The flavors of economics & the public interest

Two hundred years ago, the ancestor of today’s economics was called political economy: it was political in that it had a strong connection with political philosophy and a focus on public policy. Nowadays, political economy is called classical economics. It was succeeded late in the nineteenth century by a neoclassical revision that itself diverged into contending schools, but still controls the policy debate, especially in the United States.

This genealogy is useful because the different flavors of economics incorporate distinct attitudes about the public interest. How the state interacts with collective actors is central to the distinction. On the surface, mainstream economics does not consider collective actors at all. Rather, like the chorus in a Greek play, it incessantly chants that the economic system is populated by highly competitive ‘agents’ with good information, who strive to maximize their own well-being (profits for firms and consumption ‘utility’ for households) within an observed price system. These choices lead to a welfare level as high as it possibly can be for each participant. Shorthand labels for this level are Walrasian equilibrium, named after a late-nineteenth-century French economist, Leon Walras, and Pareto optimum, after Vilfredo Pareto a bit thereafter. When the equilibrium is perturbed, prices rapidly adjust to signal how resources should be reallocated to ensure that they are fully employed– with the proviso that the only way that one actor could gain additional income would be for another to lose.

However, policy practitioners may group agents into wage-earners, profit recipients, the government, etc. So to speak, collective actors enter via the back door. Moreover, even the agents in the play may have a hard time behaving as the chorus thinks they should– an insight often credited to Alfred Marshall, another nineteenth-century founding economist–because economic information is, in practice, not fully reflected in prices: ‘Distortions’ such as taxes and tariffs (almost always blamed on government intervention) lead decisions astray. Monopoly positions exist that, further supported by increasing returns to scale (or decreasing costs per unit of production), can deform the price system. All these forces push the economy away from a Pareto optimum.

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