Monday, June 06, 2005

Introductory econ lecture #8 

Test day, so the lecture was short. And sorry to be late today but family business intervened.

One of the basic lessons we've learned is that markets require an agreement on the rules of the game. Markets dislike uncertainty over the terms by which exchange happens. The coercive power of the state is used to reduce these uncertainties. In a set of notes from Heyne I read three presuppositions for the lecture, and I intertwined them with some of the work of Mancur Olson:
  1. "Government is not something exogenous to society. It is finally, like any other social institution, people interacting." This calls up the image of a social contract, but it's worth noting that the institutions usually do not come out of any constitutional convention at the outset. Olson's concept of roving bandits strikes me as right for the initial state, pretty close to Hobbes. (Regrettably, Olson never finished this research to show us how you get to democracy.)
  2. "The unique characteristic of government is the authority to coerce. This power enables government to deal effectively with certain free-rider problem created by positive externalities that could only be internalized through voluntary exchange at prohibitively high transaction costs." So Heyne offers an addition to Olson in this way: The move from roving bandits to stationary ones is because it's profitable to do so. Further improvements in the organization of government result from attempts to reduce transactions costs. Those interested in this should read this paper on Sweden by Olson and those referenced in footnote 4 therein.
  3. "Because government is not somehow 'above the fray,' all-knowing and supremely benevolent, the actions of government will depend as in the private sector, upon the information available to and the incentives confronting relevant individuals. As a result, the institution of government is not itself exempt from the problems created by free riders." We spent time talking about rent-seeking, and the logic of collective action (the title of Olson's first great book.) Discussion of government failure ensued.
One thing we didn't spend as much time discussing yet is prisoner's dilemma and other parts of game theory. I wish we had more time, but I need two full lectures on macroeconomics, and those begin tomorrow.