1.7 — Efficiency & Justice

# 1.7 — Efficiency & Justice
## ECON 410 • Public Economics • Spring 2022
### Ryan Safner Assistant Professor of Economics <a href="mailto:safner@hood.edu">safner@hood.edu</a> <a href="https://github.com/ryansafner/publicS22">ryansafner/publicS22</a> <a href="https://publicS22.classes.ryansafner.com"> publicS22.classes.ryansafner.com</a>

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# Efficiency

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# Efficiency

- Common .hi[tradeoff] between .hi[efficiency] and .hi[equity]

- .hi[Efficiency]: efforts to grow the economic pie
- .hi[Equity]: efforts to divide the pie fairly

- What is the role of the government in either?
]

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# Markets and Efficiency

- Economists traditionally care most about .hi[efficiency]

- Achieving a .hi-purple[specified goal] with as .hi-purple[few resources as possible]

- .hi-green[Examples]:
  - driving a car
  - carrying groceries
  - producing jeans
]

# Problem: What “Goal” for Society?

- We will ruminate more in the next few units

- .hi-purple[Society, government, etc. has no single, universally-agreed upon goal]
  - It’s not maximizing utility, profit, etc!

- “Society” is not a choosing agent!
]

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# Markets and Efficiency

.smallest[
- Preferences are .hi-purple[subjective] and left as given in economics
  - We leave it to individuals to be the best judge of whether they are better off
  - .hi-purple[Egalitarian] to a degree: nobody's preferences are dismissed or discounted

- .hi-turquoise[Higher incomes + freedom of choice = greater degree of preference satisfaction]

- Harder to directly evaluate outcomes
  - Better to look at basic processes & mechanisms (e.g. exchange)
]
]

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# Voluntary Exchange is Good

- Trade corrects mistakes in resource allocation

- The best justification for reallocation of resources (even via coercion) is consent

]

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# Markets and Pareto Efficiency

- Voluntary exchange is a .hi[Pareto improvement]: change in allocation that makes at least one person better off and making nobody worse off

- An allocation of resources is .hi[Pareto efficient] when there are no possible Pareto improvements

]

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# Markets and Pareto Efficiency

- Pareto efficiency is conceptual gold standard: allow all welfare-improving exchanges so long as nobody gets harmed

- In practice: Pareto efficiency is a *first best* solution
    - only takes one holdout to disapprove to violate Pareto

]

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# Markets and Kaldor-Hicks Efficiency

.smallest[
- .hi[Kaldor-Hicks Improvement]: an action improves efficiency its generates more social gains than losses
    - those made better off could in principle compensate those made worse off

- .hi[Kaldor-Hicks efficiency]: no potential Kaldor-Hicks improvements exist

- Keeps intuitive appeal of Pareto but more practical
    - Every Pareto improvement is a KH-improvement (but not the other way around!)
    
- Consider policies where winners' maximum WTP `$>$` losers' minimum WTA

- Policies should **maximize social value of resources**
]

]

![](https://www.dropbox.com/s/krmhqn3ryhk9l03/compensate.jpg?raw=1)

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# Market Efficiency in Competitive Equilibrium I

- .hi[Allocative efficiency]: resources are allocated to highest-valued uses
  - Goods produced up to the point where `$MB=MC$` `$(p=MC)$`
  - Maximize **economic surplus** `$=$` .hi-blue[Consumer surplus] `$+$` .hi-red[Producer surplus]

- .hi[Pareto efficient]: no possible Pareto improvements exist

]

]

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# Social Problems that Markets Solve Well

- **Problem 2**: Different people have different subjective valuations for uses of resources

- **It is inefficient (immoral?) to use a resource in a way that prevents someone else who values it more from using it!**

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# Social Problems that Markets Solve Well I

- .hi[Markets] are institutions that facilitate voluntary *impersonal* exchange and reduce transaction costs

- **Prices** measure **opportunity cost** of a particular use of a resource
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# Social Problems that Markets Solve Well II

- .hi[Prices] give us information about how to use scarce resources

- .hi[Profits] incentivize production and .hi[Losses] discipline waste
]

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# Welfare Economics

- .hi[1st Fundamental Welfare Theorem]: markets in competitive equilibrium maximize allocative efficiency of resources and are Pareto efficient

- Markets are great when they:

1. Are .hi-purple[Competitive]: many buyers and many sellers

2. Reach .hi-purple[equilibrium]: absence of transactions costs or policies *preventing prices from adjusting* to meet supply and demand

3. .hi-purple[No externalities] are present: costs and benefits are fully internalized by the parties to transactions

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# Justice

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# Justice

- What *is* .hi-purple[justice?]

> “Fiat justitia ruat caelum”

- Absence of .hi-purple[*injustices*]?

- .hi[Utilitarian/consequentialist] vs. .hi[deontological/natural rights] views of justice
]

.pull-right[
.center[
![:scale 100%](https://www.dropbox.com/s/hjzdnznrtkwn8aq/justiceblind.jpg?raw=1)
]
]

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# *Distributive* Justice

- .hi[Distributive justice] about the distribution of economic outcomes
  - property rights, income, wealth, political power
  - Overlap with .hi[*social* justice]?

- Is the current distribution just?

- Is there a case for reallocating resources (by coercion)?  
]

.pull-right[
.center[
![:scale 100%](https://www.dropbox.com/s/qtppr4p7gon9ej5/paretodistribution.png?raw=1)

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# (In)equality *within* Countries: Gini Coefficient I

.center[
![:scale 62%](https://www.dropbox.com/s/vx1bz53p3oj2jy0/Gini-measure-schematic-1.png?raw=1)
]

.source[Source: [Our World in Data: Income Inequality](https://ourworldindata.org/income-inequality)]

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# (In)equality *within* Countries: Gini Coefficient II

.source[Source: [Wikipedia](https://en.wikipedia.org/wiki/Lorenz_curve#/media/File:Lorenz_curve_global_income_2011.svg)]

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# (In)equality *within* Countries: Lower in Wealthier Countries

.source[Source: [Our World in Data: Income Inequality](https://ourworldindata.org/income-inequality)]

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# (In)equality *within* Countries: But Changing Over Time

.source[Source: [Our World in Data: Income Inequality](https://ourworldindata.org/income-inequality)]

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# (In)equality *Across* Countries Over Time

.center[
![:scale 30%](https://www.dropbox.com/s/zl1m3gjfj6xcn6z/Global-inequality-in-1800-1975-and-2015.png?raw=1)
]

.source[Source: [Our World in Data: Income Inequality](https://ourworldindata.org/income-inequality)]

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# Aside: Equality vs. Equity

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# Distributive Justice: Rawls vs. Nozick

John Rawls
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.pull-right[
.center[
![:scale 55%](https://www.dropbox.com/s/efn2jgg68mevt0q/nozick.jpg?raw=1)

Robert Nozick
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# Rawls: Overview

1921--2002
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- 1971, *Justice as Fairness*

- One of the most influential political philosophers in the 20th century

- A liberal social contract theory of the State

- Aims to reconcile liberty and equality; uncover principles of justice necessary for a good society
  - Allowing for pluralistic definition of "the good"
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# Rawls: The Original Position

1921--2002
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- .hi-purple["Original position"] where all participants of society determine the principles of justice for their society behind a .hi[veil of ignorance], where

> "...no one knows his place in society, his class position or social status, nor does anyone know his fortune in the distribution of natural assets and abilities, his intelligence, strength, [or even] their conceptions of the good or their special psychological propensities."

]

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# Rawls: Reflective Equilibrium

1921--2002
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- Rational individuals form a .hi[social contract] to provide rules

- If individuals do not know their relative positions in society, what would the .hi-purple[reflective equlibrium] be for the rules they establish to govern themselves?

- What rules would we expect all rational individuals to agree upon and view as **fair**?
  - Ahistorical, but we can compare real world policies and changes to this ideal outcome
]

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# Rawls' Principles of Justice

1921--2002
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1. .hi-purple[Greatest equal liberty principle]: Each person is to have an equal right to the most extensive total system of equal basic liberties compatible with a similar system of liberty for all

2. .hi-purple[Difference principle]: Social and economic inequalities are to be arranged so that they are both: (a) the greatest benefit to the least advantaged...[and] (b) attached to offices open to all under conditions of fair equality of opportunity
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# Rawls' Principles of Justice

1921--2002
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- Liberty is first priority (first principle)

- **Inequalities are permitted** to encourage division of labor and specialization, **provided they benefit the worst off**
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# Rawls' Justification

1921--2002
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- Justification of difference principle:

- Why not a pure .hi-purple[meritocracy] with an "equal start"?

- The start is not truly equal, result of .hi-purple["morally arbitrary"] factors
  - A genetic lottery of talent, born into family, etc.
  - Hard to claim that people **deserve** better outcomes because of these factors

- So focus on making the worst off best
]

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# Distributive Justice: Example

|    | `$D_1$` | `$D_2$` | `$D_3$` |
|----|------:|------:|------:|
| Person A | 10 | 3 | 6 |
| Person B | 6 | 3 | 5 |
| Person C | 2 | 3 | 4 |
| **Total** | 18 | 9 | 15 |
| **Average** | 6 | 3 | 5 |

]

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# Distributive Justice: Example

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- .hi-purple[Egalitarian]: equalize distribution `$(D_2)$`
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# Distributive Justice: Example

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- .hi-purple[Egalitarian]: equalize distribution `$(D_2)$`

- .hi-purple[Rawlsian]: distribution that maximizes benefit to the worst off `$(D_3)$`
]

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# Distributive Justice: Example

.pull-left[
|    | `$D_1$` | `$D_2$` | `$D_3$` |
|----|------:|------:|------:|
| Person A | 10 | 3 | 6 |
| Person B | 6 | 3 | 5 |
| Person C | 2 | 3 | 4 |
| **Total** | 18 | 9 | 15 |
| **Average** | 6 | 3 | 5 |

]

- .hi-purple[Utilitarian]: maximize total utility `$(D_1)$`

- .hi-purple[Egalitarian]: equalize distribution `$(D_2)$`

- .hi-purple[Rawlsian]: distribution that maximizes benefit to the worst off `$(D_3)$`
  - Focus on **absolute** position of worst off, rather than their **relative** position

]

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# Nozick: Overview

1938-2002
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- 1974, *Anarchy, State, and Utopia*

- Most influential response to Rawls

- Influenced by John Locke, Immanuel Kant, and F. A. Hayek

- The most mainstream libertarian/classical liberal philosopher in 20th Century

- Gives a libertarian account of rights, the origins of the State, and advocates for a minimalist "nightwatchman" State
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# Nozick: Distributive Justice?

1938-2002
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- "Distributive justice" is a squishy and non-neutral concept

- A category mistake: there is no "stock" of things *to be distributed* and no "one" *doing* the distributing

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# Nozick: On Rawls

1938-2002
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- Rawls' justice is a .hi-purple[patterned] or an .hi-purple[end-state] theory of justice

> *"Liberty upsets patterns"*

- Enforcing the pattern requires continually **violating individual rights**

- Redistribution would have to violate self-ownership and prohibit "capitalist acts between consenting adults"
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# Nozick's Theory of Justice

1938-2002
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- Nozick's is a **non-patterned** .hi-purple[entitlement theory] of justice

- Based heavily on John Locke's theory of property
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# Locke's Theory of Property

1632-1704
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.smallest[
> "Though .hi[the earth], and all inferior creatures, .hi[be common to all men], yet .hi[every man has a property in his own person]: this no body has any right to but himself. .hi[The labour of his body, and the work of his hands, we may say, are properly his]. Whatsoever then he removes out of the state that nature hath provided, and left it in, .hi[he hath mixed his labour with, and joined to it something that is his own, and thereby makes it his property]...that .hi[excludes the common right of other men]: for this labour being the unquestionable property of the labourer, no man but he can have a right to what that is once joined to, .hi[at least where there is enough, and as good, left in common for others]," (Ch. V).

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# Nozick's Theory of Justice

1938-2002
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- Nozick: individuals are .hi-purple[entitled] to their holdings if: 
  1. Their property was acquired justly
  2. They transfer holdings via consent

- Holdings are **unjust** if they violate 1 or 2
  - Rectification to redress these violations is just
]

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# Nozick vs Rawls

|    | `$D_1$` |
|----|------:|
| Person A | 100 |
| Person B | 100 |
| `$\vdots$` | `$\vdots$` |

]

- Imagine original distribution `$D_1$` that satisfies your favorite patterned principle (e.g. Rawlsian)

]

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# Nozick vs Rawls

|    | `$D_1$` |
|----|------:|
| Person A | 100 |
| Person B | 100 |
| `$\vdots$` | `$\vdots$` |
| LeBron James | 100 |

![:scale 80%](https://www.dropbox.com/s/hkm5im7ggmpk0ji/lebronjames2.jpg?raw=1)

]

- Imagine original distribution `$D_1$` that satisfies your favorite patterned principle (e.g. Rawlsian)

- Everyone freely decides to pay $1 to watch LeBron James play basketball
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# Nozick vs Rawls

|    | `$D_1$` | `$D_2$` |
|----|------:|------:|
| Person A | 100 | 99 |
| Person B | 100 | 99 |
| `$\vdots$` | `$\vdots$` | `$\vdots$` |
| LeBron James | 100 | 1,000,000 |

![:scale 80%](https://www.dropbox.com/s/hkm5im7ggmpk0ji/lebronjames2.jpg?raw=1)

]

- James now has a million, a much larger sum than any of the other people in society

- `$D_2$` is no longer ordered by our patterned principle

- Nozick: **how can `$D_2$` be considered an "unjust distribution"?**
]

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# Nozick's Theory of Justice

1938-2002
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- How can `$D_2$` be unjust if it was attained by a **just _process_**?

- On what grounds can we justify redistribution to maintain a pattern?

- .hi-turquoise[No patterned principle of justice is compatible with individual rights]
]