07 May 2006

Markets reduce adjustment costs

When forecasting the costs of new environmental regulations, economic analysts routinely ignore a primary economic lesson: Markets cut costs through innovation. And innovation can be promoted through regulation. Eban Goodstein

...or targeting via Social Policy Bonds. If we define explicitly what we want to achieve, whether they be environmental or social goals, and let the market find the best ways of reaching those goals, we'll see our ingenuity channelled into unexpected but creative pathways. It's tragic and ridiculous that our massive collective brainpower is currently channelled overwhelmingly into achieving private goals: that is, improving the bottom line of corporations. These corporations do a lot of good; employing people, reducing poverty, etc (though they also inflict unpriced social and environmental externalities on us all). But their objectives are for the most part frivolous, at least when compared with the environmental and social challenges that we collectively face. There are financial incentives on offer to those looking for solutions to, for instance, climate change or human conflict, but they are pitiful in relation to the size of magnitude of these problems and they are only weakly correlated with people's success in solving them.

A Social Policy Bond regime would be different. By explicitly targeting our major problems, and by rewarding people in proportion to their success in solving them, it would focus our innovative capacity and ingenuity where they are most needed. Goodstein's article shows how markets can stimulate unanticipated, creative solutions when there are incentives to do so.

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