Losing Faith in What?

by Will Wilkinson on July 23, 2008

In the Los Angeles Times, Peter Gosselin offers a “news analysis” on the theme that “Americans may be losing faith in free markets.”

For a generation, most people accepted the idea that the core of what makes America tick was an economy governed by free markets. And whatever combination of goods, services and jobs the market cooked up was presumed to be fine for the nation and for its citizens — certainly better than government meddling.

No longer.

This kind of crisis of confidence occurs every time the economy temporarily heads south — which it inevitably does from time to time. What does this tell us? It tells us that people do not understand the economy very well. And what do stories like Gosselin’s tell us? That most journalists don’t either.

But economic downturns do offer the motivated reporter an opportunity to speculate on the possible political consequences of unflagging public and media ignorance. The causes for our current economic troubles are evidently too complex to fathom, so instead of writing intelligibly about what is actually happening and why, we are asked to wonder (hope? fear?) whether voters can be made to demand a “New Deal Lite,” before the economy regains steam and we become too satisfied to regulate ourselves into oblivion.

It would be useful if journalists could find a way to report on the actual nature of the American economy. This would be a real public service. The American economy is in fact a byzantine amalgam of market and state institutions enmeshed in a thicket of regulation. Gosselin maintains that “most people” in the U.S. think there is something out there called “the free market” that operates without “government meddling.” I’m not really sure that most people think that, but it seems Gosselin does, because he goes on to structure his “news analysis” as if the story is that dissatisfaction with a kind of laissez faire we do not have may be generating demand for basically the kind of dirigisme we’ve already got. But since economic systems we haven’t got can’t cause our economic problems, the result is confusion.

More...Consider the fact that the Federal Reserve is a central planning committee. We are lucky, I think, to have intelligent, highly professional planners, but there are in-principle limits to what they can do with limited information, and so there is no way they are not going to get it wrong sometimes, or a lot of times. The housing “bubble,” which has turned out very badly for a lot of people, and the historically high price of gas, which is to a large extent a function of the low value of the American dollar, probably has had a lot to do with the policies chosen by our monetary central planners. Failures of government planning don’t discredit free markets. Rather, they suggest free markets might be worth trying some time.

Did the ratings agencies and investment banks screw up royally in their assessment of the risk of certain classes of mortgage-backed securities? Yes they did. Did assurances of bailouts, implicit and explicit, from the government to the financial industry encourage dangerous risk-seeking? Yes they did. Many market institutions, like our advanced financial markets, are very far from being self-organizing outgrowths of unregulated market exchange. Instead they are, by and large, creatures of the vast body of law and government regulation that defines the rules of market exchange — that determine what may be bought and sold, and how — and are tightly integrated with more or less freestanding government institutions like the Fed. When these markets stumble, it’s just a rookie mistake of political economy to see that as problem with markets, per se, rather than as a problem with the way regulation and government institutions happen to have structured those markets and thereby structured the incentives of the individuals and firms that act within them.

Here’s another example of the mixed economy. Food is expensive these days, which hits poorer Americans especially hard. Part of the price hike is due to normal market forces; supply has yet to catch up with the increased demand from the rising middle class in China and India and elsewhere. But a large part of it comes from our own government’s frankly idiotic policy of subsidizing corn ethanol, which pushes up the price of all sorts of foods, from wheat to milk to meat. So the conclusion we should draw from this is what? Damn you free market!?

Gosselin winds down on what to many must be a hopeful note:

Historians watching the nation’s current economic and financial troubles say that just because Americans don’t throw up their hands about markets and rush to an opposite pole, such as socialism, it doesn’t mean that change isn’t underway.

As UC Davis’ Rauchway pointed out, the devastating panics and depressions of the late 19th century eventually resulted in the progressive reforms of the early 20th century and, later, the New Deal of the 1930s.

Before we get too excited about “progressive reforms” once again saving capitalism from itself, perhaps we should try a little harder to comprehend the way the actually-existing economy works (journalists might think about helping with this!), so that we can pinpoint the most likely institutional causes of the recent gloom and effectively focus our reforming zeal. Were the media willing or able to explain how our mixed economy actually functions, this downturn might just as well inspire a loss of faith in the government meddling we’ve already got. But what would be the point of writing an article like that?

[Cross-posted from Cato@Liberty]

Viewing 17 Comments

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    You're probably just going to make fun of me for this, but I find this sort of post to be indicative of more religious-style faith in the capitalist enterprise. I'm enough of a capitalist to believe that it's the best system currently, and certainly preferable to the failed attempts at creating a Marxist state of the 20th century. But, look, capitalism is an organic, human system; it has no access to extra-human power or certitude, and I think that unless you believe that the system is somehow ordained by God, there has to be room within your ideology to say that capitalism has failed in one fashion or another, or at least that it has created an undesirable outcome. And not merely that it's failed because we aren't faithful enough to it, either; it is libertarian holy writ that the economy can't fail on its own, but only because the government manipulates it too much. You get a kind of evangelical zeal from people proclaiming that, no matter how little the government interferes, the fact of any government interference at all means that undesirable outcomes can be blamed merely on impediments to free markets but not to the markets themselves. And that kind absolutism, it seems to me, is contrary to the nature of human systems and reality.

    To your great credit, you are willing to admit to less desirable outcomes currently, and I think are less doctrinaire than a lot of your ideological comrades. But I still find a dismaying fidelity to the idea that the free market, on a large enough time span, produces no wrong, and again-- that's theology. Discrimination and our critical capacity tend to rule out those kind of blanket rules. I also find the standards of evidence for judging the capitalist model to be very different from those used when judging un-capitalism. This is something Megan McArdle (who I care for a great deal) does constantly. She'll point to poverty in Havana as evidence that command economies don't work; but poverty in Baltimore is just the system working itself out. One is dispositive of failure in the entire system; the other is just a hiccup-- and probably one caused by liberal attempts to correct for that poverty. The problem becomes that you end up so bent on finding the way in which capitalism is ultimately the path to justice and socialism the path to misery, you become blind to contrary evidence. I think Megan has a great and discriminating intellect but I question whether there is any evidence that could compel her to think "In this situation capitalism has failed." But then, that's just me.

    Of course, like all teleology, the truth of your philosophy will probably come out someday. Just not in our lifetimes.
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    Freddie, I just don't see how you get a kind of religious commitment to capitalism out of this post. I don't think markets just exist. I think markets exist in the context of cultural, legal, and political institutions that define the rules of the game. I'm an institutionalist, and I think that came across in the post. (My positive political economy is Hayek + North + Coase + Buchanan.) Not only do I think economies can fail on their own for lots of reasons, I think one of the biggest problems in the world is that the cultural and institutional antecedents of complex capitalist markets never develop at all. Capitalism depends on a complex and precarious institutional structure. My point in this post is that elements of our economic system have indeed been failing, and some of them are markets, and these markets are largely defined and bound by regulation. I don't think our extremely advanced financial markets can even exist in the absence of a web of regulation, and these markets generate enormous wealth. Markets can work better or worse, and I am wholly open to regulation that creates markets that might not otherwise exist, or improve the functioning of preexisting markets. I just don't think I believe what you think I believe. In the case of the current series of small disasters, I think the case that ill-considered regulation has shaped the relevant markets in perverse ways is extremely strong. There is no one "capitalism," just as there is no one "democracy," and some of versions work better than others. I am in favor of a well-but-lightly regulated, and therefore dynamic and flexible, entrepreneurial capitalism, and against managerial dirigiste forms of capitalism. The evidence in favor of this, in terms of wealth creation, is overwhelming. I simply don't understand your insistence on treating well-grounded social scientific conclusions as theology.
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    "(My positive political economy is Hayek + North + Coase + Buchanan.)"

    Gary North? I'm disappointed, Will.
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    I'm pretty sure Will meant Douglass North, but the Peter North thing was funny.
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    Gil,

    Oh, DOUGLASS North! I thought he meant Christian Reconstructionist and Y2K wacko GARY North! Thanks for clarifying.
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    " . . . as if the story is that dissatisfaction with a kind of laissez faire we do not have may be generating demand for basically the kind of dirigisme we’ve already got."

    Brilliant - best thing I've read all day.

    On the bigger picture, free markets require a public that sees them as both efficient and moral. The latter I think is much the more important part of the equation.
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    The American's committment to the free market seems weak at the abstract and operational level, when confronted with survey quesitons, etc. But at the personal level, i.e. the rich cousin or the friend who runs a business, Americans are fairly sympathetic to these "ideal types" and their perspectives, and enmeshed in a system they don't really mind when all is said and done.

    Or so it seems.
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    I agree with Craig. An excellent post in many ways.

    Forgive me if this comment seems more akin to what you might see on Flikr. :)
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    "When these markets stumble, it’s just a rookie mistake of political economy to see that as problem with markets, per se, rather than as a problem with the way regulation and government institutions happen to have structured those markets and thereby structured the incentives of the individuals and firms that act within them." WW


    I think Joseph Stiglitz states what we see too often coming from the "free-marketeers" side of the debate as exemplified in your post; "...but that is partly the point: free-market rhetoric has been used selectively – embraced when it serves special interests and discarded when it does not."

    From his "THE END OF NEO-LIBERALISM? " paper.

    In other words all the good stuff that happens in the economy is because markets work but when something goes bad it's obviously an issue of overregulation.

    But the facts are the Republicans have generally controlled the big picture economy issues ever since Reagan. Regulations (Glass Steagall Act ) have been cut not increased. Governmental functions (the Fed being the big one) have been privatized. And it's been a relative disaster and IMO unfair as these inflationary policies tend to favor wealth accumulation on the top.

    And as our system is set up decreased regulation and oversight sends the free marketeers to actually seek MORE governmental favors and treasury dollars and favorable policy. ( See: The Argument for Preemptive Redistribution
    July 17th, 2008 by Will Wilkinson)


    So bottom line is people are losing faith in the idea that simply deregulating the markets or privatizing government functions is a good idea. I think they are understanding that GOOD regulation is better then NO regulation.


    And finally if the media really reported how the economy is run, how it is influenced by wealthy and how the privatized feds inflationary policies have not only transfered what wealth we do have to an elite minority but also bankrupt our country they'd be PO'd and they'd be calling for nationalization of our monetary system.

    http://www.monetary.org/


    "Money exist not by nature but by LAWS"
    Aristotle

    "So lets make good ones!"
    me

    Oh yeah and one other thing... Damn why the super small script?
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    I think Joseph Stiglitz states what we see too often coming from the "free-marketeers" side of the debate as exemplified in your post; "...but that is partly the point: free-market rhetoric has been used selectively – embraced when it serves special interests and discarded when it does not."

    So you think Will's defense of free market simply serves special interests? Seems like ad hominem to me. You can't conceive that someone defend free market on good faith?

    "In other words all the good stuff that happens in the economy is because markets work but when something goes bad it's obviously an issue of overregulation."

    I don't see anything like this on Will's post. He observes that we don't live on a 'pure' free market economy, and to understand this is important to make a realistic analysis of american economics .

    "Governmental functions (the Fed being the big one) have been privatized."

    What do you mean by saying that Fed was privatized?

    "And it's been a relative disaster and IMO unfair as these inflationary policies tend to favor wealth accumulation on the top."

    Here isn't the better place to discuss monetary policy, but some points:

    1- Inflationary policies are policies, and policies are government decisions.

    2- The inflation rate of United States isn't high since Volker's stabilization plan:

    http://www.miseryindex.us/irbyyear.asp

    3- In general, but not as a rule(sse, for example, Paul Vocker) free-market oriented economists are more concerned about inflation than 'interventionist' economists. So I don't see your point here.
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    ",,,so that we can pinpoint the most likely institutional causes of the recent gloom and effectively focus our reforming zeal." WW


    So what IS wrong? Which regulation busted the bank? Tell me one. What other possibilities are there? Was it over taxation... nope those were cut. Was it under-spending.... nope that was increased. Was it over-saving... nope that's been almost negative. Was it increasing federalization ... nope if anything way more government programs have been privatized.

    Here' s my answer to a big part of the puzzle; easy credit/ fed policy/ deregulation of the finance and banking industry... those are the big issues along with generalized incompetency, corruption and graft exploding under the current administration.

    http://en.wikipedia.org/wiki/Image:Components_o...
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    "Here isn't the better place to discuss monetary policy, but some points:

    1- Inflationary policies are policies, and policies are government decisions. "
    Renato


    So you kinda make my point. Any policy is a government policy so even if it's a policy pushed for by the "free marketeers", their lobbyist or the Republicans it's always the governments fault. Obviously a bogus argument.

    That is basically the Republicans policy to get in there and destroy government bureaucracies to show how poorly they function... and to make a killing in the process of doing so. And as I've always said why would you want some one who doesn't believe government can work running it?


    I guess I'm saying the argument is kinda like me saying, "well we've never had TRUE COMMUNISM so you can not argue that communism failed."

    Free market failure is an abstraction because free markets are an abstraction. As soon as you have a money system there really are no free markets. The goal of the "free marketeer" is to approach as free a market as possible.... the faith people have lost in the "free market" is that moving towards that goal is always a good idea as over and over again the results are not so good.

    People realize that markets need oversight. Allowing banks to offer complex financial instruments and unlimited credit is not a good idea. It was a policy decision, (actually under Clinton) but it was one the "free marketeers" argued for.

    Here's my solution. Let there be both "free markets" and well regulated ones. Let Wall Street firms have complete freedom with the one requirement that they have NO backing of the US government or Treasury in any way what soevery except for the usual access to infrastructure and courts etc that their taxes pay for. They have to raise their own capital, insure themselves, oversee themselves ect. Let people dabble in those markets and exchanges as they wish. But let there be another one where banks have the backing of the FDIC and where very strict rules and protocols are followed and good oversight is the rule.

    Put those two side by side and you will see which prospers. You will see why we are a nation of laws not of men. You will see why we are a nation of rules and not of anarchy. And regarding money you will understand why Aristotle claimed, "Money exist not by nature but by LAWS".

    So Will is right in one sense blaming free markets is bogus as the concept itself is bogus but the idea of blaming policy is likewise bogus because there must always be policy and the debate ultimately is a relatively boring one about which policy and which laws and which regulations works best. And people are figuring out that what's important is not the quantity of policy but the quality. Less is not always more.
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    "So you kinda make my point. Any policy is a government policy so even if it's a policy pushed for by the "free marketeers", their lobbyist or the Republicans it's always the governments fault. Obviously a bogus argument."

    It's not bogus to point out that a government policy is government's fault. What's bogus is to say that it's free market's fault to achive something that is government's function.

    "That is basically the Republicans policy to get in there and destroy government bureaucracies to show how poorly they function..."

    I don't buy manicheistic argument that put some side as 'evil', without conceding good faith. I'm pretty sure that corrupt Democrats exist too.

    (Classical) liberal tradition is about institutions that make politicians to act on certain way, not about picking the right ones.

    "And as I've always said why would you want some one who doesn't believe government can work running it?"

    Good government function isn't about believing it will function, it's about make it function well. And to believe that something which doesn't work will not work is actually a good thing.

    For example, a very sick person who's not afraid to die and because of this never go to the doctor is probably on a worse situation thant someone that don't 'believe' he will resist and because this starts a treatment. It's true that we can have some positive feedback because of our beliefs, but it doesn't mean that because we want that something will be true, that thing will be true.

    "Free market failure is an abstraction because free markets are an abstraction."

    Yes, it's true that free markets are an abstraction, but it doesn't mean that it isn't a useful concept. To call some situation as 'free market' and ignoring that it isn't doesn't help to solve anything.

    "As soon as you have a money system there really are no free markets."

    You're right about fiat money, but it's not true on early stages of money development. Even today, money is a phenomen that governments control very poorly.

    "The goal of the "free marketeer" is to approach as free a market as possible.... the faith people have lost in the "free market" is that moving towards that goal is always a good idea as over and over again the results are not so good."

    The only free-market thinkers that procede this way are Rothbard and its followers. Neither Hayek, Adam Smith, Friedman, Buchanan or even Bastiat talk like this description.
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    Will Wilkinson said: "Gosselin maintains that “most people” in the U.S. think there is something out there called “the free market” that operates without “government meddling. I’m not really sure that most people think that, but it seems Gosselin does...”

    You're evidently unaware of such pro-free-market books like Larry Kudlow's "American Abundance: The New Economic & Moral Prosperity" and Brink Lindsey's "The Age Of Abundance: How Prosperity Transformed America's Politics and Culture", both of which argue that the alleged "great" American economy of the past 30 years was the result of the American public's support of free market policies. (Brink Lindsey, btw, is, like yourself, a member of Cato's staff).

    Will Wilkinson said: "We are lucky, I think, to have intelligent, highly professional planners...but the housing 'bubble'... and the historically high price of gas, which is to a large extent a function of the low value of the American dollar, probably has had a lot to do with the policies chosen by our monetary central planners. Failures of government planning don’t discredit free markets. Rather, they suggest free markets might be worth trying some time."

    Holy cow, does this need to be explained all over again? It was the deregulatory legislation of free-market towel-boys like Phil Gramm, aided by the free-market think tanks (repeal of the Glass-Steagall Act; the passing of the Commodity Futures Modernization Act) which allowed those "intelligent, highly professional" Fed Reserve planners to destroy the entire economic system in the first place. Do these words from free-marketeer Alan Greenspan ring a bell? "The Federal Reserve chairman, Alan Greenspan, urged Congress today to encourage the growth of complex financial contracts known as derivatives...United States laws impede its development, Mr. Greenspan said in testimony..." (http://query.nytimes.com/gst/fullpage.html?res=...)

    We have deregulation to thank for the cheap, easy credit which led to the collapse of the housing market. We have deregulation to thank for Enron, as well as for the probable speculative abuses of today's energy markets. We have free-market suck-ups who wag their pompous fingers to society on the "virtues" of globalized cheap labor, yet who apparently lack the basic intelligence to figure out (or rather, the basic honesty to admit) that closed-border nations like India and China don't practice "free markets", and that globalized cheap labor exists to enrich the global capital elite at the expense of everyone else.
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    I'm a little intimidated by the intellectual firepower on display but I'd like to pose two questions about the nature of markets.Does Minsky's thesis on the instability of financial markets suggest that despite regulation financial crises are a natural phenomenon and like other natural disasters difficult to predict and prevent ?Or to paraphrase Churchill markets are the worst systems for organising economic activity till you examine the others?
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    sumant,

    I suspect that what you suggest is close to the truth. There may be some helpful regulations along the lines of increased transparency and disclosure, but what we're likely to see resulting from current calls to do something will not be an improvement.

    I think we're likely to fall victim to the Politician's Fallacy:

    1) Something must be done.
    2) This is something.
    3) Therefore we must do it.
 

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