The Basic Social Rule

My latest essay:

I claim here that humans have a fundamental rule of social morality, which is: Reward cooperators; punish defectors. The use of this rule is what enables humans to work effectively with strangers, making possible sophisticated economies and civilizations. However, this rule can cause problems when people mis-classify the social actions of others.

Please read the whole thing and comment. These are ideas that I also plan to include in the Book of Arnold.

Kirzner vs. Samuelson

David Glasner writes,

In Kirzner’s view, the divergence between Mises and Hayek on the one hand and the neoclassical mainstream on the other was that Mises and Hayek went further in developing the subjectivist paradigm underlying the marginal-utility theory of value introduced by Jevons, Menger, and Walras in opposition to the physicalist, real-cost, theory of value inherited from Smith, Ricardo, Mill, and other economists of the classical school.

…as the neoclassical research program evolved, the subjective character of the underlying theory was increasingly de-emphasized, a de-emphasis that was probably driven by two factors: 1) the profoundly paradoxical nature of the idea that value determines cost, not the reverse, and b) the mathematicization of economics …The false impression was created that economics was an objective science like physics, and that economics should aim to create objective and deterministic scientific representations (models) of complex economic systems that could then yield quantitatively precise predictions, in the same way that physics produced models of planetary motion yielding quantitatively precise predictions.

neoclassical economists who developed this deterministic version of economic theory, a version wonderfully expounded in Samuelson Foundations of Economic Analysis

Pointer from Mark Thoma (!).Read the whole post, which refers to this lecture by Israel Kirzner. (Kirzner starts about 17 minutes in)

The Samuelson tradition keeps wanting to treat production technology as known and costs as objective. It is long on math and short on philosophy. For an exploration of subjective cost, see James Buchanan’s Cost and Choice. For an analysis of the ideological implications of subjective cost, see my essay.

I Would Not Publish This Paper

by Sharon Mukand and Dani Rodrik. From the abstract:

We distinguish between three sets of rights – property rights, political rights, and civil rights – and provide a taxonomy of political regimes. The distinctive nature of liberal democracy is that it protects civil rights (equality before the law for minorities) in addition to the other two. Democratic transitions are typically the product of a settlement between the elite (who care mostly about property rights) and the majority (who care mostly about political rights). Such settlements rarely produce liberal democracy, as the minority has neither the resources nor the numbers to make a contribution at the bargaining table.

Pointer from Tyler Cowen.

My problem is that the paper does not discuss North, Wallis, and Weingast, the subject of my recent review. NWW would say that a non-liberal democracy is just another form of a limited-access order. NWW have a much richer discussion of the elements needed for a transition from a limited-access order to an open-access order.

North, Wallis, and Weingast

It is not a new book, but still I wanted to review it.

Open-access orders are likely to be highly stable. Everyone who is ambitious and able to organize others is free to attempt to earn a profit or address a political problem. This gives citizens a feeling of having a stake in the system. Moreover, the layers of beliefs, norms, and institutions that precede the open-access order all serve to reinforce the order once it is in place. For example, Americans are culturally committed to free speech, disdain for corruption, and obedience to the Constitution.

This leads one to be relatively optimistic about the prospects for the United States, regardless of how one feels about recent political and economic trends.

The Greek Crisis and the Subprime Crisis

Ana Swanson writes,

Matthijs compares the situation to the U.S. subprime crisis. Who was really at fault for the housing crisis in the U.S.: The subprime borrowers who bought houses they couldn’t afford, or the predatory lenders who encouraged them to take them out?

I, too, see parallels with the subprime crisis. However, I do not think that predatory lenders are to blame for either. In both cases, bank regulators were responsible for allocating credit. In the first instance, the regulators encouraged banks to treat mortgage loans as low risk. In the second case, they encouraged banks to treat all European sovereign debt as low risk. See The Regulator’s Calculation Problem.

The irony is that after messing up credit markets, the regulators ask for and receive more power. With the sub-prime crisis, the regulators were rewarded with Dodd-Frank. I presume that the ultimate outcome of the Greek crisis will be similar.

Anil Kashyap on Greece

Probably the best analysis so far. Mostly, it is a recap of the past. But in talking about the pending referendum, he writes,

if the public sides with Tsipras government, then there will be a very sharp recession over the next few months. Tax collection is likely to collapse. The Tsipras government is unlikely to survive the economic collapse.

He also writes,

Greece should have defaulted in 2010. Its debt burden then was unsustainable and nothing since then has changed this. It is true that financial markets were much more jittery at that time, but the money that was raised to pay off the creditors in that bailout could have been diverted to support Greece and other weak countries. Once the bad rescue of 2010 was undertaken, it was inevitable that some form of debt relief was going to be necessary.

Imagine how different the political dynamics in Europe would have been if the German and French banks had been explicitly bailed out.

Pointer from John Cochrane (and from Greg Mankiw and James Hamilton). Of course, I think that explicit bailouts are exactly what the political system will not allow. Even going forward, I still think that “opaque bailout” is the most likely outcome. But I also think that there are some lessons for us.

1. At some point, you do run out of other people’s money (that is actually more true for us than for Greece, because we are bigger and therefore harder to bail out).

2. When you run out of other people’s money, political tensions rise considerably. See my essay Lenders and Spenders.

Reason Roundtable on Reform Conservatism


Ben Domenech writes,

[Yuval] Levin’s lofty governing philosophy is at odds with the incongruent grab bag of policies that reformocons offer.

That pretty much summarizes my reaction to Room to Grow, which took me several blog posts to articulate.

In terms of Jonathan Rauch’s dichotomy, the reform conservatives are closer to professional politicians, who scorn ideological purity that leaves you unable to exercise power. Libertarians behave more like amateurs. It certainly is unrealistic to expect a candidate to appeal to the Republican base by taking a libertarian view of immigration, just as it would be unrealistic to expect a candidate to appeal to the Democratic base by taking a libertarian view of education policy, health care policy, etc.

However, even if I try to think like a “professional,” I have problems with what we have seen from the reform conservatives thus far.

On foreign policy, I would like to see reform conservatives commit to not getting bogged down in another nation-building exercise. Can they stay away from promises to Americanize the Middle East and instead acknowledge that many societies around the world are not ready to become open-access orders (in North-Wallis-Weingast terminology)?

On the issue of domestic security, I have long been influenced by David Brin, and consequently I support government surveillance but with vigorous, independent auditing. Read what I wrote eleven years ago.

On economic issues, I start out by doubting that any collection of econo-wonk policy proposals is going to define the reform conservative “brand.” I certainly cannot get excited by a grab bag of tax credits.

To bring me on board, reform conservatives will have to do more than just play small ball. They will have to come front and center on one or both of two issues. One is fundamental health policy reform that leads to a higher proportion of medical services paid for by the people who obtain those services, rather than by third parties. The other is changing the path of entitlement spending to one which is sustainable.

Stability of Government

In this essay, I write,

Ultimately, it is the cultural beliefs of citizens that determines whether a limited-access order or an open-access order can remain stable. For a limited-access order, the necessity is for citizens to give enough legitimacy to the monarch to enable the monarch to rule without having to give way to an open-access order. For an open-access order the necessity is for citizens to withhold legitimacy from the government when it tries to expand too much.

Since I first composed that essay, I have come to think that open-access orders have two sources of stability. One is the fact that nearly everyone feels that they have a stake in the system. The other source is the set of norms and beliefs that had to develop to make an open-access order possible in the first place. Those layers of beliefs provide a strong counter-weight to disorderly political activism.

Do I Heart Elizabeth Warren?

Simon Johnson writes,

Senator Warren puts forward two main sets of proposals. The first is to more strongly discourage the deception of customers. This is hard to argue against. Some parts of the financial sector are well-run, providing essential services at reasonable prices and with sound ethics throughout. Other parts of finance have drifted, frankly, into deceiving people – on fees, on risks, on terms and conditions – as a primary source of profits. We don’t allow this kind of cheating in the non-financial sector and we shouldn’t allow it in finance either.

…The second proposal is to end the greatest cheat of all – the implicit subsidies received by the largest financial institutions, structured so as to encourage excessive and irresponsible risk-taking. These consequences of these subsidies have already caused massive macroeconomic damage – this is why our crisis in 2008-09 was so severe and the recovery so slow. Yet we have made painfully little progress towards really ending the problems associated with some very large financial firms – and their debts – being viewed by markets and policymakers as being too big to fail.

Pointer from Mark Thoma.

It may seem surprising that I agree with Senator Warren on both of these points. However, I disagree that the Consumer Financial Protection Board is taking the best approach to solving the problem of skilled financial firms exploiting less-skilled consumers. As I wrote here,

Regulated industries are always ready to complain about the cost of complying with bright-line regulations. However, I have the opposite objection. Particularly when it comes to the financial sector, compliance with BLR is far too easy. The bankers are always able to outmaneuver the regulators, staying within the letter of the rules while mocking their spirit.

That essay is where I proposed principles-based regulation as an alternative.