Ronald Coase (1910-2013) and Friedman's legacy

There will be several obituaries and posts in the next few days about Coase's contributions (see here or here, for example), to the theory of the firm (his 1937 paper here; subscription required), which used the notion of transaction costs, later used by Douglas North and other economic historians, but also central for certain discussions in Industrial Organization, and his famous Theorem (or so-called as McCloskey calls it). He won the Sveriges Riksbank Prize (aka Nobel) "for his discovery and clarification of the significance of transaction costs and property rights for the institutional structure and functioning of the economy."

An interesting story is the famous dinner in which the main Chicago economists (including Friedman and Stigler) met for dinner [David Warsh calls it the most famous dinner party in the history of modern economics] with Coase at Aaron Director's home (Friedman's brother in law) and decided that the Theorem was correct. The paper (subscription required) was then published in the relatively new (at that time, 1960) Journal of Law & Economics. I always thought that it was very revealing of the way publications, even peer reviewed ones, take place. Coase had to convince the audience, basically the Chicago School, that his arguments were valid.

Don't get me wrong convincing editors and reviewers is always part of the process. What the dinner party makes explicit is that, something that is increasingly true, is that Coase had to convince a group of people that is like minded. There was nobody with an alternative [and I don't mean heterodox or radical] perspective at the dinner party. Maybe I'm wrong, but it seems that Chicago was ahead of its time in excluding alternative views on the basis of ideological purity than other places. That's Milton Friedman's real legacy.

PS: I was traveling, and didn't post anything about David Landes death. Brad DeLong had a nice post here. I should say that I liked way more the Landes of Unbound Prometheus, than the one of The Wealth and Poverty of Nations.

Demographic transitions, Malthusian traps and supply constrained growth

Gregory Clark's book The Farewell to Alms re-popularized the Malthusian model (for the relevant chapter go here). The basic idea is that population dynamics and the so-called demographic transition do have an important impact on economic growth. Robert Malthus' idea is relatively well known, even if there is an incredible amount of confusion in the way it is explained by modern neoclassical authors.

As all classical authors, Malthus assumed that real wages tended to be at subsistence levels. He emphasized more than others, eg. Smith or Marx, the physiological elements associated to subsistence, and his theory of population influenced David Ricardo (friends sometimes will push you in the wrong direction, but this should not be exaggerated; Ricardo was no Malthus). And this has nothing to do with some Iron Law of Wages (again this reflects the fact that mainstream authors like Clark have limited, to say the least, understanding of the surplus approach; for Ricardo and other classical authors on real wages see Stirati here).*

At any rate, Malthus notion was that if wages increased, population growth would ensue and bring them back to subsistence levels, hence real wages could not grow. In the mainstream story this is connected with lack of growth of income per capita. The economy would be in a Malthusian trap.** Population growth is bad in this Malthusian world, that is why the good reverend, like modern Republicans (and I would assume more than a few neoclassical economists), was for abstinence and delayed marriages.

The idea is that higher population, for a given technology, leads to more mouths to feed. Classical ideas that suggest that the extent of the market (and, hence, population) might have a positive impact on the division of labor (who said that?) are not discussed by modern neoclassical authors (also explains their dislike of Kaldor-Verdoorn Law). At any rate, the modern theory of economic growth is still dominated by supply-side explanations, in which technological progress is either exogenous (Solow) or endogenously determined by spending on education (or some variation of the topic in the endogenous growth literature).

Demographic transitions, in which the rates of mortality and fertility decline have in this view particular effects on growth. The notion is that the initial fall in fertility leads to a lower youth dependency ratio (less youngsters to feed), and is growth enhancing. Further, mainstream authors assume that workers in the labor force would have a higher savings rate (given life cycle hypothesis arguments) and that would lead to investment (yes, Say's Law). Jeff Williamson suggests (see here) that this, the so-called demographic dividend, in part explains the Economic Miracle in parts of Asia.

On the other hand, the same population dynamics leads to higher old age dependency ratio, and that should have (even if evidence is mixed on that) a negative impact on growth. Note that Eichengreen and his co-authors, suggest that slowdowns in growth are associated to falling productivity (not population dynamics), even if they measure that using Total Factor Productivity (which is not a measure of productivity, but of the changing patterns of functional income distribution; see here).

Mind you there is a more reasonable, demand-led, explanation for why population transitions might have an impact on growth. As the process of structural transformation from agricultural to industrial societies continues, more workers are incorporated in industrial jobs with higher pay, and even if income distribution might worsen, the expansion of urban population (and higher real wages) means an expansion of demand. Obviously once the transition is done, the expansion of real wages (not just from the rural workers moving into cities) must continue. In this case, the main cause for the limits to real wage expansion (demand expansion), and continued growth, come from the balance of payments, since higher wages and consumption lead to increasing imports.

There are many more limitations in the resurgence of Malthusian views in the mainstream. Including the Social Darwinist flavor of Clark's ideas, as noted by Deirdre McCloskey (here). But I'll leave those for another post.

* The main point that mainstream intepretations of classical authors miss is that there is no systematic decreasing relation between real wages and employment in Ricardo and other classical economists, something that Stirati makes clear.

** Note also that some authors suggest that this is the basis for Carlyle's epithet the 'dismal science' for Political Economy. As noted before by Vienneau (see here): "Thomas Carlyle did not coin the phrase 'The dismal science' to refer to Thomas Malthus's anti-utopian theory of population."

More on Hirschman

Several obituaries of Hirschman have already popped up (see here, here, and here for example). Note that both Alex Tabarrok at Marginal Revolution and Rajiv Sethi (who was my econometrics teacher I should note), the economic blogs, emphasize among the many contributions of Hirschman his book Exit, Voice and Loyalty (EVL), his work as a historian of economics (Tabarrok, in particular, praising The Passions and the Interests, PI), and his interdisciplinary work (Sethi, noting his crossing of boundaries of disciplines).

I tend to find exactly that those are the less appealing and more problematic characteristics of Hirschman as a scholar. His analysis of the history of ideas is based on the policy objectives rather than on the theoretical foundations of theories. Hence, classical political economy ideas are treated in terms of their laissez faire component, which would actually make them similar to a lot of the marginalist ideas of a century later.* Note that laissez faire in the period of the rising bourgeoisie is not akin to the same policy once that class is dominant.

Note also that a bourgeois economist like Ricardo could openly suggest that capital and labor had conflictive interests, in a way that only a few years later would be considered unacceptable. Marx, a radical critic of classical political economy, could maintain the core principles of Ricardian economics exactly because of that.

Also, EVL, which shows the breadth of Hirschman's intellectual interests, is a book that emphasizes interdisciplinarity in a way that the material economic preoccupations of agents and social groups are of secondary importance. Classical political economy was in many respects interdisciplinary, in particular because it shed light on the social conflicts inherent in the determination of income distribution.

In my view the more interesting contributions are associated to his early works, in particular his book National Power and the Structure of Foreign Trade (NPSFT), which showed that relationships of dependence and the counterpart, hegemonic power, can arise out of trade relations. For those that follow the aggressive trade policies pursued by developed countries pushing Free Trade Agreements (FTAs) and Bilateral Investement Treaties (BITs) this should not be a surprise. In this context, his analysis of power in NPSFT seems more akin to the preoccupation of the old classical political economists with economic power and social conflict that his analysis in EVL.

Hirschman also wrote one of the first papers, if not the first, showing the contractionary effects of depreciations, and was as a practitioner of development policies for a big push of public investment to kick start the process of industrialization. That agenda for industrialization of the periphery is still open, and his contributions (e.g. linkages) are still relevant. Those are the good things to be remembered for, in my view.

* Coherent with his perspective mainstream Tabarrok suggest reading McCloskey's Bourgeois Virtues together with PI. The idea is that capitalism is a cultural phenomenum, that is based on bourgeois values, in Weberian fashion. I have criticized this view in another post (see also Cesaratto's post).