Stigler on the Regulatory Mindset

George Stigler was a Nobel-winning economist who applied the economic way of thinking to regulation at a time when doing so was even more unfashionable than it is today. He was also known for his wit.

Near the end of his paper “The Economists’ Traditional Theory of the Economic Functions of the State,” which appears as chapter 7 in his 1975 collection The Citizen and the State: Essays on Regulation, he has a pithy public choice-style insight (p. 112):

We have a long, long list of market failures. These should be corrected if possible, and there are only two alternatives to the market: the state, and prayer. It turns out the two were merged in one.

There’s a lot packed into that bit of pith. Intentionally or not, Stigler was referring to what Harold Demsetz called the Nirvana fallacy. The relevant comparison isn’t between market outcomes and perfection; it’s between market outcomes and possible improvements. This is where economists’ never-ending focus on perfect competition models comes back to bite them in the rear end. Economists and regulators alike pray fervently.

Unable to escape from Hayek’s knowledge problem and public choice concerns such as regulatory capture, regulations not only routinely fail to improve on market outcomes, they often make make matters worse.

As Arnold Kling pointed out, the lesson learned isn’t the idealistic Chicago school motto, “Markets work well. Use markets,” nor is it the Nirvana fallacy-prone MIT-Harvard dictum, “Markets fail. Use government.” It’s the realist GMU-style “Markets fail. Use markets.”