The Anti Rent-Seeking Amendment, Part I: Definitions
by James Hanley
Last week I mentioned my proposal for an anti-rent seeking amendment to the U.S. Constitution. I was asked how I would phrase it, and what it would do. Those are fair questions, plus I’d like to seriously get this idea some more exposure, so I’m going to answer them directly and fully. But I worry that without first having a discussion of what rent-seeking is, we may inadvertently end up talking at cross-purposes. So I’m writing this in two parts: This first part is a discussion of what rent and rent-seeking is; the second part, to be posted later, will contain the proposed amendment with explanation.
In the interests of not being too TL/DR, I’ve resisted the temptation to go into detailed explanations here in part 1.* I can, though, in the comments, if the brief explanations here are insufficient.
I want to begin with definitions of rent and rent-seeking because Patrick Bridges asked:
how do you define rent seeking … Sometimes it seems rent-seeking is the term used for “anything I don’t like” in certain crowds…
Respectfully, I don’t share that impression, but the fact that Patrick has that view indicates the need for a working definition to which we can all refer. I’m not going to try to be clever here and make any new or original arguments, but will just work from standard economic definitions.
Rent: Not what you pay your landlord, although there’s a historical connection to the concept. Instead, rent (aka “economic rent”) is a payment greater than what is needed to keep some resource (whether land, labor, equipment or entrepreneuer) in its present use (see the Concise Encyclopedia of Economics.)
For example, if a ballplayer said (and meant it), “I love this game so much I’d play it for free,” then $1 in salary would be $1 in rent, because in its absence he’d keep playing.
Rent isn’t inherently bad. It can motivate entrepreneurship and innovation, because if you can make something everyone wants that nobody else can make (yet) you can earn the rents of a monopolist on that product. But that’s only temporary, as competition eats away at rents as competitors seek to gain more sales by underpricing each other.**
Rent-Seeking: Although any effort to procure rents (including innovating new products, or negotiating a higher wage than you’re willing to settle for) could logically be called an effort to seek rents, the term rent-seeking is restricted to the activity of “people lobbying of government to give them special privileges” (Concise Encyclopedia of Economics). As Anne Krueger, who coined the term, put it:
“[G]overnment restrictions on economic activity are pervasive facts of life. These restrictions give rise to rents of a variety of forms, and people often compete for the rents” (“The Political Economy of the Rent-Seeking Society”).
Or from Joe Stevens’ The Economics of Collective Choice:
[R]ent-seeking is attempting to use the political process to allow a firm or group of firms to earn economic returns in excess of their opportunity costs.”
Types of Special Privileges that Produce Rent and Their Effects
Types of special privileges include monopoly and cartel protections, subsidies, tariffs and quotas, preferential tax treatment, and barriers to entry such as occupational licensing. In general, the effects of these special privileges are to limit production to limit consumer choices and drive up prices (harming consumers), and dead-weight economic losses. I’ll discuss a few of these privileges in the context of those two harms.
While consumers are harmed by rent-seeking, some of the benefit to producers flows to workers. This raises Rod’s prior question about the validity of distinguishing between consumers and workers:
I don’t quite understand this meme of consumers on the one hand and workers on the other, as if they’re two separate categories. You do understand that those Venn diagrams overlap about 90%, right? In fact, the category of workers is completely contained within the category of consumers, correct?
There’s no disputing that all workers are consumers. However not all consumers are workers in privileged firms. Workers in privileged firms/industries benefit only from their own firm’s privileges, while in their consumer role they are harmed by any other firms’ privileges. And all workers in non-privileged firms gain no benefits at all from that rent-seeking, but as consumers are harmed by all the privileges given to other firms. And if every firm or industry was privileged with protection from competition their workers wouldn’t actually be any better off in their consumer roles than if there weren’t any such protections. The benefit comes only if only some get privileges, and only to those that get them, and that benefit comes at the expense of those who aren’t privileged.
Let’s consider OPEC again. They agree to restrict production, which raises prices, harming consumers (technically, shifting consumer surplus to the producers). But some producing countries always succumb to the temptation to cheat, others follow suit, production rises, and prices return to more competitive levels, restoring the consumers’ surplus. But what if there was a global regulatory authority that could enforce production limits on OPEC? Then we’d all be paying higher prices in perpetuity. This is what happens with regulated cartels.
Although collusive behavior is illegal under U.S. anti-trust law because of its harm to consumers, regulate–officially authorized–cartels are legal despite their harm to consumers. Cartels or cartelish structures are found in many American industries, particularly agriculture, where oranges, dairy, almonds, and a variety of other products are marketed through cartels. The orange cartel limits production to the point of destroying overproduction, simply burying them them or leaving them to rot on the ground. They also prevent price competition by not allowing small, mis-shapen, or discoloured oranges on the market, because they can’t sell for as much, but some consumers might actually prefer ugly cheaper oranges over prettier but more expensive oranges.
Tariffs and quotas (which are functionally identical) also restrict choice and raise prices. If there is a tariff on imported cars, for example, it harms those who prefer foreign cars by either forcing them to pay more than the would have to pay in a competitive market or by pricing them out of the foreign car market so they have to settle for a car that is less satisfactory to them than a foreign car. The tariff also raises the price of domestic cars, by reducing cost-cutting competition (it was relatively easy for the Big 3 to collude when it was just them, but now that Honda, Toyota, Subaru, Mercedes, Nissan, Volkswagen and BMW all produce in the U.S., the market has become more competitive (even though not all of that production is for the U.S. market).
Probably the most controversial claim I’ll make here is that occupational licensure requirements are a form of special privilege that grants rents and harms consumers. This is where I most risk losing agreement from my liberal friends, who worry that eliminating occupational licensing puts consumers at risk from frauds and charlatans. I could discuss this at length, and if requested will do so in the comments. But to keep this post reasonable in length, I’ll just make three brief points about licensure:
- Occupational licensing does not mean an end to regulatory requirements for safety and health. For example, I used to drive a cab, for which I had to earn a cabbie’s license. Eliminating that special license would not mean that I couldn’t be required to have a safe driving record, or that the vehicles I drove could be required to go through regular safety checks.
- Licensing should not be confused with credentialing. Those with credentials could charge more because they’d be more trusted. Those without credentials would find it harder to get customers, would have to charge a lower price, and would find it hard to retain customers unless they proved themselves in performance.
- While the public tends to believe that occupational licensing is for consumers’ benefit, occupational licensing laws are most often sought after by practitioners in the various industries. Liberals don’t generally believe businesses have the customers’ best interests at heart, and I only ask them to consider that general position here as well.
Dead-Weight Economic Loss
Rent-seeking is a drag on the economy. The dead-weight economic loss is the cost of the expenditures spent on seeking rents. The political transfer of wealth is not itself a dead-weight loss, but the money spent on seeking the transfers is money spent on an economic activity that produces no net value. As Robert Tollison notes:
Perhaps the most useful way to think about rent-seeking is in terms of using real resources to capture a pure transfer. Since expenditures to take a dollar from A and give it to B produce nothing, they are wasted from the point of view of the economy at large; they are zero-sum at best and are probably negative-sum. (“Is the Theory of Rent-Seeking Here to Stay?”)
It’s not really possible to accurately calculate the deadweight loss from rent-seeking, but there’s good reason to think it’s very substantial. In 1988 David Laband and John Sophocleus estimated that rent-seeking “cost the economy an additional 22.6 percent of measured GNP in 1985,” but added that they “are the first to admit that our results are suggestive at best, owing to the inherently difficult task of measuring rent-seeking with any degree of accuracy” (“The Social Cost of Rent-Seeking: First Estimates”).
Matthew Mitchell estimates that between 1980 and 2011 rent-seeking reduced the potential per-capita production in the U.S. by around $11,000, and references others’ research showing 1) that according to IMF research on the financial crisis “those lenders that lobbied more intensively tended to take on more risk [and] delinquency rates were higher in those areas where lobbying lenders aggressively expanded their lending practices,” resulting in them having larger losses and more need to be bailed out, 2) that politically connected firms are more likely to be bailed out when they are failing than similar firms without connections, and 3) that firms that lobbied aggressively got $400-$500 in TARP funds for every dollar spent lobbying.
And in an NBER working paper, Fogel, Morck, and Yeung, demonstrate that business stability–“low turnover of dominant businesses…related to high government spending, high regulatory barriers to entry, Civil Code legal systems, bank-centered financial systems, weak outside shareholder protection, and trade or capital barriers”–is negatively associated with economic growth. They measured “the stability of the largest businesses in 44 countries over 1975 to 1996,” and found that “Economies with less persistently dominant large businesses grow faster than other countries with the same initial per capita GDP, level of education, and capital stock.”
So however difficult to measure precisely, it’s clear that rent-seeking by firms–or more precisely, rent-granting by government–is a substantial drag on the economy, meaning lower incomes and wealth for most Americans. This is not simply a libertarian position. Ralph Nader, in a co-authored 1973 Yale Law Review article wrote:
[B]ecause public policymakers have not confronted fundamental questions about its purpose, present economic regulation lacks both a comprehensive theory and a consistent goal… our unguided regulatory system undermines competition and entrenches monopoly at the public’s expense…
While few would deny that government regulation for public health and safety is essential, the verdict is nearly unanimous that economic regulation over rates, entry, mergers, and technology has beeen anti-competitive and wasteful. (“Economic Regulation vs. Competition: Uncle Sam the Monopoly Man.”)
40 years later, policymakers still have not addressed this issue. The anti-rent seeking amendment seeks to force them to address it at the constitutional level. In my next post I will present the proposed–and tentative–text of the amendment, with explanations and examples of how it should work.
* The old saw about it taking more time to write briefly was never more true than here. This is the 4th draft, and each previous draft was considerably longer. If you feel my post lacks adequate detail and depth, I agree, but that’s the consequence of trying to keep it to readable length.
** Some will dispute this point and argue about collusion in unregulated markets. I agree that collusion can happen (even Adam Smith insisted upon it), but hasten to note that it is a classic collective action problem; it can happen when there are few involved, but not when there are many involved, and the rents earned by collusion are often its undoing, as 1) those involved are tempted to cheat and produce extra to earn even more rent, thereby driving down the price and dissipating those rents (see the history of OPEC), and 2) the existence of rent attracts competitors who want a piece of the pie. Long term, collusion nearly always breaks down, and the more firms involved and the higher the rents, the more quickly it breaks down. The only way to keep collusion going among multiple firms over the long-run is through regulated cartels, which are an example of rent-seeking.