“The economic argument”

Last week there was an xkcd strip that bothered me for three reasons.  Here’s the strip:

Two of the three things that bothered me about it were raised in this comment in the forum, more forcefully than I likely would have done.  So I’ll take the liberty of quoting “woodrobin”:

1. Dowsing is used by oil prospectors, as well as people looking for places to dig water wells. Less often these days, but it’s still used. Does that mean it works? No. Does people not using it mean it doesn’t work? No. Very few people use horses to pull plows, except the Amish and people in developing countries. Does that mean that horses can’t pull plows?

2. Health care cost reduction. That was funnier, taken seriously, than the original joke. When was the last time you ran into a doctor, hospital or insurance company that was interested in cost reduction through treatment? Any treatment, scientific or otherwise? Doctors and hospitals want to make money, and insurance companies have figured out it’s easier to save money by denying coverage for treatment, either in whole by canceling coverage, or in part by excluding anything “experimental” or “unproven.” In other words, it’s cheaper to exclude entire types of health care than to consider or cover them, whether or not they’re quackery notwithstanding.

“woodrobin” goes on to make two more points, about irrational practices that are in fact quite common in financial planning and military operations.

I would add one thing to woodrobin’s point 1, that people who defend dowsing usually claim only that it is a good way of finding water that is near the surface.  Most oil prospecting these days is concerned with deposits that are deep underground, so no method of shallow surveying is going to “make a killing” for anyone in that area.

My third objection hinges on the word “eventually” in the caption.  In the long run, the caption seems to say, market competition tends to eliminate irrational practices.  That may well be true.  However, that long run can be very long indeed, and in the interval those irrational practices can be reinforced by any of a wide variety of social forces.

Moreover, the rationality that competitive markets enforce is not the rationality Plato talked about in The Republic, not a single process that must culminate in a vision of unmixed truth and untainted justice.  Rather, it is the rationality Max Weber had in mind when he said that modern society traps its members in an “iron cage of rationality.”  Economic agents respond to the incentives of the market and develop ever more efficient ways of meeting the demands of other economic agents who have purchasing power.  Whether those demands accord with the sort of truth and justice Plato hoped to discover has nothing to do with it.  The mouseover text on this strip reads “Not to be confused with ‘selling this stuff to OTHER people who think it works,’ which corporate accountants and actuaries have zero problems with.”  The distinction between making a killing selling financial advice based on astrology to suckers who think astrology works and making a killing selling financial advice based on astrology because astrology really works may have made perfect sense to Plato, but it seems awfully tenuous from the viewpoint of someone like Weber.

A type of economic behavior that is perfectly rational in the Weberian sense, yet not at all rational in the Platonic sense, is the mimicry of one’s competitors that Harold Hotelling analyzed decades ago.  In 1929, Hotelling published an article called “Stability in Competition” in which he asked why economic agents so often offer goods and services that are very similar to those which their competitors offer.  Even in circumstances where it was clear that consumers would support a wide variety of goods and services, Hotelling could find examples of competing firms offering barely distinguishable products.  Hotelling made the simple observation that each producer wanted the largest possible share of the market.  So, if the only soft drink on the market were Coca-Cola, it might be the case that about half the consumers would prefer a drink that was sweeter than Coke and half would prefer a drink that was less sweet.  An entrepreneur who introduced to this market a soft drink that was slightly sweeter than Coke would have a chance at a 50% market share.  Even if 49 of those 50 percentage points consisted of consumers who wanted a drink that was far sweeter than Coke, the entrepreneur would be wise to adopt a recipe that was just sweet enough to be noticeably sweeter than Coke, lest s/he miss that other percent.  Hotelling’s “principle of minimal differentiation” explains many otherwise puzzling social phenomena, such as the fact that the policy stands of opposing political parties are often closer to each other than to major strands of public opinion.  In a market where such things as the principle of minimal differentiation have play to operate, it will not bother ruthlessly profit-focused economic agents that some of their practices are based on superstition until other agents make bigger profits without reliance on those superstitions.

That’s why it is that the long run can be so very long.  To take the obvious example, until the Dodgers signed Jackie Robinson, the owners of major league baseball were under no great economic pressure to hire African American players.  Once that step was taken, no franchise could long deny itself access to such a large pool of talent and remain competitive, but before it was taken professional baseball had been segregated for 67 years.  Had it not been taken, segregation might have persisted in all its stupidity for decades more.  If a system under which baseball teams refuse to hire African American players can survive for so long when it is obvious that there are many African Americans who can play baseball as well as anyone else, then a system under which other businesses shun highly productive methods could also survive for long periods.

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