I'm surprised I never saw this thread. Or maybe I've been too busy, I can't be assed to remember. Anyways.
Great topic indeed. And hopefully the debate will be centered around providing a basis behind your beliefs instead of just stating it
Well you have to realize a great deal of economics/finance is nowhere
near a science as physics or even biology is; heck, all academic research, sans very lucky statistical surveys, are really nothing more than "ceteris paribus" propositions.
With that in mind, it's a little unfair to ask for "evidence" in the same sense we ask of physical problems.
Not that I advocate just throwing around opinions; that's not even wrong, it's just plain boring.
How free a market should be is like asking 'How free should a human be?' The answer is pretty obvious - Completely free UNTIL your freedom affects someone else negatively.
Except it's not really the same question at all. A single agent is easy to deal with since you have a single understanding of the environment and the needs of the agent--behavior can be reasonably modeled.
In a multi-agent system as complex as society, though, outcomes are dynamic and there are multiple layers of action/reaction/learning problems that are not trivial to model.
It's easy to say "a person won't take X action because it causes an unwanted outcome based on the matrix of world states." It's not trivial to say "the group of N agents won't take on this behavior because you'll have X reactions which are bad for individuals," since you don't know if that's bad for a set of individuals.
Externalities, defections, and free riding are pretty much real life examples of second order effects of decision problems in multi-agent systems.
Which leads me to the next point. . .
The state has a very important role - that is to protect individuals from those who would violate their freedoms (murder,rape, theft and such).
Similarly the state has a very important economic role - to protect marketplace behavior that would violate free choice of people in what products they choose.
. . . here.
Notice how there isn't anywhere near the amount of debate in terms of the first role, versus the second role.
For example, misrepresenting a product is a behavior that prevents a market from functioning properly - in this case, consumers are buying something without properly knowing what it (like obamacare lol).
Information asymmetry is inherent in practically every market context there is, market dominated or government dominated. If you're implying here that the government should aid in expanding transparency and information availability, then you're right, and that's the point of much of government regulation (see, for example, reporting standards for businesses, Sarbanes-Oxley/SEC filings).
On the other hand, there is a real cost to providing information to the public, even if it makes sense from the market efficiency perspective. There is great debate over reducing paperwork/reporting standards for the sake of spurring activity in small businesses.
In the same light, the market has a few incentives, on the other hand, to do this anyway. Standardization, for example, of products reduces the need for information (everyone knows they can rely on a particular design/implementation they're buying into), and increases liquidity. On the other hand, specialization usually has more value/profit, which encourages businesses to not standardize and risk that loss of information accessibility--this is true for financial products and more technologically advanced products (pharma!).
Some would claim that it is the responsibility of the consumer to enforce information symmetry--but that too is a cost of resources which (and they do) many choose to forgo for the sake of doing something else more worthwhile (research is no free lunch).
In that case, government enforced reported is a genuine value to the market and eases liquidity in transactions by reducing prior research.
In any case, where to draw the line is not obvious and is a legitimate question, moral questions be damned.
In these cases, the government has the power of levying a tax to discourage negative behavior. For example, the government can tax cigarettes because the true cost of the cigarette isn't calculable easily and it has negative affects on others as well. So an added tax on cigarettes discourages cigarette use.
Even this isn't clear cut, however. There is legitimate reason to encourage corrective actions where a tangible negative impact is observed--but it cannot control what consequences such action may have. There is always a probability of failure in terms of correcting and externality by generating another externality. This is something people often forget, and then blame the government for screwing up the market in the first place.
But does that imply that the government shouldn't
try? Is there a way to quantify risk of risk? Nope.
However, if a state begins to regulate markets through price fixing (excess taxes and subsidies) or supply control (over regulation), or through demand control (mandating purchase of car/health insurance for example), it makes the markets inefficient, because the true cost of the product now has to account for the invisible government requirements. For example, government regulations require about $900-$1500 worth of extra equipment in each car. Even though we don't consider this a tax, this means every consumer has to pay more for a product.
Excess taxing =/= price fixing. Subsidies are more interesting, since they do have their benefits but are very time and place dependent (usually in the outset of an industry or business cycle).
Granted, regulation may impose hidden costs, but it goes back to what I said before--correcting externalities often causes other externalities. You end up with a price hike, BUT you correct the externality of having, for example, city pollution. You have to make the decision of what's a better relative value, and that's not easy most of the time.
Likewise helping information transparency/availability may affect demand and/or supply--another externality from correcting an externality.
Does this mean we should throw out the government function? No, but it certainly makes the complaints of government policies very annoying, when they don't realize how ubiquitous these types of situations are.
Overall, the state has a very important role - which is to allow a marketplace where individuals (businesses) can trade products and services without fear and with reasonable assurance of good behavior.
So long as we all agree what is "good behavior" for "everyone", then yes. Pretty simple.
The state's role is NOT to determine what product is good, what it should cost, how it should be distributed, who should purchase it, and who should manufacture it. All of these are functions of individuals in the marketplace
Why not? The Surgeon General has to decide if cigarettes are healthy or bad for public health. It's not as if they're making an arbitrary choice, but rather one backed by research; there's also no difference (in theory) between government and private research on the same topic.
Now, if you mean the conventional "choosing" winners topic? It already does for some things, such as auctioning, say, airwaves and/or public projects. Granted you'll argue that's a market anyway, but it's still "choosing" based upon the data of who is better. Again, a kind of research.
A grayer area would be subsidies for solar companies (Solyndra~). This type of activity may seem shoddy on the surface, but really the problems inherent in helping companies in this is lack of tangible research and reason to support them in the first place. The government has no idea how successful these companies can be (no market to show them how good GE compares with, say, Solyndra).
On the other hand, the ethical argument that supporting green technology is almost a necessity comes into a huge problem--belief in information. Is global warming really an inevitability that requires a drastic change in resource useage? Suppose this was true. Then the government has a conceivable case for supporting the death of some harmful industries (coal, for example) and the birth of more beneficial ones (solar, wind, renewables). If not, it's clearly causing damage to society. This ethical argument is similar to that of cigarettes.
But faith in the scientific theories of climate change is highly volatile, which causes some to view support to green companies as a quasi-religious folly. However, barring this, the motivations are still essentially the same as that of taxing the hell out of alcohol and cigarettes--they present a tangible damage to society.
Now, choosing out of the blue? Yeah, that's pretty bad.
Care to explain why you believe this total fabrication? US has been around 300 years. I don't see just one store. I see Walmart, Target, Krogers, HEB and others competing within a mile of each other.
Standard Oil, Carnegie's empire (forget what his steel/rail stuff was called), JP Morgan, all classic examples of individuals and companies that have inexorable influence over the market--essentially monopoly/oligopoly. Those naturally do tend to exist, and understandably so, since not every entrepreneur is scrupulous nor as clever as others.
Sometimes not everyone naturally wins. Natural selection does not have an inbuilt mechanism guaranteeing fairness. At all.
What you illustrated in that post was not "market failure." Passingby beat me to the issue of public commodity, which, if I recall correctly, he had used in responding to your original post.
Technically it is a market failure, since it's a product that cannot be reasonably priced nor a natural and sustainable state of supply and demand be maintained without outside support.
Also, onto the conventional understanding of "market failure," here are two inherently moral questions which no one has ever been able to provide a concrete answer to: What quantitative value defines a "market failure" which justifies government intervention?
There isn't, but there are measures. Price elasticity, liquidity, Pareto Efficiency, Purchasing power parity (on the international scale), trade imbalances, inflation, etc. They're not all encompassing, but then here's my essential and simple retort to all that philosophical jazz:
So the hell what?
Just because I don't have evidence that cigarettes causes cancer 100% of the time in a concrete set of circumstances doesn't mean I shouldn't do something about the more probable than not negative effects of smoking. Just because something causes an externality 60% of the time doesn't mean nobody shouldn't address it.
We don't live in a world of perfection or absolutes, and never will.
What quantitative model is used in deciding the level of government intrusion?
There are economic models of supply/demand, agent based simulations, and the like, to figure out what a policy would do to a "rational" market. Perfect? Nope. But again, so what? Just means you have to be careful, not prohibitive.
None exist. The reason "failures" are so common is due to frequent government intervention to begin with. intervention in one crisis leads to the inevitable resurfacing of another "problem" somewhere else in the market. Market efficiency can only be optimal if it is left to self-regulate.
That's a fantastic logical leap of faith. "I don't know if you're 100% right, so I'll assume everything is your fault anyway". But never mind how unqualified the statement is as a hypothesis (I have yet to see a fancy "encyclopedia of what every government has ever done, ever, and how every time they goddamn fail" book or PDF. It'd be nice if you could share it).
Markets, by themselves, don't work perfectly with everybody winning except in small communities with homogenous populations. And not all the time, either.
A true free market does guarantee services of all kinds being available to individuals of all socioeconomic status, while not relying on force and burden upon other individuals. The implementation of morally upright social responsibility does not entail theft, of which the current model of welfare does, and it's still inefficient to an incredible degree.
There's a huge caveat to the first line--services and products are guaranteed IF there's a critical mass of support for it in the first place. Nobody's going to research a drug for a rare disease if nobody's going to buy it, or if the only ones who need to buy it can't afford it anyway. That's rational.
Sure it's inefficient, but it still fills a gap that hasn't been universally filled. Until that happens, there's no reason to scrap it.
There are only two things that guarantee efficiency in offering a product or service: Profit motive and/or genuine compassion.
Not always. Profit motive might motivate me to innovate and present some fancy functionality to my customer, but it might also encourage me to only research something that has a visible benefit, rather than a delayed, more beneficial benefit (food, pharma are fantastic examples). Profit motive also doesn't motivate me to be very meticulous if I can get away with it.
Essentially, profit motive works if have a decent understanding of the product need/service in the first place, which doesn't always exist. This may or may not encourage government intervention (encouragement of education and general scientific research), but it's still a point worth mentioning.
I think that the main argument that can be made against government intervention is that it can often be ineffective due to information lags and demand/supply inelasticity. Some tools are of course better than others, repo rates, open market transactions and quantitative easing have all been proven to be beneficial to various economies. Even tariffs can help industry grow so long as they are low enough to still promote competitiveness. Other tools such as price ceilings and minimum wages seem appealing from an ethical point of view but from an economic perspective they hamper the market and I feel should be only employed if economic conditions allow it.
Information lags are a huge problem, and time is always a devil in every policy implementation. You might have the best theoretical response to a particular situation, but mistiming can always screw you to hell.
And, as I said and emphasized before, all economics is done "ceteris paribus", or "all else held equal", which happens exactly 0% of the time in the real world.
As my professor would say, "all of the models I'm going to teach you are wrong." From the purists' standpoint, all economists, planners, and policy makers are forever and ineluctably wrong. But, again, who cares? 70% effectiveness is worth the effort.
Interest is profit made at a no-risk venture, which is inherently against the nature of free trade and thus, outright immoral. The mere concept of interest contradicts the very definition of currency, as interest is sought by the lender for attempting to offer currency as a product/service. Also, interest causes inflation, which creates the necessity of a central bank to control said inflation, thus creating the cyclical problem.
All non-profit loans and investments should be either charity or venture capital.
I don't see why interest is "no risk". For one, you have opportunity costs--borrowing you a hundred dollars for a month at 1% might be a bad move if there are other opportunities for investment arising tomorrow, or even something like a great deal on a product I might like, for example. That's something that every investment of any kind entails, by definition. Still no free lunch.
Currency is a commodity, though. The act of trading isn't "free" from the economic perspective, since I have the option of consumption or choosing another
counterparty to trade with, the decision of trading with you specifically isn't free. Incentives can change, and that's the point of interest rates.
You also have time value--I can invest in your project, but waiting 5 years is a long time, and I'm going to need compensation for that--that's where interest comes in.
I have a city that is a great investment opportunity (suppose for the moment that that's true), but nobody wants to bother researching and/or believing a local's words. What do I do? Sweeten the incentive, knowing that it costs me/the city, but that the trade off incurs incoming trade, which is beneficial for me/city.
Conversely, as an investor, I might not have an idea of what the risk in investing in your city is. I can either take that leap of faith and invest, not invest (safe choice), or invest with some compensation for that inherent risk of lack of established credibility. Interest is a market measure of risk.
Inflation is a problem, but it's not solely motivated by interest rates.
You are confusing immoral actions (which are punished by the market and the court system) with true market failure.
Semantics, and not true in practice. Immoral behaviors can often be taken as "the norm" in a whole industry (or at least the majority). Underhanded tactics have been in use since the dawn of industrialization, and that's normal in a market society. Most of them aren't a priori "bad", either.
You realize that the banking system is the mess it is precisely because the govt forced banks to lend money to people who could never pay it back?
That's false. There were incentives to increase loans by providing subsidies and lowering credit standards, but that doesn't explain the phenomena of CDO^2's or NINJA loans--those were purely the "dancing to the music" of investment and commercial banks. None of that was "forced", but rather a very clever abuse of a faulty policy--huge difference.
There are some cases where the gov't actively sued banks to force lower standards, but it was not universal in the industry, nor does it, again, explain anywhere near the horrific cycle of CDO's and MBS's. Wall St. was definitely the main instigator there, with the government playing a deadly tag team player (though you might have a point with the GSE's).
In reality, what we need with the banking system is not regulation, but rather transparency and lack of govt bailouts.
Different issues altogether. You need
regulation in order to have transparency (at least in practice). For all the complaining that the USA has the worst paperwork in terms of compliance in the world, the USA is also the most transparent financial market in the world, period. There is NOTHING else in the world that compares to the amount of information I can get from ANY publicly traded company from a simple search on the SEC's EDGAR databse. Nothing.
See, if banks are worried about losses, they invest carefully, lend carefully, and spend carefully. But the govt. came in and said that they would 'guarantee' that banks would not lose money, not matter how bad the investments. This results in risk-taking behavior (investing in risky companies, or lending to people who can't pay money back). If anything, banking is a GREAT example of exactly why govt. shouldn't be allowed to dictate the policies and management by businesses.
No, this is a great example of what happens when a policy screws up incentives. It doesn't generalize to banning gov't from influencing incentives and management policies (which include transparency, which I've already shown is not a trivial issue) altogether. No dice.
We have immense evidence that majority of govt intervention in the economy results in creation of monopolies, loss of efficiency, growth of corruption, and high taxes/costs on the consumer. In fact the best fiscal policy for the govt is to stay out of the marketplace and only exercise subsidizing and taxation extremely cautiously to encourage and discourage certain behaviour (like my example with cigarette).
Except past results do not guarantee future performance. You point out cigarettes as a valid and proper use of government influence upon incentives (and dealing externalities) but you bash EPA and pollution intervention upon car and industry, when essentially they're the same--the only difference is that you have a lesser degree of faith in what the medical community has to say about cigarette effects, versus climate science, and the scale of the problem.
I also think you're ignoring a very important point - there is no such thing as 'business' or 'government'. In the end they are all people. When there is some wrongdoing (like threat to national security or false advertising), there are PEOPLE responsible for those things. It's a case of an individual breaking the moral code of the free market - that's why we punish them! The laws don't come from the government, but rather the government creates laws that align with our moral understandings of the market. This is why the US constitution highlights that the rights we have don't come from the government, but rather are intrinsic to us and come from God.
Except people don't quite understand how people work in aggregate. That's why both businesses and government fail all the time. Imperfect world, with imperfect plans, with imperfect results and imperfect bitching and complaints.
We're not even sure if God exists or not, and yet we claim it as a basis for such a important ethical and legal concept as human rights!
(Partially sarcastic here, but I do enjoy killing the simplifications people have~).
Market failure is the situation where the free market price system fails to price a product in relation to its supply and demand. This CAN happen, but is rare, and usually easily fixed with common sense.
Not at all. "Fair price" of a product is one of the most dubious concepts in all of economics. Even the definition of equilibrium price from supply/demand isn't agreed upon by everyone, not to mention that estimating proper supply/demand curves is a supremely dynamic process that modelling is impossible to do without lagging the actual happening.
Also, one word: Arbitrage. We're taught that arbitrage happens rarely and is quickly eliminated in financial markets (the basic premise of the Efficient Market Hypothesis--which, by the way, most practitioners laugh at, and most academics realize is false empirically, whatever the Chicago school says be damned), but in reality it's the reason why hedge funds, mutual funds, and traders still have jobs, and why indexes will never be the only worthwhile investment vehicle.
So no, it's not "rare", we just simply don't see it in the news all the time.
The fix to market failure:
Time. Not government. Over time, the price in the market adjusts to reflect what people value. The reason crime reduces property value is that people, in general, want to be in a crime free area. Given enough time, people with capital will either move away or will work to eliminate the crime, which will increase the property values, or in case they leave, will reduce the value even more.
There's a joke about two economists. One sees a dollar on the ground and tells the other economist. The other one denies it and says, "that's impossible, if there was a free dollar on the ground, it would've been picked up already. Efficient markets!"
Get it, Get it?
In any case, the point is that "time" itself isn't sufficient. You need people to figure out that there's a problem, and often it takes somebody to notice this (this might be government, it might be businesses, or people in general).
(Really this was an excuse to include that horrible joke
Now, I have eliminated the 'risk', so you will give the money to the drunk. This is what the banks did, lost a bunch of money, and the govt. bailed them out. Remember majority of these loans were vetted through Freddie and Sallie's guidelines.
There's a caveat to this: originally Fannie and Freddie only accepted investment grade MBS's, which implicitly meant that borrowing was in a way subsidized but with a sensitivity to risk (which, I might add, is defined by the fault system of the credit rating agencies).
The FED is a massive topic unto itself and the fractional reserve banking system would take a whole other debate to get through
And I'll be the first to say that not having a heavily restricted but effective central banking system of some kind is folly~
The risk in interest is governed by law, not the free market. A borrower is legally bound to give interest back due to contract obligations at the threat of legal punishment. This enforcement renders risk in interest to be either low or nonexistent.
Trade contracts are also enforced by law, no? There's no guarantee that I need to follow through on my agreement with you if I know that I can just as well rob you without the presence of a covenant enforcer. This really isn't debatable.
Also, interest is not that great of a consolation if you lose most of the principal. Risk still exists.
What people dub 'greed' was decisions made at no-risk ventures with a guaranteed profit, which is contradictory to the nature of the free market. Banks expected its borrowers to pay back their loans, and thus were indiscriminate in lending them out, giving little regard for credit rating. Banks did not invest in its borrowers ability to pay them back, they outright obligated them to pay them back interest.
Again false and overestimating the compensatory power of interest rates. Defaulting on a loan is certainly NOT okay even if you get your interest back. And, in reality, if you don't have collateral, you're probably not going to get back even the interest.
And, further, banks continued the cycle of producing loans mostly because of the profits that came from the derivative products they sold on those mortgages: MBS's, CDO's, CDO^2's, etc.
Of course, this is all barring the lack of human compassion.
Read: emotion. Which economists are finally realizing is one of the most important factors in economics and finance, ever.
There hasn't been a single truly consistent economic model proposed ever that would quantify a market failure. Yes, it's quite obvious to see when an industry or market is suffering, but not a single legitimate benchmark that justifies government intervention, let alone one that explains just how much government should intervene.
And this is enough reason to just take for granted that the markets always and inevitably "work"? The argument of lack of quantitative modeling goes both ways, bro.
Why not? You want to go back to the days where we had lead in our gas?
Thanks to imprecise definitions, the mere categorization of goods through property rights is debatable, which leads to inevitable exploitation.
Statistical pattern recognition and classification all the way~
Oh, and regarding monopolies: Many people mistakenly understand competition to be constrained within divergence parameters by the structure of a market whose competitors possess absolute knowledge. In reality, no knowledge regarding a business venture in an industry (for ex. the science of product quality, here being a common good) is absolute, and they are all subject to rivalrous behavior, which promote new ways at attempting to find alternatives. This is why the formation of monopolies is almost impossible, especially in today's information age.
All this tells me is that during a time when information availability was scarce, government intervention preventing monopolies is probably a good idea, but in an age of info abundance, it's probably not worth it.
Key word probable, as collusion is always an open possibility for rational market players.
(Apologies for the text wall, a lot of the posts I simply couldn't leave untouched
Edited by m1hawkgsm, 19 February 2014 - 03:11 AM.