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The Crony Economy

Bipartisan outrage doesn’t stop government picking winners and losers

The story of crony capitalism—where success in business depends on government favoritism, not competitive products—is often told in anecdotes. Anyone who follows policy debates can rattle off a list: the Solyndra loan-guarantee fiasco; the Utah woman who couldn’t braid hair for a living without undergoing 2,000 hours of formal training, a regulation designed to shield established salons from upstart competition. But while such stories serve as excellent examples of the phenomenon, they can’t reveal its true depth and breadth.

Crony capitalism isn’t just a collection of individual restrictions: it is a cancer that is slowly eating the economy. Signs of it can be found in even the broadest, most fundamental economic data, and the nation’s biggest industries have fallen victim to it. And rooting it out would require a complete rethinking of how businesses and the government interact.

To an extent, fighting cronyism is a bipartisan issue. Neither class-warfare liberals nor free-market conservatives wish to see the government team up with well-connected businesses to drain money from everyone else. But the obstacles to reform are immense. The obvious one is that powerful lobbies fight to maintain the favorable treatment their industries have accumulated. Less well appreciated is that for both liberals and conservatives, anti-cronyism measures often conflict with other instincts, values, and priorities.


Jason Furman, who chairs the Obama administration’s Council of Economic Advisers, has done an impressive job of documenting the rise of “rents”—crudely speaking, economists’ term for the extra money gained from favorable laws.

Here’s one example. In general, he writes, interest rates on government bonds “reflect the prevailing return to capital in the economy,” so they should roughly track the returns to corporate capital. But over the past 30 years, these two measures have separated, with returns to corporate capital remaining steady or even increasing despite declines in government bonds. The excess returns likely result, at least in part, from the rents corporations are increasingly able to extract.

Research from Furman also shows that inequality is rising among firms, not just among individuals. For mysterious reasons, an increasing share of companies are seeing incredibly large returns—10, 20, 30 percent.

Consolidation is another potential sign of rents. Businesses that receive favorable treatment are able to stamp out or buy up their competitors—making themselves even bigger and more able to procure favors from the government. Furman writes that, over the 1997–2012 period, consolidation increased in 12 of the 13 major industries for which good data are available. Jim Clifton of Gallup has noted a similar trend in even broader data: today, more businesses die than begin each year in the U.S., a dramatic and thus far enduring reversal of the norm before the Great Recession.

It’s a little rich for Furman, a representative of the Obama administration, to decry cronyism and consolidation, though. Two of our current president’s signature achievements—Dodd-Frank and the Affordable Care Act—are speeding these phenomena along. The former regulates the financial sector, which constitutes 7 percent of America’s gross domestic product and oversees tens of trillions of dollars in assets; the latter regulates health care, which is 17.5 percent of the economy.

The debate over Dodd-Frank often focuses on whether it will really end that epitome of cronyism, the idea that some financial institutions are “too big to fail” and need to be bailed out should they run into hard times. In theory, the law will keep big banks from taking excessive risks and, failing that, provide a process through which they can be “wound down” without harming taxpayers or the broader economy. Critics charge that it entrenches too-big-to-fail rather than ending it. Only time will tell.

But one effect Dodd-Frank certainly has had is to concentrate the market by wreaking havoc on community banks. Jamie Dimon, CEO of the enormous bank Chase, has referred to various Dodd-Frank provisions as his “moat” thanks to their ability to keep smaller competitors at bay. While these smaller banks did little to contribute to the financial crisis, Dodd-Frank saddles them with various new rules and the costs of following them—which often include, according to one recent survey of community bankers, hiring additional staff to deal with compliance issues. Bigger banks are better able to carry this burden, so this is an incentive for smaller banks to merge.

The upshot is that after Dodd-Frank, the industry rapidly consolidated. Community banks’ share of assets fell 12 percent between 2010 and 2015—double the previous rate of decline—and small-business loans have dropped as well, according to a study by Harvard researchers Marshall Lux and Robert Greene. They said their findings “appear to validate concerns that an increasingly complex and uncoordinated regulatory system has created an uneven regulatory playing field that is accelerating consolidation for the wrong reasons.” Others have suggested that the drop in small-business lending could contribute to our slow recovery and lack of start-up activity.

A similar process unfolded with Obamacare—on steroids. Wall Street actually fought Dodd-Frank, but the medical industry hammered out a compromise it could live with on the Affordable Care Act, which both required Americans to buy the industry’s products and subsidized their doing so. The feeding frenzy consumed the whole alphabet-soup bowl: PhRMA, AMA, AHA, AHIP, AAFP. After several years of historically low growth, nationwide health spending lurched upward more than 5 percent in 2014—“primarily due to the major coverage expansions under the Affordable Care Act,” Health Affairs reported.

The health industry has also seen a wave of consolidations. As Yevgeniy Feyman and Jonathan Hartley explain in the latest issue of National Affairs, the law’s focus on “Accountable Care Organizations”—groups of health-care providers that coordinate care for patients—for Medicare likely accelerated the trend of hospitals’ merging and acquiring doctor practices, which drives up costs. Meanwhile, three huge mergers for insurers are either in the works or finalized—Aetna/Humana, Anthem/Cigna, and Centene/HealthNet—with the goal, as CNBC has reported, of “making insurers big enough to compete profitably on the online health insurance exchanges set up under the ACA.”

It’s not hard to see how this could have happened. Liberals had goals they saw as incredibly important—to regulate banks and to expand access to health care—and rightly or wrongly saw the provisions of Dodd-Frank and Obamacare as the way to achieve those aims. Perhaps they saw consolidation as an acceptable price to pay to reach their goals, whether politically (as an unfortunate but necessary way of buying the support of big firms) or policy-wise (as an unfortunate but necessary side effect of rules that accomplished good things). Or perhaps they saw an upside to consolidation: it’s easier for the government to control a handful of huge companies than to control a nation full of small ones.

Conservatives, of course, have their own obstacles to supporting reform. One is that they are accustomed to defending inequality from attacks by liberals who see it as undesirable per se, the conservative response being that the rich became rich through their talent, hard work, and valuable contributions to society. It’s also easy for the “pro-business” party to favor the interests of industry even when doing so violates free-market principles. The modern reality of cronyism requires the right to defend capitalism with a little less zeal and a little more nuance.

And then there’s Citizens United. This Supreme Court decision allows corporations to spend as much money as they want influencing elections, so long as they do so separately from official campaigns. Critics say it warps the political process. Conservatives see it as a straightforward application of the First Amendment.

Unfortunately, both can be true. Corporations can distort politics by dumping money into elections, yet Americans have a First Amendment right to say what they want about candidates for public office, a right that doesn’t disappear when people exercise it together as a corporation or in a way that requires spending money. Liberals may not buy this reasoning, and may even suspect it is merely a cover for some nefarious corporate agenda, but I can attest that it resonates deeply for conservatives. Years ago, when I first heard about the case from a friend, I figured he had his facts wrong: the law prevented an activist group from airing and promoting a documentary critical of Hillary Clinton? Sorry, that kind of censorship doesn’t happen in this country.

And of course, sometimes the biggest obstacle to reform of all, for liberals and conservatives alike, is the obvious one: huge companies don’t want to give up the advantages they’ve accumulated over the years. The Export-Import bank, for example, is despised by everyone from right-wing activists to Bernie Sanders for the fact that it exists mainly to back loans for the benefit of powerful companies like Boeing. With an aggressive, sustained push from the free-market right, lawmakers managed to shut it down for a brief period. But eventually that resistance failed, and the monstrosity is slowly sputtering back to life.


Where does all that leave us in terms of fixing the problem? One option, certainly, is for the American people to rise up and demand change. The movements of Bernie Sanders and Donald Trump suggest that there is at least some appetite for this. Whether such a movement can succeed, exactly what form it will take, and whether its leaders will actually follow through on their promises all remain to be seen.

Failing that, are there areas where bipartisan cooperation is possible and the lobbies opposed may be beatable? Apparently not too many. This was thrown into stark relief recently when RegBlog, a project of the University of Pennsylvania Law School, ran a lengthy series on “regulatory capture”—i.e., when industries gain influence over the agencies that are supposed to be regulating them. Sens. Elizabeth Warren and Mike Lee, leading lights of the Democratic and Republican parties respectively, both contributed. They agreed that there’s a problem and that “transparency” is good. But otherwise, their solutions contradicted each other. Warren wanted to add a “public advocate” to the rulemaking process and increase funding for regulatory agencies. Lee wanted Congress to reassert its authority over the agencies, ending lawmakers’ habit of passing vague laws and letting the executive branch interpret them however it wants.

Othisarticleappearsn the bright side, at least right and left can agree on occupational licensing: the Obama administration recently added its voice to the chorus of libertarians and conservatives decrying the practice. Licensing is supposed to ensure workers are properly trained for dangerous occupations, but it often serves only to keep competitors out of the market. While only 5 percent of American workers needed state licenses in the 1950s, about 30 percent do today. Some efforts to roll this back—especially for jobs where the case for it is especially weak, like florist and interior designer—have gained ground, albeit sometimes through aggressive court rulings rather than legislative action. (For example, a federal court axed Utah’s hair-braiding licensing policy on the grounds that it violated the “right to earn a living” lurking in the 14th Amendment’s Due Process and Equal Protection clauses.)

Beyond relatively small reforms like these, pending a popular revolt, we are likely doomed to a perpetual tug of war between the parties, with each tying its preexisting agenda to the widespread distaste for cronyism. Furman, for example, has suggested that if connected businesses are going to loot the economy, we might as well make sure workers get their share of the booty by hiking the minimum wage and strengthening unions, which just so happen to be standard liberal goals. Conservatives think the best way to attack cronyism is by repealing Dodd-Frank and Obamacare, and by deregulating the economy more generally, so that small businesses can compete without wading through a sea of red tape first.

Each party may win about as often as it loses. But cronyism just keeps gaining ground.