Published by EH.NET (August 1997)

Michael Perelman, The End of Economics. London and New York: Routledge, 1996. $59.95 (cloth), ISBN: 0415137373.

Reviewed for EH.NET by Anthony O’Brien, Department of Economics, Lehigh University.

Michael Perelman’s new book argues that there is a flaw in the working of the market system; a flaw that has caused problems in the past and that is likely to cause disaster in the future. The result will be the inevitable end of economics and the beginning of a new system in which competition and the market system as we know it will no longer prevail. There are some good things in the book: Perelman tells his story clearly and directly, he has some interesting things to say about the last hundred years of macroeconomic history in the United States, and it is certainly easy to be sympathetic with his argument that neoclassical economics is sometimes disconnected from the workings of the real world. But, overall the book is rather a disappointment. It could easily have been much better. Perelman’s thesis will strike most economists as implausible, but it is not indefensible. Unfortunately, Perelman (Department of Economics, California State University, Chico) has allowed some avoidable roughness in his presentation to make his arguments appear even weaker than they are. This is Perelman’s fifth book in fifteen years. This book lacks a preface or acknowledgments, which makes me wonder how much feedback he received before it was published. My guess is this would have been a better book if he had taken more time with it.

Perelman’s basic idea is that economists have by and large failed to understand the enormous negative consequences for the workings of the market system of the increasing importance of fixed costs. He believes that since the Civil War fixed costs have been a large fraction of all costs in many U.S. industries and that the importance of fixed costs continues to increase (although neither point is well documented). In an industry with high fixed costs, what Perelman refers to as “unbridled competition” will result in disaster, because firms will find their prices will be driven to the level of marginal cost. The substantial losses resulting from these low prices will eventually lead to widespread bankruptcy. He believes that at least since the experiences of the railroads in the 1890s some non-mainstream economists and many businessmen have realized that competition has to be constrained in order for the market system to function. Such constraints are all that has stood between the economy and disaster. So, while essentially all mainstream economists act as if our economy is highly competitive -and build ever more elaborate models that assume the existence of competition- in fact, the economy is not very competitive and moves to make it more so run the risk of unleashing the consequences of increasing fixed costs.

There are several problems with Perelman’s discussion of this thesis. He presents it in a rather off-putting polemical style, he commits a number of avoidable blunders with respect to theory and history, and, perhaps most disappointingly, he never deals with — and gives the impression of perhaps not even being aware of — the conventional responses to his main argument.

Perelman’s style is a mixture of debatable obiter dicta and remarks that leave the unfortunate impression that he believes those who disagree with him are either stupid or sellouts. The tenor of Perelman’s style is indicated by a few excerpts:

[The government] creates a legal structure that gives business the upper hand relative to labor. When the economy falters, it increases spending, often discovering imaginary threats that require more military spending (p. 5).

Economics provides an ideological justification for atavistic methods of providing for our economic and social needs. It leads to economic practices that create great harm to both people and the environment (p. 8).

Graduates [of Ph.D. programs in economics] soon develop a professional persona with a vested interest in not rocking the boat, recognizing that, to launch a significant challenge to orthodox beliefs can lead to professional ostracism…. Finding an academic job does not free the young economist from the clutches of the corporate sector, since winning grants is often an important consideration in the promotion process…. [E]conomics is not a science, but an ideology designed to defend existing practices (pp. 23, 26, 29).

We live in an economy in which many corporations are large enough to make decisions that threaten our welfare in obvious ways- spreading toxic substances, selling dangerous products, or putting the health of their workers at risk. Those public agencies, which are supposed to protect us from corporate misconduct, seem thoroughly beholden to those whom they are supposed to regulate (p. 111).

This kind of thing is pretty tiresome. I don’t believe the people at the EPA and OSHA are “thoroughly beholden” to those they regulate, there may be academic economists defend the market system only so as to be able to make their next mortgage payment, but I’ve never met one, and so on. Writing in this way is counterproductive. By about page 10 anyone who doesn’t already believe the market system is bad is likely to stop reading, leaving Perelman to preach to the choir.

Perelman makes a number of statements that indicate there are significant gaps in his knowledge of the economic history and history of economic thought literatures. For instance, how many economic historians still believe the old chestnut that the Civil War was an important watershed in the development of U.S. manufacturing?

During the war, the military created levels of demand that were previously unknown, setting off an unprecedented economic boom. Because the war drained off so much labor and grain prices were so high, farmers invested heavily in labor saving devices, such as reapers. No doubt, other businesses followed a similar course. Certainly, the railroad boom was part and parcel of this process (p. 54).

How many economic historians believe the price deflation of the late nineteenth century was due to excessive competition, as Perelman apparently does (p. 59)? How many historians of economic thought would buy the notion that marginal productivity theory was developed in an attempt “to cool the radical ardor of farmers and workers by crafting an abstract theory based on mathematical theorems that supposedly demonstrate that labor could do no better than to trust its fate to the market” (p. 77)?

How many observers of the controversies in macroeconomics of the last forty years would call Milton Friedman a disciple of Leon Walras (p. 78)? A key reason why Friedman has not been taken entirely seriously either by his Keynesian critics of the 1960s and 1970s or by his latter-day putative followers like Robert Lucas and Thomas Sargent is that he has declined to reduce his story to a neo-Walrasian model- the sine qua non of modern theoretical work. These sorts of slips significantly undercut the authority of Perelman’s presentation.

The biggest problem with the book is Perelman’s failure to deal with or, in many cases, even to mention the arguments of the critics of the notion that high fixed costs lead to destructive competition. Perelman discusses approvingly and at length the ideas of a group of late nineteenth century economists who became convinced that large fixed costs and excess capacity in the railroad industry meant that unbridled competition would be ruinous both there and in other industries with similar cost structures. The writings of these economists brought forth a number of critiques — almost entirely unmentioned by Perelman — that, for mainstream economists at any rate, were quite telling. Perhaps the best known was Eliot Jones’s 1920 Quarterly Journal of Economics article, “Is Competition in Industry Ruinous?” Many latter articles- and, for that matter, most industrial organization textbooks- have discussed the supposed evils of cutthroat competition and, by and large, have come to the conclusion that they are greatly exaggerated. Now, these conventional arguments may be correct or incorrect, but surely Perelman needs to deal with them.

Finally, if the market system does not work well and can’t be made to work well, what would Perelman replace it with? He doesn’t really say:

I do not pretend to offer some simple crackpot reform that will magically solve all economic problems. Instead, I intend to expose economics as a pseudo-science that stands in the way of human betterment in the hopes that we can develop new practices and better institutions that will allow us to manage our lives in a more satisfactory manner (p. 7).

Unfortunately, the history of the twentieth century doesn’t inspire much confidence that replacing market practices and institutions with non-market ones will lead to human betterment.

Anthony O’Brien Department of Economics Lehigh University

Anthony O’Brien is author of a number of articles– all of which are entirely above criticism ;-). These include “The Importance of Adjusting Production to Sales in the Early Automobile Industry,” recently published in Explorations in Economic History and (with Judy McDonald and Colleen Callahan) “Trade Wars: The Canadian Reaction to the Smoot-Hawley Tariff” forthcoming in the Journal of Economic History.