Wednesday, 10 October 2018

Sam Hammond on co-determination, corporate governance, and the accountable capitalism act

From David Beckworth’s podcast series, Macro Musings comes this audio of an interview with Sam Hammond on Co-Determination, Corporate Governance, and the Accountable Capitalism Act.

Sam Hammond is a policy analyst and covers topics in poverty and welfare for the Niskanen Center. Sam is a previous guest on Macro Musings, and he joins the show today to talk about his new article in National Review which addresses Senator Elizabeth Warren’s new proposal, the Accountable Capitalism Act, and its potentially negative effects. David and Sam also discuss the problematic stereotypes surrounding ‘corporate bigness’, the positive and negative features of co-determination, and why we need universal safety nets.

Tuesday, 9 October 2018

Dionysius Lardner and the theory of the firm

The classical economists did not leave us much in terms of a theory of the firm. But one person who did make a contribution during the later classical era, albeit a contribution largely forgotten now, was Dionysius Lardner. Lardner is part of a group of pre-1870 writers that Ekelund and Hebert (2002) has referred to as "Proto-Neoclassicals". They summarise Lardner's contribution made in his 1850 book Railway Economy as he "[a]nalyzed railroad pricing structures; developed simple and discriminating monopoly analysis; analyzed monopoly firm in terms of total cost and total revenue, both mathematically and graphically (with an implicit demand curve)" (Ekelund and Hebert 2002: Table 1, p. 199).

One important contribution Lardner did make was to foreshadow aspects of the neoclassical theory of the firm. Lardner modelled a profit maximising firm and analysed its choice of price (and thus implicitly quantity) using revenue and cost curves, and implicitly a demand curve. He effectively showed that a profit maximum would occur when "marginal revenue" equals "marginal cost".

To understand Lardner's reasoning consider Figure 1

Figure 1

Source: Lardner (1850: ???).

In this Figure, the solid bell-shaped curve is what we would refer to today as a total revenue curve, but where the curve is graphed in revenue/output-price space rather than the standard revenue/quantity space, that is, the horizontal axis measures the price of output. At low prices revenue is also low, but as demand is inelastic revenue increases as price increases. It reaches a maximum, point P in Figure 1, and then as demand becomes more elastic, revenue falls as price continues to increase. While Lardner did not argue explicitly in terms of decreases elasticity, he did come close,
"[n]ow, if a less value still be assigned to the tariff, such as Om", the receipts will be augmented, because the influence of the increased number of objects booked, and the increased distances to which they are carried, owing to the diminution of the tariff, will have a greater effect in increasing the gross receipts than the reduction of the tariff has in diminishing them. By thus gradually diminishing the tariff, the traffic will increase both in quantity and distance, and the gross receipts will be placed under the operation of two contrary causes, one tending to increase, and the other to diminish them. So long as the influence of the former predominates, the gross receipts will increase ; but when the effect of the reduction of the tariff counterpoises exactly the effect of the increase of traffic in quantity and distance, then the increase of the gross receipts will cease. After that, the influence of the reduction of the tariff in diminishing the receipts will predominate over the influence of the increased traffic in augmenting them, and the consequence will be their diminution" (Lardner: ???).

The negatively sloped dashed line, Yy, is the total cost curve, again where the curve is graphed in cost/output-price space rather than cost/quantity space. This explains why the curve is negatively sloped. As the price of output increases the quantity demanded falls, i.e., implicitly Lardner is using a demand curve here, and as quantity falls the variable costs of production fall. Fixed costs, the vertical distance Xy, still needed to be paid. Lardner's cost curve shows total costs, fixed plus variable, declining due to the reduction in variable costs.

Lardner notes that the profit maximising point is to be found somewhere between P and s' in Figure 1, at a point where the vertical height of the revenue and cost curves decrease at the same rate. Fortunately, he then clarifies this by stating,
"[t]his may be geometrically expressed by stating it to be the point at which the two curves become parallel to each other" (Lardner 1850: ???).
This observation would be expressed today by saying that "marginal revenue" equals "marginal cost". Note however that for Lardner both "marginal revenue" and "marginal cost" would be defined in terms of the derivative with respect to output-price rather than quantity.

Lardner's explanation also shows that the profit maximising price is greater than the revenue maximising price, point P, that is, the profit maximising quantity is less than the revenue maximising quantity.

All this explains why Mark Blaug can write that Railway Economy is "a book containing the first exposition in English of what approximates to the modern [neoclassical] theory of the firm" (Blaug 1997: 293).

  • Blaug, Mark (1997). Economic theory in retrospect, 5th ed., Cambridge: Cambridge University Press.
  • Ekelund, Robert B. Jr. and Robert F. Hebert (2002). 'Retrospectives: The Origins of Neoclassical Microeconomics', Journal of Economic Perspectives, 16(3) Summer: 197-215.

Friday, 5 October 2018