Regulation and the Marginalist Revolution

The marginalist revolution in economics became the foundation for the modern regulatory State with its “mixed” economy. For the classical political economists, value was a function of past averages. Marginalism substituted forward looking theories based on expectations about firm and market performance. Marginalism swept through university economics, and by 1920 or so virtually every academic economist was a marginalist. This Article considers the historical influence of marginalism on regulatory policy in the United States. My view is at odds with those who argue that marginalism saved capitalism by rationalizing it as a more defensible buttress against incipient socialism. While marginalism did permit economists and policy makers to strike a middle ground between laissez faire and socialism, the “middle ground” tilted very strongly toward public control. Ironically, regulation plus private ownership was able to go much further in the United States than socialism ever could because it preserved the rhetoric of capital as privately owned, even as it deprived firms of many of the most important indicia of ownership. Marginalism upended many of the classical conceptions about the market, including assumptions about their robustness, as well as the need for government intervention and the optimal type. For regulatory policy the most important issues were: (1) The fixed-cost controversy and the scope of natural monopoly; (2) cost classification, incentives, and ratemaking; (3) the changing domain of market failure, and regulation and Pigouvian taxes as correctives; (4) market diversity and the rise of sector regulation; (5) deregulation; (6) concerns about the distribution of wealth; (7) the development of cost-benefit analysis; and (8) the assessment of risk. The final section examines risk management under marginalism by looking at two diverse but important areas: negligence and products liability in tort law, and administrative review of patents by the Patent Trial and Appeal Board