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Driesen on Cost Benefit Analysis (CBA) vs. Economic Dynamic Analysis (EDA)

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2 Responses

  1. A FEW CLARIFYING RESPONSES TO MICHAEL LIVERMORE

    I want to thank Michael Livermore for a thoughtful post. I confine myself for the moment to making a few clarifications.

    My argument that the neoclassical law and economic framework contributed to our failure to adequately address key policy problems does not not rely on a claim that cost-benefit analysis (CBA) always suggests that we should do little about systemic risk. With respect to the financial crisis, we never carried out formal CBA of the deregulatory measures (nor could we have) that led to the crisis. Instead, proponents assumed that the prior regulation was not needed because rational market actors would protect themselves, and thus the rest of us, from harm. (pp. 36-37, 39). Of course, we have carried out CBA of climate disruption. Although proponents of CBA imagine that such a clear and rigorous method yields an answer, I show that that CBA has been all over the map on this issue. (pp. 206, 225). A commitment to avoiding systemic risk would have taken us in the direction of aggressive action even in the days when Nordhaus’ CBA suggested rejecting the Kyoto Protocol.

    My argument about the neoclassical framework’s contribution to policy failure is subtle. I blame neoclassical law and economics for contributing to an overall deregulatory climate, by tending to glorify markets as a model. (pp. 22-32, 211-12, 234). I won’t belabor the point, but it seems that Livermore has focused on one or two mentions of Nordhaus’ earlier work and paid less attention to the broader argument. (p. 212).

    My book does not argue that avoiding systemic risk and providing economic opportunity should constitute our sole normative commitments, any more than serious proponents of conventional law and economics argue that efficiency should be our only normative commitment. Like Richard Posner, I accept that the political process may legitimately make normative commitments not explained or justified by economic theory. I merely argue that economic theory should focus on more important goals than mere efficiency, and specify systemic risk avoidance and keeping open a robust set of economic opportunities as the two key goals for a better law and economics.

    The book argues that economic dynamic analysis is not only useful for pursuing the normative goals my theory highlights, but for pursuing other normative goals (e.g. justice) as well. (p. 227). Livermore argues that economic dynamic analysis defaults to either minimum or maximum regulation. Economic dynamic analysis is simply a means of appreciating the tendencies of society and the consequences of proposed legal reforms. By itself, it says nothing about normative values. Of course, the economic dynamic theory as a whole does say something about values, arguing that avoiding systemic risk and keeping open a reasonably robust set of opportunities is more important than economic efficiency.

  2. In the world of law and economics it is difficult to offer any reasonable alternative to the “mainstream”; and the typical response to alternative works is that to the extent the alternative comes close to the norms of standard economic analysis it makes a constructive contribution (or more typically, adds nothing new), and to the extent it strays, it runs into “unattractive territory”, as Livermore states. The problem with mainstream economic analysis of law, and a critical point raised by David’s work is that one can use market tools in evaluating law without having to be committed to a particular “school” of economics.

    Economic dynamics is in some respects a search for what I have described as the difference between understanding markets and understanding economics. Economics is simply one way of interpreting observations about market interactions and dynamics; and neoclassical economics is simply one subset within economics. Market theory is not the same as economics. Market theory is focused on dynamic exchange over time, and the legal frameworks that best facilitate creativity, entrepreneurship, and innovation; not simply cost effective decision making based on static assumptions. While there is overlap between market theory and economics, and while economic concepts are used in thinking about market implications, the two cannot simply be conflated into one.

    David’s work offers an alternative framework for thinking about the market context of law. His focus on precaution and on the interplay of micro and macro forces over time assists us in asking new and important questions, and guides us in thinking about potentially new approaches. In so doing, he also points out important problems that arise in the application of standard neoclassical economic tools to law.

    In his example of the financial crisis, for instance, he not only speaks to systemic risk but to the problems of dealing with the changing scale of socio-economic activity. Today we have globally integrated financial markets, for example, and this large scale integration can lead to equally large scale financial disruptions when problems arise. The inability to isolate and contain these disruptions can turn small problems into catastrophic problems in a very short time. While markets might be able to process the consequences of these problems quickly in terms of rapid adjustments in relative prices, people are not able to adjust their lives and relationships so easily. Consequently, it is important to address both micro and macro level activities and implications simultaneously, and to take a precautionary approach to risk that might be deeply disruptive in human terms.

    David’s approach to the economic dynamics of law offers us an additional way of understanding the market context of law; and where he strays from standard neoclassical economic assumptions he often takes us to more interesting territory.