Lynne Kiesling
I have a new paper that may be of interest to KP readers, since the subject of the paper is the same as the name of this site: Knowledge Problem. I am honored to have been invited to contribute this paper to the forthcoming Oxford Encyclopedia of Austrian Economics (Peter Boettke and Chris Coyne, eds.). Here’s the abstract:
Hayek’s (1945) elaboration of the difficulty of aggregating diffuse private knowledge is the best-known articulation of the knowledge problem, and is an example of the difficulty of coordinating individual plans and choices in the ubiquitous and unavoidable presence of dispersed, private, subjective knowledge; prices communicate some of this private knowledge and thus serve as knowledge surrogates. The knowledge problem has a deep provenance in economics and epistemology. Subsequent scholars have also developed the knowledge problem in various directions, and have applied it to areas such as robust political economy. In fact, the knowledge problem is a deep epistemological challenge, one with which several scholars in the Austrian tradition have grappled. This essay analyzes the development of the knowledge problem in its two main categories: the complexity knowledge problem (coordination in the face of diffuse private knowledge) and the contextual knowledge problem (some knowledge relevant to such coordination does not exist outside of the market context). It also provides an overview of the development of the knowledge problem as a concept that has both complexity and epistemic dimensions, the knowledge problem?s relation to and differences from modern game theory and mechanism design, and its implications for institutional design and robust political economy.
In this paper I analyze the development of the two categories of the knowledge problem — the complexity knowledge problem and the contextual knowledge problem — and explore both the history of the development of these concepts and their application in robust political economy and new institutional economics. As is the hallmark of a good research project, I think on balance I learned more than I created in the process of writing this paper.
One other thing I made sure to include was a discussion of how the knowledge problem and its development relates to game theory and mechanism design, through the work of Oskar Morgenstern (and then through some of the work of Herb Simon and Vernon Smith, among others).
Tying together economics, institutional design, history of thought, and epistemology, I hope you find this paper informative and useful! I’ll also make sure to update when the full volume is available.
As I have thought about the knowledge problem, I have become more aware of the day to day dimension of contextual knowledge, and why it is so hard to aggregate.
I only have to shop for food if the refrigerator is empty. The rest of the world has no idea when that will be. when it happens, what I buy will depend on idiosyncratic factors. Do I feel like cooking, do I have time to cook something fancy, is the weather good enough to grill outside, and so on. Which store I go to will depend on the time of day when I leave and what else i have to do that day. When I get to the store, my purchases will be impacted by what is available at that time and place, and what its price is. If steaks are on sale (a rare thing these days) I might buy a couple and freeze some for later. But, I won’t do that for fish or chicken. Sometimes the store will not have what I want. I might substitute, I might go to another store, or I might write it down and wait.
The knowledge of what I and 320 million other consumers will do on a given day does not exist until it actually happens. When the day is over, the data remains, but it is now history. Most of the time we operate with the assumption that tomorrow will be much like yesterday, with certain regularities like the calendar and the passage of the seasons thrown in, and it works moderately well. But, things can and do change from shocks large and small. And they will be more or less hard to accommodate.
My point of this is, I hope simple. The reason the contextual knowledge problem exists is that contexts are mutable and unpredictable, and reactions to changing contexts are likewise mutable and unpredictable, and what any one action will be in a context will depend on the context of other mutable and unpredictable actions.
Life is tough, wear a cup.
I’ll complain (i.e. raise for discussion) about this claim, from p. 16: “At some level arguments for government intervention, and the associated theoretical models and institutional designs, all rely on the presumption of the existence, knowability, and stability of an optimal outcome.”
First, most arguments for government intervention don’t link to any such foundation at any level of analysis. Right? No one requires a license to lobby the government, and no one requires you to establish your theoretical framework before you demand government action.
Second, even among more careful analysis, not all arguments depend on the “existence, knowability, and stability of an optimal outcome.” Most classical liberals, for example, advocate some government interventions (define and help protect property rights, for example, or provide for the common defense) which don’t link at any level to optimality conditions. (Though I don’t dispute that some misguided formalist has a model somewhere….)
So even in the case of public utility regulation we can argue about this. Certainly there is a body of mainstream public utility economics pointing to marginal cost pricing, natural monopoly, and other topics framed within mainstream’s language of optimality. The practice of public utility regulation preceded any systematic development of this economics and developed in a feedback loop-style context of company plans, regulator responses, and realized results, all with a background of court decisions on everything from what can be included in a rate base to how to pick a reasonable rate of return. All of these regulatory practices emerged and developed outside of presumptions of optimality.
So I’m disputing your claim, at least the way you phrase it.
But on the general issue of knowledge problems and government regulation, you might consider the difference between command-and-control style regulation and those regulatory institutions that fall under the name “market-based approaches” to regulation. I think in this example there are useful KP-related insights about arguments for government intervention (that don’t necessarily presume optimality).
Mike, I agree with your careful reading of this idea, and I think a fruitful area where folks like you and me should look for analyses and recommendations are those hybrid “market-based” approaches — both because of the alternatives they suggest and because they themselves, if not designed well, can generate unintended consequences. But when the designers of these approaches are doing their designing, I recommend that they do so with both the knowledge problem and transaction costs in mind. More often than not, I think that’s not the case.