Government Regulations Help Markets Work Better


Markets have been great tools for advancing the welfare of Americans over the course of its history. But, markets function best in a mixed economy where the government defines the boundaries between what aspects of life should be part of markets and which should not. Governments can also use regulations to mitigate risk, promote efficiency by correcting market failures, and enforce property rights ex ante.

First, when there are moral objections to market outcomes, government can and should define the boundary of where markets enter our lives. Allowing Americans to sell their votes, for example, would undermine democratic values that make American society function properly. Similarly, government rightly regulates against the ability to keep persons as property and prohibits the sale of children by their parents. In addition, government restricts the exploitation of children through child labor laws because children cannot legally consent to contracts. While these regulations are relatively uncontroversial, at times, it is difficult to decide where to draw the line. Many economists, for example, have supported the creation of organ markets. These decisions are best made democratically.

Second, government can promote efficiency by regulating monopolies, encourage competition by discouraging anticompetitive practices, and prevent bank runs by insuring commercial banks. Vigorous competition is what makes markets run well, but left unchecked, firms will engage in anticompetitive practices such as forming trusts. Additionally, as we saw with the financial crisis, excessive risk taking can lead to economic collapse that affects us all. Regulations can effectively discourage moral hazard and break up the too interdependent too fail financial system that nearly brought down the global economy.

Third, regulations are a way to effectively enforce property rights ex ante. Market interactions result in legal claims of harm and fraud resulting in damages that must be paid. These conflicts can be remedied through the court system, but may be more effectively dealt with through regulation. In today's society, many of the harms inflicted result from behavior that carries a certain amount of risk. Regulations are, in essence, a method of mitigating future harm by protecting property rights before the fact. Pollution, for example, harms public health and destroys property value, but there may not be an effective legal remedy for combating the harm. 

How much risk we are comfortable with and the cost of the regulation is a tradeoff we must weigh democratically. We may not want our citizens to play Russian Roulette, though we may be comfortable with them skydiving or bull fighting. The world is much safer today than it was 100 years ago, mostly because we are richer now, but also because we are comfortable imposing regulations that promote safety.

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