Increased Calls for Government Intervention into Private Markets

Is the idea that more government intervention is needed to regulate markets and redistribute income gaining wider acceptance?

The Free Market: A False Idol After All?, by Peter S. Goodman, NY Times:  For more than a quarter-century, the dominant idea guiding economic policy ... has been that the market is unfailingly wise. So wise that the proper role for government is to steer clear and not mess with the gusher of wealth that will flow, trickling down to the every level of society, if only the market is left to do its magic.

That notion has carried the day as industries have been unshackled from regulation, and as taxes have been rolled back, along with the oversight powers of government. Faith in markets has held sway as insurance companies have fended off calls for more government-financed health care, and as banks have engineered webs of finance that have turned houses from mere abodes into assets traded like dot-com stocks.

But lately, a striking unease with market forces has entered the conversation. ... Regulation — nasty talk in some quarters, synonymous with pointy-headed bureaucrats choking the market — is suddenly being demanded from unexpected places.

The Bush administration and the Federal Reserve have in recent weeks put aside laissez-faire rhetoric to wade into real estate, wielding new rules and deals they say are necessary to protect Americans from predatory bankers... Were the market left to its own devices, millions could lose their homes, the administration now says.

Central banks on both sides of the Atlantic are coordinating campaigns to flush cash through the global economy, lest frightened lenders hoard capital and suffocate growth. In Bali this month, world leaders gathered in the name of striking agreement to slow climate change. ...

Throughout history, regulation has tended to gain favor on the heels of free enterprise run amok. The monopolistic excesses of the Robber Barons led to antitrust laws. Not by accident did strict new accounting rules follow the unmasking of fraud at Enron and WorldCom. Now, the subprime fiasco and a still unfolding wave of home foreclosures are prompting many to call for new rules. ...

[I]n Washington, and under the roofs of many homes now worth less than a year ago, there appears to be a shift in the nation’s often-ambivalent attitude about regulation. ...

Liberal critics have long asserted that dogmatic devotion to market forces has skewed American society toward those of greatest means. More wealth is being concentrated in fewer hands, with rich people capturing the best housing, private education and health care services...

That critique informs proposals from Democrats vying for the presidency, as they debate how best to expand access to health care and ways to shift the tax burden to the rich. They are in essence calling for market intervention to redress imbalances. With the gap between the richest and poorest now greater than it has been since the 1920s, these pitches have emerged as central components of their campaigns

More notable, though, is how fervent proponents of unfettered market forces have lately come to embrace regulation.

The Bush administration, in seeking to freeze mortgage rates for some homeowners... Treasury Secretary Henry Paulson Jr. ... is demanding that banks accept smaller payments than promised, while describing the market as a fallible thing in need of supervision. “The government acted to prevent a market failure and to try to avoid unnecessary harm,” he said...

[W]hen things go wrong, demands grow for the government to step in and make them right. “Untethered market forces lead to bad things,” said [Jared] Bernstein of the Economic Policy Institute. “You simply can’t run an economy as complicated as ours on ideology alone.”

The statement "Democrats vying for the presidency ... debate how best to expand access to health care and ways to shift the tax burden to the rich." contains different types of intervention, one that addresses a market failure and another that redistributes the outcome of the market process.

Some types of government intervention - weights and measures, disclosure requirements, truth in advertising, safety requirements, etc., are intended to make markets work more efficiently by creating conditions that better approximate competitive ideals. The debate over health care can be cast in this light, i.e. as a debate about how best to solve a market failure that prevents broader coverage at lower prices.

As second type of intervention redistributes income ex-post, i.e. after the market process has occurred, often through taxation and spending programs. In an economy with significant market failures that cause an inequitable distribution of income and wealth, ex-post redistribution may be justified to redress the imbalances caused by the market failures (and to create equal opportunity).

Thus, the first two types of intervention occur due to market failures, in the first case the intervention is to correct the failures and improve market efficiency, and in the second case the intervention redistributes income ex-post to make-up for inequities caused by existing market failures.

There is also a third possibility, intervening when markets are working reasonably well. Here, the assumption is that even well-functioning markets can produce inequitable outcomes and hence ex-post redistribution is required. Unlike the first type of intervention which corrects market failures, this type of intervention often leaves markets functioning less efficiently. Much of the objection to government intervention is made on this basis.

Here is what I am trying to argue. One type of intervention attempts to correct market failures so that they function more efficiently. The recent calls for financial market regulation, for example, largely fall under this umbrella. Another type of intervention attempts to redress inequities brought about by markets that are not functioning properly, e.g. not rewarding capital and labor in the correct proportions. Calls for redistribution can arise from this type of reasoning.

The last type of intervention redistributes income even though there are no market failures. Here, even when the economic system functions perfectly, i.e. according to competitive ideals, the outcome is still deemed inequitable and hence redistribution is needed. Some of this is out there, i.e. this type of intervention has its advocates, but of the three types of intervention I think this is the least important factor. I don't think people have much problem accepting economic outcomes if they think the game was fair, even if the outcome is lopsided. It's when the game is unfair that there are objections and calls for intervention to correct the inequitable outcome, and to fix the game so the problems don't happen again in the future.