Monday, September 28, 2009

Government Failure Also Endemic

Kevin Williamson writes in National Review Online, “Taming ‘Animal Spirits”
(‘Investors sometimes behave irrationally, and so do regulators’)

Animal spirits are indeed at play, and mischievously so, both in the marketplace and among those who seek to govern the marketplace. It is characteristic of our academic caste that Professors Shiller and Akerlof attend to the former case but are blind to the latter, and so they have produced an essay that is not so much conventional as convention itself, arguing, in a series of bland metaphors, that economic exorcists in Washington must be deployed against animal spirits in the marketplace: “If we thought that human beings were totally rational and acted mainly from economic motives, we, like Adam Smith and his followers today, would believe that governments should play little role in regulating financial markets. . . . But on the contrary, we believe that animal spirits play a significant and largely destabilizing role. Without government intervention, employment levels will at times swing massively, financial markets will fall into chaos, scoundrels will flourish, and huge numbers of people will live in misery.”

“There is no need to address the problems of that passage beyond cataloguing them: We have lots of government intervention in the economy, but employment levels do swing, financial markets have fallen into chaos, scoundrels do flourish with great exuberance, etc. And neither Adam Smith nor his intellectual heirs believe that economic man is an icy rationalist, or even that he is rational, broadly defined. Ludwig von Mises put the idea into theoretical form, but it has long been understood that man acts rationally in the sense that he takes actions that seem to him sensible in order to achieve a certain end, but that end itself may be irrational, erroneous, or criminal: Scientific researchers act rationally to achieve certain ends; so do serial killers, religious fanatics, drug addicts, and Wall Street traders.

A most interesting article with which I mostly agree. Basically, it criticises the Homo economicus model of human(?) behaviour upon which so much of modern economics is based. Partly, the model was inevitable once it was decided to find a way to make political economy ‘scientific’, with maximum/minimum maths using calculus (Pareto, following Walras), out of which the mathematisation of economics into what it became from the mid-20th century.

The scribbles of modern economists influence public policy, often without the qualifying assumptions of the scribblers, and a whole host of dubious ideas get traction in the daily grind of politics.

The idea that markets are liable to fail, unless regulated, is having a renewed run just now, as if the regulators are some version of supermen and superwomen, who do no wrong, are immune to other than the public good and above reproach or suspicion. Being made of the same stuff as ordinary humans (absent from the models), regulators can be at least as bad as the worst market-makers, and on occasion, even worse.

I suggest you read Steven Medema’s, The Hidden Hand: taming self-interest in the history of ideas, Princeton University Press (2009), for an excellent account of the 1930s debate about the assumed probity of the selfless public servant in Pigou’s "Welfare Economics".

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