On markets and competition

The free market is a myth. Everybody knows that. Just very few people say it. If you’re in the position like I am and do business all over the world, and if I’m not smart enough to know there’s no free market, I ought to be fired.

The reason we don’t call it socialism is that socialism is a bad word.

Dwayne Andreas, then CEO and chairman of Archer DaniElS Midland, from an interview with Richard Manning (Against the Grain (North Point Press, 2004), p. 144)

Markets, we are often told, are the solution to all our problems. Hardcore market fundamentalists, indeed, seem to think that markets are, or ought to be, the only way in which human beings interact with one another. I sometimes wonder if people who think like that were picked up enough as a baby.

Economic models, like all models, are a simplification of reality. If they weren’t, they would be like the map that Jorge Luis Borges imagined which was exactly the same size are the territory it represented – accurate, but too cumbersome to be of any use. But like all good ideas, simplification can be taken too far. As Einstein is reputed to have said, everything should be as simple as possible, but no simpler.

One of the assumptions economists make about markets is that the parties have perfect information. I’m sure this makes the mathematics a lot simpler but this has never been true of any actual market anywhere. Of course they usually have some information; for the most part, when we go to a shop to buy some bananas, we have an expectation of how much we’re likely to be charged, based on past experience. But we are unlikely to be well-informed on the state of banana production across the globe, let alone on shipping costs, warehousing, and all the other factors that play a part in determining the price we pay.

In theory, we don’t need to worry about any of this because competition between retailers is supposed to ensure the price is kept within bounds. This can work reasonably well so long as our expectations remain in line with the underlying reality. If that reality changes, you can get screwed. An example: long-distance telephone calls.

I am just about old enough to remember when long-distance calls were significantly more expensive than local ones, because they involved more work on the part of the telephone service provider. Am actual human being in a telephone exchange had to set up your call. (In those days phones were provided by the Post Office, thanks to the Telegraph Act (1868), brought in by that notorious socialist Benjamin Disraeli). When automatic exchanges came in, a long-distance call cost the Post Office no more than a local call, but because everyone was used to paying extra for long-distance they merrily continued charging extra.

Now of course an economist would argue that this is a classic case of a market failure. In the orthodox view, market failures are never, ever due to the market. Here we have the evil socialist Benjamin Disraeli distorting the free market by creating a state monopoly. But of course markets tend towards monopoly in any case, although usually there’s some attempt to save appearances. Adam Smith himself was well aware of this:

The interest of the dealers… in any particular branch of trade or manufactures, is always in some respects different from, and even opposite to, that of the public. To widen the market and to narrow the competition, is always the interest of the dealers.

Adam Smith, An Inquiry into the Nature and Causes of the Wealth of Nations (1776), Book I, Chapter XI

This has brought us such wonders as the US healthcare system, which is now the leading cause of personal bankruptcy in that country (66.5% of cases, according to a 2019 study). Given that other industrialised nations don’t seem to have this problem – in the UK we have a mix of state and private healthcare provision, and you’d have to work quite hard to go bust that way – this looks like a market failure to me. And heavy-handed interference on the part of the government isn’t the issue. On the contrary, there probably needs to be more of that sort of thing.

Because government and markets, far from being antagonists, are intimately linked. Mediaeval lords were forever granting charters to allow markets to be held in towns they controlled. But they also intervened, for example, to enforce the use of standard weights and measures. To this day. the German brewing industry still abides by a sixteenth-century decree specifying what may or may not be put into beer. Regulations of this kind go back to the first literate civilisations that we know of, and for good reason.

A market is never a neutral space nor a level playing-field, at least not if it is left to its own devices. And if it starts to tilt too far in the direction of either buyers or sellers, it quickly ceases to be an efficient means of allocating economic resources, which is what markets are cracked up to be.

A monopoly is one obvious extreme, a market in which there is effectively only one vendor. The opposite extreme is a monopsony, where there is only one purchaser. The US has an example of that one too: the immense US arms industry sells pretty much exclusively to their own military. I dare say a lot of what they provide is fine, but there are definitely some real lemons in there – the F-35 fighter, supposedly nicknamed the Penguin by its pilots because it flies like one, or the Zumwalt class destroyers, of which only three ended up being commissioned due to cost overruns, not least the high-tech ammunition for its guns, weighing in at $800,000 per round. It’s hard to see this as representing the efficient allocation of economic resources unless you happen to have shares in Lockheed-Martin.

All of this suggests that we should be very careful of the term “free market.” As the quotation from Dwayne Andreas at the head of this piece makes clear, it is generally a fig-leaf for something else. The Wikipedia article for his company has an entire section dedicated to various scandals in which it has been involved over the years, including (but not not limited to) price-fixing, lobbying for government subsidies, and straight-up corruption. Not that I want to single out ADM here; it seems to be an endemic problem with contemporary capitalism, at least amongst large corporations (ADM’s revenue in 2021 was reportedly $85 billion).

People have always traded for what they need or want, and they always will. There’s evidence for long-distance trade, at least in luxury goods, going right back to the Stone Age. What we need to remember, more often than we tend to do these days, is that unregulated markets tend to degenerate into the equivalent of extortion. Of course it’s possible to over-regulate markets, but it’s just as harmful to under-regulate them too. The best way, as so often, lies somewhere between the two extremes.

I began this piece with a quotation taken from Richard Manning’s Against the Grain (North Point Press, 2004), which is an investigation into industrial agriculture in the US. It’s well worth reading for a number of reasons, not least as a case-study of market failure. There is very, very little that could be considered efficient about the agricultural systems that Manning discusses; any method of food production that requires the expenditure of ten or more calories of energy to deliver a single calorie of food must be on a hiding to nothing.

This is what the free market will give you, if you let it. Demand better.

Comments are welcome, but I do pre-moderate them to make sure they comply with the house rules.

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