Archive

Archive for the ‘Economics’ Category

Market Anarchism and the Circularity Problem

July 4, 2012 7 comments

One common objection to market anarchism is the charge of circular reasoning: in attempting to explain how a market anarchist system would work, market anarchists illegitimately assume the enforcement of property rights and contracts, which is precisely what they need to prove. Hence Lee (2008):

Anarchistic libertarianism illegitimately and self-defeatingly presupposes the existence of contract law in its account of how law and its enforcement would come to exist and have an ongoing role in an anarchistic society. (18)

And Morris (1998):

To suppose, for the purpose of demonstration, that there exists a perfectly competitive market for protective services would be, in effect, to suppose that basic security of person and goods—at least that necessary for the existence of a perfectly competitive market for protective services—is already established. The argument would be circular. (65)

(See also Holcombe 2004, p.332.)

These critics seem to take this circularity problem to decisively refute, or at least create substantial doubts about market anarchism. While I don’t think circularity rules out the possibility of market anarchism, I do believe it is an important problem for market anarchist theory, and that solving it will require considerable revisions to the theory, especially with regards to the role of market competition.

Analytically, the market anarchist project involves endogenizing the legal system and deriving the market anarchist system as an equilibrium outcome. In other words, we start from the state of nature, or the “market for protection”: a context with no enforcement of property rights or contracts. From this setting, the task is to show how anarchist legal institutions could emerge and persist. This means that it is invalid to assume that property rights are enforceable, or to assume the existence of institutions or mechanisms (such as market competition) which presuppose enforcement of property rights.

The circularity problem

Market anarchist theory puts a heavy analytical burden on market competition to show that market anarchism would have good consequences. Roderick Long (2008) argues that market competition provides a stronger constitutional constraint on power than any governmental constitution. This is because of the standard benefits of competition: producers must sell a product that consumers are willing to purchase; unsatisfied customers can take their business elsewhere; new competitors can enter the market and attract away customers; and firms that satisfy customers earn profits while firms that do not incur losses. Hence market competition provides a powerful constraint on the ability of protection agencies to use force. In law as in everything else, competition beats monopoly.

Note, however, that this argument runs into the circularity problem: since market competition presupposes enforceable property rights, the argument implicitly assumes a legal structure. But this is exactly what the market anarchist project must show, namely, how an anarchist legal structure could arise. When we analyze normal markets, we assume a legal framework, i.e., enforcement of property rights and contracts. Standard economic theory has worked out in detail what will happen in this institutional setting. In contrast, in the market for protection, we explicitly assume the absence of a legal framework; we want to derive enforcement of property rights as an equilibrium outcome. Hence, since market competition presupposes a framework of law, it doesn’t make sense to talk about competition in the market for protection as if it were the same as competition in normal markets. More formally:

  1. When treating the legal system as endogenous, enforcement of property rights is an equilibrium outcome to be derived, not a starting assumption.
  2. Market competition presupposes a framework of law, and especially enforcement of property rights and contracts.
  3. Hence, from 1 and 2, when treating the legal system as endogenous, market competition cannot be used to explain how enforcement of property rights is an equilibrium outcome.

In other words, without some reasons to think that competition in the market for protection works like it does in normal markets, appeals to market competition are illegitimately circular. (It seems obvious to me that competition in the absence of enforceable property rights and contracts does not work the same as competition in the presence of these things.) Long’s constitutionalist argument would work if it could be shown that competition in the market for protection has the same nice properties as competition in normal markets. But again, to avoid circular reasoning, this task must be accomplished without appealing to market competition.

But what about Long’s claim (141) that “a functioning market and a functioning legal order arise together; it’s not as though one shows up on the scene first and then paves the way for the other”? I disagree. If we take the chicken and egg question, it seems to me that law comes first.  Consider a state of nature: as Friedman (1994) argues, individuals could establish, without a state, at least limited property rights in possessions and land. This de facto law is the basis for market exchange, which then allows the development of more advanced legal institutions, which in turn fosters further market expansion, and so on in a virtuous circle. Hence I would define markets so that they presuppose a legal structure, which implies that law cannot be produced by the market.

(One might object: if some property rights can arise in the state of nature, why can’t competition be based on that? I agree that some beneficial competition could emerge; but this isn’t enough to warrant drawing on the strong results about normal market competition, as Long does. Regardless, this is a crucial question for future research: how does market competition work with imperfect property rights?)

None of this means that it’s impossible for an anarchist legal system to emerge in the market for protection (i.e., the state of nature); it just means that attempts to show this by appealing to market competition are invalid. The fact that a market presupposes a legal system does not rule out the possibility of a polycentric legal system.

Implications

Although the circularity problem does not mean market anarchism is impossible, I think it does show that the dominant approach to market anarchism is the wrong way to think about the issue. Up to now, most (all?) theorists have conceptualized market anarchism as privatizing the legal system, privatizing the police and courts, or turning the legal system over to the market. But due to the circularity problem, I think these approaches are incoherent: since the market presupposes a legal framework, it doesn’t make sense to talk about having the legal framework produced by the market. In general, any analysis of the market for protection that simply assumes that competition works like it does in normal markets is invalid.

What about David Friedman’s theoretical approach (e.g., Friedman 1996)? In principle, it is sound: assume an institutional setting, then derive the equilibrium. But it seems he too runs into the circularity problem. He beings his analysis as follows: “Imagine a society with no government. Individuals purchase law enforcement from private firms.” But the very act of “purchasing” requires that contracts are enforced, which in turn requires some pre-existing legal system, which is precisely what he needs to show. Maybe Friedman can show that these contracts would be self-enforcing, or that some other legal institution could enforce them, but until he does, his analysis fails to get off the ground.

So how should we think about market anarchism? I think a better approach to the question of anarchy vs. government is: the organization of violence in society. Here, market anarchism is just a polycentric organization of violence, whereas government is a monocentric organization of violence. Instead of viewing the anarchism debate as government vs. markets or monopoly vs. competition, see it as monocentric vs. polycentric organizations of violence. This approach avoids the circularity problem and allows us to get at the central issue: the properties of competition in the market for protection, or in other words, the properties of competition under imperfect property rights.

This approach is already being developed by the economics of conflict (see Bates et. al., 2002; Hirshleifer, 1995; Humphrey, 2010; and Konrad and Skaperdas, 2010). In this literature, the standard story is that unorganized violence is bad, but organized violence can be socially beneficial. Under unorganized violence, where all individuals use violence to defend property rights, the security of property claims depends on each individual’s ability to use violence to protect their property. Each individual must invest resources away from production and towards protection, which undermines the division of labor. Adding in the effects of the uncertainty of property claims and the possibility of violent conflict, unorganized violence appears to be wholly unsuitable for promoting economic prosperity.

In contrast, organized violence can be efficient if violence is used to protect property rights, and not for predation. Think of Olson’s stationary bandit, who has an incentive to provide security and enforce property rights in order to maximize his tax revenues. By having a specialist in violence, individuals can specialize in production, allowing an extended division of labor and thereby prosperity.

It seems to me that market anarchists can and should engage this literature on the question: which form of organized violence is best? As noted above, market anarchism is equivalent to a polycentric organization of violence. If anarchy is superior to the state, then it must be shown that a polycentric organization of violence is better than a monocentric one.

Bibliography

Bates, Robert, Avner Greif, and Smita Singh. (2002). “Organizing Violence.” Journal of Conflict Resolution, 46(5): 599-628.

Friedman, David D. (1994). “A Positive Account of Property Rights.” Social Philosophy and Policy, 11(2).

Friedman, David D. (1996). “Anarchy and Efficient Law.” In Sanders and Narveson (Eds.), For and Against the State.

Hirshleifer, Jack. (1995). “Anarchy and its Breakdown.” Journal of Political Economy, 103(1): 26-52.

Holcombe, Randall. (2004). “Government: Unnecessary but Inevitable.” Independent Review (3): 325-342.

Humphrey, Shawn. (2010). “Political Economy of Violence.” In Rhona Free (Ed.), 21st Century Economics: A Reference Handbook.

Konrad, Kai and Stergios Skaperdas. (2010). “The Market for Protection and the Origin of the State.” Economic Theory.

Lee, John Roger. (2008). “Libertarianism, Limited Government, and Anarchy.” In Long and Machan (Eds.), Anarchism/Minarchism: Is a Government Part of a Free Country?

Long, Roderick. (2008). “Market Anarchism as Constitutionalism.” In Long, Machan (Eds.) Anarchism/Minarchism: Is a Government Part of a Free Country?

Morris, Christopher. (1998). An Essay on the Modern State.

Advertisements

The Underpants Gnomes Theory of the State

You might be familiar with the underpants gnomes business plan from South Park:

File:Gnomes plan.png

It occurred to me that the prisoners’ dilemma (PD) justification of the state has a similar logic. The traditional story says that life in the state of nature is a PD, where everyone has the incentive to cheat rather than cooperate. But since everyone would be better off cooperating, they have an incentive to form a government that forces them to cooperate. Or, the underpants gnomes theory of the state:

1. People in the state of nature would benefit from establishing a government.
2. ???
3. Therefore, government.

What this justification skips over is an explanation of how people could establish a government. Government is treated as a deus ex machina, an “external” institution that is simply “given.” The traditional story throws rational choice out the window: instead of resulting from individual actions, government just magically pops into existence when its total social benefits outweigh total social costs.

(The absence of an explanation of the emergence of government from a PD game is quite puzzling when you think about it, since it’s not obvious how players in a PD could cooperatively set up a government when defecting is the dominant strategy.)

Jason Briggeman, in his paper “Governance as a Strategy in State-of-Nature Games,” (ungated) sets out to remedy this situation by providing the beginning of a rational choice model of the establishment of government. He creates a modified PD game, what he calls the “Prisoners’ Dilemma with Coercion,” where players have the option to adopt a coercive strategy and impose a strategy choice on another player.

As he writes: “To model this Hobbesian situation with the tools of game theory, it would seem to be required that society’s governor be an internal player who chooses strategies, not an external model-builder who sets payoffs.” It strikes me as odd that, given the widespread belief in the necessity of the state, something as important as a rational choice explanation for the emergence of government could have been ignored for so long.

The Paradox of Government

June 26, 2011 1 comment

If men were angels, no government would be necessary. If angels were to govern men, neither external nor internal controls on government would be necessary. In forming a government which is to be administered by men over men, the great difficulty lies in this: you must first enable government to control the governed; and in the next place oblige it to control itself. — James Madison, The Federalist No. 51

Quis custodiet ipsos custodes? — Juvenal,  Satires

Economic prosperity requires a legal system that protects property rights and enforces contracts. Establishing a legal system in turn requires an agency with a monopoly of violence—a government. Herein lies the paradox of government: an agency with a monopoly of violence has the ability to protect property rights, but it also has the ability to violate them. As Weingast writes: “The fundamental political dilemma of an economic system is this: A government strong enough to protect property rights and enforce contracts is also strong enough to confiscate the wealth of its citizens.”

The problem, then, is empowering government to subdue predators without letting it become an instrument of predation itself. This means giving government the power to protect property rights while at the same time preventing it from using this power to destroy property rights. How is it possible to simultaneously empower and constrain government?

The rarity of economic prosperity throughout history tells us that solving the paradox of government is no easy feat. But the existence of economic prosperity in the first world tells us that first-world governments have been able to find at least a somewhat good solution to the paradox.

So how can the paradox be solved? Given that government has the ability to do good (enforce property rights) and bad (destroy property rights), how do we give government agents the incentive to do good and avoid bad?

The traditional solution given by constitutional political economists has been: constitutional constraints. The point of federalism, separation of powers, and the rule of law is to structure government power in such a way as to limit how that power can be used.

And it seems like these constitutional constraints have worked. In the first world at least, government violation of property rights is fairly limited. There is little arbitrary seizure of property. Most restrictions on property rights come in the form of taxation and regulation, and these are institutionalized in the democratic process. Hence they are more regular than arbitrary, which is a good thing.

As I have argued elsewhere, market anarchism can be seen as the logical conclusion of constitutionalism and the best solution to the paradox of government. The checks and balances inherent in market competition are a stronger constraint on power than any governmental mechanism like federalism or separation of powers. Hence the principles of constitutionally limited government are most effectively realized in the system of market anarchism.

The case for market anarchism depends crucially on rejecting the premise that a well-functioning legal system requires a monopoly of violence. But it’s not clear that such a legal system can exist without a state. I plan to address this question in my future research.

Intranational Anarchy

The concept of international anarchy is well known: in the absence of a world government, the various states of the world relate to each other under conditions of anarchy. There is no ultimate authority to resolve disputes or enforce law among the governments of the world. Hence any cooperation between states must be cooperation under anarchy, without the intervention of a world government.

While it is commonly recognized that there is anarchy between governments, it is less well known, but equally true, that there is anarchy within governments. That is, just as the agents of different governments are in a state of anarchy vis-à-vis each other, so too the agents of the same government are in a condition of anarchy in their relationships with each other.

For example, under international anarchy, an agent of the Canadian government and an agent of the U.S. government interact without a world government governing their relationship.

Now consider two agents of the U.S. government. In their interactions with each other, they cooperate without some higher government ruling over them. Call this intranational anarchy: the agents of a single government are in a state of anarchy vis-à-vis each other. (See Cuzán’s paper “Do We Ever Really Get Out of Anarchy?“.)

On the classic Hobbesian account, cooperation and social order are not possible under anarchy. Without some ultimate third party authority to force people to respect property rights and fulfill contracts, cooperation is impossible and society breaks down into chaos.

When we observe governments and intranational anarchy around the world, the extreme Hobbesian prediction is clearly wrong. The internal relations of most governments, though anarchic, are fairly peaceful, and politicians do not battle each other in a war of all against all. So the question is: given that the internal relationships of a government are anarchic, how can cooperation and social order within a government be secured?

We know that the strict Hobbesian position is false. In small groups with repeated interactions and low discount rates, people will self-interestedly cooperate and respect contracts. Under these conditions, social order is possible without a state.

Can the logic of repeated interactions and reputation be used to explain social order in intranational anarchy? The answer seems to be yes.

The number n of the true rulers of the state, those who control its coercive power, appears to be small enough for repeated interaction to generate cooperation. And in running the government, the rulers are in fact in repeated interactions with each other, so cooperation would be the dominant strategy.

In addition, the nature of the organization of the state can explain cooperation. By cooperating to run the government, the rulers can enrich themselves by taxing the general population; by comparative advantage, this would be their most profitable employment. Hence a sort of honor among thieves brings incentives to cooperate.

One problem with this explanation is drawing the boundary between the rulers and the ruled. How do we identify the individuals that make up n? At what point does a government agent cease to be a ruler and become one of the ruled? A general in the military is definitely one of the rulers. A low-level bureaucrat in the post office is definitely one of the ruled. So the dividing line must be somewhere between the two. It seems that control over the coercive power of the state is the key. The more such control a government agent has, the more they are part of the rulers.

In sum, thinking about how government agents cooperate in intranational anarchy can illuminate our understanding of the state. One question for future research is explaining how the police and the military, as agencies of organized violence, can cooperate with each other.

Public Goods and the Presumption of Markets

January 4, 2011 1 comment

A widely held view in economics is that public goods must be provided by government. In other words, a sufficient condition for government intervention is that a good possesses the characteristics of nonrivalry and nonexcludability. If a good qualifies as “public,” there is a presumption that government intervention is justified.

I claim that this view is misguided. Specifically, I think there should be a presumption of market provision of public goods. Rather than automatically assuming that “publicness” justifies government provision, we should start from the position of market provision of public goods, and place the burden of proof on the advocate of government intervention.

The market is a self-correcting system: inefficiencies on the market create incentives for entrepreneurs to solve them. Of course, the whole point of public goods is that while entrepreneurs have the incentives to find a solution, they are unable to do so: free riders cannot be excluded, and hence it is unprofitable to produce the optimal amount.

This analysis, however, assumes that the ability to exclude nonpayers is a technological given. But in reality this is not true; technology is not fixed, but constantly changing. If it is not presently feasible to exclude free riders, then entrepreneurs will be looking for new exclusion technologies that allow them to capture the gains from trade. Excludability depends on technology; but since technology changes, new exclusion mechanisms can arise, meaning that the publicness of a good is not a fixed factor.

As a result, government provision of public goods will produce a crowding out effect. When government monopolizes the production of a good, entrepreneurs no longer have an incentive to engage in the creative discovery process of developing new exclusion technologies. Government intervention stifles innovation, and goods that could have become private will remain public. Hence the publicness of many goods provided by government is actually the result of their public provision, and not the cause of it. Government intervention becomes a self-fulfilling prophecy: markets cannot solve collective action problems because government crowds out market solutions.

But the most important reason for the presumption of markets is the fallacy of appeal to personal incredulity. This occurs when one reasons from “I cannot imagine how markets could provide this good” to “markets cannot provide this good.” But in fact an economist’s ability to diagnose public goods problems depends on their entrepreneurial ability.

Suppose an economist is also a creative and imaginative entrepreneur. When faced with a potential public goods problem, they will be able to imagine how markets could solve the problem through property or contract mechanisms, and so will reject government intervention as inefficient. But if, on the other hand, the economist is an incompetent entrepreneur, they will call for central planning simply because they personally cannot imagine any property or contractual solutions to the particular problem.

A very good example is James Meade, who argued that the positive externalities associated with honey bees would result in inefficient production of crops and honey. Because of the public goods problem, Meade argued, government intervention was necessary. In the real world, however, contracts between beekeepers and farmers solving this problem were commonplace. Meade’s failure of imagination led him to advocate unnecessary and inefficient government intervention.

Since creativity and imagination are scarce, economists are likely to be biased, as Meade was, in favor of government intervention. They will tend to underestimate the ability of property and contract mechanisms to solve supposed market failures. I submit that, to correct for this statist bias, there should be a presumption of markets. (In similar fashion, Bryan Caplan argues for a presumption of elasticity.) If we take into account the changeable nature of exclusion technology, the crowding out effect of government intervention, and the fallacy of appeal to personal incredulity, we find that the presumption should be in favor of markets, and that proponents of government intervention should bear the burden of proof.

Of course, this presumption is defeasible. Government provision of public goods can be efficient. The point of the presumption is to take into account and correct for interventionist bias. How can the presumption of markets be overcome? At the very least, proponents of government intervention have to do more than merely show that a public good exists. That was Meade’s error. I suggest that economists should: first, look at the real world to see if the problem really exists; and second, actually investigate possible market solutions before proclaiming “market failure!” This is an imperfect solution, but at least it’s a step in the right direction.