Peter Radford — A Little Knowledge

Knowledge as a factor of production. Knowledge is broader than information. Knowledge includes tacit knowledge, skill, and critical and creative thinking. In other words, the study of knowledge involves epistemology, logic and language, psychology, and other relevant fields in addition to information. 

Information can be formalized but a great deal of knowledge cannot, at least given present limitations and future prospects through technology.

Labor as the human component of productions that complements capital (land included) had been conceived in terms of time, strength and ability to preform tasks. In this view, labor and capital are substitutable.

In the expanded view that includes knowledge in the broad sense, this is not the case. Accumulated knowledge is the bedrock on which the foundations of a society or civilization are erected. This is what differentiates the human species from other species of sentient beings with whom humans share the planet.

Accumulated knowledge is largely a commons, the shared inheritance, so to speak, of humankind. Innovation is based on adding to that accumulation. Intellectual property—patents, copyright, trade secrets and so forth — may isolate some of this innovation for a time, but eventually it all gets added to the storehouse of knowledge.

Without considering this factor and including it to the degree possible, economics remains an oversimplification that is not capable of dealing with the key factor.

The Radford Free Press
A Little Knowledge
Peter Radford

Peter Radford on corporations

Most theories of the firm within economics pick up the narrative with the existence of the corporation as a given. They then bend over backwards to retro-fit this highly centralized pseudo economy into the larger free market narrative preferred in all major textbooks. In so doing they blithely ignore Alfred Chandler’s famous explanation for the rise of modern business organization, which he argued became possible “only when the hand of management proved be more efficient than the invisible hand of market forces”.

Chandler, being a historian rather than an economist, was more interested in reality than in hypotheticals. He understood and tried to explain the actual landscape of large-scale business. I have always wondered what would have happened to economics had it absorbed the true gist of the challenge issued by Coase in 1937. The impudence of that challenge has never been fully understood. Coase asked simply: “why do firms exist?”. After all if market forces are as supreme as the textbooks tell us, there is no room for business organization at all. We ought be able to accomplish all our transacting through a web of contracts in the open marketplace.

Indeed the most common response of economists to the challenge represented by business organization is to argue that a business organization is simply such a web of contracts. In this view we can continue to ignore any oddities of business organization since it is indistinguishable from the market. In this view the firm exists at a “nexus of contracts” and has no special attributes that cannot be negotiated and contracted for in the marketplace.

Except this is not true....

The key to understanding corporations is to separate the economics from everything else. We need to do this because the economics, as expressed in various theories of the firm, are usually entirely idealized and bear no resemblance to reality. Economists, as usual, love to theorize about things that don’t exist but which they wished did exist....

Corporations, far from being products of the free market, are actually franchises of the state. They are sub-contracted jurisdictions.

To be a corporation is to possess a charter from the state. That charter brings privileges not available to non-corporations. The most notable privilege is that the corporation is recognized as a distinct legal entity separate from any “natural” person who may be associated with it. And because the corporation is brought into existence prior to it being populated or animated by any natural person, it is not owned by any of them. It is unowned. In this sense it is akin to a nation state, the church, most universities, and, at least here in the US, most towns, It would be odd to describe any of those bodies as being owned by the people who animate them. Yet we routinely talk of firms being owned by stockholders. It is this misattribution of ownership that leads most economists astray in their theorizing...

Peter Radford explain why this is important and what problems misunderstanding engenders.

The Radford Free Press
Who “Owns” a Corporation?
Corporations Cont’dPeter Radford

Simon Wren-Lewis — Neoliberalism: How Seeing Markets as Perfect Turned into an Ideology Justifying Crony Capitalism

That idea, that the market ensures that only the most efficient prosper, is a central message of neoliberal ideology, and it has held UK and US governments under its sway since the time of Thatcher and Reagan. But that ideology contains a large and deep internal contradiction, which applies particularly to large firms like Carillion. To see what that contraction is, we need to talk about ordoliberalism and Ronald Coase.

Ordoliberalism is widely known as the German version of neoliberalism. It too celebrates the benefits of the market. It, like neoliberalism, ignores many of the failures of markets that Colin Crouch eloquently outlines and which economists spend a lot of time studying. But ordoliberalism does recognise one potential problem with their market ideal which neoliberalism ignores, and that is monopoly. Crouch makes a similar distinction in talking about market-neoliberals and corporate-neoliberals.

Asymmetrical powers enable rent extraction.

One of the paradoxes of liberalism is that limiting the power of government limits corruption. But corruption is not limited to people in government. As Adam Smith observed, business people have not only an incentive to collude but also a tendency toward it if not restrained.

People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices. — The Wealth of Nations 1.10.82

Freedom entails responsibility, and responsibility depends on accountability.

Evonomics

Neoliberalism: How Seeing Markets as Perfect Turned into an Ideology Justifying Crony Capitalism
Simon Wren-Lewis | Professor of Economics, Oxford University

Chris Dillow — Outsourcing: a transactions cost approach

Must-read unless you are really up on transaction cost.

As Simon says, companies that win tenders by bidding low have an incentive to cut quality. The question is: is it possible to stop this happening?

It’s here that transactions cost economics enters. This perspective began with Ronald Coase’s famous essay, The Nature of the Firm (pdf). Whether we should do a job in-house or through the market depends upon the comparative costs. And, he said, “there is a cost of using the price mechanism.”

In our context, this cost is the difficulty or even impossibility of writing contracts which ensure good quality provision....

Stumbling and Mumbling
Outsourcing: a transactions cost approach
Chris Dillow | Investors Chronicle

Peter Radford — 1937

Hayek, Coase and uncertainty.

In any case I find it fascinating that the two, Hayek and Coase, both in their own way, brought the impact of uncertainty to the fore in the same year.

It’s a shame that economics has never fully embraced, nor realized, the full richness of their ideas. Neither author was willing to step into the world that they clearly understood existed. Hayek was right about universal central planning: it is an impossibility. He was wrong to assert that this implied anything about the market place or prices. By his own argument we simply cannot know whether something is optimal. Uncertainty makes such a thing inscrutable too us. And Coase was equally correct when he saw the need for local central planning: it is the only way we can organize production adequately in the face of uncertainty. But his focus on transactions was a legacy of the classical emphasis on exchange. It ignored the need for active coordination. He missed the requirement for management. He should have talked about “management cost” not “transaction cost”. They’re different animals.

So: an interesting question is this: what happens to Coase’s “institutional structure of production” when information, and by association knowledge, is less clumpy in the economic landscape? Does something like the Internet, which is a vector for information and knowledge, obviate the need for such structure? Does it smooth that landscape out sufficiently for firms not to exist?

We need to think about that.

We need a new version of the discussion that ought to have taken place in 1937.

The Radford Free Press
1937
Peter Radford

Noah Smith — Markets Don't Work for Everything

Finally, transaction costs. Transaction cost is on the level of economic rent. Vitally important to understanding economics, finance and business, and generally ignored.

The problems with markets mainly fall into a broad category that economists like to call “transaction costs.” That term refers to any cost people pay when they engage in arms-length market transactions. It’s not just sales taxes or swipe fees for credit cards. Market exchanges require time and effort to match a buyer with a seller, to verify that counterparties are trustworthy, to negotiate prices and to verify whether the counterparty delivered the desired results.

Economist Ronald Coase realized that this is why companies exist in the first place. Companies are like little miniature governments -- instead of negotiating a monetary payment each time you file a report or write some code or do an hour of work, your boss simply tells you to do it, and you do it. The long-term, implicit, unstated economic relationships within a company cut down on time and effort. It’s no great stretch to think that many human social institutions -- communities, governments, even groups of friends -- accomplish a similar function.

Bloomberg View
Markets Don't Work for Everything

Noah Smith, Contributor

Noah Smith — An Econ Test Question We Shouldn't Get Wrong

Transaction costs. 

This is a big one to miss. Econometric models generally ignore it for tractability even though Ronald Coase receive the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel for pointing it out in his work on the firm.

Bloomberg View
An Econ Test Question We Shouldn't Get Wrong
Noah Smith | Bloomberg View columnist

Diane Coyle — Coase in theory and Coase in practice

Diane Coyle reviews Forever Contemporary - The Economics of Ronald Coase, edited by Cento Veljanovksi.

It starts with the Coase theorem: that when property rights are clearly assigned and there are no transactions costs (such as those involved in acquiring information, negotiating, monitoring compliance etc), then there are no externalities leading to a divergence between private and social costs: the parties involved will negotiate their way to the efficient outcome. ‘Externalities’ are symmetric, he argued: if you claim a right to clean air, you are costing me the opportunity to pollute. Who compensates whom will depend how the property rights are assigned. If you indeed have your clean air right, I will have to bargain with you to pay you for the pollution; if I have the right to produce emissions, you will have to pay me to desist.

Coase made it clear he took the existence of transaction costs very seriously, and argued that every situation had to be carefully assessed to determine the most welfare-enhancing course of action.…

Download free PDF.

The useful bibliography of Coase’s work shows how seriously he took his own conclusion that you have to look in detail at each industry, its history and specificities before pontificating; as is well known, he described anything else as ‘blackboard economics’...

Case method instead of formal theory.

The Enlightened Economist
Coase in theory and Coase in practice
Diane Coyle | freelance economist and a former advisor to the UK Treasury. She is a member of the UK Competition Commission and is acting Chairman of the BBC Trust, the governing body of the British Broadcasting Corporation

Jason Smith — Managing by wandering around

Must-read by Jason Smith. It's fun.

Information Transfer Economics
Managing by wandering around

Jason Smith

Peter Radford — Coase and Reality

Another screed on why conventional economics is unrealistic from Peter Redford, this one based on Ronald Coase.

In his introduction to a collection of his own work, Ronald Coase tells us:

‘Becker points out that: “what most distinguishes economics as a discipline from other disciplines in the social sciences is not its subject matter but its approach”’.

He then goes on:

‘One result of this divorce of the theory from its subject matter has been that the entities whose decisions economists are engaged in analyzing lack any substance. The consumer is not a human being but a consistent set of preferences. The firm, to an economist, as Slater has said, “is effectively defined as a cost curve and a demand curve, and the theory is simply the logic of optimal pricing and input combination”. Exchange takes place without any specification of its institutional setting. We have consumers without humanity, firms without organization, and even exchange without markets.’ 

All true, too true.

A philosopher would say that the chief difference between economics and the other social science is the level of abstraction. Economics is so abstract that it is difficult to connect with reality through actual behavior, in spite of the demand of conventional economics for "microfoundations" based on methodological individualism as a foundational assumption. 

In conventional economics, the individual, either "representative agent" or representative firm," is an imaginary construct rather than an observable. When agents and firms are observed, they do not match the characteristics of the methodological abstractions that represent them in conventional economic models. There is no homo economicus to be found, only homo socialis. Homo Socialis is the subject of study of the social sciences. 

The result of economists pursuing the "trail"of a non-existent homo economicus is something that resembles metaphysics more closely than physics, which is the opposite of what conventional economists are aiming for. The result is dogmatism rather than science.

Or maybe it is just snark hunting.

The Radford Free Press
Coase and Reality
Peter Radford

Sara Mayeux — Three Ways of Explaining the Rise of “Law and Economics,” and Also, One Way

Weekend reading. Short summary of the shift in thinking about the relationship of economics and law that led to the conservative legal revolution that has shaped American law and its friendliness to economics interests. No it wasn't only the appointment of conservative judges, but a shift in legal theory based on activism on the part of the Chicago School of neoliberalism. This legal theory is now a cornerstone of US insitutional neoliberalism.

Today it can be hard to understand why applying economics to law could be controversial, both because of the cultural prominence of economics generally and because it has become so commonplace to talk about law in economic terms: to question how regulations affect the efficiency of a particular market, for instance, or to accuse some statutory regime of enacting perverse incentives, or to suggest that some policy has been pushed past the point of diminishing returns.… 

And yet, this particular economic mode of thinking and talking about the law only dates to about 1960, and only became widely influential in the 1970s and ’80s.… 

Between the 1960s and 2014, then, what changed? At the basic level of events and chronology, it is not hard to trace the rise of law and economics. Scholars typically identify the University of Chicago as the relevant holy land, Ronald Coase’s 1960 article, “The Problem of Social Cost,” as the gospel of modern law and economics, and Richard Posner’s 1973 book Economic Analysis of Law, which synthesized and riffed on the burgeoning literature for a wide audience, as its letters from Paul. But to name the key texts and figures in a school of thought is one thing; it’s another to explain how and why those texts and figures gained influence—why anyone read them, much less took them seriously. 

Summary of how we got here.

The cleanest way I can see to synthesize these three accounts would go something like this: [Brad] Snyder’s tale of generational rebellion explains the motivation that drove leading figures like Posner to want to chart a new path in legal thought away from legal process theory. [Daniel] Rodgers’s big-picture intellectual context explains why this particular new path was among the routes visible to them at the moment they began looking (and perhaps why it was among the more attractive such paths). And finally, [Steven] Teles’s nuts-and-bolts account explains why so many others followed down the path, once it had been marked—it reconstructs the vectors of institutional support and funding that brought these ideas into contact with judges, lawyers, legal scholars, and other interested observers of law who might not have had any particular generational motivation to worry about process theory, and who might not have had any particularly systematic exposure to the welter of market concepts that Rodgers discusses, but who, once they encountered law and economics in its various vernacular iterations, decided it sounded plausible enough to them (and/or that it served other interests they had) that they became converts. 

Now maybe that’s not right because there’s some deep flaw with one or more of these accounts that I’m overlooking, or because it’s not the best calibration among the three accounts; and of course it’s too schematic, insofar as it implies that phenomena such as motivation, mindsets, and institutional support operate independently and on entirely different levels from one another. But it strikes me as one plausible enough way to explain the rise of law and economics.

Neoliberalism is basically the application of classical economic liberalism to law and politics. It was spawned by the Chicago School and its spread was funded by wealthy donors.

The trend has been away from traditional thinking toward rational choice theory and the assumptions of neoclassical economics, that is economic liberalism at the expense of social liberalism and its focus on human rights and civil liberties.

U. S. Intellectual History Blog

Three Ways of Explaining the Rise of “Law and Economics,” and Also, One Way
Guest Post by Sara Mayeux, a Sharswood Fellow at the University of Pennsylvania Law School and a PhD candidate in history at Stanford

Mike Konczal — How Ronald Coase Demolished Current Libertarian Ideas About Property

Property isn’t a vertical relationship between a person and an object, but instead is a horizontal, reciprocal relationship of exclusions between people. Since the benefit of one person in regard to property comes at the expense of someone else, there’s no logical or coherent way to invoke liberty or classical liberal principles of “do no harm” when it comes to how the law determines the shape of property. All we can do is pick among competing systems that try to achieve shared social goals.

That’s not an idea normally associated with the economist Ronald Coase, who died yesterday at 102. But it’s a very important part of his landmark paper, ”The Problem of Social Cost” (1960), that goes missing when the right-wing celebrates his legacy. Let’s unpack it.

Next New Deal | Rortybomb
How Ronald Coase Demolished Current Libertarian Ideas About Property
Mike Konczal

Konczal bases much of his post on the Coase Theorem, which was a product of George Stigler, based on the work of Coase. Coase, however, rejected it as his. "Coase himself has stated that the theorem was based on perhaps four pages of his 1960 paper The Problem of Social Cost and that the "Coase theorem" is not about his work at all." (source)

I have always wondered how Libertarian Austrian economics could think that the system of enforceable property rights that Rothbard proposes could possibly work given transaction costs involved in litigating disputes over externalities. It would be litigation nation, and a lot of the judicial decisions would be based on the way judges approached issues. How lawmakers and judges would be selected would be extremely important since where there is power there is politics and class structure.

Rumplestatskin — Thinking Like Coase, Not an Economist

I have often railed against the economic approach to social organisation problems which can be described as ‘assume first ask questions later’. There are too few good economists following more scientific methods of sound reasoning and the reliance on evidence in light of real world institutional structures.The first approach is often called ‘thinking like an economist’....

You will notice the strong links Coase makes to his descriptive model and ‘business practices’, a phrase you may never read in a whole economics degree.

Coase’s scepticism is so important today, when the dominant ‘economic way of thinking’ is to apply marginalist equilibrium models to ever more obscure situations (a la Gary Becker). Unless one can be certain that the model is capturing the important characteristics of this particular market or social institution, the results of some manipulation to the model will have no relevance to the realities one is trying to understand....

The Coase Theorem is actually the George Stigler Theorem and Coase rejected it.

Unfortunately, like his work on The Problem of Social Cost, Coase has been repeatedly misinterpreted by other economists. When you read about the Coase Theorem, you are probably reading about George Stigler’s interpretation of Coase’s discussions around social costs (externalities).... 

On his work about the Nature of the Firm, he recently noted that firm organisation is really a sociological problem, not an economic problem. Which seems so obvious since internal firm decisions are rarely priced, nor do they take place within an environment of market-style contracts. 

Rarely now do we see the type of common sense thinking that the ‘accidental economist’ Ronald Coase showed throughout his long career. In fact, I would be surprised if a Coase was beginning his career today that he would be able to break into the profession at all, given it’s obsession with formalisation of mathematical models, and disdain for verbal reason informed by real world conditions.

Naked Capitalism
Thinking Like Coase, Not an Economist

Rumplestatskin | Economist

Ronald Coase — Saving economics from the economists

At a time when the modern economy is becoming increasingly institutions-intensive, the reduction of economics to price theory is troubling enough. It is suicidal for the field to slide into a hard science of choice, ignoring the influences of society, history, culture, and politics on the working of the economy.

Lars P. Syll
Saving economics from the economists
Ronald Coase

John Carney — Ronald Coase and the nature of shadow banking

John Carney interprets Ronald Coase's insights about transaction cost with respect to finance rather than industry and commerce.

CNBC NetNet
Ronald Coase and the nature of shadow banking

John Carney | Senior Editor

AFP — Nobel-winning economist Ronald Coase dies at 102 years of age

RIP.

The Raw Story
Nobel-winning economist Ronald Coase dies at 102 years of age

Agence France-Presse

Peter Radford — Some thoughts on economics

My instinctive entry point into economics is through business....
Economics as it exists today in its mainstream form is of no use whatever to anyone seeking to understand the reality of business. Our extant theories of the firm are failures in that they attempt to see the world through a neoclassical lens whilst that lens obscures anything remotely real from view in an effort to retain the equilibrating perfection of the closed system envisaged by Walras. The contradiction between the pursuit of equilibrium explanations and the open ended nature of the real world defeats neoclassicism at the starting gate and dooms it to subsequent nonsensical irrelevance....

In this context I have to attribute a great honor to the Arrow-Debreu effort to complete the Walrasian episode. Arrow-Debreu deserves our constant indebtedness. It shows, definitively, how the Walrasian tradition cannot be an explanation for a real economy. It achieves completion by imposing such horrendously, and obviously, unreal constraints on itself that it proves Walras wrong. It is thus great science. It is the falsification of a tradition shown to be worthless.

On another matter: mainstream economists have never adequately, in my opinion, responded to Coase’s challenge of 1937. He asked simply: if markets do what classical economists and their followers say they do, why do firms exist? They ought not. That they do suggests something is very wrong at the heart of orthodox thinking. So I add the ‘Coase conundrum’ to Arrow-Debreu as adding weight to the critique. Mainstream economics is alchemy....

Asymmetrical information is another challenge to orthodoxy that is too often ignored. Information about things is patchy in the real world. Very patchy. It is non-existent with regard to the medium and long term future. Yet this never deters the neoclassical theorists. They march along as if asymmetry was an inconvenience that can be assumed away for simplicity’s sake, rather than a dagger in the heart of their work....

Uncertainty and complexity characterize the real world. Certainty and simplicity characterize neoclassical economics. Hence it irrelevance. It is complicated though, as Arrow-Debreu shows. It has to be. Its epicycles weigh it down. But no amount of clever formalism can turn unreality into reality, just as lead is pretty tough to turn into gold. This doesn’t mean that neoclassical economist aren’t very bright. They are. They have to be to to tend to those epicycles. Newton, after all, spent more time on alchemy than on recognizable physics. No indeed, they are very bright. Just wrong. 

Real-World Economics Review Blog

Some thoughts on economics
Peter Radford

This is a seminal article. Not much that we haven't said hundreds of time on this blog and in the comments, but Peter Radford ties it together very nicely — concise, precise and clear.

Note also that what is said about economics, order and entropy wrt to management also applies wrt to governing, and as Norbert Weinberg observes in naming cybernetics. It's also the basis of general system theory developed by economist Kenneth Boulding and others from related fields who understood the fundamental role of information in imposing order and overcoming entropy. See A Curriculum for Cybernetics and Systems Theory by Alan B. Scrivener for a summary of the basics.

Why don't conventional economists read this stuff, or if they do, why don't they use it?

Where I would quibble with Radford is over his assertion,

"The substitution of labor for capital or vice versa tells us that neither if fundamental. The energy and skill are. Energy and knowledge deployed to order resources for subsequent disordering. That’s the economic process." 

Is he forgetting that capital goods are also produced by labor? Labor is basic until capital goods can produce capital goods and innovate while doing so. That level of AI is still  in the dream stage of development, and even then it seems that knowledge workers will still be required in the Age of Artificial Intelligence.

Ronald Coase: "Markets, Firms and Property Rights"

Ronald Coase: "Markets, Firms and Property Rights"
(h/t Tschäff Reisberg on FaceBook)

This address by Ronald Coase (Clifton R. Musser Professor Emeritus of Economics at the University of Chicago Law School) to the conference "Markets, Firms and Property Rights: A Celebration of the Research of Ronald Coase" was recorded November 23, 2009.

From Tschäff at FB"

Highlights: "Markets are creations, they aren't something we find... ..They are the result of people deciding to make contracts, and making all the negotiations necessary to bring it about."

"Firms are not to be analyzed in the way I did in 'The Nature of the Firm.' ..It is a very poor article although it has been much referred to. It talked about a firm like it was an entity in economic theory. I said as the firm got bigger there were decreasing returns to management. Well this is treating it like it is fertilizer being applied to land and you measure the outcome... ..Firms aren't like that, firms are entities where parts of the firm have an interchange with other parts. It's a sociological problem rather than an economic problem... ...Also I discovered there are friendships and antagonisms in firms. One part of the firms was always afraid that another part would mess up what they were doing. It operated in a very different way than it did in economic theory where you have a firm maximizing profits, knowing all the things that affect it and acting accordingly. It's very difficult to imagine firms act the way they do in the text books where they maximize profits by equating marginal costs and marginal revenue. One of the reasons one can feel doubtful about this particular way of looking at things is that firms never calculate marginal costs and so can not possibly act as they do in the textbooks. I think we should study directly how firms operate and develop our theory accordingly."

After giving a presentation advocating the allocation of radio frequencies via auction, his first response from the FCC was, "Is this all a big joke?" The FCC didn't imagine this solution, they thought their job was to chose the right people to use those frequencies. He responded, "Is it a joke to believe in the American economic system?" He got the idea from a student who got it from Abba Lerner. Abba Lerner was a fellow student of Coase at the LSE. "Abba was older than the rest of us, he was in a printing business that failed I always said it was because he put price according to marginal cost, but that's just a joke.. ..Our relations were always very good. He wrote a book called _The Economics of Control_, and a very fine book it is... ...He was a socialist who believed that socialism would be fine if only he carried out the various rules and regulations that he set in motion.

 

Ronald Coase — Saving Economics from the Economists

It is time to reengage the severely impoverished field of economics with the economy. Market economies springing up in China, India, Africa, and elsewhere herald a new era of entrepreneurship, and with it unprecedented opportunities for economists to study how the market economy gains its resilience in societies with cultural, institutional, and organizational diversities. But knowledge will come only if economics can be reoriented to the study of man as he is and the economic system as it actually exists.

Harvard Business Review | Magazine
Saving Economics from the Economists
Ronald Coase | Nobel laureate in economics and a professor emeritus at the University of Chicago Law School. He is launching a new journal, Man and the Economy, with Ning Wang of Arizona State University, who contributed to this column.
(h/t Lambert Strether of Corrente at Naked Capitalism)

Professor Coase is still going strong at 101, and he making more sense than most economists today. Good on him.

Chris Dillow — Marx Vs Coase: Experimental Evidence

Short and hugely significant. Report on research by Ernest Fehr (fairness economics). Good case for implementing an MMT JG, too, although this is not mentioned explicitly.

Stumbling and Mumbling
Marx Vs Coase: Experimental Evidence
Chris Dillow | Investor's Chronicle (UK)