Why the Regulatory State Benefits the Rich and Powerful
“The Scourge of Upward Redistribution,” by Steven Teles, in National Affairs, addresses the issue of American wealth inequality in the United States and points out something quite important — while some inequality is the result of entrepreneurial skill, innovation and productivity, much is the result of government interventions redistributing wealth up the pyramid.
I would not be surprised to find the bulk of redistribution via politicized markets is upward, not downward. Certainly, major corporations at the turn of the last century understood that was possible. As socialist historian Gabriel Kolko pointed out in The Triumph of Conservatism, these corporations banded together to push through some of the most praised “Progressive” regulatory programs in history.
The results were markets became less competitive and the share of wealth held by big business tended to increase, not decrease. Regulations hindered competition, favoring the established Big Boys. Programs often proposed with the best of intentions can be counter-productive to the goals they wish to accomplish.
Teles, notes: “Much of the tension between equality and economic dynamism dissolves when we focus on inequality generated by public policies that distort market allocations of resources in favor of the wealthy — what we might call ‘upward-redistributing rents.’ These rents are large and growing, produced by inherent flaws in democratic governance that facilitate the use of the state to enrich the already advantaged. If high-end inequality is not diminished by removing the ways the wealthy use the state to extract resources from the rest of society, the inequalities that conservatives believe are just — those that flow from innovation and hard work — will be in danger. In short, inequality will become a threat to free exchange itself.”
The poor and powerless rarely benefit from politicized markets. Once markets are centralized politically, politicians, not market forces, determine outcomes. While the political class pays lip service to the poor and powerless, it is the rich and powerful who are ultimately served. I assure you, your Senator won’t be available to see you if you go to the Capitol, but Elon Musk will be a different matter.
This distortion happens mainly in two ways. First, the rich and powerful can afford to lobby politically. They finance campaigns. They have actual access to politicians. They buy lobbyists to act on their behalf. They file lawsuits and hire high-priced attorneys to push policy in their direction. This skews the legislative process in their favor, so laws tend to reflect what they want.
Teles mentions car dealers and their access to the political process. “Car dealers, for instance, have a sizable presence in the top 1% of earners, have a major lobbying presence in almost every state capital, and have made contributions to almost every member of Congress. That should not be surprising, because regulations (again, often at the state level) protect car dealerships from competition by limiting direct sales, restricting the termination of franchises, limiting the entry of new dealers, and preventing manufacturers from offering preferential pricing to larger franchisees. Together, these rules, economists Francine Lafontaine and Fiona Scott Morton found in a 2010 study, ‘almost guarantee dealership profitability and survival,’ while simultaneously driving up costs to consumers.”
Second, when a law is imposed it has to be enforced. The enforcing agency is open to regulatory capture, meaning those being regulated have incentives to use feed-back mechanisms to influence how those laws are or regulations are enforced, or interpreted. The typical consumer has no idea what the FDA is doing or thinking of doing. Pharmaceutical companies, on the other hand, know exactly what is happening and are quick to provide input.
In addition, regulations can’t be created by people who have no clue as to how things work, or what needs to be done. Agencies hire those who know the field skewing hiring in favor of people who worked in that area, thus hiring individuals connected to the industry they have to regulate. Regulators also tend to have early retirements with cushy pensions and being wealth-seekers as much as anyone else, they retire and often look for private employment. Those lined up to hire them are the people they have been regulating for the last part of their career.
Former regulators know the system, the key players, and the business owners trying to skew the market. Once hired they use their former connections on behalf of their new employer. The result is regulations that tend to skew in favor of established businesses, making competition harder. A 2015 White House report (PDF), Occupational Licensing: A Framework for Policymakers gave one example: “doctors play a central role in determining their own compensation through their control of the committees that set prices paid by Medicare.”
Consider one example from the San Francisco Chronicle. A very naïve reporter was writing about Obama’s $15 billion per year proposal to fund alternative energy. He noted a coalition of Big Oil companies endorsed the project “even though many of its members — such as oil giants BP and ConocoPhillips — emit large amounts of greenhouse gases.” The reporter made it sound as if these companies were selfless advocates of saving the planet. He ignored the fact that both own subsidiaries profiting from the subsidies.
Teles points out “we have seen an explosion in regulations that shower benefits on the very top of the income distribution.” He explores how this happens in income inequality.
While large parts of the top 1% of the income distribution are surely made up of entrepreneurs and innovators, the image of the United States as a free-market paradise is hard to square with the actual composition of the top strata of American earners. Start for simplicity’s sake with a widely read breakdown of the occupations of the top percentile done by the New York Times in 2012. What immediately jumps out is the huge over-representation of financial-service providers, doctors, dentists, and lawyers, all of which are professions characterized by large-scale market distortions. A recent study by Jon Bakija, Adam Cole, and Bradley Heim showed that the occupational concentration of the wealthy in rent-suffused sectors is even more dramatic in the top 0.1%.
In specific occupations, such as doctors, dentists and lawyers, government regulations require licensing, which limit entry to the profession, driving up income for the professional, and costs for the consumer. In July of this year, the Obama White House released a report Occupational Licensing: A Framework for Policymakers, which said, “Licensing laws …lead to higher prices for goods and services, with research showing effects on prices of between 3 and 16 percent. Moreover, in a number of other studies, licensing did not increase the quality of goods and services, suggesting that consumers are sometimes paying higher prices without getting improved goods or services.
Government regulatory systems are used to benefit wealthy individuals and much of the “redistributed” wealth in America is wealth going up the ladder — from lower-income individuals to higher-income individuals. One way this happens is via occupational licensing. Consumers, who on average are poorer than licensed professionals, pay more for their services because of licensing, pushing income up the pyramid. The White House report on licensing said: “Estimates find that unlicensed workers earned 10 to 15 percent lower wages than licensed workers with similar levels of education, training and experience.” That’s just another way of saying licensed professionals are given an income bump at the expense of consumers and unlicensed workers.
The report says licensing means jobs are “accessible to those with the time and means to complete what are often lengthy licensing requirements. One study found that for a subset of low- and medium-skilled jobs, the average license required around 9 months of education and training.” Who can afford that? The lower someone is on the economic ladder, the less likely they can afford the cost of licensing. It’s not merely the cost of the courses, but also difficulty in earning an income while studying.
Licensing doesn’t necessarily mean well-qualified people take the jobs; it often only means those with sufficient income or savings seek the position and get the license. In other words, it favors those higher up the economic ladder at the expense of less-wealthy individuals.
The White House report says one study found “licensing restrictions cost millions of jobs nation wide and raise consumer expenses by over one hundred billion dollars.” Compare that to the food stamps budget, a program intended to push income down the pyramid. SNAP, (Supplemental Nutrition Assistance Program) spent $74.1 billion at that time — $25.9 billion less than licensing restrictions push up the pyramid. Nor should we assume licensing is the only means by which the regulatory state redistributes income to wealthier classes.
Steven Teles notes that many of the 1% some complain about, are “government contractors, such as private-prison managers, defense contractors, and for-profit colleges. All these industries are characterized by dependence on government as a nearly exclusive source of revenue, by extraordinary levels of lobbying, and by asymmetries of power between firms and their government counterparts. Or consider the field of management consulting, which attracts an extraordinary percentage of Ivy League college graduates. As Christopher McKenna shows in his book, The World’s Newest Profession, the outsized incomes of consultants do not come from their ability to recommend innovative practices to firms. Instead, they come from the rent they extract from performing a legally mandated due-diligence ritual for firms or from performing tasks that could otherwise be done at lower cost by public employees. These are not, in short, meaningfully ‘private’ firms at all, despite their high profitability.”
Government programs also impact the price of housing. Appreciation in housing values, one result of these programs, benefits higher income individuals. Teles writes:
…the real driver of increased wealth at the top end is not returns on industrial or financial capital but housing-price appreciation. Housing is a highly regulated and subsidized sector of the economy, and constraints on housing supply relative to demand are especially severe in the areas with the highest concentrations of high earners, like San Francisco, New York, Washington, Seattle, Boston, and Los Angeles. Estimates by Harvard’s Edward Glaeser indicate that constraints on housing supply can increase prices in these markets on the order of 50%.
In other words, by preventing housing supply from equilibrating with housing demand, insiders in these expensive housing markets — necessarily the already wealthy — are able to use regulation to take resources from housing outsiders. The same constraints on supply also generate rents for those in real-estate development with the political connections to acquire permission to build, and a considerable amount of these rents are redistributed back to politicians through political contributions (of which real-estate developers are almost always the largest providers in urban elections).
Teles echoes my own suspicions, “there is sufficient evidence across these different areas to look to the suppression of competition as a core driver of skyrocketing inequality.”
It seems to me, both Left and Right misunderstand redistribution in politicized environments. The Left believes the regulatory state and its programs benefit the poor. Conservatives complain wealth-redistribution is a downward enterprise supporting “welfare queens” and “lazy people.” There are wealth redistributions favoring the poor, but it appears to me most wealth redistribution is an upward phenomenon. In other words, when markets are politicized the beneficiaries are the rich and powerful, not the poor and powerless.