‘Markets cannot be independent of ethical considerations’

The 2008 meltdown brought into sharp focus the moral standards of executives at the helm of financial institutions. But ethical considerations have always been a part of society and economy, says Wilfred Dolfsma, professor of Innovation and Organisation at the University of Groningen School of Economics and Business, Netherlands, who will be in Mumbai on February 7-8 to attend a conference titled Combating Poverty in a Market-driven World.

In an interview with DNA, Dolfsma says the ‘physical hand’ of government and ‘invisible hand’ of the market is an incorrect perception and that there can be no commerce without some sort of rules that ensure the interaction between individuals is regulated. Edited excerpts from the interview: 

After the meltdown, there have been calls for upheaval of the economic system. Do you feel it is an overreaction?
There is certainly a need to think about the ethical implications of the ways in which economic systems perform. It might be about specifics like what kind of computer programs are used in financial markets or about larger issues like what kind of systems do we want. We learnt from the meltdown that many of the assumptions we have as economists may not always hold. When the liquidity dries up, we need some kind of institutions to kick into action. We need to find ways in which we can slowdown or temporarily stop certain developments. For instance, capital flows around very quickly. This means that small differences in the system can lead to very big responses. We could have a instrument that slows down capital flows somewhat, maybe a token tax. There is a need to register certain transactions and to allow some time to pass before they can be realised.

Does the economy need ethical control?
I don’t think everybody who works in the financial system should take an ethics course. Ethics is seen by too many as separate from the economy. In fact, ethical considerations are part of society and always a part of economy. We shouldn’t talk about bringing into the system something new, but emphasise on certain ethical consequences of the design of the system. When people say we need more ethics in the economy, they are usually talking about getting fresh blood to run the economy and businesses because the current lot is not ethical enough. My feeling is that if you put new people in those positions, and don’t change the institutions, they will start behaving the same way.

What would some of these changes involve?
Transparency is a double-edged sword. Transparency about a CEO’s pay packet will lead to higher pay packets — at least that’s the way it is working in the US. That may not be helpful. But a rule that the CEO has to be responsible for the annual reports may help. Including individuals who represent interests other than that of the shareholders in the board of directors, a practice in a number of European countries, is an example of changes that can have an ethical outcomes.

Do you feel the ‘invisible hand’ paradigm is outdated?
Adam Smith talks about the invisible hand three times — once in the book Wealth of Nations, and twice in Theory of Moral Sentiments (which was published earlier). Smith is often misquoted and generally misunderstood. He feels that there is very much a need for ethical considerations in society. But he does believe that self-interest plays a big role. I agree it is an important driver for the economy. The

kind of progress we see in countries like India and China is important. Commerce needs a set of rules and institutions to know what to expect. There is an interesting study which has revealed that people who have been in contact with the market are more aware that they are dependent on each other and are willing to share, as compared to people who are not. That is quite intriguing and indicates that market and ethical considerations are not independent of each other.

But isn’t it true that economics doesn’t act. People do. Value or ethics should apply to people and not markets. Why should we control what one chooses to produce and how, as long as it’s within the law?
Any market needs rules. The point is not to introduce rules or change them, but to ensure the functioning of the system takes into account certain considerations that the so-called unfettered market might not. You need freedom of transaction, but also some equality between actors.

Is it possible to develop a uniform system around morality?
I am not sure about a uniform system. I think there are some things need to be addressed in any system. In a system such as the European one, which interacts with a lot of others, there is a need to align them so that there is no confusion, ambiguity, abuse or arbitrage. Then there are institutions such as NGOs who influence policy. Some of these changes can lead to a situation where rules change from one country to the next and can lead to conflicts.