Knowledge Problem

Lynne Kiesling

I was intrigued last week to read Bruce Yandle’s short piece in Regulation discussing Pigou and his ideas about taxation in the context of modern “Pigouvian” policy proposals. I recommend his essay highly; it communicates eloquently how Pigou’s ideas are currently being used as a justification for a variety of forms of taxation. Many of these tax proposals (bank taxes, gasoline taxes, salt taxes, sugary soda taxes) may be motivated by some political elite’s notion of what is “good for society”, but Yandle also makes clear that such proposals may instead be motivated by raising revenue.

Even more interestingly, Yandle does something that few current economists do — he reads Pigou’s original arguments. In them he finds something that I find intriguing (and although I have read large portions of Pigou’s original works, I was not aware of this):

As strange as it may seem, Pigou did not believe that government could improve human well being by fine-tuning behavior with taxes, subsidies, and regulation. His concern was grounded in what we today call Public Choice. He did not accept the notion that politicians, given constitutional constraints, would be capable of implementing an efficient and effective set of taxes and subsidies. Put simply, he did not believe the politicians could get the calculations right. Instead of making things better, the chances were just as good that things would be made worse. Instead of keeping faith with implementing a well-designed tax, the politicians’ interest would be deflected to writing loopholes for favored interest groups and finding ways to generate ever more revenue.

Yandle quotes Pigou from his seminal 1932 work The Economics of Welfare, Chapter XX, “Intervention By Public Authorities” (1932). Pigou’s discussion in this chapter is striking in how it presages modern public choice arguments, as Yandle indicates. Pigou is also making a clear argument for analyzing the performance of different institutions and what are the correct comparisons to make. Take, for example, this quote from p. 332, which immediately precedes the quote Yandle used in his essay:

[The case for government intervention] cannot become more than a prima facie one, until we have considered the qualifications, which governmental agencies may be expected to possess for intervening advantageously. It is not sufficient to contrast the imperfect adjustments of unfettered private enterprise with the best adjustment that economists in their studies can imagine.

Not only is Pigou making a public choice argument in this chapter; in this quote he is also making a point that Harold Demsetz would later term the “Nirvana fallacy” in “Information and Efficiency: Another Viewpoint” (1969). In the remainder of the chapter Pigou goes on to argue that early-20th-century improvements in voting access, in bureaucratic administration, and in communications technology made government interventions more appropriate in more situations than had been the case previously, with less voter engagement and a less productive bureaucracy. To do a true Demsetz-style non-Nirvana comparison, though, Pigou would have had to compare the effects of those changes on the productivity of markets and other institutions for private ordering, relative to their effects in public administration.

Still, I find this chapter of Pigou incredibly striking. It indicates Pigou’s willingness to admit, and to analyze, the effects of institutions on economic outcomes. Here he’s essentially saying that institutions matter, a position that his colleague John Maynard Keynes did not hold. Pigou’s argument is even more striking to me in light of my recent reading of Buchanan and Wagner’s Democracy in Deficit, which I mentioned a couple of weeks ago. Pigou’s analysis of government intervention seems to me to have more in common with Buchanan and Wagner’s argument, and their criticism of Keynes’ approach as institutionally sterile.

Pigou, Buchanan and Wagner, and the Yandle essay all give some substantial food for thought as we think through the range of very interventionist policy proposals being put forward right now. I also recommend Thom Lambert’s post at Truth on the Market about the Yandle essay, which is what prompted my musings here; he goes into more detail in discussing the Pigou-Coase comparisons.