There is also the phenomenon of government failure

Wednesday, November 29th, 2017

The paradox of profits, Arnold Kling argues, is that while the profits that accrue to any given individual may be unjust, the profit system itself is necessary in order to have a modern, progressive society:

Some people, like the management team that took over Freddie Mac in 2003, have enjoyed nice profits when they deserved instead to be punished. And some people, like me, benefit from luck and timing.
The bottom line, in my view, is that while the “millionaire next door” model of hard work, delayed gratification, and risk-taking has some truth to it, that model is not the whole story.

In a modern, large-scale economy, coordination takes place through a combination of bosses and profits:

Within any one organization, you take orders from a boss. Your only alternative is to leave that organization and find another boss or start your own organization.

Profits determine the success or failure of different organizations. Organizations that earn profits can continue to operate. Organizations that fail to earn profits have to go out of business, unless they can survive on donations or subsidies.

The profit system helps to discipline bosses. Really bad bosses, who use resources inefficiently (including mis-use of workers), tend to perform poorly in terms of profits. This poor performance eventually gets weeded out, either by the boss’s boss or by the inability of a poorly-performing firm to stay in business.

Profits are a measure of economic sustainability. A business earns a profit if it offers to consumers something that is more valuable than the costs of the resources used by the business to provide its goods and services. For the most part, a business that earns a profit is using resources efficiently. For the most part, a business that operates at a loss is wasting resources.


It is easy for a person to say, “I do not like the market outcome of X. I want to see the government change it.” But when you say that, you are saying that you want to be the boss. And no matter how much you think you know, the chances are that you are not as wise a boss as you think you are. That goes for trained economists, too.

And even if you happen to be the one who is wise about a particular issue, there is no guarantee that the government boss will make the choice that you would make. There is also the phenomenon of “government failure,” and often it is worse than market failure.

We cannot do without the profit system, but can we tinker with it effectively?

It is easy to criticize specific outcomes. However, the alternative is not some system that works for “the people” to provide perfect justice. The alternative is some form of intervention undertaken by a specific group of persons, presumably government officials, who themselves operate with gaps in knowledge and constraints on competence. Government intervention, when it does take place, ought to aim less at trying to directly fix problems and more toward fostering competition in order to take advantage of the profit system’s self-correction mechanisms.

Arnold Kling laments that he is almost entirely preaching to the converted.


  1. Sam J. says:

    “…Profits determine the success or failure of different organizations. Organizations that earn profits can continue to operate…”

    Actually this isn’t true at all and just a a form of modern gri-gri. If you have the right friends at the FED you can lose tens and even hundreds of billions of dollars and still make a profit. You can lose money like Amazon for over a decade and drive your competitors out of business while not making a dime and paying none of the taxes that a typical business has to pay.

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