Do markets need government?

The Institute of Economic Affairs in London has published a interesting new book, The Legal Foundations of Free Markets. The book in edited by Stephen F. Copp and includes chapters on the following

1. The legal foundations of free markets by Stephen F. Copp
2. Do markets need government? by Peter T. Leeson
3. Natural law, Scholasticism and free markets by Samuel Gregg
4. The common law and wealth by Cento Veljanovski
5. Economics and the design of regulatory law by Anthony Ogus
6. Economic rights by Norman Barry
7. Breach of contract and the efficiency of markets by David Campbell
8. Limited liability and freedom by Stephen F. Copp
9. Unilateral practices and the dominant firm: the European Community and the United States by Richard A. Epstein
10. Private versus public regulation of the environment by Julian Morris

Most people would accept that a free market economy cannot exist in a legal vacuum. But there are questions about how systems of law come into being and what form they should take that remain in dispute. The book's authors wish to shed light on some of these issues, such as whether common law systems are better than codified law systems; the relationship between natural law and government law; whether systems of law evolve within societies or are imposed from above by government; and the role of human rights, as guaranteed by constitutions. After examining these questions, the authors then proceed to look at specific problems that are frequently disputed by economists – such as the role of competition law; the relationship between law, regulation and economics; and how the law can protect the environment without onerous regulation.

Over at the IEA blog Peter Leeson has been posting on his chapter, Do markets need government? Lesson writes

The idea that markets need government is as old as government itself. Even Milton Friedman believed this was true. As he put it: "government is essential both as a forum for determining the 'rules of the game' and as an umpire to interpret and enforce the rules decided on."

According to conventional wisdom, Adam Smith's "invisible hand" can privately generate market order within well-defined institutions of property rights and contract enforcement. But it can't privately generate these institutions themselves.

My chapter asks: why not?

The obstacles society confronts when it comes to creating encompassing legal rules and enforcing these rules without government are difficult ones indeed. But precisely because the losses individuals stand to suffer from failing to overcome these obstacles are so large, they have strong incentives to do so.

The private governance solutions that individuals devise without government to secure social cooperation aren’t perfect, of course. But then again, neither is government. My chapter intends to show that private governance solutions are considerably more robust than we usually think. They can, and have, overcome the absence of state-created laws and enforcement - in some cases quite successfully.

To explore this argument, I consider the spontaneously-ordered legal foundations of medieval international trade - foundations that largely support international commerce to this day. I also examine the institutions that interior producers in 19th-century Angola developed to transform their economic partners’ behaviour from banditry to trade. Finally, I discuss the decentralised legal system that emerged to govern the violent interactions of the Anglo-Scottish Border Reivers.

Do markets need government? At the very least, the answer to this question is more ambiguous than we normally think. Hopefully, my chapter will help spur additional thinking about why the answer just might be no.

In addition Richard A. Epstein has been blogging on issues to do with his chapter, Unilateral practices and the dominant firm: the European Community and the United States. Epstein explains

Competition law (which travels under the name antitrust in the United States) rests on the proposition that the most efficient allocation of goods and services takes place within the framework of a competitive market, where many buyers and sellers each seek their best deal. The genius of this situation is that the pursuit of individual self-interest will lead to a maximisation of social welfare if all players have to abide by sound institutional rules. One such key constraint requires that firms on the same side of the market not collude with each other to raise prices or reduce output. The central office of competition law is to identify and limit that collusion.

Yet competition law has a dark side, which is darker at present in the EC than it is in the US. Thus it is commonly held that unilateral actions by single firms can also create and extend monopoly power, even without collusion, as when a single firm holds the market dominant position when new entry is limited. But pushing hard against unilateral behaviour will land us in hot water if we do not guard against the risk of excessive liability that dampens innovation. Frequently, firms achieve dominance through innovation that their less astute competitors have overlooked. Imposing extensive liability on these firms could easily reduce the pace of innovation.

I fear that the EC’s hot pursuit of Microsoft for the dominance of its operating system, which I discuss at length here, has just this consequence. Under competition law, the shape of the remedy is often as important as the finding of liability. Requiring interconnections to a dominant server is one thing, forcing a firm to share its intellectual property with another is, however, overintrusive. We must never let competition law become the enemy of new forms of competition that break up established ways of doing business.

Read the blog and the book.