The Free Market Fallacy
The free market doesn’t exist
Every market has some rules and boundaries that restrict the freedom of choice
A market looks free only because we so unconditionally accept its underlying restrictions that we fail to see them
Ha-Joon Chang
Free-market capitalism can be an effective way to promote innovation and drive economic growth, delivering better quality goods and services at lower monetary cost. If the market is poorly regulated, however, it can cause all sorts of problems.
Advocates promote the free market by claiming it allows people to make free choices and enjoy the fruits of their labour. The flipside of this is that a poorly regulated market allows people to make immoral choices and enjoy the fruits of other people’s labour. When a poorly regulated market becomes exploitative of workers it leads to an increase in inequality and poverty, which can lead to social problems, including poor health and high crime rates.
This was the often the case during the Industrial Revolution, when rapid growth spawned overpopulated cities notorious for their sweatshop factories and burgeoning slums. While the majority struggled to deal with varying degrees of poverty, a small minority of the population became exceedingly rich. A similar thing happened in the 1920s, then again during the last four decades. It doesn’t have to be this way though, and we can all be well off if the wealth is shared more equitably, as it was in Europe and the US after World War II.
The increase in inequality was sold to us as being a necessary effect of the increased economic growth that neoliberal free-market policies would bring about. The rationale for this was that if we gave the rich more money they would invest it in the economy, which would grow more, so that even though regular people got a smaller slice of the pie, the pie would be bigger, and we would all be better off. This would occur via a ‘trickle-down effect’, which didn’t happen. Most people are aware that the trickle-down effect didn’t happen, but they don’t realize that the increased economic growth didn’t happen either.1
A November 2000 report titled ‘The Emperor Has No Growth: Declining Economic Growth Rates in the Era of Globalization’ from the Center for Economic and Policy Research in Washington, compared economic growth rates from 1960 to 1980 with those of 1980 to 2000. The report found that in the earlier period global per-capita output grew by an average of 83%, whereas in the later period it grew by an average of just 33%.2
The numbers were worse in developing countries that needed to grow the most. In Latin America per-capita GDP grew by 75% in 1960s and 70s, and by just 6% in the 80s and 90s. And in sub-Saharan Africa per-capita GDP grew by 36% in the 60s and 70s then fell by 15% in the 80s and 90s. A notable exception was China, where the economy grew more during the 1980s and 90s, when GDP quadrupled. China had rejected neoliberal dogma, instead maintaining a highly regulated market, strict control of its banking system, and a fixed, non-convertible currency.2
Despite the fact that neoliberal policies did not lead to the promised growth during the first two decades of its implementation governments persisted with it for two more decades. This decision seems particularly dumb given that the intellectual argument for market deregulation had been discredited in the 1970s and 1980s, when neoliberal economic policies were first being imposed.3
Developed countries did experience a period of sustained growth during the early 2000s, but this was driven by consumer borrowing and a housing bubble, with home equity being used as collateral to take out loans. When the housing bubble burst it triggered the global financial crisis, which wiped out the gains. Despite the carnage nothing changed, and we just got back on the treadmill.
Business confidence was low after the GFC, so to stimulate the economy interest rates were reduced to unprecedent lows. And, because interest rates were exceptionally low for a lengthy period of time, housing prices hit unprecedented highs. Because people were extending their mortgages to finance consumption household debt also reached unprecedented levels, which made raising interest rates to deal with inflation problematic. When interest rates were raised in the early 2020s it made life very difficult for those with a hefty mortgage.4
The flaw in neoliberal theory is that giving money to the rich, be it people or corporations, will only stimulate the economy if the money comes from outside the system. If you shift money to the rich from the working majority it inhibits economic growth. This is because when the rich people and companies that receive the money look at the economy they don’t see an increase in the local market’s spending power. So, what is the point in investing in the local economy if the customer base—i.e. the workers who haven’t had a pay raise for years—don’t have more money to spend? Better to invest in an outside economy that is growing. And if you can’t find one that is growing, stick the money in a tax haven.
If we want to stimulate economic growth then we should shunt money down the pay scale, to drive demand from the ground up, not up the pay scale, where it flounders or is lost due to capital flight. Because workers are also the customers in an economy, the long-term effect of laws that have disempowered unions and thereby suppressed wages has been to hurt the companies they were supposed to protect.
Another flaw in the theory is the assumption that tax cuts for the rich will stimulate the economy. This will only happen if the people receiving the tax cuts use the money in ways that will stimulate the economy more than it would if the government had it.
Governments, and low-income people who receive government benefits, tend to spend their money in ways that stimulate the economy, which can’t always be said of corporations and the rich. If the economy is growing and wages are increasing, companies don’t need tax cuts to encourage them to invest. They just need access to cheap capital. If the government wants to encourage companies to expand their business it should ensure wage growth is fair, implement a tax policy that redistributes incomes down the pay scale, and keep interest rates low.
If someone complains about paying a very high top tax rate, ask them to compare what they do and what they get paid to that of a registered nurse. If they are only paying a high tax rate on income above and beyond that of what an RN earns, while doing a job that has a similar educational requirement and yet less responsibility, tell them to ‘suck it up, princess’.
References
- Piketty, T. ‘Capital in the Twenty-First Century’ The Belnap Press of Harvard University Press, Cambridge, Massachusetts, 2014, p. 290-335. – Trickle-down economics.
- https://cepr.net/report/the-emperor-has-no-growth-declining-econ-growth-rates-in-the-era-of-globalization/
- Cassidy, J. ‘How Markets Fail: The Logic of Economic Calamities’ Penguin Books, London, 2009, p. 205-210.
- www.rba.gov.au/statistics/cash-rate/ – Interest rates Australia. https://tradingeconomics.com/united-states/interest-rate – Interest rates US.