===== PAGE 1 ===== dl DEAS ON [IBERTY March 2000 Vol. 50, No. 3 FEATURES ¥ 8 150 Years and Still Dismal! by David M. Levy 11 The Irresistible Force of Market Competition by Israel M. Kirzner 17 The Myth of the Social Security “Trust Fund” by John Attarian ¥ 22 In Defense of Grocery Coupons by Bill Field 24 The Market for Space in the Market by Gary M. Galles 28 Spam, Spam, Spam, and Spam by Gary McGath 33 The Stakeholder Fallacy by Norman Barry 37 Regulatory Extortion by Thomas J. DiLorenzo 45 Sources of Pro-Union Sentimentality by Charles W. Baird 48 The Day We Read No More by Angus E. Crane COLUMN S THOUGHTS on FREEDOM—Moderation in All Things by Donald J. Boudreaux 15 IDEAS and CONSEQUENCES—Hospital Food and Socialized Medicine by Lawrence W. Reed 26 POTOMAC PRINCIPLES—Stealing from ATM Machines by Doug Bandow 31 THE THERAPEUTIC STATE—Does Insanity “Cause” Crime? by Thomas Szasz ¥ a3 ECONOMIC NOTIONS—The Hidden Cost of Taxation by Dwight R. Lee 51 ECONOMICS on TRIAL—Will the Savings Crisis Lead to Stagnation? by Mark Skousen 63 THE PURSUIT of HAPPINESS—They Can Afford It, Can’t They? by Russell Roberts DEPARTMENTS 2 Perspective-Humble Hubris by Sheldon Richman 6 More “Public Investment” Needed? It Just Ain’t So! by David Boaz 54 Capital Letters 56 Book Reviews Financing College Tuition: Government Policies and Educational Priorities, edited by Marvin H. Kosters, reviewed by George C. Leef; The Right to Home School: A Guide to the Law on Parents’ Rights in Education by Christopher J. Klicka, reviewed by Karen Y. Palasek; The Fountainhead: An American Novel by Douglas J. Den Uyl, reviewed by Tibor R. Machan; Alternate Route: Toward Efficient Urban Transportation by Clifford Winston and Chad Shirley, reviewed by John Semmens; Guilt, Blame, and Politics by Allan Levite, reviewed by James A. Woehlke; The Third Way: The Renewal of Social Democracy by Anthony Giddens, reviewed by Antony Flew. Lesson plans for ¥ articles are available at www. fee.org. ===== PAGE 2 ===== IDEAS Se amp—— Humble Hubris Published by. _ for Economic Education Al Gore, presidential aspirant and environ- Irvington-on-Hudson, NY 10533 mental sage, once spoke admiringly of an Phone (914) 591-7230 FAX (914) 591-8910 Indian tribe whose leaders, he said, planned E-mail: iol@fee.org FEE Home Page: http://www. fee.org seven generations ahead. His message was President: Donald J. Boudreaux oar if only we shallow, conceited boungeos Editor: Sheldon Richman EE le . the concern and humility to Managing Editor: Beth A. Hoffman tnx tke that. i , I don’t believe there was such a tribe. Any- Editor Emeritus , . Paul L. Poirot one who does can’t tell the difference between Book Review Editor thinking and wishful thinking. George C. Leef But it is revealing that someone like Al Editorial Assistant Gore would believe it and revere the tribe. It Mary Ann Murphy TY 5 hardly indicates a humble awareness of man’s Columnists cL. . spe, qe . . Charles W. Baird limits. (That such a tribe, if it did exist, is not Doug Bandow around today should surprise no one.) Dwight R. Lee Anyone who would try to plan seven gener- Lawrence W. Reed . . . ©. Russell Roberts ations in advance would be either claiming Mark Skousen a megalomanic knowledge of the future or Thomas Szasz presuming to tell his descendants how to Walter Williams live regardless of their preferences. Neither Contributing Editors flatters. Peter J. Boettke Clarence B. Carson Thomas J. DiLorenzo The eagerness to believe something so ridiculous illustrates a key difference between Burton W. Folsom, Jr. the “environmentalist’s” and the economist’s Joseph S. Fulda mindsets. Despite the humble mask, the ideo- Dettina Bien Greaves logical environmentalist is vain enough to obert Higgs . . John Hos ho think he knows enough to plan society’s Raymond J. Keating future, overriding individual rights in the Daniel B. Klein process. The economist (I have in mind espe- Wendy McElroy cially the Austrian school) understands that ibor R. M : ort > -— the world is open-ended and that we don’t Ronald Nash know today what we will learn tomorrow. The Edmund A. Opitz environmentalist, sensing no limits to his James L. Payne knowledge, feels justified in shaping and then ezi i Vv i 1 pap Peterson freezing social development. The economist, ane o. aw . . . Richard H. Timberlake understanding the limits of knowledge at any Lawrence H. White given point, looks to the free market, rooted in Ideas on Liberty (formerly The Freeman: Ideas on Liberty) is the month- private property, for discovery and a multi- ly publication of The Foundation for Economic Education, Inc., Irvington- plicity of individual plans. on-Hudson, NY 10533. FEE, established in 1946 by Leonard E. Read, is a . . . non-political, educational champion of private property, the free market, The environmentalist will protest that the and limited government. FEE is classified as a 26 USC 501(c)(3) tax- : : exes crgmizion. a economists method leaves society vulnerable opyTight y The Foundation for Economic Education. Per- 1 1 - mission is granted to reprint any article in this issue, provided credit is to coming disasters. On the contrary, the econ given and two copies of the reprinted material are sent to FEE. omist is confident that people are better able The costs of Foundation projects and services are met through dona- . . tions, which are invited in any amount. Donors of $30.00 or more receive to handle disasters if they are wealthy, because a subscription to /deas on Liberty. For delivery outside the United States: : ISS I $45.00 to Canada; $55.00 to all other countries. Student subscriptions are wealth permits flexibility of response and $10.00 for the nine-month academic year; $5.00 per semester. Addition- 1h 1 1 al copies of this issue of Ideas on Liberty are $3.00 each. resilience. Besides, since our knowledge of Bound volumes of The Freeman are available from The Foundation for the future 1S always far from complete, we calendar years 1972 to 1998. The magazine is available in microform from University Microfilms, 300 N. Zeeb Rd., Ann Arbor, MI 48106. Cover photo: Gerard Fritz, Weststock. 2 ===== PAGE 3 ===== don’t know what disaster, if any, is coming. boxes, because the marketplace is perfectly Locking in future generations on the basis of capable of handing the problem. present knowledge is not just arrogant, it is Advocates of government control of busi- foolhardy. ness have found a new cause in recent years. They claim that since shareholders are not the only ones with a stake in corporations, the Everyone knows that economics was government ought to enforce the firms’ oblig- dubbed the “dismal science” in the nineteenth ations to all their “stakeholders.” Norman century. But why was it dubbed that? David Barry sees some fissures in the argument. Levy has the shocking answer. Would officeholders use the government’s If the law of supply and demand operates as regulatory power to exact tribute from busi- a result of entrepreneurs’ efforts to grapple ness? Do turkeys gobble? Thomas DiLorenzo with an uncertain world, and if those efforts examines this most perverse form of entrepre- generate the rivalrous process known to most neurship. people as competition, is there a role for Despite a history marred by violence, labor antitrust law to maintain competitive mar- unions have occupied a special place in the kets? Israel Kirzner renders his verdict, as he hearts of legislators, judges, and even many continues his series on fundamentals of Aus- regular people. Charles Baird identifies the rea- trian economics. son for this and explodes the underlying myths. The Social Security Trust Fund is much in When officers of government prohibit citi- the news. Is it being raided? Can it be pro- zens from reading, it shouldn’t go unnoted. tected? John Attarian asks—and answers—a Angus Crane relates an ominous encounter. more penetrating question: Is there a Trust Our columnists have found some juicy top- Fund at all? ics to ruminate on. Donald Boudreaux says If you're stuck in a supermarket checkout there's no escaping tradeoffs. Lawrence Reed line, you may be tempted to think that looks at a food fight in Manitoba. Doug coupons are costly gimmicks that serve no Bandow and Russell Roberts wonder why good purpose. Not so, says Bill Field. ATM fees are a problem. Dwight Lee sees And while we’re on the subject of super- hidden costs in taxation. Thomas Szasz markets, is it unfair for them to charge manu- discusses the alleged connection between facturers fees for shelf space? Doesn’t that “insanity” and crime. Mark Skousen sees new harm small companies and the consumers respect for savings. And David Boaz, con- who would enjoy their products? Gary fronting the claim that “public investment” is Galles subjects the matter to some economic deficient, responds, “It Just Ain’t So!” analysis. This month’s reviewers report on books A cost of the age of e-mail is “spam,” the about higher education, homeschooling, Ayn electronic equivalent of shady junk mail. But Rand’s The Fountainhead, transportation, Gary McGath says there’s no need to ask the guilt, and the “third way.” government to rescue those jammed e-mail- —SHELDON RICHMAN * k *k ===== PAGE 4 ===== Thoughts on Freedom IDEAS ON JIBERTY MarcH 2000 by Donald J. Boudreaux Moderation in All Things A ere wisely advised moderation in make whatever choices they wish. But make all things. Gluttons and fanatics self- your choices. Make them rationally and wise- destruct by refusing to make the tradeoffs ly. Your choices may differ substantially from necessary to lead a good life. “Don’t tell me mine. But as long as you choose your own that I can’t drink and carouse every night and tradeoffs rationally—without abdicating that not succeed in my career!” insists the fool. “I responsibility to others or to fate—your can have it all.” prospects for a fulfilling life are promising. Well, he can’t. No one can. The Aristotelian counsel of moderation is, That’s the thing about tradeoffs. Theyre thus, a plea to weigh tradeoffs mindfully. It unavoidable. If you don’t make your own has an important implication for public poli- tradeoffs, they will be made for you by nature, cy, which is this: true moderation (and its by chance, or by other people. And it’s a sure resulting happiness) is necessarily an individ- bet that when you abdicate your ability to ual pursuit and accomplishment. It cannot be choose how your tradeoffs are made, the ways achieved by a third party, whether that third that nature, chance, or other people make party is a democratic majority or a dictator. them for you will displease you. The reason is that, in each instance, striking As I read it, Aristotle’s counsel of modera- the right tradeoff requires assessing the rela- tion is no puritanical call for an austere life tive merits of many different options in light unadorned by intense sentiments, pleasures, of each person’s unique circumstances, oppor- and passions. Rather, he counsels personal tunities, and aspirations. responsibility and rationality in pursuing your Because you cannot know my preferences, sentiments, pleasures, and passions. You sim- hopes, history, and opportunities, and because ply cannot enjoy limitless amounts of all the I cannot know yours, neither of us is well possible joys available in life. If you grasp equipped to make sound decisions for the unthinkingly at every pleasurable opportunity other. Were I to attempt, even with excellent that passes your way, you will not be making intentions, to make your choices for you, the choices. You will be reacting mindlessly. And result would not be moderation for you. The your mindless pursuit of immediate pleasures result would be immoderation. My inability to will deny you access to other opportunities. know your aspirations and circumstances You will enjoy fewer pleasures and much less inevitably would cause me to foist on you happiness over the long haul than you would too much of some things and to deny you have enjoyed had you acted rationally. too much of others. Your life would be Make whatever choices you wish, constrained imbalanced. only by your respect for the rights of others to Indeed, to the extent that you as an individ- ual are stripped of your right to choose, you Donald Boudreaux is president of FEE. are stripped of humanity. Whether you believe ===== PAGE 5 ===== that your capacity for rational thought is God- the Good—or, at least, by those who fancy given or the exclusive product of natural themselves anointed because they’ve achieved selection, the fact is that you possess this political power. capacity. Your capacity to think and to choose Of course, it’s true that even the most pru- is who you are. Exercising it is what makes dent amongst us sometimes make poor choic- you an individual. The very concept of indi- es. It’s also true that some of us persistently viduality is empty absent each person’s right react childishly rather than choose wisely. But to make his own life’s choices. one of the beauties of a society governed by Some readers might respond with an “Of the impartial rules of private property rights course. Who denies that freedom to choose is rather than by government dictates is that the necessary both for human happiness and for consequences—good and bad—that fall on the flourishing of individuality?” To this each decision-maker correspond closely to response I say: While many people pay lip the consequences that these decisions have on service to this fact, too few really believe it. others. If I produce a $200 computer that has Consider, for example, the demonization all of the features and reliability of a model over the past several years of tobacco compa- that costs $2,000, I prosper. If, in contrast, I nies. This demonization occurred only use resources to produce chocolate-covered because it 1s widely believed that people are pickles, I lose money. Likewise, if I use my mindless fools who lack sufficient capacity to energy and time to acquire productive skills judge and choose wisely. If people so lack the and knowledge, I prosper. If, in contrast, I capacity to choose wisely that the mere sight squander my energy and time pursuing noth- of a cigarette jutting from the chiseled chin of ing other than my own immediate gratifica- a cowboy impels them to smoke, then a solid tions, I personally pay the price. case might be made that tobacco companies But when politics replaces freedom and are predators seizing profit from a fundamen- personal responsibility, people who make tal human weakness—namely, an inability to poor decisions—for example, domestic pro- choose and act wisely. ducers who don’t invest as wisely as foreign But if most of us truly believe both that firms—are often shielded from the conse- people are capable of making their own choic- quences of their poor choices. Political favors es wisely and that people’s freedom to choose enable such people to persist in their own ought not be throttled, then efforts to demo- immoderation, but only by taxing and regulat- nize tobacco companies would fail. It is ing the rest of us in ways that compel us to today’s presumption that smokers are helpless support their immoderate behavior. In the dupes—that people are mere reactors rather end, society winds up with immoderately than actors—that is the source of the current large amounts of the undesirable behavior hostility toward smoking and tobacco compa- protected by government and too little of the nies. And it follows almost inevitably from desirable behaviors necessary for a prosper- this despairing view of humans-as-foolish- ous, free, and civil society. reactors that ordinary men and women must To have moderation in all things requires be protected from themselves by the Wise and freedom from immoderate government. [J ===== PAGE 6 ===== IDEAS ON [IBERTY MARCH 2000 More “Public Investment” the idea that things public should be vaguely Needed? shabby,” he complains. Considering the trillions of dollars spent on government infrastructure since Galbraith ¢ made the same point, one begins to wonder It Just Ain t So! whether there’s something inherently shabby ’ about government operations. Indeed, no one thinks that government schools, parks, high- t must be something in the water. Robert ways, and buildings should be shabby, but Kuttner is the latest writer from the Boston Kuttner is right to suggest that we’ve come to suburbs to complain that Americans don’t expect that they will be. spend enough of their hard-earned money on “public investment.” In a column that the . 2 . 99 Washington Post titled “Public Parsimony, EUPLIC versus “Public Private Affluence” (November 29, 1999), We should briefly note the clever use of the Kuttner concluded that “paradoxically, a peri- word “public” by advocates of bigger govern- od of unprecedented private affluence is ment. When we contrast “public” parks, exactly the right time” to start spending yet schools, and so on with “private” spaces, more money on government projects. there’s always the implication that the “pub- John Kenneth Galbraith, now an emeritus lic” spaces are open to us all, while the “pri- professor of economics at Harvard University, vate” spaces are closed and exclusive. But of may have been the first to make this com- course, most private schools are open to the plaint. In his 1958 bestseller, The Affluent public, as are most private parks, malls, and Society, still a staple of college reading lists, transportation systems. The real difference is the former World War II economic czar looked how they’re paid for: “Public” spaces are paid around America and proclaimed that he found for coercively, through taxation, while “pri- “private opulence and public squalor.” That is, vate” spaces are paid for by those who choose he noticed that privately owned resources were to use them or to contribute to their upkeep. generally clean, efficient, well maintained, and In fact, that’s precisely what Kuttner and his improving in quality, while public spaces were allies don’t like. They want us to be forced to dirty, overcrowded, and unsafe—and he con- pay for services that will be open to all, and cluded that we ought to move more resources they chafe at the idea that we might choose into the public sector. how to spend our own money or that a gener- In 1995 then-Secretary of Labor Robert ous donor’s name might appear on a school, a Reich, formerly a professor at Harvard’s park, or a public sculpture. Kennedy School of Government, told the Kuttner says that “civilian public invest- graduating class of the University of Mary- ment is now at the lowest share of gross land not to “secede” from public spaces—that domestic product in three decades.” Of is, not to send their children to private course, with GDP rapidly rising, that lower schools, live in gated communities, work in percentage can still generate more real dol- the suburbs, and (gasp!) shop in secure subur- lars. But the main reason that taxpayer spend- ban malls. ing on infrastructure is lower than it was in the Now comes Kuttner, a former lecturer at 1950s and 1960s in percentage-of-GDP terms the Kennedy School who now lives in subur- is given by John Tatom of the Federal Reserve ban Brookline, to make exactly the same Bank of St. Louis: “The real capital stock at kinds of observations. “We’ve gotten used to all levels of government rose from $6,000 per ===== PAGE 7 ===== 7 person in 1948 to $10,500 in 1970 and has Why do market-provided services generally remained at that level since. The leveling off work better than taxpayer-funded services? of infrastructure spending since 1970 is Because incentives matter. Investors who put almost entirely attributable to the completion their own money into a project have a great of the interstate highway system and a reduc- deal to lose if they take six years to complete a tion in spending on school construction as the four-month project. Employees of private com- percentage of the population that is of school panies are much more conscious than govern- age has declined.” ment employees that if they do a bad job they Total spending by state and local govern- could be fired—or the entire company could ments—which do most of the infrastructure fail. And as much regulation of business as spending—has risen (in real terms) from there is, there is even more regulation of gov- $599 billion in 1970 to $1.4 trillion in 1996. ernment projects. New York City has to adhere One obvious reason that states don’t spend to New York State’s Wicks law, which requires more on infrastructure is that they are spend- government agencies to hire separate contrac- ing so much more on things that were previ- tors for construction, plumbing, electrical, and ously not the concern of government—hous- heating and ventilation work. It must use an ing expenditures up 162 percent in that peri- elaborate bid process to find the lowest bid- od, health-care spending up 450 percent. der—but it must also adhere to the federal Kuttner notes that “the 19th century was Davis-Bacon Act, which requires that federally the golden age of public planning for public funded projects (which includes most local spaces.” But government was much smaller as construction projects) pay union wages, and it a percentage of GDP in the 19th century. must comply with various gender, race, small- Even since Kuttner’s glory days of the business, and veterans’ preferences. 1950s, government spending has soared. Kuttner is pleased as punch that the small Local governments have taken on every task town of Brookline has “at last” built a retain- from special education to grief counseling to ing wall to prevent the local schoolyard from public golf courses to city-planning seminars “turning into rivers of mud every spring.” in the Caribbean; they have massively “How marvelous,” he writes, “to see the pub- increased spending on various forms of wel- lic sector doing something so thoughtfully fare; and they have been forced to comply and well.” with reams of red tape and regulation that Talk about low expectations in our nation’s make every construction project far more schools. Private companies are building high- expensive than it needs to be. speed information networks, global satellite The 1986 story of Donald Trump and the systems, Disney Worlds around the globe, and skating rink is a classic example of the con- 1.6 million housing units every year. And the trast between public and private construction city of Brookline has done a marvelous job on projects. In 1980, New York closed the 30- a retaining wall, at last. year-old Wollman Memorial skating rink, say- We’ve had another generation of private ing it would take two years and $4.9 millionto progress and public deterioration since the restore it. After wasting six years and $12.9 publication of The Affluent Society, and it million, the city had to start over; it would sounds like even our most enthusiastic statists need two more years and $3 million more. don’t have very high hopes for government Enter Trump. After persuading then-Mayor services any more. With good reason. Ed Koch to let him do it, Trump completed —DaAviD Boaz the job in three-and-a-half months and Executive Vice President $750,000 under budget. Cato Institute ===== PAGE 8 ===== IDEAS @ History, Economics ON JIBERTY MarcH 2000 150 Years and Still Dismal! by David M. Levy n December 1849 Thomas Carlyle pub- that of letting men alone, is also wonderful. lished “Occasional Discourse on the Negro Not a “gay science,” I should say, like some Question” in the London monthly Frasers we have heard of; no, a dreary, desolate, Magazine. In it he labeled the economics of and indeed quite abject and distressing his contemporaries “the dismal science.” In one; what we might call, by way of emi- the next issue of Frasers, the greatest British nence, the dismal science. These two, economist of that era, John Stuart Mill, Exeter Hall Philanthropy and the Dismal responded. That brief exchange—it counts Science, led by any sacred cause of Black less than 20 pages—is at the very heart of the Emancipation, or the like, to fall in love nature and significance of classical British and make a wedding of it,—will give birth economics. to progenies and prodigies; dark extensive While everyone has heard that economics moon-calves, unnameable abortions, wide- 1s the “dismal science,” almost no one in eco- coiled monstrosities, such as the world has nomics these days seems to know what not seen hitherto!” aroused Carlyle’s ire. The failing is not Car- lyle’s; he is as clear as can be as to what exact- Much of the rest is unprintable in this ly is the problem with economics. It stands respectable periodical; it reads like the vile opposed to racial slavery. In the passage I racist screed it is. Nonetheless, if one can bear quote next—which contains the first use of the racial pornography, Carlyle makes a point “dismal science” in the language—the only of vital importance: the economics of his fact that a modern reader lacks is that Exeter contemporaries in its idealization of market Hall was the heart of organized Evangelical- relationships among equals stands in opposi- ism, the moral center of the British antislave tion to his dream of slavery’s hierarchical movement: obedience. Too often soft-pedaled by those who Truly, my philanthropic friends, Exeter admire his attack on economics, Carlyle was Hall Philanthropy is wonderful; and the the premier theorist of the idealized slave Social Science—not a “gay science,” buta society. In opposition to the economists’ rueful [one]—which finds the secret of this supply-and-demand model of human society, universe in “supply-and-demand,” and he put forward the doctrine of obedience to reduces the duty of human governors to one’s betters. While he had been making such id . . *[Thomas Carlyle}, “Occasional Discourse on the Negro Ques- Davi Levy is a professor of economics at George tion,” Fraser's Magazine for Town and Country, December 1849, Mason University. pp. 672-73. ===== PAGE 9 ===== 150 YEARS AND STILL DisMAL! 9 quoted above. One of the most effective pieces of economic analysis of the time was Harriet Martineau’s demarcation of the hid- den economics of interracial sexuality in the American south. This demonstration, when retold in fictional form in Uncle Tom's Cabin, devastated the pretensions to slavery owners’ benevolence. The lack of public prostitution in southern cities—a fact that had been pointed to as evi- dence of the moralizing effect of slavery in the debates of the time—was explained by Martineau’s extension of classical population theory. Why would a man rent a woman by the hour when he could buy her and keep the chil- dren for resale? Colored children, after all, followed the status of their mother. Slave con- cubinage replaced public prostitution. After Martineau, everyone knew how to see this. And by seeing this, one knew all there was to know about the benevolence of those with Thomas Carlyle absolute power over the lives and persons of their subjects. arguments through the 1840s, it wasn’t until the “Negro Question” that he realized that all white people are “better” than all black people. This certainly made the idealized When we view the past through the lazy slavery more attractive for white Britons than status quo of the present, we are liable to take one in which they might be on the cutting end as conservative those forces that helped effect of the “beneficent whip”—a phrase in “Negro this status quo regardless of the direction in Question” that Mill singled out for particular which the world was moved. Economists who attention. helped end racial slavery are in modern Carlyle idealized slavery in the same way accounts judged reactionaries by modern economists idealized markets. To match the readers who find it impossible to imagine that economists’ claim of mutual gain from anyone of intelligence and integrity would exchange, Carlyle put forward the doctrine of defend racial slavery. With this failure of the joys of service to one’s betters. And imagination comes the inescapable conclu- according to the way things were supposed sion that the only possible direction from to work, the common religion would give which classical economics can be attacked by the details of the hierarchy. (This is why someone serious is from the pro-socialist Carlyle and his admirers often had “prob- direction. lems” with Jews; in particular, why we find Of course this failure of imagination is the Anglo-German writer H. S. Chamberlain aided and abetted by strategic silence. If a stu- cited in Mein Kampf for his rants on the dent knows the Carlyle-Mill debate, it is subject.) impossible to think of the classical econo- Then and now, justification of slavery by mists as taking the reactionary side in the Vic- any name assumes the benevolence of torian debate over social organization. The masters. It is with respect to the claim that alternative to markets was not socialism. slavery is a more benevolent institution than There were socialist experiments, but there markets that I propose we read the sexual were no socialist economies. The alternative references in the “dismal science” passage to market organization was slavery. Teachers Interpreting the Facts ===== PAGE 10 ===== 10 IDEAS ON LIBERTY © MARCH 2000 have to work rather hard to hide this fact. For an administrative massacre of nonwhite instance, when students in classes in British Jamaicans? On the side demanding colorblind literature encounter Charles Dickens’s 1854 justice we find the old coalition Carlyle Hard Times, with its savage attack on markets opposed, antislave Evangelicals and econo- and market economics, teachers wishing to mists now joined by Charles Darwin and T. H. present Dickens as “progressive” have to be Huxley. In opposition we find all the major careful. When they explain why it is antimarket voices in Victorian literature— “inscribed to Thomas Carlyle,” it is probably Dickens, John Ruskin, Charles Kingsley, and helpful to their cause if they not mention that Alfred Tennyson—joining Carlyle in making in 1853 Carlyle republished an expanded ver- the case that it could not be murder to kill sion of his part of the exchange with Mill Jamaicans of color because one could only under the title Occasional Discourse on the murder people. Nigger Question. What would modern stu- The defeat of the Evangelical-economic dents think if they knew that the attack on coalition was complete. Eyre walked; Mill market transactions came from those who ide- lost his seat in Parliament; the century alized slavery for black people? of -administrative massacre began. And the The Carlyle-Mill debate was a theoretical episode is never mentioned when in English debate. Ideas do have consequences. The classes the stories of the progressive literary issues stopped being purely theoretical in figures and the heartless economists are what historians call the “Governor Eyre retold. controversy” of mid-1860s Britain. What One of these days students will learn how ought we to do about those responsible for to read the silence between the lines. Cl FREEMAN (Ideas On Liberty) 1999 Bound Volume he 12 issues from January through December 1999 have been gathered into a single volume—sturdily sewn with navy blue cloth cover and gold foil stamping—768 pages, fully indexed for handy reference to the latest literature of freedom. More than 100 feature articles on topics such as antitrust, education, environment, government regulation and control, health care, individual rights, labor, money, private property, and international trade. Columns by Walter E. Williams, Mark Skousen, Larry Reed, Dwight Lee, Doug Bandow, Charles Baird, Russell Roberts, Sheldon Richman, and Thomas Szasz. Reviews of more than five dozen books—and all of Don Boudreaux’s messages. $24.95 each Save! Special introductory price: $19.95, through April 30, 2000 ===== PAGE 11 ===== IDEAS ON [IBERTY The Irresistible Force of Market Competition by Israel M. Kirzner he systematic character of the market ated with the absence of market power (to process derives, in the Austrian view, effect change in price or product quality). A from the interplay of the actions of entrepre- competitive market is one in which no firm neurial human beings. Entrepreneurs act possesses market power. There is a certain imaginatively and creatively, seeking to iden- reasonableness to this use of the term. Com- tify and to grasp market profit opportunities petition is seen as the antithesis of monopoly. (generated by earlier entrepreneurial limita- Monopoly is identified with possession of the tions of vision). As a result of the interplay of power to name one’s price without having to such entrepreneurial acts of vision, product worry whether this will encourage one’s prices and quantities of product offered for potential customers to seek more favorable sale tend to be nudged systematically in the terms elsewhere. direction of the market-clearing price/quanti- Competition is therefore reasonably under- ty configuration. stood to mean the situation in markets where In the present article we draw attention to such monopoly power is absent. “Perfect” the essentially competitive character of this competition therefore came to mean the situ- entrepreneurial process and draw out some ation in markets where each and every partic- critical implications for any assessment of ipant lacks any power whatever directly to governmental antitrust policies. We must influence product price or product quality. begin by pointing out certain crucial ambigu- The conditions needed to define such a per- ities that have long plagued economists’ use fect situation are, as we would expect, com- of the adjective “competitive.” The problem pletely unrealistic, including (as we saw in the was identified over half a century ago by F. A. first in this series of articles) universal perfect Hayek; despite the valiant efforts of Hayek information concerning all current market and others, the problem continues to confuse events and potential events. But this is not both economists and the public. necessarily a damning weakness; the notion of the state of perfect competition is, after all, The Meaning of Competition seen in mainstream economics not as a description of reality, but as a model able to For the mainstream of economic theory the serve (a) as a theoretical framework helpful notion of competition has come to be associ- fo; understanding real-world markets, and (b) as a yardstick of perfection against which York University and author of The Meaning of Mar- to assess the SCTIOUSNESS with which real- ket Process. This is the third in a series of articles world situations (of less-than-“perfect” com- laying out some foundational elements of modern Petition) fall short, in terms of the resulting Austrian economics. pattern of resource allocation, as compared 11 Israel Kirzner is a professor of economics at New ===== PAGE 12 ===== 12 IDEAS ON LIBERTY © MARCH 2000 with the perfectly competitive efficiency tance that so much twentieth-century antitrust ideal. It is this model of perfect competition policy can be seen as positively harmful, which is, in mainstream economics, seen as as seriously obstructing the competitive- the heart of the law of supply and demand, entrepreneurial market process. and which has, in the history of modern antitrust policy, driven governmental efforts to “maintain competition” —that is, to secure a structure of industry reasonably close to the Certainly the dispute concerning the mean- perfectly competitive ideal. ing of “competition” is a semantic one. But, For Austrians, however, the term competi- together with, and underlying, the semantic tion has a completely different meaning, both squabble (which, admittedly, should not over- for understanding how markets work and for ly concern us as economists; after all, new formulating public policy in regard to the terms can be coined that are not subject to structure of industry. Austrians find the main- misunderstanding), there is a profound sub- stream meaning of “competition” not only stantive disagreement concerning the way in unhelpful, but in fact grossly misleading in which markets work. The mainstream notion terms of economic understanding. For Austri- of competition sees it as a state of affairs: the ans it is clear that to seek to emulate an notion of competition has nothing to do with “ideal” state in which no single entrepreneur the process through which the market can have impact on market price or output achieves its results. For Austrians, on the quality is in effect to seek to paralyze the other hand, it is the market process that is competitive market process. important. And that market process cannot be Following a long tradition in economics imagined at all without necessarily departing going back at least to Adam Smith, Austrians from that state of complete powerlessness define a competitive market not as a situation which mainstream economics sees as perfect- where no participant or potential participant . ly competitive. For Austrians the adjective has the power to make any difference, butasa “competitive” captures the essential feature of market where no potential participant faces the market process. nonmarket obstacles to entry. (The adjective In other words, entrepreneurial actions that “nonmarket” refers, primarily, to government are, in the Austrian sense of the term,” seen as obstacles to entry; it is used to differentiate essentially and emphatically competitive, as such obstacles from, for example, high pro- critical steps in the market process, are, in the duction costs that might discourage entry. mainstream view, seen as anticompetitive, as These latter do not constitute noncompetitive monopolistic, as aberrations to be eliminated elements in a market; to be able to enter for the sake of the efficient-market ideal. means to be able to enter a market if one As a result of this confusion of thought in judges such entry to be economically promis- twentieth-century economics, governments ing—it does not mean to be able to enter ostensibly intent on maintaining the competi- without having to bear the relevant costs of tiveness of markets have been seen as having production.) That is, a situation is competitive the obligation to outlaw and zealously stamp if no incumbent participant possesses privi- out the very actions through which ordinary leges that protect him against the possible competitive strategies are effected. A brief entry of new competitors. glance at typical tools in the antitrust kit can The achievements that free markets are able help illustrate this Austrian critique. to attain depend, in the Austrian view, on free- dom of entry, that is, on the absence of privi- Some Tools of Antitrust lege. It is because the law of supply and demand (as understood by Austrians) depends Obstructing mergers. Antitrust policy has crucially on freedom of entry that this mean- traditionally frowned upon (and often prohib- ng of the term “competition” is $0 imp ortant. " *This is also the sense universally adopted by business people, As we shall see, it is because of this impor- and the sense once universally followed by economists as well. Semantics and Substance ===== PAGE 13 ===== THE IRRESISTIBLE FORCE OF MARKET COMPETITION 13 ited) mergers between hitherto competing ture indeed dictates these higher prices, as firms. The rationale is, given the mainstream being the lowest ones sustainable in a com- perspective, obvious and plausible. Replacing petitive world. two competing firms by one larger firm can- Preventing predatory price-cutting. What not but constitute a reduction in the degree of seems, from the mainstream perspective, a market competition (in the mainstream defin- clear strategy of eliminating competition ition of the term). Two less powerful firms occurs where a large firm temporarily keeps have been replaced by one more powerful prices very low, thus forcing smaller compet- firm. ing firms out of the industry, and is then able But the Austrian view must be that such a to raise prices drastically with impunity. Care- merger, provided the potential entry of others ful theoretical and historical analysis has cast has not been and is not being artificially serious doubt on even the possibility that such blocked, is itself an entrepreneurial act, a a strategy could be successful and on the competitive act; the blockage obstructs the validity of the classic claims that such strate- way in which market competition is able to gies were indeed employed around the turn of discover the best size of firms and thus the the century in U.S. industry. But the Austrian lowest cost at which production can be main- objection to government attempts to limit so- tained. (Even if a single firm supplies an called predatory price cuts does not rest on entire industry, the industry is still competi- this analysis. Rather the Austrian objection is tive, in Austrian terminology, so long as the that, so long as entry is not artificially firm is kept on its toes by the potential threat blocked, even where “monopoly” positions of new entrants into this industry, as well as have indeed been acquired through “predato- by the threat and/or reality of competition ry” price-cutting, these positions have been from industries producing substitute com- acquired as part of the competitive process, modities.) and can only be maintained in the teeth of Outlawing price collusion. A group of new potential competition. powerful firms may collude to keep prices No one can know when a price cut that high; their motives may be to cartelize the eliminates a competitor is intended to estab- industry, to eliminate interfirm competition lish a “monopoly”; more to the point, even and thus to force the consumer to pay more. an attempt to establish a “monopoly,” taken For this reason antitrust policy has of course in the face of freedom of entry, is itself a been directed toward preventing such price competitive step. No one denies that eco- collusion. But the Austrian perspective sees nomic muscle may be used to confront matters quite differently. Even where the consumers with higher prices. But if competi- motive is indeed to paralyze interfirm compe- tion can indeed conceivably serve the con- tition, such collusion is itself a competitive sumers better, then these higher prices are step—since, in the absence of artificial themselves the way—the competitive way— blockage against entry, such collusion can be through which it becomes profitable for taken only in the face of the threat of compe- new entrants to discover how better to serve tition from new entrants (who may in fact be consumers. able to profit by offering to sell at lower prices). No one knows when a price is “00 yp, ay grahle Market Competition high”; only the competitive process of entry (or of the threat of potential entry) can reveal Our desperately brief glance at antitrust the lowest level of price that can be sustained. attitudes should perhaps suffice to confirm So long as entry is open, the colluding firms our central Austrian thesis: What is needed to may, in seeking to maintain their higher stimulate that all-powerful entrepreneurial- prices, be unwittingly attracting new entrants competitive process upon which the free mar- to reveal the truth that lower prices are sus- ket depends is nothing more than freedom of tainable. Or they may, if no such new entry entry to anyone with an idea of how to profit occurs, be demonstrating that the cost struc- by serving consumers more faithfully than ===== PAGE 14 ===== 14 IDEAS ON LIBERTY ® MARCH 2000 they are being currently served. It is impor- obstruct this process in the name of competi- tant to remember that no claim is made that tion (!) is to undermine the only way through freedom of entry entails that competitors which the tendency toward social efficiency is refrain from attempts to monopolize markets. possible. By obstructing or preventing entre- They may attempt to do so; and certainly their preneurial steps taken that do not fit the “per- efforts may possibly place the consumer in a fectly competitive” model of universal utter worse position (than he might be under a sys- powerlessness—even if such obstruction or tem reflecting perfect knowledge). The Aus- prevention stems from the best of intentions trian claim is that since no such perfect on behalf of consumers—government is nec- knowledge can exist, we must rely on the essarily tending, to a greater or lesser extent, competitive-entrepreneurial process to reveal to paralyze what is truly the competitive how the consumer may be better served. To process. Od THE CLASSIC BLUEPRINT FOR A JUST SOCIETY THE LAW BY FREDERIC BASTIAT New Introduction by WALTER E. WILLIAMS Foreword by SHELDON RICHMAN “Phenomenal! An amazing and timeless treatment of the cost of using government to solve problems.” — Russell Roberts, author of The Choice 3 copies for $10.00 postpaid 96 pages with index, paperback (quantity discounts available) Please send check or money order to: FEE, 30 South Broadway, Irvington-on-Hudson, NY 10533 Credit card orders: 1-800-452-3518 ===== PAGE 15 ===== Ideas and Consequences by Lawrence W. Reed IDEAS ON [IBERTY MARCH 2000 Hospital Food and Ny Socialized Medicine BA Hee food is rarely mistaken for became a symbol of efficiency for the suppos- gourmet cuisine anywhere, but at least edly compassionate do-gooders in govern- it’s not an issue over which major political ment. Why pay hundreds of workers in dozens campaigns are waged. Except in Canada, of Manitoba kitchens when we can just zap up that is. frozen dinners from Toronto? Somebody sug- Last September, a colleague of mine visited gested that the province could save more Manitoba, a province in central Canada. Elec- money by serving these meals in the legisla- tioneering was at a fever pitch, with just a few ture’s dining room too, but that was one idea days left before voting for a variety of public that the politicians dismissed as truly half- offices. My friend was astonished to observe baked.” that the dominant issue was indeed hospital As it turned out, unease with the govern- food. It had become a political hot potato, the ment’s handling of health care, including vile candidates outdoing one another to express victuals, was one reason the incumbent gov- concern and promise action. ernment in Manitoba went down to defeat. The unhappy patients of Manitoba’s hospi- tals and personal-care homes have com- plained for months about the introduction of “rethermalized food”—cut-rate meals pre- How does hospital food become a political pared 1,300 miles away in Toronto, then issue? The same way anything—from the frozen and shipped to Manitoba, where they important to the utterly inconsequential— are nuked in microwave ovens and served. becomes a political issue: socialize it. Take Peter Holle, president of the Frontier Centre any matter that people normally resolve for Public Policy in Winnipeg, explained to quickly, peacefully, and privately by their own me that the rethermalized meals idea was a choices and initiative, turn it over to govern- cost-saving “innovation” of government ment, and watch what happens. Factions arise. bureaucrats employed by regional health Conflict ensues. Problems appear. authorities. Indeed, by turning such matters over to “Never mind that they taste like card- government, you can actually ensure that board,” says Holle. “Never mind that individ- minor problems become big and intractable. ual tastes and circumstances might dictate Government makes decisions that it finances decentralized food services. Reheated meals by taxes and imposes with its police power. That employment of force guarantees that —_— S if not dy, wi appy. Lawrence Reed is president of the Mackinac Center omebody, if not everybody, will be unhappy Sor Public Policy (www.mackinac.org), a free-market If thay can't escape the system because research and educational organization in Midland, they're forced into it, then they’ll bicker and Michigan, and chairman of FEE’s Board of Trustees. fight endless and often silly battles. 15 How to Politicize an Issue ===== PAGE 16 ===== 16 IDEAS ON LIBERTY ® MARCH 2000 This is yet another argument for keeping be allowed to get a quick (private) cataract government confined to a few basic functions surgery? Or is it that Mr. Jones, who just like defending life, liberty, and property. Life makes rent every month, gets (publicly fund- is too short to waste precious time politicking ed) heart surgery when he needs it? The way about hospital food. Can you imagine having [the system’s] advocates carry on, you'd think to put the affairs of your own home kitchen up that it was fine that Mr. Jones suffered crush- for a public vote? ing chest pain after walking three steps just as If Washington nationalized the auto indus- long as Mr. Smith had to stumble around try, we'd get the cars that bureaucrats wanted blindly for six months.” us to have. If you didn’t like the quality or the Thanks to this egalitarian idiocy, an esti- color choice or the price, you could hope mated 212,990 Canadians were on hospital somebody runs for office and changes things waiting lists for surgical procedures in 1998, from the inside. In a free market, if you don’t a 13 percent increase over 1997. According to like Ford, there’s no need to go to the polls or the Fraser Institute of Vancouver, British bribe your congressman; you just buy some- Columbia, patients waited a median of 6 thing else. Politics is simply no way to run a weeks after referral by a general practitioner kitchen or a car factory or a whole lot of other for a consultation with a specialist and anoth- things. er 7.3 weeks after the consultation to receive The health-care system Canadians endure treatment. The median total waiting time of suffers from socialization, which explains 13.3 weeks was up from 11.9 weeks in 1997 why hospital food is probably among the least and up a shocking 43 percent since 1993. of their concerns. According to a national The gap between the amount of time spe- poll, four out of five Canadians are unhappy cialists considered clinically reasonable and with the health-care system and believe it has the actual waiting time after consultation was worsened noticeably in just the past five years. greatest for elective cardiovascular surgery, Doctors in Manitoba apparently agree with for which the actual waiting time was 8.1 the majority of Canadians. Almost half of weeks longer. them—an astonishing 1,800—have left the The Fraser Institute points out that while province in this decade alone. Canada’s spending on health care as a per- David Gratzer, a prominent Canadian centage of gross domestic product is the fifth health-policy commentator, published a highest among nations of the Organization for blockbuster book last year entitled Code Blue, Economic Cooperation and Development in which he skewers the country’s socialized (OECD), the country ranks in the bottom system. Gratzer reveals in painful detail that third in availability of most medical technolo- the quality of care that Canada’s system pro- gy. For example, for every million people, vides to ordinary citizens matters less to its Canada has 1.7 magnetic resonance imagers apologists than the quality of care it denies to (MRIs), a cutting-edge diagnostic tool, com- the so-called rich. The egalitarian impulse that pared to the OECD average of 4.2 and the drives Canada’s “universal” health-care sys- U.S. figure of 16. No wonder that when for- tem calls for treating everybody the same; all mer Quebec Premier Robert Bourassa was patients get “free” care in the public system diagnosed with cancer, he didn’t stick around and are generally denied the option of getting to get free care in his home country; he high- faster or better care for a fee in the private tailed it to Cleveland. sector. The lesson from Canada? Politicians Gratzer makes a telling point with a rhetor- shouldn’t be trusted with the health care hos- ical question: “With health care, is our true pitals provide any more than they should be goal that Mr. Smith, who owns three cars, not trusted with the food that hospitals serve. [] ===== PAGE 17 ===== IDEAS ON [IBERTY The Myth of the Social Security “Trust Fund” by John Attarian n my mail the other day, I received a Much of the public is convinced that a hint of why Social Security reform isn’t perfidious Congress is rifling a “trust fund” happening. where our Social Security taxes are “held in It was an unsolicited letter from a lobby for trust” to pay future benefits, that this is why the elderly called The Seniors Coalition, Social Security is headed for trouble, and that warning that “something terrible is happening all Congress has to do to fix Social Security is in Washington. . . . Something sinister and put this stolen money back. These beliefs crop dangerous is happening as you read this note.” up perennially in letters to editors. The Coalition had “exposed the truth about In July 1998, Carolyn Lukensmeyer, direc- the looting of the Social Security Trust Fund.” tor of the Americans Discuss Social Security But when the Coalition’s founder died, “our project, told the Senate Special Committee on enemies saw an opportunity. . . . [T]he Wash- Aging that this alleged raiding of the trust ington Insiders stole another $1.2 billion from fund to finance other spending is “the real the Social Security Trust Fund.” After railing focus of the public’s concern.” Her poll found for four pages about these nefarious “insid- that 79 percent of respondents believe that this ers,” the author exhorted me to send money is one reason why Social Security might expe- and to sign and return the enclosed petition rience financial crisis, and 45 percent believe it demanding that Congress “Stop the raid on is the main reason. (Just 26 percent answered, the Social Security Trust Funds. Immediately correctly, that the main reason is that the elder- repay all monies that were illegally diverted ly population is growing faster than the num- from these Trust Funds.”! ber of workers financing the program.)3 The Seniors Coalition claims to represent three million elderly people. Imagine their Obstacle to Reform constituents who read this scare mailing about how “they” are looting Social Security’s This mentality is a serious obstacle to “Trust Fund.” Imagine three million signed Social Security reform. If a looted trust fund petitions reaching Congress. Multiply that a is the problem, why bother overhauling Social few times to cover other elderly lobbies’ Security? Just make Congress return the efforts—and you start to see why changing money. Social Security is so hard. Yet this popular belief is utterly mistaken. There is no trust fund, and Congress is doing Michigan, with a Ph.D. in economics. Under a grant nothing wrong. What S nore, the source of from the Earhart Foundation, he has completed a this misunderstanding is the government’ book on Social Security, from which parts of this arti- OWN public-relations efforts to create support cle are adapted. for Social Security. 17 John Attarian is a freelance writer in Ann Arbor, ===== PAGE 18 ===== 18 IDEAS ON LIBERTY ® MARCH 2000 The Social Security Act of 1935 created an resources and ethics of the firms issuing “Old-Aged Reserve Account” in the Treasury them? In investing in government bonds, the and required that every year an amount deter- Treasury was behaving just like a bank, which mined sufficient to pay that year’s benefits invests its depositors’ money rather than was to be appropriated to it. Any of this hoard it as cash.? money not needed for benefits was to be The critics were right. Of course the Trea- invested in federal debt (including unmar- sury spent the money obtained in exchange ketable debt issued for this purpose) earning for the bonds in the reserve; what else could it 3 percent interest, or other government- do? Of course, the bonds were IOUs; all debt guaranteed debt. instruments are. Of course, the interest would Presently, criticism arose. Winthrop Aldrich come from the taxpayers; where else could it of Chase National Bank argued that the come from? reserve would be fictitious; the government would just be issuing promissory notes to D itself. As for interest on the bonds, which Embezzled Funds? would supposedly help pay future benefits, When in 1939 the Roosevelt administration the government would get the interest money proposed various amendments to Social Secu- from “the only source it could obtain it—the rity, congressional hearings and debate on the general taxpayer. The whole elaborate reserve proposals saw extensive airing of the reserve set-up would not relieve him of any burden fund controversy. Critics accused the adminis- whatever.” Finally, the tax revenue the Trea- tration of “embezzlement” and repeated the sury got in exchange for the bonds would be a charges that the reserve was merely IOUs, and standing temptation to extravagant spending.5 that Americans would be taxed twice. No In his Milwaukee speech on Social Security embezzlement was occurring, defenders during the 1936 presidential campaign, retorted; there wouldn’t be any double taxa- Republican candidate Alfred “Alf” Landon tion, and the much-maligned IOUs were the said much the same thing. It was as if, he safest investment around—U.S. government charged, a father took deductions from his bonds. They raised a valid point: holding the children’s wages to invest for their old age, surplus as cash was silly, and buying private “invested” them in “his own IOU,” and spent securities was not allowed. So where else the money, leaving his kids nothing but those could the Reserve Fund money go but into IOUs. Hence Social Security’s forced savings Treasuries?! By now three years old, the were “a cruel hoax.”6 President Franklin Roo- reserve-fund controversy had become a seri- sevelt retorted that Social Security tax dollars ous blow to Social Security’s prestige. “are held in a Government trust fund solely . On the recommendation of Treasury Secre- for the social security of the workers.” tary Henry Morgenthau, the Social Security Yet attacks kept coming. Critics such as Amendments of 1939 created an Old Age and General Hugh S. Johnson, former head of the Survivors’ Insurance Trust Fund at the Trea- National Recovery Administration, and jour- sury. This was done for the express purpose of nalist John T. Flynn pointed out that unlike ending the controversy. Testifying before the insurance companies, which invest their pre- Senate Finance Committee during the hear- miums to build a reserve to pay on their poli- ings on the amendments, Social Security cies, the government was only issuing claims Board Chairman Arthur Altmeyer stated that on itself. Hence the Social Security reserve the purpose of the trust fund was “to allay the was merely worthless IOUs. To pay future unwarranted fears of some people who benefits, Americans would have to be taxed all thought Uncle Sam was embezzling the over again.$ money.” !! Defenders responded that the IOU talk was Creation of Social Security’s trust fund, misleading; aren’t all private investment then, was a public-relations ploy. instruments, such as stocks, notes, and bonds, What happened exactly? Section 201 of the really IOUs, their value dependent on the Social Security Act, “Old-Age Reserve ===== PAGE 19 ===== THE MYTH OF THE SOCIAL SECURITY “TRUST FUND” 19 Account,” was replaced by a new Section 201, trust and puts property into it; a “trustee,” “Federal Old-Age and Survivors Insurance who manages the trust and has legal title to Trust Fund.” The only substantial change was the property in it; a “beneficiary,” who holds elimination of the transfer of revenues from equitable title to the property and for whom it the Treasury’s general fund via specific annu- is managed; property; and terms of trust stat- al appropriation to the Reserve Account. ing its purpose and duties, the powers of the Instead, a sum equivalent to the Social Secu- trustee(s), and the beneficiary’s rights.12 rity taxes received and put into the Treasury Does Social Security’s Trust Fund meet “is hereby appropriated” to the Trust Fund for these criteria? You judge. the fiscal year ending June 30, 1941, “and for Though Congress legislated the Trust each fiscal year thereafter”—that is, automat- Fund, it is not the settlor, because a settlor ically. The only other new features were a puts his own property into a trust, which Con- Board of Trustees (the secretaries of the trea- gress did not do.!3 As for the Board of sury and labor and the chairman of the Social Trustees, who in a true trust would hold the Security Board) to manage the fund, replace- legal title to its property, Section 201 of the ment of the 3 percent interest rate with the 1939 Amendments did not even mention its average rate on interest-bearing federal debt, having title to anything. and a provision for paying money from the Nor do the purported trust “beneficiaries” fund into the Treasury to defray Social Secu- have property in the fund to which they have rity’s administrative expenses. an enforceable property right, as beneficiaries Otherwise, the Trust Fund operated just of a true trust do. Under questioning by Rep- like the old Reserve Account. Indeed, it was resentative John McCormack of Massachu- the Reserve Account; its assets as of January setts during the 1939 hearings, Board Chair- 1, 1940, were transferred to the Trust Fund. man Altmeyer revealed that Social Security Since the Reserve Account was, according to maintains no accounts containing funds ear- the Act, “an account in the Treasury” and the marked for individuals, and never had.!4 Its Trust Fund was “on the books of the Trea- accounts, then, are just record-keeping enti- sury,” the transfer was a formality. It was as if ties: file folders, not piggy banks. No individ- a shoebox full of bonds labeled “Reserve ual funds necessarily means no individual Account” was relabeled “Trust Fund.” More- property in the Trust Fund. over, the key paragraphs of the new Section Section 201 said nothing about property 201, for example, regarding the duties of the rights—for good reason. In arguing Helvering Trust Fund’s “Managing Trustee” (the trea- v. Davis (1937), the Supreme Court decision sury secretary) to invest the fund’s surplus in that upheld Social Security’s constitutionality, only certain types of U.S. government debt, Assistant Attorney General Robert Jackson correspond almost verbatim to paragraphs in stated that under Social Security, “There is no the old one. contract created by which any person Social Security’s Trust Fund, then, is really becomes entitled as a matter of right to sue a Treasury account, nothing more. the United States or to maintain a claim for any particular sum of money. Not only is there What’s a Trust Fund? no contract implied but it is expressly nega- tived, because it is provided in the act, section Is it a real trust fund? A trust fund is money, 1104, that it may be repealed, altered, or investments, or other property held in a trust, amended in any of its provisions at any a trust being “A fiduciary relationship with time.”’15 respect to property, subjecting the person by And the government’s brief for the Supreme whom the property is held to equitable duties Court case Flemming v. Nestor (1960) argued to deal with the property for the benefit of that a current or prospective Social Security another person, which arises as a result of a beneficiary does not acquire an interest in the manifestation of an intention to create it.” All Trust Fund—that is, a property right to its trusts must have a “settlor,” who sets up the assets—and that the belief that Social Securi- ===== PAGE 20 ===== 20 [IDEAS ON LIBERTY © MARCH 2000 ty benefits are “fully accrued property rights” But after the 1983 Social Security rescue, is “wholly erroneous.”'¢ The Court con- when Social Security revenues began exceed- curred.!? ing outlays and sizable Trust Fund surpluses All this confirms the observations by Suf- began accumulating, the charge of Congress’s folk University Law School Professor Charles stealing Social Security’s reserve money reap- Rounds, a fellow of the American College of peared.2! Talk of Congress’s “raiding” or Trust and Estate Counsel: “dipping into” the Trust Fund to cover federal budget deficits continues to this day.22 Spend- Despite the term “trust,” the Social Securi- ing the Social Security surplus, no real ty system contains nothing that remotely reserve, nothing but worthless IOUs—the old resembles the common law trust. There is reserve-fund controversy all over again. With no segregation of assets, no equitable prop- one decisive difference: the emotional evoca- erty rights, no private right of enforcement tions of the phrase “trust fund.” (all characteristics of the common law The New Dealers did not foresee that this trust). It is merely a system of taxation and phrase might some day work to weaken rather appropriation sprinkled with trust terms to than strengthen faith in the government and in hide its true nature. !8 Social Security. Lifting assets from a trust fund is a serious crime and a breach of faith Moreover, Social Security’s Trust Fund and trust. The more firmly people believe that does not operate as a trust fund does. Social the Social Security Trust Fund really is a trust Security revenues go into the Treasury’s gen- fund, the angrier they will be at stories of eral fund and are automatically credited to the Congress’s looting it, and the more they will Trust Fund in the form of Treasury bonds. The be inclined to believe that this is the reason Treasury pays Social Security benefits and that Social Security’s financial prospects look administrative outlays out of general revenue shaky. and debits the Trust Fund an equivalent value But as we have seen, there is no trust fund of bonds. Any leftover Social Security rev- to be looted, only a Treasury account. And enue finances general government operations, Congress is only doing what the Social Secu- with an equivalent value of bonds remaining rity law requires. in the Trust Fund as Social Security’s “sur- In adopting trust language to cure a Social plus,” to cover any revenue shortfalls.!® This Security public-relations problem 60 years is how a Treasury account, not a trust fund, ago, the federal government sowed the seeds works. And calling a Treasury account a “trust of today’s grave misunderstanding over the fund” to influence public opinion does not Trust Fund. This dishonest and misleading make it one. language should be abandoned immediately, In all respects, then, Social Security’s Trust the better to clear our minds of cant and false Fund is bogus. issues and enable us to see Social Security as The adoption of the label “trust fund” for it really is, grasp its real problems, and do what was in fact a Treasury account was what needs to be done. J intended to cash in on the public’s under- standing of this term—that assets are 1. The Seniors Coalition, unsolicited mailing, received Septem- absolutely safe, invested on one’s behalf, and ber 10: 199 held for one’s future use—and to reassure the 3. US. Congress, Senate, Living Longer, Retiring Earlier: : : : Rethinking the Social Security Retirement Age: Hearing before the p ublic that Social Security was sound and Senate Special Committee on Aging, 105th Congress, 2nd session, trustworthy. It worked. The reserve contro- 199s, pp. 84, 93, 121, 127. : : 4. Department of Health, Education and Welfare, Social Security versy disappeared. Over the following Administration, Social Security Act of 1935: Reports, Debates, Act, decades, Social Security continued to make and Supreme Court Decisions (Washington, D.C.: U.S. Government a ; : Printing Office, n.d.), 2 vols. Vol. 2 at VI, “Public—No 271—74th public-relations capital out of the term by [008 CG of Scial Soeurity Act of 1935. pp. 3-4, repeatedly telling the public that benefits are 5. Winthrop W. Aldrich, “Social Security: An Appraisal of the : : : Federal Act,” Vital Speeches of the Day, August 1, 1936, p. 687. paid out of a trust fund built up from their tax (Te he Oe ee he Moon.” Vial payments.20 Speeches of the Day, October 15, 1936, pp. 26, 27, 28. ===== PAGE 21 ===== THE MYTH OF THE SOCIAL SECURITY “TRUST FUND” 21 7. Franklin D. Roosevelt, The Public Papers and Addresses of 15. U.S. Congress, Senate, Oral Arguments in Helvering et al. vs. Franklin D. Roosevelt, vol. 5; The People Approve 1936 (New York: Davis involving the Old Age Benefit Provisions of the Social Securi- Random House, 1938), p. 536. ty Act before the Supreme Court of the United States, May 5, 1937, 8. General Hugh S. Johnson, “A Hokus-Pokus: The Social Secu- ~~ S. Doc. 71, 75th Congress, 1st session, 1937, p. 16. rity Tax,” Vital Speeches of the Day, December 1, 1937, pp. 116-17; 16. U.S. Supreme Court, Records and Briefs, October Term, John T. Flynn, “The Social Security ‘Reserve’ Swindle,” Harper's, 1959, No. 54, Flemming v. Nestor, Brief for the Appellant, pp. February 1939, pp. 238-48. 10-11. 9. See, for example, Beulah Amidon, “Old Age Reserve,” Survey 17. Flemming v. Nestor, 363 U.S. 603, at 608. Midmonthly, September 1938, p. 284. 18. Professor Charles E. Rounds, Jr., “Will the Institution of the 10. For discussions in Congress of “embezzlement” and IOUs, Trust Survive the Clinton Presidency?” The Advocate, Spring 1995, see, for example, U.S. Congress, House, 76th Congress, 1st session, p. 31. February 27, 1939, Congressional Record, 84:1954-1961, and U.S. 19. U.S. Congress, House, Committee on Ways and Means, /998 Congress, House, Social Security amendments debate, 76th Con- Green Book: Background Material and Data on Programs Within gress, Ist session, June 8 and 9, 1939, Congressional Record, the Jurisdiction of the Committee on Ways and Means, pp. 73, 75. 84:6854-6856, 6862, 6890-6893. For a defense of investing the 20. See, for example, Social Security Board, Changes in the reserve in Treasuries as the only feasible option, see, for example, Social Security Act: Old-Age Insurance, 1.8.C. no 35, temporary edi- U.S. Congress, House, Representative John William McCormack tion, September 1939, p. 3; Social Security Board, 2 Plans for Old- speaking on Social Security amendments, 76th Congress, 1st ses- Age Security, 1.S.C. 42, nd., p. 3; Social Security Board, What Is sion, June 8, 1939, Congressional Record, 84:6855. Social Security? A Brief Explanation of the Social Security Act, 11. U.S. Senate, Committee on Finance, Social Security Act 1.S.C. 1, July 1940, p. 10; Social Security Board, Old-Age and Sur- Amendments: Hearings before the Senate Finance Committee on vivors Insurance for Workers and Their Families, 1.S.C. no 35, Jan- H.R. 6635, 76th Congress, 1st session, 1939, p. 81. uary 1943, p. 4; Social Security Administration, A Brief Explanation 12. Charles E. Rounds, Jr., and Eric Hayes, Loring: A Trustee's of the Social Security Act, 1947, p. 10; and Social Security Adminis- Handbook, 8th (centennial) ed. (New York: Aspen Publishers, Inc., tration, A Brief Explanation of Social Security, 1.S.C. no. 1, July 1998), pp. 1-2, 5, 79; Gilbert Thomas Stephenson, Estates and 1957, p. 14. Trusts, 4th ed. (New York: Appleton-Century-Crofts, 1965), pp. 21. See “The $12 Trillion Temptation,” Time, July 4, 1988, p. 58; 63-66. Paul Magnusson, “We Are Plundering the Social Security Till,” 13. Per author’s telephone conversation with Professor Charles ~~ Business Week, July 18, 1988, p. 92; and Alan S. Blinder, “Congress E. Rounds, Jr, of Suffolk University Law School. Should Keep Its Hands Off this Nest Egg,” Business Week, July 4, 14. U.S. Congress, House, Committee on Ways and Means, 1988, p. 20. Social Security: Hearings, 76th Congress, 1st session, 1939, 3 vols., 22. “Social Security Crisis Is Bogus, Experts Say,” The Detroit II: 2205-2206. News, October 11, 1999, p. 3A. [Gi ot | Clichés of Politics Mark Spangler, editor Ar you tired of hearing people tell you that "We need government to fix this"? If so, we've got just what you need: Clichés of Foli- || tice, now in its fifth printing. Edited by Mark || Spangler, this book is a powerful antidote to statist claims that more government is bet- ter. Clichés is also a great resource for students addressing poli- cy issues in research papers or in debate. Counter big-government bombast with Clichés! 524 pages, paperback $8-85 on sale for $6.95 Please send check or money order to: FEE, 30 South Broadway, Irvington-on-Hudson, NY 10533 Credit card orders: 1-800-452-3516 ===== PAGE 22 ===== ¥ Economics IDEAS ON [IBERTY MaRrcH 2000 In Defense of Grocery Coupons by Bill Field Wer all had this aggravating experi- Lets apply our principle to the grocery ence: rushing through the grocery store coupon. A freely functioning invisible-hand to finish our shopping, hurriedly looking for process has yielded grocery coupons, and the shortest line, congratulating ourselves as they are likely to continue for the indefinite we get in a line with only one lady in front of future. Every entrepreneur, institution, and us, and then wanting to scream when we see procedure in the market process is continual- her pull a big batch of grocery coupons out of ly subject to the survivor principle: market her handbag. Surely this is an egregious success depends on producing value greater example of waste—of our time and of the than the opportunity cost of resources used. In store’s and manufacturers’ resources in. han- other words, those who survive and prosper dling all this paper. Surely government should necessarily make, on net, a positive contribu- come to the rescue and promote efficiency by tion to economic wealth—the invisible hand simply outlawing grocery coupons. Wouldn't works. Thus, grocery coupons are necessarily such an obviously beneficial action by gov- wealth-creating. ernment create wealth? Such apparently appealing proposals are Clarifying the Obscure the reason why we need principles to guide our thinking. Without some general starting For most economic activity, the validity of point for reasoning through specific issues, this argument is clear. No one doubts that the we can be easily taken in by the superficial butcher, the baker, and the candlestick-maker allure of seemingly obvious solutions. create wealth. The same goes for people who What is the best guide for economic issues? produce cars, movies, and computers. On the It is the following simple statement: the invis- other hand, the wealth created by coupons is ible hand works. Whenever someone propos- obscure enough to escape most of us unless es government action to solve a problem, the we think carefully about the subject. best immediate reaction is to ask why market How does issuing grocery coupons create forces can’t provide a better solution. Given wealth? Coupons allow sellers to engage in the overwhelming evidence of the vast superi- price discrimination—to sell the same prod- ority of the invisible hand versus the visible uct to different people at different prices. hand in dealing with economic problems, the Consider a bottle of Heinz ketchup. The mar- burden of proof should be heavy on the advo- ginal cost of producing one additional bottle cate of government action. may be only 50 cents; but given the demand, the profit-maximizing price may be $1.50. At Bill Field is a professor of economics at Nicholls that price only people who prefer Heinz and State University in Thibodaux, Louisiana. who are not particularly price-sensitive will 22 ===== PAGE 23 ===== 23 buy Heinz. Others will buy the house brand tive to consider that cost. After all, customers for perhaps $1.00. can go elsewhere. The storeowner may Heinz could sell much more ketchup if it respond to this problem by opening addition- lowered its price to $1.20. But it would lose al lines. The appearance of delay may not more from lowering the price to those who reflect reality once the adjustment in the num- would have bought at the higher price than it ber of lines is taken into consideration. So would gain from the additional customers there may actually be no costs imposed on attracted by the price reduction. Thus Heinz those who don’t use coupons. seems stuck serving only its dedicated But suppose no additional lines are opened customers, and those who are more price- or people at least think they’re being delayed sensitive seem stuck with the house brand. by coupon users. Anyone is free to open a Coupons resolve this dilemma. If Heinz store that refuses to accept coupons. Coupon- issues a 30-cent-per-bottle coupon, price- less customers could then rush to this store, sensitive individuals will be most likely to go and seemingly everyone would be happy. to the trouble (bear the opportunity cost) of Unfortunately, it’s not that simple. That stores searching out the coupons. They will then be generally accept coupons indicates that able to buy Heinz at a price of $1.20 while coupons are profitable. They enable stores to others are paying $1.50. Note that Heinz is broaden their customer base while being better off (makes more profit), the price- compensated by the manufacturer for the sensitive customers are better off (they volun- handling expenses. A store that refuses tarily searched out the coupons, revealing that coupons would have to charge higher prices they valued Heinz at $1.20 more than the sac- to make up for the loss of manufacturers’ rificed time and effort), and devoted Heinz payments or of coupon-sensitive customers. customers are unaffected, buying ketchup at As usual, there’s no such thing as a free the same price as before. Thus grocery lunch—if you want to save time by quicker coupons are, on net, wealth-creating. checkout thanks to either more lines or nonacceptance of coupons, you will have to Checkout Delayed bear the associated cost. The scarcity of stores that refuse coupons reflects the gener- But haven’t we forgotten something here? al entrepreneurial judgment that most cus- What about the delays in the checkout lines? tomers would not be willing to pay enough Aren’t the delays an externality imposed on extra to make such stores profitable. the rest of us? Of course the coupon users and Thus grocery coupons increase the wealth the companies benefit. Otherwise coupons of the companies that issue them, the con- would have disappeared long ago. But isn’t sumers who use them, and the stores that han- the cost imposed on everyone else ignored in dle them, while imposing no cost on nonusers the transaction, resulting in market failure? that they could not avoid if they were willing The short answer is no. Obviously thereisa to bear the associated burden. The invisible delay cost imposed on patrons who use no hand sometimes works in mysterious ways, coupons, but the storeowner has every incen- but it does work. The apple icon ® identifies articles that are appropriate for teaching students sever- al major subjects—including economics, history, government, philosophy, and current issues. We also provide sample lesson plans for these articles on our Web site www.fee.org and in written form. Professors, teachers, and homeschooling parents need only to visit our Web site or request written lesson plans to take advantage of this unique service. ===== PAGE 24 ===== IDEAS ON [IBERTY The Market for Space in the Market by Gary M. Galles lotting fees—payments by producers for and variants of existing ones, particularly in space on retailers’ shelves—are under the frozen-food, snack, and beverage sections. attack. According to Senator Christopher Now there are far more products (more than “Kit” Bond of Missouri, chairman of the Sen- 100,000 grocery items) than space to carry ate Committee on Small Business, which held them (a typical supermarket carries 30,000), hearings last fall, the practice “threatens com- and 15,000-20,000 more come out each year, petition, jobs and likely drives up the cost of making shelf space a scarce commodity. Slot- putting food on the table for millions of ting fees have arisen to allocate store space American families” and is “fundamentally that is now far more valuable than before. unfair and just plain wrong.” Fees are the result of supply and demand, The core argument against slotting fees is which is why more “productive” placements, that larger producers harm consumers by which reflect more valuable locations, require using their financial “deep pockets” to outbid larger fees; it’s not an abuse of small produc- smaller and newer competitors for prime shelf ers and consumers. space, pushing them out or denying them entry into the market. This is alleged to Retail Risk restrict consumer choice and to give large firms the power to raise their prices in an anti- Because four out of five new products fail, competitive manner. new grocery items are inherently risky for Despite the surface plausibility of this argu- retailers as well as producers. Shelf fees effi- ment, it fails to grasp the realities of grocery ciently allocate such risks to producers. Since retailing. Rather than representing some anti- products that fail displace others that con- competitive restriction, shelf fees, which have sumers would have valued more (retailers are been around for two decades, are an efficient just the agents of consumers), this is where response to the proliferation of food products that risk belongs. Why should retailers bear and the resulting increasing scarcity of super- the cost (including the value of the lost traffic market shelf space. that other items would have generated) if a Decades ago, supermarkets were growing product flops with shoppers? Fees restrict and had the space to carry most available large-scale introductions to items whose mak- items. Grocers needed to fill their shelves, so ers are willing to “bet” the value of the neces- they charged no slotting fees. But that sary shelf space on their success. Rather than changed with the explosion in new products reducing valuable consumer options (there are no fewer slots available as a result, and Gary Galles is a professor of economics at Pepper- higher profits may lead stores to expand avail- dine University in Malibu, Calif. able shelf space), this system may more 24 ===== PAGE 25 ===== 25 quickly fill stores with the products con- Being forced to pay for scarce shelf space is sumers prefer by encouraging producers to do costly, but so is being forced to pay for work- more and better market research before intro- ers, advertising, transportation, and anything ducing products and by weeding out failures else that is valuable. That some firms fail to faster. receive scarce shelf space for free may frus- Senator Bond says his hearings “clearly trate them, but that does not reflect an anti- indicate that competition is something less competitive abuse. And it’s certainly not a than free and open at the corner supermarket.” reason for ham-handed government restric- However, all that the complaints against slot- tions that would interfere with the efficient ting fees really indicate is that some produc- use of valuable resources and the more rapid ers would prefer to use something valuable— discovery of those products consumers most supermarket shelf space—as if it were free. desire. J The Market Economy: A Reader edited by James L. Doti & Dwight R. Lee THE . MARKET Looking for a great way to teach economics, ECONOMY: or learn it yourself? A Reader James L. Doti and Dwight R. Lee This outstanding anthology is an invaluable source book for students of free-market economics as well as for proponents of limited government. Professors Doti and Lee have assembled a stellar list of authors—Adam Smith, Frederic Bastiat, David Ricardo (among the classical economists); Ronald Coase, Milton Friedman, James Buchanan, EA. Hayek, Ludwig von Mises, and George Stigler (among the modern greats); in addition to Ayn Rand, Henry David Thoreau, Charles Murray, and others—to explain eight key issues: the invisible hand; markets and individual freedom; government regulation; the proper role of government; international trade; scarcity and social cooperation; income distribution; and imperfect markets. What a joy to find—in a single book—Hayek’s classic essay “The Use of Knowledge in Society”; Friedman and Stigler’s wonderful work on rent control, “Roofs or Ceilings?”; Ayn Rand's essay on “The Nature of Government”; and Adam Smith's pivotal analysis of the division of labor. For anyone homeschooling children or anyone interested in deepening his or her knowledge of the relationship between economics and personal freedom, this book is not only essential, it’s a real treasure. 362 pages, paperback FEE special! $10.95 Plus $4.00 shipping and handling. ===== PAGE 26 ===== Potomac Principles by Doug Bandow IDEAS ON [IBERTY MARCH 2000 Stealing from ATM Machines few years ago, an ATM machine in Fair is fair, however. Why should banks pay Georgetown, an upscale neighborhood in to provide cash machines for people who have Washington, D.C., malfunctioned. People accounts at other institutions? Yet the believ- lined up to clean out the $20 bills being hand- ers in a free lunch were outraged. ed out in place of $5 notes. USA Today editors called Bank of America San Francisco voters essentially did the and Wells Fargo “nasty” and “sour” The same thing last fall when they passed an ini- newspaper suggested that governments retali- tiative to ban ATM fees. Apparently the latest ate by withdrawing tax receipts from banks American entitlement is no-fee convenience that impose a surcharge. cash. Banks should install ATMs, far and What better evidence is there of a govern- wide, but not charge noncustomers for using ment out of control? Most Americans would them. agree that the nation faces lots of serious cul- The city council in Santa Monica, Califor- tural and social problems. ATM fees would nia, and the states of Connecticut and Iowa not, however, seem to be particularly impor- have enacted similar bans. Other cities are tant. After all, no one has to use an ATM. Not threatening to act. The Defense Department is that many years ago no one could, since they considering imposing a prohibition for ATMs didn’t exist. on military installations. But now there are more than 227,000 ATMs Naturally, the politicos argue that they are across America. The improved convenience protecting the public interest. But—shock!— for consumers is obvious. That benefit is now it turns out that banks are willing to fight evident even overseas, where travelers can back. In November, Bank of America and acquire foreign currency at a better exchange Wells Fargo announced that noncustomers rate than from local merchants. would not be able to use the banks’ ATM So banks and the other businesses that now machines in Santa Monica. They said they routinely install ATMs are providing a ser- would do the same in San Francisco if the vice. People who use them believe the bene- California Bankers Association lawsuit fits of not driving across town to their bank against that city failed. Wailed one frustrated are worth the cost. Why shouldn’t ATM own- customer, “I use this [Bank of America] ers be compensated for their troubles? machine because it’s convenient. My bank is a The primary argument for not doing so is small bank and it doesn’t have many ATMs.” that Americans are morally entitled to free ATM service. Apparently we all have a right — to life, liberty, the pursuit of happiness, and Doug Bandow, a nationally syndicated columnist, is ’ rty, p of happ » an a senior fellow at the Cato Institute and the author non-fee ATMs. } . . and editor of several books, including The Politics of Whence that right stems is not clear. But it Envy. is a great principle. How about applying it 26 ===== PAGE 27 ===== 27 elsewhere? The right to free cab rides and machines—aren’t likely to put them in new, television repair? The right to free cable TV and increasingly remote, locations. In fact, in and telephone service? And so on. recent years the greatest expansion has Actually, ATM owners have a moral right to occurred in places such as convenience stores, set their own fees. But, cry the USA Today grocery stores, shopping malls, and airports. editorial writers, “consumers need a break.” The opportunity to get cash in such locations Everyone would like a break. By what stan- is worth far more than even the highest fee. dard are ATM fees too high? Once consumers find diminishing access, The so-called U.S. Public Interest Research they will probably start clamoring for a sub- Group, a left-wing lobbying group, has led sidy. And the politicians, urged on by ATM- the charge, arguing that the fees, which now makers, will be only too happy to oblige. average $1.27 for large banks and $1.03 for The only conceivable role for government small ones, are excessive. is to ensure that ATM machines list the fees Although everyone assumes that ATMs are charged. Indeed, last year’s banking reform cash cows, in fact they are not. Cash machines mandates disclosure and giving consumers have not allowed banks to eliminate tellers. the opportunity to cancel the transaction Explains analyst John Charles Bradbury, before any fee is charged. “Instead of substituting for and replacing Not even this step is necessary, however. tellers, ATMs have become a complementary Consumers can simply avoid any machine on service offered by banks.” which fees are not listed. A Federal Reserve study figured that banks The only other conceivable argument for a lose an average of more than $10,400 a year fee ban is that such charges put small banks at per machine. As a result, the total industry a disadvantage because they can’t create sim- loss exceeds $1 billion. A McKinsey & Co. ilarly large (free) ATM networks for their study found that the machines have saved depositors. But there are plenty of other ways $200 million but cost $1.5 billion. to get cash for free (including debit cards) and So why do banks offer ATMs? To attract plenty of other reasons to choose a small bank customers. And why should banks, and espe- (including more personal service). cially nonfinancial institutions, add more Indeed, advocates of fee bans obviously ATMs? Until now, at least, they could collect think consumers are stupid. USA Today fees. whined that “big banks, hiding behind their As Bradbury has observed, “In the past, high ATM surcharges, tend to charge higher when there were no charges for ATM use, there fees and pay less interest than smaller institu- were far fewer ATMs. A low-cost ATM needs tions.” Actually, this demonstrates that finan- at least 3,000 transactions a month to break cial institutions can and do offer competing even. With a fee, that number is cut to 500.” packages of benefits. If customers prefer big- Indeed, prior to 1996 the major networks, ger ATM networks to lower fees, who are the such as Cirrus and Plus, banned fees. Later, USA Today editors or Santa Monica city coun- they dropped the ban under pressure by mem- cilmen or San Francisco voters to deny them? ber banks and, interestingly, the government. Anyway, small banks have no claim to pub- The Department of Justice considered filing lic aid because they are small. The ATM pro- suit against the prohibition as anticompetitive. hibition is an attempt to force larger banks to Governments may get away with banning underwrite their smaller competitors by giv- ATM fees and not cause banks to yank out ing customers of the latter free access to an existing machines. But, as Bank of America ATM network that is expensive to introduce and Wells Fargo proved, the banks can deny and maintain. noncustomers access. The campaign to ban ATM fees is yet one Moreover, banks—and nonfinancial com- more attempt to find the free lunch that never panies that now provide half of new ATM exists. Cl ===== PAGE 28 ===== IDEAS ON IBERTY MARCH 2000 Spam, Spam, Spam, and Spam by Gary McGath lectronic mail on the Internet has revolu- of data storage for the recipient’s address— tionized communications. It allows peo- that is, next to nothing. The cost falls on the ple to communicate with others far away recipients and their service providers, as their without playing “telephone tag” or runningup computers receive thousands of copies of the expensive long-distance bills. It lets people original message. distribute messages to large mailing lists with a tiny fraction of the cost and time it would take to send paper mail. But every advance has its dark side as well. Mailers gather publicly posted addresses, The same technology that permits people to typically on newsgroups and World Wide Web get the mail they want also permits others to pages. Because of the low incremental cost, send them mail they don’t want. Such mail is there is little incentive to cull lists by degree known as “unsolicited commercial e-mail” of interest or even to remove undeliverable (UCE), “unsolicited bulk e-mail” (UBE), or, addresses. Marketers of mailing lists offer most commonly, “spam.” This term can be these addresses at low prices; one offer sent to traced back to a Monty Python comedy sketch me (by UBE, of course) touted a million about a restaurant that serves Spam, Spam, addresses for $700. Spam, Spam, and Spam, the idea being that At these prices, and at a small monthly cost it’s always more of the same. (“SPAM,” with for an Internet account, advertisers need only all capitals, is a trademark of Hormel, but it a tiny rate of return to pay back their invest- hasn’t contested the new use of the lower-case ment. Lots of businesses would, all else being term.) equal, be eager to get into the act. The number UBE is economically different from other of advertising messages that users receive types of unsolicited promotions because its would quickly become a serious burden (and incremental cost is much lower. Mailing a already has for some people). The mail stor- flyer costs money for paper, printing, and age capacity allocated to an account might be postage. Telephone marketing, even with an exceeded, causing the deletion of important unlimited service line, requires the time of an mail; the time needed to download the mes- operator and the use of the phone line for sages and then to separate out the junk mail however long it takes to make the call. But can also become a major inconvenience. In with bulk e-mail, the incremental cost of addition to costs to the end user, the costs of sending out another copy is only a few bytes transmitting and storing all these additional messages places a burden on Internet service Gary McGath, a software engineer and freelance Providers (ISPs), driving up the costs of writer, is a former editor of the Thomas Paine Review. accounts and increasing the delivery time of 28 Gathering of Addresses ===== PAGE 29 ===== 29 the average message. The mailers’ slogan, lems. It establishes categories of mail by con- “Just hit delete,” isn’t a satisfactory solution tent, giving different rights to senders of mail to the problem. depending on whether it is deemed “commer- The burden doesn’t fall equally on all recip- cial,” “pandering,” or neither. This raises First ients. People who keep their addresses secret Amendment issues. Bulk-mailed religious from all but a select group of associates can tracts and political manifestos would be unaf- avoid nearly all UBE. Those who post their fected by such a law, even though they impose address in public discussion groups or on the same burdens as other UBE. Also, since their Web pages will quickly find themselves nearly everyone would want to escape from getting mailings on everything from miracle such mailings, the bill would create a mas- fat-reducing pills to schemes for making sive, publicly available database of people’s $50,000 a month. Thus people are often names and e-mail addresses. Non-U.S. bulk intimidated into not publicly disclosing their mailers beyond the reach of our laws might e-mail address, or they take out a second, even use it as a mailing list. unpublished address. Some people change But legislation is hardly the only solution to their addresses simply because their old ones the UBE problem. Where there is a strong are on so many junk-mail lists. market demand—in this case, a demand not to Estimates of the costs imposed by UBE receive something—businesses work to fill it. vary widely. In a widely publicized study UBE has proven to be an ineffective advertis- released last June, Bright Light Technologies ing medium for legitimate businesses. The claimed that the annual cost to a large ISP antagonism it arouses strongly outweighs any through lost customers could be in the mil- positive response. As a consequence, the lions of dollars; others dispute that figure. amount of cold UBE that legitimate business- Nearly everyone in the industry, though, es send is negligible. (There is controversy agrees that the cost is significant. over gray areas in which an advertiser and recipient have had prior contact, but that is another matter.) The market has averted the doomsday scenario in which every business in Where does this leave us? Does the govern- the world sends e-mail to every account in the ment have to step in and limit what can be world. Legislation could actually defeat the mailed? Some would say yes. A widely sup- market’s effect by giving the appearance of ported organization called CAUCE (Coalition acceptability to bulk mailers who follow Against Unsolicited Commercial Email; government-approved procedures. www.cauce.org) describes itself as “an ad Today nearly all service providers have hoc, all volunteer organization, created by policies prohibiting the transmission of unso- Netizens to advocate for a legislative solution licited bulk mail. Those that don’t or that are to the problem of UCE (a/k/a/ ‘spam’).” In lax in enforcing their policies find that other 1997 CAUCE tried to amend the federal sites will not accept mail from them. Junk statute outlawing junk faxes to also prohibit e-mail today comes primarily from fly-by- junk e-mail. night operations, promoters of dubious H.R. 3113, the Unsolicited Electronic Mail schemes, and outright frauds who open Act of 1999, which CAUCE supports with accounts just long enough to pour messages some reservations, would require the Federal into a hundred thousand mailboxes. Communication Commission to maintain or Technology is part of the market solution. contract out a list of the names and e-mail Normal mail on the Internet is conveyed by a addresses of all people who wish not to protocol called SMTP (Simple Mail Transfer receive “unsolicited commercial electronic Protocol). SMTP was created in the days mail, unsolicited pandering electronic mail, or when the Internet was a government-subsi- both.” Sending such mail to people on the list dized project used mostly by educational would be prohibited. institutions; it contains no protection against This type of legislation has several prob- forgery. Bulk mailers have taken advantage of Government to the Rescue? ===== PAGE 30 ===== 30 IDEAS ON LIBERTY ¢ MARCH 2000 that to falsify the origin of their mail; if recip- recipient sees it; having such a policy pro- ients can’t tell where the mail came from, they vides a marketing advantage. can’t inform the sender’s service provider of In addition, existing legal protections can the abuse. be applied against fraudulent UBE. Because To solve this problem, creators of mail- the Internet is new, legal precedents are often server software have improved their products lacking. But this is changing. America Online to make it more difficult to send forged mail has won a number of lawsuits against bulk and easier for knowledgeable readers to deter- mailers who sent mail with forged AOL return mine its actual point of origin. Others have addresses; others have had similar successes. provided downloadable software and Web If there is a need for new legislation, it is sites that permit even unskilled users to deter- only in clarifying how existing concepts of mine the likeliest origin of the mail and send fraud and theft of resources apply to new in a report. Because many Internet users don’t technologies. “just hit delete,” but take the time to send in The Internet has been successful largely reports of UBE, the account of the typical because it is relatively unregulated. Spam is “spammer” has a short life. Many service no justification for new regulations. Technol- providers offer filtering services that elimi- ogy can stop the flow of abusive mail from nate a significant portion of UBE before the wherever it might come. [] FEE is pleased to announce the arrival of the second in our series of Occasional Papers: Assurance and Trust in a Great Society by Professor Dan Klein An intriguing look at the ways markets promote and reward relationships built upon trust. This collection of four essays provides vigorous counterarguments to those who claim that government alone is capable of policing against fraud and unfair dealing. ON SALE NOW FOR $5.95 Plus shipping and handling ===== PAGE 31 ===== The Therapeutic State by Thomas Szasz IDEAS ON [IBERTY MaRrcH 2000 Does Insanity “Cause” Crime? “The madman is not the man who has lost his reason. The madman is the man who has lost everything except his reason.” —GILBERT K. CHESTERTON or 300 years we have sidestepped con- the former, then he is a guilty victimizer. If fronting the truth about human despera- the latter, then he is an innocent victim (of tion and depravity, and the horrors the desper- insanity). I say the question is nonsensical ate and the depraved can inflict on us and because regardless of whether a person is themselves. (deemed to be) sane or insane, he has reasons, In November 1999, Andrew Goldstein, a not causes, for his action. If we regard the man with a long history of psychiatric actor’s reasons as absurd or “crazy,” we call encounters, was tried for murdering a young him insane or mentally ill. However, that does woman named Kendra Webdale by pushing not prove that an alleged condition (“insanity” her under a New York subway train. The or “mental illness”) caused him to commit the defense was insanity. The jury was unable to forbidden act. In short, the insanity defense agree on a unanimous verdict. Goldstein will combines and conflates two problematic ele- be retried this spring. ments about “insanity”: (1) what is “it” (as a There was no dispute that Mr. Goldstein phenomenon or disease)? and (2) does it pushed Ms. Webdale to her death. Nor was cause and excuse bad behavior? there dispute about what, regardless of the Although no one can define insanity, nearly jury’s verdict, was to be Mr. Goldstein’s fate everyone believes that he can recognize it for the foreseeable future: he would be “when he sees it.” Still, the question remains: deprived of liberty (by being incarcerated in What is “it”? In principle, this question ought jail, a mental hospital, or a hybrid institution to be debatable. In practice, it is not: all called a “forensic facility”). socially recognized authorities agree that The problem is that whenever a person fac- insanity is a brain disease. tually guilty of committing a serious crime For the sake of clarifying the issue before pleads insanity, the jury is asked to answer an us, let us admit that (false) claim. In that case, intrinsically nonsensical question, namely, insanity is similar, say, to Parkinsonism or a what “caused” the defendant to commit his stroke, brain diseases diagnosed and treated wrongful act: his self or his mental illness? If by neurologists. A brain disease may, indeed, be a cause. But a cause of what? Typically, of Thomas Szasz, M.D., is professor of psychiatry emer- behavioral deficit, such as weakness, blind- itus at SUNY Health Science Center in Syracuse, New T€SS, paralysis. No brain disease causes com- York. He is the author of The Myth of Mental Illness. plex, coordinated behaviors, such as the 31 ===== PAGE 32 ===== 32 IDEAS ON LIBERTY ® MARCH 2000 crimes committed by Andrew Goldstein or juries to arrive at the posthumous diagnosis John Hinckley, Jr. that the suicide was insane at the moment he The insane person is, after all, a person, killed himself. (The criminal law against sui- a human being. Only legal tradition and cide was repealed only in the nineteenth cen- psychiatric-professional self-interest, not tury, by which time it had been replaced by facts or logic, compel the law to frame the mental health laws.) jury’s task as a choice between deciding The celebrated English jurist William whether an insane defendant is bad or mad — Blackstone (1723-1780) recognized the sub- guilty (by reason of free will) or not guilty (by terfuge and warned against it: “But this excuse reason of insanity). If a “mad killer” is sick, [of finding the offender to be non compos he could—Ilike an HIV-infected killer or a mentis] ought not to be strained to the length tubercular killer—be imprisoned for his crime to which our coroner’s juries are apt to carry it, and “treated” for his illness in prison. viz., that every act of suicide is an evidence of Millions of people are said to be mentally insanity; as if every man who acts contrary to ill or insane. Not all of them commit crimes. reason had no reason at all; for the same argu- Although a mad person such as Mr. Goldstein ment would prove every other criminal non is regarded as being mad much of the time or compos, as well as the self-murderer.” It was even all of the time, he kills only some of the too late. By validating the fiction that suicides time. When a mad person kills someone—just could, post facto, be found to have been non as when he petitions a court to be released or compos mentis, the law had crafted a mecha- eats his dinner—he does so because he nism for rejecting responsibility—the crimi- decides to do so. Hence, if the madman com- nal’s for his deed, the jury’s for its duty—and, mits a crime, justice demands that we take aided by the medical profession, wrapped the him seriously and punish him for his deed. deception and self-deception in the mantle of healing and science. From Solution to Problem We must keep in mind that the impetus for excusing self-murder did not come from its The insanity defense, as we know it, is a ostensible beneficiaries, the victims of the law relatively new cultural invention. I believe itis against suicide. Clearly, it could not have not possible to understand the problems it come from them: the self-killer was dead; his causes unless we understand the problems it family, bereft of means and reputation, was solved in the past and solves today. powerless. Instead, the impetus came from The “crime” that led to the creation of the those who needed it and had the political clout insanity defense was not murder, but a deed to make law and medicine embrace it—judges long considered even more heinous, namely and lawyers, coroners and mad-doctors. Coro- self-murder, or suicide, punished by both ner’ juries and judges could thus evade the ecclesiastic and secular penalties: the suicide burden of having to impose harsh penalties on was denied religious burial and his estate was the corpses of suicides and the widows and forfeited to the Crown’s Almoner. children they left behind; and physicians Because punishing suicide required doing could pride themselves for saving innocent grave harm to innocent parties—that is, to the persons from suffering for the sin-crimes of suicide’s children and spouse—men sitting on “insane” self-killers. coroner’s juries eventually found the task to The result of the practice of routinely be a burden they were unwilling to bear. How- excusing suicides of their sin-crimes by view- ever, prevailing religious beliefs precluded ing them as insane was that persons suspected repealing the laws punishing the crime. The of being suicidal began to be incarcerated in law now came to the rescue of the would-be insane asylums. Soon that, too, became a rou- punishers, offering them the option of finding tine practice and reinforced the belief that the self-killer non compos mentis and hence persons who kill themselves or others are not responsible for his deed. In the eighteenth insane, and that the insane are likely to kill century, it became a matter of routine for themselves or others. [] ===== PAGE 33 ===== IDEAS ON [IBERTY MarcH 2000 The Stakeholder Fallacy by Norman Barry AS the saying goes: “There is more than they ‘own’ the firm but that their support is one way to skin a cat.” And former col- necessary for the survival of the firm”! The lectivists, embarrassed by the dismal failure ultimate purposes of an enterprise, and the of economic planning to provide any kind of decisions made within it, should be deter- life for the people unfortunate enough to live mined jointly by all the groups who play a under it, have been quite creative in discover- part in its functioning. These groups—pri- ing new ways to undermine capitalism. Some marily workers, suppliers, residents of the of these efforts come from soi-disant philoso- community in which the enterprise is located, phers who, in search of employment, have and bankers (who in some economic regimes, discovered “business ethics.” However prof- such as Germany and Japan, are also equity itable to the practitioners this is, it is in no holders)}—should have an equal share in all sense an entrepreneurial discovery. Company decisions that the firm has to make. Indeed, directors, stockholders, and assorted “fat there is really no limit to the groups that cats” (unskinned) are daily bombarded with might claim to be stakeholders, since almost demands for business to be “socially respon- anyone can assert at least a nodding acquain- sible”; it is a request that many managers are tance with the activities of the business. The only too happy to satisfy: after all, working annual reports of many publicly quoted com- for “society” is surely more morally pleasing panies are prefaced by soothing references to and less demanding than working for the what they have done for their organization’s shareholder. myriad stakeholders. Leading “New Democ- The business ethicists’ current fad is to rats,” such as former Labor Secretary Robert demand that the traditional profit-seeking cor- Reich, find the allure of stakeholderism quite poration be transformed into a curious (and irresistible.2 unspontaneous) business enterprise consist- But it is not difficult to show that behind the ing entirely of stakeholders. The shareholders, anodyne language of stakeholderism lies a the people who put up the capital and bear sinister doctrine indeed. It is an idea and prac- most of the risks, are apparently only one part tice, the ideologues claim, that is perfectly of this heterogeneous collection. As promi- compatible with capitalism, but in fact it nent American stakeholder theorists William undermines the defining feature of that eco- M. Evan and R. Edward Freeman assert: “The nomic system: the exclusive rights of owner- reason for paying returns to owners is not that ship. What the doctrine amounts to is the democratization, or even worse, politiciza- Norman Barry is professor of social and political the- tion, of what 1 essentially an individualistic ory at the University of Buckingham in the UK. He is €Conomic institution. It is no coincidence that the author of Business Ethics (Macmillan, 1998). stakeholder groups are frequently called 33 ===== PAGE 34 ===== 34 IDEAS ON LIBERTY ® MARCH 2000 “constituencies” in the new descriptions of ual rights are exercised by the owners, for the firm.3 example, in the event of a takeover, which rarely happens). And Japan, despite its super- Anglo- American Capitalism ficial resemblance to the Anglo-American i tice devel t and the Stakeholder Model model, has in practice developed a system with derisory residual rights for the owners In the conventional structure of the Anglo- and great power for the managers.6 American firm, the rights to action are all ulti- However, the classical-liberal model has mately derived from property relationships: been immensely successful, largely because there are residual rights, control rights, and of its admirable flexibility; Japan has been decision rights. The shareholders (as residual mired in recession for a decade, and Germany claimants) are entitled to any surplus that is suffering serious capital flight as owners remains after all operating costs have been look for more propitious venues for their paid, and therefore they possess the first type property than the rigid and unresponsive of rights. Control rights are the rights to industrial structures at home. Germany appoint managers, and these are delegated to has, however, slowly been adopting Anglo- directors by the owners. Decision rights are American business methods in the past exercised in the day-to-day activities of man- few years. As usual, the intellectuals are agements. Although the shareholders ulti- behind the times. mately determine the rights structure, the The stakeholder theorists want to replace a familiar separation between ownership and successful production method with one more control means that they will not directly in keeping with their communitarian inclina- exercise decision rights. Those are exercised tions. For them, it is not the property invested by the managers under the guidance of the that should determine who should exercise directors. decision-making rights but the roles that par- Undoubtedly there is authority in the tradi- ticular groups play in the organization. Thus tional firm. Decisions have to be made that in plant relocation, all sorts of affected are not the results of political-style negotia- groups—for example, employees, residents of tions between groups, but rather are the judg- the area where the firm is currently situated, ments of personnel driven by the objective of and inhabitants of the possible new destina- maximizing long-term owner value.# The the- tion—are to be taken into account, in addition oretical explanation of all this is in Ronald to the profit-maximizing goals of the owners. Coase’s famous 1937 article in which he Perhaps remuneration should be a function of demonstrated how the bilateral contract group pressures (that is, “social” justice) as between employees and owners replaced the well as market value, and severance (if benign, multilateral, and instantly renego- allowed at all) might be negotiated on terms tiable contracts of pure market society; the dictated by trade unions. excessive transactions costs involved in the Most important, takeovers that threatened latter made it an uneconomic way of doing “communities” (entrenched groups) would business.’ most likely be forbidden or strictly regulated Of course, the firm does not have to be in a stakeholder society. In the Anglo- organized like this. In less individualistic cap- American model this would be catastrophic, italist economies, the drive for shareholder since the takeover is the only method by value is less insistent and interests other than which potential managements can be disci- those of the owners are allowed, either by law plined. In the “arm’s length” relationships of or practice, an influence on corporate deci- an essentially anonymous system, there are no sion-making. For example, Germany, has had intimate social bonds that can prevent oppor- worker co-determination since the early tunism in this type of capitalism. 1950s. This system makes trade union mem- There is always the agency problem in bership of the supervisory board of a public a business practice that embodies an company obligatory (although ultimate resid- advanced separation between ownership and ===== PAGE 35 ===== THE STAKEHOLDER FALLACY 35 control: how do the owners prevent the proposed solution to it is laughable.” To self-aggrandizing managers’ surreptitiously resolve the conflicts between competing asserting residual rights? Ironically, left- stakeholder groups, they recommend the biased Hollywood movies portrayed accurate- appointment of a “metaphysical director” to ly this permanent feature of Anglo-American adjudicate between rival groups.8 This is, of business; we all remember Gordon Gekko’s course, self-aggrandizement by philosophers brilliant speech to the stockholders in Wall (well, they aren’t paid very much) and no Street (the similar one in Other People’s solution to the problem. Any such person will Money is perhaps even better). Maybe the simply divert income to himself up to the more communitarian capitalist economies point at which the viability of the firm is prevent managements’ shirking their con- threatened. Anyway, who would ever invest in tractual duties and engaging in self- a firm whose goal was not to make money for aggrandizement by enforcing a complex its owners but to satisfy disorganized groups notion of “trust,” although it is hard to see and various social demands? how that method is at all effective in Anglo- Maybe this does not bother Evan and Free- American-style individualism. But it is note- man; their article is subtitled, “Kantian Capi- worthy that the anti-takeover statutes passed talism,” and we know that the rightness or by the American states in the wake of wrongness of actions for Kantians in no way the amazingly successful 1980s corporate depends on beneficial consequences (even restructuring process were promoted by stake- though, like most business moral philoso- holder groups using communitarian language. phers, Evan and Freeman insist that corporate In fact, nonshareholding managements stood ethics are profitable). to lose most from the wealth-creating activi- ties of the “predator.” A Meaningful Concept of . so. the Stakeholder Decision-Making in the : : None of the above is meant to imply that Stakeholder Model the idea of the stakeholder is completely use- There is a very simple problem that lies at less. It certainly has some function in busi- the heart of all stakeholder theory: how can ness. It is quite likely that long-term owner the potentially conflicting demands of the var- value will not be advanced if labor is treated ious stakeholder groups be coordinated? as an easily disposable factor of production, There is no problem here in the Anglo- to be dismissed as soon as a downturn in American model (unencumbered by stake- business activity occurs. This is especially holders), for although the participants in an true of “firm specific” human capital, workers enterprise will have different views on how it whose skills are only appropriate for one par- should be run, what investments to make, ticular company. They are the people most what divestitures to effect, and so on, they are vulnerable in the event of a takeover. The ultimately harmonized and put to the test of firm needs a good reputation, and if it is to experience through the price mechanism. prosper it will have to attract labor in the That is not the case with a stakeholder corpo- future; its prospects will be harmed if it ration, for there is no common scale of acquires a reputation for cavalier treatment of values, no surrogate for the price mechanism, its staff. but only incessant bargaining between, in Again, it will not be to a firm’s long-term essence, political groups that will likely advantage if it dispenses with a reliable have no immediate financial interest in the supplier just because an alternative turns up company. with a slightly lower price (offering, perhaps, Despite openly declaring that “The very only a temporary advantage). And of course purpose of the firm is to serve as a vehicle for it will pay a company to establish good rela- stakeholder interests,” Evan and Freeman are tionships with the community in which it is at least aware of this problem, though their situated. ===== PAGE 36 ===== 36 IDEAS ON LIBERTY ® MARCH 2000 But this has nothing to do with ethics; it is The stakeholder theory, despite its meretri- simple prudence. The contemporary theorists cious, supposedly modern language, is really of the doctrine, however, are not talking about rather reactionary. It belongs to the nineteenth- good business practice. They are objecting to century world of large-scale industry, big the property-rights structure of the modern unions, more or less unchanging production corporation and renouncing its economically techniques, and stagnant social relationships. necessary authority relationships. The alleged It is the world originally described by Coase. equality between the various stakeholder But transactions costs are changing, and it is groups is potentially a deadly constraint on now becoming efficient to use market meth- profitability. As we know, if everybody owns ods within the firm. Entrepreneurship does everything, then nobody owns anything, and take place there. Future work arrangements no one has an incentive to preserve and will include people working from home and expand economic value. Similarly, if every- using the Internet. The corporation may body is responsible for decision-making, then become a thing of the past. There will then be no one is, and no one is properly account- no more work for business ethics writers. able. The stakeholder prescription is singular- It is curious that the antiquated doctrine of ly inappropriate to the Anglo-American stakeholding should have such an appeal at a capitalism that still functions in a more or time of rising stock values, newly emerging less anonymous world where its agents are companies, a revitalized individualism, and held together by little more than the rapid social change. It is little more than a impersonal price mechanism and the rules of sanitized version of socialism. Its contempo- competition. rary irrelevance can be seen from the fact that Perhaps stakeholder capitalism is more it has a declining appeal, especially to those appropriate for closely knit societies, or economies in which it began, Germany and economies in which transactors do not deal at Japan. UJ arm’s length, but participate in a common enterprise. Indeed, such arrangements signifi- ormontio a eo oN. cantly reduce transactions costs since the Bowie, Ethical Theory and Business, 4th edition (Englewood Cliffs, Anglo-American business world is compelled 2. Robert Reich, “The New Meaning of Corporate Social to spend a lot of resources on lawyers and Responsibility,” California Management Review, 1998, pp. 8-17. Co oo 3. See J. Kuhn and D. Shriver, Beyond Success (London: Oxford financial intermediaries. Perhaps there really University Press, 1991). is a lack of trust in this world. But it is the 4. E. Sternberg, Just Business (London: Little, Brown, 1994), : chapter 3. world of the present and the future, a world 5. Ronald Coase, “The Nature of the Firm,” Economica, 1937, characterized by highly mobile labor and PP a op 50.83 quicksilver capital. It is one that certainly 7. Evan and Freeman, p. 82. : : : 8. Ibid. requires rap id responses to ever-changing 9. See W. Beaver, “The End of the Stakeholder Model?,” Busi- economic circumstances. ness Horizons, 1999, pp. 8-12. ===== PAGE 37 ===== IDEAS ON [IBERTY MarcH 2000 Regulatory Extortion by Thomas J. Dilorenzo n 1978 Michael Jensen and William Meck- they can finance their operations from ling, writing in the Financial Analysts internally generated cash flow or [govern- Journal, offered an extraordinarily gloomy ment] subsidy.3 prediction for the future of capitalism: “The most spectacular period of economic growth As of 1999 the Dow Jones Industrial Aver- in our history is over,” they wrote, because age was about 15 times higher than it was in “government is destroying two vital instru- 1978, when Jensen and Meckling issued their ments of that growth—the system of contract dire warnings. But this doesn’t mean that they rights and the large corporation.” Constitu- were wrong about the effects of the American tional and electoral constraints on political regulatory state on stock prices. The Dow plunder have proven ineffective, Jensen and Jones average might be even higher yet were Meckling wrote, as the courts, politicians, and it not for the large degree of governmental regulators have revoked or attenuated proper- control of the means of production that is ty and contract rights and have attacked free- exercised through regulation. And the stock dom of association as well, “especially in the market is surely much more volatile because civil rights arena.” of the great uncertainties created by regula- With regard to the stock market, Jensen and tion. Overzealous regulators may even cause Meckling forecast that because of the insta- the market to crash. As discussed below, it bility of property rights caused by govern- was proposed regulation and taxation of cor- ment intervention, porate takeovers that likely precipitated the 1987 U.S. stock market crash. investors have become much less certain that any contract they enter into now will be subject to the same rules and regula- tions in the future. An early consequence Although regulators are usually blamed for of the erosion of property rights will be a the economic and social harm inflicted by reduction in the capitalized values of cor- regulation, it is politicians who are ultimately porate securities, with many corporations responsible. The U.S. Department of Labor able to remain in business only so long as may enforce the minimum-wage law, for - example, but it is Congress that passed it. Thomas DiLorenzo is a professor of economics at Regulation is just another form of pork-barrel Loyola College in Baltimore, Maryland. This article politics whereby politicians dispense regula- is based on a presentation prepared for the Ludwig t f ¢ al-int t t th von Mises Institute’s conference, “Austrian Econom- ory Iavors 10 Special-mterest groups, at the ics and the Financial Markets,” last September in €XpENSE of the rest of society. Corporations Toronto. are particularly susceptible to attacks by 37 Political Entrepreneurship ===== PAGE 38 ===== 38 IDEAS ON LIBERTY ® MARCH 2000 politicians pandering to special-interest tax increases for the ostensible purpose of groups because corporate ownership is rela- redistributing income to the “poor.” tively invisible, widely dispersed, and politi- In the environmental arena, countless capi- cally incohesive, as a rule. Moreover, the talistic bogeymen have been blamed for stock market is so volatile and complex everything from cancer to the destruction of that the owners of corporations (share- the planet. This list of phony environmental holders) would find it difficult, if not impos- scares is so long that any rational, thinking sible, to attribute declines in their asset person should routinely assume that every- values to specific government actions. In thing the organized, political environmental contrast, special-interest groups are, by def- organizations say is a lie. inition, more focused and politically well The federal government has been forecast- organized. ing an impending energy crisis ever since the Politicians are not merely passive dawn of the oil industry—roughly 1866. In bystanders who go on “listening tours” of that year the U.S. Revenue Commission their constituencies and then faithfully enact warned that the nation may run out of oil at the kinds of laws that the public wants. They any moment. In 1885 the U.S. Geological Sur- are “entrepreneurs” who are experts at either vey forecast no chance of oil’s being discov- creating genuine economic and social crises ered in California; some ten billion barrels or the perception of crises, and then offering have been pumped from that state since then. their “services” in resolving the crises. The By 1914 the U.S. Bureau of Mines was pre- most obvious example of this phenomenon is dicting that only 5.7 billion barrels of oil were war. War provides politicians with myriad left; more than 50 billion barrels have been rationales for controlling and regulating eco- pumped since then. In 1947 the U.S. Depart- nomic activity, and few of the controls are ment of State warned that “sufficient oil can- abandoned once the war is ended.4 not be found in the United States”; in 1948 Of course, politicians never admit that they more than 4 billion barrels were found—the are the source of the problems. They usually largest discovery in history up to that point blame corporations in particular, or capital- and twice the volume of U.S. consumption. ism in general. Hence, we witness a constant In 1951 the U.S. Department of Interior fore- recitation of “crises” manufactured by the cast that oil reserves would last only until state and blamed on capitalism. In the agri- 1964.5 cultural sector, for example, it has been gov- All of these gloomy (and false) forecasts ernment policy ever since the Hoover admin- were (and are) accompanied by proposals istration to simultaneously pay farmers to for more government control of the energy grow more (with price supports) and less industry to “assure” a more adequate rate of (with acreage allotments), and to subsidize development. thousands of failing farm businesses with The fundamental effect of this regulatory- farm welfare in the form of low-interest loans propaganda regime on stock markets is to and grants. The agriculture industry is thereby convince more and more investors that the made weaker and more volatile, which of right of corporate managers to use the assets course is reflected in the prices of publicly of corporations in the best interests of stock- traded corporations in agriculture and agri- holders and creditors (that is, to maximize culture-related industries. Government inter- profits) is tenuous, if not abrogated complete- vention is the source of these problems, but ly. The politicization of corporate decision- the blame is always placed on “agricultural making via regulation causes an overall markets.” decline in capital values as corporate deci- The U.S. Department of Commerce pub- sions become more and more designed to lishes fraudulent poverty statistics to make pander to the whims of politicians and poverty look worse than it actually is and bureaucrats rather than satisfying consumers to “justify” such economically destructive and earning income for shareholders. policies as increases in the minimum wage or Government regulation is often a form of ===== PAGE 39 ===== REGULATORY EXTORTION 39 legalized extortion. For example, federal reg- to fetch perpetual campaign contributions ulators routinely show up at corporate head- is the battle over reducing the legal blood- quarters and accuse a corporation of being out alcohol content (BAC) level from .10 to .08. of compliance with regulations that no human The federal government’s Office of Substance could possibly be in compliance with. The Abuse Prevention has declared that its goal is EPA requires that corporations which handle to eventually have .04 as the legal limit, which “hazardous materials”—which even includes can be attained by an adult male who con- Windex, according to the EPA—must keep a sumes one or two beers. Congress failed to written record of where each and every con- pass such a law in 1998; the law that it did tainer is located at every moment. Former pass, however, creates a slush fund of high- New York state environmental protection way grant money that can be used to bribe commissioner Thomas Jorling described this states into passing laws that reduce the legal practice as “a kind of extortion.” EPA regula- BAC level. The law is to be renewed every tors will enter a corporate office and impose year, guaranteeing that the alcoholic beverage huge fines on corporations that could not pos- industry will be forced to make campaign sibly maintain the EPA's huge paperwork bur- contributions indefinitely to defeat this neo- den even if they wanted to. Threatened crimi- prohibitionist legislation. nal indictments assure payment of the fines. In 1992 Congress authorized the Federal Ina 1997 book, Cornell University law pro- communications Commission to impose fessor Fred McChesney argues that blackmail price controls on cable television. Ever since and extortion are inherent features of the then the cable industry has poured millions modern regulatory process. In short, political ,¢ gollars of campaign contributions into “entrepreneurs” threaten legislation and regu- Washington annually in an apparently fruit- lation that will either impose price controls or |.cq effort to eliminate the controls increase costs (both of which would reduce One of the more notorious examples of profi Hg unless the tengeted Sompenies political blackmail in recent years involved and incus ph ne © My Kine op the Clinton administration’s proposals to campaign co utions or other Xinds of pri- impose price controls on doctors, hospitals, sae bp ayotts (ncluding speaking honoraria, and the pharmaceutical industry as part of its Jobs fo 5, and subsiized travel to ux- filed plan for socialized medicine. Once urious vacation resorts). rice controls were proposed, reported the Politicians call legislation that is intended P proposefl, rep . oo . New York Times, members of Congress and to extort campaign contributions from a busi- . ness or industry “milker bills” or “cash cows.” the p resident were “receiving vast campaign As explained by one California legislator, a contributions from the medical industry, an politician “in need of campaign contributions, amount A od unprecedented for a non- has a bill introduced which excites some con- slection year. While i: remains unclear who stituency to urge [the legislator] to work hard would benshit and who would suffer under whatever health plan is ultimately adopted, it for its defeat (easily achieved), pouring funds | hat th Iv wi into his campaign coffers”? is apparent that the early winners are mem- bers of Congress.”8 Another name politicians have given to : i Representative Jim Cooper, who proposed such legislation is “juicer bill,” since they are VP i designed to “squeeze” cash out of corporate legislation that was slightly less onerous than Clinton’s, received nearly $1 million in cam- coffers in return for not harming the corpora- ) td . tion with proposed legislation and regulation. P2ign contributions in the first four months of So-called “fetcher bills” are also said to be 1994; overall, campaign contributions in 1993 capable of “fetching” gobs of campaign cash. Were about one-third higher than in the previ- ous non-election year of 1991.9 It was also is . widely reported at the time that the handlers Examples of Political Extortion of Hillary Clinton’s not-so-blind trust were One recent example of a proposed regula- selling her pharmaceutical stocks short every tion that seems to have been designed purely time she made a highly publicized speech ===== PAGE 40 ===== 40 IDEAS ON LIBERTY ® MARCH 2000 demonizing the pharmaceutical industry, ing industry spent millions in campaign “con- which she did quite often. During the Clinton tributions” to stop a 1982 requirement that health plan fiasco of 1993-94 the value of they withhold taxes on interest and divi- pharmaceutical stocks dropped by over $40 dends—a paperwork nightmare for the banks. billion, according to one account.!0 After the In 1983 and 1984 the life insurance industry industry poured millions of dollars into the spent more than $2 million to defeat legisla- coffers of Washington politicians the price- tion that would have banned the granting of control plan was defeated. gender-based rates and benefits. In his book In Defense of the Corporation, Perhaps the most egregious example of reg- Robert Hessen documents how Ralph Nader ulatory blackmail is enforcement of the so- has long engaged in the same practice as the called Community Reinvestment Act (CRA). first lady—shorting the stocks of companies The CRA was enacted in 1978 under a patent- that his numerous think tanks and organiza- ly false pretense—that banks made fewer tions routinely demonize with highly publi- loans to residents of low-income neighbor- cized “studies” alleging corporate wrongdo- hoods not because there were fewer credit- ing.!! The “tobacco settlement” reached by worthy borrowers there, but because of the state attorneys general, the federal gov- allegedly pervasive “discrimination” against ernment, and the companies might well be the primarily black residents of those neigh- considered to be the Mother of All Political borhoods. Banks do—and should—*“discrim- Shakedowns. In return for being allowed to inate” against less creditworthy borrowers, stay in business, American tobacco compa- but in doing so they run the risk of regulatory nies are being forced to pay almost a quarter extortion. of a billion dollars to trial lawyers and feder- An entire industry of sometimes federally al, state, and local governments. The media funded “community groups” has sprung up, have already begun reporting on how the ini- with names like Center for Community tial installments are being spent on anything Change and Association of Community Orga- and everything by state and local govern- nizations for Reform Now (ACORN), which ments, and not only “health-care costs,” as essentially extort money from banks with the was promised. following ruse: Whenever a bank proposes a Even this record may someday be broken, merger, expansion, or building of a new however, if the government succeeds in branch, it is subject to regulation by the Fed- destroying the Microsoft Corporation. Just a eral Reserve, the Comptroller of the Curren- few years ago the Washington Post was writ- cy, and the Federal Deposit Insurance Corpo- ing sneering articles about how naive Bill ration. If anyone files a complaint with any of Gates was for believing he could focus his these agencies accusing the bank of making energies solely on producing better comput- too few CRA loans, the merger or expansion er products without being a “player” in is halted. So-called community groups fre- Washington, that is, caving in to the Wash- quently lodge such complaints and do not ington establishment’s legalized extortion withdraw them until the banks give them or racket. Since then, Gates has hired dozens other groups they designate large sums of of Washington lobbyists and lawyers and money, sometimes in the tens of millions of has spent the required millions in campaign dollars. The Neighborhood Assistance Corpo- contributions. ration of America (NACA), led by self- Regulation is perhaps most effectively used described “urban terrorist” Bruce Marks, has as a tool of extortion when it threatens to “won” loan commitments totaling $3.8 billion sharply increase the costs of doing business, from Bank of America Corp., First Union which it always does. Again, the game is for Corp., Fleet Financial Group, and others. That politicians to propose regulations that would money is lent to borrowers favored by Marks, drastically increase the costs (and subsequent- and his organization usually gets a lump-sum ly reduce the profits) of successful companies fee or a percentage of each loan.12 NACA with “deep pockets.” For example, the bank- plans to operate in all 50 states by 2001, when ===== PAGE 41 ===== REGULATORY EXTORTION 41 it expects its annual budget to be in the $80 sions, which only benefit the incumbent man- million range. agers at the expense of their shareholders and customers. Regulation and the Stock In early October 1987 the Congress waged Market Crash of 1987 a full-scale assault on corporate takeovers by passing several important changes in the tax Economists Mark Mitchell and Jeffrey Net- code.!4 Mitchell and Netter calculated that ter have provided powerful evidence that reg- these changes would have reduced the value ulatory sneak attacks precipitated the stock of acquiring a company through a takeover by market crash on October 19, 1987, when the about 25 percent; that would in turn cause a Dow Jones Industrial Average fell 508 points decline in the stock price of the acquiring (22.6 percent).!3 Their thesis is that proposed company. Typically, the stock price of an changes in the tax treatment of corporate acquiring company increases 25 to 35 percent takeover transactions, which would have as the result of a takeover. Moreover, such a made such transactions much more costly, dramatic anti-takeover bill would have triggered the crash. reduced stock prices overall by generally It is important to recognize the importance weakening the market for corporate control, a to the economy of the market for corporate major source of efficiency in capital markets. control, or the takeover market. This market is a keystone of any capitalist economy, for itis The Regulatory Attack the very means by which capital is continual- Mi ft ly reallocated to those who will make the best on IICroso use of it. A vital and free capital market, Lud- Microsoft’s critics claim to believe that wig von Mises wrote, is the keystone of capi- what is bad for Microsoft (an antitrust prose- talism and the one thing that most distin- cution) is good for the rest of the computer guishes a capitalist economy from a noncapi- industry and vice versa because of talist one. Unfortunately, that is also why Microsoft’s allegedly “exclusionary” prac- politicians are forever proposing more and tices. Microsoft is supposedly “a threat to more regulatory control of it. everybody in the industry,” according to Alan Laws and regulations that restrict corporate Ashton, president of WordPerfect, which has takeovers are protectionist. In a corporate lost almost all of its market share to Microsoft takeover a group of investors has determined Word. that a particular company is being misman- In a forthcoming article in the Journal of aged. They seek, through a proxy battle or Financial Economics, Thomas Hazlett and other means, to take over control of the board George Bittlingmayer expose this as a myth.15 of directors and, subsequently, of manage- The authors surveyed all Wall Street Journal ment. They may fire some or all of the poorly articles from 1991 through 1997 announcing performing managers, replace them with bet- the investigations and litigation and gauged ter ones, and make more profit for themselves the reaction of the stock markets to it. Cate- and the other shareholders. gorizing all news stories about the regulatory No one has perfect foresight, so many assault on Microsoft as “positive,” “negative,” takeovers do not work out. But nevertheless, or “ambiguous,” they found that: the only way to learn who can make the best use of corporate resources is to allow the free [W]hen Microsoft receives good news, its market to tell us, including the free market for stockholders experience average market- corporate control. adjusted returns of 2.4%. But the news is Laws and regulations that would restrict also good for the industry as a whole, takeovers or make them prohibitively costly which sees average returns of 1.2% over are invariably the result of lobbying efforts by the same dates. (Both returns are signifi- incumbent managers who have bribed politi- cantly greater than zero at standard levels cians into enacting the protectionist provi- of statistical significance). ===== PAGE 42 ===== 42 IDEAS ON LIBERTY ® MARCH 2000 During negative events . . . Microsoft rewrote the laws to strip the tobacco industry stockholders incur average returns of of long-standing common law defenses, guar- minus 1.2% per event, while the non- anteeing that those states would win their law- Microsoft computer portfolio declines suits against the industry. There is no reason 0.6%.16 to believe that politicians will not do the same to other industries now that the precedent has The returns of a few companies, such as been set. The state governments cleverly hired Netscape, which is leading the lobbying and private trial lawyers to bring the cases and public-relations attack on Microsoft, enjoy paid them enormous sums—in the tens of increased stock prices whenever the news is millions of dollars each in some states. bad for Microsoft, which explains why it is Tort lawyers are now touting plans to use instigating the political assault on its rival. It the tobacco litigation/extortion model against is merely attempting to achieve through poli- the producers of firearms, lead paint, pharma- tics what it has failed to achieve in the com- ceuticals, beer, wine and liquor, chemical petitive marketplace. additives, fatty foods, sports utility vehicles, The regulatory persecution of Microsoft is biotechnology, and myriad other products. yet another example of regulatory extortion. These industries will be demonized, more and The political establishment is busy extracting more severe regulatory restrictions and excise “protection money” from Microsoft in return taxes will be imposed on them, and their for its promise to allow the company to exist. stocks will tumble. No industry is safe from the greedy hand of regulatory extortion. [J The Tobacco-ization of Industry? 1. Michael C. Jensen and William H. Meckling, “Can the Corpo- ration Survive?,” Financial Analysts Journal, Jan.—Feb. 1978, p. 31. The so-called tobacco industry “settle- 2 D¢ ment” has ominous implications for all indus- 4. Robert Higgs, Crisis and Leviathan (New York: Oxford Uni- tries (and consumers). The model is for a eo Nad, government-funded attack on specific indus- 6. Phillip K. Howard, The Death of Common Sense (New York: . . . : Time Warmer, 1994), p. 33. tries, complete with volumes of junk science 7. Fred McChesney, Money for Nothing (Cambridge, Mass.: Har- and taxpayer-funded lobbyists who pressure vard University Press, 1997), pp. 29-30. for advertising bans and other regulations that y id. p-57. make it difficult to sell the product, along with 10. “Requiem for Reform,” Wall Street Journal, October 14, : : 17 : D _ 1994, p. A-10. higher excise taxes. The industry S manage 11. Robert Hessen, In Defense of the Corporation (Stanford, ment is demonized and portrayed as corporate Calif: Hoover Institution Press, 1979). : IS hil 12. John Hechinger, “NACA Helps Low-Income Clients, But its outlaws. The notion of individual responsibil Tough Methods Draw Flak,” Wall Street Journal, September 13, ity (for smoking, drinking, reckless driving, 1999. : 13. Mark Mitchell and Jeffrey Netter, “Triggering the 1987 Stock firearm use, and SO on) 1 abandoned as Market Crash: Antitakeover Provisions in the Proposed House Ways responsibility” is socialized. Once this iS and Means Tax Bill” Journal of Financial Economics, vol. 24, 1989, done and it is established that no one is PP-37-88 0.39 responsible for his or her own irresponsible 15. George Bittlingmayer and Thomas Hazlett, “DOS Kapital: : it 3 : Has Antitrust Action Against Microsoft Created Value in the Com- behavior, then it is relatively