Evolutionary Economics and Economic Policy

2 August 2006 at 5:58 am 1 comment

| Nicolai Foss |

Among the many heterodox economics approaches, evolutionary economics seems to be the perhaps most thriving one, and also the one that is best able to gain some (albeit probably very limited) measure of respect from more mainstream economists. There is also significant overlaps with disciplines in business administration, particularly strategic management.

Among the reasons why evolutionary economics may have been a more successful intellectual enterprise than, say, “old” institutional economics, post-Keynesian economics, and Austrian economics is that it, in contrast to the other three heterodox approaches, embraces formal method, has a strong empirical orientation, and has been a strong voice on matters that relate to innovation and industrial change, areas where neoclassical economics has been rather silent.

It is clear that evolutionary economists see their approach as an encompassing one, and often see it is being a direct theoretical competitor to neoclassical economics. This is very clearly signaled in the locus classicus of the approach, Richard Nelson and Sidney Winter’s, An Evolutionary Theory of Economic Change from 1982.

There is, however, one point where evolutionary economics is remarkably weak, namely the theory of economic policy.To be sure, there are numerous pronouncements on policy in evolutionary economics, for example, discussions of technology/innovation policy, IPR policy, regional policies, something called “cluster policy”, etc. Observe also that these are virtually never defended by explicit references to welfare standards. This is perhaps not so surprising, because there are very few deep discussions in evolutionary economics that discuss evolutionary welfare economics (an old paper by Nelson from Bell Journal of Economics 1981 comes to mind). A further problem is that the underlying welfare standards seem to differ among the older writers that have inspired EE. For example, while Schumpeter held some kind of innovation or discovery standard, Hayek held a coordination standard.

However, evolutionary economists need to address the problem of which welfare standards are appropriate to evolutionary economics. In mainstream economics, asymmetric information has prompted rethinking of traditional welfare economics, as Joseph Stiglitz has continuously reminded us. Evolutionary economics proposes a much more radical re-orientation of economic theory. Does it have the same radical implications for welfare theory?

We are familiar with the problems of conventional Paretian welfare analysis (intransitive rankings, non-quasi-homothetic preferences, problems when prices are not at their long-run equilibrium values, etc.). Many of the phenomena that are central in evolutionary economics, such as innovation and endogenous preferences, seriously aggravate these problems. If the Paretian standard is particularly ill-suited for evolutionary welfare economics, what other standards may there be?

In practice, many evolutionary economists adopt historical standards: Identifies a historical success story (Finland in the 1990s?), and let the qualities that characterize this success story become the relevant standard. Sometimes they also adopt an implicit innovation standard, that is, any policy that promotes innovation is good.

It has always irritated me that evolutionary economists virtually never discuss the issue of whether there can be an optimum amount of innovation. The underlying claim seems to be that the maximum attainable amount of ínnovation is also the optimal amount. A possible defence of this standard may be that gven that we have in practice virtually no way of deciding on what is optimum innovation, we might as well conclude that the greatest feasible amount of innovation is also the optimum amount. The problem with the innovation standard is that it neglects that the ultimate purpose of economic activity is consumption rather than innovation. We should not neglect the more conventional standard of consumer welfare.

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1 Comment Add your own

  • 1. pj  |  2 August 2006 at 8:04 am

    In Nelson and Winter’s approach, there is nothing to tend to make innovations progressive, since these are random and unmanageable. Only selection weeds out bad from good. In this model, if the costs of selecting out bad innovations is less than the utility of good innovations, then the optimal rate of innovation is infinite; if the costs of selecting out bad innovations is greater, than the optimal rate of innovation is zero. It’s hard for them to get anything inbetween without introducing an ability to manage innovation — i.e. for managers to identify in advance innovations that will be beneficial and consciously implement just those. But if managers can do this, it’s no longer ‘tacit’ knowledge that’s evolving. The model becomes an ‘intelligent design’ model. And that’s not politically correct.

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