When the economy had ethics | Boston Review
Remembering Kenneth Arrow
Kenneth Arrow, one of the 20th century’s greatest economists, died last month at the age of ninety-five. He was part of the generation of economists whose ideas were shaped by the dislocation and turmoil of the Great Depression and World War II, a generation that includes John Nash, Paul Samuelson, Harold Hotelling and Milton Friedman. Now, while much of the economy is hampered by ignoring ethical considerations, Arrow’s work demonstrates that economics is fundamentally a moral science. Whether it was tackling climate change, international security, the provision of health care, inequality or racial prejudice, for Ken the economy was first and foremost a means of helping to improve the well- To be human. Indeed, his focus on welfare has led him to consider the importance of trust and moral codes, as well as government regulations, to market behavior. Homo economicus can’t be alone.
The fact that markets need support to function is particularly relevant at a time when our current government is forcefully reducing financial and trade regulations. The market may be perfect in an ideal model, but actual markets are not ideal. Instead, information problems, third-party effects, inequalities and a lack of competitiveness beset them. The functioning of markets also depends on trust and cooperation, values that inequalities can undermine. In his work, Ken proved to be a master of abstract mathematical reasoning, but he never forgot the very concrete lessons of the Great Depression. Markets cannot work alone.
At a time when the economy has shed its ethical obligations, we would do well to read Kenneth Arrow.
Ken’s contributions to economic thought cannot be overstated. There is hardly any area of economics that it has not enlightened and profoundly affected. He won the Nobel Prize in 1972 for his work on general equilibrium theory. (He was the youngest to ever win the Nobel Prize in Economics, fifty-one at the time of his award.) Leon Walras first formulated the idea of a general equilibrium model – in which all prices affect the supply and demand for each good. – in 1874. But it took seventy-five more years to prove the existence of this balance. Ken did, working separately but in communication with Gerard Debreu of Berkeley. This work formalizes the conditions under which perfect competition can exist. At the same time, it thus clarifies the conditions under which public intervention is necessary for markets to function properly. Indeed, it is difficult to even think of a single market that comes close to the model’s assumptions.
In addition to his work on economics, Ken has made a paradigm shifting contribution to social choice theory. In his doctoral thesis, Ken proved what is now called Arrow’s Impossibility Theorem. To understand the theorem, suppose that rational people tend to rank their preferences transitively: if they prefer candidate A over candidate B and prefer candidate B over candidate C, then they prefer candidate A over candidate C. Arrow’s theorem says, however, that when one imposes four very reasonable conditions (such as not letting one person’s preferences determine the outcome for everyone), it becomes impossible to aggregate rational individual preferences into preferences social so as to maintain transitivity. In other words, there is no way to ensure that collective preferences (regarding, for example, who among a group of candidates wins an election) can be accurately determined by simply adding up individual preferences. In light of this overview, the practice of voting looks much less like an exercise in collective self-determination than a game of luck.
For obvious reasons, a lot of work in democratic theory has gone into proving Ken wrong. One way often tried is to eliminate one of the four assumed conditions. For example, the condition known as “universal domain” says that there is no restriction on which preferences can be taken into account: all preferences will be ranked. But, in the case of voting, we limit the scope of individual preferences – among other things, by having a constitution and deliberating together. Whatever one ultimately decides to do with its implications, Arrow’s theorem raises moral questions that must be addressed. It is said that this work was so original that even his thesis advisers at Columbia University did not know how to judge it. The committee must have asked some of the more math-prone economists in the department if it was really good. (The committee was assured it was more than good.)
Ken’s ideas are so central to our current understanding of markets that it’s hard to remember what they actually had to be. discovered.
Ken has also greatly contributed to our understanding of what is involved in financing a health care system. In a groundbreaking 1963 article he showed that because physicians and patients have unequal medical knowledge and there is no price competition (as practicing physicians must be professionally certified and people less qualified cannot enter the profession by offering lower prices), a health market would not be optimal. He also identified issues of moral hazard (because insurers and not patients pay for services, doctors and patients have an incentive to order additional tests and treatments) and adverse selection (health insurance is more likely to be purchased by high-risk patients, resulting in a pool that is too expensive to insure) in healthcare. These ideas are so central to our current understanding of the limits of healthcare markets that it’s hard to remember that they actually needed to be. discovered. It is unfortunate that the current administration has not paid attention to this work as it prepares to dismantle the Affordable Care Act.
Ken has spent most of his career at Stanford where he was a founding member of the Ethics in Society program and remained active on its board of directors. A dedicated teacher, five of his students went on to receive Nobel Prizes. He was also my friend for almost thirty years. We were both students at City College New York, we both identified with the values of liberal Judaism, and we both saw the crucial intersections of political and moral philosophy with economics. I co-taught a seminar with him on Ethics and the Economics of Inequality last year when he was ninety-four. I can attest to the fact that he knew everything – not just about economics, but also about the philosophy of Kant, Shakespeare, Roman history, even the mating patterns of whales. Sitting next to him once at a conference, I remember thinking he was scribbling and joking with him about it. It turned out to be solving a problem in a climate change model.
Ken never stopped believing in the power of knowledge – and government – to advance the common good. In recent years, he has chaired an Institute of Medicine committee advocating for drug subsidies in developing economies; was a founding administrator of the Economists for Peace and Security; and participated in the Intergovernmental Panel on Climate Change. Its legacy takes us back to how economics is a moral science, examining not only the conditions but also the limits of market reasoning and gross economic growth. Central to Ken’s thinking was the idea that free market was a valuable instrument for human well-being, which it could either promote or, in certain circumstances, hinder. Thinking about the economy in this way requires expanding the framework we use to assess economic policies: at stake in economic decisions are not only questions of efficiency, but also other issues, including how whose markets shape human development and structure the exercise of power. It is a framework that has a particular resonance today. Ken was an intellectual giant and a mensch. (If there was a Nobel Prize for the latter, maybe he could have gotten one for that, too.)