Competence-difficulty gaps, ethics and the new social welfare theory

Abstract

The contemporary consumer choice and New Institutional Economics literatures embody a number of recurring themes. Among these are the growth and dissemination of information relative to decision makers' cognitive limits, the endogeneity of preference and value structures and the role of ethical norms. At issue, inter alia, is the empirical content and internal consistency of neoclassical theory's behavioral postulates. The purpose of this paper is to show that when explicit account is taken of these phenomena, the logic of the “new” social welfare theory is called into question. The complexity of the decision environment is such that neither the welfare frontier nor the social welfare function can meaningfully be employed in assessing distributional and other economic policies. Granting this, attention should focus less on “getting the prices right” and more on “getting the institutions right.” Interest might appropriately center on which institutions minimize the deleterious effects of decision makers' growing competence-difficulty gaps and, at the same time, encourage transaction (and other) cost-minimizing ethical behavior.