The Gadfly Bytes --
June 19, 2007
Market Failure: The Back of the Invisible Hand
The concept of "the invisible hand," cherished by
self-designated "conservatives," has its origin in Adam Smith’s Wealth of
[The individual] neither intends to promote the public
interest, nor knows how much he is promoting it... [H]e intends only his
own security; and by directing that industry in such a manner as its
produce may be of the greatest value, he intends only his own gain, and
he is in this, as in many other cases, led by an invisible hand to
promote an end which was no part of his intention.
An unyielding faith in the infallible beneficence of "the
invisible hand," leads to "market absolutism" – the doctrine that
whatever government attempts, privatization and the free-market can do
What market absolutists (unlike Smith) fail to notice, is
that not all workings of "the invisible hand" are beneficial. Some
unintended consequences of market activity are harmful -- "the back of the
invisible hand." Economists call these "market failures."
One cannot enroll in an Introduction to Economics class,
without encountering the concept of “market failure” – the acknowledgment
that a totally unconstrained and unregulated free market can, at times, have
socially undesirable consequences (as I will exemplify below). It is one of
the most obvious and incontrovertible facts of economics. Almost all of us
are aware of market failures, whether or not we have ever studied economics.
Some students of Econ. 101 choose to major in Economics, and a few of these
earn doctorates in the field. Those scholars who go on to work for The
Heritage Foundation, The American Enterprise Institute, The Cato Institute,
and other such "conservative think-tanks" somehow manage to completely
forget about “market failures.” The free unregulated market, they tell us,
always brings about the socially optimum result. Some examples (with my
“In the free market, the individual would have to
produce a good that the other person desired in order to receive a good
in return. Adam Smith's "invisible hand" of the market guides all
participants in society to promote the best wishes of everyone else
by pursuing his own wants and desires.” (Jacob
“[T]he free market allows more people to satisfy
more of their desires, and ultimately to enjoy a higher standard of
living than any other social system... We need simply to remember to
let the market process work in its apparent magic and not let the
government clumsily intervene in it so deeply that it grinds to a halt."
(David Boaz, Libertarianism, a Primer, p. 40, 185.)
"A free market [co-ordinates] the activity of millions
of people, each seeking his own interest, in such a way as to make
everyone better off... Economic order can emerge as the unintended
consequence of the actions of many people, each seeking his own
interest." (Milton and Rose Friedman: Free to Choose, pp 13-14).
Accordingly, governments should never interfere with
markets. Furthermore, governments should not own property, which is better
managed by private individuals. So argues the libertarian,
J. Smith: “The problems of environmental degradation, pollution,
overexploitation of natural resources, and depletion of wildlife all
derive from their being treated as common property resources. Whenever
we find an approach to the extension of private property rights in these
areas, we find superior results." (My italics). "All," "whenever"
-- no compromise or qualification here!
In short: let the free market decide. The mysterious “invisible hand” of the
free market will “promote the best wishes of everyone..,” (Halbrooks),
“[allow] more people to satisfy more of their desires” (Boas), and “make
everyone better off” (Freidman).
Practical experience tells us otherwise:
The unconstrained chemical industry promoted pesticides
and caused extensive damage to the ecosystem, until the public and then
the government, aroused by Rachel Carson’s book, “Silent Spring,” put a
stop to it.
Similarly, the chemical industry strenuously resisted
demands that it cease the manufacture and distribution of chloro-fluorocarbons
(CFCs), when atmospheric scientists discovered that the CFCs were
eroding the stratospheric ozone, which protects the earth’s inhabitants
from ultra-violet radiation. Once again, the federal government, joined
by the governments of other industrialized nations, enforced a ban on
Scientific warnings about global climate change (“global
warming”) were countered by “junk science” sponsored by the energy
industry. Now, at last, as the fact of climate change becomes undeniable
and widely acknowledged, the same industry is promulgating the “line”
that climate change may not be all that bad, and might even be
beneficial. Clearly, mankind can not count on private enterprise to
solve this grave crisis. Only international agreement among the
industrial nations will suffice. Meanwhile, the Republican Congress, on
behalf of its “sponsors” the energy industry, is resisting international
Reduced labor costs yield increased profits and
increased dividends to the stockholders of the corporation. Thus, if
workers abroad accept wages that are a fraction of the wages demanded in
the United States, then the "responsible" policy of the corporation
executives is to re-locate jobs abroad. "Outsourcing." The
consequences to the displaced workers, and eventually to the national
economy, is devastating. But strictly speaking, that is not the concern
of the corporation. Not, that is, unless the government intervenes with
tariffs, tax incentives, regulations, and laws.
Finally, the tobacco industry, whose corporate
responsibility to its stockholders is to maximize profits, successfully
marketed its products to the point where half of the US population were
smokers. As a result, almost a half million Americans die prematurely
each year – nearly twice the total US casualties in World War II. Today,
only a fifth of adult Americans are smokers. No thanks to the industry.
Once again, government intervention, vigorously and persistently opposed
by the tobacco industry, has curtailed marketing and has publicized the
health hazards of smoking, saving the health and lives of millions.
We are all quite familiar with these “market failures,” and
many more. It is obvious that, in numerous undeniable cases the unregulated
free market fails to “make everyone better off,” as Milton Friedman would
have us believe. So why, if market failures are so compellingly obvious,
should we even bother to mention them? The answer is that our present
government is dominated by individuals who behave as if they don’t recognize
these malevolent consequences of free markets. So one after another,
regulations and laws designed to correct market failures are being
dismantled, as government regulatory agencies are staffed with lobbyists and
officers from the corporations that these agencies are charged to regulate.
But why do markets fail to produce optimal results for society at large?
Railroad tycoon, William Vanderbilt (1856-1938) said it all: “the public be
damned, I work for my stockholders.” Moreover individual entrepreneurs and
workers also want and strive for what is best for themselves. Indeed, as any
neo-classical economist will insist, personal want-satisfactions (e.g.,
profits) are what drive an economy.
Implicit in market absolutism and libertarianism is the belief that what is
best for each individual and each corporation is best for all individuals –
in other words, for “society at large.” As President Eisenhower’s Secretary
of Defense, Charles Wilson, put it: “What is good for General Motors, is
good for the country.” (For a refutation, see my
"Good for Each, Bad for All" and
"If It's Good for
General Motors, Is It Good for the Rest of Us?").
Market absolutism, like "young-earth creationism" and
biblical literalism, is a dogma, and thus it is untouched by hard evidence
and practical experience. "Market -- good; Government -- bad.
Period! Now don't confuse us with the facts."
Those who are not captivated by the dogma of market
absolutism (i.e., most of us), know better. We trust the scientists who tell
us that pesticides damage the ecosystem, that CFCs erode the ozone in the
stratosphere, that the continuing use of fossil fuels is changing the
climate. And we know that smoking causes lung cancer and premature death –
the cigarette packs tell us so, not because the tobacco companies warn us
out of a sense of social responsibility, but because the government requires
them to print the warnings.
Government regulation, and laws restricting commercial activity, arise, not
from dogma, but through accumulated practical experience and political
action. As human institutions they are imperfect, which means, to be sure,
that they are sometimes excessive. The appropriate response to “insolence of
office” is reform, not abolition of the office – reform through the same
processes of practical experience and political action.
As James Galbraith puts it:
“A new spirit of pragmatism surely requires that we
discard the metaphor of market determinism – whole and entire. No more,
let us bow and scrape before that altar. Markets have their place – they
are a reasonably open and orderly way to assure the distribution of
services and goods. They are not a general formula for the expression of
social will and the working out of social problems.”
Corporations quite properly work for the stockholders, and
private individuals, in their economic activities, work for themselves and
their families. But when these corporate interests and private activities
cause social harm, who or what is most authorized to act in behalf of
society – of all the people?
The solution is the same in all civilized societies: the law and the
government that enacts and enforces the law. To be sure, law and government
can be despotic and oppressive, and when they are, “it is [the] right, it is
[the] duty” of the people “to throw off such government.” (The Declaration
of Independence). Such "despotism" surely includes the situation that we
face today, as the corporations that should be regulated by government,
instead have taken control of the government. However, in liberal
democratic countries, law and government, unlike private enterprises, are
authorized to act in behalf of the public at large. This, the unregulated
free market can not do and must not presume to do.
There is nothing new or startling about these political principles. They are
enshrined in our founding documents:
We hold these truths to be self-evident: that all men
are created equal; that they are endowed by their Creator with certain
unalienable Rights; that among these are Life, Liberty, and the pursuit
of Happiness. That, to secure these Rights, Governments are
instituted among Men, deriving their just powers from the consent of
the governed, That, whenever any Form of Government becomes destructive
of these ends, it is the Right of the People to alter or to abolish it,
and to institute new Government... (Emphasis added).
And note in the Preamble to the Constitution, these
enumerated legitimate functions of government: “... establish Justice,
insure domestic Tranquility, provide for the common defence, promote the
general Welfare, and secure the Blessings of Liberty to ourselves and our
And yet, the dogma of the ruling elites would ordain that we put all these
founding principles aside, and in matters of public interest and social
welfare, “let the market decide.”
These individuals have the nerve to call themselves “conservatives.”
Copyright 2007, by Ernest Partridge