Death of a Metaphor: The Invisible Hand

A nice perspective by Prof. Asad Zaman of International Institute of Islamic Economics. I just got this interestingly titled paper from SSRN update and was hooked.

He questions this deeply ingrained free market thinking in the econ profession. Much of this thinking goes to the magical words of Adam Smith- invisible hand. Zaman says Smith used invisible hand as a metaphor to describe economic forces. However, the metaphor was soon dead as econs accepted invisible hand as the real thing.

The world we live in is very complex. The heuristics we use to simplify it, so as to be able to understand it and take decisions, have recently attracted substantial attention. The picture of human decision making that emerges from this research (i.e. Gigerenzer et. al. 2011) is substantially different from the fully informed, perfectly rational supercomputer embodied in homo economicus. An ancient and time-honored heuristic is the use of the metaphor as a striking comparison of unlike categories. In a deep, insightful and surprisingly neglected study, Turbayne (1970 ) has analyzed the role of metaphors in creating the world we live in. He distinguishes between „living‟ and „dead‟ metaphors. Originators of the idea that the world is a piece of clockwork, or machinery subject to deterministic laws, clearly understood that this was a metaphor, not literally true. The modern world has absorbed this so deeply into its mindset that this metaphor is embodied in the framework of our thoughts, without conscious recognition – the metaphor is „dead‟ in Turbayne‟s terminology.

The „invisible hand‟ was a striking and paradoxical metaphor when first introduced by Adam Smith. Now it has become so  widely accepted by economists that the failure of the invisible hand is considered an exceptional situation. The death of the metaphor has led us to a far stronger faith in it than is justified by the facts. The idea that purely selfish behavior by all consumers and firms leads to socially optimal outcomes is widely repeated in current economics textbooks. The goal of this essay is to analyze how this state of affairs came to be, the harm that has resulted from it, and some potential remedies.

The paper then follows the known track of crticising free market thinking. However, the approach is fresh and interesting. Her specifically looks at the issue of econ theories assuming humans as rational and selfish. This selfish behavior is further assumed to always produce  socially optimal behavior:

In order to simplify a complex reality, metaphors (and models) focus on some aspects, and neglect others. As long as we are aware of the metaphor, the invisible hand commits us to the following two unexceptional ideas:
M1: In some situations, human behavior can be modeled as selfish.
M2: In some subset of these situations, selfish behavior can actually promote the social good; this contrasts with the more typical case where selfish behavior and socially desirable behavior are in conflict.

Hardly anyone would disagree with these implications of the metaphorical usage of the invisible hand. Death of the metaphor commits Economists to the following two ideas:
E1: Human beings always behave selfishly.
E2: Selfish behavior always leads to socially optimal outcomes

Economists have adopted both of these as fundamental organizing principles for current microeconomic theories. Minimal powers of observation and introspection would immediately lead to the realization that neither of these is true. This has led some to label economic theorists as “autistic.” However, an explanation of why these assumptions have been widely adopted by economists lies deeper. 

Why this simplistic and false assumption has dominated economics? He blames influence of Weber on social science for this:

Views which ultimately prevailed and became embedded in the foundations of modern economic theory were those of Max Weber. Weber was of the opinion that social and economic phenomena are too complex to allow for genuine understanding. He proposed that instead of actual human behavior, we should consider “ideal types,” which are simplified representations. An explanation on the assumption that human behavior corresponds to these ideal types should be considered as valid if it can mimic the observed phenomena in the economic realm.

In light of the Weberian understanding of social science, economists are not committed to the idea that human beings are always selfish. Instead, economists are committed to use of models which posit an “ideal type” of human2 who always behaves selfishly. Such models are considered valid if they can reproduce observed phenomena. This is more or less what Friedman‟s (1954) famous essay on methodology attempts to say, though in different terms. There is a subtle distinction between modeling human behavior as if humans are selfish, and assuming that humans are selfish. Exactly as the death of a metaphor leads one to confuse the model with reality, with passage of time economists also came to believe the proposition E1 that humans are always selfish. 

He looks at several issues with the current econ thinking..

In the end:

Widespread acceptance of the invisible hand has blocked progress on economic issues of vital importance. Realization that this is a partial and incomplete description of some aspects of a complex reality will open the path to many solutions which cannot be conceptualized by economists in the grips of the invisible hand. Bringing about change requires changing some deeply ensconced beliefs in economists‟ worldview. We discuss two key changes required below. Firstly, widespread belief in the invisible hand encourages laziness – we need do nothing, as the economic problems of the world will fix themselves if we just get out of the way. Secondly, a widespread misconception that scientists are supposed to be neutral detached observers reinforces these tendencies towards inactivity.

At the anecdotal level, discussions with my fellow graduate students in the first year of the Ph.D. Economics program at Stanford University revealed that most were motivated to study economics because they wanted to make the world a better  place. We wanted to help the poor, to find answers to the myriad economic problems facing human beings all over the world. In the course of our graduate training, we learned that the main economic problem was “do-gooders” like us, who interfered with the self-regulating market. Providing help to the poor would reduce their incentives to work, and lead to reduced wealth for society as a whole. The main job of the activist economist was to try and remove all frictions and obstacles to the workings of the free market, and the invisible hand would do the rest. Just pursuing our self interest was the best way to help society as a whole. It is no wonder that the graduates came to believe that pursuing successful careers was the goal of life.

Nice read.

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