8.1.19

AN OVERLOOKED PRICE THEORIST PASSES.

Peter Boettke of Coordination Problem honors Harold Demsetz as a champion of price theory and the Economic Way of Thinking.  His essay raises the possibility of intellectual common ground between price theorists, as commonly understood, and market-process theorists.
It is all about the analytics of price theory, and in particular the role that relative prices play in guiding exchange and production decisions.  It is wrong to insist the position articulated in economics so perceived is one that continually asserts that whatever is, is efficient (that is the tight prior of Stigler and Becker), as opposed to an insistence that individuals are not persistently stupid, that they will be creative and clever in seeking out the mutual gains from trade, and thus that there is always in operation an evolution towards a solution that must be appreciated and studied.  The mantra, if there is one, is not "efficiency always", but "where are the deals?; what bargains can be struck between actors?"  Economics in the hands of these economists is about exchange and the institutions within which exchange takes place.  Prices are never merely a sufficient statistic that is reflected in a unique vector in a deterministic system of competitive equilibrium.  Prices are not a parameter in this work, prices are instead continually adjusting and communicating to economic actors critical information that guides them in making the appropriate adaptations required to realize productive specialization and peaceful social cooperation.

Harold Demsetz was a practitioner of UCLA price theory par excellence.  He challenged the prevailing orthodoxy in microeconomic analysis and public policy that was emerging in the wake of the Samuelsonian revolution in economics. He developed a dynamic understanding of market competition, putting emphasis on conditions of entry and exit rather than on market structure. In addition, his work constantly drew attention to the creative adaptations and adjustments that economic actors engage in throughout a competitive economy, the multiple margins of adjustment that individuals, as buyers and sellers, engage in through the market, and how alternative institutional arrangements impact competitive behavior.
True enough about those relative prices, there are probably graduate students who during their time at Northern Illinois had nightmares about (1) relative prices matter, (2) payoffs are equal at the margin, and (3) bygones are forever bygones.  And true enough, as well, the lament among economists of the UCLA and Virginia traditions that the Powers that Be in the discipline had insufficient respect for the best practitioners there.  "There's an element of complaint present, as well, in [Arnold Kling's] observation that the late Alchian Allen and the still-living Harold Demsetz had worked on similar contracting problems, using a more literary form of price theory. But the prize goes to the work that more precisely delineates the conditions under which the phenomenon is present."

So, too, it might be with the Harold Demsetz idea that I engaged with somewhat frequently.
Starting with his work in the late 1950s, Demsetz began challenging the then prevailing orthodoxy concerning monopolistic power, natural monopoly, and industrial structure. In his 1968 paper “Why Regulate Utilities?”, for example, he made the critical point that: “we have no theory that allows us to deduce from the observable degree of concentration in a particular market whether or not price and output are competitive” (Demsetz 1968: 59-60). This paper would argue that we do not need to regulate utilities to curb monopoly power provided that there is vibrant competition for the field among potential providers of the service.
When the same argument came out of Princeton in a more mathematical form, under the rubric of contestable markets, adherents of the UCLA and Virginia traditions understandably raised objections about those models simply reinventing Demsetz auctions.  That credit-claiming might have missed the point, which is that "provided there is vibrant competition among potential providers" is a tougher condition in practice than it might be on paper.  "The highway, like an electrical grid or a railroad line, is a specific asset that can be wasted by the operator, absent sufficient safeguards for proper performance (and the British are still struggling with the proper safeguards when several franchise holders are operating trains on the same tracks) and the incumbent operator can learn things in the act of running the property that will confer it an advantage over other bidders when the franchise is rebid." The periodic operating-franchise follies that arise on British metals suggest the failure of that condition to hold is not trivial.

And yet, the idea of putting monopoly rights up for bid is not outrageous per se.  RIP.

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