Tag Archives: government failure

The farm bill: a lesson in government failure

As a consumer and as a taxpayer, the farm bill is a monstrosity. But as someone who teaches public finance and public choice economics, it is a great teaching tool.

Want to explain the concept of dead-weight loss? The farm bill’s insurance subsidies are a perfect illustration of the concept. They transfer resources from taxpayers to farm producers; but taxpayers lose more than producers gain.

Want to illustrate the folly of price controls? Sugar supports which force Americans to pay twice what global consumers pay are a fine illustration.

Want to explain Gordon Tullock’s transitional gains trap? Walk your students through the connection between subsidies and land prices: much of the value of the subsidy is “capitalized” into the price of farmland, meaning that new farmers have to pay exorbitant prices to buy an asset that entitles them to subsidies. This means new farmers are no better off as a result of the subsidies. As David Friedman puts it, “the government can’t even give anything away.” The only ones to gain are those who owned the land when the laws were created. But those who paid for the land with the expectation that it would entitle them to subsidies would howl if politicians tried to do right by consumers and taxpayers and get rid of the privileges.

Want to illustrate Mancur Olson’s theory of interest group formation? Look no further than sugar loans. Taxpayers loan about $1.1 billion to producers every year. Spread among 313 million of us, that is a cost of about $3.50 per taxpayer. And who benefits? Last year just three (!) firms received the bulk of these subsidies, each benefiting to the tune of $200 million. As Olson taught us long ago, the numerous and diffused losers face a significant obstacle in organizing in opposition to this while the small and concentrated winners have every incentive to get organized in support.

Want to show how a “legislative logroll” works? Explain to your students that members representing dairy and peanut interests are statistically significantly likely to vote in the interests of peanut farmers and vice versa.

Want to explain Bruce Yandle’s bootlegger and Baptist theory of regulation? Note that catfish farmers want inspection of “foreign” catfish in the name of safety (the Baptist rationale) when the real reason for supporting additional inspections is self-interested protectionism (the bootlegger motivation).

This week’s lesson is on the power of agenda setters to block even modest reforms. Buried in the dross of privileges to wealthy farmers, both the Senate and the House versions of the bill contained a small glimmer of reform. Both included language capping the amount of subsidies that farmers and their spouses receive at “only” $250,000 per year. Right now, House and Senate conferees are working to reconcile the two versions of the Farm Bill passed this summer. And according to the latest reports, they plan to strip these modest reforms that were agreed to by both chambers.

Unfortunately, kids, this is how modern democracy works.

Markets Fail and Governments Do Too

We often hear that markets fail when it comes to preserving the environment, so government regulation is needed to protect natural resources from the ravages of capitalism. But what happens when government regulations themselves get in the way of innovative ideas that move us towards a cleaner and more environmentally sustainable future?

This is exactly what happened in Logan City, Utah when the local government built a small hydropower turbine and ran into a nightmare of regulatory red tape that led to large cost overruns and far more time committed to the project than was originally anticipated. In the end, the project was delayed four years and ended up costing twice as much as planned.

This abstract from a recent working paper from the Mercatus Center describes what happened:

In 2004 Logan, Utah, saw the opportunity to place a turbine within the city’s culinary water system. The turbine would reduce excess water pressure and would generate clean, low-cost electricity for the city’s residents. Federal funding was available, and the city qualified for a grant under the American Recovery and Reinvestment Act. Unfortunately, Logan City found that a complex and costly federal nexus of regulatory requirements must be met before any hydropower project can be licensed with the Federal Energy Regulatory Commission. This regulation drove up costs in terms of time and money and, as a result, Logan City is not planning to undertake any similar projects in the future. Other cities have had similar experiences to Logan’s, and we briefly explore these as well. We find that regulation is likely deterring the development of small hydropower potential across the United States, and that reform is warranted.

This wouldn’t be the first time that regulations have led to perverse environmental outcomes. To prevent these problems in the future, agencies need to take better account of the expected costs and benefits of their rules before finalizing them. For example, recent analysis by myself and my colleague Richard Williams shows that agencies only rarely estimate dollar values for both benefits and costs of their regulations.

Another improvement would be for agencies to consider more flexible approaches when regulating. For example, the Occupational Safety and Health Administration recently proposed a rule to reduce silica exposure for workers. The rule requires businesses to consider gas masks or other personal protection equipment only as a last resort. Other methods of controlling silica dust, like enclosing work areas or using sprays and vacuums, should be considered first. These methods are likely to be more burdensome than asking workers to wear a gas mask. The agency should consider offering more flexibility to businesses and workers if it wants to relieve some unnecessary burden in its proposed rule.

Of course it’s true that markets can fail. But it’s important to remember that governments often fail too. Only an approach that considers both market failure and government failure can illuminate the best course of action when addressing a serious social problem like environmental degradation. Furthermore, until regulators start acting more like the experts we expect them to be, government is likely to fail just as much, if not more often, than markets.

What the Affordable Care Act Can Teach Us about Government Failure

Most people probably believe that the recent failures of the Affordable Care Act (ACA) are an anomaly, and that most areas the federal government involves itself in, from education to transportation, operate quite smoothly, or at least adequately well. This belief is misguided, however, and the issues we see from the ACA should not be viewed as anomalies. Problems like unintended consequences of policy, privilege granting to special interests, adverse selection in insurance markets, and other issues, are widespread in countless areas of public policy. It just so happens that we usually fail to associate the pernicious effects of laws with their source: public policy.

First, public policies create many unintended consequences. People will change their behavior in response to altered incentives from policies and when these behavior changes are not anticipated by lawmakers, unintended consequences occur. As an example, the ACA has altered incentives for many employers. Business owners are now likely to cut worker hours and keep their staffs under 50 employees in order to avoid paying penalties imposed by the law. The intention was that people will get insurance through their jobs, while a result is that many people will lose their jobs or work fewer hours.

A similar effect occurred after passage of the Americans with Disabilities Act. This well-intentioned Act of Congress was supposed to level the playing field for disabled workers by requiring that businesses with disabled workers provide accommodations, such as wheelchair access. The Act also sought to prevent discrimination of disabled workers, such as firing someone for having a disability. The reality once the law was in place was very different, however. Economists have found that the law was followed by a steep decline in employment among disabled workers, likely because of increased costs associated with hiring them, exactly the opposite result the law intended. Perhaps the most famous unintended consequence of all is the fact that minimum wage laws actually hurt low skilled workers.

A lot of these effects, while unintentional, are actually quite predictable and any good economist should be able to identify potential unintended consequences before a law is even implemented. So why do these policies get adopted? A big reason is because special interests have enormous influence in shaping policy. The Affordable Care Act literally has provisions allowing handouts to insurance companies to make up for losses they face in the new government health insurance exchanges. Unfortunately, cronyism like this shapes policy at all levels. For example, a recent USDA regulation will require additional food safety inspection of imported catfish. This may sound like a sensible idea, until one finds out there is no evidence of a significant problem from tainted catfish. The new program was actually lobbied for by domestic catfish producers who wanted to hurt their foreign competitors by driving up the price of imports, all at the expense of American consumers.

A final problem created by the Affordable Care Act relates to adverse selection in insurance markets. Adverse selection occurs because of information problems between buyers and sellers of insurance. Healthy people may have trouble signaling that they are a low risk to insurers, and so the healthy drop out of insurance markets when insurers don’t offer them a low priced product that serves their needs. This can lead to mostly sick people signing up for insurance coverage, while the healthy decide to go without coverage. Over time this leads to higher prices, causing more healthy people to decline coverage and the pool of insured to become ever sicker.

The ACA creates this problem through community rating requirements and other regulations, like guaranteed issue, that don’t allow insurance companies to price policies based on the riskiness of the applicant. As insurance premiums rise (because of regulations and because insurance companies must cover many new services), more and more healthy people will find these policies unattractive. The insurance pool will become ever sicker over time. To avoid this problem, the ACA includes a mandate that everyone purchase insurance. However, it is far from clear whether the current mandate is strong enough to prevent adverse selection problems from taking place.

This problem is hardly new. New York State passed extremely strict community rating regulations several decades ago. This led to higher premiums and lots of young, healthy people dropping out of the insurance pool. I should know, I lived in New York and went without insurance for most of my 20s. The prices of policies were simply too high for me to justify paying.

The list of government failures likely to result from the Affordable Care Act is too long for one blog post. The ACA also has regressive effects that tend to favor the wealthy at the expensive of the middle class, and the law will add to moral hazard problems in our healthcare system (i.e. people over-utilizing medical services or not taking adequate care of themselves because the costs of their behavior are passed on to others).

The ACA may have serious problems, but it works great as a teaching device. Nearly every day we see another example of government failure in action.  Maybe once Americans see the effects of the ACA, they will look more closely at the effects of other policies as well.