Friday, October 12, 2007

Pareto improvements as touchstone for governance

It is evident that most Government decisions confer benefits on some citizens and cause losses to some others. The benefits are generally diffused over a large number of people, and hence its support base is much less focussed and distinct. However, it is natural for the losers to oppose those decisions, and most often oppose it vehemently. Further, numerous studies by psychologists have confirmed that human beings are much more averse to losses than they are appreciative of gains. Therefore the opposition to Government policies are often very deceptive, and need to be judged not merely based on the popular perception of this opposition, but should take into account the substance of the case.

There are large number of instances where the benefits of an existing policy is captured by a small interest group, who have lobbied hard to keep those benefits. Sociologists and political scientists, have studied the power of small, focussed interest groups, who wield disproportionately high influence in comparison to much larger groups who do not enjoy the benefits in a concentrated manner. Further, smaller the group, greater will be the group cohesion and the resolve to fight for the cause, whereas larger group encourages some members to shirk responsibility.

Pareto optimality is a useful tool in evaluating the impact of Government decisions. Pareto improvements are those changes in the status quo which makes atleast some people better off without making anybody else worse off. But perfect Pareto improvements are very rare in Government and such improvements are in any case easy to advocate and implement. This brings us to those changes in the status quo that causes both benefits and losses. Nobel laureate Joseph Stiglitz, refers to "near-Pareto improvements" that causes much more benefits than gains.

Stiglitz claims that if only a small interest group loses by a change, and everyone else benefits, then that change should be made. The touchstone for implementating a change could therefore be whether it maximizes the Pareto improvements. In other words, do the benefits outweigh the losses, and if so by how much?

No comments: