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Suppose policy makers had the right to intervene in the private marketplace and consider the following situation. The Groovy Gravy Company is considering whether it should “outsource” its customer support work from New York State to a foreign country. Such a move would save the company, on net, $100 million from the release of NYS call center workers and subsequent hiring of less expensive, but equally productive, foreign workers. Consider this $100 million a cost to the workers who lose their jobs (that’s an overstatement, because at least some of them will be rehired for a positive wage, so the correct cost is the net loss in earnings). Perhaps there are 1,000 such workers, so each is losing $100,000. On the other hand, such a move is expected to save Groovy Gravy customers an aggregate of $120 million. But there are 60 million Gravy customers, so the small consumer savings are $2 per customer. Ought we wreck the lives of 1,000 families for the sake of a measly $2 customer benefit?

A long time ago (can’t dig it up) I posted on how we can think of such a problem, and I’ll reprise it in a future post. But for now, take it as given that it makes complete sense economically in the short-run for the move to be made. Let’s think harder about the long-term implications of the move, and the logical foundation for allowing it versus not allowing it.

  • Arguments like, “wrecking families to save a measly $2” have strong emotional appeal, but they are wrong. They are wrong because they cannot be applied consistently. How would one draw the line if we take the argument seriously? Is there a per person dollar benefit that is acceptable? Is there an aggregate net benefit that is acceptable? If so, how do we determine what that amount is and who gets to decide what that amount is? Remember we are talking here about violating the right of free association of employers and prospective employees to do this, we are not talking about some simplistic non-violent consideration. How, also, do we decide on the appropriate numbers of beneficiaries and losers? If the benefits redounded to only 1,000 people but were enormous ($120,000 each) but the costs redounded to all of society for pennies apiece, would our feelings change? Why? And at what point in between does the move suddenly become acceptable.
  • I am less interested in the above bullet than I am in this one. One cannot look at the Groovy Gravy case in isolation. The “permitting” of small $2 benefits for the many at the larger “expense” of a few workers (in the long run they will benefit), is but one of thousands and thousands of similar such decisions made every day. So we are talking about myriad changes in an economy not just do to trade and outsourcing but especially due to technological advances. The reason we have “rules” such as “allow firms to make decisions that are in their own interest” is not because in any single case the outcome will be deemed just or desirable, but rather that the presence of these stable and impersonal rules pretty much ensures that the long term progress of society will continue. Why? Because taken to its logical extreme, not permitting Groovy Gravy to recognize these efficiencies requires you to treat all firms equally (if we care about things like Justice and the Rule of Law), and if you do that, society gets NONE of the gains – and we are back to a world where we have options between nudity and purchasing the 100-mile suit at great expense. On what consistent and logical grounds could someone argue that some of these advances are OK, but others are not? And again, who is permitted to obtain such authority and how would such authority be legitimately obtained?
  • For hard core supporters of government intervention to correct market failures, wouldn’t the above situation also represent a “correctable” market failure?  Let’s compare to a different one. When Wintercow drives his car to work each day, he compares the benefits and costs of driving to himself only and makes little allowance for the benefits and costs his driving confers/imposes on others. Ignore the possible benefits of me driving for now and focus on the costs. The costs that matter to me are my time costs, fuel costs and maintenance costs for my car – the ones that are explicit and I am forced to pay when I choose to use my car. But I virtually totally ignore costs that my driving imposes on others. When I drive, I add a little bit more congestion to the road, but since I only pay a tiny fraction of that congestion cost and everyone else in aggregate has to bear a large cost, I tend to drive too much from the standpoint of society. The same thing goes for tailpipe emissions. When I drive, the tiny amount of emissions from my car contribute essentially nothing to the global warming problem or other air pollution problems. But taken in aggregate, these tiny amounts of pollution, which are not paid for or internalized by the drivers, add up to a massive amount of global pollution – and the world is worse off for it. In these cases, “textbook” theory suggests (and lovers of the government LOVE this theory) that governments ought to step in and force drivers to “internalize” these “external” costs so that we get the socially optimal level of pollution.But cannot the same story also be applied to the case for not allowing Groovy Gravy to outsource? When the government steps in to do something, it is only considering the immediate and visible costs to the workers and the politicians whose careers depend on popular support. But when politicians make the choice to not allow Groovy Gravy to associate and operate freely, they are not taking into consideration other “external” costs. Those costs include the aggregate savings that will never be realized due to the accumulation of these “small” savings adjustments never happening, and also to the negative incentives for businesses to even seek out new ways to economize on both labor and capital. In a very real sense, these external costs are far larger and more serious than almost any external costs that market activity produces.

    And the “market failure” here is far less tractable than standard market failures. Why? Because ordinarily when markets “fail” it does not preclude advancements in technology or competition to exploit these problems and innovate around them. For example, an entrepreneur is free to build an emissions-free car – which could “solve” the pollution problem absent state intervention, despite state intervention, or because of state intervention. But when it comes to the state not permitting businesses to freely associate, there is no such private mechanism to overcome the problem “behind the back” of the state. So this form of “market failure” is more pernicious because there is no way out of it aside from state action. Given this squishy problem, would those progressives who are in love with the ultra-rational justification for state intervention be consistent in the application of their own theory? I highly doubt it, because of course the recommended fix here would seem to be a reduction in the authority of the state to intervene in these types of market decisions (which are not limited to trade, and are certainly inclusive of the technological innovations which do FAR more damage in the short run to workers than this simple outsourcing example allows). So let’s make another bargain. I’ll agree to government intervention to “correct” particular “market failures” like pollution (despite the many caveats I have written about on this site) if supporters of a more efficient and rational society will apply their idea consistently as I have offered them the chance to do above.

I can guarantee that no public deal will be forthcoming.

One Response to “Rules, Hard Cases and a Different Angle on the Free-Rider Problem”

  1. Harry says:

    I get your point when you put “failures” in quotation marks — a market failure occurs when an outcome is unacceptable to the philosopher-king, whoever he is. (Chuck Schumer?)

    There was a great article by George Gilder in today’s Journal on a similar subject, which I am sure did not escape Wintercow’s notice.

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