Saturday, November 21, 2009

Is Free Market Ethical?

I read recently an article from Philip Booth ('Ethics alone will not prevent financial crises' in FT 15 Nov.) from the Institute of Economic affairs*, a British right wing think tank which supports the revival of free market ideas on 'ethical' grounds. Basically, he argues that free market as such is not against catholic social teaching as laid down in recent encyclicals of the Church. But his main argument is also to fight against the idea that the crisis has deep ethical causes such as bribery, greed and other immoral sentiments.

He writes: "governments and regulators have distorted incentives and, as a result, the self-interest of bankers has not been in harmony with the interests of society and disaster has followed". In other words, if the economy was ruled solely by free market ideas, the crisis would have never happened. This is an 'immoral' argument which owes more to Hayek and Friedman than to the Church social doctrine.

I agree that the crisis does not have as such an ethical root, although it is clear that immoral behaviour has contributed to aggravate the crisis leading to the financial meltdown in 2007. Speculative bubbles are the fruit of greed and lust for money, not the result of rational economic behaviour.

However, the topic raises more profound philosophical issues which underpin the whole debate about ethics and economics. Adam Smith referred to the 'invisible hand' to describe the apparent benefits to society of individuals behaving in their own interests. He writes in his 'Theory of Moral Sentiments' (1759): "... In spite of their natural selfishness and rapacity, though they mean only their own conveniency, though the sole end which they propose ... be the gratification of their own vain and insatiable desires, they divide with the poor the produce of all their improvements. They are led by an invisible hand to make nearly the same distribution of the necessaries of life, which would have been made, had the earth been divided into equal portions among all its inhabitants, and thus without intending it, without knowing it, advance the interest of the society". In other words, Smith explains that man pursues his self interest while commanding himself based on the principles of natural law.

A. Hirschman departs from Smith's moral philosophy and develops a powerful reconstruction on the 'ideological' origins of capitalism. His main argument is that the rise of capitalism depended on the activity of merchants and bankers, which was originally considered sinful. So, what changed? How could an immoral enterprise become ethically acceptable? The answer lies in the moral justification of the interest as opposed to the passion - which by essence is unpredictable and irrational. Following his thinking, it is not an argument in defence of capitalism, but rather a cause of its birth and rise over more than two centuries. But, while acknowledging some virtues of capitalism, Hirschman also admits that interest driven behaviours might be dangerous, and therefore might need to be contained. His arguments have gained some validity in the context of the crisis as self interested economic behaviour, e.g. in the financial sector, will require more stringent and transparent rules.

When the Pope suggests that self-interest should be put in harmony with collective interest, he expresses a moral view. But, what is the dominant conception of economic virtue today? Isn't market competition extended to many segments of the economic and social sphere, including education and health?

In fact, Ethics matter as much as Economics. It is hardly impossible to draw a dividing line between the two. We must understand that Economics is a moral science which pursues the achievement of common good. But as every (honest) economist knows, it is more difficult to translate those principles into practice.

** The Passions and the Interests:Political Arguments for Capitalism before Its Triumph, Princeton University Press 1997

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