Death of the Free Market Economy? Could the World be Witnessing the Demise of Unfettered Markets?

A free market economy is devoid of government interference and allows prices to rise and fall based solely on supply and demand factors. The principles of the free market economy are widely accepted to have originated from the so-called “Chicago School” of economists founded by Nobel laureate Milton Friedman.

Free market principles have been applied in global markets for decades and have helped shape the global economy as we know it. Many economic experts in the U.S and elsewhere have questioned the soundness of the free market economic model which, most agree, has at least been a contributor to the prevailing global financial catastrophe.

The purported benefits of the free market economy have seduced many a nation in pursuit of economic prosperity to relax regulation on international commerce in particular. And yet, in a break from free market ideology so licentiously promoted to the rest of the world, the U.S government has engaged in an unprecedented spate of nationalisation of financial institutions in order to prevent total economic meltdown in the U.S.

This intervention of the U.S government in U.S financial markets is evidenced by the takeover of mortgage giants Fannie Mae and Freddie Mac and the US$85 billion bailout of insurance giant American International Group (AIG) to name but a few.

Could Government Intervention be to Blame for the Subprime Crisis?

Free market proponents argue that the sub-prime crisis that triggered the global financial meltdown was in effect a direct result of U.S government intervention in the mortgage market and not unbridled capitalism.

This argument is supported by the fact that the Cranston-Gonzalez National Affordable Housing Act was passed in order to give poor Americans an opportunity to become home-owners. The rationale behind the argument is that the subsequent granting of credit to individuals or groups who would not ordinarily have qualified resulted in U.S financial institutions being saddled with subprime mortgages.

Whereas the argument blaming government intervention in the mortgage market debacle may hold some validity, it was the packaging of these toxic mortgages into sophisticated financial instruments such as credit default swaps (CDS) and other derivatives that has largely contributed to the exposure of non-U.S markets to U.S subprime mortgages.

CDSs were created by financial gurus on Wall Street in the late 1990s as an unregulated way to insure financial instruments such as mortgage securities and municipal bonds. CDSs are the most widely traded credit derivatives with estimated outstanding contracts in excess of US$45 trillion according to a 2008 market survey by International Swaps and Derivatives Association, Inc. As a result, they have triggered a tidal wave of mayhem in global financial markets after the collapse of the U.S subprime market.

Both Government Regulation and Free Market Laxity Could Have Contributed

In the final analysis it could have partly been free market dynamics and partly irresponsible government regulation that led the world to this precipice. In spite of this, sensible government regulation of markets would be preferable to totally unfettered markets as the latter leaves greed as the driver of market activity.

It is highly unlikely after the current economic crisis that any nation will be looking to relax government regulation over their markets. In fact an increase in government regulation is likely to become the dominant trend.

Notwithstanding the discourse above, the purist could argue that no unbridled free market economy has ever existed to begin with, except perhaps within the realm of the theoretical, and therefore it cannot die.

The copyright of the article Death of the Free Market Economy? in Free Trade is owned by Louis Mukiraine. Permission to republish Death of the Free Market Economy? in print or online must be granted by the author in writing.

Nov 21, 2008 6:41 AM

Guest :

It is my opinion that a free market economy is still the way to go. However, instead of government regulation targeting the trading methods of the orginisation, those responsible for the decision making should be held accountable. Therefore directors would regulate themselves freeing governments from applying a standard regulation to all companies. It would also give large corporations the freedom to carry out deals that they see benificial to their bottom line but also keeping them from being reckless by imposing large jail sentences for directors who do not consider all their options fully. With the demise of Bain & Co and the Enron saga, and maybe even before that, auditing firms had to bear some form of resposibility for the companies they audited and failed to report irregularities; this form of self imposed regulation is better than government regulation and would allow a responsible free market environment in my opinion.