The Free Market
A Primer on Regulation
The Free Market 24, no. 5 (May 2004)
A popular economics textbook that I once had to use while working as an adjunct professor had a section on government regulation in which the authors likened it to the placement of a stop sign at a busy intersection or a rule that was meant to prevent individuals from behaving dishonestly.
The authors were partly correct; regulation does, in fact, serve as a device that limits activities of people in the marketplace. However, their clear implication is wrong: they tell students that without government regulation in economic activity, the economy itself would erupt into chaos.
That is untrue on two counts. First, one must distinguish regulation (which often is specific to a certain area of business) from law (which is more general). For example, there are laws against fraud, and long before governments began to regulate the US economy, people brought alleged fraud cases to court, as well as other tort action that existed under a common law system. Thus, the allegations that without government regulation, there would be no legal oversight of markets are untrue.
The second misconception is that there are no self-regulatory aspects of individual behavior in a market setting. This does not only mean a belief that there are no self-policing mechanisms, but also that markets operate on the edge of chaos. This is patently untrue. Because private enterprise works on a voluntary basis, a business owner cannot coerce someone to do business with him. Things like loss of reputation, shoddy products, poor service and the like serve as real boundaries for business owners, who in a free market survive only by offering goods that people are willing to purchase.
Moreover, there are numerous private (read that, voluntary) organizations that police businesses, settle disputes, independently test products, and provide needed information for consumers and producers alike. Yes, these organizations do have a regulating effect upon the behavior of individuals who participate in private production and exchange. Thus, the statist claim that without government, markets would be a chaotic mess is simply untrue.
Given the reality that markets are self-regulating, how did the US economy (not to mention economies of other nations) become a morass of hundreds of thousands of state, local, and federal regulations that govern things to the minutest detail? Furthermore, why have we not seen a revolt of business owners and consumers alike, who ultimately pay the price for the modern regulatory state? The answer is both simple— and complex.
Regulation is like inflation; both are portrayed as bad things, both are products of the state, yet they persist. And they persist because at least some influential individuals are benefiting from them. Thus, those who gain are going to make sure that these issues are portrayed in the most favorable light.
For example, when Keynesian economists urge the Federal Reserve System to lower interest rates and follow an easy money policy, they do not openly declare that they are pro-inflation. Yet, there is no way for the Fed to follow such a policy unless it helps to unleash inflation, since it causes the amount of money in an economy to increase relative to available goods and services. Furthermore, as has been documented on this page many times, the continual unleashing of inflation leads to capital malinvestments and ultimately creates the conditions for economic contraction.
When politicians, economists, and pundits urge the Fed to lower interest rates and expand bank reserves, they do so in the name of "increasing credit" or "creating investment and jobs." They do not acknowledge the larger issues of inflation, nor do they address the ultimate consequences of such policies.
Likewise, we hear advocates of government regulation extolling the virtues of the regulated economy. For example, they hold up the collapse of Enron as an example of what happens in the absence of regulation, not pointing out that the energy industry is highly regulated. Moreover, Enron’s problems did not occur because of its investments in the relatively unregulated area of derivatives, but because of its heavy losses in the regulated sectors of consulting and technology. For that matter, the collapse of numerous savings and loan institutions during the late 1980s occurred in a very heavily regulated industry—but also an industry that had been a favorite haunt of the political classes, which saw S&Ls as cash cows for campaign contributions and other favors.
The regulatory apparatus that now inundates business owners and other professionals with hundreds of thousands of regulations in this country is a product of the Progressive Era. Economic regulation, however, is much older. For example, one of the best-known regulators in history was Jean Baptist Colbert, the finance minister for Louis XIV who regulated the French economy down to the required thickness of threads for textiles. Regulation was not the exception of post-Medieval Europe and England, but the rule, as has been documented by Robert Ekelund and Robert Tollison in their book Politicized Economies.
What is important to remember here is that regulation in those times —while being publicized as something to enhance the "public good" (read that, the political authorities)— was used primarily as a tool to promote politically-favored monopolies and to strangle economic competition. One thing that made the new American colonies favorable places to live was that their business practices were relatively unregulated by government, as opposed to what existed in the Old World.
For about a century after the founding of the United States, business activity faced little or no government regulation, especially compared with the situation in modern times. That began to change during the Progressive Era, as noted before, a period of time in the late 1800s and early 1900s when the intellectual foundations of law and justice in the United States were turned upside down.
Advocates of Progressivism, which included many intellectuals and journalists of that day, along with politicians such as Theodore Roosevelt, William Jennings Bryan, and Woodrow Wilson, held that the federal system of delegated powers was archaic and out of date for a "modern, progressive" society. Their legal strategy did not only include stripping powers from state and local governments and transferring them to Washington, DC, but they also were successful in convincing members of Congress to give up their own constitutionally-designated powers.
This was done through the crafting of regulatory agencies. The US Constitution gives Congress the power to "regulate" interstate commerce, but the regulatory agencies that Congress created to carry out the increasing number of rules were part of the executive branch of the US government. In other words, Congress, through a legal sleight of hand, redelegated those powers that the Constitution had given Congress, which clearly was a violation of that document.
The first of these agencies was the Interstate Commerce Commission, formed in 1887 to regulate railroads. (This agency set railroad freight and passenger rates, and allocated lines, which turned the nation’s once-competitive railroad firms into one vast regulated cartel.) Other agencies followed such as the Food and Drug Administration and the Federal Trade Commission. By the end of the twentieth century, regulatory agencies dominated the political and economic landscape of this country.
Defenders of the practice of re-delegation (which was routinely approved by the federal courts, which also became stacked with "progressives") argued that the regulatory agencies simply were carrying out the mandate of Congress, which supposedly specified the bounds of regulation in laws that created the agencies or that created new mandates for agencies to follow. Furthermore, it has been argued that there is no law in which regulation of actions can be specific enough to cover every aspect of a certain subject. Regulations, according to this line of argument, must serve the same purpose for civil and criminal law that the Talmud does for the Torah. Regulations do not change the intention of the law, but rather help to spell out its specifics.
That most certainly is not true. Take for example the use of the Civil Rights Act of 1964 as a tool to impose things like racial quotas, despite the fact that the act expressly forbids such quotas. (Sen. Hubert Humphrey, speaking on the US Senate floor in favor of the bill, declared that he would "eat" the paper upon which the law was written if it contained racial quotas.) Seven years later, the US Supreme Court would agree with the US Commission on Civil Rights that the language of that law permitted such quotas.
Paul Craig Roberts and Lawrence Stratton have documented in their book The Tyranny of Good Intentions, that federal courts generally defer to the bureaucracies in how they interpret the laws written by Congress. Thus, the executive branch has become a secondary producer of law, its interpreter, as well as its enforcer. The upshot of all this is that government regulations today supposedly operate under the aegis of Congress but in reality have become a law unto themselves, with bureaucrats being the nearly-untouchable enforcers.
Take, for example, the numerous abuses of taxpayers by agents from the Internal Revenue Service. As James Bovard painstakingly noted in Feeling Your Pain, IRS agents time and again have acted illegally, yet have faced no consequences, legal or otherwise. The reason is that regulators answer only to themselves or other members of the executive branch, and unless the political heat becomes unbearable, they usually are given a free pass.
This system clearly is unconstitutional—if one holds to the actual language of the US Constitution—yet it is almost universally praised and admired. Conservatives may say they decry regulations against business, but they were first in line to demand that the FCC "investigate" the Super Bowl Halftime Show.
Leftists, on the other hand, support the maze of environmental and energy regulations, not to mention the complete regulation of the nation’s financial sector. About the only grumbles one hears from regulation’s supporters, both right and left, is that federal agencies do not use their powers enough and more forcefully.
This Byzantine and out-of-control system cannot be "fixed" by politicians. Furthermore, no US president is going to voluntarily surrender his powers in the way that Congress has done over the past century. Yet, the modern regulatory apparatus is as much a threat to the freedom and well-being of us all as was the destructive system of rules imposed by Colbert upon the hapless French populace.
It is not becoming a law unto itself; it already has reached that stage. The only thing that can be done to end this reign of terror by bureaucrats is to abolish the entire US regulatory system and return to the common law system that served this country so well for so long.
William L. Anderson teaches economics at Frostburg State University (email@example.com).
Cite This Article
Anderson, William L. "A Primer on Regulation." The Free Market 24, no. 5 (May 2004).