Asymmetrical Information - Megan McArdle

02.05.13

Federal Regulations Kill Innovation Too

The complexity of the federal government frequently protects it from scrutiny

Last week, when Matt Yglesias wrote that DC makes it far too hard to open up a business, a bunch of conservatives apparently had a field day.  "Even the liberal Matt Yglesias . . . " they said, without, apparently, being aware that Matt Yglesias has been criticizing local regulatory burdens for quite some time.  

Yesterday, Matt responded:  

This is something I think I actually understand very well. I voted for Republican Patrick Mara the last time he was on the ballot for a D.C. Council at-large seat, and I'll probably vote for him again. I voted for Mitt Romney for governor in 2002. I would have voted for Michael Bloomberg in the 2005 or 2009 New York City mayoral races, and in general I think the conservative critique of municipal government in the United States has a lot of merit. Republicans might be interested in why someone like me—someone who sympathizes with many of their economic policy views—still hesitates to vote for their candidates for national office. One reason is that I tend to think conservatives place much too little emphasis on the rights and interests of religious and ethnic minority groups, gay people, and the like. Another reason is that conservatives have much too much affection for state-sponsored violence. In terms of economic policy, Republicans tend to deride the hugely successful practice of taking money from the rich and giving it to the poor. But even on the regulatory front, there are real shortcomings to the Republican approach.

The way I would put this is that the American economy is simultaneously overregulated and underregulated. It is much too difficult to get business and occupational licenses; there are excessive restrictions on the wholesaling and retailing of alcoholic beverages; exclusionary zoning codes cripple the economy; and I'm sure there are more problems than I'm even aware of.

At the same time, it continues to be the case that even if you ignore climate change, there are huge problematic environmental externalities involved in the energy production and industrial sectors of the economy. And you shouldn't ignore climate change! We are much too lax about what firms are allowed to dump into the air. On the financial side, too, it's become clear that there are really big problems with bank supervision.

I think there's something to this--I, like Matt, support having the government control things like pollution.  But I would say that the conservatives who pounced have a shred of a point as well, which is that even progressives who understand quite well how dysfunctional and counterproductive local government regulation is, tend to act as if these problems somehow go away when they're taken to the federal level.  

In fairness, my sense is that the federal bureaucracy often does work much better.  But it's not exactly a finely tuned, high-performance technocratic machine; I can name a lot of federal departments that are pretty much basket cases, and so can anyone else who works in public policy.  Yet with the exception of the Department of Agriculture and the patent office, Federal agencies, including these basket cases, tend to get the presumption of goodwill and smarts from the same people who (often rightly) presume rent-seeking and incompetence at the local level.

In part, I suspect that this is because the folks running regulation at the national level tend to be culturally very similar to those progressives.  They've got advanced degrees, often from elite schools, and they move in the demographic circles that this implies.  State bureaucracies, on the other hand, are more prone to be populated by striving (or not-so-striving) graduates of local schools, to come from substantially less culturally elite backgrounds, and to have more direct interaction with local financial and political interests.  

Moreover, the distortions of local government are highly visible.  Matt and I, and roughly everyone else in our demographic, were highly aware when the DC government decided to try and put Uber and the local food trucks out of business.  That's because we use food trucks and taxis very frequently, and moreover, the issues involved are just not very complicated: everyone basically understands what is involved with making food or driving a car.

On the other hand, when the EPA decides to ban trace amounts of CFCs in asthma inhalers, it's harder to know whether this was a good idea, unless you happen to be an expert on the ozone layer.  And that's a relatively easy one: I know what an asthma inhaler is, and what it's used for.  What about some industrial solvent I've never heard of that's used in a process I've never seen to make god knows what intermediate stage of products I consume? 

The more complicated the process, the less we are likely to notice when the federal government screws up.  That doesn't mean we're doing fine; it may just mean that the federal government tends to be in charge of regulating the more complex, far-flung market processes.

Because the disputes are hard to understand, the reaction to regulations at the federal level tends to line up on purely tribal affiliation: if you're a conservative, you assume that any new EPA regulation is a disaster, and if you're a liberal, you assume that it must be pretty swell.  Among wonky liberals like Matt, I think there's the mirror tendency to assume that because the economy is not obviously being driven into the toilet by this stuff, the federal government must be doing a pretty okay job.  

But this may just be the broken window fallacy in action: we see the distortions of the local government, but the distortions of the federal government remain invisible precisely because they're so effective at destroying innovation.  The more national the rules, the harder it is to tell whether they're bad.  

The economy would not be destroyed if we had federal laws against Uber and food trucks; we'd all just be a little worse off.  The problem is, if the rules were national, none of us would even know that we were worse off.  No one would ever have tried to start a food truck, so Matt and I wouldn't even know that there was this great thing we were missing.  We may be assuming that the Federal rules work pretty well precisely because they have entirely foreclosed a bunch of great possibilities that we'd really enjoy.

Then there are the things that federal rules don't entirely eliminate, but just make difficult and more expensive.  Matt argues that there are things which the government should make difficult and more expensive, like dumping mercury into the air.  I agree!  But we should always remember that those rules frequently make it difficult and more expensive even for people who have no intention of dumping mercury into the air, because the rules frequently require that you take affirmative steps to ensure--and demonstrate--that you're not doing whatever is forbidden.  And at this point, the list of these things is so long that compliance is becoming impossible, particularly for small shops.  

Small business owners have told me more than once that with many inspections, both federal and local, it's a matter of negotiating what you're going to be cited for, not trying to be in full compliance, since there's no way to actually comply with this massive tangle of regulations.  It may not be possible, for example, to actually be in full compliance with OSHA requirements--at least, not while trying to do some other demanding task, like make and sell stuff to customers.  

Or to offer an example a little closer to home: my grandfather was basically forced to participate in a land-swap to move his gas station by HUD's Urban Renewal program.  HUD chose the new plot of land for him and did the swap.  Some time later the EPA discovered the buried (and now leaking) oil tanks that HUD had forgotten to mention, and demanded that he remediate a problem that he hadn't known about.  There was no way for my grandfather to anticipate and avoid this problem, just a six-figure expense that basically dropped out of the sky on his unsuspecting head.  And this was all federal, not local.  

So I'd like to see the same jaundiced eye that gets applied to food truck regulations also applied to the federal government.  There are lots of entrepreneurship-killing, economy-distorting regulations at the federal level, and they're not all in the Department of Agriculture.  The Republican party and I have differences about many things.  But they're right about this.