On some unintended consequences of the welfare state

(This policy bulletin is an extract from FMF Occasional Paper published 2003, written by Kurt R Leube)

Concluding suggestions

Many view free markets as incompatible with all kinds of social problems, and with the protection of the environment and agriculture, to mention but a few hot issues. For them the very notion of market solutions for pension funds, environmentalism, or the privatisation of health care systems or universities represents an oxymoron. Even many “free marketeers” find themselves on opposite sides of the fence when it comes to governmental regulation and state interventions in these sensitive areas. Most are convinced that markets work best to allocate the goods and services we enjoy, but argue that social issues are different and much too precious to be allocated on the basis of demand and supply.

Although questions of principle, these disputes do not necessarily mean that there is no proper role for the government to play in these sensitive fields. But government’s involvement ought to be confined chiefly to three tasks: first to continuously improve the legal framework and institutions needed to make the market function more effectively, secondly to induce individuals to take more account of the effects of their actions, and finally to act as agent of the people in circumstances where governments render specific information which could not be provided by the market. It should, however, be emphasized that government should not be granted an exclusive right to supply these services but should be legally obliged to encourage development of private alternatives.

The complexity and incomprehensibility of the current social security systems represent a positive danger for democracies. These covert redistribution systems are to some extent to blame for transforming market societies into some sort of mixed economies. The dispute about what, when and how much should be given to those in need owing to circumstances beyond their control persists and keeps dividing the population, but the entire setup should be gradually changed from a collective to an individualized system. To initiate such major modifications it seems reasonable that government should help to develop suitable independent institutions. Thus, for a time period defined and enforced by democratic vote, the state should require all citizens to make provisions which will prevent them from becoming a charge on the public purse. Regarding old age and health provisions, poverty and unemployment we should proceed in the same way that we require car owners to get insurance against third-party risks, not in their own interest but in the interest of others who might be injured by their actions. Designed by Jose Pinera, the system of private pension funds was successfully introduced in Chile in 1981. Since then this capital-accumulation system has replaced the financially unaffordable pay-as-you-go system in a number of countries. Yet it is an odd fact that the countries with the most bankrupt pension systems are the most hesitant to consider adopting this successful alternative.

The prevailing view that markets and the environment do not mix is bolstered by the perception that resource-exploitation and environmental degradation are linked to economic growth. This conception, however, could be reversed by gradually introducing and applying market principles to protect the environment and sell state-owned assets. Free-market environmentalism does not suggest that there is no role for government; on the contrary, this approach presupposes well-specified property rights to enable action with respect to all kinds of natural resources. The abuse of our air as a collectively-used factor of production, for example, is more of a problem than solid waste disposal in the ground, because property rights to the earth’s surface are better defined than those to the atmosphere. While private ownership of land works very well for producing wine or wheat, the measuring, monitoring and marketing of land for the habitat of endangered species is still considered an obscure idea.

Definition and democratic implementation of enforceable property laws will remain a domain of the state for the time being, requiring a firm legal framework, entrepreneurial skills, and a lot of educational efforts that should already start in elementary schools. Whether property rights are held by individuals, corporations, or non-profit and communal groups, powerful control is always imposed on resource-users because the wealth of the owner of the property right is at stake if bad decisions are made. Of course, the further a decision maker is removed from this disciplining control – as is the case when there is political control – the less likely it is that good resource stewardship will result. Moreover, if well-specified property rights are transferable, owners have to consider not only their own values but also the decisions of others and how much they are willing to pay.

In those rare cases where rights cannot be measured, monitored or marketed there is of course only a slim prospect for a market exchange. For example, where there is water pollution from sources that cannot be identified with current technology at reasonable costs, defining and enforcing property rights governing water-use may be difficult or even impossible. Likewise, excluding non-payers from enjoying a scenic view may prove so costly that a market situation may not emerge under present circumstances and institutions. Such cases can only be perceived as remote, but government interventions could be considered to support development of market conditions with decisive and imputable property rights.

Results from centrally-planned resource allocation will never work better than markets; we have nevertheless developed the tools to distinguish chiefly between two types of government interventions. “Adjusting” interventions can be compatible with free markets if their time frame is properly defined, well administered, and firmly enforced – such programmes seek to support people, groups or institutions needing help owing to circumstances beyond their control. “Preserving” interventions, aiming to preserve the status quo, however, are under known circumstances absolutely incompatible with the very nature of markets.

Source: This policy bulletin may be republished without prior consent but with acknowledgement to the author. The views expressed in the article are the author's and are not necessarily shared by the members of the Foundation.  


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