Thursday, February 10, 2011

Good afternoon, from ice station Hillsdale to ice station Fairbanks. Yeah, yeah, it's not as cold here as it is there, but we're thinner blooded. It hit zero last night.

So what better to warm up than Hayek's chapter two? Chapter three is pretty good; it's pretty amazing, in fact, and has some good materials for macro and international development (especially if you consider that Hayek wrote this in 1960, well before the New Institutional Economics and New Development Economics intellectual revolutions). Parenthetically, Gerald Scully shows in his 1988 book, Constitutional Environments and Economic Growth, that income inequality is higher in (a) poorer; and (b) less free countries (and that there's a strong positive link between economic/political freedom, growth, and income). But it's nowhere near as awesome as chapter two, IMHO.

Chapter two bowls me over every time I read it. In many ways, I think it summarizes the Hayekian project, and his surprising approach to liberty: not utilitarianism (or not completely); not rights; but… epistemology and cognitive theory. Wow! Good stuff!

This is my favorite Hayek (so favorite, in fact, that I wrote an article about it: "The Sensory Order and the Social Order: Parallels Between Hayek's Cognitive and Institutional Theories." I'm happy to send copies. I argue there that Hayek's entire institutional project is offered as a solution to his cognitive theory: limited and tacit knowledge. Happy to send copies… if you wish, and don't have enough to read yet 

A lot of the background can be found in Hayek's seminal 1945 article, "The Use of Knowledge in Society." Basically, knowledge is scattered throughout society, and doesn't exist anywhere central; when we do have knowledge, we can't even always articulate it. Think of gut feelings, social interactions… or telling a friend how to tie a bowtie or succeed in college or make friends. This includes technical knowledge (remember that no individual can make a pencil, as explained by Leonard Read in "I, Pencil," because it takes too many components: miners, smelters, lumberjacks, ship captains, bankers, etc.). It also includes economic knowledge (what will the price of lead be? What are the alternate uses? Who will demand lead? What will economic conditions be?).

Based on this limited knowledge, how do we function, let alone have the thriving, dynamic economy we see? Well, says Hayek, we've got institutions to overcome that. In addition to their role in providing good or bad incentives (cf. chapter five), institutions play a very important epistemic role (p.27). They are key to discovering knowledge, and transmitting knowledge – and the latter, both over time, so we don't need to reinvent the wheel with each generation, but can grow and progress – and among contemporaries, so that economic activity, coordination, and harmonious social life are possible.

As an economist, Hayek points out the role of "prices offered for…products," (28) obviously, as guides for economic action. But, beyond prices, Hayek as social theorist also emphasizes "expressions of moral or aesthetic esteems for…having observed standards of conduct." He'll come back to this in his later explanation of the law as providing information about the protected spheres of others, and the limits of individual action.

This is, to me, so insightful that it's obvious. And so obvious that it's forgotten… especially by social engineers who think that (a) we can collect knowledge centrally; (b) decision-makers and/or experts can make economic decisions for the rest of us, even though they lack the particular knowledge of time and place (Hayek 1945) or what Leonard Read calls "millions of tiny know-hows." Hayek, was, of course, writing against the 20th century tide of central planning. As Garrett points out, Hayek is also worried about the philosophical and scientific foundations of this centralizing/engineering attitude, as he writes in his 1952 collection of essays, "The Counter-Revolution of Science: Studies in the Abuse of Reason." Great reading, and a frontal attack on Descartes, rational constructivism, Comte, the legal positivists, central planners, and others who would apply the laws of physical science to the social sciences.

Back to chapter two… and some difficulties. But first, one of my favorite quotations, because it's so simple and straightforward (p.30): "Man learns from the disappointment of his expectations." There you have it. Wow.

So, let me close with two general questions for discussion (these are still bugging me after all these years), and one comment

Hayek recognizes, and I agree with him, that we're going to make mistakes – and that "our faith in freedom does not rest on the foreseeable results in particular circumstances but on the belief that it will, on balance, release more forces for the good than for the bad" (p. 31) I've seen a number of people reject this faith in freedom – from left- and right-wing approaches. Many fear that freedom could lead to bad outcomes, so we should curb it. Hayek argues that there will be more harm (lost learning), on balance, from limiting freedom (and its potential bad consequences) than from the mistakes of freedom. Of course, Hayek points out that this will only work if institutions offer a feedback mechanism of (a) learning; and (b) consequences/responsibility (cf. chapter 5). So, the best we can do, given our limited knowledge, is get institutions right, provide for "a maximum of opportunities for accidents to happen" (p. 29), and have faith in freedom.

In a world of sheer uncertainty (we don't know what we don't know… so we can't take steps to remedy our ignorance until we've discovered what we don't know), the best we can do is prepare, and facilitate learning. Besides, Harold Demsetz's Nirvana Fallacy reminds us to compare apples to apples – and not oranges to Nirvana. So, sure, freedom will lead to mistakes. But we ought not compare those mistakes to Nirvana and conclude that we need intervention or central planning or limits to freedom. Instead, we should ask ourselves, given our ignorance, can we really do better by planning, or trying to plan, outcomes?

But, I wonder, are there cases where the mistakes are so bad that we should actively avoid them? And what if the mistakes break the feedback mechanism (for example if the unanticipated outcome of a political change is a loss of liberty and a growth of central planning)? This ties in with the next point, on institutional emergence and growth.

Hayek seems pretty confident that the best institutions possible will emerge from a feedback mechanism of freedom (if after some mistakes) because bad institutions will be weeded out. But are there problems with path-dependence (bad institutions emerge, and the expected cost of changing them for good institutions exceeds the expected benefit)? And are there any appeals outside of history? In other words, how do we judge the value of an institution? And, if we don't like institutions, or they somehow need to be corrected, how do we do this, and along what criteria? How do we know when our limited knowledge is sufficient, or sufficient justification, for engineering a change?

There will be more on this.

I've often made the claim that Hayek is a three-beer rights theorist. In other words, get three beers in him, and he'll start talking about our natural rights to life, liberty and property, and self-determination – thus making a moral case for freedom. But he's way too cautious, and recognizes his own limits… hence his appeal to epistemology and cognitive theory, rather than rights or ethics. This will be developed, in Hayekian deliciousness, when he talks about the protected sphere of the individual, and how no person has enough knowledge to impose ends on another.

But we'll get to that, and I've probably written too much already. Let me know if these comments are helpful, please, or if you'd like something different, whether length or format. Have a good discussion, and a good weekend. NW


  1. Thanks for your comments. In thinking about mistakes, our discussion group raised pollution as a potential mistake that was not worth the benefits. It is conceivable that humanity could so damage an ecosystem that the effects would be felt even after a hundred years. Nuclear war was also mentioned as a mistake that we would not want to learn from.

    BTW, you get bonus points in some parallel universe for using the phrase, "Hayekian deliciousness."

  2. Thank you for your post! We discussed Hayek's take on mistake making in our discussion on Thursday night, and most people came to the consensus that we agree with Hayek... In response to your question if in some cases are mistakes so bad that we should actively avoid making them the point was raised that nuclear warfare was most likely a mistake that should actively be avoided at all costs.
    As for Hayek being a three beer rights theorist, I personally think this is a good thing. Besides the fact that all good economist should drink a beer every now and then, I appreciate the moral character of a person who believes that all people are entitled to life and liberty and even property. I appreciate Hayek's ability to use his personal morals as ammunition for a well developed cognitive theory... I am not well educated in the field of epistemology but from my understanding it seems like it could be humbling; humility is something that in my (humble) opinion the present scholarly environment is lacking or "in a deficit state".

  3. Interesting post, especially in regards to your mistakes section. I would say I have to agree with you. While I feel that there are dangers of being in a free society, and mistakes WILL arise, I would ask somebody to find a system throughout history that has been without its flaws. All argument's aside, it is fact that those in free societies have contributed more to the development and advancement of the world.

    Many of those who argue against freedom, especially in the political realm, do so by pointing out an instance of abuse and then inflame people. And sadly, under the guise of righteousness, I feel the taking away of freedom is far to often done by those who wish to advance themselves at our expense.