July 6, 2017
RALEIGH — Government is bigger and more expensive than it needs to be, thanks to an economic concept called the “special interest effect.” A new John Locke Foundation Spotlight report explains how the concept drives energy policy, health insurance mandates, and sugar subsidies.
The report also suggests ways to fight negative consequences tied to the special interest effect.
“It’s a widely recognized fact that legislation gives rise to wealth transfers from some groups to others,” said report author Dr. Roy Cordato, JLF Senior Economist. “The special interest effect focuses on the relationship between legislators and interest groups. It explains how that relationship affects the way benefits and costs of wealth transfers are distributed. The distribution of costs and benefits gives rise to special interest coalitions that impact the legislative process.”
A central element of the special interest effect involves “concentrated beneficiaries and diffused cost-bearers,” Cordato said. “In other words, benefits from most legislation are heavily concentrated on a few individuals or businesses, while costs are spread thinly throughout the population.”
This distinction between those who benefit and those who bear the cost creates a “divergence in incentives,” Cordato explained.
“Those who receive the benefits will have a great deal to gain, on an individual basis,” he said. “They will be more likely to come together to lobby and devote resources to ensure that favorable legislation is passed or unfavorable legislation is thwarted. The cost of organizing legislative pressure groups is low relative to the benefits that can be gained.”
On the other side, those who bear the costs of legislation face entirely different incentives, Cordato said. “While total costs are likely to be high, individual citizens will barely feel them,” he said. “As a result, those who pay the price have little or no incentive to organize in opposition to the legislation.”
“Because of the way costs and benefits are broken down, a small number of special interest groups can exert intense, focused pressure on the political process,” Cordato added. “This thwarts what is, in fact, the general interest.”
Much of the report applies the basic principle to individual examples. First, Cordato calls renewable energy subsidies a “textbook example” of the special interest effect.
“Subsidies provided to renewable forms of energy like solar and wind power are so important that the industries would likely disappear if they were repealed,” he said. “Government subsidies are a question of existence. Hence, the renewable energy industry is one of the best-funded and most powerful lobbies walking the halls of both state legislatures and Congress.”
The special interest effect explains why opposition to renewable energy subsidies remains limited, Cordato said. “While subsidies might be costing ratepayers billions of dollars in the aggregate, the individual costs are so small that it is in no one’s interest to incur the costs of organizing against them.”
Cordato also cites the impact of the special interest effect on North Carolina’s 56 mandated health insurance benefits. “If you are a health care professional, having it mandated that the service you provide must be covered by all insurance policies is a huge benefit,” he said. “When insurance, rather than the individual, pays for the service, the patient is less likely to consider costs when using the service. Therefore, the service provider can charge more. When third-party payment is guaranteed by all insurance policies, the number of patients likely to use the service expands.”
Concentrated benefits for particular health care providers prompt them to organize, lobby, and pressure legislators, Cordato said. “On the other hand, these costs are spread widely across all policyholders, including both those who might value the coverage a great deal and those who might not value it all,” he said. “The added costs of covering any one of these mandated services is likely to be very small for a policyholder.”
The federal sugar quota program offers a third example of the special interest effect. The quota caps the amount of sugar imported into the United States from other countries.
“These supply restrictions generate well over $1 billion a year in benefits to U.S. sugar and sugar substitute producers,” Cordato said. “A sugar farm in the U.S. reaps the reward of about $31,000 annually. Meanwhile, the cost of a pound of sugar increases by about 6 cents for consumers, adding up to a few dollars per year.”
Lawmakers can take steps to limit the impact of the special interest effect, Cordato said. “One way to do this is to craft legislation that balances concentrated beneficiaries against concentrated cost-bearers,” he said. “This way special interests are pitted against each other in the legislative process.”
A rule could require that increased subsidies for one group always must be offset with reduced subsidies for another group, Cordato said. “For example, if solar and wind power subsidies increase, then the subsidy for another industry, perhaps film production, would have to be reduced,” he said. “Or if lawmakers add another health insurance mandate to the state’s list, an existing mandate would have to be eliminated.”
The same special interests that push for subsidies and mandates will oppose any attempts to reform the system, Cordato warns. “What this means is that legislators have to see the process for what it is and resist the incentives to act in accordance with the special interest effect,” he said. “This requires not only will power and a strong ethical compass, but also an ability to communicate what is occurring to constituents. Politicians who are up to this challenge are a rare breed indeed.”
Dr. Roy Cordato’s Spotlight report, “The Special-Interest Effect: Increasing the Size, Scope, and Cost of Government,” is available at the JLF website. For more information, please contact Cordato at (919) 828-3876 or [email protected] To arrange an interview, contact Mitch Kokai at (919) 306-8736 or [email protected]