M ainline

Economics
Six Nobel Lectures
in the Tradition of Adam Smith

Edited by

Peter J. Boettke,
Stefanie Haeffele-Balch,
and Virgil Henry Storr

Arlington, ­Virginia
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Introduction and Conclusion © 2016 by Peter J. Boettke, Stefanie Haeffele-­Balch, and Virgil
Henry Storr

Friedrich August von Hayek’s Prize Lecture in Economic Sciences © The Nobel Foundation
(1974)

James M. Buchanan Jr.’s Prize Lecture in Economic Sciences © The Nobel Foundation (1986)

Ronald H. Coase’s Prize Lecture in Economic Sciences © The Nobel Foundation (1991)

Douglass C. North’s Prize Lecture in Economic Sciences © The Nobel Foundation (1993)

Vernon L. Smith’s Prize Lecture in Economic Sciences © The Nobel Foundation (2002)

Elinor C. Ostrom’s Prize Lecture in Economic Sciences © The Nobel Foundation (2009)

Reprinted with permission. All rights reserved.

Editorial note: All lectures reflect the final versions that ­were reprinted in the American Economic
Review, which kindly granted Mercatus permission to reprint the figures that appeared in ­those
versions.

Printed in the USA

 Contents

Introduction: What Is Mainline Economics? 1

Peter J. Boettke, Stefanie Haeffele-­Balch, and Virgil Henry Storr

Chapter 1: The Pretense of Knowledge 23

F. A. Hayek

Chapter 2: The Constitution of Economic Policy 41

James M. Buchanan

Chapter 3: The Institutional Structure of Production 61

Ronald H. Coase

Chapter 4: Economic Per­for­mance through Time 79

Douglass C. North

Chapter 5: Constructivist and Ecological Rationality

in Economics 101
Vernon L. Smith

Chapter 6: Beyond Markets and States: Polycentric

Governance of Complex Economic Systems 191
Elinor C. Ostrom
Contents

Conclusion: Pursuing Research in the Mainline Tradition 251

Peter J. Boettke, Stefanie Haeffele-­Balch, and Virgil Henry Storr

Further Readings in Mainline Economics 257

Index 261

- vi -
 In t r o d u c t i o n : Wh at Is
Ma i n l i n e Ec o n o m i c s ?
P e t e r J. B o e t t k e , St e fa n i e H a e f f e l e - ­B a l c h ,
a n d Vi r g i l He n r y St o r r

A dam Smith made impor­tant contributions to po­liti­cal economy,

moral philosophy, po­liti­cal science, and l­egal philosophy. Addi-
tionally, he wrote in­ter­est­ing pieces on every­thing from astronomy and
stage acting to rhe­toric. Despite the breadth of his scholarship and the
significance of his influence in multiple disciplines, Smith is deservedly
referred to as the ­father of modern economics. He asked and attempted
to answer what has continued to be the central question in economics:
Why are some nations rich and ­others poor?
In his primary contribution to po­liti­cal economy, An Inquiry into
the Nature and ­Causes of the Wealth of Nations, as well as in several of
his other works, especially The Theory of Moral Sentiments and Lectures on
Jurisprudence, Smith explored the nature and consequences of economic
exchange and the influence of informal and formal institutions on
exchange relationships.
Smith offers a straightforward r­ecipe for economic development
in The Wealth of Nations. This ­recipe is captured in Smith’s famous dic-
tum regarding the importance of “peace, easy taxes, and the tolerable
administration of justice.” The richest socie­ties are ­those socie­ties that
benefit from the gains to productivity that result from the division of
- 1 -
Introduction

­­­­
labor. According to Smith ([1776] 1981: 13), “the greatest improve-
ment in the productive powers of labour, ­­­­ and the greater part of the
skill, dexterity, and judgment with which it is any where directed, or
applied, seem to have been the effects of the division of ­­­­labour.” It is,
Smith argues, our propensity to trade that gives occasion to the divi-
sion of ­­­­labor. It is our propensity to “truck, barter, and exchange” that
allows both for you to satisfy your need for food and for me to satisfy
my need for farming instruments even when you have focused solely
on developing farming instruments and I have focused all of my efforts
on farming. “As it is the power of exchanging that gives occasion to
the division of ­­­­labour,” Smith (ibid.: 31) explains, “so to the extent of
this division must always be limited by that power, or, in other words,
by the extent of the market.” The richest socie­ties are, therefore, ­those
whose formal and informal institutions allow for and protect an open
and expansive market sphere.
In addition to articulating the key question in modern economics
and offering a compelling and still well-­regarded answer to that ques-
tion, Adam Smith also anticipated and inspired a number of the major
theoretical developments in several branches of economics, includ-
ing price theory, market pro­cess economics, economic development,
industrial organ­ ization, public economics, institutional economics,
experimental economics, and behavioral economics. But, while many
economists w ­ ill trace the profession back to the tomes of Adam Smith
and admit to finding inspiration in Smith for their theoretical and
empirical proj­ects, it is sometimes quite difficult to identify Smith’s
direct influence in many of the branches of modern economics. In
fact, the propositions regarding the nature of ­­­­human action, the place
of institutions, and the role of government articulated by the main-
stream of economics has sometimes deviated quite significantly from
­those advanced by the mainline of economics that descended from
Adam Smith.
- 2 -
 Introduction

­ here are, however, several economists whose research is grounded

T
in the Smithian mainline of economics. The Nobel Laureates in Eco-
nomics whose addresses are collected in this volume—­F. A. Hayek,
James M. Buchanan, Ronald H. Coase, Douglass C. North, Vernon L.
Smith, and Elinor C. Ostrom—­represent key figures in the mainline of
economics.

Mainline Po­liti­cal Economy

Peter Boettke has written elsewhere about the distinction between

mainline and mainstream economics.1 “Mainline,” he (2012: xvii) explains,
“is defined as a set of positive propositions about social order that w ­ ere
held in common from Adam Smith onward, but mainstream economics
is a so­cio­log­i­cal concept related to what is currently fash­ion­able among
the scientific elite of the profession.”
The economists in the mainline are attempting to address the ques-
tions advanced by Smith and are working to critically engage and
­advance the propositions that Smith introduced. This is not to suggest
that mainline economists are always self-­consciously engaged in a his-
tory of thought or hermeneutical exercise to interpret or reinterpret
Smith.2 This is also not to suggest that the mainline economists always
agree with any par­tic­u­lar aspect of Smith’s analy­sis or with Smith’s con-
clusions. Instead, it is meant to suggest that you can identify Smithian
themes in their theoretical and empirical work.
Mainstream economics, on the other hand, is the dominant econom-
ics at any given time. It is the brand of economics practiced by most
professional economists in any par­tic­u­lar period. The economists in the
mainstream, thus, represent the leading figures in economic science
at any given time. They hold positions at the most prestigious insti-
tutions, and they publish in the most prestigious academic journals.
- 3 -
Introduction

­ hose economists outside the most prestigious places who take their
T
scientific cues, as it ­were, from ­those at the most prestigious settings,
would also be considered mainstream economists.
It is impor­tant to note that ­there have been significant shifts
over time in what constitutes mainstream economics. For instance, the
Keynesian revolution in macroeconomics gave rise to the Neoclassical
Synthesis, which in turn lost ground to the Neo-­Keynesians, who ­were
then replaced by monetarism and New Classical Economics, which
gave way to New Keynesian Economics, which has lost ground to the
New Neoclassical Synthesis. The same has happened in institutional
economics, where the Old Institutionalism of Thorstein Veblen has
been ­replaced by the New Institutional Economics of North.
It is also impor­tant to note that mainline economics sometimes
represents the mainstream and sometimes it does not. As Boettke (ibid.)
notes, “Often the mainline and the mainstream dovetail, but at other
times they deviate from one another.” Keynes’ theory, for instance,
replaced an older mainline monetary theory advanced by Knut Wicksell,
Hayek, and ­others as the mainstream view. Similarly, as noted above, the
institutionalism of Veblen was replaced by the mainline institutional
views of North.
Arguably, ­there are at least three propositions regarding the nature
of ­­­­human action and the role of institutions that mainline economics
critically adopt and advance: (1) ­there are limits to the benevolence that
individuals can rely on and therefore they face cognitive and epistemic
limits as they negotiate the social world, but (2) formal and informal
institutions guide and direct ­human activity, and, so (3) social coop-
eration is pos­si­ble without central direction. Stated another way, by
­relying on the emergent and ­human-­devised rules of conduct, agents
possessing both the capacities and the failings of the typical ­human
being can nonetheless work together to achieve their individual and
collective goals.
- 4 -
 Introduction

­ uman beings can be imperfectly benevolent. As Smith argues in

H
the “butcher, brewer, baker” passage in The Wealth of Nations, civilized
society forces us to rely on the cooperation and assistance of countless
­others who are outside our narrow circle of ­­­­family and friends. Think,
for instance, of the large number of individuals involved in the pro-
duction of the s­ imple woolen coat that the day laborer wears.3 Conse-
quently, we cannot rely on ­others’ benevolence alone when attempting
to convince them to act on our behalf. We are more likely to succeed,
Smith explains, by relying on their self-­love than by relying on their
kindness. “It is not from the benevolence of the butcher, the brewer,
or the baker, that we expect our dinner,” Smith ([1776] 1981: 27) writes,
“but from their regard to their own interest. We address ourselves, not
to their humanity but to their self-­love, and never talk to them of our
own necessities but of their advantages.” Although individuals are far
from selfish on Smith’s account, and do not slavishly pursue their nar-
row interests without limits, they are rightfully self-­interested. As Smith
([1759] 1982: 213) explains in The Theory of Moral Sentiments, prudence
is a virtue.4
While ­human beings cannot rely solely on the benevolence of
individuals to assist them, they also cannot rely on a central authority
arranging ­human society and directing ­others in such a way that every­
one’s needs are met. ­Human beings can also never know enough to
devise and control such a system. Smith’s ridicule of the “man of sys-
tem” is quite telling in this regard. “The man of system,” Smith (ibid.:
234) writes, “is apt to be very wise in his own conceit.” And, as Smith
(ibid.: 235) continues, the man of system

seems to imagine that he can arrange the members of a g­ reat soci-

ety with as much ease as the hand arranges the dif­fer­ent pieces
upon a chess-­board. He does not consider that the pieces of the
hand have no other princi­ple of motion besides that which the
- 5 -
Introduction

hand impresses upon them; but that, in the chess-­board of human

society, e­ very single piece has a princi­ple of motion of its own,
altogether dif­fer­ent from that which the legislature might choose
to impress on them.

The man of system inexorably ­faces what Don Lavoie ([1985] 2015;
[1985] 2016) has characterized as a “knowledge prob­lem.” ­Every h ­ uman
being has a princi­ple of motion of her own that the central authority
could never know, much less marshal to control ­human society.
That we must cooperate with countless ­others to satisfy our needs,
and that t­ hese o ­ thers cannot be made to do so by some central author-
ity nor compelled to do so ­because of their intimate connection to us,
need not paralyze us. Individuals are able to negotiate the social world
­because ­there are formal and informal rules of just conduct on which
they can rely.
Institutions m­ atter for Smith. As Smith ([1776] 1981: 910) notes,
“commerce and manufactures can seldom flourish long in any state
which does not enjoy a regular administration of justice, in which the
­people do not feel themselves secure in the possession of their property,
in which the faith of contracts is not supported by law, and in which the
authority of the state is not supposed to be regularly employed in enforc-
ing the payment of debts from all ­those who are able to pay.” Consider,
also, Smith’s discussion of how dif­fer­ent institutional arrangements in
two universities can actually alter the quality of teaching in ­those set-
tings (ibid.: 760). While teachers in Scotland ­were paid primarily from
fees from students, teachers in Oxford w ­ ere paid from endowments
and w ­ ere prohibited from receiving fees from their pupils. As such,
in Scottish universities (such as Glasgow), teachers could incur mone-
tary losses if student enrollment dropped, whereas in Oxford, teachers
­were paid the same w ­ hether their lectures ­were well attended or not.

- 6 -
 Introduction

According to Smith, professors cared more about teaching in Scottish

universities than they did at Oxford. “In the university of Oxford,”
Smith (ibid.: 761) asserts, perhaps hyperbolically, “the greater part of
the public professors have for t­ hese many years, given up altogether the
pretense of teaching” ­because professor pay ­there was divorced from
per­for­mance. By examining the incentives of the dif­fer­ent institutional
structures, Smith was able to understand why a commitment to teach-
ing and providing quality lectures varied across universities.5
Similarly, Smith has also argued that norms govern the be­hav­ior
of individuals. For instance, he described how norms of fair play affect
the way that we compete with one another and how we view the
­competitive be­hav­ior of ­­­­others. As Smith ([1759] 1982: 83) explains,

In the race for wealth, and honours, and preferments, he may run as
hard as he can, and strain ­every nerve and ­every muscle, in order to
outstrip all his competitors. But if he should justle, or throw down
any of them, the indulgence of the spectators is entirely at an end.
It is a violation of fair play, which they cannot admit of. This man is
to them, in ­every re­spect, as good as he: they do not enter into that
self–­love by which he prefers himself so much to this other, and
cannot go along with the motive from which he hurt him.

We are comfortable with ­people competing to the best of their abilities,

trying as hard as they can, and seeking what­ever advantage that they
can secure so long as they act within the rules. But, we are not willing
to endorse individuals who are willing to cheat to win. And, most of
us cannot so prefer ourselves over o
­ thers that we cheat to win without
our internal compasses “humbl[ing] the arrogance of [our] self-­love,
and bring[ing] it down to something which other men can go along
with” (ibid.).

- 7 -
Introduction

Individuals with imperfect benevolence, cognition, and knowledge

are able to cooperate with the aid of formal rules and social norms.
Additionally, this cooperation and the social order that results, Smith
has demonstrated, can and does occur without the direction of a
­central authority.
Indeed, as Smith famously argued, individuals pursuing their own
goals are led as if by an “invisible hand” to satisfy the desires and to
improve the lives of ­­­­others. Commenting on the efficacy of efforts to
regulate commerce with the aim of supporting domestic industries,
Smith ([1776] 1981: 453) argued in The Wealth of Nations that “no regu-
lation of commerce can increase the quantity of industry in any society
beyond what its capital can maintain. It can only divert a part of it into
a direction into which it might not other­wise have gone; and it is by no
means certain that this artificial direction is likely to be more advan-
tageous to the society than that into which it would have gone of its
own accord.”
The maximum size of a society’s economy, as it w ­ ere, is driven by
certain market fundamentals (that is, the extent of the market, the
level of productivity, the size of its capital stock, and so on). More­over,
while efforts to direct the economy through regulation can change its
course (perhaps for the worse) ­toward certain industries and away from
­others, regulation cannot expand the domestic economy beyond
­certain natu­ral limits. In fact, as Smith writes, domestic entrepreneurs
attempting to advance their own interests, rather than regulation, is what
drives economic growth. According to Smith (ibid.: 456),

­every individual necessarily l­abours to render the annual revenue

of the society as g­ reat as he can. He generally, indeed, neither
intends to promote the public interest, nor knows how much he
is promoting it. . . . ​by directing that industry in such a manner as
its produce may be of the greatest value, he intends only his own
- 8 -
 Introduction

gain, and he is in this, as in many other cases, led by an invisible

hand to promote an end which was no part of his intention.

And, as Smith (ibid.: 454) wrote, “­Every individual is continually

exerting himself to find out the most and ­every man’s interest leads
him to seek that employment of capital which is most advantageous to
the society. It is his own advantage, indeed, and not that of the society,
which he has in view. But the study of his own advantage naturally, or
rather necessarily leads him to prefer that employment which is most
advantageous to the society.” It is not the vis­i­ble hand of regulation but
the invisible hand of the market that directs entrepreneurial efforts in
socially beneficial directions.6
In The Theory of Moral Sentiments, Smith’s reference to the invisible
hand speaks to the likelihood that the advantages of the rich can, must,
and ­will (eventually) be shared with even the poorest in a commer-
cial society. The constant striving for riches leads to economic growth
and might lead to in­equality in certain re­spects, but the trend is always
­toward equality regarding the necessaries of life. As Smith ([1759] 1982:
184 –185) wrote,

The produce of the soil maintains at all times nearly that number
of inhabitants which it is capable of maintaining. The rich only
select from the heap what is most precious and agreeable. They
consume l­ittle more than the poor; and in spite of their natu­ral
selfishness and rapacity, though they mean only their own conve-
niency, though the sole end which they propose from the l­abours
of all the thousands whom they employ be the gratification of
their own vain and insatiable desires, they divide with the poor the
produce of all their improvements. They are led by an invisible
hand to make nearly the same distribution of the necessaries of
life which would have been made had the earth been divided into
- 9 -
Introduction

equal portions among all its inhabitants; and thus, without intend-
ing it, without knowing it, advance the interest of the society, and
afford means to the multiplication of the species. When Provi-
dence divided the earth among a few lordly masters, it neither for-
got nor abandoned t­ hose who seemed to have been left out in the
partition. ­These last too enjoy their share of all that it produces.

The invisible hand postulate in Smith, thus, speaks to the likeli-

hood that individuals pursuing their self-­interest within the institutional
framework that typically characterizes commercial socie­ties generates a
complex but unintended social order that aligns their individual inter-
ests with the general interests.
Adam Smith articulated a view of the economy that stressed the
limits to ­human generosity, rationality, and knowledge; the importance
of formal rules and social norms; and the potential of the invisible hand
to lead individuals pursuing their self-­interest in commercial settings to
behave in socially beneficial ways. The six Nobel Laureates in Economics
featured in this volume share ­these characteristic views of mainline
economics, recognize their distinction from the mainstream of the
discipline, and argue for continued work within the mainline tradition.

Six Nobel Lectures in the Mainline Tradition

The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred

Nobel (Nobel Prize in Economics) has been awarded annually since
1969 to scholars who have made significant contributions to the field.
Nobel Prize addresses are typically opportunities for the laureates to
summarize their work and reflect on their scholarly contributions. They
are, however, also opportunities to comment on the state of the eco-
nomics profession and to offer advice to current and f­ uture economists.
- 10 -
 Introduction

It should be noted that while we include only six addresses h­ ere, we

do not mean to suggest that the other Nobel Laureates in E ­ conomics
(seventy-­six to date at the printing of this volume) have rejected Adam
Smith’s ideas or have not been influenced by Smith’s arguments. We
argue, instead, that the six Nobel Laureates in Economics featured
­here are the ones who most consistently embrace and seek to advance
the insights found in Adam Smith. T ­ hese six addresses also offer seri-
ous critiques of the mainstream of the discipline and make an appeal
to a return to the mainline.
In chapter 1, “The Pretense of Knowledge,” Friedrich August
von Hayek discusses his disappointment with the economics profes-
sion over its failure to guide public policy in a direction that would
have avoided the economic prob­lems of the 1970s as well as as his
disappointment with ­those economists who are more concerned with
­appearing scientific than actually being scientific.
Hayek, along with Gunnar Myrdal, won the Nobel Prize in Eco-
nomics in 1974 for “their pioneering work in the theory of money and
economic fluctuations and for their penetrating analy­sis of the inter-
dependence of economic, social and institutional phenomena.”7 The
Nobel Committee also highlighted Hayek’s work on comparative eco-
nomic systems, specifically noting his contributions to the inherent
prob­lems with central planning and market socialism, and the ability of
dif­fer­ent economic systems to access, interpret, and utilize decentral-
ized knowledge to solve collective prob­lems.
Rather than using his Nobel address to celebrate his own work or
influence, as was by then and would continue to be the typical subject
­matter of Nobel addresses, Hayek used his address to criticize the eco-
nomics profession. As Hayek (see page 25) states, “We have indeed
at the moment ­little cause for pride: as a profession we have made a
mess of ­­­­things.” He cautions that while economists are often asked to
design policies, they must recognize the limits of central planning and
- 11 -
Introduction

interventionism as well as the unintended consequences of tinkering

with how p ­ eople engage in commercial and social activity.
In fact, Hayek chided economists for their hubris. The economist’s
hubris, Hayek explained, is manifested in a “pretense of knowledge,” a
pretense that economists can and do know what it is actually impossible
for us to know in an effort to imitate and appear on par with the physical
sciences. But, given the complexity of the subject m ­ atter, the economist
can at best attain “true but imperfect knowledge,” which might leave
“much indetermined and unpredictable” (see page 32). And, econ­
omists should acknowledge as much when advising on public policy
rather than pretending to have access to an “exact knowledge which is
likely to be false” (ibid.). Moreover, as Hayek concludes, “If man is not
to do more harm than good in his efforts to improve the social order,
he ­will have to learn that . . . ​he cannot acquire the full knowledge which
would make mastery of the events pos­si­ble.” Ultimately, Hayek argues,
economists should remain h ­ umble when weighing in on public policy
discussions. “The recognition of the insuperable limits to his knowledge,”
Hayek states, “­ought indeed to teach the student of society a lesson of
humility which should guard him against becoming an accomplice in
men’s fatal striving to control society.”
In chapter 2, “The Constitution of Economic Policy,” James M.
Buchanan emphasizes the importance of methodological symmetry
when studying both markets and politics, and highlights his intellectual
indebtedness to Wicksell.
Buchanan won the Nobel Prize in Economics in 1986 for “his
­development of the contractual and constitutional bases for the theory
of economic and po­liti­cal decision-­making.”8 The Nobel Committee
recognized Buchanan’s contributions to the development of the fields
of public choice economics and constitutional po­liti­cal economy, spe-
cifically noting his utilization of the tools of economics to examine the

- 12 -
 Introduction

po­liti­cal pro­cess and his emphasis on the importance of the rules of the
game in determining the success or failure of po­liti­cal action.
Buchanan used his Nobel lecture to remind economists that indi-
viduals in politics, just as in markets, act purposively, pursue their
own interests, and engage in exchange in order to secure the (po­liti­
cal) goods and ser­vices for themselves or ­others. As such, economists
would do well to heed the guidance of Wicksell. “Stripped to its
essentials,” Buchanan (see page 44) asserts, “Wicksell’s message was
clear, elementary, and self-­evident. Economists should cease proffer-
ing policy advice as if they ­were employed by a benevolent despot,
and they should look to the structure within which po­liti­cal deci-
sions are made.”
The nature of the institutions that govern po­liti­cal decision-­making
and the difference between po­liti­cal and market institutions m ­ atter
a ­g reat deal to Buchanan. For Buchanan, the differences we observe
­between politics and markets (which we can think of as two games we
chose to play) have more to do with the dif­fer­ent rules governing action
within the two games and less to do with any differences in the players
who are attracted to ­those games. As Buchanan (see page 50) ­asserts,
“The relevant difference between markets and politics does not lie in
the kinds of values/interest that persons pursue, but in the c­ onditions
­under which they pursue their vari­ous interests.”
Buchanan believes that a focus on the rules of the po­liti­cal pro­
cess, the pro­cesses by which citizens can alter ­these rules, and the likely
consequences of any policy proposal, given the existing or likely institu-
tional environment in which it w ­ ill be implemented, rather than advo-
cacy of specific policies and interventions, should become the central
focus of the po­liti­cal economist. Like Hayek, then, Buchanan (see page
58) argues for a more ­humble role for the po­liti­cal economist: “Posi-
tively, this role involves analy­sis of the working properties of alternative

- 13 -
Introduction

sets of constraining rules. . . . ​Normatively, the task for the constitu-

tional po­liti­cal economist is to assist individuals, as citizens who ulti-
mately control their own social order, in their continuing search for
­those rules of the po­liti­cal game that w ­ ill best serve their purposes,
what­ever t­ hese might be.”
In chapter 3, “The Institutional Structure of Production,” Ronald H.
Coase discusses the importance of industrial organ­ization theory as well
as the role of institutions in shaping social activity.
Coase won the Nobel Prize in Economics in 1991 for “his discovery
and clarification of the significance of transaction costs and property
rights for the institutional structure and functioning of the economy.”9
Specifically, the Nobel Committee highlighted Coase’s introduction of a
focus on the costs associated with engaging in exchange and managing
organ­izations into economic analy­sis as well as his success in explain-
ing the institutional structure of the economy.
Coase, in his Nobel lecture, described modern economics as an
attempt to fill in the gaps in Adam Smith’s system and to make certain
princi­ples in Adam Smith’s analy­sis more exact. As Coase explained
(see page 64), “A principal theme of The Wealth of Nations was that
government regulation or centralized planning w ­ ere not necessary to
make an economic system function in an orderly way. The economy
could be co­ordinated by a system of prices (the ‘invisible hand’) and,
furthermore, with beneficial results. A major task of economists since
the publication of The Wealth of Nations . . . ​has been to formalize this
proposition of Adam Smith.” Coase noted that his contributions, in
par­tic­ul­ ar, sought to explain the existence and size of firms by explic­itly
introducing transaction costs into economics, which in many ways was
just an extension of Smith’s implicit use of transaction costs when dis-
cussing how certain “hindrances to commerce” might exist and could
be overcome by the use of money. Additionally, Coase notes that he

- 14 -
 Introduction

hoped that his research would highlight the importance of examining

­legal institutions for economic analy­sis.
Throughout his address, Coase emphasizes the role of institu-
tions in shaping social activity. Although understanding economic
systems and the likely effects of public policy necessitates a focus on
institutions, Coase argues that institutions have long been ignored by
con­temporary economists. ­There is, Coase (see page 66) explains, a
“neglect of the market or more specifically the institutional arrange-
ments which govern the pro­cess of exchange. As ­these institutional
arrangements determine to a large extent what is produced, what we
have is a very incomplete theory.” This neglect, according to Coase,
­occurred ­because of the increasing formalization and abstraction of the
discipline. “What is studied,” Coase (ibid.) laments, “is a system which
lives in the minds of economists but not earth. . . . ​The firm and the
market appear by name but they lack any substance.” Coase meant for
his research to be a corrective to this trend and describes his work as
bringing institutional analy­sis back into the discipline by contributing
to the understanding of the vari­ous ways in which individuals over-
come transaction costs (through firms, l­egal structures, and so on). “In
fact,” Coase (see page 70) argues, “a large part of what we think of as
economic activity is designed to accomplish what high transaction costs
would other­wise prevent or to reduce transaction costs so that individ-
uals can freely negotiate and we can take of advantage of that diffused
knowledge of which Hayek has told us.”
Douglass C. North, in chapter 4, “Economic Per­for­mance Through
Time,” argues that neoclassical economics, which neglects the impor-
tance of institutions and time, is ill-­suited to study economic history
and development.
North, along with Robert W. Fogel, won the Nobel Prize in Eco-
nomics in 1993 for “having renewed research in economic history

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Introduction

by applying economic theory and quantitative methods in order to

explain economic and institutional change.”10 The Nobel Committee
highlighted North’s role in pioneering New Institutional Economics
and, in par­tic­u­lar, his explication of the role of institutions in shaping
economic pro­cesses as well as his key insights regarding the pro­cess of
institutional change.
North explained in his address that “neoclassical theory is simply
an inappropriate tool to analyze and prescribe policies that ­will induce
development” (see page 81). While the study of economic per­for­mance
through time must acknowledge that time ­matters and must account
for the role of institutions, neoclassical theory assumes “(i) that insti-
tutions ­don’t ­matter and (ii) that time does not ­matter” (see page 82).
“When applied to economic history and development,” North (ibid.)
explained, neoclassical theory “focused on technological development
and more recently ­human-­capital investment but ignored the incentive
structure embodied in institutions that determined the extent of soci-
etal investment in ­those ­factors.”
North, however, advances an approach to studying economic his-
tory and development that modifies neoclassical theory to include insti-
tutions and to explic­itly account for the passage of time. Institutions,
North (see page 83) explains, “are the humanly devised constraints that
structure ­human interaction.” ­These include formal constraints (like
laws), informal constraints (like social norms), and the mechanisms
through which ­these constraints are enforced. According to North, the
institutions “define the incentive structure of socie­ties” (ibid.) as well
as explain the “organ­izations that come into existence” (see page 86).
And, it is the interactions between the rules of the game (the institu-
tions) and the players of the game (the organ­izations) that lead to the
“institutional evolution of an economy” (ibid.). Institutional change
occurs when the players perceive that they could do better ­under dif­
fer­ent rules.
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 Introduction

In chapter 5, “Constructivist and Ecological Rationality in Eco-

nomics,” Vernon L. Smith emphasizes the shortcomings of the stand-
ard socioeconomic science model of rationality, the limits of con-
structivism, and the importance of emergent phenomena like norms,
traditions, and morality in understanding how social order comes about
through the interaction of individuals.
Smith won the Nobel Prize in Economics in 2002, along with
Daniel Kahneman, for “having established laboratory experiments as
a tool in empirical economic analy­sis, especially in the study of alter-
native market mechanisms.”11 The Nobel Committee also recognized
Smith’s role in developing multiple experimental methods as well as
setting standards for examining economic questions in the lab.
In his Nobel address, Smith distinguishes between two types of
rational social o­ rders: constructivist rationality and ecological rational-
ity. According to Smith (see page 108), constructivist rationality (what
Hayek called constructivism) “uses reason to deliberately create rules of
action, and create ­human socioeconomic institutions that yield outcomes
deemed preferable, given par­tic­u­lar circumstances, to ­those produced by
alternative arrangements.” Contrastingly, ecological rationality (which
appreciates emergent order) “uses reason—­rational reconstruction—
to examine the be­hav­ior of individuals based on their experience and
folk knowledge, who are ‘naive’ in their ability to apply constructivist
tools to the decisions they make; to understand the emergent order in
­human cultures; to discover the pos­si­ble intelligence embodied in the
rules, norms, and institutions of our cultural and biological heritage
that are created from ­human interactions but not by deliberate ­human
design” (see pages 110–11).
While we should be proud of the achievements of constructiv-
ism, as Smith points out, most institutions and decision-­making are
guided by ecological rationality rather than constructivist rationality.
Most p ­ eople follow rules that might be tacit. Most p ­ eople engage in
- 17 -
Introduction

social practices that they might not be able to explain. Understanding

this rule following and norm per­for­mance is critical to understand-
ing the existence, emergence, and evolution of social order. According
to Smith (ibid.), recognizing the importance of the “undesigned eco-
logical system that emerges out of cultural and biological evolution-
ary pro­cesses” is “the intellectual heritage of the Scottish phi­los­o­phers
[including Adam Smith], who described and interpreted the social
and economic order they observed.” Economic experiments, Smith
explains, allow us to explore both how constructed o ­ rders are likely
to perform as well as the functioning of the “undesigned ecological
system.”
In chapter 6, “Beyond Markets and States: Polycentric Governance
of Complex Economic Systems,” Elinor C. Ostrom argues for social
science research that appreciates the complexity of polycentric self-­
governance systems in order to more fully understand how complex
­human beings live within a variety of institutional arrangements to
satisfy their individual goals and work together or fail to work together
to solve collective prob­lems.
Ostrom won the Nobel Prize in Economics in 2009, along with
Oliver E. Williamson, for “her analy­sis of economic governance, espe-
cially the commons.”12 Specifically, the Nobel Committee highlighted
Ostrom’s use of fieldwork to study real-­world collective action prob­
lems, like governing common-­pool resources, as well as her efforts to
explain how groups overcome ­those challenges and establish effective
governance mechanisms.
Ostrom was dissatisfied with the use of simple
­­­­ constructions that
­were traditionally used by social scientists. Fortunately, Ostrom (see
page 193) explains, “scholars are slowly shifting from positing ­simple
systems to using more complex frameworks, theories, and models
to understand the diversity of puzzles and prob­lems facing ­humans
interacting in con­temporary socie­ties.” She highlights her work on
- 18 -
 Introduction

common-­pool resources and the ways in which communities find

ways to govern, use, and conserve ­these resources despite clear owner­
ship and exclusion rights. Adopting traditional distinctions between
­pub­lic and private goods, she explains, would not have been adequate
for ­understanding the collective solutions that emerged to deal with
this challenge. Through extensive fieldwork and case studies (such as
­examining forests, fisheries, and ­water rights management, as well as
­policing ser­vices) throughout the world, however, she discovered a set
of design princi­ples for successful common-­pool resource manage-
ment. Such princi­ples include establishing bound­aries, appropriation
and provision rules, collective choice arrangements regarding rights
and rules, monitoring, graduated sanctions, conflict resolution, and
nested governance systems.
Ostrom’s investigation of these
­­­­ collective efforts to overcome com-
munity challenges and her appreciation of the commonalities between
successful collective solutions to ­these prob­lems taught her critical les-
sons for conducting public policy analy­sis. One key lesson regards the
difficulty of monitoring and the importance of trust in group settings.
Another is related to the inadequacy of using s­ imple models to make
sense of complex phenomena. And, an additional key lesson speaks
to the error of advocating one-­size-­fits-­all solutions to similar but dis-
tinct social prob­lems. However, “the most impor­tant lesson for pub-
lic policy analy­sis derived from the intellectual journey I have outlined
­here,” Ostrom (see page 237) concludes, “is that h ­ umans have a more
complex motivational structure and more capability to solve social
dilemmas than posited in earlier rational-­choice theory. . . . ​Extensive
empirical research leads me to argue that instead, a core goal of public
policy should be to facilitate the development of institutions that bring
out the best in h­ umans.”

- 19 -
Introduction

Notes

1. Boettke developed his concept of mainline economics from Kenneth Bould-

ing, who also used the term. Boulding (1971) argued that Adam Smith was a part of the
“extended pres­ent,” that not all of his insights had been incorporated into pres­ent-­day
theories, and so he still has something to teach con­temporary readers and researchers. See
also Boettke et al. (2014).
2. Though, at least four of the six authors h ­ ere (Hayek, Buchanan, Coase, and
Smith) have attempted rather deep historical interpretations of Adam Smith and the Scot-
tish Enlightenment as part of their proj­ects. Additionally, North and Ostrom have at least
reflected on their connections to Smith.
3. Smith ([1776] 1981: 16) states, “The l­abour too which is necessary to produce
any one complete manufacture, is almost always divided among a ­great number of hands.
How many dif­fer­ent trades are employed in each branch of the linen and woollen manu-
factures, from the growers of the flax and the wool, to the bleachers and smoothers of the
linen, or to the dyers and dressers of the cloth!” And,
Observe the accommodation of the most common artificer or day-­labourer in
a civilized and thriving country, and you w ­ ill perceive that the number of people
­­­­
of whose industry a part, though but a small part, has been employed in pro-
curing him this accommodation, exceeds all computation. The woollen coat, for
example, which covers the day-­labourer, as coarse and rough as it may appear, is
the produce of the joint l­abour of a g­ reat multitude of workmen. The shepherd,
the sorter of the wool, the wool-­comber or carder, the dyer, the scribbler, the
spinner, the weaver, the fuller, the dresser, with many ­others, must all join their
dif­fer­ent arts in order to complete even this homely production. How many mer-
chants and carriers, besides, must have been employed in transporting the materi-
als from some of ­­­­those workmen to ­others who often live in a very distant part of
the country! How much commerce and navigation in par­tic­u­lar, how many ship-­
builders, sailors, sail-­makers, rope-­makers, must have been employed in order to
bring together the dif­fer­ent drugs made use of by the dyer, which often come
from the remotest corners of the world! What a variety of labour ­­­­ too is necessary
in order to produce the tools of the meanest of those ­­­­ workmen! To say nothing of
such complicated machines as the ship of the sailor, the mill of the fuller, or even
the loom of the weaver, let us consider only what a variety of ­­­­labour is requisite in
order to form that very ­simple machine, the shears with which the shepherd clips
the wool. The miner, the builder of the furnace for smelting the ore, the feller of
the timber, the burner of the charcoal to be made use of in the smelting-­house,
the brick-­maker, the brick-­layer, the workmen who attend the furnace, the mill-­
wright, the forger, the smith, must all of them join their dif­fer­ent arts in order to
produce them. . . . ​if we examine, I say, all t­ hese t­ hings, and consider what a variety
of labour
­­­­ is employed about each of them, we ­shall be sensible that without the
assistance and co-­operation of many thousands, the very meanest person in a
civilized country could not be provided, even a­ ccording to, what we very falsely

- 20 -
 Introduction

imagine, the easy and ­simple manner in which he is commonly accommodated.

(22 –23)
Similarly, Leonard E. Read (1958) explored the complicated pro­cess of manufactur-
ing another abundant and inexpensive product, the pencil.
4. According to Smith ([1759] 1982: 213), “The care of the health, of the fortune,
of the rank and reputation of the individual, the objects upon which his comfort and
happiness in this life are supposed principally to depend, is considered as the proper busi-
ness of that virtue which is commonly called prudence.”
5. See also Smith’s ([1776] 1981: 788) discussion of established churches and reli-
gious competition. He argued that competition in religion would lead to more religiosity
in society, as preachers would be incentivized to be more effective. As Smith (ibid.: 788)
wrote, “The teachers of the doctrine which contains this instruction, in the same manner
as other teachers, may ­either depend altogether for their subsistence upon the voluntary
contribution of their hearers; or they may derive it from some other fund to which the
law of their country may entitle them; such as a landed estate, a tythe or land tax, an
established salary or stipend. Their exertion, their zeal and industry, are likely to be much
greater in the former situation than in the latter.“
6. Smith pairs this with a warning against insisting that businesses allow social aims
to trump commercial goals. According to Smith ([1776] 1981: 456), “I have never known
much good done by t­ hose who affected to trade for the public good.” Additionally, Smith
(ibid.) writes, “The statesman, who should attempt to direct private ­people in what man-
ner they ­ought to employ their capitals, would not only load himself with a most unneces-
sary attention, but assume an authority which could safely be trusted, not only to no single
person, but to no council or senate what­ever, and which would nowhere be so dangerous
as in the hands of a man who had folly and presumption enough to fancy himself fit to
exercise it.”
7. “The Prize in Economics 1974—­ Press Release,” Nobelprize​.­org, accessed
March 9, 2016, http://­www​.­nobelprize​.­org​/­nobel​_­prizes​/­economic​-­sciences​/­laureates​
/­1974​/­press​.­html.
8. “The Prize in Economics 1986—­ Press Release,” Nobelprize​.­org, accessed
March 10, 2016, http://­www​.­nobelprize​.­org​/­nobel​_­prizes​/­economic​-­sciences​/­laureates​
/­1986​/­press​.­html​.­
9. “The Prize in Economics 1991—­Press Release,” Nobelprize​.­org, March 10,
2016. http://­www​.­nobelprize​.­org​/­nobel​_­prizes​/­economic​-­sciences​/­laureates​/­1991​
/­press​.­html​.­
10. “The Prize in Economics 1993—­ Press Release,” Nobelprize​.­org, accessed
March 10, 2016, http://­www​.­nobelprize​.­org​/­nobel​_­prizes​/­economic​-­sciences​/­laureates​
/­1993​/­press​.­html​.­
11. “The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred
Nobel 2002,” Nobelprize​.­org, accessed March 2, 2016, http://­www​.­nobelprize​.­org​/­nobel​
_­prizes​/­economic​-­sciences​/­laureates​/­2002​/­​.­
12. “The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred
­Nobel 2009,” Nobelprize​.­org, accessed March 10, 2016, http://­www​.­nobelprize​.­org​/­nobel​
_­prizes​/­economic​-­sciences​/­laureates​/­2009​/­​.­

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Introduction

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In­de­pen­dent Institute.
Boettke, Peter J., Christopher J. Coyne, and Peter T. Leeson. 2014. “Earw(h)ig:
I ­Can’t Hear You ­Because Your Ideas Are Old.” Cambridge Journal of Economics 38:
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Boulding, Kenneth E. 1971. “­After Samuelson, Who Needs Adam Smith?” History of
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Lavoie, Don. 2015. Rivalry and Central Planning: The Socialist Calculation Debate Reconsidered.
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—­—­—. 2016. National Economic Planning: What Is Left? Arlington, VA: Mercatus Center.
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Read, Leonard E. 1958. I, Pencil: My ­Family Tree as Told to Leonard E. Read. Irvington-­on-­
Hudson, NY: The Foundation for Economic Education.
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—­—­—. 1982. The Theory of Moral Sentiments. Edited by D. D. Raphael and A. L. Macfie.
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