RH351 Rhetoric of Economic Thought Transparencies Set 8 Welfare economics and public policy

Welfare economics, social choice theory, and public policy Bentham (1772 – 1823) Sen (1933 – ) Borda (1733 – 1799) Condorcet (1743 – 1794) Mill (1806 – 1873) Pigou (1877 – 1959) Edgeworth (1845 – 1926) Pareto (1848 – 1923) Arrow (1921 – ) Pigou Sen Bentham Aristotle 384 – 322 B.C. Kautilya 350 – 293 B.C. Dupuit(1804 – 1866) Buchanan (1919 – )

Concerning questions about distribution: “… all these are questions of great interest and difficulty, but no more form part of the Science of Political Economy, in the sense in which we use that term, than Navigation forms part of the Science of Astronomy.” Nassau Senior, 1790 – 1864 “It will be my most cherished ambition, my highest endeavor, to do what with my poor ability and my limited strength I may, to increase the numbers of those, whom Cambridge, the great mother of strong men, sends out into the world with cool heads but warm hearts …” Alfred Marshall, “…Economics is essentially a moral science.” John Maynard Keynes, 1883 – 1946 On Ethics and Economics

“… it does not seem logically possible to associate the two studies in any form but mere juxtaposition. Economics deals with ascertainable facts; ethics with valuations and obligations. The two fields of enquiry are not on the same plane of discourse.” Lionel Robbins, 1932 “We are strongly imbued today with the view that science should be wertfrei and we believe that science has achieved its triumph precisely because it has escaped the swaddling clothes of moral judgment and has only been able to take off into the vast universe of the ‘is’ by escaping from the treacherous launching pad of the ‘ought.’” Kenneth Boulding, 1969

Vilfredo Pareto Leon Walras 1834 – 1910 Francis Edgeworth P olitical Economy does not have to take morality into account. But one who extols some practical measure ought to take into account not only the economic consequences, but also the moral, religious, political, etc., consequences” Vilfredo Pareto, Manual of Political Economy (1906) “ I n the general case … the demand function are functions of m - 1 variables which are too numerous to be represented in space. It seems, therefore, that the problem when generalized can only be formulated and solved algebraically …” Leon Walras, Elements of Pure Economics (1874) “ Welfare economics and social choice theory

Kenneth Arrow 1921 – Paul Samuelson 1915 – Gerard Debreu 1921 – Arthur Pigou H ow do we evaluate alternative social organizations? There are many possible arrangements for meeting the needs of society and they satisfy many different needs … we use the notion of efficiency or optimality that is associated with the name of Vilfredo Pareto … Now, within this context, and under certain very special assumptions … efficiency can be achieved through a particular kind of social system, the price system.” Kenneth Arrow, The Limits of Organization (1974) “ Welfare economics and social choice theory

All market equilibria are Pareto efficient. Every Pareto efficient allocation can be achieved as a competitive equilibrium (given an appropriate initial endowment and convexity of preferences) First and second “fundamental” theorems of welfare economics “With such a definition it is almost self-evident that this so-called maximum [Pareto-optimality] obtains under free competition … But this is not to say that the result of production and exchange will be satisfactory from a social point of view or will, even approximately, produce the greatest possible social advantage.” Knut Wicksell, “On the Problem of Distribution” (1902) “[Pareto optimality] does not define, uniquely, a best situation in any sense of the word … Other criteria – roughly speaking, those we associate with the term ‘distributive justice’ – have to be called into play.” Kenneth Arrow, The Limits of Organization (1974)

“…economic theory owes its present development to the fact that some men, in thinking of economic phenomena, forcefully suspended all judgments of theology, morality, and justice, [and] were willing to consider the economy as nothing more than an intricate mechanism, refraining for the while from asking whether the mechanism worked for good or evil.” William Letwin, The Origins of Scientific Economics (1963) Welfare economics and social choice theory

The concept of consumer surplus Jules Dupuit, "On the Measurement of the Utility of Public Works", 1844 Arthur Cecil Pigou, “Producers’ and Consumers’ Surplus", The Economic Journal, Wealth and Welfare (1912). The Economics of Welfare (1920).

$ P Q, Q d s D S Consumer Surplus Producer Surplus The concept of surplus

Economists to the right of them, Economists to left of them, Economists in front of them,Volley'd and thunder'd The Right Leaning Economist…  Sees externalities as an occasional market failure that calls for government intervention, but sees this as relatively rare exception to the general rule that markets lead to efficient allocations.  Sees competition as a pervasive feature of the economy and market power as typically limited both in magnitude and duration.  Sees large deadweight losses associated with taxation and, therefore, is worried about the growth of government as a share in the economy.  Sees people as largely rational, doing the best the can given the constraints they face.  Sees government as a terribly inefficient mechanism for allocating resources, subject to special-interest politics at best and rampant corruption at worst. The “Left-Leaning” Economist…  Sees externalities as a pervasive feature of modern economies.  Sees large corporations with substantial degrees of monopoly power that need to be checked by active antitrust policy.  Sees small elasticities of supply and demand (and therefore low rates of responsiveness to changes) and so is not too worried about distortionary effect of taxes.  Sees people making systematic errors and believes that it is the government’s role to protect people from their own mistakes.  Sees government as the main institution that can counterbalance the effects of the all-too- powerful marketplace. Adapted from Greg Mankiw