The Road to Crony Capitalism.

• Author: Munger, Michael C.
• Position: Essay

In 1944, Friedrich Hayek published The Road to Serfdom ([1944] 2007). The book is often caricatured, but its actual thesis was explosive enough: any general attempts to plan the economy or manage prices put the society in danger of devolving into full-fledged socialism.

Hayek never said that the "road" had no exits or turnarounds, but he did think that many political leaders in the "free world" were too optimistic about the benefits and blind to the dangers of economic planning. And he has largely been proved correct, on two counts. First, widespread social experiments in economic planning were attempted, just as he predicted. And these experiments largely failed, sometimes catastrophically. Even the most pervasive welfare states, such as Finland, France, and Sweden, have turned back toward prices and markets to animate their economies.

A recent book by Jason Brennan, Why Not Capitalism? (2014), reveals the nature of the fallacy that leads to excessive optimism about experiments in planning. Brennan argues that advocates of planning or outright socialism compare a realistic vision of market processes, which are in fact flawed and imperfect, with an ideal theory of socialist planning. Brennan argues that two alternative, more defensible comparisons put capitalism in a much stronger position. We might summarize his argument this way:

1. Real-world markets turn out to be better, often substantially better, than realworld socialism.

2. Idealized capitalism is clearly better than idealized socialism because capitalism has mechanisms for cooperation and sharing that socialism lacks.

We don't fundamentally disagree with Brennan's argument or Hayek's predictions. But there is a flip side to Brennan's perfectly valid objections. All too often market advocates envision "real-world" capitalism as retaining many of the features of their own "ideal theory" competitive equilibrium models. When opponents criticize some aspect of markets--solar startup Solyndra's highly subsidized collapse or Martin Shkreli's use of procedures approved by the U.S. Food and Drag Administration to squelch competition--we dismiss those examples. "That's not capitalism. That's crony capitalism!" Might not a modern Hayek but of the left be tempted to write his own treatise called "The Road to Crony Capitalism"? The thesis would be that real capitalism is not sustainable and that any attempt to set up capitalism in democracies is a step toward crony capitalism.

Suppose it's true that capitalism has a tendency--it's not inevitable or irreversible, but a tendency nonetheless--to devolve into crony capitalism. Is laissez-faire simply the first step on a kind of road to serfdom, where giant corporate syndicates achieve a parallel kind of economic planning every bit as pernicious as that feared by Hayek? Of course, the planning takes the form of cartelized industry, protection from competition, and restrictions on innovation, but it is planning nonetheless. Thus, it is at least possible that cronyism is intrinsic to and not separable from capitalism.

To make it clear what we're talking about, we need to define capitalism and its evil doppelganger, cronyism, which some also call "corporatism." A useful version of the distinction comes from Michael Labeit:

Capitalism is a social system based upon the recognition of individual rights, including private property rights where all goods, both intermediate goods and final goods, are owned privately.... An economy remains capitalist so long as the government, or any other agency for that matter, refrains from intervening coercively in the peaceful private lives of citizens. The implications of this fact are substantial: under pure capitalism there are no taxes, no price ceilings, no price floors, no product controls, no subsidies to either the rich or the poor, no public streets, no public schools, no public parks, no central banks, no wars of aggression, no immigration restrictions, etc. Government neither resorts to aggression under capitalism nor does it sanction its use by others, end of story.... Corporatism shares no such description. It is a social system where the government intervenes aggressively into the economy, typically with political instruments that benefit large corporations and enterprises to the detriment of smaller businesses and private citizens. Such instruments include subsidies, tariffs, import quotas, exclusive production privileges such as licenses, antitrust laws, and compulsory cartelization designs. (2009) Our question, then--the question of our age--is simple: If real capitalism exists, is it sustainable? Or does capitalism in a democracy always devolve into corporatist cronyism? Can't Stop, Won't Stop

Many people would answer, "No, capitalism is not sustainable," meaning that there is no such thing as capitalism, really, and that those of us who defend capitalism as a social system are just playing with ideal types. We don't want to believe that, of course. And it's perfectly fair to counter that even if the "road to cronyism" argument is correct, it's really the fault of the state, which seduces good, honest entrepreneurs by using the power of rent seeking. Randall G. Holcombe (2013) makes this point clearly.

Crony capitalism is a by-product of big government because the more government is involved in an economy, the more the profitability of business depends on government policy. Even entrepreneurs who prefer to avoid cronyism are pushed into it because they must become politically active to maintain their profitability. If we measure profits simply as the excess in accounting revenues over accounting costs, any rational investor or CEO will "invest" in state protection from competitors rather than try to invent new products or devise manufacturing processes. At some point, rational companies cut back on hiring engineers and shift their focus to lawyers and lobbyists. The use of patents, lawsuits, professional licensing, and other regulatory barriers to competitive entry into "your" industry or product line can produce enormous revenues, even though it adds nothing to the value of the product and does nothing to benefit consumers.

Robin Feldman and Evan Frondorf (2017) note that for many companies the creation, expansion, and renewal of "protection" of patents have become an industry unto themselves. As one of us has written elsewhere (Couyoumdjian and Munger 2017), it is a great deal to ask of the "character" of managers and corporate leaders to eschew legal means of raising accounting profits and boosting share price.

There are reasons to think that capitalism might be sustainable, of course. In The Bourgeois Virtues (2004), Dierdre McCloskey deftly contrasts profit seeking and rent seeking in her discussion of whether capitalism corrodes civic virtue. "Countries where stealing rather than dealing rules become poor and then remain so.... It doesn't matter what kind of predation/stealing it is--socialist stealing such as in Cuba, or private/ governmental stealing such as in Haiti, or bureaucratic stealing such as in Egypt of today or of ancient times, or ... stealing at the point of a pen by CEOs in America during the 1990s. By doing evil we do badly. And we do well when we do good.... [C]ommercial societies make virtuous citizens" (334). But are citizens virtuous enough to resist using the pen to steal? If even a few large groups of smart people can organize and invest time and money to increase their revenues and reduce their costs, they may not care whether they are investing in engineers or lobbyists. It's hard to see why they would, unless for some reason corporate CEOs are much more virtuous than the rest of us. Making such a claim would seem to violate the essential "public-choice" axiom of behavioral symmetry, which precludes invoking moral superiority as a cure for corrupt systems of organization. Usually, of course, public interest is invoked by defenders of the state, but then aren't defenders of markets doing the same thing, only in reverse?

Alternatively, one would have to argue that the last dollar invested in engineers is always friendlier to the bottom line than the first dollar invested in...