Regulation: never just black and white

By Stephen D. Forman (LTCA)

Long Term Care Associates, Inc.

‚ÄčSurely not all regulation is good, but lawlessness is undoubtedly worse.

Despite the desire of some to rid ourselves of government interference to achieve a vision of unfettered markets, individual liberty, and unsupervised commerce, I'd like to propose that a world without regulation ironically creates the conditions of its own perpetual chaos and destitution. Surely not all regulation is good, but lawlessness is undoubtedly worse.

As Charles Wheelan in his brilliant book, "Naked Economics," writes, "Regulation can disrupt the movement of capital and labor, raise the cost of goods and services, inhibit innovation, and otherwise shackle the economy ... And that is just the regulation inspired by good intentions. At worst, regulation can become a powerful tool for self-interest as firms work the political system to their own benefit. After all, if you can't beat your competitors, then why not have the government hobble them for you?"

He was speaking of the Nobel prize-winning work of economist George Stigler, who observed how professional associations often sought government regulation as a way of advancing their own self-interest. Sound familiar?

Be it attorneys, manicurists or insurance producers, we make a habit of enacting rules which raise a barrier to entry for newcomers to our field, while grandfathering existing service providers (typically through licensing requirements).

In the years leading up to World War II, when large numbers of immigrants fled Europe for the United States, we saw a rise in "good citizenship" requirements and English language requirements which had little to do with the quality of medicine or physics practiced by the applicants. When effective regulation and oversight work at their best, who wouldn't agree that one of their greatest achievements is the creation of a free market with infrastructure, crediblity and stability?

We take it for granted that we can undertake transactions of incredible complexity with total strangers, something which would be next to impossible without the rule of law. In many countries around the world, nepotism and clans are common, and binding deals can be made only by the guarantee of a personal relationship. Imagine how stunted our economic growth would be if we were still held to that standard.

Instead, "We trust that the infrastructure is set in place that allows us not to worry that the person at the bank who takes our money doesn't just pocket it. Or that when we use credit cards to buy a new CD or tennis racquet over the Internet from a business that is located in some other state or country, we are confident we will get our merchandise, and they are confident they will get paid." (Jerry Jordan, former President, Federal Reserve Bank of Chicago)
Still, no one would argue that benign regulations always work as intended.

Consider the case of DDT (also taken from the book). On the one hand, it's a vicious "persistent organic pollutant" whose cancer-causing effects we continue to discover. On the other, it's also by far the most cost-effective way of suppressing the mosquitoes who cause 300 million cases of malaria each year, killing more than one million people. (The next best treatment is not only less effective, but four times as costly.) Eradicated in North America 50 years ago, malaria continued its scourge of sub-Saharan Africa, which would be one-third richer today if the same strides had been made, according to Harvard economist Jeffrey Sachs.

There's no doubt DDT is an environmental hazard, but when balancing any regulation, Wheelan asks us to consider the entire trade-off.

Let us stay on the world stage a moment longer. By global standards, the U.S. is considered to have a "lightly-regulated" economy. The purpose of proper government regulation should include defining property rights and enforcing the law: these actions enable businesses to thrive, protect consumers from fraud, improve public health and safeguard the environment.

In much of the developing world, instead of a so-called helping hand, government fails to provide such a basic framework for conducting business and instead layers on bureaucracy, permits and licenses: at each step corrupt officials extort bribes. This is called the "grabbing hand."

By examining the procedures, costs and expected delays associated with starting-up a new business in 75 different countries, a group of economists found an extraordinary range. Registering and licensing a business varied from two steps (Canada) to 20 (Bolivia). The time required ranged from two days (Canada) to six months (Mozambique).

Meanwhile, the costs associated with opening the new business ranged from 0.4 percent of per capita GDP (New Zealand) to 260 percent of per capita GDP (Bolivia).

Since that might be difficult to translate into real terms for those of us who are not professional economists, Wheelan breaks it down for us. In poor countries like Vietnam, Egypt, Mozambique and Bolivia "an entrepreneur has to give up an amount equal to 1 to 2 times his annual salary (not counting bribes and the opportunity cost of his time) just to get a new business licensed."

Are they getting their money's worth? Are consumers safer and healthier in Mozambique than Canada and New Zealand? What do you think?

In these poorer countries, compliance with international quality standards is lower, and pollution is higher. All that government red tape pushes entrepreneurs into an underground economy where no regulation exists at all. Excessive regulation (not what we have here in the U.S.) becomes a potential source of income for the bureaucrats who enforce it; tends to go hand-in-hand with a tribal, warlord, or mafioso-type underground; and corruption ends up stagnating entire countries (even very "rich" ones sitting atop piles of natural resources).

The middle-ground is best, and that may be why it's evolved and endured here in the United States. For all of our complaining, we should be careful what we wish for: there's a hundred or more third world countries which serve as living examples of what a lack of regulation looks like. Those economies face a perpetual battle making the leap out of the ditch.