Wednesday, August 08, 2007

The information content of government inspections 

While walking last night I was listening again to a podcast from EconTalk with Nobel economist Vernon Smith. For my non-economist readers, Smith won the Nobel for his work with experimental economics (I agree with David Henderson that the term "behavioral economics" is not helpful -- all economics is about behavior.) Smith says something profoundly Hayekian in the podcast, enough to get Roberts to transcribe it:
Markets are about recognizing that information is dispersed in all social systems and that the problem of society is to find, devise, and discover institutions that incentivize and enable people to make the right decisions without anyone having to tell them what to do.
A government inspection system -- be it drugs, food, airplanes or bridges -- has a perverse incentive system. Job safety regulation replaces the natural incentives firms have to keep workers safe. Meat inspection has occurred for years without very good results -- I have friends who STILL won't eat at Jack in the Box. If we actually did have a report back in 1996 about a crack in the St. Anthony bridge pier, why was that incorporated in decisions of the Legislature then, or now?

So I was wondering whether putting any more money into bridge inspections gets the incentives right? Of course you could argue for privatizing bridges and then giving the private owner strict liability for any harm caused. The state faces very limited liability, so its incentives to get the inspection level right is relatively muted. Instead the liability is put on the contractors, who of course do not control the inspection and maintenance process. Insuring themselves against that liability costs them millions, adding to the cost of building roads and bridges.

Could this be solved by a market for private inspections? If the government does the buying of the inspections, you would have a monopsony; would it provide the right number and quality of inspections? I don't know. I think, though, that we're deluding ourselves thinking that the current inspection system has all the right incentives and only a lack of resources.

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