Although some of the implications of the logic in the preceding chapter were set out in that chapter, they were only the immediate implications of that logic alone. When we combine the argument in chapter 2 with some other logic and facts, and in particular with some standard findings from economics, we obtain a further set of implications. These second-level implications tell us what we should expect in certain types of societies and historical conditions if the theory we are now constructing is correct.

The validity or invalidity of our argument depends not only on the correctness of the preceding chapter, but also on what will be added. Fortunately, most of the economics we shall use is well-established; it is mainly the widely tested “microeconomic theory” of individual firms, consumers, and industries. Many laymen suppose that economists disagree about everything, but in fact this part of economics is mainly acceptable to almost all skilled economists, be they left-wing or right-wing, Keynesian or monetarist. To this we must add the less formal but invaluable “Schumpeterian” insight into innovation and entrepreneur-ship, which is also rather widely accepted, and a brief extension I have to the economist’s usual analysis of the role of entry of outside firms into unusually profitable industries.

Unfortunately, it will not be possible to see how the further implications or theory we shall develop here relate to concrete problems in particular countries until we have first gone through the mildly abstract argument in this chapter—the rest of the book is not comprehensible by itself. Logical arguments that are not immediately related to practical experience do not seem important to some people, so there may understandably be readers who will wonder whether the abstract arguments of this chapter and the last one are of much practical significance. I can, without any fear of ultimate disagreement, promise the reader that, if the argument in this chapter and the preceding one is largely correct, it is indisputably of great practical importance.

Our initial second-level implication has to do with whether a society could achieve a rational or efficient economy through bargaining among organized groups. The last chapter pointed out that a small group of individuals or firms interested in a public good would have an incentive to continue bargaining with one another until they had maximized aggregate gains. There can be no confidence that bargaining even in a small group will work, much less have the complete success that is needed for group-optimality. But such an outcome is clearly a prominent possibility, and if everyone has participated in the bargaining the result might even be deemed fair to some degree. This reminds us to ask whether whole societies could achieve efficient results through comprehensive bargaining by leaders of all the groups in the society.

If the logic set out in the previous chapter is correct, a society that would achieve either efficiency or equity through comprehensive bargaining is out of the question. Some groups such as consumers, taxpayers, the unemployed, and the poor do not have either the selective incentives or the small numbers needed to organize, so they would be left out of the bargaining. It would be in the interest of those groups that are organized to increase their own gains by whatever means possible. This would include choosing policies that, though inefficient for the society as a whole, were advantageous for the organized groups because the costs of the policies fell disproportionately on the unorganized. (In the language of the game theorist, the society would not achieve a “core” or Pareto-efficient allocation because some of the groups were by virtue of their lack of organization unable to block changes detrimental to them or to work out mutually advantageous bargains with others.) With some groups left out of the bargaining, there is also no reason to suppose that the results have any appeal on grounds of fairness. On top of this there is the likelihood that the costs of bargaining and slow decision-making would make a society that made decisions by group bargaining inefficient in any case. Thus our first implication on this level is:

If such countries should emerge, that would mean that the argument in this book is probably wrong.

Our second implication relates to the emergence of organizations for collective action over time. The last chapter argued that collective action is difficult and problematical. In addition, there are normally some special start-up costs in creating any organization or new pattern of cooperation, including the fear of and resistance to the unfamiliar; as Machiavelli pointed out in another context, ‘There is nothing more difficult to arrange, more doubtful of success, and more dangerous to carry through, than to initiate a new order of things…. Men are generally incredulous, never really trusting new things unless they have tested them by experience.”¹ Thus even those groups that are in situations in which they may be able to organize or collude, because their members are small or because some selective incentive could in principle be worked out, may not be able to organize until favorable circumstances emerge. Even in small groups there will often be difficulties in working out bargains for collective action; each party wants to bear the lowest possible share of the costs and in bargaining has an incentive to hold out, sometimes for an indefinitely long time. Thus some of the collective action that is attainable through bargaining in small groups will not be attained until some time has passed.

In larger groups, where collective action is attainable only through selective incentives, even greater difficulties must be overcome. If coercion is the selective incentive, the coercive force has to be arranged, and since people do not like to be coerced there is difficulty and even danger in this. Strong leadership and favorable circumstances will usually be required. The beginning of the union career of Jimmy Hoffa illustrates this. The young Hoffa was one of the workers in an unorganized warehouse in Detroit. On a hot summer day a large shipment of strawberries that would soon spoil arrived, and Hoffa then persuaded his coworkers to strike. The employer found it better to accept Hoffa’s demands than to lose his perishable cargo. Usually the circumstances are not so favorable, and leaders with the cunning, courage, and lack of inhibition that characterized Jimmy Hoffa are not often on the scene.

When social pressure and social rewards are the selective incentives, there are also difficulties and delays. When a group that is already socially interactive needs a collective good, the problem may not be so difficult, although even here the social interaction must generate a sufficient surplus for the participants that they are willing to maintain it even after they are taxed for the cost of the collective good. Creating new patterns of social interaction is more difficult and surely time-consuming as well. Some late nineteenth-century American farm organizations, such as the Grange, managed to do this particularly well with relatively isolated farm families in recently settled areas, but attracting members away from previously established social networks, when possible at all, is likely to take exceptional leadership, and even then to evolve only over a considerable amount of time.

Positive selective incentives of a more tangible and material kind can also be found, if at all, only after a great deal of effort. Generating a surplus that can finance provision of a collective good or induce others to provide it is inherently chancy—there are failures as well as successes among those who attempt to create new businesses. And entrepreneurs who make money naturally often keep it for themselves. Thus usually some complementarity between the activity that can provide a collective good and that which produces income must be found or exploited; any lobbying power must be used in part to get favorable governmental treatment of the business activity, for example, or the reputation and trust of the lobbying organization among its beneficiaries must be exploited by the associated business activity. Even when such complementarities can be exploited, they may be discovered or worked out only after some time, and then only if there are imaginative leaders.

‘Scattered observation, at least, supports the hypothesis that organization for collective action takes a good deal of time to emerge. Though there was some earlier collective action by workers, it was not until 1851, or nearly a century after the start of the Industrial Revolution, that the first sustainable modern trade union emerged, the Amalgamated Society of Engineers in Great Britain. Though there was legal repression of combinations of workers at times during the Industrial Revolution, this cannot explain why unions did not become the norm in Britain until the decades just before World War I. Elsewhere unionization took place even later. In the United States a number of unions were established in the last half of the nineteenth century, but the fastest growth of union membership was in the period from 1937 to 1945, long after the country achieved the industrialized condition most favorable to unions. A study of unionization, industry by industry, in France similarly reveals “a lag between the initial appearance of an industry and the time its workers acquire an organizational capacity for collective action.”² Farm organizations have taken even longer to develop. In the United States there was some farm organization in the second half of the nineteenth century, but it was not until the organization of the Farm Bureau (by the government-funded Agricultural Extension Service) after World War I that there was any really large or stable farm organization. Yet American farmers had significant common interests from the founding of the American republic. Many similar examples could be cited for other countries and other types of organizations.

The other side of the matter is that those organizations that have secured selective incentives to maintain themselves will often survive as organizations even if the collective good they once provided is no longer needed. As the sociologist Max Weber pointed out long ago,³ the leader who is making a living out of an organization may keep it alive even after its original purpose has disappeared; an organization set up to represent the drivers of teams of horses, for example, will take on the task of representing drivers of trucks, and an organization set up to help the veterans of one war will outlive these veterans by representing veterans of subsequent wars. Selective incentives make indefinite survival feasible. Thus those organizations for collective action, at least for large groups, that can emerge often take a long time to emerge, but once established they usually survive until there is a social upheaval or some other form of violence or instability.⁴

If organizations and collusions for collective action usually emerge only in favorable circumstances and develop strength over time, a stable society will see more organization for collective action as time passes (unless, of course, constitutional and legal constraints on collective action, or on the changes in public policies lobbying is permitted to bring about, should leave little scope for such organizations). The more time that passes, the larger the number of those groups that are in situations in which collective action is a possibility will have enjoyed the favorable circumstances and innovative political leadership that they need to organize, and the greater the likelihood that the organizations that have been created will have achieved their potential. This, in combination with the fact that organizations with selective incentives in stable societies normally survive indefinitely, leads to our second implication:

III

The third implication is perhaps the hardest to relate to casual observation, so its meaning may not be clear until later. The source of this implication is, however, obvious: it is the finding in the last chapter that oligopolists and other small groups have a greater likelihood of being able to organize for collective action, and can usually organize with less delay, than large groups. It follows that the small groups in a society will usually have more lobbying and cartelistic power per capita (or even per dollar of aggregate income) than the large groups. The fact that small groups can usually organize with less delay than large ones implies that this disproportion will tend to be greatest in the societies that have enjoyed only a brief period of stability and least great in those societies that have been stable for a long time. Accordingly, our third implication is:

The reader may find it helpful to give this implication a skeptical examination after it has been put to practical use later in the book.

If the extent and type of organization for collective action varies across societies and historical periods, then it is important to determine what impact such organization has on the efficiency and rate of economic growth of a society. Normally all such organizations, whatever their scale or form, have reason to want economic efficiency and growth, and good fortune generally, for the society in which they operate. Whatever type of goods or labor the members of an organization sell, normally the demand for it will be greater the more prosperous the society (there are “inferior” goods on which more is spent if income falls, but they are exceptional). Similarly, the available technology will generally be better and the goods (though not the labor) that the members of the organization buy will generally be cheaper if they live in a more productive society. It might seem that one logical possibility, then, is that such organizations could in some circumstances serve their members’ interests by helping to make the society in which they operate more productive.

Except for a special case we shall deal with later, the only other way in which such an organization could serve its members’ interests is by obtaining a larger share of the society’s production for the organization’s members. In other words, the organization can in principle serve its members either by making the pie the society produces larger, so that its members would get larger slices even with the same shares as before, or alternatively by obtaining larger shares or slices of the social pie for its members. Our intuition tells us that the first method will rarely be chosen, but it is important to figure out exactly why this is so.

It will normally cost an organization something to make the society of which it is a part more efficient. Suppose a lobbying organization were to strive to eliminate the losses in economic efficiency that arise because of differential rates of tax on income from different sources (tax loopholes), or to attempt to reduce the losses from monopoly in the society. An effective campaign to achieve such goals would have significant costs that the organization sponsoring the campaign would have to bear. But the members of the organization would get only a part of the benefits that would result if they made the society as a whole more efficient; they would share in the lower prices or lower taxes or other gains from greater efficiency in the society, but so would most of the rest of society. This is important because in most cases each organization of the kind we are considering represents only a minute percentage of the population or other resources of a society. The typical trade association for an industry represents a small number of firms which, even though they may be large, own only a tiny share of the productive assets in a country; the typical labor union, even if it has tens or hundreds of thousands of members, includes only a minute percentage of the labor force of a country, and so forth. (There are exceptionally encompassing organizations for collective action in a few countries, and these are considered separately below.)

Suppose, for the sake of illustration, that an organization represents workers or firms that have 1 percent of the income-earning capacity in the country. This organization will have to bear the cost of whatever campaign it mounts to make the society more efficient, but its members will tend, on average, to get only about 1 percent of the resulting gain to the society. The organization’s members would, on average, profit from devoting their resources to making the society more efficient only if those resources produced social gains one hundred times or more larger than the cost of obtaining those gains. (More generally, in the symbolic language of the footnote on page 31 in chapter 2, the benefit-cost ratio of the activity to make the society more efficient must equal or exceed 7/F, or the reciprocal of the fraction of the income-earning capacity of the society that the organization represents.)

Thus there is a parallel between the individual in a group that would gain from provision of a collective good and the organization for collective action within the society. The organization that acts to provide some benefit for the society as a whole is, in effect, providing a public good for the whole society, and it is accordingly in the same position as an individual who contributes to the provision of a collective good for a group of which he or she is a part. In each case the actor gets only a part (and often only a tiny part) of the benefits of its action, yet bears the whole cost of that action.

Now suppose that our illustrative organization that represents 1 percent of the income-earning capacity in the country attempts to serve its members by getting a larger slice of the social pie. The resources that are diverted to seizing a larger share of the society’s output will not, of course, produce the social output they produced in their previous employments, so this will reduce social output to some extent. More important, the pattern of incentives in the society will be changed by the redistribution, and (as we shall see) in ways that can vastly reduce the level of production. On the other hand, the members of the organization are part of the society, so they will also share in the loss of social output that results from the redistribution toward themselves. Self-interest alone will make them take these losses into account along with the gains from the redistribution to themselves. But it will pay to go ahead with the redistribution, unless the reduction in the value of the society’s output is a hundred or more times larger than the amount won by the organization’s clients in the distributional struggle. Exactly the same logic we have used all along suggests that the typical organization for collective action will do nothing to eliminate the social loss or ‘ ‘public bad” its effort to get a larger share of the social output brings about. The familiar image of the slicing of the social pie does not really capture the essence of the situation; it is perhaps better to think of wrestlers struggling over the contents of a china shop.

In short, the typical organization for collective action within a society will, at least if it represents only a narrow segment of the society, have little or no incentive to make any significant sacrifices in the interest of the society; it can best serve its members’ interests by striving to seize a larger share of a society’s production for them. This will be expedient, moreover, even if the social costs of the change in the distribution exceed the amount redistributed by a huge multiple; there is for practical purposes no constraint on the social cost such an organization will find it expedient to impose on the society in the course of obtaining a larger share of the social output for itself. (The ratio of the social cost or excess burden to the amount redistributed must equal or exceed HF_i before it will constrain the organization.) The organizations for collective action within societies that we are considering are therefore overwhelmingly oriented to struggles over the distribution of income and wealth rather than to the production of additional output— they are “distributional coalitions” (or organizations that engage in what, in one valuable line of literature, is called “rent seeking”).⁵

There has long been some intuitive apprehension of this, if not of the extent of social losses that it would pay such organizations to impose on society in efforts to get a larger share of social output. This intuitive apprehension is perhaps suggested by the special-interest group label sometimes used for such organizations. Now that the incentives such organizations face have been set out starkly, I shall sometimes use the expression special-interest group as a synonym for distributional coalition, even though that expression has, as we shall see later, a somewhat narrower connotation in everyday language than is appropriate here. These coalitions may be cartels as well as lobbies and are often both. Any combination of individuals or firms for collusive action in the marketplace, whether a professional association, a labor union, a trade association, or an oligopolistic collusive group, will here be called a cartel, whatever term may be used to describe it in everyday language.

One of the obvious ways in which a special-interest group can increase the income of its members while reducing the efficiency and output of the society is by lobbying for legislation to raise some price or wage or to tax some types of income at lower rates than other income. Although the effects may be different under certain initial conditions (because of “second-best’1 problems),⁶ in general measures of this sort will not only increase the income of those favored by the legislation but also reduce efficiency. There will be an incentive for additional resources to move into the industry or activity that is favored by the higher price or lower tax, and this shift of resources will continue until the private post-tax returns are the same in the favored area as in the rest of the economy. But if the price is higher or the tax lower in the favored area simply because of special-interest legislation, then the extra resources that have been diverted into the favored area will be adding less to the value of society’s output than they did in their previous employments. Whenever resources are free to move into the favored area, the private returns will eventually be the same in the favored area as in the rest of the economy, and this tends to make the gain to the special-interest group very small in relation to the cost to society. In this type of case the only gain to the clients of the distributional coalition is the capital gain on those assets that are specialized to the favored industry plus transitional profits during the time it takes other resources to move into the area. The situation is different if entry is not allowed into the favored area, but as I shall later show, barriers to entry usually impose substantial social costs of other kinds. The argument we have just used is extremely simple and leaves aside many fascinating questions, both technical and social.⁷ The argument also has only a lesser applicability to any country in which constitutional and structural factors constrain the number and power of lobbying organizations, as appears to be the case in Switzerland. Nonetheless, as later parts of this book should show, the basic point that it makes is widely applicable and enormously important.

Another way in which a special-interest organization can increase the income of its members while reducing society’s output is through cartelization—the members can agree to reduce output as a single monopolist would have done and thereby enjoy a higher price. The gains from cartelization and monopoly arise because less is sold to obtain a higher price, so naturally there is (in the absence of other distortions)⁸ a reduction in social output; in general, the society will get a mix of goods that contains an inefficiently small proportion of those goods sold at a monopoly price and an inefficiently large proportion of those goods sold at a competitive price. Effective cartels must always block entry into the line of business in which they have raised the price, so the process described in the preceding paragraph, which made the coalition’s gain small in relation to the cost to society, does not work in the same way. But the ubiquitous barriers to entry will make certain other social costs (which we shall examine later) even greater.

There is an interesting literature in economics, stemming mainly from a seminal article by Arnold Harberger,⁹ suggesting that the social losses from monopoly and (as others have argued) from tariffs and certain other distortions of the price system are relatively small in relation to the national income. Later I will endeavor to show that these losses can sometimes be colossal, but for the moment it may be sufficient to point out that the foregoing analysis of the incentives faced by special-interest groups could make them impose very large costs indeed on the society as a whole. And, as the international trade theorist Jagdish Bhagwati has pointed out,¹⁰ there is, alas, nothing in the laws of economics that requires that, if a society is inefficient, it must be inefficient in a small way.

One consideration that does limit the losses from distributional coalitions to some extent, however, is that occasionally some of them will nullify or offset the effects of others. A farmers’ lobby may win the repeal of a tariff on farm machinery or automobile manufacturers may limit the protection given the steel industry. Note that, in cases such as these, the effort of the special-interest group can lead to an increase in the efficiency and income of the society, but that the gains are not diffused through the society so that the special-interest group gets a share approximated by the proportion of the income-earning capacity of the society it represents—instead, those in the special-interest group get a substantial share of the total social gain from their activity. Occasionally there are other types of situations in which the constituents of special-interest organizations seek to increase social efficiency because they would get a lion’s share of the gain in output; this occurs when the special-interest organization provides a collective good to its members that increases their productive efficiency and also when it gets the government to provide some public good that generates more income than costs, yet mainly benefits those in the special-interest group. It certainly is not easy to find any significant percentage of special-interest organizations whose principal objective is some policy that has the special property that it will mainly benefit the clients of the organization and at the same time increase the efficiency and aggregate income of the society. Yet multiple causation and mixed motivation are usually evident in any area, including that of special-interest groups, so it is important not to lose sight of organizations or situations of this type. The largest proportion of the cases that this researcher has been able to find appear to consist of organizations whose clients suffer disproportionately from inefficiencies obtained by other distributional coalitions and who therefore oppose those inefficiencies. If the first of the implications in this chapter—that there is not and will not be a symmetrically organized society—is wrong, this situation is not or will no longer be a special case. But if, as the findings in later parts of this book and elsewhere suggest, that implication is true, then the great majority of special-interest organizations redistribute income rather than create it, and in ways that reduce social efficiency and output.¹¹

In addition, this focus on distribution makes the significance of distributional issues in political life relatively greater and the significance of widespread common interests in political life relatively smaller. The common interests that all or most of the people in a nation or other jurisdiction share can draw them together, as they are drawn together when they perceive a common interest in repelling aggression. In distributional struggles, by contrast, none can gain without others losing as much or (normally) more, and this can generate resentment. Thus when special-interest groups become more important and distributional issues accordingly more significant, political life tends to be more divisive. Moreover, as Dennis Mueller,1‘ building on the work of Kenneth Arrow,¹² has shown, the increased emphasis on distributional issues due to accumulations of special-interest groups can also increase the likelihood that a democratic political system can repudiate its prior choices, even if all the individuals in the electorate have the same preferences as before—it can (for some reasons that cannot be explained briefly or without technical language) encourage intransitive or irrational and cyclical political choices. The divisiveness of distributional issues, and the fact that they may make relatively lasting or stable political choices less likely, can even make societies ungovernable.

There are also, in some countries, special-interest organizations that encompass a substantial portion of the societies of which they are a part. A labor union that includes most of the manual workers in a country, for example, represents a large proportion of the income-earning capacity of that country. So does a lobbying organization that includes all the major firms in an industrialized country. How might the policies of such encompassing or inclusive organizations differ from the more common narrow special-interest groups discussed in the preceding section?

The incentives facing an encompassing special-interest organization are dramatically different from those facing an organization that represents only a narrow segment of society. If an organization represents, say, a third of the income-producing capacity of a country, its members will, on average, obtain about a third of the benefit from any effort to make the society more productive. The organization will therefore have an incentive to make sacrifices up to a point for policies and activities that are sufficiently rewarding for the society as a whole. The members of the highly encompassing organization own so much of the society that they have an important incentive to be actively concerned about how productive it is; they are in the same position as a partner in a firm that has only a few partners. Moreover, the organization whose clients own a third of the income-earning potential of the society will, on average, bear about a third of any loss in the society’s output that results from the policies it obtains. Thus any effort to obtain a larger share of the national income for the clients of such an encompassing organization could not make sense if it reduced the national income by an amount three or more times as great as the amount shifted to its members. As the discussion in the previous section would suggest, the argument here is that this can be a constraint of great practical importance. Clearly the encompassing organization, if it has rational leadership, will care about the excess burden arising from distributional policies favorable to its members and will out of sheer self-interest strive to make the excess burden as small as possible.

The illustrative assumption that an encompassing interest group represents a third of the society is admittedly favorable to the distinction that has been drawn. But contrast an organization that represents even a tenth of the income-earning capacity of a country with one that represents, as most special-interest organizations do, only a minuscule segment of the whole society. The former sort of organization has not only an incentive at least to consider the effect of its policies on the efficiency of the society, but also an incentive to bargain with other substantial organized groups in the interest of a more productive society. The really narrow special-interest group usually does not have an incentive to do even that.

A special-interest organization that is minuscule in relation to a country may, however, be encompassing in relation to a particular firm or industry. Consider a labor union that represents all the workers in some firm (an “enterprise union,” such as is common in Japan), or alternatively a union that represents all the workers in each of the firms in one industry. Such a union could be small in relation to society as a whole, but if (as is typical) about two-thirds of the value added of each firm is devoted to the wage bill, then the union is relatively encompassing in relation respectively to the firm or the industry. It is true that in principle greater prosperity for firms is supposed to result in higher profits, whereas the wages of labor in the firm are supposed to be explained instead by the general state of the labor market; if this is the whole story, a union has no reason to care whether its firm or industry is especially prosperous. But if the union has any real bargaining strength, it can force the unusually prosperous firms to raise wages well above the market level, whereas no amount of bargaining power can force a firm in a desperate financial situation to do this. Some of the workers may, moreover, have skills that are specific to the firm or industry for which they work, and the market value of these skills may rise if the firm or industry is profitable enough to expand. Thus a union that is encompassing in relation to the firm or industry for which its members work has a reason to help the host firm or industry prosper and expand. Contrast this with the situation of a craft union that controls the supply of some specialized skill a firm or industry needs, but controls only a minute percentage of the relevant employees. Such a union would have only a minute influence on the profitability of any firm and accordingly would have little incentive to avoid inefficient practices or to help the employer or industry in any other ways.

The foregoing logic therefore suggests that the efficiency of firms and industries can be influenced by whether or not the relevant institutions for collective action are encompassing in relation to them. It implies, for example, that enterprise and industry unions should usually agree to more efficient work practices than the narrower craft unions; the anecdotal evidence suggests that this is the case.

It would be a mistake, however, to suppose that any increase in the extent to which a special-interest organization is encompassing is necessarily desirable. The degree of monopoly power often increases as an organization becomes more encompassing. If an enterprise union becomes an industry-wide union, for example, it may, by striking against any firms in the industry that do not cooperate, make it easier for the firms to have an effective cartel, and thereby maximize the joint monopoly gain of the firms and the workers. The competition among firms also limits the premium that any one firm can pay its unionized workers, so the gains from monopolizing the supply of labor will usually be less for an enterprise union than for one that controls the labor force in the whole industry. There is, in addition, little or no gain in concern for the society as a whole when a special-interest organization expands from, say, firm to industry size; it is likely to be so small in relation to the society even after the expansion that it will not take account of its impact on the efficiency of the society. The circumstance in which an increase in the extent to which a special-interest organization is encompassing is likely to be most constructive is when it is already so substantial that it encompasses many different industries. At that stage further expansion may not affect the market or industrial action of the organization, but it would create an incentive to give greater weight to the organization’s impact on social efficiency.

In the same way national confederations of business or labor organizations can also introduce a more nearly national perspective on political issues without affecting the degree of monopoly. These organizations, which political scientists sometimes call peak associations, frequently lack the unity needed to have any great influence on public policy, or even coherent and specific policies. Nonetheless, peak associations should on average take a somewhat less parochial view than the narrow associations of which they are composed, and this offers one way of empirically testing the argument that has just been put forth. The Norwegian sociologist Gudmund Hernes has found, in connection with some collaborative research he and I are doing on encompassing organizations in Scandinavia (where such organizations are unusually important), that Norwegian peak associations at least appear to fit the theoretical prediction very well.

The logic of the distinction between narrow and encompassing interests is not limited to special-interest groups. This is evident, for example, from an inference many political scientists have drawn from the observation of American politics. This is the inference that the United States would gain from stronger and more responsible political parties.¹³ These political scientists observe that individual members of Congress are overwhelmingly influenced by the parochial interests of their particular districts and by special-interest lobbies, and that incoherent national policies are often the result. The leadership of whatever party is perceived to be in control usually is to some extent concerned about the aggregate national consequences of the policies chosen, since there is some connection between the state of the nation and the election prospects of the party deemed to be in control. Party discipline, however, is so weak that the influence of the party leadership and the concern about the party’s fate in the next election exert only a marginal influence. The conclusion is that if party discipline could be strengthened and each party be held responsible for the policies it chose and their outcome, then national policies would tend to improve.

The logic set out in this book can help to explain and justify the political scientists’ argument, if it is combined with an analysis of the electoral system. The United States does not use proportional representation or any other electoral system that gives candidates or parties that come in second, third, or worse in a general election some portion of the power; the winner in any given general election wins it all. Thus it does not make any sense to have a political party in the United States that would over the long run expect to get, say, a fourth of the votes in a presidential election; parties that expected to come in second or lower, however, could gain something by combining if that gave them a chance of winning. Thus the electoral system in the United States encourages a two-party system (as do some other factors that need not be discussed here). Given that, each of the parties will be quite encompassing; each will attempt to represent a majority of the electorate. A party whose clients comprise half or more of the society naturally is concerned about the efficiency and welfare of the society as a whole, particularly in comparison with lobbies for special-interest groups and congressmen accountable only to small districts. It is accordingly not surprising that systematic observers should note that American political parties were, on balance, more concerned about the welfare of the nation than were special-interest groups or individual congressmen, and therefore would favor stronger political parties.

The same logic shows up in a comparison of the behavior of congressmen and presidents over pork-barrel legislation, for example. A congressional district that contains about 1/435th of the United States will tend to gain from any project for the district financed with federal taxes, so long as the costs are not 435 or more times greater than the benefits. Obviously, congressmen are aware of this. A president, by contrast, will stand a much better chance of being able to win reelection on the ground that the voters never had it so good if he can reserve the public monies for undertakings with better cost-benefit ratios. Thus, year after year, with presidents and with congressmen of both party affiliations, we see presidents trying to limit pork-barrel projects and congressmen trying to promote them.

The applications of this logic naturally vary from country to country. In some countries with many small political parties, the logic is revealed in neglect of broad conceptions of the national interest by not-very-encompassing parties and disjointed policies of coalition governments. In other countries one sometimes sees labor or socialist parties that emerged from trade unions, but with leaders that sometimes take a less parochial view than the parent unions, presumably because the party leader has a more encompassing constituency. There are also parallel cases of conservative parties that draw their core support from business and professional associations, yet sometimes withhold certain favors from these lobbies in the interest of a thriving national constituency.

The occurrence of fragile coalition governments composed partly or wholly of many small parties, or of governments that are precarious for other reasons, also reminds us that the power of special-interest groups cannot be defined solely in terms of their organizational strength but should, strictly speaking, be defined in terms of a ratio of their power to that of more encompassing structures such as presidents or political parties. This nicety can probably be neglected in most cases, but it may be of decisive importance in understanding some countries with fragile governments.

Even though more encompassing organizations and institutions for collective action are systematically less likely to have an incentive to act in an antisocial way, it would be too hasty to conclude that more encompassing institutions should always be preferred. As I pointed out in the last chapter, information about collective goods is itself a collective good and accordingly there is normally little of it. When ignorance is often a rational strategy for constituents, there is a substantial possibility that an interest group or a political leader will not act in accord with the interest of constituents. If a political system is composed only of highly encompassing organizations and institutions, there also may be less diversity of advocacy, opinion, and policy, and fewer checks to erroneous ideas and policies. Encompassing organizations and institutions may therefore perform unusually badly in some cases or periods and unusually effectively in others. Accordingly, the idea of encompassing organizations and institutions is not necessarily always a guide for reform, but it is essential to a complete understanding of many important organizations and institutions.

So long as it is clear that our fifth implication refers to the incentives that face encompassing organizations rather than to their choices in particular cases, there should be no confusion. Thus:

We must now develop a point that may at first seem unimportant, and that in any case is obvious to anyone who has endured a committee meeting where it took a long time to make (or fail to make) a decision. The point is that special-interest organizations and collusions tend to make decisions more slowly than the firms or individuals of which they are composed. We shall see later that this trait is crucial to understanding phenomena as important as the business cycle and the rate of adoption of new technologies, and that the reasons for this slowness of decision-making are also very much worthy of our attention. The two main reasons why special-interest groups make decisions more slowly than the individuals or firms of which they are constituted is that they must use either consensual bargaining or constitutional procedures, or both of these methods, to make decisions.

Consensual bargaining is simply an expression to remind us that members of smaller groups who may hope to act collectively without selective incentives must bargain until they agree on a joint course of action and on how the costs of this action are to be shared. As the argument in the last chapter made clear, a group cannot achieve a group-optimal level of provision of a collective good through voluntary action unless everyone who would benefit from the collective good contributes to the marginal cost of providing it, so group-optimal provision requires unanimity, or what we have just called consensual bargaining.

In the case of collective action in the marketplace, this collective action normally requires consensus even if it does not reach a group-optimal level. Collusion among oligopolists to achieve a higher price entails an agreement to reduce the quantity sold so that a higher price can be achieved. If some of the firms in an industry, or even all but one of the firms, agree to restrict their sales in the interest of a higher price, then obviously whatever firm or firms are outside the agreement can gain by selling more than before, and normally so much more that the price will be driven down to a competitive level, so that the subset of firms that agreed to curtail sales is left with a competitive price and an unprofitably small quantity sold. There can be exceptional circumstances where this does not occur, as when the firm or firms outside the agreement lack the productive capacity to take full advantage in the short run of the cutbacks by other firms, but in general collusion to obtain a higher price will not work without consensus among the sellers.

The unanimous consent is made more difficult to achieve because the parties have a direct conflict of interest about how the costs of the collective action should be shared. In the case of firms agreeing on a higher price, there must be some agreement or arrangement that determines what cutback will be required of each firm. The consensus that is required also implies that it can be a rational strategy for each prospective participant to demand an altogether disproportionate share of the gains from the collective action in return for his indispensable cooperation. Threats to be a holdout in turn will not be credible unless they are sometimes carried out, and this means that it can take an extraordinary amount of time to achieve the necessary unanimity. The problem of resolving the conflict of interest about the costs of collective action naturally applies whatever the method of decision-making, so we shall need to return to this after considering decision-making by constitutional procedures.

When there are so many participants that bargaining is not feasible, collective action will require some decision-making rules or by-laws, which I call constitutional procedures. Groups that are small enough so that bargaining is feasible may also agree to some constitutional procedures on the ground that the individual members find it expedient to agree not to use their capacity to block unanimous action in return for the savings in bargaining costs and the greater likelihood of continuing collective action. Decision-making under constitutional procedures also takes time, especially in larger groups. Decisions may have to wait until everyone is talked out, or until the next board meeting or the next annual meeting, or even until those who favor a change in policy force out those officials who prefer the old policy. There is also the possibility that once decisions are made, they may be unmade or replaced by different decisions, even if none of the members has had a change of heart. That is, for reasons that were first fully explained by Kenneth Arrow¹⁴ and that I discussed when showing that distributional coalitions could help to make societies ungovernable, there may be voting cycles, or situations in which an organization’s democratic choices are intransitive or unstable. In my judgment, there probably is not as much instability in democratic choices as some students of voting cycles claim, partly because the typical procedural rules of democratic bodies tend to discourage reversals and to give the status quo an advantage over alternatives. But the very procedures that limit the extent to which democratic bodies reverse themselves, and especially the advantage given the status quo, tend to make democratic organizations slower in deciding how to adapt to new circumstances than their individual members are. Moreover, since the choices made by majority rule, elected leaders, or other devices for collective decisions may be harmful to some of those involved, participants often insist upon safeguards that protect them from arbitrary decisions by elected officers, or even by majorities, even though these safeguards slow decision-making further. The provision in the constitutions of some unions that a decision to strike, or to accept a contract, can be taken only by a vote (and sometimes more than a majority vote) of the membership or of some large representative body is an example of such a safeguard.

Whenever an organization for collective action is large, and sometimes even when it is not, it will have many different decisions to make. The combination of slow decision-making and multiple decisions usually leads to a crowded agenda. Everyday experience, even in organizations as small as departments in universities, suggests that some matters wait a long while to receive attention and that some never get on the agenda at all. Crowded agendas often delay decisions further. The importance of this phenomenon is also evident from the creation of committees and subcommittees, which are used mainly to relieve crowded agendas. Even the committees and subcommittees can have crowded agendas. When decisions are made by consensual bargaining, the word agenda is not usually used, but there is the same problem if a multiplicity of matters needs to be dealt with. Some matters may get on the bargaining table only after much delay and others not at all. Some agreements or contracts may be left unchanged, even when new circumstances make them no longer optimal, because of a concern about the time, trouble, and uncertainty involved in working out a new deal.

There are dramatic examples of this. In a study of some legal agreements to fix prices in Denmark, Bjarke Fog found an extreme case in which the price of a product was unchanged for a decade, despite rising costs and disappearing profits.¹⁵ Similarly, F. M. Scherer has pointed out that for a considerable time the International Air Transport Association was able to change decisions only on relatively peripheral matters such as jet surcharges, motion picture fees, and the definition of a sandwich: “Since the Association by-laws require that fare changes be approved unanimously, the result … was a perpetuation of the status quo.”¹⁶

When there are crowded agendas or cluttered bargaining tables, resolving the conflict of interest about how to share the costs of collective action is even more difficult. This difficulty encourages organizations and collusions for collective action to seek impartial outsiders, simple formulas, or seniority rules that can apportion the costs of collective action among the participants. If there is a substantial reward to a group for collective action in the first place, then there is a likelihood that each prospective participant will gain from the collective action under a variety of reasonable rules or decisions about the allocation of costs, so there may be an incentive for each of the parties to agree to an impartial arrangement for decisions about the allocation of costs, rather than risk losing all the gains that the collective action is expected to bring,

Some observers of OPEC, for example, claim that the degree of collusion it occasionally achieved was due in part to the fact that the competition among the big international companies provided an approximate allocation of the costs of restriction of oil output among member nations. The OPEC nations could then agree on a price per barrel, and the amount that each nation could sell at that price was then the result of the relative success of the oil company or companies that pumped each nation’s oil.¹⁷ Similarly, labor unions usually stipulate that seniority rules, or even decisions by the employer, determine who gets the benefit of the higher wage the union negotiates, partly to insure that the union members do not have to fight as much about who has to work less, or who loses a job, because the employer now has an incentive to use less labor. Naturally, the favoritism to senior workers—and the neglect of the interests of potential entrants who are not>hired because of the higher wage—also reflects the normally greater influence of senior workers in the union and the absence of any vote at all for potential entrants. Nonetheless, a seniority rule enables a union to settle the troublesome issue of how to allocate the benefits of the higher wage with one relatively straightforward vote.

It is partly because of this conflict of interest over the sharing of costs that a majority of cartels and lobbies seek to fix prices or wages, rather than the quantity that can be sold. Since the amount offered for sale determines the price or wage, a union or a cartel of firms can obtain whatever price it finds optimal, of course, simply by a sufficient restriction on the quantity that will be sold. Although other factors (like the greater ease in some cases of detecting cheating on price agreements than on quantity agreements) are also involved, one reason why prices and wages are fixed more often than quantities is surely that this makes it easier to leave the decision about the allocation of the costs to the market or to other impartial forces. At times, outside or impartial mechanisms will work in ways that are very harmful to dominant interests in the distributional coalition, and they then may be abandoned. If under a seniority rule, for example, a substantial majority of the workers would be laid off, there would naturally be pressure for job sharing, wage reductions, or other alternatives. In still other cases, entry restriction would be feasible but price-fixing would not be; there would be more resistance to increases in physicians’ charges than to an increase in the qualifications demanded of entering physicians, even though these two measures would have similar effects.

After taking the time needed to arrive at their own decisions, cartels and lobbies sometimes then need more time to deal with their partners and antagonists. A labor union, for example, has to bargain with the employer as well as decide on its own policy. The lobbying organization must, besides agreeing on its own policies, go through the compromises and procedures needed to change government policy. All this makes decision-making still slower.

The combination of all the factors slowing decisions and the special-interest groups’ typical preference for price-fixing rather than quantity-fixing results in relatively sticky or inflexible prices and wages in sectors where special-interest organization or collusion is important. If special-interest organizations usually specified the quantity that is made available, the prices and wages would vary with market conditions and the quantity sold would be given in the intervals between decisions. When they specify the price or wage, it remains unchanged over the intervals between decisions and the quantity then varies.

VII

If the environment in which the special-interest organization operates never changes, then the slow decision-making does not make much difference; once an optimal policy for the coalition is chosen, it will serve indefinitely. But the economic situation is changing all the time. Nowadays the most important source of change is perhaps the advance of scientific knowledge. The opportunities open even to the least dynamic economies in modern times are constantly changing, since they have access to a stream of innovations from abroad and from basic scientific discoveries. There are also changes in consumer tastes, resource discoveries, and even changes in the weather, to which an economy must adapt if it is to maintain its efficiency and exploit the opportunities for growth.

The environment in which special-interest groups operate also changes because of the incentives to innovate that face the firms in the economy, and particularly those firms in sectors that are not affected by cartels or lobbies. However, we cannot go very far into the incentives facing firms in the absence of special-interest groups without getting into old material that would already be familiar to economists, at least. An analysis of the incentives facing firms (or consumers) in the absence of special-interest groups would take us into the theory of unconstrained markets, which, as we know, is more than two hundred years old. And if such an analysis were to be complete, it would require a book far longer than this one. So I shall include only a few casual, impressionistic paragraphs on the effect of the incentives in unconstrained markets and how this in turn helps to change the environment in which special interest groups operate. These paragraphs will focus on those respects in which my perspective on unconstrained markets differs a little from that of most other economists.

In this book, I do not assume there is perfect competition, even in the absence of special-interest groups. There are, of course, some purely competitive markets, particularly in agriculture. The perfectly competitive model admittedly also has a remarkable ‘'robustness⁷‘ (or capacity to generate valid predictions in many cases even when some of its assumptions are not satisfied). Nonetheless, the assumption here is that in most markets firms can choose the price at which they will sell their outputs, and that the quantity they sell will vary inversely with the price they charge—that is, that there are normally elements of monopoly power. This assumption is in accord with everyday observation of most firms and is also, unlike any straightforward model of perfect competition, consistent with a firm’s decision to advertise. My argument, accordingly, does not imply that a market system in the absence of special-interest organization and collusion is ideally (Pareto) efficient. Neither does it assume the market system is static, as do most formal perfectly competitive and general-equilibrium models.

The assumption that drives the argument about unconstrained markets in this book is that, in the absence of cartelization or government intervention due to lobbies or other causes, there is normally no barrier to entry into any industry or line of economic activity and also no barrier to imitation of any profitable pattern of activity. This assumption is staggeringly powerful. If there are more than normal profits or returns of any kind in an industry or line of activity, there will be an incentive to enter that line of activity, and that incentive will remain until enough resources have moved into the area that profits are no longer above normal. In no area, in the absence of institutions such as those that this book examines, can abnormal profits or returns be secure in the long run. Free entry also entails that no firm has any shelter from a Darwinian struggle for survival, so none can remain lethargic or inefficient and survive. Free entry eventually eliminates all shelter and monopoly profits, but it need not bring about perfect competition (product differentiation may remain) nor does it ensure perfect (Pareto) efficiency. But the absence of barriers to entry and imitation does ensure that any product or service that generates abnormal profits will invite entry or imitation, so that there will be at least close substitutes for this good or service, and with close substitutes the degree of monopoly (the extent to which the demand curve is less than infinitely elastic) and the extent of any inefficiency in resource allocation will be limited.

It is sometimes supposed that the amount of capital needed to enter the industries in which there are giant companies is so great that these firms are protected against entry. This overlooks the desire for profits of other giant firms (and the imperial aspirations of some of their managers); these firms have the access to capital needed to enter any industry, and the prevalence of multiproduct and even conglomerate firms owes something to this willingness to enter industries with supranormal profits. In some smaller and medium-sized countries, especially less developed ones, it is said that there are only a few firms with the resources to enter certain industries, so entry is then not likely. But this argument depends on the tariffs and restrictions on foreign firms that organizations and domestic firms have normally obtained. In the absence of these restrictions there would be entry into areas of excessive profit by multinational firms. There are some markets in which the demand is small in relation to the scale at which a firm in that market must operate to be efficient, so that the industry can accommodate only a few firms, or even (as in the “natural monopoly” case) only one firm. But these markets are the exception rather than the rule, and (contrary to what economists used to believe) there is also the danger of entry in these markets;* they are also “contestable,” to use an apt term borrowed from William Baumol et al.¹⁸

In the short run, and sometimes in the not-so-short run, there are often supranormal (and sometimes even colossal) rates of profit for some firms even with free entry. The reason is that it can take some time before the opportunity to get supranormal profits by entry or imitation is noticed, and still more time to learn the tricks of a new line of activity and to purchase or construct the capital needed for it. This is a matter that needs more research, but my judgment of the evidence is that temporarily supranormal profits (sometimes accompanied by high, if temporary, degrees of monopoly power) are very common indeed, so common that some readers may question the importance of the free entry condition. But what gives rise to these temporary profits? Most notably, innovations of one kind or another—discoveries of new technologies, previously unsatisfied demands of consumers, lower-cost methods of production, and so on. And the greater the extent of the profits due to difficulties of entry and imitation, the greater the reward to the innovations that mainly explain economic growth and progress!* Indeed, the rate of economic growth that can result from these incentives to innovate in an unconstrained economy is sometimes so rapid that, as I have argued in other publications,²¹ there may be certain costs of social disruption. That is, however, a separate and complicated matter that will not substantially alter any conclusions in this book, so I will not go into it here.

VIII

It is at this point essential to remind ourselves that there are some factors that, in contrast to the incentives to innovate that have just been discussed, can affect the efficiency of an economy but not its rate of growth. This seems counterintuitive to some people, so it will be necessary to compare two hypothetical economies that are identical in all but one respect. Suppose that the first of these economies had no distributional coalitions, but that the second had a large number that had obtained a larger share of that economy’s output for their constituents by methods that greatly reduced that output. If the distributional coalitions reduced the second economy’s output by a constant proportion in each period, this economy would have a lower per capita income but need not have a lower rate of growth. If special-interest groups did not interfere with the second economy’s adaptation to change or its generation of new innovations, but simply kept it at all times a constant percentage below the income it would achieve without such groups, then this economy could grow just as fast as the first economy. Thus the argument that led up to our Implication 4, taken by itself, shows that special-interest groups lower the level of efficiency and per capita income, but it does not necessarily show that the rate of change of per capita income would be different. The gradual accumulation of such groups explained in Implication 2 would lower the rate of growth, but that is another matter.

In fact, as I implied in the discussion of barriers to entry, the distributional coalitions do interfere with an economy’s capacity to adapt to change and to generate new innovations and therefore do reduce the rate of growth. A labor union, for example, sometimes has an incentive to repress a labor-saving innovation that would reduce the demand for the workers it represents, or to demand featherbedding or overmanning. Similarly, whenever a firm in a collusive group develops a product or productive process that its competitors cannot immediately copy, the other firms in the group have an incentive to use the collusive power to block or delay the innovation. Since a major technological advance will normally change the optimal policy for a cartelistic organization and the relative strength of its members, it will normally require difficult new rounds of bargaining which the special-interest organization or collusion might not survive. This in turn makes cartelistic groups cautious about innovation and change. When an industry is nationalized, regulated as a public utility, or for other reasons subject to political dictation, the pertinent lobbies may veto changes, or simply require consultation about them, and innovations and investments will take place less often and more slowly. In some cases even straightforward adaptations to new patterns of demand and the adoption of new machinery can be delayed, sometimes for generations, as the example of American railroads illustrates, so that a configuration of practices that might once have been optimal diverges ever farther from the current ideal arrangement.

The slow decision-making and crowded agendas and bargaining tables of distributional coalitions are important to understanding the delays in adapting to new technologies and other changes. If the required bargaining and consultation took place instantaneously, there might not be any delay. If a cost-saving innovation becomes available to a firm, the use of that innovation will mean that the difference between revenues and production costs will be greater, so that there is more money to divide between the firm and the workers; a sufficiently powerful union will therefore be able to get more for its members than if the firm did not adopt the innovation²² (the firm and the union have an incentive to bargain with one another until they maximize the joint surplus, which is essentially the difference between revenues net of non-labor costs and the opportunity costs in the form of leisure and alternative employment of the workers). Of course, things do not always work out this way in practice. When there is one big innovation and no other changes to consider, there may be an agreement to use the new technology. When, as is more commonly the case, there are many changes and innovations, large and small, that must be adopted in each period to maximize efficiency, it is much less likely that there will be prompt agreement to adopt all of the efficient changes. The slowness of decision-making and the crowded agendas and bargaining tables prevent rapid adaptation, and the rational ignorance of constituents about collective action by the union makes matters worse. Whereas delays in adaptation involving labor unions are better known, the above logic applies also to lobbies and cartels of firms. Colluding firms, for example, sometimes obtain monopoly rights under public utility regulation which they are loathe to lose, even though the system of regulation and collusion is so slow-moving that there is not efficient adaptation to changing conditions. Trucking, railroads, and airlines in modern American economic history offer many examples of this.

Special-interest groups also slow growth by reducing the rate at which resources are reallocated from one activity or industry to another in response to new technologies or conditions. One obvious way in which they do so is by lobbying for bailouts of failing firms, thereby delaying or preventing the shift of resources to areas where they would have a greater productivity. Some other policies that slow the rate of reallocation of resources are perhaps not so obvious. Consider a situation in which there is, for any reason, a large increase in the demand for labor in some industry or profession and where the labor is Controlled by a single union or professional association. The cartelistic organization will be able to demand a higher rate of pay because of the shift in demand, and the new higher monopoly wage will reduce the amount of labor purchased by the booming sector and thereby reduce growth and efficiency.

Moreover, the movement of labor into the cartelized area may be restricted to a greater extent than would be supposed from the fact that there would be a rise in the monopoly wage. If there is a large upward shift in the demand for labor in the booming sector, those in the cartel may not want to supply as much extra labor as is wanted; the higher wage will increase the incentive to work, but the extra income it brings also means that the workers can afford to take more leisure, so at best there will be only a limited increase in the hours of work. Although there is a “need” for much more labor than those already in the cartel can provide, this need may not be met. Except for one special case,²³ adding additional members to the cartel would make the marginal product and wage of the old members lower than it would otherwise have been, so no additional members may be admitted. The movement into the booming area may, in other words, not only be constrained by the increase in the monopoly price, but even in some cases essentially limited to the amount the previous workers wish to supply.*

Some economists have supposed that a given level of barriers to the reallocation of resources would reduce the level but not the rate of growth of income. In fact, as Sir John Hicks has rigorously proved in a paper that responded to an earlier version of my argument,²⁴ barriers to resource reallocation will in general also reduce the growth rate. Any increases in productivity in the different industries will normally change relative prices as well as income levels. There is the possibility that expenditures on each product, despite the income and price changes, might by chance be at just the level that induced all resources to remain in exactly the same employments. Unless expenditures happen to be at this special level, the increases in productivity will entail that resources must be reallocated if economic efficiency is to be maintained and the society is to take full advantage of the increases in productivity. The required resource reallocations will be prevented or delayed by the barriers to entry. Hicks has further demonstrated that the magnitude of the reduction in the growth rate will vary with the extent to which the new pattern of expenditures deviates from the old and on the size of the industries in which resources are wasted because of the changes growing out of the increases in productivity.²⁵ We can conclude that, even if there should be no accumulation of special-interest groups over time, the barriers to resource reallocation that such groups create would lower the rate of growth as well as the absolute level of income.

The argument that led to our fourth implication showed that, when there were lobby-induced price changes or other subsidies and no barriers to entry into the favored area, the gains to the special-interest group could be small in relation to the loss to society. We now see that when there are barriers to entry this slows the resource reallocations needed for rapid economic growth. When the slower adoption of new technologies resulting from special-interest groups is also taken into account, the reduction in growth rates can be considerable. The slower adoption of new technologies and barriers to entry can subtract many times more from the society’s output than the special-interest group obtains, particularly over the long run.

So we now have the seventh implication, the dynamic or growth-oriented counterpart to the fourth implication about static efficiency:

At least after they reach a certain point, distributional coalitions have an incentive to be exclusive. In the case of collusive oligopolists or others that operate in the marketplace, the reason is simply that whatever quantity an entrant would sell must either drive down the price received by those already in the cartel, or alternatively force existing members to restrict their sales further.²⁶ When it is created, the cartel must, for reasons explained above, normally enlist all the sellers in the market if it is to succeed, but once it has done this there is a compelling incentive to exclude any entrant. Indeed, existing members even have a reason to hope that some of their number die or depart so that those who remain can each sell more at the monopoly price.²⁷

If the number of physicians increases, for example, the earnings of physicians must decline if other things are equal, and in country after country one finds that the professional organizations representing physicians work to limit entry into the profession. As the high income-levels of physicians in many countries testify, these efforts often succeed. The educational credentials and qualifying examinations usually required of those who would enter the practice of medicine are, of course, explained as necessary to protect the patient against incompetence. But note that the examinations are almost always imposed only on entrants. If the limits were mainly motivated by the interest of patients, older physicians would also be required to pass periodic qualifying examinations to demonstrate that they have kept their medical knowledge up-to-date. Among lawyers and other professionals in many countries there are similar limitations on entry. In legal systems without much limitation on the initiation of litigation, however, additional lawyers can raise the demand for their colleagues by increasing the likelihood of legal disputes, and this makes control of entry less important.

In the case of those distributional coalitions that seek their objectives by political action, the reason for exclusion is that there will be more to distribute to each member of the coalition if it is a minimum winning coalition. A lobby, or even a military alliance seeking spoils, will have less to distribute to each member if it admits more members than are necessary for success. Just as a cartel must include all of the sellers, so the coalition operating politically or militarily must include enough members to win. In a world of uncertainty, the size of the minimum winning coalition may not be known in advance, in which case the coalition must, over a range, trade off lower payoffs per member against greater probabilities of success. There will nonetheless always be some point beyond which it must be in the interest of the existing members to exclude new entrants. In the terms of the dichotomy introduced in The Logic of Collective Action, distributionally oriented lobbies as well as cartels must be exclusive instead of inclusive groups.

A governing aristocracy or oligarchy can provide an interesting illustration of the exclusivity of special-interest groups that use political or military methods. Imagine a country or historical period in which some subset of the population, such as the nobility or the oligarchy, dominates the political system. This subset has an incentive to choose public policies that distribute more of the social output to its own members. Except in the case where the aristocracy or oligarchy would increase its security if new members (for example, powerful rivals) were added, it will be exclusive: every unnecessary entrant into the favored subset reduces what is left for the rest. The relevance of this argument is evident from the exclusiveness of governing nobilities throughout history. Any number of devices and emblems have been used to mark off ruling aristocracies from the rest of the population with the utmost clarity. The exclusivity is perhaps most dramatically evident when a ruling group is secure enough to pass its powers on to its descendants. In these cases there is, of course, great resistance to admitting anyone other than the children of the nobility or ruling group into the ruling group. Such exclusivity is so general that some people think of it as only “natural,” and find any explanation of it unsatisfying.

Let us nonetheless ask what institutions for marriage or child-rearing we would expect to emerge. If the sons and daughters of the ruling group marry outsiders, and both the sons and daughters and the spouses of these sons and daughters are in the ruling group in the next generation, the ruling nobility will tend to double in size in the next generation. In the next generation there will then tend to be half as much for each member. One possible solution is to allow only descendants of one sex and their families to be in the ruling class in the next generation, and probably some discriminatory rules against women in certain societies are explained in this way. But those members of the ruling group that have only or mainly daughters have reason to oppose such rules; even apart from natural concern about their daughters, they would lose their share of the future receipts of their ruling group. So how can all families in the ruling group bequeath their share of the group’s entitlement to descendants without making the value of a share in the entitlement decline by half or more with each successive generation?

They can do this through rules or social pressures that enforce endogamy: if the sons and daughters of the ruling group are induced to marry one another, the growth of the ruling group can be constrained in ways that preserve a legacy for all the families in it. Again, the evidence that nobilities and aristocracies have resisted marriages to commoners and lower ranks generally is abundant, and from many diverse societies. In a similar spirit, the abhorrence in earlier times of royalty marrying commoners can be understood as a rule that helped to limit the losses that a multinational class such as European royalty would have suffered had their numbers expanded exponentially.

Of course, there are other factors that can encourage endogamy and one must be careful not to push the foregoing argument too far.²⁸ Yet later parts of this book do, I think, strongly suggest that we cannot ignore the logic that has just been set forth. We cannot conclude that endogamy is simply the result of general difficulties of marriages and other close social relationships among people of different backgrounds—that the nobility marry nobility and royalty marry royalty because they would not know how to get along with others. The disproportionate intermarriage within social groups of all kinds suggests there is something in this—that very often nobility would have married nobility, and so forth, even in the absence of any rules or mores that suggested that this was expected. But it still does not adequately explain legal or social condemnation of marriages of royalty and nobility to commoners; if the arrangement was uncomfortable for the couple, we still need to explain why others were so concerned. The rule of thumb that, in most cases, a person will be better off if married to someone of a similar background is not what is at issue. The mother from a family of average means who advises her daughter to marry within their social group does not usually want the daughter to discriminate against millionaires. Whatever might work out best in most cases, the individual has an interest in being able to follow the rule or not as circumstances dictate. Thus it is comprehensible that some noble families short on money should violate the mores of their group by marrying daughters of rich merchants. What needs explanation are legal and social rules that say a marriage outside the ruling group is to be condemned by others as a violation of principle. Such rules must be explained, as they are here, at least partly in terms of the interest of the group. Whatever may be the reaction to the possibly uncomfortable illustration that has been offered, the logic behind exclusion in distributional coalitions remains clear. Both in cartels and in special-interest organizations focused on the polity there are the further considerations mentioned in the last chapter. Collective action will be easier if the group is socially interactive, so there are social selective incentives. The fact that everyone in the relevant group gets a uniform amount and type of the collective good and must put up with the same group policies also argues that groups of similar incomes and values are more likely to agree. Thus our eighth implication:

To achieve their objectives, distributional coalitions must use their lobbying power to influence governmental policy or their collusive power to influence the market. These two influences affect not only efficiency, economic growth, and exclusion of entrants in a society, but also the relative importance of different institutions and activities. Lobbying increases the complexity of regulation and the scope of government, and collusion and organizational activity in markets increase the extent of bargaining and what I call complex understandings. An increase in the payoffs from lobbying and cartel activity, as compared with the payoffs from production, means more resources are devoted to politics and cartel activity and fewer resources are devoted to production. This in turn influences the attitudes and culture that evolve in the society. Lobbying increases the complexity of regulation and the scope of government by creating special provisions and exceptions. A lobby that wins a tax reduction for income of a certain source or type makes the tax code longer and more complicated; a lobby that gets a tariff increase for the producers of a particular commodity makes trade regulation more complex than if there were a uniform tariff on all imports and much more complex than it would be with no tariff at all. The limited incentive the typical citizen has to monitor public policy also implies that lobbies for special interests can sometimes succeed where matters are detailed or complex but not when they are general and simple, and this increases complexity still further.

The regulatory complexity that derives from lobbies is magnified by a dynamic process that Charles Schultze has described.²⁹ When regulations are established through lobbying or other measures, there is an incentive for ingenious lawyers and others to find ways of getting around the regulations or ways of profiting from them in unexpected ways. The interests behind the regulations and the officials who administer the regulations will often amend or extend the regulation to close the loophole and prevent the unexpected use of the regulation, but this will make the regulation still more complex. It does not, of course, follow that the more complex regulations cannot also be exploited. Indeed, the possibility of evasion and unintended consequences may sometimes even increase as the regulations become more complicated. So, as Schultze pointed out, there can be an unending process of loophole discoveries and closures with the complexity and cost of regulation continually increasing.

The more elaborate the regulation, the greater the need for specialists to deal with these regulations, such as lawyers, accountants, or other consultants on this or that aspect of governmental relations. When these specialists become significant enough, there is even the possibility that the specialists with a vested interest in thecomplex regulations will collude or lobby against simplification or elimination of the regulation. As the general argument here emphasizes, there is nothing easy, prompt, or automatic about the emergence of lobbies, but sometimes they will in time emerge. When lobbies of this kind emerge, the effects they have are aptly illustrated by the successful opposition of trial lawyers in many American states to “no-fault” automobile insurance laws that would greatly reduce the extent of litigation about automobile accidents. In the political system in the United States, at least, there is a sense in which even legislators can come to have a vested interest in the complexity of regulations, as Morris Fiorina and Roger Noll pointed out.³⁰ Congressmen and senators can gain exceptional support by helping constituents to obtain particular services or exceptions from the government, since the legislator is obviously linked more closely with these favors than with general legislation that can pass only if many legislators voted affirmatively. For this reason, Fiorina and Noll have argued, legislators seek more bureaucratic or manipulatable legislation that further increases the importance of the constituent services that help them to be re-elected. Interestingly, the proportion of incumbents getting re-elected has increased over time. I recall, in support of the Fiorina-Noll hypothesis, that when I was an official in the U.S. Department of Health, Education and Welfare, then-President Lyndon Johnson placed a general moratorium on a class of construction projects particularly favored by the Congress, allegedly in an attempt to pressure the Congress into supporting administration legislation. According to reports I heard, congressmen often privately were pleased with the moratorium, apparently because those exceptions to it that they were able to obtain brought them substantial credit with constituents.

Someone has to administer the increasingly complex regulations that result from the lobbying and the related processes that have been described. This increases the scale of bureaucracy and government. Lobbying obviously also adds in another way to the scope of government when it leads to government expenditures and programs to serve special-interest groups. Although lobbying on the whole undoubtedly tends to increase the extent of government activity, it would probably be claiming too much for the present argument to attribute most of the increase in the role of government around the world in the last generation or so to the growth of special-interest groups. The interwar depression, World War II, and other developments led to profound ideological changes that increased the scope of government, and developments like the cold war and pollution, to mention only two, also increased the demands upon governments. A great many factors have to be taken into account to explain the growth of government, and all that is asserted here is that the accumulation of special-interest organizations is one of these factors.

The increase of collusion and cartelistic organization similarly increases the amount of bargaining and organizational activity in the marketplace. There must be transactions between buyers and sellers in any market, but carteiization, as was argued earlier, also requires either a demanding type of bargaining or constitutional procedures for associational politics. The cartelistic organizations and collusions must sometimes also bargain with each other, as happens when there are negotiations between organizations of employers and labor unions. Given the slow decision-making, crowded agendas, and cluttered bargaining tables, it takes some time before negotiators agree on anything. But once agreements are reached, the same considerations suggest that they should not be changed without compelling reason. Thus, in time, work rules, customary market shares, or established ways of doing things emerge that cannot easily be changed. As time goes on, these arrangements often become rather complex. The complexity can be codified in legal contracts, as is often the case in labor-management bargains in the United States, or embodied in a network of customs, understandings, and habits, as is commonly the case in British industrial relations and in collusive activities among oligopolistic firms. Whether the agreements or understandings are written or not, they become more elaborate over time, and this is what is meant by increasingly complex understandings. Increasing complexity of understandings implies, for example, that employers dealing with labor unions would sometimes want to move to new locations, even if they would confront other equally powerful and aggressive unions in the new situations, because they would not there be hindered by a heritage of complex and out-of-date understandings.

The growth of coalitions with an incentive to try to capture a larger share of the national income, the increase in regulatory complexity and governmental action that lobbying coalitions encourage, and the increasing bargaining and complexity of understanding that cartels create alter the pattern of incentives and the direction of evolution in a society. The incentive to produce is diminished; the incentive to seek a larger share of what is produced increases. The reward for pleasing those to whom we sell our goods or labor declines, while the reward for evading or exploiting regulations, politics, and bureaucracy and for asserting our rights through bargaining or the complex understandings becomes greater.

These changes in the patterns of incentives in turn deflect the direction of a society’s evolution. Some observers might suppose that the accumulation of distributional coalitions would make societies evolve in ways that favor the less talented, the weak, and the poor, but this is wrong. In every environment, those who are best fitted for that environment are most likely to thrive, survive, and multiply. There is evolution in the zoo as there is in the jungle, as those animals that are able to adapt to cages and keepers outlast those that cannot. So also with cultural evolution and evolution in human societies. Every society, whatever its institutions and governing ideology, gives greater rewards to the fittest—the fittest for that society. What it takes to be favored varies from society to society, but no society rewards those who are least fit to thrive under its arrangements.

If a society mainly rewards production or the capacity to satisfy those with whom one engages in free exchange, it stimulates the development of productive traits. It does this particularly through cultural or Lamarckian evolution, whereby learned or acquired behavior can be passed on to descendants. If the accumulation of distributional coalitions increases the incentive for distributional struggle, augments regulatory complexity, encourages the dominance of politics, stimulates bargaining, and increases the complexity of understandings, this encourages the development of different attitudes and attributes. What we loosely call intelligence, or aptitude for education, will probably be favored as much as or more than before because the articulate and educated have a comparative advantage in regulation, politics, and complex understandings. This, in turn, probably limits the extent to which intellectuals oppose their elaboration.

The competition is not any gentler because it takes a different form. The gang fight is fully as rough as the individual duel, and the struggle of special-interest groups generates no magnanimity or altruism. Competition about the division of income is not any nicer than competition to produce or to please customers. The new competition is, in part, less individualistic, so in certain areas the rewards to individual effort are diminished and the relative attractiveness of leisure enhanced. But the weaker groups still suffer. The poor and the unemployed have no selective incentives to enable them to organize, whereas small groups of great firms or wealthy individuals can organize with relative ease. Thus life is not any gentler because of special-interest groups, but it is less productive, especially in the long run.

So, with thanks to the reader for patiently waiting until the next chapter before getting to the main practical applications of the argument, we come finally to the ninth and last implication.

To make later reference to them more convenient, all of the implications are listed on the next page.

Implications

1. There will be no countries that attain symmetrical organization of all groups with a common interest and thereby attain optimal outcomes through comprehensive bargaining.

2. Stable societies with unchanged boundaries tend to accumulate more collusions and organizations for collective action over time.

3. Members of “small” groups have disproportionate organizational power for collective action, and this disproportion diminishes but does not disappear over time in stable societies.

4. On balance, special-interest organizations and collusions reduce efficiency and aggregate income in the societies in which they operate and make political life more divisive.

5. Encompassing organizations have some incentive to make the society in which they operate more prosperous, and an incentive to redistribute income to their members with as little excess burden as possible, and to cease such redistribution unless the amount redistributed is substantial in relation to the social cost of the redistribution.

6. Distributional coalitions make decisions more slowly than the individuals and firms of which they are comprised, tend to have crowded agendas and bargaining tables, and more often fix prices than quantities.

7. Distributional coalitions slow down a society’s capacity to adopt new technologies and to reallocate resources in response to changing conditions, and thereby reduce the rate of economic growth.

8. Distributional coalitions, once big enough to succeed, are exclusive, and seek to limit the diversity of incomes and values of their membership.

9. The accumulation of distributional coalitions increases the complexity of regulation, the role of government, and the complexity of understandings, and changes the direction of social evolution.

*The meaning and significance of the reference to “unchanged boundaries” will be made clear in a later chapter.

*In other words, even if only one or two firms can survive in the industry and these one or two could earn supranormal profits if assured there would be no entry, it does not follow that there will be no entry. If the established firm or firms make abnormal profits or become slack through lack of competition, another firm may still have an incentive to enter the industry; the entrant in this case must replace an existing firm, since the industry will not support them all, and this means increased risk for the entrant. But the established firm or firms in the industry also know that any entrant could lead to their own demise and are well advised to keep this in mind before seeking conspicuously large profits or letting their firm become lethargic. A few economists, perhaps too anxious to show the virtues of laissez faire, assume that there never can be abnormal profits even in the natural monopoly; but this goes too far, at least in cases where a great deal of fixed capital is needed to produce the good in question, because, among other reasons, the established firm might even build a plant of a size designed to discourage entry, rather than one that would maximize profits in the absence of entry.¹⁹ The safer conclusion is that, in the absence of distributional coalitions, abnormal profits will eventually induce entry in the overwhelming majority of markets, and that even in markets that can support only one or two firms the existing firms are constrained to a significant extent by the possibility of entry.²⁰

*This account of the reward to innovation owes a great deal to the now-standard Schumpeterian analysis of innovation and entrepreneurship, but it differs in one respect. The Schumpeterian analysis emphasized that temporary monopoly was the reward to the entrepreneurs who introduced successful innovations. The rewards due to the delays in entry and imitation that are emphasized may, but need not, entail monopoly. Suppose that a farmer or a firm in any purely competitive industry discovers a new method of production that is significantly less expensive than any previously known, but suppose also that increasing costs, as the scale of the enterprise increases, ensure that the innovator will not take over the industry. The innovative firm then has no monopoly power—no capacity to influence the price of what it sells—but until others can successfully imitate the innovation it has supranormal profits. So it is disequilibrium rather than monopoly itself that is emphasized here as the reward to innovation.

*An economist who neglects the effects of decision-making costs and delays might argue that there was a gain to be made from bringing extra labor into the sector and suppose that the cartel would bring in the labor to secure the gain; he might point out that, in the circumstances described, there would be a difference between the wage that suitable laborers outside the cartel would be willing to accept and the monopoly wage (marginal revenue) that the cartel could obtain from selling the outside labor to employers, so that the cartel would hire or admit additional workers, and the old members would pocket the difference between the wage paid to the newcomers and the marginal revenue obtained from selling this labor to the employers. Needless to say, this sequence is not usually observed. Decision-making costs and delays make it difficult for a cartelistic organization to buy and sell labor or to deal with different classes of membership. The cartel might let the employers hire the extra labor and pay the cartel members part of the profits obtained by doing so, but that would undercut the cartel’s monopoly, so it happens only rarely, and then normally on a temporary basis. The argument that has just been put forth also makes it clear that the growth forgone because of increased monopoly prices in areas favored by rises in demand is not necessarily offset by decreased monopoly prices in the cartelized areas suffering from adverse shifts in demand.

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Implications