Dissent From Neoclassical Economics

1. Dissent From Neoclassical Economics • Despite the influence of Marshall some economists rejected the neoclassical framework • American Institutionalism • Fabian Economists in the UK (associated with the Labour Party)

2. American Institutional Economics • The term “institutional economics” introduced by Walton Hamilton in 1918 • Hamilton characterized neoclassical theories as sterile exercises in value theory • Institutional Economics would: • Unify theory and application • Be relevant for “social control” • Focus on institutions as the changeable elements of economic life and as the agencies for control • Be concerned with “process” • Be based on modern psychology • Be more properly “scientific”

3. Sources of Institutionalism • This conception of an institutional economics came from several sources • The work of Thorstein Veblen and Wesley Mitchell • American progressivism and reformism • A general concern in American social science to become more scientific through quantitative and “fact based” investigation

4. Thorstein Veblen • Son of Norwegian immigrants to Minnesota • Taught by J. B. Clark • Much influenced by evolutionary ideas of Darwin, Spencer, and others • Well versed in Marx and socialist thinking • Difficult academic career at Chicago, Stanford, Missouri, and The New School • Very ironic writing style

5. Veblen’s Critique of Neoclassical Economics • Attack on the hedonistic psychology underlying neoclassical economics—replace with a “modern psychology” based on concepts of instinct and habit • Attack on the notion of economic laws as “natural” and given—economic arrangements are institutional • Attack on the notion of “normal” equilibrium states—need to look at cumulative institutional change • Attack on neoclassical confusions between monetary values and real quantities—ie capital as $ and as machines

6. Veblen’s Critique of Consumption • Theory of the Leisure Class 1899 • People are concerned with relative social standing • Idea of conspicuous consumption to display wealth or conspicuous leisure • Snob and bandwagon effects • This use of consumption behavior to display social standing evolved from displays of warlike prowess in earlier times • “Waste” of conspicuous consumption

7. Veblen’s Critique of the Institutions of Business • Theory of Business Enterprise 1904 • Absentee Ownership 1923 • The institutional framework surrounding business activity had developed in the time of handicraft • Since then large scale machine production had developed • Since then methods of corporate finance had developed • Distinction between business and industry • Are the institutions of business suitable for the control of large scale industry?

8. Problems of Business Enterprise • Gradual separation of financial control from technical expertise • Large owners interested in financial gain that may not coincide with traditional notions of efficient production • Insider dealing, manipulation of stock prices, takeovers and capitalization of “goodwill” • Firms operated in ways that may damage the interests of holders of bonds, preferred stock, or smaller common stock holders

9. Problems of Business Enterprise • Trusts, holding companies, interlocking directorates • Business Cycles due to competitive recourse to loan credit (including stocks) which creates an eventual discrepancy between the firm’s capitalization and its true earning capacity—and a liquidation occurs • New technology lowering costs also tends to lower profits on older plants • Ultimately an effective monopoly control of many major industries in order to maintain prices and profits

10. Problems of Business Enterprise • Modern business also engages in competitive salesmanship and advertising • Arms race type of competition that is wasteful • Misinformation, misleading advertising, questionable sales tactics, etc • Sate and governmental promotion of business interests • Business principles applied to non-business institutions--universities

11. Veblen and the Engineers • Veblen’s work is a root and branch attack on the idea that the individual’s pursuit of private economic gain will lead to socially desirable results • The invisible hand of Adam Smith may have applied to handicraft industry but not to conditions of corporate finance and large scale industry • Suggested a “Soviet” with economic planning done by engineers (1921)

12. Veblen and Later Institutionalists • Few other institutionalists were as radical as Veblen • Institutionalism was critical of existing business institutions but became reformist • Business regulation • Advertising and product standards(consumer protection) • Regulation of stock markets • Unemployment relief, workmen’s compensation, social security • Labour law

13. Wesley Mitchell • Student of Veblen’s at Chicago • Later at Berkeley and Columbia • Combined Veblen’s concern with the adverse effect of business institutions with a quantitative approach • Early work on the “Money Economy” project • Psychology and economics (1910) and the Economics of the Household (1912)

14. Wesley Mitchell • Came to focus on the problem of business cycles • Business Cycles 1913 • Business cycles emerge at a particular point in the development of business or pecuniary institutions • Importance of a developed banking and credit system and larger scale firms

15. Business Cycles • Business cycles are due to complex interactions between • Profit seeking activity of businesses • The behavior of banks • Leads and lags in the movement of prices and wages • Close and detailed analysis of the course of a cycle—an analytic description. Four phase cycle. • Link between quantitative research and the institutional point of view

16. Mitchell and the NBER • Mitchell and others founded the NBER in 1920 • To provide resources for statistical and quantitative research • To do scientific and unbiased analysis • National income measures • Business cycle research • Dating of cycles • Specific and reference cycles • leading indicators • To provide “objective” information to government, but not to give direct policy advice • “Measurement Without Theory” debate--1947

17. J. M. Clark • Son of J. B. Clark • The accelerator mechanism, 1917 • A version of bounded rationality, 1918 • Overhead Costs 1923—price discrimination, price inflexibility • Social Control of Business 1923—business affected by a public interest, monopoly regulation, consumer protection, problems of externalities, public goods etc.

18. J. M. Clark • Work on business cycles and public works programs during the New Deal • Concept of “workable competition” and of Competition as a Dynamic Process • Critique of mathematical approaches and plea for communicability

19. J. R. Commons • Career at the University of Wisconsin • Studies of labour unions • Pioneered public utility regulation, workman’s compensation, and unemployment insurance in Wisconsin • The Legal Foundations of Capitalism 1924, and Institutional Economics 1934 • Focus on law and economics

20. J. R. Commons • Concept of a transaction as a transfer of rights • Transactions take place within a context of rules—custom and law. Working Rules. • Bargaining transactions—transfer of property rights between legal equals • Managerial transactions—command and obedience • Rationing transactions—collective superiors

21. J. R. Commons • Working Rules change over time affecting the distribution of benefits and burdens • Conflict of interest—disputes settled by courts—common law, or by legislatures • Courts and “reasonableness” • Legislatures and “log rolling” • Problem of representation of interests. Proportional Representation; Occupational Representation?

22. Institutionalism in the Interwar • Became a significant movement in American Economics • At Columbia, Wisconsin, Brookings Graduate School • Heavily involved in the improvement of government statistics • Much involved in the New Deal • New Deal “planners”—Tugwell, Ezekiel, and Means • Commons’s students and social security and labor legislation

23. Institutionalism in the Interwar • Later New Deal—Keynesian macro economics and revival of anti-trust • Some institutionalists shifted to Keynesian ideas but criticism of Keynesian economics as well. • Keynesian economics, new developments in neoclassical microeconomics, in econometrics, and in methodology led to the decline of institutionalism

24. British Fabians and Socialists • A movement also arose in the UK nor entirely dissimilar to American institutionalism • Many were associated with the Labour Party, Fabian Society, and with policy reform • Sidney and Beartice Webb—labour movement, cooperatives • G. B. Shaw, Graham Wallas, J. A. Hobson • Concern with unemployment issues, unemployment insurance, income redistribution, nationalization of the coal industry, etc.

25. J. A. Hobson • Hobson was well known on both sides of the Atlantic • Wrote on • Cycles and Unemployment • Imperialism • Welfare criteria • Major books: • The Physiology of Industry 1889 • The Evolution of Modern Capitalism 1894 • Problems of the Unemployed 1896 • Imperialism 1902 • Work and Wealth 1914

26. Hobson on Cycles • Rejected Say’s Law • oversaving or underconsumption • Inequality in the distribution of income leads to higher rates of saving and lower levels of consumption • Savings are relatively insensitive to interest rates and tend to become investment • In an upswing wages lag behind prices transferring income to profits • This leads both to a constraint on the growth of consumption expenditure and to more investment which adds further to the volume of output

27. Hobson on Cycles • Eventually profitable prices cannot be maintained and the economy will go into a recession • Solution is in greater equality of incomes—redistribution • Hobson’s views attacked by Edgeworth—Hobson lost his work as an extension lecturer in economics • Later regarded by Keynes as a precursor of Keynesian economics

28. Concept of Surplus • A feature of the work of many Fabians is their concept of Rent or Surplus • Both land and capital can yield an unearned increment (Rent) • This rent due to community efforts and should be returned to the community (Webb, Shaw) • Nationalization of land and major industries (Webb, Hobson) • For Hobson total product could be divided into what is required to maintain existing factors, what is required for growth, and a “surplus” • Important to ensure that more goes to growth and less to surplus

29. Hobson on Welfare • Influenced by Ruskin • Thought that economics was too narrowly focused on monetary costs and benefits • For policy purposes need to consider wider ethical purposes • “Human” costs and benefits • A standard of human well being in place of the monetary standard of wealth • Social progress