Utopia, you are standing in it!

Armen Alchian would ask “If something is so optimal, why don’t we see it then?”

The best way Alchian related this discipline on thinking was to point to something like the question of optimal taxes. If optimal taxes are so optimal, why don’t we see more of these optimal taxes in practice?

There must be other costs left out of your optimal tax analysis. There might be less obvious costs in the political system in organising support or other changes that are required that are overlooked, making optimal taxes such a ‘low-cost’ option. Most objectives look better than they are if you ignore some of the costs of achieving those objectives.

Alchian asserted that “whatever is, is efficient.”

• If the status quo was not efficient, something else would eventuate;
• Of course, if you try to change anything that is – that too is efficient because otherwise you would not try to do so.

The key point is why are we weighing only some costs and not others? Why are these costs (involved in minimizing particular dead-weight losses that would be involved in setting a particular optimal tax) less important than other types of costs (those involved in informing people of what the options are or of organizing them to go and try to adopt the alternative option)? Optimal taxes are also decidedly less optimal if they allow governments to raise more revenue, and the extra revenue is not spent wisely.

Alchian’s analysis of institutions and processes spent a lot of time showing that many often puzzling institutions and practices arose to lower various costs of decision making and transacting in the market and within organisations and groups. Many of these costs are far from obvious and must be teased out through difficult, time-consuming analysis.

Alchian was a great teacher. He taught in the Socratic Method. He posed countless questions to force his students to think harder and deeper.

Behavioural economics is an example of a whole field that expanded not by thinking harder and deeper using standard economic tools. It explains anomalous behaviour and seemingly irrational choices as the result of cognitive quirks or short-sightedness and a range of people’s other shortcomings. That is easier than spending a few more decades getting to the bottom of the matter.

George Stigler in the 1960s made a marvellous critique of what became behavioural economics back in the early 1960s by saying that in every decade for the last 150 years, economists dabbled in psychology.

Stigler said that they missed the point of economics as a method. He argued that the simple hypothesis of rational behaviour is so powerful because it can account for so much of human behaviour. Stigler adds this in his Tanner Lectures in 1981:

Members of  other  social sciences  often  remark, in fact I must say complain, at the peculiar fascination that the logic of rational decision-making exerts upon economists.

It is such an interesting logic: it has answers to so many and varied questions, often answers that are simultaneously reasonable to economists and absurd to others. The paradoxes are not diminished by the delight with which economists present them…

The power of self-interest, and its almost unbelievable delicacy and subtlety in complex decision areas, has led economists to seek a large role for explicit or implicit prices in the solution of many social problems.

Richard Posner went further and argued that behavioural economics may not be a science in Popper’s sense of falsifiability.

Posner referred to Cardinal Bellarmine’s famous description of what he saw in Galileo’s telescope which was pointing to the moons rotating around Saturn. Cardinal Bellarmine explained it as a trick of the devil.

Behavioural economics, in Richard Posner’s view, is close to Cardinal Bellarmine’s trick of the devil methodology because it explains anomalies away either as cognitive quirks or as rational behaviour. Nothing is an anomaly for behavioural economics so nothing can falsify it. Instead of the devil making me do it, a cognitive quirk made me do it.

Posner’s key point was:

Rational-choice economics makes the analyst think hard. Faced with anomalous behaviour, the rational-choice economist, unlike the behavioural economist, doesn’t respond, “Of course, what do you expect?” Troubled, puzzled, challenged; he wracks his brains for some theoretical extension or modification that will accommodate the seeming anomaly to the assumption of rationality.

Rather than attribute odd behaviour to cognitive quirks or short-sightedness, the better explanation is the behaviour is not fully understood.