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Real Federalism Part 2

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It is too early for politicians to presume on our forgetting the real welfare of the people as the supreme object. So long as the sacrifice is for independence, and the imbecility of the Confederation remain fresh in mind, it may be possible to prevail over populous passions and entrenched interests and to establish good government from reflection and choice, as Federalist One put it. But sooner or later we will forget. We'll succumb to factional self interest. We will also be rationally ignorant about politics, and thus unable to monitor the politicians who execute schemes for some other faction. We will of course always watch very, very carefully what the politicians do for us today. And so a constitution written in a fortunate moment of public lucidity and attention must protect against the everyday risks of opportunism and ignorance. Its operative norms must be understood in light of that purpose. A constitution that fosters ignorance, illusions, and interests is a failed constitution and arguably worse than not at all. Unfortunately a constitution of ignorance, illusions, and interests is precisely the socalled constitution that we now have, and the thing that made it so is the New Deal. Madison, as I mentioned, was deeply suspicious of interest group politics. The New Deal celebrates it. Madison sought to constrain politicians, to protect citizens. The New Deal liberates politicians to fool all of the people all of the time. Let me sketch a few basic elements of the New Deal's constitutional order and then trace them to the inversion of Madison's premises. The New Deal is usually viewed as a nationalist phenomenon. The constitutional prohibitions against the indiscriminate exercise of federal power fell by the wayside. The story runs, the federal government assumed authority over therefore unimaginable array of functions. But this interpretation is only half correct. As I mentioned at the outset, federalism is not a zero sum game between the states and the feds, given the right or rather the wrong constitutional rules. You can have power accumulate at both levels at the same time. And the New Deal created precisely those rules. Concurrent with a massive expansion of federal authority, that engineered an equally massive expansion of state authority. For prominent example, the Supreme Court abandoned the notion that the Commerce Clause restricts of its own force, state regulation and taxation of interstate commerce. It was during the New Deal that the Court first initiated a gradual expansion of the states authority to tax interstate transactions. That the current effort to extend state sales tax collection to internet sellers that have absolutely no connection to the taxing jurisdiction or the tail end of that development that started 60, 70 years ago. The Court weakened substantive constitutional norms such as the Equal Protection Clause that had formally constrained the exercise of state power. Above all, the New Deal greatly expanded the extra territorial reach of state courts. The crucial case there was the famous 1938 decision in Erie Railroad written by Justice Louis Brandeis, the principle architect of New Deal federalism and so on. So prior to the New Deal, the deal was this. The Constitutional deal was this. The states are free to regulate stuff within their borders, and in that regard they in fact have protection against national interference. But the flip side of that deal was state regulation had to stop at the borders. And the New Deal wiped out all of those limitations, in particular the limitation against the extra territorial exercise of state authority. To add one more wrinkle, even the New Deal expansion of national, and especially congressional authority serves not so much to impose upon the states, but rather to protect them from competition with their sister states. That's true with respect to the most pervasive institutional practices of our federalism, regulation, funding programs, enactment of the spending clause, and the perversion that now passes for state competition. I'll take these in order. Regulation. Prior to the New Deal, legislation concerning minimum wages of work place safety was thought to be beyond the authority of the Congress. So statutes do not regulate inter-state commerce at all. They regulate the terms and conditions of employment and production, which were then considered separate matters. The states were entirely free to regulate those matters and many of them in fact did do so, but in so doing, the states were constrained by the threat that jobs, factories, businesses, tax payers, might move to more hospitable states. The New Deal expansion of federal authority of those affairs removed that competitive threat. And for precisely that reason the states overwhelmingly welcomed it. Not one of them every challenged a New Deal statute in the courts. As Robert Jackson, later Justice Jackson observed, corporations carried the states rights plea against the states themselves.

Spending. The New Deal and later the great society brought an enormous expansion of federal entitlement and spending programs, from Medicaid to education. Obviously those programs expand the power of the federal government which collects the revenue, excuse me, and sets the conditions on which the money is to be distributed. But again the programs are designed primarily to produce a concurrent expansion of state power, with one important exception, that being social security, federal funds do not bypass the states. They are instead given to the states to administer on certain conditions, usually including the condition that the states match federal funds in some proportion. Those statutes enable states to run programs that their own citizens left to their own devices, that is to say in the absence of federal support, would never agree to fund. And in addition the federal programs make it easier for states to tax their own citizens on the argument that if failure to fund education or Medicaid would entail a "loss of federal dollars." That's why the states tax take has more than doubled since World War II, from about 5% of GDP to now over 11%, even as the federal tax take has remained stable at about 18%. This is also why the states did not fight federal grants programs during the New Deal. They demanded them and they continued to demand these programs. So called competition. The case for competition in markets or among governments rests on a rough utilitarian calculus, and here it goes. Private competition undoubtedly causes real harm. Companies go belly up, workers lose their jobs, but we don't compensate such harms or by and large immunize firms against firms against their occurrence. Why don't we? Well because compensation would defeat the system. Each firm would at the margin be indifferent between competing for customers and being compensated for losing them. Compensation claims would generally be less arduous than the rigors of competition, and at the end of the day there'd be nothing but compensation and no one left to pay the bills. And it's the same with governments. When Nevada or Colorado offer favorable business climate, California loses productive citizens, jobs, revenue in spades. Those losses are real, but we can't count them as a harm or an externality. If they did successful states would have to compensate the losers. States would lose the incentive to compete and we would all be worse off. That's the logic, and lo and behold the New Deal again inverted it. It vilified interstate competition as a race to the bottom, and then contrived to cut if off. Principally by establishing uniform federal regulation in the domains where states might be most tempted to compete. The result however is not a competition free environment, because the extension of federal power and this into the states formally exclusive domains means that every transaction is now subject to at least two overlapping regimes, the states and the feds. And the concurrent expansion of the states extra territorial powers raises the number of legally competent regulators to 51. So if you run a firm anywhere in the country and you do business across the country, every one of your transactions is potentially subject to 51 different regulatory regimes. Since firms must comply with all the regimes, they must comply with the strictest regime. And under those circumstance states cannot compete by offering a regulatory haven, or even by charting a reasonable, safe middle course. They can compete only by regulating more strictly than the feds or any of their neighbors. And when the cost of state regulation fall predominantly on out of state parties as they now do, states have a powerful incentive to engage in that sort of "competition." Judge Richard Posner has compared this one directional competition to a private market where auto makers are allowed to compete only by offering automobiles with more horse power. But even that comparison does not quite capture the logic of our federalism in light of the massive extra territorial effect of our federalism of state regulation. It would be more accurate to say that our federalism resembles a market where the only permissible form of competition is trespass. The basic... So, now that I have tried to put these basic institutional dynamics in place, let me make good on my promise to trace them to the inversion of Madison's premises. I start with factions and then I'll turn to the citizens perspective. The factions. As I explained, Madison viewed federalism as a way of constraining factions. In contrast, the chief theoreticians of the New Deal insist on openness. Government openness to faction as a principle virtue. An interest group that cannot prevail in one institutional forum, can always turn to another, and then to a third. Some government agencies somewhere will always be open for interest group participation, and that's supposed to be a good thing. Now the essence of factional politics is redistribution. Competitive federalism curbs that appetite. Let any state tax Peter to pay Paul, and Peter will move to a more hospitable state, so long as he has an exit. But the New Deal as I mentioned eliminated the exits by authorizing federal degree distribution and by allowing states to impose the costs of their schemes on other states. In other words, redistribution and factionalism no longer stop as the founders intended at the borders, which means they no longer stop anywhere. And this glorification of interest group politics is our federalism's Archimedean point. I offer as an instructive example Louis Brandeis', Justice Brandeis' dissent in New State Ice Co. v. Liebmann. This is 1932 case, and it contains a famous pay on to the states as experimental laboratories of democracy. The case is virtually unknown for anything except that cliche, but it I think rewards a closer look. At that time America still had an ice industry. Not as in ice cream, but ice cubes, blocks. And that industry was threatened by a newfangled invention. It was called the refrigerator. And so the beleaguered ice merchants enlisted the state to organize a cartel in Oklahoma, with research as a market entry output and various forms of price and non-price competition. Supreme Court in that case invalidated the statute as wholly irrational and unrelated to any conceivable public purpose. Oklahoma statute, the Court declared, was purely partial law enacted for the purpose of procuring monopoly rents for the ice industry. What's striking about Justice Brandeis' dissent there is that he didn't seriously dispute that characterization. In fact he noted with approval the ice industry's acquiescence in the statue, and, and now I quote, its unremitting efforts through trade associations and formal agreements, combinations of delivery systems, and in particular through the consolidations of plans to protect markets and prices against competition of any character. No trace there is left of Madison's fear of faction. Oklahoma's courageous experiment deserves respect even though it is, even if it is and even though it is an undisguised naked interest group transfer. Federalism and the celebration of interest group politics here go hand in hand. Now in fairness to Brandeis, Oklahoma was trying its novel social and economic experiment without risk to the rest of the country, as Brandeis has put it. Ice was easily shipped over long distances and that meant that the Oklahoma industry operated and would've reaped its monopoly profits exclusively within Oklahoma. And if the citizens of Oklahoma consent to that sort of exploitation, that's arguably their problem But it was the celebration of interest group politics, not the territorial limitation that proved lasting. Eleven years after New State Ice and Parker v. Brown, a very, very important antitrust case, the Supreme Court looked at a state organized cartel of the same variety. The state there was California, rather than Oklahoma. The product was raisins, rather than ice. And of critical importance virtually all of the production, 95% of California's production was destined for exports to other states. California at that time accounted for the entire raisin supply in the United States market. Manifestly here California was not experimenting on its own citizens. It was systematically exploiting the citizens of other states for the benefits of the domestic industry. Nonetheless the Supreme Court unanimously sustained the California cartel, or more precisely the marketing orders for the 1940 Crop and Raisin Proration Zone No. 1 against a challenge under the Sherman Act and the commerce laws. And that official deal offset to state sanction exploitation remains unquestionable today. Let me turn quickly to the states perspective here. The founders as mentioned hoped that federalism would discipline the states. Our federalism empowers them. It's arranged for the convenience of state officials, the politicians as Madison sneered. The institutional devices that I've described, federal funding and the unshackling of state power illustrate the point. I'll take the funding first. Economists have shown that federal funding of local programs induces a higher level of spending than the citizens of any jurisdiction would choose under autocratial conditions. That is to say if their jurisdiction were alone in the world. So federal intervention here systematically trumps any and all local preferences, and that cannot possibly enhance the real welfare of the great body of the people. It does however enhance the interest of the politicians. How so? Well local politicians have a professional interest in satisfying interest group demands. Unfortunately for them the demand from the interest groups always outstrips the local supply. That is to say the extent to which the state's citizens are willing to tax themselves. And federal funding fixes that problem by exploiting the citizens' rational ignorance. Here's what I mean. Consider federal funding for some local scheme. Agricultural subsidies, education, whatever. The dollars travel from local citizens to Washington, D.C. where they spend an expensive night on the town. They then travel back. Not to the citizens but to Albany and Trenton where they spend another expensive night. Then they travel on, though again mostly not to citizens, but to local bureaucrats who are supposed to supply these local goods. And when the fractional leftover finally reaches the citizens, what will they do? Well in all likelihood they will thank the politicians up and down the distribution chain and never know that the politicians and their interest group clientele have played the tax payers for suckers. The dollars that went into the system and those that get stuck along the way are untraceable even for the experts, let alone the citizens. And the pennies that come out in contrast are highly visible because the politicians will see to that. With equal ease on confidence economists have shown that extra territorial regulation leads to a higher level of regulation than any individual jurisdiction would choose under autocratian conditions. Small wonder when the costs of regulation are paid by outsiders, while the benefits accrue mostly at home.

The state government becomes a sort of standing committee for the free lunch. One might think sister states should resist that exploitation but one would be wrong. And here's why. When State A sets out to exploit sister State B, it doesn't really attempt to exploit B as a state. It tries to exploit B's citizens. And State B has the same design on State A's citizens. In both states a successful attempt to exploit out of staters will earn the politicians kudos at home, and the out of state citizens who pay for the scheme will be none the wiser. And so a federalism that permits state governments to exploit each others' citizens makes all politicians better off. Even while it makes all citizens worse off. Economists capture these kinds of dynamics under the term fiscal illusion. Just about everyone winds up a loser under the scheme, and still everyone thinks he's better off. I think a fair calculation of the social costs here though should also include the net loss and adult citizenship. As de Tocqueville noted famously, federalism is confusing when power is dispersed. Citizens can't easily figure out who's responsible for what. That's a real cost of federalism in any permutation relative to a wholly unitary system. The question is whether the cost is worth paying, and I think the answer depends on federalism's design. Competitive federalism confuses citizens in the same way in which Western shopping malls in the days of the Cold War confounded occasional East Block visitors. There's just so much stuff around. But over time consumers learn to sort, order, and act on their preferences. Which in turn induces suppliers to improve their products. Of course that doesn't occur under monopolistic conditions, which is why West Berlin's shoe supply was always better than East Berlin's. And the social costs that you pay for that kind of confusion, uninformed choices,search cost, switch cost, are worth it because the social gains, product innovation, differentiation, consumer satisfaction, are so high. Our federalism in contrast is confusing in a very different way. Government cooperation makes it impossible to assign responsibility. Where competitive federalism offers broad range of products, each from one exclusive provider, our cooperative federalism institutionalizes joint production. That is state, local government, the federal government, produce these things together. At the front end that form of production increases in formation costs for citizens. At the back end it limits the range of choice. The typical urban school district now administers over 200 state and federal grants programs. Each with its own funding stream, requirements, and political constituency. If the local school collapses under that and fails to perform, whom do you blame? If you cannot escape that system except by moving to the exurbs, whose fault is that? You don't know and neither does anybody else. It's become fashionable to lament civic disengagement. Citizens were told, we should participate. We shouldn't simply consume. The glitch of course is that our federalism here rewards no participation. If there's no reward for informed citizenship, why is disengagement an irrational response? The only benefits from participation accrue to organized interests that have learned to gain the system. Why is it not more sensible and perhaps nobler to bowl alone? In a brilliant and angry essay written over two decades ago, the late Aaron Wildavsky described our federalism as an intergovernmental conspiracy against citizens. He didn't mean to suggest that politicians meet behind closed doors to loop the rest of us, although that happens on occasion. The system as a whole is far too big to be run in that fashion. What he meant is this. The most clever, conniving, cabal of politicians could not design a more efficiently exploitative system than our federalism. I'll end with these few remarks. Is there any way back to competitive political arrangements to the constitutional order? An optimistic answer might begin with a charge that as usual grossly overstated the problem, no political regime ever plays itself out to its logical conclusion. Our federalism's aspiration is to stamp out competition, but the chances of doing so are adversely proportionate to the citizen mobility and entrepreneurial spirit. And this is an exceedingly mobile and entrepreneurial nation. Citizens and businesses choose their state on a number of margins and our political institutions find it hard to keep pace with that. There's obviously something to this argument except unfortunately I think not as much as one might hope. First there's no good reason to believe that state competition on the remaining margins is efficient. In the days when interest rates were regulated, some of you may remember this, banks competed for customers by giving away toaster ovens. In the same way states now seek to attract business through targeted tax breaks and subsidies. And these sweetheart deals are so to speak the monetized equivalent of the broad based regulatory advantages that states would offer if federal laws, from labor regulations to environmental standards, did not prohibit competition on those margins. To celebrate these sort of forms of industrial policy engineering, tax breaks and so forth, as competition, is like saying that toaster ovens make for better banking. More important point is that our inverted federalism has a self reinforcing logic and momentum. As I mentioned we're only now playing out the logic of the New Deal. Our political system is meant to be cumbersome and unwieldy. Those design features make eminent sense in forestalling hasty interventions in private arrangements, but they turn into liabilities when the task at hand is as it is now prompt, energetic, and I mentioned to arrest state overreach into national affairs, or for that matter

Video Details

Duration: 24 minutes
Country: United States
Language: English
Director: Central Washington University
Views: 89
Posted by: atrctech on Dec 30, 2011

Real Federalism Part 2
Transcribed by Gianna

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