Gray Markets and Greased Pigs

by John Hood

Hailing a taxi in Boston can be tricky. It helps to be pushy, even rude. Tight city regulation of taxicabs has kept their number at 1,525 since 1934. Because government has prevented supply to rise to meet growing demand, there's an artificial taxi shortage.

But the story doesn't end there. Business travelers and tourists can still find transportation in Boston. Hotels, such as the Bostonian Hotel downtown, have begun operating their own limousines to take guests to airports, eateries, or other destinations around town.

Markets are resilient. Try as they might, government and the special interests they protect can't completely suppress the forces of competition. By limiting one choice, they only direct enterprising people toward others. The result is either a black market, in which completely illegal transactions occur, or a "gray" market, in which firms substitute legal options for banned ones, thus defeating the intent of regulation.

In New York, for example, about 15,000 "gypsy cabs" operate in poor, minority communities, mainly in Queens, Brooklyn, and the Bronx. Strict regulation for half a century has limited the number of cabs in New York to 11,787. Consequently, over 600 "black car" livery companies have sprung up to bridge the gap between demand and legal supply.

They are supposed to cater only to phoned-in customers, but many drivers take off their livery license plates and cruise the streets as "gypsies." These cabs do business not only because of general taxi scarcity throughout the city, but because some yellow cabs won't venture into unsafe areas to pick up minority customers.

Phone-in livery services are becoming a competitive force in many cities that regulate taxicab numbers, such as Chicago and Atlanta. While not really illegal, they do circumvent the intent of regulations by giving taxis a run for their money.

Another form of competition -- jitneys -- has sprung up in Pittsburgh and Los Angeles. A jitney is a station wagon or small van that makes better use of miles traveled by carrying more than one passenger at a time. They were once prevalent across the country in the early 1900's, but threatened transit and cab companies succeeded in outlawing them in most cities.

But their illegal status doesn't hinder them much. In Pittsburgh, for instance, jitneys dominate the transport market: if the jitneys cut prices, the legal taxis do, too. And like New York's gypsy cabs, jitneys provide service to neighborhoods shunned by the regular taxi fleets.

Black and gray markets may seem a bit unseemly and corrupting, but they actually make up a large and crucial segment of our economy. In some Third World countries they produce most of the goods and services, including food and other essentials. In such countries, government power is employed not only excessively but arbitrarily to favor political cronies. Enemies are taxed into bankruptcy, while valuable assets and capital are seized for "the good of the state." This creates so much uncertainty that businesses either leave (if possible) or go underground.

It may appear that the state, able to drive a business underground with its power to tax and regulate, exerts great control over the country's economic life. But that misses the point -- that there is always an underground, even in totalitarian societies like the Soviet Union, to which embattled businesses may flee.

Government is fighting a losing battle when it grapples with the discipline of the market. There's no real mystery about why this is so. Free enterprise is not some fragile, delicate experiment in constant need of protection. It does not have to be imposed or fostered. It is, in short, the natural order of things.

Coercive government, on the other hand, needs constant attention and tinkering. There is no shortage of ways to compete with a regulated monopoly, but there's only a limited number of ways government can restrict competition. Insulate an industry from competition, and the resulting price hikes and drops in service encourage consumers to substitute other products or services. Frustrated regulators must feel like they're chasing a greased pig.

Government action can't eliminate market forces; it can only distort them. Sure, government's attempt to tax or regulate producers out of existence has disastrous side effects. But they are, indeed,, only side effects. The goal -- to drive "illegal" competition out of the marketplace -- is rarely achieved. Government just can't catch the pig.