Saturday, September 29, 2007

Liberalism vs. Pareto?

Let’s swear off the depressing subject of current events for a while. I’m working through Andrew Schotter’s Free Market Economics, a thought-provoking (and sometimes simply provoking) attack on arguments for free markets, an immanent critique that largely accepts the arguments on their own terms. Professor Schotter served on my dissertation committee at NYU; I was and am very impressed with his professional work, and know first hand that he’s not someone to be dismissed quickly. Hence I am giving his book careful study and expect it to be very fruitful.

Early on, in a chapter reviewing others’ criticisms of free market arguments, he discusses an argument attributed to Nobel Laureate Amartya Sen, although I think it is much older, an alleged contradiction between the Liberal standard of respect for individual rights and the Pareto criterion by which state of affairs a is preferable to state b if no one is made worse off by a move from a to b and at least one is made better off.

Sen’s paradox is this: Pareto optimal outcomes may be inconsistent with liberal respect for individual rights. As an illustration, suppose we have two people, Archie and Betty, and a risqué book, Lady Chatterly’s Lover. Consider three possible states of affairs: in state a, only Archie reads it, in state b, only Betty reads it, and in state c, no one reads it. Puritanical Archie has c as his most preferred state and a as his second, since he supposes he at least has the moral sense to resist being corrupted by the book. Betty, OTOH, has state a as her most preferred, since she doubts his resistance is so strong and believes he’ll lighten up after reading it. And if not that state, then at least she’d like to read it.

To recap, for A, c > a > b. For B, a > b > c. (If anyone can tell me how to insert preference operators into text, instead of inequality signs, please let me know: big reward!)

According to Schotter, Sen poses his paradox this way: suppose we use a liberal standard to compare state a vs. state c (only Archie reads it vs. no one reads it). By this standard, A’s preference must be given priority, so c > a. I gather the argument is that we ought not compel Archie to read it.

Next, let’s use the same standard to compare states b and c. Here B’s preference must be given priority, so b > c, and Betty should read it. Presumably we shouldn’t constrain Betty.

Sen then notes that together these give us the ranking b > c > a, and so b is the preferred state by the liberal criterion. However, going from state b to state a is a Pareto improvement! Hence, the two standards are in conflict. And worse, it’s apparently possible to make everyone better off by rejecting the liberal standard: we force Archie to read it and prevent Betty from reading it.

This looks like a puzzle, all right, but it isn’t clear to me what the puzzle is. The lesson that was always hammered home on me in my graduate training at Montana State and NYU is that we need to specify an initial endowment of rights; only with respect to this can a Pareto improvement be defined. Hence, for example, Coase’s emphasis on the crucial importance of the distribution of property rights. The usual illustration is an Edgeworth box. There are many Pareto optima, but the notion of a Pareto improvement is meaningless until an initial endowment has been defined. Once that’s done, any basket within the so-called lens is a Pareto improvement, and, if it’s not an optimum, it defines a new, smaller lens defining further Pareto improvements. The crucial point is that a Pareto improvement can be defined only with respect to an initial distribution of rights.

My first question for Sen’s story is "what are the rights?" Does B have the right to choose to read Lady Chatterly or not? If yes, why is a an option under consideration? If no, why is b an option under consideration? How can these both be options under a single distribution of rights? So far as I can see, states a and b are mutually excluded under a single set of rights. Hence, the alleged contradiction stems from a failure to specify a single set of rights by which a Pareto improvement can be defined.

In the Edgeworth box setting, I think the equivalent is to compare two initial endowments that generate two non-overlapping lenses. Let (0, 0) for A be the southwest corner of the box, and for B the northeast corner. Draw a lens defined in the usual way, and call the endowment that generates this lens b. Then pick a point on the interior of this set, call it a, and note that everyone strictly prefers it to b. Next pick any point that lies outside the lens and strictly to the NE of a, and call it c. Note that A prefers c to a and B prefers b to c. Are we surprised that a move from b to a is a Pareto improvement, and yet A prefers c to a and B prefers b to c? What’s the puzzle? We’re starting from two different endowments, i.e. two sets of property rights in making the comparisons. (Exercise for reader: diagram this. It’s a lot simpler than it sounds in words.) (Appeal to reader: If anyone can tell me how to easily develop graphics of this, instead of tangled verbiage, please let me know...big reward!)

This problem is important, because if the Sen-Schotter analysis is correct, then it's possible that by violating individual rights we might make everyone better off. And if I am correct, Sen and Schotter have made a mistake in their analysis, presumably without realizing it, by specifying two sets of mutually contradictory rights and treating them as one.

And of course, if a really is a Pareto improvement, the liberal standard allows A and B to contract to achieve it. Archie agrees to read the book if Betty agrees to not read it. And no liberal objects. Again, any serious attention to the distribution of rights makes this whole paradox seem misplaced.

My conclusions: First, the alleged paradox stems from a failure to clearly specify rights, and does not show a conflict between a liberal insistence on rights and the Pareto criterion. Second, it’s surprising that intelligent economists such as Sen and Schotter seem to have missed this. It’s not as though no one has said this sort of thing before, since the lessons of Israel Kirzner, Ron Johnson, Ronald Coase, Jack Hirshleifer, Steven Cheung, and many others (Vilfredo Pareto, even!) have always been available, and even right under their noses (Kirzner’s office was two doors down from Schotter’s).

Sometimes the unforeseen contingencies shouldn’t have been so hard to see.

Friday, September 28, 2007

Iraq – A Second Scenario

As a sort of footnote to American Catastrophe, I should mention another possibility for Iraq. Rather than withdraw, the U.S. might try to maintain a continuing occupation, as neocons such as Rumsfeld originally proposed. All four of the leading Republican presidential candidates (the ones who won’t to speak to blacks), take the neocon position, and so far as I can tell, so do Clinton and Obama. If one of these becomes the next president, it would be unsurprising if they tried maintaining the occupation for a very long time. In some respects this might even be a reasonable thing to do, since the status quo in the mid-East might well be better than what happens after an American withdrawal. But the drain on American morale, moral status, and wealth will accelerate.

It’s depressing. As Barack Obama tells us, we need more hope! But unfortunately he, and the rest of that pack of power-hungry rats, are hell-bent on driving us down a hopeless course.

Well, it could be worse. At least no idiots are proposing dividing Iraq into three separate countries, or labeling the Iranian military as a terrorist organization. So at least there’s a limit to idiotic ideas...

Oops. That’s right, I forgot about Congress.

The American Catastrophe, part 2

Last night I had the good fortune to hear economist Walter Williams speak at Hillsdale College on "Markets, Government, and the Common Good." Williams did a nice job presenting the case that in markets, self-interest is channeled into mutually beneficial activities, while most government action is a zero sum game (most government expenditures appear to be transfers, necessarily zero sum). He also noted the connection of these ideas to American Constitutional government, which severely limits the role of the state, and stressed the crucial importance of this for America’s success. And then, at the conclusion of his talk, he observed that if any of the founding fathers were to return from the dead and run for President today, they’d be wildly unpopular, and have no chance at all of winning. Too many of his fellow Americans don’t know or care about the Constitution, about the limits of force, or the benefits of free markets. They want free health care, free reconstruction for hurricane victims, free this that and the other, and they want it now.

It was a noticeably bitter ending to what had been an upbeat lecture, and it strikes me as perfectly correct. Too many Americans appear to have accepted the idea that federal government programs will be able to solve the supposed health care crisis. Unfortunately, federal government programs are a primary cause of rising health care prices, by creating enormous moral hazard problems. I’ll address this in more detail in some later post, but suffice it to say that the federal government became the largest purchaser of health care in the United States in the late 1960s, and its share of total expenditures has grown since, as have the problems. But never mind the rising prices; the more serious problem is that the federal government Medicare and Medicaid programs are badly unbalanced over the longer term, more so than the Social Security System.

The Bush administration has greatly worsened the situation with its "prescription drug benefit," the largest single welfare program since LBJ's "Great Society." How are these growing future imbalances, plus the current federal deficits, plus the expenses of the never ending "war on terror," going to be financed? The People's Bank of China has been the largest financier of American deficits of late, purchasing enough low-return federal debt to essentially pay the ongoing expenses of the Iraq fiasco. But the new China Investment Corporation is unlikely to continue this - America is no longer the only safe haven... or maybe not even such a safe haven at all, given the likelihood of a sharp drop in the dollar. America potentially has a financial train wreck ahead. I believe this could still be averted, but no politician with any chance of winning the presidency has any interest in fiscal responsibility. The "big four" Republicans (the ones who won't to speak to blacks) are falling over themselves promising more, not less, government interference in health care; I gather the goal is to outdo the Democrats' socialist schemes. Congress has no interest in fiscal responsibility either, but does seem to have some interest in "getting tough" with the Chinese and other foreigners who have been willing to finance their profligate spending.

We’re likely to get a Democrat president, given the current Republican penchant for self destruction, but it doesn’t matter much - both parties are bent on expanding the welfare state, when cutting it off is required. I’d like very much to wrong about this, but it’s hard to see what other outcome is possible.

But what is a "financial train wreck?" "Train wreck" is perhaps misleading, as there are several likely consequences, none necessarily as abrupt as the metaphor implies, and not necessarily concurrent.

1. Reduced capital inflow for the U.S.
2. Rising interest rates in the U.S.
3. Reduced investment and increasing bankruptcies.
4. A drop in the value of the dollar, meaning lower real income for Americans.

These are likely consequences stemming from the likelihood that foreigners will decide they have better options than investing in the U.S. The increasing fiscal imbalance as entitlements grow will also necessitate, farther in the future:

5. Substantial tax increases with additional deadweight losses.
6. Cuts in programs - forced cuts that will take recipients by surprise, rather than giving them sufficient notice so as to plan accordingly.

And - should sellers of oil ever decide they want Euros, rather than Dollars:

7. Ugh.

It’s not really a train wreck, in that these are all survivable. But it is a financial debacle, that means a decline in the American economy and lower living standards. And who knows what sort of political response that will trigger. Much of this, and the foreign policy disaster discussed in my earlier post, might have been averted had the current president not been utterly irresponsible. It might yet be averted, but who will do it?

This morning I heard former Prime Minister of Estonia Mart Laar speak eloquently on how he helped guide his country to freedom and economic success. Estonia is starting to sound very attractive right now.

Wednesday, September 19, 2007

The Rule of Law in Iraq, American-style

Quotes from an AP Story:

Prime Minister Nouri al-Maliki said the shooting was "the seventh of its kind" involving Blackwater "and these violations should be dealt with.


"Blackwater has a reputation. If you want over-over-the-top, gun-toting security with high profile and all the bells and whistles, Blackwater are the people you are going to go with," said James Sammons, a former Australian Special Air Service commander who now works for British-based AKE Group that also provides security in Iraq.

He said any civilian killings by security contractors tarnish the reputations of all of them.

"We get lumped in with that and it makes the job harder for the rest of us," said Sammons, who is AKE's Asia-Pacific regional director, based in Sydney, Australia.


A 2004 regulation issued by the U.S. occupation authority granted security contractors full immunity from prosecution under Iraqi law. Unlike American military personnel, the civilian contractors are also not subject to U.S. military law either.

Hassan al-Rubaie, a member of the parliament's Security and Defense Committee, said an investigative committee has been formed to consider lifting the contractors' immunity.

Blackwater and other foreign contractors accused of killing Iraqi citizens have gone without facing charges or prosecution in the past. But the latest incident drew a much stronger reaction by the Iraqi government.

Iraqi Hearts and Minds

I just heard General Wesley Clark, in the midst of decrying Bush policy in Iraq, he termed the recent Blackwater shootout “an unfortunate incident.” I won’t rush to judgment as to what happened, but it seems clear that unarmed nonbelligerent Iraqi civilians were shot by American civilians working for a private company. What happened? It’s the sort thing a thorough criminal investigation will sort out; and should the shooting prove to be unwarranted, presumably there will be criminal trials and punishments for those involved. Perhaps there were extenuating circumstances, and this was an unfortunate, accidental byproduct of legitimate self defense. Justice will be done, regardless.

Ha ha ha ha ha! Very funny. It looks like band of American mercenaries went crazy and gunned down unarmed Iraqis. Whether that’s what happened or not, Blackwater will be untouchable, there’ll be no serious investigation, no possibility of criminal trials, and all Iraqis know this. No wonder the American hearts and minds program is so successful.

OK, it's not funny. It's tragic, and shows -- deep down -- why the U.S. failed in Iraq. The U.S. policy really never has stood for individual rights, something Iraqis might have rallied around. It has always been first of all been about the U.S. being a "strongman," albeit an incompetent and weak one.

The American Catastrophe, part 1

I listened to almost all of General Petraeus’ and Ambassador Crocker’s testimony before the House, and a fair amount of their Senate testimony. What can be said, other than that they both confirmed that the U.S, military still fights effectively, and that the political situation in Iraq remains a disaster? It’s fine but irrelevant that some Iraqi forces are becoming more competent. So long as Iraqi political forces are sectarian, and focused almost exclusively on grabbing power, stealing wealth, and oppressing other groups, more competent military forces are a problem, not a solution. During the hearings, Stephen K. Biddle (CFR Defense Policy Fellow, former Army War College Professor, and apparently an advisor to General Petraeus) stated the current plan outlined by Petraeus and Crocker is the best we can do, and then gave it a 10 to 20 percent chance of success, with, I gather a full blown Iraqi civil war and enormous boost to perceptions that al Qaeda won should the plan fail.

I certainly hope Petraeus and Crocker are successful. I don’t believe they will be, because the political situation isn’t going to be fixed. I suspect most Iraqis do not want civil war, but a sufficiently large minority is dead set on fighting for dominance, and they’re well-armed and won’t be going away. The current government is terribly corrupt and partisan, and I doubt it will be able to fix anything.

The U.S. “surge” (how did this word become a noun, and especially one that describes a military strategy?) does seem to “work,” in that the U.S. military can perform almost any military task set before it. But the solution to the Iraqi problem is social engineering and nation building. No one in the world knows how to do that, and there are good reasons to believe that these tasks are not humanly possible. We cannot fix our own institutional and political problems, never mind constructing an entirely new system from whole cloth in a foreign “nation” that is no nation at all, but a foreign-designed concoction that has always been held together by force alone.

Hence the American Catastrophe: Once the “surge” has run its course, the situation in Iraq will be no better. Faced with an exhausted military, an angry public, and a worsening economic situation (American Catastrophe part 2), the United States will withdraw from Iraq. As the Iraqi situation degenerates into full blown civil war, the Kurds will declare official independence. Turkey will immediately launch an invasion against independent Kurdistan. What will Iran do? Join Turkey? Oppose it? Fight? Use the Mahdi Army as its proxy? What will the Saudis do when they see Shiite and Iranian ascendancy? I won’t try to guess, but the prospect that everyone will suddenly “sober up” and realize that in this power vacuum they must all restrain themselves and try to get along seems terribly unlikely.

I wouldn’t expect al Qaeda to become strong; none of these players will have any sympathy for the crazy dream of a new caliphate. But elsewhere (Pakistan, perhaps?) the perception that Muslims finally defeated the Western colonial-crusader oppressors will give al Qaeda its own surge…in popularity.

This is all “I told you so.” Nothing is surprising about this. Dick Cheney predicted all of it when he defended the 1991 decision of George H.W. Bush to not depose Saddam Hussein. Mission impossible really was, and is, impossible. The insane insistence of neoconservatives that the United States find a country to invade to prove our superpower status to the world has, as predicted by non-neocons, resulted in catastrophe: Iran empowered, and part of a growing anti-western bloc that includes China and Russia. The United States military exhausted, the U.S. budget badly unbalanced, U.S. moral authority and soft power essentially gone, U.S. prestige at an all time low, and the Middle East potentially on the verge of real war.

It’s very scary. It’s not fun to think about. And I hate writing things that have no positive conclusion. But as one Israeli military officer put it, after listening to General Petraeus’ presentation, everyone in the Middle East should be preparing for what comes after the U.S. withdraws with mission unaccomplished – and from everyone’s standpoint, it will be ugly.

In part 2, I’ll comment on the worsening economic situation in the U.S., which I attribute first of all to U.S. government fiscal policy, another aspect of the Bush legacy. And while some time ago I forswore further comment on the Bush Administration, I have something new to say regarding neoconservatism and Bush policy. All this and more is forthcoming.

UC is Back!

By Popular Demand, Unforeseen Contingencies is back. Two online comments, two offline, each from a different source. This is a far greater readership than I’d ever imagined possible, a readership obviously hungry for insightful analysis, eager for intelligent and witty commentary… and yet nevertheless faithful to UC.

“Our” hiatus stemmed from a summer with unusually slow dialup, an unusually time-consuming project (evaluating an economics program at a small liberal arts college hidden somewhere in America’s boondocks), and my growing horror at current events – I’m not happy dwelling on the growing American catastrophe.

But, dear readers, the public clamor (four comments more than I would have expected) reminds me that I have a responsibility to the public. And while I’m trying to figure out what that might be, here’s more of Unforeseen Contingencies!

[Thanks NV, Bruno, Jeff, Richard; I actually am very flattered that you all checked to see if I was posting anything new.]

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