Peter Boettke draws a distinction in the history of thought between those who are optimistic about markets, and pessimistic about government intervention, and those who are pessimistic about markets, and therefore optimistic about government intervention. Taking a look at the comments, not a lot of people wholly agree with Boettke. But, I think that he’s at least partly right. The Austrian theory of the market process is built on this idea that knowledge is decentralized and that human beings are radically ignorant and fallible, taking therefore an institutional approach to social coordination — how institutions help us overcome these issues. There is a symmetric approach to governance. But, typically, this isn’t what “interventionists”1 care about.
Most economists, it needs to be said, have always acknowledged many of the weaknesses of government. One of these is a subtle trait that characterizes all parts of society, which is that social coordination is impossible unless there are ways by which individuals can communicate to each other unique sets of knowledge/information. In markets, for example, the clearest example are prices. But, apart from prices, we should also stress the role of the entrepreneur as a “discoverer” — someone who has to grapple with the unknown, and communicate new knowledge on a trial-and-error basis. Austrians are well-known for recognizing this problem very early on, and it shapes how they view markets. As a result, they also appreciate social complexity, developing the theory that these institutions are developed spontaneously; they grow out of the interaction of agents, and are not designed by a single mind.
We can apply the same approach to governance, and economists have. This is the common thread that ties up, for example, the literature on voting as an allocational device — see for example Bowen (1943) and Barzel and Sass (1990) —, or the use of migration as a profit–and–loss mechanism — e.g. Tiebout (1956) or my rough idea of competitively choosing between governments. Thus, to one extent or another government’s knowledge problem is recognized, and we can look at the institutions which have developed over time that help us achieve superior coordination through collective action.
I have criticized libertarians who are extremely skeptical of government for suffering their own “fatal conceit” — sometimes they don’t appreciate the complexity of the institutions of governance. This is not to say that libertarians don’t consider this issue at all; after all, my opinion on this matter has been shaped, in large part, by James Buchanan and Gordon Tullock. But, I think it’s true that, in general and especially outside of the journals, much of the benefits to social coordination that the right institutions of governance can bring are recognized too little by critics. They don’t take the knowledge problem as seriously as they should when they judge the government, or some part of it. As Boettke writes, the market optimism, government pessimism, tends to lead economists to put different weights on what they consider to be important, at the risk of ignoring something, that you otherwise know very well, in your analysis — especially as it concerns policy (e.g. the policy of reducing government involvement).
But, the same can be said of those who are market pessimists, government optimists. Oftentimes the knowledge problem of coordinating markets is not taken seriously. Boettke brings up Janet Yellen and monetary policy, and I think he’s absolutely right. It’s not just Yellen, but the entire institution of the Federal Reserve. Consider this excerpt from a recent Stephen Williamson post,
The Fed does indeed have a credibility problem. That credibility problem comes in part from implementing policies — quantitative easing (QE) in particular — the effects of which are imperfectly understood by economists inside or outside of the Federal Reserve System. We don’t know what mechanism is at work, we don’t have any idea what the quantitative effects are, and yet Fed officials confidently support the use of QE in public, as if they knew exactly what is going on. Further, it is well-known that the real effects of monetary policy are at best temporary, but Fed officials like Kocherlakota seem to want to argue that the failure of policy to “cure the problem” is just a license for doing more.
The limits of the Fed are rarely taken seriously. Yes, economists acknowledge that the effects of some policy or another are imperfectly understood. But, rather than seeking new “optimal” monetary policies, there is very little talk of alternative institutions. To help put the problem in perspective, consider Scott Sumner’s NGDP targeting proposal. If the Fed sets up an NGDP futures market, they can track NGDP expectations and correct monetary policy. But, this is only a very superficial solution to the knowledge problem (using the futures market as an informational channel). There needs to be more discussion on what happens when a policy fails and how to measure the success or failure of a policy. More generally, there is no serious discussion on what kind of institutions would make monetary policy more efficient.
To continue with the Fed example, consider the growing literature on free banking. We know that a privatized banking system induces competition between banks and money, constraining credit growth. But, we also know that private banking systems practiced monetary and regulatory policy of their own. For example, clearing houses established rules for membership, removing banks that did not follow them. During periods of crisis, when individual banks suffered from shocks to their assets, clearinghouses would often pool assets and issue temporary notes of their own, either to facilitate inter-bank clearings or to circulate amongst the public. When the banking system was reorganized in the 20th century, we sacrificed, to one extent or another, the possible improvements to banking institutions that would have continued to be developed, tested, and implemented by a competitive banking system (more accurately, a competitive currency market). I’m not saying that a purely private banking system is best (it may, or it may not be), but there is evidence that the Fed is inferior in many respects to alternative institutions. Yet these weaknesses — especially as it concerns its place in the division of knowledge — are taken seriously by a smaller lot of economists than it should be.
We can say the same thing about other aspects of government. Take the recent paper on the cash for clunkers program, which argues that it was comparatively poor stimulus. The common approach to this finding is that we should use our intelligence to figure out better policies. But, to stop there is to only scratch the surface of the problem. We also need to think about what kind of institutions of governance would help increase the probability of good fiscal programs, without relying entirely on human intelligence (which is limited and fallible). Markets, for example, don’t rely on entrepreneurs who always succeed at finding good investment. The market has developed institutions to weed out failure and minimize the costs of these failures. Economists who advocate for fiscal policy rarely consider this issue; it’s not a problem that informs their policy recommendations.
I agree with Boettke that there seems to be a line of separation between two groups of economist. But, rather than market optimist/pessimist and government pessimist/optimist, we should classify economists by those who take the knowledge problem seriously and those who don’t. Austrians are very good at recognizing the knowledge problem — even if they sometimes forget to apply it fairly to governance —, and I think that other economists are oftentimes, unjustifiably, less worried about it and therefore consider it less.
1.”Interventionists” is a loaded term, but I use it only to help distinguish one class of economists. I don’t mean to imply that being an interventionist is necessarily bad.