One and three quarters best

Responding to an interesting post by Dani Rodrik, my co-author Andrew Leigh has cast me as a ‘first best economist.’ Here is what that is:

The gut instinct of the members of the first group is to apply a simple supply-demand framework to the question at hand. In this world, every tax has an economic deadweight loss, every restriction on individual behavior reduces the size of the economic pie, distribution and efficiency can be neatly separated, market failures are presumed non-existent unless proved otherwise (and to be addressed only by the appropriate Pigovian tax or subsidy), people are rational and forward-looking to the first order of approximation, demand curves always slope down (and supply curves up), and general-equilibrium interactions do not overturn partial-equilibrium logic. 

What Andrew bases this on, I don’t know. Possibly my desire to see road and water pricing. But if you look at my raft of views on broadband, everything that I have done on innovation, everything that I have done on mergers and competition policy (including my anti-shopping dockets moves), credit card regulation, the theory of the firm and my work on health and housing, the second best description seems more accurate:

Those in the second group are inclined to see all kinds of complications, which make the textbook answers inappropriate. In their world, the economy is full of market imperfections (going well beyond environmental spillovers), distribution and efficiency cannot be neatly separated, people do not always behave rationally and they over-discount the future, some otherwise undesirable policy interventions can generate positive outcomes, and general-equilibrium complications render partial-equilibrium reasoning suspect.

Now what is true is that, like Andrew, in many public forums, I tend to put forward first best ideas. There is a dearth of supply of them there. In academic work and, especially in consulting, I am easily in the second best land. There we need more supply of practical solutions.

4 thoughts on “One and three quarters best”

  1. You know that’s a good question. Actually, I think that in the end you will find it is more second best than not given all of the departures from a standard rational models. But we will see.

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  2. That’s really interesting. I would have classed what you have shown me so far as predominantly first-best stuff, so will be curious to see whether later chapters are different, or whether we’re just interpreting FB/SB differently.

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