Free markets: a proposed trade

by John Quiggin on September 26, 2008

Since the collapse of the US financial system became undeniable, I’ve been struck by the number of people insisting that this has no implications for free-market policies because the US (and particularly its financial sector) is not truly a free-market economy. [1]

In the spirit of market economics, I want to offer a trade to all such people. I will agree that
(a) the US is not a free-market economy, and its failures do not constitute evidence against the claim that a pure free-market economy is the best possible form of social organization
(b) no other actually existing society is, or has ever been, a free-market economy, and no actual or conceivable events anywhere constitute evidence against the claim that a pure free-market economy is the best possible form of social organization
(c) In discussion with parties to the agreement, I will not contest the claim that a pure free-market economy is the best possible form of social organization

All I ask in return is that the counterparties to the deal agree not to advocate, oppose, criticise, or comment on any policy or political position that might actually be implemented, to ensure that the purity of the free-market ideal is not compromised by actual experience.[2]

fn1. Since I haven’t checked, I’ll assume that this set of people has zero overlap with those I once debated who insisted that the supposedly superior performance of the US economy over social-democratic competitors demonstrated the superiority of free market economics.
fn2. I’m willing to make the same offer to Marxist-Leninists and (two for the price of one) to combine both offers for free-market Marxist-Leninists

{ 102 comments }

1

Michael Mouse 09.26.08 at 11:06 am

Cunning deal! The truly-free-market view is probably significantly underpriced in the market for ideas at the moment.

Er, I mean, in the current restricted version of a market. And for values of ‘underpriced’ that don’t implicitly require there to be some true value of an asset other than ‘what a buyer is prepared to pay for it’.

2

DRR 09.26.08 at 11:11 am

It is not truly free-market capitalism, it is only decentralized socialism. And while it is responsible for many atrocities, it cannot be denied that it was a more effective and just improvement to state socialism which preceded it.

3

Jackart 09.26.08 at 11:38 am

This isn’t a collapse in the free market system, nor is it even a collapse in the US financial system. It’s just a common or garden recession caused by a credit contraction, whose main victims are banks. Last time it was savings and loans, and manufacturing. This time it’s banks. These things happen, you know. It’s just everyone is over reacting shouting “We’re doomed”, which given the banks trade on confidence, is counter productive really.

4

Bob B 09.26.08 at 11:39 am

John – Well said. However, the conditions for free markets might be argued to prevail in the middle of the Sahara desert, the Amazon jungle or Somalia where anarchy prevails.

As for the rest of the rest of the world, we generally look to infrastructures of national laws, enforcement agencies and the courts to define and protect property rights and facilitate transactions. The intelligent discussion is about what systems of laws and regulations are the more conducive to better performance of national economies when we have resolved issues as to how we measure “better” in the context.

5

stostosto 09.26.08 at 11:56 am

There is no “actually existing capitalism”.

6

HH 09.26.08 at 12:13 pm

The left-right polarization over and private enterprise is overshadowed by the larger conflict between truth and lies. Both free market and planned economic systems can function with reasonable efficiency when operated with competence and integrity. Neither can function when overrun by thieves and liars.

America’s moon landing program and nuclear submarine projects were masterpieces of centrally planned, government sponsored endeavors. France’s nationally controlled nuclear power program achieved great success, while America’s privately managed nuclear power efforts stumbled. It is the animating vigor and functional integrity of a program that is the best predictor of success, not its ideological grounding.

7

soru 09.26.08 at 12:52 pm

@3: The competitive advantage of capitalism is something like that of a AK47 or WWII russian tank. It keeps on running in a harsh environment without requiring massive injections of idealism, smarts and morality. You can get perfectly adequate writing paper, washing powder and shoes without each of those products requiring a dedicated support chain of intellectuals who actually think, leaders who actually lead, or preachers who actually inspire.

Of course, if you never clean and maintain it _at all_, and keep on fouling up the works with all kinds of toxic gunk, even the most robust machine will eventually seize up…

8

J Thomas 09.26.08 at 12:54 pm

It is the animating vigor and functional integrity of a program that is the best predictor of success, not its ideological grounding.

Yes. Good people will get you through bad organizations better than good organizations will get you through bad people.

9

abb1 09.26.08 at 1:19 pm

Everybody knows that capitalism is a cyclical economic system; up and down, boom and bust.

So, they thought they could smooth it out and make it bearable by giving wise men in the government control over business regulations, monetary policy, and things like that. It could actually work, I suppose, if these wise g-men were honest, pragmatic and independent, but that’s simply impossible.

It may be possible in China, but not in the US with its ‘democracy’, its ‘free press’ and so on. The big-business coalition is unbeatable.

But why should it necessarily have any serious implications? Do the bailout and keep going, to the next boom, next bust, next boom. What’s wrong with this approach?

10

rea 09.26.08 at 1:23 pm

A curious parallel to communism, which also failed without ever being tried. Could we generalize, and say that utopian schemes never get enacted in the real word?

11

Maurice Meilleur 09.26.08 at 1:26 pm

#5, #7: So, what should we do if we assume that we’re not generally dealing with good people? What’s a better hedge against corruption and exploitation: the idea that the market will chase the rascals out, or the idea that regulation and public accountability will?

What Madison had to say about government could apply to the economy as well: “But what is government itself, but the greatest of all reflections on human nature? If men were angels, no government would be necessary. If angels were to govern men, neither external nor internal controls on government would be necessary. In framing a government which is to be administered by men over men, the great difficulty lies in this: you must first enable the government to control the governed; and in the next place oblige it to control itself. A dependence on the people is, no doubt, the primary control on the government; but experience has taught mankind the necessity of auxiliary precautions.”

12

ehj2 09.26.08 at 1:29 pm

I’m interested in why I shouldn’t think of public debt as similar to private debt in terms of “drag” on the economy, and why those who endorse free markets seem also to always endorse huge public debt.

When Bush entered office, the Public Debt was close to $5.8 trillion; it is currently close to $9.8 trillion, and the current bailout will require us to increase the Statutory Limit on the Public Debt to $11.3 trillion.

During an era of cheap energy, relative peace, and relative prosperity (Clinton) the best we could do was a $200billion surplus, which would pay off a $trillion every 5 years.

In eight years President Bush (and the ideologies of deregulation, reduced oversight, and ever lower taxes), have doubled the National Debt to a figure that would take SIX DECADES of $200B surpluses to pay off, diminished the value and standing of the $dollar, crushed the middle class and its capacity to pay for much of anything (including crippling taxes on the national debt), mired our nation in a very expensive war, savaged our Constitution (the basis of our Social Contract and the foundations of Trust necessary in any working Market), and hollowed out our instruments of governance while encouraging distrust of governance and destroying the most prestigious financial institutions on the planet.

McCain wants and promises not only more of the same, but that the red ink will increase even faster, promising debt our great grandchildren will be paying off in a world without oil.

What I do understand is that America imports most of its food, most of its manufactured goods, and most of its energy. And it imports (borrows) over $2 billion a day to pay for it.

Common sense (absent even academic economics) should be sufficient to suggest a structural problem in our way of life that would demand salient correction.

For how long can we can “borrow” our way out of this?

What’s the real social cost of the National Debt?

/ehj2

13

Charlie 09.26.08 at 1:34 pm

Dude: It’s a religion. It’s not about facts, it’s about faith.

They are as amenable to reason on this issue as a fundie is amenable to evolution.

14

Rich Puchalsky 09.26.08 at 1:42 pm

soru: “It keeps on running in a harsh environment without requiring massive injections of idealism, smarts and morality. “

Actually, no. Unless you define “capitalism” as “any society in which people trade things for other things or for money”, the vast sweep of human historical economic activity has been under centrally administered governmental systems. Think of the thousands upon thousands of years of the first cities in Mesopotamia. Capitalism is a recent development that requires an advanced infrastructure in order for it to work. The infrastructure includes, of course, a government to define the market and enforce its rules. “A truly free-market economy” in the sense that the ideologues mean is not just not in existence, it’s probably theoretically impossible that it could exist, unless you want to take the dodge that certain anarchists do and postulate societal organizations of power that act like governments and in aggregate have the power of governments but aren’t them in name.

15

Markup 09.26.08 at 1:54 pm

Death Benefits
Negative Growth
Working Vacation
Liquid Natural Gas
Scientific Belief

Free Market

From the very onset it’s about gaming the system. Take out the Gov’t and [an]other entities will step in to do the same though likely with a much more distilled POV of what “free” is.

16

lemuel pitkin 09.26.08 at 2:26 pm

You might want to have a chat with your co-blogger Davies, who has been simultaneously asserting that (1) liberal financial markets are responsible for any growth premium in countries that have them, however weak the association, and (2) liberal financial markets are not responsible for any bubbles or crises, however strong the association.

17

Daniel Nexon 09.26.08 at 2:38 pm

See Karl Polanyi, The Great Transformation, p. 143:

“Its apologists are repeating endless variations that but for the policies advocated by its critics, liberalism would have delivered the goods; that not the competitive system and the self-regulating market but interference with that system and interventions with the market are responsible for our ills.”

In other words, we’ve been there and done that. As he pointed out, the genius of advocacy of a pure self-regulating market is that, because it has never and will never exist, you can always blame deviation from it for any economic and social ill.

18

soru 09.26.08 at 2:48 pm

Think of the thousands upon thousands of years of the first cities in Mesopotamia.

None of which had adequate writing paper, washing powder and shoes.

To be clear, the harsh environment I mean is the human, cultural environment, not the external physical one. I’m saying market-based systems seem to have a higher tolerance for corruption, lies and deceit than hierarchical or rule-based systems. Contrary to the way things are usually stated, it is 1960’s NASA and the NHS that are _efficient_. Wall Street and the City are _robust_: they keep on ticking even if ~70% of the people working there are cynical and 10% are full-on amoral shits.

Which can give a false sense of security, as the first and maybe second time you skip cleaning the shit out of the stables, the horses still keep winning races.

But don’t get lazy and keep on skipping the cleaning, or the shit will pile up and fester, and all the horses will get sick and die.

19

almostinfamous 09.26.08 at 2:54 pm

also, Robert L Heilbroner, The Nature and Logic of Capitalism, the entire chapters on The Drive to Amass Capital and The Regime of Capital

20

Dr. Minorka 09.26.08 at 2:59 pm

The link to the wikipedia entry is not working. (Somehow it duplicates the URL)

21

Russell Arben Fox 09.26.08 at 3:22 pm

I have no idea what the “best possible form of social organization” may be, if only because the benchmarks by which we would measure such keep moving, and perhaps appropriately so (the demos is allowed to change its mind, etc.). But what I do think I know is that a “socialist” form of social organization really ought to own up to what it is, so it can think more clearly and honestly about what actually needs to be done, as opposed to pretending that the same old free-market rhetoric and priorities are in place and must always remain in place, forever and ever, amen.

22

lemuel pitkin 09.26.08 at 3:45 pm

I’m saying market-based systems seem to have a higher tolerance for corruption, lies and deceit than hierarchical or rule-based systems.

But this is obviously false. Just the opposite — capitalism is extremely demanding of the rule of law, secure property rights, enforcement of contracts, etc. In the absence of a state with strong administrative capacities, capitalism only works in the context of family- or ethnic-based networks that guarantee trustworthiness. Feudal-type systems, with personal patron-client relationnships, are far more suited to environments of pervasive corruption, as we see every day.

Haven’t you read any Weber?

23

roger 09.26.08 at 3:57 pm

What’s odd, to me, is that free market ideologists always confound their view with a defense of the wealthy. In fact, they are always bitching about the wealthy having to pay exorbitant taxes. Logically, they should demand that the wealthy pay much more exorbitant taxes. Prestige wealth – wealth that exceeds even the largest dreams of opulent consumption – is naturally going to be invested, in a rentseeking way, in protecting itself. It will skew the whole system. This is why, for instance, the idea of a flat tax is structurally similar to the idea of absolute wage and price controls – the wealthy will naturally invest in buying politicians who will lower their taxes. The flat tax will simply be an occasion for something like a political black market.

If the wealthy were taxed at Trumanesque rates, then, and only then, could one talk about the advantages of a free market. The entrepreneur works much better if he can’t rely on a future in which he can afford to change the focus of his work to the simple acquisition of power.

24

Tracy W 09.26.08 at 3:58 pm

I’m saying market-based systems seem to have a higher tolerance for corruption, lies and deceit than hierarchical or rule-based systems.

This seems an odd claim, as when you look at corruption perceptions index, the countries that are less corrupt also tend to be the same as the countries that have economic freedom as measured by, say, the Index of Economic Freedom. See for example
http://en.wikipedia.org/wiki/Corruption_Perceptions_Index and http://www.heritage.org/Index/

of course many of the countries that are low in terms of economic freedom perhaps could not be described as hierarchical or rule-based systems. But then nor could they be described as capitalist.

And it is hard to think of a market-based system that has a higher tolerance for corruption, lies and deceit than, say, the Queensland police service.

Contrary to the way things are usually stated, it is 1960’s NASA and the NHS that are efficient.

Do you have some citation that NHS is efficient? I understand from my friends who are health analysts that the NHS system is like the NZ health care system – lots of money poured in with no particular sign of increased output.

And how do you measure NASA’s efficiency? I can understand raw efficiency calculations in physics, but when it comes to non-profit-making organisation, it strikes me that efficiency can only really be measured in a relative sense – eg an organisation produces more over time with the same amount of resources means it is getting more efficient, or one organisation produces more per input than another with the same goals means that the first organisation is getting more efficient. 1960s NASA lacks the comparative basis by itself.

Capitalist systems, as measured by the various Indexes of Economic Freedom, have crisises from time to time. So do non-capitalist systems. The argument in favour of capitalism, or more generally free-market systems is that capitalist crisises happen at higher and higher living standards as time goes by. USA GDP decreases by a few thousand per capita? The Americans will still be far richer than they were 100 years ago. That’s the benefit.

25

Righteous Bubba 09.26.08 at 4:37 pm

And it is hard to think of a market-based system that has a higher tolerance for corruption, lies and deceit than, say, the Queensland police service.

I am baffled.

26

Sebastian 09.26.08 at 4:55 pm

“Since I haven’t checked, I’ll assume that this set of people has zero overlap with those I once debated who insisted that the supposedly superior performance of the US economy over social-democratic competitors demonstrated the superiority of free market economics.”

I wonder about this. My understanding (greatly flawed) is that the UK banks and the German and Swiss banks were also greatly threatened, but that their mark-to-market rules were not as stringent so they could wait things out a bit more and let the US bailouts benefit them. So the other social-democratic competitors were/are in a lot of trouble to, they can just trail the problem becuase of accounting rules.

27

Colin Danby 09.26.08 at 4:55 pm

Notice that John doesn’t use the term capitalism. We need a second set of agreements about not confusing free markets with capitalism.

And Jackart, this is *s0* not a common or garden recession. Major insurers don’t go bust in ordinary recessions, the TED spread doesn’t behave like it has, U.S. investment banking as a separate category don’t pretty much disappear in ordinary recessions. The yield on T-bills briefly went negative in nominal terms last week, something that’s never happened, ever. Look at what’s happening to commercial paper. We’re in genuinely uncharted territory and Secretary Paulson is right to be alarmed.

28

roger 09.26.08 at 5:09 pm

Colin, all our recent recessions have been sectoral specific – they have been harshest on, say, manufacturing one time, or farming, etc. This time the sector is finance. Finance grew to an eminence in the economy that was unsustainable. The index for this recession is going to be bad financial numbers, and not, say, bad manufacturing numbers.

Ask the factory workers in Michigan if they care.

29

novakant 09.26.08 at 5:19 pm

<i.So the other social-democratic competitors were/are in a lot of trouble to, they can just trail the problem becuase of accounting rules.

I can extrapolate from personal experience that countries like France and Germany will be less affected by the crisis, simply because there’s a different culture regarding money there: people there are very reluctant to spend money they don’t have, as opposed to the US/UK system, where everybody seems to have a mortgage and juggling debt from one credit card to another is commonly accepted practice. This is reflected in the the domestic lending practices of the banks in these countries, which are generally have much more conservative practices regarding loans and such. The banks of these countries seem to be affected only in as much as their international divisions took part in the big credit game. There’s a good article about this here – as the French finance minister quoted at the end puts it, this is not about playing one system against the other, both have worked reasonably well for quite some time and there’s blame to be directed at many, but it’s clear that a certain mentality of virtually unlimited credit has failed and that we need to get back to reality.

30

novakant 09.26.08 at 5:20 pm

So the other social-democratic competitors were/are in a lot of trouble to, they can just trail the problem becuase of accounting rules.

I can extrapolate from personal experience that countries like France and Germany will be less affected by the crisis, simply because there’s a different culture regarding money there: people there are very reluctant to spend money they don’t have, as opposed to the US/UK system, where everybody seems to have a mortgage and juggling debt from one credit card to another is commonly accepted practice. This is reflected in the the domestic lending practices of the banks in these countries, which are generally have much more conservative practices regarding loans and such. The banks of these countries seem to be affected only in as much as their international divisions took part in the big credit game. There’s a good article about this here – as the French finance minister quoted at the end puts it, this is not about playing one system against the other, both have worked reasonably well for quite some time and there’s blame to be directed at many, but it’s clear that a certain mentality of virtually unlimited credit has failed and that we need to get back to reality.

31

novakant 09.26.08 at 5:21 pm

sorry about that, the article I mentioned is here:

http://news.bbc.co.uk/2/hi/europe/7635327.stm

32

Colin Danby 09.26.08 at 5:47 pm

Hate to disagree, Roger, but (a) “numbers” don’t cause anything and (b) finance is not a “sector” like textiles or agriculture. Any production that takes time, between purchasing inputs and selling outputs, requires finance, by definition. Capital equipment needs to be financed. (If you want to make a thoughtful argument for capitalism, the ability or finance to support enterprise is critical.) Production is *embedded* in finance.

“Recession” is actually the wrong way to approach this. We’ve got a year-long financial crisis that so far has had surprisingly light effects on output and employment.

33

ehj2 09.26.08 at 6:05 pm

Of interest for those here (2 people?) who don’t already read at RGE:

“The Thin Space of Financial Activity”

http://www.rgemonitor.com/financemarkets-monitor/253763/learning_from_rudi_bogni_the_thin_space_of_financial_activity

34

roger 09.26.08 at 6:27 pm

Colin, you are saying it is a more important sector, which doesn’t mean that it isn’t a sector. And, in fact, what is in question is just how much business is “embedded” in the financial sector. As is well known, corporations, at the moment, are cash rich. And as is well known, the great percentage of financial assets are not tied up in loans to households or to businesses, but to bets upon those loans and deals about those bets – for instance, the cds-s. They are, I’d argue, an entirely wasteful allocation of money, and should be regarded as rent-seeking instruments. But I see no reason that they can’t be sold on an open, institutionalized market, instead of OTC, and through off the books entities. In fact, the falloff in real business nonresidential fixed investment in the last eight years, especially as compared to the Clinton years, is, I think, due to the higher premium investors got for these rent-seeking instruments. Far from being embedded, the financial system developed way of competing with manufacturing, agriculture, etc. – with consequent malign effects to the average wage.

The malign effects, of course, were spread to the average person through the housing bubble. Even so, just as the growth of the past four years did not help the average person, it is not at all certain that the financial sector recession will hurt the average person – and for the same reasons. Except for a small economy like the Netherlands, it is a terrible policy to try to grow the financial sector into the leading sector in an economy. It employs relatively few people, and it distributes benefits in a wildly asymmetric way, exaggerating the kind of inequality that kills off a consumer economy.

35

Walt 09.26.08 at 6:38 pm

Roger, the companies don’t actually keep it in cash in a big warehouse. Guess where they keep it? In the financial sector.

36

Slocum 09.26.08 at 6:45 pm

Well, it’s not exactly a surprise that Quiggin would look at this and say that, obviously, ‘too much free market’ is the problem. But in a mixed environment, why wouldn’t one be as likely to suspect that ‘too much regulation’ (or the wrong kind of regulation) was the problem?

For example, the argument has been made that ‘mark to market’ accounting requirements have been responsible for intensifying the crisis (when the short-term market value are much lower than long-term ones). Another such argument is that the slicing and dicing of mortgages in order to create AAA ‘synthetic’ investment grade securities was driven by regulations requiring various entities to invest in AAA securities only. And then, of course, most importantly, the GSEs — with the affordable housing mission they were assigned, and the political protection/patronage they enjoyed — played a crucial role in making the disaster possible. Could the bubble and the subsequent collapse have happened without Fannie and Freddie as enablers? I doubt it.

37

Seth Finkelstein 09.26.08 at 6:48 pm

Slocum: You’re proving his point.

38

roger 09.26.08 at 6:51 pm

Of course they keep it in the financial sector, and nobody is saying that the financial sector should go to zero, which is a red herring. There is no evidence whatsoever that corporations have been having trouble making cash withdrawals from banks. Although that is a nice try – yes, all banks are equal, the entire sector has to be preserved by what is the equivalent of a special subsidy, as opposed to what those same finaciers have been saying about industry for the past thirty years. Hmm, funny how it turns out that sometimes, you just have to have those special subsidies.

If corporations actually felt that they could not get their money on the cash they have piled up, there would be massive runs, such as we have no evidence for. You want to find me one company, anywhere, Walter, that has expressed fear that it can’t access its resources? You might have noticed the lack of manufacturing CEOs trooping to congress in support of the bailout. If we did have that fear, the correct response, of course, would fall to the FDIC. The system that is being rescued is that dealing in specialized financial instruments. Period.

39

ehj2 09.26.08 at 7:13 pm

Too much free market is indeed part of the problem.

“AAA Ratings for money” is a lot worse than “money for nothing.”

http://www.propublica.org/article/insiders-detail-how-greed-drove-credit-ratings-926/

40

Walt 09.26.08 at 7:26 pm

Yes, the banking sector disaster was caused by government rules that a) businesses have to accurately report the value of their assets to investors, and b) banks have to have enough capital reserves to cover their debts. Will no one save us from such terrible regulations!

41

Colin Danby 09.26.08 at 7:27 pm

Roger, *every* business that issues commercial paper, or issues longer term bonds, or borrows from banks, or issues stock and so forth is embedded in the larger financial *system*. Any and all production that has a lapse of time between expenditures for inputs and final sale of output must be financed by definition. (And on the other side, people with excess cash need good instruments for it.) The problem with your use of the term “sector” is it leads you to the mistake of thinking it can rise or fall on its own. This would be like calling your heart and arteries and veins your circulatory “sector.”

The fact that bad and crazy things can happen in a financial system does not mean it “competes” with manufacturing and ag. Bad and crazy things can happen to your circulatory system, but in the normal run of things circulation isn’t “competing” with digestion.

Please document your “cash rich” claim. Remember that in the short run firms can postpone capital projects, cut costs, postpone maintenance, and draw down emergency credit lines. Your brain can survive for several minutes after your heart stops.

Read the material eh2 links to. I wish there were a better way to explain just how terrifying the collapse of counterparty trust is.

Your “great percentage” point is a confusion. Leverage and derivatives are not a diversion of real resources. They do change systemic risk characteristics, but that’s a different question. (look up Raymond Goldsmith and “financial intermediation ratio” to get an historical sense of this.) Your “falloff” point assumes borrowers have been credit-constrained. I see no evidence of this, up until about a year back. I see the opposite: low intrerest rates and plentiful availability of new credit, again up until a year or so ago.

I agree average persons are gonna be hurt. We’re almost all gonna be hurt. And I’m not defending either the regulatory regime or the social justice of any of this. But it’s not because finance took all the money away from the worthy stuff.

42

Walt 09.26.08 at 7:38 pm

Colin: I don’t have a reference handy, but the cash-rich claim is true. Corporations have been building up short term assets on their balance sheets since the end of the last recession.

43

Markup 09.26.08 at 7:47 pm

”But it’s not because finance took all the money away from the worthy stuff.”

“All” is a bit absolutist, but it did take enough [depending upon how you define ‘worthy’], and it will continue to do so for some time.

44

Colin Danby 09.26.08 at 7:56 pm

Waly: I’d be genuinely interested in any work that looks across corporate balance sheets as of, say, mid-2008. What I’m seeing lately in the biz press, e.g.
http://www.cfo.com/article.cfm/12284235/c_12282066?f=home_todayinfinance
isn’t encouraging, but that’s just one data point. I would also be interested in small to medium firms, especially those that lack access to financing outside the U.S.

45

Matthew Kuzma 09.26.08 at 8:05 pm

Wouldn’t Marxist-Leninists reject your trade simply by virtue of it being a trade? That seems like an awfully capitalist approach to the exchange of ideas.

46

roger 09.26.08 at 8:08 pm

Thanks for the great metaphor, Colin. “The fact that bad and crazy things can happen in a financial system does not mean it “competes” with manufacturing and ag. Bad and crazy things can happen to your circulatory system, but in the normal run of things circulation isn’t “competing” with digestion.”

This organic notion of a closed system of investment opportunities is almost completely bogus. If the ROI on, say, a pool of credit default swaps looks better than the ROI on, say, car manufacturing, investment will swing to the cds. The housing bubble was, among other things, an amazing misallocation of resources, made possible by a dysfunctional financial system – which of course didn’t exist in this form until the late seventies, and didn’t achieve its spectacular dysfunctional dimension until the early naughties.

Now, should we save that system? No. Should we allow it to save itself? Sure. We could do this buy destroying the OTC system of trading, substituting an institutional and fully transparent exchange in which the market would price all instruments openly for all parties. This, of course, is strenuously resisted by the system that has functioned, in the typical rentseeking way, by obscuring values rather than broadcasting them.

Krugman has already pointed out that the government plan will only work with the government taking the place of the gullible buyer, buying these toxic issues at above market prices. The solution he proposes, however, that the government then gets a piece of equity, undermines, as Floyd Norris noticed this morning, the whole scheme – which depends on mixing up healthy and sick institutions so that no signal is sent when the institution applies to the government for money. Otherwise, the con game will simply signal to investors who is sick, causing runs on them – which has happened consistently over the past year.

Anybody who thinks this is a good scheme should consider how much we could raise if the government went around selling the Brooklyn bridge millions of times over to unsuspecting buyers.

As for confusing the issue -between saying the size of the financial sector is much too big and we shouldn’t act to prevent its diminution and saying the financial sector is unnecessary – well, do I really even have to reply to that? The financial sector, to use the body metaphor you so much like, is like fat. Fat is necessary to your organic functioning, but if you get too much around your heart – ie if insuring risk becomes much larger than productive risk taking activities, then the heart will stop beating.

So, to conclude this lesson in elementary economics, when it is proposed that the government do the pricing of assets by hand, because nobody can figure out how much they are worth – you are dealing with junk. I am for government intervention in quite a number of areas – for instance, I think the fact that there are 40 million uninsured people is a much greater emergency than the unwinding of the shadow financial system, and I think the government should intervene because the pricing system and efficiencies don’t line up with what we want, which is generally good health care for everybody. But here, the call for government intervention is ill founded, that is, it will fail from its own self-contradictory elements, is much more expensive than the proposal at hand, and actually serves to block dealing with the problems of the downturn, in so far as it dries up resources. It is simple to see it is a dud. The status quo ante, the OTC system, the heady days of hedge fund superheros and whole cities , London and New York, that made the banks their mainstay, is going to disappear.

47

Sebastian 09.26.08 at 8:21 pm

My understanding is that the change to mark-to-market accounting has greatly intensified the crisis by making the wise long term thing (holding assets until they have a chance to recover) counterproductive to your balance sheet.

Now if you had asked me 1 year ago if mark-to-market was wise, I probably would have said that it was. My logic would have been that other forms of accounting let failing firms appear stronger than they really are for too long, which could allow them to divert investors from more productive investments. So mark-to-market would force managers to deal with the failing of their firm faster in a good market clearing way. And that is still a good analysis for truly failing firms. The unintended consequence however is that it dramatically changes the calculus with respect to long term assets if you aren’t a failing firm. Let’s say that you are a successful firm with plenty of cash to carry the investments for 2-4 years in a down time. That is what you would have done in the old system. You would weather the downturn and sell as things moved up again in a year or two.

Under the new system, the asset must be valued at today’s market, no matter how long you would have held it otherwise. This gravely magnifies even small seizures in the system because if the market dries up even temporarily, the value of the asset can drop to nearly zero for everyone. This either creates a drag on your balance sheet, or it you have to try to sell before everyone else does. This incentivizes panic selling in a way that isn’t good. This can cause problems for even otherwise healthy companies that could easily carry through the downturn beause it destroys their credit rating.

Now is this THE cause of the whole problem? No. The cause is the popping of the housing bubble. But did it make it much worse? It looks like it did.

So is this a failure of THE market? Umm, I guess it depends on what you mean by THE market. It certainly exposes a flaw in the incentives that work around mark-to-market accounting. And while I’m not the biggest fan of all sorts of regulation, I was kind of a fan of the philosophy behind requiring mark-to-market accounting and thought that kind of regulation was ok–probably you would have to if you had known what it was.

48

Sebastian 09.26.08 at 8:22 pm

Whoops I quoted slocum, but was really responding to his detractors.

49

notsneaky 09.26.08 at 8:25 pm

Along the same lines, I’m willing to tolerate those who are now jumping up and down about “inherent instability of capitalism” if they’re willing to shut the hell up during times when capitalism is being, you know, stable. Like 1987-2000. Note that this proposal is incentive compatible for all of us. If I’m right and capitalism is relatively stable then I won’t have to listen to this stuff that often. If they’re right and capitalism is relatively unstable then they’ll get to pontificate all the time. While it’s not win-win, it does assure that we are consistent with our beliefs here.

50

Colin Danby 09.26.08 at 8:39 pm

Roger I have at no point argued for a “closed system of investment opportunities” or anything for which that’s a plausible paraphrase. Nor am I saying finance cannot push real resources to places that look really dumb later.

I insist only that in the real world, balance sheets interlock, liquidity matters, and firms in normal times borrow to finance fixed and working capital. You can work the rest out from there; the key point of my metaphor is that your use of “sector” is a semantic trick to avoid the fact of dense interconnection.

As long as you proceed from mistaken institutional premises you’ll be right on policy questions, like the bailout proposals, only by accident.

51

J Thomas 09.26.08 at 8:42 pm

My understanding is that the change to mark-to-market accounting has greatly intensified the crisis by making the wise long term thing (holding assets until they have a chance to recover) counterproductive to your balance sheet.

So, back when Ford was having a melt-down because they made a whole lot of cars they couldn’t sell, their problem was largely because of mark-to-market. They couldn’t sell their unsold inventory, so it counted as worthless.

If they could have counted hundreds of thousands of cars rusting on the lots according to what they’d be worth if they were held until their value recovered, Ford’s balance sheet would have looked a whole lot better.

I strongly suspect that the organizations which are in trouble are not organizations that are in the business of holding toxic waste and collecting on it. They’re in the business of selling toxic waste as quickly as possible, and then picking up more to sell. They simply don’t have the structure to use it.

You might as well tell a seed company that sells seed to farmers and now is stuck with a whole lot of bad seed they can’t sell, to plant it themselves and harvest the crop.

52

John Quiggin 09.26.08 at 8:45 pm

Notsneaky, I’m not objecting to people who say (as Tracy does in part) “sure, this is a problem with a free market economy, but nevertheless, teh benefits outweigh the costs” just to people who suddenly deny that US financial markets can be regarded as a prominent example of free market ideas at work.

To take your analogy, the problem would be someone who claimed, in the middle of a long period of stability, that actually the system was displaying huge (but unobservable) volatility.

53

notsneaky 09.26.08 at 8:51 pm

John, I wasn’t actually referring to your post directly but rather to some of the commentators above.

54

Sebastian 09.26.08 at 8:52 pm

J Thomas, Ford is exactly the kind of company I would have used to defend mark-to-market accounting 1 year ago. And it was right. My point is that there are unintended consequences to such rules.

The difference here is that Ford couldn’t have realistically expected that those cars would ever sell. They had a higher level competitor who could create new product and sell it at lower prices. Once you went past the model year (when they can make their profit in huge markup) they weren’t ever likely to recoup their investment.

The underlying housing market is very likely to sell a very large number of the houses in question. An even larger number of the ‘troubled’ assets aren’t ever likely to go into forclosure. Mark-to-market valuation now makes us act as if those assets are almost completely worthless (as if they will never sell) even though it is almost certain that they aren’t.

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Slocum 09.26.08 at 8:59 pm

Slocum: You’re proving his point.

In what way? I’m not claiming that the particular arguments that regulations contributed materially to the problem are correct, only that they are perfectly plausible and demand more study. Certainly the incestuous relationship between the GSEs and government officials was a serious problem — do you disagree.

Furthermore, I’m not saying that either ‘more free market’ or ‘more regulation’ is the right approach. Probably there are solutions of both types. At the extreme, it would be possible to simplify and lock down the financial system with a strict enough web of regulations to prevent a future occurrence — but could that be done without seriously impairing the dynamism of the economy and without creating all kinds of glorious new opportunities for rent-seeking and regulatory capture? I really doubt it.

On the other hand, a ‘more markets’ approach could be devised as well — starting with breaking up and selling off of Fannie and Freddie. The goal in the ‘more markets’ approach would be to avoid moral hazard and the ‘too big to fail’ syndrome so that, in the future, we can afford to let firms fail as they deserve without worrying about bringing down the system.

And, of course, it’s even conceivable to combine the two approaches. Regulation of entities with incestuous relationships with government and leading politicians (like the GSEs) tends not to work. Governments are better able to regulate organizations they’re not in bed with.

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Colin Danby 09.26.08 at 9:02 pm

As I suggested up in #26, neither defenders nor detractors of “capitalism” use the term consistently — sometimes it means the real (and quite mixed) economy that output data seeks to describe; sometimes it means one or another abstract principle — freedom, opportunity, greed, corruption — take yer pick depending on what argument you feel like making.

If we take an historically-informed effort to come to grips with “capitalism” as a distinct kind of economic organization (I’m thinking of Schumpeter here) the virtues of capitalism in terms of capacity for rapid growth and change (rapid in world-historical terms) are closely bound up with its instability.

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Steven 09.26.08 at 9:10 pm

the slicing and dicing of mortgages in order to create AAA ‘synthetic’ investment grade securities was driven by regulations requiring various entities to invest in AAA securities only.

That’s brilliant. Also, my fraudulently passing myself off as a doctor and killing tens of hapless patients during surgery was driven by the regulations requiring doctors to have medical degrees, and I didn’t have one, so what did you expect me to do? It’s the regulations’ fault!

(Note: I didn’t actually do this.)

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J Thomas 09.26.08 at 9:21 pm

Sebastian, I have the idea that the big crisis is the trade imbalance.

We were paying for our imports with loans from foreigners. Some of that was the housing market; they were buying our pooled mortgages. Now they don’t want to.

We had aaa bunch of guys whose job was to sell mortgages to foreigners, and the foreigners stopped buying. That foreign money stopped flowing in. The particular people who would have distributed the foreign money as various sorts of loans don’t have it, instead they have a bunch of merchandise (mortgages) they have no use for. If the federal government takes those off their hands, that still doesn’t restore their business model. And it doesn’t pay for our trade imbalance either.

Telling them to hold their old merchandise until it regains its value doesn’t give them a business model either.

Again, their job was selling mortgages. It’s like telling an options trader that he should take delivery and resell the product later.

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abb1 09.26.08 at 9:26 pm

Like 1987-2000

You serious? Not even close to stable, at least in the North-East. High-tech bubble, housing bubble, high-tech bubble burst, housing bubble burst, and then another huge hi-tech bubble. How can it be called ‘stability’?

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Steven 09.26.08 at 9:30 pm

I think it conjugates like this:

I am enjoying a period of stability;
You are making concerned calls to your stockbroker;
They are losing their houses.

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virgil xenophon 09.26.08 at 9:47 pm

Some very well reasoned points of view being discussed here–from all points of the compass. Several have touched upon my hot buttons far better than I could have, so I’ll limit my comments to saying that part of the rationale used in the past (i.e., pre-Enron) for not requiring financial institutions like insurance companies and banks to mark to the market financial instruments like bonds and CMOs was that they have an indefinite life-span (in theory) and thus never have a need to sell until maturity–bond redemption timing for cash needs being seen as an orderly process/art fixed upon the assemblage (“laddering”) of various maturity dates of these instruments assuring ready access to cash–as opposed to the forced sale of these instruments prior to maturity approach which books NAV losses. Mark to market rules
only serve (under the right market conditions)to create the illusion
that these institutions are either more–or less–sound than they actually are.

I might also add that part of the background radiation to all this
is the development of the computer and it’s by now seamless integration into the financial system. Without the computer, many of these more exotic financial instruments would have been impossible to design; and massive computerized trading programs used to trigger
the buying/selling of massive amounts of stocks, bonds, commercial paper, etc., which can (and often do) roil markets would not be
possible. The same goes for 24-hr world-wide integrated trading. So in a way the advent of the computer has made both the triggering of some financial panics and the exacerbation of all of them, all but inevitable.

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virgil xenophon 09.26.08 at 9:54 pm

“It’s like telling an options trader he should take delivery” Bwahahahah
Do that and half of the people in the brokerage industry would drop dead of an instant “grande mal” seizure.

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virgil xenophon 09.26.08 at 10:00 pm

BTW, J Thomas, your comments about quality personnel versus the perfect organizational structure is “spot on.” Unfortunately most organizational theorists and practitioners alike obsess on the latter rather than on the former.

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hapa 09.26.08 at 10:50 pm

a layer cake.

1. the real economy: the interaction of humanity with planetary systems.
2. the human economy: the pricing system for the real economy.
3. the money economy: the pricing system for the human economy.

note that with the middle layer, it’s possible to have a crisis in #1 that creates wild behavior in #3 without anybody ever noticing the connection.

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abb1 09.26.08 at 10:55 pm

Btw, this is probably the first time I’m not convinced by something roger wrote.

How is the speculative bubble based on some meaningless contracts is different from any other speculative bubble – be it land, oil, tulips, computer code, domain names, gold, or anything else? Technicalities – yes, but on the grand scale of things I don’t really see much of a difference.

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virgil xenophon 09.26.08 at 11:09 pm

abbi1:

There was a speculative bubble in housing and those who sold/marketed the mortgages in their various exotic forms all-right, bu I’m not sure those institutions who bought those instruments were doing so on the bases of the greater fool kind of greed. Rather I think they became convinced (wrongly, in the event, and for a variety of reasons) that these instruments were a CONSERVATIVE way to simultaneously spread risk and provide financing liquidity. Without these willing buyers the effects of the housing bubble’s collapse would have been nowhere nearly so widespread.

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ehj2 09.26.08 at 11:09 pm

abb1,

the difference in this bubble is in the degree of opacity of the risk efficiencly spread across the entire financial market and now unmeasurable. Past bubbles, like the tech bubble, were “essentially” limited to sectors like tech stocks.

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virgil xenophon 09.26.08 at 11:11 pm

“but” and “Basis.” sorry

69

ehj2 09.26.08 at 11:18 pm

70

Slocum 09.27.08 at 1:36 am

That’s brilliant. Also, my fraudulently passing myself off as a doctor and killing tens of hapless patients during surgery was driven by the regulations requiring doctors to have medical degrees…

Snark aside, you’ve stumbled over a good example of a domain where one truly should worry about excessive regulation and of the potential for noxious side effects. And also about regulatory capture and rent-seeking.

In the U.S. health care is expensive in part because physician salaries are extraordinarily high compared to those in other developed countries. One reason is that the supply of MDs is artificially constrained. Another is that the AMA has a history of jealously guarding physician exclusivity, trying to use government regulatory authority to protect their turf against incursions by nurse practitioners— to the financial benefit of physicians and the detriment of patients — especially the poor and those in underserved areas.

71

gelboak 09.27.08 at 2:32 am

Rich Puchalsky @14

Peter Temin made the case that at least one long lasting
and historically significant polity – the Roman Empire –
consisted of essentially market economies:

http://sshi.stanford.edu/Seminars/Papers/classics/temin.pdf

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Rich Puchalsky 09.27.08 at 4:02 am

Thanks for the reference. On a quick skim, though, I don’t find it especially convincing. Temin writes items like “If this movement resulted
from sales of grain by farmers, it was composed of a series of market exchanges even if the grain was purchased from tax revenues.” As I wrote originally, every ancient civilization had some kind of market exchanges, often extensive ones. But they in themselves do not a capitalist society make.

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virgil xenophon 09.27.08 at 6:01 am

Rich Puchalsky

Wasn’t the reason Carthage was regarded as a mortal threat by Imperial Rome the fact that it had a more dynamic, faster growing near-capitalist trading economy than had the more static Roman one? Or does my memory fault me here?

74

Roy Belmont 09.27.08 at 6:11 am

#70:
In the U.S. health care is expensive in part because physician salaries are extraordinarily high compared to those in other

Be nice to get some figures around that, proportionate to things like infrastructure, technology, pharmaceuticals etc. How much of the chunk goes to the mercantile compared to the medical professionals’ wages. There are far more nurses etc. in health care than there are physicians, and they’re all seriously overworked and underpaid.
Maybe contrasting physician’s malpractice insurance against their gross, too. Just to see.
The main reason health care is expensive in the US is because it’s a business in which the product can be saving the lives of your loved ones, a product most of us will purchase whatever the asking price.
Health care as a business is itself a disease.

75

abb1 09.27.08 at 10:02 am

the degree of opacity of the risk … spread across the entire financial market

I think that’s a result of consolidation, concentration. I remember something very similar in Massachusetts in 1989-90: first a housing bubble, prices going up-up-up, massive speculations. Then one day – suddenly full stop, can’t sell anything anymore. Typical story: you leveraged yourself to the extreme, bought three condos in order to sell them a couple of months later at a profit – and now you’re done, gone, bankrupt; that happened a lot. So, some banks went down in flames too, but there was a lot of them then; some closed, some survived.

In the next decade I saw about a half a dozen rounds of consolidation: Patriot Bank bought by BayBank bought by Bank of Boston bought by Fleet bought by Bank of America. I assume there was a similar rate of concentration everywhere else in the US financial sector.

So now it’s a colossus on clay legs – impossible to stop, easy to knock down.

76

sg 09.27.08 at 10:54 am

Slocum, are you perhaps not aware that the same conditions pertain in other, much cheaper countries? E.g. Australia, the UK and Japan? Look at the outrage in the UK over “polyclinics”, or the Australian Doctors’ fight against nurse practitioners even though they are an absolutely essential part of outback medicine…

… and would you seriously visit a Dr. without an MD? Or do you advocate this as a way of lowering health care costs for poor people? The Slocum version of universal health care – if you’re poor you can at least afford a charlatan.

77

Slocum 09.27.08 at 2:40 pm

E.g. Australia, the UK and Japan? Look at the outrage in the UK over “polyclinics”, or the Australian Doctors’ fight against nurse practitioners even though they are an absolutely essential part of outback medicine…

No, I wasn’t aware of that, but I’m certainly not surprised. It’s pretty much guaranteed you’ll find powerful interests trying to twist government regulatory power to their benefit. The more regulatory power, the more potential for such regulatory capture and rent-seeking. It’s Public Choice 101.

And the idea that this would not be a problem if only the Democrats were in charge doesn’t pass the giggle test. Democrats have been running Congress, and congressional Democrats have been bosom buddies with the executives of Freddie and Fannie, Countrywide, and WaMu, et al — raking in their share of sweetheart deals ( for ‘friends of Anthony’) and campaign contributions.

The same giggle test fails for the notion that this time the regulations will be devised by wise philosopher kings and disinterested, public-spirited technocrats and this time those regulations will not be shaped to benefit powerful interests with political influence.

… and would you seriously visit a Dr. without an MD?

Would I visit a nurse-practitioner for a respiratory infection or sprained ankle? Certainly — wouldn’t you?

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Walt 09.27.08 at 2:57 pm

Slocum makes a good point. Any regulation will inevitably be influenced by special interests. Why have regulations at all? Likewise, police departments around the country neglect to hire philosopher-kings to arrest criminals. The idea murderers will be caught doesn’t pass the giggle test.

Why have laws at all, given that they will be written by men, and not angels?

79

sg 09.27.08 at 3:06 pm

Slocum, your argument was that american costs are higher because of a practice that is broadly similar in other countries. I wasn’t arguing with you about public choice 101, but about your claim that this is why american doctors are more expensive and thus the american health system. Parts of that claim don’t pass the giggle test.

I would certainly visit a nurse practitioner for a sprained ankle, but this kind of low-level primary care is not the cause of American healthcare cost explosions. For your “remedy” to work you would need to break down the “exclusivity” so that rival organisations could offer their members’ services in the parts of the health system that are actually expensive – emergency medicine, surgery and specialist medicine. There is no proposal anywhere in the world to do this or any model for a way of doing this. Physicians in these sectors “artificially constrain” their numbers by having to study for 5 years and do apprentice-type work for another 5 years before they can work freely in these areas. They do this because we demand that they have a certain level of proficiency.

Returning to primary care, proposals to allow nurse practitioners, referral specialists, or primary care non-phsyicians to operate in physicians’ areas of interest is as much about improving quality as it is about reducing costs. European primary care policy researchers have suggested these plans (and in some cases they are being taken up), but largely because the primary care model as it stands is not suited to solving modern health problems (particularly of chronic disease management), not necessarily because it will lower costs overmuch. In countries like Australia, in fact, the government negotiates with its GPs as a unit, and as a consequence keeps the price of their services pretty low. I would suggest if you want to push down the cost of primary care physicians in the US, you try setting a national tariff and telling them to like it or lump it. You aren’t about to consider that, though, are you?

80

abb1 09.27.08 at 3:10 pm

Murderers will be caught, unless, of course, they are rich enough to hire a bunch of high-profile lawyers.

81

Righteous Bubba 09.27.08 at 3:46 pm

I await the day on which the market in libertarian ideas is cornered and we can ignore one person instead of many.

82

steven 09.27.08 at 4:40 pm

Snark aside, you’ve stumbled over a good example

Hey, thanks!

But I noticed that you dodged my point: to suggest that regulations are to blame for the existence of fraud is risible bullshit.

83

J Thomas 09.27.08 at 4:49 pm

Slocum makes a good point. Any regulation will inevitably be influenced by special interests. Why have regulations at all?

You are arguing that since our laws are not perfect we would be better off without any.

But consider the alternative. Without laws, our rich and powerful would hire private armies and they would enforce whatever they chose. And sometimes they would disagree and would fight private wars on the public streets. All on a much larger scale than our current mafia/drug-gang violence.

But instead we do pass laws and we have lobbyists arguing and bribing etc for the laws. The ones who lose at the political game can expect they’d lose at the military game too — they live with the laws and try to gather the resources to win next time. When the richest and most powerful win, and the cost is much less in terms of both money and lives than when the private armies fight it out, we all win. We are better off.

We might do without laws provided we had the right customs. We would need for the common people to occasionally rise up with their torches and pitchforks and storm a castle or two and get rid of a few noblemen and their guards. Without that it wouldn’t work.

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Righteous Bubba 09.27.08 at 4:55 pm

You are arguing that since our laws are not perfect we would be better off without any.

In fact he is not.

85

J Thomas 09.27.08 at 5:03 pm

“Why have laws at all, given that they will be written by men, and not angels?”

‘You are arguing that since our laws are not perfect we would be better off without any.’

In fact he is not.

Literally, he is. If he’s being ironic I’m fine with that.

86

roger 09.27.08 at 5:43 pm

I hat e to agree with Slocum, but I think he is right about doctors and dentists. A state takeover of medical care, which I’d love to see, should be coincident with an overview of a system that was put in place at a time when higher education was a much rarer thing. It is certainly true that you don’t want an RA to do brain surgery, but most brain surgeons don’t do GP stuff. An intermediate level between nurse and doctor, and the use of such RAs to do preventive healthwork, would really help cut costs. Similarly, the notion that medication is so complex that an educated population can’t be educated to do simple self-medicating programs seems nuts to me. What worked in 1920 is no longer relevant to a more highly educated population. The fear, of course, is that the population will start medicating for kicks – instead of being medicated for profit.

Similarly, dental associations have a lock on laws preventing dental care to be done in any but the most expensive way, although we know that minor dental care can be done by trained personnel who aren’t dentists at a much cheaper cost. The result is that increasing numbers of the poor and middle class get no dental care at all.

Of course, it is not only in medicine where a locked in labor market raises prices. The locked in labor market in upper management is one of the causes of the absurd compensations paid to upper management in corporate America. Any competent MBA, with ten years in business, could have done as good a job or better than any CEO at, say, GM over the last thirty years. The function of the CEO is mythologized, but in effect, most CEOs simply lead their companies to do what most companies in their particular sector do. When you have a spectacular CEO, he usually leaves behind a spectacular mess – some vanity merger, some pumping up of short term profit that ultimate hollows out a corporation. Upper management compensation could fall by 70 to 80 percent with no effect on the performance of American corporations, and a more open labor market, indexed not to the most expensive compensation for a Fortune 500 CEO but the least expensive one, would take this unnecessary labor cost off the company balance sheet.

Of course, that will never happen. The economy is, after all, a symbol system, and the symbolic importance of the heroic leader – plus the awe for the wealthy, instilled by our educational system and families into millions of children, turning them into suitably servile souls – is a constant in the American system. Call it the Please Tread on Me principle. It is the reason that middle class men will get all altruistic and teary eyed defending the wealth of those farther up in the hierarchy. Altruism in the service of greed – the American puzzle.

87

Bob B 09.27.08 at 7:13 pm

“Both free market and planned economic systems can function with reasonable efficiency when operated with competence and integrity. Neither can function when overrun by thieves and liars.”

Evidently, Robespierre was on the correct tack with his intention of creating the virtuous society.

88

sg 09.27.08 at 10:35 pm

Roger, I don’t think you’re on the right track there. GPs make up a large portion of the UK’s health costs, sure, but they’re also the cheapest part of it and a lot of their work – phlebotomy, health checks, etc – is already done by non-GP staff. While introducing more diversity to primary care may help to improve quality of chronic disease management and referral patterns, it is not necessarily the case that it will greatly reduce costs.

You say that dentistry would be improved by opening up the market to non-dentists but again, it’s not that simple. Dentistry in Japan is done by dentists and it is very cheap. In the UK dentistry is available to the poor and middle class on the NHS, so if they aren’t getting it (an assertion I would suggest is unsupportable in fact) then the reasons probably aren’t much related to a closed shop system.

This claim about costs being driven up by the “closed shop” of professional associations is just empirically wrong. Every country with nationalised healthcare has these associations, and every country with nationalised healthcare pays less than the US for its healthcare – considerably less. Within these nations there are variations in spending and quality of healthcare which just cannot be explained away by the very small differences in doctor monopolies which exist between them. Even in the UK the amount spent by PCTs (English health authorities) on particular specialties can vary threefold, and isn’t well explained by differences in disease prevalence.

You need to find a better explanation for the problem than that.

89

J Thomas 09.27.08 at 11:39 pm

Evidently, Robespierre was on the correct tack with his intention of creating the virtuous society.

Macchiavelli also advocated a virtuous society. Practically everybody does. It takes a special kind of mind to claim that society is better off when we all go after our own short-term best interest and lie about it.

So how do you create a virtuous society? The thing I’ve seen that works best is to start up some great goal that people buy into. That works for awhile. Like, NASA had a bunch of people knocking themselves out to get results. They got results. But now NASA is a bunch of old guys waiting for their retirements, trying not to rock the boat, making sure they’ve done enough review and testing that if anything goes wrong it won’t be their fault. They still do pretty competent work but the spark is dimmed.

For a little while the USSR had people working very hard for little immediate reward because they wanted to create a great society for their grandchildren. Once they saw it wasn’t working they pretty much gave up.

You do a lot better toward creating a virtuous society by inspiring people with a great goal than you do by killing the worst offenders. But nothing seems to work reliably.

90

gelboak 09.28.08 at 2:43 am

Rich Puchalsky @72

Any industrialized society would “…require.. a [more] advanced infrastructure in order for it to work…” than an agrarian one. I am sure that GOSPLAN and its associated state enterprises were sufficiently more elaborate than whatever the Inka empire had that one could assert a difference in kind, rather than a difference in degree. If you believe that a certain “advancedness” of a certain type of political, judicial and administrative infrastructure is what distinguishes one ism from the other, then we would have to say that people are being anachronistic when they say that the Inkas had “central planning” .

If we are going to apply present day categories to the past at all, then Temin’s approach towards defining a market economy seems reasonable to me: Of three forms of provision and distribution – (i) reciprocity; (ii) redistribution; and (iii) exchange – did exchange predominate? Is the test that Temin sets up what you do not find convincing? Or is that you do not believe the evidence he has marshalled supports his conclusion?

91

Walt 09.28.08 at 3:01 am

J Thomas: I was being ironic. My last sentence exactly reverses Madison’s quip in the Federalist Papers for why we need a government.

92

J Thomas 09.28.08 at 12:02 pm

Walt, my response is the same when you’re being ironic.

But in that case I notice I like you a lot better.

93

abb1 09.28.08 at 1:30 pm

For the rich and powerful it makes more sense (at the moment) to accept the law/police than to maintain private armies (or hire the Pinkertons), and that’s the main reason we have laws. But that can change.

94

Bruce Baugh 09.28.08 at 8:11 pm

I used to be much more strongly convinced by the regulatory-capture argument against extensive regulation than I am now. It implies a falsehood: that there is an alternative system in which malefactors of great wealth won’t exert undue, illicit influence over the visible structures of authority.

Instead, these days I think that the well-documented problem of regulatory capture is just an argument in favor of designing good oversight systems, monitoring them, updating as necessary, and being as consistent as possible with punishments that count. (Like what I’m told is practice in some Scandinavian countries, of fines defined in terms of fractions of annual income.) And this would be true in any system where honesty is valued.

95

abb1 09.28.08 at 8:32 pm

Could you explain why you think it implies that there is an alternative system, please?

96

J Thomas 09.28.08 at 9:05 pm

Abb1, I can answer that one. If there is no alternative to trying to regulate things and suffering regulatory capture, then the claim that regulatory capture will happen is not an argument against regulation.

It isn’t stated very well. There are alternatives, so the question is whether there’s a better alternative. Is it better to leave things unregulated so the regulators won’t get captured? Will rich bad guys have less influence that way?

Here’s an example I know a little bit about. It used to be there were “small loan” companies. My father explained that it was a good thing to have them because the alternative was people would borrow from the Mafia at something like 20% interest a week. These companies provided loans mostly to lower-middle-class people who needed a little extra money. Like, a man needed surgery and he’d be out of work for a couple of weeks without pay, so he needed a few hundred dollars to tide his family over. After he was back at work he could scrimp and pay off the loan. The system was heavily regulated. They couldn’t charge more than a set interest rate, for example.

But the regulation also carefully limited the number of small loan companies that could set up shop in a particular area. Small loan companies were pretty much guaranteed to be profitable because they were an oligopoly. They competed for customers with advertising etc, but there was guaranteed to be more than enough business to go around.

When it wasn’t regulated you got the Mafia. When it was regulated you got something that was supposed to protect customers and lenders both. How well did it do?

Well, at one point there was a financial crisis and the prime rate went above the legal rate for small loans to lend money. They did better to put their money into CDs than lend it out. Bad times. I guess that small loan companies were just not rich enough to do enough regulatory capture enough to survive.

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Bruce Baugh 09.28.08 at 9:10 pm

Abb1, the way I see regulatory capture used in argument is almost always to support claims that stronger oversight than the US has aren’t really possible, and seem to work elsewhere because the people are brainwashed into ignoring how their alleged democracies are really secret plutocracies, or something. Since regulation can never end up as anything but the plaything of the major players in any industry or sector of society, we’d be better off not trying to regulate and relying on market mechanisms to promote anything we may wish to promote. The implication is that market mechanisms aren’t vulnerable to anything equivalent to regulatory capture.

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roger 09.28.08 at 9:22 pm

“This claim about costs being driven up by the “closed shop” of professional associations is just empirically wrong. Every country with nationalised healthcare has these associations, and every country with nationalised healthcare pays less than the US for its healthcare – considerably less.”

Before I’d even dispute the claims, here, about the comparability of how nations stratify their medical talent sets, I’d have to say that you have to do your logic over, since as this sentence stands, it is certainly not an empirical proof of anything. Professional associations could, of course, still drive up costs, but nationalized health care could still be cheaper simply due to massive savings on getting rid of the intermediate insurance bureaucracy. To claim that labor is the only cost driving up health care prices is, of course, not my claim.

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sg 09.28.08 at 9:40 pm

Yeah Roger, slocum hedged his statement nicely but the blame is there: American healthcare is more expensive “in part” because of higher doctors costs, and “one reason” for this is their power of regulatory capture. It’s Public Choice 101. This is is a claim about costs being driven up by a closed shop of professional associations.

I suppose he could hedge it further by saying that he didn’t mean it would imply a net cost increase relative to the “other developed countries” of which he spoke, but that’s just weasel words.

Your point is broader, true, but it is still contingent essentially on the differences between US and other nations’ professional associations’ power to enforce regulatory capture, and I am frankly unconvinced. The model of professional accreditation seems broadly similar across all of them, but there are some very very very big differences in other aspects of resource allocation and pricing. While it’s always good to look at things like this, it’s asking a bit much to expect it to be even a second-order concern when compared with the other major aspects of spending variation going on in modern health systems.

Certainly the health policy wags I have spoken to are aware of the way in which these professional associations skew the debate, but they at least partly value it, I think, because these associations have a lot of sensible and important things to say, and you just have to balance their positive role in the health system against their desire to protect their members’ interests.

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abb1 09.28.08 at 9:49 pm

Oh, I see. It doesn’t, of course, follow that we’d be better off not trying to regulate. It does, however, seem logical to assume that the powerful will always exert undue influence (so that there is no alternative system) and that the extent of this influence has to be positively correlated with the degree of concentration of power.

Though, of course, there are many other variables, like specifics of the political system, etc. The US has a problem in this respect – no proportional representation and consequently no meaningful political parties.

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roger 09.28.08 at 10:38 pm

sg, I’d disagree. One of the things I admire about the French system is the emphasis put on prevention. This is one of the reasons, I think, that the American system is so costly. Here, let me quote from the Uber capitalist Business week:

“France particularly excels in prenatal and early childhood care. Since 1945 the country has built a widespread network of thousands of health-care facilities, called Protection Maternelle et Infantile (PMI), to ensure that every mother and child in the country receives basic preventive care. Children are evaluated by a team of private-practice pediatricians, nurses, midwives, psychologists, and social workers. When parents fail to bring their children in for regular checkups, social workers are dispatched to the family home. Mothers even receive a financial incentive for attending their pre- and post-natal visits.”

Now, this isn’t utterly unknown in the U.S., but that mix of professionals is much more likely to be flattened into the usual American hierarchy of the doctor first. Midwives are very underused in the U.S., a notorious historical case of American doctors driving out a rival. This kind of pooling of skills is very hard to obtain when you have, as you do in the U.S., doctors associations that would see it as a threat, an encroachment on their professional turf.

To weaken doctors in the U.S. system would probably weaken healthcare, since the kind of preventive service presented in France depends on state funding. It won’t make a go of it if it depended on the private price system – that would soon price out a significant portion of the population. Unless the argument is, people shouldn’t have health care unless they can afford it out of their own pocket – which is the really honest conservative position, and one that would be overwhelmingly rejected by the population – a state supported system is preferable on every level.

Of course, the U.S. has one – the inefficiency of the U.S. system is caused by the runarounds and contortions that are necessary, purely on ideological grounds, to make the profit system and the public system (and public expenditure on health care is huge) both work. Bush’s pill bill is an example of this dysfunction – a huge public expenditure that is also designed as a gimme to big pharma, since, amazingly, the U.S. outlawed its own ability to negotiate drug prices. As so often, what is hailed as the triumph of free enterprise is actually the thinly disguised triumph of corruption.

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sg 09.29.08 at 6:58 am

roger, I mentioned before (twice, I think) that there are plans to introduce more of the French type of model to the UK, but that the expected benefits are more about quality than price. Implementing this may require negotiation with or weakening of the doctors’ associations or it may not – it’s not clear from your quote there whether or not French doctors’ associations are weak, or just sensible. There is actually quite a bit of non-doctor activity in the UK and Australian systems, but the associations aren’t weak.

In Australia one doctors’ association was able to hire a retiring health minister as a lobbyist on a huge salary. I don’t think you could characterise the lobby there as politically weak, but GPs in Australia aren’t very well paid by international standards and have been lobbying unsuccessfully for increases in the government tariff for years.

Your French example depends for its success on knowledge of the degree of regulatory capture in that country which you haven’t presented (and I don’t know). You hit on the real reason for the US’s extreme costs in the last sentence – the govt has deliberately weakened its ability to negotiate prices, throwing it open to the private market and leaving hospitals to negotiate with a group of people (Doctors) who are very good at sticking together. This isn’t regulatory capture, it’s market power.

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