Following up on my economics and value posts from last month (here and here), I’ve been trying to do a little research on how economists presently think about the relationship between value and economic growth. It’s a difficult proposition, frankly, because the concepts involved are so slippery. Most of the normal measures of value generation (real income, standard of living, etc.) operate under the assumption that more equals better: the more goods and services that are available to buy (and are bought), the better off everyone is. While true to an extent, this approach ignores obvious side effects that often go along with “more” such as pollution, crime, urban crowding, resource depletion, and so forth. But that’s not the only problem: the other issue is that more of A is not the same as more of B. In other words, are we better off if the market for wireless internet access is developed or the market for hot dogs is developed? If they result in an equal total value of financial transactions, the numbers say no….but I think we’d all agree that internet access is more useful. And not just in the grand societal sense of spreading democracy and all that, but in an economic sense too: broadening wireless access does much more to making further increases in goods and services possible in the future than does adding a hot dog a day to everyone’s diet.
The economic issues that I’ve been wrestling with for the past two years center around the concept of externalities. An externality is a cost or benefit imposed upon or granted to anyone who is not party to a direct transaction. Although we usually tend associate them with negative effects, most commonly environmental impacts like pollution and global warming, important positive externalities are possible as well, like network effects associated with the widespread adoption of common standards, or the positive spllover that a new art gallery opening has on the value of the house across the street. In the hot dog vs. wireless example above, we have positive externalities such as network effects and knowledge spillover on the wireless side, vs. negative externalities of an increase in obesity, decline in overall health, and the environmental consequences of meeting the demand for meat products on the hot dog side. Since externalities by definition do not affect the transaction itself, economists have a nasty habit of ignoring them (the issue is first mentioned in chapter 17 of my microeconomics textbook, and is tellingly the only topic without an article yet in right-leaning economist Russell Roberts’s “Ten Key Ideas: Opening the Door to the Economic Way of Thinking”). Yet in any kind of public policy work, whether in government, nonprofit, or social enterprise contexts, thinking about the whole is essential — and that means thinking seriously about externalities.
The Holy Grail of economic thinking is a way to have externalities accurately reflected in prices, much the same way that investors (try to) price out risk in financial transactions. Numerous initiatives in this direction, from investment heuristics like SROI, expected return, and Best Available Charitable Option to broad-based macroeconomic indices like the Genuine Progress Indicator, have tried to integrate several different concepts of value into one overarching social metric. By choosing to deal with life in all of its complexities, however, they forfeit the easy modeling that’s possible in traditional economics’ vacuum-packed artificial world, making the pursuit of exactitude exceedingly difficult. Not to mention that these tools can suffer from conceptual difficulties of their own. I plan to explore them more carefully in the coming weeks, but my initial sense is that they typically narrow the focus to only a few externalities, deal with them in a manner that greatly oversimplifies the way they actually work, and treat them as isolated linear effects rather than complex functions that interact with and are affected by each other. It’s not to say that they aren’t steps in the right direction, but the destination appears to be a long way off yet.
For now, though, we can at least think about what kinds of economic activity ought to be relevant to those concerned about maximizing positive externalities and minimizing relevant ones. Rather than trying to develop a single unifying theory of value, which is, as President Obama might say, above my pay grade for the moment, I want to focus the discussion initially on financial transactions alone. In doing so, I hope to preserve at least some hope of being able to price externalities in to existing models, figuring that a business case for some of these things could made more easily that way.
We can do this via a simple method: 1) pinpoint desirable economic outcomes; 2) step back and say “how is this made possible?”; 3) repeat. This is the same method used for developing theories of change at the philanthropic level, and can be incredibly effective for mapping out short-term strategies for long-term goals. Working this out, even at a very high level, will take much more than one post. But here is the first step in case you want to follow along at home. Since I’ve chosen to limit things to the language that economists already use, there’s exactly one desirable economic outcome: more transactions for more goods and services. Thus the first question is: what makes such a thing possible?
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Value generators
Following up on my economics and value posts from last month (here and here), I’ve been trying to do a little research on how economists presently think about the relationship between value and economic growth. It’s a difficult proposition, frankly, because the concepts involved are so slippery. Most of the normal measures of value generation (real income, standard of living, etc.) operate under the assumption that more equals better: the more goods and services that are available to buy (and are bought), the better off everyone is. While true to an extent, this approach ignores obvious side effects that often go along with “more” such as pollution, crime, urban crowding, resource depletion, and so forth. But that’s not the only problem: the other issue is that more of A is not the same as more of B. In other words, are we better off if the market for wireless internet access is developed or the market for hot dogs is developed? If they result in an equal total value of financial transactions, the numbers say no….but I think we’d all agree that internet access is more useful. And not just in the grand societal sense of spreading democracy and all that, but in an economic sense too: broadening wireless access does much more to making further increases in goods and services possible in the future than does adding a hot dog a day to everyone’s diet.
The economic issues that I’ve been wrestling with for the past two years center around the concept of externalities. An externality is a cost or benefit imposed upon or granted to anyone who is not party to a direct transaction. Although we usually tend associate them with negative effects, most commonly environmental impacts like pollution and global warming, important positive externalities are possible as well, like network effects associated with the widespread adoption of common standards, or the positive spllover that a new art gallery opening has on the value of the house across the street. In the hot dog vs. wireless example above, we have positive externalities such as network effects and knowledge spillover on the wireless side, vs. negative externalities of an increase in obesity, decline in overall health, and the environmental consequences of meeting the demand for meat products on the hot dog side. Since externalities by definition do not affect the transaction itself, economists have a nasty habit of ignoring them (the issue is first mentioned in chapter 17 of my microeconomics textbook, and is tellingly the only topic without an article yet in right-leaning economist Russell Roberts’s “Ten Key Ideas: Opening the Door to the Economic Way of Thinking”). Yet in any kind of public policy work, whether in government, nonprofit, or social enterprise contexts, thinking about the whole is essential — and that means thinking seriously about externalities.
For now, though, we can at least think about what kinds of economic activity ought to be relevant to those concerned about maximizing positive externalities and minimizing relevant ones. Rather than trying to develop a single unifying theory of value, which is, as President Obama might say, above my pay grade for the moment, I want to focus the discussion initially on financial transactions alone. In doing so, I hope to preserve at least some hope of being able to price externalities in to existing models, figuring that a business case for some of these things could made more easily that way.
We can do this via a simple method: 1) pinpoint desirable economic outcomes; 2) step back and say “how is this made possible?”; 3) repeat. This is the same method used for developing theories of change at the philanthropic level, and can be incredibly effective for mapping out short-term strategies for long-term goals. Working this out, even at a very high level, will take much more than one post. But here is the first step in case you want to follow along at home. Since I’ve chosen to limit things to the language that economists already use, there’s exactly one desirable economic outcome: more transactions for more goods and services. Thus the first question is: what makes such a thing possible?
Related posts: