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On the Origin, Content, and Relevance of the Market Failures Approach

Abstract

The view of business ethics that Christopher McMahon calls the “implicit morality of the market” and Joseph Heath calls the “market failures approach” has received a significant amount of recent attention. The idea of this view is that we can derive an ethics for market participants by thinking about the “point” of market activity, and asking what the world would have to be like for this point to be realized. While this view has been much-discussed, it is still not well-understood. This paper seeks to remedy this problem. I begin by showing, against some recent commentators, that McMahon’s view and Heath’s view are fundamentally the same. Second, I clarify the sense of “efficiency” at work in the market failures approach. Finally, I argue that, in its current form, this view has little relevance to the real world of business. I conclude by sketching two ways of modifying it to fit our world.

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Notes

  1. 1.

    Both give teleological arguments. Economic agents are justified in following the implicit morality of the market/market failures approach, McMahon and Heath say, because of the value of the outcome that obtains when they do.

  2. 2.

    The implicit morality of the market has implications for market participants. As McMahon says, it is a set of “requirements on the behavior of economic agents” (1981, p. 255). But it also has implications for other members of society. Legislators and regulators must articulate and enforce the requirements for market participants, and otherwise ensure that the conditions of perfect competition obtain. To take but one example, governments must take steps to end pay secrecy, which is a significant source of information asymmetry in labor markets (Moriarty 2018). Moreover, when economic activity conforming to these requirements produces harm to individuals—e.g., when workers are laid off in an economic downturn—society may owe it to them to ameliorate the harm—e.g., by sponsoring welfare or job training programs.

  3. 3.

    For Heath, a market failure just is “a situation in which the competitive market fails to produce a Pareto efficient outcome” (2006, p. 549).

  4. 4.

    What’s the connection between ethics and law on the MFA? McMahon is not interested in this question, but Heath is. Heath’s answer seems to be that ethics provides the foundation for law, but not all parts of the MFA can be codified in law. Suppose that a prohibition on stealing is part of the MFA. We might turn this into a law against stealing, enforced by the state. But suppose that a prohibition on marketing to children is also part of the MFA. This might be impossible to translate into a formal law and/or have it enforced by the state. So it might remain (merely) an ethical rule. Since “the law is a somewhat blunt instrument… the deadweight losses imposed through use of the legal mechanism can easily outweigh whatever efficiency gains might have been achieved through the intervention. This often makes legal regulation unfeasible or unwise” (2014, p. 89).

  5. 5.

    This is not quite right. A standard assumption of perfect competition is “homogenous products.” Since there is no product differentiation in a perfectly competitive market, there is no “competing on quality.”

  6. 6.

    McMahon and Heath are not the only writers to articulate this view. In a little-cited article, Holley derives an ethics for salespeople from an efficiency-based justification of the market. Holley says that the “primary justification for a market system is that it provides an efficient procedure for meeting people’s needs and desires for goods and services” (1986, p. 3). The reason this is so, according to Holley, is that “people will efficiently serve each other’s needs if they are allowed to engage in voluntary exchanges” (1986, p. 4). However, for the exchanges people engage in to be truly voluntary, certain conditions must obtain. It must be the case that “[b]oth buyer and seller understand what they are giving up and what they are receiving in return. Neither buyer nor seller is compelled to enter into the exchange as a result of coercion, severely restricted alternatives, or other constraints on the ability to choose. Both buyer and seller are able at the time of exchange to make a rational judgment about its costs and benefits” (1986, p. 4). According to Holley, the behavior of salespeople must be adjusted in light of these conditions. Salespeople should not deceive their customers, either by act (lying) or omission (failure to disclose relevant information). “To behave in such ways is to undermine the conditions which are presupposed in teleological justifications of the market system” (1986, p. 5). For space reasons, and because Holley’s view differs subtly from McMahon and Heath’s, I do not include it in my analysis.

  7. 7.

    I have suggested that the strong similarity between Heath’s view and McMahon’s has not been appreciated by many recent commentators. I offer two reasons for this. First, when Heath introduced his theory in his 2006 article, “Business Ethics Without Stakeholders,” he did not reference McMahon’s work. His references to McMahon only come later, in (what I think is) the definitive statement of his view in his 2014 book Morality, Competition, and the Firm. Second, Heath does not use McMahon’s terminology; he gives his view a different name. It is possible, as I mentioned, that it is sufficiently different that it deserves a different name. But it is also possible that it is not sufficiently different, and should go by the same name.

  8. 8.

    Following McMahon and Heath, here I use the term ‘efficiency’ loosely, not in the strict sense of Pareto optimality. I explain this looseness in the next section.

  9. 9.

    Suppose that in outcome O3 P has 10 units of welfare and Q has 15 units of welfare. In O4, P has 20 units and Q has 14. The move from O3 to O4 is not a Pareto improvement, because Q is worse off in O4. But it is a Kaldor–Hicks improvement, since (in principle) P could compensate Q—by transferring some of her resources to Q—and still be better off than she was in O3. Because P can do this, this means that O4 has more aggregate welfare than O3. In our example, O4 has 34 units total, whereas O3 has 25.

  10. 10.

    McMahon takes a similar position in his (2013). When introducing the market failures approach, he defines ‘efficiency’ as Pareto optimality, which is how efficiency is understood in the first fundamental theorem of welfare economics (p. 114). But he subsequently connects efficiency with “social prosperity” (p. 117), which he defines as “the enjoyment, by the members of a polity, of goods and services that have been produced… with the polity’s own resources” (p. 133). This is the looser sense of efficiency which I have said is Kaldor–Hicks efficiency or aggregate welfare.

  11. 11.

    Steinberg (2017) is a rare author who recognizes that the MFA’s efficiency imperatives do not apply in the real world, for the reasons outlined above. But Steinberg does not seem to see that Heath recognizes the problem and tries to rescue these imperatives, using arguments I discuss below.

  12. 12.

    Interestingly, while Heath thinks that the MFA’s efficiency imperatives do apply to real economic agents, he thinks that people are sometimes excused from following them. He says that “[u]nder the assumption of full compliance, any deviation from the deontology prescribed by the market failures view is unethical” (2014, p. 202). But “because of the competitiveness of the market economy, noncompliance by one firm can put very serious pressure on all of its competitors” not to comply (2014, p. 202). So if, for example, “all of one’s competitors are exploiting a particular regulatory loophole, this does not make it right to do so, but it may provide one with a reasonable excuse for acting wrongly” (2014, p. 202; see also p. 37). According to these passages, a person who exploits this type of loophole, or who otherwise undermines the conditions of perfect competition, does something wrong, but she is not to be blamed for doing it. This seems to be Singer’s reading of Heath. Singer says that “much of what is required by managers under the MFA still winds up being overly demanding in the context of the actual conditions of the market economy” (2018, p. 50). Singer’s point is: given that it is too demanding, managers are excused from doing what the MFA requires, though the MFA is still what morality requires.

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Acknowledgements

Versions of this paper were presented at Northeastern University, Queen’s University, TU Dortmund University, and the University of Pennsylvania. I thank those audiences for instructive feedback. Thanks also to Julian Jonker, Santiago Mejia, Christopher McMahon, Alan Strudler, and an anonymous reviewer for this journal for perceptive comments on a draft of this paper.

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Moriarty, J. On the Origin, Content, and Relevance of the Market Failures Approach. J Bus Ethics 165, 113–124 (2020). https://doi.org/10.1007/s10551-019-04106-x

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Keywords

  • Efficiency
  • Heath
  • Ideal theory
  • Market failures
  • McMahon