Recently Brad DeLong expounded on the extent to which the earnings that accrue to individuals do not correspond to the contributions total output that can be ascribed to the personal efforts of those individuals or the contributions made by resources owned by thoe people. Here’s DeLong:
Pascal Lamy: “When the wise man points at the moon, the fool looks at the finger…”
Perhaps in the end the problem is that people want to pretend that they are filling a valuable role in the societal division of labor, and are receiving no more than they earn–than they contribute.
But that is not the case. The value–the societal dividend–is in the accumulated knowledge of humanity and in the painfully constructed networks that make up our value chains.
A “contribution” theory of what a proper distribution of income might be can only be made coherent if there are constant returns to scale in the scarce, priced, owned factors of production. Only then can you divide the pile of resources by giving to each the marginal societal product of their work and of the resources that they own.
That, however, is not the world we live in.
In a world–like the one we live in–of mammoth increasing returns to unowned knowledge and to networks, no individual and no community is especially valuable. Those who receive good livings are those who are lucky–as Carrier’s workers in Indiana have been lucky in living near Carrier’s initial location. It’s not that their contribution to society is large or that their luck is replicable: if it were, they would not care (much) about the departure of Carrier because there would be another productive network that they could fit into a slot in.
All of this “what you deserve” language is tied up with some vague idea that you deserve what you contribute–that what your work adds to the pool of society’s resources is what you deserve.
This illusion is punctured by any recognition that there is a large societal dividend to be distributed, and that the government can distribute it by supplementing (inadequate) market wages determined by your (low) societal marginal product, or by explicitly providing income support or services unconnected with work via social insurance. Instead, the government is supposed to, somehow, via clever redistribution, rearrange the pattern of market power in the economy so that the increasing-returns knowledge- and network-based societal dividend is predistributed in a relatively egalitarian way so that everybody can pretend that their income is just “to each according to his work”, and that they are not heirs and heiresses coupon clipping off of the societal capital of our predecessors’ accumulated knowledge and networks.
On top of this we add: Polanyian disruption of patterns of life–local communities, income levels, industrial specialization–that you believed you had a right to obtain or maintain, and a right to believe that you deserve. But in a market capitalist society, nobody has a right to the preservation of their local communities, to their income levels, or to an occupation in their industrial specialization. In a market capitalist society, those survive only if they pass a market profitability test. And so the only rights that matter are those property rights that at the moment carry with them market power–the combination of the (almost inevitably low) marginal societal products of your skills and the resources you own, plus the (sometimes high) market power that those resources grant to you.
This wish to believe that you are not a moocher is what keeps people from seeing issues of distribution and allocation clearly–and generates hostility to social insurance and to wage supplement policies, for they rip the veil off of the idea that you deserve to be highly paid because you are worth it. You aren’t.
And this ties itself up with regional issues: regional decline can come very quickly whenever a region finds that its key industries have, for whatever reason, lost the market power that diverted its previously substantial share of the knowledge- and network-based societal dividend into the coffers of its firms. The resources cannot be simply redeployed in other industries unless those two have market power to control the direction of a share of the knowledge- and network-based societal dividend. And so communities decline and die. And the social contract–which was supposed to have given you a right to a healthy community–is broken.
As I have said before, humans are, at a very deep and basic level, gift-exchange animals. We create and reinforce our social bonds by establishing patterns of “owing” other people and by “being owed”. We want to enter into reciprocal gift-exchange relationships. We create and reinforce social bonds by giving each other presents. We like to give. We like to receive. We like neither to feel like cheaters nor to feel cheated. We like, instead, to feel embedded in networks of mutual reciprocal obligation. We don’t like being too much on the downside of the gift exchange: to have received much more than we have given in return makes us feel very small. We don’t like being too much on the upside of the gift exchange either: to give and give and give and never receive makes us feel like suckers.
We want to be neither cheaters nor saps.
It is, psychologically, very hard for most of us to feel like we are being takers: that we are consuming more than we are contributing, and are in some way dependent on and recipients of the charity of others. It is also, psychologically, very hard for most of us to feel like we are being saps: that others are laughing at us as they toil not yet consume what we have produced.
And it is on top of this evopsych propensity to be gift-exchange animals–what Adam Smith called our “natural propensity to truck, barter, and exchange”–we have built our complex economic division of labor. We construct property and market exchange–what Adam Smith called our natural propensity “to truck, barter, and exchange” to set and regulate expectations of what the fair, non-cheater non-sap terms of gift-exchange over time are.
We devise money as an institution as a substitute for the trust needed in a gift-exchange relationship, and we thus construct a largely-peaceful global 7.4B-strong highly-productive societal division of labor, built on:
- assigning things to owners—who thus have both the responsibility for stewardship and the incentive to be good stewards…
- very large-scale webs of win-win exchange… mediated and regulated by market prices…
There are enormous benefits to arranging things this way. As soon as we enter into a gift-exchange relationship with someone or something we will see again–perhaps often–it will automatically shade over into the friend zone. This is just who we are. And as soon as we think about entering into a gift-exchange relationship with someone, we think better of them. Thus a large and extended division of labor mediated by the market version of gift-exchange is a ver powerful creator of social harmony.
This is what the wise Albert Hirschman called the doux commerce thesis. People, as economists conceive them, are not “Hobbesians” focusing on their narrow personal self-interest, but rather “Lockeians”: believers in live-and-let live, respecting others and their spheres of autonomy, and eager to enter into reciprocal gift-exchange relationships—both one-offs mediated by cash alone and longer-run ones as well.
In an economist’s imagination, people do not enter a butcher’s shop only when armed cap-a-pie and only with armed guards. They do not fear that the butcher will knock him unconscious, take his money, slaughter him, smoke him, and sell him as long pig.
Rather, there is a presumed underlying order of property and ownership that is largely self-enforcing, that requires only a “night watchman” to keep it stable and secure.
Yet to keep the fiction that we are all fairly playing the reciprocal game of gift exchange in a 7.4 billion-strong social network–that we are neither cheaters nor saps–we need to ignore that we are coupon clippers living off of our societal inheritance.
And to do this, we need to do more than (a) set up a framework for the production of stuff, (b) set up a framework for the distribution of stuff, and so (c) create a very dense reciprocal network of interdependencies to create and reinforce our belief that we are all one society.
We need to do so in such a way that people do not see themselves, are not seen as saps–people who are systematically and persistently taken advantage of by others in their societal and market gift-exchange relationships. We need to do so in such a way that people do not see themselves, are not seen as, and are not moochers–people who systematically persistently take advantage of others in their societal and market gift-exchange relationships. We need to do this in the presence of a vast increasing-returns in the knowledge- and network-based societal dividend and in spite of the low societal marginal product of any one of us.
Thus we need to do this via clever redistribution rather than via explicit wage supplements or basic incomes or social insurance that robs people of the illusion that what they receive is what they have earned and what they are worth through their work.
Now I think it is an open question whether it is harder to do the job via predistribution, or to do the job via changing human perceptions to get everybody to understand that
- no, none of us is worth what we are paid.
- we are all living, to various extents, off of the dividends from our societal capital
- those of us who are doing especially well are those of us who have managed to luck into situations in which we have market power–in which the resources we control are (a) scarce, (b) hard to replicate quickly, and (c) help produce things
- that rich people have a serious jones for right now.
Compare with Hayek’s Law, Legislation and Liberty volume 2, pp. 73-74
It has been argued persuasively that people will tolerate major inequalities of the material positions only if they believe that the different individuals get on the whole what they deserve, that they did in fact support the market order only because (and so long as) they thought that the differences of remuneration corresponded roughly to differences of merit, and that in consequence the maintenance of a free society presupposes the belief that some sort of “social justice” is being done. The market order, however, does not in fact owe its origin to such beliefs, or was originally justified in this manner. This order could develop, after its earlier beginnings had decayed during the middle ages and to some extent been destroyed by the restrictions imposed by authority, when a thousand years of vain efforts to discover substantively just prices or wages were abandoned and the late schoolmen recognized them to be empty formulae and taught instead that the prices determined by just conduct of the parties in the market, i.e., the competitive prices arrived at without fraud, monopoly and violence, was all that justice required. It was from this tradition that John Locke and his contemporaries derived the classical liberal conception of justice for which, as has been rightly said, it was only ‘the way in which competition was carried on, not its results’, that could be just or unjust.
It is unquestionably true that, particularly among those who were very successful in the market order, a belief in a much stronger moral justification of individual success developed, and that, long after the basic principles of such an order had been fully elaborated and approved by catholic moral philosophers, it had in the Anglo-Saxon world received strong support from Calvinist teaching.It certainly is important in the market order (or free enterprise society, misleadingly called ‘capitalism’) that the individuals believe that their well-being depends primarily on their own efforts and decisions. Indeed, few circumstances will do more to make a person energetic and efficient than the belief that it depends chiefly on him whether he will reach the goals he has set himself. For this reason this belief is often encouraged by education and governing opinion — it seems to me, generally much to the benefit of most of the members of society in which it prevails, who will owe many important material and moral improvements to persons guided by it. But it leads not doubt also to an exaggerated confidence in the truth of this generalization which to those who regard themselves (and perhaps are) equally able but have failed must appear as a bitter irony and severe provocation.
It is probably a misfortune that, especially in the USA, popular writers like Samuel Smiles and Horatio Alger, and later the sociologist W. G. Sumner, have defended free enterprise on the ground that it regularly rewards the deserving, and it bodes ill for the future of the market order that this seems to have become the only defence of it which is understood by the general public. That it has largely become the basis of the self-esteem of the businessman often gives him an air of self-righteousness which does not make him more popular. [If only!]
It is therefore a real dilemma to what extent we ought to encourage in the young a belief that when they really try they will succeed, or should rather emphasize that inevitably some unworthy will succeed and some worthy fail — whenever we ought to allow the views of those groups to prevail with whom the over-confidence in the appropriate reward of the able and industrious is strong and who in consequence will do much that benefits the rest, and whether without such partly erroneous beliefs the large number will tolerate actual differences in rewards which will be based only partly on achievement and partly on mere chance.
Uneasy Money 
Happy new year, David.
I wrote a long comment on a previous post, and WordPress forced me to log in and then ate it.
In response to this post:
“Just because you’re rich, it doesn’t mean you deserve to be”.
Quite obviously. And so?
In the 27 years since I first encountered the ideas of Hayek and Friedman, I have never heard a libertarian or an intellectual conservative suggest that there isn’t quite a lot of luck in how people do in this respect. The case for a free society doesn’t depend on that. Even if there wasn’t a lot of luck involved in what happens after you are born, there are other things like brains, strength, and beauty that are largely inherited and not something you have so much control over. Life simply isn’t fair, but surely this should not be something surprising.
The same is of course true in respects other than pecuniary compensation. The research suggests that after a certain point that’s quite low, more money doesn’t make a great deal of difference to how happy you are. Status, on the other hand.. (for most people).
And in non-market organisations there’s quite a lot of luck too. You’re an economist at the FTC. Is it your view that there aren’t quite a lot of people in such organisations that have done less well than they ought for no fault of their own, or that have done well and have not really deserved it?
The Austrian argument for quasi-rents is not about fairness, but that people tend to notice that which it is in their interest to notice. There’s a link between Kirzner’s conception of entrepreneurial alertness (refined by Coase-Vanberg’s paper pointing out that he often neglected the creative aspect) and the Schumpeterian conception of the entrepreneur. There’s treasure everywhere if you notice things – many different ways in which one can assemble existing resources to produce a service that is more highly valued than the uses in which they are currently deployed. But the reason one notices things is because it can be profitable to do so. So abolish quasi-rents on the grounds of unfairness, and you’ll get a rather static economy.
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I agree completely. As a first step towards rectifying the injustices outlined in these posts and quotes, the University of California should fire its overpaid academics and replace them the foreign academics (via telepresence) who will do the same work for a tiny fraction of the pay.
My guess is that DeLong’s yearning for “justice” will come to a rapid end as soon as such a scheme is mooted.
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Peter Schaeffer,
I gave you one last chance; you didn’t take it. Any future comments from you will be sent to trash.
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Laeeth, Sorry about your comment, I wish I had seen it. As I interpret Hayek — DeLong can answer for himself — I believe the point is that we should not attribute any moral virtue to the high earnings that accrue to the wealthy. Certainly the right-wing rhetoric that celebrates the high earnings of the “job creators” and holds them up as paragons to be emulated is characteristic of this attitude, as was the distinction between makers and takers that Paul Ryan, based on his youthful infatuation with the obscene literary fantasies of Ayn Rand, used to think was so profound before he became the Republican nominee for vice-president. Even aside from the very persuasive reasons to think that a lot of high incomes are generated by (at least partially) anti-social behavior, high incomes reflect good luck and contributions made by other people upon whose shoulders the high-income earners are standing. That recognition does not mean that we should expropriate the earnings of the undeserving rich, it just means that we should not give them credit for being any wiser or more virtuous than ordinary mortals.
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Dear Laeeth,
You say:
“The Austrian argument for quasi-rents is not about fairness, but that people tend to notice that which it is in their interest to notice…There’s treasure everywhere if you notice things – many different ways in which one can assemble existing resources to produce a service that is more highly valued than the uses in which they are currently deployed. But the reason one notices things is because it can be profitable to do so. So abolish quasi-rents on the grounds of unfairness, and you’ll get a rather static economy.”
I am an entrepreneur, and have headed my own company for 30 years. While some entrepreneurial activity is actually creative (and I am proud of my own creativity where I have managed it), much of it consists of shifting costs to others and avoiding having others shift costs to you, seeking out defensive positions to maintain profits, and focusing your efforts on target markets that are affluent enough to buy your products–even though society would often benefit more if you focused your efforts on target markets that are as yet too immature to afford your products. In short, most of the activity in a market economy that is “profitable” isn’t the activity that is actually most creative of a social surplus, but rather is just activity that the current structure of society (including intellectual property laws, the current distribution of endowments, the often low level of awareness people have of their own interests, etc., etc.) dictates can be monetized.
So if the question is how people can be incentivized to do genuinely creative work that benefits society, I would say that contemporary capitalism gets about a C-. (Granted, this is better than the slavery of classical Greece and Rome and of medieval feudalism, but those are pretty low bars to hurdle.) This is not such a remarkably high grade that further experiments in constructing incentives should be abandoned. The current incentive structure of capitalism seems visibly defective in 50 or 60 ways I could point out, quite a few of them actively destructive to our joint social inheritance, and its hardly been my business to study or list such defects.
In other words, simply noticing that contemporary capitalism has some positive incentives for producing a social surplus, while using statements like “life isn’t fair” to avoid looking closely at how many of the ways it isn’t fair are in fact negative incentives to producing a social surplus, seems a hardly defensible intellectual position.
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Hayek also makes a similar point in chapter 6 of The Constitution of Liberty where he discusses the difference between value and merit. He says:
“If in their pursuit of uncertain goals people are to use their own knowledge and capacities, they must be guided, not by what other people think they ought to do, but by the value others attach to the result at which they aim…The fact is, of course, that we do not wish people to earn a maximum of merit but to achieve a maximum of usefulness at a minimum of pain and sacrifice and therefore a minimum of merit.” (159-160)
In other words, even when people work equally hard, we should only reward those who actually produce something of value. Neither totally “deserves” a reward more than the other, but rewarding value ensures that incentives move production in the right direction.
I think it’s unfortunate that it seems like many supporters of free markets (politicians at least) tend more toward Rand’s moral argument than Hayek’s more utilitarian defense.
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Someone please show Brad how much more readable his work can be with different formatting.
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Hi Chris,
I’m not sure Hayek’s argument is sound. He starts out by referring to “the value others attach to the result” (which he is presumably measuring in terms of the money people will pay for a service) and then moves directly to discussing “usefulness.” There may be some relationship between the price of a good or service and usefulness, but it can be, and frequently is, quite elusive. For example, people spend many billions on end-of-life medical care, but its usefulness is quite low by any objective measure. And in many, many cases price is more a measure of bargaining power than usefulness. I could multiply these examples endlessly.
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Excellent post.
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David, I see a pattern developing here where you cherry pick Hayek to tweak free marketers. It is easy to cherry pick Hayek because he had a tendency to wander. In fact many, including Hayek, think he was pretty much Rawlsian in his ethical views despite his utter contempt for the use of the word “social” and related terms such as “social justice” etc.
So I will cherry pick from something later Hayek, “The Fatal Conceit”: “It is probably true that men would be happier about their economic conditions if they felt that the relative positions of individuals were just. Yet the whole idea behind distributive justice – that each individual out to receive what he morally deserves – is meaningless in the extended order of human cooperation, because the available product (its size, and eve its existence) depends on what is in one sense a morally indifferent way of allocating its parts. …..Mankind could neither have reached nor could now maintain its present numbers without an inequality that is neither determined by, nor reconcilable with, any deliberate moral judgments. Effort of course will improve individual chances, but it alone cannot secure results. The envy of those who have tried just as hard, although fully understandable, works against the common interest. Thus if the common interest is really our interest, we must not give in to this very human instinctual trait, but instead allow the market process to determine the reward…”
Finally, I looked for the word “freedom” in your excerpt of De Long and I just couldn’t find it. This is telling.
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Earnings accrue most notably to the ruthless competitor. Shrewd businessmen who value profits above all else will be the most successful at accumulating wealth.
Only a fool would expect fairness from economic mechanisms.
The social issue this creates is an imbalance in social power. The wealthy tip the scales further to their favor by influencing the laws that govern commerce. They drain the treasury of their own government for their benefit only to saddle future generations with social debt that will diminish future economic activity at best and collapse economic faith at worse.
The root of this corruption comes from ethics based upon egoism. Do what is best for me and the invisible hand will make everything just fine. But it won’t be just fine. Egoism in the extreme is simply avarice in its most pure form.
If the more fortunate keep their money to themselves, and let our government wallow in debt, and let the poor work for sub living wage, the collapse will not be far.
Ethics need to be balanced between egoism and commonwealth. But how do we get there? According to Friedman, corporations have no social responsibility. Corporations today have free range of the globe and will place their operations in the most cost effective location. Which probably includes tax incentives that further erodes social structures provided by local government.
I don’t see an easy way out. The gap between rich and poor will grow. The deficit spending of governments will either grow or commonwealth will evaporate.
per Hayeck…
“a much stronger moral justification of individual success developed, and that, long after the basic principles of such an order had been fully elaborated and approved by catholic moral philosophers,”
I disagree with Hayeck. I think the church simply backed away from the debate. The christian religions of the west no longer care about avarice or greed. If they did, they would have said something about the price of Epipens. If they did, they would take a stand on minimum wage.
Capitalism has replaced Christianity as the religion of the west. How else can we explain the disappearance of the ninth commandment? Thou shall not lie. In the west, this law is only applied when someone is financially harmed. Otherwise, you can tell all the lies you want.
At least Canada has laws against telling lies for news organizations.
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Scott, Thanks.
gofx, I don’t think that I am cherry-picking Hayek at all. Do you think that Ayn Rand despised and vilified him because she didn’t like the way he combed his hair? I don’t know what you mean by “wander” unless you mean that he deviated from the “party line.” I don’t think that there’s anything wrong with deviating from the party line or pointing out that he did deviate from the party line.
However, there is nothing “anti-free-market” in acknowledging that the earning of the wealthy are not necessarily correlated with personal virtue or merit. If free-marketers think that is the case – and evidently many do – that’s a reflection on their lack of understanding not an anti-free-market bias on Hayek’s part or mine.
Mike, It’s a mistake to expect that people will ever stop pursuing their own self-interest. That’s too deeply ingrained for the vast majority of people to change. Private and freely transferable property rights provide a method by which people can for a wide range of activities channel their self-interest into actions that serve to benefit other people as well as themselves. Private property rights don’t just happen, they have evolved over many centuries, and in some cases they work well and in other cases they don’t and in an efficient legal system the property rights would be progressively improved to make self-interested actions more socially beneficial. But we are far from having come anywhere close to achieving such an ideal legal system. Simply moralizing about greed will not achieve the good society that people dream about. Achieving a good society requires a lot of careful and enlightened thought and analysis, not just good intentions.
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David, by Hayek’s “wandering” I mean that he had a tendency to change views over time, not from some “party-line” whatever that is, but just his own thinking as you certainly know from his monetary writings. This is perfectly fine. I learn a lot from watching him evolve and in some cases retrace his footsteps. The issue here is not “Well shucks all Brad is saying is that not everybody who is rich “deserves” to be; what’s wrong with that?” No, it’s the knock-on implication that such a conclusion implies or allows that we redistribute income. My quotation from Hayek merely points out that even if he agrees with the former, as you title asserts, he appeared at least at one point to reject the latter. So maybe the title of the post should be (paraphrasing) “Hayek agrees with BDL that just because you’re rich, it doesn’t mean you deserve to be, but rejects doing much about it because it would mess things up for everybody ”
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William,
I agree the language is a bit sloppy, but for Hayek there is no objective measure of usefulness so I think he is essentially using it synonymously with utility. If people want to spend billions on end of life care who is to say how valuable that is to them? I agree with your point on bargaining power and I think Hayek would also agree that the presence of rent seeking could mess with this mechanism (in other words wealth wouldn’t go to the most valued activities). But I think he would also argue (as I would) that much of this behavior is enabled by government interventions rather than being a natural outcome of the free market.
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gofx,
I completely agree. “You don’t deserve your wealth” does not imply “we should take your wealth and give it to other people” and Hayek certainly did not believe the latter (at least as of Constitution of Liberty he did not).
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gofx, Thanks for the clarification. I agree that Hayek was willing to change his mind. That was one of his many admirable qualities. I agree with you that Hayek and DeLong do not necessarily draw the same conclusions from the lack of correlation between earnings derived from the free market and moral desert or virtue. But I think that it is important to recognize that lack of correlation regardless of whether you agree or disagree that it is a ground for income or wealth redistribution, because nowadays there are so many people who mistakenly believe that amassing a fortune is a clear indication of superior ability or virtue. That is a mistake, and I make no apologies for pointing out that it is a mistake.
Chris, You are correct that Hayek did not support income and wealth redistribution, but he was not opposed to providing various forms of income support and social insurance to low-income people via compulsory taxes imposed by governments. He did feel that steeply progressive income tax rates rates were inconsistent with liberal principles of justice, but his argument that progressive income tax rates are inherently discriminatory does not seem to me to be compelling, though intuitively I agree that there is something objectionable about very high marginal tax rates. But no one is singled out to pay a high marginal tax rate, if you pay a high marginal tax rate it’s because your income is beyond a certain threshold. Everyone faces the exactly the same schedule of rates, so it is not clear why high marginal rates violate the principle of equal protection.
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Sometimes it is easier to manage the perception of value than it is to produce the value.
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