Kay on Free Markets (3) Diffusion of Power

Free markets diffuse economic and political power. John Kay says that a major benefit of free markets is that rent seeking is constrained.

Rent seeking is the process by which the ambitious find it more rewarding to batten on the wealth created by other people than to create it themselves. Rent seeking takes, and has taken, many forms – castles on the Rhine, the Wars of the Roses; ten per cent on arms sales, or seven per cent on new issues: awarding yourself control over former state assets, stealing the revenues from your country’s resources deposits, seeking protection from foreign competition, blocking market access by new entrants; winning sinecures or overpaid positions by ingratiating oneself with public servants or corporate employees. The mechanisms of rent-seeking range from the application of armed force to victory in democratic election; the methods pursued range from lobbying on Capitol Hill and in the restaurants of Brussels, through access to the King or the Chief Executive.

But while rent seeking is ineradicable, we can have more of it, or less. Politics everywhere used to be dominated by rent seeking; factions would battle for control of the state and when they won such control would use it to steal as much as they could get their hands on. In much of the world, it is like that still. ‘It’s Our Turn to Eat’ is the stomach churning title of one fascinating recent book about the corrupt – and moderately – democratic politics of modern Kenya. We have come to recognise the resource curse – wealth from national resources does more harm than good in many countries because of the rent-seeking it attracts – and foreign aid may have some of the same characteristics. But in Western Europe, at least, corrupt politics has ceased to be an avenue for rent-seeking.

The ability of a political/economic system to resist rent seeking depends on the degree of economic decentralisation. If there are concentrations of economic power. Individuals will try to get their hands on the rents concentrations of power attract whether they are found in the public sector, in private businesses, or in groups of private business. The wider the extent of the opportunities this created, the greater the tendency for individuals to gain wealth and influence for themselves by attaching themselves to power rather than exploiting their own individual talents and by developing distinctive capabilities in their own economic activities…

The ability of a market economy to restrict rent-seeking, its capacity to channel the desire for acquisition into channels that create wealth rather than extract it, depends on measures both to prevent the concentration of economic power and to limit the terms of access to such concentration. These are constraints on the economic power of the state: constraint on the concentration of economic power in large businesses: constant vigilance at the boundaries between the state and business: and a mixture of external supervision and internal restraint which prevents individuals who pull levers of economic power from using these levers to direct renting to themselves.

Because the last decades have confused a pro-business stance with a pro-market stance, we have emphasised some of these conditions at the expense of others. Western – and especially Anglo-Saxon societies – have constrained the economic role of the state. These measures have reduced the scope of one focus of rent-seeking, that by organised groups of public employees. A substantial element of such rent-seeking remains in areas that remain inescapably within the public sector. And, despite the furore over MPs’ expenses, we have continued to do well in maintaining the financial, if not necessarily the intellectual, integrity of our politics and politicians. Few people enter British, or west European, politics for the money. If the worst we have is the odd moat-clearing or duck-house, and the occasional sale of a peerage, we are not doing badly: although it is important we should continue to make a fuss about these issues. Corruption is a slippery slope, long and gentle.

There was a recent time, however, when similar restraint applied in large business: when people knew, as people in the UK Treasury do know but people in the Kenyan Treasury do not, that a lot of money may pass through your hands without any of it being yours. The senior managers of large British industrial companies before the 1980s did not pay themselves large salaries because they did not think it appropriate to do so. They would have been insulted by the idea of a bonus or success fee in much the same way as a doctor or teacher would still be insulted by a bonus or a success fee. They saw their jobs as a responsibility rather than a reward. These conventions have gone: and in the United States, the problem of the diversion of a substantial part of the rents earned by large corporations into the hands of senior managers is now a serious issue.

This is, however, a side show. The larger issue is the concentration of power of large business, or groups of large businesses, and the use of the leverage that power gives to strengthen established positions and enhance the economic and political power still further.

The most dangerous form of rent seeking in the modern economy is the collusion between governments and the financial sector.