Book Club: Two Takes on Cronyism...

I picked up A Capitalism for the People (ACftP; 2012; Basic Books) after hearing its author, Luigi Zingales, on the EconTalk podcast. I found some of his comments interesting and provocative, most especially his lamenting that many politically powerful people in America have confused the concept of 'pro-market' and 'pro-business'.

ACftP begins with Zingales offering an opinion as to what has traditionally made American enterprise so successful: relatively free and open markets. He has an interesting perspective on the matter in that he was born and raised in Italy and worked briefly for the Italian central bank before becoming a professor at the University of Chicago. In Italy, Zingales observes, cronyism is the norm. Power lies in the hands of a relatively small number of elites who distort the normal functioning of the market in the favor of their (and their friend's) own fortunes.

In an anecdote, the author explains that when he first moved to Chicago, the city was hit with a Tornado warning. The mayor appeared on TV and asked everyone to tape up their windows. Somewhat surprised, Zingales realized that many of his neighbors were following the mayor's advice. In Italy, he explains, if the mayor asks you to tape up your windows, you immediately assume that his brother sells tape.

I also happened to listen to an audiobook last week that tackles many of the same themes: Arianna Huffington's Third World America (2010; Tantor Audio). The 'third world' referred to by the author is the idea that America is becoming a country of 'haves' and 'have nots', where an ever greater amount of wealth is concentrated in the hand of an influential few.

Both books argue that people's confidence in markets exists only so long as they continue to perceive society as a meritocracy. When the common conception is that luck and/or familial wealth have the greatest impact on your ability to succeed, market confidence will erode leading to populist calls for greater 'redistribution'. 

The confusion of the ideas of 'market' and 'business' doesn't help because businesses have large short-term incentives to distort the proper functioning of markets in order to generate monopolies and oligarchies. Zingales in particular argues that many of the high-tech industries that are becoming an ever greater part of American economic growth are in winner-take-all economies: being the dominant operating system, or the number one app, drives disproportionate revenue your way. This leads to ever greater incentives to limit competition once you're at the top.

Where the two books differ, as expected, is in how they suggest the problem of cronyism be addressed. Whereas Huffington supports tighter regulation and both advocate transparency, Zingales is a bit more practical. We must recognize, he explains, that government itself is part of the problem, and therefore cannot be the solution on its own. Massive incentives exist to capture regulators and grease palms. Unfortunately the balance will never favor the diffuse individual over the concentrated incentives of the company.

What ACftP advocates is an overall simplification of regulation. Zingales says that he's realized that economists spend too much time focusing on what is efficient, rather than what works. Repeal of the Glass-Stegal Act didn't cause the recent economic calamity, but its existence did have an effect of limiting bank consolidation and thus may have been stabilizing. Whether inefficient or not, it was ~30 pages long, which meant that it was easy to monitor and enforce unlike the unwieldy ~2,300 page Dodd-Frank Act, which will likely keep an entire army of attorneys employed to interpret it (and find loopholes for corporations). Furthermore, Zingales also advocates a massive simplification of the tax code, an end to incentive perverting (read ALL) subsidies, a restoration of the ability of individuals to pursue class action lawsuits under all circumstances, and laws that would massively reward 'whistleblowers', which are a much cheaper and far more effective source of regulation.

While Huffington and Zingales bascially agree the vast majority of the time, I think that Zingales has the right of it in that hoping that we'll somehow be able to demand 'different sort of politician' ignores the realities that will likely change the incentives of anyone who takes office. His suggestions on how to reform corporate governance and regulation may not be perfect, but they're more transparent. Ultimately, constant vigilance against abuse and scandal is the only way to minimize cronyism.

P.S. Based solely on his comments on various podcasts and writings, I was a bit surprised to discover that Zingales does not consider himself a libertarian. He's certainly pro-market, but as he writes in the book (p. 232):

Many free-market economists think that well-functioning markets arise naturally in a laissez-faire economy. Unfortunately, this is not the case. A free market’s infrastructure and liquidity—the presence of many buyers and sellers at the same time—are the ultimate public good: everybody benefits with no cost. Yet individual market participants, especially powerful ones, can benefit from trying to restrict competition and hollow out liquidity. Here lies a fundamental challenge for libertarians. Unrestricted freedom of contract can lock in potential traders in a way that dries up liquidity and prevents market development. If companies could lock in workers at a young age, for instance, the labor market for managerial talent would be constricted. The more comprehensive contracts can be, the shallower the market. This is one of the reasons for prohibiting indentured servitude (in which a person sells his future labor services). The same applies to securities markets. As powerful banks try to exchange securities over the counter, markets become less liquid. For this reason, separating investment and commercial banking, as required by the Glass-Steagall Act, was essential to jump-starting the development of a liquid securities market in the United States.

Comments

[langmann]

I am glad you liked ACftP, it was a decent book. I don't put much stock in much Huffington says.

Essentially ACftP, having read it, says exactly what most libertarian or classical liberal economists and followers have been saying for years. So for me I found it redundant but still refreshing as he provides his perspective as you say, from a big government crony economy.

Essentially I disagree with him in regards to the ability of businesses to form long lasting monopolies. Most certainly they can produce short term monopilies which seem like they are monolithic but from experience, as Milton Friedman says, please tell me about one monopoly which wasn't government created that has lasted for a long time?

Moreover the other problem with anti-trust regulations is that no one can really understand them. While some might think Donald Rumsfeld is near satan, he is extremely intelligent and well versed in the political and economic system of the United States and his delineation of the ability of business and government to work together to corrupt the entire anti-trust system for their own benefit makes him skeptical as to its ability to solve any short term problems nor produce any benefit to the consumer.

In terms of indentured servitude I also disagree with him in regard to that.

Forget about equality, its not important. Essentially I cannot think of another system which has the ability to establish a better life for people in poverty who are willing to try hard. Free markets certainly do not aid lazy people or people who make horrible decisions but it is the only system which brings the poor the quality of life they have today. Even in the days of the Industrial Revolution when people lived in conditions which seem appalling by our standards, the reason they were all lined up in the city was to get the better quality of life that factory work offered.

This is why I support almost no government regulation. Because once governments start regulation you get cronyism. I suggest you check out Dr. Walter Block, he has some talks on youtube, from the perspective of complete libertarianism that I am interested in.