27.2.13

DEVELOP YOUR INTUITION.

David Henderson remembers Armen Alchian, starting with some recollections from heterodox economists.
[Friedrich] Hayek gave his characteristic wince, paused, and said, "There are two economists who deserve the Nobel prize because their work is important but won't get it because they didn't do a lot of work: Ronald Coase and Armen Alchian."

Sixteen years later, in 1991, Ronald Coase did win the Nobel Prize. When I got the news, I called Armen and told him the story. He got a kick out of it and seemed to have a new hope that he would win. He didn't, and now he can't. Armen Alchian died on Tuesday at the fine age of 98.
I consider myself fortunate to have learned intermediate price theory out of George Stigler's The Theory of Price and Alchian and William Allen's Exchange and Production, rather than out of the Henderson-and-Quandt-stripped-of-Lagrangians canonical texts of the day.  I'm not sure my students agree, as it is my penchant to ask questions that require them to develop their intuition in quirky ways, rather than scribble a figure or calculate an elasticity.

Somewhere in the stack of books to review is Alchian's Economic Forces at Work, and I really have to dig into it, particularly this paper.
Alchian first major article, "Uncertainty, Evolution and Economic Theory," was published in 1950. It was his response to a controversy about whether companies really do maximize profits. Alchian argued that even though all companies may not maximize profits, those that survive will be ones whose managers, by luck or design, came close to maximizing profits. Therefore, those that we observe will have maximized profits. So, for the long term at least, Alchian argued that economists don't need to show that all companies try to maximize profits in order to derive the standard conclusions from the profit-maximization assumption.
It gets hard to render that idea into mathematics: firms that are doing relatively poorly are receiving noisy signals that they've failed to reach the frontier in some way, but coming up with a compact strategy space and a dynamic that converges is messy.

I'm also intrigued by this observation from Professor Henderson.
My personal favorite of his published papers is "The Economic and Social Impact of Free Tuition" (1968). Alchian pointed out that government aid to higher education is a transfer to the relatively rich. That's because people who can make it through college, even though they may have a low current income, have a high wealth.

He compared subsidizing college to subsidizing drilling expenses for someone sitting on a large pool of oil. The untapped student's potential is the analogue of the untapped oil. Alchian argued that lack of current income might be a justification for loans to aspiring college students but not for outright subsidies. He cinched the argument with the following story:

One poor, "uneducated" resident of Watts, upon hearing Ralph Bunche [a well-known black educator and diplomat] say that he could not have had a college education unless tuition were free, opined, "Perhaps it's time to repay out of his higher income for that privilege granted him by taxes on us Negroes who never went to college."

I still make Alchian's point in my classes and, although it upsets my students, not a single one has been able to undercut the fundamental soundness of Alchian's argument.
I've been struggling for years with a pithy way to express similar sentiments.

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