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Tuesday, August 4, 2015

How Life Finds a Way in the Regulatory State

The “Sharing Economy” Emerges from Regulatory Gaps

In the 1993 movie Jurassic Park, a mathematician played by Jeff Goldblum says,

If there is one thing the history of evolution has taught us, it’s that life will not be contained. Life breaks free, it expands to new territories and crashes through barriers, painfully, maybe even dangerously, but … life … finds a way.

Not long afterward, dinosaurs that were bred to be sterile start reproducing and running amok.

There are plenty of examples of how life finds a way, not only in nature and in Hollywood blockbusters but in a host of recent market innovators who have found a way to circumvent legally privileged and special-interest groups. Many of these developments fall into what people refer to as the sharing economy, which harnesses the power of the Internet and includes businesses like Airbnb, Uber, and Kickstarter.

First, Some Basics

Each of us has preferences — narrowly selfish, other-regarding, or something in between — that we seek to satisfy with the resources at hand. We take action in pursuit of those goals, whatever our motivation. When coordinated with other similarly motivated people, human action can become an unstoppable force for social change. Whether that change improves human well-being or not depends a great deal on the rules we’re expected to operate within.

Rules that promote private property, fair play, and trust tend to facilitate peaceful interaction and to foster innovation and creativity. As a consequence of those rules, over the past 200 years, US per capita income has grown from $3 a day to $130 a day in constant dollars, and that growth doesn’t even account for the breathtaking increases in the quality and variety of what we can now buy with those dollars.

Rules that unduly constrain economic liberty, however, tend to impoverish and exploit, as we see today in places like Venezuela and Greece.  But human action can — over time, like water in a riverbed — find ways around bad rules, and sometimes even alter them, to let ordinary people better follow their aspirations.

One approach to economic development argues that innovation is the result of “differentiation emerging from generality.” Stones become hammers, hammers become axes, axes become saws. Adding machines become calculators, calculators give way to computers, computers enable the Internet, and so on. Each differentiation becomes the new generality, a new platform, from which new and unpredictable differentiations emerge.

This process suggests that at some point back in the mists of human social evolution, the concept of sharing, in which tightly connected people jointly or alternatingly use a valuable resource, differentiated into trading, in which strangers exchange with one another for mutual gain. The habits and knowledge acquired at one stage of development enable people to experiment, discover, and implement the next stage. The term “sharing economy” suggests, however, that development is going in the opposite direction, from trading to sharing. But that’s the result of poor word choice.

Instead of calling it the sharing economy, perhaps a better name for these phenomena might be the “gap economy” — the economy that grows like a weed in the interstices of regulated markets and incumbent cartels.

Filling the Gaps

In an interventionist, mixed economy, it’s not hard to find examples of both “differentiation from generality” and “life finds a way.” It’s in the spaces left free from arbitrary government constraint and meddling where the ingenuity and resourcefulness of ordinary people are comparatively free to do extraordinary things.

The government intervenes, but it unintentionally leaves spaces for smart entrepreneurs to differentiate their innovations from businesses that have adapted themselves to the mixed economy.


Take Uber, for example. In cities around world, this company has found a way to successfully challenge the entrenched interests of local politicians and the taxi industry. In New York City, for example, in order legally to run a business picking up passengers on any curb, you must own a taxi medallion. But the government hasn’t significantly increased the number of yellow-cab medallions since the 1930s, even though rising incomes have steadily increased the demand for taxis. As a result, the market price of a medallion now runs in the hundreds of thousands of dollars, which is good for those who own them. (Partly because of Uber, however, the price has been falling from a peak of over $1 million per medallion.)

Uber got around this legal barrier by cleverly positioning itself not as a provider of transport services, but as an intermediary that connects drivers of private cars to customers with a special app on their smartphones. Combined with a pricing system where riders pay less during slack times and more during peak times, and background checks on the drivers, Uber and similar businesses (such as Lyft) offer a service that’s typically cleaner and more comfortable than a government-regulated taxi. A driver/passenger rating system keeps things remarkably safe and friendly. I use Uber myself. It isn’t perfect, but it’s found a way to become a multibillion-dollar company by satisfying unmet demands in the regulatory-gap economy. The company even recently won a significant victory over political interests in New York City, but it remains vulnerable to political cronyism down the road and in other cities.

You could tell a similar story, and relate similar struggles, about other interstitial products and services.

Like Uber, Airbnb uses Internet technology to enable regular homeowners (as well as commercially minded providers) to rent their apartments for short periods without the costs and regulations of a conventional hotel. Entrenched hotel interests have been using their political clout to regulate this service into submission.

Smokeless, so-called e-cigarettes deliver nicotine-infused water vapor to the user without the harm of secondary smoke that regular cigarettes are said to produce. Nevertheless, in New York City, e-cigarettes are banned wherever “smoking” is prohibited.

And the popular crowdfunding organization, Kickstarter, has found a way to raise money for “creative projects” (rather than purely commercial ventures) that avoids the hassles of highly regulated financial markets. While operating in the gap economy may not be its main motivation, the government seems to be eyeing the way Kickstarter gets around the taxes and financial regulations that hamstring traditional ways of lending.

(Incidentally, some like to argue that the Internet itself would not exist without the US Department of Defense’s ARPANET, developed back in the 1960s. Even if they’re right, no one can reasonably claim that the extent, complexity, and utility of what evolved and differentiated into today’s Internet could have been the result of anyone’s overall design.)

The government intervenes, but it unintentionally leaves spaces for smart entrepreneurs to differentiate their innovations from businesses that have adapted themselves to the mixed economy. While the growth of government around the world is discouraging, and the struggle to break free goes on, the inventiveness of clever, creative people who “find a way” is a source of hope.

  • Sanford Ikeda is a Professor and the Coordinator of the Economics Program at Purchase College of the State University of New York and a Visiting Scholar and Research Associate at New York University. He is a member of the FEE Faculty Network.