Naked Economics Chapter 8 Summary: The Power of Organized Interest
Posted: July 22, 2017
The “economics of regulation” put simply in Naked Economics Chapter 8 is that the whole (large group) subsidizes the small group(s) because the system rewards self interested politicians who cater to (self interested) organized interest. Remember, large subsidizes small; In this Naked Economics Chapter 8 Summary i'll cover five contexts he identifies: The (1) analogy of a Christmas tree is an easy visual aid to understand why omnibus spending packages get passed. A counter intuitive context comes from George Stigler, who shows (2) businesses benefit from regulation. He provides a cautionary tale about (3) China’s historical protectionism. He shows how (4) the WTO and Fast Track Authority is used to curtail bad behavior. He concludes sharing (5) an anecdote that exposes our own hypocrisy in the role we play.
THE MOHAIR ADVANTAGE
We are talking about pork, you need to know what that is. The poster child for pork-barrel legislation is a 40 year subsidy paid out to mohair farmers to ensure the U.S. military supply of yarn to make uniforms. The subsidy was created in 1955. Five years later the military switched to synthetic fibers. The subsidy remained for the next 35 years until public outcry forced it to end in 1995. It made its way back into the budget in 2008.
NAKED ECONOMICS CHAPTER 8: ECONOMICS OF REGULATION
Why did the mohair subsidy come back? It’s asinine. The economics of regulation is a simple model (tool) to help you think about organized interest group politics. Gary Becker, an economist, says it pays to be small. All else equal, small, well organized groups are more successful in the political process. It is easier for the countless masses to pay a few extra cents in taxes to benefit a relative few. Those few are highly motivated to protect that benefit, whereas the general population is largely unaware. As a result, “the democratic process will always favor small, well organized groups at the expense of large diffuse groups (p. 147 of Naked Economics Chapter 8).” In the case of ethanol, a $7 billion tax subsidy is gifted to a small group of farmers, less than 2% of the population. Meanwhile, the cost is spread over the remaining 98%, putting ethanol somewhere below good oral hygiene on our list of concerns. To put that into context for you, this subsidy amounts to $2 a month for every American. In countries where farming makes up a small fraction of the population, American and Europe, there are subsidies for agriculture. In countries where the farming population is relatively large, China and India, the subsides go the other way, forcing farmers to sell at below market prices. In both cases, the large group, largely unaware, subsidizes the smaller highly motivated group. In politics, the tail wags the dog.
OH CHRISTMAS TREE: MODELING THE POLITICAL RESPONSE TO ORGANIZED INTEREST.
The process that generated cash payments to mohair farmers is alive and well. This year during Utah’s GOP Convention, senate hopefuls took turns vowing that they would not sign omnibus spending bills. Which means very little in Iowa. The benefits from ethanol subsidies are debatable but it works wonders in Iowa campaigns. The ethanol subsidy puts money in the pockets of Iowa farmers it’s a key issue for them. These omnibus spending bills are like a christmas tree. Each legislator from the house and senate can hang an ornament or two. Each has their constituency to answer to and these spending initiatives go a long way to grease the wheels of those relationships.
DEATH BY 1,000 SUBSIDIES?
In practice each ornament is called an earmark. Earmarks direct federal money to local projects in the member’s district. Each ornament on the tree is insignificant, but taken together they are significant. On principle, government should not be in the business of providing incentives for people to do things that would not otherwise make sense. The Council for Citizens Against Government Waste identified $6.8 Billion of pork legislation in the 2017 budget . If this was listed out as a line item on the 2017 budget, it would fall between water resources (7.5M) and recreational and sporting services(3.9M).
Pork spending cost my family $80 last year. We spent $252 on Netflix and Hulu. We spent $7,300 on healthcare.
Where would you look to tighten up this budget?
BUSINESSES BENEFIT FROM REGULATION
George Stigler of the University of Chicago, 1982 nobel prize winner shows that firms and industries often benefit from regulation. They can create regulation to help themselves or hobble competitors. In illinois the state requires barbers and manicurists to be licensed, but not electricians. Why? Interest groups. Occupational licensure is a result of special interest groups desire to set up barriers to entry for other seeking to enter the occupation: “The best predictor of whether or not a professional is licensed in Illinois is the size and budget of its professional associations.” Take for example, teacher certification and the teacher’s union. The union is always strongly in favor of teacher certification that enforces rigorous testing and scrutiny for teachers. However, that same policy exempts existing teachers from needing to recertify. This is illogical at best, even disingenuous. If doing certain things is necessary in order to teach, then presumably anyone standing at the front of a classroom should have to do them. The real motive for the licensure is to create a barrier to entry in the teaching profession. This is good for existing teachers but, not for the education market. Capitalism is a process of incessantly destroying the old. That may be good for the world; it’s bad for the businesses that make up the “old”. The legislative process helps those who help themselves. Groups under siege from competition can seek, trade protection, bailouts, tax considerations, patents, and other special treatment. There is a crucial distinction between using political process to build safety nets for those harmed by creative destruction and using the process to stop that creative destruction in the first place.
PROTECTIONISM: A CAUTIONARY EXAMPLE FROM CHINA
Fifteenth century China, 500 years ago, was a far more technologically advanced than the west. China had better science, farming, engineering and medicine. The chinese were using iron 1500 years before Europe (think middle ages). That’s 200 B.C. They were far ahead of the curve. Where did the industrial revolution happen? Not China. Chinese elites valued stability over progress. They didn’t have the stomach for the wrenching societal changes that made the industrial revolution happen. They banned sea voyaging for trade. They effectively choked off the economic development and discovery that comes from trade.
WTO AND FAST TRACK AUTHORITY
When negotiating international trade deals the president can seek “fast track authority”. This limits congress's ability to ratify the agreement to a strict up or down vote. The normal process that allows for amendments (and pork) which can exempt (and protect) certain industries. A trade deal with a few loopholes for every district defeats the purpose. The World Trade Organization uses the same process on the world stage. Each nation has domestic interest groups vying for protection and or benefits. The WTO makes free trade politically manageable by creating a standard that countries must abide by to join: open markets, eliminating subsidies, phasing out tariffs, etc. To have access to the markets of existing members each nation has to agree to the standard. Each of these tools exists as a counter balance to the power that special interests can invoke on politicians at the expense of the general public.