Google has a pilot to offer TV and high-speed Internet service in Kansas City. Adding phone service would have cost them practically nothing, and presumably would have provided great value to its customers. But it gave up because even for a company as large as Google, the regulatory start-up burdens were too large. Many innovative new industries or new approaches to old industries have been started literally in someone's garage. But no one with a better idea for local telephone service is ever going to make progress against these kinds of regulatory barriers. Which is exactly what the large incumbents want, and why they secretly support these massive regulatory infrastructures (while publicly whining about them).
Posts tagged ‘Regulation’
I don't have time to comment or peruse the study in depth, but this looks interesting. From Randal O'Toole:
Harvard economists have proven one of the major theses of American Nightmare, which is that land-use regulation is a major cause of growing income inequality in the United States. By restricting labor mobility, the economists say, such regulation has played a “central role” in income disparities.
When measured on a state-by-state basis, American income inequality declined at a steady rate of 1.8 percent per year from 1880 to 1980. The slowing and reversal of this long-term trend after 1980 is startling. Not by coincidence, the states with the strongest land-use regulations–those on the Pacific Coast and in New England–began such regulation in the 1970s and 1980s.
Forty to 75 percent of the decline in inequality before 1880, the Harvard economists say, was due to migration of workers from low-income states to high-income states. The freedom to easily move faded after 1980 as many of the highest-income states used land-use regulation to make housing unaffordable to low-income workers. Average incomes in those states grew, leading them to congratulate themselves for attracting high-paid workers when what they were really doing is driving out low- and (in California, at least) middle-income workers.
As Virginia Postrel puts it, “the best-educated, most-affluent, most politically influential Americans like th[e] result” of economic segregation, because it “keeps out fat people with bad taste.” Postrel refers to these well-educated people as “elites,” but I simply call them “middle class.”
I have not read the study, but I think the word "proven" in the first sentence likely goes to far. Economic systems are way too complex to absolutely show one variable among millions causes another. I am convinced that the way we have regulated the housing market and promoted home ownership has reduced labor mobility.
Don't say I have not been warning you. For years. Philip Klein via Peter Suderman:
...Bloomberg highlighted a comment from a supporter of the [soda] ban, who wrote, "Anyone who pays taxes and thus bears the health care costs of obesity should support this."
In a free society, individuals are able to take risks and make decisions detrimental to their own well-being -- be it smoking, drinking, excessive eating or anything else -- because they'll bear the ultimate costs of their decisions. But when government assumes a greater role in the health care system, suddenly there's a societal cost to individual risks. This provides an opening for those who believe in a paternalistic role for government to make their regulations seem pragmatic. Bloomberg used the "health care costs to taxpayers" argument during his previous drives to ban smoking in bars and restaurants and to outlaw the use of trans fats.
Can we please make sure no one is able to put an AI into this thing. We definitely don't want it to become self-aware.
My Forbes article is up this week and uses my company's vendors to compare the power of markets vs. government regulation. A small excerpt:
I am assuming that many readers will have already spotted what these three vendors have in common: all are either highly-regulated government-enforced monopolies (in the case of liquor wholesaling and electric power) or government agencies themselves. As a consumer, I get the worst deal from my vendors in direct proportion to how heavily regulated they are.
Best Buy is apparently increasing its customer return window from 14 days to 30 days.
Why? This certainly costs them money, not just from lost revenue but from the cost of restocking and returning to the manufacture (not to mention fraud).
Are they doing this because they are good guys? Hah. Do you really expect goodwill out of an electronic retailer?
They did it because they felt they had to. As the top dog in dedicated electronics stores, they are constantly under competitive assault. They are the reference point competitors start from. Wal-mart attacks them on price. Amazon.com attacks them on price and convenience. Smaller retailers attack them on knowledge and integration services. Everyone attacks them on the niche details like return policies.
Best Buy did this not because they wanted to, but because they felt they had to under competitive pressure. The accountability enforced by the market works faster, on more relevant variables, and far more powerfully than government regulation.
When the government does regulate variables such as this, such regulation often actually blunts the full accountability of the market. Retail laws in many European countries set maximum hours and discount levels, protecting large retailers like Best Buy from upstarts trying to provide a better of different service.
Frequently, so-called consumer regulation is coopted by large corporations to limit the ways competitors can try to unseat them. For example, limo services will get laws passed that all limos have to have certain features. Ostensibly, this is so consumers will be protected from having a limo without a wet bar, or whatever, but in fact its to prevent upstart competitors from taking them on with a different kind of business model potentially using different kinds of vehicles.
I find that this is frequently the case with regulated utilities. Utilities are able to get all kinds of crazy laws passed to protect business practices that would never survive the marketplace. Just today I was trying to open a business account with Duck River Electric in Tennessee. We are attempting to reopen a TVA campground that has been closed for several years. The campground is tiny, so I was flabberghasted when the utility told me that we had to put down a permanent deposit of $4100. I found this to be shockingly high. Apparently, it is based on the highest two months demand in the highest year (several years ago) in history. Since the campground is only open for five months, it means that we have to give the utility an indefinite interest free loan equal to half the annual business we do with them.
This is simply insane. Name one reasonably competitive business where one has to put down anywhere near this kind of advanced deposit to become a regular customer. If there was any sort of competition in this business, the sales people for the other company would have a field day with this. Sure, vendors often do a credit check on us, and a very few times (mostly early in our history) we had to pay COD for orders. But this is absurd.
PS- The only vendors we work with that are even close to this for abusiveness are the state authorities from whom we buy fishing licenses for resale. Many of these agencies require expensive payment bonds not required by any of our other (private) vendors. Arizona Game and Fish even forces us in January to accept an inventory of many products we do not sell (e.g. hunting stamps) and cannot sell by the terms of our lease. We have to keep these in the safe for a year and if we lose any and are unable to return them at the end of the year, we have to pay for them. Imagine Amazon.com sent you a bunch of crap you did not want and required you to hold them for a year, and then pay the expenses of returning them, and then pay for any item you might have lost. Anyone like myself who was dumb enough to fall into the Columbia House records thing will know the danger of this.
After over three years of effort, and many, many checks written to numerous departments, Ventura County has granted us the right to operate a fuel tank at a particular location near Lake Piru, CA. This is actually a huge improvement, and will be much safer and less liable to create a spill than the current methods of schlepping around zillions of 5-gallon cans in a pickup truck.
However, we still have not, after 3 years of trying, obtained a permit from self-same Ventura County to install said tank. So it is currently legal for us to own, posses, and operate a fuel tank at the permitted location but still illegal for us to install one there.
The tank we purchased 3-years ago in the naive hope all this permitting could be done in a month or two will probably be rusted out by the time we can actually install it.
This article by Mark Perry seems right to me -- the lightest touch (and probably the most effective) approach to bank regulation is to return to a regime that puts its major emphasis on capital requirements.
We can talk all day about causes of the recent financial crisis, but in my mind the root cause was taking real property with a volatile underlying value (e.g. homes) and leveraging the absolute crap out of it. In the initial transaction, home buyers were allowed to come to the table with less and less equity, until deals were being cut with more than 100% debt. This stupidity was a true public-private partnership, as the government kicked off the party and encouraged its growth via various community development policies as well as policies atFannie and Freddie, but private originators as well as home buyers eagerly jumped into the fray.
This debt backed by property that was already too highly leveraged was thrown into portfolios that were themselves highly leveraged, and then further leveraged again through CDS's and other derivatives. And then the CDS's were put into leveraged portfolios. I would love to figure out the effective leverage in the AIG portfolio. For ever $1 million in real property that secured the mortgages they insured, how much equity did they have? A thousand bucks? Less?
These investors felt protected by diversification that didn't really exist. The felt safe with AAA ratings from agencies who really didn't understand the risks any better than anyone else did. They relaxed assuming everything was watched by government regulators who were in way over their heads. But more than anything, they felt protected by history. The system of putting mortgage risks into tranches, such that the top tranches could only be affected by default rates consider then to be wildly improbable, had never to that point failed to deliver its promise. Default rates had always stayed withing expected norms.
And this is the most dangerous risk -- the risk that something will happen that has never happened before. Default rates that seemed impossible suddenly became reality. Tranches that were untouchable suddenly were losing large chunks of their value. Sure, there were warning signs, but at the end of the day what happened was that events occurred that were worse than people had thought was the worst case scenario (there is a whole body of interesting behavioral study on how humans tend to overestimate their understanding and underestimate the width of a probability distribution).
As new financial products are created and the economy evolves and the government pursues new forms of interventions in commerce, new failures can occur that have never happened before. And never has there been invented a micro-regulatory approach that guards against new-type failures (they don't even do a very good job against old-style failures). Capital requirements are the one approach that guard against catastrophic failures even for unanticipated risks.
It can be argued that this will raise the cost of capital, at it is true interest rates at any one point of time would have to go up. But one can argue that the low interest rates of the 2000's greatly understated the true cost of capital, and that those additional costs were paid in a sort of balloon payment at the end of the decade.
I am still thinking this through -- I don't think any regular reader would be mistake me for someone who favors regulation in general, but I am coming around to some extent on the notion that banks are different. I would ideally like to see a self-policing market where companies that choose to cut equity too fine just go bankrupt. But the reality of the political-financial complex today is that this never happens -- costs of large failures are socialized, and executives who made bad choices get fat gold parachutes and Treasury jobs.
Postscript: I have arguments all the time about whether the financial melt down was mainly caused by government or private action. Was it a public or private failure.? My answer is yes.
One thing that those of us who promote private action over public can never repeat enough is this: Our support for private action does not mean that private actors don't screw up, that there are not bad outcomes, that people don't make bad decisions, etc. They do. Lots of them. When these constitute outright fraud, there should be prosecution. For the rest of the cases, though, libertarians believe that in a free society there are automatic corrections and sources of accountability.
Make a bad product - people stop buying it. Sign a union contract with wages that are too high - you go bankrupt. Treat your workers shabbily - and the best of them go work for someone else. Take on too much risk - you will fail and lose all your capital.
The problem with our financial sector is not that it is not regulated -- it is the most regulated sector of the economy. The problem is that, as always happens, there has been substantial regulatory capture. There has been an implicit deal cut by large financial institutions - regulate me, but in return protect me. In a sense, as is typical in a corporate state, large corporations and government have become partners.
As a result, many of the typical checks and balances on private action in a free economy have been disrupted. In effect, certain institutions became too big to fail, and costs of failure and risk taking were socialized.
That is why the answer is not one or the other. Certainly the massive failures were driven by the actions of private actors. But they were driven in part by incentives put in place by the government, and their stupid behavior was not checked because traditional private avenues of accountability had been neutered by the government. This is why the recent financial crisis will always remain a sort of political Rorschach test, where folks of wildly different political philosophies can all find justification for their position.
Ford Motor Co.'s financing arm pulled plans to issue new debt, the first casualty of a bond market thrown into turmoil by the financial overhaul signed into law Wednesday.
Market participants said the auto maker pulled a recent deal, backed by packages of auto loans, because it was unable to use credit ratings in its offering documents, a legal requirement for such sales. The company declined to comment.
The nation's dominant ratings firms have in recent days refused to allow their ratings to be used in bond registration statements. The firms, including Moody's Investors Service, Standard & Poor's and Fitch Ratings, fear they will be exposed to new liability created by the Dodd-Frank law.
The law says that the ratings firms can be held legally liable for the quality of their ratings. In response, the firms yanked their consent to use the ratings, hoping for a reprieve from the Securities and Exchange Commission or Congress. The trouble is that asset-backed bonds are required by law to include ratings in official documents.
The result has been a shutdown of the market for asset-backed securities, a $1.4 trillion market that only recently clawed its way back to health after being nearly shuttered by the financial crisis.
John Stossel has this chart to clearly define the power that is OSHA regulation:
Wow, that sure makes a big difference. Which confirms my experience as a business owner. Financial incentives like workers comp rates are a FAR more powerful force, at least in my business, to root our safety issues than the arcane and bureaucratic mandates that flow out of OSHA.
I am confused by the recent argument for more financial regulation. The argument seems to go that because Goldman Sachs may have committed fraud, then we need more laws making more things illegal. But Goldman Sachs is accused of breaking existing laws. Isn't that just an argument to enforce the laws we already have? In fact, the government so far is stopping short of its full power to go after Goldman over the Abacus securities -- its seems like they would have a criminal fraud case but at the moment they are settling for a civil action. In a sense, the government is not using against Goldman all the power it already has.
Of course, a cynical person could argue that the government has no real desire to go after Goldman, who after all is pretty deeply in bed with this Administration, and is pulling its punches in a show trial that will end up with Goldman fined .01% of its quarterly profit but with the Administration looking tough to fuzzy-headed voters and with Congress having something it can wave around to distract people while it passes another 1400 page bill no one has read.
I am importing a fairly expensive art clock from Germany. It hit Fedex in Memphis yesterday, then apparently hit a snag. The US government demands that certain data on imported clocks be submitted to them before it can clear customs. Fedex had to pay someone for about half an hour of work (to track me down, interview me on the phone, and submit the paperwork) so that this critical data could be submitted to the Feds:
I kid you not. This would be one of the dumbest things I have seen from the government had it not been for the egg licenses I have to hold. This data was probably critical for some program pushed through by a Senator to protect some business in his district that does not even exist any more. I wonder if anyone in the government even remembers why this data is so vital (seriously, per question 11, how many wind-up clocks are coming through customs nowadays). Probably part of a program to protect America's essential capacity to manufacture clock movements over 12mm in thickness.
Continuing with a long-running theme here at Coyote Blog, here is another example of government regulation being anti-competitive and having the net result of protecting the margins of powerful, established incumbents against new entrants:
During a recent meeting, the Antiplanner was extolling the virtues of Houston's land-use policies, and a home builder at the meeting said, "Of course, no one here wants our city to be like Houston," meaning no one wanted Houston's land-use regime.
Why not? I asked. "There is too much competition down there. My company can't make a profit," he said. "You have to have some barriers to entry to be able to make money."
Those who accuse free marketeers of being supporters of big business don't realize that big businesses (and often smaller businesses) don't want a free market. In this home builder's case, he wanted enough restrictions on the market to keep out some of his competitors (most likely smaller companies that can't afford to hire lawyers and planners for every project) but not enough regulation to keep his company out
Several years ago my company had to obtain a liquor license in Shasta Country, CA. At one point, the issuance of the license had to be voted on by some group (County commissioners, the planning board, something like that). I was told the reason was that if they issued too many licenses, I would not be able to make money -- really, they were looking after me.
Well, not really. First, the government seldom has any idea even how a business works. Perhaps the liquor was a loss leader for my business, and I didn't care to make money on it at all. Perhaps I had a better marketing concept.
And herein we get to the real flaw -- the implication is that somehow the dangers is to the new entrant in a crowded marketplace, but in fact the reality is often the opposite. The actual competitive danger is often to incumbents, fat and happy with the status quo and unable to react quickly (due to all kinds of reasons from sunk investment to long held biases) to shifts in customer preferences. No matter what their stated reason, the true effect of such regulation is to protect current competitors from new entrants, new products, and new business concepts.
I can see the effects of this right here where I am sitting, out near the end of Cape Cod. Zoning and business regulation here is enormously aggressive - its is virtually impossible to start a new retail establishment here, particularly on virgin land. As a result, every store and restaurant here feels like it is right out of the 1950s. You'd hardly know there has been a revolution in retail or service delivery over the past few decades, because businesses here are sheltered from new entrants. They don't need to adopt better practices or provide better products or services, because they know they are not vulnerable (courtesy of the government) to competitive attacks from new entrants using more modern strategies.
Sponsored by Congress' most senior member, Rep. John Dingell (D-Mich.), HR 759 amends the Federal Food, Drug and Cosmetic Act to include provisions governing food safety. The bill provides for an accreditation system for food facilities, and would require written food safety plans and hazard analyses for any facilities that manufacture, process, pack, transport or hold food in the United States.
It also calls for country of origin labeling and science-based minimum standards for harvesting fruits and vegetables, as well as establishing a risk-based inspection schedule for food facilities. "¦
The [Cornucopia] institute claims the preventative measures [on handling of food on farms] are designed with large-scale producers and processors in mind and "would likely put smaller and organic producers at an economic and competitive disadvantage."
You hear this all the time from proponents of certain regulations -- "even _____ corporation supports it." GE supports global warming regulation. Large health care companies support heath care regulation. The list goes on forever. That is because regulation always aids the large established companies over smaller companies and future upstart competitors. Larger companies have the scale to spread compliance investments over larger sales volumes, and the political muscle to lobby Congress to tilt regulation in their favor (e.g. current cap-and-trade lobbying in Congress). Regulation creates a barrier to entry for potential new competitors as well.
I hate to admit it, but regulation in my own business (which I neither sought nor supported) has killed off many of my smaller competitors and vastly improved our company's competitive position. It is no accident that the list of the largest companies in heavily-regulated Europe nearly never change, decade after decade, whereas the American list has always seen substantial turnover.
Philip Morris, openly and without qualification, backs Kennedy's and Waxman's bills to heighten regulation of tobacco.
Philip Morris stands to benefit from this regulation in many ways. First, all regulation adds to overhead, and thus falls more heavily on smaller firms. Second, restrictions on advertising help Philip Morris' Marlboro, a brand everyone already knows, by keeping lesser-known brands in the shadows. (Existing restrictions on advertising have already helped Philip Morris in this regard, with an added benefit spelled out in Altria's annual report: "Marketing and selling expenses were lower, reflecting regulatory restrictions on advertising and promotion activities. "¦ ")
Finally, if the bill passes and the FDA gets added control over the industry, Philip Morris, more than any of its competitors, will have access to those bureaucrats and agency heads making the decisions. For all these reasons, RJ Reynolds and other tobacco companies oppose the bills Kennedy and Waxman are pushing.
Timothy Carney has a really interesting deconstruction of the US Chamber of Commerce agenda, and it is a good reminder of the forces at work pushing this country towards a corporate state (similar to France and Germany). When large corporations lobby via the Chamber of Commerce, it is apparently not for low taxes and free markets, but rather targeted interventions and subsidies. The article does not have a money quote I could find, but this should give you an idea of what the author discovered in the Chamber of Commerce rankings of Congressmen:
On the House side, it's a similar picture. The Republican with the lowest Chamber score was [Ron] Paul. Even Rep. Barney Frank, D-MA, who wants to regulate everything except Fannie Mae, scored 14 points higher than Paul on the Chamber's scorecard.
Suffice it to say a ranking system that has folks like Ron Paul last is not based on free markets and small government. Apparently, the Chamber marks down Congressmen who did not vote for all the bailout and stimulus packages, did not vote for various alternative energy subsidies, and did not vote to expand college loan subsidies.
The victor of almost any new regulation or licensing program is typically incumbents, and particularly large incumbents. In my own business, there have been a series of new government regulations added over the years, with the effect that an industry formerly dominated by hundreds of ma and pa operators has consolidated to barely four or five players. No one else can afford the compliance costs. Licensing is almost always incumbent protection, and the government even frequently turns over the approval process for new entrants to the current incumbents (e.g. medicine and law). And subsidies are almost by definition support incumbents over potential new entrants.
Postscript: In terms of incumbent protection, keep an eye on carbon permits. There will be a ton of pressure to give free or discounted permits to current incumbents, as was done in Europe. This would be a huge structural barrier to competition, as incumbents can service their current market share for free but new entrants (or expansions of existing entrants) will require expensive new permits.
I found out today, the hard way, that Arizona has a law specifying exactly how a pool contract is to be paid for a pool construction or renovation job. Yes, we sure would not want to leave it to individual choice and negotiation to determine contract terms. The craziest part is that I am required, by law, to pay 100% of the cost of the job to the pool contractor before the gunite or finish coat of the pool is shot. In other words, I must pay all of the contracted price before the job is complete with no hold back.
This is absolutely crazy. I have never in my life not had a hold-back in a construction contract. Three times (all with my company) I have had contractors go bankrupt or disappear before the job is complete, in at least two cases leaving so much work unfinished that even the hold-back was not enough to cover the loss. Typically, contractors bolt before the punch list is complete, and only the hold-back keeps them focused at all on finishing the job to my satisfaction. I am not happy, particularly since Phoenix pool contractors are going bankrupt right and left in this economy.
This is yet another example where "regulation" in fact means "in the tank for favored industries that make campaign contributions."
Michael Smith comments over at EconTalk on a comment by one Mark K (via Cafe Hayek)
Mark K wrote:
These jokers on Wall Street, who according to Russ made "˜innovative' products like credit default swaps, showed us unregulated free market capitalism in all its glory.
The notion that we have an "unregulated free market" is false.
If we had an unregulated free market, the organizations and individuals that made stupid investment decisions -- those "jokers on Wall Street" -- would now be bankrupt, to be replaced by more competent organizations and managers. Instead, under the current system, they are "bailed out" -- at your expense -- and allowed to continue operating.
If we had an unregulated free market, the investment rating agencies that rated securities containing subprime loans as "AAA" would be disgraced, bankrupt and out of business -- no one on earth would deal with them any longer -- they wouldn't be able to pay people to use their services. Instead, under our current system, not only are all those rating services still in business, the S.E.C. requires that all issuers of investments use those rating agencies.
If we had an unregulated free market, no one would be forcing bankers to make riskier loans than they wish to, as is currently done by legislation such as the Community Reinvestment Act and threats of lawsuits from organizations like ACORN and from the Federal Government"˜s Justice Department (Clinton"˜s DOJ filed 13 major lawsuits against banks for failure to lend to "minorities").
If we had an unregulated free market, there would be no central banking entity in charge of a fiat money supply with the ability to:
a) Make vast amounts of credit available at below-market interest rates.
b) Follow such a persistent policy of inflation as to convince virtually everyone in the country that purchasing a house is "a good investment".
c) Eliminate ( or at least significantly reduce) risk aversion by guaranteeing bankers that they (the Fed) will always be there as "lender of last resort".
d) Condone and make possible a preposterously over-leveraged fractional reserve banking system under which banks currently hold total reserves of only about 4% and are thus extremely vulnerable to any sort of a run or loss of confidence in the bank.
If we had an unregulated free market there would be no quasi-government entities like Fannie and Freddie and the FHA to insure that trillions of dollars of that cheap credit made possible by the Fed was directed into the residential housing market, producing an unsustainable boom in housing construction, which, when it ends, leads inevitably into an economic bust.
If we had an unregulated free market, the Federal Government would not now be contemplating looting the American taxpayers of another trillion dollars or so to pay off various special interests that helped the latest collection of looters get into power.
We don't have an unregulated free market. We have a "mixed economy", with a few elements of capitalism struggling under the weight of literally thousands of pages of rules and regulations and dozens of government agencies interfering in virtually every aspect of our economic lives.
And under this set-up, it is you, the "little guy", the individual who doesn't have a powerful lobby in Washington to get the rules bent in your favor -- you, who cannot command an audience with Congress to beg for your personal bailout -- you, who can do nothing as government uses your funds to save the incompetent and the dishonest from the consequences of their own actions -- it is you who gets screwed.
We don't have an unregulated free market; we have an out-of-control government intent on looting us blind.
I have written on this topic quite a bit, but via Cato comes another great example of how licensing and regulation, while promoted as consumer protections, much more frequently are incumbent protection against new competitors. Cato has a video of some folks in Oregon who started a moving business, only to find that sate law effectively requires them to get permission of current moving companies before they can operate (apparently, someone in Oregon is enamored of medieval guild systems).
How the law works is that when a new mover submits his application for a business license, existing movers can file an objection (which apparently is pro forma). The new company must then justify to the state why another moving company is justified by the marketplace. Of course, absolutely no guidance is given how such a thing might be proven.
I would have found this unbelievable, had not my company faced the exact same requirement in another context. In Shasta County, California, we wanted a liquor license to sell beer at the store we run at McArthur-Burney Falls State Park. We were told that we could not have a license until we had proven to the County that there was enough demand for another liquor outlet. It was for our protection, they told me -- we wouldn't want you to get in a situation where you might fail.
I have written about liquor licensing before - if ever there was a regulatory regime whose time was long past, this is it. The extensive fingerprinting and background checks one must go through to get a license are outdated remnants of a concern for the return of organized crime, a problem that was obviated by legalization (so that, as usual, the government regulatory regime to fix a problem was instituted at the same moment the problem went away). Now, the liquor licensing process is used as a club by existing competitors to keep new entrants out. My bet is that organized crime is now on the other side of the fence, using the liquor licensing process to hammer honest competitors. And if you really want to see abuse, read the whole Rack 'N Roll saga by Radley Balko.
I bet you are just overcome with suspense wondering if we got our license. In Shasta County, we eventually succeeded, mainly because the store was in a gated park with an entrance fee, and we could make the argument that competition did not really cross the gates of the park. Years later, we lost a similar battle in Lake Havasu City, AZ, where a group of local business people have really organized the town to their benefit and use every tool they can, from zoning to licensing, to keep competitors out.
A few posts ago I discussed some of the onerous build code hurdles we had to pass in retrofitting our house to pass a pool inspection. In short, the code is designed to keep small children from getting out of the house on their own to a pool area. Dead bolts must be 54" off the ground where they cannot reach them, the doors must have automatic closers (and thereby be difficult for small children to open) and windows cannot open wide enough to allow the kids to pass. This is, of course, nominally for the safety of kids.
I pointed out one obvious critique of this regulation: the vast, vast majority of kids do not drown in pools by sneaking out of the house. They drown in pools when their parents know full well they are outside and fail to supervise them closely.
But I failed to discuss an even more obvious critique. Can anyone see any possible problem with making it impossible for small children to exit the house? Perhaps, say, in a fire? Once I bring my house up to code, because none of the children's wing of the house has any window or door except to the pool area, the state will have made it absolutely impossible for small children to escape in a fire. Yes, the state has forced me to turn the back of my house into a fire trap for kids. That is, of course, unless I reverse all the changes 5 seconds after the inspector leaves my property, which of course I would never, ever do because I am a good American who pledged allegiance to the state every shool day of my childhood.
Nothing makes purity more interesting than temptation. This applies to ideological purity just as much as the physical sort. As a libertarian, my greatest temptation to call for government action comes when I deal, as a retailer, with Visa and Mastercard (V/MC).
This post is not a call for government action, so I guess I am resisting temptation. But I at least need to vent, sort of like a monk pounding his head on the wall after getting the Victoria's Secret catalog in the mail. So here is my rant.
First, let's start with how credit card companies make their money. I will confess that I do not know how the card companies (V/MC) and the card processors (often large banks) split the take, so this is how they make money together. V/MC and the processors charge fees to merchants. Typically this is a fixed fee per transaction plus a percentage. On average, a merchant might be paying 2.5-3.5% of a transaction. The card companies also make money from card holders, charging annual fees, interest fees, etc.
You will have seen of late that most credit cards offer various loyalty programs, from airline miles to cash rebates. You might have thought those were marketing expenses paid by the credit card companies. Wrong. The card companies simply charge merchants a higher fee for processing transactions using these cards. In a sense, the card companies have organized with card users to use their power to extract extra value from merchants.
All of this I can generally live with. Visa and MasterCard, through both their credit facility and their implicit standardization, bring enormous value to retailers and customers. Its a big circular game anyway -- customers get 1% back and think they are getting a deal, merchants pay this extra 1% in fees, and then add it into the price of what they are selling. It's a wash, except to the extent that customers with reward cards in the end extract a bit of value from customers who pay cash (for reasons explained below).
For this value one must accept the typically arrogant and indifferent customer service provided by any monopoly (American Express is particularly awful to deal with as a retailer). But they are no worse to deal with than the government, so its unclear how the government could make the service any better.
What tends to tick me off, though, are rules and restrictions. Like the creeping work rules in the UAW contract, these are in many ways more insidious than the service and pricing. Here is what set me off today, from one of my card processors (in this case Bank of America, which, to be fair, is someone I would recommend for merchant account processing). Click to enlarge.
So, why are businesses breaking these rules so often? Let's take a look:
- No minimum transaction. Remember that V/MC charges a minimum fee, from 10-40 cents or so, per transaction. So if someone buys a pack of gum in our store, likely 100% of the sales price is going to V/MC. Typically it takes at least a one dollar total sale for there to be any money left over beyond paying cost of goods sold and the credit card folks. So merchants logically want to set a minimum. V/MC hates this practice, but it is rampant. I plead the fifth on our own practices.
- Surcharging. Credit card customers cost more than cash customers. Sure, we get some non-sufficient funds checks, but the eventual cost of these is nowhere near 2.5% of sales. Merchants logically don't like having their cash customers having to subsidize the frequent flyer rewards of their credit customers. However, unlike transaction minimums, card processors have mostly been able to drive out cash discounts.
- Requiring ID and Fraudulent Transactions. I will take these two together, since they are so ironic one after the other. V/MC is telling merchants that they can't check ID, which is the only reasonable approach to limiting fraud, but that they can't submit fraudulent transactions. You say that the text says "known fraudulent?" Well, read on --
To the latter point, I think most people assume that the credit card companies are absorbing the fraud, which is how they justify the fees they charge. Wrong again. Credit card companies only absorb credit risk. Over the last 10+ years, they have pushed fraud back on the retailer. If a consumer claims fraud on his card with some transaction, then the credit card company refunds the customer and takes the money from the merchant unless the retailer can absolutely prove he made delivery to the consumer personally (which he can't prove because he can't check identification) . Merchants bear the cost of fraud, not card companies. Which I could accept (since I have more ability than the card companies to control fraud) expect the card companies ban me from controlling fraud. So I have to take financial responsibility for something I am not allowed to prevent. And that really ticks me off.
Anyway, maybe someday we can organize a large merchant boycott, where, even for a day, we all refuse to accept Visa and Mastercard. Of course we would be breaking the rules, because that is not allowed by our V/MC agreement.
Postscript: I suspect that a few retailers with some power are starting to crack this, at least for themselves. Costco only takes American Express. Sams Club only take one card (MC, I think). My guess is that both, with their large size, bargained for exclusivity in exchange for concessions on fees and/or terms.
Postscript #2: I expect comments like, "Well so-and-so always makes me show an ID." I don't doubt you. I am merely saying that by doing so, they have either negotiated an exception to the V/MC agreement (very unlikely, as V/MC holds to these rules like the Maginot Line) or the retailer is breaking the rules.
Darin Morely sent me this. Woe be it to the upstart competitor with a new business model who challenges an incumbent with political connections. This goes double when the incumbent is the government itself:
One of the great things about the web, obviously, is that it allows for much more efficient communication that opens up new and useful offerings. For example: the web offers the ability to find other people traveling to the same general place you're heading and to set up a convenient carpool. It's good for the environment. It's good for traffic. It just makes a lot of sense. Unless, of course, you're a bus company and you're so afraid that people will use such a system rather than paying to take the bus. That's what happened up in Ontario, as earlier this year we wrote about a bus company that was trying to shut down PickupPal, an online carpooling service, or being an unregulated transportation company. TechCrunch points us to the news that the Ontario transportation board has sided with the bus company and fined PickupPal. It's also established a bunch of draconian rules that any user in Ontario must follow if it uses the service -- including no crossing of municipal boundaries -- meaning the service is only good within any particular city's limits.
All of us in the states need to be prepared for more of this corporate economy thing in the US. I saw last night on Sunday Night Football that NBC is really going hard on some green initiative, including having a green peacock. GE (parent company of NBC) is a smart company and sees the writing on the wall. It understands the new administration and Congress seem hell-bent on moving us to a more European model. In that model, there are 10-20 corporations per country that insinuate themselves into government and get the opportunity to help run the country to their own benefit. GE wants to be one of these chosen few. The push is going on not just at NBC, but in light bulbs (betting on Congressional action to provide regulatory support for a new type of bulb they have invented) and in power systems (who are making large bets on wind that will not pay off without a government subsidy program).
In the near term, GE may need a bailout in its financial arm. GE must have seen that GM made a huge public push for its Chevy Volt over the last 6 months, spending hundreds of million in advertising on a car that does not exist yet. Why would a company near bankrupcy do this? We now know the advertising was aimed at Congress and the Administration, not consumers, trying to burnish their green image to give Democrats enough political cover to vote for the bailout their UAW supporters so desperately need (any chapter 11 would likely result in enormous restructurings of union contracts).
From the WSJ:
Despite recent declines, prices are still higher than they were a
year ago. But the recriminations over what went wrong have begun,
complete with calls for more government involvement, efforts to make
the industry more transparent and reforms to restore market confidence....
"[the market] is out of control," says H. Djusdil Akrim, director of a
factory in Makassar, Sulawesi's biggest city.... "It's a wild, wild market
-- and no one is running it," he says. "I think we need more
No one knows when the market will hit bottom. Some
traders are sitting on stockpiles they bought when the market was hot,
and if global growth slows further, as expected, demand could weaken.
Whatever happens, the latest volatility is a wake-up call for the ... industry, which has been growing steadily for years.
I blame George Bush. Oh, by the way, the industry is seaweed.
One argument about regulation that seems to be gaining traction through the recent financial crisis is "See, private action and enterprise is not infallible. They can make mistakes that have costs for everyone. Therefore they need to be regulated."
I don't have time for the full refutation of this, but a few thoughts:
- No one ever said that private actors in the economy are infallible or even universally honest. However, no one has ever been able to make the case that government employees are any more infallible or honest.
- There are a couple of reasons government regulators are going to be demonstrably worse than the marketplace in making decisions. The first is information -- a few actors in Washington can never have the same access to information as thousands of actors across the country or around the world. The second is incentives -- while regulatory hawks cite private greed as a bad incentive in the marketplace, bureaucratic incentives can be at least as problematic.
- Governments are subject to all sorts of rent-seeking initiatives, not to mention regulatory capture, that undermine regulatory effectiveness. Just look at the bailout bill. Wooden arrows?
For some reason, the argument "private actors screwed up" seems sufficient justification for regulation. The burden of proof should instead be "the government could have done better."
Here is a nice example of how regulation really works, from an interview with Warren Buffett:
QUICK: If you imagine where things will go with Fannie and Freddie, and
you think about the regulators, where were the regulators for what was
happening, and can something like this be prevented from happening
Mr. BUFFETT: Well, it's really an incredible case study in regulationbecause
something called OFHEO was set up in 1992 by Congress, and the sole job
of OFHEO was to watch over Fannie and Freddie, someone to watch over
them. And they were there to evaluate the soundness and the accounting
and all of that. Two companies were all they had to regulate. OFHEO has
over 200 employees now. They have a budget now that's $65 million a
year, and all they have to do is look at two companies. I mean, you
know, I look at more than two companies.
BUFFETT: And they sat there, made reports to the Congress, you can get
them on the Internet, every year. And, in fact, they reported to
Sarbanes and Oxley every year. And they went--wrote 100 page reports,
and they said, 'We've looked at these people and their standards are
fine and their directors are fine and everything was fine.' And then
all of a sudden you had two of the greatest accounting misstatements in
history. You had all kinds of management malfeasance, and it all came
out. And, of course, the classic thing was that after it all came out,
OFHEO wrote a 350--340 page report examining what went wrong, and they
blamed the management, they blamed the directors, they blamed the audit
committee. They didn't have a word in there about themselves, and
they're the ones that 200 people were going to work every day with just
two companies to think about. It just shows the problems of regulation.
The problem, of course, is that Fannie and Freddie were doing exactly what Congress wanted them to do -- systematically lowering mortgage underwriting standards. They won't put it that way now, but that is what spreading home ownership to lower income families really amounted to.