The author is correct that the rational economic calculator approach to economic theory first put forth by Jeremy Bentham leads to policies that destroy communities.One need look no further than the speculative highjacking and destruction of the housing market in the United States by Wall Street (Investment banks,hedge funds,private equity firms,rating firms,etc.).Wall Street securitization practices subverted the primary reason for housing policy in the USA, which was to build stable ,long lasting local neighborhoods and communities in which families would raise their children over a 20 year period.Wall Street speculators,using Benthamite utilitarian Max Utility reasoning and rationales,were able to take effective control of Fannie Mae and Freddie Mac and subvert housing policy from the goal of creating a nation of stable neighborhoods and communities to the creation of a nation of speculative houseflippers.
The author constantly refers to the "..utility- maximizing framework of calculation ..." or "... the applicability of rational maximizing behavior in markets..." as the basic foundation of economic theory.Unfortunately,he is correct.The graduate school-Ph.D equivalent of this approach is the standard Subjective Expected Utility (SEU) model ,based on the Ramsey-De Finetti-Savage approach to Subjective probability combined with a Von Neumann-Morgenstern Utility function.SEU is the primary model taught in all economics and business graduate schools in the world.It is merely an updated version of Benthamite Utilitarianism.The author is correct that this approach is what is wrong with economics.Unfortunately,he fails to demonstrate the severe technical problems that SEU theory suffers from.SEU theory is a very special case of J M Keynes's approach developed by Keynes in 1908 in his second Fellowship dissertation at Cambridge and published as the A Treatise on Probability in 1921.Keynes demonstrated the special case nature of Bentham's approach while Ramsey,Savage and De Finetti were still in the second grade.The author needed this to make his case airtight.It is provided below for the interested reader.
Keynes's 1921 A Treatise on Probability(TP) analysis of decision making can be found in sections 6-8 of chapter 26 and chapters 15,17,20 and 22.We will concentrate on the conventional coefficient of risk and weight in chapter 26,as opposed to the interval estimate approach of the other chapters,because of the greater explanatory power exhibited by the conventional coefficient.The technical details can be found on p.315 and in footnote 2 on p.315 .Keynes presented a very precise analysis demonstrating that an analysis of uncertainty introduced non additivity and non linearity into the formal representation of decision making. The subjectivist, Bayesian approach regards decision making as another name for the application of the purely mathematical laws of the probability calculus that require additivity and linearity. The Subjectivist approach makes the crucial error of conflating probability theory with decision theory.Keynes realized that ,due to the impact of the weight of the evidence (confidence)on decision makers ,as well as the optimism-pessimism of the decision maker,decision theory would have to be able to take into account the importance of non linearity and non additivity. The concept of expected value or expected utility is crucial to the Ramsey-De Finetti-Savage-Friedman approach.Keynes demonstrated that expected value or expected utility can ,at best, only be a special case of a much more general theory .
The Ramsey-De Finetti-Savage-Friedman approach is the mathematical translation of Jeremy Bentham's Benthamite Utilitarian approach.
Bentham's approach was that the whole can never be anything more than the sum of the individual ,atomic parts. However, this requires the assumptions of additivity and linearity.Bentham assumed also that all decision makers can calculate the odds all the time.Keynes showed that this was not the case because this requires a w=1. Keynes's demonstration ,taken from chapter 26 of his A Treatise on Probability(1921;TP),of the special case nature of any expected value(utility) approach ,based on the purely mathematical laws of the probability calculus,shows this to be a very special case that rarely,if ever,occurs in the real world.This is why public policy based on utilitarianism fails . Bentham claimed that all individuals have the capability to calculate the odds and outcomes and act on the expected utility (the probability times the utility of the outcome) in a rational(optimizing) way.This is where the rationality postulate comes from.
This can be expressed by the following maximization problem ,where p is the probability of success,q is the probability of failure, and A is the outcome:
The modern version of this is to Maximize pU(A),where p is a subjective probability that is additive,linear,precise,and exact and U(A) is a Von Neumann-Morgenstern Utility function. The goal is to
The modern name for Benthamite Utilitarianism in neoclassical economics is SEU theory(Subjective Expected Utility). Therefore,a microeconomic foundation based on Utility Maximization is just Benthamite Utilitarianism updated with modern mathematical probability techniques.Modern macroeconomics is all disguised SEU theory.
Keynes rejected Benthamite Utilitarianism as a very special case that would only hold under the special assumptions of the subjectivist, Bayesian model-that all probabilities were additive,linear,precise,single number answers that obeyed the purely mathematical laws of the probability calculus.
Keynes specifies his conventional coefficient of risk and weight,c, model in chapter 26 of the TP on p.314 and footnote 2 on p.314,as a counter weight to the Benthamite Utilitarian approach of Ramsey.
Essentially, Keynes's generalized model is given by
where w is Keynes's weight of the evidence variable that measures the completeness of the relevant, available evidence upon which the probabilities p and q are calculated.(Benthamite Utilitarians always assume that the value of w is always 1.)w is an index defined on the unit interval between 0 and 1,p is the probability of success,and q is the probability of failure.p+q sum to 1 if they are additive.This requires that w=1.Keynes's c coefficient can be rewritten as
Now multiply the above by A or U(A).One obtains
cA =p[1/(1+q) ][2w/(1+w)] A or
The goal is to Maximize cU(A) as opposed to the special Ramsey-Savage case of Maximize pU(A).
If w = 1 and all probability preferences are linear,then one obtains Ramsey's special result .
Academic economics of the sort that the author correctly challenges is based on very special assumptions about additivity and linearity that have been proven false by (a) the econophysicist followers of Mandelbrot , (b)the cognitive and behavioral psychologists ,such as Preston and Baretta, Tversky and Kahneman,Einhorn and Hogarth,Slovic and Lichenstein,Gardenfors and Sahlin,Gilboa and Schmiedler,etc. and their followers, and (c)Daniel Ellsberg as demonstrated in his 1962 dissertation published in 2001.
Current neoclassical economic theory is thus both Ptolomaic and Procrustian.It is based on artificially created models that always rest on the assumptions of linearity and additivity.Data is manipulated by either (a) eliminating the large numbers of outliers in the data sets as pointed out by Mandelbrot,which far,far exceed the very few outliers that should exist based on the a priori assumption of normality or (b)stretching the applicability of their very special assumptions in order to claim generality.Thus one encounters the truly bizarre claim that Keynes's theory is a special case of neoclassical theory.