Market Failure: The Back of the Invisible Hand

[CrisisPapers]

| Ernest Partridge |

The concept of "the invisible hand," cherished by self-designated "conservatives," has its origin in Adam Smith's Wealth of Nations.

(The individual) neither intends to promote the public interest, nor knows how much he is promoting it... (H)e intends only his own security; and by directing that industry in such a manner as its produce may be of the greatest value, he intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention.

An unyielding faith in the infallible beneficence of "the invisible hand," leads to "market absolutism" -- the doctrine that whatever government attempts, privatization and the free-market can do better.

What market absolutists (unlike Smith) fail to notice, is that not all workings of "the invisible hand" are beneficial. Some unintended consequences of market activity are harmful -- "the back of the invisible hand." Economists call these "market failures."

One cannot enroll in an Introduction to Economics class, without encountering the concept of "market failure" -- the acknowledgment that a totally unconstrained and unregulated free market can, at times, have socially undesirable consequences (as I will exemplify below). It is one of the most obvious and incontrovertible facts of economics. Almost all of us are aware of market failures, whether or not we have ever studied economics.

Some students of Econ. 101 choose to major in Economics, and a few of these earn doctorates in the field. Those scholars who go on to work for The Heritage Foundation, The American Enterprise Institute, The Cato Institute, etc. somehow manage to completely forget about "market failures." The free unregulated market, they tell us, always brings about the socially optimum result. This cheerful assessment of free markets is called by some "market absolutism." Some examples:

• "In the free market, the individual would have to produce a good that the other person desired in order to receive a good in return. Adam Smith's "invisible hand" of the market guides all participants in society to promote the best wishes of everyone else by pursuing his own wants and desires." (Jacob Halbrooks)


• "(T)he free market allows more people to satisfy more of their desires, and ultimately to enjoy a higher standard of living than any other social system... We need simply to remember to let the market process work in its apparent magic and not let the government clumsily intervene in it so deeply that it grinds to a halt." (David Boaz, Libertarianism, a Primer, p. 40, 185.)


• "A free market (co-ordinates) the activity of millions of people, each seeking his own interest, in such a way as to make everyone better off... Economic order can emerge as the unintended consequence of the actions of many people, each seeking his own interest." (Milton and Rose Friedman: Free to Choose, pp 13-14).

Accordingly, governments should never interfere with markets. Furthermore, governments should not own property, which is better managed by private individuals. So argues the libertarian, Robert J. Smith: "The problems of environmental degradation, pollution, overexploitation of natural resources, and depletion of wildlife all derive from their being treated as common property resources. Whenever we find an approach to the extension of private property rights in these areas, we find superior results." (My italics). "All," "whenever" -- no compromise or qualification here!

In short: let the free market decide. The mysterious "invisible hand" of the free market will "promote the best wishes of everyone..," (Halbrooks), "(allow) more people to satisfy more of their desires" (Boas), and "make everyone better off" (Freidman).

Practical experience tells us otherwise:

• The unconstrained chemical industry promoted pesticides and caused extensive damage to the ecosystem, until the public and then the government, aroused by Rachel Carson's book, "Silent Spring," put a stop to it.


• Similarly, the chemical industry strenuously resisted demands that it cease the manufacture and distribution of chloro-fluorocarbons (CFCs), when atmospheric scientists discovered that the CFCs were eroding the stratospheric ozone, which protects the earth's inhabitants from ultra-violet radiation. Once again, the federal government, joined by the governments of other industrialized nations, enforced a ban on CFCs.


• "global warming") were countered by "junk science" sponsored by the energy industry. Now, at last, as the fact of climate change becomes undeniable and widely acknowledged, the same industry is promulgating the "line" that climate change may not be all that bad, and might even be beneficial. Clearly, mankind can not count on private enterprise to solve this grave crisis. Only international agreement among the industrial nations will suffice. Meanwhile, the Bush administration, on behalf of its "sponsors" the energy industry, is resisting international action.


• Finally, the tobacco industry, whose corporate responsibility to its stockholders is to maximize profits, successfully marketed its products to the point where half of the US population were smokers. At that time, almost a half million Americans died prematurely each year -- more than the total US casualties in World War II. Today, a fifth of adult Americans are smokers. No thanks to the industry. Once again, government intervention, vigorously and persistently opposed by the tobacco industry, has curtailed marketing and has publicized the health hazards of smoking, saving the health and lives of millions.

We are all quite familiar with these "market failures," and many more. It is obvious that, in numerous undeniable cases the unregulated free market fails to "make everyone better off," as Milton Friedman would have us believe. So why are these failures even worth mentioning? The answer is that our present government is dominated by individuals who behave as if they don't recognize these malevolent consequences of free markets. So one after another, regulations and laws designed to correct market failures are being dismantled, as government regulatory agencies are staffed with lobbyists and officers from the corporations that these agencies are charged to regulate.

But why do markets fail to produce optimal results? Railroad tycoon, William Vanderbilt (1856-1938) said it all: "the public be damned, I work for my stockholders." Moreover individual entrepreneurs and workers also want and strive for what is best for themselves. Indeed, as any neo-classical economist will insist, personal want-satisfactions (e.g., profits) are what drive an economy.

Implicit in market absolutism and libertarianism is the belief that what is best for each individual is best for all individuals -- in other words, for "society at large." As President Eisenhower's Secretary of Defense, Charles Wilson, put it: "What is good for General Motors, is good for the country."

This belief has the status of a quasi-religious dogma; it stands strong in the minds of the true believers, notwithstanding what practical experience in the real world might tell us. (See my "Good for Each, Bad for All").

Those who are not captivated by the dogma of market absolutism (i.e., most of us), know better. We trust the scientists who tell us that pesticides damage the ecosystem, that CFCs erode the ozone in the stratosphere, that the continuing use of fossil fuels is changing the climate. And we know that smoking causes lung cancer and premature death -- the cigarette packs tell us so, not because the tobacco companies warn us out of a sense of social responsibility, but because the government requires them to print the warnings.

Government regulation, and laws restricting commercial activity, arise, not from dogma, but through accumulated practical experience and political action. As human institutions they are imperfect, which means, to be sure, that they are sometimes excessive. The appropriate response to "insolence of office" is reform, not abolition of the office -- reform through the same processes of practical experience and political action.

As James Galbraith puts it:

"A new spirit of pragmatism surely requires that we discard the metaphor of market determinism -- whole and entire. No more, let us bow and scrape before that altar. Markets have their place -- they are a reasonably open and orderly way to assure the distribution of services and goods. They are not a general formula for the expression of social will and the working out of social problems."

Corporations quite properly work for the stockholders, and private individuals, in their economic activities, work for themselves and their families. But when these corporate interests and private activities cause social harm, who or what is to act in behalf of society -- of all the people?

The solution is the same in all civilized societies: the law and the government that enacts and enforces the law. To be sure, law and government can be despotic and oppressive, and when they are, "it is (the) right, it is (the) duty" of the people "to throw off such government." (The Declaration of Independence). Such "despotism" surely includes the situation that we face today, as the corporations that should be regulated by government, instead have taken control of the government. However, in liberal democratic countries, law and government, unlike private enterprises, are authorized to act in behalf of the public at large. This, the unregulated free market can not do and must not presume to do.

There is nothing new or startling about these political principles. They are enshrined in our founding documents.

We hold these truths to be self-evident: that all men are created equal; that they are endowed by their Creator with certain unalienable Rights; that among these are Life, Liberty, and the pursuit of Happiness. That, to secure these Rights, Governments are instituted among Men, deriving their just powers from the consent of the governed, That, whenever any Form of Government becomes destructive of these ends, it is the Right of the People to alter or to abolish it, and to institute new Government... (Emphasis added).

And note in the Preamble to the Constitution, these enumerated legitimate functions of government: "... establish Justice, insure domestic Tranquility, provide for the common defence, promote the general Welfare, and secure the Blessings of Liberty to ourselves and our Posterity."

And yet, the dogma of the ruling elites would ordain that we put all these founding principles aside, and in matters of public interest and social welfare, "let the market decide."

These individuals have the nerve to call themselves "conservatives."

-- EP

[Dr.Phool]

1. Excellent!!

[Phredicles]

2. I remember someone in the St. Ronnie administration cheerfully saying

there was no need to regulate anything, that if, say, food were causing people to get sick and die, eventually people would stop buying it and the company making the lethal crap would go out of business, and therefore the problem would take care of itself - no need for the government to step in at all!

And yet we're the ones who get stuck with the "ivory tower elitist" label.:eyes:

[EVDebs]

3. When you drown govt in a bathtub and end up with the 'law of the jungle'

You get the survival of the 'fittest', in neocon terms that means the richest. If you don't have that do re mi you don't get nuthin. Social Darwinism. Strange, since conservatives profess not to believe in Darwin's theory.

[Chulanowa]

9. They don't believe in Darwinism, no...

Eugenics is a totally different matter.

Wealth is, to conservatives and especially libertarians, an indicator of human worth. The more money you have, the more you count for as a human being. The homeless, the impoverished, the needy, are not just a social underclass, but are, in fact, a genetic underclass as well. The children of these people do not warrant and certainly don't deserve an education, medical care, or even food and shelter, because they carry the "poor" gene. If they don't like being poisoned by their food, well, they can stop buying food! That'll show "the market!"

On the other hand, the wealthy are far superior human beings. More beautiful, more worthy, more deserving of care. They are encouraged to breed and produce more of themselves, by policies removing any need for them to work, giving them more free time to fuck. These people, through their superior "wealthy" genes contribute enough to society just by existing, the libertarian model goes, that we mustn't burden them with taxes. Their enterprises must be deregulated and ignored by any law or government - after all, their superior humanity comes with unquestionable intelligence and good will.

On the rare (VERY rare) occasion that someone from the underclass actually does manage the feat of bootstrap levitation, they are hailed as peasant heroes by conservatives - who then use that person's case to further justify persecution of the unwashed, inhuman masses, by pressing the myth that anyone and everyone can accomplish this feat, and if you can't, well, there must be something pathetic and wrong with you.

[Demeter]

4. There Isn't Any Such Thing as a Free Market, Not Here Nor Abroad

and if corporations got their way, there'd be no market at all. We'd look like Soviet Russia--shelves of one thing, and not what you wanted, that didn't work or fit or were inedible. And overpriced, to boot. Slave labor, if any. No where to run, nowhere to hide.

[truedelphi]

12. Yep the conservatives that decry welfare for the poor certainly stock up

On funnelling tax policies and corporate privileges over to themselves.

One example: farm subsidies that go to large, corporate-owned farms and to the already wealthy.

(Like Goldie Hawn and her husband getting subsudy monies on their ranchette in one of the mountain states for not growing whatever cash crop would normally be grown there)

Pharmaceutical companies receive governemnet funding to develop life-saving drugs - but still charge the "consumer" who needs them - even though that same consumer has been paying thirty three per cent of his income to the government under the guise of income and Social Security taxes.

Also genetically Modified Foods threaten us with the possiblity that they will mutate one day and none of us will have anything to eat.

[Morgana LaFey]

5. Magnificent. Here's a quote that you'll appreciate

The modern conservative is engaged in one of man's oldest exercises in moral philosophy; that is, the search for a superior moral justification for selfishness. - John Kenneth Galbraith



Ahh, here's one I didn't know I had. Ouch!:

Rats and roaches live under the laws of supply and demand; it is the privelege of human beings to live under the laws of justice and mercy. - Wendell Berry

[Lasher]

7. Here's another:

Supply side economics has never been anyhing more than an attempt to find moral justification in stealing from the poor and giving to the rich. - Me.

[Lasher]

6. Ooooo, lookee here: The benevolent Free Market will save us all

This is what you get when the richest 1% contributes billions to rightwing stink tanks, expecting their resident 'scholars' (hurl chunks) to pimp this snake oil.

[Imperialism Inc.]

8. Externalities

When a transaction between parties has an effect on a third party that isn't a part of the transaction that is called an externality. Standard economic theory only works when there is an assumption of no externalities. Economists are well aware of this. The problem is that externalities completely swamp all markets meaning that markets will never work perfectly as the conservative fantasy maintains. Say I buy some cleaner that poisons the river. Well my neighbor who didn't buy the cleaner has to pay for the dirty river too.

Then there is the problem of hidden or imperfect information. Say you want to make sure and end sweatshops with you purchasing decisions. Well you have to have all the info first which companies do not release willingly.

I'll leave with a couple quotes from 2001 Nobel Prize in Economics winner Joseph Stiglitz.

Whenever there are “externalities”—where the actions of an individual have impacts on others for which they do not pay or for which they are not compensated—markets will not work well. But recent research has shown that these externalities are pervasive, whenever there is imperfect information or imperfect risk markets—that is always.

The real debate today is about finding the right balance between the market and government (and the third “sector”—non-governmental non-profit organizations.) Both are needed. They can each complement each other. This balance will differ from time to time and place to place

http://www.foreignaffairs.org/20051101fareviewessay84612/joseph-e-stiglitz/the-ethical-economist.html

American economists tend to have a strong aversion to advocating government intervention. ...

The intellectual foundations for this presumption are weak. In a market economy with imperfect and asymmetric information and incomplete markets -- which is to say, every market economy -- the reason that Adam Smith's invisible hand is invisible is that it does not exist. Economies are not efficient on their own. This recognition inevitably leads to the conclusion that there is a potentially significant role for government.

[Chulanowa]

10. Free Marketeers remind me of some art teachers I've had

They will show you a smear of paint on canvass, that looks for all the world like cat vomit, and will heap praise upon its artistics value simply because it's painted by Willem de Kooning.



Oh yeah, that's talent. They will lavish glories and praise upon pieces such as this, and other modernist stick-figures, blotches, and squares on canvas, describing, in absolute detail, the "torments and glories" the piece represents. They turn a glob of acrylic on sailcloth into an orgiastic psychological evaluation. If you can't see the genius, the shining beauty of the work, well, you're strange, defective, and stupid. Meanwhile, realist paintings, such as those by Frederick Leighton's Pavonia are derided, mocked, and thrown away as artistically worthless

In economics class, you hear nothing but free market and unrestrained capitalism. You are told that these are the only ways that an economy can work. Socialism is evil, communism is doubleplusevil! Any hint of welfare, regulation, or taxation renders a society corrupt and impotent and shatters the free will of mankind. Economics classes have actually turned into a quasireligious program, where rather than studying systems of trade, you are being indoctrinated into the moral following of the one, true god and his invisible hand. If you can see that unrestrained capitalism is unhealthy and harmful to society, if you can notice that free market policies disrupt social fabrics and undermine the economy itself, you are derided as weird, corrupt, and inhuman.

So why are these two subjects so dismissive of anything but what they consider the only correct choice? Because the people teaching it were in the same classes, hearing the same arguments - If you can't "understand" a Picasso, you're an imbecile. If Ayn Rand doesn't seem that smart to you, you're subhuman. Eventually the students will convince themselves that the emperor is, in fact, clad in a dazzling array of garments and will swallow what their teacher coughs up, just to get through hte class with grades and ego intact. Once so conditioned, many of them will more or less force themselves to continue the belief in order to deny hte fact that they have, in fact, been had.

[dfgrbac]

11. In other words, it's a failure of capitalism.

Most people do realize that corporations rule our lives, but most of them do not know the extent to which this is true. Time is revealing much. More information such as The Rise of Corporations continues to come forth. The introduction to this article states:

Today we know that corporations, for good or bad, are major influences on our lives. For example, of the 100 largest economies in the world, 51 are corporations while only 49 are countries, based on a comparison of corporate sales and country GDPs (See the facts page for more examples). In this era of globalization, marginalized people are becoming especially angry at the motives of multinational corporations, and corporate-led globalization is being met with increasing protest and resistance (terrorism?). How did corporations ever get such power in the first place?

It is worth the time to understand all this if we want any say in our futures - don't you think?

[loudsue]

13. EXCELLENT and informative thread!!! I wish this was in GD:Politics

so that more people would read this. I'd recommend it, but I'm a day late....

:kick::kick::kick:

[Karenina]

14. I, like you will therefore

:kick::kick::kick:

[Uncle Joe]

15. Kicked, too late to recommend.

Thank you for the thread CrisisPapers.