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Yesterday, we described the nature of the argument for government intervention into a voluntary exchange order. Today, let’s direct our attention to how these ideas apply to systems of voluntary exchange themselves. Just as a reminder, a market is simply any collection of (potential) buyers and sellers, physical or virtual. Critics of liberty of contract argue that markets themselves are public goods. Here is an excerpt from an e-mail I received a while back stating the case:

After all, like social and political institutions more generally markets themselves are public goods and, to take a painful example, much of our current economic difficulty stems from the fact that no player in the financial markets had any reason to contribute to sustaining the institutional structure of functioning markets.

Before delving into the analysis, I just love how the financial sector is always the first one chosen as representative of capitalism. It is perhaps the best example of what the modern corporate state has become – a crony capitalist system of alliance between big business and big government, a far cry from a well-functioning market. And while opponents may argue that markets suck because they are prone to falling into these relationships, the same can be said of government. It takes two to tango.

Let’s leave that issue aside. On what grounds is a market a public good? My first claim is that such a notion is incomprehensible. It is incomprehensible for two reasons. First, a “market” is not a good in the sense that market failure theories consider it. Second, a “market” order emerges and is not the result of intentional action or design.

A good is a thing of value , whether or not it is exchanged. There is no “right” amount of goods without some reference to how much value all individuals place on it vis-a-vis what it costs someone to produce that good. Perhaps hilariously, invoking the market as a public good is arguing that the market itself is desirable and we want “more” of that activity. That seems an odd-position for a progressive to be taking, but at least it tells us that there is better understanding today of the benefits of markets than in the past. If we wish to argue that the market is a good that is underprovided, then the reason for taxation is to make sure that we have an extension of the market itself. I’ll sign up for that. The world would indeed be better if the government levied larger, non-distortionary taxes and then allowed many of its core functions to be handled by the market. The government itself cannot be in the business of producing markets, so that option is ruled out as compared to the standard textbook defense of the idea that governments can tax and provide the goods themselves, such as the case of national parks.

On the second point, the market itself emerged from the interactions of billions of people through time trying to make a better life for themselves. Just like language. The very act of seeking to better oneself contributes to the rich web that sustains the structure of markets. Voluntary exchange naturally occurs from our human propensity to improve our condition. In fact, the more people that engage in such exchanges, the greater the potential benefits to current non-participants, from adding themselves into the market order. To the extent that you and I do not consider the benefits to someone else when engaging in a transaction, the potential gains to that third party are so large (and private) that it is hard to imagine that they need a “boost” to spur them to stop being self-sufficient. It is no more correct to indict market participants for not paying attention to the sustenance of the market order itself than it is to indict users of language for not paying attention to the sustenance of the order of language. Users of language, by seeking efficient ways to communicate, ARE by their very usage of the language process contributing to the institutional structure of language. The same is true of market participants. It’s not that market or language participants do not have an interest in maintaining the integrity of those orders, it is rather that it is completely impossible for them to do such a thing, even if it was their intention. This is what Hayek referred to as the Fatal Conceit. Given this, how would public goods policy apply to improving language or market institutions? It would be completely impotent to do anything. The correct point is not that markets themselves fail as public goods, but rather that they operate within a web of rich traditions and institutions without which they would cease to be effective. These things include institutions like trust.

Deirdre McCloskey has written two incredible books (here and here) that discuss this very point in great detail. In those books, one of her astute arguments is that market orders in fact inculcate the very virtues of trust, fellow-feeling, etc. that the above criticism of markets is implying does not happen in markets. So, rather than succumbing to public goods problems, markets themselves have feedback mechanisms that overcome these very problems. The argument requires far more space than I have here, so let me turn to the next point.

If progressives want to argue that markets themselves are public goods, and ignore what is written above, then they still must deal with two other (related) ideas. First, governments themselves (as the author above admits) are public goods. Second, there is a huge field of public choice economics that conveniently gets overlooked in statements like the above. To paraphrase the above argument:

After all, government is a public good and, to take a painful example, much of our current political difficulty stems from the fact that no player in government had any reason to contribute to sustaining the institutional structure of functioning government.

Indeed, I find this statement to be far more accurate and powerful than the one at the top of this post. There is every reason to believe that the institutional difficulties within the government sector are far more intractable than the ones within markets. Why is this overlooked? And what is the solution to public goods problems as such? The textbooks says more government. But that cannot really be the answer to government failure, so we must look to other institutional arrangements, which ironically, include systems of competition and voluntary exchange to put a check on the problems in government. As I said above, it takes two to tango. Finally, what of public choice arguments? The relevant comparison is not “financial market participants do not internalize the costs of their actions, and therefore underprovide behaviors that make markets work well” versus “governments can provide these behaviors” but rather the right comparison is between the dysfunctional market (which I’ve already begun to discuss is a very bad mischaracterization) and a dysfunctional government. It’s not clear which is better. But it is completely fallacious to start with the conclusion that government wins this horse race. Unfortunately, that is the conclusion we are starting with here, despite the handwringing about deregulation, free-markets gone wild and the like.

3 Responses to “Markets as Public Goods, Part II”

  1. Even after reading both of these posts, the idea that the “market” is a public good strikes me as incoherent. I think the fundamental problem is that we are using the marketplace and the “market” as a concept interchangeably, and getting confused.

    The marketplace is a good, but it is a good that is both excludable and rival. I immediately think of Demsetz in this context (“Exchange and Enforcement of Property Rights”). The owner of a parking lot attracts customers, generating externalities for surrounding businesses. If those externalities become large enough, it is worthwhile for a business owner to purchase surrounding land and possibly turn it into a shopping mall, internalizing the externalities.

    The concept of “market,” on the other hand, seems to be nothing more than a collection of components, such as the marketplace, police and courts to protect property, common currency, etc. When you take away these specific “market” features, some of which are arguably “public goods” and others of which are not, what is supposed to be left of “the market”?

    The “public good” turns out to be a lot like “externalities.” There’s nothing necessarily wrong with the concept as a theoretical matter, but it turns into something people seize on to support whatever policies they happened to like before they knew any economics.

  2. Salem says:

    There is a very real sense in which markets are a public good – they give an ascertainable price level, even to non-participants in the market. For instance, if I am considering whether to build a new steel factory, the existence of functioning markets in coal, iron and steel allows me to make much better cost calculations, etc when it comes to making my decision. I share your skepticism that government can create markets, but if it is able to do so, then there are at least plausible arguments that it would be beneficial to do so – e.g. Robin Hanson’s concept of futarchy, where the price level of conditional futures contracts would help determine government policy.

  3. […] find this insight a little weaker than the previous post on markets as public goods – I’ll blame it on cross-country travel. The entire theory […]

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