Why is a Market Like an Election? Keynes vs. Hayek on Planning

One of my favorite lines in literature is a nonsense riddle written by Lewis Carroll: “Why is a raven like a writing-desk?” The riddle had no answer originally, but Carroll provided one in a later edition of the book. My favorite answer (also on the linked page) has always been: “Because there is a B in both and an N in neither.” – an appropriate nonsense answer to a nonsense riddle.

Some people might say that the title question to this post is similarly nonsensical. Why is a market like an election? Well, in no way at all! Politics and economics are often defined in opposition to one another. Politics is all about power, markets are all about choice. Or, politics is about equality (one person, one vote) while markets are all about inequality and stratification (the highest bidder wins).

But already you might guess where I’m going – we sometimes use the metaphor that in markets, “one dollar, one vote”. Indeed, in the history of national income statistics (my favorite area of study), we see that sort of metaphor frequently, with some related worrying about the usefulness of aggregate metrics when compared across countries with different distributions of income (in other words, if the rich people in the US are much richer than in Canada, then our aggregate statistics will reflect the preferences of those rich people much more than Canada’s will, see Kuznets 1933).

Ok, metaphors are fun and all, but where is this going? Well, there has been a bit of a small kerfuffle in the econblogosphere over Keynes’ thoughts on central planning. The hilarious folks behind Fear the Boom and Bust, a rap battle between Keynes and Hayek, released a second video, Fight of the Century: Keynes vs. Hayek Round 2. Both videos are tremendous, and the second has significantly higher production values. The second also features a controversial critique of Keynes as being pro-central planning. Specifically:

KEYNES
so what would you do to help those unemployed?
this is the question you seem to avoid
when we’re in a mess, would you just have us wait?
Doing nothing until markets equilibrate?

HAYEK
I don’t want to do nothing, there’s plenty to do
The question I ponder is who plans for whom?
Do I plan for myself or leave it to you?
I want plans by the many, not by the few.

Let’s not repeat what created our troubles
I want real growth not a series of bubbles
Stop bailing out loser, let prices work
If we don’t try to steer them they won’t go berserk

So Hayek here is a champion of bottom-up approaches. This view is nicely laid out in his justly famous article, “The Use of Knowledge in Society”, where Hayek argues that markets are more efficient than governments because actors have local knowledge that is difficult and costly to centralize and make use of. Thus, it’s important that every actor in the market has the chance to make use of their knowledge – and thus, free markets produce more efficient outcomes (see another summary here). So, that’s a pretty nice summary of Hayek in the video. But what about Keynes? Was he a central planner? What did he think of Hayek?

Here are a few entries in the debate:

Econospeak: Did Keynes Support Having a Central Plan?

I think the strongest evidence for Keynes supporting central planning comes from two sources, which I shall quote. … These almost certainly provide the strongest evidence for Keynes supposedly supporting there being a “central plan.” But it looks at most, putting the two together, like one that involves lots of provision of information and data along with some sort of control of aggregate investment, while leaving most of the decisions up to “private initiative.” This hardly constitutes a “central plan,” and certainly not one of the sort that the actually existing Hayek criticized. The fictional one in the video should have spoken more carefully.

Brad DeLong: Yet More Misinformation from the Pointless Pain Caucus…

Strategic interventions in financial markets to eliminate excess demands for liquidity, safety, or duration are not “central planning.” Direct government expenditures to put the unemployed to work are not “central planning.”

Marginal Revolution: Did Keynes Favor Planning?

Nonetheless, in Keynes’s time enthusiasm for significant socialistic planning was common. Keynes had it too, at least for a while in the 1930s. It was a milder planning than the worst ideas circulating at the time, but it’s fair game to contrast it with the anti-planning sentiments of Hayek.

Tyler Cowen’s most recent follow-up is one of the most interesting. In Keynes on Planning Coda, he reposts a comment and a Keynes quote about the meaning of planning and what level planning should occur at that gets at the heart of this plans from the many vs. plans of the few issue raised by Hayek:

In his famous letter to Hayek regarding The Road to Serfdom, after asserting that greater central planning would enhance efficiency, Keynes wrote:

“I should therefore conclude your theme rather differently. I should say that what we want is not no planning, or even less planning, indeed I should say that we almost certainly want more. But the planning should take place in a community in which as many people as possible, both leaders and followers wholly share your own moral position. Moderate planning will be safe if those carrying it out are rightly orientated in their own minds and hearts to the moral issue.

The issue here is precisely who is doing the planning? What kind of information do they have available? How are their decisions guided – in accord with the moral positions of those they are deciding on behalf of? In opposition? Etc.

What’s interesting for me is the possible connections between elections and markets as means of aggregating information. Hayek’s argument against central planning in “Use of Knowledge” is based on efficiency as more than any libertarian notions of freedom. Central planning is bad because it fails to make use of all of the knowledge available, and thus is inefficient. That’s an empirical claim, and one that depends (presumably) on how good the planners are at aggregating information and tabulating with it. It also depends on how good individuals are at making decisions on the ground, using their local knowledge. (Think here of Mark Thoma’s arguments about the “macroeconomic foundations of microeconomics“.) Given a relatively small community, with reasonably good economic statistics, and good mechanisms for aggregating preferences, the calculation capacities of a central planner might swing the balance in their favor – if the state is better at using the information than you are (specialization, division of labor and all that), that might make up for whatever information it loses in the process of aggregation.

But how do you aggregate preferences? One obvious answer is the market itself – market prices tell us lots of information about people’s preferences, at least in theory. But another answer is elections. An election is another way for the many to express their opinions and preferences. And, for better or for worse, governments rely both on markets and elections to figure out what the people want (and what specific groups of powerful people want). So, why is a market like an election? Because both are mechanisms for revealing and aggregating preferences, and thus both produce information useful to a central planner (or an individual economic actor).

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2 Comments

  1. joshmccabe

     /  May 3, 2011

    I think you’re missing the other central point Hayek was making in his work on knowledge. Much of the knowledge that would be important for central planning is tacit and cannot be put into statistics in the first place. This is where Polanyi’s (Michael that is) work on tacit knowledge is important. Hayek would reject the whole endeavor of national income accounting. It gives us a false sense of scientific precision (aka scientism).

    Yes, they are both methods of allocating resources but that is where the similarities end. The use of knowledge and incentives are still fundamentally different.

    • Fair point, Josh, I was being a bit slippery. But I don’t know how much weight the “tacit knowledge” critique of central planning carries in an era of large, bureaucratic corporations. Berle’s Power Without Property makes this point well, IIRC. In many ways, a mid-level Soviet bureaucrat and a mid-level GM executive have more similar incentive structures and – I would add – information available than either does to an independent small merchant. More broadly, see Williamson on hierarchies vs. markets or Schumpeter’s take on the importance of markets not being their moment to moment allocative efficiency but rather their tendency to produce innovation.