Leiden, a.d. XVI Kal. Oct. MMDCCLXIX A.U.C.,
In ‘A Capitalism for the People’ University of Chicago economist Zingales draws attention to one of the major issues that has always confronted human development and prosperity, a problem which is particularly pressing right now: how to maintain a meritocratic, competitive free market capitalism. The book has two parts, in the first part Zingales gives an overview of how interests groups have lobbied the American government to change regulation and policy in their favour, and what impact this has had on the prosperity of American citizens. In the second part Zingales proposes solutions to this problem. (If you are also interested how lobbying led to crony capitalism in the Netherlands, ‘De Schaduw Elite’ is a very interesting book to read).
To start with the first half of the book, it is excellent. The core of this part of the book is to explain how in the USA cronyism is slowly replacing meritocracy, and how this negatively impacts economic growth and leads to an increase in inequality of wages and property. Particularly, Zingales argues that competitive free markets have three advantages: “Competition limits the possibility of earning extraordinary profits — and thus limits income inequality as well. Competition ensures that consumers enjoy the benefits of innovation. Competition creates a pressure towards efficiency and hence meritocracy, a system in which responsibilities are given to the people who can deliver the most and in which the rewards are then seen as the just prize.” In short, competitive free markets prevent excessive inequality, they benefit everyone and are ‘fair’.
However, while in theory such competitive free markets lead to wide spread prosperity (if coupled to a basic welfare state and widely available education), in the United States corporations increasingly manage to get political power, which they in turn use to protect themselves from competition. This leads to crony-capitalism, in which capital is still accumulated, but in which political connections determine who becomes rich, rather than hard work, good ideas, or even just plain luck. Capitalism without competition between companies is mostly a system which helps a small elite accrue massive amounts of money, and which does not help the vast majority of the population.
So what does crony-capitalism look like? There are several ways through which companies or sectors can influence government policy. Firstly, they can simply provide information about the sector, which is actually quite useful and not necessarily a bad thing. Secondly, companies and sectors can send lobbyists to politicians. Those lobbyists can financially support the campaign of a politician, or promise them the votes of the employees in that sector or company, in exchange for certain legislation to be passed or blocked. Nowadays members of the US Congress spend a lot of their time on making calls to raise funds, instead of actually passing legislation. Thirdly, former employees of certain sectors can start working in the regulatory body of their sector. So, former bankers start working for the Federal Reserve (the USA’s central bank), they help their former colleagues, and afterwards they can start working for banks again. Unfortunately, the number of lobbyists, the money spent by companies to hire lobbyists, and financial contributions to political campaigns have all sky rocketed over recent years. Moreover, instead of defensive lobbying, i.e. lobbying to prevent certain legislation that may hurt a company or sector from passing, there is increasingly more offensive lobbying, so lobbying for legislation which actively helps a company or sector at the expense of other companies, consumers or other sectors.
So, what does all this lobbying achieve? We can roughly discern three ways in which the government can help companies. Firstly, it can give them subsidies, thus directly transferring money from tax payers to those companies. A typical example is the bail outs banks received during several financial crises in the last few decades. Billions of tax payer’s dollars and euros have been transferred to shareholders and banker’s private accounts. Another example is how food processing company received 43% of its profits directly from subsidies in 1995. Yet another example is how Fannie Mae could borrow with implicit government backing, allowing them to borrow at lower interest rates. In 2003 this was equivalent to a subsidy of $13.1billion. Secondly, the government can give existing companies an unfair edge through regulation, which seems to protect the environment or consumers, but mostly bar new companies from entering the market. This allows oligopolization or monopolization of markets. In oligopolistic and monopolistic markets companies can charge higher prices for their products than they can charge in a free market. Thirdly, private-public partnerships are a big hole in which taxpayer’s money disappears. While being advocated as combining the efficiency of business with the social goals of the government, they often wind up with the social goals of the private sector, and the efficiency of the government. Again, Fannie Mae is a good example. It made a lot of profit paid for by taxpayers, it captured the main economists on housing research by financially backing the two main journals on this topic and by paying researchers long term stipends. Its chairmen made a lot of money, in the neighbourhood of $100.000.000. In the end the taxpayer had to bail Fannie Mae out for $180billion.
We have seen the results of crony capitalism. The financial crisis of 2007-2008 and the subsequent decline in GDP and employment has been a direct result of crony-capitalism. Similarly, inequality has increased since the 1980’s, and while productivity keeps increasing, payment to employees has remained the same since 1970. Many people are stuck in a poverty trap, which also badly affects the lives of these people’s children, as they grow up with less opportunities than their more fortunate peers. In short, capitalism can be said to have failed to improve the lives of many people, even though it could do just that, under the right circumstances.
The second part of the book discusses solutions to the problems described in the first part of the book. First, and foremost, Zingales argues we need populism against a political economic elite which is trying to get an increasingly large share of the national pie. An anti-business sentiment helps against the excesses of lobbying. Particularly, Zingales distinguishes between a pro-market agenda and a pro-business agenda, the former wants free markets, the latter lobbies for companies. Populism indeed contains an anti-elite, maybe even somewhat angry connotation. But, we have every reason to be angry, seeing the economic situation the pro-business agenda has lead us to. It is especially this distinction that made me like this book so much. Often voters seem to have the choice between left wing interference by the government (tax everywhere, redistribution galore) and right wing interference by the government (bail outs, subsidies and privatization leading to monopolies). Zingales points out that beyond pro-business or socialism, we can also choose to have government interference which aims to bring about competitive markets, which aims to give everyone a fair chance, and which helps those who cannot sustain themselves through no fault of their own.
Moreover, we need fewer and simpler rules, which, firstly, are harder to target at special interests, and more likely to support the public good. Secondly, they also need fewer professionals to monitor, which means that regulatory capture is less likely. Thirdly, voters can more easily monitor simple rules, thus allowing voters to vote against politicians which excessively help special interests. Fourthly, simple rules are rough, which limits their use to the most important cases.
Furthermore, we need to teach graduates at business schools to respect free markets. While right now graduates often leave business schools with the idea that it is good to be a rational individual who behaves unethically to his own advantage (they have understood descriptive rational choice theory as prescriptive), they should be taught that free markets and ethical behaviour are required to make a society prosper. They should internalize those values.
Besides, we should ban all subsidies. While subsidies can seem to serve a lofty goal, such as promoting green energy, they are often ineffective at best, and completely misused at worst. We can better use Pigouvian taxes, which tax the producer of an externality (such as pollution). For instance, if we tax companies for polluting the air with CO2, those companies have an incentive to reduce their CO2 output. Moreover, products which use less CO2 to produce will become relatively cheaper, which would also have been the goal of a subsidy.
All in all this easily readable ( I do not think much prior knowledge of economics is needed, because Zingales explains all technical terms in laymen terms before using them) 257 pages book provides an excellent overview of how companies have taken over the US government to their own advantage, and what this has done to the US economy. However, it also provides an optimistic ending: if citizens become more active and knowledgeable about this, and forge a pro-market populism, which holds the political economic elite (the shadow elite, if you will) accountable, they can change the political economic system. Although I agree with Zingales more about his definition of the problem than all of his solutions, I think A Capitalism for the People provides an excellent first step for such a pro-market populist agenda.
Bottom Line: This might be the best book I read in 2016 so far. It points at a core problem for both the quality of our democracies as well as the level of our prosperity. Crony-capitalism can lead to poverty and inequality, and we need a populist pro-market movement which fights the rigged system.