Collective Bargaining and Free Market Economics


Collective Bargaining and Free Market Economics

How does collective bargaining distort free markets?

The simple answer: It does not. Collective bargaining actually enhances the power of free markets to bring about efficiency in the economy. Collective bargaining does not distort free markets.

Here is how collective bargaining enhances free market efficiency. But first, an overview of how free markets work:

Free markets create efficiency through a process that involves many voluntary transactions. Consumers prefer to pay the lowest price possible for any specific good. Sellers prefer to receive the highest price possible for any specific good, within the framework of their cost structure. Free markets produce the most efficient outcome of price and quantity bought/sold because the process involves finding the price where the quantity that consumers want to buy matches the quantity that sellers are willing to sell. This is called the equilibrium price. Consumers who demand a price lower than the equilibrium price will voluntarily take themselves out of that market; sellers who demand a price higher than the equilibrium price will likewise take themselves out of that market. Those who are left in the market, both buyers and sellers, will include people who get more than they are willing to settle for: Consumers who would be willing to pay a higher price, and producers who would be willing to sell for a lower price. This creates something that economists call surplus. Consumer surplus is the amount that consumers gain from the difference between the price that they have to pay and the price that they are willing to pay; producer surplus is the difference between the price that sellers receive and the price that they are willing to sell for. The more free the markets, the larger the total surplus (consumer surplus plus producer surplus).

Labor has its own market. The labor market is just like a market for goods and services, except that it is derived. The demand for labor is derived from the demand for the goods and services that labor is hired to produce. In the labor market, the workers are the sellers, the employers are the buyers. The same rules of supply and demand apply to the labor market, but the demand for labor is related to the demand for the product being produced.

Now, here is how collective bargaining fits into the market process:

Truly free markets do not exist in the real world. Varying degrees of free markets exist, but none of them are completely free markets. There are many reasons for this, reasons that comprise a different topic than the purpose of this writing. The point is, truly free markets are only a theoretical concept that involves a number of assumptions that have to hold up, assumptions that cannot be realized in the real world. When these assumptions fail, market failure occurs, with accompanying inefficiencies and market distortions.

The problem with the labor market, in the absence of collective bargaining, is that the process of determining the terms of employment are never truly voluntary transactions. Remember from the overview above that free markets are efficient because the transactions are voluntary. In order for transactions to be truly voluntary, one important assumption must hold true: Each party to any transaction must have equal access to information that is relevant to the decisions made regarding potential transactions. This equal access to information is called symmetrical information. Asymmetric information, when one party doesn’t share all of the relevant information that it has, is one source of market failure. The existence of this form of market failure is something that a consensus of economists, both conservative and liberal, agrees on.

Without collective bargaining, whether employees face a take-it-or-leave-it offer or can negotiate terms individually, no symmetrical information exists. Employees and potential employees will not know how much they contribute to productivity, but employers will have that information. Potential employees likely won’t have complete information regarding the working conditions that they face. This information, at least a truthful version of it, will not be given to individual employees or applicants. Employers will base their decisions on this information, but because of the conflicting goals of buyers & sellers in the labor market, they will have an incentive to hide this information from employees. They have no incentive to share exactly what they know, share exactly what information they are basing their decisions on.

Collective bargaining is a process that results in more, not less, information being shared. It results in more, not less, symmetrical information. It results in markets that are more, not less, free.

This has implications in the economy that go far beyond the scope of any individual contract, or any individual market. If more information being shared results in higher wages, more benefits, or better working conditions for employees, then that is an indication that - in the absence of collective bargaining - the employees are being exploited (exploitation being a result of this particular market failure). If the sharing of more information results in changes in the economy, then that is proof that market failure exists without this information being shared. It means that denying the right to collective bargaining distorts the market; the absence of collective bargaining certainly does not create markets that are more free. With labor markets that are distorted in favor of employers at the expense of employees, the markets for goods and services are also distorted. Remember, the demand for labor is derived from the demand for goods and services, and the cost of labor is a cost of providing those goods and services. Labor is part of what economists call the household sector of the economy; so are consumers. When distorted markets result in less income for households, the economy ends up producing fewer goods for consumers, fewer opportunities for producers to earn profits.

This is a paradox for employers – individually, they are better off paying employees as little as possible; collectively and ultimately, their profits depend on an economy that is working efficiently, which in turn depends on consumer demand.

One of the basic principles of economics is that economists should never commit the fallacy of composition. The fallacy of composition involves taking what is good in an individual case and arguing that it must therefore also be good in the aggregate. Arguing that the economy works better when collective bargaining is not allowed is a fallacy of logic. The economy as a whole depends on the free flow of transactions: Businesses produce goods, consumers buy goods; businesses hire workers, workers spend the income earned on the goods being produced. Consumers demand, producers produce. Consumers get value for their money, businesses earn profits. Market power is shared between the business sector and the household sector; between sellers & buyers. This is the basic model of how a free market economy works.

Anything that takes away from the sharing of market power, by distorting markets, creates a bottleneck in the economy. And then the system breaks down. Proof that we have a problem in our economy is the continual redistribution of wealth. This is not wealth that is redistributed to “poor” people, as is popularly claimed, but wealth that is redistributed to the point where the gap between rich and poor grows larger and larger over time. The system has broken down, and will not be fixed until this trend is reversed. The last time the gap between corporate profits and wages has been this large was just prior to the Great Depression. This is a situation that simply is not sustainable, due to a bottleneck in the system.

Some people have heard this argument, focused on the part about more market power for workers and consumers, and called it advocating for socialism. It is nothing of the kind; it is an argument for the markets to be more free to do what they are supposed to do. More market power, not less. Market intervention occurs when collective bargaining rights are denied - not when they are allowed. Freedom includes the freedom of collective bargaining.

Contrary to what many people insist, a free market economy does not simply mean giving more and more power to the business sector, or to large corporations. A free market economy depends on a balance between different sectors of the economy. The corporate lobby has duped millions of people into falling for the lie that people would be more free and better off financially if the corporations had more power and workers had less power.

A version of this essay is included as a chapter in the book Sanity and Public Policy: Separating Truth from Truisms by Jerry Wyant. This book is available in both paperback and eBook formats.

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Jerry Wyant