Wednesday, June 07, 2006

Spontaneous Market 2: Market Failure vs. Government Failure

"Market failure", or the failure of the market (the individuals, households and firms who supply and demand certain goods and services) to allocate resources to provide certain human needs and wants, is the single biggest reason why government intervention is justified. And government here ranges from local to national/central government to the UN and foreign aid institutions.

There are two main sources of market failure. First, "public goods" character of a commodity or service. Public goods are those that once provided, it is difficult or impossible to exclude non-paying people from enjoying and free-riding the benefits of such good or service; or the cost of excluding the free-riders is very high. Examples are traffic lights, peace and order, justice administration and rule of law, and national defense for countries with dangerous neighbors. Second are "externalities", positive or negative. Examples of negative externalities are air, water and noise pollution; examples of positive externalities are clean air and cool climate because of the presence of a huge forest or national park, good peace and order condition.

After identifying one "market failure" after another, governments began intervening in many sectors of society. And many people who demand more government intervention forget that it also means new or more taxes, fees and charges; new or more regulations, inspections, registrations, accreditations, other forms of requirements and clearances from the bureaucracy. With valid or invalid reasons to intervene, governments are into infrastructure, utilities, social services, pension, credit and banking, tourism and entertainment, media, and so on.

In fact, it is now difficult or impossible to identify any sector or industry (or sub-industries) of our social and economic lives where there is no government intervention and registration. Even those in the "informal" or "underground" economy do not exactly escape 100 percent of all those government intervention. It's more like out of 10 or 20 registrations, taxes and fees required by government, they only managed to escape 70-90 percent of them.

In public finance theory, the presence of "market failure" is only a necessary but not sufficient condition for government intervention. Because it is highly possible that government will only introduce its own inefficiencies and wastes that will only exacerbate the initial market failure that it wants or purports to correct.

The littany of reports and complaints of government corruption, bribery, plunder, other forms of waste, especially in poorer countries, indeed confirm that government intervention often results in a worse market situation than it wanted to correct. These are now called "government failure", a failure in correcting the initial market failure, a failure in providing genuine public service, which is the only valid and accepted reason for government intervention and taxation.

But instead of government withrawing from those sectors and services where abuses, red tape and corruption are repeatedly noted and reported, "government failure" is addressed by another set of government intervention, by instituting plenty of anti-corruption bodies and counter-check mechanisms and procedures. These moves are essentially pouring more public money to determine how much public money have been stolen and wasted already. The key word being sold to the public is "good governance", meaning more transparency and accountability of public institutions and government officials and personnel. But implied in this formulation is the retention of a big, expansive, and interventionist bureaucracy; only to expect them to behave more transparently.

An option to go "back to the market" and "less government intervention" is far out among the minds and demands of many groups and people, even from those very vocal sectors and individuals that regularly note government failure, like those in media, the academe, NGOs and civil society groups.

There will always be market failure in all spheres of our lives as individuals and communities become more specialized, as tastes and preferences constantly change and evolve. But market failures also create market solutions. An initial lack of supply of a certain food or clothing design that caught the attention of a big section of the public results in entrance of new players and producers of such goods and services where demand is big. Pretty soon, the problem is no longer lack of supply but over-supply. Over-supply sends a signal to various producers and suppliers in the form of declining prices. This signal will force them to innovate, to introduce new designs and formulations, or improve on existing ones, to escape bankruptcy. The market's self-correcting mechanisms guide societies, producers and consumers alike, to allocate resources where they are needed, and stop supplying resources where they are not needed.

Government failures on the other hand, almost always result in more government checks and balances, more bureaucracy, and hence, more taxes and fees to finance the expansion of the bureaucracy. Government failure is more insiduous, more damaging and more disastrous to the lives of people, of private taxpayers especially.

Related topic to government failure is “rent-seeking”. Chapter 4 of the book, "Government Failure: A Primer in Public Choice" written by Tullock, Seldon and Brady (2002, published by Cato Institute, Washington DC), is entitled “The cost of rent-seeking”, written by Prof. Gordon Tullock. Examples of rent-seeking are (a) trade protectionism, where the protected local industry benefits but the local consumers are worse off; (b) private monopolies, and (c) direct income transfers by government where A is taxed and B receives the money.

I would say that around 90 percent of all forms of government restrictions, from erecting rigid labor laws like “expensive to hire, difficult to fire” policies, to expensive welfarism financed by high and complicated taxes, are rent-seeking in nature. They are tying productive people's hands, siphoning off if not outrightly confiscating, their income and savings, and transferred to people often driven by envy and too lazy to accept personal responsibilities on things that ought to be their private domain. The huge government bureaucracy and long layers of politicians that stand in between the people whose incomes are confiscated and the beneficiaries who wait for such wealth transfer eat up precious social resources.

Citizens and taxpayers should assert their their personal liberty, to be freed from various forms of coercions exerted by big governments and their various instrumentalities, by demanding not just "good governance" but more importantly, "less government". After all, less government means less taxes, less bureaucracy, more economic growth and individual freedom.

Voluntary Exchange vs. Forced Exchange

In voluntary exchange, a person comes to another person to offer or sell his/her services like hair cut, massage, tutorial, taxi, cell phone repair, speech writing, and so on; or goods like fruits, vegetables, fish, hammer, nails, hamburger, needle, book, tv, car, bus, boat, and so on. The other guys choose from among those who offer those various goods and services, and pick the ones who offer them good value for their money. Here, no one is coerced to surrender his/her money to someone else, unless there is a corresponding exchange of a satisfying service or commodity given.

Those who offer good quality services and commodities at an affordable and competitive price naturally attracts more clients and customers; through time, those producers and suppliers become bigger, so long as they maintain the quality of their services and the competitiveness of their prices. While those who offer lousy services and bad quality commodities will lose their customers and clients; pretty soon, they will become bankrupt and be forced out of the competition, at least temporarily. Suppliers and sellers know this, so they are compelled by the circumstances, by their environment, not to become complacent producers. In this competitive and non-distorted situation, public and social welfare is served. Those who sell food are forced to sell good quality food. Those who sell their labor are forced to render good quality work. Those engaged in trading and marketing are forced not to over-price their products and services. Those who lend money are forced not to impose very high interest rates.

In forced exchange, people are coerced to surrender their money to a big and armed body or institution. Their salaries are automatically deducted of a certain percentage; their interest earnings in their bank deposits, their gains or profit from selling their house or land or other resources are automatically withheld of a certain percentage. When they consume something like medical and dental check-up, or buy something like soft drinks or gasoline, the price they pay is much higher because of surcharges imposed on the original price of those services and commodities.

Also in forced exchange, even if you do not believe that this and that services should be provided by the big institution, or you believe it should be provided but you do not like the quality of the services given to you, funded by the money that was forcibly taken away from you, you have to bear with them. Even if you do not like the personnel and people assigned to help you because they are corrupt or arrogant or lazy or whatever traits that you do not like, you have to bear with them.

Now, who are engaged in voluntary exchange? And who are engaged in forced exchange? Are they the angels and missionaries for the former, and the aliens and terminators for the latter?

The market -- private individuals, households, firms, voluntary organizations -- are engaged in the former. And government -- national and local government units; executive, legislative and judicial bodies -- are engaged in forced exchange.In the market system of voluntary exchange, the system of rewards and punishment are fast and spontaneous. Those who keep on producing good quality services and commodities at a good price continue expanding, and those who keep on producing bad services and/or selling at unreasonable prices will soon be out of business. No paper work, no bureaucracy, no litigations needed. The incentives and disincentives are very clear and transparent.

In the government system of forced exchange, the system of rewards and punishment are long, managed and bureaucratic. The corrupt and robbers can be rewarded with material wealth and undeserved attention, their shenanigans to be determined in long court proceedings, assuming there will be enough witnesses who will pin them down. Some industrious and efficient ones can be left poor and unrecognized, stuck in fixed incomes and covered by the bureaucratic maze where the ego-trippers get the media attention.

Also in forced exchange, even if you do not need certain services and government personnel assigned in your community or workplace because you think they are unnecessary and costly bureaucracies, you have to bear with them. Their offices and positions have been created already by the higher bureaucrats and politicians, and their annual operating budget have been allocated already, courtesy of the various taxes, charges and fees that were forcibly taken from you. And assuming that you need certain services from government, but you do not like the personnel assigned to perform them because they are arrogant and possibly corrupt, you have to bear with them. They are accountable to the higher officials who recruited and appointed them in their posts, not to "the people", an amorphous and anonymous body who cannot even successfully fight the forcible deduction of their incomes and savings.

Lazy and arrogant government personnel can be kicked out of office, but you have to set aside substantial time and effort, and money of course, to take short leaves from your work and stand up as witness to usually long court procedures.It is therefore important that individuals should assert their personal freedom, their right to voluntary exchange, and to oppose an ever-widening system of forced exchange. Not that people should call for zero government. We need government after all, say to punish the guys who killed your cousin, or raped your daughter, or burned your car, or stole your cellphone, or grabbed your land. Government has an important but limited function in our lives. Its expansion to so many sectors and facets of our lives however, is not only dangerous, but has already wreaked havoc to our lives. The task of asserting our individual liberty is a continuing challenge for us all.

* See also Spontaneous Market 1: Profit, Trade and Personal Responsibility, May 22, 2006

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