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Problems of capitalism: �Lack of attention to global objectives

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Local and global objectives

  • In capitalist systems:
    • The allocation is divided into units, companies, and coordinated with the pricing mechanism.
    • Market competition dictates that companies must maximize profit in order to survive in the market.
      • (This is not about meeting human needs. Maximizing profit is not the same as meeting those needs.)
    • But, since the allocation is fragmented, each company seeks to maximize its own profit.
    • And maximizing the benefit of each one is not necessarily the same as maximizing the benefit of all.
  • This problem, that the maximization of local (coordinated) objectives does not always equal the maximization of the global objective, will be present in all economies that divide the allocation into units, not only capitalist ones, even if they do not maximize profit but something else (for example, anarchist ones).
  • This problem would also exist in a hypothetical "perfect competition". This is one of the reasons why perfect competition is not an ideal.

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Remembering: Division and coordination. �The company as an economic cell.

  • In capitalism, the economic problem is tackled with the divide and conquer strategy.
    • The allocation is divided into units, and
    • It is coordinated through the price mechanism.
  • Divide and rule is also used in an organism.
    • The division here is into organs, tissues, and cells.
    • But coordination is done through different mechanisms, such as through free access to the bloodstream.
  • The economic problem necessitates dividing the allocation into small units and coordinating them in some way. That is why companies exist. The company is the economic cell in capitalism.
  • However, coordination through the market mechanism means that the companies that survive are those that maximize profit. The division structure with market coordination determines a profit-oriented allocation.

Division

Coordination

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Local and global objectives. Fallacies

  • Precisely because capitalism divides the allocation into units, one must be careful not to fall into fallacies when analyzing it:
    • Fallacy of composition : “consists of inferring that something is true about a set or group only because it is true about one or more of its parts or components”; https://es.wikipedia.org/wiki/Falacia_de_composici%C3%B3n
      • Just because something is positive for one part of a system, or even for each of the parts taken separately, does not necessarily mean that it will be positive for the system as a whole.
      • For example, traffic regulations. Being able to disregard them is good for John, if he's the only one who can break them; or for Mary, if she's the only one who can break them; or for Anthony, etc. But just because it's good for John, for Mary, or for anyone if they're the only ones who can break them doesn't mean that everyone being able to break them is good for everyone, because that would result in chaos.
    • Fallacy of division : “This fallacy consists of inferring that something is true about one or more parts of a compound because it is true about the compound of which it is a part.” https://es.wikipedia.org/wiki/Falacia_de_divisi%C3%B3n
      • Just because something is positive for the system as a whole does not necessarily mean it will be positive for one of the parts, or for each of them.
  • We are dealing with a Pareto optimum when an individual cannot improve their position without worsening that of another. However, it has already been pointed out that a Pareto optimum is not necessarily a desirable state. https://es.wikipedia.org/wiki/Eficiencia_de_Pareto
  • For Debreu :
    • Equilibrium is a state in which no consumer can improve their preferences without increasing their spending and no producer can increase their profits.
    • The optimum is a state where it is not possible to satisfy the preferences of any consumer without satisfying the preferences of another.
    • It is shown that, under certain weak assumptions, if a feasible state for certain prices is an equilibrium, that state is an optimum.
    • It is shown that, under certain assumptions, if a feasible state is an optimum, there are prices at which the economy is in equilibrium.
  • But if, as Debreu supposes , exchanges will only take place when individuals personally benefit from them, a person who is unable to work and who has no property would gain nothing from the exchanges because they would also have nothing to offer; then, in the Debreu equilibrium , we would be facing a Pareto Optimum even though that person might die of hunger, a situation that has been considered contrary to ethical principles.
  • Therefore, the idea that economic agents cannot improve their position without worsening that of others is not necessarily a valid criterion; accepting this is falling into a fallacy of composition, because the fact that something cannot be improved for each individual (without worsening others) does not mean that it cannot be improved for the system as a whole.
    • If traffic regulations were not enforced, Juan, Antonio, María, or anyone else could not improve their individual situation if they were the only ones complying with the traffic rules while everyone else did not. But that doesn't mean there wouldn't be an improvement if everyone complied with the traffic regulations. A requirement imposed on each individual can be advantageous for all.

Debreu, Theory of Value , https://archive.org/details/theoryofvalueaxi0000debr

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Important. Local and global benefit. �The prisoner's dilemma.

  • Let's say there are two companies, blue and red, and both have the option to pollute or not. �Not polluting costs the company money, but polluting reduces the profit of both. Depending on �their choice, the blue company will earn the profits shown in blue, and the red company will earn the profits shown in red.

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  • Whatever the red option is, the blue one wins by choosing the "Contaminate" option.
    • If the red one chooses "Do not pollute", the blue one wins 5 by choosing "Pollute", which is more than the 3 of "Do not pollute".
    • If the red one chooses "Pollute", the blue one gains 1 by choosing "Pollute", which is more than the 0 of "Do not pollute".
  • And whatever the blue option is, the red one wins by choosing the "Pollute" option.
    • If the blue one chooses "Do not pollute", the red one wins 5 by choosing "Pollute", which is more than the 3 of "Do not pollute".
    • If the blue one chooses "Pollute", the red one gains 1 by choosing "Pollute", which is more than the 0 of "Do not pollute".
  • Therefore, if both choose their options maximizing their particular benefit, both will choose the "Pollute" option; neither of them would benefit from changing their strategy even knowing what the other will do ( Nash equilibrium ).
  • But the greatest common benefit would be if both chose "Not to pollute" ( global optimum ).
  • Therefore, maximizing profit in an atomized way does not necessarily equate to maximizing overall profit .
    • The Nash equilibrium does not always equal the global optimum.
  • We have given an example with only two companies, but if there were many the situation would be similar.

 

Do not pollute

Contaminate

Do not pollute

3 , 3

0.5​​

Contaminate

5 , 0

1 , 1

.

�

John Nash (1928-2015)

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Game Theory and the Prisoner's Dilemma

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Local and global benefit. Global overinvestment

  • The most common ideas about investment, consumption, and growth correspond to an exponential world where there are no limits to growth, but not to a logistical world where there are.
    • In an exponential world, the higher the investment rate, the greater the economic growth, and therefore the greater the long-term consumption.
    • In a logistics-driven world, a very high investment rate will not necessarily lead to significantly greater economic growth than a lower rate, because in both cases economic growth is constrained by external limitations. Furthermore, the higher the investment rate, the more consumption will decrease.
  • We also saw that the increase in the investment rate increased the amplitude of the economic crisis cycle, because it increased the impact of the system on the limits imposed by the environment.
  • The real world is a logistical world; the system as a whole has limits imposed by the environment. But one part of the system can grow at the expense of the rest, so for each part of the system, an increase in the investment rate will indeed increase its growth.
  • In capitalist systems, each part of the system will tend to increase its profits if it increases its particular investment rate, and if it does so, it can displace other parts of the system due to its greater growth. This leads to a drive toward an increase in the investment rate, for example, between countries.
    • We point out an expression of this fact when we indicate that countries without a welfare state have a competitive advantage over countries that do have to face that cost.
  • However, for the system as a whole, the increase in the overall investment rate will exacerbate the limitations imposed by the environment, failing to substantially improve economic growth and reducing human consumption. Furthermore, it will increase the instability of the entire system, lengthening the cycle of economic crises.
  • So each part of the system improves its position by increasing the investment rate, but the system as a whole worsens as a result.

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Local and global benefit. Bet

  • Bet (educational game-activity):
    • Choose the points you want added to your grade, either 1 or 0.25; but if a given percentage of students choose 1 point, nothing is added to anyone.
    • A similar activity was described in a text whose author and title I do not recall.
  • The educational game/activity "Bet" illustrates the contrast between individual and collective benefit. The game requires each participant to choose between two options: one that benefits them more but jeopardizes the collective benefit, and another that benefits them less but does not jeopardize the collective benefit.
  • The results obtained are striking, for example:
    • On March 7, 2025, the percentage set in the first round was 10%.
    • Fifteen students played.
    • 11 students chose 0.25 points and 4 chose 1 point, 26.6%. Nobody received anything .
    • By gender, 7 boys and 8 girls played.
    • 4 boys chose 0.25 points and 3 boys chose 1 point, 42.9%.
    • 7 girls chose 0.25 points and 1 girl chose 1 point, 12.5%.
  • The pursuit of individual gain resulted in no general benefit being achieved.

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Local and global benefits. Externalities

  • The term “externalities” is often used to refer to processes that affect third parties, in a costly or beneficial way, without them being compensated or having to bear the cost of it.
  • As we have seen, this is a consequence of the difference between local (coordinated) maximizations and global maximization.
    • Each company, by choosing "Pollute," is choosing the best option for itself; it's choosing local maximization. But this negatively affects the other company.
  • Externalities can be:
    • Negative, a process negatively affects a third party: for example, pollution.
    • Positive, a process positively affects a third party: for example, Wikipedia benefits many people who are not involved in its development.
  • Several ways to compensate for externalities have been suggested:
    • State:
      • Production quotas (of CO2 emissions )
      • Pigouvian taxes , pollution taxes, subsidies for beneficial activities, etc.
    • Private:
      • Codes of ethics,
      • Laws,
      • Ronald Coase: The Problem of Social Cost , https://www.jstor.org/stable/724810 , a solution can be reached without resorting to a government if there are well established property rights, transaction costs are low and there are few interveners .

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Optional. Externalities and separability

  • Some authors believe that the problem is that some assets lack clearly defined property rights. For these authors, the solution lies in establishing those property rights.
    • If the atmosphere had a private owner, they could charge for using it as a waste disposal site.
    • A parallel idea is that the state could alternatively charge for pollution, for example through taxes, which would reduce the benefit of pollution.
    • Baumol , On Taxation and the Control of Externalities , https://www.jstor.org/stable/1803378
  • But this is a mistake; it's not a problem of defining property. The problem lies in the fact that the allocation has been divided into parcels, and that the goal is to maximize (profit) within each parcel.
    • In mathematical terms, a global maximization problem has been replaced by a series of local maximization problems (and an attempt is then made to coordinate them).
      • Maximizing a global objective involves posing a single problem.
      • Maximizing multiple local objectives involves posing multiple independent problems. (And then trying to coordinate the solutions.)
    • Establishing property rights will not change the fact that local maximizations do not necessarily coincide with global maximization.
      • For example, we've seen that each part of the system improves its position by increasing the investment rate, but the system as a whole is worsened by this. But it makes no sense to try to impose property rights on the investment rate.
  • Local maximization and global maximization are not necessarily equivalent. They can only become equivalent if the objective function and the constraints are separable.
    • A function is separable if it can be written as the sum of several functions. For example, the global function 3x1 + 2x2 is separable as 3x1 on the one hand and 2x2 on the other, since their sum is equivalent to the global function.

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Local and global benefit. Climate change

Example of the distance between global maximization and local maximizations:

CO2 ( and other greenhouse gases) appears to be the cause of climate change.

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Pollution harms all profit maximizers . However, each of them benefits from emitting it.

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Local profit maximization does not equate to global profit maximization.

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https://ourworldindata.org/explorers/climate-change

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https://ourworldindata.org/explorers/climate-change