Efficiency and Markets

I thought this week I might revisit the idea of efficiency as it relates to markets. I know I’ve done it before, many times, but I was reading a young fellow waxing eloquent on the efficiency of markets and it brought it to mind again. Sound a plan?

Efficiency must be defined relative to some goal or objective. Nothing is efficient in general, with respect to everything. Jumping off a cliff is an efficient way to get to the bottom, but not necessarily getting there alive. One must always ask, efficient with respect to what? The efficiency of markets in a welfare economics sense is typically defined with respect to individual preference rankings, there called “utility,” in the rather arcane sense no one can move up his or her preference ranking without someone else moving down his or her own. That’s called “economic efficiency” or “Pareto efficiency” after the Italian fascist who came up with it. My point here is simply it’s not necessarily efficiency with respect to what some may suppose the most normatively significant goal or objective. Let’s have an example.

To make the issues more obvious, imagine a quite unequal distribution of economic power in which most of it is in the hands of a very pampered big shot indeed, the Heiress of All. The Heiress has plenty of most things but is interested just now in very fancy jeweled eggs. A theoretical perfectly competitive market will allocate scarce resources to meet that preference set and be “economically efficient” at the same time. That’s good, right? It’s not as though there’s no sensible ethical content to “economic efficiency.” Seems a nice thing to have. 

But for some, the ethical significance of the “economic efficiency” of that market may pale in comparison to, say, efficiency with respect to improving the welfare of the starving commoners. Indeed, some may suppose the Heiress’s preferences have altogether too much significance. Frankly, some may not give a damn if the Heiress of All manages another jeweled egg or not. The “economic efficiency” of that market may be a relatively insignificant consideration for them, based on their ethical views on the definition, distribution, use of economic power. Because of the existence of other people, the scarcity of resources, the ubiquity of interpersonal conflicts of preferences over resource use and other matters, we’re never truly in a situation in the real world where only individual preference ranks matter in terms of ethics. 

Of course, if one agreed the ethics of the definition, distribution, use of economic power in markets to resolve interpersonal conflicts of preferences, supposed all more serious interpersonal ethical issues resolved, then “economic efficiency” would appear more significant. To reprise our discussion from last time, one may suppose considering those exogenous interpersonal issues fine for some but those operating within neoclassical welfare economics are meant to confine their ethical thinking to individual preference rankings, “utility,” economic efficiency. That’s fine, if presented as an ethical half-theory. However, if one tries to pass it off as an ethical full theory, propose others give more weight to “economic efficiency” in real contexts than seems ethically sensible or appropriate to them, then that’s not fine, not at all.

An advanced example is insisting economic efficiency is normatively paramount so interpersonal ethics cannot be addressed unless that condition is met, a form of fake indifference I usually describe as setting up of arbitrary roadblocks to expressing interpersonal ethics. I’ve discussed such roadblocks before and will do again. They include stratagems such as insisting the ethics of resolving interpersonal conflicts of preferences be addressed only via the distribution of economic power rather than by regulation or choice to use economic power. What one typically sees in anti-democracy bad economics in the conservative style is people arguing no one should interfere with or distort or fail to pursue or promote the “economic efficiency” of some real market, which is fake indifference of a rather more obvious sort.

Real neoclassical welfare economics, in contrast, recommends those using that ethical half-theory acknowledge the existence and significance of the ethical issues external to that theory in realistic contexts but express indifference to them, not oppose them. That is, purveyors of real neoclassical welfare economics understand ethical considerations exogenous to that theory relating to resolving interpersonal conflicts of preferences are a legitimate reason, even within the context of that theory, to depart from “economic efficiency.” The ethical half-theory of real neoclassical welfare economics does not support one using that theory to cast interpersonal ethics as illegitimate, something to oppose as baseless, etc. It recommends indifference, acknowledging those ethics as relevant but beyond one’s purview.

When one reads or hears anyone talking about efficiency and markets, one should put one’s critical faculties in high alert. It’s a concept often used in rhetorically underhanded ways to play funny word games, equivocate on terms, create unnecessary confusion and conflict.

A Tale of Two Normative Propositions

How about a bit more economics this week? I thought I might discuss two subtly different normative or ethical propositions I believe are often conflated in the context of applied economics to comical and unfortunate effect. Sound a plan? One proposition leads to viewing neoclassical welfare economics as an ethical half-theory, basing normative evaluation of policy partially on normative inputs from outside. The other leads to viewing that theory as a full ethical theory, evaluating policy on that basis alone. 

The first proposition is from real neoclassical welfare economics and says economists speaking as economists using that theory should not take up the ethics of resolving interpersonal conflicts of preferences, should restrict their discussion to “utility.” Let’s discuss briefly. The factors that play into resolving interpersonal conflicts of preferences in economics involve the ethics of the definition, distribution, use of economic power in markets to address particular conflicts, or not. Those ethics are external to neoclassical welfare economics. The “utility” I just mentioned is not just any old definition of utility one likes, and the term has a long history in philosophy and many potential definitions. It’s the particular “utility” that meets the definition and requirements of neoclassical welfare economics. The only empirical indication associated with the relevant sort of “utility” in neoclassical welfare economics is individual preference rankings, and most economists now define it simply to be that with no further content, just the ranking itself. One may also define it as an internal subjective feeling of satisfaction from individual preference fulfillment, but only if one specifies the only empirical indication of that feeling is individual preference rank. That works, but leads to some rather dodgy ethics. I discuss the dodgy ethics that follow from that older and now uncommon take on “utility” in neoclassical welfare economics in my blog and book. The point here is simply one cannot make “interpersonal utility comparisons” in modern neoclassical welfare economics. There are other sorts of economic theory that get around that restriction, confusingly often by introducing factors relevant to other sorts of utility, then “weighting” individual preference rankings, pretending to add them together, compare them, and so on. Those other sorts of economic theory fall under the rubric of “general welfare analysis,” basically rather dodgy, awkward, confused ethical philosophy that doesn’t really express the same normative inputs or generate the same conclusions as real neoclassical welfare economics. Anti-democracy bad economics in the conservative style is a misinterpretation specifically of the normative argument in real neoclassical welfare economics, not the wide ranging, anything goes discussions of “general welfare analysis.” Those operating under the influence of this first proposition understand they cannot evaluate economic policy in realistic contexts purely from within neoclassical welfare economics. It requires ethical inputs relating to the ethics of economic power external to that theory.

Returning to the main point, the second proposition is from bad economics in the conservative style and says economists speaking as economists should tell others as well to not take up the ethics of resolving interpersonal conflicts of preferences, go beyond “utility.” In direct contrast to the first proposition from real neoclassical welfare economics, which is ostensibly intended to eschew ethical controversy by limiting the scope of economic theory, rendering it an ethical half-theory, this second proposition is very ethically controversial. It’s controversial because resolving interpersonal conflicts of preferences make up the lion’s share of ethics, so it’s basically a proposition people should be amoral in the sense of being indifferent to others and to considerations of fairness, justness, equity, and so on. Indeed, one supposes the only reason that proposition from the ostensibly full ethical theory of bad economics in the conservative style is taken seriously at all involves some sort of selective perceptive involving acceptance of status quo ethics on the relevant issues. A common rhetorical conceit from bad economics in the conservative style is to cast as indifference to the ethics of resolving interpersonal conflicts of preferences indifference to the ethical basis of the status quo resolution, not indifference to that resolution. That’s not true indifference in the sense relevant to neoclassical welfare economics because it introduces an additional normative or ethical principle, that one should support the status quo regardless of its ethical basis, which cannot be justified on the basis of “utility.” Under the influence of that rhetoric from bad economics in the conservative style, the second proposition transforms into something like, no one should question the ethical basis according to which interpersonal conflicts of preferences are resolved under the status quo. This then informs the common conservative view democracy is ethically bad because it allows voters to express unjustified, false ethics relating to resolving interpersonal conflicts of preferences, allocation of scarce resources, engage in empty and unethical “virtue signaling.” Those operating under the influence of this second proposition propose they can evaluate economic policy in realistic contexts purely from within neoclassical welfare economics and they oppose ethical inputs relating to the ethics of economic power external to that theory.

The two propositions are often conflated using the idea of economists just talking as economists, but that’s ambiguous between economists as such giving an ethical half-theory, correctly expressing indifference, and economists as such giving their own full ethical theory. Any full ethical theory may always be said to be just from the point of view of adherents. Duty based theories just the views of those who support those theories, religious theories just the views of who support those theories, and so on. It’s not the point.

Real neoclassical welfare economics has certain normative inputs, applied under certain factual premises, and generates certain conclusions. Bad economics in the conservative style has different normative inputs, applied under different conditions, gives different conclusions. Conservatives have had great fun playing bait and switch between the two intellectual artifacts, misleadingly taking up criticisms of bad economics in the conservative style by referring to real neoclassical welfare economics. Know enough economics to not fall for such nonsense.