Post-Keynesian Observations

Understanding the Macroeconomy

Health-Care Economics: Part One

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Background Issues: A Framework

Given that yesterday, when I did the post on health care, was one of my busiest on record, I figured I had a social responsibility to do this properly. So, I’m setting out to do a multi-part analysis of the issues involved. I hope I can do this in a timely manner, as I have a ton of other stuff I should be doing instead!

I’d like to jump right into it, but it makes more sense to lay out some background first. And I want to start by addressing something I discussed in a post a long time ago, what the market does right. Much of what follows in the next few paragraphs is word-for-word from an earlier entry.

Markets as Tools

The market as a tool. It is a means of addressing particular social problems in the same way that a hammer is a means of addressing certain carpentry problems. If what you need to do is to drive nails into a piece of wood, then a hammer is ideal. But if your job is to cut a large plank into smaller pieces, you’re better off with a saw. You can use the hammer, but it will do a very poor job of it. Carpenters don’t view the choice of whether or not to use the saw or the hammer as one fraught with philosophical, moral, and religious implications. They decide pragmatically which one accomplishes their goal with the least effort and I suspect that they lose very little sleep over it. They are also willing to experiment to determine which one works best.

It is thus incredible and just a little frightening to me that there are people that practically worship the market as a gift from the gods while others see it as a manifestation of evil. To me, that’s a little weird. What if there were carpentry guilds dedicated to “hammer principles” and who thought that those using saws were corrupting the natural order of carpentry (or who thought hammers were the work of the devil)? We’d probably lock them up. But, I was at graduation a couple of years ago and the speaker (I can’t remember who it was–a state politician of some sort) made the statement, “And here in Texas, we still believe in the free market!” Not only did I sit there trying to figure out what in the hell that even meant or how it was relevant, but the whole stadium broke into spontaneous applause. I felt a bit like Indiana Jones in The Temple of Doom when he sees the worshipers at the altar. It was creepy.

Markets are not a natural and benevolent force allowing humans to be truly “free,” but nor are they exploitative and in the process of self destructing (see Karl Marx). The pragmatic approach says that we have social problems and that some of those are addressed very effectively by using Adam Smith’s invisible hand, while others are not.

For example, the market is a wonderfully effective tool for the production and distribution of consumer goods and services. It allows budding entrepreneurs to try their hand at being restauranteurs, clothiers, cobblers, educators, etc., and it makes their success a function of whether or not the general public is willing to give up their cash in exchange for their goods and services. That works very well in terms of making sure that which consumers want gets produced. One of my favorite things has always been how smoothly the system adjusts to change. If customers decide that they no longer want to eat seafood, seafood restaurants go bankrupt. You don’t need a new law to be passed, there are no forms to fill out, no five-year plans to adjust, no marketing surveys to conduct. It happens because the cash register till takes in less money than it costs to run the restaurant. And, whatever consumer now wants instead becomes profitable and thereby expands. The philosophy of pragmatism, you may have gathered from the above, encourages experimentation to find the best way to achieve a goal. With consumer goods and services, markets allow just that. It creates an avenue for people to be creative and it is conducive to social welfare. Returning to the carpentry analogy, if the market is a hammer, then consumer goods are–so long as certain critical assumptions hold true–a nail.

Capitalism as the Anti-Business System (or, Assumptions Necessary for Markets to be Useful)

Here is where you have to be very, very careful not to drink the Kool Aid and throw away all your tools except the hammer. It would certainly make life much simpler to believe that there was one solution that addressed all our problems, and it’s a very seductive thought. But, those critical assumptions are, indeed, critical. As a backdrop to discussing them, remember that capitalism is meant to be an anti-business system. Adam Smith wrote,

People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices.

The father of capitalism says that you can’t trust business people any farther than you can throw them. And that’s why he’s not really recommending free markets, but competition. It’s the key to transforming greed from an individual vice into a social virtue. Without it, greed leads to all the bad stuff you would think it did: high prices, poor quality, dangerous products, lack of customer service, et cetera. But, do free markets always yield competition and thereby avoid these problems? No, and that’s a function of the critical assumptions.

There are a number of things you can list, but I’ll stick with these as conditions necessary for free markets to yield competition:

* Many sellers: The fewer firms you have in an industry, the easier Adam Smith’s “merriment or diversion” scenario becomes. This became a particular problem around the turn of the last century, when new technologies and management techniques made it possible for a single firm to produce goods and services at a lower cost than many firms could (economies of scale). If, for example, a large factory allows one to cut costs per unit (think of building a car in Detroit vs. building them one at a time in your back yard), then if you are the first one there, you can drive everyone else out of business and destroy competition EVEN THOUGH IT IS A FREE MARKET. This is why we have anti-trust laws (even though these aren’t enforced as much as they used to be).

* Easy entry: The easier it is for you to enter an industry, the more competition there will be. Note that this is closely related to the item above: if entry is easy, there will be more firms; if not, there will be fewer. This one is very important if we want the market system to adapt quickly and the basic signal to entrepreneurs will be profits. If they see high profits, they enter the industry. This presumably means that consumers are getting more of what they wanted. Possible barriers to entry include government regulations (both those that we think are useful and those we don’t–in the case of the former, it is necessary to weigh the costs and benefits), ownership of resources (if I legally own all the oil in the world, guess how many oil companies there will be!), intellectual property, customer loyalty, and economies of scale (that same ability to produce at lower cost with one firm mentioned under “many sellers”). Note that all of these but the first one are possible in a free market.

* Homogeneous products: Or at least very similar. If people prefer Big Macs to Whoppers, though, then this means that McDonald’s has market power. They can charge more than they would be able to in a world where hamburgers were just hamburgers. This is another one where you have to consider the costs versus benefits. Do you really want a world where we just have “hamburgers?” Maybe not, but know that you, the consumer, are surrendering power to the firm–and they are greedy bastards and will find a way to take advantage of you! For example, I remember back when the Sony Walkman first came out, I got one and wore it constantly (U2, The Clash, Elvis Costello, English Beat–real music!). But, you went through a fortune in batteries, even if you were just sitting in the library or at home where you could have plugged it into a wall socket. So I looked into buying an adapter. Here was the trick–Sony made the plug in on the Walkman a special shape so that you had to buy their adapter, despite the fact that it was identical to the one you could get at WalMart for 1/4 (literally) the price. Market power. See also, IPod (which is why I refuse to own one and instead have a Creative brand MP3 player).

* Plentiful and accurate information for buyer and seller: This one is very tricky. What if the seller knows a lot more about the product than you do? They have every incentive to make sure they do, and they have all the tools. They sell whatever they are selling every day of the week, whereas you only buy it periodically. And whether or not they can feed their family is a function of how much they can charge you. With simple products or products you buy regularly, you can become fairly knowledgeable. I’m sure you have seen shopping at Home Depot or Lowe’s the people who look like they probably work in home construction. They know what they want (and what they don’t want), how much it should cost, and what features it should have. Those of us going in for the occasional home repair, however, can really be taken for a ride–and that’s what the seller is hoping. I guess I’m naturally skeptical and so I never take a sales person’s word for anything. Especially if it’s going to be a major purchase, I do a lot of research before going to the store (it’s interesting that because of that, many firms now have very little markup on the major items but huge ones on the minor accessories–witness, for example, HDMI cables for HD TVs, and the fact that perfectly good ones can be purchased on the internet for around $5 when the in-store price is closer to $50). The internet (a government project, incidentally) has made it much easier for the consumer to gather information, but the more complicated the product (cell phone contracts, health insurance), the more likely the consumer is to be a victim of “a conspiracy against the public.” Again, this is all free market stuff. You don’t need the government for competition to be impeded. In fact, part of the government’s job is to act to protect the consumer where violations to the assumptions have occurred.


The point here is that by no means does the existence of free markets guarantee that the greed of business people is channeled into public good. Their goal is profit, not pleasing the customer. And only under specific set of circumstances are those two linked. This is not to say that this never occurs–of course it does, many times over in our economy. In those instances, the free market does, indeed, provide what we hope it does. But, as Adam Smith warned in 1776, business people act on their self interest, and they are therefore constantly looking for ways to violate the assumptions listed above. That’s their job, particularly if they have stockholders. The job of economists and policymakers, however, is to monitor those conditions make sure that they are unsuccessful. What we have to guard against is something that business would dearly love for us to believe: that free markets and competition are the same thing (I actually think most of them honestly believe this–I’ve never been much of a conspiracy theorist). That leads the door wide open to active pursuit of violations of the above assumptions, and every time the government tries to act to block the firm, the latter will call out, “but you are interfering the free market!!!!”

Before I leave this, my underlying point here is this. It is a dangerous oversimplification to believe that markets are good and government is bad. Not only is that a false dichotomy in the first place, but what we need to fear is power in the hands of those we cannot make accountable. In politics, accountability takes place via the voting booth; in a market economy, it’s in the consumer’s dollar. Neither is by any means fool proof, but while people seem to understand that in politics, they don’t blink at corporate power and rather see it as some sort of symbol of the victory of markets. But there is absolutely every bit as much greed and corruption in business as there is in politics, and the two can cross over. In fact, maybe we need a 21st century version of Adam Smiths’ warning:

People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy to violate the assumptions necessary for free markets to yield competition, or in some contrivance to affect the political process for their gain


Doesn’t really flow as well, but it’s much more to the point. Remember it throughout the discussion that will follow! Accountability is the key, not “free” markets. One of the keys, of course, will be to determine how well health care fits the assumptions listed above and, if not, what sort of reforms could bring it closer (whether those reforms result in more or less “free” market).


Written by rommeldak

March 24, 2010 at 10:09 am

Posted in Uncategorized

Tagged with , ,

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