Thoughts on economics and liberty

Externalities are political, not based on any science or evidence

This is an extract from a 2000 paper, Review: Externalities and Other Parasites, by Don Herzog



Next, consider externalities. Sometimes markets fail, agree economists, though it is controversial just when they do, controversial too whether state intervention would improve matters. And some­times they fail because the reigning system of property rights doesn’t force actors to internalize all the costs of their actions. More generally, if —to be loose about it for a moment—goods or bads accrue to other actors in ways that prices and property rights aren’t capturing, market outcomes won’t produce efficiency. Sometimes the remedy is to write a better system of property rights. But sometimes we won’t be able to. So far, so familiar: but I want to argue that the criteria economists ac­tually use to identify externalities —inside and outside market settings, promiscuously, unhesitatingly—come from moral and political theory, not their own views about utility maximization.

Mueller offers this example:

Individual R practices one religion and everyone else practices other religions. R’s religion commands her not to comb her hair. The sight of R’s uncombed hair causes other members of the community some slight irritation. The unhappiness R or any other member of the community would experience, if she had to violate one of the commands of her religion, is quite large, how­ever (Mueller p 213).

Cooter offers this example: “When supplying water to residents (posi­tive internality), a local government may degrade the water available in other localities (negative externality). Pollution is a harmful by­product” (Cooter p 109). The reader jumps to the conclusion that R will be permitted her disheveled hair, but the local government won’t be permitted to spew out pollutants. And the reader is likely to supply the underlying intuitions that make the examples work: R has a right to her uncombed hair (even if we may socially disapprove). She’d even have that right absent her religious convictions, which give us more emphatic reason to insist on her right. So too those downstream have been harmed by pollution. Their interests have been affected ad­versely in unjustifiable ways.

Now what would make sense of rights and harms within the framework of utility maximization or preference rankings? Whenever I have preferences over your actions or their effects, we have an ex­ternality. We can see the point by choosing examples not designed to flatter our liberal sentiments. Suppose June is horrified at the very thought that the lesbians down the hall are engaging in oral sex. Yes, they’re consenting adults, acting in private. But their doing so, she thinks, is disgusting. Their actions move her to a lower indifference curve. Maybe a much lower indifference curve: maybe the thought makes her physically ill. Maybe this is a visceral reaction, or maybe it flows from her deepest religious commitments. Either way, it’s a social cost they don’t have to internalize. More bizarre yet, suppose June vigorously disapproves of those who do comb their hair, or wear busi­ness suits to work, or insist on being addressed as “Professor.” Every time someone does such a thing, she winces. (“Repressed middle-class snobs,” she fumes.) As far as utility and preference go, here again we have externalities literally indistinguishable from those generated by R and by the polluting municipality.

A thoroughgoing utilitarian or welfare economist might bite the bullet and agree: okay, all these cases are the same, so they all should be treated the same way. Surely logic doesn’t rule that response out. But adopting it is batty. Not primarily because in fact we have endless preferences about each other’s preferences and actions, so that judg­ments about social welfare or efficiency are likely to become intracta­ble. But because the brute fact that someone else prefers that you do or don’t do something doesn’t give you a reason to act or to evaluate an action any differently. Back to the ice cream parlor. You step up and confidently order vanilla. “Vanilla?!” barks the pimply-faced stu­dent working the counter. “Vanilla?!!” And the place erupts into fe­verish denunciations, patrons glaring at you with unabashed hostility. You notice only now that each and every one of them is eating chocolate, that the walls are studded with revolutionary posters de­nouncing the boring vanilla lobby, and that an ominous fellow by the door is fingering his dagger.

If the only conceptual resource we have on offer for thinking about such matters is preference, these are externalities. And we can imagine the usual transactions to produce more efficient outcomes. Maybe the lesbians should have to offer June financial compensation in order to go about their business. (It being their business, in this view, can’t be at bottom any claim of individual rights or personal auton­omy. It’s just something they want to do, and their wants have no bet­ter standing than others’ wants that they not do it. Or try this: the women in question are decidedly chaste, even ascetic, but their neigh­bors are glutting themselves on voyeuristic fantasies of watching them perform. Should the neighbors offer the women cash payments to have sex? Should the women have to offer the neighbors cash pay­ments if they don’t want to? Should we shrug off these matters by saying that Coase has shown that assuming low enough transaction costs and given any initial entitlements parties will bargain their way to socially efficient deals?) Maybe you should have to pay off the other patrons if you order vanilla.

Economists are ordinarily too sensible to parade such fantastic arguments. But that’s because economists are opportunistic about in­voking externalities. They do so not whenever we find people with preferences about others’ preferences and actions; they actually do so in ways closely tracking the traditional harm principle of liberal the­ory. (Cooter’s treatment of racial discrimination in housing markets (Cooter ch 14) is open to the same sort of objection. He imagines in­dividuals, one by one, each with consummate rationality, reacting to changes in the racial composition of their neighborhood by moving out. But their individual actions might yield massive social swings they don’t prefer. Readers should think about the ways in which all kinds of consumer markets lead to snowballing and unravelling effects, with the options and prices available to any individual consumer systemati­cally shaped by others’ preferences. Blue jeans are cheap because lots of other people like them; over the long haul, increased demand can lower prices by leading to increased production and economies of scale; as the price comes down, more and more consumers switch over and don jeans. Other clothes are prohibitively expensive because lots of others don’t like them. The logic here impeccably tracks that which Cooter uses to explore discrimination, but no one ever suggests that we worry about market failure when it comes to clothing. So too his treatment of discrimination in labor markets is open to the same kind of objection. He worries here about the reliance on proxy judgments from casual statistical information or impressions, and suggests that the state should offer better information (Cooter pp 349-50). But people in zillions of other market settings rely on such proxies and faulty information and no one raises an eyebrow.) Though it’s sticky, we need to distinguish harms, unjustifiable intrusions on others’ inter­ests, from hurts, ways of bugging them that, however painful, don’t give them any legitimate claim against us.31

And I see no reason to believe that those two competing ap­proaches—(1) toting up when people have preferences about others’ actions and (2) identifying harms—are going routinely to converge on the same outcomes. The ice cream parlor example may seem fanciful; here it does seem plausible to say that as a general matter, at least, people don’t much care what flavor others order. (Even here, let’s pause: what if you’re about to order the very last scoop of vanilla and someone behind you swoons or yelps, manifesting an urgent prefer­ence for it? Should you have to bargain with her? That is emphatically not the same question as, wouldn’t it be nice of you to let her order it instead?) But lesbian sexuality just isn’t like that, and neither are a host of other things. There is no systematic connection between pref­erences and legitimate interests. People may not have intense prefer­ences, or any preferences, about legitimate interests and harms; people may have preferences, even intense preferences, about things others do having nothing to do with legitimate interests or harms.

This is because the notion of human welfare figuring in conven­tional moral and political theory is not a matter of realizing one’s preferences, occupying a higher indifference curve, maximizing one’s utility, or anything like that. Human welfare is an evaluative notion, all the way down. It’s just another example of a realm in which we assess competing conceptions with reasons, criticisms, and justifications, in which the brute fact of preferences is neither here nor there. Re­member, we can’t sensibly say that Dolphy is worse than Barenaked Ladies because more people express a preference for the latter. And we can’t sensibly defend some picture of human welfare or autonomy or individual rights by canvassing preferences about it. Suppose we’re wondering whether adults should have a right to engage in any con­sensual sexual activities they like. We don’t ask simply whether or not people prefer that there be such a right; nor do we ask whether granting the right seems on balance the best way to maximize utility. We ask if such a right works to safeguard the pursuit of enterprises genuinely important in life, whether preferred or not, if it helps define one as a dignified social actor, whether one cares or not, and so on.

There is a motivation we might borrow from moral and political theory for insisting on utility or preference as paramount, and that’s our commitment to autonomy. We should, one might think, let people pursue their preferences. Opening a space between their preferences and their welfare might seem an unholy recipe for paternalism run rampant or vanguard politics. (Think about the explicit commit­ments—and unacknowledged debts—built into the concept of con­sumer sovereignty.) But this is to dodge a complex argument that we really have to engage on the merits. We need to be able to show that in many cases people have a right to do what they like, even if they don’t act in their own interests, because the right is itself constitutive of autonomy and autonomy is partly constitutive of human welfare, of a life worth living. If we dodge this admittedly ambitious and difficult argument, we really have no alternative but to concede that R and the polluter and the lesbians and the person daring to order vanilla all, in principle, should be treated precisely the same way. And that can’t be right. Put differently, that the organizing categories of economic analy­sis provide no way to distinguish these cases gives us no justification for refusing to distinguish them. It just reminds us that the economic categories don’t have enough moving parts, that the invading troops are armed with blunderbusses.

So it looks like the economists’ invocations of externalities are invidiously opportunistic, that the concept is secretly parasitic on the liberal harm principle. But nothing within economic analysis generates or supports such a principle.

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Sanjeev Sabhlok

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