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Saturday, 26 May 2012

Government failure is not an excuse for more privatization

According to the Institute of Public Affairs's article Behavioural Economics: An Excuse to Tax and Regulate, claiming that free markets are inefficient because people are irrational does not give an excuse for government to intervene because bureaucrats are also irrational people. According to IPA, there may be market failure, but there is also government failure. IPA states the following:

Cooper and Kovacic argue that the bureaucrats who regulate those decisions are likely to have biases that undermine the effectiveness of government intervention.
Regulators are like the rest of us. They are over-confident, thinking they can understand complex behaviour. Hindsight bias leads them to believe events are more predictable than they are. And, unsurprisingly, they are driven by action bias - a tendency to favour interventionist solutions when faced with a problem.
In fact, regulatory biases could be worse than market ones. Behavioural economics tells us that irrationality is everywhere. But the marketplace provides firms and consumers with instant or near-instant feedback. In a competitive market, psychological bias can lead to failure or loss of market-share. With such feedback, market participants will change their actions. Make a mistake, lose money... do better next time.
This is a fair argument. It is true that bureaucrats are far from perfect. But government failure is not really the product of irrational behaviour. Rather, government failure is usually the product of rational behaviour. In a free market capitalist system, what tends to happen is that a very wealthy class or merchants or capitalists emerge. This is what happened during the Industrial Revolution in Britain when a class of merchants started to challenge the power of the aristocracy or gentry. When a powerful class of capitalists emerge, they tend to influence government. Given that bureaucrats and politicians are rational self-interested people, they are also corrupt and accept benefits from wealthy capitalists. Hence free markets are not really the answer to government failure. Free markets only exacerbate government failure as free markets lead to wealth concentration in the hands of capitalists and this in turn leads to corruption and government failure.

The answer to government failure is democracy. The way to make sure that governments don't always give in to the demands of capitalists is to try to force them to give in to the demands of the people, e.g. by members of the public demanding action from their representatives and voting according to what they want. It may be true that the demands of the people can lead to economic inefficiency, e.g. trade unions, welfare, and so forth are all economically inefficient according to mainstream economic textbooks, but these policies protect the people and if the people do not demand it then the government will simply give in to the demands of capitalists and what capitalists want (i.e. a monopoly for their businesses) is also inefficient. In other words, economic inefficiency will always exist because government officials are rational. They will auction off their position to the highest bidder. The best fairest outcome occurs when what government can give (i.e. the funds from taxation revenue) is distributed more or less equally.

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