Of market failure and Blackwater - Providence Journal

WASHINGTON

IN THE WEEKS since employees of private security firm Blackwater set off a scandal by killing 17 Iraqi civilians for little apparent reason, there has been much sniping here in Washington about what to do. The conclusions seem to be as follows: The shootings were troubling, and the State Department will implement new policies of oversight so this kind of thing doesn’t happen again. But troubling as the situation may be, it appears that State is in no position to fire Blackwater — we actually really need the services they provide, our military already being so thinly stretched and all.

What a strange situation to be in. The most powerful military force in the world, reliant on a handful of private contractors to handle basic security duty, and then unable (or unwilling) to monitor these contracts to make sure that these hired hands don’t entirely undermine the mission by shooting first and asking questions later.

Who ever thought this was a good idea? And what were they thinking?

Hop into the time machine and set it for 1992, and we can find one Dick Cheney starring as secretary of defense, pushing for a leaner military and promising that much of what the military does could be done more effectively if it were outsourced to private contractors. After all, a report prepared for him by Halliburton subsidiary Brown & Root had promised great cost savings by turning over logistics support to the private sector.

But, easy as it sometimes seems these days to blame all evil on Mr. Cheney, let us remember that the downsizing and the privatization of the military was merely one part of a logic that has been swirling around Washington for the better part of three decades now — that big government (bureaucratic and inefficient) is the problem, and the private sector (nimble and cost-effective) is the solution. Therefore, we should keep cutting government and keep turning key functions over to private companies, who will always do it better. Clinton did this plenty, and George W. Bush has done it even more.

But let’s examine this thinking for a second. Economics 101 tells us that markets work because they are competitive. If you want to, say, hire someone to clean your rugs, you look up local rug-cleaning services, and you’ll find several choices. Because there is competition among sellers and enough buyers to discipline those sellers, the market generally works — people comparison shop, and cleaning services that charge too much or do a bad job go out of business.

But what happens if you are the only rug owner in town, but you own a lot of rugs? Well, anybody who is going to start a rug-cleaning service better be darn sure that you are going to hire them, or else they will soon be out of business. So, they’ll work hard to be your friend, and spend a lot of time cementing that relationship (as opposed to perfecting their cleaning services). But the reality is that with one customer, there won’t be many rug cleaning services around to chose from. (Economists call this troubling single-buyer condition “monopsony.”)

And what if the service does a bad job? Since there’s nobody else to choose from, you’ll have to monitor them closely to make sure they are actually cleaning and not smoking a cigarette. But that requires time and effort, and at that point, well, what’s the point of paying somebody to do it if you have to watch them all the time? You might as well just do it yourself in the first place, since you have all the incentives to do it cheaply and efficiently, while they have every incentive to be slow and costly.

Private contracting in Iraq isn’t rug-cleaning, but the problems are similar to the example. Because this is specialized work, there aren’t many companies that have the expertise and infrastructure to do it. And yet, because the military has intentionally reduced its capabilities over the years, it is now at the mercy of these companies to perform important security functions. Moreover these companies spend a lot of extra time making sure that they have friends in high places to protect them. All of this creates the antithesis of an efficient market (which would be competitive and atomistic), and hence explains the steady stream of cost overruns, no-bid contracts, and now this latest Blackwater brouhaha.

So, now there will be more oversight of contractors. Well . . . good. But remember oversight is an additional cost, and it begs the question: why outsource in the first place, if you have to spend all this time and money making sure the people you hire don’t mess up? The deeper lesson to be learned is not just about accountability, but also about economics. If policymakers want to harness the power of markets, they need to make sure they actually understand the basic theoretical principles behind markets. Failure do so can only result in more stupid policy.

Lee Drutman, a frequent contributor, is the co-author of The People’s Business: Controlling Corporations and Restoring Democracy.