MYTH #3: UNREGULATED FREE MARKETS LEAD TO POORER PRODUCT QUALITY
A common argument made by anti-free market thinkers is that unregulated free markets will ultimately lead to poor product quality, thus government must create safety regulations to protect the consumer. This argument shows a lack of economic understanding and is also a myth.
The proponents of this myth make two arguments to support it: (1) Businesses only care about profit so they'll do whatever necessary to cut costs and (2) Businesses will collude to keep costs down by producing poor quality products realizing if they do so everybody wins. Both arguments fail to account for the implications of competition.
1. Businesses only care about profit so they'll do whatever necessary to cut costs.
While it is certainly true that businesses do only care about profit and will always attempt to minimize costs, this does not lead to poor product quality. In fact, it leads to the direct opposite. If my goal is to maximize profit I need to produce a product that people want and want more than my competition’s. Why would consumers want poor quality products? They wouldn't. So why would businesses produce them? They wouldn't.
But this argument is admittedly too simplistic. How would consumers know products are of good quality if they do not undergo safety regulations? This is the beauty of the market. When buying a product it is in my best interest as a consumer to make sure the product is of good quality. But without the government safety regulations that mandate regulatory checks how can I know? Well, for one, I can research the company and read reviews. I'm sure all of you have done that at one time or another when buying something online. But what if the company is new and the court of public opinion hasn't reached its verdict? Surely I'd be skeptical about buying the product and this is where the market comes into play. Businesses understand their consumers want guaranteed safe products so what would they do? Get them reviewed.
In the absence of the government safety regulations the market would create, in response to consumer demand, safety rating agencies that businesses can use to assure their customers of safety. Take this simple example: I am the owner of a soup company, call it company X. I recognize that I can outsell my competition by simply having my soups undergo safety checks, so I will be willing to increase my costs in anticipation of generating higher revenue and thus higher profit. As competitive forces did their magic I would have to have my soups checked by multiple rating agencies, which, through competition with each other, will have to assure they provide the best ratings on the market. The result is the best quality of soup reviewed by the best quality of rating agencies.
Some may say: If the free market will eventually adopt safety regulations of its own why not just use the government regulations? The answer is that government regulations have unintended consequences. One, they make it much more difficult for new entrepreneurs to enter the market by increasing costs, two the increased costs are passed off to the consumer in the form of higher prices, and three, and most importantly, government suffers from the economic calculation problem. It is impossible for a central planner to know exactly which products and exactly how many checks consumers demand. Only the market, through its spontaneous order, can provide these answers.
2. Businesses will collude to keep costs down by producing poor quality products realizing if they do so everybody wins.
This problem was conquered by the great economist John Forbes Nash, who realized that collusion was simply impossible (so long as it was kept illegal, so yes government has a role here). If collusion is illegal companies cannot enter into contract to collude meaning any collusion contracts are unofficial. What this means is ultimately one business will realize the potential gains of breaking the unofficial contract and will do so.
I once had a microeconomics professor offer this example: A professor tells the class he will curve an exam to make the average grade a B. In theory, nothing is stopping the students from all agreeing to not study and all get scores of 0%, which, through the curve, will result in every student getting a B. But in reality competition stops students from doing this. One student will ultimately realize if he were to study for 10 minutes he would be at a huge advantage and thus guarantee himself an A. Another student may figure this and study for 20 minutes to guarantee himself an A. The sequence goes on and on until eventually all the students end up breaking the agreement and studying as they would for any exam.
Translate this example to our soup example: Let's say the soup market has three companies, X, Y and Z. The three collude to not have their soups undergo safety checks in order to minimize costs. Theoretically if the consumer wants soup he'll have to settle for unchecked soup. But in reality one company will realize all it has to do is get its soup checked by one agency and it would steal the entire market. Once company X does this, company Y will go to two safety checks, company Z to three, and so on and so forth. The end result will be numerous safety checks and safe, reliable, soup.
So what we have evidenced is that so long as businesses exist in order to make a profit the competitive forces of the market will assure their products are of the best quality. All that lifting government safety regulation would do is allow for the market, not the government, to dictate what products should undergo safety regulation and how often. The myth of poor product quality is debunked.
Preview: Next week I will post Myths about the Free Market Part 4: Unregulated free markets lead to poor environmental conditions.
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Dont use the word "magic" when referring to competition. Then the regressives will seize on it and say LOOK THEY EVEN ADMIT ITS MAGICAL BULLSHIT.
Also, the government is unnecessary for exactly the reason you demonstrate. Collusion always collapses if customers are not satisfied. Dont give statists anything to seize on.
Thank you for commenting.
1. That is a just a colloquial expression but you're right the anti-free marketers will jump all over language like that
2. I am not an anarchist. I see a legitimate function of the State in this area. In an anarchist society would contracts exist? If so, wouldn't all contracts be binding as illegality could not be cause to void?
You already answered your question in the original post. Without a government to "guarantee" contracts, the free market would develop ways to identify responsible, trustworthy people. Rating agencies (like the ones you suggested for soup) could give high ratings to people who respect contracts; creating huge incentives for people to respect other people's property rights and respect the social order.
This is all true except you run into danger when you propose a system that does not include law & order. In this system, while I may sacrifice my 'contract rating', I may be justified in breaking my contract or simply committing fraud if the short-term profit-motive is great enough. Government must exist to protect the rights of contract against fraud.
Why is government required to create law and order? Government taxes half my income and and yet claims to be "protecting my property rights." It's a contradiction in terms -- an expropriating property protector.
If you break your contracts your rating goes down. Now you can't get a car loan, move into a nice neighborhood, or get a good job. Seems like a pretty good incentive to me, just like the incentive for producers to make quality, safe products.
I love these kinds of comments that rely on theory as opposed to fact. Yes, businesses aspire to maximize profits. Yes, infomred consumers will discipline the manufacturer of poor products and reward the manufactuer of quality products.
The problem is that often consumers lack information. Inforamtion is costly to acquire or unavailable. In such cases, uncertainty rules, which undermines the ability of consumers to make rational choices. Examples abound: the Ford Pinto, leaded gasoline, contaiminated milk in China, dioxins, asbestos products, numerous drugs, etc., etc. Automobile manufacturers delayed including seat belts for some twenty years, all based on the assumption of consumer sovereignty.
Reality is complicated. Avoid the fallacy of misplaced concreteness, don't mistake theory for reality.
Information is not perfect, I concede to that point. But your examples do not provide evidence for your argument, in fact they support mine. All of these poor products exist today DESPITE the existence of mandatory government regulation. Perhaps it's time we give free market methods a chance
Check out Douglass North's book Institutions and Institutional Chanbge. Given uncertainty, institutions matter. Given uncertainty, government intervention can reduce uncertainty for consumers, allowing them to make better choices.
As for free markets, there is not such thing. Markets are merely places (including electronic spaces) where buyers and sellers come together. Such places require "rules" that channel the ways in which buyers and sellers interact. Given power, the different players will invariably attempt to bend the rules in their favor. They do this in a variety of ways, from lobbying to bend the rules in their favor to exercising power to gain the best shelf space, demand suppliers lower costs, hiring lobbyists to rewrite regulations, etc., etc. Power and the exercise of power is the great flaw in the Austrian vision of how markets work.
This power you speak of is only possible through the intiation of force by government though, hence, the Austrian advocates for minimal government intervention.
I am slightly familiar with North and New Institutional economics. While I certainly have my disagreements I do find some common ground
Be well
Unfortunately people and companies only behave like this in theory. What happens when your 12 year old gets caught stealing a candy bar? Does he get shot? Or get shipped off to a private jail? Maybe tried in a private court paid for by whom? If you were a poor family, you wouldn't have a chance at influencing the process. A wealthy and well connected family would get a much better chance at justice. This is just a small example, but just look at how innovative and dynamic much of Africa is without central leadership. Or even decentralized Italy where the mafia had essentially taken over. The government has legitimate functions in our society, and you are correct when you say that the market will fill void left by the absence of government. We just don't share the same faith about what will fill the void. So many social and market interactions are variations on the prisoner's dilemma, and the govt provides services (like courts and a consistent system of law) that allow for the mutually achived better outcome while being somewhat accountable and responsive. The soup example is a bit silly if you ask me. As if people who work 2 jobs and can barely afford to feed their families don't make decisions based on price alone. It's all fine and dandy for you at the top with the means to make each decision alone, but you have obviously never had to choose between buying quality food and buying books for your kids, it even paying rent for that matter. Life is not so simple and human nature hasn't changed much in the past 10000 years.
I agree Brian. This is another reason to oppose regulation. Companies simply pass these regulatory costs off to the consumer making food more expensive. Innthe absence of regulation food would be cheaper as it would either be unchecked or checked by more efficient, this cheaper, means
Hello, PL. Nice job. I'm the person who you went back and forth with last week.
Pls. explain this to me. You have the passage:
Simply--and keeping to my theme--explain to me in terms a non economics student can understand on why collusion is illegal and discrimination not? In other words, I own a business. If the government can't make me serve a black person at my lunch counter because the business belongs to me and I can do as I please, why can the governmenht keep me from entering into a contract of my choice with another company, whether it is collusive or not? Why is one okay and the other not?
I understand that I am a bit of a one-trick pony, but I still am seeking to understand this.
Hey thanks for reading and great question!!! Here's the difference: collusion, by definition, is a contract that intentionally deceives, misleads or defrauds other of their legal rights (in this case the right to free entry into a market). As private individuals cannot make laws prohibiting others to enter an industry collusion must be illegal as it restricts the rights of another to enter the industry (I.e. Use his property). So, in short, the difference is the right to eat a restaurant does not exist while the right to property does. Hope this helps!
I understand the definition of collusion. I am just surprised that a libertarian would leave it up to the government to enforce prohibitions on it. I would expect a liberarian to say, if companies A and B enter a collusive contract, companies C, D and E must find a way to enter the market and offer better service, lower prices or in some other way win marketshare. Or they should find a way to make the customers of companies A and B understand that the collusive contract is not in their best interest.
What I see you advocating instead is a huge governmental infrastructure protecting the rights of aggreived companies, but nothing protecting the individual. Again, it comes to my disagreement with your statement that "the right to eat [in] a restaurant does not exist while the right to property does." All due respect, again, I think that is sort of silly. Where, by the way, outside of liberatarian circles, does this belief exist? Where in the Constitution is it stated or implied, for instance?
But it seems we are replicating last week's discussion.
Two things:
1. What you described is not libertarian per se but more so anarchist. A libertarian (in the classical liberal/minarchist tradition) believes government has a duty to enforce contracts and protect property rights. Collusion is an attack on property rights
2. The United States Constituition grants the rights to life, liberty and property and prevents any violation of them without due process of law. By extension one could argue the right to property grants protection of an individual's property from theft and liberty grants the right to choose who can use your property. Where in the Constitution do you see a "right to eat at a reasturant?"
Side note: It is clear you and I (and libertarians for that matter) do not and will not see eye to eye on this issue so please let's stop the discussion after your response. In the future let's try and keep the discussion aimed at the free market myth I attempt to debunk. I enjoy this conversation a lot but I feel it's going off on a tangent. Thanks
It makes more sense for me to answer 2 and than 1.
2.I believe that right to eat in a restaurant in the final analysis is pretty much synonymous with the right of life and liberty. Somebody turned away from a restaurant because he/she is Black or Jewish is being deprived of his/her liberty. Semantic/academic arguments simply can't change that. In fact, I would argue that the Constitution, in a sense, is all about the right to eat in a restaurant of one's choice.
1. I don't see property and contract rights as greater or more deserving of protection than individual rights, pure and simple. Again, and finally, it makes no sense to put property rights over individual rights--indeed to apparently say that individual rights don't exist.
I agree that this is an enjoyable conversation that has run its course. The one thing I would humbly add to you and all other readers here is to continue to question your beliefs in the context of the real world, with real consequences. I sense that the logical conclusion of liberatianism would be some sort of anarchism. Be well.
Fair enough but as I've reiternated time and time again your idea of 'right' involves compelling another to do something. In philosophy these types of rights are called positive rights, i.e. right to education, shelter, food, etc. They are, in my opinion, inconsistent with the notion of liberty as liberty can't, by definition, involve another person as if it did it would compromise that other person's liberty. That is our difference in position.
Libertarianism may ultimately lead to anarchy, but if it did it would be because the people have determined anarchy is the best system so I'm not so sure this is a bad thing. Either way be well and please continue reading the 'myths' series
Thanks, PL. Actually, I retract the statement I made about libertarianism leading to anarchy. It was dumb...I was tired. I just get the sense that libertarianism would lead to some sort of situation where too much power would reside with one group, be it business, government or the majority of people to the exclusion of rights of the minority. I see government when done right as a necessary referee.
You are right--I flat out reject the "positive rights" framing. I looked it up on wikipedia and the item mentioned that it is a popular libertarian notion.
Anyway, again, take care.
I agree there have been controversies on the quality of products in this field, yet the ones who want to keep their brands on the highest position will take only the best from the free markets. I can think of a few good names of famous restaurants in town that survived on top of the market only by choosing the best restaurant supply providers. This is sort of a chain reaction that takes place in all fields of commerce.
I would say I partly agree with myth no. 3, yet I have some things to add there. Every financial advantage we have comes with a reverse consequence. Indeed, every financial disadvantage we feel we are dealing with is more like a blessing in disguise, we only need to discover the positive side of it. I mean, I appreciate and like all cloth shopping renowned brands, yet I buy FR workwear online anytime I get the chance. I have tried it all out and I find the online ones the best, as unregulated as the free market may look like.
What`s so bad about having a free unregulated market? You said it in your own words, it`s free! Look at all those people who find so many affordable things to buy on Omaha classifieds sections. Do you think they stop first to analyze the context, to make up their mind whether the market is unregulated or not? No, they simply browse and buy, to their very own taste and possibility. I see this as a positive impact upon the commerce field.
I think if your product quality is poor then your chance of succeeding is very poor. Consumers would definitely not buy your products if there is a problem with product quality. So for retaining your customer base you have to be very cautious. I was looking for information on Perry Belcher when I saw your post.
I started to shop on-line and it is way more interesting than going to a store and asking the salesman about the product, they will always tell you that their product is the best and you should buy it. When I bought fantasy perfumes I knew they are the best not from some agency but from hundreds of users that tried the product already. The ideas you stated are real but this does not means you can apply them for every industry. We will never have a free market because our economy is constructed in such a manner that everything must be regulated.