Lectures 1 CC

Sources of economic (productivity) growth

Solow: more K & H (capital and human capital)

Smithian: trade and specialization

Northian: better institutions + property rights

Schumpeterian: new technology

incentives to accumulate K (capital)

private incentives (protection of property rights)

government subsidies/ incentives

Private good

rivalrous and excludable. (rivalrous = one person’s consumption of it reduces the potential consumption by another. excludable = can prevent someone from using the good)

example: K (capital)

incentives to accumulate H (human capital)

education policy

private return to education

Club good

excludable but non rivalrous

example: A (ideas and technology)

how does “A” change? (A = productivity)

• smithies growth

• northern growth

• schumpeterian growth

smithian growth

gains from trade and specialization

(diminishing returns)

northian growth

institutional change

more efficient factor markets

improved property rights

making allocation of resources more efficient

(diminishing returns)

schumpeterian growth

technological progress

(no diminishing returns, knowledge is composable)

Difference between K (H) and A

K is a private good (rivalrous and excludable)
A is a club good (excludable, but non-rivalrous)

• 
  

what are the aggregate benefits of diffusion of A

• everybody becomes more productive

• higher chance of further improvements upon current tech state (if that info is shared)

cons of diffusion of A

less incentive to pay for innovation

lower returns to innovation (because of competition)

fundamental question of class

what economic system creates the best incentives to accumulate K, H, and A without destroying the planet

what are the conditions that must be satisfied in order for a “bigger pie” to be able to make everybody better off?

if redistribution is feasible and costless

what is capitalism

a system abased on

• freedom of exchange

• private ownership of means of production

• freedom of enterprise

important note on capitalism and for profit enterprises

capitalist system does not imply that all economic activities are for-profit enterprises

It DOES imply that entrepreneurs can choose the organizational forms they prefer

note on capitalism and privately owned activities

capitalist system does not imply that all activities are privately owned and/or privately managed

(i.e. justice system, army, police, post office, prisons)

when is private ownership not a good idea?

if customers are not free to choose

because then private ownership might give too strong incentives to minimize costs and not to maximize cost-adjusted quality

command economy uses ________ to ensure compliance with planned economy

threat of use of force

it is difficult to stop mutually beneficial exchange, but there are man historical/ legal/ social/ religious examples of attempts

lending at interest

selling land

selling time in form of labor

reasons to support the claim that not everything should be for sale

• unfair for poor/ unsophisticated people (they may be coerced into doing something because they need money)

• corrupts nature of the good (you can’t buy a Nobel Prize, must be earned a different way… otherwise it loses its prestige)

• induce the wrong selection (if you can pay your way into presidency, then this may lead to wrong selection of president)

economic problem according to Hayek

not just allocating given resources, but utilizing knowledge not given to anyone in its totality (dispersed knowledge)

must be solved by decentralization

Adam Smith’s Take on Markets

Can achieve socially desirable outcomes even when agents act in self interest

First Welfare Theorem

Every competitive market equilibrium is Pareto efficient (impossible to make one person better without making another person worse off)

Supports Adam Smith’s conclusion that self-interested individuals can collectively achieve a socially desirable outcome

key assumptions of the first welfare theorem

1. Consumers are locally non-satiated (they prefer having a bit more of the good)

2. Agents are price takers (they can’t set prices, this is realistic only when you’re tiny relative to the market)

   1. the proof relies on this bc if someone can manipulate price, they steer the market toward their own benefit, and outcome is no longer socially beneficial necessarily (ex. of a monopolist restricting output to keep prices high, leaving mutually beneficial trades on the table)

3. Agents are rule takers

4. There are no externalities

   1. if there are externalities, then there is an additional cost not factored into the price, which means trade can still be voluntary/ beneficial to both parties, while making society worse off. negative externality & high social costs = market overproduces.

What does First Welfare Theorem prove to us about fairness of distribution?

Nothing. The theorem is silent on fairness of distribution.

(i.e. auctioning off PPE during the pandemic would lead to an efficient outcome if all assumptions held, since it would go to whoever values it most and no further trades would help anyone. But willingness to pay reflects ability to pay, so hospitals serving poorer areas may lose even if their need is greater, which is unfair. there are also externalities: a buyer’s willingness to pay only reflects the private benefit, not the public health benefit of protecting a frontline worker who would otherwise spread infection (social cost that never shows up in the price any buyer is WTP). so the market undervalues PPE for the people who need it most, and the outcome is inefficient and unfair.

Hayek and modern technology… what does modern tech change abt Hayek’s conclusion on a central planner + do markets still matter

Hayek argued knowledge is dispersed and often tacit, so:

• central planners can’t gather it

• decentralized decisions coordinated by prices work better

with modern surveillance tech,

individual circumstances (tacit knowledge) is captured, weakening the case for delegating decisions to individuals + the informational role of prices since firms can personalize prices to extract each consumer’s max WTP

Markets still matter by delegating decisions vs. transmitting knowledge

Risk = whoever controls data and feedback system gains tons of power