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Behavioural economics, 1892 version

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Well I’ve read Paul Mason’s[amazon_link id=”1846147387″ target=”_blank” ] PostCapitalism[/amazon_link] and can’t write about it because I’ve agreed to do a review elsewhere, and I’ve read Dani Rodrik’s [amazon_link id=”0393246418″ target=”_blank” ]Economics Rules: The Rights and Wrongs of the Dismal Science[/amazon_link] and can’t write about that because it’s embargoed until the autumn.

[amazon_image id=”1846147387″ link=”true” target=”_blank” size=”medium” ]PostCapitalism: A Guide to Our Future[/amazon_image]  [amazon_image id=”0393246418″ link=”true” target=”_blank” size=”medium” ]Economics Rules: The Rights and Wrongs of the Dismal Science[/amazon_image]

So I’m going to offer instead another thought about [amazon_link id=”1932512136″ target=”_blank” ]Elements of The Economics of Industry[/amazon_link] by Alfred and Mary Marshall, which has been my bedtime reading for a few days. One of the striking features is that so many of what seem to be recent insights in economics are there in Marshall, in crystal clear English. For example:

“An increase of income nearly always causes pleasure; but the new enjoyments which it provides often lose quickly much of their charm. Partly this is the result of familiarity, which makes people cease to derive much pleasure from accustomed comforts and luxuries, though they suffer great pain from their loss.”

Doesn’t this sound just like modern behavioural economics?

[amazon_image id=”1932512136″ link=”true” target=”_blank” size=”medium” ]Elements of Economics of Industry[/amazon_image]

I noticed Brad DeLong coincidentally also writing about Marshall – his earlier Economics of Industry with Mary Marshall.

Marshall on wealth, collective & individual

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From [amazon_link id=”B00882NQLM” target=”_blank” ]The Economics of Industry[/amazon_link]:

“We still have to take account of those of a man’s goods which are common to him and his neighbours… They consist of the benefits which he derives from being a member of a certain state or community. They include civil and military security, and the right and opportunity to make use of public property and institutions of all kinds such as roads & gaslight; and they include rights to justice and a free education &c. … Other things being equal, one person has more real wealth in the broadest sense than another if the place in which the former lives has better roads, better water and more wholesome drainage, and cheaper and better newspapers and places of amusement and instruction.

“Many of these things are collective goods i.e. goods which are not in private ownership. And this brings us to consider wealth from the social as well as the individual point of view.”

[amazon_image id=”129496819X” link=”true” target=”_blank” size=”medium” ]The Economics of Industry, by Alfred Marshall and Mary Paley Marshall – Scholar’s Choice Edition[/amazon_image]

As I dip into this book each evening, it becomes ever more apparent how much is in there.

Whose choice?

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I’m improving my Public Policy Economics course ready for the next academic year at Manchester (hello, prospective ECON20431 students, if you’re reading this blog!) One of the areas that troubled me last year was how economics treats questions of social welfare in public policy analysis. I thought it was just me, as it had been many years since I thought about it. Having just finished Daniel Hausman’s [amazon_link id=”1107695120″ target=”_blank” ]Preference, Value, Choice and Welfare[/amazon_link], I’m reassured that it is just difficult territory.

[amazon_image id=”1107695120″ link=”true” target=”_blank” size=”medium” ]Preference, Value, Choice, and Welfare[/amazon_image]

The book has two big points. One is to argue that ‘preferences’ in economics is used, and ought to be used, to mean subjective comparative evaluations that include all relevant considerations – including moral imperatives, social norms, passions, whims. This obviously does not mean the same as everyday usage of ‘preference’; in everyday language we consider moral duties can conflict with preferences, for example. It also means self-interest can’t be built in to preferences. “Preferences are the outcome of demanding and poorly understood processes of comparative evaluation.” People might often take short cuts (as per [amazon_link id=”0141015918″ target=”_blank” ]Gerd Gigerenzer[/amazon_link]) or be vulnerable to certain biases (per [amazon_link id=”B00SSKM714″ target=”_blank” ]R Thaler[/amazon_link] et al).

Preferences are then combined with beliefs to determine choices. Hausman argues that economists often ignore the role of beliefs or judgements about the choice environment because they tend to assume people’s beliefs are correct.

His second big point is that economists should not and cannot then say that what determines preferences is a matter only for psychologists or other social scientists; economics itself has to engage with the question of preference-formation.

I agree with Hausman so far. I am less clear about the part of the book that is about preferences and welfare. He argues that the satisfaction of people’s preferences is evidence that their welfare is being improved, but that welfare cannot be defined as the satisfaction of preferences, as economists assume. I don’t understand the second part of this: he says it is because preferences are not defined by self-interest, but I don’t follow why welfare has to be defined by self-interest rather than being defined by preferences (including moral imperatives, emotions etc). Hausman then goes on to assume policies should aim to improve social welfare, which is fine if you agree with the definition of welfare. But he asks why policy should be sensitive to people’s preferences beyond the promotion of their welfare, and goes on to discusss the behavioural economics findings that people might often not be good judges of their own interest. He challenges methods such as contingent valuation, because they reflect people’s sense of moral obligation, for example. That doesn’t seem to me to be a problem at all.

I think my difficulty with this is that as soon as you posit an ‘objective’ concept of welfare as what is in people’s best interests, and allow this to diverge from their preferences – especially in this wide sense which can include concern for others or for absolute moral imperatives – you are in the territory of social scientists determining what is best. Indeed, Hausman agrees that if people do include the seeking of their own benefit and are good judges of circumstances, preference satisfaction is a good indicator of welfare; and even if not, it might be better than a third party deciding.

Anyway, an interesting book (& there’s much more than I’ve summarized here including a discussion of [amazon_link id=”0444851275″ target=”_blank” ]Sen[/amazon_link]’s approach), even if it hasn’t saved me from having to continue puzzling over this territory.

“The collective pursuit of important aims”

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Alfred Marshall in [amazon_link id=”B00882NQLM” target=”_blank” ]Elements of the Economics of Industry[/amazon_link]: “As a cathedral is something more than the stones of which it is built, as a person is something more than a series of thoughts and feelings, so the life of society is something more than the sum of the lives of its individual members. It is true that the action of the whole is made up of that of its constituent parts; and that in most economic problems the best starting point is to be found in the motives that affect the individual…. but it is also true… that economics has a great and increasing concern in motives connected with the collective ownership of property and the collective pursuit of important aims.”

[amazon_image id=”B00882NQLM” link=”true” target=”_blank” size=”medium” ]The Economics of Industry: By Alfred Marshall and Mary Paley Marshall (Classic Reprint)[/amazon_image]

(Marshall was also absolutely insistent on the importance of economists writing clearly in language other people could understand, the issues being of such importance to everyone.)

Europe’s former glories

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[amazon_link id=”0691139709″ target=”_blank” ]Why Did Europe Conquer the World?[/amazon_link] That’s the title of a new book by Philip Hoffman of CalTech. His answer is a very neat development of part of Jared Diamond’s famous [amazon_link id=”0099302780″ target=”_blank” ]Guns, Germs and Steel[/amazon_link] and Paul Kennedy’s equally famous [amazon_link id=”0006860524″ target=”_blank” ]The Rise and Fall of the Great Powers[/amazon_link].

[amazon_image id=”0691139709″ link=”true” target=”_blank” size=”medium” ]Why Did Europe Conquer the World? (The Princeton Economic History of the Western World)[/amazon_image]

[amazon_image id=”0099302780″ link=”true” target=”_blank” size=”medium” ]Guns, Germs and Steel: A short history of everybody for the last 13,000 years[/amazon_image]  [amazon_image id=”0006860524″ link=”true” target=”_blank” size=”medium” ]The Rise and Fall of the Great Powers: Economic Change and Military Conflict from 1500-2000[/amazon_image]

Hoffman is not impressed by the germs part of the story, but does believe a combination of technological advances in weaponry, the ability to turn resources into tax revenues to fight wars, and competition between European states constitute a good explanation for the literal and cultural conquest of so much of the world by Europeans.

However, historical contingency also played a huge part in his telling of the story, the contingency of the long Dark Ages that kept European states of a similar size to each other, without a single hegemon becoming much larger than its rivals. This turned the competition described by Kennedy into a tournament – and an appendix models this formally. Rulers were in a contest for a big enough prize – glory or land – and incentivised to use resources – revenues that they could raise at low political cost especially as financial innovations came along in the modern era – to pour into new military technologies based on gunpowder to get an edge over each other. War was frequent, and there were few obstacles to adopting the new technologies.

Having set out the model, the book shows quite persuasively why only the European states met these tournament conditions. For example, China was much larger than neighbouring states and used its resources on old technologies to fight the horsemen of the steppes. India had plenty of rivalrous states but was unable to raise revenues at a low enough political cost because the raising of tax revenues was decentralised to local rulers.

Hoffman’s argument makes sense to me, although I’m sure historians could find some of the generalisations too sweeping. This book is a very interesting addition to the flourishing history of the world genre, including Ian Morris’s enjoyable [amazon_link id=”1846681472″ target=”_blank” ]Why the West Rules for Now[/amazon_link] as well as Diamond and Kennedy. The tournament model is not a complete explanation. For instance, it does not fully explain things like the origins and role of financial innovations or scientific discovery. However, this is a terrific example of the insight you can get from a simple model.

[amazon_image id=”1846681472″ link=”true” target=”_blank” size=”medium” ]Why The West Rules – For Now: The Patterns of History and what they reveal about the Future[/amazon_image]