Teaching Market Ethics Using an Edgeworth Box

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MARKET ETHICS
STEVE SURANOVIC
THE GEORGE WASHINGTON UNIVERSIT Y
In
an
Edgeworth
Box
(LACK OF) ETHICS IN ECONOMICS
 Neoclassical Assumption – Self interested Agents
 Consumers maximize utility
 Firms maximize profit
 Homo Economicus
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Greed is good .. Greed is right. (Wall Street movie)
Conflicts with conventional sense of morality
No room for “other-regarding” preferences
This creates suspicion that economics is not practical (or not moral)
BUSINESS IS ‘BAD’ THESIS
 Historical Socialist Critique
 Reactions to economic inequality
 Rise of Marxism/Communism
 Social Democratic Systems
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Redistribution – progressive taxes
Need for government regulation – Health and Safety Codes
Protect less fortunate people – minimum wages
Promote compassionate outcomes
 Popular Negative Portrayals of Business
 Hollywood movies – Wall Street, Wolf of Wall Street, etc.
ECONOMIC PRINCIPLES BACKLASH
 Occupy Harvard – Mankiw’s Ec10 Walkout in 2011
 Protest against neoclassical/conservative bias in economics
principles
 CORE Project – University College London
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Students need a wider range of approaches to succeed
New online textbook emphasizes economic history and data
Introduce Historical overviews
Emphasize inequalities and class struggles
 Persistent poverty
 Labor unions
MAKE ECON 101 MORE RELEVANT
 Introduce Ethical underpinnings of the neoclassical system
 Move towards an Intermediate/Moderate solution
 Demonstrate how the classical system can fail and how appropriate
regulations can improve the system.
 Also show how regulations can cause the system to fail
CONSTRUCTING THE EDGEWORTH BOX
 Introduce Ethics via an Edgeworth Box
 Key Assumptions
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Two traders: Smith and Jones
Endowments: Smith has 10 oranges; Jones has 10 apples
Both know their preferences over oranges and apples perfectly
Both believe:
 A) more is better than less
 B) diminishing marginal utility
 Describe standard indifference curves
RESULTS FROM THE EDGEWORTH BOX
 Trade into the lens raises utility for both Smith and Jones
 Trade is win-win; no one loses
 Variety is desirable due to diminishing marginal utility
 Note if DMU lower; lens becomes smaller.
 Many mutually beneficial outcomes are possible
 Surplus might be shared equally
 Surplus might accrue more to one agent
STANDARD ECONOMICS APPROACH:
UTILIT Y MAXIMIZATION
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A Unique Trading Equilibrium
Define the set of Pareto Optimums: Green Line
Profit Maximizing Condition: MU O /P O = MU A /P A
Extra utility per $ spent on oranges = Extra utility per $ spent
on apples
 P O /P A is the slope between E (the endowment) and S
 MU O /MU A is the slope of both traders’ indif ference curves
THE NEED FOR GREED
 Self Interest/Greed is needed to assure gains for both
 Change the assumptions/Changes the results
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Suppose Smith is self interested
Suppose Jones believes in self-suffic iency (a different ethic)
In this case no trade occurs
Smith loses surplus
Jones is happier w/o trade since he chooses it voluntarily
 Self-sufficiency is better than surplus value
 Opportunity cost of different ethic is lost surplus value
EXPLORING ALTERNATIVE ASSUMPTIONS
 What point in the Edgeworth Box maximizes Smith’s utility?
 Point K
 What point maximizes Jones’ utility?
 Point A
 How could these points be realized?
 Use of Force
 Threats of force (Armed robbery)
 Surreptitiously (burglary, trickery)
 These violate the model assumptions
 These actions may be inspired by Greed
MUTUALLY VOLUNTARY TRADE 
 Respect for Property Rights
 Smith owns oranges; Jones owns apples
 FREEDOM to trade or not
 NO FORCE and No THREATS of Force
 Agents do not inflict injury ; don’t intimidate to get better terms;
 No THEFT
PERFECT INFORMATION 
 Homogeneous goods
 All apples the same
 All oranges the same
 Good qualities are known to both
 Preferences are known perfectly
 Promises are kept in intertemporal trades
PERFECT INFORMATION 
 No Lying or Deception
 Agents represent their products accurately
 PROMISES ARE KEPT
 Agents follow through and complete transactions
 Contracts are fulfilled
MARKET ETHICS
 Standard Econ
Assumptions
 Agents are self
interested (greedy)
 Perfect information is
available
 Trade is mutually
voluntary
 Implied Ethical
Assumptions
 Agents are self interested
(greedy)
 Greed has Limits
 Respect for Property Rights
 No Theft
 No threats or intimidation
 No violence
 Freedom to trade or not
 No Deception
 Promises are kept
ARE ETHICAL ASSUMPTIONS SATISFIED
IN THE REAL WORLD?
 Questions for Reflection
 Have you ever purchased a product willingly and been
satisfied with the outcome?
 Does it always occur? For what percentage of
transactions does that occur?
 Think of examples when it does not occur …
 Car Repair – Used cars
 Online scams
 Markets work better with Ethics
HOW DO SOCIETIES ENCOURAGE ETHICAL
BEHAVIOR?
 Moral Codes
 Religion, Philosophy,
Upbringing .. Etc
 Don’t steal, don’t lie,
don’t hurt others, keep
promises, etc.
 Private Defenses
 Fences; Gates; walls
 Locks, safes
 Public Defenses
 Local Police
 National Military
 Laws
 Against violence and
threats
 Against theft
 Against deception in
business
 Judicial systems
 Determine guilt or
innocence
 Determine penalty
 Collect fines or
incarcerate
OTHER MARKET ETHIC CONSIDERATIONS
 Monopoly vs. competition
 Externality corrections
 Public goods provision
 Altruism
 Voluntary redistribution
 Household
 Charity
 Government in social contract
CONCLUSIONS
 Ethical Behavior is Assumed in Neoclassical Models
 Best to emphasize in Teaching Econ principles
 Self Interest (Greed) is necessary
 Greed + Ethics => Positive outcomes for all
 Greed + Unethical Behavior => Negative Outcomes
 Institutions/Government inhibit unethical behaviors

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