Home Money Econ 101: Rent-Seeking is Costly to Growth – Why Is That?

Econ 101: Rent-Seeking is Costly to Growth – Why Is That?

by Thomas Ressler

One of the most damaging effects government intervention in an economy has is the corruption of the entrepreneurial instinct into one that engages in what’s known in political economy circles as “rent-seeking.” In other words, economic incentives are distorted such that profit-seeking enterprises divert resources away from productive economic activity and toward trying to influence the political and regulatory mechanism in order to earn more revenue, or “rents,” that could otherwise by obtained through voluntary, peaceful exchange in an unhampered market.

The other side of this coin is that many otherwise private-sector enterprises or industry groups feel compelled to engage in defensive rent-seeking: trying to undermine corporate rivals in their attempts to engage in rent-seeking at their expense. Why is all of this a bad thing?

Well, other than hijacking the coercive apparatus of the state to rob Peter (the oppressed taxpayer or businessman) in order to pay Paul (the crony capitalist rent-seeker), such behavior stifles economic growth. “First, rent-seeking activities exhibit very natural increasing returns,” according to a recent research paper by economists at the University of Chicago School of Business and the Department of Economics at Harvard University. “That is, an increase in rent-seeking activity may make rent-seeking more (rather than less) attractive relative to productive activity.”

That’s because very high levels of rent-seeking may be self-sustaining. “This condition can lead to multiple equilibria in the economy, with ‘bad’ equilibria exhibiting very high levels of rent-seeking and low output,” the economists noted.

Second, rent-seeking activity, especially that engaged in by government officials, is likely to hurt future-oriented innovation more than everyday production. “Since innovation drives economic growth, public rent-seeking hampers growth more severely than production,” the economists said. “These arguments add further substance to recently renewed concern about the effect of poor property rights on economic development.”

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