I think that, once one recognizes this fact that both Keynes and Friedman are to the activist left of even the left edge of today’s policy spectrum, one cannot then escape the conclusion that today the entire right wing and a good part of the center is simply not sane. The position of the right today is, in essence, that (a) because the top managements of highly-leveraged money-center banks were unable to understand or control their derivative books, (b) tens of millions of additional people must be doomed to poverty and unemployment, for © the market giveth and the market taketh away: blessed be the name of the market.

“Left-neoliberals recognize that this kind of economic inequality is unjust, and think that government policies should be reconfigured to remedy the problems created by it.”

On regulations I think he’s basically right about “left-neoliberals”. There’s nothing inherently wrong about regulation, but the evidence for market efficiency in “normal” circumstances is strong, so any proposed regulations ought to come with a good sense of why we’re regulating.

In the comment section, Paul Krugman, Matt Yglesias, and Brad DeLong are all identified as “left-neoliberals” too. Brad has used this language before. I think this is basically right too — after all, these are the economics bloggers I identify most strongly with.

I think this is basically a good description of that crowd, and I like it because it highlights the ways in which I criticize them from the left. Strong evidence for market efficiency is all well and good, but the social welfare function I prefer brings both efficiency and equity in, equally. Often these two goals are incompatible, meaning that there is no “obvious” maximization solution.

On another line of criticism, I prefer that the economic structure be built ground-up to avoid these inequities in the first place, rather than resorting to the sort of transfer solutions that Mike Konzcal has deemed “pity-charity” liberalism. The problem being, for me, that if some people are deemed to require transfers to lead decent human lives, then their equity as humans is substantially deprecated.

Which makes my sort of radical analysis an unusual beast, in that I don’t want to burn the neoclassical books at all — but to show that they’ve simply got a lot of pages missing. Brad, Paul, etc. are factually right almost all the time. Which is great! But their theory is overwhelmingly descriptive — given that we want a certain outcome, how is it best achieved? — and lacks the prescriptive moral philosophy that used to be built into economics. Which means that they know how to get us anywhere, but are anchored to the neoliberal North Star of growth.

“Growth is good for its own sake; inequality is bad because it impedes growth.” For me, the left–liberal, that’s not enough.

[Reading Greg Smith’s open resignation letter to Goldman Sachs  in today’s New York Times, which described a systematic fleecing of clients as the institutional norm, reminded me of Frank Partnoy’s 1997 book F.I.A.S.C.O. Here’s my review, from LBO #80. If you like it, subscribe today  and make sure it keeps coming.]

F.I.A.S.C.O. , by Frank Partnoy (New York: W W Norton, 252 pp., $25).

It might be best to start a consideration of this revealing book from one of its final pages, where Frank Partnoy explains why he decided to end his brief career as a derivatives salesman at our snazziest investment bank, Morgan Stanley:

By April 1995 I had become … the most cynical person on Earth. I now believed everything was a fraud, and I had a well-founded basis for my beliefs. Derivatives were a fraud, investment banking was a fraud, the Mexican and Japanese financial systems were frauds …. The value system I had acquired in recent years included shooting at clients and blowing people up, all in the name of money …. Everyone I knew who had been an investment banker for a few years, including me, was an asshole. The fact that we were the richest assholes in the world didn’t change the fact that we were assholes. I had known this deep down since I first began working on Wall Street. Now, for some reason, it bothered me.

Of course, Partnoy and his colleagues didn’t literally shoot at clients. But they did brag about “ripping their faces off.” This was the ideal trade—one that involved unknowingly separating a client from a huge amount of money, even if the client’s actual face was left intact. According to Partnoy, the motto of his counterparts at Bankers Trust, an institution almost as prestigious as Morgan Stanley, was “lure them into the calm and totally fuck them.” Again, that was said of customers, not competitors. Remember, we’re not talking about some boiler room based in Vancouver or Fort Lauderdale, but two of the glitziest names in investment banking.

basics

Derivatives hit the headlines in 1994 and early 1995, when a bout of interest rate rises engineered by the Federal Reserve put the financial markets through a ringer and Mexico into crisis. Big companies like Procter & Gamble lost millions, big-time speculators went under, and Orange County went bankrupt. And then, thanks to our system of cultivated amnesia, derivatives largely disappeared from view. According to the most recent estimates by the Bank for International Settlements, at the beginning of 1997 there were some $35 trillion in derivatives outstanding worldwide, about twice as many as there were when Partnoy retired from the business in 1995. Unofficial estimates range from $40–60 trillion. To put those numbers in perspective, gross global product—the sum of all the world’s GDPs—is under $30 trillion.

A derivative is a security whose price depends on—is derived from—something else. The simplest derivatives are (relatively familiar) instruments like futures and options. An option, for example, is the right to buy or sell something, like 100 shares of stock, at a given price over a given period of time. You may want to lock in a purchase or sale price today, even though you want to consummate the sale several months down the road, or you may simply wish to speculate cheaply on the price of the underlying asset. (These instruments are all explained at exhaustive, and possibly exhausting, length in Doug Henwood’s Wall Street .) But options and futures are straightforward stuff compared to the kinds of things that Partnoy once developed and sold. Instead of being traded on exchanges at prices and terms it’s pretty easy to understand, the complicated kind of derivatives are custom-tailored, usually for a specific buyer, on often obscure terms, and with little possibility of escape through sale to some other punter.

That’s all a bit theoretical, so maybe a few examples would flesh things out. Want to bet that Thai interest rates will rise and Malaysian ones will fall? An investment banker would be happy to customize a derivative for you. You may want to do this because you have some business in the two countries that put you at risk should the two national bond markets move against you—or you may just be a betting sort. Or maybe you’re a pension fund manager who isn’t allowed to borrow money to speculate in foreign currencies. Well, your investment banker can create something that looks like a government bond, and will pass regulatory scrutiny, but which is really a leveraged play on the British pound or anything else you’d like. Or maybe you’re the dimwitted treasurer of a county in Southern California, and you think interest rates will fall forever—and you’re so convinced of the fact, it’s not enough that you just buy bonds and hold them. You buy “structured notes” from Merrill Lynch and Morgan Stanley, that rise in value if interest rates fall, but in complex, incomprehensible ways. If interest rates rise, you can always file for bankruptcy. And if you’re a]apanese banker with big losses to hide, your friend at Morgan Stanley can create sham profits for you today—perfectly offset by sham losses some time in the future, but by then it’ll be somebody else’s problem; for the moment, all you want to do is deceive your shareholders and regulators. Indeed, it seems that lots of the troubles in Asia today are in part the deferred consequences of derivatives schemes concocted several years ago. Sometimes the client is the instigating party, sometimes the banker, but usually the banker has a better idea of what’s going on—not only of the risks, but of the giant fee buried in the complex details.

So, despite the textbook nostrums about derivatives existing to help society (meaning big investors) manage risk (meaning the wicked volatility in financial asset prices), derivatives are at least as much about embracing risk, evading regulatory scrutiny, and even avoiding taxes. While the financial environment is placid, derivatives will behave, delivering only routine losses, if at all but when things get nasty, as with the stock market in 1987, or Mexico in 1994, or Asia in 1997, they can blow up all over the place.

F.I.A.S.C.O. (the title comes from a drunken skeet-shooting competition called the Fixed Income Annual Sporting Clays Outing, in which the Morgan Stanley team was meant to sharpen its killer instincts) tells all these stories, and Partnoy even manages to accomplish the difficult task of explaining the derivatives themselves. He’s hardly a radical, nor does he have anything like a systematic view of how finance relates to the real world. Nor is his book as funny or as gracefully written as Michael Lewis’ classic Liar’s Poker . But as an insight into the crudity and rapaciousness of Wall Street culture, it’s the best thing in years. Even if derivatives don’t turn the next bear market into a rival of the 1929–32 disaster, or even if they don’t bring giant losses to the middle c1ass’s mutual fund investments, this book explains why the handful of people who work on Wall Street pull down so much money. It comes from ripping faces off, and sometimes the face-ripped don’t even know what’s happened to them.

In a financial landscape full of oddities, the prospect of America being paid interest by its creditors when its national debt is rocketing is one of the oddest. The Treasury recently disclosed it is exploring how to let investors enter negative yields when bidding at debt auctions. Clearly, demand for American government debt is driven by much more than a hunger for returns. Financial-market participants use Treasury bonds and bills as collateral to secure lending, for instance. And for risk-averse investors such as foreign central banks, money-market funds and retirees, America’s debt is uniquely suited to storing savings without much due diligence. In short, its government debt is a lot like money.

This analogy is not perfect, of course. Treasury bonds are less useful for buying things and government debt carries at least the possibility of default. But in terms of liquidity, risk and returns, few things come closer to money. In a recent paper* Arvind Krishnamurthy and Annette Vissing-Jorgensen of Northwestern University quantify the money-like properties of American debt by comparing its supply from 1926 to 2008 with market-based measures of safety and liquidity. They find that when the supply of Treasuries is lower (as measured by the debt-to-GDP ratio), demand goes up, widening the spread between their yields and those on AAA-rated corporate bonds.

The price of safety

That, the authors say, is evidence of the higher value investors place on holding something that is 100% safe (a Treasury bond) rather than almost 100% safe (the AAA-rated corporate bond). At the same time the spread between AAA-rated and lower-rated corporate bonds also widens, a sign that the supply of Treasuries has a broader effect on the price of safer assets. Lower amounts of Treasury debt also lead to a wider spread between Treasury-bill yields and the interest paid on federally insured bank certificates of deposit. Since both are guaranteed by the government, the authors attribute the lower relative yields on T-bills to increased demand for their superior liquidity. Mr Krishnamurthy and Ms Vissing-Jorgensen reckon the value that investors place on the safety and liquidity of Treasuries averaged a hefty 73 basis points in forgone yields over the period they studied.

Lower borrowing costs on government debt are a boon for the taxpayer but not necessarily helpful to other debt issuers. When the supply of Treasuries rises investors get all the safety they need from government-debt issuance. That strips higher-rated corporate borrowers of demand. And constraining the supply of Treasuries brings its own problems. If the federal government does not supply enough money-like assets, investors will go elsewhere in search of safety. Private intermediaries may fill the void with cheap imitations such as asset-backed commercial paper and repurchase, or “repo”, loans (a type of secured short-term funding). Jeremy Stein, a professor at Harvard University and a nominee for governor of the Federal Reserve, says excessive private-money creation can leave the financial system too reliant on these forms of short-term debt and vulnerable to a shock. In a paper co-authored with Robin Greenwood and Samuel Hanson, he argues that more government short-term borrowing can reduce harmful private-money creation.

For policymakers, the role of Treasuries as “money” has several implications. The most obvious is that when investors are willing to pay a higher premium for safety and liquidity, the government can safely carry more debt. David Greenlaw of Morgan Stanley notes that since 2008 the safety premium identified by Mr Krishnamurthy and Ms Vissing-Jorgensen appears to have grown for any given level of debt (see left-hand chart). This could be down to increased demand for safe assets from emerging-market central banks or from banks facing new liquidity rules. Or the culprit may be a shrunken supply of other types of safe assets (see right-hand chart). The commercial-paper and repo markets have slimmed, for example, and the spectre of default haunts several euro-zone sovereign bonds.

With fewer havens to choose from, the surge in Treasury debt since 2008 may have had positive spillovers beyond enabling a generous fiscal stimulus. It has supplied private investors and financial institutions with enough “money” to satisfy their hunger for safety and grease the wheels of the markets. That is analogous to the dollar’s role as reserve currency, which obliges America to issue debt securities in which foreigners can invest those dollars.

Another implication is that America could issue more short-term paper than its debt managers, who worry about rolling over too much paper under adverse conditions, would normally deem prudent. Those worries are not baseless: eventually the thirst for the safest of safe assets will ease and the supply of alternative investments will return. As a compromise the Treasury is mulling the issuance of floating-rate notes, whose interest rate would be reset daily and whose maturity of two years or above would limit rollover risk.

The final implication is for central banks in America, Britain and Japan that have implemented quantitative easing (QE), the purchase of bonds with newly created money. Some of that money has been used to buy up long-term government debt in order to lower long-term interest rates. But in a separate paper Mr Krishnamurthy and Ms Vissing-Jorgensen argue that, by reducing the available supply of sovereign debt, QE raises the premium investors place on the safety and liquidity of government borrowers. That does not help riskier private borrowers, however. It would be more effective to focus QE on assets that are not in such demand, like mortgage-backed securities or corporate debt—the ones, in other words, that behave less like money.

Microfoundations are latest big thing on the econoblogosphere. Krugman, Wren-Lewis (and again), Waldmann, Smith (all two of them!) have weighed in on the subject. So let me take a shot.

The idea of reformulating macroeconomics was all the rage when I studied economics as an undergraduate and graduate student at UCLA in the late 1960s and early 1970s. The UCLA department had largely taken shape in the 1950s and early 1960s around its central figure, Armen Alchian, undoubtedly the greatest pure microeconomist of the second half of the twentieth century in the sense of understanding and applying microeconomics to bring the entire range of economic, financial, legal and social phenomena under its purview, and co-author of the greatest economics textbook ever written. There was simply no problem that he could not attack, using the simple tools one learns in intermediate microeconomics, with a piece of chalk and a blackboard. Alchian’s profound insight (though in this he was anticipated by Coase in his paper on the nature of the firm, and by Hayek’s criticisms of pure equilibrium theory) was that huge chunks of everyday economic activity, such as advertising, the holding of inventories, business firms, contracts, and labor unemployment, simply would not exist in the world characterized by perfect information and zero uncertainty assumed by general-equilibrium theory. For years, Alchian used to say, he could not make sense of Keynes’s General Theory and especially the Keynesian theory of involuntary unemployment, because it seemed to exclude the possibility of equilibration by way of price and wage adjustments, the fundamental mechanism of microeconomic equilibration. It was only when Axel Leijonhufvud arrived on the scene at UCLA, still finishing up his doctoral dissertation, published a few years after his arrival at UCLA as On Keynesian Economics and the Economics of Keynes that Alchian came to understand the deep connections between the Keynesian theory of involuntary unemployment and the kind of informational imperfections that Alchian had been working on for years at the micro-level.

So during my years at UCLA, providing microfoundations for macroeconomics was viewed as an intellectual challenge for gaining a better understanding of Keynesian involuntary unemployment, not as a means of proving that it doesn’t exist. Reformulating macroeconomic theory (I use this phrase in homage to theunpublished paper by the late Earl Thompson, one of Alchian’s very best students) based on microfoundations did not mean simply discarding Keynesian theory into the dustbin of history.  Unemployment was viewed as a search process in which workers choose unemployment because it would be irrational to accept the first offer of employment received regardless of the wage being offered. But a big increase in search activity by workers can have feedback effects on aggregate demand preventing a smooth transition to a new equilibrium after an interval of increased search. Alchian, an early member of the Mont Pelerin Society, was able to see the deep connection between Leijonhufvud’s microeconomic rationalization of Keynesian involuntary unemployment and the obscure work, The Theory of Idle Resources, of another member of the MPS, the admirable human being, and unjustly underrated, unfortunately now all but forgotten, economist, W. H. Hutt, who spent most of his professional life engaged in a battle against what he considered the fallacies of J. M. Keynes, especially Keynes’s theory of unemployment.

Unfortunately, this promising approach towards gaining a deeper and richer understanding of the interaction between imperfect information and uncertainty, on the one hand, and, on the other, a process of dynamic macroeconomic adjustment in which both prices and quantities are changing, so that deviations from equilibrium can be cumulative rather than, as conventional equilibrium models assume, self-correcting, has yet to fulfill its promise. Here the story gets complicated, and it would take a much longer explanation than I could possibly reduce to a blog post to tell it adequately. But my own view, in a nutshell, is that the rational-expectations revolution — especially the dogmatic view of how economics ought to be practiced espoused by Robert Lucas and his New Classical, Real Business Cycle and New Keynesian acolytes — has subverted the original aims of the microfoundations project. Rather than relax the informational assumptions underlying conventional equilibrium analysis to allow for a richer and more relevant analysis than is possible when using the tools of standard general-equilibrium theory, Lucas et al. developed sophisticated tools that enabled them to nominally relax the informational assumptions of equilibrium theory while using the tyrannical methodology of rational expectations combined with full market clearing to preserve the essential results of the general-equilibrium model. The combined effect of the faux axiomatic formalism and the narrow conception of microfoundations imposed by the editorial hierarchy of the premier economics journals has been to recreate the gap between the Keynesian theory of involuntary unemployment and rigorous microeconomic reasoning that Alchian, some forty years ago, thought he had found a way to bridge.

Update (1:16PM EST):  A commenter points out that the first sentence of my concluding paragraph was left unfinished.  That’s what happens when you try to get a post out at 2AM.  The sentence is now complete; I hope it’s not to disappointing.

The tyranny of literacy is that we live in a textual Internet in a textual digital world where we had the capacity to provide so much the more for those who are different. A color theory not in wavelengths but in color. Or in music, to demonstrate the harmony between the octave and the rainbow?

Yesterday, libertarian blogger Julian Sanchez announced that if the right-wing Koch brothers successfully take over the libertarian Cato Institute, where he works, he’ll resign. (According to most reports, the Kochs want Cato to be a more reliable instrument of the Republican cause.) Today, Sanchez criticizesprogressives who can’t help noting the irony of libertarians complaining about wealthy people using their money to buy the kind of speech they like.

If Cato is Koch property, progressives say, doesn’t libertarian theory require that the Kochs be allowed to do with it what they will? Silly progressives, says Sanchez. Libertarians aren’t recommending that the Kochs, assuming they have legal title, not be allowed to do whatever they want with Cato. They’re simply saying it’s not a good idea for the Kochs to do whatever they want with Cato—to transform it from the republic of letters libertarians assume to be into the Republican propaganda mill the Kochs would like it to be.  Nothing in libertarian theory precludes libertarians from criticizing how the wealthy use their money.

I realize progressives think libertarianism is just code for uncritical worship of rich people, but as that’s not actually the case, the only irony here is that people think they’re scoring some kind of gotcha point when they’re actually exposing the silliness of their own caricature.

If only Sanchez read his own writing as diligently as he reads his critics’. For what’s noteworthy in his ”presignation” letter is not his complaints about the Kochs and what they’re trying to do. It’s the remarkable portrait he paints of himself and his workplace, how the coercion he imagines his new bosses wielding would threaten his autonomy and integrity, his very capacity to speak the truth as he sees it:

More importantly, I can’t imagine being able to what I do unless I’m confident my work is being judged on the quality of the arguments it makes, not its political utility—or even, ultimately, ideological purity. Obviously Cato has an institutional viewpoint, and I wouldn’t have been hired in the first place if my views on the topics I write about weren’t pretty reliably libertarian. But when it comes down to specific issues and controversies, nobody tells me what to write. If my honest appraisal of the evidence on a particular question leads me to a conclusion that’s not “helpful” in the current media cycle’s partisan squabble, or that differs from either the “official” libertarian line, or from the views of my colleagues, I can write it without worrying that I’ll be summoned to the top floor to explain why I’m “off message.” That’s the essential difference between an analyst and an activist: I can promise readers that what appears under my name—whether I get it right or wrong—represents my sincere best effort to figure out what would be good policy, not an attempt to supply a political actor with a talking point.  If I couldn’t make that promise, I’d have no right to expect people to take my work seriously.

The mere thought that he might “be summoned to the top floor to explain why [he’s] ‘off message’”—with the obvious implication that he’ll be fired if he can’t or if he does it again—is enough, for Sanchez, to compromise his ability to do his job as he understands it, which is to tell the truth. So threatening to his independence and autonomy is the future bosses’ power to fire him that Sanchez believes he must flee it—in advance of it even being exercised.

Ever since the nineteenth century, men and women of the left have looked upon this situation and seen coercion, an unjustified abridgment of freedom. (That’s partially what Marx meant when he spoke of the “despotism…of the workshop.”) Ever since they’ve made that claim, men and women of the libertarian right have said the left is wrong. For a great many reasons, one of them being that the men and women who take such jobs do so voluntarily, and that if they don’t like ‘em, they can leave ‘em.

Sanchez probably thinks he’s saying something like that—he doesn’t like what he imagines the Kochs will do, so he’ll quit—but notice how he describes his decision to leave:

As I said, I’m in no great hurry to leave a job I enjoy a lot—so I’m glad this will probably take a while to play out either way.  But since I’m relatively young, and unencumbered by responsibility for a mortgage or kids, I figure I may as well say up front that if the Kochs win this one, I will.

Sanchez’s youth, his lack of a mortgage and kids—all these material factors and conditions make his exercise of freedom less costly to him and thus more likely to occur. (Indeed, this afternoon he tweeted, “As I wrote, not in a huge hurry, but have fine options if it comes to that.”) Presumably someone not so unencumbered would not be so likely to exercise her freedom. That, it seems, is the clear implication—the presupposition, in fact—of his claim.

Ordinarily, most libertarians dismiss such talk as blurring the lines between negative liberty (the absence of coercion) and positive liberty (the capacity to act). The latter, they often add, is not a species of liberty at all, but something more akin to power or ability.

But clearly there is coercion in the workplace; Sanchez readily admits it. And clearly its reach—whether it touches the individual worker or not—is related to, indeed depends upon, that worker’s ability to act, in this case to quit. Again, Sanchez admits as much.

So if liberty is the absence of coercion, as many libertarians claim, and if the capacity to act—say, by enjoying material conditions that would free one of the costs that quitting might entail—limits the reach of that coercion, is it not the case that freedom is augmented when people’s ability to act is enhanced?

More to the point: is one’s individual freedom not increased by measures such as unemployment compensation, guaranteed health insurance, public pensions, higher wages, strong unions, state-funded or provided childcare—the whole panoply of social democracy that most libertarians see as not only irrelevant to but an infringement upon individual freedom?

In one sense, of course, the libertarians are right: such measures require taxation and redistribution, limitations on what people can do with their property, all of which do infringe upon some limited group of people’s freedom. But by providing to others some version of the freedom from material constraints that Sanchez already enjoys—state-sponsored childcare, for instance, being in one limited respect the financial inverse of not having children at all—such measures would also enhance the freedom of a great many more.

That, it seems to me, is the great divide between right and left: not that the former stands for freedom, while the latter stands for equality (or statism or whatever), but that the former stands for freedom for the few, while the latter stands for freedom for the many. ”We are all agreed as to our own liberty,”wrote Samuel Johnson. “But we are not agreed as to the liberty of others: for in proportion as we take, others must lose. I believe we hardly wish that the mob should have liberty to govern us.” That’s why libertarians like Sanchez can sense so clearly the impending infringement of his freedom while remaining indifferent to the constraints of others.

It’s also why he can so easily toggle from sincere concern about the Kochs’ power at Cato to sneery condescension about the left’s critique of the Kochs’ power throughout the United States.

I don’t generally subscribe to the popular caricature of the Kochs as supervillains.  For a lot of progressives, the Kochs now serve the same function as the Liberal Media does for conservatives: The shadowy elite cabal whose pernicious influence explains why your own common sense views aren’t universally embraced, as they otherwise would be by all right-thinking Americans.

It never seems to dawn on Sanchez that the very same money power that would lead him—a fairly independent minded writer, who feels free enough from economic constraints that he can quit a well-paying, enjoyable gig merely on suspicion that he might be forced to hold his tongue in the future—to second-guess himself at Cato might have equal if not more effect upon others. When the Kochs wield their money at Cato, that’s hegemony. But when they do it in Wisconsin, that’s democracy.

So when leftists smirk at Sanchez’s cri de coeur, it’s not because we think he’s being hypocritical or inconsistent. It’s because we think he’s telling the truth. Exactly as he sees it.

Update (Wednesday, March 7, 1:30 am)

James Grimmelman, a professor at New York Law School, has a brilliant post on what this little episode of libertarian practice means for the larger libertarian theory, specifically about contracts.

“Incentive pay” can backfire, according to some new research. Margaret Lee and Ye Li at Columbia University got people to find as many words as they could in four minutes from the letters “a d e r s t w”. Some solvers were not paid at all. Others were paid per word they found. And others were told that their performance would determine the pay of the next participant.

They found that when people were paid per word, they actually found fewer words than people who weren’t paid: an average of 25.6 compared to 29. This confirms Daniel Pink’s argument that extrinsic rewards can actually crowd out intrinsic motivation.

However, people whose performance determined the pay of the next participant actually found more words than either — an average of 30. Prosocial motivations, then, can be more powerful than selfish ones.

In another experiment, Li and Lee discovered why. It is not because people are purely altruistic, but rather because they are conditional reciprocators. They‘ll work hard for others as long as they expect others to work hard in turn. If this expectation is not fulfilled, prosocial motivation doesn’t work any better than flat-rate pay.

In a third experiment, Li and Lee found that such reciprocity was especially powerful if people expected to be accountable for their actions. They got random pairs of people to type the letters F and J alternatively for 15 minutes, with payment if more than 400 pairs were typed. Some were paid for their own performance, and some for their partners. They found that people working for their partner typed almost 10% more letters if they knew they would meet their partner afterwards than if they didn’t. Such people also typed slightly more letters than those paid for their own performance.

This result might generalize. Most of us see our co-workers every day. If we know their pay depends on our efforts and vice versa, we might therefore be pressurized into working harder. And such pro-social pay gives workers an incentive to monitor each other and so reduce shirking.

Now, it doesn’t follow from this that all firms should adopt “payment for others” — type incentives. I suspect that the power of prosocial motivations depends a lot upon detailed context.

What this research does do, though, is further undermine the notion that high-powered selfish incentives are the best way of motivating people. This belief probably rests more upon a desire to justify inequality than it does upon a basis of empirical evidence.