Principled Agents

Timothy Besley’s recent book on political economy, “Principled Agents?” attempts to chart a course between the skepticism of Virginia School public choice and the credulity of traditional political economy. That is, he tries to show how government could work without assuming either perfect benevolence or complete self-interest on the part of politicians. Rather, he tries to show how democracies are likely to elect politicians who will serve the public good, using a comparative statics framework. He believes that the key problem of political economy is creating systems where these principled people are most likely to be elected to office.

This kind of approach has a fair number of problems, many of which are detailed in the RAE symposium on the book. The most obvious is that he assumes that there are people who are inherently principled and those who are not. This goes directly against Gary Becker’s belief that the best economics is done when we assume that all agents have the same utility function. Using that method, we can see how incentives affect individuals without relying on certain kinds of individuals. Put differently, if we just assume that there are certain principled politicians, we are blinded to how previously moral politicians are tempted by the new incentives of office and end up acting against the public good.

Another very important point is one that has been made by Bryan Caplan. If voters are irrational and demand public bads of their politicians, democratic failure may be a feature, not a bug. Since the information on voter preferences seems to confirm that they habitually demand policies that have detrimental effects, it is entirely possible that unprincipled politicians will craft better policies than principled ones.

The Debate on Indifference

In the latest QJAE, there is another debate over the role of indifference in economic analysis. Like the previous debates, this is an outgrowth of the response to Nozick’s critique of Austrian economics. Since Mises, AE has rejected the use of indifference in economic analysis, which also means that indifference curves cannot be used. The reasoning behind this break from the mainstream is this: indifference cannot be demonstrated through action (we always choose something; we cannot choose to be indifferent) and is therefore only a vague psychological concept, not an economic concept.

Suppose that the above reasoning is valid. Nozick points out that we cannot use the concept of marginal utility or other economic concepts, since these depend on a stock of homogeneous goods. The individual must be indifferent between these goods for these concepts to be valid.

Block attempts to solve the problem in a very practical way. Until the moment of choice, the individual is indifferent between the homogeneous goods in a psychological sense. At the point when he chooses, he is no longer indifferent; he picks a specific dollar to trade (even though he valued all his dollars the same previously), for example. This solves the problem, although it seems to be an ad hoc solution.

Hoppe has a more elegant solution to the problem. He says that we are not indifferent between homogeneous goods, it is just that the matter of picking a particular member of that group does not matter for human choice. For example, if I am trading loaves of bread for ounces of butter, I do not care which loaf I trade for the butter. My action shows that I prefer butter to bread, but it does not show that I am indifferent to which loaf I get rid of. The matter of which particular loaf is not relevant for human action. Hoppe gives the example of walking to a park. At the start of my walk, I must either put my left foot or right foot forward. Am I indifferent between them? No, the choice is not one I make. I make a choice of walking to the park; the foot I start with is irrelevant.

Institutions and the Current Situation

During the current financial crisis and subsequent government actions, the institutions that provide a framework for our society have been significantly altered. The damage to financial institutions, which are internal institutions that allow people to allocate their financial assets and hedge risk, has created a greater degree of uncertainty in the market. Does this mean the government should step in to create a less uncertain business environment? Not necessarily.

If the government starts acting erratically, as it has been recently, then the external institutions which are necessary for society will also begin to fail at serving their purpose. If the actions of the government lead to a changing legal order, the level of uncertainty will increase. People will no longer be able to use the institution of, for example, bankruptcy in order to plan their investments. The common points of reference around which we can plan will no longer be useful. Expectations of the future will vary more widely as people attempt to guess how government will act. Expectations of the “practical range” of possible government actions will not converge because of the changing legal order that results from those actions.

Preventing Cultism

Austrian economics is sometimes accused of being an Objectivist-like cult. We are said to have our sacred texts: Human Action, Principles of Economics, Man, Economy, and State. We have our idols who we constantly cite: Hayek, Mises, Menger. Some of us have dire predictions of an inflation-generated financial apocalypse. I disagree with this interpretation, since one could say the same thing about philosophy in general.

How do we prevent ourselves from becoming cultists? The competition within our group certainly helps, as does the constant confrontation of the mainstream. Another healthy development is that some of us see ourselves in the mainstream tradition. However, we must also be willing to question received gospel and perform more empirical research. There is a general lack of empirical analyses of ABCT.

Unfortunately, many members of the public who subscribe to the Austrian viewpoint act like it is a cult. They unquestioningly shout “end the fed!” without having anymore than a basic understanding of the theory. This is a problem that is difficult to address, since it also has positive effects. It means that people are interested in ideas. However, it also means that people associate market process theory with a political outlook, predictions of catastrophe, and simplified theory. This is certainly not true in the academic world. This might be interpreted as elitism. If it is, so be it.

There is a good post on this kind of thing here.

Three Trends in Austrian Economics

There are at least three distinct, but overlapping, research programmes (to use Lakatos’ term) in Austrian economics, at least according to Rothbard. Each of these styles of thought can rightfully claim to be based on Mengerian insight.

There is the Mises-Rothbard strand, which emphasizes rationality, equilibrium as a mental construct, and theorizing based on axioms and logical deduction. This comes directly from Menger’s search for “exact laws” of economics and human action.

A more prominent mode of thought, at least among the mainstream, is the Hayek-Kirzner paradigm. Although this group can easily be split up further, it generally emphasizes spontaneous order, discovery procedures, and entrepreneurship. This can be derived from Menger’s discussion of organic and pragmatic orders and organizations. The classic example of an organic order is the means of exchange, which spontaneously arose to fulfill the need created by the problem of finding a “double coincidence of wants”. This draws on Menger’s role as one of the founders of subjectivism and claims to complete the subjectivist revolution.

Another, more controversial, research programme is the Lachmann-Shackle school of radical subjectivism. This method of analysis focuses on expectations, sociology, and disequilibriating elements in the economic process. It shares some elements with the Post-Keynesians, although these ideas are taken in drastically different directions. This draws on Menger’s role as one of the founders of subjectivism and claims to complete the subjectivist revolution.

Conclusion

We can see how the concept of the plan can be used to create a theory of institutions that takes into account the complexities of the social world. These institutions help to generate coordination in society and reduce the uncertainty caused by the subjective character of human expectations. That is, they allow us to use common knowledge to coordinate our forward-looking plans. In this way, they prevent the kaleidic society of Shackle and permit the economy to act as Mises predicted, organizing the actions of individuals into a harmonious spontaneous order.

This marks the end of my blog of “The Legacy of Max Weber.” If anyone has any questions about the book or feels I left out something, please let me know in the comments. I highly recommend checking this book out. It combines economics, sociology, and philosophy, with a bit of historical analysis thrown in for good measure.

Political Institutions

Political institutions show the weakness of the internal/external dichotomy. At times, stable political institutions can act as a comprehensive and reliable framework which individuals can rely upon. Other times, such as during the 1930’s, political institutions do little to generate stability and are drastically altered by other factors.

In a way that is analogous to the capital structure, the institutional structure is dependent on the circumstances and perceptions of individuals. If people treat government and the legal order as being fluid, then it is not an external institution, which acts as a framework for society.