Both theory and history indicate that government management of resources leads to waste and even absurdity
by Robert P. Murphy
People often
lament the waste, corruption, and downright absurdities of government
enterprises, wondering why they can't be "run like a business." Yet
economic theory shows that this is no mere accident: Serious institutional
differences make government officials much less efficient at managing scarce
resources than their private-sector counterparts. We can see these theoretical
lessons illustrated in numerous examples spanning a wide range of industries.
This evidence should place a prima facie hurdle in the spread of government
intervention into new sectors, such as health insurance.
Government
versus Private Resource Management: The Theory
According to a
common but naïve worldview, there are objective, well-known techniques for
producing various goods and services, and the consumer preferences regarding
these outputs are also common knowledge. In such a worldview—which even many
professional economists, in discussing policy, seem to hold—it seems only
natural to conclude that government officials could improve upon the
decentralized market outcome. After all, the government has access to the same
"production function" as private firms, and if it decides to be the
monopoly producer of a good or service, it can avoid wasteful advertising
expenses and other redundancies. Such arguments were behind the proposals for
outright "market socialism" in the era between World Wars I and II,
and, to this day, they guide recommendations for heavy government regulation of
"natural monopolies" such as utilities.1
However,
more-practical economists recognize the limits of their textbook diagrams with
elegant marginal revenue and marginal cost curves. In reality, we operate in a
world of uncertainty. The "least cost" method of producing a good or
service is never obvious, nor is what consumers will be willing to pay for
various items. In a famous lecture, "Competition as a Discovery
Procedure," Friedrich Hayek explained
how markets in the real world stumble upon this hidden knowledge.2 Various
people with access to different information make piecemeal discoveries and
constantly modify their operations accordingly; they receive feedback from
market prices in the form of profit or loss. Firms mimic particularly
profitable innovations, and if a firm does not adapt quickly enough, it will go
out of business. Hayek thus viewed competition as aprocess rather
than a condition or end-state. The state of "perfect
competition" described in the textbooks—which includes the property that
all firms in an industry use the identical "least-cost" method of
production—is actually something that would emerge over time only because of
the competitive rivalry between the firms, and only if the conditions in the
real world remained static long enough for all firms to fully adapt.
From this
Hayekian perspective, we have little reason to expect government provision of a
good or service to reduce costs, if only because such an institutional
arrangement limits the number of minds brainstorming on how to
cut costs. Under competitive free entry into an industry, and even into a
"natural monopoly," an outsider always has the freedom to supplant
the established firms if he or she comes up with a new, cost-saving idea. Thus,
in principle, the entire society contributes to solving the problem of
minimizing costs in the particular industry.
In contrast,
with government provision (or government anointment of one firm as a regulated
monopolist), there may be only a few people who can contribute to cost-saving
innovations. This insight provides a strong reason to expect government-managed
enterprises to have higher costs of operation than a private-sector firm would
have—out of sheer ignorance. In this view, government officials waste money and
offer shoddy output relative to private managers, simply because they don't
know any better.
Beyond these
subtle problems of knowledge is the stark issue of incentives. If a government
enterprise is funded through tax dollars, it does not face the same market test
as a genuinely private business. The problem is all the more severe if the
government grants an outright monopoly to the enterprise. The bureaucrats
running it have little reason to cut costs or to please their
"customers" if they receive a guaranteed level of funding regardless
of their outcomes. In an extra twist of perversion, when a government agency
botches its job, it often receives more funding. In this view,
government officials waste money and offer shoddy output simply because they
can..
In the next
section, where we turn to real-world examples, a key theme is that political
managers often set the price of a good or service below the market-clearing
level. The insights of the Public Choice School explain this pattern.
Government managers, especially in Western democracies, cannot personally keep
the extra revenues from charging a higher price. Those who tried to do so would
be thought of as thieves. However, the various government officials involved
with the enterprise can curry favor with the customers of the good or service
who receive it at a discount.Armen Alchian and
William Allen memorably illustrated this phenomenon with the case of organizers
of the Rose Bowl, who sold tickets at prices at well below what the market
would bear because, unable to pocket the revenues personally, they could at
least bestow valuable gifts on favored recipients.
A second,
related theme running throughout our real-world examples is the arbitrary
restrictions that officials place on the use of a government-provided good or
service. Again, institutional differences explain this striking result. From
the perspective of government managers, a higher demand for their product is
generally cause for misery. In contrast, private owners jump for joy when
customers line up for their product, and they take steps to cater to the
increased demand. Murray Rothbard pointed out that by separating payment from
service, government enterprises end up treating the consumer "like an
unwelcome intruder, an interference in the quiet enjoyment by the bureaucrat of
his steady income."3
Armed with these
theoretical insights, we can see the drawbacks in government-run enterprises
through many real-world examples.
Government
versus Private Resource Management: The Examples
Roads
Even though most
people view roads as a resource that "obviously" should be managed by
government, this is an area where government control causes an enormous amount
of waste and even death.
For the reasons
described earlier, governments typically charge below-market prices to
consumers. This rule holds for roads controlled by governments. Especially
during morning and evening rush hours in major cities, it is obvious that the
monetary price for using the roads in question (which is often zero) is below
the level that would equate quantity supplied with quantity demanded. (Note
that what is being sold is not "a road" but, rather, "use of the
road.")
In other words, traffic
jams are not a feature of road usage per se; they are largely the
creation of government. We already see timid steps in the right direction, with
government-set tolls varying according to the time of day. Yet if the roads,
bridges, and tunnels were privately owned, and the owners were free to charge
"what the market would bear," the peak prices—at least initially,
when dealing with the same infrastructure—would likely be much higher. It is
true that the owners of the infrastructure would reap large revenues in such a
setting, but these very revenues would prompt them, or competitors, to build
other roads or alternate methods of transportation.
The forfeited
resources to society caused by government ownership of roads are staggering.
According to the Texas A&M Transportation Institute, traffic congestion in
the U.S. wasted $121 billion in fuel and time in 2011.4 For those
concerned about greenhouse gas emissions, the daily traffic jams should be even
more alarming.
Beyond
underpricing of roads, government ownership also causes more traffic fatalities
than would occur with privately owned competing roads. For example, a few years
ago, State Farm Insurance declared an intersection in Pembrook Pines, Florida
to be the most dangerous in the nation (during the period 1999-2000), with an
accident occurring every other day. Yet rather than dealing with this enormous
problem for their "customers," a Florida Transportation Department spokesman
told USA Today that there "are 36 million cars on [the
intersection] every year" and, consequently, "[s]ome accidents are
inevitable."5
In 2012, there were
almost 34,000 traffic fatalities in the United States.6 As Walter
Block has pointed out, if this number of deaths were due to a privately
produced good or service, there would be a national outcry for an immediate
government investigation.7Yet since these
deaths occur at the hands of government, they are attributed to "driver
error," drunk driving, and other "blame-the-victim" excuses.
Water
Especially
during the summer months, certain cities are hit with drought conditions. The
problem is just another example of underpricing a critical
resource—in this case, water. When the supply falls and the demand increases,
the obvious response should be a substantial increase in the price per unit.
This would "ration" the available quantities for the most urgent uses
and give outsiders an incentive to ship in more water.
Alas,
governments typically do not follow this path. Instead they maintain the
"normal" price of water and urge the public to conserve. Here, the
difference between government and private management is obvious: While the government
browbeats the public for "inappropriate" uses of water from the tap,
there is no problem obtaining bottled water at the grocery store.
Nestle, Dasani, and Poland Spring are overjoyed when it's hot and their
customers increase purchases. Their attitude, to adapt the Doritos slogan, is:
Drink all you want; we'll bottle more.
When I was in
grad school, I experienced the extremes of the central-planner mentality.
During early 2002, historically low rainfall levels led New York City officials
to issue a "Drought Management Plan," which specified the conditions
under which "Drought Emergency Rules" would kick in. Citizens would
not be allowed to wash their vehicles with a hose. They would be allowed to
water their lawns from 7 to 9 a.m. and 7 to 9 p.m.—but only odd-numbered house
numbers on odd-numbered days (and likewise for even numbers). Plant nurseries
could continue to use water, but only at 95 percent of their previous levels.
Restaurants would be required to stop serving water unless patrons specifically
requested it. All showerheads would be required to have a maximum performance
of three gallons per minute at 60 psi. Finally, a "SAVE WATER"
sign—the dimensions and appearance of which were also specified in the
plan—would have to be placed in all dwellings housing more than four families.8
Anyone who lives
in a major urban area that experiences severe summers is probably familiar with
such micromanagement. City officials may even go so far as to set up
"hotlines" so that neighbors can tattle on each other when someone is
using water in a non-approved manner. Beyond the economic waste involved—with
bureaucrats making one-size-fits-all decisions about the proper use of units of
water—its Orwellian aspect is chilling.
Electricity
The analysis for
electricity is quite similar to that of water. Especially during the summer
months, when people in warm climates rely on air conditioning, officials,
rather than raising electricity prices, instead urge the public to turn up
their thermostats and even call for offices to allow their employees to wear
t-shirts.
In extreme
cases, officials impose "rolling blackouts" during peak loads,
pre-emptively cutting off the power in certain areas in order to prevent the
whole system from overloading. They are termed "rolling" because
officials deny power to a particular group of customers temporarily and then
move the blackout to another area. For example, in April 2006, certain areas of
Texas were intentionally denied power for five hours. In California, power
customers are divided into different groups and are given advance warning of
when they will lose power during a "Stage 3 power emergency."9
Although the
notorious Enron is associated with power outages in California electricity
markets, here, too, the fundamental issue is poor institutional design. In a
genuinely open market with free entry and free pricing at all levels, we would
not see intentional disruptions of service to customers, for the simple reason
that it would be unprofitable to do so.
As even the
federal government's own post-mortem on the "Enron crisis" indicates,
a chief element in that sordid episode was that the so-called
"deregulation" in California applied only to wholesale energy
prices; there were still price caps on the retail electricity market.10 Indeed,
one of Enron's seemingly sinister strategies was to buy electricity from
California markets (where the price was capped) and then "export" it
to other states at a higher price.11 Rob
Bradley, one of the world's experts on free-market energy economics, was Ken
Lay's speechwriter at Enron when the crisis struck. As Bradley now summarizes
the affair: "Enron lived, thrived, and perished in and through the mixed
economy."12
Government-Owned
Forests
While government
ownership or management of roads leads to traffic jams, government ownership of
forests leads to overlogging. Because government charges timber
companies and other users artificially low prices for logging, trees are cut
down faster than the natural resource can be replenished. Ironically, one of
the biggest environmental worries—deforestation—is due not to capitalist
"greed," but to inadequate property rights.13
When government
officials control the ability to access timberland, they charge private logging
companies artificially low prices ("stumpage fees") because these
officials are in power only temporarily. If their decisions reduce the asset
value of the land itself, it is of little direct concern to them because they
don't actually own the land: "the government" does.
Consequently, we observe private logging companies cutting down trees far more
rapidly than "what the land can bear," but the problem is government
ownership, not the profit motive per se.
Bodies of Water
Finally, we see
the same problem of underpricing in government management of water resources.
Just as government control of forests leads to overlogging, government control
of oceans, lakes, and rivers leads to overfishing.14 Marine
biologists can think of few villains worse than commercial whalers who hunt
endangered species on the open seas, but this, too, is ultimately a problem of
ill-defined property rights. Just as ranchers solved the "tragedy of the
commons" in the case of grazing land animals by enclosing pastureland and
branding cattle, the tragedy in water resources can be resolved by the
allocation and enforcement of property rights. For example, scholars have made
serious proposals for auctioning off ownership in whales as a way to solve the
feuds arising between those who want the right to hunt and those who want a
vigorous enforcement of a ban on whale hunting.15
Millions of
Americans directly observe the perversities of government water management in
the form of fishing and boating restrictions on lakes. Rather than charging a
true market price for the fish taken out of the bodies of water under their
control, government officials invent various non-monetary hurdles to
hinder citizens from removing the fish. For example, they impose "fishing
seasons," and even when it is legally permissible to fish, a host of
regulations hobble the productivity of the enterprise. To take just one
example, consider the following excerpt from the Virginia Department of Game
and Inland Fisheries:
A. Motors and boats. Unless otherwise posted, the use of boats propelled by gasoline motors, sail, or mechanically operated paddle wheel is prohibited at Department-owned or controlled lakes, ponds, or streams.
B. Method of fishing. Taking any fish at any Department-owned or controlled lake, pond, or stream by any means other than by use of one or more attended poles with hook and line attached is prohibited unless otherwise posted, in which case cast nets may be used for collecting nongame fish for use as bait.16
Beyond aesthetic
reasons (for example, to maintain a peaceful environment for citizens who wish
to enjoy bodies of water for recreational purposes), government limits on the techniques
of fishing are "necessary" to prevent the fish stocks from being
depleted. It would be as if Red Lobster, seeing a huge surge in demand for
salmon, changed its policies so that customers could order salmon only on
Tuesdays between noon and 4 p.m. and had to eat it with a spoon.
Conclusion
Both theory and
history indicate that government management of resources leads to waste and
even absurdity. People view traffic jams, water shortages, power outages,
deforestation, endangered species, and fishing rules as facts of life. But they
are not necessary. On the contrary, they are perversities produced by
government management. Private markets are not perfect, but competition and
private ownership give the best possible framework for an efficient use of
scarce resources.
Footnotes
1. A popular
proposal for market socialism is Oskar Lange, (1936)
"On the Economic Theory of Socialism: Part One," The Review
of Economic Studies, Vol. 4, No. 1 (October), pp. 53-71.
2. Hayek's lecture
was given in German in 1968, but an English translation made by Marcellus S.
Snow is Friedrich A. Hayek, (2002) "Competition as a Discovery
Procedure," The Quarterly Journal of Austrian Economics Vol.
5, No. 3 (Fall), pp. 9-23. Available at:http://mises.org/journals/qjae/pdf/qjae5_3_3.pdf.
3. Murray Rothbard,
([1973] 1994) For a New Liberty (San Francisco: Fox &
Wilkes), Revised Edition, p. 196.
4. The Texas A&M
Transportation Institute results for the year 2011 are summarized in this press
release:http://mobility.tamu.edu/ums/media-information/press-release/. Accessed November 22, 2013.
5. CBS News,
"Dangerous Intersections," February 11, 2009, available at: http://www.cbsnews.com/2100-201_162-298602.html.
6. See the
Wikipedia entry on "List of motor vehicle deaths in U.S. by year,"
available at:http://en.wikipedia.org/wiki/List_of_motor_vehicle_deaths_in_U.S._by_year. Accessed
November 20, 2013.
7. Walter Block,
(2009) The Privatization of Roads and Highways (Auburn, AL:
The Ludwig von Mises Institute). Available at:http://library.mises.org/books/Walter%20Block/The%20Privatization%20of%20Roads%20and%20Highways.pdf.
8. I wrote about
the incident at the time in Robert Murphy, (2002) "Blame It on the
Rain," Mises Daily, February 14, 2002. Available at: http://mises.org/daily/894/.
9. See the
Wikipedia entry on "Rolling blackout," available at:http://en.wikipedia.org/wiki/Rolling_blackout. Accessed
November 20, 2013.
10. Federal Energy
Regulatory Commission, "The Western Energy Crisis, Enron's Bankruptcy, and
FERC's Response." Available at: http://www.ferc.gov/industries/electric/indus-act/wec/chron/chronology.pdf.
11. Jerry Isaacs,
(2002) "Enron defrauded California out of billions during energy
crisis," World Socialist Web Site, May 10, 2002. Available at:http://www.wsws.org/en/articles/2002/05/enro-m10.html.
12. Robert L.
Bradley, Jr., (2008) Capitalism at Work (M & M Scrivener
Press), p. 302.
13. See for example
Charles. E. Palmer, (2000) "The Extent and Causes of Illegal Logging: An
Analysis of a Major Cause of Tropical Deforestation in Indonesia," CSERGE
Working Paper. Available at:http://www.cserge.ucl.ac.uk/Illegal_Logging.pdf.
14. For an example
of a news story on overfishing, see Tom Levitt, (2013) "Overfished and
under-protected: Oceans on the brink of catastrophic collapse," CNN, March
27, 2013. Available at:http://www.cnn.com/2013/03/22/world/oceans-overfishing-climate-change/.
15. Juliet Eilperin,
(2012) "Researchers propose putting a price on whales," The
Washington Post, January 11, 2012. Available at: http://articles.washingtonpost.com/2012-01-11/national/35439004_1_hunt-whales-iwc-fewer-whales.
16. The Virginia
Department of Game and Inland Fisheries "General Freshwater Fishing
Regulations" available at:http://www.dgif.virginia.gov/fishing/regulations/general.asp. Accessed November 22, 2013.
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