Hayek was right. Twice.

[Sampo Syreeni]

On Wed, 3 Jul 2002, Anonymous wrote:

>Ignoring market failures (such things as public goods and
>externalities), markets are efficient in the sense that they produce a
>Pareto optimal outcome.

Even if you neglect market failures in the usual sense, an outcome such as
everybody becoming a slave to a single individual is Pareto efficient --
you can't dissolve the situation without hurting the slave owner. Pareto
efficiency talks about allocation, not distribution, and so the latter can
be arbitrarily skewed in a Pareto efficient economy. Even to the point of
apparent absurdity. It's a different thing altogether, then, whether you
can approach such a dismal state of affairs via Pareto moves...

>A Pareto nonoptimal state, which is what you get with public goods, is a
>condition where you could redistribute wealth and resources and make
>every person happier or at least no less happy.

I don't think so. Instead I'd say that is Marshall efficiency in the
absence of transaction costs. The trouble is, you can never make everybody
happier by redistributing since someone will have to pay the cost. (Here
we of course assume that everybody wants more of everything.)

>So there is a redistribution which would make many people happier
>without making anyone less happy.

More to the point, there is a redistribution which would allow the total
amount voluntarily paid by a large number of people exceed the amount a
minority is ready to pay to avert the cost of the redistribution.
(Nowadays I'm thinking this isn't bad in itself, but that amplification of
this sort of pattern via returns to scale is.)

>Therefore it is clear that it is quite meaningful to investigate whether
>markets produce efficient or non-efficient outcomes in various
>situations. There is no tautology involved.

Quite. But on the other hand, public goods reasoning is also a very, very
dangerous thing. Consumption side externalities are my personal favorite.
Suppose there is a considerable personal benefit to rich people in seeing
the average bum spend his money in something respectable instead of
liquor. In this case, liquor consumption has a visible externality, and
optimal provision calls for institutions which more or less tax the rich
and use the proceeds to encourage the bum to straighten up. Now, that
doesn't sound *too* bad in itself, but when you apply the same reasoning
to the educational needs of the young and the societal benefits one would
expect of a highly educated younger generation...

Sampo Syreeni, aka decoy - mailto:decoy at iki.fi, tel:+358-50-5756111
student/math+cs/helsinki university, http://www.iki.fi/~decoy/front
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