Thursday, May 6, 2010

Who protects consumers from big businesses?

In response to yesterday's post, Jeremy writes:

"How do you respond to the leftist argument that free-markets enable undesirable behavior by industries such as "predatory lending" or the neglect of ecological disasters such as the Union Carbide leak in Bhopal.

"The behavior I'm particularly interested in hearing your response to is manufactured demand. Most economic models act under the assumption that the consumer is logical - but I think you are aware of just how illogical consumers can be...

Sales of bottled water didn't skyrocket until massive marketing campaigns (propaganda?) convinced people that bottled water was a good idea - despite being wasteful and relatively quite expensive.

"Credit cards are another example. I would argue credit cards are a significantly better idea than bottled water - and certainly have their uses. But obviously, some people just shouldn't have them. Credit card debt can be devastating. If they were logical and well informed, I assume they wouldn't demand the service - or maybe demand less, but there are obviously instances of people borrowing more than they can handle.

"People who fail to pay their bill on time and suffer late fees are profitable. In a free-market, what's to stop a credit card company from spending millions on targeting their marketing towards profitable consumers in the absence of education (generally public) or consumer protection mechanisms?

"Individualism and self-reliance (qualities highly valued by the right) are great, but what's an individual to do when millions (billions?) of dollars are spent to convince them to act a certain way that benefits industry but, arguable, is destructive to them. (Think: consuming expensive bottled water, eating fast food and accumulating excessive debt.)"
In answer to your first question, I believe competition in the free market protects most consumers from bad products. The Internet has been a great tool for assembling consumer reviews, including repeating horror stories of bad companies.

Milton Friedman did a PBS special in his 1980 Free to Choose series entitled "Who Protects the Consumer?" that goes deeper into how the free market encourages good products and services, and how government intervention stifles these things and creates monopolies. You can see it here.

It's important to remember that even though there are flaws in the marketplace, the treatment from government intervention has a lot more potential to do harm.

Bruce Yandle came up with a theory called "Bootleggers and Baptists" that any piece of legislation will have two types of supporters: Those who support it on moral grounds (The Baptists) and those who support it because they will benefit from it (The Bootleggers). He explains how the Clean Air Act was worsened by coal lobbyists. The legislation forced companies to buy an air-cleaning product that made it cheaper to buy the most toxic coal around, and it lead to more pollution.

In addition, Yandle identifies the tobacco settlement in the 1990s as a scheme to make it more expensive to sell tobacco; protecting big tobacco from smaller competitors.

If you take one thing away from this response, let it be this: Corporation do not want a free market. Big companies would much rather have the government protect them from competition. They are willing to lobby or make outrageous claims in support of regulations, tariffs, subsidies and bailouts for protection.

Advertising as propaganda

As for advertising influencing people to buy things they don't need, I point you to skeptical marketer Steve Cuno's article on that very subject here, and his response to angry critics here. I am unaware of his politics, or if he envisions any legal restrictions on advertising, but his commitment to science is clear. A telling paragraph from his first essay:

"No matter how well crafted advertising may be, the inescapable fact is that the market always has a choice. The most skillful advertiser cannot foist a product on a public that doesn’t want it. There’s a reason for the failure of products like Bic disposable underwear, Cosmopolitan (magazine) yogurt, Colgate kitchen entrees, Ben-Gay aspirin, Smith & Wesson mountain bikes, and McDonald’s clothing. Though respected, experienced advertising agencies threw their best at these products, the market voted NO with its collective checkbook, leaving ad agencies powerless to do anything about it.

"But markets can and often do wield the checkbook irrationally. When that happens, advertising makes a handy scapegoat. Advertising couldn’t make us buy Coors bottled water or Harley-Davidson perfume, but people still prefer to believe it makes us reach for Apple Jacks instead of apples."

So while I agree that buying bottled water is foolish, I don't know what impact advertising had on it's success. As Cuno writes, it's a logical fallacy to assume that because sales increased after an advertisement, that the advertisement caused the sale. Specifically, that fallacy is called "Post hoc ergo propter hoc."

As for predatory lending - I really don't know much about this subject. It's possible that companies try to give people credit so they can be trapped in debt, but that just sounds like a campfire story about dark masters.

What I do know a little about is the allegations of predatory lending and the recession. We blame companies for giving houses to people who can't afford them. However, that doesn't mean it was the free market at fault. We had a big push to help people get houses, and we had a string of lawsuits against financial institutions that didn't lend to the poor.

What are banks supposed to do? We said its wrong when they only lend to the rich, but then when they lend to poor people and those loans default, we say they were acting irresponsibly.

Mike Munger of Duke University said regulations set the banks up for the fall. There's still plenty of blame to go around to the banks, but it wasn't simply a lack of regulation that caused the terrible problems.

What are the limits?

The free market, however, does not guarantee environmental protection. That's why I support pollution taxes. It's very easy for a company to tolerate pollution "externalities" and a tax on pollution makes companies absorb those costs.

In addition, I also believe the government has a role in punishing companies that commit fraud. They aren't doing a good job of it with pseudomedicine, as the FDA allows companies to sell placebo products if they just put a little message on it that says it hasn't been tested.

In both of these cases, someone could make an argument that the free market will solve them. Fraudulent businesses will get bad publicity and people will avoid them, and there's a big push for environmentally-friendly companies. Consumers can encourage a company to be more Earth-friendly by boycotting reckless ones.

However, I don't believe these forces are enough. Fraud is a very purposeful act and deserves legal punishment, and people don't shop around enough for things like utility companies - which can lead to a lot of avoidable pollution.


  1. Thank you, Michael. It really is a pleasure to read your blog. I probably find myself on the opposite (or not-so-conservative) side of arguments, but I was telling a friend of mine the other day that whenever I think I need a kick in the face, I go here to see if you've written on a subject. It's good to stay grounded.

    With that, I still feel good when I continue to find reason to disagree. Call it pride, I guess. I dunno...


    Obviously, more occurs in the brain than just the influence of advertisements. And we do have the luxury of free-will and choice (which is more powerful than ever with the advent of the internet.) But even Cuno finishes his second article with:

    "Please, direct marketers: Resolve never to take on a product that you can’t sell by telling the truth.

    The resolve would help you, the industry, and people at large."

    Something has gone wrong - and I think Cuno agrees with me.

    He speaks often about the immorality of pushing useless/harmful products. I doubt he would do that if he felt that free-will was all people needed to get by.

    Also, Post hoc doesn't exclude the possibility that A does indeed cause B. I see the fallacy - but it's equally invalid to assume that the opposite is true when there are counter examples like disposable underwear. Best of luck trying to convince a general that warfare as a whole is an ineffectual means of conflict resolution after he loses a single battle. With a multi-million (billion?) dollar industry behind extensive, scientific research on marketing/advertising, something tells me that there's more than just correlations between adverts and consumption weighing in on their decision to use highly complex forms of persuasion.

    And they are persuasive. Bottled water and fast food are fine examples of what Cuno called "unneeded products" and "harmful products" which he opposes the pushing of. Like Cuno: "I’m on the government’s side" ... on this one ;-)

    And you're right, regulations can be harmful - that NEEDS to be addressed. But that's not to say regulations are useless/harmful in any and every form. I like the "Bootleggers and Baptists." At a strictly rudimentary level it could actually be a litmus test for what could be beneficial or harmful legislation. I like how you also point out at times that a lot of the issues leftists have with "capitalism" are actually because of corporations. Likewise, a lot of what's wrong with government and legislation is because of corporations. Right now there are a lot more "Bootleggers" (and their campaign contributions) than "Baptists" lobbying in DC.

    Finally, free markets may indeed have mechanisms to punish fraudulent businesses - but punishment is a reactive measure - implying something has already gone wrong. If we know what's bad for people and what's bad for the environment (and government?) - why not take proactive/preventative measures? Why wait for the invisible hand to clean things up when we could avoid the mess in the first place?

    As quoted above, Cuno implores marketers not to push harmful and useless products. Yet in an environment that allows them to, they do anyways. It's going to take more than asking them nicely to stop.

  2. Thank you Jeremy, that means a lot to me. I'm always happy to have thoughtful responses.

    I want to stress that the market doesn't just punish companies retroactively - it keeps them from stepping out of line too. Companies know what consequences can await them if they treat people poorly. Also, keep in mind I do believe the government should intervene and punish frauds - so that's not something I want to leave to the invisible hand.

    I'm not an anarcho-capitalist - I do think there are good places for regulation. I also know its very easy to be abused for the benefit of corporations at the expense of the consumer. That's why I believe in a minimal level of regulation.

    As for unneeded products, that's for the consumer to decide. I love fast food - I don't eat it very often, but I would be angered to see it banned, and I despise the way politicians think I'm too stupid to look at advertisers critically.

    Advertising is supposed to encourage people to buy a product, and absolutely has an impact. But do people buy spinning rims, singing fish plaques and hybrid automobiles because they are gullible, or is it because that's a product they wanted once they heard it exists?

    I think people are a lot more rational than we give them credit, and it's true they don't always make the best decisions. But what's the alternative - let some state-sponsored "parent" make those decisions for them?

    I certainly never needed Magic Cards growing up, or a Super Nintendo or Bacon-flavored mayonnaise, but as soon as I learned those products existed I wanted them. Isn't this my choice to make? Should I hope and pray some bureaucrat is going to have my best interest in mind when he tells me what products I should be able to buy? Should I worry that he has his own incentives - banning things to satisfy a special interest group, or because he has a distaste for them or for a better grade on his evaluation?

    What most people on your side say is, let an expert make the decision for the citizen. They know better. The problem is those decisions are not made by experts - they end up being made by someone with political and financial connections. So in the end, experts DO NOT make the decision. The decisions are made by someone who may know even less than the public knows, and doesn't have the public's interest in mind.

    I prefer a system where I get to make my own mistakes, and I find it more palpable to pay for them then to pay for someone elses.

  3. To prove my point (1 minute)

  4. I'll have to check the video out later, I can't view it right now...

    I think we agree more than we practice on your blog ;-)

    You: "I'm not an anarcho-capitalist"

    And I'm not a statist!

    I think anyone intelligent on "my side" (a big qualifier, I know) that favors government would say we need GOOD government. Efficient, less corrupt, etc... And I envision an efficient and less corrupt government being small.

    Likewise many of my friends who despise government yield that it has its uses.

    For the record - I wouldn't ban fast food or bottled water (and certainly not Magic the Gathering!) What i would propose is a more formidable education system - that might be limited to conventional schooling, or perhaps enabling technologies like the internet, or new forms we don't have yet - that would prepare people to be less susceptible to psycho-corruptible forces. Combine that with appropriate regulation levels - of the sort you agree with.

    I come from the understanding that things are extremely inter-connected and that nature has a strong influence in our decision making processes and subsequently our actions. I'm all with you that personal responsibility is extremely important and that people have formidable tools to protect themselves intellectually. What I'm suggesting is that with a monstrous industry designed specifically to influence people's consumption habits and fewer voices teaching them the virtues of acting otherwise, the odds are stacked against them.

  5. Haha, fair enough. I suppose letting a bureaucrat say what people can do in their leisure time would be statism and not the corporatism system I should be talking about.

    The real rub is, we're both Americans and we already agree on a lot of things that people take for granted. Private property, equality before the law, freedom of speech, the power of the citizen to influence government. These things are very important to our nation, and we all agree on them today, but that certainly wasn't the case historically.

    There's something a socialist organizer said on one of the Free To Choose discussions I'd like you to consider: "People are conservative in general and socialist in specific."

    I hear a lot of people say they want less government, but support specific programs. I imagine you would like less military spending, perhaps more education and environmental protection. What am I leaving out?

    There's a Penn and Teller episode where Frank Luntz gets a pedestrian to say we spend too much on illegal immigrants, but is in favor of the same people getting tax-funded public education and medical care.