Saturday, February 12, 2011

Final Jeopardy! (3)

The last point I wanted to make on the issue of tournament incentives is really just to reiterate what Doug said in a post several days ago: economists need to be aware of the principles of justice that people perceive in non-market allocations.

Earlier this week I was saddened to hear of the passing of my friend and former colleague Edward Zajac who introduced to me the idea of The Political Economy of Fairness. One of the biggest errors that economists can transmit is that, because we study the market we perceive that market transactions are the dominant form of human cooperation. Of course, this is not the case. Two obvious counter-examples are things such as the family and voluntary associations. However much we debate the proper scope of government, I think that everyone can agree that some core government functions such as the armed forces are organized primarily in a non-market setting. But even in the "private" sphere the reality is that private, decentralized voluntary action is constantly redefining the boundary between the organization of productive activity as a market as opposed to the hierarchy. (The works of such luminaries as Alchian, Coase, and Williamson attest to this). The most important feature of a market economy is not that most economic activity is market-organized, but rather that it is market disciplined. (We should also add that even governments can disciplined in some ways by the market. A university has to compete in the market for labor for faculty, staff, and administrators and in the markets for inputs. Simply existing as a quasi-government entity could not, for example, insulate a university from the effects of a shortage of inputs caused by price controls. If a university decides that it is not going to pay Accounting faculty more than Economics faculty, it may find it difficult to fill its faculty positions in Accounting.)

What we can't forget is that it is equally true that a ) through the market, Ford, Xerox, Microsoft, Apple, Google and so forth have transformed not only business but society, but b) each of these organizations has set a boundary between market exchange and hierarchical allocation. The Boards of Directors of these corporations act as political committees, not as markets. Inside a hierarchy or acommittee, the participants are going to react to principles of justice and fairness. The same goes for allocations inside a family, inside a church, inside a university, or inside a branch of the armed forces. And, whether it's simple a matter of better understanding or for more prescriptive purposes, economists can not be blind to how principles of justice outside the market are and/or should be formed.

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