May 31, 2017

Good Government Can Reconcile Economic Freedom and the Welfare State

In a recent New York Times essay, Will Wilkinson berates conservatives for a failure to think clearly about the relationship of big government to economic freedom. The heart of conservatives’ confusion is the notion that fiscal austerity is the only path to freedom and prosperity. Cut taxes, cut spending, and the economy will be free — it will grow, we will prosper.

False, says Wilkinson. A free economy is entirely consistent with something that looks a lot like the much-maligned welfare state. The seemingly oxymoronic free-market welfare state would bundle together deregulation with policies that provide the security people need to take prudent risks when opportunities arise, and that protect them from risks they cannot avoid.

The key to reconciling economic freedom and the welfare state is good government, as opposed to  small government. My own research finds a strong empirical basis for that proposition, but this post sets the data to one side. Instead, it takes a qualitative look at what “good government” means.

The essence of good government is a package of institutions that establish the rule of law, protect judicial independence, defend property rights, and combat corruption. The United States has a respectable record in these areas, even if it doesn’t quite make the top of international rankings. Open bribery and theft of government funds is less prevalent here than in most countries. On the corruption front, our biggest weakness is the openness of the government to pressure from special interests — what economists call “rent-seeking” — abetted by our system of campaign finance.

Shrinking government in dollar terms, despite the fervor with which conservatives pursue that goal, does not automatically make it less open to the corrupt influence of special interests. Consider, for example, the problem of excessive occupational licensing. In the 1950s, fewer than 5 percent of all jobs required a license or certificate. Now at least a quarter do, and the number is growing. The original idea of licensing was to protect consumers from incompetent practitioners, but as it spread to manicurists, interior designers, florists, and many other occupations, it became more about protecting incumbent practitioners from competition by new entrants. As the licensing apparatus has become captured by incumbents, it has increasingly undermined the fluidity of the labor market by making it harder to change jobs and harder to move from state to state. That, in turn, has made it harder for displaced workers to cope with trade and technology shocks. At the same time, consumers end up paying more for the services that are now licensed.

Examples like this support the view that “big government” should be defined not only in fiscal terms, but also in terms of its regulatory reach. This does not mean, however, that all regulations are equally undesirable — the thinking that seems to have inspired the Trump administration’s executive order requiring agencies to eliminate two existing regulations for each one issued. That willy-nilly approach to slashing regulations is especially counterproductive when the regulations in question are intended to protect property rights or prevent fraud. The administration’s executive order rolling back regulations on pollution of streams by coal mining is a case in point, but not a unique one. As libertarian economists have long argued, measures to control air and water pollution can be thought of as protecting the property rights of pollution victims in situations where transaction costs preclude negotiating over damages. The environmental regulations we now have sometimes impose excessive burdens, but our aim should be to relieve these by replacing obsolete command-and-control regulations with more market-friendly measures based on the principle that the polluter should pay. Replacing administrative fuel-economy standards with fuel taxes and clean-energy mandates with carbon taxes are examples.

The same approach should apply to reform of the social safety net, but to become effective, it will have to overcome the resistance of a coalition within the Republican party that seems dedicated to shrinking the safety net at all costs. That coalition consists of certain libertarians, who see any aid to the poor other than private charity as philosophically suspect; tea-party conservatives, who view all entitlements as part of a war between “makers” and “takers”; and a wealthy donor class whose principal interest is a reduction in their own tax rates. The American Health Care Act, passed by the House and pending in the Senate, is a typical product of that coalition.

In contrast, classical liberals in the tradition of Friedrich Hayek or Milton Friedman have always seen a social safety net as a necessary element of a free society. Applying that tradition to the issues of our own time means looking for ways to make the safety net work better, rather than just hacking away at what we have whenever the opportunity arises.

Reforming the safety net is a harder project than shrinking it, as many conservatives would like, or expanding it without reform, as many progressives would like. But there are alternatives, such as replacing the clumsy, improvised structure of the Affordable Care Act with something that both provides universal protection against catastrophic medical expenses and exposes health-care providers to market discipline. Proposals to replace the work disincentives and personal humiliations of the current welfare system with some form of basic income or negative income tax are another example.

In a rational world, Republicans would embrace these initiatives. As Wilkinson puts it, doing so would liberate them from the bad faith involved in attacking the welfare state — and then, to protect their constituents, breaking their pledges once in office.