintain an equilibrium. Cells, organisms, populations, societies, and ecosystems all exhibit this kind of intelligence. Their regulatory structure is composed of myriad feedback loops, typically involving negative feedback (which tends to attenuate signal output, as opposed to positive feedback which tends to amplify it). Self-regulatory mechanisms rely on negative feedback to steer their outputs toward an optimal range. In a cell, this optimal range is termed “homeostasis”; in larger systems, it’s generally referred to as “equilibrium.” If the feedback signal of a regulatory loop becomes positive, the system can become chaotic, with outputs that oscillate wildly over time. This kind of pattern holds in many natural examples in which Man has attempted to regulate environments that normally self-regulate: animal populations, floodwater accumulation, periodic wildfires, neurotransmitter levels, and global climate. The net effect is of over- or under-compensation of the signal in question, with a corresponding variance in the desired output. And this pattern certainly holds true in the case of the economy. F. A. Hayek predicted this behavior in the 1940s, and the economic history of the 20th century bears out his predictions. The market responds to every regulatory effort by finding ways to steer back to its own perceived equilibrium; and failing that, it exhibits chaotic behavior that confounds all subsequent regulatory tweaking. Regulation’s unintended consequences are often more significant than its intended consequences.
Most recently, the Transportation Department began enforcing regulations intended to prevent airlines from stranding passengers on tarmacs while flight schedules clear. The Department levied a $900,000 fine against American Airlines’ regional affiliate American Eagle; as a result, other carriers have begun cutting back on the number of flights, thereby limiting consumer choice and creating more of the same kinds of hard feelings the regulation is intended to prevent.
Readers of Michael Crighton’s science fiction novels will be aware that he was an M. D. as well as a mathematician and writer on science. The intersection of his fields of interest was chaos, and the predominant theme in most of his fiction was the chaos that results from Man’s attempts to regulate complex systems. The “illusion of control” is all we really have, he argued, when we impose regulations on systems that inherently resist regulation. They may deceive us for a time by operating in a stable, placid manner, and then oscillate wildly out of control, with disastrous results. To a reader of F. A. Hayek or Lionel Robbins, this is precisely what happened during the Great Depression when F. D. R. instituted his (largely unconstitutional) New Deal; to a reader of Milton Freidman or Daniel Yergin, it’s also what happened when Presidents Nixon and Carter attempted to rein in inflation by instituting price controls during the Stagflation era.
The main reason that liberals promote regulation is that they fear the kind of chaos that accompanies liberty: the chaos of millions of individuals doing their own thing, instead of doing everybody else’s thing. They view cyclical downturns in the economy as having been created by greed or malice, rather than coming about naturally as part of the business cycle. They regard poverty as a kind of oppression, rather than a simple expression of the natural-selective environment that demands that not all individuals achieve equal success in their chosen niches. They regard greed as the source of all evil, rather than the source of all incentive. They regard the economy as a machine, rather than as a jungle; they believe it can be controlled by constant tweaking, and that it does not seek its own equilibrium. In all of these concerns, liberals are simply dead wrong. More than a century’s worth of regulation hasn’t been enough to so much as mitigate the effects of a single recession; it hasn’t eradicated poverty; it hasn’t prevented pollution or unethical behavior on the part of corporations. Liberals have pointed to the Deepwater Horizon disaster as an example of deregulation gone awry. The recent National Commission findings argue otherwise: British Petroleum was found in violation of 12 regulations, and its partners in violation of another 5. Read that again: a total of 17 regulations were violated. It wasn’t a lack of regulation, but the ineffectiveness of regulation, that led to the disaster. As reported in gCaptain Maritime and Offshore:
SUMMARY: The Commission found that the Deepwater Horizon disaster was foreseeable and preventable. Errors and misjudgments by three major oil drilling companies—BP, Halliburton, and Transocean—played key roles in the disaster. Government regulation was ineffective, and failed to keep pace with technology advancements in offshore drilling.
1. The Macondo well blowout was the product of human error, engineering mistakes, and management failures, including the following: Failure adequately to evaluate and manage risk in late-stage well-design decisions.
• Failure to redesign cement slurry in response to tests that repeatedly demonstrated problems with the slurry design.
• Failure to recognize that the critical “negative pressure test”—a key test used to determine the integrity of the cement job that seals off the well—signaled that the cement at the well-bottom had failed to seal off hydrocarbons.
• Failure to recognize that the temporary well-abandonment procedures, which BP changed repeatedly in the days leading up to the blowout, unnecessarily increased the risk of a well blowout.
• Failure to recognize and respond to early warning signals of the hydrocarbon influx (or “kick”) that eventually became the blowout.
• Failure to respond appropriately to the blowout once it began, including but not limited to the failure of the rig’s blowout preventer to shut in the well.
2. These errors, mistakes, and management failures were not the product of a single, rogue company, but instead reveal both failures and inadequate safety procedures by three key industry players that have a large presence in offshore oil and gas drilling throughout the world.
3. Government oversight failed to reduce the risks of such a well blowout.
What this suggests is that it takes two to tango. By the same token that corruption requires participation from both the private and public sectors, bungling regulatory oversight does as well.
Regulation will only work as well as do the regulators, and regulators are subject to error, corruption, and negligence…the same key failings as in those they attempt to regulate. The fact of the matter is that most regulation is written with the corporation’s demands in mind. Regulation is the most significant way that corporations influence government. “Regulatory capture” is one sequel to this partnership; the recent Comcast merger, followed by the stepping-down of Meredith Atwell Baker from her FCC post in order to accept an executive position at Comcast, is but one recent example.
Similar stories have played out in every regulated sector. Only the blindest of the ideological blind can pretend, when faced with this reality, that regulation doesn’t help corporations thrive and monopolize. And yet there are still plenty of ideological and blind who will do just that. It’s sometimes enough to make me wonder just which corporation is paying them to promote regulation.
There is very little that government can do to direct the behavior of corporations, actually, other than to draft regulation in partnership with corporations. The courts attempt to regulate corporate behavior by levying fines and fees, but the reality is that no corporation fears fines and fees nearly as much as they all fear permanent loss of market share. The way to regulate corporate behavior is to hit them in the markets, not the courts. There are several very high-profile examples of the market doing just that. When Enron collapsed, it was as the result of the market’s activity, not the government’s. More recently, Netflix and Bank of America have both been forced by consumers to abandon operating decisions that would have dramatically increased the cost to those consumers. By taking a stand as private citizens, the consumers have changed corporate minds, something that so far the government has seemed woefully incapable of accomplishing.
We have it in us to regulate corporate behavior quite adequately, if the government can be made to relinquish its regulatory monopoly. Many liberals would prefer not to be saddled with such responsibilities, I’m sure, but we must not forget, after all, that this is an increasingly Green era, one in which consumers are better-informed than at any point in the past. If you practice ethical purchasing in any one aspect of your life, you can practice it in all. And by combining our efforts through no more difficult a process than “community organizing” or standing in line to vote, we can make as big a difference in the corporate landscape as we do in the political landscape via our participation in political parties. I am aware that the Occupy protesters believe that this is exactly what they are doing, but the fact of the matter is that Wall Street entrepreneurs are neither Representatives nor Senators, and are in no way beholden to the demands of voters (or protesters).
The only pressure they will reliably respond to is market pressure. If the protesters were in fact shareholders or holders of bank accounts of the firms in question, they would be much better poised to impose change.
Moreover, as has been demonstrated by a careful analysis of the “top 1%”, the protests are misguided to begin with, as the targets of protester ire are not particularly well-represented on Wall Street. Only about 14% of the “top 1%” are bankers. The rest is rounded out by entrepreneurs, doctors, lawyers, entertainers, and sports figures. And more than 80% of these individuals are first-generation wealthy, meaning that wealth is a revolving door, and there is little hereditary entitlement in that accumulation of wealth. In short, there is little evidence of anything like a “ruling class” bent on gathering most of the world’s wealth to itself. Most market entrepreneurs prefer that wealth be distributed, as this ensures that the ground for future investment and returns will remain fertile. The unfair accumulation of wealth is neither desirable nor actively sought by market entrepreneurs. It might not even be actively sought by a majority of political entrepreneurs, but it is still inescapable that political entrepreneurship is the predominant force acting to accumulate wealth. And because political entrepreneurship relies utterly on political patronage, in the form of favorable regulation, it follows that federal regulation is ultimately responsible for the unfair accumulation of wealth in this country.
The solution being sought by the protesters will only make matters worse.
One final note on the distribution of wealth in a free market economy: it is inevitable that there will be some kind of “1%” and some kind of “99%” in any distribution of resources. In the absence of skewing factors (such as federal regulation), wealth will follow a random or “normal” curve of distribution. This is simply a mathematical consequence of the fact that not all individuals are equally capable of accumulating resources; similar distributions apply everywhere we look in nature, from the accumulation of territory to the availability of prey animals. Readers of Robert Ardrey and Konrad Lorenz will be familiar with the latter’s theory of aggression as social organizing force; in full hierarchical / territorial regalia, the theory is known as the Amity / Enmity Complex. Lorenz wrote of the Complex in his book On Aggression, and was awarded the Nobel Prize in 1973; Ardrey wrote of the Complex in a series of books about evolution, beginning with African Genesis in 1961. The upshot is that “aggression,” as defined in a biological context, is roughly equivalent to what we term “competition”; and that it is the predominant behavioral factor whereby individuals in a society sort themselves into niches. Individuals with greater aggression—greater force of will—will acquire and command larger territories than those with less. Lorenz’ studies of animal societies, from fish to birds to mammals, led him to the conclusion that in ordinary circumstances, wherein societal norms are preserved (as opposed to the stressful “behavioral sink” conditions studied by John C. Calhoun), aggression is exceedingly humane, in that it allows for the allocation of resources throughout the maximum number of available niches, ensuring that the greatest number of individuals find homes (even if some individuals find rather small territories to command). Indeed, in societies without such norms, mortality due to resource scarcity is much higher (which Lorenz demonstrated by imposing artificial barriers to the linear application of aggression in allocating territories). What we can conclude for human society is that in the absence of competitive forces (such as a market economy), there is no mechanism to provide for the allocation of resources, and a greater rate of allocation failure can be expected to result. One need only compare the relative levels of poverty between American poor, as exemplified in urban homeless, and the poor living in centrally-planned or Soviet-style nations. As one of my friends, a recent émigré from China, exclaimed upon seeing a homeless beggar by the side of the road one day: “Wow, your poor people actually have stuff. In China, poor people have nothing. No clothes, not even cardboard on which they can write signs asking for help. No shelters, no help from other people. They live in dirt.”
Considering that the vast majority of Chinese are still many echelons below even the income level of American welfare recipients, I tend to conclude that Lorenz was right: competition is better for the most. Factors that ameliorate the effects of competition, such as the welfare state and federal regulation, actually make matters much worse. Regulators, politicians and the Democratic Party leadership would do well to become acquainted with Lorenz, Ardrey, Niko Tinbergen and Raymond Dart, the seminal figures in evolutionary psychology. Without a firm, accurate grasp of human nature, we cannot hope to enact viable, sustainable public policy. (This problem of understanding human nature works both ways. Many conservatives cannot properly gauge human nature because they refuse to acknowledge that we're evolved animals, not fallen angels but risen apes. Most liberals cannot do so because they refuse to acknowledge that we're territorial, aggressive, hierarchical, competitive, acquisitive, pack-hunting apes.)
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