Last week, Glen Weyl and I published a piece in Slate that argued that mutual funds and other institutional investors were cartelizing the airline industry, and very likely other industries as well. Our piece was based on an academic paper by Azar et al., which found evidence that a merger between two major institutional investors with large stakes in the airline industry caused ticket prices to rise. To remedy this problem, we proposed restrictions on mutual fund investment within industries. (No, we did not propose banning mutual funds.)
Mathew Klein at the Financial Times and Matt Levine at Bloomberg disagree. (Klein: a “wacky idea.” Levine: “I tweeted about Posner and Weyl’s article and the reactions were, I think it is fair to say, uniformly incredulous.”) Joshua Gans does agree, and provides an extremely lucid account of the underlying theory. A few responses:
- We don’t oppose all mutual funds, just those that cartelize industries. Mutual funds that buy shares of firms across industries, rather than within industries, get a pass. The gains from further diversification within industries after the benefits from diversification across industries are obtained, are tiny. Moreover, small funds can buy shares within industries without harming anyone. The key is balancing the gains from diversification and the costs of cartelization.
- As Piketty shows, most capital is owned by the wealthy, and is far more concentrated than labor income or consumption. Reducing the returns on capital would not harm middle-class owners of capital very much, and would be offset by the reduction in prices of goods and services they buy. In an ideal world, middle-class mutual fund investors would instruct the funds not to cartelize the industry at their own expense, but obviously they cannot do that. They rationally chase the highest returns, in the process causing harm to each other.
- While we proposed regulation of 401(k)s, this was not meant to be an exclusive remedy. The problem is cartelization; the most natural response is enforcement of antitrust law. But a starting point is removal of a tax subsidy that benefits mutual funds that try to cartelize industries.
- The decline of airline prices over time does not refute Azar’s argument. The prices are still higher than they would be if the market was less concentrated. But the airline industry is not the issue. That’s just where Azar and his coauthors looked for evidence. If they are right about airlines, then the problem is general to the economy. The real puzzle is: where are the antitrust authorities?