Kaleidic Society

What I’ve been reading (relatively) recently

Here’s short list of what I've been reading over break, with some comments:

"Central Banks as Sources of Financial Instability"; George Selgin. This is a very light rehash of the argument for free banking, along with an overview of central banking.

"Self-Governance in San Pedro Prison"; David Skarbeck. This study, if accurate, is even more amazing than Peter Leeson's study of pirate societies. According to Skarbeck, the prison in question spontaneously turned, thanks to the benign neglect of corrupt guards, into a flourishing, self-contained society. Not only does it have the equivalent of homeowners' associations and restaurants, children and wives of the criminals often live there, and prefer it to their home communities. This article really is a must read, although it does not address possible effects of culture on this story of emergent order.

"From "Porous" to "Ruthless" Conscription, 1776-1917"; David Henderson. A light, somewhat polemical retelling of how the conscription of the civil war, combined with the ideology of progressivism, led to a people willing to accept mass, inescapable conscription during WWI, and an intellectual elite who favored this policy.

"An Analysis of the Concordance Among 13 U.S. Wine Competitions"; Robert Hodgson. According to this study, winning a gold medal at a wine competition is solely the result of chance. They try to make the case by arguing that winning a medal at a completion is statistically independent of winning one at another competition. However, I'm not entirely convinced. The correlation coefficients between the competitions are all positive, which I think might signify some sort of correlation, although they don't provide confidence intervals.

"The 'Justice' That Overrules the Rules of Justice"; Anthony de Jasay. This is part of a festschrift for a philosopher I had never heard of before: Hartmut Kliemt. It was a rather bland, if well-written commentary social justice, although it did include a nice anecdote from James Buchanan.

"The Effect of Prayer on God's Attitude Toward Mankind"; James Heckman. The fun part of this paper is discovering the logical flaw in Heckman's reasoning (of which I assume he is aware). From what I understand, there are two problems: the random variables are not from the same population, and he assumes a distribution for the conditional expectation that we are expected to take "on faith." In addition, since he assumes he is using normalized data, his data do not fit the proposed model.

I am also working through some of "Mr. Sraffa on Joint Production and Other Essays," by Bertram Schefold. This is a comprehensive look at joint production in the Sraffian system. I have found that it also functions well as a textbook in the approach, since the first few chapters take the time to lay out definitions and methodically formalize them. I recommend this work to anyone who wants to get better acquainted with the neo-Ricardian approach, since the more difficult middle section, which contains the author's dissertation on joint production, can easily be skipped. I had previously read somewhat extensively in the methodological underpinnings of the Sraffian system, but had not grappled with formalizations of this system. Most of the math is rather basic matrix algebra, so I have had little trouble with it other than learning the many layers of notation.

Second Thoughts on Classical Economics

Looking back on a previous blog post on Marxism, I realize how my views on the classical economists have changed. Over the past few months, I have tried to rigorously study various interpretations of the classical economists, with an emphasis on Ricardo and the Sraffian interpretation of him. With this study, I have come to realize that my previous criticisms were ill-founded or, at least, questionable.

The classical system is based on entirely different methodological foundations than the marginalist system of analysis. In fact, it’s plausible to interpret the classical as having an entirely different aim and purpose for economics. They rejected methodological individualism. They treated population as an endogenous variable. They only cared about natural values, as opposed to market prices. These can be interpreted as being different than long period prices. Suffice to say, given their foundational concerns and methodology, the system they built was surprisingly elegant. Even the labor theory of value can be seen as useful and semi-plausible when examined as part of this paradigm.

With that said, we can still criticize the classical economists by critiquing their foundations. Austrian economics gives an explanation of the real world. Classical economics has a much harder time making that claim.

Complexity and Business Cycles

I've mentioned before that I think there are a number of problems in the Austrian business cycle theory as it is usually expounded. Some of these problems are small and only of theoretical importance. They relate to the intricate and subjective nature of the capital structure and the role of expectations. Although the theory may be correct for a simple economy (or in a single sector of an economy) which is relatively stable and has easily identifiable stages of production, this does not mean, a priori, that the theory generalizes to a complex and dynamic economic system.

I am trying to communicate the idea that in a complex system, we may be unable to apply the standard theory. In a world where the lattice-work of heterogenous goods in subjectively interpreted relationships is constantly shifting, are Hayekian triangles any more than an easy to understand piece of pedagogy, not unlike Samuelson's pitiful defense of the production function as a mathematical "parable"?

Healthcare and Rationing

Currently, many experts are denying the claim that a government run healthcare service would need to ration out care to patients. However, this impossible. Just like the free-market, which "rations" according to ability and willingness to pay, a government healthcare service does not have unlimited resources (although it may be well-funded), so it must also ration care to its clients. Therefore, the question is not whether there will be rationing, but how it will occur and who will guide it. In itself, this doesn't show that free-market healthcare or government healthcare will be inherently better. But we can use the insights of public choice and standard theory to show that, at the least, we shouldn't expect the government to outperform the market without extremely extenuating circumstances.

In particular, without real market entrepreneurs guiding the healthcare process, it seems unlikely that a dynamic system with ever-changing and improving medical technology would result. As Lachmann constantly emphasizes, the marketplace is a zone of incredibly dynamic and often unpredictable progress, guided by entrepreneurs who must interpret data and form expectations in accordance with their accumulated knowledge. Government, on the other hand, often seems to be in a sort of stasis, only changing at regular intervals and unbothered by the threat of competition.

More Thoughts on Categorizing Economic Schools

The School's...

View of the scope of Economics: science of human action, science of objective wealth, science of scarcity and allocation, etc.

Method of formalism: verbal logic, mathematical logic, acceptance of ambiguity and lack of formalism

Basic assumptions about rationality: perfect rationality, bounded rationality, reasonable rather than rational, irrational (driven by animal spirits)

Use of time: comparative statics (extremely limited use of time), equilibrium (out of time), real time (Bergsonian time)

The Importance of Fellow Travelers

Fellow travelers are often treated as annoying gadflies, whose only effect is to distract the hard core of a group. However, they serve in a number of underappreciated roles. In the Austrian case, they help to bridge the gap between the mainstream and the Austrian school. Economists like Leland Yeager, who sympathizes with market process theory, can make a marginalized movement appear more respectable to the mainstream.They can also help bridge gaps and create dialogue between different heterodox movements. For example, Theodore Burczak has recently attempted to synthesize Marx and Hayek, provoking conversation between Marxist and Austrian economists. Most importantly, such people help prevent groupthink and insularity within a school of thought.

Formalizing Ordinal Utility

I’ve tried to make an attempt to formalize the Austrian notion of utility. This seems to be a praxeologically sound formalization which does not imply that mathematics can be used in economic theory. This formulation does not state that utility functions are continuous or differentiable, so forming a Walrasian system with them would be nearly impossible. Nevertheless, it is at least an interesting exercise. Feel free to critique it:

The good's first unit will satisfy the most important end, the second unit will indulge the next most important, the third unit will tend to the third most important, and so on. Thus we get a set of ends E = ( e₁, e₂, e₃, . . . ,e_i) with the following property: For all e₁, e₂, in E, e_j, is preferred to e_i, if and only if i < j. The ranking of the elements of E is the basis for ordinal marginal utility. Let X = (x₁, x₂,  . . . x_i, . . . ) be a set where x, denotes the number of units of good x at a consumer's disposal. Let x_j > x_i, if and only if j > i. Define a marginal utility function f: X --> R⁺ such that f(x_i) > f(x_j) if and only if x_i, < x_j. This is a result of the fact that a consumer will utilize additional units of good x to satisfy sequentially less important goals. f is thus a decreasing marginal utility function on X . To show that marginal utility is ordinal, let S = (f, g, . . .) be the set of all functions on X defined as above. Then for all f, g in S, and for all x_i, x_j in X, f(x_i) > f(x_j) implies g(x_i) > g(x_j). S is consequently an ordinal measure of marginal utility.

If the subscripts aren't working, the sets are meant to be ordered sets.

Subjectivism and Traditional Austrian Business Cycle Theory: Could They Be Incompatible?

“On the one hand we want to have a time structure of production in order to have our theory of the trade cycle. On the other hand we often cop out by describing it as purely subjective; the time structure of production describes something about the plans of entrepreneurs and in this sense varies from entrepreneur to entrepreneur. But we can't have it both ways. If it supports ATBC, then it's an "objective" notion. If it is a "subjective" notion, the ATBC cannot be sustained. I wish we would pick up on a suggestion by Peter Lewin and cut the Gordonian knot with the idea of "duration." Before we can do that, however, we have to see the problem and it's my impression that almost no Austrians see the problem.”
-Roger Koppl

This is an interesting point, although I’m not sure whether I entirely agree with it. However, if this dichotomy of subjective entrepreneurial plans and objective physical capital really cannot be bridged, I think that I would have to take the side of subjectivism.

After giving more thought to this, I think that we should discard the time component as a critical part of the theory. While we can say that inflation alters the number of stages of production and introduces greater uncertainty into the system, we can’t talk about the process in a uni-dimensional manner. Because of the existence of looping in the capital structure (some production processes may produce materials that later end up in that same process), the order of any production process is an entirely subjective phenomenon, existing only in the interlocking plans of entrepreneurs. Therefore, a distorted rate of interest can only be said to disfigure and warp the web of interconnected capital. Although we might be able to empirically discern more specific tendencies, given a particular capital structure, the theory itself cannot give us any more information. We need to accept that we cannot derive a satisfying business cycle theory without empirical insight.

Critical Realism: What is it and what does it have to do with economics?

Critical Realism is a philosophical movement that has been gaining some ground in the past few years. It is an approach to philosophy that encompasses epistemology, ontology, and to some extent, morality. It approaches the world as being made up of “structures,” each with certains “powers.” These structures (think gravity) are always exerting these powers, even when there are other powers at work preventing the previous powers from achieving its full effect. For example, gravity works upon a bird, but the bird’s power to fly counters this.

You might ask: why is this so novel? In contrast to positivism, it is quite new. Positivism looks only at conjoined events of the form: A, then B. Realism attempts to look at the structure of events and denies that the prediction of such conjoined events is the purpose of science.

This is relevant to economics because this philosophy is incompatible with many forms of econometrics. If the purpose of science is to study “structures,” rather than laws, then the mainstream approach to economics is bankrupt.

Unfortunately, this philosophy is almost invariably used solely by the left, often to justify Marxism. However, Austrian economics could certainly make use of this philosophy to justify its methodological attack on the mainstream.

Andrew Collier’s book on Critical Realism would be a good place to learn about this topic, if you can ignore the Marxist ideas strewn throughout it.

The Austrian School’s Influence

Anyone who thinks the Austrians are not influential really needs to do his homework on the subject. Penrose, Lawson, and Lewin have all been influential in their fields and were heavily influenced by Austrian ideas.  Tullock and Buchanan have both said that Hayek greatly influenced them. Even some Marxists have become Austrians, such as Burczak. Just because a school's influence is diffuse doesn't make it inconsequential.

More importantly, there have been attempts by other heterodox movements to reach out to the Austrians. For example, Tony Lawson has made the case that the philosophy of Critical Realism is to some extent compatible with Austrian teachings. He uses Hayek as an example of a proto-Critical Realist. In itself, this shows that our school of thought has influence in the general sphere of heterodox economics. Although it's true that Hayek's influence has been more widely felt than most other Austrians, Mises has influenced many as well. For example, Mises has influenced many classical liberal historians, such as Leonard Liggio.

Is regret compatible with Praxeology?

Aristotle, upon whom Menger based some of his ideas, believed in the concept of akrasia. Akratic action is action that is known to be against an agent's own interests, but is pursued regardless. This is obviously incompatible with any rational choice-based theory of action, since the agent is purposely acting irrationally. An example is the drunk who knows his alcohol addiction is harmful and regrets his problem, yet continues drinking. Is this a problem for a realistic economic theory based on the assumed rationality of economic agents?

One first step to deal with this problem is relaxing the standard of rational action to the Misesian notion of purposeful action. This does not solve the problem fully. In this case, we can understand the agent as having two opposing beliefs about the usefulness of their action. The agent only acts on one of these beliefs, leading to feelings of regret from the other. However, this leads to a new problem: why would an agent choose only to pay attention to an inferior belief?

Elster attempts to solve this problem by positing a rapid change in time preference of the agent during the akratic act. When the actor soberly examines his options ahead of time, he may choose X over Y. However, when confronted with the imminent choice, he chooses Y due to a rapid increase in his discount rate. This solution does not provide an answer to the deeper question of why the agent would feel regret simultaneous with the action. It seems that the only way out of this puzzle is to admit that this increased discount rate is caused by a weakness of will, perhaps due to impulsiveness. The actor knows that his choice is problematic, yet is unable to impede the force of his passions. This is not incompatible with any Misesian theory of choice, since praxeology makes no claims about the motivations of an action.

Three Trends in Austrian Economics

There are at least three distinct, but overlapping, research programmes (to use Lakatos' term) in Austrian economics, at least according to Rothbard. Each of these styles of thought can rightfully claim to be based on Mengerian insight.

There is the Mises-Rothbard strand, which emphasizes rationality, equilibrium as a mental construct, and theorizing based on axioms and logical deduction. This comes directly from Menger's search for "exact laws" of economics and human action.

A more prominent mode of thought, at least among the mainstream, is the Hayek-Kirzner paradigm. Although this group can easily be split up further, it generally emphasizes spontaneous order, discovery procedures, and entrepreneurship. This can be derived from Menger's discussion of organic and pragmatic orders and organizations. The classic example of an organic order is the means of exchange, which spontaneously arose to fulfill the need created by the problem of finding a "double coincidence of wants".

Another, more controversial, research programme is the Lachmann-Shackle school of radical subjectivism. This method of analysis focuses on expectations, sociology, and disequilibriating elements in the economic process. It shares some elements with the Post-Keynesians, although these ideas are taken in drastically different directions. This draws on Menger's role as one of the founders of subjectivism and claims to complete the subjectivist revolution.

Defining Heterodox Economics

How should we decide whether a school of economic thought is heterodox or mainstream? The line is not always very clear. We can safely say that economics in the style of Paul Samuelson, the neoclassical synthesis, is mainstream, but that is an easy case. One way to draw the line is to look at other areas of study that the school resembles. Does it resemble physics? Philosophy? Or perhaps sociology? I would suggest that any school which resembles physics or mathematics is mainstream. Even this is not always a good heuristic, since econophysics is not particularly mainstream. Another method of categorizing is to look at who founded or popularized the school. If the founder was English, it is probably mainstream. There are a number of other interesting ways of categorizing schools, based on differing perspectives on capital, interest, and other concepts, as well.

Can a Subjectivist be an Interventionist?

I believe that any kind of interventionism is incompatible with subjectivism. For example, suppose that a cluster of entrepreneurial errors occur in the economy, possibly as a result of the ABCT. The capital structure has become inconsistent with the demands of the consumers and relative prices are out of balance.

What could an interventionist Austrian suggest to deal with this? He could recommend that the government create incentives to invest in industries that would have done well had the cluster of errors not occurred (these would likely be producers of consumer goods). How would the government determine the proper industries to prop up? It could not. To do so would require precise knowledge of a counter-factual state of affairs. Since the correct capital structure is a reflection of consumers' needs, the only option is to let the entrepreneurs slowly discover their mistaken investments and correct them.  Therefore, Lachmann was inconsistent with his own methodology when he advised certain kinds of intervention to alleviate the business cycle.

Lachmann as Misesian?

Part of my goal in this blog will be showing how Lachmann can be read in a Misesian light. Although the early Lachmann is much more explicitly Misesian, the later Lachmann can be read this way as well, to some extent. The later Lachmann can be seen as practicing the historical side of Mises' Theory and History. Even his kaleidic society can be taken as a sort of "what if?" historical exercise. Much of his early work also fits into the history category since it is not praxeological in nature. Rather, it attempts to understand how man can function in a changing environment.