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Economic Theories and Technocratic Governments

November 21, 2012 Leave a comment Go to comments

The upcoming Italian elections triggered an interesting debate on the choices ahead, and on the role of technocratic governments. A few days ago the Italian journalist Barbara Spinelli published on the daily La Repubblica a masterly analysis (in Italian) of the difficulties faced by a political sphere that seems incapable, or unwilling, to reclaim from technocrats the task of governing, by which I mean the right/duty to choose between policies with different economic and social consequences.

To an economist, Spinelli’s analysis is a source of further thoughts on the role of choice in economic theory and policy, with important consequences not only for Italy but also for the path that the European construction will walk in the coming years.

The second half of the twentieth century is marked by the opposition of (at least) two different conceptions of economic policy, the so-called “neoclassical” tradition, and the Keynesian theory. The neoclassical school, which dominated the intellectual landscape for most of the past century, has its roots in nineteenth-century attempt to build an economic theory closer to physics and the natural sciences than to social sciences. In the words of Henry Moore,

“In the closing quarter of the last century, great hopes were entertained by economists with regard to the capacity of economics to be made an “exact science”. According to the view of the foremost theorists, the development of the doctrine of utility and value had laid the foundation of scientific economics in exact concepts, and it would soon be possible to erect upon the new foundation a firm structure of interrelated parts which, in definiteness and cogency, would be suggestive of the severe beauty of the mathematico-physical sciences…”

(Henry L. Moore, Economic Cycles,1914: p.84-85)

It is hard to resume in a few lines more than a century of theoretical developments, so I hope to be forgiven a certain degree of simplification and approximation. The neoclassical approach is based on propositions and theorems logically inferred from universal principles such as profit and utility maximization, scarcity, technology, endowments. Simply put, the main result of the neoclassical theory is that markets, if competitive and free from asymmetric information (i.e., if no agent is able to extract rent from other agents) are able to lead the economy on the optimal path without external intervention (optimality, or Pareto efficiency, is broadly defined by economists as the impossibility to improve any agent’s welfare without reducing the welfare of some other agents in the economy). In other words, equilibria can be ranked, with one “superior” equilibrium to which the market economy spontaneously tends once the appropriate conditions are met. This result has a very strong policy implication: the only role for economic policy is to make sure that barriers to free competition (monopolies, asymmetric information, rigidities) are removed through the (in)famous “structural reforms”, so that markets are free to converge to the optimal equilibrium path.

A technocratic government poses no problem for the neoclassical theory; on the contrary. Policy is not supposed to make choices, but only to clear the ground from obstacles to the free unfolding of market forces, leading to a state that, by definition, represents the best of all possible worlds. Technocrats are actually preferable to politicians, not only because supposedly more competent, but also and especially because they are free from the vested interests and political bias that could lead to market incentives’ distortions, and more generally because they are less constrained than politicians by the “fetters and constraints” of democracy (those that the rest of us call checks and balances. But this is a whole different subject).

However, it is much harder to accept the government by technocrats if one believes, with the Keynesian tradition but also with radical economists, that economic processes are inevitably characterized by failures and imperfections, be them of markets or of policy makers. Once abandoned the neoclassical efficient markets world, one is forced to accept the existence of a plurality of possible trajectories for the economy, resulting from the interaction of markets, institutions and public policies. This multiplicity of equilibrium paths, not necessarily ranked in terms of welfare, necessarily forces policy makers to choose a particular trajectory and therefore, among other things, one of the many possible distributions of resources between the different actors involved in the economic process.

In other words, if we abandon the neoclassical/platonic idea of a superior equilibrium, it becomes impossible to maintain that there is a state of the economy “intrinsically” better than the others, so that the role of government is just to facilitate its attainment by markets. The need to choose does not admit the vacancy of the political sphere. To carry on choices, the government needs the legitimacy and the list of priorities that stem from a democratic process of delegation.

With this perspective it is hardly possible to imagine an economic policy that is technical (i.e, that does not select one among many possible distributions of costs and benefits). Taking the Italian example, it is difficult to think that the choices made by Mario Monti had no alternative. Even within the objective of public finances’ consolidation (that I find questionable, as a casual look at this blog may easily show), the burden of adjustment fell more on some categories and less (or not at all) on others.

But I would go even further: no institutional architecture can be considered as non-political. An example may help to clarify. According to the neoclassical theory, monetary policy decisions have no effect (especially in the long run) on real activity, which depends only on the “fundamentals” of the economy, such as preferences and technology; monetary policy only affects inflation. Once it figures out the effects of its policies on inflation, a central bank needs to do no further effort. It just needs to devise a rule to keep inflation at or around its target value. A good computer algorithm could be an excellent central banker! The Maastricht Treaty is impregnated with this view, and coherently it gives the European Central Bank the sole task of controlling inflation, while granting it an independence from political power that is rather uncommon in other industrialized countries. The U.S. Federal Reserve statute is instead influenced by the Keynesian idea that monetary policy plays a role in determining the level of economic activity. The Fed’s statute requires it to pursue the two often conflicting objectives of full employment and price stability, thus incorporating a choice (more weight on unemployment or on inflation?) that is inherently political. The political role of the Fed is also witnessed by the tight control exerted by the U.S. Congress, and by the close interaction (at times far from friendly) that the Chairman has with the President and with the Treasury. To sum up, institutions are not neutral either, and it is no coincidence that the statute of Fed dates back to the 1970s, dominated by Keynesian thinking, while the Maastricht Treaty reflects the neoclassical counter revolution of the 1990s.

Today, “thanks” to the crisis (it was a very hard price to pay indeed…) the debate is open again, and the neoclassical theory dominance is questioned by a significant minority of economists and policy makers (not many of which live in Berlin, Frankfurt or Brussels, unfortunately). The intellectual dispute is far from settled but, if the fideistic belief in the supremacy of markets will finally be abandoned, this will require an effort to rethink European institutions. It is hard to see who will have the vision and the courage to do it…

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