Friday, 4 November 2011

Darwinian or Smithian competition

Econtalk recently held an interview with Robert Frank, author of the book "The Darwin Economy".
The most interesting part starts with the statement:
"I start with a prediction that I won't live to see whether it comes true or not: I predict that if we were to poll professional economists a century from now about who is the intellectual founder of the discipline, I say we'd get a majority responding by naming Charles Darwin, not Adam Smith. Smith, of course, would be the name out of 99% of economists if you asked the same question today. My claim behind that prediction is that in time, not next year, we'll recognize that Darwin's vision of the competitive process was just a lot more accurate and descriptive than Smith's was."
I think he is right, but am hopeful we do not have to wait an entire century.

The competition of Adam Smith is the competition between lion and gazelle. It makes both fast and strong. You could say, it also makes the group better of, on evolutionary time scales. Charles Darwin was aware that this is not always the case, competition between males can lead to aggressive and too strong males, competition between trees for the sun makes them tall (inefficient) and fragile (storm damage). In these cases collaboration between members of a species would make everyone better of.

The irony for economics, the study of how humans allocate their resources, is that humans are one of the most cooperative species on earth (we are strong reciprocators). You can see this everywhere, if you have an eye for it. You can see it in its most distilled form in economic games performed in laboratories, such as the ultimatum game and the common goods game.

In the ultimatum game, two players must divide a sum of money. The first player has to propose a certain division. The second player (responder) can accept this division or reject it; in the latter case both players do not receive any money. Economic and game theory predict that the responder will accept any non-zero amount, because for a rational person obtaining something is better than nothing. Knowing this, the proposer is expected to give the responder only the smallest amount possible. The experiment, however, shows that the proposer needs to offer a fair split, i.e. offers half of the money, to be sure to obtain money and low offers are regularly rejected (Güth et al., 1982). This result is found across many different groups (Henrich et al., 2005) and although the fraction offered varies, giving the responder a fair share seems to be universal.

Humans thus have found a way to limit destructive competition and increase collaboration. We do so by pro-social norms, rules and emotions, such as the notion of fairness. Ironically, this may have made the economists less aware of the destructive side of competition and made it easier to focus on the positive Smithian side. In the worst case, modern apostles of Adam Smith may not have read his book "The Theory of Moral Sentiments" and may advocate unlimited competition and thereby destroy pro-social norms and productive collaboration.

Further reading

More posts on economics.

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