Max R. P. Grossmann

An important distinction in economic policy and life in general is the distinction between anyone and everyone.

In the event of an economic crash, certain government-sponsored facilities “ensure” that our bank deposits are safe. Much discussion is had about whether each person is insured or each bank account, etc. We need not talk about the tremendous moral hazard and thus inspiration for further regulation deposit insurance brings, but just recognize the following: Anyone's deposits are insured, but not everyone's.

Clearly, if your bank (and only your bank) goes bust, you will get your money back. This may be true even if your bank is quite large. However, if all the banks go down, your deposits, too, will be gone.

Why is that the case? It's rather simple. No insurance fund in the world can insure the whole of bank deposits. Correlated risks are thus not covered. This is not stated explicitly; there is no “you will not get your money if every bank collapses” in the fine print. And yet it is plain that that is the case.

A tremendous innovation in financial markets was the introduction of index funds. They allow small investors (and everyone else) to invest in a stock index such as the S&P 500. Typically, these index funds pool the money of many small investors and subsequently buy up shares of all companies in the stock index. Exchange-traded funds (ETFs) allow you to buy and sell portions of the index fund directly on the market, as if it were another stock.

Beautiful, isn't it? Well, it sure is beautiful if you are the only person on the planet who owns a portion of the S&P 500. However, we simply do not know the effects of large portions of the market being in ETFs. Financial professionals have assured me that there is still enough price discovery on the market. And the incentives are still correct, i.e., you can go against the grain. However, there is much regression-discontinuity evidence that inclusion of a stock in the S&P 500 causally uplifts its stock price. ETFs are not necessarily price takers.

However, if investors realize that they cannot earn more by active investment, they will turn to ETFs and similar instruments. It simply cannot be good for price discovery if hundreds of millions of people mindlessly yeet hundreds of dollars a pop a month into index funds. Returns must inevitably decline.

The stock market can make anyone a winner. Just not everyone.

During the 20th century, the American government recognized that college education makes people better off; spiritually and financially. This recognition was based on empirical evidence from a time when few people went to college.

And thus it was decided that “more people have to go to college.” Student loans were now heavily underwritten by the government, veterans received free or heavily subsidized university education and many jobs in the governmental hierarchy now explicitly or implicitly required a college degree.

What policymakers did not understand was that anyone can become better off from college, just not everyone. Empirical research agrees that on the individual level, a college education (still?) pays for the individual student. But on a social level, the evidence may well go to the contrary. As soon as education was “scaled up,” the benefits to society from an individual student's journey tapered off. There is much controversy to this point, but the pathologies in modern education (both lower and higher education) are so obvious that the general idea still stands. Credential inflation and rising costs were likely not foreseen by the proponents of increased higher education.

The methodological individualism of economics leads us to obtain marginal, causal effects, if some “average” individual does something or doesn't do it. But from that you cannot conclude that the effect stays constant once the policy is scaled up.

What, then, does scale? Markets. Policymakers are unable or unwilling to understand the distinction between “anyone” and “everyone.” Fortunately, we can focus on policies that do scale. One of these is allowing markets to do more.

Markets have an unparalleled track record of alleviating poverty and other awesome stuff. Is it not curious: On an individual level, anyone is made better off by being enabled mutually beneficial exchange. And everyone is made better off, too, if they join along!

As economic researchers close to policymaking in private and state areas have recently pointed out, scaling up even from the most rigorous experimental evidence is wicked hard. Somehow, interventions appear to stop working. The issues come in various shapes and sizes, but what underlies them all is the distinction between “anyone” and “everyone.” We simply do not know and cannot know the general equilibrium effects of our policy proposals before we try them, and partial equilibrium evidence is not sufficient. Time, then, to focus on things that are in fact well-known to exhibit favorable scaling properties. We need markets.