Why do market economies have government regulation?
According to the Heritage Foundation, the four countries with greatest economic freedom are: Singapore, Switzerland, Ireland, and Australia. All of these countries have regulations for environmental, consumer, food, drug, and worker protection. Why do the most market-oriented economies in the world, as measured by a pro-market foundation, find it useful to regulate rather than rely solely on private negotiations? Under certain parameters, a pro-market government may regulate to minimize the size of the public sector.
In FY 2023, the high end for estimated direct federal regulatory costs were $19B. Federal court costs were estimated at $8.46B. In 2021, state and local court costs were estimated at $52B. At the state level, 19.9% of cases were civil, involving property or money. Applying that ratio to all levels, assuming proportional costs by case type, roughly estimates total civil court costs at $12B.
Suppose that a 1% increase in federal regulation spending reduces civil court spending by greater than 1.583%. This could be the case if the regulation is effective in reducing liabilities resulting from externalized costs that would lead to civil litigation. If this is the case, then the government may regulate to reduce judicial expenditure and maximize the economic activity of the private sector.
This does not address the more philosophical issue of whether all damages can be valued monetarily. Citizens may prefer that damage is prevented in the first place rather than having to sue for compensation. This also does nothing to show if any particular country would benefit from an increase in regulatory spending. It does provide a framework for analyzing the value of a regulation from a pro-market perspective: if a particular regulation reduces court costs by more than its administrative costs, then it may improve the private share of economy, assuming indirect costs of regulation and litigation are similar. This could possibly explain why countries with the most market freedom impose regulations.
An implication is that a lower the ratio of regulatory costs to civil court costs requires a lower threshold of effectiveness to improve market freedom. For example, if regulatory and civil costs were equal, then a 1% increase regulation costs would only need to induce a >1% reduction in civil costs to reduce public sector spending.
Sources:
Index of Economic Freedom | The Heritage Foundation
https://regulatorystudies.columbian.gwu.edu/digesting-federal-governments-annual-report-benefits-and-costs-federal-regulations
https://www.congress.gov/crs-product/R48077
https://www.urban.org/policy-centers/cross-center-initiatives/state-and-local-finance-initiative/state-and-local-backgrounders/criminal-justice-police-corrections-courts-expenditures
https://www.pew.org/en/research-and-analysis/data-visualizations/2025/03/how-many-cases-and-what-kind-do-state-and-local-courts-handle
https://laweconcenter.law.harvard.edu/wp-content/uploads/2024/11/Shavell_1.pdf