|
|
sanity, humanity and science post-autistic economics review(formerly “newsletter”) Issue no.
12; 15
March 2002
back
issues at www.paecon.net subscribers in over 100 countries latest economic
journalism at GEN
Subscriptions
are free, To subscribe, email "subscribe". To unsubscribe,
email "unsubscribe". To subscribe
In this issue:
- Bernard
Guerrien Is There Anything Worth Keeping
in Standard Microeconomics?
- Susan Feiner Toward a
Post-Autistic Economics Education
-
Warren J. Samuels
Ontology, Epistemology,
Language and the Practice of Economics
- Katalin Martinás Is the Utility Maximization Principle
Necessary? - George M. Frankfurter and Elton G. McGoun Quo
Vadis Behavioral Finance? Is There Anything Worth Keeping in Standard
Microeconomics? Bernard
Guerrien (Université Paris I, France)
The French students’ movement against autism in economics
started with a revolt against the disproportionate importance of
microeconomics in economic teaching. The students complained that nobody had
really proved to them that microeconomics was of any use; what is the
interest of going through “micro1”,
“micro2”, “micro3”, etc., using lots of mathematics to speak of fictitious
households, fictitious enterprises and fictitious markets? Actually, when one thinks about it, it turns out that
microeconomics is simply “neoclassical theory”. Realizing this, I agree with the French students when they
say that: 1)
In a course on economic theories, neoclassical
theory should be taught alongside other economic theories (classical
political economy, marxist theory, keynesian theory, etc.) showing that it is
just one among several other approaches; 2)
The principal elements and assumptions of
neoclassical theory (consumer and producer choice, general equilibrium
existence theorems, and so on) should be taught with very little mathematics
(or with none at all). The main
reason being that it is essential for students to understand the economic
meaning of assumptions made in mathematical language. As they study
economics, and not mathematics, students must decide if these assumptions are
relevant, or meaningful. But,
for that, assumptions must be expressed in clear English and not in abstruse
formulas. Only if assumptions,
and models, are relevant, can it be of any interest to try to see what
“results” or “theorems” can be deduced from them. I am convinced that assumptions of standard microeconomics
are not at all relevant. And I think that it is nonsense to
say - as some
people do (using the “as if” argument) - that relevant results can be deduced from assumptions
that obviously contradict almost everything that we observe around us. The main reason why the teaching of microeconomics (or of
“micro foundations” of macroeconomics) has been called “autistic” is because
it is increasingly impossible to discuss real-world economic questions with
microeconomists - and with almost all neoclassical theorists. They are trapped in their system, and
don’t in fact care about the outside world any more. If you consult any
microeconomic textbook, it is
full of maths (e.g. Kreps or Mas-Colell, Whinston and Green) or of “tales”
(e.g. Varian or Schotter), without real data (occasionally you find
“examples”, or “applications”, with numerical examples - but they are purely
fictitious, invented by the authors). At first, French students got quite a lot of support from teachers
and professors: hundreds of teachers signed petitions backing their movement -
specially pleading for “pluralism” in teaching the different ways of
approaching economics. But when
the students proposed a precise program of studies, without “micro 1”, “micro 2”, “micro 3” ... , without
macroeconomics “with microfoundations” or with a “ representative
agent ” -, almost
all teachers refused, considering that it was “too much” because “students must learn all these things,
even with some mathematical details”.
When you ask them “why?”, the answer usually goes something like this:
“Well, even if we, personally, never use the kind of ‘theory’ or ‘tools’
taught in microeconomics courses (since we are regulationist, evolutionist,
institutionalist, conventionalist, etc.) -, surely there are people who do
‘use’ and ‘apply’ them, even if
it is in an ‘unrealistic’, or ‘excessive’ way”. But when you ask those scholars who do “use these tools”,
especially those who do a lot of econometrics with “representative agent”
models, they answer (if you insist quite a bit): “OK, I agree with you that it is nonsense
to represent the whole economy by the (intertemporal) choice of one agent -
consumer and producer - or by a unique household that owns a unique firm; but
if you don’t do that, you don’t do anything!”. There are also, some microeconomists who try to prove, by
experiments or by some kind of econometrics, that people act rationally. But, to do that you don’t need to
know envelope theorems, compensated (hicksian) demand or Slutsky matrix!
Indeed, “experimental economics” has a very tenuous relation with “theory”: it tests very elementary
ideas (about rational choice or about markets) in very simple situations - even
if, in general, people don’t act as theory predicts, but that is another
question. Microeconomics:
“unrealistic ” or
“irrelevant” ? Most of the time microeconomics is criticized because of
it’s “lack of realism”. But
“lack of realism” doesn’t necessarily mean irrelevance ; the expression is usually understood as meaning that the theory in question
is “more or less distant from reality”, or as giving a more or less
acceptable proxy of reality (people differing about the quality of the
approximation). The idea is
implicitly this: “if we work hard, relaxing some assumptions and using more
powerful mathematical theorems, microeconomics will progressively became more
and more realistic. There are then - at least - some
interesting concepts and results
in microeconomics, that a healthy, post-autistic, economic theory should
incorporate”. That’s what Geoff Harcourt implicitly says in the post-autistic economics review, no.11, when he writes: Against this macroeconomic
background, modern microeconomics has a bias towards examining the behaviour of
competitive markets (as set out most fully and rigorously in the Arrow-Debreu
model of general equilibrium), not as reference points but as approximations
to what is actually going on. Of
course, departures from them are taught, increasingly by the clever
application of game theory.
Moreover, the
deficiencies of real markets of all sorts are examined in the light of
the implications, for example, of the findings of the asymmetric information
theorists (three of whom - George Akerlof, Michael Spence, and Joe Stiglitz -
have just (10/10/01) been awarded this year's Nobel Prize. From Amartya Sen on, the Nobel Prize
electors seem to be back on track). What is Harcourt saying? He is telling us that the Arrow-Debreu model has something
to do with “the behaviour of competitive markets”; he is saying that game theory can be cleverly
“applied”; he says that there
are “findings” made by Akerlof, Spence and Stiglitz. If all this is true, then students
have to learn general equilibrium theory (as giving “approximations to what
is actually going on”), game theory, asymmetric information theory, and so
on. That means that they need
micro 1, micro 2, micro 3... courses (consumer and producer choice, perfect
and imperfect competition, game theory, “market failures”, etc.). I don’t agree at all with Geoff Harcourt because: 1. The Arrow-Debreu model has nothing to do with
competition and markets: it is a model of a “highly centralized” economy,
with a benevolent auctioneer doing a lot of things, and with stupid
price-taker agents; 2. Game theory cannot be “applied”: it only tells little
“stories” about the possible consequences of rational individuals’
choices made once and for all
and simultaneously by all of them. 3. Akerlof, Spence and Stiglitz have no new
“findings”, they just present, in a mathematical form, some very old ideas -
long known by insurance companies and by those who organize auctions and second hand markets. 4. Amartya Sen, as an economist, is a standard
microeconomist (that is what he was awarded the Nobel Prize for): only the
vocabulary is different (“capabilities”, “functionings”, etc.). But, perhaps, all “post autistic” economists
won’t agree with me. It would be good then that they give their opinion and,
more generally, that we try to answer, in detail, the question: Is there
anything worth keeping in microeconomics - and in neoclassical theory? If there is, what? SUGGESTED
CITATION: ___________________________ Bernard Guerrien is the author of La Théorie des jeux
(2002), Dictionnaire d'analyse
économique (2002) and La théorie économique
néoclassique. macroéconomie, théorie des jeux, tome 2 (1999). Toward a
Post-Autistic Economics Education
Susan Feiner (Uni. of Southern Maine,
USA and The Hawke Institute, Uni. of South Australia)
Taken together, the articles by Marc Lavoie and Peter Earl
(PAE Review, no. 1; 30 January 2002) can be seen as posing a
set of interesting, important, and inter-related questions. Lavoie asks, “what are the
connections between Post-Keynesian and feminist economics?” While Earl asks,
“how can we understand, and so transcend, the resistance on the part of
students to a more “pluralistic” approach to economics education?” Lavoie’s investigation of the connections between
Post-Keynesian and feminist economics notes the importance of pedagogy, but
his essay does not discuss teaching.
Earl’s discussion of pedagogy refers to critical thinking, and the
development of student’s capacity to handle intellectual ambiguity, but his
discussion does not mention feminist pedagogy. But pedagogy reform in economics, at least in the United
States, emerged as an organic concern of feminists seeking to develop a new
approach to the discipline. Beginning in 1985 and running through at least 1997, there
were panels at various economics meetings (including the ASSA), conferences,
faculty development programs, workshops, seminars, peer reviewed published
papers, as well as a number of edited volumes produced by feminist economists
and aimed at deep transformation of the teaching of economics. In the early years, feminist interest
in pedagogy was manifest in the papers researching the presentation of topics
relating to gender and race in economics textbooks. This work demonstrated the extent to which introductory
economics textbooks perpetuated sexist and racist assumptions, reinforced
existing biases regarding the perversity of policy aimed at redressing sexual
and racial inequality, and basically ridiculed any but the “approved” points
of view on these controversial topics. Quite a number of highly esteemed, mainstream economists
were appalled by these findings.
With the help of Barbara Bergmann, I recruited such luminaries as
Robert Solow, William Baumol, Lester Thurow, Alice Rivlin, and Kenneth Arrow
to work with me on The Committee for Race and Gender Balance in the Economics
Curriculum. My point here is
that “autism” and bigotry need not go hand in hand. With a lot of hard work, a great deal of encouragement and
helpful support from many quarters, Robin Bartlett (Denison University) and I
secured a series of grants from The National Science Foundation to host faculty
development programs to help economics professors integrate the new
scholarship on women and people of color into the introductory economics
curriculum. Economics
Pedagogy and the Feminist Classroom From the outset, Bartlett and I knew that the standard
“sage on the stage” model of college teaching was not appropriate for
bringing these controversial topics into introductory economics
classrooms. How did we know
this? We were both conversant
with what was then the cutting edge “active learning,” “student centered”
approach to teaching which has its roots in the feminist revisioning of
education. As Peter Earl quite rightly points out, students come to college knowing all sorts of things, and one of the things they “know” is that the way to demonstrate “learning” is to parrot back what the teacher said. But when students are likely to disagree with the teacher (as many of them often do on the topics related to sex, race and the economy as seen from the eyes of a feminist) they are going to feel manipulated, brainwashed, and angry. When this is coupled with their almost total ignorance, if not complete misunderstanding, of the struggles for women’s liberation and racial justice, what was intended as a class discussion can turn into an awful round of name calling, intolerance, and all around bad feelings. (This is why economics professors often choose to avoid these topics). In Feminism and
Methodology philosopher Sandra Harding argues that one of the key
distinctive features of feminist research is that the researcher places
her/himself and the subject of research “on the same plane.” This epistemological position has
direct application in pedagogy. As we were trying to get economics faculty to rethink the
teacher role, we organized the faculty development conferences1 so that faculty could
re-experience the uncertainty, risk-taking, and mutual support that
characterizes classes which are open, non or minimally hierarchical, and
which actually welcome free discussion.
We knew that faculty needed to reacquaint themselves with what were
hopefully their own best experiences as students. We hoped that the insights gained from this would lead
faculty to realize the need for deep change in the structure of classroom
dynamics. The programs of these conferences2 had faculty
engage in competitive timed exercises, and then in cooperative, collaborative
exercises. We asked participants
to reflect on the different feelings these exercises provoked. Here too the recognition that
feelings and not just “right answers” are important in learning reflects
feminist epistemological commitments.
The gulf between this position and the view of personhood (if you can
call it that) embodied in Rational Economic Man should be obvious. Participants also spent a good deal of time reflecting on,
and working through, activities designed to highlight the way their own
attitudes and histories of sex, gender, race, and ethnicity had shaped them
as learners. These sessions were
invariably highly charged.
Emotions ran high as economists
recounted personal stories of being shunned, or humiliated for who they were;
we heard stories about the shame people felt when they realized that their
parents were racist, homophobic,
or anti-semitic; others told of how they had participated in harassing
behaviors; still others revealed that they hadn’t known that whiteness was
itself a racial identity. I cannot count the number of people who told me
that these sessions provided some of their sharpest insights into the
problems with the mainstream approach.
Providing a venue for self-reflection is also a hallmark
of feminist pedagogy. Feminists
have long insisted that social position affects knowledge, and that every
view is a point of view.
Feminist epistemology is clear on this point: recognizing that power
and privilege shape knowledge leads to more—not less—rigor and “objectivity”
in scientific inquiry. Faculty had to recognize that they too, were marked by the
social processes of race, gender, ethnicity, and sexual orientation. This self-awareness is an
essential pre-requisite for creating a classroom where students feel safe
enough to self-reveal. All of
our students carry a personal history relative to race, gender, class, sexual
orientation, and ethnicity.
Ignoring the emotional underpinnings of their understandings of
diversity and the social conflict attendant on diversity virtually guarantees
that a classroom discussion will explode with misunderstanding, disrespect,
or worse. Another reason why it was important to self-disclose
around our experiences is that this placed the participants outside their
“comfort zones.” Faculty (in general) and economists (in particular) are
probably not used to talking about feelings, especially not in relationship
to economic concepts. Once they
had taken this risk and discovered that the group would support them, they
could see for themselves that “the economic is as personal” as the “personal
is political.” Only after we had created an atmosphere of trust and
community did we turn to the formidable tasks of reinventing introductory
micro and macro-economics. Over
the next two days, faculty work groups developed creative exercises, all
based on active, collaborative learning, which brought questions of gender
and race to the center of classroom economic discussions. I recall a simulation exercise in
which students were to research and the represent the various people who
would be affected if a factory in the Southern U.S.A., shut down in order to
reopen in El Salvador. Another
group came up with the idea of holding public hearings on Federal Reserve
policy, with students representing a wide range of social organizations. Yet another traced the effects of
inflation on different occupational groups. One of my favorites was a skit of a romantic couple using
Becker’s logic to sort out the decision to marry. A blind eagle in a blizzard could recognize the
connections between this approach to teaching economics and feminist
pedagogy. But what is the connection
to critical thinking? The topics of gender and race are especially helpful for
introducing competing points of view because everyone “knows” that people
disagree. As Peter Earl points
out, students often believe that disagreement on such issues exist because
the “experts” still haven’t discovered the Truth. I will go out on a limb here and just flat out insist that
you cannot disabuse students of this point of view if your reading
assignments are confined to a textbook, regardless of its orientation to
economics. That means you need
to find articles that students can read—they often need help with this
because they are not especially skilled readers—that express different points
of view. Working in small groups during class will help students
learn how to read critically. In
groups of 3 to 5 have them identify the 4 most important points of each of
the articles you’ve assigned.
Make sure they reference each important point to a specific paragraph
in the essay. After you’ve
gotten these points on the board (and there should be a goodly number of
“most important points” since you have 4 points per group) the class
discussion can focus on which of these points are most important and
why. By the conclusion of this
exercise every student should understand the articles. Now you have prepared them for selecting the argument with
which they agree. A great
homework assignment: “why I
rejected argument X.” Critical thinking requires the ability to recognize and understand what are often complex arguments. In economics, the points of view associated with the heterodox approaches are quite likely to be diametrically opposed to the views of society with which students are familiar. Getting students to actually “think” about these ideas, rather than see this as an attempt to brainwash them, is tricky. So is getting students to do more than parrot back your politics. As I’ve argued here, feminism informs a pedagogy which is up to the challenge. Notes
[1] Robin Bartlett
and I were co-principal investigators on two NSF sponsored grants that funded
three summer faculty development conferences, open to all professors of
introductory economics. We also
held follow up sessions at the Allied Social Science Association
meetings. I subsequently
received another NSF grant that funded an additional three conferences for
professors of economics at community colleges, at women’s colleges, and at
historically black colleges and universities. This later conference became the jumping off point for a
Ford Foundation grant aimed at improving economics education at Historically
Black Colleges and Universities. 2 I
apologize in advance for any errors here as I am reconstructing these
programs from memory. I am
on leave in Adelaide, Australia and all my notes, grant applications, and
conference schedules are on computers in Portland, Maine. References
The inaugural article framing this critique of
mainstream education appeared in The
Journal of Economic Education, See S. Feiner and B. Morgan, Fall, 1987,
“Women and Minorities in Introductory Economics Textbooks: 1974 to
1984." Two relevant essays appearing in The American Economic Review are: S.
Feiner and B. Roberts, May 1995, "Using an Alternative Paradigm to Teach
Race, Gender and Critical Thinking," and S. Feiner and R. Bartlett, May
1992, "Balancing the Economics Curriculum: Method, Content and
Pedagogy." For an explicit discussion of the connections between
mainstream method, economic education, and racial/sexual bias see, S. Feiner
and B. Roberts, "Hidden by the Invisible Hand: Neoclassical
Economic Theory and the Textbook Treatment of Minorities and Women," in Gender & Society, June, 1990.
SUGGESTED
CITATION: Ontology, Epistemology, Language and the Practice of EconomicsWarren J. Samuels (Michigan State
University, USA) The post-autistic movement in economics is the latest,
certainly a welcome, effort to restructure and refocus the teaching and
practice of economics.
Limitations of space prevent the articulation of everything that needs
to be said about the movement but a few key points can be made, especially
regarding some ontological, epistemological, and linguistic concerns. Some preliminary points: (1) The practice of economics has always been more diverse
than Whig historians have made it out to be. This was true of both the interwar period and the period,
following World War II, of manifest neoclassical hegemony. Heterogeneity has characterized
economics as a whole, heterodox economics, and orthodox economics. (2) A driving force within economics is status
emulation. Decisions as to
department type, membership, publication outlets chosen and rewarded,
curricular content, attitudes toward mathematics and econometrics, the
sociology of training graduate students, the finessing of criticism, and so
on, are driven by considerations of rank and power. Some heterodox economists have undertaken work to
impress—be read by—leading orthodox economists rather than to promote their
heterodox paradigm. Some
economists within orthodoxy have downplayed the radical aspects of their
ideas so as to avoid endangering their status. The combination of heterogeneity and status emulation has
resulted in increased hierarchy, including the gradual weakening of
heterodoxy and general heterogeneity.
3) Every discipline, every school of thought and every
reform movement must confront the tension between being so diffuse that it
stands for very little and being so definitive that it appeals only to a
narrow and perhaps fanatical group. (4) Economists have, for almost two centuries, been
concerned that the discipline does not speak with one voice. One concern is that a multi-vocal
economics would not be perceived to be a science—and during that period of
time status emulation has increasingly taken the form of emulating one or
another version of what is perceived to be “science.” I now turn to my principal topics: ontology, epistemology, and language. Ontology has to do with the ultimate nature
of reality and of those objects that putatively comprise reality. With regard to economics, the key
questions are, first, is there a fundamental, ultimate economic reality? and,
second, if so, what is it? The realist position is that such an ultimate reality
exists. The burden of the
realist position is that realists do not agree as to what it is. One must choose between alternative
specifications of reality. The
idealist position, in partial contrast, is that no such given ultimate
reality exists and that it is thereby open to human social construction. The burden of the idealist position
is that idealists do no agree as to what it should be. One must choose between alternative
specifications of the ideal, socially constructed economy. In the light of such ubiquity of
choice, the use and role of ideology in channeling social construction is
understandable. In economics, a further dichotomy exists. The principal approach to the economy
within mainstream neoclassicism is that of positing a pure a-institutional
conceptual model of “the market” and examining it under the aegis of the
neoclassical research protocol, that of seeking unique determinate optimal
equilibrium results. The
principal alternative approach is to study actual markets and the
institutions that form and operate through them. Those who follow the former approach feel that they are
reaching conclusions applicable to all economies, even if not to any economy
in particular. Those who follow
the latter approach both wonder about conclusions that apply to no particular
economy and emphasize that—in the allocation of resources, etc.—institutions
matter. The conflict between those two approaches involves both
ontology and epistemology.
Ontology, in regard to the nature of reality: purely conceptual market or actual
institutionalized markets.
Epistemology, as to the object, domain or level of inquiry with
respect to which principles of “true” knowledge apply. This should not be an either-or matter. Abstraction is inevitable. There can be different pure
a-institutional conceptual models of the market. Some can be orthodox and others heterodox. There can be different modes of
putatively actual markets and the institutions that form and operate through
them. Some can be orthodox and
others heterodox. Individual
economists can have different notions of what constitutes interesting and
useful objects of study. Kevin
Hoover, in his message on the HES list of September 9, 2000 pertaining to
autism in economics, correctly combines the possibility, if not
inevitability, of narrow, hyper-focused research that is also, on its own
terms, quite accomplished activity. It seems to me that to some extent economics already is
ontologically pluralistic but that it is not enough so. Epistemology has to do with the rules or
criteria by which a statement is to be deemed true. Two approaches, or classes of approaches, to epistemology
have been followed. By prescriptivism,
the quest is for specific conclusively prescriptive rules; by these rules and
by these rules alone may truth be determined. By conditionism, no such singular conclusive quest is
contemplated; a variety of rules is formulated, and thinkers make their
choice (s) from among them. Transcending even those rival approaches is a fundamental
dichotomy as to the nature of truth:
rationalism versus empiricism; and a parallel one as to
procedure: deduction versus
induction. Without examining
these dichotomies closely here, it can be said, first, that both rationalism
and empiricism and both deduction and induction are also complements, each
mutually influencing the conduct of the other; and, second, that deduction
yields not truth—defined as correct description or explanation—but
validity—understood as a conclusion properly derived from premises, given the
system of logic. It seems to me that to some extent economics already is
epistemologically pluralistic but that it is not enough so. I would make the same points with regard to theoretical
pluralism, including pluralism of models. I come next to language. Here I begin with two dichotomies. The first juxtaposes language as (an
effort at) truth from language as (an effort at) power. The former has to do with description
and/or explanation as at least an end in itself; the latter has to do with
the motivation of belief and/or behavior. The former informs; the latter moves. The second dichotomy juxtaposes (through the early Ludwig
Wittgenstein) language as corresponding, in substance or logical structure,
to reality from language as a tool.
The former ties and subordinates us to reality; the latter ties and
subordinates reality to
us. One’s position with regard to these dichotomies will be
reflected in how one treats theories of profit, the existence of the Federal
Reserve System, and/or cross elasticity of supply. Other problems of language in economics include the
following. Definitions often
assume, embody, and give effect to theories, theories as hypotheses. Definitions not only define words, when
the words are used they define the world for us and that definition may
misleadingly or incompletely define the world. Very often terms are
used in a primitive or generic sense.
Terms like "private," "public,"
"voluntary," "freedom," "coercion," "property,"
“morality,” “liberty," and so on, are used with unspecified
meaning. They are kaleidoscopic,
subject to selective perception, and almost invariably given variable
specification. Their use
facilitates the entry into analysis or argument of selective implicit
antecedent normative premises.
This allows an author to escape questions of both substantive content
and the mode of its determination, thereby usually begging a, if not the,
important substantive question, leaving it to each reader to provide
substantive content. Such terms are often identified with the status quo
somehow selectively perceived--often the point at issue. Economists generally
work with some notion of a pure abstract a-institutional conceptual model of
the economy. Economists also
tend to identify the status quo with that conceptual model. This can only be done by assuming
that the primitive terms of the model are to be understood only in terms of
the status quo. One problem is
that the so-called status quo is a matter of interpretation—selectively
perceived and identified.
Second, the status quo itself is the ultimate object of inquiry. By identifying it in particular,
selective terms and identifying it with the pure conceptual model, economists
selectively reify the existing system, rendering it more concrete than it
really is. A further problem is
that the primitive terms of the model itself--such as “competition”--can be
given variable specification. Specific, definitive
texts do not necessarily have definitive meanings. Selective interpretation engenders different
reifications. As conditions and
therefore interests change, different readings of texts are advanced and
adopted. All this is part of the
role of language in the continuing social construction of reality, a putative
reality that is given selective reification. It seems to me that to some extent economists already are sensitive to
problems of language but that they are not enough so. Such views as I have promoted here can advance
post-autistic economics; and a strong post-autistic economics can advance
both such views and economics. SUGGESTED
CITATION: ____________________________ Warren J. Samuels is Professor Emeritus of
Economics at Michigan State University.
The foregoing is based in part on “Deduction and the Practice of
Economics: The Necessity of a
Sense of Limits,” Journal of Economic Methodology, vol.8 (March 2001),
pp. 99-104; “Some Problems in
the Use of Language in Economics,” Review of Political Economy, vol.
13, no. 1 (2001), pp. 91-100; "Methodological Pluralism," in The
Handbook of Economic Methodology, John B. Davis, D. Wade Hands, and
Uskali Maki, eds. Northampton,
MA: Edward Elgar, 1998, pp.
300-303; "The Case for Methodological Pluralism," in Andrea Salanti
and Ernesto Screpanti, eds., Pluralism in Economics, Brookfield,
VT: Edward Elgar, 1997, pp.
67-79, and "Methodological Pluralism: The Discussion in Retrospect," in Andrea Salanti and
Ernesto Screpanti, eds., Pluralism in Economics, Brookfield, VT: Edward Elgar, 1997, pp. 308-309. "Postmodernism and
Knowledge: A Middlebrow
View," Journal of Economic Methodology, vol. 3 (June 1996), pp.
113-120. Is the Utility
Maximization Principle Necessary? Katalin Martinás (Dept. of Atomic Physics, Roland Eotvos University, Hungary) Microeconomics and thermodynamics are both based on the idea of
exchange. In thermodynamics the
irreversibility of exchanges is a key idea and one that my physics students
sometimes have difficulty understanding. So about twenty years ago I went looking for
examples of irreversibility in
economic theory that I could use in my teaching of thermodynamics. What I found, however, was no
irreversibility in the neoclassical paradigm. As a physicist this struck me as preposterous and
incredible. Without
irreversibility, microeconomics might be a wonderful mathematical theory, but
it could not offer a theory of economic activity. This encounter marked the
beginning of my long-term interest in economic research. Most economists living today grew up with the idea, even if not
always agreeing with it, that there is and should be a master theory,
neoclassicalism. [1] Central to
this theory are the principles of utility and profit maximization. I am going to argue that in spite of
their ever-growing dominance in journals and textbooks (in Hungary they are
now taught in secondary schools), these maximization principles are neither
sufficient nor necessary conditions for building a mathematical economic
theory. “Childish pleasure” The founding fathers of modern theoretical economics chose
profit and utility maximization as foundational principles for the
description of economic decisions, a choice that resulted in a timeless
mathematical economics. From its
earliest days, however, neoclassicalism has been subject to empirical and
theoretical critiques that have called the legitimacy of its maximization
principles fundamentally into question.
Already in 1918, Gustav Cassel wrote [2]: "This purely formal [utility]
theory, which in no way extends our knowledge of actual processes, is in any
case superfluous for the theory of price. It should further be noted that
this deduction of the nature of demand from a single principle, in which so
much childish pleasure has been taken, was only made possible by artificial
constructions and a considerable distortion of reality." Cassel’s charge of childish pleasure is justified because the
existence of the utility and maximizing principles have been refuted from
various points of view. Briefly,
I will review some of the arguments. It does not exist Hall and Hintch in 1939 investigated whether entrepreneurs did
in fact conduct the price and output policy that was ascribed to them in
neoclassical theory. These
Oxford economists chose to use the 'method of direct question' to find this
out. The results were clearly negative.
Almost all business men followed a 'full cost' pricing rule, that is
they took prime (or 'direct') cost per unit as the base, added a percentage
to cover overheads (or 'indirect' cost), and made a further addition for
profit. [3] It may not exist Profit and utility maximization demand perfect information.
Moreover they need the perfect knowledge of the future too. Further, as the decisions (and
actions) take finite time, in real life the action and the result appear in
different environments.
Maximization at the moment of decision does not necessarily mean
maximization for the result. The
world changes. That problem is
"solved" via the assumption of equilibrium (not changing
environment). This results in a timeless theory. The (in)famous proof of the
existence of a general equilibrium state is in some sense a tautology, as it
is a built-in conclusion. It cannot exist It is an oxymoron for a human being to be an economic agent in
the neoclassical sense, because an economic actor cannot behave
simultaneously as a profit and a utility maximizer. [4] In standard economics, production and
consumption are two different activities done by different actors. But in reality the same human being
is often both a producer and a consumer. True, not every consumer is a producer, but all producers
are consumers. Both production
and consumption require human time, so that in reality any profit and utility
maximizing by a producer/consumer would have to be done against the same
limited fund of time.
Consequently a description of the real behavior of such agents would
have to incorporate both dimensions simultaneously. Neoclassical theory does not do this. It must not exist It violates the traditional ethical principles of humanity [5]. It does not need to exist (it is not necessary) There is a general belief that utility maximization principle is
needed to ensures an ordering of the commodity space, and that it is the only
possible approach. This is not
the case. A weaker postulate -
the no-loss rule - is sufficient to construct an economic theory [7, 8, 9,
10]. The no-loss rule The no-loss rule first appeared in the Austrian school when
Menger stated the necessary conditions for an exchange. [6] For a free exchange of goods among
economizing individuals the following triad of conditions must be fulfilled: a. one economizing individual must have
command of goods which have a smaller value to him/her then other quantities
of goods at the disposal of another economizing individual who evaluates the
goods in reverse fashion, b.
the two economizing individuals must have recognized this relationship, and c.
they must have the power actually to perform the exchange of goods. The absence of any one of the above three conditions means that
an essential prerequisite for an exchange is missing. The first condition, essential in
free economic exchange, is the no-loss rule: an economic individual never
acts if that action would result in an immediate loss. The no-loss rule is postulated as a
decision rule for economic agents instead of utility/profit
maximization. It is extremely
important to note that the no-loss rule holds only for the moment of
action. The natural and economic
environments, as well as the economic agents themselves, are in continuous
transition, so that today yesterday’s decision may seem to have been a bad
decision. The no-loss criteria
is weaker than the utility maximum principle. It presupposes only that every economic unit has common
sense, and hence does not do anything which impairs its economic state. It does not presume perfect
“rationality”, that is, it does not suppose perfect foresight, nor does it necessarily follow that the actions taken are optimal. Some basic features of the no-loss approach Under this approach an economic system (state, market, etc. )
consists of economic agents interacting through exchanges of materials
(goods), money and information. An
economic agent (EA) is the smallest entity with an implicit or explicit
decision-making rule. In most
cases the EA is either a firm or an individual. EAs are characterized by the
scope of their activities, by their knowledge, their experiences and their
stocks. Their the list of stocks
(N) may contain money (M), but money is not conceptually necessary. Every economic activity of an agent is represented as a
decision. There are 'free" decisions (concerning production and trade -
based on the economic interest of the EA) and "forced"
decisions. The latter result
from physical/biological constraints (e.g., degradation, depreciation) and
political constraints (e.g., regulations of the state, taxes, or robbery). A necessary criterion for every voluntary action (free
decisions) is that the agent’s economic welfare will not be worse than in the
initial state. This no-loss rule
only forbids those decisions which would result in a worse economic state
than the initial one. That is a fundamental difference from the utility and
profit maximization principles. The latter define the actual decision, while
the no-loss rule specifies only that an action is allowed or forbidden. The no-loss rule demands that every economic agent is
characterized by a function , called wealth function. Z(X,...,M), where X is
for stocks, and M for money. The
wealth function is a measure, in non-monetary units, of the wealth or welfare
of the economic actors. The wealth
function reflects the "wealth" state of the economic agent (individual
or firm) as self-evaluated. It
represents the potential use (including, but not limited to possible current
or future consumption), as opposed to the utility function which shows the level of satisfaction from that
consumption. In some senses the
notion of utility is retrospective (and applies only to individuals), whereas
the notion of wealth is prospective and applies equally to firms. The characterization of all agents by
a non-decreasing function parallels the traditional treatment of individuals
in economics. However,
previously firms have never been treated in this manner. The wealth function of a firm means
that the firm also evaluates commodities (in terms of it’s business and
technological possibilities) as do individual consumers. The evaluation of
stocks of commodities means that the firm is capable of anticipating the
possible changes in future wealth that a set of existing stocks affords. The most important properties of the wealth function
are: [8]. (i) Since wealth is a positive attribute (in the absence
of the possibility of net debt), a function that measures wealth must be
non-negative. Normally Z > 0. (ii) Wealth comprises all goods and money, or
money-equivalents (like receivables) that are owned outright (net of
mortgages, debts or other encumbrances). The terms "own",
"owned", "ownership" etc. are shorthand for a more
cumbersome phrase, such as "to which the economic agent has enforceable
exclusive access". (iii) An increase in the agent's ownership of stocks
of beneficial goods or money results, ceteris paribus, in an increase
in the agent's wealth. In case of an incremental increase in the stock of a
beneficial good (as opposed to a waste) we can assert dX > 0, and dZ > 0. Similarly if dM > 0, dZ
> 0. (iv) An economic agent's wealth can only increase or stay
constant (but never decrease) as a consequence of voluntary actions
consistent with the no-loss rule. The payment of taxes (for example) is
considered to be involuntary and unavoidable. (v) The wealth function may have the property of
homogeneity in the first degree. (Doubling all stocks will double wealth.)
This is a useful property when the time comes to select representative
mathematical forms. The no-loss rule defines the direction of economic
processes. An agent agrees to a
process only if it leads to dZ > 0.
A force law of economic processes is introduced. The magnitude of actions is
proportional to the anticipated
wealth increase. The
result is a non-linear non-equilibrium dynamic equation system. Computer simulations of a market
economy through the history of the individual economic actors can be
performed. These simulations
provide tools to investigate the effect of different economic policies,
institutions, environmental impacts on the economic system. In [10] we have shown how to integrate firms
in this model. We have found that the usual general
equilibrium solution is only a special case. Description of economic phenomena
with help from the no-loss rule is promising for at least three reasons.
Firstly, the no-loss rule has long been a premise for economists. Secondly, the no-loss rule can handle
straightforwardly the main elements of economic models -- consumers,
producers, commodities, trade and production. Finally, it is a
non-equilibrium approach. References: [1] Edward Fullbrook
(2001) "Real Science Is Pluralist", post-autistic economics
newsletter : issue no. 5, March, article 5. http://www.btinternet.com/~pae_news/review/issue5 [2] Gustav Cassel, Theory
of Social Economy, 1918, p.81. [3] Jack J. Vromen, Economic
Evolution, Routledge, London, 1995. [4] M. C. Jensen and
W. H. Meckling, 1994 “The Nature of Man”, Journal of Applied Corporate
Finance, Summer 1994, V. 7, No. 2, pp. 4 – 19. [5] Scitovsky,
T., The Joyless Economy.
Oxford University Press, New York, 1965. [6] Menger, Carl, Principles
of Economics, 1871 (translated by J. Dingwall and B.H. Hoselitz, Glencoe,
IL; The Free Press, 1950, cited by: Raphael Sassower, Philosophy of Economics,
UPA, NY, 1985. [7] Bródy, Andrs,
Katalin Martinás, Konstantin Sajó, Essay on Macroeconomics, Acta Oec.
36, December, 1985 :305.
Reprinted in Thermodynamics and Economics, ed. Burley, Kluwer,
1994. [8] Ayres, Robert U.
& Katalin Martinás, Wealth accumulation and economic progress, Journal
of Evolutionary Economics, December, 1996. [9] Katalin Martinás,
“Irreversible Microeconomics”, Complex
Systems in Natural and Economic Sciences, eds: K. Martinás, M. Moreau,
ELFT, Budapest, 1996, p. 114. [10] Gilányi Zsolt,
Katalin Martinás: An
Irreversible Economic Approach to the Theory of Production, Open
Systems and Information Dynamics. 7, 2000, pp. 1-15.
SUGGESTED
CITATION: Quo Vadis Behavioral Finance? In the science-fiction television and film series Star Trek: The Next Generation, there is
a species called the Borg, a collective of techno-organic drones acting in
concert as a single organism. In
their pursuit of perfection, they roam the galaxy in search of other species,
whose capabilities they acquire through a process of assimilation -- turning
their captives into Borg and effectively absorbing their knowledge into the
hive’s mind. The first line of
every encounter with the Borg is familiar to Star Trek aficionados: “Resistance is futile. Prepare to be assimilated.” It seems that this sci-fi dream world is worryingly more
than apropos to describe the state of affairs of the field of finance, both
as a scientific endeavor and a subdiscipline of economics. Academic finance has been an outgrowth
of neoclassical economics, Friedmanian instrumentalism (Friedman, 1953), and
Fama’s efficient markets hypothesis [EMH] (Fama, 1965, 1970). It is an autistic world, in which
there exists this mythical economic individual, the homo economicus
(or as our European colleagues correctly spell it: oeconomicus). This world is called financial
economics, or modern finance.
Financial economics is an orthodox world where the leaders of the
church are vigilant to nip in the bud any criticism, or questioning of this
world’s methodology. The only serious challenge to the modern finance dogma
over its fifty-year existence has been the appearance of behavioral
finance. Behavioral finance got
its start with the importation of prospect theory (Tversky and Kahneman,
1974, and Kahneman and Tversky, 1979), a challenge to the axioms of Von
Neuman and Morgenstern (1967) on which the psychological makeup of the homo
economicus is built. At
first, De Bondt and Thaler (1985, 1987) showed that contrary to the
predictions of the EMH, markets overreact. Many followers also showed under reaction. Both these “reactions” were
translated to a real-world strategy referred to as contrarian1
(See: Dreman, 1998). Concurrently, others too numerous to mention questioned the empirical proxy of the EMH, the capital asset pricing model [CAPM]. These works showed the presence of statistically significant “effects” that the CAPM could not account for. Discoveries of these effects were lumped under the rubric of anomalies. In an interview with Fama, appearing on the CAPITALIDEASONLINE.COM
website,2 Fama expands his views on behavioral finance. “Well, my good friend, Dick
Thaylor [sic., the reference is to Richard Thaler who moved a few years ago
from Cornell to Chicago in the latter university’s attempt to cover all the
bases] is kind of the guru of behavioral finance and every time he walks down
the corridor, I ask him a question.
The question isn’t a complete question, but a person on the street wouldn’t
know what was going on. My
question is always the same: Now what is it? He knows what it
refers to. It’s behavioral
finance, and the reality is they haven’t defined the top. They haven’t
defined the area. What it is at
this point is unkindly speakings, just dredging for anomalous looking things
in the data. But the fact is that even in a perfectly efficient market, every
data set would be on the foremost phenomenon just on a strictly random basis.
So that’s not evidence for or against anything. If you don’t have a specific
view of what behavioral finance is in the way it manifests itself in the
behavior of prices and returns, you don’t really have anything to work with
because everything you observe really can be rationalized in the context of
an efficient market. For example, all of these studies on behavioral finance
basically look at how prices react to different kinds of announcements. So sometimes, it seems to be the case
that prices under react, sometimes it seems to be the case that prices overreact,
but that’s exactly what you predict in an efficient market. You’re going to
see drift one way or the other, but it will be random. So if you don’t have a
theory that predicts when it’s going to under react and when it’s going to
overreact, you don’t have anything.
It looks to me like an efficient market, just a random price behavior.
" Professor Fama has a
paper coming out soon on the subject,
Market Efficiency Long Term Returns on Behavioral Finance. For Fama, the number one count on the list of indictments
of behavioral finance is it’s less than perfect prediction power. Now, let that paradigm cast the first
stone that either established a perfect record of predictions or didn’t
suffer from the discovery of anomalies.
In fact, as far as predictions go, Fama’s own research concluded that
the CAPM’s has no predictive power (Fama and French, 1992). Then what makes the EMH something
above doubt and behavioral finance “just dredging for anomalous looking
things?” In the same swoop Fama also promotes a colleague to the dubious rank of “the guru of behavioral finance.” This is not only an ill-concealed insult, but also an insinuation that Professor Thaler somehow stumbled into a major |