Imperfect markets, imperfect government

by Russ Roberts on June 6, 2007

in Regulation

Brad DeLong has an interesting post at TPM Cafe (HT: Arnold Kling at EconLog):

My view is that the neoclassical economics toolkit can be very, very
useful–no, stronger than that, is very useful and necessary–for
everybody from the center on left. The methodological individualism of
the toolkit forces you to look at real people and how situations help
or hurt them. The competitive market benchmark assumed by the toolkit
requires you to think carefully and specifically about just where the
externalities are that keep you from relying on markets alone to solve
whatever problem you are looking at. The equilibrium conditions
established by the toolkit force you to check for unanticipated
consequences, for blowback due to changes in incentives and so forth.

result is that the neoclassical economics toolkit makes you a smarter,
stronger, more powerful, more effective, more reality-based leftie.

By contrast, the neoclassical toolkit can be absolute poison for
people right on center. It functions like a kind of crack, reducing
their arguments to empty slogans: "the market takes care of that";
"acts of capitalism between consenting adults"; "they hired the money,
didn’t they?"; "it’s not the government’s, it’s theirs." People
right-of-center should be exposed to the neoclassical economics toolkit
only after posting a $1M bond to cover collateral damage, and only
under the supervision of trained professionals.

I hope to talk more about DeLong’s argument another time. I think he’s half right and half wrong. But a comment on his post (by one CaptainVideo) is even more informative:

In teaching neoclassical economics, the restrictive conditions under
which the theory of perfect competition applies needs to be repeatedly
emphasized. People learning neoclassical economics need to understand
that externalities, market power, and asymmetric information are the
RULE, not the exception. People need to be taught that therefore real
world economies only have an INVISIBLE PAW, not an INVISIBLE HAND. The
market works and is very powerful, but it works highly imperfectly, so
that governments can do all kinds of things to improve its working, IF
it chooses to do so. Of course, there is no guarantee that governments
will choose to do things that make it work better. As the Bush
administration has demonstrated, governments can also do things that
make things worse. Therefore one has to be very careful who one elects
to run the country.

I think every economist, left, right and libertarian agrees with the general drift of the  first part of this argument: governments can, in theory, improve the imperfect choices that individuals make on their own. The study of public choice, how governments actually behave in practice, suggests that it has little to do with who is elected but rather with the constraints facing those who are elected. Believing that who is elected is decisive for whether government helps or hurts people is a belief that is not supported by the evidence. George Stigler called this belief the "Ralph Nader Theory of Regulation." According to Nader’s world view, powerful government is necessary, but dangerous. The key, according to Nader is to elect good people to wield the power instead of the rotten ones who are currently in power.

My view is that powerful government is simply dangerous.


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