01 March 2013

The Capitalist Case for Government

Libertarians are an interesting lot. They espouse the idea that almost any government is bad government, that the role of the state should be limited to national defense and a select few other tasks. To the extent they are talking about civil liberties, I tend to agree with them: I see no reason for any Leviathan to tell me whom to marry, what drugs I am permitted to ingest, what I can or can’t say, what a woman chooses to do with her body, etc.

But when it comes to what the government should do, what role it should play in the economy and infrastructure, I become confused. As you delve deeper into libertarian beliefs (and on this subject they are joined by right-wing Republican beliefs), you soon learn that they are rooted in a deep faith in capitalism and the wisdom of the markets, in the benevolent guidance of the ‘invisible hand’. But the idea that the state has no role to play in the economy is in fact quite anti-capitalist because it ignores a fundamental underpinning of capitalism, something so basic that it is really part of the definition of capitalism: comparative advantage.

The concept of comparative advantage was first described by the father of economics himself, Adam Smith. I’ll let Mr. Smith sum it up in his own words: "If a foreign country can supply us with a commodity cheaper than we ourselves can make it, better buy it of them with some part of the produce of our own industry, employed in a way in which we have some advantage." Of course, it doesn’t have to be a foreign country: it can be any entity that has an advantage over you in how efficiently or cheaply it produces a good or service. This isn’t just a principle or an abstract idea: it’s a mathematically provable fact. If you take two goods (or services) and I produce one well and you produce another well, protectionism or any other means of excluding you from production or market participation makes no sense as we are both materially better off if we trade. In fact, it goes even further: even if I am better at both of these things than you are, we are still both materially better off if I perform the task where my skill most exceeds yours and you perform the other.

So what does all this have to do with why libertarians, and right-wing Republicans who claim to be capitalists, shouldn’t object to the many things modern governments do? It’s because with quite a lot of the tasks required to survive and thrive in modern life, governments enjoy a distinct comparative advantage over individuals and even corporations and other organizations. Let’s take safety inspections as an example. A strict libertarian says that safety of the food supply should be left to producers, because it is in their best interest not to poison their customers, who, if so poisoned, would punish them by not buying their products.* A single, centralized governmental food safety organization enjoys a distinct comparative advantage over private industry here, and certainly over individuals. The collective cost of all Americans being responsible for their own food safety testing is ridiculously higher than what a single agency would cost to perform this task for us all. Even when compared to industry doing the testing (assuming we were foolish enough to trust them to do so), government still enjoys the cost advantage through economies of scale and centralization that help avoid redundant costs and resources. So why not be good capitalists and pay them to do it through our taxes?

The same principle applies to a vast array of goods and services. Health insurance is another, much as American Republicans and libertarians deny it. The verifiable fact is that programs like Medicare and Medicaid have far less costly overhead and operating expenses than do private insurance companies, who must pay for things like marketing and who of course must make a profit. At the other end of the spectrum is something like manufacturing, a task government is quite ill-suited to perform because, due to elasticity of demand, competition is key to (and effective at) driving efficiency and innovation, and a government take-over of such a task would by definition eliminate such competition. And therein lies one of the keys to deciding what government should and shouldn’t do: price elasticity of demand. That’s just a fancy way of saying that people will demand something like healthcare service at roughly the same level regardless of price (so it is quite inelastic). You don’t say, ‘no thanks, I’ll just leave that arm broken or let that cancer grow because the price is too high’ the way you would decide to walk or take the bus if car prices went up too much. That’s why it does make sense for healthcare insurance to be a government task while car manufacturing is best left to the private sector: prices for cars are quite elastic since people have many options, thus ensuring that there will be fierce competition among makers to innovate and keep costs low through efficiency as otherwise they lose business either to competitors or to alternative means of transportation. The list of examples could go on and on: roads, emergency services, schools on the one side; manufactured goods and value-added professional services on the other side.

So if our libertarian and conservative friends want to be good little capitalists, let them prove their understanding of capitalism by applying a reasoned, rational test - versus an emotional, irrational and ideological one - when deciding what the government should and shouldn't do. If government enjoys a comparative advantage, and especially if the good or service in question suffers from highly inelastic demand, then let them do it and pay them a fair price (through reasonable taxation) to do so; else, leave it to the private sector.


*Let’s put aside for the moment the absurdity of allowing people to die in order to allow the market to adjust itself. Let’s also put aside the fact that poisoning with chemicals and impurities can take years if not decades, thus leaving companies with a profit motive to continue poisoning in the short to medium term with no fear of retribution from the marketplace during the lifetime of current management.