James Otteson on the Morality of Capitalism

Posted on May 7, 2012 by Will Wilkinson

What the free-enterprise system—Smith’s “obvious and simple system of natural liberty”—proposes, then, is the adoption of those political and economic institutions that manage to combine not one but two great moral imperatives: allowing people the opportunity to rise from the impoverished existence that seems to be humanity’s miserable, if equal, status quo; and respecting people as the irreplaceable and precious individuals that they are. That is a sublime conjunction of material prosperity and moral agency, the likes of which no other system of political economy has ever contemplated, let alone achieved.

Capitalism is not perfect. But no system created by human beings is, or ever will be, perfect. The most we can hope for is continuing gradual improvement. To this end, we must honestly examine the prospects of the available systems of political economy. The benefits of the free-enterprise society are enormous and unprecedented; they have meant the difference between life and death for hundreds of millions of people and have afforded a dignity to populations that are otherwise forgotten. We should wish to extend these benefits rather than to curtail them.

Would you say that the United States political economy is a “free-enterprise system”? That Smith’s “system of natural liberty” tends to function rhetorically as a justification of capitalism-as-we-know-it suggests some confusion.

via Issues 2012 | An Audacious Promise: The Moral Case for Capitalism.

What Does Geography Explain?

Posted on May 7, 2012 by Will Wilkinson

Daron Acemoglu and James Robinson on Jared Diamond:

Another major problem for Diamond’s argument is that it has little to say about inequality within continents, which is an essential part of modern world inequality. For example, the orientation of the Eurasian landmass might explain how England managed to benefit from the innovations of the Middle East without having to reinvent them. But it doesn’t explain why the Industrial Revolution happened in England rather than in Eastern Europe or in the Ottoman Empire.More critically, as Diamond himself also recognizes, China and India benefited greatly from very rich suites of animals and plants, and from the orientation of Eurasia. But most of the poor people of the world today are in those two countries.

via What Does Geography Explain? – Why Nations Fail – Why Nations Fail by Daron Acemoglu and James Robinson.

Flaws and Frictions

Posted on September 7, 2009 by Will Wilkinson

I was pretty impressed with much of Krugman’s NYT Magazine magnum opus. Macro is a mess. Now, this isn’t what Krugman was saying, but I think his account of the disagreements on fundamental questions exposes macro as a proto-science at best.

Economics, as a field, got in trouble because economists were seduced by the vision of a perfect, frictionless market system. If the profession is to redeem itself, it will have to reconcile itself to a less alluring vision — that of a market economy that has many virtues but that is also shot through with flaws and frictions. The good news is that we don’t have to start from scratch. Even during the heyday of perfect-market economics, there was a lot of work done on the ways in which the real economy deviated from the theoretical ideal. What’s probably going to happen now — in fact, it’s already happening — is that flaws-and-frictions economics will move from the periphery of economic analysis to its center.

There’s already a fairly well developed example of the kind of economics I have in mind: the school of thought known as behavioral finance.

One might have thought Krugman was going to do something like acknowledge the immensely important point, associated with economists such as Ronald Coase and Douglass North, that market institutions in which “frictions” or transactions costs are relatively low are the exception rather than the rule. Markets are not only not frictionless, frictions generally keep markets from getting off the ground at all. When frictions are managed sufficiently to get markets up and going, that’s because they are embodied in a complexly interlocking set of institutions and organizations which make this possible. A scientific economics might seek to explain how it is that embodied markets achieve otherwise impossible feats of social coordination.

The “flaw” part of “flaws and frictions” is a little loaded. It’s an annoying habit of economists to hold on to homo economicus as a standard for rationality even after they have conceded that homo economicus is a more or less useless over-idealization. That we don’t live up the standard of more or less useless over-idealizations obviously does not imply that we are somehow defective. Be that as it may, one might have thought the recognition that a useless over-idealization of rationality does not apply to us might lead one toward a more sophisticated idea of the way minds and markets work together. There are, for example, the profound Hayekian points that individuals are computationally bounded, that expertise is local, that markets enable coordination by conveying otherwise inaccessible information, that epistemic and practical norms are both cause and effect of institutional structure, etc. Maybe we could look at experimental work, such as Vernon Smith’s, that explores how real people operate in different kinds of market structures.

It’s not like Hayek, Coase, North, and Smith don’t have Nobel prizes! But Krugman ignores the best of existing “flaws and frictions” economics and jumps straight to “behavioral finance,” which I’m fairly sure is the same old shit Krugman is complaining about — elegant models of counterfactual worlds — with ad hoc emendations to improve fit with the history the actual world.

Krugman should go further, but he won’t. He should say that beginning without “flaws and frictions” — assuming at the start unbounded perfectly rational agents and zero transactions costs — has all the virtues of theft over honest labor. An economics based on those assumption is ipso facto unscientific. The same goes for ad hoc variations on these assumptions. What sciences do is explain. (Sorry Milton.) And scientific explanation is largely a matter of detailing the causal mechanisms underpinning observed regularities.

“Freshwater” economics is not a science. It is a sometimes illuminating exercise in modeling counterfactual worlds. Insofar as “saltwater” economics recognizes that the need for a better account of human psychology and transactions costs in embodied institutions, it is better. But, so far, it isn’t. So far, “behavioral” macro is mere aspiration. It’s not something anyone is actually doing in a systematic way.

Maybe the most important conclusion I drew from Krugman’s piece is the politics of the freshwater/saltwater divide is complete nonsense. To seriously acknowledge “flaws and frictions” is to acknowledge that some institutions create friction while others reduce it; that some institutions enhance the salience of certain “flaws” while others work around them; etc. Having recently read a bunch of “Keynes was right” pieces, it seems pretty clear that lots of left-leaning economists are mistaking flawlessness and frictionlessness as necessary premises in the argument for limited government intervention in market institutions. But the upshot of flaws and frictions could very well be that we shouldn’t expect very much from government intervention. It seems pretty clear to me that Keynes’ characterization of the role of not-exactly-rational “animal spirits” in recessions is a very small part of an adequate general account of the way the quirks of human psychology tend to scale up to the macro level. The inference from flaws and frictions to Keynesian technocracy tends to be embarrassingly hasty.

The fact is, macro isn’t close to resembling a real science. (“The economy,” nationalistically construed, isn’t even close to resembling a subject of scientific investigation!) But we can’t count on elite economists to admit it, since their claim to authority on matters of public policy stands or falls with their claim to scientific expertise.

Here's Why Not

Posted on August 31, 2009 by Will Wilkinson

From Herb Gintis’ excellent review of the lately-departed G.A. Cohen’s Why Not Socialism?:

Cohen argues that markets are morally offensive institutions that most people would be happy to get rid of if they could figure out some alternative compatible with the standard of living we are accustomed to in advanced market societies. “The market” says Cohen, “is intrinsically repugnant…Every market, even a socialist market, is a system of predation.” (pp. 78,82)

In place of the market, Cohen celebrates the caring and voluntary mutual aid that occurs in small groups of friends (he never mentions family), and believes this can be extended to a community of strangers as well. He calls this “communal reciprocity.” (p. 39)

[...]

Rather than lamenting the incompatibility of socialist community and human nature, Cohen faults our meager social technology; there is simply no known machinery for harnessing natural human generosity. He calls this an “insoluble organizational design problem.” “In my view,” he remarks, “the principal problem that faces the socialist ideal is that we do not know how to design the machinery that would make it run.” (p. 55)

I think there are two problems with Cohen’s argument. First, there is a reason why we lack the organizational institutions that harness human generosity, and it has to do with a side of human nature that Cohen does not recognize. There is a great deal of heterogeneity among people in the degree to which they privilege the personal, including self and family, over the social. Everyday observation, reinforced by a huge body of empirical evidence—see my book, Bounds of Reason (Princeton, 2009) for details—that unless there are safeguards against the free-rider tendencies of the selfish, the natural tendency for the majority to cooperate will be undermined, and cooperation will unravel. Moreover, the larger the group, the harder it is to identify and punish the free-riders, even though most people are willing to incur personal costs to do so. Markets work because they discipline firms, who then discipline workers, thus solving the free-rider problem. Moreover, markets discipline firms by forcing them to compete and therefore reveal to the public exactly what are the limits of the possible in satisfying consumer needs and using technology efficiently. The knowledge of production possibilities unleashed through market competition cannot be revealed in any other way that we know of.

Gintis’ second problem is another good reason also why not.

I’ve read a good number of Cohen’s papers and books. I’ve always enjoyed them, and I’ve always come away feeling he has clarified for me the contours of the debate. The great thing about Cohen was how transparently and unabashedly he angled for the result he wanted to get. But he wasn’t one to pack the conclusion into his premises, so when he would land short of his longed-for conclusion, you could be pretty certain that’s as close as you can get with those particular premises. And you could be pretty sure that if there were some other premises out there both more plausible and more amenable to producing the wanted result, he would have found them and started from there. For many years Cohen was to Anglophone analytic political philosophy something like Ted Kennedy was to American politics: he marked the outer bound of the reasonable left. I think now that contemporary political philosophers have begun to lose their “studied ignorance of standard social and psychological theory, common among philosophers of the mid-Twentieth century,” as Gintis puts it, the bounds are shifting, leaving Cohen’s views well past the edge of a receding tide.

The Illiberal Liberalism of Charter Cities

Posted on August 10, 2009 by Will Wilkinson

I think it’s an idea worth trying, though I share some of Tyler Cowen’s concerns.

Romer says good rules make countries rich. But countries with bad rules, because they have bad rules, often have no clear path to good rules. Romer says what countries with bad rules need are new rules for generating better rules. His proposed solution is to give up on both the purely endogenous development of better rules and the attempts of the global Lords of Poverty to bribe rulers into imposing better rules. Instead, Romer wants to try to get rulers of countries with bad rules to cede to better rulers effective (but limited) political authority over small, largely unoccupied bits of state territory. It strikes me that there’s still an obvious problem here. Why won’t the bad rules that have impeded endogenous development also impede the adoption of a higher-order rule-reforming rule? I don’t really see the loophole that Romer needs to get started. Anyway, the idea is that the rulers of screwed up countries will be so impressed by these zones of high economic performance that they will seek to replicate them in the territory they haven’t leased to Canada or Belgium or whomever.

Hong Kong and it’s effect on China is Romer’s big example. Alex Tabarrok says that Hong Kong’s reintegration into China really marked China’s integration into Hong Kong. I think this is too hopeful. China remains authoritarian, illiberal, undemocratic and not at all enamored of the distinctively English spirit of laissez faire behind the Hong Kong experiment. I think it’s interesting that these facts are clearly assets to the Charter Cities project. What the example of Hong Kong communicates is that authoritarian, illiberal, undemocratic regimes need not feel threatened by semi-independent city states with working “liberal” market institutions. It says to rulers that their countries can get rich without granting their subjects real freedom.

What should we make of this message? Should we encourage it? Is Romer trying to encourage it? Does Romer believe it? Or does he believe that high growth rates sooner or later lead to broader liberalization. Maybe it’s OK to let this cat out of the bag as long as the pace of liberalization is slow enough that current illiberal rulers are never really threatened by the liberalizing externalities of charter cities. But is there any way to credibly make this assurance?

I’m convinced that it would probably be better for both the liberty and welfare of the Burmese people, for example, if the junta tried to go the Singapore/China market authoritarianism route rather than hold free elections and establish a democratic government. I’m not happy with this conclusion. Unlike many of my libertarian friends, I do not think democracy is incidental to liberty. But suppose it turns out that democracy is incidental to economic growth — that it is correlated with but unnecessary to growth. Suppose further that illiberal rulers will welcome isolated experiments in the institutions of growth as long as they don’t come bundled with democratic institutions. If economic liberalization eventually has liberalizing political spillovers, promoting democracy directly could turn out to be self-defeating. Could it turn out that liberal democrats do the most for liberal democracy by promoting market authoritarianism? Would this make Naomi Klein right or wrong?

Gregory Clark Uses Computer over Phone, Predicts "Economic Redundancy" of Working Class

Posted on August 9, 2009 by Will Wilkinson

Gregory Clark’s basic assumption would seem to be that some people are born idiots. His argument in this Washington Post op-ed goes something like this: real wages of idiots have not increased because the demand for idiot labor has fallen due to the rise of the machines. Soon, the machines will be able to do anything an idiot can do for less than it costs to pay idiot subsistence wages. So idiots will be left “socially needy but economically redundant.” What will we do?! “There is only one answer,” Clark says. “You tax the winners — those with the still uniquely human skills, and those owning the capital and land — to provide for the losers.”

What to say? Tim Worstall says a good deal of it. This diagnosis by Bruce Wilder in Mark Thoma’s discussion thread seems to me in about the right neighborhood:

[In his book Farewll to Alms] Clark could find few institutional differences between 12th century England and 20th century Britain. In his mind, Henry II laid down the law of equity securing property rights, and nothing else much mattered. If anything, he regards the 12th century, with its low tax rates, as much more amenable to economic growth and innovation than the burdensome 20th century welfare state. So, I’m not surprised that he doesn’t credit institutional changes for changes in income distribution over the last three decades.

So, the shape of his fears that machines will soon displace the near-cretins serving him hamburgers at McDonald’s form a unitary theme. He sees his class burdened by taxes to support the no-account lower classes, who are even more useless now than in centuries past, but, perhaps, can reconcile himself to it as his paternalistic obligation.

Here is what I said some time ago at Free Exchange about Clark’s baseless truculence toward institutional explanations in economics.

Here’s what I think about Clark’s op-ed.

First, technological innovation over the past two centuries has been incredibly rapid, and workers have been repeatedly displaced by technology only to move on to different kinds of jobs. Why hasn’t technological change so far created much higher rates of unemployment? Does Clark think this is a historical fluke? Why does he think this pattern is about to be broken? Why does he think technological change is finally reaching a tipping point? His failure to address this obvious point at all is glaring. Is this whole conjecture really built on his experience with an automated phone call to United Airlines?

Second, I think that Clark wrongly accepts that real wages toward the bottom of the distribution have not risen. This is, to my opinion, an artifact of mistaken measurement techniques. See Broda and Weinstein. There is no reason to believe that the market forces which have improved standards of living for the poor will not continue to do so. Indeed, Clark’s assumptions about the efficiency gains from future technology provide us reason to think the real prices of many goods will continue to decline.

Third, insofar as wages have stagnated toward the bottom, a decline in hours worked for low-skilled workers explains a good deal of it. Doesn’t this show Clark is right?! No. It shows that badly structured welfare policy has provided an incentive for many low-skilled workers to work fewer hours in order to qualify for transfer payments. Because experience (hours worked at a task) is a main determinant of skill level, and skill level is a main determinant of wage levels, an incentive to reduce hours worked is an incentive to remain at a lower level of skill and thus wages. See Deere and Welch ($$$).

Fourth, Clark’s theory of blood-born idiocy leads him to conclude that there are little or no gains to be had from improvements in education. Here’s what he says:

Others see education as a way out of this dystopia. The root problem is, after all, the widening of the income gap between the skilled and the unskilled. Can expanded education give the poorest the tools to resist the march of the machines? I’m skeptical. Already, much of the supposed improvement in high school and college graduation rates has come by asking less of graduates. We can certainly arrange to have everyone “graduate” from high school, but whether they will have the skills needed to make it is doubtful.

This is maddeningly dense. Clark apparently believes the only way to make graduation rates go up is to devalue diplomas by giving them to irremediable idiots. That is to say, idiots are idiots and education can’t do anything about that. A more plausible view is that so many young people graduate high school (or don’t) with such poor abilities because the American public education system has failed disastrously to provide a minimally acceptable level of training to children who grow up in poor, predominately minority neighborhoods. The best explanation for this failure is an institutional explanation. The political forces in control of public schools in low-income neighborhoods have strong incentives to resist almost every potentially effective reform. There are no competitive markets in educational services for low-income families because such markets are, in effect, against the law. Were low-income families to have access to a competitive market in educational services, there is every reason to believe the quality of training would rise, the real level of ability of high-school graduates would rise, and the portion of high-school graduates prepared to benefit from higher education would rise.

The fundamental bone of contention here is over the fixity or flexibility of the human capacity to gain and improve economically relevant skills. Here is Cato Unbound’s issue on IQ.

Fifth, the piece is short-sighted. If robots can crowd out all low-skilled workers, there is no reason they cannot also crowd out all high-skilled workers. See Hanson. Would this be bad? Growth would proceed so rapidly that the returns to even small amounts of capital should be outrageously high. The gap will be between those with income from capital gains and those with none. To prevent this, some version of Clark’s recommendation might be desirable. I’d recommend Charles Murray’s scheme for replacing the United States’ social insurance apparatus with basic income grants and mandatory retirement and medical savings accounts. In a world of doubling-every-fifteen-minutes Hansonian robot growth, the portion of GDP necessary to fund universal grants sufficient to ensure a modestly lavish level of consumption would be so trifling that no one would even notice. For now, we should try to hasten the arrival of this post-human economy, in which case we should try to optimize incentives to innovation and growth. Higher taxes and higher levels of welfare spending is about the opposite of that.

Fed Independence: Too Important to Verify

Posted on July 18, 2009 by Will Wilkinson

David Boaz has a good post on the economists petitioning against an audit of the Fed on the grounds that its independence from politics is so precious. David concludes:

The Fed can be independent and unaccountable and undemocratic, or it can be subject to the political whims of elected officials; neither is a very attractive prospect.

I don’t see the choice as quite so binary. There are degrees of independence, accountability, and politicization. One reason to want an audit of the Fed is to establish whether or not it has actually been acting with sufficient independence. The question is already in the air. To attempt to impede an inquiry into the question by stressing the high value of independence is obviously to beg the question. Those who prize independence, if they really do, ought to be all the more keen on an inquiry. The importance of Congress asserting the authority to inquire is that, otherwise, the Fed can use the ideal of independence as cover for what may be in fact extremely political decisions.

There is a big difference between mundane countercyclical central banking and the liberal use of emergency powers. The distributive consequences of the Fed response to the financial crisis are enormous, and I don’t think it’s unreasonable to demand a justification for the fact or the details of the response. Was there really an emergency that called for the Fed’s action? There weren’t WMD in Iraq. Maybe the financial crisis wasn’t going to blow up the entire economy.

The question of which firms got how much of what kind of transfer through the Fed’s excercise of discretion is inherently political, not in the sense of “partisan,” but in the sense that the Fed was picking winners and losers. I want an account of why these decisions were made the way they were.

Is the worry that no inquiry or audit could be designed that would not devolve into delegitimizing populist point-scoring or policy-warping political armtwisting? I suspect a main worry is that the Fed’s use of discretion was not independent of who in the Fed system knew whom on Wall Street, of who had what kind of pull, etc. And revealing this, even in a sober and responsible manner, would expose the Fed’s failure to act with the sort of impartiality and objectivity at the heart of any useful notion of independence. Of course, the art of central banking is the art of telling lies so that they will come true. Telling the truth about the Fed may create expectations of future partiality that will hinder the central banker’s ability to manipulate expectations in a theoretically ideal way. So the theorists band together to defend the Fed’s right to lie, or at least to stay mute when citizens are owed some justification, about its suspected partiality in the use of emergency discretion. To make this kind of defense of the importance of independence is really to defend the economic importance of maintaining the perception of independence. But this is to assume the legitimacy of useful lies, an assumption that cannot be granted merely on the basis of the self-asserted authority of “experts.”

The attitude of many macro and monetary economists about the operation of the Fed reminds me more than a little bit of the attitude of neocons about defense and foreign policy. Something with the flavor of: “You people are too stupid to understand the real existential threats out there–to understand how we, the big boys, are keeping you safe. You should be grateful, but we don’t ask for gratitude. We’re just asking you to shut up and believe what we, The Serious People, tell you to believe. Or else.”

I have to admit that this doesn’t sit well with my liberal sensibility.

Will Health-Care Innovation Survive Obamacare?

Posted on July 13, 2009 by Will Wilkinson

I have the sense that many defenders of an even-more-fully-government-run health care system have a hard time taking this question seriously. But they should. It’s just a fact that much of the world’s medical innovation comes from the U.S. This goes a good way toward explaining with why survival rates for many potentially mortal health problems are highest in the U.S., and also partly explains why U.S. costs are so high. Indeed, that a certain strata of Americans spend so much, often on stuff that makes no difference, also partly explains the high U.S. level of innovation. Profligate U.S. spending on state-of-the-art treatments acts as a subsidy to the health care systems of other countries, who get to free-ride off American innovation and (often “wasteful”) market experimentation. As Megan McArdle put it:

At the highest macro level, life expectancy, Europe generally outperforms us. But it’s not clear how much of that is health care, and how much things like our murder rate, and our famously sedentary lifestyles. When you drill down into many diseases, we outperform them. And many argue that we outperform them on hard-to-measure “lifestyle” issues: how fast your torn ACL gets repaired, how quickly (or whether) you get a hip replacement, etc. Such quality of life issues are nearly impossible to measure, though this hasn’t stopped many people from trying. But I don’t really trust the figures they generate.

Europe gets a great deal out of all of this. We figure out what works, then they adopt it. But we get a great deal too–we get earlier access to controversial treatments, and our future generations get all the treatments we’ve discovered so far.

Megan mentions Virginia Postrel’s terrific Atlantic piece about her ordeal with breast cancer and the expensive but effective drug Herceptin, which may well have saved her life. And which New Zealand’s government health system wouldn’t pay for initially…

Looking at the crazy-quilt American system, you might imagine that someone somewhere has figured out how to deliver the best possible health care to everyone, at no charge to patients and minimal cost to the insurer or the public treasury. But nobody has. In a public system, trade-offs don’t go away; if anything, they get harder.

The good thing about a decentralized, largely private system like ours is that health care constantly gets weighed against everything else in the economy. No single authority has to decide whether 15 percent or 20 percent or 25 percent is the “right” amount of GDP to spend on health care, just as no single authority has to decide how much to spend on food or clothing or entertainment. Different individuals and organizations can make different trade-offs. Centralized systems, by contrast, have one health budget. This treatment gets funded, and that one doesn’t.

If I lived in New Zealand, I wouldn’t be dead, just a lot poorer. But if every place were like New Zealand, far fewer complex new drugs would get developed in the first place. And my odds of survival would be much, much lower.

The biggest challenge for advocates of less hindered market competition in health care is that it is so hard to see what is lost to excessive regulation and government rationing. Glenn Reynolds, writing in the Washington Examiner, does a terrific job illustrating what could be lost to a system of government rationing. For example, his family:

[M]y wife, a longtime vegetarian and marathon runner, had a freak heart attack at the age of 37.

It wasn’t from too many Big Macs. After some rough patches, she’s now doing well, thanks to an obscure and expensive anti-arrhythmic drug called Tikosyn, and an implantable cardioverter/defibrillator. Not too long ago, she’d have been largely bedridden. These medical innovations made the difference between the life of a near-invalid and a life that’s close to normal.

My mother had a hip replacement. Her hip didn’t break – she basically wore it out with exercise. When the pain got too bad, she got it replaced, and now she’s moving around like before, only painlessly. Not too long ago, she would have been chairbound.

My father had prostate cancer; his doctor suggested waiting but on biopsy it turned out to be pretty aggressive. It was treated with radioactive “seed” implants. He’s now been cancer-free for several years, without the side effects of earlier treatments — or, worse, of cancer.

My daughter had endoscopic sinus surgery this spring. She had been sickly and listless, complaining of constant migraine headaches, missing a lot of school, and generally looking more like a zombie than a teenager. Several doctors dismissed her problems, or prescribed antibiotics that didn’t help much, until we found one who took the extra step.

A head CT scan done on a fancy new in-office machine showed a nasty festering infection, the surgeon cleaned it out, and now she’s like a normal kid again. Before laparoscopy, her condition would probably have remained untreated, and she would have been another “sickly” kid. Better to be well.

The normal critique of socialized medicine is to point out that people have to wait a long time for these kinds of treatments in places like Britain. And that’s certainly a valid critique. I’m sure my mom and daughter would still be waiting for their treatments, while my father and wife would probably be dead.

The key point, though, is that these treatments didn’t just come out out of the blue. They were developed by drug companies and device makers who thought they had a good market for things that would make people feel better.

But under a national healthcare plan, the “market” will consist of whatever the bureaucrats are willing to buy.

I plan to write something longer about why this is such a tough issue to crystallize and communicate. My hunch is that our thinking about any issue like this, where enormous humanitarian benefits are side-effects of systems driven largely by self-interest, is badly distorted by the Knobe Effect.

Is Poverty a Violation of Human Rights?

Posted on June 22, 2009 by Will Wilkinson

I’ve been meaning to blog about William Easterly’s exchange with Amnesty International about the notion that poverty is a rights violation. I’ve found my own view much harder to pin down than I thought I would, so it took me forever to actually write this post, which goes far afield, and amounts to a lot of thinking out loud. I remain unhappy with my thoughts (or this not-very-rigorous way of putting them), but I found writing it very useful, and maybe some of you will find it useful. So I’m throwing it out there. Dive under the jump at your own peril.

Continue reading →

Vice and The Motive of Wealth

Posted on April 13, 2009 by Will Wilkinson

This argument from Matt Yglesias seems very poor, especially since Matt is a pretty basic utilitarian (unless he has changed his mind since we last talked about ethical theory) who therefore has no business handwringing about motives. Rehearsing an argument he’d been having on an email list, Matt writes:

I was saying that whatever one thought should be done with large financial institutions as a policy matter, surely we could agree that the executives at these institutions are primarily bad people.

It turns out we couldn’t agree on that. But my argument is pretty simple. These are people primarily motivated in life by greed. Not just by a desire to make some scratch, mind you. These aren’t immigrants who walked through the desert from Mexico in order to earn more money by washing dishes in a San Diego hotel. They’re not 24 year-olds looking for a hefty salary in order to pay off student loans. They’re multi-millionaires who want to earn millions more. It’s possible, of course, that Vikram Pandit really does find being a bank executive to be intrinsically interesting. But a good person, who’s primary passion was the life of a bank executive, would be donating the bulk of his massive compensation package to charity. But that’s not what Pandit’s doing. Rather he, like virtually all executives at major firms, is living a life that’s primarily oriented around an ethic of greed.

Now there’s a decent argument out there, familiar from Adam Smith and the whole tradition of economics, that a world full of greedy people isn’t necessarily quite the disaster that pre-modern ethical thinkers would have thought. This is all well and good. True even. But it’s a sign, I think, of a kind of sickness running through American society that we’ve lost the willingness to just say clearly that ceteris paribus greedy behavior is not virtuous behavior. In the spirit of decency, of course, we recognize that none of us are without sin.

I assume the motivations of the executives of financial firms are many and varied. Some executives are surely complete bastards and some of them are surely upstanding women and men of virtue. Matt’s willingness to commit himself the the idea that these are bad people simply because of their occupation seems unhinged. I understand finance is unpopular now, but finance is only one of many ways to make money. If people motivated primarily by greed are bad people, and Matt cannot imagine another primary motive for financial executives, can he imagine other motives for any executive? How about small entrepreneurs animated by the prospect of hitting it big? Are movie stars, who do not donate the bulk of their massive compensation to charity, off the hook because they are also motivated by fame and self-love?

Anyway, if Matt thinks the Adam Smith argument — that people moved by impulses other than benevolence or charity may nevertheless serve the general good — is “true even,” then what’s the problem? Especially given Matt’s utilitarian sympathies? Whether a person is “bad,” in the utilitarian framework, has little to do with motivation, and everything to do with results. As Tyler Cowen kept urging on Peter Singer, the consistent utilitarian should simply admit that an entrepreneur who creates a great deal of utility on the way to making and keeping huge sums of money is a much better person (a better utility engine) than someone who creates a much smaller amount of utility by giving away all but 10 percent of a relatively small income earned in a job that produces a relatively small amount of utility. One can be a folk moralist or a utilitarian moralist, but not both. If the pursuit of wealth produces more utility than charity — which it often will given the right institutions — then we might wish to reconsider what we are going to count as virtues and vices. Again, maybe Matt has given up on his utilitarianism, in which case he stands some chance of making sense relative to his own ethical assumptions. But I suspect he’s catering to certain popular folk assumptions about the vice of greed to impugn the character of an entire class of people for reasons that are obscure to me. Maybe he can clarify what he’s doing here.

Now, I am willing to say that, ceteris paribus, a certain kind of grasping, unprincipled pecuniary self-interest is a destructive quality. If that’s greed, then I’m against it. But I’m not willing to say the same thing about the pursuit of wealth generally.

I think we have recently punctured some dangerous misconception about the real value of certain kinds of “financial innovation,” and so we should reconsider how much those who have become wealthy in these fields have actually enhanced general welfare. I think a lot of execs basically failed to do their primary job: to manage their firms’ assets responsibly on behalf of the owners of those assets: the shareholders and creditors. This makes them justifiable targets of outrage. We’ve learned a lot of lessons. I think we’ve been given reason to think much harder about the principal-agent problem — the mismatch of incentives between owners and managers — at the heart of corporate organization. I think we’ve learned just how “socially responsible” maximizing long-term value really is, and how anything that distracts from focus on long-term value creation (whether it be myopic bonus systems or irrelevant-to-the-business “corporate social responsibility” initiatives) is a potentially hazardous nuisance. The Smithian congruence between self-interest and the general welfare is not a natural fact of the world, but is mediated by social norms and the structure of institutions. We need to make sure the desire for wealth takes the right shape, and that the institutions within which people pursue wealth tend to actually work to convert “low” aspirations into real social benefits. But we’ve been given no special reason to second-guess the general utility of the desire to become wealthy. It is a crucial and necessary resource. And it remains a much more likely engine of utility than the desire for political power — a truly dangerous motive Matt tends to ignore.

None of this is to say that I think Vikram Pandit is a prince. For all I know he’s a complete cad. And none of this is to say the man’s a great force for the enhancement of human well-being. As far as I know, he’s done more harm than good. But I don’t know enough about him to say for sure, and I suspect Matt’s in the same position. Anyway, I don’t think we’re likely to do much good if we reduce our view of the world to a children’s cast of villians and heroes, and I’m relieved to hear that Matt’s email list interlocutors won’t agree to his cartoon assumptions.

[Update: See Conor Clarke, who replied in a very similar spirit, but much more concisely.]

Government, Civil Society, and the Utility of Cooperativeness

Posted on April 7, 2009 by Will Wilkinson

Here is a point that I’m sure I’ve made before but I want to make again. There is a kind of higher-order public good you can call “trust,” “cooperativeness,” or something else. The idea is that some communities are able to overcome certain kinds of challenges involved in coordinating group behavior. The capacity successfully to solve collective action problems at a large scale, with a large population, is the Holy Grail of human society. If you can do this, you can do anything… which is a point I don’t think ideologues have really been able to get their heads around.

Suppose you have a super-cooperative, high-trust society. This is the kind of society where the need for coercion to solve collective action problems is least necessary. Voluntary civil society associations will thrive. But if you’ve got the super-cooperative, high trust conditions for a thriving voluntary civil society, you’ve also got the conditions for a really effective government in which corruption will be minimal and power will tend not to be abused. If there are limits to non-coercive social coordination even in super-cooperative, high-trust societies, states in those kinds of societies will tend to do a pretty good job in deploying coercion responsibly to secure the otherwise foregone gains from successful collective action.

So: The world in which there is little need for state coercion, states will tend to be pretty effective and non-abusive. And worlds in which states work pretty well are worlds where states don’t need to do all that much. Reduce the level of cooperativeness and trust, and the quality of government gets worse. But then civil society gets worse, too. So whatever you want, whether it be good government or a flourishing voluntary civil society, you want the conditions for the other thing.

The trick is that in large modern states jurisdictional boundaries cover many communities with highly variable levels of cooperativeness. So here’s a question. Will the quality of the government of widest scope tend to average out unequal levels of cooperativeness, such that high-cooperativeness communities will tend to get worse governance than they could provide alone (maybe even worse than they could do without a state) and low cooperativeness communities will tend to get better governance than they could provide alone? It seems that the answer has to be “yes,” but what does this imply?

Some Technocrats Are Ideologues

Posted on April 2, 2009 by Will Wilkinson

Felix Salmon says:

I do have some sympathy for Dani Rodrik’s skepticism when it comes to technocrats, but surely a government of technocrats — which is what I think we now have — is nearly always to be preferred to a government of idealogues.

Perhaps Felix should consider that a large part of the set of technocrats is always a subset of the set of ideologues. I think he means that one prefers technocrats who share one’s ideology. Of course!

Sumner on Free Markets and Liberal Values

Posted on March 2, 2009 by Will Wilkinson

Scott Sumner is on my wavelength:

So after 1980 “brute facts” about the weaknesses of statism pushed most of the world toward free markets. But there was (as yet) not enough evidence to abandon the egalitarian systems of social insurance. If I am right, then countries with more liberal values should have responded to this new information by becoming much more free market oriented, but not necessarily by reducing the size of government. But how do we measure liberal values?

Then I ran across a paper by two French economists, Algan and Cahuc, which showed that countries with a high level of civic trust (such as the Nordic countries), tended to have generous unemployment compensation and fewer restrictions on firing workers, and countries with less generous benefits tended to have more rigid labor laws. I realized that their measure of values (a survey question asking “would you accept government benefits to which you were not entitled?”) was perfect for my research.

They found Denmark to have the most civic honesty, but when I used a more complete sample of developed countries, Denmark was just edged out by Malta. But I also had a nagging worry about self-reports on honesty (”You Maltese say you are honest, but . . . ) Thus I decided to average this self-described civic honesty metric with a more objective survey—the corruption index produced by Transparency International (which was topped by Denmark.) When the two indices were averaged Denmark moved far ahead of the field—if its score was set at 100, the next three countries were tied way back at 86. Because of this blog’s growing popularity, I won’t mention how far Malta slipped, as I wouldn’t want to embarrass any readers from that tiny island nation.

I decided to measure neoliberalism by using the (2008) Heritage Institute’s Index of Economic Freedom minus the two “size of government” components (taxes and spending.) If one simply averaged the other eight components, Denmark edged ahead of Hong Kong as the surprising winner of “most free market economy on earth.” I was pleasantly surprised by this finding (achieved without any data mining) as it beautifully fit my dialectical approach to neoliberalism.

Even better, I found this index of neoliberal (or free market) policies was strongly correlated with my index of “liberal” (or idealistic) values. Indeed the correlation is even pretty strong for the unadjusted Heritage Index of Economic Freedom (despite the fact that that index is topped by a country, Hong Kong, with considerably less liberal values than Denmark. You’re probably thinking, OK, but correlation doesn’t prove causation. Lots of country characteristics are positively correlated. And what my hypothesis actually requires is that a place like Denmark only became highly free market-oriented after the changing intellectual climate made liberals less enamored with statist policies.

To get data going back to 1980, I had to use the Fraser Institute’s Index of Economic Freedom, a (surprisingly fierce) competitor to the Heritage Index. Here the results were even more gratifying. My first regression showed that the more liberal a country’s values, the more rapidly it moved away from statism after 1980. How about that, Naomi Klein? Between 1980 and 2005 only New Zealand moved toward free markets more rapidly than Denmark. My interpretation is as follows. Free market reforms threaten to erode rents earned by various special interest groups. Thus after 1980 these reforms were more likely to occur in countries where the civic culture is more oriented toward the common good. (In other words if you hear that culture is “tribal,” or that “family comes first,” it’s economy is likely to have statist economic policies.)

My initial reaction was that Deirdre McCloskey would love this finding. I had just published a long-winded 27 page book review of her fascinating (but equally long-winded) The Bourgeois Virtues. In that book she fires her shots in both directions at once. She concedes the good intentions of those on the left, but scolds them for not being more open to what I called the economistic worldview. Indeed many don’t even understand that such a worldview exists. She thinks people on the right such as George Stigler were right about free markets, but wrong about values. Stigler had argued that it is a waste of time for idealistic economic researchers to try to persuade policymakers, as the later group is motivated by self interest. And rent seeking special interest groups are more able to satisfy those interests then are idealistic economic professors. McCloskey countered that one cannot run a sound economic system on just self interest.

My findings suggest that Stigler is wrong, as the more idealistic a country’s values, the more rapidly they moved toward free markets when statism became discredited. But to people like Paul Krugman, Joe Stiglitz, James Galbraith and Naomi Klein, the findings are equally inconvenient. Far from being a right wing plot, the strong move toward freer markets and lower marginal tax rates that occurred in almost all developed countries after 1980 was actually driven by idealistic values, indeed I would argue by “liberal” values.

Do read the whole thing.

Animal Spirits and Positional Ambition

Posted on February 28, 2009 by Will Wilkinson

Rob Horning understands me! Please read his post on the economics and politics of “animal spirits.”

There are perplexingly many glosses “on animal spirits.” One of them is “confidence,” which is what investors faced with uncertainty about the economic climate are now lacking. Another might be “ambition.” As Chris Dillow writes in his mini review of Shiller and Akerlof’s new book:

What’s more, given that the private benefits of innovation are low, and the probabilities of success in many arts and industry small, it might be only animal spirits that give us artists and entrepreneurs. As Richard Nisbett and Less Ross wrote years ago:

We probably would have few novelists, actors or scientists if all potential aspirants to these careers took action based on a normatively justifiable probability of success. We might also have few new products, new medical procedures, new political movements or new scientific theories.

Perhaps, then, it’s not just that animal spirits are ubiquitous – but they are necessary too.

It’s worth pointing out that it is exactly this sense of animal spirits, animated by the spirit of ambition or “emulation,” which Robert Frank and Phillip Cook declare inefficient in The Winner-Take-All Society, and argue we should tax into submission. But as Gary Becker and Kevin Murphy point out in Social Economics, echoing Nisbett and Ross, the expected payoff to entrepreneurial risk is so low that in the absence of positional competition, we would get very little of it. Entrepreneurial risk-taking is the source of innovation, which is the source of increasing productivity and wealth. So a society lacking this kind of status-seeking animal spirit might not grow at all, unless it was capable of successfully importing and deploying the innovations of more ambitiously inventive societies.

This focus on positional competition recalls the psychological microfoundations of Adam Smith and David Hume’s theories of civilization and economic growth. Their theories of motivation seem to me to do much more to illuminate the recent financial collapse than does modern macroeconomics. The myopia of financial executives making huge bets on securities graded according to algorithms that could not begin to understand was certainly driven by positional competition. The key insight of eighteenth-century political economy is that institutional rules and social norms must align ambitious, emulative, and status-seeking animal spirits to the aims of innovation, refinement, and advancement of the public good. The soaring abstraction of techno-high-finance — which decoupled investment decisions from any human sense of real economic value — encouraged the sense that the great race for astronomical bonuses was consistent with the public interest. And the sums involved discouraged the players from double-checking. It does seems that a kind of carelessness became contagious, and I don’t think it’s wrong to see “greed” as a source of Wall Street’s rather astonishing indifference to verifying the real utility of the game it was playing, though “greed” is not a very helpful diagnosis in the end. Ours was a failure of “regulation” in the broadest sense: the joint failure of institutional rules and the cultural climate to regulate the expression of positional ambition. But the lesson is not to discourage it, but to redirect it; to make it again not only safe but serviceable.

The big question is whether a risk-seeking society — which must maintain a status-seeking, ambitious culture — is or is not fated to run some of its institutions into the ground from time to time and occasionally wreak havoc on the context of trust and stable expectations that makes ordinary economic activity possible.

For those of a scholarly bent, here’s a passage from Adam Potkay’s A Passion for Happiness: Samuel Johnson and David Hume (I’ve removed the scholarly citation apparatus) on the central role of “emulation”–which is what they called positional ambition — in eighteenth-century accounts of progress.

“An honest emulation,” rooted in a “self-love” that inspires us to think highly of ourselves in comparison with others,” is the source of all achievements, all greateness: “the philosopher’s curiousity may be inflamed by a catalogue of the works of Boyle and Bacon, as Themistocles was kept awake by the tropies of Miltiades.” Again we should recall Pope: “Envy, to which th’ ignoble mind’s a slave, / Is emulation in the learned or brave.”

The necessity of “emulation” to a beneficient progress is a, perhaps the, great theme of the Enlightenment in Britain, shared alike by Hobbes, Mandeville, and Shaftesbury, Hume and Johnson. It pervades Johnson’s Idler essays still more than his Rambler. The “renaissance of letters” that, according to standard eighteenth-century wisdom, began in fourteenth-century Italy is itself a product of emulation: “[T]he European world was rouzed from its lethargy; those arts which had been long obscurely studied in the gloom of monasteries became the general favourties of mankind; every nation vied with its neighbour for the prize of learning; the epidemical emulation spread from south to north and curiosity and translation found their way to Britain. Emulation is responsible for “elegance” of building, clothing, food; “commerce has kindle an universal emulation of wealth.”

Johnson and Hume agree that the fire that animates both the fine and practical arts “is not kindled from heaven. It only runs along the earth; is caught from one breast to another; and burns brightest, where the materials are best prepared.” The theme of emulation is omnipresent throughout Hume’s Essays and History of England–its responsibility for the enlightenment of both ancient Greece and modern Europe; the birth and refinement of all arts and sciences, mechanical arts and manufactures.

Will Wilkinson

The Sweet Release of Reason

Category Archives: Institutions