Tuesday, October 06, 2009


Perverse Incentives in Capitalism

Conservatives like to talk about perverse incentives due to government interventions in the free market, but I would like to propose that free market capitalism has an inherent perverse incentive against progress.

What is the underlying justification of large rewards in capitalism? Roughly that high risks must be balanced out by high rewards otherwise people won't take risks.

But whom does capitalism tend to reward then? People who act to optimize expected utility (e.g. people who will take risks because the reward makes the risky action have a positive expected utility) -- i.e. people who are Bayesian rational actors. I.e. capitalism awards (a certain kind of) rationality. And since capitalists dictate the agenda of private enterprise in a capitalist system (money always has strings), the nature of private enterprise in free market capitalism is at best (e.g. when the system actually does function -- lately we've learned a lot about market failure, haven't we?) that of a certain kind of rational actor.

However, as GB Shaw (?) pointed out, all progress depends not on reasonable people but on unreasonable people. Yet capitalists are, according to a very specific definition, reasonable people.

So what does this say about the relation between progress and capitalism? Consider, for example, who got richer -- the true innovators of the modern PC age or Bill Gates? Free market capitalism, like any other evolutionary system, at best only sufficiently rewards successful innovations -- Apples' Steves have been amply and sufficiently rewarded, but who really got rich from making our society computer-saturated and how? And what are the implications of "who won" in terms of whether we really are in a technologically optimal environment?

Of course, the real innovations were produced by gummint anyway, weren't they?

Meanwhile, a bit ago on a comments thread at Eschaton I observed (in re. my uncle who has settled in Finland) that for all the emphasis glibertarians give to "the rugged individual", it seems that people who truly march to their own drummer thrive best in more socialistic societies in which they don't have to worry so much about the rat race but rather can do what they want to do at their own pace.

Which society gives individuals more freedom? In which society is being the sort of unreasonable person on whom progress depends rewarded rather than having rewards flow to Bayesian rational agents? And where do so many neat technical things come from anyway?

Hmmm ... I wonder ...

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