The remarks below were delivered by Mackinac Center Legislative Analyst Jack McHugh at the annual "Thumb Area Education and Community Day" in Marlette on April 30, 2004. McHugh, part of a panel, explained to local civic leaders that a successful government is a limited government.
I note that while the other panels are asked to discuss "measuring success," on the government panel we’re limited to "picturing success." This may be accidental, since the organizers probably don’t mean to say there are no examples of government success to measure. But the shift from "measuring" to "picturing" does suggest some important features that distinguish government from the institutions of markets and civil society, where the organizing principles are voluntary cooperation and competition. These differences lead to certain conclusions about the picture of a successful government.
At a recent MSU school finance symposium, a panel of five Ph.D.s was asked by an audience member: "What is an adequate level of revenue to fund public schools?" There was a long period of confused silence. Finally, one of them began listing the costs paid for some of the "production inputs": teacher salaries, health insurance, plant and equipment, etc.
These figures did not answer the question, which was not "how much does the current government system cost?" but was "how much is adequate?" What neither the questioner nor the professors realized was that nobody knows, or can know, because the thing that determines how much is needed to acquire goods through voluntary transactions in free markets is totally absent in the non-voluntary monopoly of government-supported education. It is absent from all other government programs as well. That missing component is a market price determined by competitive interaction among many producers and consumers.
Although often used interchangeably, price and cost are not the same thing. Cost is the total amount paid by a producer for all the components that go into a particular good or service. Price is the product of an implicit negotiation between a buyer and seller, where either party is free to walk away. It is the amount a buyer is willing to pay, assuming that there is or potentially may be more than one seller, so the buyer could get what he wants elsewhere. The possibility of multiple sellers is the key because it creates the spur to innovation and efficiency that makes free markets so effective.
Here’s how this distinction is important in the public education example. We can measure all the costs that go into the current system. We can devise measures of output, such as test scores, or the success of graduates in the workplace. On the S&P School Evaluation Services website right now there are many measurements, including a "Performance Cost Index" that shows the average expenditure per percentage point of passing test score.
However, all these numbers only describe how much the current model costs. Because there is no real public school choice or competition, we cannot even guess at the efficiencies and innovations that might bring down costs if consumers could choose from more than one provider. With choice, cost savings would quickly be reflected in lower prices, or better schooling for the same price.
When goods are provided by the private sector, there are many producers, many prices, and many models. Consumers with different needs shop with varying levels of knowledge and diligence. The result is natural selection: The best products succeed, and mediocre ones die out. To survive, producers must engage in a never-ending quest for efficiency and innovation.
Price is how we measure their relative success. It allows the informed buyer to discover the very best product and value that can be produced at this time and place, using all the ingenuity of human beings motivated by the pursuit of their own well being. In a fast-changing world that optimum solution is shifting all the time, but in a free market system, anyone can easily discover today’s best value.
The consumer doesn’t care about the costs of production. When innovation and efficiency reduce costs, competition forces this to be reflected in a lower price. This in turn drives further innovation and efficiency.
Early in the previous century economist Ludwig von Mises demonstrated how socialism could never work because of this lack of market prices. His logic also explains why centrally planned enterprises like government school systems are always mediocre at best, and often much worse. "Price" seems such a simple concept, we rarely think about what it really is. "Price" is information. Von Mises’s colleague Freidrich Hayek explained that prices "coordinate the separate actions of different people . . . (in a) system in which knowledge is dispersed . . . ."
In a recent Hayek symposium, economics professor and former congressman Richard Armey characterized this coordination process as "the greatest information processing system in the world, more powerful than all the high tech computers. It can collect, sort, fragment, condense and deliver the right information to the right decision-maker at the right time for the right purpose to make the optimal choice. I may not know about the flood or the drought or the labor trouble. I don’t care or need to know, because all of that information is contained in a single data point: The price of tea (or whatever commodity) is up or down."
Meanwhile, back in the government sector, this process is absent. There is no choice, so no price, and therefore no way that we can even approximate the optimum public policy solution. Is there anyone who thinks we get the best value for any good provided by government? This is not because government workers are bad, or don’t care. But without the relentless spur to innovation and efficiency provided by competition and choice, the process by which markets discover and provide the ever-changing optimum can’t happen.
Instead, government must fall back on infinitely less effective means to measure and improve public policy. The authors of a popular public policy textbook define the challenge of policy evaluation as, "Could we be doing something of more benefit to society with the money and work force devoted to these (government) programs?"
Who knows? For goods and services provided by markets, prices not only answer this question, but they bring about the adjustments needed to achieve the optimum. The fact that no comparable process applies when goods and services are provided by government leads me back to the topic of this panel: Picturing a successful government.
At the very least, government should attempt to harness market-like incentives as much as possible. Privatization is the most well known example of this. When done properly, privatized government services can deliver better value for fewer taxpayer dollars. For example, an analysis of 28 prison privatization studies found privatized prisons typically save between 5 and 15 percent compared to government-run prisons. Michigan could save up to $240 million with this single reform.
Given the issues discussed above, government should not even be in the recreation business. But if they are, the City of Detroit offers a lesson. The city’s municipal golf courses positively bled taxpayer dollars before management of most of them was turned over to a private firm. Now the city may seek to boost its percentage of the take because they are so flabbergasted by the profits. On a smaller scale, the City of Portage improved service and saved more that $700,000 a year by hiring a private firm to manage its municipal water and sewer system – a savings of more than 11%.
In the public education arena, Mackinac Center scholar Robert Crowner describes how schools can replicate market incentives in the area of performance pay for teachers. His examples come from another experiment in bringing market-like choice to education: Charter schools.
"Teachers are professionals," wrote Crowner "Yet unlike virtually every sort of professional working in private enterprise, they have no performance incentive in their pay structure. It is time to try something new. (In charter schools) . . . incentives are beginning to have an impact. National Heritage Academies conducts assessments that employ performance goals. Based on these, a teacher can receive an annual merit-pay raise of up to 8 percent. Edison Schools goes even further. At the beginning of each school year, Edison pays each returning teacher a bonus based upon student achievement. The school principal can receive a bonus that reaches into the $7,000 to $10,000 range."
Certainly we should maximize opportunities to bring these kind of market-like reforms to government. However, there is no way to fully escape the inevitable inefficiency, low productivity, skewed incentives, and lack of innovation inherent in a system insulated from market forces. Given this, we should leave as little as possible to government. We should seek our sustenance in goods and services provided by free markets.
For social goods, we should always turn first to the voluntary institutions of civil society, which Mackinac Center Director of Fiscal Policy Michael LaFaive has described as ". . . that network of private institutions, community associations, schools and religious organizations, families and friends and coworkers, and all their voluntary, from-the-heart interactions."
Therefore, a successful government is a limited government. It adheres to the formula described by Thomas Jefferson for "picturing a successful government": "That government is best which governs least."
Jack McHugh is a legislative analyst for the Mackinac Center for Public Policy, a nonprofit research and educational institute. He is also the manager of MichiganVotes.org, a web-driven legislative database. McHugh is the recent author of articles on tax systems, outsourcing, and the state budget deficit.
Hayek, Friedrich A. “The Use of Knowledge in Society,” American Economic Review, XXXV, No. 4; September, 1945, pp. 519-30.
Dye, Thomas R. Understanding Public Policy, 10th Edition. (New Jersey: Prentice Hall, 2002).