Market-Based Social Distancing Regulation

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When governments end lockdowns, they must determine what set of rules to impose. For example, governments must decide whether some types of businesses must remain closed, whether the maximum number of people in a gathering must be limited, whether to limit the number of people using mass transit, whether to require people to wear masks, whether to mandate periodic testing, whether and how to enforce quarantine of those who test positive, whether to give greater freedom to those who report positive antibody tests, and so forth. Further, governments must decide how these rules must change should circumstances change, for example if there is a local outbreak. Governments, unfortunately, must make decisions under great uncertainty, and we cannot have much confidence that the political considerations facing leaders will give strong incentives to make decisions that would pass a hypothetical cost-benefit calculus.

One policy option is liberation, not imposing any rules at all. This theory might be justified even given an assumption that social distancing is critical to containing the pandemic. Absent requirements, many individuals will still choose to distance socially, because they do not want to become infected with COVID-19, because they do not want to infect others, and because they prefer not to violate social norms. The international progress in fighting COVID-19 has been impressive, but it is difficult to disaggregate the extent to which success has occurred because of governmentally imposed rules and the extent to which success has occurred because of voluntary compliance.  In principle, voluntary social distancing might be optimal or even greater than optimal, especially if social norms are sufficiently powerful. The contrary economic argument would be that voluntary action will be insufficient, because individuals do not fully internalize the costs of their actions on others. This argument seems especially powerful when a single case of COVID-19 transmission may lead to an outbreak affecting many others.

An alternative to the command-and-control and no-regulation opposites would be to have a market-based system of compliance. The goal would be for third parties like insurance companies to have incentives that would lead them to price insurance in a way that will encourage appropriate precaution and discourage the activities most likely to cause transmission. Suppose (to assume a can opener) that the full COVID-19 transmission graph could be perfectly traced. Now suppose that all businesses may open, subject to purchasing a special type of insurance. Under the market-based system, when someone dies or suffers injury from COVID-19, responsibility would be divided among the covered businesses (if any) at which transmission occurred, and the corresponding insurers would collectively pay a fine to the government, a monetary translation of the loss suffered. Municipalities might themselves be required to purchase insurance to cover transmission in public spaces outside of covered businesses, and individuals might be required to purchase insurance if they wished to host neighbors. The basic insight is that in this hypothetical world, the responsibility for devising rules and deciding on how to relax lockdowns would pass from governments to insurers, and higher-risk activities would carry higher prices. Activities with the highest cost and lowest benefits would shut down altogether. Insurers would have some incentive to conduct statistical studies that would allow them to improve their pricing (though perhaps less incentive than is optimal, given the possibility of free-riding on competitors' studies). In a highly dynamic environment, insurers would likely enter into relatively short-term contracts, so that they could update prices based on new information.

There are many regulatory contexts that work approximately like this (consider, for example, John Rappaport's analysis of how insurers effectively regulate the police). But such systems usually arise because there is a perceived need for insurance coverage, not because there is a view that insurers might serve as effective regulators. It seems unlikely that such a system will naturally develop for COVID-19 or, barring a change in legal culture, for future pandemics. We do not impose liability on a business establishment that is a venue where infectious disease transmission takes place, certainly not a strict-liability basis. If such liability existed as a matter of course, then perhaps insurers would take an active role in risk classification here. But it does not, and they do not.

The most obvious practical problem with market-based social distancing regulation then is the can-opener assumption that I made above, that the infection chain can be traced. Can this problem be overcome? In principle, I think that it could be. As part of a test-and-trace program, some reasonable proportion of the public might agree to have their movements traced, with some privacy protection but in a way that permits the government to perform aggregate statistical studies. We might be able to perform statistical studies assessing how individual choices affect the risk of infection. For market-based regulation to work, we need predict only the likelihood that someone becomes infected based on how much time the individual spends in locations insured by different insurance providers. With such a model, statisticians could (pursuant to methods announced in advance) estimate the proportion of COVID-19 costs attributable to each insurer's insured locations and impose fines on insurers accordingly. These fines could then be redistributed to the government, which in turn might use them to subsidize businesses. Insurers of course would earn profits in such a regime, but they would also be performing the service of risk-classification, with far more powerful incentives than governments have to set appropriate taxes.

This system is likely not politically enactable. Maybe that is in part because I have left many details unspecified, and the devil's in the details. But the devil will be in the details of just about any other approach as well. Rather, the system is not politically enactable because it's just not how we generally think about regulation. We generally assume that political actors will regulate directly, rather than relying on actors with strong market incentives to make the appropriate regulatory distinctions. But there are some regulatory areas where market-based mechanisms are common (say, radio frequency allocation and environmental regulation), and an important project is to consider other domains in which market-based mechanisms might operate. Perhaps eventually, market-based regulation will seem less weird and accordingly will become more common.

Still, COVID-19 or other pandemics may be one of the most difficult possible applications of a market-based mechanism. Nonetheless, COVID-19 illustrates a policy process that at its best is only very loosely evidenced-based. In general, market-based regulation may enhance both the collection of evidence and the application of rules based on the presence of risk.

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  1. It would be cheaper, easier, and much less intrusive, to just drive Covid 19 into extinction, rather than adjusting our lives to its continued presence.

    An effective vaccine, and extensive testing are all that is needed. Make identifying the pathogen by genetic sequencing a routine part of seeing a doctor about an illness, instead of a last resort when the patient is on the verge of death. As the incidence of it drops, start paying out bounties to anybody who gets tested and proves to have it, (Or any novel pathogen!) to encourage people to continue being tested even after the immediate pandemic is over.

    1. The huge animal reservoir of all the zillions of mutations of corona and other viruses makes extinction impossible.

      1. We don’t need to make the family of corona viruses extinct. We need to make THIS corona virus extinct, and catch new viruses being passed from person to person before they’ve spread far and wide and need massively intrusive measures to stop.

        Imagine that seismologists only turned on their seismographs when buildings started falling down. Or weather forecasters only started taking wind and temperature readings when a tornado or hurricane struck. That’s medicine, right now: It flies blind until it hits something, and then starts looking around.

        We need medicine to be more like weather forecasting, where you do an enormous amount of measurements to avoid being taken by surprise.

  2. The wikipedia article on “assume a can opener” has this nice quote:

    Italian finance minister Tommaso Padoa-Schioppa used the phrase in 2006 to illustrate that “Very often, when economists comment, they assume politics away.”

    Of course, politicians never assume economics away. As Thomas Sowell said, “The first lesson of economics is scarcity: there is never enough of anything to fully satisfy all those who want it. The first lesson of politics is to disregard the first lesson of economics.”

    1. Sowell is full of beans. There is more than enough of coronavirus to satisfy everyone who wants it.

      Political problems are not merely about satisfying market cravings. Political problems include stuff like deciding what the downside may be for B, who does not prefer some “good,” if it becomes public policy that the “good” be made available to A, who does prefer it. Economics tells even less about deciding that kind of question than it does about the questions economists insist their discipline is competent to answer.

      Every time someone says an economic analysis ought to be some part of a policy decision, or a legal decision, consider whether a demand has been presented to decide the question not based on politics—which is the proper foundation of policy—but instead based on ideology.

      What passes for the academic discipline of economics too often amounts in political practice to ideological insistence that policy presume that people behave in the same way that numbers behave. In some circles that has become popular ideology, but in the world at large it rarely proves correct.

      1. Lathrop forgets the next lesson of economics, supply and demand. There is no demand for coronavirus.

        That said, I can’t disagree that both sides choose their fav economics and engage in scientism.

  3. So why would a person who gets sick or dies cares if an insurance company pays the government a fine?

    1. The point is that the insurance company cares if it pays the government a fine, so it leans on you in the government’s place.

      1. No, the insurance company leans on the company that caused the infection, the person infected still gets nothing but misery.

  4. There appears to be quite a bit of rules needed to create a system with no rules. This system would take massive teams of data scientists to implement and maintain, require some invasive surveillance, and in the end does not help those who get sick from this. It would also need government oversight to work. Other then satisfying a political philosophy, I do not see how this would be in any way better.

    And the final reason why this could never work is because even if you could attribute an infection to a business, that person will go on to infect others and the infection will keep spreading.

    1. Don’t talk practicalities to Markets Solve All true believers.

      You’ll get a headache.

  5. Governments, unfortunately, must make decisions under great uncertainty, and we cannot have much confidence that the political considerations facing leaders will give strong incentives to make decisions that would pass a hypothetical cost-benefit calculus.

    What relevance can a cost-benefit calculus even have, given the apparently complete lack of consensus on what body is competent to decide the question. Or to put it another way, if the legislature is not presumed competent, on what legitimate basis can any other seat of judgment be preferred?

    1. The decision to impose liability for transmission is inherently political, as is the amount of the liability, which presumably will be established by law.

      In effect this is government deciding who is responsible for transmission, and what the costs of transmission are. (We also have government conducting the surveillance and data-gathering the plan describes.)

  6. Will insurance companies monitor business for compliance? If not, how will they set rational premiums, and what will that monitoring cost.

    Notice that in the case of auto liability insurance the insurers benefit enormously from having many thousands of government agents – the police – providing data on the driving behavior of individuals by issuing tickets and writing accident reports.

    Who will provide that service in this scheme?

  7. “One policy option is liberation, not imposing any rules at all. This theory might be justified even given an assumption that social distancing is critical to containing the pandemic. Absent requirements, many individuals will still choose to distance socially, because they do not want to become infected with COVID-19, because they do not want to infect others, and because they prefer not to violate social norms”

    And, oh by the way, this is how we have responded to communicable diseases, including the 100% fatal AIDS virus, up until this one. Why would we abandon the proven way other than a raw political power grab? Some people have taken this as an opportunity to destroy the economy in an effort to create conditions for their preferred political order.

    Either way, some people will get sick, and some of them will die. So ‘err’ on the side of freedom. Citizens are smarter than politicians assume.

    1. AIDS did not spread through casual contact. You didn’t get it from someone sneezing in your direction.

      Either way, some people will get sick, and some of them will die. So ‘err’ on the side of freedom.

      Any interest in reducing those numbers?

  8. Insurance? Really?
    I can see it now; “we deny your claim because there is no way to determine that our insured caused your infection out of all the places you were in the last two weeks”.
    Talk about defining ‘reasonable doubt’ !

    1. The standard in a civil suit isn’t reasonable doubt.

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