Richard Posner, J.M Keynes, & Karl Polanyi – What is “economics” about?
To: Members of PPE 475-302 (Economic Liberalism & Its Critics)
From: Jeff Weintraub
Re: Richard Posner, J.M Keynes, & Karl Polanyi – What is “economics” about? (Optional Extra)
Before we finish saying goodbye to Polanyi, Keynes, Marshall, and Bell and prepare to re-enter the intellectual universe of economic liberalism with Friedrich Hayek and Milton Friedman, here is an item that some of you might find interesting and thought-provoking.
Richard Posner, who is a federal judge as well as a Senior Lecturer at the University of Chicago Law School and an almost implausibly prolific author on a wide range of subjects, has been one of the most prominent and influential figures in the so-called "law and economics" tendency of American jurisprudence. The orienting conception of "economics" in this perspective has been the purely formalist and free-market-fundamentalist version associated, in its most doctrinaire form, with University of Chicago economists like George Stigler and Milton Friedman. But after reflecting on the economic crash of 2008-2009 from which we are still recovering, and then reading Keynes for the first time, Posner decided that this whole approach to economics is excessively narrow, misleading, and misguided.
The nature of Posner's intellectual conversion experience, and his reasons for rejecting the perspective on economics he had previously embraced, were outlined in a very interesting and revealing piece he wrote for the New Republic in September 2009, “How I Became a Keynesian”. The piece begins:
Until last September, when the banking industry came crashing down and depression loomed for the first time in my lifetime, I had never thought to read The General Theory of Employment, Interest, and Money, despite my interest in economics. I knew that John Maynard Keynes was widely considered the greatest economist of the twentieth century, and I knew of his book's extraordinary reputation. But it was a work of macroeconomics— the study of economy-wide phenomena such as inflation, the business cycle, and economic growth. Law, and hence the economics of law—my academic field—did not figure largely in the regulation of those phenomena. And I had heard that it was a very difficult book, which I assumed meant it was heavily mathematical; and that Keynes was an old-fashioned liberal, who believed in controlling business ups and downs through heavy-handed fiscal policy (taxing, borrowing, spending); and that the book had been refuted by Milton Friedman, though he admired Keynes's earlier work on monetarism. I would not have been surprised by, or inclined to challenge, the claim made in 1992 by Gregory Mankiw, a prominent macroeconomist at Harvard, that "after fifty years of additional progress in economic science, The General Theory is an outdated book. . . . We are in a much better position than Keynes was to figure out how the economy works."And so on. Posner's account of Keynes's economics and its significance strikes me as intelligent and perceptive, though uneven. You can read his whole piece and decide for yourself. But I found one passage especially intriguing and thought-provoking.
We have learned since September  that the present generation of economists has not figured out how the economy works. The vast majority of them were blindsided by the housing bubble and the ensuing banking crisis; and misjudged the gravity of the economic downturn that resulted; and were perplexed by the inability of orthodox monetary policy administered by the Federal Reserve to prevent such a steep downturn; and could not agree on what, if anything, the government should do to halt it and put the economy on the road to recovery. By now a majority of economists are in general agreement with the Obama administration's exceedingly Keynesian strategy for digging the economy out of its deep hole. [....]
Baffled by the profession's disarray, I decided I had better read The General Theory. Having done so, I have concluded that, despite its antiquity, it is the best guide we have to the crisis. And I am not alone in this judgment. [....]
It [Keynes's General Theory] is an especially difficult read for present-day academic economists, because it is based on a conception of economics remote from theirs [my bolding]. This is what made the book seem "outdated" to Mankiw—and has made it, indeed, a largely unread classic. (Another very distinguished macroeconomist, Robert Lucas, writing a few years after Mankiw, dismissed The General Theory as "an ideological event.")I think that's right, or at least it's an important part of the story. And now here is the key point (again, the boldings are mine).
The dominant conception of economics today, and one that has guided my own academic work in the economics of law, is that economics is the study of rational choice. People are assumed to make rational decisions across the entire range of human choice, including but not limited to market transactions, by employing a form (usually truncated and informal) of cost-benefit analysis. The older view was that economics is the study of the economy, employing whatever assumptions seem realistic and whatever analytical methods come to hand. Keynes wanted to be realistic about decision-making rather than explore how far an economist could get by assuming that people really do base decisions on some approximation to cost-benefit analysis.What is interesting about this passage is that whether or not Posner realized it—and I suspect he didn’t—what he has done here is essentially to restate Karl Polanyi's fundamental analytical distinction between the "formal" and "substantive" conceptions of economics & economic analysis. Polanyi lays out this distinction most explicitly and systematically in his essay on “The Economy as Instituted [i.e., institutionally grounded] Process,” but it’s implicit in much of his other work. Posner's formulation of Polanyi's analytical distinction, intentional or unintentional, happens to be clear and pretty much on-target. So we can use it to help clarify what Polanyi has in mind.
From a “formalist” perspective, what defines “economic” analysis is not a particular empirical subject-matter, but rather a commitment to a specific theoretical perspective on human nature and social action. In this conception, as Posner explains, “economics is the study of rational choice”—based on certain specific (and, I would say, philosophically and historically idiosyncratic) conceptions of “rationality” and “rational” action. That is, “People are assumed to make rational decisions across the entire range of human choice, including but not limited to market transactions, by employing a form (usually truncated and informal) of cost-benefit analysis.” (For example the “Undergraduate Program” web-page for the University of Pennsylvania’s Department of Economics characterizes the field as follows: “Economics is the science of choice—the science that explains the choices made by individuals and organizations.”)
On the one hand, under the slogan of “rational choice,” this theoretical perspective can potentially be applied to any social phenomena (yielding “economic” analyses of law, politics, marriage, and so on ad infinitum). On the other hand, it effectively excludes or marginalizes any economically relevant phenomena that cannot easily be reduced to what most economists would regard as the “rational” pursuit of self-interest by individuals.
The alternative perspective views the “economy” in substantive terms as the actual set of arrangements and practices that organize production and distribution, and tries to understand them. In the real world, economic life tends to involve a considerably wider range of institutions, practices, motivations, and relationships than self-regulating markets and the “rational” maximization of self-interest; and, furthermore, modes of economic activity and of socio-economic coordination vary in complex ways that are socially and historically specific. For a “substantive” approach, to borrow Posner’s formulation, “economics is the study of the economy, employing whatever assumptions seem realistic and whatever analytical methods come to hand.” And one feature of such an approach, which Posner correctly attributes to Keynes, is to try “to be realistic about decision-making rather than explore how far an economist could get by assuming that people really do base decisions on some approximation to cost-benefit analysis.” As Polanyi would point out, a more realistic approach to individual motivation and decision-making is only part of what’s required, but it’s a start.
To repeat, I doubt that Posner was aware that he was, in effect, restating Polanyi’s analytical distinction. And there’s something odd about his getting there via Keynes. But there are many routes to enlightenment, after all.