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PRELUDE TO POLITICAL ECONOMY

Prelude to Political Economy

A Study of the Social and Political Foundations of Economics

KAUSHIK BASU

OXFORD

UNIVERSITY PRESS

This book has been printed digitally and produced in a standard specification in order to ensure its continuing availability

OXFORD UNIVERSITY PRESS Great Clarendon Street, Oxford 0X2 6DP Oxford University Press is a department of the University of Oxford. It furthers the University's objective of excellence in research, scholarship, and education by publishing worldwide in Oxford New York Auckland Bangkok Buenos Aires Cape Town Chennai Dar es Salaam Delhi Hong Kong Istanbul Karachi Kolkata Kuala Lumpur Madrid Melbourne Mexico City Mumbai Nairobi Sao Paulo Shanghai Taipei Tokyo Toronto Oxford is a registered trade mark of Oxford University Press in the UK and in certain other countries Published in the United States by Oxford University Press Inc., New York © Kaushik Basu, 2000 The moral rights of the author have been asserted Database right Oxford University Press (maker) Reprinted 2003 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, without the prior permission in writing of Oxford University Press, or as expressly permitted by law, or under terms agreed with the appropriate reprographics rights organization. Enquiries concerning reproduction outside the scope of the above should be sent to the Rights Department, Oxford University Press, at the address above You must not circulate this book in any other binding or cover and you must impose this same condition on any acquirer ISBN 0-19-829671-

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Contents

Preface

Parti. PRELIMINARIES

1. Introduction 1.1. Incident off Grand Trunk Road 1.2. Positive Political Economy 1.3. An Overview
2. Games and Misdemeanors: Game Theory for the Uninitiated 2.1. Motivation 2.2. Hex 2.3. Normal-Form Games 2.4. Extensive-Form Games
3. Individual Rationality 3.1. The Concept of Rationality 3.2. Internal Consistency 3.3. Procrastination and Addiction 3.4. The Traveler's Dilemma 3.5. The E-mail Game - Almost 3.6. The Paradox of Cognition

Part II. SOCIETY

4. Social Norms, Culture and Beliefs 4.1. Of Mice and Men 4.2. The Bridge on Forest Home Drive 4.3. A Digression on "Association" 4.4. Equilibrium-Selection Norms 4.5. Hawk, Dove and Maynard's Cuckoo 4.6. Norms, Polyphiloprogenitive 4.7. Beliefs

Part III. THE STATE

5. Law and Economics 5.1. The Law According to Social Science 5.2. Law and Economics: A New Approach

xi

1 3 3 5 7

11 11 12 16 24

36 36 39 42 51 57 60

65 67 67 74 77 86 89 93 101

107 109 109 111

11.3. Games and Reality 11.4. The Free Rider 11.5. Conclusion

Appendix. Notes on Methodology: Various and Sundry

A1. Introduction A2. Knowledge and Skepticism A3. Assumptions A4. Hume's Law A5. Methodological Individualism A6. Determinism and Choice

References Name Index Subject Index

CONTENTS ix

236 238 240 241 241 242 246 250 253 257

263 281 285

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to develop some of the building blocks for the task. The demolition that is done is done entirely to make room for a more robust construction. My critique, therefore, is not meant to attack the belief of the new political scientist or the sociologist that economics has much to offer; it certainly does. Let me leave it at this. For me, as an economist, to labor the point that a critique of economics is not all loss will otherwise be reminiscent of Rimsky-Korsakov's widow, at her husband's funeral, consoling a weeping Stravinsky: "Pull yourself together, young man, we've still got Glazunov."^1 I remarked above that the hard part of this research is not the math- ematics. What is not often appreciated by economists is that good eco- nomics, and more generally social science, entails a kind of reasoning that is refreshingly independent and requires a skill that is different from one that a pure mathematician or a natural scientist needs. In a sense, it needs that and more. One factor behind this is that human beings - even those who can reason very well when they are talking of abstract entities, such as p and q - have a tendency to falter once the p's and q's are replaced by emotive words and propositions. A lot of contemporary social science requires very fine reasoning and, if one is innately prone to err where the terrain is one of direct human concern or emotional significance, which in the social sciences will frequently be the case, it is clear why we have to be extra careful in making our deductions and reaching conclusions. The technical demands of this book are small; virtually anybody can read it. But it is not a book that can be read through quickly, at least not with comprehension. It is meant to be worked through. In places I have tried to say things that are difficult to articulate with full precision. My reason for persisting with such material is the belief that ideas are conveyed not just through the direct meanings of words, but in other ways as well. The human mind, unlike a computer, can and does receive messages beyond the literal. It is true not merely of poetry, but also of prose, that messages get trans- mitted not just through the lines but between them. Economists are dismissive of ideas that cannot be fully formalized. This is a mistake; the body of human knowledge would be a fraction of what it is if formalism were the only way in which ideas were transmitted. I say this to caution the reader not to cast aside the less formal parts of this book as less important. I hope that this monograph will be read by social scientists of all per- suasions and that it will be used in courses on political economy, economics

(^1) This is from a story told by Isaiah Berlin (Brendel A. (1997), "On Isaiah Berlin, 1909-1997," New York Review of Books, 44(20): 11).

xii PREFACE

and law - and even on economic theory. There are several ways of reading the book. The best is slowly, and all the way through. If it is being used for a graduate course, it can fit nicely into a single semester. For the reader in a hurry and with a modicum of familiarity with game theory, I would recommend Chapters 1, 4-6 and 8. For someone in a hurry and without that familiarity with game theory, one needs to simply add Chapter 2 to the above list. In the course of spelling out its central theses, the book presents and discusses several little paradoxes and puzzles, many of which remain unresolved. The reader who is not interested in the larger questions of the economy or in political philosophy will, I hope, nevertheless find the many smaller arguments and conundrums challenging enough to pause, think about, and perhaps even to join in and try to solve. I began writing this book in the fall of 1993, when I gave a set of ten lectures to graduate students at the London School of Economics as part of a longer sequence in economic theory. I had called my lectures "Topics in Political Economy." I am grateful to Nick Stern for the invitation to visit LSE, and to Max Steuer and John Moore for the invitation to give the lectures and for tolerating this unconventional interpretation of what constitutes economic theory. The zest for such a large intellectual enter- prise was also nurtured by my living quarters during my three months in London. By a stroke of good luck, it turned out to be an old high-ceilinged apartment, owned by London University, in the historic Bloomsbury area where, even on a short evening stroll, one was likely to come upon several plaques carrying the names of prominent thinkers from the 1920s and 1930s. This book has been exceptionally long in incubation. The decision to write the book was taken well before the LSE lectures, in 1987 in Melbourne, after a series of long conversations on social norms and institutions with my friend and co-author, the economic historian Eric Jones. It was Eric who felt that I must write such a book and I immediately knew that he was right. A book could give me the space to articulate what I wanted to say, which journals, being more tradition-bound, would not allow. When I say "such a book" I do so with hesitation because there was no way of being sure, before actually producing the book, what Eric's intended "such" was. All I can say now is that, in case it was something else, he will have to live with the fact that he has made me lose more man hours on a single project than I ever have before. As I worked on the monograph, I tested the emerging ideas and notes on a graduate class studying political economy at Cornell University. The stu- dents came, primarily, from economics and government departments and

PREFACE xiii

PREFACE xv

The writing of this book has been for me an experience of unalloyed joy. I view the concerns expressed in the pages that follow not as a final word but as delineating a research agenda in an area of importance. I feel confident that I will work further on it in the future; and I hope that the book will lure at least a few others. Kaushik Basu December 1999

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1. Introduction

1.1. Incident off Grand Trunk Road

The Grand Trunk Road is not quite as grand as it sounds, especially on the three odd hours' stretch between the towns of Bagodar and Dhanbad in eastern India. On a winter evening in the early 1990s I was traveling by taxi on this stretch, in order to catch a train to Calcutta, when we were forced to take a diversion. It was on this desolate road that we came across a ramshackle road-block. It was being manned by youngsters wielding lathis' and swords. In front of us, also stopped by the road-block, was a lorry, and the young men were talking to its occupants. From the sight of some distant lanterns I figured we were close to a village. While we waited for our turn, my taxi-driver turned towards me and in a whisper said that these youngsters were hoodlums collecting rangdari tax by threatening to beat up passengers and drivers. He asked me not to talk; to leave it all to him. I had read and heard about the illegal rangdari tax - extortion that occurs in some parts of rural India - but I had not met anybody who had direct experience of it. Such is the human urge to be first, that, despite the tense circumstance, I was quite excited at the prospect of encountering it ahead of my friends. Eventually, one of the youngsters strode up to our car and asked me to lower my window. He had a wad of paper in one hand and a lathi in the other. He explained that they were collecting a small sum of money, as rangdari tax, from every vehicle. After we paid it, which, he politely explained, we would have to, he would give us a receipt and we would be free to go. The end of the story is unimportant for my present purpose, but here it is for completeness. Not wanting a showdown, I reached for my pocket but my driver, made of sterner stuff, would have none of it. To my dismay he got into an altercation and was asked to get out of the car and talk to the boss, who stood nearby. After some animated discussion with the boss, the driver returned. The road-blocks were removed and as we sped away in the direction of Dhanbad my driver proudly told me how we had escaped

' Rods, usually iron or wood.