Crony Capitalism?
by Dr. Doug Cardell
What is crony capitalism? Crony capitalism or corrupted capitalism results from the government offering favors or advantages to some groups at the expense of other groups. While using government to corrupt the economy is as old as human history, the founding fathers tried to build protections that they hoped would keep the American market free. It remained freer from corruption than any economy that ever existed for about one hundred years. However, it was not free from federal, state, and local governments trying to boost growth by encouraging railroad development. From the 1830s until the early 1870s, state and local governments expanded their practice of chartering roads, bridges, banks, and other undertakings. Leaving these enterprises to the private sector would have led to development would have been a bit slower but more sustainable. Government officials seem reluctant to trust the market when they should and quick to trust it when they should not. These governments intervened in transportation by granting special charters and subsidizing the railroad industry. The evidence indicates that corrupted capitalism began with the late nineteenth-century railroad barons learning to take advantage of government largess to increase profits. The railroad barons began seeking political solutions to increasing competition, resulting in increased regulation favoring some groups and harming others. This regulation resulted in an unequal playing field that showed businessmen that success did not necessarily have to be earned; it could be had by enlisting government intervention in the free market. In the quarter century following the Civil War, the United States underwent a vast railroad boom fueled by government money, right-of-ways, and land grants. As with most booms, the boom led to a bust. The railroads had become dramatically overbuilt, and cutthroat competition was causing rates to collapse. For example, shippers in Atlanta and St. Louis could choose between twenty competitive routes between the two cities with distances between 526 and 1855 miles. Railroads were expensive to build both in terms of track and rolling stock. The huge returns the early railroads received created an expectation that the builders could easily offset these initial expenses. This unfounded expectation encouraged more building, increasing competition and downward pressure on revenues. As often happens, the consequences lagged behind the causes perpetuating the delusion. This time lag created a classic system dynamics scenario called overshoot and collapse. It occurs in population growth, resource management, inventory maintenance, and many other situations. It also describes most boom and bust cycles. In these systems, a time lag separates rapid supply growth and slower-growing demand. In this case, the supply is the railroad system, and the slower-growing demand is the number of customers available. As the railroads grew, they satisfied customer demand faster than new customer creation. Over time this led to desperate competition for the existing customers and caused rates to fall. This rate failure meant the railroads projected schedules to amortize (make back) their investments fell apart. Track mileage increased from 105,000 miles in 1879 to 141,000 miles just three years later, with no corresponding increase in the customer base. This overbuilding forced rates down, so the railroads cut expenses, including wages and capital expenditures, which dampened economic growth. This cost-cutting led to the deepest, most pervasive, and most sustained depression in American history. As damaging as the depression was, it had a lingering, even more damaging effect. Populist and progressive demands to solve the problem that the government had created fueled the rise of government economic intrusion and the welfare state in the coming years. There were strikes and riots and the dispatch of federal troops to quell them. The resultant violence killed dozens, including 20 in Chicago in July 1894. This depression caused the first serious challenge to the idea that the government is responsible for ensuring a fair, level playing field for the markets and protecting the citizens from internal and external harm. It turned the country away from the founders' concept that the government's job is not to do anything but create an environment where the people can do great things. Once these railroad barons had 'broken the ice' and diverted the law from its true purpose, an ever-increasing cycle began as others began to see the advantages of exploiting the law as a financial tool. This realization led directly to lobbyists who only used the government to realize their ends. In 1840, federal government revenues were about a third of all revenue collected. Money is power, and today, based on taxes collected, the federal government now has two-thirds of the power, the states' have one-fifth, and the people in the localities less than one-sixth. Much of this growth in federal power is due to lobbyists' efforts. The lobbyists quickly realized that influencing one central government was easier and more effective than pressuring dozens of states and thousands of localities. Many people are too quick to blame the 'greedy capitalists' for their attempts to curry government favor. All people—all living organisms—pursue their self-interest. The cells in the human body keep us alive and well by pursuing their self-interest. Still, when the process runs amok in the form of cancer when cells pursue their self-interest in ways that are detrimental to the body, the person harmed must take action and use medical treatment to eliminate the threat. Failure to act is the individual's fault, not the cancer cells. Similarly, one of the government's most important duties is to prevent persons or groups from pursuing their self-interest at the expense of the populace. If the police stop enforcing laws, the resulting rise in crime is the government's fault. Left to themselves, most people will pursue their self-interest harmoniously, but some will pursue it as vigorously as they are allowed. In the same vein, most capitalists and entrepreneurs provide necessary goods and services at fair prices, but those that cheat must be held to account, and if they are not, the government is to blame. Corrupted capitalism is essentially theft disguised as simply doing business. Free-market capitalism encourages competition, which in turn provides incentives for companies to create better products and services. These markets lead to economic progress, which will benefit society. All of us working to provide the best quality of products and services we can for one another makes us all the more likely to flourish and grow. There are numerous forms of corrupted capitalism, but one of the most subtle and damaging to the economically vulnerable are occupational licensing laws. Occupational licensing is a form of government regulation requiring a license to pursue a profession or vocation for compensation. While some types of occupational licensing may be necessary to protect public safety, many others do not. Requiring surgeons to receive some certification to practice medicine may be helpful, but often, occupational licensing is merely a way for established businesses or industries to use the power of the government to reduce competition. It is also one of the fastest areas of growth for cronyism. In the 1950s, only one in 20 U.S. workers needed government permission to pursue their chosen occupation. Today, it is closer to one in three. Research has shown that licensing neither protects public health and safety nor improves products and services. Still, it is highly effective in limiting the number of people who can create a job for themselves and earn a livable wage. Take, for example, the case of Kine Gueye. Kine grew up in a village in Senegal where every girl learns traditional African hair braiding. She moved to the United States and settled in Louisville, Kentucky. She sometimes worked 12 hours a day braiding hair in her Louisville home, earning between $80 and $250 per customer. As her practice expanded, so did her family. She married, had children, and moved her practice into a storefront. When she began advertising her services, though, the government shut her down because she didn't have a cosmetology license; getting such a license would require nearly two years of school and $16,000 in tuition. She had the necessary skills, and her work posed no threat to public safety. She fought back, and eventually, Governor Matt Bevin signed a bill in 2016 exempting hair braiders from the state's cosmetology regulations. Yet a cronyist policy attempted to prevent her from earning a living, and since the bill exempts only braiders, other budding entrepreneurs will have to fight for their own exemptions. This results in consumers getting fewer choices and higher prices. As damaging as corrupted capitalism is to the economy, it may be that the damage it does to the public perception of capitalism is a more significant problem. In a free market, companies produce products and services and negotiate with consumers to find the price they are willing to pay without particular advantages created by the government. However, people who do not understand that a free market includes freedom from corruption mistakenly channel the contamination caused by this corruption into an attack on capitalism. Those who favor policies that provide protections, unique preferences, or subsidies to their friends or sponsors to give them an unfair advantage over their competition are destroyers of free markets, not innocent participants. Government intervention is necessary as long as that intervention is to prevent other actors from unfairly altering value. Only free markets can establish fair value. Government must use economic policy to keep those markets free. They must intervene to prevent companies, unions, foreign governments, state governments, or anyone else from interfering in the action of free markets setting fair value. Failure to do so harms the entrepreneur, like Kine, and her potential customers.
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