ESIC 2018 DOI: 10.26613/esic/2.1.64 Economic Theory and Social Policy: Where We Are, Where We Are Headed Herbert Gintis Abstract Standard economic theory has told us for more than half a century that, to attain a high level of social welfare, there is no viable alternative to a market economy regulated by a powerful state. Critics often represent standard economic theory as a doctrinal defense of the free market. The truth is quite the opposite. Free market ideology is unfounded. Stan- dard economic theory provides the proper framework for analyzing market failure. This theory must of course be supplemented by a theory of state failure, as well as a theory of nonstate solutions to market failures. Standard economic theory offers a poor approach to macroeconomic dynamics, but we complexity and evolutionary theorists are working on correcting this situation. Keywords: neoclassical economic theory, general equilibrium theory, economic policy, evolutionary economics, complex dynamics RADICAL ECONOMICS AND BEYOND In the midst of bloody wars at home and abroad, with my professors either oblivious While studying for my PhD in mathematics to or mildly-to-avidly supporting the war in at Harvard, I became deeply involved in the Vietnam, I was certain that the economic theory anti-Vietnam war and civil rights movements. they espoused must be deeply flawed and began Feeling an uncomfortable gap between the to develop an alternative. How deeply disaf- abstractness of mathematical theory and con- fected was I? Here are the final sentences of a creteness of radical politics, I completed my paper I published in the orthodox American master’s in math, and switched to the PhD pro- Economic Review at that time: gram in economics at Harvard, producing some years later, at the height of the influence of the We [young economists] must be outlaws to radical student movement, a doctoral disserta- preserve our sanity and to seek a decent world tion entitled “Power and Alienation: Towards for our children. We must be outlaws because a Radical Welfare Economics.” In the process, … our expertise is otherwise … perverted I studied Marxian economics, helped to found toward ends incompatible with our personal the Union for Radical Political Economics, and self-realization in our work. But we will not be penned bitter critiques of the brand of standard outlaws forever. Join us. (Gintis 1972) neoclassical economics I learned at Harvard. I made a good living at this, and wrote a rather After finishing Schooling in Capitalist America, well-received book with my longtime coauthor Bowles and I initiated an ambitious study of Samuel Bowles entitled Schooling in Capitalist market socialism, and we began to advocate a America (Bowles and Gintis 1976). version involving democratically organized and Herbert Gintis worker-controlled firms (Bowles and Gintis school many years ago. This theory implies that 1990, 1996). But there was a problem with a successful economy will never be a free market our theory that resisted solution: if worker- economy, but rather will exhibit a high degree controlled firms would be at least as efficient as of social regulation to neutralize the effects of capitalist-controlled firms, why did such firms market failures. Second, the standard general not simply win out on competitive markets? equilibrium model in fact provides as strong One could offer silly reasons, such as collusion support for the viability of a state socialist econ- among capitalists to undermine democratic omy of the Soviet type as it does for a capitalist workplaces or laws that disfavor economic economy (Lange and Taylor 1938; Schumpeter democracy. But we considered such explana- 1942; Gintis 1991). Therefore the econo- tions as implausible at best. We concluded, on mist’s chief model of economic exchange has the basis of standard economic reasoning, that no sociopolitical bias whatever. Unfortunately, such firms cannot enjoy the benefits of widely the standard informational assumptions of this dispersed ownership characteristic of large capi- model—especially the assumption that a state talist firms (Gintis 1989). planner has complete information concerning This experience guided me to three rather all production processes, technological alterna- momentous conclusions. First, the market tives, and consumer and worker preferences— socialist economy based on worker control is no are implausible (Hayek 1945; Gintis 1991). more feasible than the state socialist economy as This undermines its support for state socialism, an alternative to capitalism. Therefore we must but not for a socially regulated market economy. embrace capitalism and search for correctives that provide social justice with high efficiency. COMBATTING ECONOMIC ILLITERACY Second, standard economic theory, despite its flaws, is often powerfully insightful. We should Progressives and conservatives alike tend to thus embrace this theory, dynamicize it, and characterize standard economic theory as a correct its flaws. Third and finally, Marxism is justification of free markets. Conservatives like a great way to develop a broad, dynamic, inter- the idea, and progressives do not. Therefore disciplinary view of social theory, but it is quite there is a strong tendency in progressive circles out of its depth as a serious economic theory. We simply to reject standard economic theory and should look elsewhere (especially to complexity to embrace one or another “heterodox” alterna- and evolution) for inspirational new directions tive. Both groups are misinformed, to the point in economic dynamics. I have thus spent the of being economically illiterate concerning the rest of my professional life trying to build on the received wisdom of economic theory. success and correct the flaws of standard neo- It may seem that there is no politically neutral classical economic theory using insights from received wisdom that is shared by most econo- the other behavioral disciplines and deploying mists, but this is not the case. Except in the area the tools of complexity analysis. of macroeconomic policy, there are few disagree- Most of my radical economist friends did ments. In the macroeconomic area, as I describe not follow this path, arguing that standard below, the standard models are pretty awful. But economic theory is simply an apology for free economic policy has a deeper problem: simple market capitalism. This view is wrong for two models can show you the general direction of reasons. First, as I shall describe below, stan- effects, but when there are offsetting tendencies, dard public economics, fully integrated into only quantitative evidence can supply a credi- standard economic theory, provides a power- ble answer. For instance, increasing government ful taxonomy of market failure, one that is as expenditure to lower the unemployment rate cogent today as when I learned it in graduate may be offset by the effects of government debt 2 Evolutionary Studies in Imaginative Culture Economic Theory and Social Policy: Where We Are, Where We Are Headed on interest, inflation, and growth rates. Only Finally, the book rather slights statistical careful attention to details can determine the information on the economy and gives little net effect of the policy, and even this is subject historical perspective. to significant error. Tom Gorman, The Complete Idiot’s Guide to However, one cannot even begin to assess Economics (Penguin, 2003) economic policy seriously unless one knows basic economic theory. The books mentioned This book is a little out of date, and is especially below are basic starting points for gaining a concerned with regulatory policy in dealing facility in economic theory. Alternatively, you with market volatility (the business cycle). can simply buy one of the leading undergradu- It has lots of interesting statistics, and gives a ate textbooks and plow through it. The textbook detailed explanation of the Federal Reserve and will be more demanding, very fat, and quite its operation. It is similarly strong on analyzing expensive. Before doing this, I advise that you international trade and exchange rates. Read tackle one or more of the following volumes. this after Economics for Dummies. They are all quite good, and it wouldn’t hurt Steve Slavin, Economics: A Self-Teaching to read them all. But here are my impressions. Guide (Wiley, 1999) Charles Wheelan, Naked Economics: Undressing This book does not deal with recent economic the Dismal Science (W. W. Norton, 2010) issues, but it is well worth reading. It is especially Wheelan explains the benefits and limitations strong on economic history and it presents in of markets, the benefits and limitations of some detail the various schools of thought in government interventions, the basics of finance macroeconomic theory. It also does consid- (especially, how to avoid the costly errors that erable national income accounting, which I about 50% of investors are prone to make, consider a prerequisite to understanding current such as believing they can pick winners), and economic issues. Its microeconomics sections the role of international competition. There are rather brief. It is certainly not a substitute is nothing that Wheelan asserts that I think for Economics for Dummies. is not 100% correct, including his exposition After this, I would tackle the more formal free of development economics and globalization. online CORE course on introductory econom- Highly recommended. ics at http://www.core-econ.org, developed by my coauthor Sam Bowles and other colleagues. Sean Flynn, Economics for Dummies (Wiley, 2011) PROBLEM AREAS OF STANDARD ECONOMICS This book is the most sophisticated of the three and covers extremely important material left There are two problem areas with the standard out of the others. This includes an analysis of neoclassical model, which I will identify here property rights, market externalities, public with the Walrasian general market interaction goods, asymmetric information, and other model, as described below. The first is that the absolutely fundamental aspects of modern eco- model is good at equilibrium analysis, but has nomic theory, which is really the theory of the no serious treatment of economic dynamics.