Pluralism, Subjectivism, and Welfare Economics

Some recent posts by Rauparaha at The Visible Hand in Economics have got me thinking about the problems of subjectivism and value pluralism in welfare economics. Rauparaha is using widely-accepted methodology and taking the conventional view on this, so my criticisms are not directed at him particularly, but at the general approach taken by most welfare economists.  He says, for example:

It’s great to see the government taking economic incentives seriously. Their latest initiative considers imposing a 5c/bag tariff on plastic bags in supermarkets. The idea is that the market price for the bags doesn’t take into account the full environmental cost of non-biodegradable bags. By taxing the bags the government can adjust the market price of the bags to match their social cost.

It seems to me that the idea that government can use Pigouvian taxes and subsidies to internalise externalities stems from a combination of technocratic hubris and a fundamental misunderstanding of the concept of welfare.

First off, and least interestingly, I don’t think the messy workings of government are particularly likely to produce those policies welfare economists would find optimal. Public Choice Theory tells us to treat markets and governments on equal terms: neither businessmen nor politicians are angels and both markets and governments fail. The benevolent despot model of government implicit in much of economics is unjustified, since government is neither entirely benevolent nor under the control of a single decision-maker: it is neither benevolent nor a despot. This, by itself, doesn’t make conventional welfare economics utterly worthless, since there may be some value in specifying what it would be good to do, even if we recognise that it’s not likely to happen that way in practice.

A more fundamental problem with the idea that government can provide incentives through taxes and subsidies to induce efficient levels of consumption of some good is in the very idea that there exists a definite amount of utility, either within or across individuals, which the government can attempt to maximise.  

We value many things and these are not easily commensurable. Everyone has surely experienced the difficulty of trading off different preferences against each other: higher pay or more job satisfaction, night of pure hedonism or productive morning, new TV or new computer. Of course, we do manage to trade these things off and on average our decisions can reasonably be said to make us better off. It is only through facing the trade-offs and thus being forced to weigh them, however, that we discover what we really value. As Mises puts it:

Economic action is always in accord only with the importance that acting man attaches to the limited quantities among which he must directly choose. It does not refer to the importance that the total supply at his disposal has for him nor to the altogether impractical judgment of the social philosopher concerning the importance for humanity of the total supply that men can obtain.

I see no reason to suppose that there is something analogous to a substance that we are maximising here. When I make myself richer but have less fun in the process, I am improving my life in one sense and worsening it in another. I have demonstrated through action my preference, but why should there be any basis for supposing that I have increased the quantity of some common thing within myself called ‘utility’ to which both short-term fun and wealth can be reduced? I like Sen’s idea of utility as a vector, but I don’t think it goes far enough. It is only through trade or other decision-making that we come can come to say that good X is more valuable than good Y to agent A at time t. We cannot come to know this by simply asking them, since this does not approximate a real decision and will not put them in a genuine trading-off frame of mind. I suspect that expressive preferences are likely to dominate in such situations.

I’m tempted to say that there is no fact of the matter whether A prefers X over Y until he actually faces the choice. I have no idea whether I’d prefer world peace to a twenty percent increase in global economic growth, because this is not a decision I have ever had to make. I can make a number of arguments either way, but these are biased by how I would like to see myself. If I ever were in the position to push the button, I’m sure my decision-making would become less biased and more consequentialist. If I cannot predict in advance what I would prefer given the choice, can I really be said to have a true preference? Rather than maximising utility from some pre-defined function, human action itself in some sense defines our preferences: exchange is performative.  

All of this becomes far more problematic once we begin to consider interpersonal utility comparisons. We clearly can’t aggregate something we can’t quantify, and there is no neutral way to make tradeoffs between the preferences of different individuals. How do we trade off satisfying the preferences of many people versus leaving a few utterly miserable? How do we weigh the value of poetry and pushpin? Without individual decision-making in the real world, it’s hard to see how this is even possible in principle.

Bringing this back to taxing plastic bags: it seems likely that discarded plastic bags cause people some displeasure, and they may hypothetically be willing to give up some other resources to avoid this displeasure. What they are willing to give up, however, is fundamentally unknowable unless we create some sort of market for bag-reduction or observe the compensating differentials in bag versus non-bag areas: i.e. for practical purposes, we can’t. It is not just that we don’t know the precise value of the disutility caused by discarded plastic bags, if this were the case it might be reasonable to set a conservative Pigouvian tax and feel confident that we are improving things somewhat while not making things perfect. The real issue is that we have absolutely no idea of how people are affected, or even if they would be willing to give up anything at all to see less plastic bags, and have no reliable and realistic way of finding out.   

7 Responses

  1. Hi Brad,

    “What they are willing to give up, however, is fundamentally unknowable”

    This is the crux – fundamentally we don’t know the size of the externality, so it seems a bit tenuous to act based on the potential existence of one.

    But I would frame it another way. We believe that an externality exists – but it could be smaller or larger than our fundamental belief. There is no method as conclusive as a market at telling us how large the externality is – but surely there are other ways we can observe (or at least believe we observe) the existence of an externality.

    In this case, I don’t see why “not introducing” the tax is always the best option. After all, not setting a tax is as much a policy choice as setting a tax in the first place. Just because we can’t measure the size of the externality does not logically imply that the ex-ante best policy is a tax rate of zero …

    • I wasn’t meaning to argue here that Pigouvian taxes should always be zero (though for public choice reasons I think policy is generally bad and we’d be better off with an institutional structure that made Pigouvian taxes near impossible). My point was largely methodological.

      My point is not just that we don’t know the size of the externality, but there may be no fact of the matter as to what the size is. For things like plastic bags, I think the externalities are very close to zero despite many people expressing displeasure at them. What displeasure they do get from plastic bags is not commensurable with things for which a market exists until individuals go through the thought processes of weighing a bag-free world against a new TV or whatever. Asking people how much they dislike something is next to useless as a guide to assessing subjective value and making good policy.

      As to other ways of observing the existence of an externality: sure, sometimes. If people are spending $X to avoid or mitigate the effect of smoke from a neighbouring factory, we have a reasonable idea of the magnitude of the externality. Likewise if two neighbourhoods were identical other than the existence of a polluting factory, we could infer something about the externalities from the land prices. In these cases, human decision-making has demonstrated the extent to which an individual subjectively values a good. I suspect cases in which we can make such inferences are extremely rare.

  2. I agree about the plastic bags – the externality is far too small to justify policy.

    However, even if a externality is unobservable but signable, we can sure come up with an ex-ante probability distribution surrounding the optimal externality tax and set a tax appropriately. This is still better than a default position of no tax – and I believe there are a number of situations where this type of policy is justifiable.

    I completely agree that there are first best methods of identifying externalities – but even in the absence of these there are still a number of situations where an externality tax is justifiable. Although – I realise this relies on value judgments ;)

    • I basically agree: the argument I make does not at all imply that the default position should be zero-tax. Ceteris Paribus, I would prefer government that levy a conservative Pigouvian tax on something which produces obvious negative externalities of uncertain magnitude. I think that many purported externality-producing goods are not signable, however.

      My reasons for not getting excited about such measures in practice is my general lack of faith in government. Policy is seldom backed by sound economic logic. Prospects for increased sin taxes seem far more common than for increased Pigouvian taxes in NZ at the moment, though the arguments used by proponents are similar.

      I support genuine Pigouvian taxes given the current institutional environment, even though I would prefer an institutional environment which, as a side effect, made such policies very difficult to implement.

      I’m not so sure we can come up with an ex ante probability distribution, though. I’m suggesting that we have Knightian uncertainty rather than risk. I’m not too sure on this point, though, or how much policy-relevance it has.

  3. Knightian uncertainty – I suspected as much ;) . I believe in such a case you can still have an ex-ante set of beliefs which allow you to form policy – but as you point out:

    “My reasons for not getting excited about such measures in practice is my general lack of faith in government”

    Which is a fine position to have. Implicitly I hold more faith in the government methinks – and I suspect that this is the factor that would drive us to different conclusions …

  4. […] of anyone positing a social welfare function as the basis of policy (something I try to get at here and here). I think Arrow’s Impossibility Theorem and the impossibility of interpersonal […]

  5. interesting post. de jasay makes similar points of incommensurability between ‘prefering’ state vs stateless alternatives. they lack meaningful opportunities and awareness of the alternatives in either situations.

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