The myth of ‘crony capitalism’

Psychologists have identified a disorder they term dichotomous thinking (DT) where ” …. someone is only able to see the extremes of a situation, and is unable to see the ‘gray areas’ or complexities of the situation.” It’s easy to think that many in Washington have chronic DT syndrome. Case in point is the talk decrying anything government does to help business as “crony capitalism.”

For DTers, “crony capitalism” (and its cousins “industrial policy” and “corporate welfare”) include virtually every federal policy that provide benefits to some, but not all, businesses or industries. Rather than do the hard, and perhaps psychologically disturbing, work of distinguishing between good business support policies and bad ones, it’s simpler to condemn them all.

{mosads}A case in point is Steve Pearlstein’s recent op-ed “Going after Export-Import Bank is a strange way to attack crony capitalism.” Pearlstein is mild in his attack on Ex-Im; he just says we don’t need it. (Here’s why he’s wrong). But he does lump Ex-Im in with a whole set of policies he labels as crony capitalism, including Small Business Administration loan guarantees, subsidized crop insurance, ethanol requirements for gasoline, federal flood insurance, below-market grazing rates for ranchers on federal land, energy subsidies and, of course, business policy DTers’ favorite example, corporate tax incentives and deductions. Pearlstein is no outlier; increasingly his DT view is the norm.

The Cato Institute is even more extreme, calling any differential business support by government “corporate welfare” and going so far as to include Department of Defense support for weapons research and development (R&D) in their list. Of course, when you see the world in black and white, you have to be consistent, and this means that if the government is giving money to companies to develop weapons critical for our national security, it must too be decried.

I experienced this recently when I appeared on a cable network business show to debate Congress reauthorizing the R&D credit. To my surprise, my disputant actually called the credit “industrial policy” because it “picked winners and losers.” That shows you how far business policy DTism has spread: As recently as a decade ago there was widespread praise for the R&D credit as a model of free-market thinking, precisely because it did not pick particular technologies or industries, as occurs with government R&D grants.

While business policy dichotomous thinking is both emotionally satisfying and intellectually cushy (no need for discerning analysis, just list off all the offending programs), it makes it extremely difficult for policymakers to figure out what business support policies are indeed a result of rent-seeking and which are pro-growth. What is needed is a simple set of criteria by which to judge these kinds of policies. Let me suggest such a list:

1. The most important criterion is: Does the policy overcome a market failure to directly spur productivity, innovation or competiveness (PIC) in a direct way? If so, it is likely worth retaining. These three factors are the most important in determining the evolution and growth of the U.S. economy. If a policy helps some kinds of firms and industries increase PIC, it is achieving a key public policy goal. In this context, the Ex-Im Bank is a valid program because it helps boost U.S. exports, particularly in industries paying above the median wage. So is the R&D tax credit (innovation and competiveness) and the proposed National Network of Manufacturing Innovation (productivity, innovation and competitiveness). In contrast, federal flood insurance has no real effect on PIC and therefore is not valid on this measure.
2. Does the policy directly support a valid social goal? Here we are into slipperier territory because many more programs can be defended, sometimes spuriously, on these grounds. But to take one example, clean energy policies advance an important goal of slowing climate change. Likewise, tax policies like the low income housing tax credit promote affordable housing. In contrast, it harder to find a valid social justification for broad-based business loan programs that provide loans to mom-and-pop firms in non-traded sectors.
3. 3) Does the program achieve these goals in a reasonably cost-efficient way? It’s not enough that a program or policy have some positive effect on growth; it has to be able to achieve progress toward that goal at a reasonable cost. Here again, Ex-Im clearly passes this test as it returns money to the Treasury. Similarly, the R&D tax credit has been shown to spur additional corporate R&D. In contrast, while the ethanol subsidy might have some small effect on greenhouse gas reductions, the cost of the program relative to the benefits is large.

Some DTers simply don’t believe there is a role for government business support policy of any kind because they don’t believe markets ever fail. For them, they don’t need any criterion other than “does the program treat firms and industries differently?” However, there is another group that opposes most of these programs, not because they don’t acknowledge market failures, but because they believe that government failure is almost always worse than market failure. But government failure would certainly be less if this group advocated for a set of criteria like the ones laid out above.

It’s not realistic to expect an end to DTism when it comes to government business support policies. But perhaps the DTers could take the advice of one psychologist who counsels “catching yourself using dichotomous thinking (and correcting yourself) can transform an unrealistic thought into a more truthful (and probably less stress-inducing) one.” So next time you are tempted to say “Ex-Im Bank is crony capitalism,” take a deep breath and say, “oh, maybe Ex-Im is different than subsidizing rich hedge fund managers to build estates 10 feet from the high-tide line.”

Atkinson is president of the Information Technology and Innovation Foundation.