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Most societies rely on competitive markets to handle the allocation of scarce resources to their highest and best uses. Yet markets are not without their shortcomings. For this reason, governments sometime institute regulatory control. In 1887, the first regulatory agency, the Interstate Commerce Commission, was created to regulate monopolistic pricing policies of railroads.

When private firms gain monopoly power, usually because of economies of scale, they are in a position to restrict production and raise price with little worry of competition; these are known as natural monopolies. The government may permit a single producer (e.g., of natural gas or electricity) to exist in order to gain lower production costs but simultaneously empower a regulatory agency to set the firm's prices.

A second reason for regulation stems from the fact that society declares certain activities illegal. Prostitution, gambling, and certain drugs are either not permitted or allowed only under certain conditions. Through a licensing system, government agencies control who enters such industries, their prices, and their methods of operation.

Another reason for government regulation arises because society establishes standards for particular professions, such as medicine, law, accounting, and real estate. The government guarantees compliance with these standards by imposing tests and other requirements. Those failing to meet these standards are not permitted to engage in that business. Hundreds of agencies administer tests and police the professions, all done ostensibly in the interest of protecting the consumer. Interestingly, license holders often push for even higher licensing requirements, often grandfathering in all current license holders, because higher salaries are possible when the number of competitors is restricted.

Many government regulations are designed to protect people from the negative consequences (i.e., externalities) of buyers and sellers who have little incentive to look out for the welfare of third parties. For example, slaughterhouses may have the freedom to kill animals for sale to their customers in grocery stores without taking into account obnoxious odors or sounds emanating from the slaughterhouse. Neighborhood residents, however, incur externality costs. Through agencies such as the Environmental Protection Agency (EPA), the government controls what slaughterhouses can and cannot do in order to lessen the negative effects on the population.

Although government regulation is pervasive for the reasons presented above, it is apparent that regulation may not achieve the lofty goals set out in the initial effort to regulate. Governments can also fail, and government failure often aggravates the problems it sets out to solve. Public choice economists have identified several specific causes of government failure. Voters are often rationally ignorant about many things, and they vote for political candidates who are uninformed or misinformed. Also, politicians are often indebted to their financial supporters, some of whom are regulated industries, and will often enact laws favorable to their supporters regardless of the negative impact on the public. Politicians may even be willing to sacrifice the future for the sake of short-term benefits for their financial supporters. Recognition of such limitations to government regulation has caused Congress to rethink regulation, especially as it relates to certain industries.

Beginning in the mid-1970s, increased dissatisfaction with the burdens of regulation, especially the costs imposed on consumers, led to the deregulation of a number of industries, including

the airlines (Airline Deregulation Act of 1978), natural gas (Natural Gas Policy Act of 1978), trucking (Motor Carrier Act of 1980), and banking (Depository Institutions Deregulation and Monetary Control Act of 1980).

In 1997 some states began deregulating the production and sale of electricity. Newtechnolo gies nowpermit small companies to produce electricity at reduced costs. Under the newsystem (much like the system in the telephone industry), local utilities must permit competitors to use their electric lines for a fee.

Benefits from deregulation include reduced prices and increased choices for consumers. Competition among long-distance telephone suppliers is keen, no longer requiring government regulation, and is demonstrated by the fact that from 1985 to 1998 prices declined by 72 percent. Expanded service and reduced prices have occurred in both airlines and trucking. Eleven thousand newtrucking lines started up within three years of deregulation, and savings may be as high as $50 billion per year.

Some concerns have arisen about deregulation, however. The airline industry has become more concentrated since deregulation. In 1978 eleven carriers handled 87 percent of the traffic, while in 1995 seven carriers handled 93 percent of the traffic. Although some feared reduced safety, that has not materialized. Some of the bank failures in the 1980s were attributed to deregulation; yet depositors receive higher interest. On balance, deregulation effects have been positive.

A significant change in direction has also taken place with regard to government regulation of industries producing externalities. Many externalities arise because of the lack of property rights; consequently there is greater emphasis on establishing clearly defined property rights, which allows the market to automatically internalize the cost to buyers and sellers, making government regulation costly and unnecessary. The EPA nowdepends less heavily on its command-and-control approach and more heavily on tradable permits, reducing the overall level of pollution and allowing firms to avoid pollution in a more cost-effective way.

Although Congress has deregulated specific industries, social regulation designed to "protect" consumers has expanded. Through such agencies as the Occupational Safety and Health Administration, the Consumer Product Safety Commission, the Food and Drug Administration, the Equal Employment Opportunity Commission, and the EPA, the government is attempting to provide safer products, better health care, fairer employment practices, and a cleaner environment. Government at federal, state, and local levels has also continued to increase license requirements for numerous occupations and pro fessions.

Many economists wonder if the benefits are high enough to warrant the cost of regulation. In addition to regulatory-imposed limits on consumer freedom, product prices rise, administrative costs are high, and some firms are driven out of business, thereby reducing competition. To further complicate things, many special-interest groups use such laws to increase their wealth at the expense of others. It has been estimated that federal regulation costs each household $6000 per year. Clearly the issues surrounding regulation/deregulation will continue to be discussed into the twenty-first century.