Making sound economic decisions is impossible without information about opportunity costs. Thinking about the cost of doing anything is crucial; it amounts to considering the value of the alternatives.
A major advantage of the market process is that it gathers up information on costs and transmits it to market decision-makers through prices that cannot be ignored. In contrast, the political process fails either to transmit cost information to political decision-makers or to motivate the proper use of this information. It fails partly because organized interest groups want to ignore the costs of their pet projects, and partly because political institutions are unable to acquire and communicate information on cost. Markets promote wealth-creating decisions by revealing costs, while politics promote wealth-destroying decisions by concealing costs.
Revealing Lots of Little Costs
The costs of doing anything—for example, buying a pencil—result from tiny sacrifices made all over the world. Leonard Read’s primary point in his justly famous 1958 article “I, Pencil” is that making something as simple as a pencil requires the coordinated efforts of thousands (probably millions) of people with a wide range of specialized knowledge that no one person could ever possess. This coordinated effort is possible only because of the guidance provided by market prices. Read’s example also illustrates how the opportunity costs incurred by everyone involved in getting a pencil to the consumer (both in terms of the value of their time and other resources) is incorporated into its price. The consumer is thereby implicitly aware of the value of every tiny sacrifice made in producing it.
All prices reveal a similar collection of diffused costs to consumers. Therefore, each product is consumed only to the point where consumers value another unit by an amount equal to the value sacrificed to make it available. As I’ve emphasized before, the market generates a pattern of cooperative interaction by people pursuing their own advantages in ways that take into account the concerns of others. If only the diffused costs of government action could be collected through the political process and revealed to decision-makers with the same compelling clarity as in the marketplace! That the costs of government decisions are commonly ignored goes a long way in explaining the perversities of so many public policies.
Concealing Lots of Little Costs
When the costs of government action are spread wide, as they commonly are, they are generally ignored. For example, a tariff that protects a domestic industry against foreign competition will cost consumers far more in higher prices than it benefits the industry. But while the benefits are easily attributed to the tariff and concentrated on a relatively small number of people, the costs amount to only a few dollars a year for each of millions of consumers, few of whom will notice the extra costs or the connection with the tariff. And even if a consumer does know of these costs, his share is so small that it doesn’t pay him to actively oppose the tariff.
The benefits of any special-interest proposal are communicated through the political process loud and clear. The costs, however, are borne in silence and therefore largely ignored by politicians. Organized interest groups are aware that lots of small, widely diffused costs are difficult to register through the political process, and they aggressively exploit this fact to capture benefits at others’ expense. But the inability of the political process to collect and concentrate diffused cost would result in popular support for perverse public policies even without interest-group lobbying.
For example, after an airplane crash in Sioux City, Iowa, in the late 1980s, in which an infant was killed when torn from his mother’s arms, pressure arose for the federal government to require that all infants have their own airplane seats. The benefit to children on planes was obvious; they would be safer. But what was the cost? The cost of an extra seat is obvious. Other costs, however, were less obvious because they were diffused and remote. If families with infants faced higher costs for airline travel, more infants would travel in cars instead of airplanes. This would result in more infants being killed in automobile accidents than would be saved in airline accidents, since car travel is many times more dangerous per passenger mile than air travel. Several studies suggested that the cost of saving one child with the seat requirement would have been the lives of four to six children lost in car accidents. Fortunately, the requirement never became law, but that it was seriously considered illustrates the difficulty the political process has perceiving widely dispersed costs and concentrating them on the relevant decision-makers.
The Cost of the 55-MPH Speed Limit
Enactment of the 55 MPH speed limit on the grounds that it saves lives also shows the tendency of the political process to conceal rather than reveal costs. We have all heard that the speed limit reduced traffic fatalities, which then increased when it was raised. But what were the costs of the 55 MPH limit? One cost was the additional time people had to spend on the highway, a cost that came to billions of hours per year (20 extra hours a year on the road for 200 million people is 4 billion hours). Evaluated at the minimum wage, this amounts to $21 billion. Because this cost was spread over the entire population, it was largely ignored.
Unfortunately, an even greater cost—also politically ignored—was the cost in lives. The claims that traffic fatalities were reduced by the speed limit are based on fatalities on the interstate highways, which, because they are multilane divided highways, are the safest roads. But when the limit was imposed, traffic was diverted to two-lane state roads that are far less safe. This diversion occurred because the speed limit of these roads became relatively higher than before, and they were not policed as effectively as the interstates. The result was an overall increase in traffic fatalities even though interstate fatalities decreased. It has been estimated that when states were allowed to raise the speed limit on interstates outside the cities, fatalities on all roads declined by 3.4 to 5.1 percent. (See Charles Lave and Patrick Elias, “Resource Allocation in Public Policy: The Effects of the 65-MPH Speed Limit,” Economic Inquiry, July 1997, pp. 614–20.)
If the market did as poorly as government at collecting information about dispersed and fragmented costs and imposing them on those responsible, we would live in an impoverished economy. Governments are tempted to meddle precisely because of their ability to conceal costs, and their inability to reveal them. That’s why the benefits from government action are low and the costs high.