Market versus government failures under risk and under uncertainty

Well established results in the mainstream theory of economic policy show that, under assessable risk and asymmetric information, selfish policy-makers generate inefficiencies that are generally more harmful than market ones. Market failures are hence an insufficient condition to justify government activism. This conclusion motivates the paper’s attempt to understand whether the same conclusion applies under fundamental uncertainty, where selfish policy-makers cannot be conceived as maximising intertemporal expected utility (or any other objective function) calculated by use of objective probability distributions. After summarising the traditional literature, I stress the difficulty of employing the notion of Pareto optimality in this environment. I then argue that group decision-making and mutual monitoring support Forte’s (1967) and Demsetz’s (1969) early claims that no superiority of one institution (market vs. government) over the other can a priori be established. The conclusion that the government cannot generally improve on market outcomes does not hence apply.