The British approach to the new welfare economics

As far as the only uncontroversial normative criterion is the Pareto criterion, welfare economics establishes a clear test: a situation is economically efficient if it could not be better for the individuals without decreasing some people’s satisfaction, which implies unanimity to justify any change.

Imagine a single individual i loses x by a new public policy, while all others gain. The strict version of Pareto criterion cannot conclude that this policy should be implemented. Imagine now that others gain an amount that is greater than x. If the winners com­pensate Mrs. i by transferring to her the amount x, they would still gain from the new policy, while Mrs. i would now be, at least, indifferent. The change would be a Pareto- improvement, that is, would be unanimously better, if such compensation were made. In all cases, this change passes the test of hypothetical compensations and is considered to be “Pareto efficient”, and then could be recommended. Economists are however not entitled to decide whether or not these transfers should eventually be made; such respon­sibility should be left to politicians on a second and distinct stage. This division of tasks between the economist as a scientist and the policymaker as a politician allows compli­ance with Robbins’s contentions, yet formulation of public policy recommendations.

Extremely serious and sceptic criticisms have been raised against this approach by leading experts in the field (Arrow 1963; Sen 1979c; Boadway and Bruce 1984, among others). First, the internal consistency of the model is challenged because there are two criteria, and each of them is valid for a different reference state. Imagine you apply com­pensating variations, that is, you compare project state and status quo according to the status quo reference. You may prefer the project state to the status quo. Now apply the criterion of equivalent variations, that is, compare the project state and the status quo according to the project state reference. You may now prefer the status quo. At the end, this welfare criteria “could not escape the possibility of giving rise to an inconsistent sequence of policy recommendations, unless either the distribution of income and wealth or the forms and degree of dissimilarity of consumers’ preferences were assumed to be suitably restricted” (Chipman and Moore 1978: 578). Secondly, the normative aspects of this approach are strongly contested: even though it pretends to avoid interpersonal comparisons of utilities, it operates exactly on the basis of their existence (Cooter and Rappoport 1984; Blackorby and Donaldson 1990). Yet it does prevent any discussion of the value judgements involved in such analysis. Thirdly, beyond the problem of aggrega­tion, these tests are more generally blamed because they are “welfarist”. A social welfare evaluation is called welfarist when it relies on subjective individual utilities only (Sen 1979a, 1979b). Amartya K. Sen and many others have shown the logical, pragmatic and normative limits of such an account of individual welfare in the context of designing or assessing public policies. Chipman and Moore concluded in 1978: “judged in relation to its basic objective of enabling economists to make welfare prescriptions without having to make value judgements and, in particular, interpersonal comparisons of utility, the New Welfare Economics must be considered a failure” (Chipman and Moore 1978: 548). In spite of such an acknowledgement, the success of this approach in occupying a leading position in most contemporary works of public economics, industrial economics or inter­national economics remains today unchallenged.