For the past quarter-century, America has been deregulating capitalism in expectation of a more dynamic and efficient economy. In fact, average economic growth since 1976 has slightly lagged that of the previous quarter-century, when capitalism was more highly regulated. But there has been a much more serious set of consequences--widening inequality, the dismantling of public remedy, and the neutering of the Democratic Party as a medium of progressive politics.
A brief recap: The economy faltered in the early 1970s, largely because ofthe first oil shock and the collapse of the system of fixed exchange ratesanchored by the U.S. dollar. Inflation and then "stagflation" served politicallyto discredit Keynesian economic policies as well as economic regulation. Whatfollowed was new prestige for market fundamentalism--the idea that capitalism isbest left alone. (This conceit came back into intellectual fashion around thetime that the last economists who personally remembered 1929 died or retired.)
The president was Jimmy Carter, a Democrat. His chief economist, CharlesSchultze, believed that regulation distorted allocation of economic resources,exacerbated inflation, and retarded innovation. And even if workable in theory,regulation was often politically corrupted in practice. Schultze preferred theselfcorrecting genius of markets. What followed was the first wave ofderegulation--of airlines, natural gas, trucking, and, a little later, electricpower, banking, and much of telecommunications. A parallel populist critiquechampioned by Ralph Nader, pointing out that regulators often got captured byregulated industries, merged with a business critique by people who just wantedregulators off their backs.
When Ronald Reagan took office in 1981, deregulation was no longer theprovince of centrist economists like Schultze, who were intellectually honest ifpolitically naive. It was in the hands of full-blown conservative ideologues,energized by business-funded think tanks and professorships. For economicderegulation to work at all, it needed to be complemented by vigorous antitrustenforcement. But Reagan's people threw antitrust overboard, too. By the time aDemocrat returned in 1993, deregulation was conventional bipartisan wisdom. Forthe DLC wing of the people's party, deregulation was also a terrific way to raisemoney from business.
To see why this emperor is naked, just recall a sampling of thepast month's headlines. In theory, all that capitalism needs to keep itselfhonest is a vigilant consumer. But as the Enron affair shows, there are just toomany opportunities for insiders to enrich themselves that ordinary consumers can't fathom, much less redress. In the absence of ground rules enforced byparties outside the market system--namely, government--opportunism abounds andcapitalism goes haywire.
More than 30 years ago, Jessica Mitford wrote about "The American Way ofDeath"--how funeral homes take advantage of unwary grieving families who are inno condition to be vigilant consumers. A wave of regulation followed. Last monthwe learned of a funeral operation that did not bother to cremate bodies aspromised--it was cheaper just to let them stack up. Capitalism continues to breednew forms of opportunism. Regulation requires not a onetime fix but an ongoingprocess.
Last month, a report on nursing homes from the U.S. Department of Health andHuman Services, 10 years in the making, showed that more than 90 percent of these homes are chronically understaffed and that patient care suffers as aresult. George W. Bush's response was that consumers need to be better informed.You can just imagine an 89-year-old sovereign consumer, perhaps with diabetes andAlzheimer's, traipsing around with a walker, investigating comparative staffinglevels at diverse nursing homes. Bush's response is doubly insulting: Mostnursing homes are financed by Medicaid, whose rates are set so low that decentstaffing is impossible. But if Medicaid raised its reimbursements, regulationwould still be needed to ensure that the money went to better nursing care, notto line the pockets of entrepreneurs.
Only the details change. In the 1920s, public-utility holding companies got control of local utilities, sold watered stock to the public, enriched insiders,and raised prices. Same story as Enron, different particulars. New Deallegislation prohibited such abuses--but it has been under assault for a decadefrom a new generation of wannabe sharks who disparage "Depression-era regulation"as hopelessly out of date.
Most of the intellectual premises of deregulation have been disprovedby subsequent events. For starters, regulation was never more than a trivialfactor in the inflation of the 1970s, which was mostly a macroeconomic event.Second, there are whole areas of the society that can't be left to the freemarket because of hidden costs or benefits--what economists call externalities.
For instance, health care can't be a pure market because we don't leave itsprovision to private supply and demand--otherwise, people who couldn't affordcare would just die. Along the way, they would spread infectious diseases.Education also is not a free market; if it were, half of America's kids wouldn'tgo to school, because their parents can't afford tuition. Drug manufacture is nota pure free market, because government offers research dollars, provides patentprotection, and assures that drugs are safe and effective (lately, pressured byindustry, it has been doing less of the latter). The environment can't be a freemarket, because factories have long treated the air and water as a free sink.
Leaving aside health-and-safety regulation, even in areas where supply and demand supposedly do the job, such as airline deregulation, the results aredismal because of monopoly power and the default of antitrust. For the most part,the big airlines have used their market power to crush new competitors (the oneexception is Southwest, which flies mostly from smaller airports). Fares havebecome a crazy quilt--bargains mixed with shameless gouging. On average, consumerprices actually fell at a faster rate under the old, regulated system, becauseairlines were able to invest stable profits in new generations of planes. Atbest, "deregulation" needs to be a form of regulated competition, with governmentsetting the rules of engagement.
Labor deregulation--of pensions, bargaining rights, trade standards,health-and-safety protections--has also affected labor markets and left workerswith fewer protections. This, in turn, weakens unions, allows companies to playoff worker against worker, and contributes to a general widening of inequality insociety. The promised general gains to the economy never quite materialize.Instead, executive pay just keeps soaring.
The intellectually honest advocates of deregulation contended, naively, thatleaving matters to the market would yield outcomes uncorrupted by politics. Buteven with relative deregulation, as in the case of airlines or gas pipelines,government is still necessarily involved. Government, after all, defines basicproperty rights; it defines unfair trade practices. And when things go wildly outof kilter, government has to pick up the pieces. Enron did not favor a brand ofderegulation that would help sovereign consumers to shop around for the bestdeal. It favored rigging the rules so it could make a killing--and spent afortune politically to get the rules it wanted.
In practice, the age of deregulation has been an age of intensified corporate lobbying and heightened conflicts of interest, not market purity. Theconnection between government and business has become more corrupt, not less.But despite the practical failures, the ideology lives on. And Democrats (withsome heroic exceptions like Ted Kennedy and Henry Waxman) as well as Republicanshave become complicit in this process. When savings-and-loan executives lobbiedin the early 1980s to be allowed to speculate with federally insured deposits,both political parties jumped on the bandwagon. Campaign contributions werebipartisan. Only later did taxpayers pick up the tab.
After more than two decades, deregulation has resulted in a witches' brew ofold-fashioned corruption, just plain bad public policy, and the withering ofpolitical opposition in the face of conservative ideology and business money. Theprocess of dismantling rules that protect consumers, workers, pensioners, andinvestors is at least as vulnerable to influence peddling as the process ofupholding them. There may be efficiency gains to be had from some brands ofderegulation, but they are more than offset by spectacular meltdowns--thesavings-and-loan scandal, the California electricity bill, Enron, airlinemonopolies, nursing-home disgraces, toxic dumps, drug-company price gouging, andon and on. All of these demand regulation in the public interest.
Perhaps the most damaging effect of all is the eclipse of anopposition politics. Embrace of deregulation by "pro-business" Democrats is morethan a mistaken philosophical conversion. It is richly rewarded by businesscampaign contributions. Today, there is only the shadow of a mainstream movementto re-regulate. It reasserts itself, piecemeal, whenever scandal isoverwhelming--as in the case of Enron. But in the 1990s, Democrats as well asRepublicans pressured regulators to ease up. In the think-tank world and inacademia, plenty of business-funded university chairs, journals, and researchinstitutions tout the benefits of deregulation (Cato, Heritage, the AmericanEnterprise Institute, and a center at Harvard on "risk assessment," among them),but only a handful of researchers are looking skeptically at the actual record.
So we need both an intellectual and a political counteroffensive, as wellas a Democratic Party willing to return to its populist, mixed-economy roots.This issue of the Prospect offers a modest start, with a special section suggesting what needs to be re-regulated and why. Nothing about the new economy changes time-tested truths about capitalism: It is a dynamic system of innovation and creative destruction. Either we harness it for general benefit, using the instruments of political democracy, or the destruction overwhelms the creativity.