People don’t like it when airplanes, or parts, explode. Last week, a plugged door exploded out of a brand-new Boeing 737 Max 9 in mid-flight. By good luck or good grace, no one was hurt. Boeing’s new problem with the 737 Max 9 raises the too-often-unasked question of who should decide about the safety of airplanes and airlines

A better way to regulate might result from rethinking the problem. We have a simple proposition for your consideration.

Instead of having a government agency issue rules, have airplane safety guaranteed by a party who pays if people get hurt. In other words, let the insurers set and enforce the safety standards, and have the insurer pay the injured party if the safety standard fails.

If you haven’t considered this approach before, you might find it surprising.

In this post, we review some of the factors that you might consider in comparing the two approaches to assuring safety.

Reasons Government Regulation May Fail

We suggest five factors that all push in the direction of making government regulation a worse solution than privately-provided regulation combined with insurance.

One Size (Generally Doesn’t) Fit All

Government regulation is by its nature one-size-fits-all. Government regulation usually imposes a single inflexible standard. It’s easier to see how this is bad in the case of drugs, but the principle applies to all regulation.

For example, the Federal Food and Drug Administration typically either permits or prohibits a pharmaceutical drug from being sold. If a drug is not permitted, it is illegal for a patient (in the US) to take that drug, even if the patient is sure to die otherwise. We recognize that there are arguments for not approving drugs – but those arguments are only relevant in a “one-size-fits-all” world. Suppose a drug for a certain cancer has an x% probability of killing the patient, and a y% probability of curing the patient. In this oversimplified example, one size cannot fit all. Some patients will choose the risk of the drug, and others will choose the risk of cancer. That flexibility is impossible with approved/not approved regulation.  

Government is a Monopoly

In every sphere outside of government, most economists and policy makers recognize monopolies as bad for consumers. One major reason is that because a monopoly has no competition, the monopoly faces limited pressure to actually provide good service, or to carry out whatever it does well, or efficiently. And lack of competition is a major reason that so many government “services” are so frustrating to deal with. Why should we expect that the government would be any better at regulating airplanes than it is at issuing drivers’ licenses or processing passport applications?

Government is Not Accountable

Government for the most part is not accountable. When regulators screw up, rarely or never do the individuals responsible suffer consequences.

Government is Not Liable

Furthermore, when regulators screw up, they are almost never held personally liable. Bernie Madoff, for example, was able to perpetrate one of the largest fraudulent schemes right under the nose of the regulators for years. Did any of the regulators take any responsibility? Did any admit that they screwed up? Were any held liable in any way? Not as far as I know.

Government Regulators Exist to be Captured

Government regulators are extremely subject to being “captured.” Regulatory capture is the name given to the phenomenon that when there is industry regulation, the biggest players in the industry tend to have a large influence on the regulator, and they influence the regulator to enforce regulations that benefit them. George Stigler, winner of the 1982 Nobel Prize in Economics, first explained the process of regulatory capture in his 1971 article Economic Theory of Regulation.[1]

Though he didn’t have a name for it, nor did he have Stigler’s analytical framework, regulatory capture is close to what Dwight Eisenhower meant when he referred to the military-industrial complex. The infamous revolving door between the Pentagon and defense industries is an example of regulatory capture.

Regulatory capture is also how large pharmaceutical companies maintain their oligopolies. It is strongly in the interest of big pharma to have it cost tens of millions of dollars to get a drug to market, because that creates a very high barrier-to-entry for prospective competitors.

Even after 50 years, it is not widely appreciated that regulatory capture is a naturally occurring and unavoidable concomitant of most government regulation. That is, once society creates a monopoly regulator with the power of the state to enforce its decrees, that power attracts people who would exploit it for their own ends. The existence of the monopoly regulator virtually ensures that the regulatory apparatus will be used to protect some private interests (including the interests of the people who are regulators) at the expense of everyone else.

Reasons Privately Provided Insurance May Work Better

Private regulation, especially when combined with insurance, solves many of the problems inherent in government regulation.

Incentives

Governments have little or no incentive to get regulation “right.” Because they operate in a monopoly, one-size-fits-all environment, it is difficult to even define what getting it “right” might mean. For example, what is the “right” level of risk to allow for an airplane?

A quick off-the-cuff answer would be “zero.” And of course we all want there to be zero risk when we fly. But the only way to have zero risk when flying is to never fly. Equally obviously, if we don’t fly, either we don’t travel at all, or we take some other risk by driving, or taking a train or ship. So “zero” is rarely the right answer, and government regulators have little or no way of determining what the right answer is.

Private regulators won’t magically know the “right” answer either, but they’d face significant incentives to get it “right.” If they set standards too strictly, the cost of meeting those standards will be higher than the market will support, and the regulatory and insurance business will not attract enough customers. Conversely, if the standards are set too loosely, the safety will be set too low, too much damage and/or losses will be incurred, and the private regulator and insurer will either fail, or adapt by tightening standards.

Because no one has a crystal ball, we expect that setting of “correct” standards will take some trial and error. However, if there is competition in the regulatory marketplace, less risk-averse consumers will in general be able to pay less and accept more risk, while risk averse consumers will have more choice to pay more to bear less risk. For what it’s worth, we doubt that many low-cost airlines (in the US) would survive having a plane crash with loss of life. The last time it happened in the US, to Colgan Airlines in 2009, the airline was gone within three years.

The Colgan Airlines crash led to increased regulation. Despite evidence suggesting that the Colgan pilots were adequately trained, the Federal Aviation Administration (FAA)felt pressured to “do something.”, In 2010, the FAA decreed[2] that pilots must obtain 1,500 hours of training before being allowed to fly, as well as have a minimum rest period before piloting the plane. The new regulation contributed to the pilot shortage following covid, but even the FAA found that the new regulation didn’t enhance safety.

A report released in 2013 relates that the Office of Accident Investigation and Prevention (part of the FAA) found “no relationship between the 1,500-hour requirement and airplane accidents” after attempting to quantify it.[3] But because the government has little incentive to get it right, the rule remains, imposing costs without apparent benefit.

Accountability

Private companies are accountable directly to their owners. There is no doubt this works better than government ownership, as has been demonstrated countless times in many countries.  From Amtrak and the Post Office in the US, to practically the entire industrial base of the Communist world, government ownership produces inefficiency, losses, and poor service when compared to privately run businesses of the same type. Amtrak, for example, has never been profitable in the entire history of its existence. Its cumulative losses since its founding in 1970 are estimated to exceed $100 billion.[4]

The US Post Office reported net losses of $6.5 billion[5] for fiscal year 2023, and according to the Government Accounting Office the Post Office owed about $200 billion in unfunded liabilities and debts.[6]

Private railroads earn profits or go out of business, and thereby stop wasting resources. Government just keeps dumping taxpayer money into losing businesses. Transportation companies and mail services can be run efficiently by private companies – for example, FedEx, which has been in business since 1971, is still profitable and tends to deliver packages more quickly and reliably than the US Post Office.

Competition

Government regulators are monopolies. They are extremely difficult and expensive to replace, and rarely are replaced no matter how badly they fail. Sometimes, they are able to use failure as a reason to grow. For example, after the financial crisis of 2008, the Fed increased its power enormously. Or consider the SEC, which seems to grow every time it fails.

Competitive markets, in direct contrast, weed out the underperformers and the failures.

Private Regulation Works Where It’s Allowed to

Orthodox Jews care intensely about food regulation. There is an ancient and highly developed set of religious laws and practices called kashrut. The English word kosher describes a food (or certain other ritual items) that conforms to the religious law.

A food item about which there may be doubt requires certification.

However, while there is uniform agreement about certain items – for example no one considers pork or shellfish kosher – there is a great deal of room for different opinions, standards and practices. Jews deal with this variation of views by having more than one person, institution, or organization that can grant the certification.

The Orthodox Union (OU) and other kosher organizations such as Circle K and Kosher Supervision of America embody the competitive idea that one size does not fit all. Each of these organizations imposes a different set of standards to determine whether or not its food is kosher. This private regulation of kashrut (the practice of keeping kosher) is not new — the Orthodox Union began as a private organization in 1923 which oversaw the preparation of foods in a manner consistent with the Union’s understanding of the rules of kashrut.[7]

And competition keeps the kashrut organizations responsive to consumers. When a supposedly kosher meat market overseen by the kashrut organization the Rabbinical Council of California (“RCC”) was caught selling unkosher meat in 2013, RCC was hit with a loss of business. Many restaurants switched to become certified by the RCC’s competitor, Kehilla Kosher.[8] Unlike the government regulators, which tend to grow after they fail, the RCC shrank.

Private provided oversight of industry, unlike government regulations, is individualized (not one-size-fits-all), is more accountable than government regulations, and more responsive to the needs of consumers because there is competition.

Tell Us Whether You Like These Kinds of Thoughts

This is not, and is not intended to be, a thorough analysis of private regulation compared to government regulation. It is intended only to offer an alternative to the commonly accepted idea that regulation should be done by government, or that it can be done well by government.

If you find this interesting, please comment below, and please share it with friends and colleagues and via whatever media, social and otherwise, that you use. Thank you.

---

[1] The Bell Journal of Economics and Management Science, Vol. 2, No. 1 (Spring, 1971), pp. 3-21

[2] https://www.congress.gov/111/plaws/publ216/PLAW-111publ216.pdf

[3] https://www.regulations.gov/document/FAA-2010-0100-1925, Pilot Certification and Qualification Requirements for Air Carrier Operations Final Rule Regulatory Evaluation, page 18.

[4] https://www.washingtonexaminer.com/opinion/2618543/amtraks-big-lie

[5] https://www.reuters.com/business/us-postal-service-reports-65-billion-net-loss-2023-fiscal-year-2023-11-14/#:~:text=US%20Postal%20Service%20reports%20%246.5%20billion%20net%20loss%20for%202023%20fiscal%20year,-By%20David%20Shepardson&text=The%20U.S.%20Postal%20Service%20on,the%20lowest%20volume%20since%201968

[6] https://www.gao.gov/blog/u.s.-postal-service-faces-more-financial-losses-how-can-it-stem-tide

[7] https://oukosher.org/blog/articles/celebrating-100-years-of-ou-kosher-a-brief-history/

[8] https://www.jewishbookcouncil.org/pb-daily/scandal-and-self-correction-in-kosher-food-certification