Tag Archives: economics

When preferences change

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One of the assumptions an economics student is quickly socialised into accepting is that people’s preferences are fixed – those indifference curve diagrams mapping one’s trade-off of apples for bananas. Of course at the back of your mind you know it isn’t true, but fixed preferences are a key building block of most of the subsequent economics one learns. At every stage we assume that people maximise their utility subject to budget constraints, and if preferences are not fixed that becomes a task like nailing jelly to the wall. How do you do a welfare evaluation in that case?

Well, it’s a key question for economists to tackle, not only on principle but because this is an age of saturated traditional media and social media aimed exactly at changing people’s preferences. So I was delighted to see David Kreps, a game theorist, tackling this in a book of lectures, Arguing About Tastes: Modeling How Context and Experience Change Economic Preferences. As Joe Stiglitz points out in his commentary in the book, there is a long and now growing literature on endogenous preferences, much of it linking with other areas such as social psychology or cultural evolution. What this short book does is formalize other-regarding preferences (which indeed date back to Adam Smith and Moral Sentiments) and changing preferences, with a focus on intrinsic versus extrinsic motivation in areas such as work effort. As the other commentary, by Alessandra Casella notes, the next step is to take this to social choice theory.

I couldn’t agree more. Recently I argued (with distinguished co-authors) for a reboot of welfare economics – applied social choice theory. Among the many reasons for this are the pressing collective action problems facing humanity (climate, biodiversity) amd the automation of a growing number of decisions in modern life using algorithms implicitly encoding social welfare functions. Arguing About Tastes is a technical book (for non-economists – fairly straightforward for those habituated to Max(U)) but a useful contribution to the challenge.

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Institutions, finance – and war

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Perhaps it was because I read the book in several stages, but I found it hard to take away a single line of argument from Geoffrey Hodgson’s The Wealth of a Nation: Institutional Foundations of English Capitalism. There is plenty of interest in the book but the chapters seem unconnected. One of the comments on the back, from my former colleague Sheilagh Ogilvie, makes a virtue of this, praising it for steering clear of monocausal explanations, which is true. But the book is also making an argument about the mode of economic analysis as well as about causes of the Industrial Revolution.

Anyway, here is what I took from my read:

  1. Other accounts of the origins of the Industrial Revolution and capitalism in England get something wrong: Marx, McCloskey, Mokyr, Allen, Weber, Uncle Tom Cobbley and all.
  2. This is because they do not employ the framework of evolutionary economics.
  3. Economics goes wrong big time in mixing up capital as in physical capital goods and capital as financial capital, starting with Adam Smith.
  4. Economic development is a process of the creation and changing of both technical and institutional rules.
  5. The distinctiveness of capitalism lies in the development of financial instruments and markets, especially mortgages lent against collateral: “Developed financial institutions make capitalism historically specific.”
  6. The Industrial Revolution was due to institutional evolution – mostly gradual but with some big moments of dramatic change such as the deal that brought about the 1688 accession of William and Mary.
  7. But the impact of external shocks – especially war – in bringing about economic development is under-appreciated.

I liked this observation about institutions: “They function as information registries of what is produced and owned, and of rules governing their use and allocation.” Hodgson cites Shannon and Weaver’s definition of information – something whose receipt can cause an action. This metaphor of units of information underlies the evolutionary approach, as I understood this chapter. Hodgson here and elsewhere has strongly argued the case for a paradigm shift in economics away from its still-extant physical production function framework to the evolutionary framework. (I do see the crumbling of the old paradigm in some respects but we’re far from a new one taking its place.)

The book ends, to my surprise, with a chapter about Japan’s economic development. I think the point here is that: “Major institutional changes in the fundamental areas that matter for economic development typically depend on exogenous shocks.” For Japan these were the Meiji restoration, then loss and occupation in 1945/6.

All in all, an interesting read, but it made me think I’d get more from reading one of Prof Hodgson’s earlier books on evolutionary economics.

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A woman economist in charge

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It has been a bit of a week, trying to get my dear husband the right medical care after he fell and smashed his elbow in the rain and darkness just over a week ago. Although he’s, thankfully, patched up with mesh, sellotape etc now, my concentration hasn’t been terrific. So mainly I’ve been reading detective novels. However, I did notice that Rachel Reeves’s book, The Women Who Made Modern Economics, has been published. I read a proof copy a little while ago, and would recommend it.

There are really two books combined here. One is a straightforward account of the work of important and often overlooked women economists, such as Beatrice Webb and Mary Paley Marshall via academics like Joan Robinson and Esther Duflo, all the way through to influential policy economists Christine Lagarde and Janet Yellen. As well as being mini-histories, these sections aim to show why and how being female influenced for the better the economics, by bringing to bear a different kind of experience or understanding of the context in which policies operate. They are nicely written, and I wholeheartedly agree on the importance of diverse experience to improve economic analysis, but the biographical details are not novel.

The second element is more interesting in the present political context, namely the picture the book paints of Reeves’s own framework for thinking about economic policy, which she grounds in her own life experience and in the ideas of the economists she writes about. Given that this highly impressive politician looks increasingly likely to be the UK’s next Chancellor, this is of real interest. I think the book paints a pretty coherent picture of a strategic approach to the supply side of the economy, combined with a clear-eyed view about the importance of macroeconomic stability, and the strong sense of social justice you would hope for from a senior Labour figure. Reeves rejects simplistic ‘free marketism’ while being obviously in favour of businesses succeeding. She emphasises the importance of taking into account unpaid care, still typically women’s work. She attacks the continuing gender pay gap and Britain’s retreat from overseas aid.

Reeves is of course an economist by training and by work experience (Bank of England and the banking sector). There are specifics I might disagree with her about – but her economic philosophy as set out here is consistent and credible. Of course, all the good sense on display in her analysis will be needed, given the legacy being left by the present government for its successor.

Folks, we might be in line for a Chancellor with a sound grasp of economics beyond the textbook (or the blackboard, to use Coase’s term) and an interesting hinterland. The two strands of The Women Who Made Modern Economics don’t, in my view, sit together comfortably; the ‘lessons’ drawn from the historical figures for some aspect of modern policy, to link the strands together, are a bit strained. But the sense and coherence of Reeves’s personal manifesto for the economy makes it well worth a read.

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Classes, elites and people

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I was very excited to get a proof copy of Branko Milanovic’s new book, Visions of Inequality From the French Revolution to the End of the Cold War, a while ago. The book is out in early October so it seems ok to post about it now. For anybody interested in inequality – and we all should be – anything by Milanovic is an essential read. His collation and interpretation of global inequality data is masterly, and his perspective from a socialist background (he was born in former Yugoslavia) is always interesting.

This new book is an intellectual history of how economists of the past have perceived and analysed inequality. The chapters cover Quesnay, Smith, Ricardo, Marx, Pareto, Kuznets and then – for the second half of the 20th century – a cluster of neoclassical economists during the period the book labels as ‘the long eclipse of inequality studies’. The Cold War involved in the west the myth (in economics although not in life) of a classless society. The book aims to describe each thinker’s ideas about the dynamics of income distribution, but not their normative perspective. Hence the discussion of Marx covers the evolution of wages and the downard tendency of the rate of profit but not the labour theory of value and alienation.

As I’m no expert on the history of thought, I learned a lot from the earlier chapters. The earlier thinkers all framed their analysis around the concept of social classes: “Classes were the natural concepts around which income distribution was ‘built’.” With Pareto, the analysis shifted to interpersonal distribution within a framework of the social hierarchy (the eltie vs the rest), and then with Kuznets and the later neoclassicals to individuals. This was partly driven by the availability of data on individual incomes from income tax records, after the introduction of direct taxation. The distribution among individuals could be sliced in different ways – location, education, occupation – but the background context of social structure faded. And then, after around 1960, economists’ interest in income distribution faded too. Why?

One comment Milanovic makes in the introduction struck home: “The puzzle was solved when I realized that the discipline of economics, as it was taught and studied betweem 1960 and 1990 in the West, was really designed for the period of the Cold War. …. Inequality seemed like a problem that was going away, and this reduced interest in studying it.  … Each side [in the Cold War] had to insist that it was more equal and less class based than the other.” The book quotes Kuznets’ 1955 AEA Presidential Address calling for economists to begin to look at processes of long-term change – technology, demography, social frameworks: “Effective work in this field necessarily calls for a shift from market economics to political and social economy,” Kuznets said. Of course, this did not happen and economics doubled down on the market framework. “We might say that economics as a field stagnated or even regressed, at least in its understanding of income distribution under modern capitalism,” Milanovic comments.

This has changed in recent years, with the empirical work of economists like Milanovic, Saez and Piketty – I would add the prescient prior work of Tony Atkinson (Inequality: What Can Be Done is a terrific overview and battle cry), who was ahead of his time. Visions of Inequality ends with a call to augment the study of individual incomes with a greater focus on non-labour income, on household income rather than the individual wage earner, and on global inequality. My addendum would be the distribution of unpaid work within the household and the community. It’s an exciting time to be studying inequality thanks to the data and recent scholarship, and an important time given how unsustainable the current distribution has become – after all, the term ‘elite’ has become an insult in political debate. This book is a great scene setter for the modern debate, not least in illustrating the link between ideas of inequality and the times in which ideas are formed.

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Middling models in the big real world

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I’ve been re-reading Mary Morgan’s excellent book The World in the Model: How Economists Work and Think. It’s relevant to the debate that’s been happening on Twitter – sorry, X – about the way economic research has become ever-narrower and more technical. As Richard Baldwin put it: “We are getting more and more precise answers to less and less important questions.” I’m not even sure that the precision is real. But there is a mania for technique, whether econometric, RCTs, or ‘big data’ methods – and above all for ‘identification’. This means being statistically confident that outcomes can be causally attributed to potential drivers. The identification mania is so intense that I’ve kept a gobsmacking email rejecting an article on the grounds that it ‘wasn’t identified’, when it wasn’t trying to do a causal analysis at all.

The book documents the way ‘models’ have become the dominant way economists work, to the exclusion of other modes of analysis, and argues that this means two kinds of work are excluded: big picture and context-specific detail. The professionally high status work is all “middle level stuff”, wrapped in techniques and modes of thought that prove to incumbents that the work passes appropriate professional hurdles. The dangers are obvious: economics is too silent on big issues, too generic on detail, and extraordinarily conformist.

Morgan concludes: “[D]uring the 20th century, modelling became the way to do economics. The term ‘model’ changed from being a noun to being a verb. ….The epistemic genre of creating and reasoning with models requires a craft skill working with highly formal instruments. … [I]t comes to be thought to be the ‘right way’….” What’s more, economists are taking the requirement for modelling as the way of knowing into other domains such as social policy or everyday phenomena. “Now, when economists look at their small mathematical models they see the real word, and when they look at the big real world they see it as a sequence of their small models.”

The Twitter X thread had a few suggestions – write books rather than journal articles, have one-issue editors for journals more often – but such a strong professional way of knowing and doing is hard to shift. I see some signs of change in academic economics, but don’t know if it will amount to a much broader discipline. Here’s hoping more economists will read this book, or indeed the comments by Nancy Cartwright and Angus Deaton on the limitations of fashionable RCTs.

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