To continue the discussion of why markets fail as moral agents, reduce the problem to one of knowledge. This is possible if we assume that individuals are by and large rational agents; that is, they will always choose the most beneficial course known to them (see note 1).

Consequently economic decisions are energy minimization problems computed over the domain of knowledge space. Knowledge space, however, is ill-defined formally and difficult to parameterize. Even in cases where it can be parameterized (for instance, the price of a commodity as a function of country of origin) the function is badly behaved and almost never truly independent of other, invisible parameters. This explains to some extent why people are constantly finding “holes” in the energy landscape, the most extreme example of which is the discovery of some new invention which makes a previously impossible process profitable.

Knowledge space is often represented as an undirected graph, with atomic, independent pieces of information located at nodes, and edges used to represent associations. Often a set of nodes are closely entangled with each other, leading to the formation of cliques, with strong links among member nodes and weak links to more loosely associated cliques or nodes. The topology of even a small set of knowledge which has been organized into strictly independent nodes is enormously complex. Additional complexity arises when the introspective and quasi-excludability of knowledge is taken into account: nodes can represent knowledge of the existence of other nodes, and the accesibility of a node can vary if the information it represents is kept secret, published in obscure journals, outright forgotten, or not yet discovered.

Because the energy landscape of a knowledge problem must be calculated over the set of all sets of nodes (value is generated by combinations of knowledge, not single pieces of information), the best solution to a knowledge problem is tractable only in special cases (see note 2), and there is an extremely low probability that any market will be truly efficient.

However, because transaction costs are involved in searching knowledge space, a general principle is that any reduction in search costs will produce a more efficient market. The way in which this is accomplished depends strongly on the search tools used. For instance, Google deliberately emphasizes cliques by increasing the ranking of pages which have a large number of relevant incoming links. The effect is to smooth the landscape, which speeds finding the location of local minima but cannot increase the accesibility of global minima.

This shortcoming can be significant when the most critical pieces of information lie at the edges of the known knowledge space, where a large amount of integration or innovation is necessary to create the knowledge, where accessibility is limited, and the marginal value of the knowledge is small. Thus, even in a market dominated by increasingly sophisticated search engines, a great deal of value can still be created by marketing, which has the effect of moving knowledge located at the edge toward the center.

Marketing, of course, is not an intrinsically amoral activity. It could even be argued that a tremendous amount of moral hazard is implicit in any marketing activity, in that ignorance on the part of the marketer is as often a cause of misleading information as deliberate misinformation, and the law tends to be lenient to anyone who promotes a product in good faith.

If we cannot expect marketing, technology, or the market itself to solve the moral problem inherent in limited knowledge, is there no recourse but to political action? In many cases the answer is yes: products which are known to be poisonous or cause externalities impossible to address with regulations or Coasean techniques should be prohibited. But in general, governments are presented with the same problems of insufficient knowledge, which they must confront from a central location and, because their own course of action is coercion, often at an expense to liberty which cannot be justified.

Skeptics like this author are fond of the distinction made by St. Augustine between positive and negative freedom. Negative freedom implies the absense of restraint, which the market gives us in spades, and which technology greatly enhances, by decreasing the transaction costs involved in searching knowledge space. But negative freedom, for Augustine, can never give us positive freedom, which is the ability to choose correctly. Indeed, positive and negative freedom are to some extent incommensurate, in that mere increases in the number of choices make it more difficult to determine which one is correct.

For an Augustinian this incommensurability is far from gloomy, because Augustine believes the City of God and the City of Man already exist in paradox, and if the best kind of freedom the City of Man can achieve is negative, then it should treat liberty as a fundamental value and leave off trying to create heaven on earth.

Notes:

(1) The validity of rational-agent theory is another topic altogether, and when the concept is extended into the realm of markets (rational market theory) there is considerable disagreement as to its use in predicting the behavior of real markets. Futhermore, it is debateable whether defining rationality as “always acting in one’s best self-interest” constitutes a non-falsifiable distiction (as it may be impossible to imagine a scenario in which an actor’s motivations can be shown to be not self-interested—the Socratic paradox), and whether such distinctions have any analytic power. Nonetheless, because most activity is directed towards personal ends, whether or not these are self-interested, rational-agent theory is at least a good place to start in constructing models of human behavior.

(2) This is a significant argument in favor of free markets over planned economies, by the No Free Lunch theorem, which states that no search method can beat random sampling when the topology of the energy landscape is unknown.