University of Southern California Dissertations and Theses

The Anomaly Of External Effects: A History Of Concept Development

(USC Thesis Other)

The Anomaly Of External Effects: A History Of Concept Development

PDF

Download a page range

Download transcript

Copy asset link

Request this asset

Transcript (if available)

Content THE ANOMALY OF EXTERNAL EFFECTS: A HISTORY OF CONCEPT DEVELOPMENT by Charles Edward McConnel A Dissertation Presented to the FACULTY OF THE GRADUATE SCHOOL UNIVERSITY OF SOUTHERN CALIFORNIA In Partial Fulfillment of the Requirements for the Degree DOCTOR OF PHILOSOPHY (Economics) June 1970 70-26,529 McCONNEL, Charles Edward, 1937- THE ANOMALY OF EXTERNAL EFFECTS: A HISTORY OF CONCEPT DEVELOPMENT. University of Southern California, Ph.D., 1970 Economics, theory University Microfilms, A X E R O X Company, Ann Arbor, Michigan UNIVERSITY OF SOUTHERN CALIFORNIA THE GRADUATE SCHOOL UNIVERSITY PARK LOS ANGELES, CALIFORNIA 9 0 0 0 7 This dissertation, written by .CLtiaclBJ5...E*..Mc...CQims.L ................... under the direction of A . i s . . . Dissertation Com mittee, and approved by all its members, has been presented to and accepted by The Gradu ate School, in partial fulfillment of require ments of the degree of D O C T O R OF P H IL O S O P H Y Date ™E..1970 DISSERTATION COMMITTEE Chain PREFACE An Intellectual Inventory Imperative Human society is confronted by an imminent social and physical ecological catastrophe. With its water poi soned and air contaminated, industrial society's physical plant becomes increasingly lethal. Man's highest form of cultural achievement, the metropolis, is blighted and con- jested to the point of physical, socio-psychological and ciotopic instability. The fundamental elements necessary for biological and social existence along with the requi sites for maintenance of civic interaction for the inter change of cultural forms are rapidly deteriorating. Past and present outcomes of the dysfunctional patterns of the i sxisting forms of socio-economic organization are well docu mented and receive increasing attention in the popular media. It is apparent from the history of the crisis, that bhe time has come for an inventory of the intellectual tools bhat may contribute to an understanding and reassessment of bhe socio-economic and physical instruments of survival. It would seem appropriate that within the context of such an ii inventory, a reappraisal be made regarding the relevance and efficacy of past perspectives on the nature and evolution of the institutions which now manifest themselves in untenable forms of social existence and ecological imbalance. With the high degree of intellectual specialization in social, biological and physical inquiry, an inventory nust necessarily proceed in terms of separate disciplines before an assessment can be made regarding the total contri bution of the several areas of special knowledge in effec tively understanding the evolution of ecological disequilib rium. The present study is a highly specialized critical inventory of that particular facet of economic science which seems to bear directly on the general problem of social and physical environmental instability. This inventory is in the form of a history of the concept of "external effects" or "externalities." The thrust of our discussion will be an attempt to reassess the perspective on the relationship between social ecology and economic explanation, normally adhered to by the professional economist. Purpose and Method of the Inventory We propose to present a systematic examination of the treatment of external effects as such treatment has appeared in the works of major economists from Sidgwick to the present. The method of extrication will be within the context of a paradigm or organizing principle, the back iii ground which lends credibility to the substance of analysis. That is, rather than using a formalized method of identifi cation and then simply presenting the results as a list of the varieties of external effects examined, we are instead interested in the way the concept was developed, the reason for its development, how it was integrated into the overall analysis of economic behavior, and the consequences of its development for further economic research. The advantage of adopting this framework is that of avoiding the tangential and vacuous bias regarding exter nality theory frequently found in the literature, that this phenomenon is curiosa and socially inconsequential. The objective of this study, in addition to the documentation of the development of a concept, will be to examine the relationship of this concept to the changing techniques in traditional value theory and the efficacy of its integration into the corpus of received doctrine. ?urther, the question of the economist's limited concern with the concept in the context of the empirically all-per vasive evidence of external effects in industrialized societies will be considered. What will actually be ques tioned is how perceptive the economist has been in his selection of strategic variables and relationships and how well the concept has been used to explain significant eco nomic phenomena. iv TABLE OF CONTENTS PREFACE.................................................. ii LIST OF DIAGRAMS.................................. ix Chapter I. HISTORIOGRAPHY AND THE HISTORY OF CONCEPT DEVELOPMENT ....................................... 1 Introduction ................................... 1 Epistemology and the History of Economic Thought; Historiographical Considerations . . . 2 Review of the Conventional Historiographies . . 3 Introduction to the Absolutist-Relativist Controversy Absolutism and Relativism as Competing Approaches Conclusion A New Perspective in Historiography ........... 15 The Paradigm-Anomaly Approach Normal Science, Anomalies and Extraordinary Science Conclusion Application of the New Historiography to Economic Science .............................. 19 Identifying the Global Paradigm The Economic Paradigm and Speculation on its Stability The Paradigm as the Basis for Definition of Scope The Role of Subparadigms in Economics The Implications of a Broader Historiograph ical Scope The Boundaries of Extrication ................. 32 v Chapter II. THE GENESIS OF NORMAL ECONOMIC SCIENCE AND THE EMERGENCE OF ANOMALY....................... 36 Introduction ................................... 36 Establishing the Context and Method for Extrication................................... 37 Introduction Philosophical Preconceptions and the Evolution of the Paradigm Preoccupation With the Unfettered Market as Normal Science............................ 41 Adam Smith and the Genesis of the Optimum Regime Disaffection from the Doctrine of Laissez Faire Within the Practice of Normal Science The Recognition and Treatment of External Effects by Henry Sidgwick: The Rise of Extraordinary Science Interpretation of the Sidgwickian Contri bution ......................................... 53 The Formal Analysis and Its Inadequacies Ambiguities Regarding the Uniqueness of Sidgwick1s Contribution The Nature and Relevance of Sidgwickian De-atomization Conclusion..................................... 61 III. MARSHALL"S CONTRIBUTION TO THE DEVELOPMENT OF THE CONCEPT OF EXTERNAL EFFECTS? AN INDEPENDENT EFFORT.............................. 62 Marshallian External Economies and the Scale of Industry.................................. 62 Uniqueness of the Marshallian Category Marshall1s Definitions and Their Limitations Marshall's Static and Dynamic Modes Articulation of the Statical Externality Framework Analytical Ramifications of Statical External Economies vi Chapter Problems of Evaluation........................ 77 The Marshallian Paradox ...................... 81 IV. LATE NEOCLASSICAL ARTICULATION AND CONTROVERSY; THE TRADITIONAL CONCERN WITH INDUSTRY SCALE . . 83 Introduction to the Controversy Over the Marshallian-Pigovian Category ............... 83 Pigovian Variation on the Marshallian T h e m e ......................................... 84 From Wealth and Welfare to the Economics of Welfare Pigou's Modus Operandi Evaluations of the Pigovian Definitions Traditional Concern with the Scale of Industry Analytical Aspects The Pigovian Assault on the Paradigm The Line of Criticism........................ 10 8 Introduction The "Empty Boxes" The critics and the controversy Concluding note on the "Empty Box" controversy and other contributions of the 1920*s Latter-day Criticism: Within the Context of Scale of Industry V. THE EVOLUTION OF EXTERNAL EFFECTS IN A CONTEXT OF ECONOMIC DEVELOPMENT........................ 134 Afterthoughts on Marshall's Dynamic Mode . . . 134 Introduction External Economies in a Development Context Young's Critique: The Embryonic Doctrine of Balanced Growth Rosenstein-Rodan? External Economies and Coordinative Development Concept Proliferation and Deterioration in a Development Context A Proposal for Concept Reinterpretation for a Development Context ........................ 144 vii Chapter VI. MODERN CONTRIBUTIONS TO THE CONCEPT OP EXTERNAL EFFECTS ................................ 148 Introduction................. 148 The Bifurcation of Context and Revival of the "Coordinative Complex" ........................ 153 Anti-Pigovian Contexts and Conclusions .... 161 Propositions Regarding Indeterminant Outcomes Propositions Regarding Small-Number External Effects Propositions Regarding the Optimality of the Market; "Coase's Theorem" Propositions Regarding the Commodity Space and Existence of an Equilibrium Solution Conclusion VII. CONCLUSION..................................... 189 Introduction ....................... 189 Implications of Paradigm Stability ........... 191 Disaffection from the Paradigm............. 193 Valuation in the Presence of External Effects....................................... 197 Recent Concern Over the Inadequacies of the Theory of Dysfunctional Environments ........ 201 Prospects for Broadening the Scope of Economics..................................... 205 Conclusion..................................... 20E BIBLIOGRAPHY ........................................... 215 viii LIST OP DIAGRAMS Diagram Page 1 The Effect of a Technological External Economy on Production..................................... 69 2a The Effect of a Technological External Economy on Costs of the F i r m ............................ 70 2b The Effect of a Technological External Economy on Costs of the Industry........................ 70 3 The Vertical Disintegration Effect ........ 75 4 Divergence Between the Value of Social and Private Marginal Products ........................ 94 5 Comparative Statics of the Industry in the Presence of External Economies ................. 101 6 Long Run Supply and the Marginal Supply Price of the Industry in the Presence of External Diseconomies..................................... 128 CHAPTER I HISTORIOGRAPHY AND THE HISTORY OF CONCEPT DEVELOPMENT Introduction There are a variety of ways one may approach the nistory of a social scientific discipline or any particular aspect of such a discipline. The intellectual history of economic concepts is no exception. For example, in the literature of economic thought one can find little agreement on a standard of interpretation, method of basic classifi cation of materials or value of the exercise itself. Indeed, as basic a classification as that which would divide the history into analysis and doctrine is yet to gain a consensus due to differences in the organizing framework or method of interpretation. The normative-positive distinc tion that dates back to the time of its explicit and clari fying treatment in the works of Cairnes, Sidgwick and J. N. Keynes, does not yet exist as a generally accepted, unambiguous demarcation between theory and policy. In view of the disagreement that exists, the purpose of the present chapter is to present several of the current approaches to 1 2 the study of economic thought and to justify that approach best suited for the study of the origin and evolution of the concept of externality. Epistemology and the History of Economic Thought; Historiographical Considerations A history of economic thought, as with any intellec tual history, is by necessity selective and interpretive. When the substantial dimension of the history is explicitly confined to that of a particular idea or concept, the inter pretive aspect becomes the major problem. This can be most simply handled by merely attempting to isolate the particu lar concept of interest and restricting oneself to the docu mentation of the instances in which the concept appears in the literature. The problem of interpretation is in this way circumvented. This approach, however, seems out of the question when meaning, usefulness and explanation of evo lution as opposed to existence is the desired end of expli cation. An approach, if it is to be meaningful, must deal with the concommitant developments as the concept of inter est evolves, for it is in this context that meaning is imparted to any economic category. In the examination of the various approaches this aspect seems of paramount impor tance for evaluation. 3 Review of the Conventional Historiographies Introduction to the Absolutist- Relativist Controversy In reviewing the literature on thought one is impressed by the variety of approaches and the pains that are taken to justify the approach taken by any one histo rian. Professor Chalk, in a review of historiographical controversies in the history of economic thought suggests that most approaches can be classified as falling into one of two broadly conceived categories. He identifies and iescribes his two contrasting approaches in the following way: Some scholars have argued that the growth of economics has been shaped almost entirely by what could be de scribed as an autonomous process. In their view the evolution of economic theory has proceeded according to an inner developmental logic peculiar to the discipline, and has rarely, if ever, been affected by environmental conditions .... Other scholars . . . insist that the kind of environment prevailing during a given era exercises a dominant influence on the economic theory being spawned during that period of time. The environmental influences referred to in this context are quite broad in scope, encompassing not only the economic environment per se, but the purely intellectual influences, such as devel opments in related social science disciplines and phi losophy which cut across all lines of the culture, and in the process, impinge on economic theory. 1 Mark Blaug, one of the most respected writers in this field, in a short discussion of the historiography of 1 Alfred F. Chalk, "Relativist and Absolutist Approaches to the History of Economic Theory," The South western Social Science Quarterly, XLVII (June, 1967), 5. 4 the history of economic thought suggests a similar division according to the basic epistemological positions of absolut ism and relativism. Absolutism implies that doctrine which nolds truths as objective and absolute, while relativism is a doctrine which considers truth as varying and meaningful relative to the individual, group or time. Using these categories he examines the literature of economic thought and separates that body of literature in which the intellec tual development of the concept or complex of concepts is considered 1 1 . . . as a steady progression from error to truth ..." from that in which the author "... regards every single theory put forward in the past as a more or less faithful expression and reflection of contemporary conditions, each theory being in principle equally justified in its own context. "2 While such a classificatory device is in itself clear and thus convenient and interesting, its usefulness is diminished by the fact that few interpreta tions of the intellectual development of the discipline hold strictly to one perspective or the other. As Blaug points out, "... almost every historian of economic thought can be placed near one or the other pole of what is in fact a continuum. "3 The ambiguous nature of this contin uum and the ambiguous results of its use if accepted leave ^Mark Blaug, Economic Theory in Retrospect (1st rev. ed.; Homewood: Richard D. Irwin, Inc., 1968), p. 2. 3Ibid. 5 the prospective historian in a considerable dilemma in his attempt to adopt one approach from the existing body of literature. A review of several of the more important approaches perhaps will clarify this problem of selection.^ absolutism and Relativism as Competing Approachei~ With the ostensible exception of Professor Blaug's work, the absolutist school is very thinly represented. E. Cannan's history of production and distribution theories, while properly characterized as absolutist, is now too dated to be of particular relevance to our discussion. Joseph Schumpeter, however, while basing his approach on what can best be described as a positivist distinction, has made certain historiographical distinction's and clarifications that are relevant to our selection of approach and will best be treated with reference to the relativist school to which we shall now turn. It is possible but hardly necessary to subdivide the relativist school beyond the simple distinction of material ist and non-materialist. While the former school places exclusive emphasis on the institutional superstructure as manifested in ideology as the significant influence on the development of the economist's intellectual explanatory ^Oreste Popescu surveys over one hundred such histories in "On the Historiography of Economic Thought: A Bibliographical Survey," Journal of World History, VIII (1964), 168-209. 6 apparatus, the non-materialist school has no specific emphasis but instead explores the diverse effects of ideol ogy, historical situations, practical policy orientations, political environment and concommitant philosophical devel opments. Rather than attempt to identify the proponents of any one of these positions and consider the justification given for that position, let us instead note the objectives of several of the more important historians and investigate the relevance of the absolutist-relativist distinction to their positions. One expression of the relativist position is that of Erick Roll, who hypothesizes that the intellectual develop ment of a discipline "... is susceptible to scientific analysis."5 Although he does not formulate the rules and methods necessary for such analysis nor indicate the rele vance of general scientific principles to his examination, he does express confidence that once the investigation begins, there will be sufficient data "... to form a broad opinion of the manner in which economic theories arise." Of course the necessity of data is somewhat dis sipated once we realize that the entire approach is based on an extra-scientific conviction that the "... economic structure of any given epoch and the changes which it under- 5Erick Roll, A History of Economic Thought (3rd ed.; Englewood Cliffs: Prentice-Hall, Inc., 1956), p. 14. 6Ibid. 7 7 goes are a major influence on economic thinking." What seems important to note here is that the statement that concept formation is susceptible to the methods of science is one position while preempting that method by the presup position of materialism is quite another. A similar but somewhat more complicated position is that of Lawrence Nabers, who introduces his position by first lamenting the fact that the positivistic approach " . . . does not seem to tell too much about how ideas are g created." He considers it the objective of the historian of economic thought to correct this deficiency by utilizing historical study as a " . . . basis for understanding the evolution of economic beliefs, values, and policy and in 9 turn how these affect economic analysis." The pertinent question to Nabers is whether the purpose of the history of economics is to be a history of positive economics or whether it is to be approached with the express purpose of determining "... the meaning and significance of theo retical formulation.As we read further, however, we find that the meaning of the economist's formulations can 7Ibid. ^Lawrence Nabers, "The Positive and Genetic Approaches," in The Structure of Economic Science, ed. by Sherman Hoy Krupp (Englewood Cliffs: Prentice-Hall, Inc., 1966) , p. 74. 9 Ibid., p. 70. •^Ibid., p. 76. 8 only be determined by investigating the use to which that formulation is put. The relevant tool for the investigation of meaning is the sociology of knowledge, an approach that is developed by Nabers and used to support the work of another relativist, Leo Rogin. In Rogin's work we find that the significance of economic theorizing and critical revi sion of theories can best be accomplished by first recog nizing that the best test of validity does not lie in a iirect appeal to facts but "... by an appeal to facts through the requirements of practice— of economic policy."-^ 3ut here the ground shifts from sorting out the influences nn theorizing to the proper test for a theory in a variant nf the Friedman-Samuelson "realism of assumptions" argument. Ironically, Rogin seems to end up in a Friedman type of "instrumentalist"^2 position, which can be summarized as follows: It is the task of criticism to discriminate between the relative significance and validity of . . . theory . . . where the objective and hence relatively demonstrable correspondence between theory and policy . . . and the choice of strategic factors to which it is ori ented . . . is the criterion of a theory's pretention to validity . . . and significance . . . rather than mere correspondence between the premises of a theory and the •^Leo Rogin, The Meaning and Validity of Economic rheory: A Historical Approach (New York: Harper & 3rothers, 1956), p. 2. • L2I. V. T. Bear and Daniel Orr, "Logic and Expedi ency in Economic Theorizing," The Journal of Political Econ omy, LXX (April, 1964), 12-13. 9 13 complex and devious flux of historical experience. We are thus left in the untenable normative position of attempting to compare differing policy formulations with otherwise incommensurable theoretical formulations. The conclusion is that the greater the possibility that a theory has as an instrument of policy the more meaningful and valid that theory. We could easily extend the list of relativist posi tions, from that of Charles Gide and Charles Rist on the indisputability of the "... influence exerted by the eco- 14 nomic environment . . .11" and Alexander Gray's position that economic doctrine "... reflects the conditions of 15 the society to which it relates, ..." to the position taken by Overton H. Taylor when he rejects the idea that economic science has been carried on in any manner that would warrant the belief that it " . . . has been wholly uninfluenced by the political philosophies ..." held by the economists who developed the science. 13 . . Rogin, The Meaning and Validity of Economic Theory, pp. 3-13. 14 Charles Gide and Charles Rist, A History of Eco nomic Doctrines: From the Time of the Physiocrats to the Present Day, trans. by R. Richards (Boston: D. C. Heath ancl Company, 1915), p. ix. 15 Alexander Gray, The Development of Economic Doc trines: An Introductory Survey (London: Longmans, Green and Co., Ltd., 1931), p. 12. ■^Overton H. Taylor, A History of Economic Thought (New York: McGraw-Hill Company, Inc., 1960), p. xii. 10 In a reading of the literature of the relativists we have mentioned, one must conclude that a missing factor is a firm statement on the conception of what science is and in what manner the development of a social scientific disci pline differs from the development of sciences in general. While the relativists express a desire to explain theoreti cal developments of the discipline, few, with the exception of Gray, divulge how progress can be characterized in the discipline. In the context of comparing the social and natural sciences Gray explicitly states his conception of progress. He writes, Economic science, therefore, if it be a science, differs from other sciences in this, that there is no inevitable advance from less to greater certainty; there is no ruthless tracking down of truth which, once unbared, shall be truth to all times to the complete confusion of any contrary doctrine.^ Gray has stated explicitly what seems to be implied in most of the literature produced by the relativists. In making the distinction between the two sciences he implies a certain conception of the natural sciences, the value of which can and will be called into question as we move in the direction of developing an approach for the study of exter nalities. Before we outline that approach, however, let us first consider the contributions to the historiography of the history of economic analysis made by Schumpeter and 1^Gray, The Development of Economic Doctrines, p. 13. 11 utilize certain clarification he makes in an overall evaluation of the relativist position. Schumpeter is considered a major advocate of the "positivist" methodological position and thus may be con sidered an absolutist in the terminology we have adopted. In his writing on methodological issues, however, he exam ines several positions the intellectual historian may take and attempts to clarify the differences. A major distinc tion he makes and one that clears up much of the confusion found in the relativist literature, is the profound dif ference between scientific discovery and scientific proof. The former aspect, that of discovery, has long been con sidered irrelevant in terms of the hypothetico-deductive methods of science and for the objective nature of the ends 18 of science, that of explanation, prediction, and testing. Let us briefly reconstruct the Schumpeterian position and formulate it in such a way that this basic conflict in the relativist literature can be better understood and avoided in the approach to be adopted in the present history. Schumpeter is interested in the history of the scientific aspects of economics and thus with the techniques of economic history, statistics, economic theory and eco nomic sociology. His conception of science and its develop ment is as follows: ^■®Karl Popper, The Poverty of Historicism (New York: Harper & Row, Publishers, Incorporated, 1961), p. xii. 12 Scientific analysis is not simply a logically consistent process that starts with some primitive notion and then adds to the stock in a straight line fashion. It is not simply progressive discovery of an objective real ity .... Rather it is an incessant struggle with creatures of our own and any predecessors' minds and it "progresses," if at all, in a criss-cross fashion, not as logic, but as the impact of new ideas or observations or needs . . . as bhe bents and temperaments of new men, dictate.19 We see then that the development of science is not an incre mental process of revealing truth nor progress as a move ment toward an ultimate truth. The process of proof that is conveyed is not one which we can interpret as moving us closer and closer to ultimate truths, but one which yields an " . . . improving upon the existing stock of facts and methods. "20 As an intellectual historian, Schumpeter does not dismiss those factors which underly the process of "dis covery" as uninteresting but approaches this aspect of science with a knowledge of the positivistic requisites of method and places the analysis of these influences in a perspective consistent with his philosophy of science. In his examination of whether or not "... philosophy deter mines, or is one of the factors which determines ..." the economics of the analyst he reaches the conclusion that, 1^Joseph A. Schumpeter, History of Economic Analy sis, ed. from Manuscript by Elizabeth Boody Schumpeter (New York: Oxford University Press, 1954), p. 4. ^Ibid., p. 7. 13 The garb of philosophy is removable in the case of eco nomics: economic analysis has not been shaped at any time by the philosophical opinions that economists happen to have, though it has frequently been vitiated by their political attitudes . . . this thesis does not imply of course that human action itself and the psychic process associated with it— motives or methods of rea soning, whether political or economic or any other type— are uninfluenced by, or uncorrelated with, philo sophical or religious or ethical convictions .... All that our thesis involves is that it does not apply to his tools and "theorems."21 And, we might add, his "proof." Indeed, this is the dis tinction that cannot be found in the relativist positions thus far examined, the absence of which leads to a confusion between how a theory is developed and how a theory becomes a viable part of the science. Preoccupation with influences and the relevance of theory to policy or instrumental nature of theory has for the most part been at the expense of what constitutes "proof" and how the theory becomes established in the science. In Schumpeter we find the best of the "positivistic" interpretations that has been produced. It is not a mere chronology of theoretical propositions in various stages of attempts at falsification, but a history of the origin and source of discovery along with an analysis of the internal consistency by which the acceptability of any set of propo sitions must be judged before the ultimate test of corres pondence with the empirical world can be made. But this is ^ Ibid., pp. 30-31. 14 precisely what we should expect in a history of the intel lectual efforts that men have made in order to understand economic phenomena once the historian's conception of scientific endeavor has been explicitly stated and adhered to throughout the study. Conclusion This ends our review of the historiography of the history of economic thought as it has been set forth by the leading intellectual historians. As we stated at the outset of this review, the epistemological divisions of absolutism and relativism as classificatory devices leads to consider able confusion once we attempt to analyze the various positions in terms of a continuum between these two polar positions. Further, we have objected to the absolutistic position as being an approach that would lead to a sterile inventory of the concepts and scientific propositions that have been discarded through falsification or a listing of achievements that would consist of those propositions and theories that at present appear to be confirmed. The results of this survey, with the exception of the clarifi cation between the history of discovery and history of "proof" found in Schumpeter is of little value in the formu lation of an approach to be used in this study. There is however an alternative approach that is gaining wide acceptance in the history of the natural sciences that with 15 minor modifications might be quite suitable for an exami nation of the history of concepts in economics. We are referring to the "paradigm-anomaly" approach developed by Thomas Kuhn in "The Structure of Scientific Revolutions."22 Let us briefly examine the relevance of this approach for the history of economic thought and examine its relationship to the approaches of Blaug and Schumpeter. A New Perspective in Historiography The Paradigm-Anomaly Approach The "paradigm-anomaly" approach to the history of science consists of the examination of the context in which any particular theory or group of theories is formulated and an analysis of the tensions that ultimately result in the change of that context. The logically untenable absolutist- relativist continuum position is thus dispensed with by changing the nature of the question to be asked about the historical development of a discipline. The objective is no longer the endeavor to establish the permanent contributions of past scientific achievements in terms of our present vantage or to attempt to judge the validity and significance of any particular theory, but instead "... to display the historical integrity of that science in its own time ..." and to explain the evolution of the science or any aspect of 22Thomas S. Kuhn, The Structure of Scientific Revo lutions , Phoenix Books (Chicago: University of Chicago Press, 1964), pp. 1-9. 16 that science.^3 On the surface this approach seems little different from the relativist perspective. The difference, iiowever, is profound. While the relativist is interested in the congruence of any particular theory with the historical situation, the present approach is concerned with the manner in which science is practiced at any given time and the analysis of those factors that lead to change in the practice of science. While the incommensurability of con cepts between periods is of importance to both approaches, incommensurability in the "paradigm-anomaly" approach oecomes an integral part of the explanation of the evolution af concepts which thus places it in:.a totally different iimension of analysis. Further, what is in some cases incommensurable for the relativist because of an overly restrictive framework is commensurable in terms of the more oroadly conceived "paradigm." Normal Science, Anomalies and Extraordinary Science The modus operandi of the approach we wish to sxamine is the development of scientific paradigms. Scien tific paradigms as Kuhn has defined them are "universally recognized scientific achievements that for a time provide model problems and solutions to a community of practi tioners.^ In their rudimentary form they are open-ended 23ibid., p. 3. ^Ibid., p. x. 17 and flexible enough to allow for considerable "articulation and specification under new or more stringent conditions" as 2 ^ the science develops. Commitment by the scientific community to research endeavors around a particular paradigm and the general acceptance of the conceptual, theoretical, instrumental and methodological elements that constitute that paradigm establish a research tradition of "normal science." The period of normal science is a period of relative tranquility in which the paradigm is not seriously questioned or contested and in which the empirical and theoretical problems to be explored are restricted to the " . . . determination of significant fact, matching of fact 2 G with theory, and articulation of theory." This form of routinized science, however, inevitably generates new and unexpected phenomena that resist analysis under the accepted paradigm and create tensions that subvert the research tradition. By violating the paradigm-induced expectations, these anomalies are the source of discovery and scientific revolutions. Thus, when the scientific community is unable to articulate modifications that eliminate the resulting contradictions and confusion that an anomaly presents, the community or a sub-group of the community takes on a new character. According to Kuhn, the breakdown of the research 25Ibid., p. 10. 26Ibid., p. 33. 18 tradition is characterized by, . . . [t]he proliferation of competing articulations, the willingness to try anything, the expression of explicit discontent, and the recourse to philosophy and to debate over fundamentals . . .27 The resulting extraordinary research culminates in scien tific revolutions which Kuhn, defines as., . . . episodes in which an older paradigm . . . has ceased to function adequately in the exploration of an aspect of nature to which that paradigm itself had pre viously led the way . . . and is replaced in whole or in part by an incompatible new o n e .28 Revolutions involving the transformation of the total science are of course the most dramatic, but more frequently a less comprehensive or partial revolution occurs, involving sub-paradigms of the global paradigm and affecting only a sub-group of the scientific community. Conclusion For a comprehensive picture of the conceptual devel opment of a science it is necessary to examine the hierarchy of paradigms and sub-paradigms and their interrelationships. By way of introducing the particular concept to be examined in this dissertation, the following section will be devoted to a very brief exploration of the early era of political economy for ideas and concepts that are consistent with the schema developed in the present section. Such an exercise ^ Ibid., p. 90 . 28Ibid., p. 91. 19 should indicate the value of approaching the evolution of the concept of "externalities" in a similar manner. Application of the New Historiography to Economic Science Identifying the Global Paradigm Now that we have presented the "paradigm-anomaly" historiographical position in skeletal form and considered its application to scientific progress in general, we should be able to relate the approach to the social scientific dis cipline of economics and to particular conceptual develop ments within such a discipline. The question that is immediately raised is the manner in which the analyst identifies the paradigms and what the proper criteria should be for the acceptance of any particular paradigm. In general the difficulty is the fact that we are not looking for a well stated body of rules and assumptions but instead what might be considered a "vision" that provides a cohesive element binding a group of researchers together through the commonality of perspective. In particular, for economics that is, a further difficulty is the necessity of identi fying the global paradigm which accomplished the demarcation of economics as a separate and distinct discipline in relationship to other bodies of knowledge such as moral philosophy, psychology and theology. Since‘ -there is no set or generally established procedure for paradigm identifi cation let us posit a fundamental hypothesis as to the 20 nature and characteristics of the paradigm we wish to establish and attempt to justify our selection with evidence from seminal works of those we consider precursors of the modern economist along with their precursors in the mother liscipline of philosophy. The Economic Paradigm and Speculation on its Stability It is the contention in this study that a single paradigm, the primal or global paradigm that provided a focal point for research and the one that was first most systematically formulated by Petty, Cantillon and Smith, has persisted to this day as the basic organizing principle for economic inquiry and the cohesive element for the community ef academic economists. One of the many possible formu lations of this principle has been attempted by Donald Sordon in a recent review of the study of economic thought. Gordon's interpretation is as follows: Smith's postulate of the maximizing individual in a relatively free market and the successful application of this postulate to a wide variety of specific questions is our basic paradigm. It created a "coherent scien tific tradition" (most notably including Marx) and its persistence can be seen by skimming the most current periodicals. Let us carefully examine this interpretation and attempt a reconstruction that will better suit the purposes of the 2^Donald T. Gordon, "The Role of the History of Economic Thought in the Understanding of Modern Economic Theory," The American Economic Review, LV (May, 1965), 123. 21 study at hand. We can see that Gordon's construction is comprised of two social categories, a motivational component or postu- 30 late of behavior and an institution. Thus, by virtue of a behavior and a structure, the postulate is actually that of a system. However, Gordon's application of the postulate with his implicit emphasis on the behavioral aspect,31 that of maximization, detracts from the more fundamental concern of system or process, it is the aspect of coordination and process that we desire to make explicit in a reformulation for use in this study. Let us define the global paradigm of economics in the following way: The basic organizing prin ciple in the social scientific discipline of economics is composed of a behavioral postulate and an institutional framework, the former being the "postulate of rationality" and the latter the "competitive market." Viewed in terms of the perceptions of relationships and interactions these two components form the conception df a "coordinative complex," that, from the time of Petty, Cantillon and Smith, has formed the core of economic researches and the basis for 30a third element of Gordon's paradigm is the "successful application" of the postulate to a variety of problems. This, however, is not a part of the paradigm, per se, but a condition for the acceptance of the paradigm and the initiation of a "normal science." ^Gordon, "The Role of the History of Economic Thought in the Understanding of Modern Economic Theory," p. 124. 22 further systematic articulation. The postulate of rationality in the above formu lation is that which has been refined by 0. Lange, i.e., the assumption that the objective of the behavioral units is to maximize some magnitude, e.g., utility or satisfaction, profits, or in a cooperative endeavor, social welfare.32 This postulate, according to Lange, originates in the "general study of rational activity" or the science of 33 praxiology. We might conjecture that it was this more general formulation of a "logic of rational activity" that Smith and his precursors were groping for but which defied articulation because of the entanglement with "natural law" and the relatively low level of analytical sophistication. The characteristics of the competitive market are of course less concise and definitive, such characteristics depending on the particular segment of intellectual history with which we are dealing and on the level of abstraction and rigor on which the group of economists being studied was interested in working. The inception of the paradigm can probably best be dated with the rather loose constructions of Cantillon and Smith, to which, with tired documentation we must give some 320scar Lange, "The Scope and Method of Economics," in Readings in Microeconomics, ed. by David R. Kamerschen (Cleveland: World Publishing Company, 1967), p. 19. 330scar Lange, Political Economy, Vol. I (New York: Macmillan Company, 1963), pp. 188-190. 21----- attention. Before this is done, however (a task to be accomplished in the first section of the second chapter), we must attempt some justification of the paradigm that we have identified and explicitly defined. Let us utilize the meth odological work of Schumpeter in his analysis of the relationship between natural law and the social sciences for our justification and leave to a later chapter a more detailed examination of the ramification of the natural law philosophers and their bearing on the formulation of eco nomic categories. Schumpeter has set out the first principle of the evolution of economic science in his proposition that " . . . the first discovery of every science is the discov ery of itself . . . and that social science discovered 34 itself in the concept of natural law." What Schumpeter evidently means is that certain complex social phenomena, inexplicable in terms of the conceptual schemes of the science at a rudimentary stage of development, are explained. in terms of a certain normative or axiological system. For instance, according to Talcott Parsons, "What started as normative arguments about what ought to be, became embodied in the assumptions .of what was predominantly considered a 35 factual, scientific theory of human action as it was." ■^Schumpeter, History of Economic Analysis, pp. 107-' 112. ■*5Talcott Parsons, The Structure of Social Action, Vol. II (New York; The Free Press. 1968). p. 94. 24 Natural law provided an essential assumption that a con ceptual schema could rest securely on, that being the assumption of social order. Again according to Parsons, " it was a fortunate error that the gap was filled by what . . . was an untenable 'metaphysical' postulate, that the identity of interests was 'in the nature of things' and that never under any circumstances was there occasion to 3 6 question the stability of such an order." For economics, this was perhaps most explicit in the Lockean standard of justice to be found in the natural equality in exchange. The perception and conceptualization of the interrelation ships of social phenomena was understood in terms of and embodied in the nebulous concept of natural law and thus the relationships abstracted were accomplished through the implicit acceptance of both a positive and normative dimen sion. The normative dimension in the early development of the social sciences then presupposed an explanatory dimen sion. Hence, with the explication of the economic paradigm entangled with natural law, the distinction between "what is" and "what ought to be" was not considered and quite irrelevant to the process of formulation. Why was it irrel evant? According to Kuhn, Scientists . . . never learn concepts, laws and theories in the abstract and by themselves. Instead, these intellectual tools are from the start encountered in a historically and pedagogically prior unit that displays 36Ibid., p. 101. 23---- them with and through their application.3^ There is no reason to believe that this "prior unit" need be restricted to strictly scientific concepts or that it should exclude let us say the "pedagogically prior unit" of social and moral philosophy as was the case in economics. The distinction between "what is" and "what ought to be" became relevant and could be made only at a point when the articu lation of the "coordinative complex" had become sufficiently sophisticated. Thus we find that the "postulate of ration ality," as refined by Lange, has, through years of articu lation, progressed from an assumption to treatment "... as an empirical hypothesis."38 As an assumption its useful ness was not the explanatory role it played but its role as an organizing principle, and only in the recent literature has its acceptance a priori been seriously questioned and its role as hypothesis as opposed to postulate been con sidered. The Paradigm as the Basis for Definition of Scope Establishing the primacy of the paradigm is closely related to its identification and naturally a major concern. A proper job of demonstrating its primacy would no doubt involve the exegesis of a vast body of literature and the 3^Kuhn, The Structure of Scientific Revolutions, p. 46. 38Lange, "The Scope and Method of Economics," p. 20, 26 extension of our analysis beyond the scope required for the basic objective of the present thesis. As an alternative, let us establish its priority to the commonly accepted definitions of economics and attempt to relate the two. We have seen that the formulation of the paradigm was in the context of a particular form of coordinative social pro cesses, that of the market mechanism. The articulation of this mechanism by Smith was not restricted to the inter mediary aspect of exchange but the relationship of the mar ket in conjunction with the motivational assumption as a system that was supplanting the traditional social, politi cal and religious institutions as the means for sustaining and maintaining the whole of social intercourse. The arti culation, however, was directed to a set of basic social problems including the allocation of resources at the society's disposal, distribution of the product created and the growth and changing composition of both product and resources. While these problems that were identified and. elaborated on by Smith eventually became of common interest to a group of social analysts, the problems themselves did not provide a clear and systematic answer to the question "What is economics and what in particular differentiates it from other disciplines and methods of social analysis?". Most of Smith's successors attempted definitions by focusing on and mapping out a particular segment of reality that seemed most relevant for a meaningful and manageable inn 27 guiry, but it was not until 1935 that a definition emphasiz ing exclusion was formulated, one which provided a priori a ooundary between the realm of economic inquiry and other social sciences. The definition, given by Lionel Robbins, ivas "Economics is the science which studies human behaviour as a relationship between ends and scarce means which have 39 alternative uses." We see expressed here a particular way in which social process should be viewed and the exclusion of certain variables that might otherwise seem relevant, e.g., means, such as technology and ends, such as tastes. whether the definition includes too much or excludes too nuch, while being an important matter of contention, will not delay us. What is of concern is the fact that the definition is contextual yet does not explicitly include the context. Robbins provides that context by explaining what the economist does. He writes, The economist studies the disposal of scarce means. He is interested in the way different degrees of scarcity of different goods give rise to different ratios of valuation between them, and he is interested in the way in which changes in conditions of scarcity, whether coming from changes in ends or changes in means— from the demand side or the supply side— affect these ra-'. tios.40 The context, implicit in the definition and explicit in the explanation, is the market as a social process and mechanism •^Lionel Robbins, The Nature and Significance of Economic Science, (2d ed.; London: Macmillan Company, 1933), p. 33. 40Ibid. 28 of coordination and social valuation. Thus, Kenneth Rivett seems to reflect the modern consensus and focus of the past oy making explicit the context and type of relationship in his reformulation of Robbins's definition, that "... eco nomics studies those relations between ends and scarce means with alternative uses that are usually mediated by price."41 Once the type of relationship the economist is interested in is identified, the relationship between the paradigm and the definition along with its priority in set ting the context, technique and meaningful manipulation becomes obvious. The Role of Subparadigms in Economics With the nature of the global paradigm having been established, its further articulation, along with the iden tification of subparadigms and the consequence of anomalies as they relate to economics must be examined. Examples in the literature of economics and its history are plentiful and only a few need be mentioned in order to illustrate the use of the "paradigm-anomaly" historiography. Let us take for example the two elements of the "coordinative-complex." The articulation of the rationality or maximizing postulate on the consumer side has progressed through the stages of the "equimarginal" principle of marginal utility analysis to ^Kenneth Rivett, "The Definition of Economics," The Economic Record XX (November, 1955), 229. 29 the well-ordered preference system of indifference curve analysis and revealed preference theory. As Gerhard Tintner points out in a recent article: . . . the marginal utility revolution has made a great contribution to our understanding of the demand side of a given economy . . . but we should not forget that marginal utility theory has been replaced by concepts like revealed preference (Houthakker 1950) or the Von Neumann-Morgenstern (1947) idea of measurable utility under conditions of uncertainty. These concepts and other modern developments like multidimensional utility (Chipman 1960) have very little in common with the orig inal utility concept. Here we use lexicographic order ing (Georgescu-Roegen 19 66) .^2 Our thesis is that the continuity of these developments is to be found in the praxiological context. On the market side of our complex, articulation has Included the identification and analysis of monopoly, monop- clistic competition and oligopoly along with the development of the analytical instrument of game theory. The identifi cation of anomalies is somewhat more difficult than the Identification of paradigms, inasmuch as the nature of the anomaly must first be appraised. For instance, the question of whether the anomaly identified subverts the global paradigm or a sub-paradigm is not an unequivocal one, a problem inherent in the rather broad and in some cases 43 ambiguous specification of the paradigm concept. An 42gerhard Tintner, "Karl Marx as an Economist" (unpublished manuscript, 1969), p. 6. ^Dudley Sharpere, "The Structure of Scientific Rev- clutions," The Philosophical Review (July, 1964), pp. 383- 394. 30 sxample of this, one which has further implications to be sxamined in a later section, is the temporary displacement Df the "labor theory of value" in the late nineteenth cen tury. The anomaly of divergence between "use" and "ex change" value as dramatized in Smith's diamond/water paradox could not be resolved, regardless of the various twists giv- sn the labor cost theory by the Classical economists. The theory reached its highest degree of articulation in the works of Mill and Marx and "remained unshakable" according to Frank Knight, "... down to the 'revolution' inaugu rated by the marginal utility theorists. The new theory resolved the paradox by explaining price or exchange value in terms of the use value determined by the increment of utility or satisfaction of the last unit consumed. Was this the transformation of the global or a sub-paradigm? In terms of our original hypothesis we would reason as follows: While the doctrine of marginal utility and productivity theory was generalized to all areas of economic inquiry and necessitated a comprehensive reworking of the major body of received doctrine, the fundamental way of viewing the world in terms of markets and maximizers remained intact. As Seorge. Stigler points out, it is not from the concepts of value that Smith has gained recognition, but the prior ^Frank H. Knight, "Marginal Utility Economics," in Essays in Economic Thought: Aristotle to Marshall, ed. by Joseph J. Spengler and William R. Allen (Chicago: Rand McNally & Company, 1960), p. 598. 31 abstraction of market relationships and articulation of these relationships through the establishment of "demand functions, as a set of empirical relationships" which pro vided a framework in which any theory of value could be con- 4 R sidered and evaluated. The Implications of a Broader Historiographical Scope The implications that may be drawn from this last example of subparadigm transformation perhaps can be used to place the approach to be used in the study of externalities in somewhat sharper focus. The first and most important point worth mentioning is that of the possibility of provid ing a solution to the porblem presented by the "absolutist- • 4 f i relativist" continuum interpretation attempted by Blaug. According to him the dilemma rests with the relativists, who, when confronted with the marginalist revolution either neglect this beginning of the modern period or shift grounds of interpretation. But what this in effect means is that there is no continuum but a dichotomous approach for some historians who approach the period to the 1870's in a rela tivist perspective and utilize an absolutist perspective for succeeding developments. It seems apparent through our 45 . George J. Stigler, "The Development of Utility Theory," in Essays in Economic Thought; Aristotle to Mar shall, ed. by Joseph J. Spengler and William R. Allen (Chicago: Rand McNally & Company, 1960), p. 305. Af. °Supra, pp. 3-4. 32 approach that the dichotomy is merely the result of narrow ness of perspective, i.e., the result of viewing economics as having been established as a separate scientific social science with the advent of the marginalist revolution with the preceding periods viewed as somehow pre-scientific. In terms of our approach this narrowness of scope is the result of misinterpreting the marginalist principles as an assault □n the global paradigm rather than as an emerging sub-para digm that could only be understood within the context of something more fundamental. This context was, in Jacob miner's words, . . . the unifying concept of a co-ordinated and mutu ally interdependent system of cause and effect relation ships which philosophers and theologians had already applied to the world in general.47 This is simply another instance of concurrence with the observation made by Gordon, that economics has yet to under go a major revolution and consequently that the "... econr omist's fundamental way of viewing the world has remained 4 8 unchanged since the eighteenth century." The Boundaries of Extrication A final matter that must be examined before we pro- ^Jacob Viner, "Adam Smith and Laissez Faire," in Essays in Economic Thought: Aristotle to Marshall, ed. by Joseph J. Spengler and William R. Allen (Chicago: Rand McNally & Company, 1960), p. 305. ^ G o r d o n , "The Role of the History of Economic Thought in theoUnderstanding of Modern Economic Theory," p. 124. 33 ceed is the relationship of this study to that of the study of welfare economics. We will find that the development of many aspects of the concept of externalities has been accom plished within the context of what has been formalized into theoretical welfare economics, or " . . . that branch of study which endeavors to formulate propositions by which we nay rank, on a scale of better or worse, alternative eco nomic situations open to society."^9 Because of the norma tive implications of what is to be included in the ranking and the tenuous basis of modern welfare economics as a result of this, some statement of the position to be taken in this study must be attempted. Two distinct but related problems must be mentioned and examined. The first problem is interpreting the global para- iigm in the context of the positive-normative distinction generally made regarding economic propositions. The impor tance of this distinction is due to the close relationship cf the paradigm to the concept of "natural law" at the time of its emergence and the concept of externality in the form of a critique of certain general propositions deduced from the paradigm by nineteenth century economists. It would seem reasonable, in view of the development of this chapter, to assert that the "coordinative complex" or "vision" is neutral to the extent it is not offered up for acceptance or ^9Ezra J. Mishan, Welfare Economics; Five Introduc tory Essays (New York: Random House, 1964), p. 5. 34 rejection on the terms of its truth or falsity. Only the propositions which, as a heuristic device it makes possible, can be subjected to this sort of test.50 But here the posi- tivistic aspect ends. Statements based on moral or ethical precepts that are applied to inferences that are derived from or with the help of the paradigm must, if possible, be sorted out. Little can be said of the merits of these state ments and consequently will be included in our study only where it can be established that such statements were in strumental in the development of the concept in which we are interested. The second problem is the choice of one of two al ternative views of formal welfare economics. One conception of welfare economics is that the general premises on which it rests are widely accepted, thus making the specific in junctions that are deduced "uncontroversial value-judg- ments." Implied in the general formulation of welfare statements is the assumption that economic welfare moves in the same direction as other aspects of general welfare— a virtual equating of the two categories. A second alternative, a safer one, is to accept the proposition that because generally accepted criteria has yet to be established for judging and resolving the conflicts 50Our criteria will be the rules of logic or rele vance of empirical evidence to the falsification of the pro position depending on whether we are concerned with analyt ical or synthetic statements. 35 between economic and other aspects of general welfare in the selection of a preferred position, welfare economics can only be useful as a "purely propaideutic abstraction" and as an acceptable context for the study of such concepts as "externalities."51 Because the present study is not one of welfare economics per se, nor of the methodology of welfare economics, this latter alternative seems the most desirable and the one that should be followed. This exclusion, of course, limits the scope of our study considerably. 51t . W. Hutchison, "Positive" Economics and Policy Objectives (Cambridge, Mass.: Harvard University Press, 1964), pp. 162-164. CHAPTER II THE GENESIS OF NORMAL ECONOMIC SCIENCE AND THE EMERGENCE OF ANOMALY Introduction The term "externality," as it is used in the recent body of analytical literature, refers to a particular form of economic interdependence. An externality is considered to be present when interdependencies between individuals' utility functions or firms1 production functions are unac counted for in the usual market process. Recent definitions stating the conditions under which externalities will exist have made it possible to subject this peculiar form of interdependency to rigorous analytical treatment. Such definitions, however, in their more rigorous mathematical formulations, have been possible only because the context in which the phenomena to which these definitions refer has also been delineated in the most elegant and refined lan guage of the analytical economist. While it would be possible to examine the literature of the past century with one or another of the recent definitions as a guide, and note the instances where similarities in perspective seemed to have occurred, we would at the same time lose the essence 36 37 of the original context and concomitant conceptual develop ment that imparts particular meaning to each instance in which the similarity is identified. It is this concomitant conceptual development which must be of primary concern in choosing a method of examining the evolution of the concept of "externality." Establishing the Context and Method for Extrication Introduction As late as 1954, Tibor Scitovsky, in analyzing a particular type of externality, alludes to the difficulty of historical interpretation when he writes, The concept of external economies is one of the most elusive in economic literature. Our understanding of it has been greatly enhanced by the active controversy of the twenties over the nature of the "empty economic boxes"; but full clarity has never been achieved. Defi nitions of external economies are few and unsatisfac tory . 1 In order to overcome these obstacles and avoid losing the possibility of interpretation of the essential factors that have contributed to the development of the concept of "externality" as it is understood at present, we have attempted to establish the "paradigm-anomaly" theory as a legitimate method of historicity and justify the use of the "coordinative complex" as the "global paradigm" of econom- iTibor Scitovsky, "Two Concepts of External Econ omies," in The Economics of Underdevelopment, ed. by A. N. Agarwala and S. P. Singh (Bombay: Indian Branch, Oxford University Press, 1958), pp. 258-308. 38 ics. This complex was described as being composed of two elements, the first being independent!behavior units which are assumed to be motivated by self-interest and rationalize their pursuit by maximizing their advantage or gain, and the second, a free competitive market as the institutional arrangement in which these behavioral units interact. We stopped short however of a history of the paradigm itself and avoided an examination of the embryonic formulations to be found in the works of such writers as Richard Cantillon and Frangois Quesnay. As important as that history might be, it would seem that the study at hand would best be pursued by moving directly to a particular articulation of the paradigm initiated by Adam Smith, who, With certain philosophical preconceptions originating in the English school of Philosophical Empiricism, deduced a number of normative implications from his specifications of the insti- 2 tutional setting of eighteenth century England. Philosophical Preconceptions and the Evolution of the Paradigm Before elaborating on the normative implications drawn by Smith let us consider the philosophical preconcep tions which lie at the heart of his speculations on the out come of interactions between economic actors. In an inter- 2 Philosophical Empiricism is a term used by Schumpe ter to identify a certain group of philosophers including Hobbes, Locke, and Hume, who adopted a sensationalist epis- temology. 39 esting account of the development of social theory in the eighteenth and nineteenth century, Professor Girvetz terms these preconceptions "the psychological creed" of liberalism and systematically explores the creed's effect on the con- 3 ceptual framework of the liberal economxsts of that era. We begin the Girvetzian interpretation with a postulate regarding motivation, the Hobbesian notion of "psychological egoism" in which the individual is considered to find his essential function in self-preservation and self-seeking behavior, pursuing at all times his self-interest. Through "intellectualism," this behavior is thought to be tempered and channeled by rationality, delineating the human pursuit of self-interest from the instinctual behavior of the lower forms of the animal. The individual however is "quietis- tic," necessitating a goading, prodding and enticing envi ronment if reasoned behavior is to be activated, and chan neled into productive endeavors. The last element of the "creed," "atomism," is somewhat more difficult to integrate, being at once an aspect of the empiricists' epistemology and at the same time a certain conception of social behavior and institutions. According to Girvetz, " . . . atomism treats the character of any complex entity as entirely derivative from the character of its parts, viewed as independent, 3Harry K. Girvetz, The Evolution of Liberalism (New York: Collier Books, 1963) , pp. 27-47. 40 4 lomogeneous, unitary existences." Under "atomism," social and political institutions are conceived of as only conve nient media in which human "... faculties operate more affectively and propensities are more likely to find fruition. "** The conception of the social and political universe that evolved from these postulates of behavior was not with out internal inconsistencies. In the political sphere for instance the conflict of the particular interests of the individual and the interests of society or the social order in general could only be resolved by a more fundamental proposition of the "natural identity of interests" where reasonable men submit to collective governance in order to escape the more bitter consequences of the "state of nature." Without spending a great deal of time on these ^Ibid., p. 41. ^Ibid., p. 43. Such use of the "Psychological creed" necessitates a further observation. While Hobbes, Locke and Hume were the principal authors of the "creed," it would be jerroneous to infer from the doctrine as it is here expounded that there was a general consensus among the three on the'importance, meaning and function of the various articles. g Speaking of Locke's "natural identity of interests,' Talcott Parsons points out that though it was an "untenable metaphysical proposition," it was not without highly favor able consequences. "Utterly dependent logically on this erroneous premise," he writes, "there grew up what is per haps the most highly developed theoretical systems in the social sciences . . ."in The Structure of Social Action, Vol. I (New York: The Free Press, 1968), p. lOl. 41 inconsistencies, Adam Smith generalized on the received conception of civil society and spelled out the implications for "political economy." By dignifying the conception of Economic Man, Smith proceeded to modify the conception of the social process by emphasizing its wealth-creating and allocating function. According to Harry Prosch, . . . the most significant contribution . . . of Smith was, perhaps, the conception of a new dimension in the behavior of the social atoms, the recognition that these atoms could have some positive relations to each other in addition to the merely negative or restrictive ones provided for in the thought of Hobbes and Locke.7 Preoccupation with the Unfettered Market as Normal Science Adam Smith and the Genesis of the Optimum Regime With this light sketch of philosophical preconcep tions, we must return to that which is germane to this study, Smith's speculations on the optimizing property of the free competitive market and the social process he iden tified and termed the "invisible hand." Here he found the selfish and self-seeking Economic Man unknowingly channeled into socially desirable endeavors and bringing about so- 8 cially desirable results. That Smith believed this recon 7 Harry Prosch, The Genesis of Twentieth Century Phi losophy, Anchor Books (Garden City: Doubleday and Company, Inc., 1966) , p. 196. 8 As pointed out by Hla Myint, this is not the only nor probably the most important positive proposition in Smith; see, e.g., his chapter on "The Classical View of the Economic Problem" (Theories of Welfare Economics [Cambridge: 42 ciliation of private and social interests could be accom plished by the pursuit of self-interest in a free market can be established with little difficulty. As to the benefits accruing to society from self-interest he writes, It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but. from their regard to their own interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our own necessities but of their advantages.9 But will this behavior on the part of the individual who supplies his resources lead to an optimum allocation of these resources? We might generalize to every resource what he explicitly writes of capital: Every individual is continually exerting himself to find out the most advantageous employment for whatever capi tal he can command. It is his own advantage, indeed, and not that of the society,'which he has in view. But the study of his own advantage naturally, or rather necessarily leads him to prefer that employment which is the most advantageous to the society .... He gener ally, indeed, neither intends to promote the public interest, nor knows how much he is promoting it . . . he Harvard University Press, 1948]). However, we are inter-, ested in the welfare propositions regarding the "scarcity" concept of the economic problems in which allocative effi ciency is central as opposed to welfare propositions regard ing the labor-theory of value outlook in which the physical problems of growth through increased productivity and labor supply is central. Elie Halevy strongly supports the inter pretation we have made in The Growth of Philosophical Radi calism, trans. by Mary Morris (New York: Augustus M. Kel- ley, 1949), pp. 89-107. An opposing point of view is pre sented by Lionel Robbins in The Theory of Economic Policy (London: Macmillan & Co., Ltd., 1961), pp. 190-191. ^Adam Smith, An Inquiry into the Nature and Causes of the Wealth of Nations, The Modern Library (New York: Random House, Inc., 1937), p. 14. 43 , * : intends only his own gain, and he is in this, as in many other cases, led by an invisible hand to promote an end which was no part of his intention. Nor is it always the worsfe for the society that it was no part of it. By pursuing his own interest he frequently promotes that of the society more effectually than when he really intends to promote it.10 At the hub of the Smithian social process is the free market which mediates the changing desires and reallo cates resources toward the satisfaction of those desires which are of relatively greatest importance. This is accom plished through the mechanism of price of which two types are analytically distinguishable and which together form the basis of indicating the optimum in the allocation of society's resources. The "natural" price of a commodity is that amount which is " . . . sufficient to pay the rent of the land, the wages of the labour, and the profits of the stock employed in raising, preparing, and bringing it to market . . . " while the "market" price is that price for " . . . which any commodity is commonly sold."11 Now any divergence between these two prices indicates that resources are receiving a return that is either greater or less than their "natural rate" of remuneration. Such divergencies will then lead profit seekers to avoid losses by decreasing the supply of resources into a particular venture when the "natural" price is greater than the market price and 10Ibid., pp. 421-423. 1:LIbld., pp. 55-56. 44 redirect his resources to profitable opportunities indicated by a divergence of market price above natural price. "The natural price," according to Smith, "is, as it were, the central price, to which the prices of all commodities are 12 continually gravitating." The "effectual" demand for com modities, as a reflection of the community's preferences will, by creating such divergences, bring about a reallo cation that tends to an optimum allocation of society's resources in relation to those preferences. Disaffection from the Doctrine of Laissez Faire Within the Practice of Normal Science The normative implications of Smith's conception of the "system of natural liberty" are of paramount importance for an understanding of the laissez faire policy orienta tion of eighteenth and nineteenth century economics. While the economics of laissez faire seem to have originated in the natural law philosophy of the Physiocrats (from whom Smith learned a great deal), it was Smith who most effective ly used its underlying assumptions for a frontal attack on the Mercantilists1 conception of the role of the state in . economic affairs. It would be much too easy, however, as Lord Robbins has pointed out, to attribute an absolutist understanding and use of the concept to Smith and his suc cessors, and overstate the non-interventionist orientation •*-2lbid., p. 58. 45 to which such an understanding would lead.^3 A review of agenda proposed by economists from Smith through the Utili tarians simply belies the mythology that laissez faire was conceived of as an absolute norm. But in the analyst's approach to an explanation of the socio-economic system, it was often used rather carelessly. With little recognition of the inextricable nature of scientific and normative explanation in the "system of natural liberty" Smith's successors up to J. Cairnes "... considered their recommendations concerning policy as scientific results which followed from scientific, though not purely economic, analysis."1^ During this period, political economists with the exception of Frederic Bastiat focused their attention on what they considered to be the purely analytical framework of the discipline. It was Cairnes who broke tradition by stating, "The question, What is? and the question, What ought to be? are distinct ques- 15 tions." Cairnes proceeded to explicitly analyze the fusion of the normative and positive aspects that then existed and concluded that a separation was necessary if 1 3 But Robbins takes the unfortunate position of equating the doctrine of laissez faire with anarchism and proves, with considerable ease, that the classical economists did not hold that position.("The Economic Functions of the State," The Theory of Economic Policy, pp. 34-67). ^Schumpeter, History of Economic Analysis, p. 541. 15 . J. E. Cairnes, Essays in Political Economics; Theoretical and Applied (London: Macmillan and Co., 1873), p7 3TZ7 . — ..... .... ............................... 46 progress was to be made in the science.16 With the neces sity of separation stated he launched an attack on the normative conclusions of Smith which by this time were elab orated on and vulgarized in the work of Bastiat.17 Cairnes's objective was to prove that a policy of laissez faire could not be prescribed on scientific grounds and was " . . . totally destitute of all scientific authority."1® He contended that the maxim of laissez faire fails because the individual in forming his interests has a mistaken no tion of what those interests are and thus does not know his interests "... in the sense in which they are coincident with the interests of others."1® But Cairnes's rejection of the "coincidence" of interest assumption was not based on the possible incompatibility of consequences deduced from the "self-interest" assumption and "coincidence of interest" principle/ but on the basis of the empirical evidence that laissez faire had failed to mitigate the more unpleasant 16Ibid. 17Frederic Bastiat, Harmonies of Political Economy, trans. by Patrick J. Stirling (2d ed.; Edinburgh: Oliver and Boyd, Tweeddale Court, n. d.), pp. 288-322. •*-®Cairnes, Essays in Political Economics: Theoret ical and Applied, p. 244. The system of natural liberty as Cairnes understood it was one in which the "... prompt ings of self-interest will lead individuals in all that range of conduct which has to do with material well-being, spontaneously to follow that course which is most for their own good and for the good of all." 19Ibid., p. 245. 47 features of nineteenth century capitalistic development. In other words, rather than treat laissez faire as a hypothet ical condition and restrict his criticism to the inferences that had been drawn by his predecessors, he attributed the failure of the doctrine as a scientific principle to the individual's mistaken notion of his own self-interest and concluded that the "coincidence of interest" was an unreal istic assumption in the sense of being empirically false. In neglecting to analyze the doctrine of laissez faire as a simplifying assumption or abstraction Cairnes skirted the issue of the propriety of his predecessors in their use of laissez faire as a condition of the hypotheti cal deductive system and was thus led to conclude that the empirical evidence supported the doctrine only as a "good practical rule" but not as a scientific principle. Hence, in spite of his intention of separating out "what is" from "what ought to be," Cairnes's work left the issue in a state nearly as confused as before his attempt at clarification. The Recognition and Treatment of External Effects by Henry Sidgwick: The Rise of Extraordinary Science We turn now to the work of Henry Sidgwick, whose analysis must be viewed in juxtaposition to the critique of Cairnes, for it was not the empirical evidence on which Sidgwick relied for support in his critique of the doctrine of laissez faire, but on the basic logic on which the 48 inference of a natural harmony rested. Adhering to the abstract hypothetico-deductive method of his predecessors lis objective was to concentrate on the inadmissibility of the normative implications that faulty inferences had established. In reflecting on the general acceptance of the principle of laissez faire as it was applied to a hypothet ical community, Sidgwick writes, I am specially concerned to shew that, even in a society composed— solely or mainly— of "economic men," the sys tem of natural liberty would have, in certain respects and under certain conditions, no tendency to realize the beneficent results claimed for it.2® In an attempt to approach his subject in a system atic way and break through the rhetoric of his predecessors, Sidgwick begins his study by first emphasizing the necessity of a separation between the "Science" and "Art" of Political Sconomy, the latter being "Economy applied to the attainment of some desirable results."2^ in pursuing this distinction le entitles the second book in his "Principles," "The Art of Political Economy," in which he treats the subjects of government expenditure, "the art of making the proportion of produce to population a maximum," and the "art of rightly iistributing the produce" given one or another principle on 22 which to base one's judgment. In his consideration of the 20Henry Sidgwick, The Principles of Political Econ omy (3d ed.; London: Macmillan and Co., Limited, 1901) , ?. 403. 21ibid., p. 396. 22Ibid., p. 397. 49 "system of natural liberty" however, he restricts his treat ment to the question of whether or not the principle leads to the most economic production of material and immaterial 23 wealth. Sidgwick begins his critique of received doctrine by first reconstructing the system of production and exchange implied in the writings of his predecessors, in which it was contended the pursuit of self-interest by consumers ensured that the most useful commodities would be demanded and a similar pursuit by producers or profit-seekers would ulti mately lead to the most economical methods of production. Further, that the more persistent and alert the consumer and producer were in their pursuit, the more beneficial their interaction in the market place and consequently the more complete "... the adaptation of social labor to the 24 satisfaction of social wants attained." After dealing with several matters of definition, Sidgwick moves on to the more interesting and for our pur poses t)he most important qualifications and exceptions to the optimal solution inferred by his predecessors. The class of phenomena on which he focuses is that in which the p O Ibid., p. 403. This seems to be the first explic it expression in Political Economy of utilities to be gained not only from material (goods) wealth but also immaterial (services) wealth and an assortment of other non-material elements that could conceivably enter the utility function such as leisure, repose, status, etc. ^Ibid., p. 401. 50 actions and interactions of producers in a free competitive narket leads to a less than socially optimum outcome. Sidgwick defines this class of phenomena as those cases in which the individual in one situation cannot appropriate " . . . through free exchange adequate remuneration for the services which he is capable of rendering to society . . . 11 and in another situation "... appropriate not less but 25 nore than the whole net gain to the community." The definition given by Sidgwick, while not rigorous and open to various interpretations, is somewhat classified by his denotative examples of the phenomena he purports to identify. One of the examples he gives of an appropriation that falls short of the net gain to the community is the often quoted case of the service provided by a "well placed 2 6 lighthouse." Because of the impracticality if not virtual impossibility of exacting a payment for these services, the supply of this good under the principle of laissez faire would be equal to zero. Another example is that of the beneficial effects the maintenance of forests have on the weather and the inadequacy of supply of such maintenance due to the impossibility of the individual to appropriate a remuneration for such diffuse benefits.2^ In these, as well 25Ibid., pp. 407-408. 2®Ibid., p. 406. 2^Ibid., p. 407. 51 as in the care of scientific discovery, education and dams for flood control, Sidgwick maintained that "... combined action or abstinence on the part of a whole class of pro ducers is required to realize a certain utility either at all or in the most economical way."28 However, Sidgwick's approach and discussion of those commodities whose supply would normally be equal to zero was on the whole overly intuitive. This is obvious in light of his ameliorative measures where he makes no attempt nor does he mention the necessity of a criterion with which to analyze the excess of benefits over costs to society in supplying any one of the commodities or services he identifies as falling under his definition of the phenomena defined. Indeed, he had earlier abandoned that tool— the measuring rod of money— which pro vided the potential for commensurability of commodities. He had however uncovered in its most rudimentary form, the con ception of a divergence of private and social net product. In the case of the second class of commodities, the supply of which leads to a remuneration in excess of the net jain to the community, Sidgwick mentions the situation where the individual will be led to exploit certain natural resources to the detriment of potential replenishment of the stock of such resources. He recognizes at this point the relationship between ecology and economics and what the 28Ibid., p. 409. 52 ramifications are of neglect for this relationship in his example of unrestricted fishing and hunting. A further case which would fall within the ecological relationship he alludes to is one in which the consequences of an action have both positive and negative effects but in which all of the gain accrues to the initiator of the action while the negative effects are borne by others. While Sidgwick seems to have confused the issue with an ill-chosen example, his intent seems to generalize to the case of physical "pollu- tion" m a highly complex and integrated society. A somewhat more dubious criticism entertained by Sidgwick in his attack on laissez faire is that of the mis- allocation of utilities from one generation to the next. This arises in his discussion of the market determination of an appropriate discount that guides the provision of capital for future generations. His contention is that society as a vhole, if it considers the interests of future generations as great as those of the present, would provide for a larger supply of capital than the individualistically determined 30 rate of interest would allow. The obvious question that must be raised on this point is the commensurability of Lntra-generational interests and the concept of a societal 29 Myint, Theories of Welfare Economics, p. 130. 30 . Sidgwick, The Principles of Political Economy, p. 412. 53 31 preference. Interpretation of the Sidgwickian Contribution The Formal Analysis and Its Inadequacies In evaluating Sidgwick's contribution, it is first necessary to realize that he did not formalize his criticism into a general definition that could then be used to inves tigate the many types of economic activity and arrive at a decision on the optimality of the unrestricted market pro cess with regard to a specific situation. Further, without such a definition he was unable to clearly distinguish between the various types of interrelationships and was thus unable to prescribe the necessary corrective for the subop- timal arrangement. For instance there is no basis or cri terion for determining when a reorganization of social institutions is a necessary policy or when instead inter vention should be restricted to various constraints on an 32 otherwise competitive market. Sidgwick not only admits that he finds it impossible to formulate a "system of prac tical rules" that might be used for best determining the nature and extent of intervention when such is determined ^inasmuch as this particular example is on a dif ferent dimension than the other, and of negligible interest in terms of our extrication of the concept of externalities, we will only reference the continuing discussion. •^Sidgwick, The Principles of Political Economy, p. 421. 54 desirable but further insists that the commonly accepted unit of measurement, that of money, was wholly inadequate to measure divergences from the "most economical production." This skepticism of the use of the measuring rod of money is in considerable contrast to his contemporary, Marshall, and successor, Pigou, who relied on it for welfare proposi t i o n s . ^ it was this which perhaps prevented a more rigor ous formulation of criteria. The vague formulation of the problem presented by adherence to the principle of laissez faire and the rather unsystematic presentation of instances in which the unre stricted market mechanism led to less than socially optimum arrangements should not be allowed to diminish the signi ficance of Sidgwick's insightful and innovative analysis of the general problem coincident with market interaction and general interdependence in a private enterprise economy. In his examination of the normative implications of the free competitive market that had for the most part been accepted by his predecessors, he identified the anomaly of external effects by means of the abstract deductive method giving concrete exceptions to support his analysis. He had broken with tradition by contesting the paradigm on which classical political economy rested and constructed, however crudely, a logic of intervention. He had penetrated the "convention- 33T. w . Hutchison, "Positive" Economics and Policy Objectives, p. 35. 55 al wisdom" that evolved from the acceptance of the "coordi- native complex" and vestiges of natural law and exposed the logical possibility of a breach of the organizing principle of the classical economics. This fact seems to have been lost in much of the interpretive literature where it is sometimes asserted that Sidgwick simply supplied a hodge podge of illustrations of external effects without an attempt to explain why in some cases the market mechanism is adequate and in others it is not. A sympathetic interpre tation, however, leads to ample evidence of analytical sup port for a logic of intervention. In writing of the neces sity of public regulation of fishing, Sidgwick presents this logic in a most compelling way when he writes, Where the efforts and sacrifices of a great majority are liable to be rendered almost useless by the neglect of one or two individuals, it will always be dangerous to trust to voluntary association. And the grouiid for com pulsion becomes still stronger when the very fact of a combination among the great majority . . . to attain a certain result materially increases the inducement for individuals to stand aloof from the combination . . . it would be palpably rash to trust to voluntary associates for the observance of the required rules of abstinence; since the larger the number that there voluntarily ab stain, the stronger becomes the inducement offered to those who remain outside the association to pursue their fishing in the objectionable times, places, and wavs, do long as they are not prevented by legal coercion.33 This obverse of the general case which was denoted by the - "well placed lighthouse" is deduced from essentially the same logic. Because certain decisions are directly interde- ^^Sidgwick, The Principles of Political Economy, 410. 56 pendent and escape intermediation through the market, the market is incapable of reflecting the social advantage or disadvantage of the individual's action and inaction, and thus fails to elicit the socially advantageous response. ambiguities Regarding the Uniqueness of Sidgwickrs Contribution In discussing this Sidgwickian contribution it is much too easy to lose the necessary exegetic perspective and overstate the uniqueness of conceptual development. Sidg wick was not the first to point out the inadequacies of the unfettered market process in supplying certain classes of goods. We find, for instance, that Adam Smith, in his dis cussion of public finance, broached one aspect of non-market interdependencies. His approach however was "... primar- 35 ily an historical and institutional one." His perfunctory analytical treatment may be summarized in his brief dictum to the Sovereign on the erection and maintenance of public works, which, he writes, . . . though they may be in the highest degree advanta geous to a great society, are, however, of such a nature, that the profit could never repay the expense to any individual or small number of individuals, and which it therefore cannot be expected that any individual or small number of individuals should erect or maintain.36 33Richard A. Musgrave and Alan T. Peacock, Classics in the Theory of Public Finance (London: Macmillan and Co., Ltd., 1958), p. ix. 36Smith, An Inquiry into the Nature and Causes of the Wealth of Nations, p. 681. 57 What the "nature" of these economic goods was, was precisely the question that remained to be answered and to which Sidg wick directed his analysis. By presenting a non-historical framework for an explanation of the inadequacies of the market in supplying public goods and bads, the nature of such goods became theoretically tractable. John Stuart Mill was one who noted the inadequacies in the general treatment of market phenomena and certain exceptions to which the attention of political economists had "... not yet been sufficiently drawn."37 Although without rigorous demonstration, Mill pointed to that class of economic phenomena, . . . in which the acts done by individuals, though intended solely for their own benefit, involve conse quences extending indefinitely beyond them, to interests of the nation or of posterity, for which society in its collective capacity is alone able, and alone bound, to provide.38 In his denotation of this class, he provided the example later to be used by Sidgwick of the lighthouse which "... no- one would build from motives of personal inter est, unless indemnified and rewarded from a compulsory body made by the state."39 37John Stuart Mill, Principles of Political Economy, Vol. II (5th ed.; New York: D. Appleton and Company, 1874), p. 585. 38Ibid., p. 593. 39lbid., p. 600. It is interesting to note that Sidgwick does not reference his predecessor's example. 58 Neither of these authors, however, emphasized the de-atomization of the economist's paradigm or called into question the efficacy and relevance of the "coordinative complex." Indeed, their emphasis was quite the reverse. Let us elaborate on this aspect of de-atomization. The Nature and Relevance of Sidgwickian De-atomization With the introduction of non-market interdepen dencies Sidgwick destroyed the complementarity between the philosophical presuppositions of atomism and rationality. More concisely, Sidgwick effectively destroyed the tradi tional view of economic agents in terms of atomism, i.e., as "independent, homogeneous, unitary existences"40 and further, pointed out the inadequacies in the traditional conception of social institutions "... as the handiwork of pre-existing individuals whose characteristic mental and emotional endowments antedate the social arrangements into which these individuals enter."41 With this complementarity destroyed, economic man could no longer be viewed as capable of formulating decisions on purely objective grounds, for the objective data, the parametric function of price, was only one aspect of the necessary information on which the economic agent needed to rely. The explanation of socio 40Girvetz, The Evolution of Liberalism, p. 41. 41Ibid., p. 43. 59 economic phenomena could no longer be legitimately restricted to market phenomena as this was only one form of interdependency that was incumbent on the analyst to con sider. Sidgwick/ however, was not clear on how the new concept could be assimilated into the scope of the tradi tional inquiry into production, distribution and exchange. One can conjecture, however, that explicit inclusion into the scope of political economy, along with its broadening effect, may well have been disastrous to further quantita tive developments of the science. Perhaps we can be more specific. If the social space that the analyst is interested in is assumed to be composed of decision-making units, and if it is the objective of the analyst to describe, analyze and predict the outcome of certain interactions between the behavioral units, then he must base his analysis on a cert- tain perception of the objective and subjective environment confronting the units. It is generally assumed— implicitly by the classical and neoclassical and explicitly by the modern economist— that the primary form of objective infor mation these units base their decisions on are known physical relationships and market data. Instances of this would be the parametric function of prices at which the individual buys and sells, and the coefficients of production. The well-ordered preference system sets the other relevant parameters. In order for a rational decision to be made it 60 is traditionally considered necessary and sufficient that behavior be consistent or in accordance with these param eters. But the methodological implication of the Sidg- wickian contribution is that the convenient assumption of independence of units is wholly unwarranted (de-atomization) and that interdependency transforms parameters into variables at the decision-making level. If the scope of economics is set by what are agreed to be the parameters, then so too must the scope change with the assimilation of the concept of "externalities." Another question seems to be whether or not behavior can be analyzed in terms of objective rationality in the presence of externalities which by definition cause vari ations in the traditionally accepted parameters. Precisely what the classical economists wished to be understood by the term "rational" is difficult to ascertain, but accepting the term as a tool designed to perform a certain function (in this case as an integral part of the paradigm), the modern definition given by Robert A. Dahl and Charles E. Lindblom perhaps comes close to that of the intentions of the clas sical and neoclassical authors. According to Dahl and Lindblom, "... an action is rational to the extent that it is correctly designed to maximize goal achievement, given 61 the goal in question and the real world as it exists."^2 It would seem that if rationality, as defined, is to hold in the presence of externalities, then the "coordinative complex" we have identified implies a normative presupposi tion that the affected parameters move in directions which are considered desirable. Such would be the case in the broadening of the market which increases specialization and division of labor. Sidgwick, by invoking the concept of "externality" to explain the possibility of undesirable movements in the parameters, seemed at the same time to be calling into question the validity of the use of rationality as a basic assumption in a way considerably different than that of Cairnes. Conclusion With the contribution of Sidgwick, the direction of extraordinary science was established. Examining the extent to which the anomalous nature of the externality phenomenon was perceived by Sidgwick's successors and the manipulation of context and techniques for handling such direct interde pendencies, is of course, an exegetical exercise to which we must now turn. ^2Robert A. Dahl and Charles E. Lindblom, Politics, Economics and Welfare, Harper Torchbooks (New York: Harper & Row Publishers, 1953), p. 38. CHAPTER III MARSHALL'S CONTRIBUTION TO THE DEVELOPMENT OF THE CONCEPT OF EXTERNAL EFFECTS; AN INDEPENDENT EFFORT Marshallian External Economies and the Scale of Industry Uniqueness of the Marshallian Category We must now turn to the work of Alfred Marshall, who, rather than carrying on and further developing the work of his contemporary, originated the externality concept independently in the more rigorous context of industrial organization and the scale of industry. In the numerous illustrations and examples of non-market interdependencies found in Marshall, not once is the earlier work of Sidgwick referenced. We do find, however, a far superior analytical treatment and what was surely lacking in Sidgwick's work, a definition of the phenomena which indicated the nexus to the Tiore traditional categories of the science. Marshall's Definitions and Their Limitations- Marshall approaches the definition of external econ- 62 63 amies in his chapter on "Industrial Organization,1 1 where he iiscusses the influences of machinery on production in jeneral and the economies in production arising from the division of labor that accrue to the firm that utilizes nachinery and the specialized skills that attend it.-®- While nost of the economies he considers in this chapter are obtained through the enterprise's internal reorganization of the factors land, labor and capital, he notes that economies per se are not strictly contingent on the utilization by the establishment of considerable amounts of capital. His recognition of this is historical in perspective and he describes the phenomenon as follows: Many of those economies in the use of specialized skill and machinery which are commonly regarded as within the reach of very large establishments, do not depend on the size of individual factories. Some depend on the aggre gate volume of production of the kind in the neighbor hood; while others again, especially those connected with the growth of knowledge and the progress of the arts, depend chiefly on the aggregate volume of produc tion in the whole civilized world.2 One might note first that the description of the phenomenon is limited to "economies" and thus is unsuitable for the identification of the phenomena which most inter ested Sidgwick. Further, and perhaps of greater importance, the identification is inadequate to the extent it does not •^•Alfred Marshall, Principles of Economics, Vol. I (9th [Variorum] ed.; Cambridge, England: Macmillan and Co., Limited, 1961), pp. 250-266. ^Ibid., pp. 265-266. 64 explicitly differentiate between those economies supplied through the market mechanism and those non-market interde pendencies which Sidgwick focused on. Indeed, when we are jiven illustrations of economies arising specifically from the concentration of industry in a particular locality, there is an admixture of both market and non-market external economies with no discussion as to how each type could be listinguished and treated analytically. While this inade quacy does not render the description worthless, it does, from the point of view that non-market interdependencies are the only relevant type, render several of the concrete sxamples that denote the phenomena, inapplicable. Marshall's Static and Dynamic Modes The confusion over the market and non-market supply aside, Marshall's original description of the phenomenon of axternal economies implies two analytically distinct types. The first would be those that could be considered reversible and thus possible to handle analytically by simply incorpo rating their effects into the long-run industry supply curve 3 Schumpeter suggests that by attempting to construct industry supply curves that were more realistic, Marshall ' . . . destroyed their reversibility and rendered them use less for the purpose of static theory." At the same time ' . . . he blurred the clarifying distinction between fallinc cost curves and downward shifts of cost curves and between costs that fall while production functions stay put and costs chat fall in consequence of changes in production functions." (Joseph A. Schumpeter, History of Economic Analysis, p. 1046). 65 under the assumptions of partial comparative statics. The second type seems more consistent with the economist's con ception of a dynamic process, the implication being that technological change destroys the reversibility necessary for treatment in static analysis and thus explicitly relating the phenomenon to historical growth.^ In treating the two types of externalities Marshall avoids confounding or confusing categories of analysis by limiting his major discussion of the effects of externali ties to that of particular industries, thus concentrating on those cases amenable to the partial-static equilibrium framework which he utilizes most frequently in the rest of 5 us work. He accomplishes this analytical separation by introducing the technical term "external economies" to refer to those "... economies arising from an increase in the scale of production of any kind of goods, . . . " such econ- amies being "... dependent on the general development of C the industry." He then restricts his examination of exis tential instances of these "external economies" to those sases of " . . . concentration of many small businesses of ^The term "dynamic" is not used here in the technical sense Hicks uses it, but in the same way Blaug uses it. It Is thus a hybrid inasmuch as it involves a change in the assumptions generally underlying the usual "static" or "dynamic" treatment of economic phenomena.(Blaug, Economic Theory in Retrospect, p. 389). 5 Schumpeter, History of Economic Analysis, p. 836. ^Marshall, Principles of Economics, p. 266. 66 a similar character in particular localization . . . [to] 7 the localization of industry." The analytical and textual distinction that Marshall flakes between the two types of externalities provides a con venient point of departure for a brief discussion of the analytical treatment of such effects. Such a distinction is further significant at this juncture, inasmuch as it points up the branching of the concept. This branching in turn provides the basis of two distinct lines of doctrinal con troversy, the consequence of which is the further develop- flent, clarification and modification of the broader concep tion of externalities that includes both the supply of external economies and diseconomies as a function of the scale of industry and external effects as a function of the overall development of the socio-economic and technological environment. Articulation of the Statical Externality Framework Let us begin by laying out the analytical framework of those specific cases considered by Marshall to be the consequence of the "localization of industry" and which are at the same time consistent with this method of partial static equilibrium analysis. Of the cases mentioned by Marshall, those of cross-fertilization, "cheapening of the 7Ibid. 67 neans of communication," improvements of transportation facilities, growth of subsidiary trades, availability of requisite labor skills, increased availability of trade- knowledge through trade and technical publications, and the vertical disintegration of the enterprise, only the latter three can be considered supplied by non-market interdepen dencies and legitimately treated under static analysis. Of the first of the three, market for skills, Marshall writes: . . . localized industry gains a great advantage from the fact that it offers a constant market for skill. Employers are apt to resort to any place where they are likely to find a good choice of workers with the special skill which they require; while men seeking employment naturally go to places where there are many employers who need such skill as theirs and where therefore it is likely to find a good market.® Disruption from unfavorable employer-employee relationships that normally results in the severance of the relationship in a particular enterprise thus has a muted effect on the overall industry which provides alternative choices in employers. At the same time a cult of skill develops where that skill is more highly concentrated. A somewhat stronger example of the "market for skills" is that provided by the "trade-knowledge" case. Sere Marshall notes: . . . external economies are constantly growing in im portance relatively to internal in all matters of trade- knowledge: newspapers, and trade and technical publi- ®Ibid., p. 271. 68 cations of all kinds are perpetually scouting for him [the small entrepreneur] and bringing him much of the knowledge he wants— knowledge which a little while ago would have been beyond the reach of anyone who could not afford to have well-paid agents in many distant places.9 Analytical Ramifications of Static External Economies The foregoing illustrative cases are possibly best handled by the diagramatic analysis developed by J. Viner to clarify the cost relationships of enterprise and industry. In Viner's clarifying terminology, both of these are examples of "technological" external economies as distinct from "pecuniary," both cases being characterized by industries in which the individual firm's production func tion contains variables other than physical inputs which are in consequence functions of the number of firms in the industry and thus are beyond the control of the individual firm. Let us depict this graphically. Given the production function pn of the ith enter prise which utilizes labor L and capital K as depicted in Diagram 1, and the commensurate unit cost curves as depicted in Diagram 2a, where costs (prices) C are measured on the ordinate and output Q on the abscissa, pure and perfectly ^Ibid., p. 284. 10Jacob Viner, "Cost Curves and Supply Curves," in A. E. A. Readings in Price Theory, ed. by G. J. Stigler and K. E. Boulding, Vol. VI (Chicago: Richard D. Irwin, Inc., 1952), pp. 198-226. ^ ----- competitive long-run equilibrium for the "representative firm"^ would be indicated by an output of Oe and per unit 12 cost ec with n firms in the industry. The industry output consistent with a per unit cost EC ( = ec) , depicted in Diagram 2b, is OE with n firms in the industry. R Pn+1 0 L Diagram 1— The effect of a technological external economy on production. . . . our representative firm must be one which has had a fairly long life, and fair success, which is managed with normal ability, and which has normal access to the economies, external and internal, which belong to that aggregate volume of production; account being taken of the class of goods produced, the conditions of marketing them and the economic environment generally." (Marshall, Prin ciples of Economics, p. 317. 12It perhaps goes without saying that our analysis does not conform to the theoretical stringency of the neces sary conditions for perfect competition given by R. J. Aumann in "Markets With a Continuum of Traders," (Economet- rica, XXXII [January - April, 1964], 39-50). SRMC LRAC LRM' SRAi LRAC' e 1 g e Diagram 2a— The effect of a technological external economy on the costs of the firm. SRS LRS CO Diagram 2b— The effect of a technological external sconomy on the supply of the industry. 71 By assuming that the supply of labor and capital to the industry is infinitely elastic and the possibility of vertical integration does not exist,’ 1 -3 the effect of exter nal economics may be shown by further assuming an autonomous increase in market demand from DD to D'D' depicted in Dia gram 2b. Short-run profits, depicted by the difference between SRMC and SRAC'at outputs greater than Oe in Diagram 2a, are assumed to attract firms into the industry, which let us assume expands from n to n + 1 firms. In the presence of real or technological external economies the long-run average cost curve of the firm falls from LRAC to LRAC' and long-run equilibrium cost (price) from ec ( = EC) to ec' ( = E'C') as industry output expands from OE to OE*. In this particular case, the firm, in maximizing profits, equates its new short-run marginal cost with the new price ec', the condition of long-run equilibrium being SRMC' = SRAC' = LRMC1 = LRAC' = ec1 at the equilibrium out put Oe. In Diagram 2b, LRS indicates the level of costs given the condition LRMC = LRAC for each individual firm as industry output increases with the entrance of new firms supplying external economies. LRS is thus the long-run industry supply curve and long-run average cost curve. I o ^ iJThese are assumptions implicit in Marshall's analysis (Joan Robinson, The Economics of Imperfect Compe tition [London: Macmillan & Co. , Ltd. , 1933] , pp. 340, 341). 72 Since the firm's equilibrium costs are an inverse function of industry output, the industry marginal cost lies below LRS. The fact that LRS depicts the equilibrium long-run average costs of the competitive firms in the industry on the basis of the original firms and new entrants having exploited both internal and external economies, the LRS is oest considered an ex-post supply curve rather than the 14 normal ex-ante supply curve. Turning now to the production side of the analysis, several logical possibilities must be considered. In Dia gram 1, with capital K on the ordinate and labor L on the abscissa, the production functions pn and Pn+i represent equivalent rates of output. The interdependency of the pro duction functions in the industry to which this firm belongs is such that as the industry expands from, let us say n to c i + 1 firms, the relevant production function becomes ?n+i* indicating a proportionate decrease in the capital and Labor requirements for the production of an output equiva lent to pn. This change in the technological coefficients and the consequent equilibrium at the tangency between the isocost Kqoc Lq and Pn+1 indicates the special case of a pro portional decrease in the utilization of labor and capital along the expansion line 00'. Abstracting from corner cases ■^It is this fact that gives great force to the "history in diagrams" interpretation of Schumpeter (History af Economic Analysis, p. 1046). 73 and solutions, it is possible for the position and configu ration of Pn+^ to be such that its tangency with KQOt Lq could occur at any point along KQcCL0. In the case of a tangency along the segment K0a, the firm evidently would expand its scale of plant and produce an equilibrium output greater than Oe in the long-run equilibrium. Conversely, a tangency on dL0 would lead to a contraction of the scale of 15 plant and output less than Oe in long-run equilibrium. The third case which seems to fit the concept of real or technological external economies is described by Marshall as follows: When therefore we are considering the broad results which the growth of wealth and population exert on the economies of production . . . an increase in the aggre gate scale of production of course increases those economies, which do not directly depend on the size of individual houses of business. These "correlated" industries presumably include those which Marshall identified as supplying external economies through the localization of industry by " . . . devoting themselves 17 each to one small branch of the process of production." Marshall seems to be generalizing on A. Smith's theorem that " . . . the division of labor, . . . must always be limited 15 A mathematical proof of this is given m A. C. Pigou, The Economics of Welfare (4th ed.; London: Macmillan and Co., Limited, 1932), pp. 799-800. 16 Marshall, Principles of Economics, pp. 316, 317. 17Ibid., p. 271. 74 18 . . . , by the extent of the market." He does so by extending it to explicitly include the specialization of the firm through some form of "vertical disintegration" and specialization of function. This form of specialization has been more exactly defined by Joan Robinson as " . . . the separation of an industry into a series of processes each IQ carried on by separate firms." Utilizing this definition apparently requires a conception of the firm as being in volved in several separable operations or activities rather than the more orthodox view of the firm as an organization producing a good or service by combining factors in accord ance with the physical relationships represented by the production function. This conception further allows the analysis of the varying costs of the separable activities. If, for example, among the various operations or processes of the firm, one or several are decreasing unit cost compo nents of the total cost of producing the commodity, the separable activities could be released at such time that the rate of utilization warranted such action. With an increase in market demand for a particular competitively supplied commodity, the decreasing cost activity could be dropped by the firm and the indivisibility exploited by an emergent I8smith, An Inquiry into the Nature and Causes of the Wealth of Nations, p. 17. 19Robinson, The Economics of Imperfect Competition, p. 339. 75 competitive industry which would then supply the process to all firms more cheaply than previously supplied internally. If the process is not taken over by a subsidiary industry, bhe indivisibility will remain unexploited regardless of the increase in the number of firms as any given firm has an optimum scale and rate of output determined by the totality of processes or activities. We might, as George Stigler has done, depict verti cal disintegration graphically, by assuming the firm to be operating with several independent processes used in con stant proportions.20 ce cd Diagram 3— The vertical disintegration, effect. ^°George Stigler, "The Division of Labor is Limited by the Extent of the Market," The Journal of Political Economy, LIX (June, 1951), 186-188. 76 In Diagram 3, the per unit cost CC is the vertical summation of the three processes p0p0/ pipl* and P2P2' with P2p2 ai ling Oce to average costs at the optimum rate of output Oe. Let us assume that with an increase in market demand and increase in the number of firms in the industry, the decreasing cost process p2p2 becomes profitable for a newly created competitive industry to exploit. In the example depicted, vertical disintegration would allow the process to be supplied at a cost Ocd to this firm and its competitors. The average cost curve of the firm abandoning the process would shift downward from CC to C'C and the optimum rate of output would decrease from Oe to 0e'.2^ A variant of the form of vertical disintegration we have depicted graphically in Diagram 3 has been described by Joan Robinson as follows: Each firm may relieve the strain upon management by abandoning some processes of manufacture to other firms, and so be enabled to carry out the production it retains upon a larger scale, making use of those indivisible units of the factors which were not fully occupied before.22 » The process here would no doubt be similar; an increase in 21 Needless to say, great liberties have been taken in presenting the "strictly Marshallian" external economies in a more contemporary form and technique. We have assumed, for instance, that such economies originate by an increase in the localization of industry through an increase in the number of firms. The other possibility would be an increase in geographical localization with the number of firms held constant for a given geographical region. 22 Robxnson, The Economics of Imperfect Competxtxon, p. 338. 77 the number of firms being necessary to make the subsidiary functions profitable enough for an emerging industry to exploit. The results, however, for any given firm would differ from that depicted in Diagram 3, the firm increasing its scale of operation in the new equilibrium. Problems of Evaluation We must now attempt to evaluate Marshall's seminal contribution to the study of non-market interdependencies. In doing so, we must at this point restrict our discussion to the "strictly Marshallian" external economies that are amenable to analysis in a static partial equilibrium frame work. Thus, not only are we limited by theoretical context, but by a schema of classification that excludes the concept of "diseconomies." Marshall's definition gives only the vaguest notion as to the nature and origin of such economies, but its denotation limits it to that phenomenon arising from changes in the scale of industrial production. However, without a distinction made between those economies which are supplied through the market mechanism and those which depend on non-market interdependencies, Marshall's elaboration through existential examples of changes in the scale of industry is found to be quite confusing. Further, by mixing the origin and nature of such economies, little system is achieved in his treatment and many of the examples remain unconvincing. 78 Another deficiency, recognized and discussed by Marshall, is that of the somewhat ambiguous analytical treatment that the static analysis necessitates when dealing with the history of individual firms in the context of the history of the industry, the two, by their very nature, 23 being analytically distinct. Perhaps a more important problem of evaluation is the equivocal nature of the statical context within which the concept was developed. Throughout Marshall's work we find a recurring emphasis and concern with the growth of industry and industrial environment as variation on a "high theme of economic progress. Consistent with this theme, he warns that "... economic problems are imperfectly presented when they are treated as problems of statical p C equilibrium, and not of organic growth." Thus, while the concept of "external economies" was, in terms of the Mar shallian emphasis, essentially an historical category and hence an interpretive tool for speculation on economic pro gress through development of industrial organization, tech nically speaking it was incorporated into the analytical framework of static partial-equilibrium as an additional tool for the explanation of relative prices. There seem to 23Marshall, Principles of Economics, p. 459. 2^Ibid., p. 461. 25Ibid. 79 be at least two ways in which we may interpret Marshall. If, for instance, we follow the interpretation of Schumpeter and Stigler, we are forced to de-emphasize the technical context and accept Stigler's proposition that, Marshall's chief purpose in creating the category, . . . was to explain the great historical reduction in pro duction costs, which were associated with increases of output, size of plant, and size of firm, and which to a large extent were not accompanied by monopolization.2® An alternative interpretation, and one of wider scope, would be to separate those external economies which seem to fit the statical partial treatment from those of an all-perva sive and dynamic nature, treating the former in a context of industry equilibrium and the latter in a more general con text of economic development. This second interpretation seems more consistent with the modern textbook treatment of external economies and, as the development of this chapter indicates, this is the interpretation we will follow.^ By limiting our extrication of the concept in this chapter to those cases consistent with partial equilibrium, we have at 2 f i *°George J. Stigler, Production and Distribution rheories (New York: The Macmillan Company, 1941) , p. 76". 27 Richard A. Bilas, Microeconomic Theory (New York: McGraw-Hill Book Company, 1967) , pp. 168-171; C. E. Fergu son, Microeconomic Theory (Homewood: Richard D. Irwin, 1969) , pp. 460-464; William S. Vickery, Microstatics (New York: Harcourt, Brace & World, Inc., 1964) , pp. 216, 333; Donald S. Watson, Price Theory and Its Uses (2d ed.; New York: Houghton Mifflin Company, 1968), pp. 260-265; Benja min Higgins, Economic Development (rev. ed.; New York: f j . W.' Norton & Company, Inc., 1968), pp. 327-334. 80 the same time restricted ourselves to those economies external to the firm but internal to the industry. In a later chapter we will explore the Marshallian origin of the dynamic concept and its evolution in the literature of eco nomic development. Perhaps one of the most important doctrinal aspects of Marshall's contribution was that of the central position of external economies to the sine qua non of the Marshallian analysis, that of the concept of competitive market equilib rium. In the course of his continual efforts to differen tiate between the behavior of the industry and that of the firm, he focused in particular on the case in which the increase in production in the industry was characterized by a tendency to increasing returns. He discussed this in the following way: This tendency to a fall in the price of a commodity as a result of a gradual development of the industry by which it is made, is quite a different thing from the tendency to the rapid introduction of new economies by an indi vidual firm that is increasing its b u s i n e s s . ^8 Clearly the implication is that we need not consider the exploitation of internal economies as the only explanation of a declining industry supply price. By simple deduction we are able to resolve the conflict between increasing returns (falling supply price) and competitive market equi- ^®Marshall, Principles of Economics, p. 457. 81 librium by introducing external economies.29 It is not surprising therefore to find Stigler expounding on the dif ficulty in ascertaining the "precise nature" of external economies while at the same time invoking them as the superior alternative explanation for the "... reconcilia tion of competition and decreasing long-run average cost.30 The Marshallian Paradox In terms of our major thesis the relationship of Marshall's contribution vis-a-vis the Ccoordinative complex" turns out to be a rather simple but paradoxical one. While Marshall had first breached the "coordinative complex" by introducing evidence of the long-run tendency of falling supply price, he had at the same time integrated this his torical phenomenon into his static analysis by positing that the declining price was a function of the scale of indus try— an industry comprised of firms which would be compelled to behave competitively and rationally by equating firm marginal cost to a given market price. But while competi tive equilibrium remained analytically feasible, the norma tive properties of the "coordinative complex" no longer held. The price (value) of the incremental unit produced 29This implication, however, was not clarified until the Marshallian verbal treatment was generalized by A. C. Pigou in his "An Analysis of Supply," (The Economic Journal, XXXVIII [June, 1928], 238-257). 30Stigler, Production and Distribution Theories, p. 68. 82 in the presence of external economies exceeded its incre mental (social) cost. Hence, while the structure of the competitive model was extended and strengthened, its social substance according to the Smithian notion of the "invisible hand" was destroyed. CHAPTER IV LATE NEOCLASSICAL ARTICULATION AND CONTROVERSY; THE TRADITIONAL CONCERN WITH INDUSTRY SCALE Introduction to the Controversy Over the Marshallian-Pigovian Category The controversy that immediately followed the works of Alfred Marshall and later A. C. Pigou, oddly enough was not in terms of clarification and further articulation of the original Marshallian concept, but in the context of the empirical or "realitic" content of the original analytic construct and the value of prescriptive statements made by Marshall and Pigou based on the original externality frame work. Because of the more general analysis adopted by Pigou, criticism of the concept of external effects was pri- narily directed at his analysis which was admittedly a translation of the Marshallian concepts into the more refined Pigovian terminology. It should not be thought, lowever, that Marshall's treatment was received without con siderable discussion. D. H. MacGregor was only one of several who troubled to attempt to bring the analytical statements and real world observations into some sort of 83 84 correspondence.^ But criticism was low-keyed until Mar shall's student, A. C. Pigou, by translating the "strictly Marshallian" external economies into the more sophisticated marginal framework, crystalized the target and increased the tempo of dissatisfaction. Under the refined treatment of Pigou, the Marshal lian treatment underwent a profoundochange with the original category being subsumed under a highly generalized framework which emphasized the anomalies of non-market interdepend iencies regardless of their origin. Indeed, Pigou's work might best be conceived as a synthesis of the work of Sidg- wick and Marshall, with the apparatus of the net social marginal product as the modus operandi of the synthesis. Pigovian Variations on the Marshallian Theme From Wealth and Welfare to the Economics of Welfare In the present chapter we wish to deal only with the further articulation of the "strictly Marshallian" category, for it was this elaboration which generated the greatest skepticism in the community of academic economists, and on which Pigou expended the better part of his energies in extended discussion and reformulation. Pigou's discussion originates in Wealth and Welfare, - * - D . H. MacGregor, Industrial Combinations (London: University of London, 1938), pp. 20-21. 85 and evolves through reformulation and refinement in The o Economics of Welfare and its successive editions. Before moving to an examination of Pigou's major thesis as it was developed in these works, let us first discuss several important differences between his methodology and that of his precursors. The first difference is with Sidgwick, who, it may be recalled, had considerable reservations regarding the convention of using money as a measurement of social wel fare, holding inferences based on such measurement highly questionable.^ Pigou, on the other hand, with only a little substantive argument to the contrary, restricts his range of inquiry to " . . . that part of social welfare that can be brought directly or indirectly into relation with the mea- suring-rod of money . . . ," feeling justified in this on the contention that "economic" and "social" welfare can reasonably be thought of as moving in the same direction.^ Now inasmuch as Pigou is attempting an analysis of non-mar ket interdependencies, it would seem questionable whether money, as a measure of market behavior and aggregate out- 2A. C. Pigou, Wealth and Welfare (London: Macmillan and Company, 1912), was followed by several editions of The Economics of Welfare (London: Macmillan and Co., Limited, 1920). The second edition was published in 1924, the third in 1929, and the fourth in 1932. 3 Supra,, p. 51. ^A. C. Pigou, The Economics of Welfare (4th ed.; London: Macmillan and Co., Limited, 1932), p. 11. 86 comes, is a valid instrument for measuring certain devi ations that originate in non-market interdependencies. Indeed, as Hutchison points out, "... when he comes to the clearest cases of divergencies . . . Pigou deliberately disregards the criterion of measurability in money terms. In any case, since we have postulated a synthesis with the vork of Sidgwick, this, difference in approach must be recog nized. Of considerable importance for welfare statements derived from Pigou, is the corollary from an assumed money measurement of the social product. This would be the inter personal comparison of utility which differentiates the "old" from "new welfare economics." Another difference that must be noted is that between Pigou and Marshall in the prescriptive technique each adopts. While Marshall relied on the concept of con sumers ' surplus to evaluate divergencies from a maximum of social welfare, Pigou, in an economy of technique, inte grated his distinction between the marginal social net pro duct and marginal private net products into a framework for prescriptive propositions. While this difference is only tangentially related to our examination of non-market inter dependencies, it seems sufficiently important to comment on for the following reasons. First, since externalities are 5 T. W. Hutchison, A Review of Economic Doctrines, 1870-1929 (Oxford: Clarendon Press, 1953) , p. 292. 87 generally discussed with reference to normative economics, the technique which the analyst utilizes in moving from indicative to imperative statements will in many cases have some bearing on the original conception of the divergencies which make the imperative propositions necessary. While it is beyond the scope of our examination to consider the relative merits of each analyst's normative framework, it does become necessary to note those cases in which differ ences in technique cloud and confound the social issues being investigated and in some cases lead to contradictory results. Further, controversy often focuses c the pre scriptive statements out of context rather than on the analytical framework, leaving the viability of the analyti cal framework in question by implication. Pigou's Modus Operandi In order to establish the meaning of maximum national dividend, the conditions for its attainment and the variety of conditions including the presences of non-market interdependencies that result in sub-optimality, Pigou introduces the concepts of marginal social net product and marginal private net product. The former is defined as: . . . the total net product of physical things or objective service due to the marginal increment of resources in any given use of place, no matter to whom any part of this product may accrue . . . ° ^Pigou, The Economics of Welfare, p. 134. It should be mentioned that the author's definition is a refinement of 88 / y f e see here a profound deviation from the traditional view d£ industry-product-consumer relationships and an explicit cecognition of the collective nexus of production-consump tion relationships. The conventional idea of production and exchange being a relationship with only individual or pri vate consequences is thus discarded and replaced by a far more realistic conception. The private aspects of produc tion, however, are not totally disregarded, but are inte grated into the broader definition of production. The pri vate complement to the marginal social net product is defined by Pigou as follows: The marginal private net product is that part of the total net product of physical things or objective ser vices due to the original increment of resources in any given use or place which accrues in the first instance— i.e., prior to sale— to the person responsible for in vesting resources there.7 From this analytical apparatus, presented with familiar Pigovian rigor and idiosyncratic consideration, he derives the conditions under which the "national dividend" will be maximized along with a set of conditions under which it will be sub-optimal. He transforms product into value by imputing the value of the marginal social net product from the worth of that product in the market, which, in the first phase of his study he considers to be one character- his earlier one found in Wealth and Welfare, where he speaks only of the difference between the ' ‘aggregate contribution" and "earnings of those responsible for it." 7Ibid., p. 135. 89 Lzed by "simple competition." The technical condition for an optimum, then, is an arrangement of resources such that the values of the marginal social net products are equal to the values of the marginal private net products, all being equal to each other. Two general types of divergencies which would pre sent a relative maximum emerge from the technical and social conditions. The first type, divergency between the marginal private net products, can in most instances be attributed to the failure of the "real" system to correspond to the "ideal" conditions of "simple competition." However, assum ing, as Pigou does in treating non-market interdependencies, that a competitive environment prevails, a second form of iivergence can arise between the two types of marginal pro ducts. In this case, the motivating force of self-interest alone will be insufficient to assure the maximizing outcomes normally expected from competition. In its most general form, the concept of external ities follows from the second set of conditions defining a sub-optimal arrangement of resources. Pigou points up the essence of the type of interdependency leading to this arrangement of resources in the following unequivocal terms: The source of the general divergence between the values of marginal social and marginal private net product that occur under simple competition is the fact that, in some occupations, a part of the product of a unit of re sources consists of something, which, instead of coming in the first instance to the person who invests the unit, comes instead, in the first instance (i.e., prior 90 to sale if sale takes place), as a positive or negative item, to other people. Thus we see a variation on the concept of joint products, the difference being that while the product partially mani fests itself as a marketable item, conceived in its totality as marketable product plus joint residual, the joint product nust be analyzed as circumventing intermediation by the mar ket mechanism. Rather than being indirectly interdependent, the behavioral units in the immediate consequences of action, become directly interdependent with behavioral units initially independent of the decision of interaction. The "semi-public" character of this interdependency seems obvious, a point we will want to elaborate on at the appro priate time. Let us set the schema out in simple algebraic form. Our notation will be SMP for the social marginal net pro duct; PMP for the private marginal net product; R for net positive or negative items accruing to others than the decision-making unit; I for investment in the least cost combination of productive resources; P for physical product. Then P = j - (I) dP and = SMP but, by definition SMP = PMP + R, thus, where R / 0, SMP j * PMP. A. positive externality is supplied where SMP > 0, PMP > 0 8Ibid., p. 174. 91 and R > 0 and thus SMP > PMP. h negative externality (external diseconomy) is supplied tfhere SMP > 0, PMP ^ 0 and R < 0 and thus SMP < PMP. Externalities are either not present (generated or net out to zero where SMP = PMP, implying R = 0. Pigou does not state in what direction the "physical" marginal product moves; however it is implied in the nega tively sloped demand curve for the industry that the "value" of marginal product in the private sense must be continuous and falling. On the other hand, if we proceed on the basis that the competitive firm is the proper unit of analysis, we would normally assume that firm to be in long-run equi librium, and having captured all economies of scale, would, from an increment of investment, experience decreasing returns to scale and thus diminishing marginal private net g product. In order to avoid the many complications that arise from indefinite reference points, i.e., failures to distin guish between firm and industry, let us assume that our unit of interest is the industry comprised of firms with "pri vate" production functions of the Cobb-Douglass type. Mar ginal products then must be, in Pigou's terminology, of an additive rather than substitutive type, increments of ^Myint, Theories of Welfare Economics, pp. 186-187. 92 investment being made by new entrants. The marginal private met product then would be constant for the industry. Transforming product into value terms then leads to a diminishing value of the marginal private net product as demand price falls along the negatively sloped market demand curve. The most reasonable assumption would seem to be that the value of the social marginal product moves in the same direction as that of the private, being coterminous with it when R = 0 and diverging when R / 0. Let us consider this in graphical form. Given the hypothetical situation indicated in Table 1, external economies Re and diseconomies R^ are inverse functions of investment I. The value of the social marginal product in the presence of external economies VSMPg is the sum of the private marginal product PMP plus its social counterpart Re times price of the product P, and the value of the social marginal product in the presence of external diseconomies VSMP^ is the sum of the private marginal product PMP plus the social counterpart R^ times price P. In the absence of external effects, and the relevant category for an explana tion of industry investment and output without intervention is VPMP0. If a unit of investment can be assigned a monetary value of $425.00, then the equilibrium investment is 4 units as is indicated in Diagram 4* At this level of investment in resources, however, there is, in the presence of external 93 economies/ a divergence between VPMP0 and VSMPe, which can only be eliminated by a subsidy (bounty) which will equate VPMP0 and VSMPe at a value of the marginal product, VMP, of $425.00. The obverse would hold for diseconomies shown by VSMPd in which a tax would be the correct prescription. TABLE 1 AN ILLUSTRATION OP THE DIVERGENCE BETWEEN THE VALUE OP SOCIAL AND AS A PRIVATE FUNCTION MARGINAL PRODUCTS OF OUTPUT I/t PMP P $ Re Rd VSMPe $ VPMP0 $ VSMPd $ ■ 1 50 10 10 - 1 600 500 490 2 50 9.5 9 - 3 560.5 475 446.5 3 50 9 8 - 5 522 450 405 4 50 8.5 7 - 7 484.5 425 365.5 5 50 8 6 - 9 448 400 328 6 50 7.5 5 -12 412.5 375 285 7 50 7 4 -15 378 350 245 8 50 6.5 3 -18 344.5 325 208 9 50 6 2 -21 312 300 174 10 50 5.5 1 -24 280.5 275 143 If external economies are supplied, and an increment of investment costs $425.00, then the equilibrium investment is 4 units per unit of time and to equate VSMP and VPMP, a subsidy of $.75 per unit of output must be paid. Investment will increase to 6 units VMP 600 ■VSMP VPMP 500 VSMP 400 VPMP 300 200 100 Diagram 4--Divergence between the value of the so<s cial and private marginal products. 95 Evaluations of the Pigovian Defmxtions It is immediately evident that Pigou has given a definition of the phenomenon of non-market interdependency with far greater scope and clarity than that of his precur sors. By generalizing on the situations in which diver gencies may occur, he extends the original Marshallian cate gory from the narrow focus on problems of industry scale to the diverse sources of economic activity. This is not to say that his broadening of the sub-optimal category is beyond criticism. In the definition, little is explicitly said of the nature and origin of the phenomenon it iden tifies, and the directness and publicness of the interdepen dency must be inferred from his examples denoting the phe nomenon rather than from the definition itself. Further, the apparatus that allows the distinction to be made may it self stand criticism in its transformation to value terms and non-operational formulations. While the definition illuminates the multiplicity of effects from production and consumption, at the same time the analytical clarity is obscured as heterogeneous effects are substituted for the conventional treatment of homogeneous products. But such criticism seems trivial relative to the systematic elabo ration that follows the definition. Pigou's articulation proceeds with a major differen tiation between various relationships of the economic units 96 which effect and are affected by those economic arrangements that exhibit divergencies between the two types of marginal products. The differentiation he makes for originator-re cipient relationships is fourfold: (1) tenant to owner, (2) producer to consumers and unrelated producers, (3) con sumer to consumer, and (4) producer to related producer. We will defer treatment of the first three to a later chapter and present at this point producer to producer economies and diseconomies as the logical extension and refinement of the "strictly Marshallian" category. Traditional Concern with Scale of Industry One of the most lengthy and liveliest doctrinal dis putes in the history of economic thought involves the theo retical and empirical nature of the "producer to related producer" externalities. While Marshall originated the category, it was Pigou who fleshed in the inherited skeleton in his generalizing marginal framework. Received doctrine allowed only for economies, but Pigou provided for symmetry in the category by postulating the obverse, diseconomies. One of the critical issues, however, was precisely over the integrity of symmetrical treatment. Pigou first laid out his analysis in 1913 in Wealth and Welfare, where he emphasizes the avoidable social costs created by excessive supply in increasing cost (diminishing 97 returns) industries.10 Without differentiating between rising industry cost due to "transfer elements" and those of a technical origin, Pigou introduces the "marginal supply price" of the industry as " . . . the difference between the aggregate expenses of the annual production of x units and of (x + ax) units respectively."11 If we consider the Long-run average cost curve of industry, then Pigou's inno vation is the marginal to the average and thus exceeds, is aqual to or lies below the average depending on the average increasing, remaining constant or decreasing as output increases. By assuming equality between the two types of mar ginal net products, Pigou focuses his analysis on the diver gence between the marginal supply price of the firm in oquilibrium and the marginal supply price of industry in the presence of diminishing and increasing returns to industry. Such divergencies are indexes of divergencies between the marginal net product yielded in a particular industry and industries in general.12 His conclusions regarding the sig nificance of the index, however, are confounded by his failure to use consistently one form of measurement; either noth costs and product in physical units, or product and 10Pigou, Wealth and Welfare, pp. 172-179. 1: L Ibid., p. 176. 12Ibid., pp. 176,1177. 98 n resources m terms of price. Pigou's failure to specify his unit of measurement and apply it consistently provided his critic, Allyn Young, a handle for an effective undermining of the original analysis. According to Young, had Pigou begun and remained in physical terms, he would have noticed that a rising sup ply price did not indicate a "using up" of resources in a social sense, but only a "transference" of purchasing power. This would be true whether it represented the transfer cost of the entrepreneur or the increase in economic rent to other scarce resources. While Young conceded the analysis tor the increasing returns case— the symmetrical treatment oeing his point of contention— he questioned the efficacy of placing the analysis in a competitive context. This of course was a reflection of the basic confusion at that time oetween economies of firm scale and external economies of industry scale. In view of Young's criticism, Pigou was forced to rework his analysis which he presented under a new title.^ Allyn Young, "Pigou's Wealth and Welfare," The jjuarterly Journal of Economics, XXVII (August, 1913), 683. 14Ibid. 15 D. H. Robertson, "Those Empty Boxes," The Economic Journal, XXXIV (March, 1924), 31. Although Pigou repeated the error in his first edition of The Economics of Welfare, le attempted to meet the criticism in the second edition of the same work. 99 In the reformulation, the competitive assumption was retained but the assumption that the two types of marginal products remained equal was dropped and their divergence in the presence of external economies and diseconomies made an integral part of the analysis. By showing that the marginal private and average product of the equilibrium firm were equal and thus the reciprocal of the firm's supply price, Pigou further showed that as the marginal supply price of industry deviates from that of the firm, so too must the marginal private net product at the same time diverge from the marginal social net product. Such a conclusion, how ever, was conditional on the fundamental distinction of variations in the supply price from the standpoint of the indsutry and from the standpoint of the community. Prom the standpoint of the former— supply price "simpliciter"— the supply price is gross of changes in factor and material prices, while from the standpoint of the latter, the supply price is net of such changes. While Pigou did not rigor ously make the distinction, a varying supply price "simpli- eiter" would, when caused by varying prices of domestic factors and materials, be commensurate with Viner's "pecuni ary" economies, and that from the standpoint of the commun ity, with the same restriction, to "technological" economies. Analytical Aspects Pigou's analytical treatment can most easily be 100 reconstructed with the aid of F. Y. Edgeworth's interpre- 1 tation. ° The problem that Pigou first encountered was one of interdependency of cost curves of the firms in the indus try which prevented the simple horizontal summation of supply curves. Edgeworth generalized on Pigou's solution to this problem by setting the output of the firm qi as a function of both price p and industry output Q. The short- run industry supply was then identified as: Qs = 5Tqi = 2-f(Pr 5) (1) and the long-run industry supply as: Ql = Jjli = Hf(Pf Q) (2) where Q is a given constant in equation (1) and Q a variable in equation (2). In equilibrium then Q = Q and Qs and Ql intersect at p. We might depict this graphically in the following way. In Diagram 5, with price (cost) p on the ordinate and the industry output Q on the horizontal axis, SRS (Q) repre sents the short-run industry supply and LRS(Q) the long-run industry supply. The subscripts to the Q's indicate the industry output on which the firm bases its output decision. Mathematically the price for the firm and industry becomes an explicit function of industry output when Q = Q. Given the market demand curve DD, the relevant •^F. Y. Edgeworth, "The Revised Doctrine of Marginal Social Product," The Economic Journal, XXXV (March, 1925), 30-36. 101 short-run supply curve is SRS(Q0), Q0 being the aggregate supply consistent with this level of demand, and thus equal to Q. MSP (Q,) LRS(Q^) Diagram 5— Comparative statics of the industry in the presence of external economies. 102 kt this level of industry output OQq, the competitive long-run equilibrium price (cost) is QO(, which in Pigovian terminology must be interpreted as that point at which the "equilibrium" firm's long-run average and long-run marginal costs are equal— contracting and expanding firms cancelling cut. But this must further mean that the number of firms forming the industry must also be determined by industry Dutput Q, and that any additional output forthcoming must come from new entrants if the conditions for the equilibrium firm are to hold.-^ Assuming now that an autonomous shift in demand from DD to D'D' occurs, the relevant supply curve for short-run industry output remains SRS(Q0) which determines along with iemand D'D1 the price to which the existing and potential firms respond. According to Pigou, The industry, therefore, conforms to the law of increas ing, constant or decreasing supply price accordingly as the price which leaves the equilibrium firm in equilib rium increases, remains constant or decreases with in creases in the regular rate of output . . . of industry as a whole.18 In the decreasing cost case, with demand price in axcess of supply price at output 0Qo, pure economic profits attract new firms and the SRS curve shifts to the right. 17 'Pigou, The Economics of Welfare, p. 791. "For any given output, then, of the industry as a whole, the supply ; price of the industry as a whole must be equal to the price which, with the then output of the industry as a whole, Leaves the equilibrium firm in equilibrium." 18Ibid. 103 Assuming now that ( = Q4) is that output which restores equilibrium for the "equilibrium firm," demand price falls along D'D1 at a faster rate than industry supply price falls along LRS(Q4) and industry longrrun equilibrium is restored with output OQ4, price Q4B ( < Q0o() . A "material" instance of this decreasing supply price from the "standpoint of the community," and the only one belabored by Pigou, is the Marshallian case of "vertical disintegration."^ Formal analysis for the increasing cost case, while being simply the inverse of the decreasing cost case, is much more difficult to establish in "material" terms. Through the successive editions of The Economics of Welfare, Pigou was forced to drop those cases which he originally asserted as situations which denoted increasing supply price and finally conceded that in the normal case increasing supply price "simpliciter" would not indicate increasing supply price from the "standpoint of the community." The only exceptional "material" instance of this would be an increase in the cost of imported raw materials used in an export-oriented industry which, because of the export orien tation, does not allow for the cancelling effect of a 20 "transfer element." Graphically this case would be indi cated by LRS (Q-j_) in Diagram 5. l9Ibid., p. 219. 20Ibid., p. 221. 104 In the increasing cost case it is obvious that the axample given by Pigou does not conform to the definition of externalities we adopted in our analysis of Marshall. There, it will be recalled, we restricted our explication to bhose economies external to the firm but internal to the industry, which in effect restricts the analysis to the "technological" category. While this Pigovian external dis- aconomy is initiated by an autonomous increase in industry Dutput, the diseconomy is not supplied— in a theoretical sense— by an individual firm within the industry which for bechnical reasons cannot be charged for its effect. This, lowever, was not the line of criticism to which Pigou's new category was subjected. Let us defer that criticism to a Later section. The Pigovian Assault cn the Paradigm While we are only incidentally concerned with the welfare conclusions contained in any one author's analysis, it seems appropriate, due to the integrated nature of Pigou's positive and welfare analytical apparatus, to present at this point some notion of his position. The anomaly of external economies and diseconomies was central bo Pigou's critique of the optimizing properties attributed bo a regime of laissez faire and his innovation of the two bypes of marginal products through which these externalities could be identified was central to his prescription. Let us 105 nriefly discuss the articulation of "old" welfare economics. It might be recalled that Pigou, along with other cutstanding members of the community of economists in the 1920's and 1930's, was groping toward the marginal cost pricing principle as the optimum solution for the allocation cf resources.^ But where the majority of participants focused their analysis on the effects of the "lumpiness" of fixed capital, Pigou's focus was more on the traditional competitive model in which certain distortions in allocation 22 occurred as a result of the presence of external effects. The "old" welfare economics of Pigou was formulated within this controversy, resulting in a comprehensive system of propositions regarding the optimum allocation of resources. Such an optimum necessitated some form of index, tfhich, as formulated by Pigou, required interpersonal com parisons of satisfaction. It is beyond the scope of this phase of our study to rule upon the merit of his assertions as to what would be the best measure of "welfare," "a thing,' 2^-Nancy Ruggles, "Welfare Basis of the Marginal Cost Pricing Principle," Review of Economic Studies, XVII (1949- 1950), 29-46. ^ Ibid., p. 43. While Ruggles asserts that in the controversy over a pricing principle "... the major writers in the field gradually began to turn away from the increasing cost case, and to focus on internal rather than external decreasing costs . . . ," she contradicts her earlier discussion which indicates that the same major writers were convinced that the externality case led to mo nopolies and thus was either antithetical to the competitive nodel or simply was a case of the "lumpiness" of fixed capital. 106 according to Pigou, "of wide range." What is important, tiowever, is the realization that Pigou, by limiting his study to that part of welfare that was in principle amenable to quantitative methods and restricting his analysis to the causes and changes in his chosen index of the national dividend and its distribution, was involved in a positive rather than normative study. All of Pigou's value judgments were contained in what welfare is, not in what caused wel fare to be greater or less than it was. Through the posi tive science of what is, he was able to assert what could be, which of course is profoundly different than asserting what should be.^ Pigou's allocative schema is built around the con cept of the "ideal" output which is defined in terms of his analytical apparatus as that arrangement of resources which leads to an equalization of social marginal net products. This leads to the dictum that in the presence of external effects from the standpoint of the community, . . . the ideal output . . . will be that output which makes the demand price of the output equal to the money value of the resources engaged in producing a marginal 23A. Radomysler, "Welfare Economics and Economic Policy," Economica, New Series, XIII (August, 1946), 199. "As The Economics"of Welfare is concerned with the causes of welfare, if follows that it is a positive study. Though the causes which Professor Pigou examines may not all be correct and though they may not be those that are most i ittt- portant in the real world, in approach and in method . . . it is a positive study of causes, not a normative study of what ought to be done." 107 unit of output . . . the output that makes demand price and marginal supply price to the community e q u a l .24 Such is Pigou's marginal cost pricing principle, which, in a less refined form, was formulated in 1928.^ Let us refer back to Diagram 5 for a graphical dis play of the proposition. Assuming that the long-run equi librium price for the "equilibrium" firm is Q0o( and its q Q— — output q'-Qq , the industry output is 0Qo. In the presence of external economies, the expansion of industry output is characterized by a movement along LRS(Q4). Now the benefits of external economies that accrue to the firms of the industry and are supplied internally to the industry are less than the potential benefits that could accrue to society as the output in a decreasing cost industry in a competitive environment falls short of the ideal. This is indicated by the construction of LRS which is the loci of equilibrium points for the equilibrium firm which can only oe in equilibrium when its long-run marginal and average costs are equal to market price, thereby on the assumption ef profit maximization precluding increases in its output at the same time discouraging new entrants into the industry. As the firm's long-run equilibrium average cost, i’ s equal to the marginal private product, its reciprocal is equal to the 24pigou, The Economics of Welfare, pp. 803-804. 25pigou, "An Analysis of Supply," p. 257. 108 average cost of the industry which in turn is the supply price of the industry LRS(Q4). It is axiomatic that if the industry average cost curve is falling, the industry mar ginal cost must be below it, the relationship being MSP(Q4) = LRS(Q4)? ~ 1 where 7 ) is the elasticity of LRS(Q4) with respect to P. Hence, as long as f ) > |l[, the marginal supply price will have an economic meaning. The reciprocal of the marginal social product is the addition to total industry cost of an increment of output or the marginal supply price MSP(Q4) in our Diagram 5. The divergence then between the two types of products at the competitive equilibrium output 0Q4, is, in terms of price, Q4? - Q4Y. In order to achieve the ideal output, a subsidy is required to encourage resources into the industry, lowering the social marginal product, equalizing it with the private and bringing them both into concert with the margin al social net product of resources in general.2® The Line of Criticism Introduction External effects, as they related to the scale of industry, were only a part of Pigou's overall disillusion- 26 Pigou, The Economics of Welfare, p. 224. We will defer our discussion of the increasing cost case to a latter section on criticism of Pigou. 109 nent with the normatively coordinative properties of the narket mechanism. But because of the central position of industry supply in neoclassical value theory, it was this aspect that stimulated the greatest discussion and provoked the most criticism. It is to the variety of criticisms that we must now turn. Thus far we have only mentioned Allyn Young's insightful remarks following Wealth and Welfare, which, because they were acknowledged as valid and received atten tion in the early years of the controversy, altered the course of conceptual development as the criticism was inte grated by Pigou. But Young was only one of many who felt compelled to challenge the efficacy of a framework which left in question those redeeming aspects of the competitive market which for so long had been taken for granted. The criticism was carried almost simultaneously on four distinct dimensions: (1) methodological, (2) theoretical, (3) tech nical, (4) ideological. Although distinct, it would be fatuous to suggest that the fourth dimension did not pro foundly affect the others and further that each dimension was equally important in remolding the concept. The "Empty Boxes" The critics and the controversy The first appearance of criticism, initiated by the renowned economic historian, J. H. Clapham, was of a con 110 ceptual nature and was cast as a methodological questioning of the function and use of theoretical (analytical) know ledge, of which the Marshallian-Pigovian category of exter nal effects formed a most questionable part. "... I think," writes Clapham, "a good deal of harm has been done through omission to make it quite clear that the Laws of Returns have never been attached to specific industries; that the boxes are, in fact, empty. . . . "27 Continuing from the vantage point of the historian, Clapham argues against the "realitic" void created by such conceptual innovations and theoretical manipulation, reproaching Pigou for the lack of existential examples, not on the level of "for instances" but on the technical level of measurement with practical consequences. His admonishment is a general one, directed, it would seem, more at the increasing degree of abstractness of the science than simply the category at nand. He brings up the questions of measurement and the complementarity of verification and hypothesis for a viable 2 8 practical science. But further than a category which fails in the descriptive art of the historian and one which seems on the more practical level to be of dubious value, there is the problem of "social consequences," to which such ^ J . H. Clapham, "Of Empty Economic Boxes," in K. E. A. Readings in Price Theory, ed. by G. J. Stigler and K. E. Boulding, Vol. VI (Chicago: Richard D. Irwin, Inc. , 1952), p. 119. ^®Ibid. Ill ill-founded hypothesizing leads when translated into prac- 29 tice. Indeed, when external economies and diseconomies are involved in their "unrealitic" form, the credibility of the science itself is in jeopardy. According to Clapham, Unless we have a good prospect in the near future of filling the boxes reasonably full, there is, I hold, grave danger to an essentially practical science such as Economics in the elaboration of hypothetical conclusions about, say human welfare and taxes in relation to indus tries which cannot be specified.30 Without the econometric bridge between disciplines at that time, the criticisms of Clapham on the technical level would seem appropriate. But the criticism was placed in a much more fundamental context, and was answered on the level of methodology by Pigou. By dividing knowledge into "matters of fact" and "implications," Pigou points out that it would be impossible to determine the more important, as ooth reveal truths. Now one might infer, according to Pigou, that Clapham had opted for "practical usefulness" as the proper criterion. But this would have been a misreading Df the argument for it was Clapham's "realism rather than practical usefulness" that provided the proper measure to weigh the value of truth. But if "realism" rather than "practical usefulness" was to be the criterion, the two 29 j. H. Clapham, "The Economic Boxes: A Rejoinder," in A.; E. A. Readings in Price Theory, ed. by G. J. Stigler and K. E. Boulding, Vol. VI (Chicago: Richard D. Irwin, Enc., 1952), p. 141. 30J. H. Clapham, "Of Empty Economic Boxes," p. 127. 112 bypes of knowledge still remained incommensurable, the difference being that holding to the former methodologically O I aound the economist to operations of the historian. As Pigou points out, Clapham's refusal to accept even the most rudimentary generalization of "commodity" makes the inter pretation that Clapham's arguments actually rested on strict "realism" most plausible.32 What is important to our thesis of the "paradigm- anomaly" historiography is the broader context of Pigou's defense. It might be recalled that prescriptive proposi tions deduced from Pigou's elaboration on the Marshallian category were incidental to the explanatory or positive nature of the articulation. In defending the "analytic" against the "realitic" position, he went further than simply aasing his defense on the "implications" that could be drawn from a category that was admittedly empty of detailed smpirical content. While such "implications" were useful in "exposing the falsehoods of charlantry" and would naturally aecome of greater practical usefulness as the problems of neasurement were overcome, there was a more fundamental con sideration. That the "implications" allowed the distinction 31A. C. Pigou, "Empty Economic Boxes: A Reply," in A. E. A. Readings in Price Theory, ed. by G. J. Stigler and K. E. Boulding, Vol. VI (Chicago: Richard D. Irwin, Inc., 1952), p. 133. 32Ibid. 113 between increases and decreases in cost as demand changed was, according to Pigou, . . . a mere incident in our general analysis of the problem of value— an analysis in which are brought to light the complex inter-relations of internal and exter nal economies and those deep-seated difficulties, ob scure to all economists before Dr. Marshall wrote, con nected with the element of time.33 The proper perspective in which to view the category was considerably broader than Clapham had allowed. From the oroader scope of the "coordinative complex" the phenomenon of such non-market interdependencies was an anomaly, and only through the articulation of the concept of "external affects" could an integration with the theory of value ierived from the paradigm be accomplished. The object of its articulation was to better understand the complex influence that governed economic values. Hence, writes Pigou, To take the categories of increasing and diminishing returns out of their setting and to speak of them as though they were a thing that could be swept away with out injury to the whole corpus of economics is a very perverse proceeding.34 As with so many arguments over methodology, the iebate left both parties assured of the viability of their positions. Frank Knight was one of the first to criticize Pigou's innovations in The Economics of Welfare on a strictly 33ibid.I p. 134. 34ibid. 114 O C theoretical level. But the criticism turned out to be little more than a sophisticated reworking of Young's earlier critique of Wealth and Welfare. Knight's contention is that the concept of external economies rests on a misconception of the mechanism by which efficiencies are supplied to the firm by the industry to which it belongs. In an often quoted passage he asserts, The position of the productive process carried on in a particular unit is an accidental consideration. Exter nal economies in one business are internal economies in some other, within the industry. Any branch or stage in the creation of a product which offers continuously a chance for technical economies with increase in the scale of operations must eventuate either in monopoly or in leaving the tendency behind and establishing the normal relation of increasing cost with increasing size.36 Evidently Knight rejects the proposition that the interde pendency of production functions is a necessary condition for the presence of external economies. By making the implicit distinction between "technical" and other forms of external effects and associating these with internal econ omies one can only interpret the source pf external econ omies supplied internally to the industry as being mediated by the price mechanism.3^ Further, the source of these O C Frank H. Knight, "Some Fallacies in the Interpre tation of Social Cost," in A. E. A. Readings in Price Theory, ed. by G. J. Stigler and K. E. Boulding, Vol. VI (Chicago: Richard D. Irwin, Inc., 1952), pp. 160-179. 36Ibid., p. 172. 3^Nancy Ruggles is simply mistaken in her interpre tation of Knight's quoted paragraph in "Welfare Basis of 115 economies could be of either an organizational or technolog ical sort as no distinction is made between a firm in equi librium with an optimum scale of plant and equilibrium in the industry. Lastly, Knight misconstrues the essential nature of the phenomenon he purports to explain by associat ing a tendency to monopoly with a continuous supply of external economies to the firms of an industry. This is again a reflection of the confusion at that time between supply and cost curves of firm and industry. When it comes to the case of increasing supply price and the Pigovian dictum that such industries exper iencing increasing costs from the "standpoint of the commun ity" produce at levels of output exceeding the social opti mum, Knight asserts that the Pigovian position is a " . . . misinterpretation of the relation between social cost and entrepreneur1s cost."^® In criticizing Pigou's formulation as it appeared in the first edition of The Eco nomics of Welfare, Knight generalizes on Young's position, showing that under a profit-maximizing regime the rent to a superior resource would be equal to the Pigovian tax and the Marginal Cost Pricing Principle," ' ' ( Review of Economic Studies, XVII [1949-50], p. 43), when she writes^ n T . . he also demonstrated again that in the static case external decreasing costs are purely the result of internal decreas ing costs in some other industry." ^Knight, "Some Fallacies in the Interpretation of Social Cost,"p. 161. 116 39 actual output would equal the ideal. The correct formu lation of problems of increasing cost would, under a compet itive regime, indicate that rent to the "superior oppor tunity" is allocating resources efficiently through the 40 price mechanism. Pigou evidently conceded that the example he had used to illustrate the case of external diseconomies was ill-chosen, inasmuch as it was dropped in the successive editions of The Economics of Welfare. Further criticism was leveled at Pigou by D. H. Robertson, who, in entering the "empty box" controversy on Pigou's own grounds, cast his argument in the theoretical mode.^ At this time, The Economics of Welfare was still in its first edition and did not reflect the critical review of Young on several points which were carried over from Wealth and Welfare. We may, however, disregard this, as Robertson's critique does not stand or fall on the answers later pro vided to Young. Robertson begins by first discussing Pigou's con clusions that the "coordinative complex" is breached in the presence of increasing and decreasing cost industries, the ■^Pigou, The. Economics of Welfare, p. 194. 40 Knight, "Some Fallacies in the Interpretation of Social Cost," pp. 166-167. ^D. H. Robertson, "Those Empty Boxes," in A. E. A. Readings in Price Theory, ed. by G. J. Stigler and K. E. Boulding, Vol. VI (Chicago: Richard D. Irwin, Inc., 1952), pp. 143-159. 117 former leading to an excess and the latter falling short of the output that the true interests of society required. Inquiring into the nature of this varying cost phenomenon, Robertson separates the influences into two analytically distinct types for a suitable explanation of the decreasing cost case. The first type would be that involving fixed capital of a "lumpy and discontinuous" sort while the second would be a case where, . . . given time, methods of technique and of organi zation are capable of improvement . . . , so that ulti mately a larger output can be produced at a lower cost per unit than that at which a smaller output was previously produced.42 Two things are worth noting inasmuch as they do not conform to either Marshall's or Pigou's conception of the phenome non of decreasing costs. While allowing a static analysis of the first type of decreasing long-run average cost Robertson's definition of the latter type affords only a dynamic conception of decreasing costs. By making the second type a function of time, increases in the number of firms through an increase in demand for the product would not be the necessary cause for the supply of external econ omies, but instead product inventions and innovations in organization given time for their fruition would supply the external effects. The second point is that while Mar shall can only be read consistently with the exclusion of 42ibid., pp. 145-146. 118 inventions, Robertson confounds two theoretically distinct causes by mixing the effects of organization and technique. Robertson thus distinguishes between "internal" and "exter nal" economies, but varies the framework from static for the former to dynamic for the latter. Robertson's criticism of Pigou's falling marginal supply price is contingent on acceptance of his definitions. By assuming Pigou's analysis to be restricted to statics, dynamic external economies would be irrelevant to the com petitive model proposed. But Robertson's argument did not take this direction. Instead, he invoked the representative firm, which, if the industry it represented appeared to be experiencing decreasing costs, was probably not enjoying its "fair share" of internal economies.43 The rigid mathemati cal conclusion of a socially sub-optimal output, along with a falling marginal supply price caused by external economies, was thus illusory. Strictly on the level of analytics and cased on his definition, this can be explained. Once we include technique in the definition of external economies cur static analysis will produce an LRS in Diagram 5 which shifts downward. The cost curve thus becomes irreversible as costs can only vary, if they vary, along the new curve. This, however, has nothing to do with the external economies cf Pigou and Marshall as it is not dependent on the scale of 43Ibid., pp. 151-152. 119 industry but on time and the unpredictable nature of the supply of inventions. Further, the shifting could be of a negatively sloped LRS, of which the decreasing cost deter minants remain unexplained. However, if we include organi zation in the definition and exclude the effects of tech nique, then we must conclude that the decreasing supply price is illusory to the extent that our analysis is no longer one of comparative static competitive equilibrium but, because of the explicit time element, one of dynamic 44 analysxs. On the matter of external diseconomies, Robertson feels it sufficient to simply concur with Young's analysis and assert that no "sich" thing as a rising supply price induced by external diseconomies exists.^ But here, as in the case of economies, is a mixture of references and a con founding of influences on costs due to a change in the pro duction function and to changes in resource prices— a con fusion, incidentally, that permeated the discussion until the 1930's. It is interesting to note Robertson's tenacious attachment to the "coordinative complex," both in terms of the normative results expected of a competitive regime and 4^In the editor's note upon reprinting the author's "Those Empty Boxes," Robertson acquiesces in the concept of a falling supply price as a function of the expansion of the industry. ^Robertson, "Those Empty Boxes," pp. 153-154. 120 the theoretical formulations that could legitimately be deduced from it. Statements of content with received doc trine and dismay with alleged anomalies are sprinkled throughout his work. While partially rejecting even the conception of non-market interdependencies, he fully rejects the consequences of such i n t e r d e p e n d e n c i e s.46 jn a rare statement of doctrinal rigidity, Robertson writes, I am content with an old-fashioned supply-curve, the locus through time of the endpoints of a number of particular expense curves, each of them indicating the conditions of production in a given state of organi zation and I am content to suppose that at each point on the locus competition, by producing just so much that total receipts cover total costs, is on the whole secur ing the best results at that time andTn that stage of organization attainable.47 46ibid., pp. 151-152. Robertson translates the Pigovian interdependency as follows: "The employment of an additional unit of resources in any industry may, it appears, so modify the general or ganization of the industry as to make each of the units of resources employed in it yield a different net pro duct from what it otherwise would have done; but since, under pure competition, the individual who has made the extra investment experiences only a very small parteof the effects of this indirect impact upon general organi zation, it is not to be expected that the probable na ture and total magnitude of these effects should appre ciably influence his actions." But he interprets this as being competitive to the point of mutual exclusion of the totally different matter of decreas ing long-run average costs of the firm, and thus feels safer in rejecting the non-market interdependency. This rejection is as follows: "I cannot, therefore, bring myself to believe that, . . . the phenomena of decreasing cost . . . is to be explained on this ground of the certainty that the indi vidual producer will not reap the reward of his own im provements ." ^ Ibid. , p. 153. 121 find this is quite accurate for the regime of pure and per fect competition with homogeneous production functions with external effects assumed away. Pigou's answer of course would be that this was not the regime that was emerging in the realm of analysis but one which necessitated first the recognition of non-market interdependencies, and second some form of integration of the anomaly. Concluding note on the "Empty Box" controversy and other contributions of the 1920's It is interesting to note that not one of the analysts in the "empty box" controversy bothered to refer to the definition of the phenomenon they were analyzing or reformulate Pigou's definition to fit the context of their arguments. This, plus their failure to make a clear dis tinction between the firm's cost curves and the industry supply curve, left the debate for the most part unresolved. Most of these unresolved issues were clarified with the appearance of the seminal articles of Piero Sraffa, Jacob Viner, and R. T. Kahn.4® 4®Piero Sraffa, "The Laws of Returns Under Competi tive Conditions," in A. E. A. Readings in Price Theory, ed. by G. J. Stigler and K. E. Boulding, Vol. VI (Chicago: Richard D. Irwin, Inc., 1952), pp. 180-198 (Sraffa's work was first published in The Economic Journal, XXXIV [March, 1926], 535-550); Jacob Viner, ''Cost Curves and Supply Curves," pp. 198-232; R. T. Kahn, "Some Notes on Ideal Out put," The Economic Journal, XLV (March, 1935), pp. 1-35. 122 Sraffa reiterated what was implicit throughout the arguments of Marshall and Pigou, by restricting the concept of external effects to refer only to " . . . those economies which are external from the point of view of the individual firm, but internal as regards the industry in its aggre gate, . . While the analysis remained in the scale of industry context and confusion regarding initiation and incidence of effects remained, the problem of "tendency toward monopoly" which permeated the discussion of "empty boxes" was finally resolved. Viner made the clarifying distinction between "pecuniary external economies" which are the result of "reduction in the prices paid for the factors" as demand for the factor increases, and "technological external economies" which are the result of "reduction of the technological coefficients of production" due to interdependency of pro duction functions.50 However, he contributed very little to definitional problems, as his definition was far more restrictive than Pigou1s, being strictly descriptive rather than analytic.51 He did contribute to the discussion of the initiation of effects by attributing the supply of external 49 Sraffa, "The Laws of Returns Under Competitive Conditions," p. 186. 50Ibid., p. 217. Sllbid. 123 external effects ultimately to an increase in the number of plants. Kahn's contribution to clarification of the concept of external economies and diseconomies, while in the spirit of Pigou, involved a thorough revision of both the doctrine of "marginal products" and "ideal output" plus a reformu lation and generalization of the origin and effects of non- market interdependencies.^2 Kahn derived the "marginal products" by conceptually increasing the total amount in existence of a particular factor employed by a particular 54 firm. The "private" product is the increase in the firm's output while the "social" product is the increase in the community's product which includes the product of the firm. External effects then are indicated by divergence between the two types of marginal products. By definition such effects are limited to changes in efficiency for any given combination of factors within or outside the industry to 52Ibid. 52While the basic contribution of the Sraffa article was the embryonic construction of the theory of "imperfect competition," the major contribution of Kahn was an inte gration of the concept of imperfect competition— in which many external economies originate when the "imperfect com petitor" is a subsidiary— with the "ideal" output and method. ^Kahn, "Some Notes On Ideal Output," pp. 3-5. This obviously differs from Pigou's more ambiguously defined increase of a given quantity of productive resources or a jiven unit of investment in a least cost combination of resources. 124 which the firm belongs. Pecuniary economies are thus ruled out and only interdependency of production functions allowed to be considered. With his reformulation, Kahn was able to redirect attention away from the problems of industry scale to the problem of external effects on environment and industry in general. With this new focus he made a most interesting observation regarding the repercussions of the firm's behav ior on the overall industrial environment. By distinguish ing between the ideal output of industry and the ideal method of production he anticipated a variant of the "total conditions" for identifying a maximum maximorum first pre sented by John R. Hicks.^ "The national dividend is maxi mized . . . according to Kahn, "... only when the value of the marginal social product of each separate natural unit of a factor is equal in all possible uses, both C £ potential and actual." Hence, even if all industries have equally divergent private and social marginal products and therefore the "ideal" output of each industry separately is indicated by equal ratios of social marginal to private mar ginal product, the structure of output and technique need not represent the "ideal" method which will be reached only John R. Hicks, "The Foundations of Welfare Eco nomics," The Economic Journal, XLIX (December, 1939), pp. 704-706. ^Kahn, "Some Notes on Ideal Output," p. 15. 125 where the social marginal products are equal in actual as well as potential arrangements. While this is similar to Pigou's conclusions, Kahn points out in his exegetical section on Pigou's work, that the analysis of the latter allows for the "ideal" output to be attained in the presence Df external effects, the condition being that only the 57 ratios need be equal. During the years of controversy over the "empty boxes," the concept of external effects was indeed at the center of theoretical discussions. In the years following the controversy, any author who wished to deal with the sub ject of industry supply was compelled to interpret what had transpired and remold the concept to fit his own technique and analysis. But as seems evident from our evaluation of the controversy, the received doctrine with which to deal with the economics of firm and industry was simply inade quate for an elucidation and incorporation of the new cate gory. It took the perceptive analysis of Sraffa to isolate the category from problems of a "tendency to monopoly" and separate out the static from dynamic economies associated with economic development. Subsequently, Viner provided the necessary framework of the firm and industry relationship 57Ibid., pp. 15-16. Kahn also points out in his exegetical section that while Pigou's analysis is based on the assumption that external economies and diseconomies are "exceptional" and "rare," his own analysis is not based on any such restrictive assumptions (Ibid., pp. 8-9). 126 for the final integration of the non-market interdepen dencies into the industry supply•curve while Kahn indepen dently generalized the more important class of technological external economies and diseconomies to the network of industries comprising the industrial system, which was in effect an integration of the two Pigovian classes of pro ducer to related producer and producer to unrelated producer economies. In conclusion, while Sraffa rescued the category from its emptiness and illusiveness, Kahn brought its essen tially "public" nature back into the discussion by rescuing it from the former preoccupation with the scale of industry. But the dust had not yet settled. We must now turn to a latter-day critique. Latter-day Criticism; Within the Context of Scale of Industry The most intensive reexamination of the Pigovian analysis as it related to increasing and decreasing returns to industry was presented by Howard S. Ellis and William Fellner in 1943.^® The reassessment is on the theoretical- technical level with ideological overtones through a pejora tive obiter dictum regarding the tangentially related argu- 58Howard S. Ellis and William Fellner, "External Sconomies and Diseconomies," in A. E. A. Readings in Price rheory, ed. by G. J. Stigler and K. E. Boulding, Vol. VI (Chicago: Richard D. Irwin, Inc., 1952), pp. 242-263. 127 nents of decentralized socialism. In any case, the argument is fraught with technical difficulties which seem to reflect misunderstandings dating back to the review of Wealth and Welfare by Young in the 1910's. Ellis and Fellner begin their reconstruction of the Pigovian position by listing the three possible interpre tations of determinants for the diminishing returns (in creasing cost) case. They write, . . . increasing costs in an industry may come from (1) diminishing returns due to the presence of a factor which is fixed in supply for the industry; (2) rising transfer costs due to the presence of a factor which can be drawn in greater amounts from other industries only by a rise in its price; or (3) a combination of (1) and (2).59 Switching abruptly to determinant (2), they construct the "marginal cost curve" which Pigou termed the "supply curve of the ordinary type," our LRS in Diagram 6, and a curve relevant to Pigou's social Optimum output decision which is an addition to "marginal cost excluding all increments of transfer cost" (LRS) of the total increment of cost on all intramarginal units, our MSP in Diagram 6. They thus con clude, as did Young thirty years earlier, that this element of rent, the increment of transfer costs, does not represent a "using up" of society's resources but produces rent which floes not add to the marginal social cost of producing the 60 "ideal" output, 0Qo. Returning to determinant Cl), LRS is 59Ibid., p. 245. 60Ibid., pp. 246-247. 128 redefined as marginal cost excluding Ricardian rent and MSP as marginal cost including the total increment of Ricardian rent. Again in this case, as in the former case of transfer costs, the segment Qj°t - cannot be considered a social cost unless Ricardian rent is so considered. Thus in this case, the social optimum is again reached in a competitive 6 1 environment with an output 0Qq. P MSP LRS 0 Ql Qo Q Diagram 6— Long run supply and the marginal supply price of the industry in the presence of external dis economies . 6;LIbid. , p. 249. But even this distinction between effects due' to resources supplied to the industry with zero elasticity and those supplied at elasticities greater than zero but less than infinity, is one that is generally not accepted. 129 We see then considerable reaction in this seminal criticism to the notion of an anomaly in the competitive order. Rather than attempting a further articulation of determinant (1) by substituting for the limited truth there in contained, Ellis and Fellner opted for "flogging a dead horse." For instance, by substituting the phrase "fixed but free" for the word "fixed" in determinant (1), which would reflect Pigou's intent, their analysis would not only have been clarifying, but consistent as w e l l . ® 2 Let us elaborate on this inconsistency and, at the same time, list several fundamental points of criticism in terms of paradigms and anomalies in the history of scientific dispute. The three points of criticism are as follows: (1) failure to define the concept under discussion, (2) failure to use in a con sistent way clarifying distinctions made by precursors, (3) failure to carry out fully the logical implications in the analysis, (4) the closing of an analytical category by shifting the frame of reference. As to the first of these points, Ellis and Fellner had stated that their objective was to resolve the disputed issues eminating from past discussion of external economies and diseconomies in order to judge upon the correct policies 62E . j . Mishan alludes to this in a "penetrating" review of modern developments in the concept of external effects in "Reflections on Recent Developments in the Con cept of External Effects," (The Canadian Journal of Econom ics and Political Science, XXXI [February, 1965], id) . 130 to deal with the social effects of such externalities. They comment on the state of the discussion by observing that " . . . apparently simple technical concepts are often fraught with confusing ambiguities; and the extensive dis cussion of this subject over a period of years reveals that go these ambiguities have already become perennial." It is thus quite surprising to find that nowhere in their discus sion do they see fit to define the concept from which all the confusion eminates. Had this been done, and had the distinction between pecuniary and technological external effects been included as it was in Viner's definition some eleven years earlier, a second source of confusion and in consistency would no doubt have been avoided. The second source of confusion in the Ellis and Fellner discussion is the asymmetrical way in which they reexamine the "issues." While they treat both external economies and diseconomies as consequences of the scale of industrial production, they limit their analysis of the latter category to purely pecuniary diseconomies, and thus find it necessary to state at the conclusion of their dis cussion of diseconomies, The preceding analysis is not concerned with genuine diseconomies arising from phenomena such as smoke nuisance, the wasteful exploitation of natural resources, G^Ellis and Fellner, "External Economies and Dis economies," p. 242. 131 etc. 3ut in the introduction to the section that follows, that on sxternal'economies, they begin as follows: Economists upholding the special tax in the diminishing returns case also maintain the necessity of a bounty for the realization of external economies.65 The authors give the distinct impression that they had treated the former concept of diseconomies in a way symmet rical with that by which they proposed to treat economies and that in the process they had destroyed the analytical oasis of "increasing returns." Instead, their discussion of external economies turns out to be of the technological rather than pecuniary type. Now considering the hasty retreat and frustrated efforts of Pigou to partially fill the "empty boxes" plus the ambiguity of his position created by his switching from one interpretation of the category to another, criticism seems fully justified. But it is difficult to sympathize with the resulting confusion and deterioration of critical analysis brought about by the failure of the critical ana lyst to fully utilize the clarifying distinctions of the past, and combine criticism with further articulation. Perhaps one reason why Ellis and Fellner failed to articulate the plausibility of a diseconomy argument lies in 64Ibid., p. 253. ^Ibid., p. 254. 132 a certain attitude one can detect in their article, an attitude inimical to fully developing all logical possibil ities in the analytical construct. "When and if external economies exist ..." the authors contend, "... they mist be incorporated into the structure of economic theory."^6 If we were to extend the implications of this statement to both forms of external effects, would we not have a position similar to that Clapham took in questioning the empirical content of the category some twenty-one years earlier? Surely such an inductive assertion is inconsistent tfith the general nature of the authors1 analytical discus sion. In any case, we have already established the logical priority that Pigou put on his efforts. Regardless of his failure to fill the "empty box" even in a most general way, tiad reassessment been conducted in the context of Pigou's overall non-market interdependency framework the objective of Ellis and Fellner would surely have been better achieved. In their summary of arguments on external economies and diseconomies, the authors state that those "... writers who invoked the authority of Pigou after 1924 on what had once been his general thesis, did so 67 unjustifiably." Ironically, they include Jacob Viner in that group of writers who allegedly committed the error. 66Ibid., p. 255. 6?Ibid., p. 253. 133 Again the Ellis and Fellner confusion is magnified once we return to the article they refer to which was written thir teen years earlier.6® Viner is extremely lucid on the con ception and invocation of the external diseconomies when he observes, External technological diseconomies, or increasing technical coefficients of production as output of the industry as a whole is increased, can be theoretically conceived, but it is hard to find convincing illus trations . 69 7iner does not, with regard to this analysis, explore the normative implications nor does he depict the industry mar ginal cost curves which would have been necessary for a graphical explanation of the Pigovian prescriptive con clusions. He was however quite clear in his theoretical intentions. Ellis and Fellner were incorrect in their " reference to Viner and thus because of the misconception failed to make even the most fundamental of received dis tinctions before proceeding to their objective of disentan glement of conceptual confusion. 68Viner, "Cost Curves and Supply Curves," pp. 198- 232. 69Ibid., p. 221. CHAPTER V THE EVOLUTION OF EXTERNAL EFFECTS IN A CONTEXT OF ECONOMIC DEVELOPMENT Afterthoughts on Marshall's Dynamic Mode Introduction Marshall's conception of the consequences of non market interdependencies is much broader than the contro versy over the "empty boxes" would lead one to believe. However, due to the fact that Marshall's concern is tangen tial to the major assault on the "coordinative complex" we are investigating in this thesis, we will make our comments on the relationship of externalities to economic development somewhat brief. External Economies in a Development Context The second analytically distinct type of external effect found in Marshall's writings is the productivity increasing effect of the overall development of the indus trial and trade environment. This increased specialization and sophistication in trade and production, or in Marshall's words, those economies "... connected with the growth of knowledge and the progress of the arts ..." are primarily 134 135 contingent on increases of " . . . the aggregate volume of production in the whole civilized world."-*- References to bhis type of progress and the effects of an expanding and increasingly integrated market are scattered throughout his major works and the lack of a systematic and lengthy treat ment is by some felt to be an indication that Marshall felt such external sources of increase in productivity to be relatively less important than the increase in productivity from increases in the scale of the enterprise. But Marshall is quite emphatic in stating the contrary to this impression ijhen he writes: Those internal economies which each establishment has to arrange for itself are frequently very small as compared with those external economies which result from the general progress of the industrial environment.2 (ital ics mine.) The increasingly complex and highly integrated nature of the developing industrial structure as a source of external effects is definitely conceived by Marshall as a dynamic process and is differentiated analytically in its context of growth and development from static partial-equi- librium analysis. The distinction, however, is in some cases difficult to make and hold. In his examination of the relationship of income to cost of production, for instance, he identifies three sources by which income may be gener- -*-Marshall, Principles of Economics, p. 266. ^Ibid., p. 441. 136 ated. He identifies the sources as the ownership of land and other free gifts of nature, private investment and the presence of dynamic external economies. Of the latter source and its relationship to the other two he writes, There is a third class, holding an intermediate position between these two, which consists of those incomes, or rather those parts of incomes which are the indirect results of the general progress of society . . . tfhile never explicitly analyzing the nature of industrial jrowth in such an environment, that is, whether the indus tries that are indirectly affected are growing in any special relationship to one another or how such indirect affects could best be captured, there seems little doubt that he places great emphasis on the complex nature of in creasing productivity of the enterprise and the fact that the multidimensional nature of the forces impending on the anterprise are quite outside the control of any particular anterprise or indeed any one group of enterprises. From this recognition, Marshall comments on the inability of the analyst to identify the distribution of effects or their origin. He writes, The economies of production on a large scale can seldom be allocated exactly to any one industry; they are in great measure attached to groups, often large groups, of correlated industries.4 Sence, in embryonic form, the role of dynamic externalities ^Ibid., p. 440. ^Alfred Marshall, Industry and Trade (London: Mac- nillan and Co., Ltd., 1919), p. 188. 137 was identified as a chief source of economic progress and development and integrated into a theory of development. young's Critique: The Embryonic Doctrine of Balanced Growth This branch of the development of externalities was left uncultivated until 1928, when Allyn Young 5 " . . . launched it in a scintillating new role." By noting the limitations of A. Smith's view on the role of the "extent of the market" in a broad theory of economic pro gress and the limitations of Marshall's "static" and "par tial" method in illuminating the correlative properties of external effects and economic growth, Young attempts a syn thesis which emphasizes the cumulative nature of the growth process. Rather than viewing the market as an outlet for a particular industry, the size of which then limits the degree of specialization of labor, Young views the relevant social space as a market for goods in general, whose size is determined by the volume of aggregate output. He then postulates that a particular industry will benefit from an increase in aggregate output, due to the presence of dynamic external effects, provided there is " . . . some sort of balance, that different productive activities are propor- tioned one to another." 5H. W. Arndt, "External Economies in Economic Growth," The Economic Record^ XXX (November, 1955), 192. 6Allyn Young, "Increasing Returns and Economic Pro- 138 Rosenstein-Rodan; External Economies and Coordinative Development Youpg was primarily interested in the productivity- increasing, cost-reducing effect of the increased supply of external effects as the aggregate volume of output in<r creased. His context of elaboration was primarily one of historical explanation of economic progress. By shifting to an analytical context with prescriptive overtones for fur ther elaboration, Young's predecessor, Paul N. Rosenstein- Rodan, substituted an emphasis on the "investment repercus sions" for the "cost-reducing" emphasis that had dominated 7 . . the discussion until the 1940's. This new orientation toward the recognition that investment opportunities in different fields are mutually related by external effects while investment decisions, because of the institutional anc structural nature of capitalistic decision-making are frag mented' or independent, has dominated the modern discussions of the relationship between external effects, investment, and economic development.8 The fact that Rosenstein-Rodan gress," The Economic Journal, XXXVIII (December, 1928), 533. It, of course, does not detract from Young's synthesis that his interpretation of Marshall's difficiencies was not par ticularly sympathetic and in some cases highly questionable. ^Paul N. Rosenstein-Rodan, "Problems of Industrial ization of Eastern and South-Eastern Europe," The Economic Journal, LIII (June -r September, 1943) , 202-211. ®Arndt, External Economies in Economic Growth," p. 196. This is certainly not the only interpretation of the development of the category of dynamic "external 139 used his reinterpretation to explain the impediments to the cumulative development process in underdeveloped countries was of course a significant contribution to the theory of economic development in general and more specifically to the doctrine that R. Nurkse later termed "balanced growth."9 However, there is a more fundamental implication in Rosen- stein-Rodan1s contribution for the history of conceptual development of "non-market interdependencies." This was, through his recognition of indivisibilities in decision making, a return to the defining characteristic of "external effects" as conceived by Sidgwick and Pigou, that of the consequences to which the "publicness" of non-market inter dependencies leads. Because investment outcomes are depen effects." J. A. Stockfish, in his "External Economies and Diseconomies," International Encyclopedia of Social Science, V, 272-273, attributes the origin and development of pro ductivity and cost-reducing external effects to Young and Rosenstein-Rodan and "growth and investment repercussion" external economies to Scitovsky. It is our feeling that the latter emphasis was that of Rosenstein-Rodan with "profit repercussions" as a more accurate description of Scitovsky's orientation. 9Higgins, Economic Development, pp. 329-332. The Theoretical literature on the "balanced growth" concept and its integration into a general theory of growth is exten sive. The essence of the concept is contained in Ragnar Nurkse, Problems of Capital Formation in Underdeveloped Countries (New York: Oxford University Press, 1964), while its further development may be found in Tibor Scitovsky, "Two Concepts of External Economies," (The Journal of Polit ical Economy, LXII [April, 1954], 143-151). Another impor- tant contribution is Marcus Fleming's "External Economies and the Doctrine of Balanced Growth," (The Economic Journal, LXV [June, 1955], 241-256). 140 dent on the supply of complementary investments, the ante cedent intentions are mutually interdependent not through the market mechanism, but through non-market interdepen dencies, which are characterized by "non-appropriabilities." The inducement to invest then depends not only on the pro- » fitability indicated by the market but by expectation as to the concomitant supply of external e c o n o m i e s . - ^ if the effects of external economies are non-appropriable, then investment is inhibited and some form of coordination of investment decisions a necessary— but not sufficient— con dition of development. The conclusion is that those eco nomies which are external to the individual decision maker can only be "internalized" by societal planning and coordi nation of investment decisions. Concept Proliferation and Deterio ration in a Development Context Following Rosenstein-Rodan's introduction of the concept of external effects into the theory of economic development, proliferation of meanings attributed to the 10In developing his argument, Rosenstein-Rodan in "Notes on the Theory of the 'Big Push,1" (The Economic Journal, LXVII [March, 1957] , 133-150), deliberately dis- carded the distinction between pecuniary and technological external effects. By adopting a broader classification on an "indivisibility" basis, the analytical distinctions which were possible under the original concept of technological external effects were rendered indefensible. ^Nurkse, Problems of Capital Formation in Under developed Countries, p. 207. 141 concept rendered its analytical use of questionable value. Recognition of this confusion provoked Tibor Scitovsky into attempting a reformulation that would clarify the analytical power of the original concept and provide for a new category more suitable to the dynamic problem of investment in under developed economies. Scitovsky states his understanding of the development of the concept in the following way: . . . it is becoming increasingly clear that the concept of external economies does duty in two entirely differ ent contexts. One of these is equilibrium theory the other is the theory of industrialization in underdevel oped countries, . . . the external economies as defined in the theory of industrialization include, but go far beyond, the external economies of equilibrium theory.12 Scitovsky's thesis is that in those cases where the profit of one firm is dependent not only on variables under its control but also on the input and output decisions of other firms, external economies are present. Further, these external economies can be supplied through the market, in which case they are termed "pecuniary," or directly and thus of a "technological" nature. He then focuses on the profit- yielding effects created by the "pecuniary" type through investment and concludes that since such benefits which arise from investment cannot be explicitly taken into account by the individual decision maker in a decentralized decision-making structure, "... a system of communicatior is needed to enable each person who makes decisions to learr 12Scitovsky, "Two Concepts of External Economies," p. 143. 142 about the economic decisions of others and coordinate his iecisions with theirs."13 To be more explicit, if invest ment in some industry x increases the profitability of some t industry y because it (1) supplies x its inputs, (2) pro- luces inputs that are substitutes for x's inputs, (3) pro- luces complementary products to those produced by x, or (4) is benefited by the income-generating effects of x's investment, then vertical integration will not be sufficient bo capture the pecuniary external economies and comprehen sive planning of investment decisions is necessary for the optimization of public benefits from private investment. Several things should be noted at this point. The frirst is the deterioration of past analytical distinctions that result from the introduction of "pecuniary" external sconomies as some quantity that, because of the dynamic context, must along with profits be maximized (internalized) If optimal investment decisions are to be made. As J. Stockfish points out, such external effects are illusory, oeing a manifestation of the already familiar category of Imperfect information and foresight.14 He further suggests bhat Scitovsky's use of the term "external economies" is Inconsistent with its generally accepted use in partial 13Ibid., p. 153. 14J. A. Stockfish, "External Economies, Investment, and Foresight," The Journal of Political Economy, LXIII (October, 1955), 447. 143 squilibrium theory and coins the phrase "growth repercuss sions1 1 as a better description of Scitovsky's category.-1 *5 E. Mishan follows Stockfish in showing quite conclusively that the treatment of phenomena described by Scitovsky*s category of "pecuniary" external economies "... falls 16 readily into already familiar categories." While such criticism of method seems quite valid, it does not seem to ieal sufficiently with the intent and thrust of Scitovsky*s innovation. Scitovsky for instance makes it quite clear that the issue under consideration is the problem of "simul- 17 taneity of interrelated decisions." That the decision naker will be confronted with the usual problem of inade- guate information on the experiential level is a problem that Scitovsky recognizes must be differentiated from the problem of foresight. He thus observes that, . . . such anticipations are bound to be heavily dis counted for uncertainty and that this uncertainty cannot be eliminated or even very much diminished by acquiring information on these investment plans, since some or all of these will be contingent on our businessman's plans and will be formulated only after our businessman has made a definite and irrevocable decision on his own investment plan. ® The theoretical conclusion thus seems substantially the same 15Ibid. 16 E. J. Mishan, "Reflections on Recent Developments in the Concept of External Effects," p. 12. 17 Tibor Scitovsky, "A Reply," The Journal of Polit ical Economy, LXIII (October, 1955), 450. 144 as that reached by Rosenstein-Rodan, who, in writing to the issue of investment in industries whose products are related in a complementary way, explicates the non-market interre lationship. He writes: The planned creation of such a complementary system reduces the risk of not being able to sell and, since risk can be considered as a cost, it reduces cost. It is in this sense a special case of "external econo- n l Q mies. "■La It would seem quite legitimate to generalize this to the four cases presented by Scitovsky, and, while discarding the spurious category of "pecuniary" external economies, arrive at the conclusions originally presented by him. But perhaps this is overly ingenious and the intent of Rosenstein-Rodan and Scitovsky can be salvaged on the theoretical level with out diluting the traditional meaning of the concept of "external economies" or abandoning the static-equilibrium nethod of analysis. A Proposal for Concept Reinterpretation for a Development Context It may be recalled that the "investment repercus sion" of Rosenstein-Rodan was described as an analytical construct which, when applied to specific spatial-temporal situations, provided the necessary framework for prescrip tive statements of a "balanced growth" nature. On the other hand, the "profit-growth repercussion" analysis of Scitovsky ^Rosenstein-Rodan, "Problems of Industrialization of Eastern and South-Eastern Europe," p. 206. 145 dealt with the sub-optimal results of interdependent but uncoordinated investment decisions— due to the inadequacy of the price mechanism as a system of information. Both analyses can thus be construed as critiques of the normative properties attributed to the neoclassical theories derived from the "coordinative complex," not only in the allocative dimension but also in the dimension of growth. A simple reconstruction of Rosenstein-Rodan's argument should clarify the relationship between the critiques and the external effects argument. If we postulate— as the two analysts under consideration did— that investment intentions are directly or non-market interdependent, then we might further postulate that the "expansion of the market" for goods and inputs is a semi-public good that relates such decisions and which can only be generated (produced) by the integration of such decisions. Thus, the prescriptive statements regarding both balanced growth and the coordination of investment decisions for optimal investment outcomes are derived from similar analytical propositions which depend on the external effects concept as an explanation of the absence of such sub-optimal investment in the "expansion of the market." The essence of the non-market interdependency argument as it relates to semi-public goods seems to be this: The decision maker who determines whether or not an additional unit of investment will be made regards only the expansion of the market insofar as it affects his buying of resources or 146 selling of output and ignores the effect of the expansion of the market for others that are simultaneously generated. We are able to find partial support for this thesis in Nurkse, who, while not specifically mentioning the publicness of an expanding market generated by individual investments, does point out that such benefits which do accrue to the initial investor are somewhat less than the social benefits due to the expanded market. He attributes the cause of this divergence to the general nature of pur chasing power and "... the diversity of human wants."20 But perhaps this theoretical patchwork is not only of doubtful validity but also unnecessary. It may be that the conceptvof "dynamic" external effects along with that of the external effects of industry scale are best viewed as a detour or unfortunate methodological deviation from the essence of Sidgwick's original contribution, which, although in the most rudimentary form, was introduced into the analysis as anomalous to the prevailing conception of social process and order as the unfettered competivie market sys tem. We may be well advised in accepting MishanSs obser vation that, if such cost-reducing activities as technical innovation, migration, risk pooling, three-shift systems, managerial training and increased competition are all gathered under the concept of external effects, "... such 20Nurkse, Problems of Capital Formation in Under developed Countries, p. Tl 147 indiscriminate coinage must have the inevitable result of reducing to zero the analytic power of the original concept."21 Ezra J. Mishan, "Reflections on Recent Develop ments in the Concept of External Effects," p. 15. Further, according to Mishan, "Despite occasional recourse to the word dynamic to indicate a writer's concern with the problems of this world, the concept of external effects is rooted in comparative statics. But this should not be taken to mean that the concept of external effects is inappli cable to the actual world of flux and change ..." (p. 5) . CHAPTER VI MODERN CONTRIBUTIONS TO THE CONCEPT OF EXTERNAL EFFECTS Introduction A convenient demarcation of the modern treatment of the concept of "external effects" is with the work of James Meade.^ In order to place his work in the correct perspec tive, however, we must first refer once again to the anal- 2 ysis presented a decade earlier by Ellis and Fellner. It should be recalled that the authors, while focusing on the concept as it related to the scale of industry, parentheti cally referred to the more general notion of "genuine" ex ternal effects as a manifestation of institutional and tech nical idiosyncrasies which resulted in " . . . the divorce of scarcity from effective ownership."^ Although it is apparent from the authors' examples that the explanation of 1James Meade, "External Economies and Diseconomies," Ihe Economic Journal, LXII (March, 1952), 54-67. ^Ellis and Fellner, "External Economies and Disecon omies," pp. 242-263. ^Ibid., p. 262. 148 149 the sub-optimal character of direct interaction was that of "non-appropriability," their "divorce of scarcity" assertion t f as unaccompanied by any rigorous formulation of the analytical aspects of the phenomenon they wished to explain. ?urther, while the authors' explanation differed little from the Pigovian "uncompensated services" and "incidental uncharged disservices" explanation, "divorce of scarcity" aecame the accepted mode of modern expression while the modern view of the problem of external effects became synon ymous with the somewhat narrower problem of "non-appropria- aility" due to non-market interdependencies.^ While this newer conception became widely accepted, the more dubtle ramifications and restrictive nature of "non-appropriability' remained unknown until the highly refined treatment of the implications of direct interaction was presented by James Meade.^ Meade, in a manner quite exceptional to the somewhat ambiguous handling of the concept by analysts who preceded him, presented a rigorous definition of external effects and drew out the inferences of that definition in a refined model of producer-to-unrelated producer non-market interde- ^Francis M. Bator, "The Anatomy of Market Failure," in Readings in Microeconomics, ed. by William Breit and Harold Hochman (New York: Holt, Rinehart and Winston, Inc., 1968), p. 464. ' ’ Meade, "External Economies and Diseconomies," pp. 54-67. 150 pendencies under the assumption of a competitive regime. While the Meade model is restricted to the external relationships in production it could quite easily be gener alized to interdependence of utility functions. External effects in the competitive model are defined as interdepend iencies between two or more producers production functions, with the most general relationship represented by "produc tion functions of the form, xx = ®ir ^2' ^21 x2^ x2 = F2^2' C2/ ^l' cl' xl^ where F-^ and F2 are not necessarily homogeneous of the first C iegree." The product of any firm i, (i = 1, 2), experi- ances external effects when the product of firm i is a function not only of the labor (X) and capital (c)— vari ables under decision-making control— but also a function of the product (x) and factor inputs under the control of another organizationally independent production unit. This jeneral formulation allows for the derivation of several :nore explicit relationships and a fourfold classification by arganizational type, cause and implication. The classifi cation by specific relationship is as follows: xx = H^I^, Cr x2) (1) x2 = H2(L2' C2^ This is a unilateral external effect of industry 2, (X2)t to ^Ibid., p. 67. 151 industry 1, (x^), in which there are constant returns to scale for society as a whole, but less than constant returns for the individual industry, resulting in an "unpaid factor." X1 = Hl^I,l/ cl' x2^ ^ ^2 — (L2 / C2, This is a reciprocal external effect involving the two industries, where there are constant returns to scale for society as a whole, but less than constant returns for each individual industry, resulting in "unpaid factors." xx = H-^ (L^, C±) A(x2) (3) x2 = H2^L2' C2^ This is a unilateral external effect of industry 2, (x2), to industry 1, (x^), where each industry experiences constant returns to scale in isolation but where greater than con stant returns to scale accrue to society as a whole due to the "creation of atmosphere," A(X2>, for industry 1 by in dustry 2. While organization and cause of effect here is different from that of cases (1) and (2), the consequence of the direct relationship remaias that of an "unpaid factor." xx = H^I^, Cx) A(x2) (4) X2 = ^2 (1*2 , C2) A (x^) This is a reciprocal external effect involving the two industries and a "physical or social 'atmosphere' affecting production," where each industry experiences constant re turns to scale in isolation but where greater than constant returns to scale accrue to society as a whole due to the 152 7 reciprocal "creation of atmosphere." The implications are similar to those of case (31. In all four cases the organization of decision-mak ing and market intermediation is such that while market-de termined factor prices are equated to the value of the marginal products for profit maximization by the independent decision maker, the resultant level of factor utilization is such that factor prices either exceed or fall short of the social value of the marginal product. In (1) and (2) the sub-optimal arrangement may be ameliorated through taxes and subsidies which, due to Euler's theorem, will net out at zero. The prescriptive schema of taxes and/or subsidies for cases (3) and (4) , however, will either increase or decrease the general fiscal burden, depending on whether the "creation of atmosphere" is beneficial or detrimental to the productivity of the factors of production. With Meade's classification and analysis, the modern period opens on a more formal level with a clarification of the definitional problem of prior conceptual development and an untangling of the complexities of the relationships of the market, environment, industry organization and direct- interaction. Under (1) and (2), non-appropriability is reduced to the "unpaid factor" which, due to the organiza tional arrangement, is the result of a deficiency in private ^Ibid., p . 61. 153 accounting which must carry into the market. This case of non-appropriability then can be contrasted with cases (3) and (.41 where the relationship between non-appropriability and the complex nature of the public good (or bad) is placed in a specific context for clarification. However, as Bator points out and Meade readily admits, the classification is by no means exhaustive. Yet, it was quite appropriate as a formal framework for further articulation and served as such. Indeed, Meade's treatment sets the tone of rigor that cest characterizes the modern discussion and which, as we nust presently discuss, has had much to do with the trans formation of the context in which the phenomenon of external effects is examined. The Bifurcation of Context and Revival of the "Coordinative Complex" We must now turn to the proliferation of modern treatments of non-market interdependencies, where the "paradigm-anomaly" approach to conceptual development Decomes increasingly relevant for an explanation of the formulation and incorporation of new economic categories into received doctrine. We might begin by noting the ie-emphasis and finally the elimination of that category vhich has taken up so much of our time--external effects created by producer-to-related producer non-market linkage. The rationale for this exclusion has been given by Kenneth krrow in a recent article in which he suggests that those 154 non-market interdependencies which result in increasingaarid decreasing returns would best be treated as a technologi cally oriented phenomenon, separate and distinct from those organizationally determined interdependencies that fall out- p side the market. This restriction seems to reflect the direction of the modern analytical discussion where the Tiajor concern has been with variations on the Pigovian categories of producer-to-unrelated producer and consumer effects along with consumer-to-consumer effects. Before we review the somewhat peculiar path this modern elaboration has taken, however, let us set out very briefly the previous configurations of conceptual development and what one would normally expect to follow in the form of a further articu lation of the anomaly. The intention of Sidgwick and Pigou in introducing the concept of non-market interdependencies into the disci pline of economics seems at this juncture quite clear, to wit, as a formal organizing principle for research into the sub-optimal socio-economic arrangements and outcomes that would normally be expected to result in a regime of unfet tered market competition. The socio-economic arrangement ^Kenneth J. Arrow, "The Organization of Economic Activity: Issues Pertinent to the Choice of Market Versus Nonmarkfet Allocation," in The Analysis and Evaluation of Public Expenditures: The PPB System, A Compendium of Papers Submitted to the Subcommittee on Economy in Government of the Joint Economic Committee, Congress of the United States, Vol. I; 91st Cong., 1st Sess. (Washington: U.S. Government Printing Office, 1969), p. 48. 1.55 which emerged under such a laissez faire regime that was characterized in the bulk of economic theorizing— as opposed to description— -was one which automatically achieved an "ideal" solution to the problem of resource allocation. As we will attempt to show, a reconstruction of that organizing principle seems to indicate that the context for its arti culation was an integral part of its original introduction as an anomaly. Further, that variation in and deviation from the original frame of reference, while important in establishing limited technical and theoretical truths in the nodern discussion, at the same time renders supporting arguments for the maintenance of the "coordinative complex" paradigm irrelevant. The Pigovian context we refer to is that of a socio-economic organizational construct which includes activities and values which are non-marketable, non-appropriable and non-chargeable. The point is that certain activities are excluded from intermediation by the unfettered market mechanism precisely because of the way in which economic activity is structured. The Pigovian frame of reference is most easily reconstructed by referring to his own description of non-market interdependencies. He describes this phenomenon in the following manner: Here the essence of the matter is that one person A, in the course of rendering some service, for which payment is made, to a second person B, incidentally also renders services or disservices to other persons (not producers of like services), of such a sort that payment cannot be exacted from the benefited parties or compensation 156 g enforced on behalf of the injured parties. The key implication seems to be the organizationally determined non-marketability of the consequences of economic activity. The interpretive question that Pigou's formu lation raises is that regarding the form of organization and the nature of transactions that necessarily eminate within that particular institutional arrangement. Unfortunately Pigou does not explicitly address himself to this question and only indirectly provides a basis for interpretation through a variety of existential examples. It is our con tention that those external effects arising from such activities as unplanned land use, disposal of pollutants and contaminants into water resources and the atmosphere, unrestricted technical change, industrial working conditions t and the sole concern with private least-cost techniques of production, all of which form the bulk of Pigou's critique cf existing institutional arrangements, are related by the common aspect of some degree of "publicness" and thus must ce treated as "large-number externalities."^ This inter pretation is consistent with that of Blaug, who, in a pene trating examination of Pigou's contribution, asserts that 9pigou, The Economics of Welfare, p. 183. James Buchanan, one of the modern analysts we shall identify as having deviated from the original context, uses "large-number externalities" and Pigovian externalities synonymously in his Demand and Supply of Public Goods (Chi cago: Rand McNally and Company, 1968), p. 176. 157 bhe external effects discussed theoretically by Pigou " . . . are in reality almost always due to the public character of economic activity. It seems reasonable to conclude that what is now recognized as the "exclusion principle" is essential for an interpretation of the Sidg- wickian and Pigovian social space and further, for evalu ation of subsequent modifications of the frame of refer ence.-^ It is against this very sketchy background that we nust now discuss the modern contributions. In doing so, and by way of introduction, let us refer to Stanislaw Wellisz for an imaginative overview of the various analytical positions that have been established. "Until recently," according to Wellisz, "everybody agreed that where there are externalities, market allocation is bound to be non-opti- 13 mal." This consensus on the Pigovian position, however, was short-lived. In this era of high theory the refinement in analytical techniques in other areas of economic theory led to a reexamination of both the old (Pigovian) and new ■^Blaug, Economic Theory in Retrospect, p. 551. ■^The "exclusion principle," with reference to pure public goods,t is due to Richard Musgrave (The Theory of Public Finance: A Study in Public Economy [New York: McGraw-Hill Book Company, 1959], p. 86), but dates back to Mazallos in 1890. ■^Stanislaw Wellisz, "On External Diseconomies and the Government-Assisted Invisible Hand," Economica, New Series, XXXI (November, 1964), 345. 158 (Paretian) welfare propositions regarding external effects. Both schools were subjected to a most rigorous challenge of the proposition that in the presence of external effects, the market solution would necessarily be sub-optimal. According to Welliszf The apparent unanimity of modern welfare economists has been shattered in the last few years by modern-old wel fare economists who launched a vigorous attack on the logic of the modern treatment, and an equally vigorous defense of the old virtues of the market. It now seems that the modern theory is dead and that the modern-old triumphs all along the line.14 What, then, is this "modern-old" school and who are its representatives? It is quite easy to identify those who are consistent in their insistence on the efficacy of the market. Those who should be included are Ronald Coase, James M. Buchanan, William Stubblebine and George Stigler, and to a lesser extent, for reasons that will become appar ent, Otto A. Davis, Kenneth Arrow, Andrew Winston and Ralph Turvey. It is far more difficult to characterize the work of this new school of thought in any systematic way due to the variety of highly particularized examples found in the school's literature, each of which purports to demonstrate some broad and generally applicable principle. If, for instance, we wished to characterize this school strictly by the modified theoretical context of "small-number external ities" and hence a bargaining framework, it would be neces- 14Ibid. 159 sary to correlate the work of Buchanan and Arrow, ignoring the diametrically opposed results derived from their respec tive assumptions and analyses. On the other hand, if, as tfellisz suggests, we characterize the modern-old economists as those who "... claim that the market can lead to a Pareto-optimum despite externalities since it is possible to astablish a market in externalities, . . ."we would neces- . 1 5 sarily exclude the work of Davxs and Winston. Perhaps we can circumvent this difficulty by modifying Wellisz's sug gested classification which attributes to this school a theoretically derived conclusion of "free-market optimal ity," to a classification on the basis of either theoretical conclusion or theoretical context. The rationale for such a characterization of the "modern-old" school is that we are able to conveniently assess the analyses of both those who tiave deviated from the Pigovian conclusions and those who nave deviated from the Pigovian frame of reference. In order to provide a basis for further discussion, let us characterize the modern critique of the Pigovian position, as those we shall say who follow to the "modern-old" approach as adhering to at least one of the following propo sitions: (1) The theoretical impossibility of establishing or devising a tax-subsidy schema that will 15Ibid. 160 result in optimal output and price decisions. (2) That the most relevant and meaningful context for the incorporation of the concept of external effects into modern value theory is a bargaining or "small-number externality" context. The corollary to this is that the concept loses much of its significance as an anomaly to the para digm of the "coordinative complex." (3) The theorem dubbed by Stigler as "Coase's Theorem," which is simply the assertion " . . . that under perfect competition private 16 and social costs will be equal." (4) That formally speaking, in a general equilibrium system the concept of external effects produces no inconsistencies within the "coordinative complex" and hence is not anomalous to the para digm. In Kenneth Arrow's words, "... by suitable and indeed not unnatural reinterpreta tion of the commodity space, externalities can be regarded as ordinary commodities, and all the formal theory of competitive equilibrium is valid, including its optimality. • ^ G e o r g e stigler, The Theory of Price (3d ed.; New fork: The Macmillan Company, 1966), p. 113. ^Arrow, ?The Organization of Economic Activity: Issues Pertinent to the Choice of Market Versus Nonmarket Mlocation," p. 57. 161 Anti-Pigovian Contexts and Conclusions Propositions Regarding Indeterminant Outcomes Our first proposition, the importance of which is not reflected in its position relative to the others, is due 1 f t to Otto Davis and Andrew Winston. We deal with it first only because it is not crucial to the discussion of the paradigm-anomaly dispute yet of interest as an attack on the Pigovian prescriptive conclusion. In their analysis, the authors have attempted to show that in those cases where one firm's output decisions affect the marginal cost of another firm— a "non-separable" externality— output decisions will be suboptimal with or without administrative intervention of a tax-subsidy type. Their reasoning, which of course is cast in technical terms, is that in isolation the firm is incapable of determining its optimal output due to the fact that its marginal cost is a function of both its own output and that of at least one other firm. Hence a tax-subsidy schema will, in practice, 19 be impossible to devise. Wellisz, however, has persua sively demonstrated with equal rigor that it is possible in principle to devise a tax-subsidy schema by including the external cost (benefit) in the externality supplying firm's l®Otto A. Davis and Andrew Winston, "Externalities, Welfare, and the Theory of Games," The Journal of Political Economy, LXX (June, 1962), 241-262. 19Ibid., pp. 253-256. 162 cost function while at the same time forming a single-valued function of that firm's output which will as a consequence of the prescriptive action elicit a decision from the exter nality-supplying firm which is based on the internalization of the external e f f e c t . of greater importance for our discussion of the paradigm-anomaly framework and the attempt by some members of the "modern-old" school to restore the "coordinative complex," is a paradox in the Davis and Winston analysis vis-a-vis the work and conclusions of other members in the same school. Because, as Davis and Winston show, interdependence prohibits the computation of gain through bargaining, the optimistic conclusions derived from a bargaining context will be highly questionable in the case 21 of "non-separability." Let us examine now the bargaining context which is contained in our second proposition. Propositions Regarding Small-Number External Effects The second proposition we have listed concerns that context which has been proposed as the most relevant for further articulation and theoretical discussion of interde pendence that normally develops in an advanced industrial economy. Relevancy here is an aspect that must necessarily 20Wellisz, "On External Diseconomies and the Govern ment-Assisted Invisible Hand," pp. 357-359. ^Ibid., p. 362. 163 be inferred from what the community of academic economists focus their attention on in the discussion of non-market interdependencies, i.e., by identifying the direction and limits set on the universe of discourse in the current analytical discussion of the concept. In addressing them selves to the question of limitations on the universe of discourse, Allen V. Kneese and Ralph C. d'Arge observe that "... almost the entire literature is devoted to ' two- party' externalities."22 The authors further note that in nore extensive reviews of the literature than their own, " . . . almost no literature of theoretical interest regarding 'many person' externalities is to be found."23 it is therefore necessary to examine the path of current research and the nature of the context emphasized. Let us do so by referring to the work of the "modern-old" school, whose literature makes up the bulk of modern analysis. We have already mentioned Coase as one analyst who xmst be considered as adhering to the "modern-old" approach. Coase's contribution was primarily that of uncovering the inadequacies of the Pigovian approach to producer-to-unre- 22Allen v . Kneese and Ralph C. d'Arge, "Pervasive External Costs and the Response of Society," in The Analysis and Evaluation of Public Expenditures: The PPB System, A Compendium of Papers Submitted to the Subcommittee onEcon omy in Government of the Joint Economic Committee, Congress of the United States, Vol. I; 91st Cong., 1st Sess. (Wash ington: U.S. Government Printing Office, 1969), p. 87. 23Ibid. 164 lated producer externalities in which the direction of com pensation was an integral part of an analysis of the optimal arrangement. Coase shows quite conclusively that where two adjacent activities are taking place with one industry supplying negative external effects to the other industry, the direction of compensation— liability in one situation and the absence of it in the other— is immaterial to the 94 , achievement of an optimal arrangement. This rather sur prising conclusion, however, is based on the assumption that those responsible for the activities be able "... to make 25 a bargain." However, while a bargain context is an axplicit assumption on the author's part, i.e., that it is a case of "small-number externalities," there is also the implicit assumption that the conditions necessary for strik ing a bargain also exist. If, for instance, both activities under discussion— railroads and farmers— are organized under competitive conditions, as Coase assumes throughout his liscussion, the amounts that would be available in equilib rium for purposes of bargaining would be Ricardian rents accruing to the non-transferable resources. While bargain ing concerns the marginal output of the two activities, the bargaining resources are comprised of total rents which thus ^Ronald Coase, "The Problem of Social Costs," in ■leadings in' Microeconomics, ed. by William Breit and Harr : bid M. Hochman (New York: Holt, Rinehart and Winston, 1968), p. 425. 25Ibid. 165 set the bargaining limits. Pareto optimality is thus achieved in the case where joint rents are maximized. While Coase's analysis is highly imaginative and points up misconceptions regarding the assumed necessity of government intervention in those cases where external effects are supplied by producers-to-unrelated producers, we must agree with Wellisz who, in summarizing the conditions under which the bargaining framework is valid, concludes that "... far from being a universal panacea, the private bargain solution to external diseconomies applies only to exceptional cases." While this is only one aspect of Coase's examination— albeit the major one— we have not attempted to treat it in an exhaustive manner. Our cursory treatment has been given only to support the proposition that the bargaining context has, in the modern literature, played a dominant role for explication of the "externality" concept. While Coase dealt primarily with that type of effect we have classified as producer-to-unrelated producer, the tendency to restrict the frame of reference has been ex tended to other varieties of effects. Let us examine the work of James M. Buchanan and William C. Stubblebine who, it seems, are on a parallel plane when they focus on consumer- ^Wellisz, "On External Diseconomies and the Govern ment-Assisted Invisible Hand," p. 354. 166 to-consumer interrelationships.27 The authors begin their analysis by positing that "externalities" are present if a decision-making unit's production or utility function contains "activities" (vari ables) which are beyond the independent control of that behavioral unit. If the partial derivative of the posited relationship with respect to the alien activity is zero, the relationship represents an "infra-marginal" externality. If unequal to zero, a "marginal" externality is present. A definition is then deduced from this which, according to the authors and other analysts, best represents that type of phenomenon discussed in the bulk of the literature on exter- 2 8 nal effects. In the authors' words, An externality is defined to be Pareto-relevant when the extent of the activity may be modified in such a way that the externally affected party, A, can be made better off without the acting party, B, being made worse off.29 While elaboration on the definition is conducted primarily in the context of a "two-person" world construct 27James M. Buchanan and William Craig Stubblebine, "Externality," in Readings in Microeconomics, ed. by William Breit and Harold M. Hochman (New York: Holt, Rinehart and Winston, Inc., 1968), pp. 477-488. We say "seems" because the authors, while claiming considerable generality, use examples and terminology that reflect a bargaining or small- number externality context bias. 28william J. Baumol, Welfare Economics and the Theory of the State (Cambridge! Harvard University Press, 1965), p. 26. 29Buchanan and Stubblebine, "Externality," p. 480. 167 r/ith a corresponding bargaining terminology, the authors aasten to add that in the Absence of excessive costs in organizing group behavior, "... thel analysis can readily oe modified to incorporate the effects of this activity on a nultiperson group."30 One of the more surprising and clarifying results 6f the authors' refinement in technique regards the optimality of certain arrangements where externalities remain. Such could be the case where external effects are "potentially relevant," i.e., where the economic unit supplying the externalities is in isolated equilibrium but where the partial derivative of the relevant function with respect to the alien activity is non-zero. It is quite possible under such an arrangement that all gains to be made by the supplying unit's variation of the externality-creating activity have been exploited and thus with the elimination of a basis for bargaining, a Pareto-optimum established, in the sense that an externality recipient cannot be made better off without making the supplier of the externality worse off. From a social point of view— as opposed to the strictly technical— the otherwise efficient bargaining solution is potentially perverse. This has been pointed out by Wellisz, who, while agreeing with Coase, Buchanan and Stubblebine on the theoretical possiblity of a Pareto-opti- 30Ibid., p. 481. 168 nality in the presence of marginal externalities, writes, . . . the process opens up magnificent business pros pects: any activity can be turned to profit as long as it is sufficiently annoying to someone else. As long as the activity absorbs no resources, i.e., as long as the blackmailers maintain amateur standing, the economist who refrains from social judgment can find no fault with the s ituation.31 Excusing the author's testy phrasing, the point is emphatically made: the social significance of the Pareto- optimum both in and out of a bargaining context is indeed extremely limited. But we cannot allow our discussion of the Buchanan and Stubblebine "Paretian" argument to end with only one facet of it examined. The authors can hardly be faulted for their logic of defining the optimal point with Paretian rigor; they are simply following the most modern of techniques in welfare economics. However, it does seem important to recognize that the authors have deviated considerably from the context in which the Pareto criterion generally acquires signifi cance— albeit limited— with regard to social processes. By positing rationality, the authors assume a certain form of behavior on the part of the economic units involved, yet fail to establish or specify the institutional form of that behavior. This of course is due to the absence of an organized market, the second component of our "coordinative complex," which would allow the further assertion that, 33,Wellisz, "On External Diseconomies and the Govern ment-Assisted Invisible Hand," p. 353. 169 under certain conditionsf behavior will automatically channel into a sociably advantageous order. Buchanan, in a later work, provides the missing institutional link by asserting that duch markets in externalities will arise 32 spontaneously. Now one would normally think this to be an empirical question just as the markets of Adam Smith were eased on empirical observation. Further, one would casually conclude that, historically speaking, those industrial societies in which the structure of property rights is based on private property have been notorious for the absence of markets in amenities. The proliferation of safety, build ing, zoning and art codes in newly emerging urban areas seems to testify to past inefficiencies in organizational evolution envisaged by Buchanan. Another point that seems germane to the examination of the consumer-to-consumer externality arguments of Buchan an and Stubblebine regards the initial distribution of income between the related parties. In order to draw out the principles of their theoretical treatment, the authors construct an example in which one party builds a fence between his and a neighbor's property. Over one range of heights the fence is jointly consumed as "privacy," over another range of heights as privacy to the builder and an impairment of view to the neighbor. Once the view is ■50 , James M. Buchanan, Demand and Supply of Public Soods, pp. 179-181. 170 botally blocked the externality is no longer marginal but "infra" to the neighbor. Assuming the builder— supplier of the externality— is not liable for the blocking of his neighbor's view, a bargain involving cash payments to the nuilder can be struck. The optimum height will be attained at that point where the marginal valuation of the builder's loss is equal to that of the neighbor's l o s s .33 T h e example is complicated, and interesting, because a certain range of heights supplies economies while another range of heights supplies diseconomies. In any case, as has been shown by Mishan, the optimal arrangement— optimal height of fence— will depend on the valuation of income and then on its dis tribution. As opposed to the producer-to-unrelated producer arguments and conclusions given by Coase in which the opti cal output was uniquely determined, in the usual consumer- to-consumer case, "... the optimal situation is not uniquely determined but itself depends upon the distribution of income as between the opposing parties."3^ Further, according to Mishan, "... in all such cases, the wealthier the party the more likely is it that his, or its, 33suchanan and Stubblebine, "Externality," p. 485. This height will normally differ from that height esta blished if the builder's marginal benefit is equal to his own private marginal cost. 34Ezra J. Mishan, The Costs of Economic Growth (New York: Frederick A. Praeger, 1967), p. 61. 171 35 favored outcome will be the optimal outcome." Hence, as important as recognizing the reciprocal nature of external effects— the emphasis of the authors under examination— is the recognition of the inseparable nature of income distri bution and optimal allocation outcomes, especially in the "small-number" externality case. We must now approach the work of Kenneth Arrow, an analyst who partially follows the context we have identified as being peculiar to the "modern-old" welfare school. We do so, however, with considerable trepidation, lest our remarks be misconstrued as critical of Arrow's pioneering work on social theory. We examine this author's work only to further substantiate our observation that the recent litera ture is marked by an intense concern with integrating the concept of "external effects" into the core of value theory through the bargaining context. In a rather cryptic introduction to the problem of analyzing externalities, Arrow asserts that "... markets for externalities usually involve small numbers of buyers 3 G and sellers." This statement can be interpreted in at least two ways and unfortunately the author's supporting statements do not point directly to the correct one. If •^Ibid., p. 63. 36 Arrow, "The Organization of Economic Activity: Issues Pertinent to the Choice of Market Versus Nonmarket Allocation," p. 57. 172 Arrow means the existence of markets for the externalities themselves, then by the definition of a public good or "publicness" of economic activities, markets would neces sarily be restricted to "small-number" externalities. If, on the other hand, he is referring to the origin of exter nalities then the proposition seems to be a factual one involving the "extent" of the phenomenon and thus seems to be highly questionable in reference to increasingly complex industrial societies. As Arrow's analysis progresses, however, we find that neither of our interpretations is correct; the proposition, it turns out, should not be con strued as a definition regarding the classification of goods nor as an empirical observation, but as a statement of methodological preference. Following the modern emphasis, Arrow concurs that analysis of the externality problem can best be carried out in the analytical construct of "small- number" markets and provides a most imaginative example to buttress his position. His example, the textbook case of the "public good"— the well-placed lighthouse, must be quoted at length. In my view, the standard lighthouse example is best analysed as a problem of small numbers rather than of the difficulty of exclusion, though both elements are present. To simplify matters, I will abstract from un certainty so that the lighthouse keeper knows exactly - when each ship will need its services, and also abstract from indivisibility (since the light is either on or off). Assume further that only one ship will be within range of the lighthouse at any moment. Then exclusion is perfectly possible; the lighthouse need only shut off its light when a non-paying ship is coming into range. 173 But there would be only one buyer and one seller and no competitive forces to drive the two into competitive equilibr ium.3 ^ It seems perfectly consistent to accept and share Arrow's implied concern with the relationship of external effects and competitive equilibrium, at the same time remaining skeptical of the methods by which the materials are reworked to fit the preferred framework. In the case at hand, Arrow focuses on a situation which by its very nature prohibits exclusion from utilization of a service and which by virtue of that characteristic of non-exclusion may be classified as a relationship involving externalities. It is no surprise that by abstracting from this particular good's defining characteristic— the exclusion principle— the nature of exchange relationships is substantially altered. Paren thetically, it would have been no less specious to have invoked the competitive characteristic of a continuum of ships and lighthouses, and likewise to have concluded that a competitive equilibrium would still remain an impossibility due to the absence of a market. But there seems to be a logic to the modern preference of forcing the analysis into a bargaining framework, to wit, to ameliorate the analytical difficulties caused by the anomalous character of external ities to an otherwise logically complete and highly refined value theory. 3^Ibid., p. 58. 174 It should be recalled that the concept of external ity as it was originally introduced into the science was characterized as direct or non-market interdependence of economic phenomenon and thus was anomalous to the critical and paradigmatic role of markets in traditional value theory, tfith the recognition of the absence of markets for external ities comes the recognition that the tools the economist has formulated in terms of the paradigm are of questionable use. The transformation of the problem through the introduction cf what we might call "shadow markets" or a bargaining framework is the modern solution which legitimizes the formal analysis of externalities and allows for a reasonably convincing integration of the concept of externalities into traditional value theory. An example of this process of integration is provided by Arrow, who writes, If, as is typical, markets for the externalities do not exist, then the allocation from the point of view of the "buyer" is determined by a rationing process. We can determine a shadow price for the buyer; this will differ from the price, zero, received by the seller. Hence, formally, the failure of markets for externalities to exist can also be described as a difference of prices between buyer and seller.38 The instrumentalities of theory remain intact. One need not go beyond the techniques of value theory itself to explain the absence of markets, nor need one question the "paradigm" from which value theory originates. The question is not phrased in terms of how markets have historically 38ih>id. 175 evolved and to what extent existing market relationships can oe used as a basis for evaluating non-market phenomena. Nor ias it been a question of exceptional or all-pervasiveness of the phenomenon and the respective corollary of the his torically determined composition of goods reflecting approx imations to socially ideal outcomes or considerable perver- 39 sity in the socio-material welfare nexus. The question is instead interpreted to be, "If a market does not exist, then what, in a formal, non-substantial sense, necessarily must oe the reason from the viewpoint of existing theory?" Our objective, however, is not to evaluate traditional value theory in terms of externalities, but simply to note the preferred framework for dealing With this category and con jecture on the reasons for one approach rather than another. It seems clear from the foregoing examination that the dominant technique and frame of reference in the recent literature has been the bargaining context. We shall return to this point in the conclusion of our study when we examine the work of the few deviationists. 39 As Maurice Dobb points out in his On Economic Theory and Socialism (New York: International Publishers, 1955), p. 74, " . . . the fact that wants are not purely individual, but are socially moulded and contain strong con ventional elements . . . is better left to be dealt with . . . , in a setting of economic movement and change." In dealing with this in a dynamic context, Dobb utilizes "external economies and diseconomies" in consumption as a strategic concept for an explanation of the composition of output. ' 176 Propositions Regarding the Optimality of tne Market? "Coase's Theorem' * Our third proposition asserts that under a regime of perfect competition, the market is capable of automatically providing an equality between private and social costs. This assertion, coupled with the derivative proposition that the assignment of liability for the consequences of external effects is immaterial to the allocative solution forms what Stigler has termed "Coase's Theorem."^0 This theorem is a direct challenge to Pigou, who intended to show that where private costs of an activity diverged significantly from concomitant social costs, normal expectation would be that the market, unaided by some form of state intervention, would be unable to correct the corresponding divergence between the social and private benefits of that activity. In terms of the normative characteristics of simple competi tion, the actual composition of output and relative prices would diverge from the ideal with the index of total social benefits— the national dividend with all attendant qualifi cations— falling short of an optimum. Perhaps the best way of investigating Coase's con tention is to utilize the producer-to-unrelated producer example in which a competitively run railroad operates adjacent to competitively organized farms. The production ^Stigler, The Theory of Price, p. 113. 177 of transportation is accompanied by the externality of crop damage as a consequence of spark-emitting locomotives. It is assumed that net revenues accrue to each industry, which, because of the assumption of competitive equilibrium, must represent rents. Several interesting hypothetical cases are cooked up by Coase; however, the most exceptional is the case in which a comparison is made between the value of the social product resulting when the state intervenes and liability is assigned the railway and when it is not.^ Assuming that the rent on the marginal unit of land is less than that on the marginal "train" and that crop damage exceeds the former, allocative efficiency will be reached when the marginal unit of land is taken out of cultivation and the variable factor transferred to other areas of pro duction where it will earn approximately its opportunity cost. With liability assigned to the railroad, it is con ceivable that cultivation will be extended to the point where damage to crops no longer exceeds the cost of the variable factors, a point at which the cost of compensation could conceivably be prohibitive for the railroad. The net maximum loss to society would be the difference between the two rents. ^By focusing on the single farm unit, Coase's analysis becomes rather specious. In doing so, however, and what seems most important with reference to our major thesis, he circumvents the more interesting and significant problem of "large-number" externalities, those which were the emphasis of Pigou. 178 While Coase's examples are highly artificial they seem to have been sufficient to destroy the prima facie case for state intervention when social and private costs appear to diverge. But at the same time it seems we are compelled to accept a modified version of Wellisz's dictum applied to bargaining: that a competitive industry supplying suffi ciently obnoxious or damaging externalities will ensure the iisbandment of adjacent activities, regardless, of whether or not the externality-supplying industry's rent exceeds that of the adjacent industry. Such a situation, in hypothetical terms, is quite easy to construct. A priori, there is better reason to believe that rent— which is the only valid neasure of the value of externalities in a competitive regime— will accrue to landowners rather than to railroad owners. Theoretically, it is quite easy to conceive of a profitless and rentless (Ricardian) railroad in long-run competitive equilibrium. Thus, where the railroad is not liable for its social costs, and where the external effect exceeds the Ricardian rent of the farmers (landowners), cul tivation of that land will cease. The decline in the national dividend would be the full difference between the gross value of the farmer's crops and the gross opportunity cost of the variable factors.Were it the farm rather than the railroad that remained intact, the social loss 42Thus the external loss could conceivably be less than the external effect in equilibrium. ’ 179 would approach zero at the margin— the transferred factors receiving their opportunity cost. Alternatively, the railroad could supply external diseconomies to farms adjacent to a lengthy stretch of track, and do so in such a way that the external loss would be evenly distributed among farms. The size of the rent relative to that of the external effect would determine the extent to which any individual farm could absorb the de structive spillover of the railway's activities. But rent now becomes ephemeral as the production functions shift and marginal and average costs rise to the extent of the per unit destruction at the now lower real output. Both industries remain intact, one sustaining the cost imposed by the other. Because opportunity cost is set by the high-cost producer and the firms which are able to sustain external losses are intra-marginal, factors will apparently not transfer out of these farms in the presence of external effects. Competition is compatible with the presence of / external effects where an intra-marginal surplus exists, and social and private costs will diverge in such an arrange ment. The foregoing example seems to point up quite nicely a basic criticism of Coase's de-emphasis and final rejection of the necessity of equalization of the social value of marginal net products. In the author's words, When an economist is comparing alternative social 180 arrangements, the proper procedure is to compare the total product yielded by these different arrangements. The comparison of private and social products is neither here nor there.43 Non sequiturs are of course not uncommon in eco nomics, but that is only the most apparent problem with Coase1s interpretation of the problem of social costs. Throughout his treatment, Coase implies that it is not the economist qua planner and legislative adviser who is to do the "comparing," but that it is through the logic of compet itive markets that such comparisons are continually made and the socially most advantageous activities automatically coordinated. In this view, the socially detrimental nature of external effects is obscured once the unfettered market outcome is equated with socially meaningful optimal outcome. This procedure is highly questionable. As Mishan observes, Whatever the optimal adjustment happens to be in the face of inescapable external diseconomies, their exis tence implies that society is worse off than it would be if the world were such that these diseconomies did not accompany the production of certain goods.44 The free, unfettered market, regardless of whether or not it is characterized by costless bargaining, will generally fail to mediate the difference between the net Loss of social value resulting from the external diseconomy and the net loss of social value entailed in a corrective. ^Coase, "The Problem of Social Costs," pp. 448, 449. ^Mishan, "Reflections on Recent Developments in the Concept of External Effects," p. 32. 181 For example, let us consider the case of a chemical plant whose waste products-^which we may assume increase propor tionally with output— are disposed of into the waters of a nearby river. Potentially, the production of chemicals will result in the impairment of the river for drinking and recreational purposes or for commercial uses of any nature. The private cost of disposal will simply be the fixed cost of a gravity drain pipe, or the opportunity cost of the pipe, which in long-run equilibrium must be covered by the revenue from product sales. The social loss is clearly a function of chemical output and reaches a maximum when all previous satisfactions and profits from direct use of the river have been eliminated and ecological disturbance runs its course. The marginal social cost is thus greater than marginal private cost ( = zero), indicating that a curtailed output is the socially correct outcome. The social loss of producing chemicals is then the excess of marginal social cost over marginal private cost multiplied by the correr* sponding output. If the marginal social cost is an increas ing function of output (which it no doubt would be due to the increased number of uses eliminated as pollution and contamination increased) the external effect, i.e., the social loss at the uncorrected output, would be larger than the net social loss attributable to the production of the chemical at the optimal output. Provided the disposal coulc be accomplished without any external effects at a cost less 182 than either that of the external effect or the social loss at the curtailed output, the difference between the cost of this new method and that of the old would then represent the ninimum social loss. Had the alternative device been obtainable at a lower cost than the one in use, it would, in the long-run, have been installed, for in the long-run fixed sosts must be covered and disposal cost must be minimized. Inasmuch as disposal costs will be minimized in a competi tive regime, we may deduce that not only will the net social loss we have identified be positive, but that it will be naximized. Propositions Regarding the Commodity Space and Exis tence of an Equilibrium Solution Our fourth proposition, due to Kenneth Arrow, is one of a strictly formal nature. By redefining the "commodity" as both something that may be consumed by the individual buyer and as the effect the individual buyer's consumption has on any other individual, each commodity becomes unique and as such has only one buyer and one seller. It follows, according to Arrow, that "... even if a competitive equi librium could be defined, there would be no force driving the system to it . . ."^5 The point that Arrow unequivo- ^5Arrow, "The Organization of Economic Activity: Issues Pertinent to the Choice of Market Versus Nonmarket Allocation," p. 58. 183 sally makes is that a competitive equilibrium— as a formal mathematical construct— can be defined along with an opti mality.^6 Perhaps the value of Arrow's contribution lies pri marily in demonstrating that the externality problem is not simply a mathematical anomaly, but a problem of interpreting and explaining social processes. In terms of mathematics the optimal arrangement may be defined, but in terms of social action and organization, especially that of rational social action which provides the framework of neoclassical propositions in value theory, that optimal arrangement is socially unattainable under decentralized decision-making. Thus, if we mathematically define the third dimension of a commodity as its spillover or third party effect, and thus differentiate between this dimension and that of commodities as being either produced or consumed in the traditional sense, then external effects themselves become commodities embodied in socio-economic activities. But markets for the new commodity "externality" can no longer be viewed in the traditional sense as institutions for the intermediation of intentions of buyers and sellers. The individual does not subjectively determine the trade-off of the commodity "externality" for another commodity and act in accordance with his preferences in the market place. Consumption of 46Ibid., p. 57. 184 the seller's— • externality originator--externality is compul sive and the requisite social forces for market equilibrium are non-existent. Conclusion The bulk of the recent literature on externalities seems to be directed to investigating the theoretical rami fications of highly exceptional cases in which the origi nator and recipient of the external phenomenon are well- defined and in which the external effect itself is identi fied in marginal terms. Analysis has generally been con ducted on a strictly ex post basis, in which behavior appears to be predicated upon prior negotiation of a mutually satisfactory arrangement. One immediately suspects the efficacy of such theorizing which abstracts from the social reality of the absence of markets in externalities and substitutes a methodological concern with the formal conditions for a Pareto optimum for the formulation and analysis of social processes and organization involving inescapable external effects and implications of these effects in an increasingly interdependent urbanized society. Once the problem of organization, origination, and cost of forming markets is assumed away, the problem of external ities is transformed into the simpler problem of the deter ministic outcomes of rational individual behavior. Such an optimum arrangement as we find in the recent externality 185 literature, would, one should think, have been relegated to oblivion. The irrelevancy of such an exercise to an expla nation of socio-economic processes was aptly pointed out by Schumpeter, who stated that the optimality theorem "... is readily seen to boil down to the triviality that, what ever the data and in particular the institutional arrange ments of a society may be, human action, as far as it is rational, will always try to make the best of any given situation.The recent resuscitation deserves no more. We have attempted to show in this chapter that some members of the school of "modern-old" welfare economics, by utilizing only one component of the "coordinative complex"— rationality— have been able to deduce normative results similar to their classical and neoclassical precursors. But the analyses and outcomes are by no means as convincing as the deductions and implications that were drawn from the "coordinative complex" by neoclassicists in their construc tion of the theory of pure and perfect competition. In that theory it was unnecessary for the rational producer to know his marginal costs or marginal revenues as the objective and impersonal forces of the market manifested in profits or losses would automatically buffet the producer into an opti mal equilibrium position or out of the market altogether. The consumer, on the other hand, had an objective set of 47Joseph a. Schumpeter, Capitalism, Socialism and Democracy (New York: Harper and Brothers, 1942)., p. 77. 186 relative prices on which to base his rational decisions in adapting his purchases to his preferences/ and the multi plicity of forces originating with many consumers and pro ducers automatically forced prices and costs into optimal positions. In this construct, relative prices and costs unequivocally reflected relative social values or desires. It is against this that we must contrast the work of repre sentatives of the "modern-old" school. Let us once again consider the Buchanan and Stubble- oine exercise. Here, the purely formal nature of the negotiated height of a fence between adjacent properties oecomes apparent as soon as we realize that the parties are neither confronted by objective data nor are. there any established organizations or institutions through which the actions of the two parties can be mediated. The individual actors are assumed to know, in a marginal way, their pref erences for an arrangement which (it again is necessary to assume) as yet does not exist and for which as yet no experience has been accumulated. Thus, none of the condi tions for the automaticity of an optimal equilibrium in the neoclassical sense are present, with the exception of the assumption that the individual knows his interest and will somehow be motivated to pursue the optimum arrangement. Or let us consider the contribution of Coase, who, according to Harold Demsetz, has shown that "... diver gencies between private and social cost cannot exist in a p 7 48 regime of zero contracting cost." Here, two competitive industries, producing non-rival products, affect one another directly through non-market dependencies because of the adjacent location of activity. If bargaining is per mitted, the final allocation of resources will be optimal regardless of which party is constrained by liability. But again, by adopting a bargaining context all similarities with the^automaticity of a competitive regime disappear. This confounding aspect brought about by the bargaining context is clarified by Arrow, who, while adopting a "small- number" externality context, paradoxically utilizes the context for the opposite purpose of showing the incompati bility of outcomes in "small-number" markets with that of the competitive equilibrium and renders the context analo gous to the indeterminate outcome of imperfect competition. While in this chapter we have stressed the bifur cation of the theoretical context from that of pervasive "many-number" externalities to "small-number" externalities and the parallel attempts in the recent literature to revive, in a modified.form, the central notion of a "coordi native complex" in human institutions, we do not wish to 48 Harold Demsetz, "Contracting Cost and Public Policy," in The Analysis and Evaluation of Public Expendi tures: The PPB System, a Compendium of Papers Submittedto the Subcommittee on Economy in Government of the Joint Eco nomic Committee, Congress of the United States, Vol. I; 91st Cong., 1st Sess. CWashington: U.S. Government Printing Office, 1969), p. 171. 188 imply that there has been a total absence of more substan tive work. In our conclusion, we will turn to that small group of writers on the fringe, who, in further articulating the work of Sidgwick and Pigou, adopt the more relevant con text of a complex and highly interdependent industrial society, utilizing the concept of externalities as a cri tique of traditional value theory. CHAPTER VII CONCLUSION Introduction In this study we have attempted an examination of bhe evolution of a particular concept in economic science which encompasses a broad range of socio-economic effects. These effects have the common characteristic of involving processes and interaction of behavioral units external to bhe process of market intermediation. With the aid of the relativistic intellectual historian's view of the develop ment of science as a discontinuous process, we have attempted to frame our inquiry in terms of the interaction Df paradigms and anomalies, an approach advocated by Thomas Kuhn. ^ Any choice of approach is experimental and can be judged only by the quality and reasonableness of the expla nation it allows. In adopting the relativistic approach it •*"Kuhn, The Structure of Scientific Revolutions. A :omparison of Kuhn's catastrophist's view of scientific pro gress with traditional historiographies may be found in Walter P. Cannon, "The Uniformitarian-Catastrophist Debate" (Isis, LI [March, 1960], 38-55). 189 190 was never our intention to become embroiled in the historio graphical controversy over the positivistic vs. non-positiv- istic conception of intellectual development in the sciences. Nor was it our intention to attempt a thorough examination of the arguments regarding the validity of utilizing an approach which was initially developed and applied in the history of the natural sciences for an expla nation of conceptual evolution in the social sciences. Our selection of method was determined simply on the basis of certain apparent similarities in the sociology of any group of professionals as they relate by convention or agreement to their discipline and the crucial role that such a sociol ogy plays in the "catastrophist's" view of concept develop ment. Again, this does not imply that the present thesis is to be viewed as a test of the validity of the assertion that science progresses by consensus. Our intention was to place conceptual development in a perspective that would lead to a more fruitful interpretation of the role the concept of "external effects" played in the articulation of traditional value theory and its importance for further development of economic science in general. The choice of methods of explication of concepts is thus not a matter of indiffer ence. Indeed, the choice of the "paradigm-anomaly" approach has, we feel, allowed for the elevation of the concept of "external effects" from one of novelty or curiosa to a com pelling critique of the normative properties of competitive 191 narket allocation of resources while at the same time point ing up the ambiguity of the notion of rational collective activity under an institutional arrangement of decentralized 2 iecision-making. But this is not all. On a methodological level regarding the "positive" properties of the science, we have alluded to the inadequacies of a scientific explanation of economic behavior which for all intents and purposes has seen conducted on the expeditious basis of "externality" axblusion. The trouble is that if economics is an explana tion of how men and society choose to fix the composition of Dutput, such an explanation must include how that process is affected by the presence of non-market interdependencies. It is our contention that the obfuscation of this facet of reality has been due primarily to the market paradigm and its normative "coordinative complex" counterpart. Implications of Paradigm Stability Our original contention was that a single paradigm las persisted throughout the development of economic science— that economics has been without the Kuhnian type of n This last point, on which we will wish to elaborate oelow, is one aspect of the analytical framework around which has been constructed a variety of economic theories of the state. Two works of special interest are W. J. Baumol, Welfare Economics and the Theory of the State (Cambridge: Harvard University Press, 1965) , and*'Mancur Olson, The Logic of Collective Action (Cambridge: Harvard University Press, L965) . 192 universal revolution often found in the natural sciences.^ But this observation on the absence of paradigm transforma tion should not be construed as a critique of the interpre tive value of the "paradigm-anomaly" framework. Indeed, it is in relationship to the stability of the paradigm that external effects seem best to be reexamined and the nature and validity of the successive attempts to integrate the concept into the corpus of value theory ascertained. We have shown that there has not been a great deal of dissatisfaction with the attempts at integrating this complex phenomenon into the conventional theory. At the same time, from a somewhat different perspective, our expli cation of the concept reveals that the predominant mode .of integration has not simply been the further articulation of concepts as a part of the practice of normal science, but " . . . ad hoc modifications . . . in order to eliminate any apparent conflict."^ By suggesting that the paradigm has been stable we io not wish to imply that considerable tension does not exist. We must turn for a brief look at the way in which ^Similar observations have been made by Gordon in "The Role of the History of Economic Thought in the Under standing of Modern Economic Theory," p. 124, and A. W. Coats in "Is There a 'Structure of Scientific Revolutions' in Eco nomics',' (Kyklos, XXII [1969], p. 292). 4 Kuhn, The Structure of Scientific Revolutions, p. 78. 193 the tension between market and non-market phenomena has been treated in the theoretical discussion. Disaffection from the Paradigm In our highly selective history of the literature, we have examined the concept of non-market interdependencies against the background of relative paradigm stability, noting the infrequent use of the concept as a critique of the conceptual apparatus of market supply and demand in traditional value theory or criticism of the approximation to reality attributed to normative propositions deduced from the hypothesis of non-interdependent activities. Only in the most recent literature are there signs of disaffection, most of which, it should be noted, are based on "fringe" and heterodox treatments of the past. An instance of this repudiation is the recent work of R. Ayres and A. Kneese, who, rather than basing their analysis on the refinements of the "modern-old" approach, identify the work of K. Kapp as C the seminal work of a broadened scope. In the authors' words, We do not wish to imply that there has been a lack of theoretical attention to the externalities prob lem .... However, all these contributions deal with externality as a comparatively minor aberration from Pareto optimality in competitive markets and focus upon externalities between two parties . . . ^Robert u . Ayres and Allen V. Kneese, "Production, Consumption, and Externalities," The American Economic Review, LIX (June, 1969), 282-297. 194 A perspective more like that of the present paper is found in Kapp.6 Let us briefly examine the work of K. Kapp, who per haps, was one of the first of the moderns to defect from the conventional methods and consequently the substance of eco nomic theorizing on the social costs of market-oriented industrial society.^ The basis of Kapp's disaffection from the termino logical and conceptual system of traditional value theory is the substantial experiential evidence of broad-scale waste and destruction of our physical environment and social amenities which originate in the decentralized decision making structure of private enterprise.® What has deterred the theoretician from effectively dealing with this observed phenomenon of direct interdependence, according to Kapp, is the economist's preoccupation with the further articulation and refinement of economic categories consonant with the " . . . individualistic behavioristic presuppositions of Q Bentham." He argues that in place of simply extending and modifying the well-developed techniques of the economist and ®Ibid., p. 282. ^K. William Kapp, Social Costs of Business Enter prise, (2d ed.; New York: Asia Publishing House, 1963). ®Ibid., pp. 13-27. ®Ibid., p. ix. 195 redefining problems of interdependence to facilitate the analysis, the economist must instead develop "... tenta tive and pragmatically tested objective welfare criteria."^ Unfortunately, Kapp gives little information as to what "objective welfare criteria" are, on what basis they night be established, and what would constitute a "test" of their adequacy. What we find instead is an exceptional job of documenting the destruction of our environment and con siderable speculation on the potential hazards of unfettered industrialization. While Kapp claims to adhere to the Myrdal method of "cumulative causation" in his analysis, one often suspects that it is an afterthought as most of the description stands easily by itself. Robert U. Ayres and Allen V. Kneese, claiming the perspective of Kapp, define their conception of the problem in far more lucid terms than their predecessor. Their interest is in the "disposal of residuals which as an inev itable aspect of the production, exchange and consumption process, form a class of external effects that must be viewed from a different perspective than externalities here tofore examined. The capacity of the ambient environment to "receive and assimilate" the gaseous, solid and liquid waste residuals of the production-consumption process is treated as a scarce but common property resource, with deterioration 10Ibid. 196 of the medium properties for dilution, degradation, and dissipation of waste as the externality phenomenon. They posit, following Scitovsky and Mishan, that external pollu tion effects are an exponential function of industrializa tion and urbanization, however their method of analysis is in no way dynamic. Ayres and Kneese view the problem as a materials balance problem, explicitly including the residuals of pro duction and consumption in an extended and modified Walrasian-Casselian general equilibrium model.^ While the model is admittedly a far better descrip tion of the social costs of environmental deterioration, it gives us no idea of the trade-offs between levels of market able consumption and "environment.1 1 Not only is the "total value of services performed by the environment" impossible to compute, but the supply functions of unwanted residuals do not meet the model's assumption of unique process 12 coefficients. Further, the model, according to the authors, . . . implies knowledge of all preference and production functions including relations between residuals dis-. charge and external cost and all possible factor and process substitution.13 One thus comes back to the question of valuation •^Ibid., p. 288. 12Ibid., pp. 292-293. 13Ibid., p. 29 5. 197 that compounds the problem of assessing the socio-economic impact of externalities making the analysis virtually intractable. The impasse, however, is not cast in terms of the conceptual problems of measurement, but instead in terms of the gap between the highly refined theoretical formula tions of welfare economics and the present state of cost- benefit analysis. Here, the problems are primarily con ceived as those arising out of statistical estimation, with evaluation related to the existing structure of activities. While it is beyond the scope of this dissertation to relate the practical work of the cost-benefit analyst to the development of the "externality" concept, the question of the mode of valuation— which seems central to the paradigm— nust be addressed. Valuation in the Presence of External Effects Valuation has been the single most important issue to emerge in the science of economics. The problem has been dealt with in a number of ways, with the various schools of economics generally reflecting an era in which a particular theory of value was used to explain the meaning of market price. On the basis of assumptions regarding individual oehavior and organization of the economic units, a social interpretation of price as that which reflects the relative ■^Baumol, Welfare Economics and the Theory of the State, pp. 22-24. I g n g preferences of the community could be drawn out from the analysis. Inasmuch as the science of economics is consid ered to originate from the concept of relative scarcity, a logic of economizing and its social implications was an essential development in an early era of the science. Nevertheless, there is not yet a systemic meaning of price that is generally accepted. Indeed, there are those who contend that the entire field of valuation is permeated with metaphysical concepts and contradictory propositions. Let us attempt to briefly state what seems to be at issue. There is no a priori reason to believe that the price of a commodity reflects, measures or is an index of anything other than the terms on which one commodity must be sacrificed for other known commodities. The assertion that the price of a commodity is a measure of satisfaction or utility of the incremental expenditure is based on the pre supposition that price is an accurate empirical index of the fulfillment, as opposed to the revelation of desires. Even the assertion that price is an index of desire requires the philosophical and epistemological presuppositions of "atomism": that the social space is one which abstracts from the social reality of interdependence. The construct is a world of social interaction without social influence or dependency where the timelessness of context precludes the Joan Robinson, Economic Philosophy (Garden City: Doubleday and Company, Inc., 1964), pp. 48-74. complicating factors of social learning and integration, situational reevaluation and institutional transformation from interfering with the direction and purpose of analysis. Adaptation is absolute. Further, it is this context which allows for the discrimination between efficient and ineffi cient arrangements for the administration of society's scarce resources. Before examining this systemic use of prices by the modern analyst, let us first comment on the nature of price as an index of "social value." Of the first assertion regarding the equating of price to satisfaction, Joan Robinson observes, "It is the iesire, not the satisfaction, that is measured by price, yet the idea of satisfaction cannot be kept out."16 if one chooses "utility" as his mode of analysis, this might very well hold. However, modern analysis deals in "revealed preferences" which, as is normally asserted, "... is just what the individual under discussion prefers; there is no 17 value judgment involved." The reformulation, however, is spurious, as is easily seen when Robinson extends her analysis. She writes, It is just not true that market behavior can reveal preferences. It is not only that the experiment . . . , could never be carried out in practice. The objection is logical, .... We can observe the reaction of an individual to two different sets of prices only at two different times. How can we tell what part of the dif- •^Ibid. , p. 50. 17Ibid. 200 ference in his purchases is due to the difference in prices and what part to the change in his preferences that has taken place meanwhile? .... We have got one equation for two unknowns. Unless we can get some independent evidence about preferences the experiment is no good. But it was the experiment that we were supposed to rely on to observe the preferences. ° Thus, by equating price to desires through preferences, we compound the logical inconsistency found in the modern methodology of "valuation." This, however, is not all: Worse still, when we recognize that one man's consump« tion may reduce the welfare of others . . . we begin to doubt whether preferences are what we really prefer.^ Price under a particular arrangement will indicate one thing (if the notion of an index can be applied) while under a different arrangement without the objective aspects of the market changing, may indicate something quite different. The aspect of non-market interdependence is simply another dimension of the distribution of welfare that renders the market quite incomplete as a mechanism of social valuation and efficient adjustment to changing circum stances . That price reflects values, and as such is the proper measure of deviations from some well-defined optimal arrangement of values— the Pareto optimum— is, as we have attempted to document, a contention that permeates the recent literature on externalities. The contention, it l®Ibid., pp. 50-51. •^Ibid. , p. 52. 201 seems, is justified on the basis of the conventional notion that the market variables are a suitable instrument for the valuation of an allegedly smaller range of phenomena arising from direct or non-market interdependencies, because of the pervasiveness of the market in organizing economic activity. Even the "old school" of welfare economics under Pigou was lesitant in challenging price as a universal yardstick for the measurement of aberrations in a market economy permeated oy external effects. Pigou only broaches the issue when he notes, If we were to be pedantically loyal to the definition of the national dividend . . . , it would be necessary to distinguish further between industries in which the uncompensated benefit or burden respectively is and is not one that can be readily brought into relation with the measuring rod of money. This distinction, however, would be of formal rather than of real impor tance, . . . 0 Recent Concern Over the Inadequacies of the Theory of Dysfunctional Environments We have found that the phenomenon of external effects has been treated in the recent literature primarily as curiosa rather than as significantly anomalous to the discussion of market models and outcomes. This is reflected in the usual proviso of "in the absence of external effects" which translated simply means the most relevant approxima tion to reality is the analytical construct of a free, 20Pigou, The Economics of Welfare, p. 183. 20- 2 unfettered market. Relevant economic activity to the analyst has in the main remained as that which can be most easily observed in the process of intermediation through the market mechanism. Indeed, how can one explain the econ omist's aversion to the problems of pollution, congestion and overall deterioration of amenities in the increasingly industrialized and urbanized Western World? Hence, as recent as 1966, Scitovsky, in an article devoted to the description of "external diseconomies" arising from urban ization, writes, Today, an increasing density of population and a rising standard of living have greatly increased the degree of interdependence in our economy; but we have not yet developed machinery adequate to deal with the new prob lems created by the new interdependence. Indeed, in many cases we have not even recognized the existence of this interdependence. So severe is this problem of methodological disori entation, we find the most acute of analysts disaffecting from method altogether. Thus, while Mishan in one place suggests that the problem of urban congestion is within the purview of economic science, and warns that amateurs are bound to err considerably more than the initiated, elsewhere he writes, In view of the extent and growth of water pollution, it is safer and simpler to enact general laws against fouling fresh water, spoiling beaches with oil, sewage, etc., . . . rather than seek to regulate waste-disposal 2lTibor Scitovsky, "External Diseconomies in the Modern Economy," The Western Economic Journal, IV (Summer, * 1966) , 198. 203 by complicated formulae intended to realize an ideal correction.22 The problem of correspondence between conventional value theory and the dysfunctional environment is of course methodological. The process is generally an evolutionary Dne. Mishan addresses himself to this problem by attempting to demonstrate that the problems involved in the rational social choice of composition of output are not such that they will likely be overcome by more sophisticated methods of statistical e s t i m a t i o n .23 Given that one could accu rately measure the intentions of the community and compute some index representing a change in satisfaction, e.g., a change in consumers' surplus, Mishan convincingly demon strates that, Not only can the index of consumers' benefit rise over time without any actual experience of benefit . . . but such an index can rise concurrently with an actual 22ihe first reference is to Ezra J. Mishan, "Welfare Criteria for External Effects," American Economic Review, LI (September, 1961), p. 594, where he states, "In a world of rapidly increasing population and of material growth, the problems economists associate with external diseconomies— the inevitable treading on each other's toes— are pushed to the forefront of public controversy. Sooner or later one form or another of external diseconomy becomes recognized as a major social problem .... Unless economists are prepared to give advice in such cases, initiative will pass into the hands of the 'planners,' the engineers and the adminis trators, with results that may well be as irreversible as they are, sometimes, deplorable." The second reference which is quoted is from Mishan, The ?osts of Economic Growth, p. 100. 23Mishan, The Costs of Economic Growth, p. 183. 204 reduction of benefits.^ The point is simply that the elimination of a parr ticular good or arrangement over time will necessitate a shift in preferences to alternative activities which are extant, but which can quite conceivably be less desirable or inferior to the good or arrangement eliminated. The structure of commodities has an evolution, and that evolu tion when permeated with external effects, as has been the case in the use of the private automobile along with the growth of suburbia, may well eliminate amenities at a con siderably faster rate than that rate at which they are created by the new list of products. The individual, as an independent decision maker, may play a part in the evolution of the structure of output, yet once the society of which the individual is a member finds that the composition of output is for all members less desirable than a former structure, the individual may well be helpless and only a collective decision will assure a transformation to the preferred composition of output. Mishan is able to demon strate this showing the individual, who, as an independent decision maker, purchases an automobile as a supplemental form of transportation to a public transport system. The decision is made on the basis of few automobiles and thus little congestion and time-consuming travel. Assuming that 24ibid., p. 186. 205 public transportation ceases to operate as others, who iecide independently but whose actions are directly interde pendent, also purchase automobiles, any given individual may prefer the former mode of transportation, an opportunity now closed to him. Prospects for Broadening the Scope of Economics While the literature seems to indicate that econo mists for the most part have considered the anomaly as empirically trivial, those on the frontiers of technique have found the problem it presents theoretically intrigu ing.^ But at no time in the mainstream of the economic discussion has this phenomenon been conceived of as a sig nificant or crucial challenge to the efficacy of the analyt ical framework of value theory with its empirical referent of price and hence compelling arguments regarding an alloca tion of society's resources through variation in relative prices that approximate the efficient fixing of the composi tion of output. It is true that science best proceeds by simplification, the identification of strategic variables and the examination of relationships in the isolated frame work. However, the decision as to which variables are to be abstracted from must be rationalized by some preconceptions as to what are the most potent forces which shape the 25Lloyd Shapley and Martin Shubik, "On the Core of an Economic System with Externalities," The American Econom ic Review, LIX (September, 1969), 678-68TI ---------------------------------------------------------ZIT5---- processes to be explained. It has been our contention throughout this study that the "coordinative complex" as the sconomic paradigm has provided the "world view" upon which such rationale rests. It is this presupposition which justifies the exclusion of "external effects" as merely complicating factors in an otherwise logically consistent sxplanation of "what is." If the economist is interested— as time and again he indicates— in the "relationship between unlimited ends and scarce means with alternative uses," it seems most peculiar that he should accept Robbins1 more complete view that such relationships are best analyzed through strictly market activity.26 Rather than containing the concept of "external effects" by imposing such schemas as the bargaining framework, one would hope to witness a croadening of the scope of the science, as perhaps Sidgwick night have envisioned, to include the concept explicitly a?? crucial for an explanation of "what is." With the re-desig nation of market outcomes as only one form of economic relationship and social expression, and if we modify our "world view" that goods are social and want satisfactions are social processes, then the normative counterpart to the broadened science would be transformed from a concern with the "ideal output" to concern with the "ideal socio-economic environment." ^Robbins, The Nature and Significance of Economic Science, p. 33. 207 There has been work toward suggested modification of the scope of economics under the ominous label of the "theory of the state.Here, the concept of "external effects" provides a bridge between what is generally consid ered strictly socio-political behavior and economic behav ior. William Baumol was perhaps the first modern economist to address himself to the question of the conflict between social and individual rationality in a decentralized decision-making structure permeated by external effects. This broadened scope transformed the theory of economic Dehavior into a "theory of the state" which, according to Baumol, . . . concerns itself with an analysis of the circum stances under which government activity of a particular type may prove beneficial to those governed in the sense that it assists them to attain their own ends.28 Thus, it is not a prescriptive study which attempts bo establish certain ethical propositions of what "should De," but instead is an examination of the traditional value bheory framework modified for a closer approximation to reality through the substitution of direct-interdependence Detween behavioral units for the "atomistic" conception of Drganization and interaction. Hence, the analysis consti tutes a rather oblique criticism of the paradigm by broaden- ^^Baumol, Welfare Economics and the Theory of the State, pp. 180-196. 28Ibid., p. 180. 208 ing the scope of analysis along with the conventional inter pretation of Robbins1 definition of the science as the "... formal implications of . . . relationships of ends and means on various assumptions concerning the nature of the ultimate data."^ The significance of Baumol's work for our examina tion of the relationship of paradigms and anomalies is the emergence of an overall perspective of a world permeated by iirect-interdependence and the need for a theoretical system which reflects that form of interdependence.30 We thus find his approach of extension and broadening of scope an interesting contrast to the many approaches of attempted integration through a bargaining framework. One involves the acceptance and explanation of the conflict between individual and social rationality, the other a tacit denial of conflict. Conclusion We are now in a position to conclude our examination of the origin, evolution and integration of the concept of "external effects" into the corpus of economic theory. We might first conclude that it is quite evident that the phenomenon of non-market interdependence was first ^^Robbins, The Nature and Significance of Economic Stiience, p. 38. ^Baumol, Welfare Economics and the Theory of the State, p. 196. ^ ---- introduced into the economic literature in the middle of the nineteenth century. It was not introduced, however, in a theoretical context, but rather in the form of a counter instance to the normative statements deduced from the esta blished theoretical constructs which dominated the economic discussion of that century. The significance of this counterinstance can only be established by examining it in the broader context of the moral and social philosophy of the seventeenth through the nineteenth centuries. Our study proceeded by first reviewing the contention of a number of analysts that the normative element in economics was the economist's intellectual contribution to the reconciliation of the social philosopher's conundrum regarding the conflict between individualistic behavior and social order. The basis of the economist's optimism regarding the social aspect of the individual's economic behavior was the presup position that such behavior would be "atomistic" and indi vidualistic, i.e., independent and based on self-interest and that the highly acquisitive nature of the isolated indi vidual would in a social context be tempered by the compet itive market mechanism. Under this "world view," not only would a harmonious relationship between self-serving men emerge, but such harmony would be complemented by an optimal arrangement of production and exchange. We have termed the system comprised of the properties that assured such a harmonious and optimal outcome, the "coordinative complex." 210 tfe further posited that it was around this conceptual apparatus that the''economist organized his research, formu lated his categories and ultimately structured his science. The use of the "complex" or paradigm has manifested itself primarily in the conventional attitude of economists toward the scope of economics. It would be fatuous to sug gest that all or even many modern economists hold to the normative conclusion that, let us say, a Basti.a^t would hold. This is hardly the point. What is contended in our examina tion is that a particular "world view" has been adhered to ay the professional economist which has ultimately struc tured the science, limited the substantive questions that could be investigated and established a generally accepted Doundary, demarcating economics from the other fields of aehavioral science. Nothing, of course, is unusual about this process of establishing the practice of "normal science," indeed it is necessary, as in the natural sciences, for advances in the sciences to be accomplished. The paradigm is comprised of the "postulate of rationality" and the competitive market. Thus, the commonly accepted mode of research has been organized around the various properties of the market in accordance with the paradigm. External effects, as an economic phenomenon axternal to the market complex, were anomalous not only to the normative system deduced from the paradigm, but also anomalous to the theoretical constructs which were purported 211 . bo explain economic relationships from the perspective of bhe prevailing world view. External effects, while conceded ay most to be all-pervasive, were relegated to the concern Df the welfare economist, who dealt with the phenomenon as an aberrant one which marred the welfare conclusions of optimality of certain systems. The phenomenon was not dealt with on the strictly theoretical level in the pursuit to Eormulate an explanation of "what is." The usual procedure in the literature of positive aconomics has been that of abstracting from the all-perva sive effects of non-market interdependencies. This, of course, is tantamount to subordinating such effects to mar- cet-determined outcomes and adjudges, a priori, such effects bo be irrelevant or trivial with regard to economic explana tion. Another line of reaction to this anomaly has been bhe attempt to integrate such consequences of behavior in a theoretical quasi-market context of bargaining, or to dissi pate the anomalous character of the category by ad hoc con struction of hypothetical cases in which the assumption of self-interest elicits such behavior which will automatically eliminate any misallocation arising from the temporary presence of such interdependencies. On the technical level, the analysis has become increasingly sophisticated. However, all too often the technique has dictated the context in which external effects 212 are deemed to be most relevant. Hence, the context of analysis has shifted from one of "many-person" to "tx*o- party," the latter being amenable to the quasi-market analysis of bargaining. At the "two-party" or "small-numr bers" level, the concept has reached its most complete inte gration into the corpus of value theory. The social mecha nisms are thus made to appear to adjust sub-optimal arrange ments in such a fashion that no one individual's position can be enhanced without such a movement being to the detri ment of others' positions. The important point of criticism regarding the modern search for analytical rigor is the social irrelevancy of the context in which that rigor is worked out. As we have attempted to demonstrate in this examina tion of the concept of "external effects," the economist, in his choice of what is and is not significant and strategic in his analysis, has been terribly pragmatic. Technique seems to have in many cases predominated over substance. But the science is at a watershed. It has become evident, in a most catastrophic way, that the market system has an ecology, and that the ecological ramifications of man's utilization of markets increase in pervasiveness and inten sity with the rising density of human populations, intensi fied industrial and technological activity, and the concen tration and centralization of such activity. The systemic use of price as a schema of valuation 213 of socio-economic arrangements involves an inconsistency. Assuming that a set of monetized equilibrium prices exists, a given socio-economic arrangement will, in the presence of external effects, have one set of prices and without exter nal effects another set of prices. Because the empirical set of prices must be one that corresponds to the presence Df externalities, it is illogical to use the empirical set to independently evaluate the external effects which in the first instance are determinants of that set. Yet empirical prices are the units by which measurement is made in any form of valuation of non-market phenomena. The important point of criticism regarding the nodern search for analytical rigor regards the context in which that rigor is worked out. The fact that individual decisions in the modern industrialized and urbanized world are rarely private and that the consequences of these decisions generally involve some element of "publicness," leads one to conjecture that quite possibly what the economist purports to explain has lost its existential relevance. If this is the case, the concept of "external effects" functions as a meta-economic concept, a tool which has been used to critically examine the correspondence between economic theory and economic reality. The inference is that the problems suggested by the concept of "external effects" are methodological. The conceptual problem for the economist who wishes 214 to explain socio-economic behavior is not simply the matter of extending the choice-theoretic construct of transitivity and the minimization of assumptions necessary for a solu tion. The problem, it would seem, is how to operationally deal with highly interdependent and socially reactive choice and choice contingent on the configuration of choice in the past. We simply do not as men or society, in a decentral ized decision-making way, choose to eliminate smog, water pollution and contamination, urban blight, congestion, resource depletion and racism. Nor did we, as men or society, choose to have them evolve to their present devas tating extent. Markets for the mediation of cumulative interdependent social dysfunction and the individual's basic requirements for human existence in an urbanized world simply do not exist. It is not simply market failure that has fixed the composition of commodities and the present-day socio-economic environment in which we find it increasingly difficult to live. Without the fullest integration of the concept of "external effects" into the corpus of economic theory and the broadening of the scope of the science which such integration will require, the concrete socio-economic structure of our environment will remain unexplained. BIBLIOGRAPHY A. BOOKS Bastiat, Frederic. Harmonies of Political Economy. Trans lated by Patrick J. Stirling. 2d ed. Edinburgh: Oliver and Boyd# Tweeddale Court# n. d. Baumol, William J. Welfare Economics and the Theory of the State. Cambridge: Harvard University Press# 1965. Bilas, Richard A. Microeconomic Theory. New York: McGraw- Hill Book Company, 1967. Blaug, Mark. Economic Theory in Retrospect. 1st rev. ed. Homewood: Richard D. Irwin, Inc., 1968. Buchanan# James M. Demand and Supply of Public Goods. Chicago: Rand McNally and Company, 1968. Cairnes# J. E. Essays in Political Economics: Theoretical and Applied. London: Macmillan and Co.# 1873. Dahl, Robert A.# and Lindblom, Charles E. Politics# Eco nomics and Welfare. Harper Torchbooks. New York: Harper & Row# Publishers# 1953. Dobb# Maruice. On Economic Theory and Socialism. New York: International Publishers, 1955. Ferguson# C. E. Microeconomic Theory. Homewood: Rich ard D. Irwin, 1969. Georgescu-Roegen, N. Analytical Economic Issues and Prob- lems. Cambridge# Mass.: Harvard University Press# 1966. Gide, Charles, and Rist, Charles. A History of Economic Doctrines: From the Time of the Physiocrats to the Present Day. Translated by R. Richards. Boston: D. C. Heath and Company, 1915. 215 216 Girvetz, Harry K. The Evolution of Liberalism. New York: Collier Books, 1963. Gray, Alexander. The Development of Economic Doctrines: An Introductory Survey. London: Longmans, Green and Co., Ltd., 1931. Halevy, Elie. The Growth of Philosophical Radicalism. Translated by Mary Morris. New York: Augustus M. Kelley, 1949. Higgins, Benjamin. Economic Development. Rev. ed. New York: W. W. Norton & Company, Inc., 1968. Hutchison, T. W. A Review of Economic Doctrines, 1970-1929. Oxford: Clarendon Press, 1953. ________ . "Positive" Economics and Policy Objectives. Cambridge, Mass.: Harvard University Press, 1964. Kapp, K. William. Social Costs of Business Enterprise. 2d ed. New York: Asia Publishing House, 1963. Kuhn, Thomas S. The Structure of Scientific Revolutions. Phoenix Books. Chicago: University of Chicago Press, 1964. Lange, Oscar. Political Economy. Vol. I. New York: Mac millan Company, 1963. Lerner, Abba P. The Economics of Control: Principles of Welfare Economics. New York: The Macmillan Com pany, 1944. MacGregor, D. H. Industrial Combinations. London: Univer sity of London, 1938. Marshall, Alfred. Industry and Trade. London: Macmillan and Co., Ltd., 1919. ________ . Principles of Economics. Vol. I. 9th (Variorum) ed. Cambridge, England: Macmillan and Co., Lim ited, 1961. Mill, John Stuart. Principles of Political Economy. Vol. II. 5th ed. New York: D. Appleton and Com pany, 1874. Mishan, Ezra J. Welfare Economics: Five Introductory Essays. New York: Random House, 1964. 217 flusgrave, Richard A,, and Peacock, Alan T. Classics in the Theory of Public Finance. London: Macmillan and Co., Ltd., 1958. flusgrave, Richard. The Theory of Public Finance: A Study in Public Economy. New York: McGraw-Hill Book Company, 1959. 4yint, Hla. Theories of Welfare Economics. Cambridge, Mass.! Harvard University Press, 1948. JJurkse, Ragnar. Problems of Capital Formation in Underde veloped Countries. New York: Oxford University Press, 1964. Olson, Mancur. The Logic of Collective Action. Cambridge, Mass.: Harvard University Press, 1965. Pigou, A. C. Wealth and Welfare. London: Macmillan and Company, 1912. _. The Economics of Welfare. 4th ed. London: Mac- millan and Co., Limited, 1932. Popper, Karl. The Poverty of Historicism. New York: Har per & Row, Publishers, Incorporated, 1961. Robbins, Lionel. The Nature and Significeuice of Economic Science. 2d ed. London: Macmillan Company, 1933. _. The Theory of Economic Policy. London: Macmil lan & Co., Ltd., 1961. Robinson, Joan. Economic Philosophy. Garden City: Double day and Company, Inc., 1964. ___________ The Economics of Imperfect Competition. London: Macmillan & Co., Ltd., 1933. Rogin, Leo. The Meaning and Validity of Economic Theory: A Historical Approach. New York: Harper & Brothers, 1956. Roll, Erick. A History of Economic Thought. 3d ed. Englewood Cliffs: Prentice-Hall, Inc., 1956. ^ Schumpeter, Joseph A. Capitalism, Socialism and Democracy. New York: Harper and Brothers, 1942. 218 ________ . History of Economic Analysis. Edited from manu script by Elizabeth Boody Schumpeter. New York: Oxford University Press, 1954. Sidgwick, Henry. The Principles of Political Economy. 3d ed. London: Macmillan and Co., Limited, 1901. Smith, Adam. An Inquiry Into the Nature and Causes of the Wealth of Nations. The Modern Library. New York: Random House, Inc., 1937. Stigler, George J. Production and Distribution Theories. New York: The Macmillan Company, 1941. ________ . The Theory of Price. 3d ed. New York: The Macmillan Company, 1966. Taylor, Overton H. A History of Economic Thought. New York: McGraw-Hill Company, Inc., 1960. Tintner, Gerhard. Methodology of Mathematical Economics and Econometrics. Encyclopedia of the Unified Sciences. Chicago: The University of Chicago Press, 1968. Vickery, William S. Microstatics. New York: Harcourt, Brace and World, Inc., 1964. B. PERIODICALS Arndt, H. W. "External Economies in Economic Growth," The Economic Record, XXX (November, 1955), 192-214. Aumann, R. J. "Markets With a Continuum of Traders." Econometrica, XXXII (January - April, 1964), 39-50. Ayres, Robert U., and Kneese, Allen V. "Production, Con sumption, and Externalities." The American Economic Review, LIX (June, 1969), 282-297. Bardhan, Pranab. "External Economies, Economic Development, and the Theory of Protection." Oxford Economic Papers (N.S.), XVI (March, 1964), 40-54. Bear, I. V. T., and Orr, Daniel. "Logic and Expediency in Economic Theorizing." The Journal of Political Economy (April, 1964), 12-13. Cannon, Walter F. "The Uniformitarian-Catastrophist De bate." Isis, LI (March, 1960), 38-55. 219 Chalk, Alfred P. "Relativist and Absolutist Approaches of Economic Theory." The Southwestern Social Science Quarterly, XLVII (June, 1967), 5-12. Coats, A. W. "Is There a 'Structure of Scientific Revolu tions' in Economics." Kyklos, XXII (1969), 289-295. Davis, 0., and Winston, A. "Externalities, Welfare, and the Theory of Games." The Journal of Political Economy (June, 1962), 241-262. Edgeworth, F. Y. "The Revised Doctrine of Marginal Social Product." The Economic Journal, XXXV (March, 1925), 30-39. Fleming, Marcus. "External Economies and the Doctrine of Balanced Growth." The Economic Journal, LXV (June, 1955), 241-256. Gordon, Donald T. "The Role of the History of Economic Thought in the Understanding of Modern Economic Theory." The American Economic Review, LV (May, 1965), 119-127. Hicks, John R. "The Foundations of Welfare Economics." The Economic Journal, XLIX (December, 1939), 696-712. Kahn, R. T. "Some Notes on Idea Output." The Economic Journal, XLV (March, 1935), 1-35. Malgren, H. B. "Balance, Imbalance, and External Economies." Oxford Economic Papers^ (N.S.), XV (March, 1963), 74-79. yieade, James. "External Economies and Diseconomies." The Economic Journal, LXII (March, 1952), 54-67. ________ . "Mr. Lerner on 'The Economics of Control.'" The Economic Journal, LV (April, 1945), 47-69. yiishan, Ezra J. "Reflections on .Recent Developments in the Concept of External Effects." The Canadian Journal of Economics and Political Science, XXXI (February, 1965), 3-33. ________ . "Welfare Criteria for External Effects." Ameri can Economic Review, LI (September, 1961), 594-613. Pigou, A. C. "An Analysis of Supply." The Economic Jour- nal, XXXVIII (June, 1928), 238-257. 220 Plott, Charles R. "Externalities and Corrective Taxes." Economica/ (N.S.), XXXIII (February, 1966), 84-91. Popescu, Oreste. "On the Historiography of Economic Thought: A Bibliographical Survey." Journal of World History, VIII (1964), 168-209. Pribram, Karl. "Development of Economic Thought." The American Economic Review, Papers and Proceedings, XLIII (May, 1953), 241-258. Radomysler, A. "Welfare Economics and Economic Policy." Economica, (N.S.), XIII (August, 1946), 190-202. Rivett, Kenneth. "The Definition of Economics." The Eco nomic Record, XX (November, 1955), 215-231. Robertson, D. H. "Those Empty Boxes." The Economic Jour nal, XXXIV (March, 1924), 31. Rosenstein-Rodan, Paul N. "Problems of Industrialization of Eastern and South-Eastern Europe." The Economic Journal, LIII (June - September, 1943), 202-211. ________ . "Notes on the Theory of the 'Big Push.'" The Economic Journal, LXVII (March, 1957), 133-150. Ruggles, Nancy. "The Welfare Basis of the Marginal Cost Pricing Principle." Review of Economic Studies, XVII (1949-1950), 29-46. Scitovsky, Tibor. "External Diseconomies in the Modern Economy." The Western Economic Journal, IV (Summer, 1966), 197-202. Shapley, Lloyd, and Shubik, Martin. "On the Core of an Economic System with Externalities." The American Economic Review, LIX (September, 1969), 202. Sharpere, Dudley. "The Structure of Scientific Revolu- tions." Philosophical Review (July, 1964), 383-394. Sraffa, Piero. "The Laws of Returns Under Competitive Con ditions." The Economic Journal, XXXIV (1926), 535-550. Stigler, George. "The Division of Labor is Limited by the Extent of the Market." The Journal of Political Economy, LIX (June, 1951), 185-193. 221 Stockfish, J. A. "External Economies and Diseconomies." International Encyclopedia of Social Science, Vol. V. "External Economies, Investment, and Foresight." The Journal of Political Economy, LXIII (October, 1955), 446-449. Tintner, Gerhard. "A Note on Welfare Economics." Economet- rica, XIV (1946), 69-78. Turvey, Ralph. "On Divergencies Between Social Cost and Private Cost." Economica (N.S.), XXX (August, 1963), 309-313. Wellisz, Stanislaw. "On External Diseconomies and the Government-Assisted Invisible Hand." Economica (N.S.), XXXI (November, 1964), 345-362. Winch, D. N. "What Price the History of Economic Thought." The Scottish Journal of Political Economy, IX (November, 1962), 193-204. Young, Allyn. "Increasing Returns and Economic Progress." The Economic Journal, XXXVIII (December, 1928), 533. _______. "Pigou's Wealth and Welfare." The Quarterly Journal of Economics, XXVII (August, 1913), 672-686. C. ARTICLES AND ESSAYS IN COLLECTIONS Bator, Francis M. "The Anatomy of Market Failure." Read ings in Microeconomics. Edited by William Breit and Harold Hochman. New York: Holt, Rinehart and Winston, Inc., 1968. Buchanan, James M., and Stubblebine, William Craig. "Exter nality." Readings in Microeconomics. Edited by William Breit and Harold M. Hochman. New York: Holt, Rinehart and Winston, Inc., 1968. Clapham, J. H. "Of Empty Economic Boxes." A. E. A. Read ings in Price Theory. Edited by G. J. Stigler and K. E. Boulding. Vol. VI. Chicago: Richard D. Irwin, Inc., 1952. Coase, Ronald. "The Problem of Social Costs." Readings in Microeconomics'. Edited by William Breit and Har- New York: 222 "The Economic Boxes: A Rejoinder." A. E. A. Readings in Price Theory. Edited by G. J. Stigler =>«ri v p.. RrMTiH-inrr Vol. VI. Chicago: Richard D. and K. E. Boulding. Irwin, Inc., 1952. old M. Hochman. Winston, 1968. Holt, Rinehart and Ellis, Howard S., and Fellner, William. "External Economies and Diseconomies." A. E. A. Readings in Price Theory. Edited by G. J. Stigler and K. E. Boulding. Vol. VI. Chicago: Richard D. Irwin, Inc., 1952. Knight, Frank H. "Marginal Utility Economics." Essays in Economic Thought: Aristotle to Marshall. Edited by Joseph J. Spengler and William R. Allen. Chicago: Rand McNally & Company, 1960. _______. "Some Fallacies in the Interpretation of Social Costs." A. E. A. Readings in Price Theory. Edited by G. J. Stigler and K. E. Boulding. Vol. VI. Chicago: Richard D. Irwin, Inc., 1952. Lange, Oscar. "The Scope and Method of Economics." Read ings in Microeconomics. Edited by David R. Kamer- schen. Cleveland: World Publishing Company, 1967. Slabers, Lawrence. "The Positive and Genetic Approaches." The Structure of Economic Science. Edited by Sherman Roy Krupp. Englewood Cliffs: Hall, Inc., 1966. Prentice- Pigou, A. C. "Empty Economic Boxes: A Reply." A. E. A. Readings in Price Theory. Edited by G. J. Stigler and K. E. Boulding. Vol. VI. Chicago: Richard D. Irwin, Inc., 1952. Scitovsky, Tibor. "Two Concepts of External Economies." The Economics of Underdevelopment. Edited by A. N. Agarwala and S. P. Singh. Bombay: Indian Branch, Oxford University Press, 1958. Tintner, Gerhard. "External Economies in Consumption." Essays in Economics and Econometrics. Chapel Hill, North Carolina: 1960. University of North Carolina Press, 223 Viner, Jacob. "Adam Smith and Laissez Faire." Essays in Economic Thought: Aristotle to Marshall. Edited by Joseph J. Spengier and William R. Allen. Chi cago: Rand McNally & Company, 1960. ________ . "Cost Curves and Supply Curves." A. E. A. Read ings in Price Theory. Edited by G. J. Stigler and K. E. Boulding. Vol. VI. Chicago: Richard D. Irwin, Inc., 1952. D. GOVERNMENT PUBLICATIONS Arrow, Kenneth J. "The Organization of Economic Activity: Issues Pertinent to the Choice of Market Versus Nonmarket Allocation." The Analysis and Evaluation of Public Expenditures: The PPB System. A Compen dium of Papers Submitted to the Subcommittee on Economy in Government of the Joint Economic Commit tee, Congress of the United States. Vol. I. 91st Cong., 1st Sess. Washington: U.S. Government Printing Office, 1969. Demsetz, Harold. "Contracting Cost and Public Policy." The Analysis and Evaluation of Public Expenditures: The PPB System. A Compendium of Papers Submitted to the Subcommittee on Economy in Government of the Joint Economic Committee, Congress of the United States. Vol. I. 91st Cong., 1st Sess. Washington: U.S. Government Printing Office, 1969. Kneese, Allen V., and d'Arge, Ralph C. "Pervasive External Costs and the Response of Society." The Analysis and Evaluation of Public Expenditures: The PPB~ System. A Compendium of Papers Submitted to the Subcommittee on Economy in Government of the Joint Economic Committee, Congress of the United States. Vol. I. 91st Cong., 1st Sess. Washington: U.S. Government Printing Office, 1969. E. UNPUBLISHED MANUSCRIPTS lintner, Gerhard. "Karl Marx as an Economist." Unpublished manuscript, 1969.

Linked assets

University of Southern California Dissertations and Theses

Conceptually similar

PDF

On The Dynamics Of Planned Economy: General Theory With Empirical Analysis Of The Hungarian Experience

PDF

Economic Aspects In The Evolution Of The Great Lakes Freighter

PDF

The Economics Of Sugar Quotas

PDF

The Determinants Of Growth Differentials And Regional Concentration: A Theoretical And Empirical Investigation

PDF

Differential Game Theory Approach To Modeling Dynamic Imperfect Market Processes

PDF

On The Theory Of Value And Market Syndicalism

PDF

Export Instability And Economic Development: A Statistical Verification

PDF

A Theory Of Regional Economic Growth: Growth Poles And Development Axes

PDF

Interstate Natural Gas Supply And Intrastate Market Behavior

PDF

The Economics Of A Non Profit Enterprise In The Dental Health Care Field

PDF

Economic Quality Control (Eqc)

PDF

Appraisal Of Developmental Planning And Industrialization In Turkey

PDF

A Comparison Of Employment Performance In The Manufacturing Sector Of Less Developed Countries: Empirical Tests Of Alternative Hypotheses

PDF

Some Effects Of Monetary And Fiscal Policy On The Distribution Of Wealth

PDF

Some External Diseconomies Of Urban Growth And Crowding: Los Angeles

PDF

Production Functions In Korean Manufacturing: An Analysis Of Trade Policyand Its Effect On Technological Change

PDF

Exchange Rate Policy And Export Performance

PDF

A Generalized Economic Derivation Of The ''Gravity Law'' Of Spatial Interaction

PDF

Forecasting Selected Statewide Recreation Requirements

PDF

Pollution, Optimal Growth Paths, And Technical Change

Asset Metadata

Creator Mcconnel, Charles Edward (author)

Core Title The Anomaly Of External Effects: A History Of Concept Development

Degree Doctor of Philosophy

Degree Program Economics

Publisher University of Southern California (original), University of Southern California. Libraries (digital)

Tag Economics, theory,OAI-PMH Harvest

Language English

Contributor Digitized by ProQuest (provenance)

Advisor Tintner, Gerhard (committee chair), Pollard, Spencer D. (committee member), Pounders, Cedric J. (committee member)

Permanent Link (DOI) https://doi.org/10.25549/usctheses-c18-437181

Unique identifier UC11362432

Identifier 7026529.pdf (filename),usctheses-c18-437181 (legacy record id)

Legacy Identifier 7026529

Dmrecord 437181

Document Type Dissertation

Rights Mcconnel, Charles Edward

Type texts

Source University of Southern California (contributing entity), University of Southern California Dissertations and Theses (collection)

Access Conditions The author retains rights to his/her dissertation, thesis or other graduate work according to U.S. copyright law. Electronic access is being provided by the USC Libraries in agreement with the au...

Repository Name University of Southern California Digital Library

Repository Location USC Digital Library, University of Southern California, University Park Campus, Los Angeles, California 90089, USA