Planning, Prices, and Profit
In my last post I described just a few of the many terrible planning decisions that were described in Alexander Field’s book The Economic Consequences of U.S. Mobilization for the Second World War. I closed out by mentioning that some of the blame can be laid at the feet of political corruption or incompetence, but that I don’t think this was the main issue. In this post, I’ll describe what I think the main problem was, using an example from another troubled realm of war-planning – logistics and distribution.
Field reviews the data and concludes “the productivity record of military distribution, like that of manufacturing for the military, was often disappointing. In both cases, impressive output metrics reflected the deployment of even more impressive quantities of labor and physical capital, much of which lay intermittently idle or inefficiently used.”
He cites case after case of supplies getting lost, going to waste, being delivered to the wrong location, taking far too long to reach their destination, and so forth. But he also points out that there were a staggering number of constraints and factors to be traded off against each other, with no obvious answers about how to handle the situation:
The requirements of military distribution during the war presented optimization challenges that were far from simple. The objective functions to be maximized had multiple, rather than one or only a very few, arguments. (During the war no one used such language or posed matters in these terms.) It could seem obvious that ordering port managers to fully load ships, or promoting this as a desirable rule of thumb, would enhance the efficiency of distribution. But this might not be true if it resulted in ships remaining in port for longer periods. It might not be true if it meant that critical goods took longer to reach their destination. It might not be true if it resulted in more goods going to the wrong destinations. It might not be true if it meant that ships had to spend more time and fuel delivering their cargoes to multiple locations. It might not be true if it led to more goods damaged in transit, or if it meant that it took longer for high-priority items to reach fighting forces because the items were buried in the bottom of a hold.
Or it could seem obvious that maintaining ships offshore as floating warehouses was more efficient than unloading them in locations with inadequate port facilities and storage facilities, risking spoilage, theft, deterioration, and other forms of wastage. But this might not be true if the practice effectively removed a freighter from the available transport fleet for weeks or months.
Under these circumstances, what rules of thumb should guide port officers or planners? Reduce the turnaround time for ships? At the cost of sending out half-full vessels, carelessly loaded, resulting in damage to goods during transit and multiple errors in destinations? To make the process more efficient, one certainly needed officers better trained in logistics who could analyze operations at the macrolevel, not just the individual components piecemeal. But one needed more than this: these officers needed a means for systematically and quickly evaluating huge numbers of potential programs (coordinated or sequenced activity levels) on the basis of how well they met identified goals.
Unfortunately, planners lacked such a “means for systematically and quickly evaluating” how to make these tradeoffs. As a result, military distribution was frequently done in a way that was messy, inefficient, wasteful, and counterproductive.
One could lay all the blame on the folly of attempting to plan or attempting to reason through how to trade off all these margins against each other. But that would be a misleadingly incomplete answer. In a market, individual companies make plans, and also have to make decisions about how to trade off margins against each other. The key difference, I believe, can be identified from the ideas in Vernon Smith’s book Rationality in Economics: Ecological and Constructivist Forms. While wartime planners had only constructivist rationality to depend on, in a market, individual firms use constructivist rationality but also gain feedback (and incentives to respond to that feedback) from a more ecological rationality in the form of prices, profits, and losses. As Smith succinctly puts it:
Modern shipping, transportation, and distribution companies have to figure out how to adjust for the same kinds of margins Field identified as confounding wartime planners. But in a market, there is crucial feedback that isn’t available to central planners. One company might decide to prioritize reducing turnaround time based on a really compelling argument made by an executive, while another company might focus more on optimizing a different margin based on a different argument they found equally compelling. But prices and profits will signal which of these tradeoffs was in fact best, giving both companies information and incentives to adjust. The market process provides endless opportunities for countless iterations, optimizations, and alternatives to be tried, tested, filtered, selected, and optimized.
Modern distribution is a true marvel of economic development, and performs in a way that is far superior to what was done in the Second World War. But this difference in performance isn’t due to the fact that wartime planning was done by Incompetent Corrupt Bureaucrats while businesses are run by Smart Well-Intentioned Saints. The main problem is that centralized planning necessarily lacks any feedback method to evaluate different variations it might employ, while marketplace operations are constantly receiving that feedback from prices and profits – which also provide a strong incentive to respond to that feedback quickly. The constructivist rationality of market actors is also tempered and guided by the ecological rationality of the market process – and planners simply can’t replicate that, no matter how well intentioned they might be.
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