Neighbourhood externalities

By Eric Crampton 14/11/2014

Adam Gurri provides a moral challenge to Paretean welfare economics.

All this only works if you think one preference is just as good as another, and maximizing preferences is a wonderful goal for a moral philosophy. I, for one, think that this is a terrible goal for morality, especially taken in isolation.
My favorite example of this model’s utter failure to provide a sufficient moral compass comes from the play A Raisin in the Sun. In it, an African-American family seeks to move to a predominantly white, affluent suburban neighborhood. You can probably guess where this is going: the people who already lived there did not want this family as their neighbors. From an economics point of view, the family was imposing an externality on their racist neighbors. What’s more, the real historical phenomenon of “white flight” in such cases actually reduced demand for housing in the neighborhoods that were being fled. As a result, the housing prices fell in the neighborhoods that African-Americans moved into, making the existence of a formally-defined externality undeniable.
I challenge the committed Pigovian to explain to me how this is anything other than a clear-cut externality, and how they can avoid the conclusion that their model would have them impose a tax on the African-American family. Moreover, libertarians aren’t in a much better position, morally. In A Raisin in the Sun, we get to see an actual Coasian bargain in action—-the white neighbors pool their resources to offer to buy out the African-American family from the house. Without spoiling the plot, I can’t say that the fact that this is a voluntary bargain inclines me to believe that the preference of the bargainers are on equal moral footing.
The philosophy of maximizing preferences does not distinguish between the family seeking the opportunity to rise above their circumstances and the racists who hate them.

While I’m more than happy to condemn the racist neighbours, I don’t think the example provides that strong a case against standard economics.

The baseline is liberal: the African-American family is able to buy the house. The neighbours haven’t been able to appeal to some notion of “neighbourhood character” to ban them from moving next door. Despite potentially high transactions costs, the neighbours were able to buy them out, indicating that their actual willingness to pay to be horrible racists was pretty high.

Gurri suggests that the main policy conclusion would be “tax the African-American” family; Coase reminds us that Pigovean externality-taxation solutions are not the only way of enabling Paretean welfare economics, and that the direction of the externality is always a bit up for debate. We could equally note the substantial negative externality the racists place on the incoming family and tax them for it. And in this case the Coasean solution obtained without any policy imposition: the neighbours bought out the incoming family.

I haven’t read the play, but based only on the snippet above, I’d have written a Sylvester McMonkey McBean style conclusion: the outgoing family would tell their friends about these crazy racists who are willing to buy you out, at a premium, if you buy a house in their neighbourhood. Eventually, the entrepreneurs would drain the racists of any continued ability to pay for racism.

And while I’ll agree with Gurri that any of us coming from particular philosophical perspectives will have sets of preferences that they view as better than others’ preferences, having something other than a Paretean set-up for policy requires picking winners among competing values. Even leaving aside the substantial problems Cowen points to in his chapter on non-Paretean welfare standards, we have another simpler, but important, issue. In the play, the neighbours had to demonstrate a real willingness to pay for racism.

In the alternative, in which we move away from Paretean welfare economics, we need some voting apparatus to overturn willingness-to-pay and choice as basis for assessing whether a move has improved welfare. And racism is cheaper at the ballot-box than it is in the real world. It is far easier to imagine neighbourhoods being willing to vote for measures that would ban particular types of people from being able to buy houses, or lodging objections on notified consents, than it is to imagine their actually being willing to buy those people out. If actual willingness to pay is less than the amount necessary to change the outcome, then the externality is not Pareto-relevant.

I’d written on psychic externalities a few years ago:

I’m reminded of Jennifer Roback’s work showing how southern racists were able to achieve at the ballot box segregation outcomes they were unable to achieve in the market. To recap: racist southern whites wanted segregated streetcars. But it was too expensive for the streetcar companies to run segregated cars: the increased ticket revenues from white racists didn’t compensate sufficiently for lost black custom and, especially, increased running costs. White racists effectively weren’t willing to pay enough for tickets to segregated streetcars, so the market didn’t provide them. But casting a racist ballot is individually costless. And so streetcar segregation was mandated through regulation.

When I see folks going to the ballot box to enforce their preferences over other peoples’ activities, my general presumption is that transactions costs isn’t what’s keeping meddlers from seeking less coercive options. The ballot box is just cheaper when a majority has weakly meddlesome preferences, regardless of efficiency.

Where illiberal preferences are weakly but broadly held, overturning the results of voluntary choice through use of a non-Paretean framework risks intervening to address externalities that are not Pareto-relevant, with greater illiberalism as result. If, on the other hand, illiberal preferences were very strongly held among a very well-heeled minority, results could flip.