Monday, October 08, 2007

John Nash Did not Invert Adam Smith on Bargaining

Much confusion about Adam Smith’s analysis of bargaining relations originates in the neoclassical paradigm and has spread into media discourse by default. For example, ‘persondem’ writes: ‘Beautiful Minds Needed to Reach Across the Divide’ in BlueNC Blog (‘the people’s think tank’)(7 October) here:

Adam Smith posited that self-interest promotes the most efficient use of resources and so results in the best outcome for the wellbeing of the public. John Nash turned that around by suggesting that even in a non cooperative setting (like politics) the best results are attained by acting not with self-interest, but with consideration for the desires and actions of all the players on the field….

…John Nash is certainly a mathematical genius, but his greatest contribution just might be in providing our crowded society with a model of living that let's [sic] us be individuals, with individual goals and aspirations, but working in such a way as to provide the best outcome for all of us who must share life on planet Earth


persondem’ writes an interesting, and for some of his politically minded readers of the ‘Democratic’ persuasion, an arresting, post. It certainly advocates something different to the usual flair of “bash ‘em" politics for inter-party relationships. However, that is not my purpose in drawing it to your attention.

Its author confuses the presentation of Adam Smith’s ideas and those (allegedly) of John Nash with a Hollywood scriptwriter’s version of them. The film ‘A beautiful Mind’ played havoc with the facts of John Nash’s biography, and those of his wife, but more importantly libeled Adam Smith in the process. Worse, it inverted Smith’s ideas to allow the scriptwriter to ‘have a go’ at Adam Smith, or rather, Chicago’s fantasy version of him, giving name recognition credibility to a fable about his ideas, and to portray John Nash as ‘correcting’ the alleged ‘father of economics’, a hate figure among Hollywood anti-business script writers.

First of all, the statement that ‘Adam Smith posited that self-interest promotes the most efficient use of resources and so results in the best outcome for the wellbeing of the public’ is not quite what Adam Smith said, nor all of what he said about self-interest. Acting in one’s self interest is one of the drivers of human endeavour, but he made it quite clear that selfishness is neither necessary nor sufficient for a commercial society to operate, nor for the society to be harmonious.

Seeing that John Nash is elevated to a criticism of Adam Smith’s alleged views we should consider what he and Adam Smith said about the ‘bargaining problem’, so called by 20th century economists, who regarded, before Nash, that while prices were determinate in supply and demand, bargaining was ‘indeterminate’. This was more to do with modern theory and the need to have mathematically determined ‘solutions’ than anything to do with Adam Smith.

Attempts by early modern theorists to ‘solve’ the so-called bargaining problem failed because it is difficult to write equations for the process of negotiation. You can see examples in the work of F. Zeuthen (1931: ‘Problems of Monopoly and Economic Warfare’) and many post-war economists (a selection is in: Oran Young, ed. 1975: ‘Bargaining: formal theories of negotiation’, University of Illinois). In each case, though the maths called into service became more sophisticated (from simple ratios to calculus) the theme is the same: bargaining is about degrees of relative coercion. This is a neoclassical belief; not Adam Smith’s.

Adam Smith set out his theory of bargaining in Chapter 2 of Wealth Of Nations: ‘Of the Principle which gives occasion to the Division of Labour’. It is quite, even totally, different from a theory of coercion. First, he states that the division of labour leads to ‘general opulence’, and he identifies that it ‘is the necessary, though very slow and gradual consequence of a certain propensity in human nature… the propensity to truck, barter, and exchange one thing for another.’

Because in modern society each individual stands in ‘need of the cooperation and assistance of great multitudes’ and because it would be ‘vain for him to expect it from their benevolence only’, he has to ‘interest their self-love in his favour, and shew them that it is for their own advantage to do for him what he requires of them’.

The preferred mode of achieving these goals is by bargaining, which is not coercion (if you are forced to comply you are not bargaining!). Smith defines the bargain explicitly: ‘Give me that which I want and you shall have this which you want … and it is in this manner that we obtain from one another the far greater part of those good offices which we stand in need of’.

This leads to his most famous quotation (this and those above are on pages 25-27, WN: I.ii.1-2):

It is not from the benevolence of the butcher, the brewer, and the baker, that we expect our dinner, but from their regard to their own interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our own necessities, but of their advantage.’

For 35 years I have seldom ceased to be amazed that so many – near unanimous among neoclassical theorists – can quote that paragraph so often and so seldom fail to read Smith’s explicit words in their ordinary meaning and yet claim to be articulate in the English language!

That those fewer, who are familiar with John Nash’s contributions, can find contradictions between John Nash and Adam Smith is also bewildering. Nash did not ‘invert’ Smith’s teaching; he gave expression to them, indirectly: So to state that Nash ‘turned [Smith] around by suggesting that even in a non cooperative setting (like politics) the best results are attained by acting not with self-interest, but with consideration for the desires and actions of all the players on the field…’, is breathtaking in its collision with the facts.

John Nash wrote two path-breaking articles: 'The Bargaining Problem', Econometrica, 18, pp 155-62; 'Two Person Co-operative Games', Econometrica, 21. pp 128-40. I am fairly confident that the Hollywood script writers, who wrote the fictional repudiation of Adam Smith, did not read them before crafting their nonsense. If you haven’t read them, you should.

I shall not summarise them here other than state that: a) John Nash analysed a solution to the bargaining problem and did not analyse the process – he started at the end solution and skipped the process (and anyway his assumptions were neoclassical and unrealistic); b) his solutions implied exactly what Adam Smith said in his comments on the propensity to exchange.

The bargainers converse by offering each other what the other person wants in exchange for what they want in return. Eventually, an agreed exchange become possible, as each adjusts their opening offers addressing the other party’s ‘self-love, and they never talk to them of our own necessities, but of their advantage’. Persuasion (a key characteristic of human discourse, wrote Smith in Moral Sentiments) involves showing how the exchange benefits the other party and definitely not by how it benefits yourself: ‘If you give me the items for my dinner, I shall give you in exchange this amount of money’.

A Smithian definition of negotiation would be: ‘the process by which we obtain what we want from people who want something from us’. Because negotiation is voluntary, the other party can decline to transact with us – each party may exercise its veto on any and all proposed solutions – because negotiation isn’t coercive. If negotiation is seen as a form of ‘economic warfare’, it produces images of coercion that does not work well in practice. Of course, coercion may happen in any human transaction but it does not in the overwhelming majority of inter-personal nor inter-commercial negotiations that take place somewhere each moment.

Strikes, boycotts, sanctions, harassment, warfare, and such like, certainly are practised, but these are pressures external to the negotiation process and seek to circumvent it. They do not define it. They do not play any part in Adam Smith’s ideas on bargaining.

John Nash’s solution to the bargaining problem employs exactly the same outcome as is found in Smith’s; parties exchange items which they value less than the items they receive which they value more.

persondem’ seems unaware of this coincidence of views between Adam Smith and John Nash; he is misled by the Hollywood film; readers of Lost Legacy have no such excuse.


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