A perspective on San Francisco's restriction of chain stores

Today, the San Francisco Chronicle reported that San Francisco "is increasingly hostile to chain stores and restaurants," meaning (in the definition of city legislation enacted a few years ago) any store or restaurant with more than eleven outlets nationally and two or more repeated characteristics among either trademark, merchandise, uniforms, facade, signage, decor, or color. Since 2004, San Francisco's planning code has banned, over large portions of the city, permits for new retail outlets to any business which is part of a "chain" or "formula store" as defined above.

The Chronicle tells us that planning commissioner Kathrin Moore, "who has been outspoken against chain stores, said they hurt local merchants and often are more harmful to the environment because their goods must be transported from outside the city."

Exactly how they "hurt local merchants" is not spelled out, but the economic answer is that chain stores (such as coffee chains or grocery stores) are often able to provide goods for less than local merchants can due to economies of scale. If chains are unable to provide goods of similar quality at lower prices, they would not be in a position to "hurt local merchants." Any large business got that way because they were able to provide value in some way that customers wanted -- and in most cases, successful larger businesses were once smaller businesses.

When governments artificially restrict competition in this way, they ultimately end up hurting customers, who are prevented from buying food, or coffee, or other goods and services that they want or need, at the most competitive prices available. Because they don't like hardware chains, government is effectively taxing everyone who wants to buy a hammer in San Francisco. With goods like food, which people must buy frequently, they are adding cost to everyone, including the lowest-income members of society, in exchange for their high-minded satisfaction in knowing that they are "helping local merchants" (at the expense of other merchants, and at the expense of their own citizens).

As for commissioner Kathrin Moore's second reason, the supposed environmental benefit from selling local goods instead of goods that "must be transported from outside the city," there are several important economic problems with this increasingly common environmentalist argument as well.

Aside from the fact that San Francisco is not a major grower of coffee beans (presumably, even local non-chain coffee shops must get the majority of their coffee beans from somewhere beyond the San Francisco city limits), the argument for consuming only local goods flies in the face of one of the greatest benefits of free economies -- the division of labor.

The division of labor enables areas that are better at producing one good (such as wheat, or automobiles) to produce that, in exchange for goods that are more effectively produced somewhere else (such as tropical fruit, or motion pictures).

San Franciscans who argue for "buying local" benefit from their proximity to some of the most productive produce-growing regions in the world, with world-class fruits and vegetables and wines and cheeses grown or produced nearby. But do people like Ms. Moore really believe that every city should only make available to their citizens locally produced wines and mangoes and pineapples and artichokes? Should Nebraskans convert land that is ideally suited for growing corn and instead plant bananas and zinfandel grapes so that the citizens of Omaha can "buy local" and be spared the evil of consuming "goods that must be transported from outside the city"?

The fact is that the ability to allow specialization is a hallmark of free economies, and that in communist countries during the twentieth century the division of labor broke down to such a degree that factories had to produce everything they needed themselves -- just as Ms. Moore would like to see San Franciscans do, apparently. On page 137 of his book, Capitalism, economist George Reisman quotes two authors who describe the contingencies that factories in communist countries had to take because they could not rely on the delivery of goods and services from elsewhere:

"There is considerable evidence that Russian plants do for themselves many things -- like producing screws with slow-speed machinery -- which could better be done by others -- in this case, specialized screw manufacturers using high speed equipment" (Henry H. Villard, Economic Development, NY: Reinhart, 1959, page 171).

"For a Soviet factory -- or a Soviet research institute -- the best response to unreliable business partners is self-sufficiency. When the planners decided to build the giant Fiat factory, they decided to make it almost entirely self-sufficient. Except for electrical equipment, window glass and tires, every part used in Zhiguli -- every nut, bolt, seat cover and piston ring -- is made in the factory itself. Gersh Budker's Institute of Nuclear Physics in Novosibirsk couldn't buy the instruments it needed, so the scientists there decided to make their own. This kind of self-reliance is expensive and inefficient." (Robert Kaiser, Russia, NY: Atheneum, 1976, page 338).

Someone should acquaint Ms. Moore and the San Francisco city planning commissioners with those quotations, particularly the last line that "this kind of self-reliance is expensive and inefficient." Those who advocate "buying local" instead of letting coffee-producing regions produce coffee and wine-producing regions produce wine are advocating that same kind of expensive and inefficient self-reliance, to the detriment of their citizens (whose food budgets are already straining from the increase in food prices caused by inflationary monetary policy and environmentally-motivated ethanol mandates).

Further, these kinds of government interferences in free markets always end up being unfair, arbitrarily privileging one business over another. Does the city of San Francisco prohibit the existence of banks that have more than eleven nationwide outlets within their "retail chain-free boundaries"? How about ATMs? Do the cars that citizens drive through the streets have to be built in San Francisco too (or were they shipped from other places)? How about the computers that the owners of "non-chain" retail businesses use to keep their Quickbooks, or the cash registers they use for their tills? And, note that this kind of restriction on who is deemed worthy of renting a piece of property means that city planners have decided that it is better to have a piece of commercial real estate sit empty than be filled with a paying renter who happens to be part of a chain -- which hurts the property owner in order to please those who find a chain store somehow more unsightly than a vacant building.

You may wonder what all this has to do with investing -- and the answer is that it is something that is very important for investors to pay attention to since it can have a real effect on value. We've written before about the fact that the Taylor Frigon strategy is directly descended from that developed by the late Dick Taylor and the late T. Rowe Price, most recently in this post.

In his 1973 essay, "A Successful Investment Philosophy based on the Growth Stock Theory of Investing," Mr. Price wrote that "the investment worth of a share of common stock is dependent upon many factors" and that investors must be alert to "changes in the social, political and economic trends."

He went on to say (discussing developments in the U.S. during the late 1960s and early 1970s): "Socialization of basic industries requires management to do more and more [. . .] at the expense of stockholders who are the real owners of business. The ecology craze is sweeping the country, forcing many industries to spend billions of dollars, increasing costs of production and reducing profits."

We hope that San Francisco's recent experiments in restricting the free market at the expense of businesses, property owners, and ultimately individual citizens is an anomaly and not an indication of trend that will infect other areas.

For later posts dealing with this same subject, see also:


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