Has the Free Market Failed?

I was listening to a talk show the other day, and they were debating the consequences of the AIG crash. (spurred on by the news of the multi-million dollar bonuses some executives were getting after ruining the company and receiving billions of bailout-dollars) The show host argued that the failure of AIG proved that more government regulation is needed, while the guest was supporting the free market. The host raised the following questions: "didn't the free market already have it's chance? The credit-default-swap market (the genesis of AIG's failure) was completely unregulated, and look what happened as a result. Shouldn't the government have stopped AIG from investing so irresponsibly?"



I am not interested right now in arguing who was right between the host and the guest (you probably know what I would say anyway), but I did want to explore what I consider to be the underlying issue. The host is saying that the free market did not work. I would like to ask what he means by "the free market did not work"? The obvious answer is: look at AIG! The biggest insurance company in the world went bankrupt, the government had to bail them out, the credit market went into a tail-spin as a result, and the entire economy is tanking. (I am, of course, putting words into someones mouth, but I think it is a fair representation.) For decades now, ever since the New Deal really, this same formula has been used -- when something bad happens in the economy say that the free market has failed, and that we need more regulation to save us.



But has the free market really failed? I argue that the facts listed above about AIG and the economy are true, but that they do not show that the free market does not work. They are in fact instances of the free market working! It is quite simple really: what is the free market's mechanism for discouraging bad investment? Risk, i.e. the possibility of failure. AIG made horrible investments (bad risk), and as a result they should fail! AIG's failure is the result of their actions, and represents the way the market automatically adjusts to discourage such actions.



Imagine for a moment that the government had let AIG go under instead of bailing them out. Would any reasonable company make similarly silly investments in the C.D.S. market? Of course not! They would say to themselves, "Holy Crap! We need to dump that risky C.D.S. stuff, or we are going to go the way of AIG." The market would correct itself without the need of some Regulator to go around deciding who could invest in what and how much, based solely on his discretion. Is it moral for a Regulator to tell people or companies how they can invest? No. But beyond that I am saying that, moral or not, it is not even needed! Of course the government did not let AIG die, so the message sent instead was this: do what ever you want, because if your risky investments turn south, you will be bailed out. The government essentially has removed the cautionary incentive of Risk, thereby undercutting the free market, all the while blaming the free market that it has hog tied!



Let me return to my main point though. What would a failure of the free market consist of? Failure is a completely conditional concept, i.e. it depends on what the goal is. For example, if I asked you "is earning $10.00 a failure?", how would you respond? You would likely be confused. Why? Because I did not specify a context. If the goal was earning $1000.00 to buy a new computer, then yes, $10.00 is a failure. If, however the goal was getting a hamburger, then $10.00 would be a success. This may seem like a trivial example, but the people who are claiming that the free market doesn't work are doing the exact same thing. They (referred to as Statists from here on) say the market failed, but specify no yard stick by which to measure failure.



The Statists do, of course, have a yard stick, but the do not express it explicitly. Their measure is this: if something bad happens in the economy, such as large companies going bankrupt, high unemployment, inflation, stock market drops, etc., then that is a failure of the free market. (it is important to note that they do not consider the bad event a failure of those involved, but of the market itself) In other words, the goal is uninterrupted economic growth with no setbacks, losses, or bad deals. That sounds on the surface like a good goal, and I believe most people would accept it initially. That is one reason why the Statists feel no need to explicitly state it. However, the goal does not stand up long to any rational scrutiny, which is the second reason the Statists don't want to openly state it. They are afraid to let their goal be rationally discussed, and instead deflect discussion to more catchy emotional subjects, like the bonuses to the executives, or sob stories of needy workers, etc. They are dependent on the fact that most people take things for granted and accept their initial feelings about a subject as sufficient, never examining closely the ideas they accept. (I say most people. There are those who do think deeply about things. I wish there were more.)



So then, let us scrutinize the goal of perfect prosperity. First, is it achievable in real life? No. In real life there is always the possibility that someone will fail. This is true of free and controlled markets (more on that later). Second, why should we want to achieve it? It is true that in general terms prosperity is good, but we cannot consider it in a vacuum, out of context. Whether the goal is good or not depends entirely on what price would have to be paid to achieve it. I say that the goal of perfect prosperity is evil, because of the price that must be paid for it. The only way to ensure no bad economic outcomes is to remove the possibility of any variation in outcomes at all. That means the elimination of good outcomes. For, after all, if one can succeed then one must also be able to fail. (for those of you who are LDS: it is the same thing we believe Satan wanted to do. He wanted to eliminate all choices in order to remove the possibility of making a bad choice)



Consider an analogy -- We would all probably agree that health is a good thing. However, there is always the possibility of disease in real life. If I proposed, in the name of uninterrupted health, placing everyone in a protective quarantine plastic bubble (such as the one in the Jon Travolta movie), would you say my goal is noble? No. Health is only a valid goal because it promotes our living a vibrant life. But as we all know, living vibrantly is more than bodily function, and living in a bubble is no life at all. Thus we cannot say that my goal is noble, but just not realistic. The very price of the goal negates its goodness: health ceases to be good if it is destroying ones capacity to live (in the broader sense of live). It is the same with the Statists alleged goal.



So why do the Statists hold such an unachievable, irrational goal as a standard of measure? Precisely because they know it is unachievable. When bad things inevitably happen, they can step in, as they are now, and say the free market has failed. This opens the door for them to do as they please. They naturally promise that they will be able to do better, and we naively believe them. Of course they cannot achieve their goal either, but that is not the point. When more failures occur they will have an ace up their sleeve. Simply blame the free market again! Then even more controls will be clamored for. It is a self reinforcing cycle that repeats with the ultimate end being total state economic control. Of course then when the failures continue to happen there will be no free market left to blame, but by then it wont matter.



What is the solution? We must insist on a proper measuring stick of success. That measure should be freedom. The success of the economy must be measured by how free it is. Not because we believe that freedom will somehow mystically ensure uninterrupted prosperity (as some conservatives argue), because that is falling into the trap of accepting the Statists premises. There will be unfortunate events from time to time in a free economy, but freedom should be our goal because it is right.