A Time For Paternalistic Libertarianism

Austrian economist Friedrich Hayek said "probably nothing has done so much harm to the liberal cause as the wooden insistence of some liberals on certain rules of thumb, above all of the principle of laissez-faire capitalism". Of course Hayek is using the word "liberal" in the classical economics sense where in American politics we would probably say instead "market conervative", "fiscal conservative", "libertarian".

Now is a bad time to be a market fundamentalist. Much like the Chinese, we Yanks have the numbers and the media presence to dwell in an island of our own homogenous discourse, largely insulated us from the rest of the developed world's prevailing opinions. Sometimes we're right, other times we're behind the curve. In late 2008 it's the tidal wave of capitalism-is-dead sentiment currently sweeping the rest of the planet that we're insulated from. There are the usual Europeans quick to pronounce the demise of Ango-American capitalism, as did Nicolas Sarkozy: "Self-regulation as a way of solving all problems is finished. Laissez-faire is finished. The all-powerful market that always knows best is finished." There are the predictable smug neo-Confucianists of the Chinese Communist Party who consider it as given that free markets can only produce chaos (read: detract from the power of the state). In fact, the economic zeitgeist is such that it seems we've returned to the mindset of the late 1970s when it was in poor taste to even claim rational underpinnings for free markets (see Robert Frank's defensive tone about markets in Choosing the Right Pond, 1983). Given the credit crisis that is still unfolding before our eyes, the stream of critics will not be ending any time soon.

Libertarians would do well to heed Hayek's advice. Russia and particularly China are in the ascendant and smirking at having done so without having to credit any sort of liberalization. Twenty-first century autocrats feel justified in spurning old-fashioned notions of a free market and individual rights, and the words of a former monetary policy advisor to China's central bank are a nice summary of the prevailing attitude: "During the 1997 Asian financial crisis, the crisis occurred in East Asia. The students [Asian countries] failed to learn from their teacher [America]. The Asian countries therefore suffered. But this time, the teacher is in trouble." Indeed, the Economist does not use defensive language like this unless there's a real threat to the future of global markets:

"If the bail-outs are well handled, taxpayers could end up profiting from their reluctant investment in the banks. If regulators learn from this crisis, they could manage finance better in the future. If the worst is avoided, the healthy popular hostility to a strong state that normally pervades democracies should reassert itself. Capitalism is at bay, but those who believe in it must fight for it. For all its flaws, it is the best economic system man has invented yet. Capitalism is at bay, but those who believe in it must fight for it. For all its flaws, it is the best economic system man has invented yet."


The Economist hits the nail on the head. The tragedy is that amid the meltdown hyperbole and political maneuvering is that market liberalism is still empirically the best social mechanism for creating - and distributing - wealth. Particularly tragic in the US is that many minorities have just recently begun moved en masse into the middle class where they can finally share fully in the benefits of an affluent society. It was in fact the industrial revolution created a middle class that in turn led to increased education, enfranchisement of women and ethnic minorities in politics and the markets themselves. While Marx was preaching revolution, the growing middle class in the industrial world was gaining influence and voting in representatives who would improve their conditions - yes, government was the institution directly responsible for that improvement - not markets. You don't have to be a market fundamentalist to think that markets usually (but not always) do good things - to quote Deng with full irony, it doesn't matter if the cat is white or black, as long as it catches mice.

And, I'll even let you in on a secret. I was in favor of the bailout the whole time - not because I relish the idea of bankers getting bailed out, but because of the echoes throughout our economy of our big financial institutions fail. It's not a position we should be happy the economy is in, but for the time being we have no choice if we want the world to keep spinning. We can indulge in Hayek's wooden insistence on no bailouts for banks and automakers, and then watch the lights go out in New York and Detroit - and then your town.

The point of any civilized social system is to make humans happier by allowing them opportunities to expand their material wealth through labor and voluntary associations. Capitalism of course is not the perfect system - it is, as Jane Galt puts it, the system for finding the perfect system. Capitalism's detractors would have you believe that capitalism is untenable because it has occasional rough spots, one of which we're in right now. Granted, the recession we've now entered is no fun, but it's a picnic compared to, say, China's Great Leap Forward. Bubbles like this one have happened in freely trading societies, as chronicled in Mackay'Extraordinary Population Delusions and the Madness of Crowds, starting with the seventeenth century Dutch tulip craze. Bubbles are the price we pay for capitalism and freedom.

How might we fix this, or at least soften the impact next time? For one thing, the impact is considerably softer today than it was in 1929, so whatever we've done in the past to that end seems to be working so far. What did we do back then? Circuit breakers in exchanges, and rules about trading - in other words, smart, directed regulation dealing with new economic realities made possible by technology. There, I used the R-word, which immediately has free-market readers heading for the exits. But ask yourself if you would return to pre-1929 financial market rules? Why then would you return to pre-2008 financial market rules?

In tradeoff terms, if I can have capitalism, minus bubbles, plus a little smart regulation of financial markets, I'll take it. But saying that capitalism is dead and we should switch to heavy, permament state intervention because we're at the bottom of a cycle now is like being in the middle of the ocean in a row boat that just sprang a leak, and getting rescued by the Titanic. If nothing else, this crisis will highlight to market fundamentalists that markets cannot exist without a state to protect it (otherwise why isn't Somalia a laissez-faire paradise?). This recognition doesn't seem profound but it's one departure of what is sometimes called paternalistic libertarianism from traditional strong libertarianism, and if the state can save the market with some directed regulation, then it should - because "for all its flaws, [the market] is the best economic system man has invented yet."