David R. Henderson  

John Goodman on Government Failure

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Why is our perspective so different from so many other health policy analysts? I think the answer is: the vast majority of people in health policy do not understand the concept of "government failure." For example, health economist Austin Frakt, following Nobel Laureate Joe Stiglitz, produced a list of "market failures" in health care and in health insurance at his blog the other day. These include imperfect competition, unequal access to information, external costs and benefits for others generated by private activities, etc. He then offered this observation:

In principle, government intervention can increase that benefit (economic welfare) in such cases. In practice and in some cases, it's debatable.

How does Austin know that government "in principle" can solve these problems without a model of government decision making? He can't. Moreover, it turns out that many of the factors alleged to cause "market failure" also contribute to "government failure." In fact, in the political sphere their impact is much worse. Here is the bottom line: There is no model of government decision making in health care (and in most other areas as well) that shows that government will reliably improve upon the market. (At least a real market.)

This is from "Government Failure" by John Goodman. The whole thing is worth reading. He lays out some reasoning, based on a more-complex model, to show that if government does actual respond to people, you get an inefficient outcome. What he's saying, in essence, is:

"OK. Let's say you've shown me a market failure and then you propose a government solution. It was your reasoning about the incentives driving market participants that led to your conclusion that the market has failed. So we can't drop reasoning about incentives in midstream. Let's look at how government decision makers respond to incentives. And the result isn't pretty."

This is what I was saying in this post last summer.

Economist John Seater has an excellent comment also.

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CATEGORIES: Public Choice Theory

COMMENTS (10 to date)
Ian Kodanik writes:

The evidence is too overwhelming: health savings accounts work. That's why insurance companies, hospitals and the AMA will never let them stay. Hey, if there's a real market, there's price competition. That means patients would have to pay the market-clearing price, not the fixed prices currently being charged.

Devon Herrick writes:

I have a simple explanation of why government failure is more common that market failure. Markets are held accountable by competition. For instance, some critics of private health insurance argue health insurers have little reason to compete to retain the business of people who become sick while enrolled in a sponsored plan. To critics, this is an example of market failure in health insurance and why government should intervene. Yet, if my insurance company gets a bad reputation for not covering claims, I’m going to switch to a competing firm that honors its obligations. There are also laws against this behavior. In markets, competition is also driven by individuals making decisions at the margin for the goods and services they are willing to pay for.

By contrast, governments (i.e. politicians) have a long history of providing public services and paying for them by making claims on future taxpayers (many of which have not yet been conceived and thus cannot vote). The only competition among politicians is about which party is willing to promise more services paid for by pushing future taxpayers further into debt. Providing services collectively and paying for them collectively (as a way to attract voters) can never achieve the efficiency of competing firms competing for individuals’ business.

Joe Barnett writes:

When people see government as the solution, their unstated assumption is that the people in charge will share their values and motivations -- which are benevolent. But motivation (profit-seeking, efficiency maximizing, or disinterested benevolence) isn't the problem. Government intervention or provision in health care, as in other markets, distorts prices, which provide essential information. The more distorted prices are, the more difficult it is to act in a welfare increasing way. (Under pure socialism, as von Mises argued, it would be impossible to allocate resources.) Governments try to get around this problem by creating ersatz markets (health exchanges) but with less information, failure is more likely, not less. This is one reason government failure is more pervasive than market failure -- even with the best of intentions.

John V writes:

I am glad to see this line of reasoning get some attention. I find it startling it isn't discussed more.

I find it hypocritical and shocking that the same economists who look for any reason to cry "market failure" and propose policy solutions never run government through the same stringent gauntlet of criteria. It's a simple and damning concept that needs more attention. These economists treat markets as being so fragile and easy to disregard from being reliable. YET, the look on government like a 2 year old looks at his parent...uncritical and unquestioning.

Mike writes:

Precisely. I once saw Stiglitz give one of his papers where he showed how intricate taxation could correct a market failure. I asked him why he believed the government would solve this problem and why there would not be a government failure. I mentioned James Buchanan's views (this was in the 1980s). He had no answer. He just repeated that there was no real reason to question that the government would do it. There is a word for this: statism!

Brian Williams writes:

Has any government ever turned out a good car or piece of furniture? How much energy does the Department of Energy produce? How are things faring in North Korea and other nation-states where government is the solution to all problems?

Answer those questions and I think you’ll know why government failure is more common and more harmful than market failure.

Doc Merlin writes:

So, true; I wish economists would stop thinking of government as a magical tool that doesn't respond to incentives.

fundamentalist writes:

Good article! Thanks!

Show me a market failure and I'll show you how government hog tied, bludgeoned the market to death and caused the failure!

PS, "perfection competition" is neither perfect nor competition. It's socialist fantasy land. Even the commodity market doesn't work like a perfect market. Anyone notice the different prices for different grades of oil?

Floccina writes:

I am very libertarian but the article and the comments make me think, how does socialized medicine perform as well as it does in Canada and in Europe. My answer that it actually combats and reduces the huge problems already present in the USA system due to excessive licensing. That it to some extent addresses voter failure. Voters are easily fooled into supporting excessively tight licensing but once Government has monopsony power they can squeeze these excessively educationally qualified providers. This causes shortages but also lowers cost. It lowers the educational qualifications of providers but those were way to high and not very well targeted anyway.

Brian Williams wrote:
Has any government ever turned out a good car or piece of furniture? How much energy does the Department of Energy produce?

But Governments in some areas do produce electricity and clean water.

I think democrats might respond that government saves on marketing.

My own thinking is that much of what Government provides including (maybe especially) health care would be best provided through not for profit organizations. In health care I think that religious and mutual aid societies might be best suited to make end of life decisions where local high trusted people are the leadership and so make the decisions. The leadership would be voluntary and convey high status and rotate so that many get the chance and so be OK with very difficult decisions.

John Goodman writes:

Floccina: Why do you think socialized medicine works well? Perhaps you are thinking that it doesn't seem to be that much worse than the US system. And you are right.

We have so suppressed the market in health care in this country that there isn't that much difference, for example, between the US and the Canadian health care systems.

Did you know that the percent of health care spending that is out-of-pocket in the US is below the developed-country average. In all developed countries, third-party bureaucracies completely dominate the system.

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