Mr Adam Smith
It is not just an article of faith among economists (such as yours truly) that markets allocate resources most efficiently under a set of set of assumptions; it has been mathematically proved by theoreticians and empirically demonstrated in thousands of well-documented instances. However, that does not make the proposition that markets work better than other mechanisms – such as command and control – any more intuitive or easy for people to appreciate. It is easy to misunderstand, misinterpret, and often misrepresent.
When the set of conditions required for the market to work are not met, the market fails to grind out the optimal solution. The market failures and how they are to be dealt with are also fairly well understood by economists. The meta-failure is the failure of economists to clearly communicate their understanding to the general public in layperson’s terms. There are exceptions of course. In the popular press you can read economists such as Paul Krugman, Kaushik Basu, Jagdish Bhagwati, et al. But then they are not as widely read as they should be. I say “should be” because too many people are only too ready to make pronouncements from a position of partial understanding on matters economic. Somehow it appears to them that economics is a matter of opinion and should not involve any deep thinking or questioning before they take up a position. These same people would not dream of holding opinions on say radio-astronomy or nuclear physics. But economics is fair game.
Economics is hard. And I am not making a self-serving statement because I myself find it hard, and at the risk of sounding vain I claim to be a pretty smart cookie. Which reminds me of a passage from Robert Heilbroner’s book The Worldly Philosophers: The Lives, Times, and Ideas of the Great Economic Thinkers (1953).
Keynes was having dinner with Professor Max Planck, the mathematical genius who was responsible for the development of quantum mechanics, one of the more bewildering achievements of the human mind. Planck turned to Keynes and told him that he had once considered going into economics himself. But he had decided against it – it was too hard. Keynes repeated the story with relish to a friend back in Cambridge. “Why, that’s odd,” said the friend. “Bertrand Russell was telling me just the other day that he’d also thought about going into economics. But he decided that it was too easy.” (pp 250-51)
[Put TWP on your reading list if you are the least bit curious about the people who have had, and continue to have, a profound effect on our world. One needs to have at least a passing familiarity with those worldly philosophers. I am sure that many more of us know who Einstein was and what his claim to fame is than who Adam Smith was and why he matters to us.]
Coming back to the auxiliary fact that I was attempting to make: that economics is not very clearly communicated to the general public by economists. In general they are too busy talking amongst themselves. The public is lucky to have great popularizers in many other disciplines. Where are the Carl Sagans, the Richard Feynmans, the Richard Dawkins of economics?
What versus How
What brought this line of thinking on? Despair. I despair when I see Adam Smith’s ideas misrepresented. I am not going to attempt to explain Smith’s position here, of course, as I am neither the most competent writer nor an authority on Smith’s work. What I want to do here is point out a simple distinction between what and how.
“What should be done” is an entirely different matter from “How should it be done.” If you ask me, I will answer the latter question with: “Let the market do it. If, however, there are reasons to believe that the market will fail because of such and such reasons, then we have to use mechanisms to correct for the market failures. Take care to make adjustments and corrections but let the market get the job done.” The market is a mechanism, a means to an end. What that end should be, however, is something that you have to decide. The market does not auto-magically determine the end to which it can be employed. Saying that the market will decide the goal is like leaving it up to your car to decide where you should be going.
The post on Tata’s Rs 1 Lakh Car mysteriously provoked a few to challenge my free-market credentials. It is as if I had advocated controlling the economy through socialistic planning. I had done no such thing. I had merely pointed out that cars are not the most efficient means of solving India’s transportation needs. I think Indian cities would profit from modern efficient public transportation systems. In those cities that are already so far gone that you cannot actually put a great public transportation system without impossible costs, I suggested that at least the new cities (that should be built) must have public transportation systems planned from the beginning.
I risk being a bore but let me reiterate that (1) I am for letting the market figure out the solution, (2) if there are market failures, then mechanisms must be used to correct them, and (3) what should be done is a decision that people make, not markets.
Before going any further, let’s just briefly touch upon one source of market failure in the context of transportation. Remember that market work to grind out the optimal solution subject to some set of conditions. Well, one of the conditions is called “No externalities.” In the case of private transportation, it is full of negative externalities such as air pollution and congestion. So unless that externality is internalized, the market will grind out a sub-optimal solution, and it does as seen in cities around the world.
Leadership and Vision
The answer to the question “what should be done” has to be given by society. The agents of society who have that job are the leaders, political or otherwise. They have to have the vision and the ability to do arithmetic. I should add that leadership is endogenous – it arises from within the society.
Ratan Tata is the “leader” in question when he decides that he will make the cheap car. Now he could have led alternatively. For instance, he could have called Mukesh Ambani, Aditya Birla, and other assorted movers and shakers of Indian industry and academia and said, “Guys and gals, let’s figure out what we need to do to solve India’s transportation problems. Let’s do the arithmetic and figure out which way we should go. And having figured it out, we push for that public policy to set that goal. And then we fight it out in the market to see who is most efficient and able to create the system. May the best companies win.”
I am not advocating socialism. What I am saying is that we should sit and think and talk and cogitate for a bit before we go off doing things. We should not do anything until we are reasonably convinced that it is a good thing to do.
Since I was asked, here’s my position. I don’t own a car. During my 20+ years of living in the US, I had to have a car because where I lived there was no public transportation system. Had I lived in NY City, I am sure that I would not have had a car because it is much more efficient to take public transit. But in California, you cannot survive without a car. That’s just the way it is. And had I been living there now, I would have bought a hybrid (most likely.)
I don’t own a car in India because I like cars too much and like driving too much. I feel distress (I am serious) when I see cars drive through torture test tracks (which is another description for Indian roads) and feel even more distress crawling around in bumper to bumper traffic in the cities.
I believe that the self-interest of people will make people use public transit systems – but they have to have that choice. Making that choice available is first a policy matter, and building that system is what the market is good for.