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Book Review: Power and Prosperity

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Power and Prosperity: Outgrowing Communist and Capitalist Dictatorships
by Mancur Olson (New York: Basic Books, 2000); 233 pages; $28.

MANCUR OLSON, who died in 1998 at the age of 62, was one of the most insightful economic analysts of the political process. His most original and important work was The Logic of Collective Action: Public Goods and the Theory of Groups, published in 1965. He developed an analysis of the political process that focused on the different incentives within and between interest groups of different sizes. He argued that the larger the group attempting to reach a collective consensus, the less likely the effort will be successful. The smaller and more cohesive a group, the easier it would be to agree upon a course of action.

For example, suppose that in a society of one million people, 100 are dairy farmers. And suppose that these hundred farmers form an association to lobby the legislature for a minimum price for dairy products that increases the price of, say, a quart of milk by 5¢. If it was estimated that each of the one million people in the society purchases two quarts of milk, then an extra $100,000 in revenue would be earned by the members of the dairy association (two million quarts times 5¢ extra per quart), or on average an extra $1,000 of revenue per dairy farmer. Suppose that it was estimated that it would cost the dairy association $10,000 to have a successful lobbying effort. Then each of the 100 farmers would need to contribute only $100 to obtain a $1,000 return through political plunder.

But why would the society at large, the one million people minus the 100 dairy farmers, not counterlobby to resist and prevent this political plundering of $100,000 of their income? Because for each of the one million individuals in the society, the cost of this politically created income transfer of $100,000 is only 10¢ (two quarts of milk purchased by each of the one million people at an extra 5¢ per quart equals the $100,000). The amount each individual would save, 10¢, by defeating the dairy lobby would not be worth the cost of contributing to an anti-dairy-farm lobbying effort, even if each person’s contribution to such an effort were as much as, say, 25¢ per person. The concentration of benefits towards special-interest groups and the diffusion of the burden or cost of the privileges among the rest of the members of the society, Olson explained, are why it is so difficult either to stop the growth of the interventionist-welfare state or to actually reverse it.

Olson devoted much of his efforts in later years to analyzing under what circumstances such networks of special-interest groups might be weakened and defeated. His 1982 book, The Rise and Decline of Nations: Economic Growth, Stagflation and Social Rigidities, suggested that only major social upheavals, such as war, were strong enough to shatter the political structures that perpetuate systems of privilege and redistribution once they exist.

Power and Prosperity was the last work he finished before his untimely death two years ago. He explains the origin of the state, the limits of plunder under autocratic and communist regimes, the difficulties in transitions from planned economies to market economies, and the political and constitutional institutions essential for both the establishment and preservation of individual freedom and free-market prosperity.

The state and plunder

He argues that the origin of the state can be seen in the replacement of roving bands of plundering thieves by a stationary bandit who settles down to rule over a territory over a prolonged period. The roving band cares nothing for what happens in the area it has looted and then left behind. But the stationary bandit, who wants to live off the conquered area permanently, has to take into the consideration the conditions and the incentives of his subjects if they are to keep producing and therefore creating something for him to plunder through taxation year after year.

Thus, out of the taxes he imposes he must also, in his own interest, to some extent secure his subjects’ property rights, enforce their contracts, establish a judicial system to adjudicate their disputes, and even supply some “public goods,” such as roads and harbors to facilitate commerce. His goal is to extract the greatest amount of tax revenue for himself at the least cost of respecting and enforcing the property rights of his subjects, but he must offer some degree of such security for his subjects. Otherwise, their incentive to produce the wealth out of which his tax revenues come might be minimized.

Olson offers a fascinating analysis of how in the Soviet Union in the 1930s, Stalin manipulated people’s incentives in such a way that even though all private property in the means of production had been abolished and wages kept low, individuals were motivated to exceed assigned production levels. All extra income earned in the form of bonuses or access to quantities of goods otherwise difficult to acquire, by producing above assigned quotas, were tax-free (or equal to a marginal tax rate of zero). But physical threats and financial bonuses, to extract greater physical output from Soviet workers, could not compensate for the fact that without market prices production decision-making was fundamentally irrational, and over time coalitions of bureaucratic interest groups, along with the senior leadership of the Communist Party, manipulated and plundered the Soviet economy.

While democracies have certain fundamental institutional advantages over autocratic or dictatorial regimes, the tendency for the democratic process to degenerate into special-interest-group politics means that often the degree of redistributional plunder can be almost as harmful to the economic well-being of a society as under a nondemocratic regime. Indeed, the difficulty for many of the former socialist societies is that the new democratic political environment is one that makes it easy for the obsolete and unprofitable industries left over from the years of central planning to now form lobbying coalitions to resist privatization and free-market reforms and to extract subsidies to keep their workers employed at jobs making goods that have no positive market value.

Markets and market relationships, Olson explains, emerge spontaneously and without government support and enforcement. The discovered potentials for mutual gains from trade create incentives for people to develop and respect various rules of commerce and contract, even without legal delineation and protection. He calls these “self-enforcing markets.” Such self-enforcing market rules and relationships pervade all societies in which political regulations, controls, and taxation generate the incentives for people to interact in the “underground economy.”

But there are many forms of market relationships that are difficult to establish, delineate, and enforce without a formal legal structure in a political community with the police power to protect rights, enforce various types of contracts, and administer justice. Without this legal order, the members of society may not be able to reap all the benefits from a better-defined and more secure set of market associations.

The other ingredient essential for men to be free and prosperous is to prevent both private and political plunder. The answer to this problem, unfortunately, is least well-developed in Olson’s book.

But what is clear is that he believed that to answer the problem of political plunder it was every man’s duty to understand why freedom was essential to a healthy human condition and why the fallacies of government interventions and redistributive schemes had to be challenged and overthrown in the arena of political debate. The use of our reason to explain freedom and free markets, he hoped, would be sufficient to eventually defeat the forces of political power and plunder.

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    Richard M. Ebeling is a professor of economics at Northwood University. He was formerly president of The Foundation for Economic Education (2003–2008), was the Ludwig von Mises Professor of Economics at Hillsdale College (1988–2003) in Hillsdale, Michigan, and served as vice president of academic affairs for The Future of Freedom Foundation (1989–2003).