Thursday, October 31, 2013

Free-Markets vs. Regulated Economies

The Magic of Self-Regulation in the Economy
We’ve all heard economists, politicians, and pundits talk about “The Market”.  Well,
what is the Market?  Put simply, the market is you and me.  It is all of us going about our business - doing what we do every day.  Whether it is going to work, buying groceries, talking on the phone, water-skiing, or just watching the TV.  Virtually every activity one can think of is a market activity.
When we are working, we are not only involved in the process of making a product or performing a service, but we are actively engaged in selling our time on the labor market to an interested buyer.  When we are using a telephone, we are buying air time at an agreed-upon price.

Price is the monetary amount at which a transaction takes place.  So, how are prices determined?  Well, in a free market price is determined to be the point at which the buyer and seller agree to make a transaction.  This is simply because if the price is too high, the buyer will not buy and if the price is too low, the seller will not sell.  This concept can be applied on an aggregate scale which often determines the “going price” of a product or service.  Competition between businesses that offer the same or similar products or services works to keep prices low and quality high, as they all try to provide the best value to the consumer for their hard-earned dollar in order to win the sale.  In this struggle to win the sale over a competitor, businesses work to give their customers the most value for the least amount of money.  Since consumers have a limited supply of money, they therefore put pressure on these competing businesses to give them the most value in exchange for their money.  
Wages work the same way.  After all a wage is nothing more than the price on the sale
of labor.  This price is set where employer (the buyer) and the employee (the seller) agree.
Supply and Demand also affect pricing.  With a given supply, price will increase or decrease in a direct relationship with demand.  Price is inversely related to supply.  With a given demand, price will decrease as supply increases and vice-versa.  
These mechanisms which are entirely voluntary, comprise a major set of forces that automatically correct any problems that may arise in the market.  For example if a shortage in materials makes it more difficult to produce a product, this shortage will automatically drive the input costs of producing the product up which will result in an increased price to the buyer.  The increase in price to the buyer will reduce the demand for the product, which will in-turn put downward pressure on the price.  The slowdown in sales will decrease the amount of materials needed, thus reducing the shortage.  
Most products have an elasticity of demand, meaning that the demand is affected by price.  Specifically, Elasticity of Demand refers to the rate of change in demand with respect to the change in price.  So, if the price of an item were to increase, the demand would taper off.  The reduced demand would then put downward pressure on the price by reducing the amount of product demanded.  The amount of elasticity in the demand of the product will determine the speed of the correction.  In other words the elasticity of demand is the amount of slope in the demand curve at a given price or the first derivative of the quantity demanded with respect to price.
The market has great power to correct negative outcomes, though this is generally in the long run.  However, for some people the problems that spring up in the market are not resolved quickly enough and want a short run solution.  These problems are referred to as “market failures”.  To these people, the solution to correct a market failure is through government intervention.  A classic example of a market failure is pollution or environmental destruction, typically associated with monopolized utilities or industrial production.  Generally speaking, the market will resolve “failures” like this assuming that there is no asymmetry in information.  Assymetry in information is when the consumer is unaware of such a problem.  When the consumers are made aware of market failures, they generally respond in a way that will offer a correction.  For example, suppose you are offered several different sources from which you could buy a certain widget.  You discover that though the products made by the different sources are similar in design, one of them is produced by a company that is polluting a river in the process.  An informed market will choose to buy from the competitor
and this will put pressure on the offending company to improve its processes in order to compete.  This could take a lot of time, especially because of the dissemination of information that is required.  This problem is more-easily overcome thanks to the internet and social media however.  But because of the time lag required for the market to respond to these sorts of issues, and the relative urgency in the need to correct these problems, many people advocate the government intervention into the market.  Government intervention can take place in several ways - (e.g. in the form of environmental regulations, price controls, taxes, tax breaks/incentives, penalties, etc).
A major problem with regulatory agencies is that they are subject to corruption by the political process, bribery, and collusion.  We are currently seeing this in the battle over Genetically Modified foods (GMOS), particularly with Monsanto.  Monsanto is the manufacturer of pesticides, herbicides, and other chemicals.  Recently, they entered the food industry and have very quickly become the world leader in producing genetically modified produce.  Through gene splicing of corn, soy, tomato, and other plant DNA with DNA from animal and e.coli bacteria, they have managed to produce crops that are resistant to higher doses of their herbicide (RoundUp).  The result is not only the increased use of these poisonous chemicals in the American food supply, but increased pollution from run-off and aerial spraying.  What’s more is that many studies are showing that these modified foods may be unsafe for human consumption as reports indicate increased rates of cancer in laboratory animals as wells as internal bleeding and allergic response in animals given GMO foods.  Currently, over 90% of the U.S. corn, soy, cotton, and canola supplies are genetically modified.  Despite the government’s heavy regulation of the agriculture and food industries, these highly questionable and suspect products have been allowed to dominate, capturing near monopolistic levels of market share.  How is this possible?  Well, it has happened because of collusion between Monsanto and the Federal Government.  Currently, Monsanto Attorney Michael Taylor serves as the U.S. Food and Drug Administration’s Deputy Commissioner for Foods, where he oversees the FDA’s food safety policies.  Over the past 2 decades, Michael Taylor has worked in a revolving-door fashion going back and forth between jobs at Monsanto, the United States Department of Agriculture (USDA), and the FDA.  

The FDA was created as a market intervention in order to a ensure a safe food supply for the consumers.  Since it is impractical to personally inspect food processors to ensure that they follow good practices and safe food handling guidelines, many people felt that government oversight would give them a certain peace of mind.  The FDA established food safety standards and worked to enforce them.  This power which has been placed in the hands of politicians whose primary interest is collecting money and support for re-election is largely a very costly failure.  
On the other hand, thanks to technology, we have much better means of regulating food suppliers and producers through free-market methods.  Zagat’s, Facebook, Foursquare, and Yelp have probably done more to ensure public food safety than the FDA ever has.  Private certification organizations both profit and non-profit abound.  If you want food that is organic, kosher, glatt kosher, halal, vegetarian, vegan, non-GMO, cruelty-free, locally-produced, fair-trade, environmentally-friendly, free-range, cage-free, or grass-fed, there are literally thousands of free-market providers that offer solutions to fill these needs, all without the need for government intervention into the market.  

What we are seeing now is that government intervention into the market is decreasing food safety rather than improving it.  Government regulators now protect political contributors like Monsanto from the market forces, by crafting labeling laws that increase and prolong asymmetry of information.  In other words, labeling laws are written to prevent the consumer from finding out that they products they consume contain GMOs and increased levels of herbicides and pesticides.   

Furthermore, they have been working to corrupt private standards already put in place by private certifiers.  We have seen this with the USDA’s foray into organic certification.  The USDA’s Certified Organic label has become the biggest organic certification in the market, however they also have the weakest standards.  This is by design, because the largest food producers have had the most difficulty in offering products that qualify as organic, and the number of organic consumers has been rising steadily.  This has created a resurgence of smaller growers, food producers, and distributors who pose a threat to these larger conglomerates.  The large conglomerates like Con-Agra, ADM, Kraft, Dole, PepsiCo, NestlĂ©, and General Mills have many millions of dollars that they can and do contribute to political allies.  This enables them to buy regulatory favors for themselves and burdens for their competitors.  The smaller producers suffer under the regulatory burdens, and eventually get bought out by the larger firms (e.g Naked Juice is now owned by PepsiCo, Kashi is now owned by Kelloggs, etc).
We are currently seeing a political war over the healthcare Industry.  Proponents of government intervention via the Affordable Care Act (a.k.a. “ObamaCare”), cite current inefficiencies and inequities in the healthcare system.  They claim that the government will “streamline” the system and reduce inefficiency.  They also claim that it will correct inequity by providing health insurance coverage to people who did not qualify previously (due to lack of financial ability or pre-existing medical conditions).  One of these two arguments has merit - that is to say that it will correct the inequity.  The argument that market intervention will create efficiency is false.  

Opponents of the ACA cite that the current problems with the healthcare industry stem from the government’s previous market interventions, heavy regulation, and excessive litigation.  These arguments are very strong, but are more difficult to argue to the public at large who still see the government as their guardians and protectors.
The effects of market interventions is always to create inefficiencies.  The root cause of this is that the voluntary nature of the relationship between buyer and seller is altered.  The producer/seller incurs additional cost inputs which are largely outside of their control and these either get passed down to the buyer.  Price controls are an especially destructive form of market intervention.  Often, a large segment of the population will view the market price of a product or service as being too expensive, so they petition their representatives in government to intervene by enforcing a price ceiling on a product.  The politicians use these segments of society to rile up public support and buy votes.

The effect of a price ceiling if it were to placed below the equilibrium price, is to create a shortage in the product will be produced.  Since the seller is statutorily prohibited from raising the price in order to reach the equilibrium point, there is no ability to supply enough to meet the artificially-increased demand.  A price ceiling that is above the market price will generally have no effect on the market.
Likewise, with a price floor that is above the equilibrium price, a surplus in the product is created.  This is because suppliers will want to supply more at the higher price, but there will not be enough buyers at that price.  We see this with minimum wage laws.  The minimum wage is basically a price floor on the sale of labor.  When a minimum wage is placed above the market price, more people will enter the market wishing to sell their labor.  However, the number of buyers wishing to pay that wage or the labor is reduced, creating a surplus of workers which is known as “unemployment”.  For this reason, generally the minimum wage is set below the market wage so as to have little to no effect (but still allow politicians to buy votes because the public will perceive the increase the minimum wage as helping the poor).

In conclusion, the best solutions to virtually any problem that may arise in the free market are based in the continuation or expansion of free-market principles.  Problems that come from an uninformed consumer base is to increase the flow of accurate information to the consumer.  The nearly free-market exists on the internet allows the rapid dissemination of information to the consumer which is their best protection.  The internet provides the only sources for information about Monsanto that offer consumer protection, while the government works to obfuscate that information.  The same is true for the aforementioned organic industry.  The growth in organic foods which is healthier, safer, more environmentally friendly and sustainable has occurred outside of and in spite of government regulation and barriers to entry in the food industry.

The perceived disadvantage of this approach is that it will take too long to correct a problem because the information must be disseminated and spread before it will correct itself.  However this is false because in order for government intervention to work, that information must still be disseminated and spread before the government will offer a correction.  I propose that the free-market actually offers more effective corrective solutions in a more timely manner than intervention does in today’s market.  

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