Market Failure – or – why the free market doesn’t do everything (Part 3)

COLLECTIVE GOODS

Some collective goods are things that a large number of people can use without using them up, such as radio waves or light houses.  Other types of collective goods are those that can’t be privately owned, like air, water and migratory wildlife. Collective goods are particularly susceptible to market failure. The classic example is the “tragedy of the commons.” A commons is a common pasture where everyone is allowed to graze their livestock without limit. This pasture will produce the most forage when the number of animals is optimum. But each farmer sees an advantage in adding one more animal, then one more and one more. The pasture gets overgrazed, then everyone suffers the consequences. Fisheries undergo this situation time after time. Each fisherman naturally wants to catch as many fish as possible, but when they do, the fish stocks decline, sometimes to the point of disappearance.

Free Riders

People can voluntarily pay for collective goods, like public radio and TV, but there will always be people who use them without paying. These are called “free riders.”  Pure self-interest would make everyone want to be a free rider, but then of course the service would not be funded. It is easy to be a free rider on the internet, reading articles from one publication or another without actually subscribing. On-line publications are still trying to figure out how to get users to pay.

Free Services

In previous centuries, many services that are now part of the marketplace were performed at home and no one had to pay for them with money. Families grew and cooked their own food, made their own clothing and bedding, taught their children and cared for the sick and elderly. Some families built their own houses and barns and provided their own transportation by keeping horses, mules or oxen. Over the years, manufacturing moved out of the home, textiles being a good example. Women no longer have to spend time spinning, weaving, knitting socks, making quilts and sewing clothes. Food is now making the same transition, as many young people no longer cook and restaurants and take-out food continue to proliferate. Education has been moved to schools, health care to hospitals. There are still some free services that many families provide for themselves, particularly child care and elder care. It becomes harder and harder for society to find a way to pay for these services when people want to transfer them to the market economy. Parents find that they have to spend nearly an entire salary to pay for child care; meanwhile child care providers are underpaid. And elder care can use up a family’s life savings, leaving nothing to pass on to heirs. When we try to monetize them, we realize that the value of the free services that families have been providing is staggering.

Ecological services are another vast array of non-market functions, only these are provided by the environment. For example, a forest on a hillside does a lot of good. The roots of the trees and the mosses on the ground absorb water and let it soak in or evaporate slowly. If you have ever seen mist rising from a forest during and after a rain storm, you can see this. You might also notice that streams coming from an intact forest run clean when it rains, whereas streams in urban or agricultural areas are muddy. The tree roots hold the soil so it does not erode and cause landslides. Because of the hillside forest, groundwater is recharged and flooding is reduced. Streams coming from forests are also more stable in their flow, providing water consistently. Streams in denuded areas are flashy and then dry up after the rain stops.

But there is no incentive for the owners of hillside forests to leave them intact. The ecological services they provide give the owner no income. We constantly hear about deadly landslides in one country or another, then a few days later some media outlet will report that there had been deforestation (almost as an afterthought). Centuries have gone by without anyone devising a good solution. Authors in ancient Mesopotamia, Greece and Rome wrote about how deforestation led to landslides, droughts, and the silting up of harbors. Wangari Matthai, the Kenyan Nobel laureate who championed forest preservation until her death in 2011, was still at it. She exhorted that “the mountains should be clothed in their dress.” But as long as money continues to be the sole motivation for action, the logging continues.

When Demand Reduces Supply

When a product is in high demand, the price goes up and the supply increases; so the law of supply and demand would like us to believe. But when the product is a wild plant or animal, the pressure caused by high prices can deplete the population. First the supply may go up because more people hunt or catch or collect the product. But eventually the population crashes. Rhinos are an example. They are in danger because their horn is popular for folk medicines, especially in China. The more scarce rhinos become, the higher the price poachers can gain from selling their horn; consequently, the rate of poaching increases. Like most large animals (whales, elephants, etc. ) rhinos reproduce slowly, and the race to obtain their horn may only end when there are no more rhinos.

Society can adapt to the depletion of natural resources. We use petroleum instead of whale oil, plastic instead of elephant ivory — and fake rhino horn is common in Chinese markets.  But the natural world is left poorer.

Market Failure – or – why the free market doesn’t do everything (Part 2)

 

EXTERNALITIES

Externalities are effects that are external to the marketplace’s supply and demand cycle. Let’s say you make steel and I buy it. The price of the steel is determined by how much it costs you to make it, how much profit you want, and how much I am willing to pay. There are third parties in the mix though: the people near the steel mill who have to breathe the sooty, rotten-egg-smelling air. Since they are not buying nor selling the steel, the marketplace ignores them; there is no way to put them in the equation of supply and demand. The health and environmental effects of steelmaking are a cost of production, but they are borne by someone other than the mill owners. They are external costs.

Externalities can be positive too. If you have beautiful flower garden that I can see from my window, that benefits me. If I walk past a historic building every day and appreciate the tile work, that sight may give me more pleasure than the coffee I’m drinking on the way, even though I may not even know who owns the building. The garden and the building have external benefits. The problem with external benefits is that they usually aren’t monetized. You make no money from the garden, but I will mourn if you pave it over. I pay for the coffee; I don’t pay for the beauty.

Market Failure – or – why the free market doesn’t do everything (Part 1)

The free market is unmatched in its ability to allocate goods and services. No government has to tell it how many tee shirts to produce and in what colors; how many refrigerators, or what kinds of Christmas toys. The free market works through creative destruction: if someone starts a company that is well-managed and produces what customers want, that company will prosper. If it doesn’t, it will go out of business. As a result, we have an endless supply of goods and services to choose from, and even “unpleasant” jobs are taken care of: we can hire someone to clean a septic tank or unclog a drain. The system gives us jobs and money, and with that money we can start new businesses and bring new ideas to market. What more could we want?

We could want a lot of things that are not part of the marketplace because they can’t be bought and sold. This is where free market purists go wrong. The marketplace is only a small part of the whole of life. It can affect the rest of life in positive or negative ways, or maybe not at all, leaving some needs unmet. When the negative effects are bad enough, people demand that they be controlled. Let’s look at a few examples.

 

FREEDOM. The free market sees no difference between owning machinery, animals, or humans as means of production. Slavery and serfdom were common throughout history and still exist in many places today. But we in America believe that every human has a God-given right to freedom.
MORALITY. The free market will produce pornography, and lots of it, because that’s where the money is. Most people agree that porn is bad for kids and too much of it can degrade a society. A similar situation exists with drugs. A good way to make money is to get people addicted to drugs and then continue to sell them drugs, since they will do anything to maintain their habit. The truth is that the free market is totally amoral. Goods and services simply go where the money is regardless of the impact on society.

AIR, WATER, WILDLIFE. These are called common property resources because they move across property boundaries. In an unregulated situation you don’t have to pay to take water out of a stream or well, and you don’t have to pay to put pollution into it. Naturally, then, people will deplete and pollute water supplies. The costs are borne by those who want to use the water and can’t because it’s unusable. Some people get the benefits, different people pay the costs. So we need to prevent pollution with regulations. Similar situations exist with air quality, wildlife and other resources. Hunters know that hunting seasons and bag limits are essential to maintaining a sustainable game population; otherwise the game would be overhunted and disappear.

QUALITY OF LIFE. Quality of life is like a common property resource too. The way our neighborhoods look, smell, and feel, and how safe they are, all these things are a by-product of the actions of individuals and companies. Sometimes the quality of life is enhanced by cheerful shop windows and outdoor cafes. Sometimes it is degraded by noise, garish signs, traffic etc.

Let’s say we live in a libertarian society where everyone dumps their garbage into the streets. The streets then look and smell terrible, but no one sees a way to make money cleaning it up, so no one does. If some people hire garbage haulers to remove their trash but the rest of the people continue dumping, not much will change. That’s when a government of sorts will start to form. A majority of the people can vote to force the rest to pay for garbage pick-up , or levy fines on those who don’t dispose of their own trash properly. A libertarian society probably wouldn’t last too long.

The old adage, “The best things in life are free” can go in one ear and out the other. But when thinking about non-market values, it becomes clear. Some of the things you can’t buy are the things you want most.