David R. Henderson  

Henderson on Cronyism

Gary Gorton's forthcoming book... Bill Dickens on Me on Poverty...
So, why does cronyism occur? In my paper, entitled The Economics and History of Cronyism, released today by the Mercatus Center, I cite two factors: government power over the economy and the discretionary power available to particular government officials. If there was ever a doubt that this connection existed, consider this study from MIT, which shows that in the days following the leak of Tim Geithner's appointment to Treasury Secretary, stocks of firms having any pre-existing connection to him jumped by about 15 percent. Clearly, the market expected firms that were connected to Geithner to do better, all other things equal.
This is from my op/ed, "The Growing Dangers of Cronyism," in Real Clear Policy, published today.

In the study, I tell my favorite story of cronyism in U.S. politics, which is not a new one but is one told by Robert Caro. Here's an excerpt from the study:

Between December 1939 and January 1943, despite countless attempts, the owners of Austin, Texas, radio station KTBC were unable to get permission from the Federal Communications Commission (FCC) to sell the station. But on January 3, 1943, the wife of a Texas congressman filed her application to buy the station and 24 days later, after waiting more than three years, the owners were allowed to sell. The congressman's wife paid $17,500 for the radio station. In June 1943, she applied for permission to operate 24 hours a day, up from daylight hours only, and at a much better part of the AM frequency. The FCC granted permission one month later. While all this was happening, the FCC was under attack by another powerful congressman, Eugene Cox of Georgia. The aforementioned Texas congressman strategized secretly with FCC official Red James and used his influence with Speaker of the House Sam Rayburn to deflect the attack. In fact, James later admitted that he had recommended to the congressman's wife that she apply for the license. In 1943, the congressman and his wife had a net worth of approximately zero. But by 1964, when this congressman was elected president of the United States, Lyndon Baines Johnson and his wife's net worth was at least $14 million. The radio station's value accounted for about half of this $14 million.

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COMMENTS (11 to date)
david writes:

On Cox:

In 1943, Cox sponsored and chaired a select committee whose mission was to investigate the Federal Communications Commission. Cox clashed strongly with FCC chairman James Lawrence Fly, who regularly released press statements attacking Cox and the committee. However, it was revealed that, shortly before the investigation began, Cox had been paid to represent a private party seeking favorable action from the FCC. Commissioner C. J. Durr petitioned Speaker of the House Sam Rayburn to remove Cox from the committee for conflict of interest, but Rayburn, a personal friend of Cox's, referred the issue to the Judiciary Committee, which concluded it had no authority in the matter. The original conflict of interest led to a criminal inquiry of Cox by the U.S. Department of Justice, and destroyed the credibility of his investigation of the agency to such a degree that Cox was forced to give up his committee seat.

So it appears that it taints everyone.

I suspect many believe that where concentrated wealth exists, politicians and bureaucrats will feel obliged to defer to it regardless of whether corruption of formal powers actually occurs. Singapore and Hong Kong are both famously non-corrupt, yet have politics heavily influenced by a handful of connected wealthy families.

david writes:

I mean, suppose that the government is at present not extractive in some way. Observe that if it is at all plausible that it could become overtly extractive, say if the present regime falls, the strongman now can extract payments from cronies merely for the 'favour' of not restricting their free trade. Hence, strongman governments in Southeast Asia and central Africa often have had cronies from politically weak groups, like ethnic minorities.

AJ writes:

The cronyism on LBJ's station is even worse than you describe. The TV station was the only one in the country which could run material from all three networks (ABC, CBS, NBC). And No other TV stations were allowed in Austin with any Network connections or prime bandwidth. This existed for many many years - well after LBJ was president. I don't think other stations with normal rights were allowed in the market until the 1980's.

The value of this cronyism went many multiples beyond $14 million.

LBJ was the ultimate crony politician. Some of this is detailed in Caro's big biography of him.


Ted Levy writes:

Professor Henderson, what is your response to those who say that what you describe as cronyism, while regrettable, is the essence of capitalism, that it is the historical norm of capitalism, that it is impossible to prevent in a society based on democratic capitalism?

What do you say to people who argue that the only choice is between ever greater attempts to pass more punitive regulations to prevent such improper activities, and giving up on democracy itself...?

MikeP writes:

I am not Professor Henderson but I would say, what "ever greater attempts to pass more punitive regulations" are you talking about?

Invariably, regulations are captured by politically powerful interests from the get-go and immediately diverge from the interests of the general public. Have you got any examples of these "punitive regulations" you have in mind?

david writes:

I think Ted Levy has in mind campaign finance laws, and assorted attempts to restrict conflicts of interest amongst legislators - like forcing them to liquidate assets or assign them to blind trusts, or complete disclosure of wealth, or prohibiting revolving doors by attaching no-compete clauses to civil servants.

Observe that this tends to create a political culture of career politicians and bureaucrats relatively hostile to business at all, though.

Ted Levy writes:

To david and MikeP: Actually *I* don't have campaign finance laws or anything else in mind, per se. I am in complete agreement with Professor Henderson, both in his critique of cronyism and his recommendations for rooting it out.

The point of my initial comment was different, and apparently unclear, so let me take a second stab. Many non-libertarians, in my experience, when the difference between cronyism and free market capitalism is explained, yawn and say something like, "Well, that's just your theoretical rationale. In fact, in history, there's never been anything like a free market, it's just a theoretical construct. The REALITY is that cronyism is all there is...if we have no regulations, we get cronyism writ large, with "multinational corporations" taking over. If we have bad regulations we get the kind of cronyism that Henderson talks about. But it is pure fantasy to think we can have no cronyism just by restricting government. The only hope is to write BETTER regulations...y'know, like the one's *I* favor."

It doesn't really matter WHAT follows...what silly little idea they have that will FINALLY, in their minds, stop special interests from "regulatory capture." What matters is they can't conceive of a free market that doesn't degenerate into cronyism. And historically, it IS much easier to point to cronyism than to pure free markets...

So my question is how does a good professor of economics deal with that kind of response?

Jim Rose writes:

I have just finished reading robert caro's latest volumne on LBJ covering 1958 to 1964. Caro is very insightful on JFK too.

like Marcos, LBJ's only known income was his government salary and Lady Bird did not have a job nor have independent wealth.

It must be like when Imeda Marcos said, when asked to explain how her husband got his start in terms of intial capital to become so wealthy, she said they were very frugal.

david writes:

@Ted Levy

You don't; they're right. The only escape route is to argue that government is Just As Bad Or Worse for whatever rational-choice/etc. reason.

Try not to mention constitutional restrictions on Bad Government, though, or you'll get the entire civil rights movement tossed in your face. You need institutional interests above and beyond a malleable text. This isn't surprising: if there is to be a balance of power, the relevant bureaucrats and politicians actually need an incentive to push back.

Don't mention "tort" either, you'll get clubbed with the rhetorical hammer of the Lochner court.

Shayne Cook writes:

@ Ted Levy:

I teach college level economics (part time). I'll let you decide - after I attempt to answer your question - whether I'm qualified as a "good professor of economics".

First ...
I concur with your acknowledgement that "cronyism" is going to exist, and does exist, anywhere and everywhere. But even "cronyism" requires cooperation ("cronyism" IS cooperation). And there are only 2 ways of inducing cooperation: a.) Persuasion, and b.) Coercion. Government always has the right to apply persuasion to induce cooperation, as does everyone else. But it seems Government claims exclusive right to apply coercion to induce cooperation.

As to your "BETTER" regulation[s], I would suggest that the standard for "better regulation" is where Government only applies its exclusive right to apply coercive force to make certain no non-governmental entity applies coercive methods. Non-governmental entities must rely on persuasion alone to induce cooperation. Any application of Government's exclusive right to use of coercion applied to two independent (non-governmental entities) to transact is a market intervention and market distortion, not a "BETTER" regulation.

As to how this affects Capitalism ...
First, I'm a Capitalist - through-and-through. It's my full-time job and I'm fairly good at it. And as a Capitalist, I really don't care much about how/why Government regulates anything. As a Capitalist, I only have to know - explicitly - that every time Government inserts itself into a market, it will create cash flows that otherwise wouldn't exist, and possibly (probably) will detract from cash flows that did exist. All I have to do is to remove myself and my capital from the degraded cash flows and re-insert them into the new cash flows - artificially created by Government's market intervention - and snatch some of it as it goes by.

Now I would personally prefer that Government NOT intervene in markets, but only because I'd prefer to apply economic principals, rather than "politics", to help me determine, recognize and find cash flows to insert myself and my capital into. But frankly, the cash flows will exist, irrespective of whether they are caused by market forces (persuasion), or Government (coercive) intervention.

Shayne Cook writes:

@ Ted Levy:

Apologies - I misspelled "principles" within the context and meaning I was attempting to convey above. My bad.

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