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Wednesday 3 February 2010

The Economy The Marginal Rule Of Wicksteed

The Economy The Marginal Rule Of Wicksteed
"THE MARGINAL RULE OF WICKSTEED" by Jeffrey Tucker

"Finally, my obsession comes to an end. For a full week, I've thought about not much else besides the economic concept of "marginal utility." It has consumed me completely. I've come to realize how much it pervades my thinking about virtually everything. I first heard about the notion in college, but one book revived the whole topic for me. It is Philip Wicksteed's "The Common Sense of Political Economy." It's a book that makes economic logic real in our lives.

"The Common Sense of Political Economy" is an excellent example of a rediscovered classic - a book of profound importance in its time that came to be lost in the shuffle for no good reason. I read it for the first time only recently, and the importance of the book overwhelmed me. Here is a treatise on economics written at the dawn of the discovery of the great principle of modern economics: marginal utility. It is as mighty and significant as Adam Smith's Wealth of Nations or Ludwig von Mises' Human Action, and like these books, it is not just a dusty old tome, but one that speaks directly to the great issues of our time.

This is why I'm thrilled that Laissez Faire Books is the publisher of this new edition, the first modern edition with American spellings, correct graph placements, cleaned-up citations, and perfect navigation. Also, a great teacher of modern economics has written a great introduction to it. He is Peter Boettke of George Mason University. He writes as if the author is an old friend and the ideas he is discussing are at the front of his mind always. Wicksteed's clarity exceeds any other presentation I've read, mainly because it is not a translation, but in English originally. Wicksteed's enthusiasm, even love, for the topic itself is obvious on every page. He is like a tour guide in a great castle who turns on lights in room after room and proceeds to explain everything in each room with precision and excitement. The reader can detect this in his prose.

Why does he put the phrase common sense in the title? There are two meanings. He sought to bring a certain unity to the opinions and debates within economics at the time. The principle of marginal utility had been written about and taught for several decades. It was the great discovery within economic theory of the last half of the 19th century, but was only then becoming the full consensus of the science itself. Wicksteed sought to make the marginalist way of thinking the "common" way.

The second way he uses the term is to capture the effect of marginalist thinking on the human mind. Once you get the principle, the functioning of the world becomes clearer to you. What was previously mysterious now seems rather obvious. What had previously baffled you now seems perfectly clear. The marginalist way of thinking becomes, in the most colloquial use of the phrase, "common sense."

Wicksteed writes with the passion of a hobbyist (he was actually a Unitarian minister in "real life"), but with a precision that exceeded all the professional economists of his time. It still stands as the most elaborate, detailed, and extensive exposition of the idea ever written. If you stick with his argument from beginning to end, your thinking will be permanently affected. You will see marginal utility all around, in every economic action. It will provide new ways of thinking of prices, resources, and human behavior. You will have an impenetrable edifice against the fallacy of thinking of the value of whole classes of goods and services, and instead will see value as exclusively attached to the incremental choice of the acting person.

What is marginalism? It is the notion that economic value extends from the incremental choice one unit at a time. Why does this matter?

Let me give the nearest example at hand. I have a cup of coffee in front of me. I made it with my Keurig coffee maker. Each Keurig cup costs 50 cents. Is that too much or too little? On the one hand, it is crazy expensive. I could pay 4 for a full can of coffee and make probably 40 cups, paying only 10 cents per cup. Why don't I do this? Because my choice is made at the margin. I'm not evaluating a whole stock of a good. I'm making my value judgments on just the one cup of coffee that I want to drink right now. This is the relevant unit, not some abstraction concerning how much coffee is at the store or on the ships coming from Africa or the whole stock of coffee growing in plantations all over the world. What matters to me in making the choice of whether the coffee is "worth it" is the cup right in front of me.

The classic puzzle that marginal utility sought to solve was this: Why are diamonds so much more valuable in the market than water, even though water is obviously more necessary for life? Just on the face of it, shouldn't it be the reverse? Marginalism solves the issue. The choice for one or the other is made on the incremental unit, not on anyone's opinion on the value of the whole class of goods.

From the point of view of human choice, water is usually far more plentiful and available than diamonds, whereas diamonds are much less so and, therefore, have a much higher value per unit. The situation could reverse itself in a different social context. A man dying of thirst in the desert will pay far more for water than diamonds. This is how prices come to be: The choice at the moment of decision-making for or against the increment of what is available right now.

Marginal utility theory solves many other seeming mysteries. Why are movies that cost tens of millions of dollars to make available for download for only a few bucks or even for free, while video games that might cost only a few thousand dollars to make priced 50 and 100? The answer is that the user is not making judgments based on the cost of production, but only on the use value of one unit to him or her at the point of decision making.

Marginalism helps explain wage puzzles too. Why do plumbers make so much more money than baby sitters, even though baby sitters are guarding and protecting human lives and plumbers are only unstopping drains? The baby sitter might indeed have great total utility to society, but the market makes judgments on the margin. Baby-sitting services are much easier to come by, whereas plumbing services are relatively scarcer. Consumers do not care about total utility; they care about obtaining the service in the one instance in which they need it. That decision is what determines the price.

This insight further addresses wage issues that would otherwise mystify people. Why does a basketball star, who would seem to provide nothing necessary to human life, make so much more money than a reading teacher, who is teaching a crucial skill? Again, it is not the total utility of the task that matters for economics, but the utility of the incremental choice of the acting person.

Why, on holidays, are restaurants open but banks closed, when surely banking provides a more unique service to society and anyone can cook stuff at home anytime? The answer is that restaurants make higher profits on the margin on holidays, when people want to go out to eat, whereas the banks have discovered that their profit margins are best served by opening when people tend to do their banking, which is not on holidays.

Marginalism helps illuminate many other economic concepts, such as opportunity cost (the real cost of anything is the thing you give up to get it), subjective value (economic value resides in the human mind, not the physical good), diminishing marginal utility (the more of each additional unit you buy, the less you are willing to pay for it), and the relationship of cost and price (the cost of a good never dictates its market prices; indeed, the reverse is true). It provides insight in nearly every aspect of human behavior.

Once you begin to think about the margin, the scales truly do fall from your eyes.

You will notice the book is gigantic. But it is also a joy to read, because Wicksteed's own enthusiasm is infectious. Maybe you will be like me and truly come to admire and genuinely like the man behind the prose. I appreciate his spirit of discovery and exposition. It's absolutely marvelous that he can speak to us again, a full century and two years after his masterpiece first came out. It's a big, but worthy task to go on this tour of economic reality with him. Marginalism will become your "common-sense" way of viewing the world when you've finished."- http://dailyreckoning.com/