Post-Keynesian consumer choice for the economics of sustainable forest management Marc Lavoie University of Ottawa.

Post-Keynesian consumer choice for the economics of sustainable

forest management

Marc Lavoie

University of Ottawa

Heterodox vs Orthodox economics

• NON-ORTHODOX PARADIGM

• HETERODOX PARADIGM

• POST-CLASSICAL PARADIGM

• RADICAL POLITICAL ECONOMY

• REVIVAL OF POLITICAL ECONOMY

• ORTHODOX PARADIGM

• DOMINANT PARADIGM

• THE MAINSTREAM

• NEOCLASSICAL ECONOMICS

Examples of heterodox schools

• Post-Keynesians

• Marxists, Radicals

• Institutionalits

• Social and Humanistic economists

• Structuralists

• New Keynesians of the third kind?

Paradigm

Presupposition Heterodoxy Orthodoxy

Epistemology Realism Instrumentalism

Ontology Holism Individualism

Rationality Ecological rationality Hyper rationality

Theoretical Core Production, growth Exchange, scarcity

Political core State Intervention Free markets

Presuppositions of heterodox and orthodox programmes

POST-KEYNESIAN FEATURES• The principle of effective demand

– Both in the short and in the long run

• The importance and irreversibility of time– Historical time– (Knightian) Fundamental uncertainty– Dynamics, the traverse– Hysteresis– Multiple equilibria

• No confidence in market mechanisms and price substitution effects to bring about optimal solutions

– (e.g., Cambridge capital controversies)

• Pluralism of methods and theories

PK choice theory

• Not that much has been written• However, what has been written by the

best-known PK writers is relatively consistent

• Joan Robinson, Luigi Pasinetti, Alfred Eichner

• The relative importance of income effects and the relative lack of importance of substitution effects

PK choice theory: Inspiration

• René Roy (Econometrica 1943)

• Nicholas Georgescu-Roegen 1954, 1966

• Peter Earl 1983, 1986, now editor of Journal of Psychological Economics

• Some work in behavioural economics

• Humanistic economics (Lutz and Lux 1979)

Needs versus wants

• “In the final analysis, and with particular reference to consumer phenomena, we think that the concept of urgency in satisfying human needs tends to create a ranking scale of consumer goods such that they can be classified into groups, whereas the concept of taste is expressed within each group in terms of individual consumers’ choice of articles meeting their personal preferences. Within groups, the availability of substitutes and complementary goods helps to determine consumer demand for specific articles.” (Roy 1943, translated 2003)

Seven PK principles of choice• Procedural/Ecological rationality

– Non-compensatory rules• Satiable needs

– Tresholds• Separability of needs (needs vs wants)

– Utility trees, incommensurability, incongruity, weak comparability• Subordination of needs

– Hierarchy, irreducibility, dominance, lexicographic choice• Growth of needs (income effects, Maslow’s pyramid)

– Physiological, safety, social, esteem, moral• Non-independence

– Imitation, lifestyles, marketing (J.K. Galbraith, Veblen)• Heredity

– Choices are reference dependent; path dependence

Examples of non-compensatory choice

• First choice to make: Do you prefer State A or State B?– State A: Certain to get $100– State B:

• 10% probability of getting $500• 89% probability of getting $100• 1% probability of getting $0

• Second choice to make: Do you prefer State C or State D? – State C:

• 11% probability of getting $100• 89% probability of getting $0

– State D: • 10% chance of getting $500• 90% chance of getting $0

Choices that involve both certainty and uncertainty are not truly equivalent

• If you chose A, you should also choose C (or if you chose B, you should also choose D)

• Why? If you chose A then, • U(100) > .10U(500) + .89U(100) + .01U(0)• Or: .11U(100) > .10U(500) + .01U(0)• So you should also have chosen C because:• .11U(100) + .89U(0) > .10 U(500) + .90U(0)• Or: .11U(100) > .10U(500) + .01U(0)

PK vs Ecological economics

• Tight links between PK and ecological economics of choice

• The precautionary principle (radical uncertainty)

• The heredidity principle

• Multidimensional choice

• «Choices without prices without apologies »

Robinson on PK consumer theory

• [vi] ...There is a kind of competition in consumption, induced by the desire to impress the Joneses, which makes each family strive to keep up at least an appearance of being as well off as those that they mix with, so that outlay by one induces outlay by others.... [iv] Generally speaking, wants stand in a hierarchy (though with considerable overlaps at each level) and [v] an increment in a family's real income is not devoted to buying a little more of everything at the same level but to stepping down the hierarchy. [Robinson, 1956, p.251, 354].

Arestis

• [iii] .... Purchases of various consumption goods are thought to serve different physical needs so that substitution can only take place within extremely narrow subcategories. [vi] Secondly, substitution possibilities are very much limited by social conventions and acquired tastes .... [iv] Household expenditures are assumed to follow a lexicographic ordering. [Arestis, 1992, p. 124].

Schefold

• [iii] As far as I can see, all theories of wants and their satisfaction (except the neoclassical) negate the generality of substitution and postulate hierarchies of needs and their satisfaction.... [iv] To the extent that there is a hierarchy of wants, a system of preferences allowing the construction of a utility function with the appropriate properties of substitutability does not exist.... First elementary needs have to be fulfilled before there comes the turn of higher needs; in the extreme, there is no substitutability whatever between them (though there may be a substitutability between goods fulfilling the same need). [Schefold, 1997, p. 327].

Nell

• [ii] The moral is that price changes may have little or no effect over a substantial range, and then suddenly have large effects, sometimes in unexpected directions.... [vi] Of course, even within a given lifestyle a social function can normally be filled in a number of alternative ways, substitutes for one another, so that price changes will lead to changes in consumption. [iii] But these substitutes are all goods or services of the same category....Within categories, substitution holds, but between categories complementarity tends to be the rule.... The more specific the good, the greater will be the possibilities of substitution, the more general the category, the more fixed the complementarity [Nell, 1992, p.396-7].

Pasinetti

• [iv] ...Although possibilities of substitution among commodities are of course relevant at any given level of real income, there exists a hierarchy of needs. [v] More precisely, there exists a very definite order of priority in consumers' wants, and therefore among groups of goods and services, which manifests itself as real incomes increase. [Pasinetti, 1981 p.73].

Eichner

• [v] ...Post-Keynesians generally assume that, in an economy that is expanding over time, it is the income effect that will predominate over the relative price, or substitution, effects.... [iii] Substitution can take place only within fairly narrow subcategories. [iv] Consumer preferences are, in this sense, lexicographically ordered... . [vi] A household's consumption pattern, at any given point in time, thus reflects the lifestyle of the households that constitute its social reference group. [Eichner, 1986, p.159-60].

Roy 1943: Implications for price theory

• “As a result of the hypothesis that was made regarding the allocation of income, any price change related to a group of rank i will have no impact on the demand for groups of a lower rank, whereas it will influence not only the demand for group i but also that for all groups of higher ranks. We can also flesh this out by saying that price variations for luxury objects will have no influence on the demand for necessities or products that are associated with a simple degree of comfort but are not in the luxury group. More precisely, we can add that the variation of prices for champagne will have no influence on the consumption of table wine, while instead a price variation for table wine could actually influence the demand for champagne”.

Lexicographic choice in ecological economics

• Edwards 1986• Stevens 1991• Lockwood 1996• Spash and Manley 1998• Spash 1998• Van den Bergh et al. 2000• Gowdy and Ayumi 2001

• Dismissal of the neoclassical axiom of indifference (axiom of continuity) or axiom of gross substitution

Figure 1 The neoclassical indifference approach

and the hesitation region

Y

F

A

B

C

B’

C’

D

D’

More preferredarea

Indifference area[hesitation region]

Indifference area[hesitation region]

Less preferredarea

f0

y0

Neoclassical:B > AC < Athere exists D = ADAD’ indifference curve

EcologicalHesitation areasIntransitive choices, weakly comparable

Figure 2Choices of a lexicographic nature with thresholds

Y

F

A

B

C

B’D

A’More preferredarea

Less preferredarea

Less preferredareaLess preferred

area

f0

y0Threshold

B > B’ > A’ > A > D > CNo continuity: D not = A

Implications of lexicographic ordering for contingency evaluation• Definitions:• WTA: willingness to accept: “how much

would you be willing to accept to abandon (or to sell) this preserved forest to company exploitation?”

• WTP: willingness to pay: “how much would you be willing to pay to take away this forest from the existing exploitation of companies?”

Implications of lexicographic ordering for contingency evaluation• In theory, WTP and WTA (WTS) estimates

should be very close to each other• In practice, WTA >> WTP (Knetsch,

Gowdy), specially in cases of incommensurability

• Possible explanations:– Heredity principle (we hold on more dearly to

something which we already have)– Ordering of a lexicographic nature

Anomalous responses in contingency studies

• Large number of zero bids• Large number of infinite bids• Several refusals to bid• The willingness to sell will be undefined for agents that

hold preferences of a lexicographic nature whenever their income exceeds their minimum standard of living. In that case, “an altruist committed to the welfare of wildlife and future generations is expected to protest against contingent markets when asked for minimum WTS by either refusing to bid, bidding zero dollars, or bidding an extremely high amount” (Edwards 1986, 149).

Lexicographic ordering

• Lockwood (1996, 99) concludes that his pilot study shows “that some individuals do have complex preference maps which include regions of lexicographic preference for the protection of native forests from logging”.

• Stevens and al. (1991, 398) claim that most respondents gave answers that were inconsistent with both the neoclassical trade-off approach or the lexicographic theory. “However, 80 percent of the remainder gave responses that were consistent with lexicographic preference orderings”.

Further evidence of ordering of a lexicographic nature

• Spash and Hanley (1995) have investigated the motives behind zero bids. They found that nearly none of the zero bids were given for reasons of zero value. Rather, some participants to the study said that they could not afford to pay anything, while most zero-bidders claimed that ecosystem rights ought to be protected at all costs, and hence should be protected by law.

• Kahneman and Knetsch (1992, 69) claim that participants to contingency evaluation are bound to respond with indignation to questions about accepting more pollution over existing pristine landscapes, this indignation being expressed by “the rejection of the transaction as illegitimate, or by absurdly high bids”.

Figure 3Neoclassical contingency value assessment,

with indifference curves

Income Y

Forest size F

yc

D

C

B

yd

A

f0

y0

fd

U0

U-

WTA = yd – y0

WTP = y0 – yc

Nearly equal

A = D, B = C

Figure 4 Contingency value assessment with choices of a lexicographic nature: quasi-indifference curves

(graph: Edwards 1986; algebra: Lockwood 1996)

Y

F

A

B

C

G

D

E

f0

Threshold y*

fd

ya

ye

Start at AApparent WTP = ya – y*But B is not = to C, C > BWTP underestimates the truevalue of the forestWTA is infinite or undefined

Conclusion

• WTP and WTA can arrive at widely different estimates

• WTP does not correctly reflect the willingness to trade of the consumer

• WTA most likely also underestimates the value attributed to the public good, specially if apparent excessively-high bids are rejected.

Theater and lexicographic ordering: Jean Anouilh, L’invitation au château, 1951

• M: How much do you want to leave without seeing him again?

• I: Nothing, Sir. I did not intend to see him again.• M: Miss, I don’t like it when things are free.• I: Do free things worry you?• M: They seem priceless to me.... I find you very

likeable and I am willing to be very generous to you. How much do you want?

• I: Nothing, Sir.• M: It’s too dear.• M: Messerchman ; I : Isabelle