Lost in Translation

The Hesitant Hand by Steven Medema (Princeton University Press): Part 5: ‘Marginalizing Government'

Medema reviews development in Italia, mainly in theories of public finance, and while I enjoyed the journey, I cannot say I am any more impressed with the Italian contributions than I was when I used to teach my Public Finance course in the 70s and 80s.

The whole project of Italian pubic finance science seemed to me a dead-end. They were trying to fit government into a marginal calculus which bore limited resemblance to any form of government then operating or likely to operate. Hence, I taught the subject using Musgrave as the main text.

I didn’t go as far as calling their efforts “a mass of intellectual confusion and dangerous half-truths” as Henry Simons let fly, when reviewing Antonio De Viti de Marco’s First Principles of Public Finance (1936) in AER, 1937).

Steve’s discussion of the Italian contribution does not leave me feeling that Simons must have had a long lunch and got stuck with the bill, having lost the toss. Of course, the Italian tradition includes Vilfredo Pareto, of whom I have never noticed anything negative said about him.

The problem of public finance vis a vis economics is that one is a collective provision of goods (the amount, content, and distribution of which are determined by different criteria and means compared to private goods). Trying to mirror one with the other for analysis is difficult despite decades of trying to do so.

Marginalism is about individuals, whose exclusive consumption maybe aggregated in markets; public goods (excluding welfare) are provided from the top downwards, already aggregated, if you like, and consumed by individuals, mostly non-exclusively.

Medema’s discussion of the complications for the Italians arising from public demand and public provision is crafted well, it being a difficult task to select enough to make sense of it without getting lost in it.

His account of Pantaleoni’s cumbersome attempt at deciding on government expenditure (p83) using weighted marginal utilities of possible expenditures against ‘marginal sacrifices’ of taxation to pay for them, predicated on public benefits equal or exceeding their costs and the equation of the marginal utilities across uses are equated, is clear. I am minded here of a statement by Pigou that the ‘marginal utility of the last penny spent on a battleship should equal the last penny spent on welfare(from memory, freely composed), the point being that it was operationally of no value to decision making (try teaching senior military officers Pigou's proposition).

However, the Italians were working away trying to do what Cambridge neglected, and little cross dialogue was undertaken between the economists working in different languages. Even the perceptions of the behaviour of government ‘agents’ differed, from ‘ineptness’ (UK: beyond their abilities) to efficient rational calculators (Italy). The latter approach is, as Steve notes ‘a far cry from Adam Smith’s portrait’ of the capabilities of government agencies (p 85). And that is the problem with the early Italian work in this area: their marginal utility models ran away from reality.

The picture changes in early 20th century. The coercive powers of the state are admitted in taxation and borrowing (the latter more attractive as the costs are less obvious in the immediate debt burden than they are in taxation – the 101 lesson in the management of government treasuries still today). The difference with public over private provision is that public provision is paid for by taxation, plus borrowing (itself paid for by more borrowing plus taxation) but consumed (and not consumed) individually, whereas private production is delivered to individual purchasers on payment of individual prices.

Trying to fit both public and private supply and demand into the same model is not possible except by sacrificing reality. This did not deter the Italians and their valiant attempts to do so also teach valuable lessons about public finance, including its coercive role.

Steve introduces Wicksell into this account. He sought a ‘comprehensive and internally coherent system’ while disregarding its practical value (p 93); in his models of abstraction he did not seek practicality, preferring understanding of what was involved over practicality.

When an individual’s marginal utility for a public good is less than the sacrifice of their tax share, she will feel overburdened, even if the total utility of the public good exceeds the total tax sacrifice across the community. If the majority of voters feel similarly about the tax burden they would vote against the provision; if they are a minority they have to put up with it.

It then comes down to the composition of the legislature, leading Wicksell to require a unanimity rule to ensure voluntary consent which, in the absence of a modified unanimity rule (p 94), surely brings us back to same problem of the coercive role to government?).Steve links this debate to Buchanan and Tulloch’s ‘Calculus of Consent’, 1962.

Clearly a unanimous decision, which makes nobody worse off, guarantees the efficacy (and efficiency) of the decision. It is easier to compile arguments against non-unanimous decisions, where majorities oppress minorities, to find practical examples of unanimity working in practice, where minorities oppress majorities (WTO?).

Finding ways round all the problems associated with the unanimity rule in an elected legislature forms an interesting discussion – the efficiency of majority rule versus the efficiency of unanimity is a debate about both process and outcome, which is an irresolvable dilemma. Majority rule leaves a coerced minority disenfranchised; the unanimity rule leaves the interests of the majority disenfranchised.

I consider there is much for economists to think about in this chapter of The Hesitant Hand and once again recommend you acquire Steve Medema’s book (Princeton University Press) and read it carefully.

Next Up is Coase's Challenge (Part 6)