Plot Twist: Free Markets vs Regulation

Disclaimer: I’m not an economist by any stretch of the imagination. The only economics module that I took at university was one called ‘The Foundations of Microeconomics’ in first year, which I failed. I actually don’t think that I was technically supposed to be allowed on the course, but I snuck in somehow. Probably a bad idea in hindsight. So, am I an authority on this subject? Absolutely not. Am I qualified to comment with any certainty on the topic? Technically not. Should you trust what I say? Probably not. Should you take everything that I say with a pinch of salt. Most definitely! But do I have a brain capable of critical thinking? I’d like to think so. Is it a free country? Last I checked. And is this my blog where I can do literally whatever I want? No more questions, your honour. 

Something that I spoke about in a previous post was the traditional distinction between the Right and the Left when it comes to politics. Not so much the things that distinguish the two now, but more so the things that have differentiated them for the majority of the history of democracy, since the idea of left and right had any value.

Nowadays, the issues that distinguish the left and right that feature in the news most prominently appear to be things like immigration and freedom of speech – issues that raise questions about where our society at large stands on fundamental values that we assumed were here to stay, taken for granted, namely: the idea of the nation state, and rights afforded to citizens in liberal democracies. It appears to me that it is primarily the left that is precipitating this trend. For example, the entire concept of being on the left rests on the idea of the nation state, on nationalism, however, with the recent (or not-so-recent) Brexit referendum, the build-up to it and the aftermath of the result, the highly outspoken support for open borders within the EU Schengen Area amongst the left seems to defy the logic of their beliefs. If the welfare state is for everyone, then it’s for no one. Furthermore, the left, at least since the 60s, was seen as the liberal side of the spectrum, but today, when it comes to freedom of speech, it appears to be the left who are the ones proposing constraints on it, typically in the name of “hate speech”, a highly ill-defined, dubious term.

But these are not the issues of difference that I’m going to focus on today. Today I’m going to talk about the question of markets, what both sides believe when it comes to the issue of markets, and which I tend to side with more. Traditionally, when people would identify themselves as either on the left or on the right, it would be related to their views on fundamental economic issues, i.e., their support (or lack thereof) of free markets and their consequent beliefs regarding the welfare state. Yes, these views could be nuanced by their beliefs in various other values, but these questions are what is at the core of the left/right debate.

But what do we mean when we talk about this abstract, intangible concept of markets? Do we mean those things that we go to on a Sunday, where various local, independent artisans serve up their wholesome produce at stalls lining the road? Well, yes, actually, pretty much. I’m sure anyone reading this has a good understanding of markets, but I’m going to patronise you anyway, just to humour myself.

Markets are the environment in which service providers or producers of a specific category of service or product are traded/bought and sold. By ‘environment’, I mean largely the legal, economic and physical conditions and constraints within which they operate. These are the factors that influence and coerce the behaviour of these providers, and thus affect the quality and cost of the products and services that they offer.

Traditionally, the right has been founded on the belief in the virtue of free markets. Free markets are conditions in which there is minimal regulation of service providers and the services that they provide. This is based on economic theory popularised by the 18th century Scottish economist Adam Smith, who can be found on the back of the British £20 note. Smith is famous for his concept of the “invisible hand”, which is the idea that markets, if left untouched and undisturbed by government, will always reach a natural and mutually beneficial equilibrium between supply and demand, which will benefit both provider and consumer. This idea is founded in the almost religious belief that markets are a part of nature, and like an ecosystem, will reach a healthy and optimal balance if simply left alone.

In order to solidify my understanding of things, I like to think of the extreme examples/versions of the idea in question, the hypothetical. So if we think about hypothetical markets, what would be the best market imaginable? Or, in other words, the perfect market. Of course, the perfect market for consumers would probably be one in which the product/service in question is as close to free as possible, but this market clearly wouldn’t be sustainable. The perfect market then would be one in which:

  • there are no costs to entry or exit for individuals wishing to enter the market as a service provider
  • the consumer has perfect information about every available service
  • the cost of the service is perfectly acceptable to the consumer
  • there is no cost to the consumer when switching providers, either monetary or temporal (time), i.e. no commitments whatsoever, the consumer is free to switch whenever, immediately, without penalty
  • consumers are immediately made aware of any changes in the service or the market
  • the providers are free to change any aspect of the service being provided, including cost, by any degree, at any point

This would be a perfect market, or near enough. And what do we notice about it? Well, obviously, this market is impossible. It’s completely theoretical/hypothetical. It’s only a thought experiment. But the point is, these are the only conditions in which regulation would be unnecessary, and would potentially even be damaging to both the consumer and the service provider. This is because the market, under these conditions, would self-regulate, due to perfect competition. But what happens if these conditions are not satisfied? Or are violated to a high degree. This question brings us swiftly to our next point: regulation. Or, more specifically, what regulation is, and what the point of it is.

Regulation is something found within legislation that constrains the behaviour – and occasionally the structure – of service providers, enforces certain standards, and imposes certain requirements upon the market more generally. The purpose of regulation is to create and enforce consumer rights, and typically to protect consumers from being ripped-off. But why might customers get ripped-off, or exploited? It sounds like an obvious question, but I believe that it’s worth analysing the answer in more depth. Let’s go back to the idea of a perfect market, which we outlined above. If a perfect market is one in which no regulation is required, then what would be the imperfect market? Of course, an imperfect market would be no market at all, but the next worst thing would be an environment in which:

  • there is only one provider, i.e. a monopoly
  • the cost to entry for other providers is prohibitively high
  • the consumer has no information about the service being provided
  • the customer has no choice but to pay for the service, or is unable to afford it
  • consumers are not made aware if there are any changes to the service

This would be a situation in which the consumer would be bent over a barrel, and in which the consumer’s choice is coerced and the service that they experience likely suboptimal. Essentially, the consumer has no rights and no leverage. This is what regulation seeks to avoid.

As I’ve said, what typically distinguishes the left and the right in there philosophies is their support for free markets, and free markets are also tied up to support for the welfare state. The free market, however, is a terribly defined concept, and doesn’t seem to hold up under scrutiny. Few would deny that some regulation is needed in every market, even markets for inessential goods, such as rubber ducks. Products need to be regulated to ensure that they are not hazardous, for example, and that they are safe to use, and it would be unethical to expect consumers to have to find out for themselves whether a product is safe or not. Once you admit this then you are forced to admit that the free market doesn’t exist. If you are rebuttal is that free markets are markets in which only necessary regulation is enforced, then your belief is essentially meaningless, because of course no one would advocate regulation that they deemed not to be necessary, that’s what the definition of necessary is: something that you need. You would need to specify what you believed necessary regulation to be. Still, even if you did this, the mere admission of needing regulation would defy your belief in the “free market”.

I think it’s helpful to look at examples of markets that require strict regulation, in order to understand the flaws in the idea of the free market. It’s my belief that only essential public goods require strict, comprehensive regulation. There is broad disagreement regarding what an essential public good actually is, but I would define an essential public good as a product or service that is, within all reasonable considerations, essential to live and to function to a normal degree within society. Things like air, water, food, medicine, housing, fuel, electricity, education, jobs, roads, transport, waste disposal, general infrastructure, clothing, even internet. I believe that it is the government’s responsibility to ensure that all of these are available to a reasonable degree to all of its citizens. If you were a libertarian fundamentalist, you might argue that apart from air, food, and water, we don’t actually need anything else to survive, therefore the government shouldn’t get involved. This would be quite an extreme argument to make, especially in today’s society where it would be practically impossible for everyone to hunt and forage their own food. Furthermore, when a society has existed a certain way for so long, there are certain standards of living that its citizens come to expect, access to which would be unethical to remove. I believe that it’s the obligation of governments to promote an increasing quality of life within its borders (and of those outside of its border that are in desperate need of it) and to maintain that quality of life. Furthermore, I don’t just think that the aforementioned essential public goods are only essential in Western countries, or just in “developed” countries. I think that these goods are practically universally essential, barring maybe the few isolated tribes that still exist.

When it comes to these essential goods, the government’s responsibility is to ensure that these things are always affordable to all of its citizens, and to a good quality. We don’t want our water to be expensive or to be full of contaminates and toxins. We want everyone to be able to go to a good school. We want everyone to be able to be in work with a liveable income in good working conditions. These are things that cannot be guaranteed by a “free market”, by the invisible hand. These are thing that require regulation, because we live in an imperfect world that doesn’t allow for perfect markets. If we lived in a simulation where there were no physical or temporal boundaries, and it was only information that was being exchanged, then regulations would become relics. But we don’t live in computers, we live in a physical reality with limited resources, space and time. In the case of a good such as water, for example, we know that there can only be a limited amount of providers, and it’s usually a government monopoly, but in the cases of where the provider is private, it would typically be impractical to attempt to break up a monopoly, if there was one, so instead governments must impose price caps on how much the provider can charge per unit of water. If there was a private monopoly on water provision, and no regulation, the provider could charge whatever they wanted for it and people would have to pay for it, or die. Even if there were several providers, cartel behaviour could set in and the prices could become extortionate. Cartel behaviour, for those that aren’t familiar with the term, is where competitors in a market realise that its more profitable to cooperate than to perpetually undercut one another, therefore they either formally or informally agree to keep prices high, at the obvious expense of the consumer. What severely limits the number of service providers that can enter a market is usually factors such as start-up costs, and limited availability of the product being provided, e.g. fuel, which makes cartel behaviour in markets such as these more likely. Another example is public transport. There can only be so many railway tracks or buses, therefore this limits how many competitors can be in the market. It also means that there is more opportunity for cooperation between competitors.

 

To summarise, I realise that this has been quite a dry, probably rather dull post, but I think that this is an important issue that everyone needs to understand. The term “free market” sounds so appealing because it’s framed so well. Everyone loves freedom, and in a perfect world it’d be a great idea. In fairness, it would probably be the only thing that made sense. But in my view, the idea of the free market, packaged in the way that it is, is quite an insidious one. It depicts regulation as “red tape”, as big, bad government stifling innovation and entrepreneurship. But the truth is that regulation isn’t designed to crush entrepreneurs and small businesses, it’s designed to protect consumers from monopolies, cartels and rogue traders, to protect consumers from price-fixing and low-quality, dangerous products. In my view, regulation is more natural than a free market, because we are naturally inclined to be wary of the world and to be wary of the nature of others, and to protect our wellbeing and ensure our survival, which is what regulations do. But I only advocate strict and comprehensive regulation on essential public goods, such as water, because these are things that we cannot and should not limit access to based on income, these are what I would consider to be rights. When it comes to inessential products or services such as soft drinks, the government’s responsibility should simply be to make sure that the products aren’t toxic, and leave it at that. If Coca-Cola wants to charge £1m for a can of Fanta, then they should be allowed to do so. And if someone is willing to pay £1m for a can of Fanta, perhaps some sort of isolated millionaire in a dystopian future, then they should be free to do so. But when it comes to areas such as education or healthcare, there’s never a guarantee that the market will provide affordable, quality services in these areas for the entire population, and it’s in the government’s interest that its electorate does have access to these things. There should of course be the option to have private education and private healthcare, I think it would be unethical to deny people the right to have that choice, and to spend their money in that way if they so wished, but there always needs to be a safety net. What the idea of the free market promotes is a romanticised vision of the survival of the fittest. And what’s frequently left unacknowledged by proponents of free markets is the human cost involved in leaving essential public goods to the whims of the market. Even in a hypothetical scenario of markets regulating themselves, in that period of regulation, normal people would be the ones who would suffer from its teething problems. The ends do not justify the means if the means are human suffering. Lack of market regulation is what gave us the 2007 financial crisis, it’s what’s caused a housing crisis in Britain, and it’s arguably what causes every crisis aside from natural disasters. So, rather than look at regulation as something that limits our economies and makes us less competitive, we need to start looking at regulation as an insurance policy, something that underscores the belief in everyone having at least a base-level of quality of life, which makes this quality of life more secure, which both prevents crises and protects us from the worst effects of crises when they do occur, and allows us to both thrive and survive.

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