Incentive design, iterative planning and local knowledge in a maturing socialist economy

Abstract

Libertarians, mainstream neoclassical economists, and even most socialists accept the idea that there are only two ways to organize economic activity: the market, and top-down command. A third alternative, however, is multi-level iterative coordination: enterprises create their own plans, and coordination occurs through repeated aggregation and fine-tuning. Enterprises must have incentives to plan ambitiously, but also realistically. The Western incentive design literature suggests that this is impossible: No incentive structure will prevent the enterprise from manipulating its plan and activity in ways that distort information and cause inefficiencies. However, when enterprise performance requires principled and knowledgeable participation of all of its members, reward maximization leads to convergence between plan and true potential, and between plan and actual result. This possibility theorem helps us to envision, and create, socialist institutions that combine the advantages of central coordination with the autonomy of enterprises and their ability to use local and tacit knowledge.

Keywords:

• Socialism
• incentive design
• planning
• local knowledge

Notes

¹It should go without saying that markets in their specifically capitalist form are not at issue here.

²The literature on the Soviet economy is enormous, and cannot even be summarized here. Some high points, from various perspectives: Dobb (1948), Nove (1961), Khudokormov (1967), Ellman (1973, 1979), Spulber (1991), Gregory (2001).

³The idea of x as a linear weighted sum of performance indicators, x = Σ _i κ _i q _i suggests that the enterprise can choose among different ways of achieving a given value of x, in which case the center might wish to impose some side constraints establishing minimum requirements in all areas. The linear scheme could be replaced by a more interactive (multiplicative) formulation. All this awaits further study.

⁴This proposition of the socialist economic literature bears a major resemblance to the efficiency wage literature in Western labor economics and macroeconomics; see Akerlof and Yellen (1986), Mankiw and Romer (1991).