Mimsy Were the Borogoves

Editorials: Where I rant to the wall about politics. And sometimes the wall rants back.

The precarious value of middlemen

Jerry Stratton, May 25, 2010

A recent discussion in an off-line forum about adding middlemen to the health care industry—adding government bureaucrats between people and their health care, and adding government-mandated private bureaucrats as well—led to a discussion of middlemen in general.

Middlemen always add costs. They can also add value, but that value always comes at a cost. That cost must come from someone; someone must pay the middleman. That someone might initially be the producer, or it might be the consumer—but in the end it is always the consumer, because the producer must pass those costs on in order to stay in business.

These costs are often invisible and easy to forget. Costs don’t have to be increased prices. Lower prices are one value among many; costs are inescapable. They can also be reduced quality and reduced choice. Choice is a value, and reduced choice is a cost.

We only see choice when it’s there; it’s such an invisible cost that we often avoid adding new choices because we’re afraid the old choices will disappear. We find it hard to imagine a world different than the one that’s currently mandated, even if we lived in that world just a few years ago. Scott Brown was elected by Massachusetts almost entirely on a platform of opposing a national health-care takeover that was very similar to the health-care takeover in Massachusetts. Does this mean that Massachusetts wants to repeal their own takeover? No, they’re afraid to even as they knew it would be bad for the nation (and them) to extend it nationally.

In a world of choice, a middleman must add value (lower prices, ease of delivery, more choice, higher quality, for example) in addition to their added costs (fewer choices, lower quality, higher prices, longer delivery times). But the costs are always there. The danger is ignoring all of those costs and assuming that a lower price is always better—or, worse, assuming that every benefit the middleman delivers is worthwhile, and that the benefits of bypassing the middleman are unimportant.

The value of a middleman is precarious. They must make money to pay their employees and overhead, while also providing value to both their suppliers and their receivers. Both are their customers, and both can choose to go around them if the value they add isn’t enough to justify the costs. Technological advancements have a habit of disrupting a middleman’s business while providing opportunity to new competitors. The path of the middleman in a healthy market is always guided by market forces to provide value to all of their customers. In a healthy environment, the only way to add costs is to add value at least equal to the cost.

Once a middleman is mandated, there is no longer any need to add value. In a restricted market, costs can be added without adding value (because use of the middleman is mandated), but value can never be added without adding costs (things still have costs). When a middleman becomes the only choice, “added value” is likely to disappear; there isn’t even any means of measuring it, because it can only be measured comparatively. There’s no longer anything to compare to.

Invisible mandates

Middlemen can be a useful choice as long as they aren’t mandated as the only “choice”. But mandates, like costs, can be invisible.

The businessperson who chooses to provide a custom service is forced to take on far more than just the service they’re providing. They need to become experts—or, more likely hire experts—in tax law, in health care law and health care, in political lobbying, and in things they don’t even known they need expertise in.1

For example, if buying food through distributors means lower-quality food than buying it directly from local farmers, why don’t restaurants “just invest in the extra body to do better shopping”? This will almost always provide higher quality food for the restaurant, allowing it to charge higher prices2. Some restaurants used to do this even though they could simply buy food through supply houses. They do it less often now, however, because the paperwork costs of hiring that extra body are immense.

Especially for the kind of small business that a restaurant usually is, every extra body is one step closer to crossing an artificial regulatory line with massive extra tax costs and paperwork costs.

The “choice” of hiring someone to do nothing but buy local food isn’t a true choice for most restaurants. The regulations they face are an invisible mandate pushing them towards the middleman, the restaurant distributor. The distributor has already crossed that regulatory line, and in any case their job is to a large extent paperwork anyway.3

That reduction in quality is a cost, an invisible, arbitrarily-imposed cost that reduces quality, reduces jobs, and reduces consumer choice. Whether the costs are in money, in quality, or in choice, all costs must be passed on to the consumer.

The government exchange

The government-preferred middleman appears to currently be the forced exchange. California’s disastrous energy re-regulation market was disastrous because it forced all power producers and all power purchasers to go through a government-mandated exchange on a daily basis. There was no real choice: power producers sold to the exchange; power purchasers bought from the exchange. The exchange made up its own rules, and outlawed any attempts to bypass it—to allow customers to purchase green energy, or long-term contracts, for example, and pay power producers directly.

Now, we’ve put health insurance on a government exchange as well.

It appears that government dislikes it when people make long-term plans. In both of these high-profile examples, long-term planning has been discouraged. When California implemented their government exchange on energy, one of the things they did was make it illegal to get long-term contracts for power.

Now we’re doing something similar to health insurance providers. Democrats are trying to reduce health insurance profits to zero. This is a guarantee of bankruptcy, like California’s law was for power companies. Insurance companies, like any business with unknown and unknowable future expenses, must make profits in good years to pay out in bad years.

What happens if there’s an unforeseen upswing in cancer rates? Insurance companies must have the money to pay for treatment of insured individuals. But the Obama administration is complaining that these companies are currently profitable, without seeming to understand what they do with these profits. Does the administration want these companies to go out of business just as they’re needed most, or do they not understand the concept of saving for a rainy day?

The government exchange is the worst kind of middleman. It mandates an extra level of bureaucracy that is unnecessary and does nothing but add costs; and it forces both consumers and producers to go through middlemen; and not only does it force them to go through middlemen, but it forces them to go through middlemen whose expertise is the exchange, rather than whatever business the producer is in and the consumer wants.

  1. Which means that they’re taking on unknown current liabilities—things in the regulatory morass they don’t know they need. And they’re taking on unknown future liabilities—regulations that competitors are currently lobbying for that will give those competitors a regulatory advantage.

  2. Or add some other cost.

  3. It is in the middleman’s interest to support laws that make it less likely that restaurants will hire someone to go out and hand-pick ingredients. It’s also in the interest of those restaurants whose business model relies on middlemen to lobby for such laws, to block new competitors who want to compete on whatever value the middleman takes away.

  1. <- The Wisdom of Partisan
  2. Alvin Greene, political scientist? ->