Regulation The political economy. Overview Free Market Theory Methods of intervention Regulation Subsidies All those things they won’t let me do Buy Fireworks Run my nudie bar on Mass St Sell my personal cancer cure Sell machine guns to criminal gangs In America, there is a PRESUMPTION in favor of free trade! Free markets Individual people offer to buy and sell at a system-wide price price adjusts to equate Supply and Demand (Adam Smith’s (1776) “invisible hand”) It is Optimal: There is NO WAY to improve one person’s welfare without harming another Important: All people act as price-takers Free market no interference Government’s Minimal Role (in the “classical liberal” tradition) Gov’t is needed to create conditions for free markets Protection of Private property Right to buy and sell Informed freedom of choice Enforcement of contracts Should we allow free markets? Most Americans say yes But they allow for “exceptions” Protect the "public interest" Correct "Market Failure“ Most of emphasis today is on “Market Failure” Market failures 1: Collective goods Free Markets don't produce “collective goods" People don’t pay for free stuff! government “forces them to pay” Examples of collective goods that government provides National defense Public roads (not toll roads) National monuments (at least the free ones) Parks Market Failures 2: Monopolies Monopoly Defn: A "large" player who acts as a "price setter“ Need to protect consumers from harm Examples Power companies/utilities Microsoft Standard Oil Amoco, Exxon, Mobile, Chevron AT&T “baby bells” AT&T and T-Mobile merger failure Market failures 3: Externalities Definition: a “side-effect” of one person’s action that affects the happiness of another person Examples Farts in elevators Professor Johnson’s fireworks bother your dog start your house on fire Air pollution Water rights Market failures 4: “Unfair” business practices Examples Gas station says it is a gallon, but its really only 14 ounces Tower in Lawrence charging too much (allegedly) Hormones in milk Flammable pajamas Lead painted toys Bill's Rainbow Fireworks sells dangerous rockets Price gougers after hurricanes Market Failures 5: Protect strategically important industries Example arguments: Foreign companies try to put “our” companies out of business We need to help farmers Gov’t is asked to step in and regulate prices (keep them low or high, depending on circumstance) Policy Types Regulations: tell people what to do Subsidies: give some money Allow lawsuits: Let people protect themselves! Regulation Usual thing: let police catch lawbreakers Often create an agency/commission Laws typically vague: FCC - regulate radio in the “public interest, convenience, and necessity” EPA – “protect human health and the environment” Regulators review prices and products Correcting for collective goods Taxes Forces people to pay for public goods Patents Encourages new product development Copyrights Protects intellectual property rights Correcting monopolies Sherman Antitrust Act, 1890 Limiting cartels and monopolies (weak defn) Clayton Antitrust Act, 1914 Defined illegal practices (address weak defn) Robinson-Patman Act, 1936 Anti-price discrimination Celler-Kefauver Act, 1950 Anti-Merger Act Negative externalities Positive externalities Correcting unfair practices Standardization MPG Food labeling Approved chemicals Legislation Federal State and local Justifying regulation Protect “the people” society Experts can approach problem impartially use science, not politics Conspiracy theory: Congress Wants to avoid blame for problems Wants to protect some interest groups at expense of others Companies use Government to stifle competition Regulation = “Barrier to Entry” Surviving firms benefit from costly reg. Meaning: new companies don’t join competition Example: history of airline regulation Example: 1906 Pure Food and Drugs Act preservative-free Heinz Ketchup The "capture" theory Commission is “captured” by business Swap “personnel” Business controls information regulators need What if they planned it that way? Ex: Radio Regulation Ex: Railroad/Trucking Regulation Ex: Aviation Subsidies Raise prices to "help out" some firms Examples of Price Supports Ex: Commodity subsidies Ex: Dairy subsidies Ex: Tobacco subsidies Quotas and Tariffs Ex: sugar program Subsidy Politics Concentrated benefits Widely dispersed costs Justifying subsidies We need to “help out” farmers. Farm interest groups talk about “parity prices” to justly reward farm effort Welfare for individuals Conspiracy Theory says: Farmers are politically focused Consumers are politically weak Tariff politics and control of subsidies Econ Theory: Widespread benefits of international free markets Manufacturing firms want protection (from unfair competition) Congress more sympathetic than the President. Guess why? Opposition to tariffs often diffuse. Resistance to tariffs may come from businesses that import goods.