The Growing Regulatory Burden, and the Challenge of Reform

According to the Office of Management and Budget, Americans currently spend 10 billion hours wading through federal paperwork requirements. In fact, in just one week in March, regulators added $1.4 billion to the regulatory burden, along with another 6.7 million hours of paperwork. And according to the National Federation of Independent Businesses, the largest problems for small businesses in February were regulation and red tape. Overall, the costs of regulation have become a significant problem. With the economy still enervated from the financial collapse of 2008, perhaps it is time to address the increasing regulatory burden, which can stifle the best laid schemes for economic growth.

Back in the Carter era, due to the deregulation of the airlines and elimination of the Civil Aeronautics Board, economists realized that regulations could pose significant barriers to economic growth. Since Carter, every president has sought to address the potential economic drag of excessive regulation. President Reagan eventually codified the process in an executive order that required agencies to assess the costs and benefits of significant regulations before implementation. This was to ensure that the benefits of a regulation exceeded its costs, while also ensuring that regulators adopt the least expensive approach to solving the problem. Every president since Reagan has continued this process of regulatory review, albeit with some modifications.

Economic consensus suggested that regulatory agencies were susceptible to capture by regulated industries, and that regulation often protected industry incumbents while imposing higher prices on consumers. As a result, there was a push to reduce economic regulation, creating more competitive markets for trucking, railroads and telecommunications. Studies suggest that this provided billions of dollars in benefits to consumers, while opening the door to innovation and competition.

Nonetheless, regulations persist and continue to impose significant costs on the U.S. economy. As Patrick A. McLaughlin and Richard Williams of the Mercatus Center note in a recent study, "The total number of restrictions in federal regulations has grown from about 835,000 in 1997 to over 1 million by 2010. That averages out to nearly 12,000 new restrictions created each year." Important sectors of the economy continue to struggle under regulation, and the Obama administration has targeted specifically energy, health care and financial services with an aggressive regulatory agenda.

McLaughlin and Williams are particularly concerned with the phenomenon of "regulatory accumulation," with new regulations simply added to the regulatory pile year after year with little concern about the overall burden. Part of the problem is that the current system emphasizes prospective economic analysis of regulations. That is, there is an attempt to identify the costs of a regulation prior to its implementation, but there are no requirements for retrospective analysis to determine the costs of a regulation after it is in place. As a result, regulations remain on the books whether or not they are cost-effective.

But there is another problem that keeps regulations on the books well after they’ve served any purpose. Economists call this the transitional gains trap, which makes it very difficult to remove regulations once they are put in place. More specifically, if a rent-seeker manages to pass a regulation to thwart competitors and benefit itself, there will be a temporary increase in profits due to the new regulation. However, the benefits eventually are capitalized and reflected in prices, so rent-seeking firms may not do better than other firms over time. Unfortunately, however, removing the regulation would impose significant harm on the industry, which provides an incentive to support the inefficient regulation even though it no longer provides supra-normal profits. As a result, this trap keeps unnecessary regulations on the books.

Gordon Tullock uses the example of taxi medallions to clarify this point. When the medallion system is initially adopted by a city, the owners of the medallion reap the benefits from restricting competition. Yet over time, as others purchase medallions from existing owners, they are paying market rates that reflect the limited supply, so these new owners do not receive the same degree of benefits. However, if the medallion system were eliminated, the increase in competition would harm them, so they have an incentive to stick with the current inefficient system.

Tullock saw no easy way out of this trap and suggested that policy makers avoid it in the first place. But Washington is driven by an expansive government, an army of lobbyists, and self-interested regulators. Inevitably, regulations are written and regulatory accumulation continues. Administrations from both parties have attempted to control the process by developing regulatory institutions that incorporate centralized review. To date, there have been some successes, but the burden of regulation continues to grow. It is becoming more evident that the process must include some sort of regulatory look-back, which allows a retrospective assessment of the regulatory burden. Without it, economic progress may be difficult and unnecessarily impeded by government policies.