Right Reason

The Commercial Society Contradicts Our Instincts

 

In "The trouble is that free trade is just feels wrong", Daniel Hannan discusses how human beings are biased against free trade. However sound the free-trade argument may be, the cause of protectionism is still alive and well over a hundred years after The Wealth of Nations. Mr. Hannan correctly identifies our social instincts as one of the main culprits behind that tragedy of policy which continues to impoverish the world:

(Free trade is) a missed opportunity from the United Kingdom’s point of view. Outside the EU, we’d have negotiated a properly open bilateral deal with the United States years ago. As members, we’re obliged to uphold a relatively protectionist EU commercial policy for the sake of French film-makers, Italian textile manufacturers, Bavarian smallholders and so on.

Still, we are where we are. A key task for Conservative MEPs over the next six months will be to try to convince others that free trade benefits all participants. For once, the word “convince” may be apt. Politicians rarely change their minds (as opposed to changing their policies, which they do frequently). Trade, unusually, is an example of an issue where intelligent people, shown the evidence, often do shift their view.

The reason is that free trade is literally counterintuitive. It seems to violate so many ideas that feel right. How can it be better to fly stuff half way around the world than to produce it locally? How can it be right to rely on one sector instead of encouraging the growth of a balanced economy? Doesn’t it make sense to shield infant industries from competition until they’re strong enough to go it alone? Shouldn’t we aim to be self-sufficient in basics, such as food?

All these ideas appeal to minds evolved on the savannahs of Pleistocene Africa. Our brains are designed to make short-cuts, to go with hunches. But the hunches that served well enough for hunter-gatherers programmed to hoard against famine are often irrational. (I try to address the food security issue, for example, in this blog).

Just as we can understand that an optical illusion isn’t what it seems, so we see through false intuitions (of which, indeed, optical illusions are a sub-category). A good example is the question of comparative advantage, perhaps the single most counter-intuitive notion in the whole of economics. If Country A is more efficient than Country B in every respect, we can see why Country A stands to gain from free commerce between the two. But surely, we assume, Country A’s gain will be Country B’s loss? Country B’s industries will be overwhelmed by cheaper competition, its workers thrown onto the streets. Won’t they?

 

The unavoidable conclusion is that human nature has a bias against the liberal civilization. Friedrich Hayek addressed this idea, which I think deserves a lot more attention than it has hitherto recieved, in The Fatal Conceit: 

(M)an's insticts, which were fully developed long before Aristotle's time, were not made for the kinds of surroundings, and for the numbers, in which he now lives. They were adapted to life in the small roving bands or troops in which the human race and its immediate ancestors evolved during the few milion years while the biological constitution of homo sapiens was still being formed. These genetically inherited instincts served to steer the cooperation of the members of the troop, a cooperation that was, necessarily, a narrowly circumscribed interaction of fellows known to and trusted by one another. These primitive people were guided by concrete, commonly perceived aims, and by a similar perception of the dangers and opporunities - chiefly sources of food and shelter - of their environment (Hayek 1988, 11-12).

Part of our present difficult is that we must constantly adjust our lives, our thoughts and our emotions, in order to live simultaneously within different kinds of orders according to different rules. If we were to apply the unmodified, uncurbed, rules of the micro-cosmos (i.e., of the small band or troop, or of, say, our families) to the macro-cosmos (our wider civilization), as our sentiments and sentimental yearnings often make us wish to do, we would destroy it. Yet if we were always to apply the rules of the extended order to our more intimate groupings, we would crush them. So we must learn to live in two sorts of world at once (Ibid, 18). 

Hayek and Lucas on Economics

 

 

I wrote before about the paradigmatic differences between the approaches taken between the Austrians and New Classicals in how they approach economics. The differences go as deep as how the two paradigms even think about economics as a science.  

Certainly there is a heterogeneity to both paradigms to how they approach the scientific status of economics, Mises taking a harder line than Hayek for instance. Nevertheless, there are stark differences between the two. Those differences are revealed in the banquet speeches Hayek and Lucas each gave when receiving their Nobel Memorial Prizes in 1974 and 1995 respectively. 

 

In his banquet speech, Hayek was skeptical of whether the Prize, only five years old at the time, was a good thing. He argued that the institution of a Nobel Memorial Prize for economics would give economics too much prestige:

(T)he Nobel Prize confers on an individual an authority which in economics no man ought to possess.

This does not matter in the natural sciences. Here the influence exercised by an individual is chiefly an influence on his fellow experts; and they will soon cut him down to size if he exceeds his competence.

But the influence of the economist that mainly matters is an influence over laymen: politicians, journalists, civil servants and the public generally.

There is no reason why a man who has made a distinctive contribution to economic science should be omnicompetent on all problems of society - as the press tends to treat him till in the end he may himself be persuaded to believe.

Economists certainly have valuable things to contribute to the rest of society. Basic Econ 101, if fully understood, would greatly augment the general welfare. As Peter Boettke keeps saying, simple economics is not simple-minded economics. 

However, as economics moves beyond Econ 101, the ground that economists stand on does not adequately reflect their ambitions, and so one can get contradictory answers from Nobel-Memorial Prize Winners on basic questions as whether there is a trade off between inflation and unemployment.  The Swedish Riksbank surrounding practitioners of such a discipline with the mystique of a hard science, as a Nobel is bound to do, can lead to the creation of a dangerous class of technocrats whose advice, however flawed, is accepted by virtue of a Nobel’s prestige. 

 

The hope that a Nobel could serve as a focal point for the recognition of what it means to be a good economist was flawed because there were no feedback mechanisms for updating people’s esteem of different economists. In the physical sciences, those that babbled nonsense would quickly be revealed for the charlatans they are by the data, but economics does not have recourse to such mechanisms. It’s not that, as many continue to argue, that economics doesn’t care about data, it’s that even pinning down the concept of economic data is surprisingly difficult. Hayek commented on this predicament in his Prize lecture:

Unlike the position that exists in the physical sciences, in economics and other disciplines that deal with essentially complex phenomena, the aspects of the events to be accounted for about which we can get quantitative data are necessarily limited and may not include the important ones. While in the physical sciences it is generally assumed, probably with good reason, that any important factor which determines the observed events will itself be directly observable and measurable, in the study of such complex phenomena as the market, which depend on the actions of many individuals, all the circumstances which will determine the outcome of a process, for reasons which I shall explain later, will hardly ever be fully known or measurable. And while in the physical sciences the investigator will be able to measure what, on the basis of a prima facie theory, he thinks important, in the social sciences often that is treated as important which happens to be accessible to measurement. This is sometimes carried to the point where it is demanded that our theories must be formulated in such terms that they refer only to measurable magnitudes.

 

Hayek’s skepticism about whether economics has a scientific character for which the Nobel Memorial could serve as a focal point is contrasted with Robert Lucas’ optimism. In Lucas’ banquet speech, he argued that the Nobel Memorial Prize was a valuable institution which served as a focal point for scientific exploration:

This prize was established in the 1960s, as a memorial, through the generosity of the Bank of Sweden. Generosity and, I would say, wisdom, as the establishment of a Nobel Prize in Economics has had a very beneficial effect on my profession, encouraging us to focus on basic questions and scientific method. It is as if by recognizing Economics as a science, the Bank of Sweden and the Nobel Foundation have helped us to become one, to come close to realizing our scientific potential.

Whereas Hayek is wary of the effects the Nobel Memorial Prize in Economic Sciences would have a positive effect on discourse, Lucas is optimistic. Lucas argued that the Prize heightened economists’ appreciation for basic principles, and the scientific character of their discipline. Prize Winners could serve as focal points for what it means to do good economics, and therefore advances economists’ notion of what it means to be a good economist. 

In Lucas’ view, the Nobel Memorial Prize serves well as a feedback mechanisms for the economics community to recognize good economics. Hayek is much more pessimistic, and feared the Prize would have too great an impact on the minds of those outside of economics proper.

 

The difference between the two, perhaps slight perhaps not, reveals that the two thought about economics differently. Hayek thought about it as a squishy, so to speak, discipline which did not have recourse to the same methods that the physical sciences had for ending disputes among its practitioners. Lucas thought, and continues to think of it, as a harder affair with the potential of such a  science. 

 

 

The Austrians and the New Classicals: One Strand of Thought?

 

 

 

"Normal science" means research firmly based upon one or more past scientific achievements, achievements that some particular scientific community acknowledges for a time as supplying the foundation for its further practice. 

-Thomas Kuhn, The Structure of Scientific Revolutions

 

Comparisons between the Austrians and the New Classicals are nothing new. The New Classicals often thought of themselves as continuing the Austrian project of theorizing by embracing equilibrium-theories of the business cycle inspired by Hayek’s work in the twenties. Alex Tabarrok wrote that has argued that Robert Lucas is the greatest Austrian economist of the 20^th century. The controversy now continues. 

In his blog, “Noahopinion”, Noah Smith argues that the New Classicals drank the Austrians' milkshake. They took what was worthwhile within the Austrian research program, and advanced it further than any Austrian has been able to. The problem with Smith’s argument is that even though there is much that the Austrians and New Classicals agree on, the disagreements between the two are far too many for the New Classicals and Austrians to be continued a single strand of thought. Those differences are brought to light when we consider that the New Classicals, who could very much be considered heirs to the techniques of the Market Socialist Oskar Lange, cannot make sense of the Austrian critique of socialism within their way of doing economics. 

  

The most major difference between the paradigm of Mises and Hayek, and that of Prescott and Lucas is not what they think about issues that Smith brings up like mathematics or disagreements about the nature of the business cycle. The most important differences, which informs the two paradigms’ very outlook is that that the two are contradictory in their answers to what economics is largely about. Whereas the Austrians focus on questions of how the order of the market order emerges, the New Classical assumes that order in their difference equations. 

The most succinct expression of the outlook of the Austrian school comes from Hayek in The Fatal Conceit when he wrote that “The most curious task of economics is to demonstrate to men just how little they really know about what they imagine they can design” (Hayek 1988, 76). On the other hand, in “Methods and Problems in Business Cycle Theory”, Lucas asserted: “One of the functions of theoretical economies is to provide fully articulated, artificial economic systems that can serve as laboratories in which policies that would be prohibitively expensive to experiment with in actual economies can be tested out at much lower cost.” Hayek’s vision of economics is to warn against the very intentions of Lucas: that no human being can have sufficient knowledge to design an economic order, it can only emerge from market process. There is an extreme tension here which betrays the radical difference between the two paradigms, and it is all made manifest by thinking about the Socialist Calculation Debate.

 

We must keep in mind that the Austrian economists' crowning achievement to this day is their proof of the impossibility of socialism during the Socialist Calculation Debate. Within that debate, Mises and Hayek argued that the socialist vision that an economic order could be created by the planning of one or many human minds was impossible, and that the only way for an economic order to come about was through the use of prices. Their legacy is in part built upon their work against socialist in the ‘20s, ‘30s, and 40’s. Anyone who wants to lay claim to improving upon the Mises-Hayek paradigm has to be able to capture the lessons of the Mises’ seminal article “Economic Calculation in the Socialist Commonwealth.” The New Classicals, with their emphasis on the important of analgoue economies. simply cannot do that. 

Even though Lucas emphasizes that we must be mindful of the difference between real and toy economies, the notion that economists could even sufficiently approximate the nature of the economy  in theory would be absurd to both Mises and Hayek. Neither Austrian would have anything to do with statements like:

On this general view of the nature of economic theory then, a ‘theory’ is not a collection of assertions about the behavior of the actual economy but rather an explicit set of instructions for building a parallel or analogue system - a mechanical imitation economy. A ‘good’ model from, this point of view, will not exactly be more ‘real’ than a poor one, but will provide better imitations (Lucas, 1980).

If Mises and Hayek were to read that quote, I bet they would be reminded of Oskar Lange’s argument that socialism could work because the central planning board could serve the function of the Walrasian auctioneer, and direct the use of factors of production with knowledge of their marginal costs. The Austrians disagreed, and Mises shot the first shot in 1920 with “Economic Calculation in the Socialist Commonwealth.” 

 

They argued that Lange greatly overestimated the potential of the human mind to comprehend the economic order, so does Lucas, and that overestimation separates his work work from the tradition of the Austrians because the Austrian tradition constantly emphasized that the market order was simply too complex to be adequately summed up in a system of stochastically disturbed difference equations.     

So much of Austrian scholarship has been inspired by the problems of the emergence of a social order from decentralized cooperation which the Lucas-Prescott paradigm cannot capture. The Mises-Hayek paradigm is concerned first and foremost with the study of spontaneous order, and with the the emergent properties caused by the connectedness between market participants. (Arnold Kling, in his own response to Noah Smith got at the importance of the issue of connectedness when he wrote:  The bottom line: Austrian economics ought to resemble PSST, not New Classical.) The New Classical toy economy cannot capture those aspects of the market order, and so role of spontaneous order in the hat the Austrian School has to do with complexity, and the interconnectedness of human beings within society is manifest in Human Action when Ludwig von Mises wrote:

The (socialist) director does not simply have to deal with coal as such, but with thousands and thousands of pits already in operation in various places, and with the possibilities for digging new pits, with the various methods of mining in each of them, with the different qualities of coal in various deposits, with the various methods for utilizing the coal for the production of power, and a great number of derivatives (Mises 1998, 695).

The New Classical paradigm cannot even sense of problems of connectedness because of their adherence to general equilibrium as the way of doing economics. 

 

The very nature of how general-equilibrium theory is constructed glosses over the facts that there are particular paths of interaction within a market order. Jason Potts, a fellow heterodox to the Austrians, addressed this concern in The New Evolutionary Microeconomics:

The quality of space being integral derives from the assumption that a single (mathematical) operation links any point in economic space with any other point. Interactions, knowledge, and structure specific connections between points in space and therefore the very existence of these concepts is excluded by the assumption that all points relate, a priori, to all other points directly; that is, with a single mathematical operation (Potts 2000, 17).

Robert Lucas had profuse praise for Gerard Debreu’s Theory of Value, a work which sought to prove that a Pareto optimal distribution of a set resources could be created consistent with profit and utility maximization? On the back of the book Lucas praises The Thgeory of Value as an “immortal classic in twentieth-century economics.” The central role which the New Classicals think that such equilibrium frameworks, especially competitive equilibrium, played in the normal science of economics is a major point of divergence between them and the Austrians. 

 

Competitive equilibrium assumes away the questions of conceitedness which the Austrians are most concerned with, and have given rise to Kirzner’s writings about the entrepreneur, and even Hayek’s ideas about the business cycle. If we are to think about an intellectual’s theorizing as a means of him satisfying the uneasiness certain problems weigh on his mind, we could say that competitive equilibrium assumes away the problems which the Austrians are most troubled by. Mises, for instance, critiqued the use of mathematics in economics for looking over all the questions which should make economists wonder about the possibility of a socialist economy:  

The result is that from the writings of the mathematical economists the imaginary construction of a socialist commonwealth emerges as a realizable system of cooperation under the division of labor, as a fully-fledged alternative to the economic system based on private control of the means of production. The director of the socialist community will be in a position to allocate the various factors of production in a rational way, i.e., on the grounds of calculation (Mises 1998, 698).

For Mises, competitive-equilibrium frameworks glossed over the problems of coordination and price emergence which doomed the hopes of would-be socialists, and as a result that framework did not capture enough of the economy’s essence to be that useful to the study of that phenomenon.  

Lucas’ assertion that economics could create toy economies sufficiently realistic to provide a preliminary testing ground for regulations is of the type which Mises is arguing against here. Even though Prescott, Lucas, and other New Classicals would have recourse to other arguments for why a socialist director would not be able to construct an economic order from on high, they cannot make sense of Mises’ and Hayek’s theses about how cooperation conditioned by prices are able to conquer, to quote Keynes, the dark forces of time and ignorance everyone faces in economic life. As a result, the New Classicals could even be considered a decay, rather than a refinement, of the Austrian insights into the nature of the market order, and of society at large.

 

In the end, there is not a lot of room for the Austrian insights about human competition within a model of an analogue. By asserting that the New Classicals have adopted and advanced the Austrian research program, Noah Smith has  Two features really make the paradigm of Mises and Hayek special: that the two look at purposeful action within the context of radical uncertainty, and the interconnectedness between human beings which results from such behavior. Whereas Prescott and Lucas theorize about a world of linearity and smoothness, Mises and Hayek theorized about a world of complexity and uncertainty. 

So no, the Austrians and New Classicals are not one strand of through. Rather than the New Classicals drinking the Austrians milkshake, stealing their ideas while giving them no credit (in the comments: Noah Smith notes: “I would say someone else picked up a lot of their ideas, ran with them, and won, but didn't give the Austrians any credit... ;-)”), the New Classicals represent the fruition of the economic approach of the Market Socialists. Indeed, it wouldn’t be an understatement to say that Ludwig von Mises and Friedrich Hayek share more in common with John Maynard Keynes and Hyman Minsky than they do either Prescott or Lucas. 

 

 

 

Bibliography  

Debreu, Gerard. Theory of Value. Newhaven and London: Yale University Press, 1987.

Hayek, Friedrich von. The Fatal Conceit. Chicago: Chicago University Press, 1988.

Lucas, Robert. “Methods and Problems in Business Cycle Theory.” Journal of Money, Credit, and Banking 12.4 (1980): 696-715.

Mises, Ludwig von. Human Action. Auburn: Ludwig von Mises, 1998.

Potts, Jason. The New Evolutionary Microeconomics. Northhampton, Edward Elgar Publishing, Inc., 2000. 

Microcosms and the Extended Order: A Coasean Appreciation

 

 

The source of the gain from having a firm is that the organization of a market costs something and that, by forming an organization and allowing the allocation of resources to be determined administratively, these costs are saved.

-Ronald Coase, "Industrial Organization"

 

 

Whenever thinking about Ronald Coase's contributions, especially his theory of the firm, I always tend to associate it with Hayek's distinction between the micro- and macro-cosmos within The Fatal Conceit. For Hayek, even though the extended order, the macro-cosmos, is a complex system which receives its order from cooperation conditioned by abstract signals, that complex system was still constituted by many, often seemingly countless, microcosms of human cooperation.

Rather than receiving the source of their order from impersonal interactions like bidding on a stock market or spot transactions at a convenience store, microcosms receive their order from strategic, repeated interactions between unique individuals, often codified into long-term contracts. The microcosms, which can also be known as organizations, are thus, as Hayek titled a section of a chapter, the “elements of spontaneous orders.” The primary question that Coase tries to tackle in “The Nature of the Firm” is”to discover why a firm emerges at all in a specialized exchange economy” can thus be understood as an analysis as to what makes possible the existence of certain types of microcosms, or if you wish organizations, in society requiring different norms of cooperation than the extended order that nevertheless exist side-by-side to the extended order.¹

 

After all, as Coase explains in the very same article, this is a topic of interest if the impersonal coordination within the macrocosm of Hayek's extended order lead to the most efficient utilization of resources. If this were the case, then why would other forms of social cooperation based on concretely planning the utilization of means of production towards the satisfaction of wants be needed? Have economists not shown that society can function without the need of any omniscient planner simply by the interactions of individuals within the decentralized markets of the extended order. If the extended order truly “works,” then why are there small islands of planning within it that maintain their coherence despite the efficiency of the market process?

Coase explains the emergence and continued existence of these microcosms otherwise known as firms because of the costs of interacting within the extended order. Yes, it can bring about human cooperation across the entire planet, can make possible an intensely specialized division of labor throughout that blue marble, can allocate means of production to satisfying the most urgent wants of consumers, and can bring about peaceful relations among human beings despite nation, race, and creed, but that doesn't mean that the extended order can exist without reference to the microcosms that constitute it. It would be a mistake to think that human cooperation within the extended order, even cooperation restricted to the economic, do-ut-des sphere, is universally atomistic with cooperation being spot transactions between impersonal agents. Instead, the interaction of human beings is also conditioned by other factors within the world that make possible for the emergence and the maintenance of microcosms like a firm.

Among the factors conditioning the evolutionary landscape of economic institutions are the costs Coase identifies with “using the price mechanism.”² Two causes behind these costs include the effort behind searching for the lowest prices available, and the effort that goes into specifying and negotiating a complete contract to dictate the terms of the interaction. The existence of these microcosms within the extended order are thus conditional upon there being costs for a lone individual to simply get by with spot transactions and hammering out contracts with everyone else on their own. Firms are thus a type of social order that has emerged in the course of human beings dealing with a world in which there are costs to participating in the extended order. (One could follow conventional econ jargon and call these “transaction costs,” but I feel myself as it the concept has been drained of all meaning. Transaction costs are used by economists to explain everything and in doing so the concept has become completely amorphous.)

This consideration brings us to Coase's greatest contribution to the study of human society, his analysis that voluntary trades in property rights will result in the optimal allocation of resources for the amelioration of human uneasiness in the world in “The Problem of Social Costs.” Indeed, the Coase Theorem, as those following Stigler tend to call this result, seems to provide an extension of the First Welfare Theorem, which states that a complete market can reach an efficient allocation of resources, to the non-market world as long as there is efficient bargaining. However, there is really no Coase Theorem since “The Problem of Social Costs” is not intended to show that efficient allocations always exist in the world despite the existence of so-called frictions within social interactions. Instead, Coase's purpose was to provide a reason to believe that self interest could, contra Pigou's welfare economics, result in exchanges in property titles that could yield the best state of the world. In addition, Coase's narrative of people bargaining leading to the optimal allocation of resources provides a useful foil to studying real institutions in the real world.

 

Overall, Coase's contributions have helped enlarge our appreciation of how organizations, microcosms within the sea of the greater extended order, have emerged and survived throughout human history. In order to understand the nature of human cooperation, we have to understand it beyond the arena of perfect competition; instead, we must understand its institutional peculiarities in actual societies across the world. To understand how the extended order has grown over the centuries, we have to understand how the organizations that constitute the extended order function, and it is to this study that Ronald Coase has provided us with a monument for the ages in “The Nature of the Firm” and “The Problem of Social Costs” alone.

 

1 Ronald Coase, “The Nature of the Firm” in The Firm, the Market, and the Law (Chicago: Chicago University Press, 1988), 37.

2 Ibid, 38.

Man is Made for Society, but What For Society?

 

 

 From The Descent of Man by Charles Darwin:

It has often been assumed that animals were in the first place rendered social and that they feel as a consequence uncomfortable when separated from each other and comfortable whilst together but it is a more probably view that there sensations were first developed in order that those animals which would profit by living in society, should be induced to live together. In the same meaner, as the sense of hunger and the pleasure of eating were, no doubt, first acquired in order to induce animals to eat. The feeling of pleasure from society is probably an extension of the parental or filial affections; and this extension may be in chief part attributed to natural selection, but perhaps in part to mere habit. For those animals which were benefited by living in close association, the individuals which took the greatest pleasure in society would best escape various dangers; whilst those that cared least for their comrades and lived solitary would perish in greater numbers. With respect to the origin of the parental and filial affections, which apparently lie at the basis for the social affections, it is hopeless to speculate; but we may infer that they have been to a large extent gained through natural selection. So it has almost certainly been with the unusual and opposite feeling of hatred between the nearest relations, as with the worker-bees which kill their brother-drones, and with the queen-bees which kill their daughter-queens; the desire to destroy, instead of loving, their nearest relations having been here of service to the community.

And from The Fatal Conceit by Friedrich Hayek:

Part of our present difficult is that we must constantly adjust our lives, our thoughts and our emotions, in order to live simultaneously within different kinds of orders according to different rules. If we were to apply the rules of the micro-cosmos (i.e. of the small band or troop, or of, say, our families) to the macro-cosmos (our wider civilization), as our instincts and sentimental yearnings often make us wish to do, we would destroy it (emphasis original).

 

The human animal has by the process of natural selection been crafted, so to speak, by the forces of evolution to live within a close society so that each individual may benefit from cooperation with others in that society. Over the process of human natural history, the societies in which individuals interact with have become ever more complex and have involved individuals cooperating with others that they may not even meet in the course of their lives. This has culminated in the modern social order defined by the competitive markets, what Hayek refers to in The Fatal Conceit as the “Extended Order.”

Man may be selected for a social existence, but his instincts are now no longer in sync with the rules now demanded for cooperation in the extended order. Cultural evolution has been the driving force of human existence over the past twenty thousand years and, especially within the last thousand years, the demands of culture are now in conflict with instinct. I could easily go on about how each human being must moderate the darker side of human nature in order to co-exist with their fellow human beings, but that was also true in the case of cooperation in the tribe just as it is true in the case of cooperation in the extended order, but I won't.

The far more pertinent conflict between instinct and the rules of conduct necessary for the extended order is the conflict between our instincts for altruism and the demands of impersonal cooperation. Within the setting of the tribe, or even the micro-cosmoi of modern society, each human being knows those that they cooperate personally, they know their needs and desires, and thus know how to act in order to best advance their chosen ends. This is simply not the case with cooperation in the extended order, there human beings cooperate with other human beings on the other side of the planet on a daily basis when they buy goods fabricated in Thailand or China. It is simply impossible for each person to personally be acquainted with each person that they cooperate with on a daily basis, let alone know how to directly advance the goals those people strive after. Within this environment, altruism cannot be a guiding rule of conduct because altruism relies on the altruist knowing how to better the lives of the people they held. When they cannot know how to better their lives, then their altruistic act may actually do more harm than good.

 

Within the extended order, social cooperation on the market has allowed individuals to condition their own actions on the desired ends of other people by the price-mechanisms. This impersonal manner of coordinating action has proven itself to be the most effective means of achieving human prosperity, and yet we must accept that this cultural rule of conduct is fundamentally alien to human beings. We see this every time that someone complains about a factory in China or any other perceived distributional error in capitalism: people want to supplant an order based on an abstract principle not designed by the human mind, the market-process, with a specific order designed by the human mind to advance the ends of those in question. However, to do so would mean to slowly dissolve the rules of conduct that make possible the extended order.

The human being is a social animal, but not all societies are the same. As Darwin noted, the instincts of man have been chosen for a society in which the rule of conduct was to help other people and in which the individual had the knowledge to successfully directly work towards the well-being of those he cooperated with. However, society has since changed while man's instincts have remained constant. In a world in which each person works towards the well-beings of others by maximizing their own personal profits, human instincts are a force which, if not kept in check, could easily rend that system of cooperation to pieces.

Roundtable: What is Democracy?

From On the Laws by Cicero, I.41:

Now every people (which is the kind of large assemblage I have described), every state (which is the organization of the people), every commonwealth (which, is, as I said, the concern of the people) needs to be ruled by some sort of deliberation in order to be long lived. That deliberative function, moreover must always be connected to the original cause which engendered the state; and it must also be either assigned to one person or to selected individuals or be taken up by the entire population. And so, when the control of everything is in the hands of one person, we call that one person a kind and that type of commonwealth a monarchy. When it is in the control of chosen men, then a state is said to be ruled by the will of the aristocracy. And that which everything is in the hands of the people is a “popular” state – that is what we call it. And of these three types any one, even though it may not be perfect or in my opinion the best possible, still is tolerable as long as it holds to the bond which first bound men together in the association of the commonwealth; and any one may be better than another.

This is a rather classical view deriving from Aristotle's taxonomy of different types of poleis within the Hellenistic world. The emphasis on who within the population deliberates on the functions on the government, though, is an attribute of democracy that any sound notion of it must capture. T

he notion that democracy is the deliberation about laws among the entire population has been emphasized by contemporary theorists like Amartya Sen. In his own work, Sen has argued that the reasons that there has never been no major famine in a modern democracy is this deliberative aspect of democracy. Since everyone can have a say in the deliberation of policies within a democracy, few within government cannot hide the facts behind famines for long and the outcry for famine-relief cannot be long kept quiet.

 

Another aspect of democracy is highlighted by Karl Popper in The Open Society and Its Enemies Vol I., pg. 124: 

(W)e may distinguish two main types of government. The first consists of governments which we can get rid (sic) without bloodshed – for example, by way of general elections; that is to say, the social institutions provide means by which the rulers may be dismissed by the ruled, and the social traditions ensure that these institutions will not be easily destroyed by those who are in power. The second type consists of governments which the ruled cannot get rid of (sic) except by way of a successful revolution – that is to say, in most cases, not at all. I suggest the term “democracy” as a short-hand label for a government of the first type, and the term “tyranny” or “dictatorship” for the second. This, I believe, corresponds closely to traditional usage.

Popper's assertion that a democracy is a changable government brings to mind something that Edmund Burke said in Reflections on the Revolution in France: “A state without the means of some change is without the means of its conservation.”No doubt, the authoritarian style of the Bourbon kings and the centralization of political power in the halls of Versailles created a political climate in which change could only be achieved via bloodshed and the great tragedy that was the French Revolution.

Ludwig von Mises also emphasizes that a democracy is a government that can change as to best suit the will of the governed. From Liberalism, pg. 21:

Democracy is the form of political constitution which makes possible the adaptation of the government to the wishes of the governed without violent struggles. If in a democratic state the government is no longer being conducted as the majority of the population would have it, no civil war is necessary to put into office those who are willing to work to suit the majority. By means of elections and parliamentary arrangements, the change of government is executed smoothly and without friction, violence, or bloodshed.

 

When speaking about what democracy is, it is also important to keep in mind what democracy is not and Friedrich Hayek writes about this in The Constitution of Liberty, pg. 103:

Equality before the law leads to the demand that all men should also have the same share in making the law. This is the point where where the traditional liberalism and the democratic movement meet. Liberalism (in the European nineteenth-century meaning of the word, to which we shall adhere throughout this chapter) is concerned mainly with limiting the coercive powers of all government, whether democratic or not, whereas the dogmatic democrat knows only one limit – current majority opinion. The difference between the two ideals stands out most clearly if we name their opposites: for democracy it is authoritarian government; for liberalism it is totalitarianism. Neither of the two systems necessarily excludes the opposite of the other: a democracy may well wield totalitarian powers, and it is conceivable that an authoritarian government may act of liberal principles.

There can be both illiberal and liberal democracy. Of course, as both Popper and Mises have noted, the benefit to an illiberal democracy as opposed to, say, an illiberal monarchy is that an illiberal democracy can be changed if there are enough votes against it.

 

Finally, we have our last perspective in this roundtable from “Perpetual Peace: A Philosophical Sketch” by Immanuel Kant:

A republican constitution is founded upon three principles: firstly, the principle of freedom for all members of a society (as men); secondly, the principle of the dependence of everyone upon a single common legislation (as subjects); and thirdly, the principle of legal equality for everyone (as citizens). It is the only constitution that can be derived from the idea of original contract, upon which all rightful constitution of a people must be founded. Thus as far as right is concerned, republicanism is in itself the original basis of every kind of civil constitution, and it only remains to ask whether it is the only constitution which can lead to a perpetual peace.

While Kant does not describe here his notion of what “Democracy” is, but our modern notion of democracy is so close to his notion of republicanism, just as it is close to what the American founders like Madison thought of as republican government, that he mind as well be talking about modern democracy. That modern theorists like John Rawls have tried to create normative standards for democracy around notions like Kant's original contract is even more evidence that Kant speaks here of what we call “Democracy” today. Then again, we need to keep in mind Hayek's lesson that we cannot equivocate Liberalism and democracy.

This is a typical Kantian attempt at trying to understand something as well. Like Aristotle, I often think of Kant's philosophical style of taxonomic: he tries to augment our understanding of philosophical objects by immediately creating categories and systems of classification. Indeed, one of the reasons the Critique of Pure Reason can be so intimidating is just how many new words Kant creates in order to classify reason in its many functions.

However, I am greatly skeptical of the entire philosophical project of trying to deduce the nature of government via a priori constructions like the original contract. I think that Burke succinctly summarized all the errors of this rational constructivist approach when he wrote in his Reflections: “The science of constructing a commonwealth, or renovating it, or reforming it, is, like every other experimental science, not to be taught a priori.

 

 

Bibliography:

Burke, Edmund. Reflections on the Revolution in France. London: Penguin Books Ltd., 2004.

Cicero, Marcus Tullius. On the Commonwealth in One the Commonwealth and On the Laws ed. James E.G. Zetzel. Cambridge: Cambridge University Press, 1999.

Hayek, Friedrich. The Constitution of Liberty. Chicago: University of Chicago Press, 1978.

Kant, Immanuel. “Perpetual Peace: A Philosophical Sketch” in Political Writings ed. H.S. Reiss. Cambridge: Cambridge University Press, 2009.

Mises, Ludwig von. Liberalism: The Classical Tradition. Indianapolis: Liberty Fund Inc., 2005.

Popper, Karl. The Open Society and Its Enemies. Princeton: Princeton University Press, 1966.

Economics: What it Can and Cannot Do

From The National Review:

After 40,000 years of civilization, we very clever creatures still cannot predict the weather with any reliable degree of detailed accuracy more than about a week out. (But some of us still pray for rain.) Scientists who have spent their lifetimes working on extraordinarily specialized problems routinely are baffled by new and unexpected developments. (But some of us still believe the universe is turtles all the way down.) Our highest-paid stock-pickers routinely are outperformed by darts thrown at a board, by kindergartners, and by monkeys. (But some of us still believe in the sure thing.) On and on it goes: Executives reliably make disastrously bad decisions about their own businesses, and most entrepreneurs fail.

In spite of the massive piles of evidence surrounding them, politicians routinely tell us that if we will merely give them the power to do X, then Y surely will follow. The Obama administration predicted that if the stimulus and other policies were enacted, then unemployment would decline to 5.2 percent. (It isn’t 5.2 percent.) Mitt Romney says that if we enact his agenda, the result will be 4 percent growth. Personally, I think that politicians should be goosed with a Taser every time they use the word “percent” in a future-tense sentence. But to be more charitable, let’s instead conclude that such projections should be viewed skeptically.

Unhappily, many economists desire to play kingmaker and therefore lend the prestige of their discipline to the wishful thinking of politics, where arguments are oversimplified to a point that is indistinguishable from dishonesty. They are aided in this by journalists who provide a bridge from the rigorous world of academic research to the standards-free world of political discourse. The result is something like a fairy tale or just-so story. That voters choose to accept such fanciful promises is another piece of evidence that our politics is not rational but ritual.

 

Closely related to this is Friedrich Hayek's now famous quote from The Fatal Conceit: "The curious task of economics is to demonstrate to men how little they really know about what they can imagine they can design." Also related is Hayek's banquet speech after recieving the Nobel Memorial Prize:

(T)he Nobel Prize confers on an individual an authority which in economics no man ought to possess.

This does not matter in the natural sciences. Here the influence exercised by an individual is chiefly an influence on his fellow experts; and they will soon cut him down to size if he exceeds his competence.

But the influence of the economist that mainly matters is an influence over laymen: politicians, journalists, civil servants and the public generally.

There is no reason why a man who has made a distinctive contribution to economic science should be omnicompetent on all problems of society - as the press tends to treat him till in the end he may himself be persuaded to believe.

One is even made to feel it a public duty to pronounce on problems to which one may not have devoted special attention.

I am not sure that it is desirable to strengthen the influence of a few individual economists by such a ceremonial and eye-catching recognition of achievements, perhaps of the distant past.

I am therefore almost inclined to suggest that you require from your laureates an oath of humility, a sort of hippocratic oath, never to exceed in public pronouncements the limits of their competence.

Economics is not a discipline dealing with exact predictions about future events. Even the idea that we can know how the economy will function in the coming years can pretty much be falsified in one image:

 

The most humbling image for modern economics.

Blaming the failure of that prediction on merely the partisan desires of the Council of Economic Advisers is missing the point. There were good economists that sat on the council and Christina Romer, certainly a successful economist by any objective criteria, chaired it. However, the economics profession as a whole has been infected by the idea that the type of precision found in the physical sciences can and ought to be striven for in economics.

Robert Lucas advocates this type of approach in his article, "Methods and Problems in Business Cycle Theory", when he writes:

One of the funcations of theoretical economics is to provide fully articulated, artificial economic systems that can serve as laboratories in which policies that would be prohibitively expensive to experiment with in actual economies can be tested out at much lower cost. To serve this function well, it is essential that the articial "model" economy be distinguisged as sharply as possible in discussion from actual economies.

and

On this general view of the nature of economic theory then, a "theory" is not a collection of assertions about the behavior of the actual economy but an explicit set of instructions for builing a parallel or analogue system - a mechanical, imitation economy. A "good" model, from this point of view, will not be exactly more "real" than a poor one, but will provide better imitations. Of course, what one means by a "better imitation" will depend on the particular questions to which one wishes answers.

This is pseudo-scientific nonsense. The economy is simply too complex for a single model to be able to imitate and by focusing on testing singular propositions with these models, Lucas looses focus on what economics can do.

Economics can never say whether or not GDP will increase by a given percent each year. It can never provide us with a reliable prediction of the course of unemployment in the course of even a couple of years. What economics can do, though, is provide pattern predictions about the general pattern of the economy at the margins.

It can tell us that instituting rent-control will lead to a shortage of low-income housing at the margin and it can inform us that at the margin landlords will seek other means, like a key charge, for charging for rent. It can tell us that expanding the money supply beyond the demand for it will lead to inflation. It can tell us that socialism will anywhere and everywhere fail. Those are powerful predictions, but they do not try and overstep the bounds of economic reasoning by making predictions about the exact quantities that will change or the exact times those changes will happen.

Such predictions are now and will always be beyond the economist.