Conservatives and Tea Partiers seem to believe in the free market as much as they believe in god. Therefore it is heresy for the government to intervene in anyway. My guess is that the vast majority have no idea what a free market really is and how common failures in those markets are. In the end, their ignorance works against their true best interest. They act irrationally, thereby undermining the entire capitalist system itself. So let’s take a look at what free markets really are, how failure occurs, and why the government is necessary to fix those problems.
Ask a teabagger to name two characteristics of a true free market. I bet the vast majority can’t name one. This is the essence of the problem. Maybe a few ‘baggers are reading this so here is a brief explanation of efficiently functioning markets. With great thanks to David Hyman’s Public Finance.
<align=center> Five Characteristics of a Free Market
1.Property rights – all productive resource are privately owned
2.All transactions take place in markets, and in each separate market may competitors offer standardized products to many competing buyers.
3.Economic power is dispersed in the sense that no buyers or sellers alone can influence prices
4.All relevant information is freely available to buyers and sellers
5.Resources are mobile and maybe freely employed in any enterprise."
Hence with such perfectly functioning markets efficiency is achieved. This is known as Pareto, or efficiency is the point where resources are used in a way that makes it impossible to improve the well-being of one individual without harming the well being of another individual. This is a messy world and such free markets rarely exist (if at all). Ask a teabagger to give even the briefest description of what Pareto is and I doubt you’ll get much feedback from the vast majority.
Specialization and markets make our lives are better since we don’t have to grow or hunt our own food, or make clothes, build our houses, ect... This creating of a division of labor is probably the single greatest achievement of the human species. But markets failures occur all the time. This is something that I don’t think the ‘baggers want to admit, or don’t know about.
•Monopolies distort supply to increase prices and eliminate competition by creating barriers to entry.
•Information is often not available or manipulated by buyers or sellers.
•The market produces externalities, or costs that are not taken into account when assessing the true value of a commodity. Examples include a factory polluting a river and costing fishermen their livelihood; massive oil spills that cost the government billions to mitigate.; carbon dioxide released by fossil fuels which lead to major changes in climate worldwide affecting billions of people; noise which reduces property values to third party owners are caused by commercial airlines
There are also good externalities. Like a polio vaccine which not only immunizes an individual but reduces the probability of others getting the disease (herd immunity). Smoke alarms that an individual purchases in a townhouse or condo benefit their neighbors by preventing fires spreading to their property. Having your garbage pick-up helps the community stay cleaner and safer thereby raising property values.
This is the rational for a role of the government is created in the capitalist system. Government fixes market failures, increases total social benefit and decreases total social costs Pragmatists search for a point of greatest efficiency (Pareto). Making markets work to create a more equitable world is a key government task. Rousseau, Adam Smith, and Marx debated to what extent the government should be involved in our lives. Adam Smith’s other less mentioned book published in 1759 ("The Theory of Moral Sentiments") is an exploration of the morality of government and its role in humanity. Contrary to conservative belief Adam Smith’s 1776 book "The Wealth of Nations" is not an uncritical Ayn Rand style defense of libertarianism.
These great economic thinkers sought to define the role of government in the lives of the individual. To what extent should a government exercise authority? From Marx’s socialist ideas of absolute equity using the state as a means of its achievement. To Adam Smith’s embrace of free markets supplemented by the need for a social compact, as discussed in "The Theory of Moral Sentiments".
Somewhere in between a social compact is created between a government and its citizens. We expect a certain level of financial and physical safety in exchange for paying taxes. This is the great debate between liberals and conservatives, Republicans and Democrats that has been occurring since the American and French Revolutions of the late 18th Century. It is ongoing, and a sort of pendulum which swings from pure libertarianism and socialism.
Getting back to the role of the United State’s Federal Government, how we remedy these market inefficiencies to produce true efficiency and reflect accurate costs of our activities and consumption? There are several methods.
•Taxation to increase the cost of a commodity or service to internalize the externalities. Increasing the price reduces the consumption thereby mitigating damages to third parties.
•Subsidies to lower the cost of a commodity or service to increase demand and internalize the positive externalities (i.e. free immunizations for children, lower cost for garbage pick-up.)
•Apply property rights using the free market, known as the Coarse Theorem. The government will give a community the right to a clean river or lake. Polluters will compensate the community for the right to pollute, or not pollute at all. Without significant transaction costs. This approach uses the free market to internalize the externalities but creates major problems with equity. Who receives the property rights? If so they have the advantage and the other party is harmed.
•Regulate the market. Create rules to limit externalities or force firms to pay for breaking the rules. For example, set a limit for a factory’s pollution or a bank’s ability to participate in financial markets (with their client’s money). This however can be expensive. The EPA or SEC are expensive organizations to maintain. Enforcing the rules can be complex or even technologically infeasible. How would we measure everyone’s carbon output in order to regulate it? So there are inefficiencies in this approach as well.
Government uses these interventions with different approaches to ensure free markets function properly. The fact is that human nature causes individuals or organizations to seek advantages in a free market so they can benefit most. Information is withheld, externalities go uncompensated (Large employers paying employees so little or not providing health care or retirement benefits so the government picks up the bill (i.e. Walmart where very significant amounts of employees receive Medicaid or food stamps then live off of social security when retiring).
Monopolies are used to artificially increase prices and create barriers to entry. Worse yet some monopolies use their position in one industry to expand their monopoly into another product or service. This constitutes is where anti-trust laws kick in. Monopolies are not technically illegal assuming they don’t use that unfair advantage elsewhere.
Oligarchies collude to fix prices and supply to control pricing and demand. They dump products into a market at a financial loss just to prevent another company from trying to enter the market. They withhold information from consumers.
In my next diary I will discuss equity and the social compact and how it relates to our current economic and governmental debates.