Two Structural Reasons Why Government Fails
The strongest case for the market.
In my last two columns I urged freedom lovers to avoid two kinds of mistakes when making the case for freedom. First I argued we should not assume that politicians and bureaucrats are evil or incompetent. Last week I explored conspiracy-theory thinking and suggested that it too is problematic because it dangerously assumes that a small group of people really can control social outcomes. In both columns I suggested that pointing to the “structural” problems with the State is a better line of attack.
In response to questions from readers, this week I’ll discuss what those structural problems are. I see two fundamental problems: the “knowledge problem” and the “Public Choice problem.”
“Knowledge problem” was coined by the late Austrian economist Don Lavoie in his work on the socialist calculation debate. Ludwig von Mises and F. A. Hayek argued, each in his own way, that the fundamental challenge facing socialist planners is to fill the role played by market prices, which serve as surrogates for the pieces of knowledge held by the millions of individuals who supply and demand goods. Market prices, as Mises pointed out, serve as “aids to the mind” by guiding entrepreneurs and consumers as they appraise possible future outcomes and then engage in economic calculation in making decisions. Hayek’s contribution was to argue that what enables prices to do this is their capacity to serve as proxies for the deeply held knowledge and preferences of all market participants, whose buying and selling generate the prices in the first place.
What complicates this further is that a good deal of the relevant knowledge is tacit, meaning that even those who possess it cannot specify what they know. How do you keep your balance on a bicycle or know when to pull your foot off the clutch in a manual transmission? You know how to do those things, but explaining in detail exactly what you do is impossible. The advantage of markets is that they allow us to make economically relevant tacit knowledge available to others through buying and selling in the market. This knowledge can’t, however, be communicated to planners either verbally or through statistics.
The bottom line is that socialist planners attempting to abolish markets, but interested in efficiency, would have no way of knowing what people value, so they would be unable to determine what outputs to make from a given set of inputs or which inputs to use to make any particular output. They would not be “planning;” they would be stumbling around in the dark and the result would be economic chaos and poverty.
Applied to Intervention
This critique holds not just for attempts to substitute planning for markets completely, but also for any government attempts to intervene in specific markets. Granted, the smaller the scale, the less dramatic will be the damage, but the underlying problem remains: Even the smartest, best-intentioned people would be unable acquire the knowledge necessary to improve on the market. This is the major structural problem government faces – and notice that it does not require assumptions of malevolence or incompetence. It also shows why conspiracy theories are most likely to be false.
The Public Choice problem refers to the fact that many arguments for government intervention assume that politicians and bureaucrats are selfless and public-spirited, concerned only with doing what is best. In the real world, though, we know that politicians often act in their self-interest, just like market participants do. Unlike the market, however, political institutions do not channel self-interest into unintended consequences that benefit the public at large. Self-interested political action leads to undesirable unintended consequences. Think of how politicians’ desire to get reelected by spending more on their constituents and keeping their taxes low leads to larger budget deficits even though none of the politicians may have intended to run deficits.
Faced with the knowledge problem, it’s no surprise that politicians and bureaucrats will turn to self-interest. Once they realize that knowing what the public interest is and how to achieve it are hopelessly complex, trying to get reelected or keep their jobs becomes an unsurprising next step.
The Public Choice problem assumes only that office holders and government workers pursue their self-interest as frequently as people are assumed to do in the market, not that they have evil intentions. The perverse outcomes they produce are often unintended. And that is the difference between the Public Choice problem and the malevolence principle.
Together the knowledge and Public Choice problems provide the structural critique of government that enables classical liberals to avoid the pitfalls of assuming malevolence, incompetence, or grand conspiracy. This structural critique is robust precisely because it applies even if we assume politicians and bureaucrats are incredibly smart and well-meaning.
Considering that politicians are no smarter than the rest of us and that some of them might well wish to do harm, it should come as no surprise that government is even worse than what we expect when we make the most generous assumptions possible.
Comment by Jim on 27 May 2010:
Steve,
What about political rent seeking, i.e. where at least some of the negative consequences of political action are intended? Your argument that the knowledge problem precludes conspiracies also implies that successful rent seeking cannot occur. How could it be that individuals acting out of self interest are able to achieve their ends through political action (rent seeking) but individuals acting out of malevolence are not (conspiracies)? Does the knowledge problem only occur selectively, based on the moral character of the actors?
Comment by Steve Horwitz on 27 May 2010:
Even with rent-seeking, the actual outcome is usually not exactly what the rent-seekers intend, as their preferences have to interact with those of politicians and bureaucrats in the “competitive” process of politics. Rent-seekers don’t get the outcomes they intend, and actually getting them is the mark, it seems to me, of a conspiracy theory (or of successful socialism, according to Marx).
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Comment by Guillermo Barba on 27 May 2010:
“… two kinds of mistakes that people make…”
Even though the knowledge problem and the public choice problem are the root drivers, experience shows that incompetence and evil are there. After many decades of ‘fixing’ the market failures, the rent extracting and the rent seeking have resulted in manipulating the rules of the game and benefiting in the process.
Comment by FletchforFreedom on 27 May 2010:
Again, the argument is not that incompetence and malevolence are absent, but rather that, even to the extent that they exist (to a degree not necessarily more, and certainly not less, than in the population at large), that even those exhibiting such traits lack the power of control. That they have the power to have an impact, usually – maybe even universally – detrimental, is true, but that is a different thing.
Rent seeking is a perfect example. Arguably, the most visible example of this today is undertaken by organized labor and there is certainly no question that some of the individuals involved grasp that there are real economic drawbacks to this rent seeking that harms non-union labor, non-union competitors, investors of all kinds and, of course, those that would benefit from the greater economic efficincies in their absence … in other words, everyone. Still, the majority of those demanding such rent seeking (without understanding the concept) not only fail to see the harm but sometimes even honestly argue that it is economically beneficial. The arguments more frequently stem from ignorance than malevolence.
Comment by Mike Hill on 27 May 2010:
Any politician who makes decisions simply on what will keep him in office, or what will get him reelected needs to go! That game is over. We need fewer politicians and many more statesmen. A statesman is someone who will make his decision based on what he believes is best for his constituents within the framwork of the rule of law, i.e., the Constitution. And that should be bound by a moral compass of what is right versus what is wrong. Then to have the COURAGE to not compromise on these principles even if loud voices and big money are demanding he do otherwise. That is what is so needed today. No more of the politicians who will make a decision simply on what he believes will get him reelected.
Comment by Jacob Steelman on 27 May 2010:
The reason for exposing the evil and incompetence is that refutes the arguments always be put forth by politicians and bureaucrats that they have only the good of the state and its citizens as their objective and that hence they and the policies that they advance are good for the country and the people. While academically the knowledge and public choice arguments have a place in the intellectual debate for most of the population the debate will not be at that level. They understand what they see with their own two eyes as my wife says. Years of experiencing corruption in South America, Asia and Eastern Europe has made many in those areas highly skeptical about the intentions and policies of any politician and bureaucrat. They know that they are the likely losers of government intervention. They in fact withdraw from participating in the state structure through participation in informal markets (black markets) and not voting. In time as Americans experience the direct impact on their lives of government owned industries and comprehension of their lives they too will develop the skeptical view of politicians that many in the rest of the world have. Only by continuing to make people aware of the evil, incompetence and ways of the various members of ruling elite will there develop the skepticism of politicians and bureaucrats and the ruling elite that once existed in America.
Comment by Steve Horwitz on 27 May 2010:
Once again, I am NOT denying that politicians can be evil and incompetent. What I am saying is that *if government consistently fails EVEN WHEN we assume the best and the brightest* then our arguments are EVEN stronger than when we rest them ONLY on evil and incompetence. If that’s all we have, we leave ourselves open to the response “only if we elected better people…” How can we respond, if it’s only about evil and incompetence? I say we can’t and it’s one reason why social democratic thinking still holds sway – one need only look at President Hopenchange to see that.
I say let’s assume our opponents’ BEST case and then demonstrate that it still can’t do what they say. Then when we see, as Jacob rightly notes, that the real world doesn’t even add up to their BEST case, our argument becomes even stronger. But if we grant them the rhetorical high ground by leaving ourselves open to the “better people” argument, we weaken our position.
Comment by Mark Lutter on 27 May 2010:
I think you are right on an intellectual level to focus on the structural problems. But your analysis of “conspiracy theories” seems off base. It is important to note that certain conspiracy theories, the orgin of the fed for example, do not require a social outcome, merely traditional rent-seeking that has been completely ignored by the mainstream. While the intellectual battle is important, our primary goal should be to turn libertarianism into a mass movement. That is the only wayt to affect change at a national scale. One of the most important ways to have mass appeal is to create a compelling narrative. This narrative includes ideas that are currently dismissed as fringe or conspiracy, but have historical validity and often exemplify the intellectual arguments in a way that appeals to laymen.
Comment by Steve Horwitz on 27 May 2010:
Rent-seeking is not a conspiracy theory. Rent-seeking certainly mattered for the Fed, but so did a lot of bad ideas about monetary theory and policy in the hands of otherwise well-meaning folks. The combination was awful and it produced a system that was far from the first choice of any of the folks involved in the process.
The “Creature from Jekyll Island” was just another piece of crappy Progressive Era legislation, the product of bad ideas meeting self-interest in a stew of misinterpreted crises that were actually caused by government regulations, not free markets. The Fed is no more or less a conspiracy theory story than is every other piece of bad law made at that time.
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Comment by Peter Namtvedt on 28 May 2010:
“The American system of democracy will thrive until that moment when the politicians discover they can bribe the electorate with their own money”. Alexis de Tocqueville
Comment by aware on 28 May 2010:
Sorry, Steve, I again take issue with this assumption: “conspiracy-theory thinking and suggested that it too is problematic because it dangerously assumes that a small group of people really can control social outcomes.”……While I do not explicitly argue that is true here and now(nor argue against it), the historical facts are that this HAS happened! In fact it happens a LOT!
The Bolsheviks and the Nazis certainly were “controllers of social outcomes” wouldn’t you say? They were both a “small group” within their respective countries overall population. These are just 2 examples, but the point is that very small groups that are highly motivated have and can conspire to effect more than “social outcomes” in large, diverse, even advanced nations.
“even though none of the politicians may have intended to run deficits.”…….Which is where the Central Bank comes in and why it is the key to the modern State. It hides the true cost of government through credit and monetary manipulations, and without it the politicians wouldn’t even have the option of limitless(in their minds) deficits. How does this aspect fit into your ignorant government thesis? This is why all central banks exist. It is the essential component for the total State and total war, neither is possible without it.
“. If that’s all we have, we leave ourselves open to the response “only if we elected better people…” How can we respond, if it’s only about evil and incompetence?”……Simple, it is the nature of the State. As Nock said, it is a harrow not a plow. Even if you insist on plowing with it, you are only harrowing. Change all the engineers you want but that doesn’t change the nature of a train. All States tend to tyranny and lawlessness sooner or later, only the speed is variable based on opposition to this tendency. The opposition is slim enough without additional divisions.
I also maintain that “government” is NOT broken, it is working better than ever and achieving exactly what it is intended to achieve. Its just that the common man’s idea and the State’s idea of “government” are not at all the same thing.
While I can see merit in adding your thrust to the arsenal, I believe you are wrong to relegate evil on the part of the political class, and even “conspiracy” as only fit for the lunatic fringe. These things are clearly happening and it ain’t new. The whole concept of the State is a conspiracy of the powerful elite to exploit the powerless serfs, and always has been. Its just more efficient now at doing it and bribing the victims into going along.
If I understand you, government is an elephant hired by a china shop and all the destruction of china and trampled customers are the result the ill suited nature and ignorance of the elephant.
I say the State is a criminal gang hired by the owners to be policemen, but continue to act like the criminals they are. Even Capone had honest accountants, but he still ran a criminal enterprise. The State would still do what it does no matter how many “honest” people win elections.
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Comment by James Madison Fan on 1 June 2010:
It seems to me that the Libertarian ideal Mr. Horwitz is proposing, as well as many other authors on here seem to be advocating, is as impossible as Marx’s fairy tale society. If everyone could be trusted to operate in good faith sans government intervention the world would be a wonderful place indeed. As James Madison said, “If men were angels then government would not be necessary.” Unfortunately men are not angels and there are quite a few devils among us ergo the need for law. I am opposed to legislating against the majority to protect us from the minority (nanny laws) but upon occasion idiots do something so spectacularly stupid in the pursuit of their own wealth it is impossible to stand against a regulation that sets limits on the level of foolishness that will be tolerated.
Dangerously assumes a small group of people really can influence social outcome? I would offer that assuming the opposite is far more dangerous. History is replete with examples of empires rising and falling on the whim of a handful of leaders. Rome oscillated back and forth between greatness and mediocrity based on the emperor and a select few in the leadership roles. Under Julius, Augustus, and other it was unparalleled. Under Caligula, Commodus and others it was a tragedy. In many cases these transitions from apex to nadir occurred with the swing of a sword wielded by a single man. You can’t get a much smaller group than that.
If only we elected better people is a perfectly valid argument. Where is the like of Madison, Jefferson, Adams, Franklin, and the scores of leaders that built this country? More than 400 Representatives and Senators, 9 Judges, and the President not to mention an entire army of advisors in the three branches and not a one has proven fit to read the Constitution much less write it. These are the best and brightest we have to offer? Not a chance. They’re the ones hand picked by both parties that are guaranteed to follow party policy. That’s what happens when the only viable alternatives to the Reps and Dems are “fringe” groups like “Peace and Freedom”, “Green”, and – wait for it – the Libertarian parties.
It would be nice if people with a more reasonable outlook on how to get back to the Constitutional roots on which this nation was founded would take a more active role in one of these parties. The Dems succor the whack-a-mole socialists. The Reps pander to the whack-a-mole religious right. The Libertarians pander to the Anarchists and Objectivists. A moderate group dedicated to returning to the Constitutional roots on which the nation was founded would be refreshing. >>heavy sigh<<
Comment by Ray on 16 November 2011:
Mr. Horwitz, I get what you are trying to say and agree with you. One can not argue that central planning is flawed because of the impossibility of a few individuals to have full knowledge and understanding to manage an economy to achieve an objective and then claim that there are conspirators who have been doing exactly that all along!
Personally I believe that because of self interest and the nature of self-organizing systems, it is uncanny how the system almost give the appearance of being managed by an invisible hand. Just like a free market would seem to magically generate efficiencies as if planned by a higher hand.
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[...] my friend and fellow Rush fan™ Steve Horwitz says in this Freeman article (and in this earlier article) that we should not assume politicians and bureaucrats are [...]