post by Paul Kelleher
In my original post, I did three things:
1. I identified what I took to be a familiar welfare economic framework. I gave the following axioms as partially constitutive of that framework:
a. The relevant notion of efficiency is efficiency in the production of human welfare.
b. Human welfare is defined as the satisfaction of subjective preferences.
c. The amount of welfare one derives from the satisfaction of a given preference is measured [cardinally] by the amount [of money] one is willing to pay to have it satisfied.
These axioms form the foundation of modern cost-benefit analysis (CBA)--a variety of welfare economics--and in the original post I linked approvingly to an essay by Uwe Reinhardt critiquing CBA.
2. I conceded that analyses of efficiency using the above framework can be scientifically rigorous and economically useful (although I am sure I don't know enough to fully see why and in what circumstances). But I emphasized--as have many practitioners of CBA--that it is illicit to treat the framework's axioms as normatively meaningful, unless one is prepared explicitly to argue why this is OK to do.
3. I gave two examples of policy discussions by economists that I said were "distorted" by what looks to be an illicit normative use of the welfare economic framework set out above. As examples I used:
a. Mark Pauly's two-part claim that, first, low-income/high-risk individuals face barriers to purchasing insurance that can render them unable to value the insurance they can't afford; and, second, that subsidies for the low-income/high-risk can be justified because their health matters to other people, and so giving them access to health care can be seen as a relevant of "community benefit" (Pauly's words) since others are in fact able and willing to pay for it.
b. Some welfare economists claim that future events must be discounted in moral importance in order to protect current generations from the demanding duty to prevent indefinitely many deaths that would occur in the far future. I claimed these economists were implicitly (and illicitly) assuming that efficiency is the sole normatively relevant criterion.
Essentially I was hypothesizing that Pauly and the Discounters (at least these Discounters; not necessarily all Discounters) rely on problematic normative frameworks because they are unduly influenced by a positive economic science that is overstepping its bounds. I saw no other way to make sense of the normative conclusions they come to.
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In response to these claims of mine, Julian Jamison (hereafter "Julian," in light our subsequent friendly email exchange) writes:
I think both Kelleher and Reinhardt are either slightly confused or slightly misleading in their conclusion that welfare economics is taken too far normatively speaking. In Reinhardt’s amusingly titled “How Economists Bastardized Benthamite Utilitarianism” (which Kelleher links to and seems to build on), he claims that statements such as “on the efficiency criterion any change in policy that makes George $2 richer and Martha only $1 poorer is a good thing” depend on the dubious assumption that “an additional, say, $100 will yield the same pleasure to a billionaire as it would to a pauper, and that a $100 loss will visit on the billionaire the same degree and intensity of pain as it would on the pauper.” I fully agree that the latter is dubious (indeed wrong), but the first statement does not depend on anything nearly that strong.
Julian's last statement is correct, and Reinhardt's account of cost-benefit analysis is, I believe, mistaken. As I understand it, modern cost-benefit analysis does in fact treat "any change in policy that makes George $2 richer and Martha only $1 poorer" as "a good thing" (i.e., as a change that enhances efficiency of the sort CBA is specifically concerned with). And this efficiency judgment is indeed issued, as Reinhardt notes, without regard to the "relative amounts of wealth possessed by these two human beings."* But Reinhardt is wrong attribute to practitioners/devotees of CBA the view that "$100 will yield the same pleasure to a billionaire as it would to a pauper, and that a $100 loss will visit on the billionaire the same degree and intensity of pain as it would on the pauper.” Reinhardt says this last assumption "is crucial to welfare economics in neoclassical economic theory and the benefit-cost analyses based on it." I disagree. Let me explain.
Reinhardt is correct that standard CBA treats a dollar to the pauper and a dollar to the billionaire as an equivalent efficiency gain. But this is not because CBA "looks behind" the monetary holdings and postulates something preposterous about the pleasure that each extra dollar brings. Standard CBA simply does not look behind the monetary facts at all. Here are some passages from CBA texts that make the point (emphases added by me).
Anthony E. Boardman, et al., Cost Benefit Analysis: Concepts and Practice (4th Edition, forthcoming), p. 46:
CBA in its pure form requires that all impacts relevant to efficiency be quantified and made commensurate through monetization. Only when all the costs and benefits are expressed in dollars can the potential Pareto principle be applied through the calculation of net benefits. [...]
If both efficiency and equality of income are relevant goals and their relative importance can be quantified, then distributionally weighted CBA provides an alternative decision rule to the maximization of net benefits. Instead of considering aggregate net benefits as in standard CBA, net benefits are calculated for each of several relevant groups distinguished by income, wealth, or some similar characteristic of relevance to a distributional concern...The major problem analysts encounter in doing distributionally weighted CBA is arriving at an appropriate and acceptable set of weights. One general approach, which takes as a desirable social goal increasing equality of wealth, involves making the weights inversely proportional to wealth (or income) to favor policies that tend to equalize wealth (or income) in the population...[T]he absence of a consensus about appropriate weights is not surprising...Dissatisfaction with the strong assumption required to do this has led a number of analysts to suggest that distributionally weighted CBA should always be done in conjunction with standard CBA to make clearer the efficiency implications of the selected weights.
Aidan Vining & David L. Weimer, "An Assessment of Important Issues Concerning the Application of Benefit-Cost Analysis to Social Policy," Journal of Benefit-Cost Analysis 1(1), article 6, pp. 21-2.
BCA [benefit-cost analysis] takes the existing distribution of wealth as given and assesses the relative efficiency of alternative policies given that distribution…Should BCA of these kinds of policy be adapted to take account of the social value of these improvements? Some economists have proposed the use of BCA with distributional weights as a way to incorporate desirable distributional effects of policies (Boardman et al., 2006: Chapter 18). The normative rationale for distributional weighting is an application of the standard idea of declining marginal utility—in this case, the declining marginal utility of money. Given the differences in the level of wealth, an equal marginal increase in wealth increases the utility of poorer persons more than richer persons. An obvious problem with this approach is that, for a practical (and relatively consensual) use, ratios of marginal utilities at various levels of wealth are required. Researchers have postulated plausible proxies for relative marginal utilities based on tax rates (Eckstein, 1961; Haveman, 1965) or patterns of public expenditures (Weisbrod, 1968). Yet, in general, distributional weighting in BCA heretofore has generally been viewed by economists as a supplement to, rather than replacement for, standard BCA (Harberger, 1978). However, this solution sits somewhat less easily in social policy areas than in the traditional domains of BCA.
As I think these passages make clear, standard cost-benefit analysis makes no use at all of the notion of declining marginal utility. Its efficiency criterion is one of aggregate money valuation (which aggregates individuals willingness-to-pay/willingness-to-accept in light of the existing distribution of wealth). Reinhardt is correct that CBA departs from traditional utilitarianism by identifying "utility" with a monetary figure rather than a mental state. But that is as far as standard CBA goes. No practitioner is committed to the preposterous view of human psychology that underlies the claim that a dollar will give the same amount of pleasure to a pauper and a billionaire.
This last point is crucial, but easy to miss. It is easy to assume that whenever an economist speaks of "utility" it must refer, as it does in the traditional utilitarian framework, to a hedonic tingle (or whatever) inside the person. The same is true for the term "preference satisfaction." This may conjure up the idea of a warm feeling on the inside upon getting what one wanted. But standard CBA's notion of preference satisfaction is wholly divorced from hedonic tingles and warm glows. It simply refers to the thing that one wants actually happening. Its happening is something that occurs out in the world, not in one's feelings. When it happens, standard CBA says that the utility it generates is measured by the amount of money one was willing to pay to get it to occur. None of this has anything to do with "utility" in the traditional utilitarian sense. It is therefore wrong to say, as Reinhardt does, that CBA's practitioners believe the marginal utility of wealth is the same for both pauper and prince. CBA simply doesn't address that issue. "Utility" in CBA's sense is preference satisfaction, and preference satisfaction is measured here in terms of money.
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Julian wrongly (though understandably) assumes that I follow Reinhardt in holding that CBA is committed to a patently false view of human psychology. But Julian's post also ignores the branch of welfare economics my original post was primarily aimed at, namely cost-benefit analysis. Pure or standard cost-benefit analysis does not employ the notion of declining marginal utility, and part of the reason for this seems to be that economists are reluctant to impose their own views on how fast marginal utility declines with income. Now, Julian would probably be right to suggest that there is no way Mark Pauly (in the quotation I provided) is explicitly or intentionally relying on standard CBA to analyze social insurance policy. But I never claimed this. Instead, I claimed two things: first, that the normative framework I detect in Pauly's discussion is "precisely what one would expect from someone who embraced the axioms [of standard CBA] as partially defining (one sphere of) political morality." Second, I offered reason to think that Pauly's normative framework was so flawed that the best explanation for anyone's holding it is that they have transformed a rigorous scientific framework, which can only measure just one sort of efficiency, into a wider policy framework that ignores many morally relevant considerations.
Here again is the passage I quoted from Pauly (pdf):
If anything, among the middle class there is more overuse [of medical care]…than underuse…[But for] lower-income households in America (given moderate risk levels) and for high-risk households (given moderate income), this reasonable state of affairs does not apply. Generous subsidies for better care are needed for them. Fortunately, subsidized insurance can both provide financial protection and reverse moral hazard for community benefit, stimulating the use of care that others value more than the person can or does. (p. 7; emphasis added)
As I explained, I find bizarre Pauly's claim that low-income/high-risk folks who cannot afford good health care may also be unable to value it. Since Pauly makes no indication that the people he's referring to are unable to value health insurance because they are weak-willed or uneducated (or the like), I took his claim at face value: since the are unwilling to devote their limited resources to good health care coverage, they are unable to value it. Put in terms of cost-benefit analysis: since they are unwilling to pay for good health care (perhaps because they need all their money for other necessities), no relevant preference would be satisified if they got it; therefore, no utility would be generated if they got it. Pauly goes on to note, however, that other people may be able and willing to pay for health care for the sick and the poor. In that case, utility would be generated if they received good coverage or care, but the relevant utility would redound not to the poor or sick, but rather to those onlookers who were able and willing to put their money where their cares are.
In response to my interpretation of Pauly's passage, Julian writes:
Just because Martha isn’t willing to pay as much for health care as George, welfare economists (Mark Pauly, in Kelleher’s example) don’t conclude that she doesn’t value it as much. Rather, they conclude that she values all the other things she can buy with that money (reliable transportation, education for her kids, a second bedroom) more than health care, and (on the margin) more than George does...
I think this ignores what Pauly in fact says. Even so, Julian's way of putting it could be true, and CBA would still say that Martha would derive no utility from getting health care, and therefore does not value it. If Martha would choose to use all her limited income on non-health goods, then CBA says Martha would generate no utility if she got the thing she is unwilling to pay for herself. If someone would derive no utility from something, it does seem natural to say that she does not value it. And this is what Pauly says---it is also what I originally said was a silly thing to conclude. Still, I give Pauly credit for going further and stating explicitly that Martha may be unable to value it. That at least generates some sympathy for her. But in putting things this way, it seems clear to me that he's relying on something like the welfare economic framework of cost-benefit analysis.
*This sentence was added later for further clarification of the point at issue.
(This entry has been lightly edited for clarity.)