HIDDEN MOTIVES DRIVING INTENDED ACTIONS CAN HAVE SOCIALLY OPTIMAL OR SUB-OPTIMAL UNINTENDED CONSEQUENCES

Lars P. Syll (7 August) HERE 

“Wicksell & Hotelling on the limits of Adam Smith’s invisible hand”

“It might look trivial at first sight, but what Harold Hotelling did show in his classic paper Stability in Competition (1929) was that there are cases when Adam Smith’s invisible and doesn’t actually produce a social optimum.

With the advent of neoclassical economics at the end of the 19th century a large amount of intellectual energy was invested in trying to formalize the stringent conditions of obtaining equilibrium and showing in what way the prices and quantities of free competition constituted some kind of social optimum.

That the equilibrium reached in free competition is an optimum for each individual – given prevailing prices and income distribution – was not, however, seen by some economists as making a very strong case for a free market economy per se. It wasn’t possible to prove that free trade and competition gave a maximum of social utility. The gains made in exchange weren’t a manifestation of a maximum social utility.”

Comment

“It might look trivial at first sight, but what Harold Hotelling did show in his classic paper Stability in Competition (1929) was that there are cases when Adam Smith’s invisible doesn’t actually produce a social optimum.”

Adam Smith did not say that his(?) “invisible hand produced a social optimum”.  That is a an ideological construction placed on his use of the now famous metaphor in Wealth Of Nations, in which he describes how a merchant who was motivated for the security of his capital if he sent it abroad, intentionally preferred to invest it locally in the domestic economy (mentioned four times).  This intended domestic investment was less risky - though still risky (not all investments are successful) and be that as it may, by investing it domestically, his capital added arithmetically to domestic “revenue and employment”, which, ceteris paribus, unintentionally promoted “the public good”  (WN IV.ii.10: 456).

Two points: Smith did not mention anything about a ‘social optimum’ resulting. That is a construction put on it by modern economists assuming that outcome from the mathematics of ‘general equilibrium’ theories (developed separately, by Richard McKenzie, Kenneth Arrow, and Gerald Debreu). Paul Samuelson popularised the notion in his textbook, “Edoncomics: an introductory analysis” (McGraw-Hill), causing a veritable flood of praise for the notion.

Secondly, the analysis, “proving” the associated assertions was also allegedly identified as what Adam Smith had meant by using the metaphor of an ‘invisible hand”.  I have said plenty about these assertions on Lost Legacy and elsewhere to show that such identification of the invisible-hand metaphor is profoundly wrong.

The metaphor of the “invisible hand” described in a “more striking and interesting manner” (Smith, 1762: Lectures on Rhetoric and Belles Lettres”) the hidden, private, motives of a merchant, concerned only for his own security (identified 4 times in the chapter), who acts intentionally to invest locally and that action led him unintentionally to “promote the public good” because his motivated action, if successful, adds to domestic “revenue and employment”.

The metaphor refers to the merchant’s motivated intentional action  and not to the unintentional consequence of the action.  Given the generality of all unintentional concequences of motivated intentional actions there is nothing ‘magical’ or ‘miraculous’ about unintended consequences, that is why they are described as unintentional.

Some intentional actions motivated by self-interests have negative consequencies for those affected by them and thereby they are not socially optimal. What people intend when they take action and what actually happens as a result is not necessarily what was intended by the initiator of the action.  The actor’s intentions may by frustrated by events, summed somewhat drantically in the saying that: “the road to hell is paved with good intentions”.  Hence, the unintentional consequences of well-intended actions need not lead to a ‘social optimum’, and as often do not.

In that respect I side with Harold Hotelling in 1929 observing the mistaken construction of colleagues who argued that a so-called invisible hand, as discussed by some of his colleagues, defied the improper construction they put on their misuse of a metaphor, used by Adam Smith for a quiet different purpose, about the hidden motives of individuals causing them to act for their intended purpose in pursuit of their self-interests but which could have unintended consequences, sometimes socially optimal and sometimes socially sub-optimal.

Meanwhile, the great creative intellectual energy invested by many brilliant minds in the search for proof of general equilibrium in an economy was ultimately wasted. Generations of young, gifted economists, mastered the mathematics of their proofs at great cost to the relevance of their proofs to the real world, which efforts won them prizes (including Nobels), tenure in the top universities, publishing contracts, and enjoyed due and deserved reverance from their colleagues and students, who properly stand in awe of them.