Market failures vs government failures

In his address to the European Economic Association yesterday in Barcelona, Sir Nicholas Stern, president of the association and author of the world-famous report on climate change that bears his name, traced the development of public economics and economic policy over the last half century. He described how since the 70s, these subjects shifted from James Meade's preocupation with market failures to James Buchanan's emphasis on government failures. In his opinion, the last three decades have witnessed an increasing influence of ideological winds on the profession. The market triumphalism of the 80s gave strength to simplistic applications of some economic theories, like the efficient market hypothesis (that we have address already in this blog), to policy. The teachings on externalities, adverse selection, moral hazard and other market failures pioneered by major economists like Kenneth Arrow or Jean-Jacques Laffont were forgotten because the prevailing political winds blew in the opposite direction. Stern made these winds partially responsible for the current crisis. But also to the Economics profession as a whole, a profession that, in his opinion, with its rapidly increasing balkanization and compartimentalization was not able to resist them.

In the second part of his address, Stern argued that only a broad and encompassing effort by economists would be able to respond to the two main challenges the world faces today: Climate change and the alleviation of poverty, two goals that, he added, must be tackled jointly. Stern argued that we already own some of the necessary tools to do this. We, economists, just simply forgot them. He added that nevertheless these are just starting points (pigouvian taxes on externalities would not be enough to do the trick) and that the new advances on behavioral economics, institutional economics and theories of justice were the lines to follow.

Some of the final points made by Stern were slightly more vague. He argued that discussion and deliberation are necessary to achieve these objectives. These procedures are of paramount importance if we want a complete shift in preferences and views on individual responsability, in the same way in which decades ago society decided through public debate that driving under the influence of alcohol should be sanctioned. In the meantime, the Economics profession should enlighten such debate with new research primarily focused on market failures rather than on government misdeeds.

You can watch the lecture in full here.