Month: October 2014

The Trouble With “Good” Regulation

When I talk about the dangers of business regulation (as I do incessantly), the dangers of giving a panel of human beings, flawed like the rest of us, the power to create and enforce arbitrary rules and standards within an industry, people tend to assume that I’m going to focus not on “proper” regulation, but its corrupt, human, flawed manifestation in the real world.

The expected argument goes something like this:

We can’t expect people, including regulators, not to act in their own self-interest. If we grant government agencies the special power to regulate businesses, the biggest and most powerful businesses will inevitably find ways to use their wealth to influence those regulatory agencies. In one way or another, the given regulatory agency will become no more than a puppet for the industry’s big wigs. As a result, the very agencies designed to prevent huge companies from using their size and influence at others’ expense will end up granting the wealthiest companies more power and freedom than the free market ever could. Thus, if our goal is to curb the power of big businesses, we’d be better off without the regulatory agencies in the first place.

There is a lot of truth to this.

Anyone who has spent any time thinking about regulatory power, or merely observed the government commissions that exercise that power, is forced to acknowledge the risk of abuse and corruption. In case you don’t know what I’m talking about, I’ve linked some articles below. Honestly, though, this stuff isn’t that difficult to find, people:

The Federal Aviation Agency

The Food and Drug Administration

The Federal Reserve Bank of New York

The Securities and Exchange Commission

The Federal Communications Commission

The list goes on…

big_pharma_600

Although I firmly believe that the plethora of incriminating evidence within reach is more than enough for a nation to conclude that regulation is a dangerous game, there is more to the story. In fact, the above isn’t an argument against regulation per se, but some bastardized version of it: regulatory capturecrony capitalism. And to focus solely on the obvious problems with corrupt regulation shifts attention away from the less obvious problems with “good” regulation, thereby perpetuating the flawed worldview that the only problem with giving such regulatory power to select members of society is that we continually select the wrong members. If we could but find virtuous enough people to put in charge, or sufficiently regulate the regulators, and sufficiently regulate those who regulate the regulators etc….regulation would be beneficial for society—or so it is often thought.

Let us dispel of that notion by considering the ideal: a virtuous, wise, even-handed regulator, immune to temptation, regulating for the common people.

Even if we assume that regulators are not being bought out, even if we assume that governing agencies are not simply an extension of the big businesses they “regulate,” regulations, somewhat ironically, still grant more power, and freedom to big businesses than the free market ever could.

How? Well, by raising market barriers.

Natural barriers exists to varying degrees in every market. Selling something requires having something to sell. Would you like to get into the lemonade industry? Well, at the very least, you will need some lemonade. If you want to sell homemade lemonade, you’ll need lemons, water, sugar, probably some ice, cups, etc… Given the availability and price of these ingredients, these barriers are not insurmountable for most people, and lemonade is not (naturally) a very difficult market to enter. Some industries have much larger natural barriers. For example, if you’d like to become an automobile manufacturer, you will likely need a lot of very expensive equipment, skilled laborers, etc… To enter such an industry requires much more than the lemonade industry, which is probably why there are more lemonade stands with six-year-old CEOs decorating the sidewalk in your neighborhood than auto-manufacturers.

LemonadeStand

Obviously, the larger the barriers to the market, the more difficult it is to enter it.

Simply put, regulations add to these barriers. Whatever barriers to a given market exist naturally, regulations increase. For instance, if the government decides that a permit is required to sell lemonade, the cost barriers to the lemonade industry increase by the amount of time, money, difficulty it takes to acquire such a permit. Whatever it cost to set up a lemonade shop before, it costs more now.

Imagine that barriers to the market form a literal wall around an industry. The wall exists at varying heights naturally in every market. Every new regulation is an additional brick in that wall (or in many cases a whole layer of bricks). An astute observer would be right to say that, with each additional brick, the businesses within are more assuredly contained and restricted as intended. The problem, of course, is that walls work in both directions. It is impossible to build an effective enclosure that isn’t also a fortress. If the wall is strong enough to restrict big businesses within, it is most certainly strong enough to keep smaller, not-yet-in-existence businesses out.

 brick-wall-square-hi

^My Photoshop Skills Though^

Why is this a problem? How many lemonade salesmen do we really need? Aren’t a few companies in a particular industry sufficient to satisfy the needs of society? Maybe. The problem is not that regulations reduce the amount of lemonade at our disposal, but that they reduce the possibility, and therefore the threat, of competition.

And competition, whether we like it or not, is the most effective weapon against poor business behavior that we have in our arsenal.

In a market where businesses must compete with each other for customers, one business’s poor behavior is everyone else’s business opportunity. If one business is overcharging or under-performing, another business, or observant entrepreneur can profit by charging less or performing better. The lower the barriers to the market, the faster and more easily this can occur. Truly, this is how most business behavior is effectively “regulated”—not by government mandate or decree, but by competition. Businesses behave best in the markets that can most easily replace them.

Let me be clear: I am not suggesting that the unregulated market has no problems, only that regulations make its problems worse.  As mentioned, barriers exist naturally; regulations, no matter what they entail, no matter how well-intentioned they are, or how virtuously they are enforced, add to them, thereby decreasing the threat of competition. Thus, while some regulations may be marginally effective tools against specific areas of bad business, they also fundamentally undermine a tool that is far, far more effective. This is kind of like disassembling a gun in order to chuck bullets and metal chunks at an attacker. Sure, you might hit him, maybe even injure him, but you also don’t have a gun anymore.

Regulation, then, is the disease for which it claims to be the cure: taxpayer-financed protection of big businesses, sustaining monopolies in its attempt to control them. Efforts to protect people from the threat of big business end up destroying the thing that works most effectively against them.