Thursday 18 June 2015

Government does not work!



              In an earlier post,  A Preference for the Market: Because it Works, I argued that we should have a preference (albeit conditional) for the market because it works. A competitive free market uses available resources in a stewardly fashion to produce only those goods that buyers want as efficiently as possible. Moreover, competition in the market provides a powerful incentive for companies to innovate and produce new and better products--discover the potentialities that lie hidden in God’s creation. I also noted that command (communist) economies and even the governments of the mixed economies of the West have shown themselves to be seriously limited in their ability to manage the economy. In this post, I hope to set out further why government operation of the economy does not work.

               In fact, government involvement of the economy suffers from some basic flaws. First, governments have insufficient information to make the necessary economic decisions.  Secondly, both politicians and bureaucrats have little incentive to act stewardly. Moreover, government ownership of anything leads to the tragedy of the commons—if the state (everyone) is responsible, no one is. These three flaws will be discussed in this post. Moreover, excessive government intervention and regulation tend to have unintended consequences which may even defeat the original intent. This latter point will, D.V., be dealt with in future posts.
 

Lack of Information


               A major reason for the ineffective, unstewardly operation of a planned economy is the lack of sufficient information for bureaucrats to make decisions. In a free market, the prices that are derived through a multitude of transactions provide extremely important information to producers. As shortages of products develop, prices go up. Higher prices indicate to businesses that they can make more money from the specific product and they will produce more. Furthermore, new producers will find it attractive to enter the market. On the other hand, as goods pile up on the shelves, prices drop and less is produced; some companies will get out of the market. Thus, the needs and desires of countless individuals are, through the price-system, transmitted to current and potential producers of the necessary goods and services. Prices, freely determined by the market, provide the necessary signals to direct producers to innovate and produce efficiently. Similarly, a flexible wage rate--the "price" of labour--will attract potential employees to the areas where they are needed.

               In a communist-type, centrally planned economy, a super-brain--which has available all the information about a continually changing economy--would be neces­sary to give the orders for production and transportation so that these can be implemented at the right moment. Even with the current state of networking and computer technology, it is questionable whether such a super commander can be found. The demise of the communist world has certainly shown that such supermen were not found in practice. Without adequate information, the wrong goods were produced in the wrong amounts and shipped to the wrong places. Stores were short of desired goods and ordinary citizens wasted long hours waiting in line when goods were available!

               This fallibility of state planners is not surprising since only God is omniscient. Men are sinful and limited in knowledge. We do not even know what tomorrow will bring (Jas 4:14):

One of the fatal weaknesses of socialist economic theory is that it supposes that a government planner or central committee can accurately forecast and determine the prices, supplies, and consumer demands for tens of thousands of items in a complex industrial society. Such an assumption attributes virtually godlike omniscience to the government planners.[1]
               Neither, should it be thought that this "information problem" applies only in a completely centrally planned economy. In a mixed economy, any government intervention with the market's prices serves to negate this "signal" function of prices. Thus, the setting of a maximum price, e.g. rent controls, creates shortages and deteriorating housing. Similarly, there is never enough of government housing—if governments provide housing at less than “market rates”.   On the other hand, if government intervenes in the market by setting minimums, e.g. minimum wages, surpluses result (unemployed). Certainly, the cost of this intervention needs to be “counted” when contemplating such actions. If at all possible, alternative options should be considered. 

               Even government efforts to assist businesses through subsidies are fraught with this information problem. Gwartney and Stroup[2], for example, argue that the bureaucrats who make such decisions are fed inaccurate information. Managers of public or private enterprises will try to convince the planners that their proposed project will create employment and other major benefits for society, while if the requested support is not forthcoming, many will lose their jobs and local economies will collapse. While the planners may well suspect these claims are exaggerated, they will usually lack the information necessary to evaluate them carefully. Although business managers are no more prescient than government planners, in a free, unsubsidized market, when their own money is at stake--when they are forced to take all the risk--they will have every incentive to obtain the best information possible. They will, moreover, have no incentive to provide misleading information to government planners for subsidy purposes.

               This inherent information problem has no doubt contributed to the woeful record of failures of new businesses subsidized by governments. In Canada, such efforts. in the name of regional development, e.g, the Bricklin automobile, the Come-by-Chance refinery, have been disastrous.

Incentives to Bad Stewardship


               Government operations are inherently inefficient, i.e. unstewardly--even in a mixed  economy--because within government there are few incentives[3] to be stewardly. Civil servants have no "bottom line"; they do not face the continual need to make an adequate profit. They are rewarded with higher titles and promotions for managing ever larger departments. Consequently, their primary incentive is to build their own empire-- to expand the size of government.[4] Seeking to use resources in a stewardly manner has low priority for them. Moreover, government operation of economic activity, also provides incentives towards illegal activity. Shleifer and Vishney, in fact, argue that, in a socialist system, the bureaucrats intentionally plan shortages in order to invite bribes from rationed consumers[5].  When goods are scarce, potential customers try to obtain them by paying bribes and favours to bureaucrats in the relevant ministry.

               Within government there is also less incentive (than in the private sector) to provide quality, timely service. Governments permit no competition in most of the services they provide. Like all monopolists they can get away with shoddy service without worrying about a competitor who will provide a better, cheaper product. In Canada, for example, waiting lists for necessary medical tests and operations provided by public institutions continue to grow, while governments discourage or forbid the use of privately funded clinics (i.e. the market). The wealthy can, however, avoid the wait by going to the U.S. and other countries for treatment.[6].

                Politicians, just like bureaucrats, also have little incentive to act stewardly; often their main concern seems to be their own future re-election. In elections, they are not necessarily rewarded for good econo­mic policies. Rather, they receive votes for policies which appear to have the maximum visible short-term benefits. Costs are secondary; they are not immediately visible. They usually are successfully played down until after the elections. In fact, governments may intentionally mislead both the legislature and the electorate about the costs of specific programs in order to ensure continued support. 

               The problem lies in the way spending decisions are made. In the market, 'deciding-paying-enjoying' is all in made by one person--the purchaser. The person or entity receiving the benefit also pays the price. Thus, the decision as to what to produce, and how much, is made by the person best qualified to evaluate whether the benefits outweigh the cost[7]. With government expen­ditures, the comparison of costs and benefits is not made by the ultimate beneficiary. Politicians and bureaucrats make the decision; tax-payers pay the price and some or most citizens receive the benefits (but not necessarily in proportion to what they pay as tax-payers). Michael Novak, in fact, refers to a “structural irresponsibility” in democratic societies:

 All sectors of society desire more, so politicians promise more. They spend money not their own, money the system does not have. The structural flaw in all welfare democracies is the desire of every population to live beyond its means.[8]
Individual voters are quick to vote for benefits which they do not directly have to pay for. Moreover, to the extent that services provided by the government are “free” or below cost, there is an incentive to overuse. Free medical care, for example, provides no financial incentive for patients to keep doctor’s visits to the minimum or to avoid unnecessary diagnostic tests.

               It is not surprising then, that governments have had a long history of increasing spending and cutting taxes just before elections. However, the bill eventually needs to be paid. Taxes will have to be raised to cover the cost of fulfilling the politicians’ promises. Unfortunately, these high taxes provide another disincentive to good stewardship. They reduce the motivation of businesses and individuals to work and reduce economic growth.

               Politicians in a democratic society are, moreover, continually exposed to the pressure of special interest groups (e.g. labour unions or farm groups). According to Gwartney and Stroup, politicians "are led as if by an invisible hand to reflect the views of special interests groups, even though this leads to wasteful policies."[9]  By providing campaign workers and contributions to politicians willing to support their goals, well-organized groups can attract more than their fair share of support while the large, uninformed, disinterested majority pays the price of programs to meet the needs of the minority--whether they be subsidies to arts groups, cultural groups, agricultural groups, etc. "While each such program individually imposes only a small drag on our economy, in the aggregate, they bust the federal budget, waste resources, and lower the standard of living."[10] The cost of such pressuring interest groups, thus, goes beyond the immediate effect on the nation’s budget but may seriously affect a country’s economy. Shleifer and Vishney, for example, attribute Britain’s economic stagnation prior to Thatcher’s reforms to union lobbying for “labour market restrictions and... massive social redistribution schemes under the Labour governments”.[11] Moreover, the best qualified people to regulate an industry are often those who have worked in that industry; as bureaucrats, they are likely to have a bias to their former employers. Now, all special pleadings and regulations should not necessarily be rejected; they may well require our support to meet Christian objectives. We need, however, to be aware of this bias towards special interests in the political system and seek to limit the opportunity for misguided action as much as possible. 

Tragedy of the Commons

               
                Furthermore, we need to recognize the “tragedy of the commons” a term that derives from the pastures in British villages that were held in common--everyone could graze their animals on them. This led to overgrazing since no one was responsible to prevent it. Another example is the demise of the American buffalo--everyone, first nations and settlers, killed as many as they could with no thought to sustainability. Holding everything in common through government/state ownership of resources provides inadequate incentive for good stewardship. As Stapleford notes “It has been recognized since the time of Aristotle that communal property rights encourage overuse while private property rights encourage good stewardship”.[12]  People tend to take better care of what is their own than what is held in common. Individual home owners, for example, take pride in their homes and have the financial incentive to maintain them. Those who rent, by and large, have a lesser concern for their dwelling-place–as is readily visible in many subsidized housing projects. 

                 Moreover, as the history of agricultural land ownership in communist countries has confirmed, private ownership encourages people to develop their property and use it productively--communes do not. It is, even, highly likely that the ongoing depressed conditions found on many native reserves in Canada are, at least in part, due to the lack of transferable private ownership. On these reserves land is mainly held communally and controlled collectively by band councils. While the occupants of the land may have certain “hereditary rights” they have no formal title and the land cannot be sold. Consequently, they cannot use their land and houses as collateral to obtain credit. There is, therefore, little motivation to improve their property or to develop and build individual businesses. Economic development is stifled and unemployment and idleness abound–a recipe for poverty. Fortunately, a glimmer of hope exists in the advent of a type of deed, a  “Certificate of Possession” which native bands have begun to develop . These certificates can be used to obtain a mortgage from a government agency and permit sale of the property–but only to other who are entitled to live on the reserve[13].Private ownership, therefore, most likely generates better stewardship of our various resources. In practice, if everyone is responsible, no one is.[14]     
  
          The effect of inadequate incentive for proper stewardship is also illustrated by the operation of government owned industries in the former communist countries. Nationalized industries did not prevent low wages, did not conspicuously improve working conditions, were often the worst polluters[15] and did not raise levels of efficiency, material progress and humane attitudes in the work force. On the other hand, the small agricultural plots that were allowed to remain in private hands, “outperformed state agriculture by factors as high as 30 to 1, despite far higher concentrations of resources (machinery, fertilizers, roads, etc.) devoted to state collectives. Even in democratic countries, publicly owned industries subject to political pressure tend to be highly inefficient. In the case of British coal, for example, Parliament refused to accept layoffs from enormously inefficient coal mines. Similarly, Air France failed to cut labour when the government supported strikers and instead fired the manager. In many less democratic countries, “public enterprises are simply used by politicians to gain political support”.[16] The situation in Greece with its large proportion of state owned industries is a current example illustrated in a previous post (Government Debt and Deficits Do Matter).


Conclusion


              I have previously argued that the free market ensures that our God-given resources are used in a more stewardly fashion than in a command economy and goes a long way to meeting the needs of most of us. On the other hand, government involvement in the economy, essentially, “does not work”. Rather, it suffers from three basic flaws. First, governments have insufficient information to make the necessary economic decisions.  Secondly, both politicians and bureaucrats have little incentive to act stewardly; in fact, the incentives they do have tend to work in the wrong direction. Finally, state ownership of economic resources and/or operation of economic activities provides inadequate incentives for proper stewardship The ‘tragedy of the commons” illustrates that when property is held communally there is less incentive to stewardly management than under private ownership. Moreover, as we hope to see in the future, excessive government intervention and regulation tend to have unintended consequences which may even defeat the original intent.
                If we put centrally the glory of God and the care for what He has created, that includes a careful and purposeful use of all that has been entrusted to us. Since government ownership of resources and involvement in economic activity appears almost inherently to fail this test, it should be limited to the minimum amount necessary to meet other Christian goals.


Question

Do you agree? If not, why not? Please leave a comment. Let’s discuss.


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[1] John Jefferson Davis, Your Wealth in God's World, Presbyterian and Reformed Publishing House, 1984

[2] James D. Gwartney and Richard L. Stroup, What everyone should know about economics and prosperity, Vancouver, Fraser Institute, 1993, p.108; See also Small business, big business, subsidies and bailouts

[3] See my book , p. 237 for a more detailed discussion of incentives
[4] As  Michael Novak, The Spirit of Democratic Capitalism, American Enterprise Institute, Simon & Schuster, New York, 1982.,p.173, has noted, growing government has created “new interests for a sizable new class of citizens, who have a stake in its own expanded wealth and power. The greater the share of wealth and power accumulated by government, the greater the opportunities for ambitious members of this class.”
[5]  Andrei Shleifer and Robert Vishny, The Grabbing Hand: Government Pathologies and their Cures, Harvard, Cambridge, 1998, p.110,119
[7] Apart from the problem of externalities/neigbourhood effects
[8] Novak, op. cit., p.32.
[9] Op. cit., pp.86-87.
[10] Ibid.
[11] Op. cit.,p.4.
[12] John E. Stapleford,  Bulls, Bears & Golden Calves: Applying Chrisitan Ethics in Economics, InterVarsity Press, Downers Grove, Illinois, 2002,p.56.
[13] See Tanis Fiss,  “A recipe for poverty”, National Post, Mar. 15, 2005, p. A18,  “A step toward better native housing”, National Post, Mar 16, 2005 and “Let natives choose”,  National Post, Mar 18, 2005.
[14] See also John P. Tiemstra, "Christianity and Economics: A Review of the Recent Literature," Christian Scholars Review, 1993, Vol. XII, 3, p.231, Arnold F. McKee, Economics and the Christian Mind, Vantage, 1987, p.60
[15] Shleifer and Vishny, op. cit,, p.152,191
[16]  Ibid, p.140,151,152.

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