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Mainstream Economics and Social Transformation: The Case of Moral Hazard

Mainstream Economics and Social Transformation: The Case of Moral Hazard. John Latsis, Universities of Reading and Oxford Constantinos Repapis , University of Oxford. Structure of the argument. The role of models in social transformation A gap in the economic ontology literature

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Mainstream Economics and Social Transformation: The Case of Moral Hazard

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  1. Mainstream Economics and Social Transformation:The Case of Moral Hazard John Latsis, Universities of Reading and Oxford ConstantinosRepapis, University of Oxford

  2. Structure of the argument • The role of models in social transformation • A gap in the economic ontology literature • The role of models in modern mainstream economics • Models as representations vs. models as interventions • Three epistemic features of models • The case of moral hazard • One analytical finding, three policy interventions

  3. What is an economic model? • No widespread agreement: ”… models can be understood as complex objects constructed out of many resources that defy simple description" (Morgan 2008: 1) • Yet they define the discipline, the profession and justify imperialism (Fine and Milonakis2009) • How do we explain this tension between centrality and ambiguity of models?

  4. Functions of economic models • Literature says that models are deductive & mathematical in structure (Lawson, 1997, 2003) • However, not all maths is an economic model, so we distinguish them by functional role (Morgan 2008): • Fitting theories to the world • Theorising • As instruments of investigation

  5. Representing and intervening "A 'theory' is not a collection of assertions about the behaviour of the actual economy but rather an explicit set of instructions for building a parallel or analogue system - a mechanical, imitation economy. A 'good' model, from this point of view, will not be exactly more 'real' than a poor one, but will provide better imitations." (Lucas 1980: 697)

  6. Continued • Traditional debates focus on the limitations of models as representations • The link to reality is broken, but this does not mean that models are irrelevant: they affect actual social processes • We can therefore see models as interventions in the social world

  7. Interventions • As they distance themselves from their representative role models have become more detachable from theory and malleable to circumstance • Noticed in HET and Econ Soc, but not approached in a theoretical manner • Our emphasis is on 3 epistemic features of models: specificity, portability, formal precision

  8. Defining moral hazard • In economic terms, moral hazard is seen as a problem of incentives between a principal and an agent • Concept borrowed from insurance • Moral hazard vs. morale hazard • “… the increase in probability of loss associated which results from evil tendencies in the character of the insured person…” • ”…results from the insured person's careless attitude towards the occurrence of losses."(Rowell & Connelly 2012)

  9. Applying moral hazard 1 • Workers’ compensation schemes (Dembe and Boden 2000) • Injuries seen as part of a strategic game between employees (agents) and employers (principals) • Reduces worker environment to specific incentive problem • Excludes complex relations between agents and environment (social and psychological) • Leads to one-sided policy interventions

  10. Applying moral hazard 2 • The 2008 banking crisis (Dow 2010) • The belief that commercial banks are too big to fail led bankers to increase risk and overextend lending, believing that national governments will have to bail them out • Reduces relations between client, bank and CB into an incentive problem • Denies the role of trust in underpinning the banking system

  11. Applying moral hazard 3 • Models of moral hazard in a monetary union (Persson & Tabellini 1996) • The model assumes that actual institutional arrangements can be reduced to the incentive structures they create for the relevant agents in a moral hazard setting • Extended to policy advice in Eurozone sovereign debt crisis (Muellbauer2012)

  12. Conclusions • Does the use of MH in these instances display the 3 features discussed earlier? • MH was detached from insurance literature and transformed into a incentives problem of determinate form, displaying specificity • The combination of the 3 studies show clearly that it is a remarkably portableconcept • In all three cases the formal precision of the economic approach to MH has crowded out competing explanations from other social science perspectives

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