THERE’S A COMMON refrain in the modern calls for socialism: It’s up to government to prevent markets from failing and corporations from taking advantage of us. The multiple financial downturns and crashes of the past few decades seem to prove this desperate need. But this argument fails to understand what a market failure truly is and what the most effective remedies are.
The definition of a market failure runs as follows: When two parties voluntarily do business, they both benefit, and society as a whole is better off. But sometimes their activities can have unintended effects on a third party. And society as a whole is worse off when the unintended costs are greater than the benefits of the exchange.
For example, everyone is better off if a factory opens in a town and hires local workers. The factory owner has a successful business and the workers have good, steady work. But if that factory dumps waste into the river and it makes people in the towns downriver sick, then society is made worse off. Based off examples like this, many people believe that the market fails to properly weigh the social costs of capitalism, and strict government regulations and control can prevent these socially destructive transactions.
But this argument ignores the fact that we already have laws designed to remedy these negative externalities.
Tort law is the body of private law that allows people hurt by the unintended consequences of others to be compensated by the people (or businesses) that caused them harm. Tort laws require everyone to be reasonably careful not to harm others and—in some cases—to compensate anyone they injured, regardless of how careful they were.
When private businesses create social costs, anyone forced to bear those costs can take the businesses to court and make them pay.
Tort law—not overreaching government bureaucracy or socialist policies—is the most powerful and effective regulatory force in contemporary society.
This issue of Sword&Scales explores at length the theory, practice, and outcomes of capitalism. At its core, capitalism gives people the freedom to live their lives as they choose without hurting others. But when others are hurt—at a large-enough scale— the “market” fails. However, our legal system creates solutions for these failures and makes whole the people who are hurt. Anyone arguing to dismantle the capitalist system because of market failures is failing to appreciate the solutions our legal system already provides.
John Hasnas is a Professor of Law (by courtesy) at the Georgetown University Law Center.