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John R. Hicks on Kaldor-Hicks Criterion - Dictionary of Arguments

Parisi I 360
Kaldor-Hicks Criterion/Kaldor: Before [the introduction of the Kaldor-Hicks-Criterion] it was generally assumed that each individual had an “equal capacity for enjoyment,” and that gains and losses among different individuals could be directly compared. By 1939, however, leading British economists, including the future Nobel Prize winner Sir John Hicks, were raising questions about such policy prescriptions because they involved interpersonal comparisons of utility (Hicks, 1939)(2). Kaldor provided a solution: he acknowledged the inability of economists to establish a scientific basis for making interpersonal comparisons of utility but suggested that this difficulty could be made irrelevant (Kaldor, 1939)(1). He argued that policies that led to an increase in aggregate real income are always desirable because the potential exists to make everyone better off (…).
Kaldor: “[T]he economist’s case for the policy is quite unaffected by the question of the comparability of individual satisfaction, since in all such cases it is possible to make everybody better off than before, or at any rate to make some people better off without making anybody worse off.” (Kaldor, 1939(1), pp. 549–550)
Parisi I 361
According to Kaldor, a project is desirable if the money measure of gains exceeds the money measure of losses. With regard to the potential compensation that could turn losers into winners in such situations, Kaldor notes that whether actual compensation should take place “is a political question on which the economist, qua economist, could hardly pronounce an opinion” (Kaldor, 1939).
Hicks, perhaps the most prominent economist of the time, accepted the Kaldor approach, which eventually became known as the KH criterion (Hicks, 1939(2), 712).
KH attempts to avoid interpersonal utility comparisons by separating equity from efficiency. Kaldor proposed that decision-makers address ethical values regarding equity outside the purview of BCA ((s benefit costs analysis). The change in aggregate gains was to be the measure of efficiency, so according to KH there is a separation of efficiency and distributional effects (Kaldor, 1939(1), 551).
Kaldor endorsed the procedure adopted by Pigou, which Kaldor describes as “dividing welfare effects into two parts: the first relating to
Parisi I 362
production, and the second to distribution.” A full description of the KH assumptions is reasonably characterized by:
1) the use of WTP ((s) willingsn3ss to pay) for gains and for losses;
2) a reliance on potential compensation tests so that a project is KH efficient only when winners could hypothetically compensate losers, i.e. it passes a potential compensation test (PCT);
3) an emphasis on efficiency that is separated from equity;
4) an assumption that a dollar is to be treated the same regardless of who receives it, so that a dollar is assumed to have the same value to each person (equal and constant marginal utility of income);
5) a recognition and inclusion of non-pecuniary effects;
6) the omission of values represented by ethical considerations;
7) a reliance on externalities and market failure to determine where BCA might be useful in making corrections;
8) an assumption that transactions costs are zero;
9) the treatment of BCA as a mechanism to provide the answer rather than as an approach providing information as part of an ongoing discussion.
>Cost-benefit analysis
, >Willingness to pay.

1. Kaldor, Nicholas (1939). “Welfare Propositions of Economics and Interpersonal Comparisons of Utility.” Economic Journal 49: 549.
2. Hicks, John R. (1939). “The Foundations of Welfare Economics.” Economic Journal 49: 712.

Richard O. Zerbe. “Cost-Benefit Analysis in Legal Decision-making.” In: Parisi, Francesco (ed) (2017). The Oxford Handbook of Law and Economics. Vol 1: Methodology and Concepts. NY: Oxford University.

Explanation of symbols: Roman numerals indicate the source, arabic numerals indicate the page number. The corresponding books are indicated on the right hand side. ((s)…): Comment by the sender of the contribution. Translations: Dictionary of Arguments
The note [Concept/Author], [Author1]Vs[Author2] or [Author]Vs[term] resp. "problem:"/"solution:", "old:"/"new:" and "thesis:" is an addition from the Dictionary of Arguments. If a German edition is specified, the page numbers refer to this edition.

EconHicks I
John R. Hicks
Mr. Keynes and the "classis"; a suggested reinterpreation 1937

Parisi I
Francesco Parisi (Ed)
The Oxford Handbook of Law and Economics: Volume 1: Methodology and Concepts New York 2017

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