Steve Reads

Apropos of Micromotives and Macrobehavior, I should note another book I finished recently, centered around the same sort of topic. I didn’t realize how very excellent it was until I thought about it for a while and let its tastes stew together with those of the Schelling book. It’s Thráinn Eggertsson’s Economic Behavior and Institutions, which I read on Cosma’s advice.

I probably don’t need to add much to what I wrote about Micromotives to cover Eggertsson’s book, other than to point out its particular areas of focus. Its goals are modest: move beyond the neoclassical framework of perfect rationality and costless complete contracting, but only a little way beyond: assume positive transaction costs, and see what happens. It is a fine introduction to 40 or 50 years of transaction-cost economics, starting with Coase. Eggertsson shows us that the work of many economists can be made coherent in the light of transaction costs. Some examples:

• Akerlof’s market for lemons. If you didn’t need to spend any time investigating the quality of a used car before buying it, because the car’s quality was instantly apparent, there would be no market for lemons.

• Coase: corporations wouldn’t be necessary if contracting were costless. Corporations exist because buying all your industrial inputs, contracting for labor and so forth entail positive costs. There comes a point when it’s cheaper to forego the free market and bring all of this work in house. That point is where corporations spring to life.

• The principal-agent problem: in a world of perfect, costless information, shareholders would instantly know whether the executives they’ve hired to monitor a company are doing a good job; bosses wouldn’t have to do any work to detect shirking, and hence would lose much of their value; voters would know whether their elected representatives are doing what they were sent to do. Organizations like the ACLU that keep tabs on my senators when I don’t have the time to would cease to exist. What binds all these cases together is that there’s a principal (shareholders, bosses, watchdogs), an agent (executives, workers, representatives), and a conflict between the desires of the former and the desires of the latter. This conflict disappears in a world of perfect information.

• Most fascinating to me: money itself — that is, something like a dollar bill that is valueless on its own, but in which the value of all other goods can be expressed — is unnecessary in a world without transaction costs. If you wanted the cars that I sold and I wanted your grain, we would instantly know the quality of each other’s products, instantly trade, and be done. Why bother with all the costs involved in supporting a currency (among which is the cost of preventing counterfeiting) if you can barter costlessly? But of course you cannot: you don’t know that my cars are high-quality and I don’t know that your grain is tasty.

These are all stories, of course. Corporations could come about for other reasons, as could currency. But they’re good stories, and they’re probably falsifiable. Eggertsson doesn’t spend much time on the data itself; it’s almost certain, though, that the many authors he cites have spent that time. Economic Behavior and Institutions is valuable mostly as a pointer to further work in areas that might interest the reader. If you’re interested in basically any part of microeconomics, there’s something in here for you. Its reach even extends, as the examples above show, into regions like political science that might seem remote from economics. It’s a joy to read, and like Micromotives it shows what fun economics can be if handled right.