After reading Hayek’s “The Use of Knowledge in Society“, I was immediately reminded of Maxwell’s demon, or rather of Leo Szilard’s response.  The similarity between the logic of Szilard and Hayek are what I discuss today.

First, a discussion on the demon.  Maxwell imagined a demon who could distinguish between the particles in a box and based on that information be able to open a little door to allow the higher energy particles to pass to ones side and the lower energy particles to the other side.  Szilard’s critique of the Demon comes down to how the demon goes about acquiring the information of which particles to allow through the door.  Szilard stated that the demon had to expend energy in order to acquire the information as a form of payment to obtain detailed knowledge of the system.  Szilard was a little ahead of his time in this reasoning as it relies on the idea of information theory and the representation of knowledge as being measured by entropy.  This is where Szilard reminded me of Hayek.

Hayek saw that there was an informational problem with central planning.  In “The use of Knowledge in Society” he saw central planners, Hayek’s demons, as not able to aggregate the sum of knowledge of a society, even if they assembled the relevant experts in the field, how does the central planner, the demon, evaluate who to allow to evaluate the decision for society.  Acquiring this knowledge means that the central planners have to expend resources to be able to identify the most cogent individuals. Hayek goes further by asking what is the needed minimum level of knowledge of such an individual? How do we or a central planner make such a judgment.  The only way that we can do so is to presume knowledge about the best threshold and who to pick.

In the real world there is no such thing as a free lunch.  The decisions by central planners require resources, to a) fund the central planners, and b) determine who to be on the board. An example of this is how grant money is awarded, and the fraction of grant money that has to go into obtaining the grant money. While the expense on the part of the central planner may be relatively small, the expenditure of resources on writing grant proposals is tremendous compared to the money that is awarded.  Here is a podcast with Mike Munger and Russ Roberts about this topic.

So now we are to Hayek’s demon, where we have a society segregated into two parts, a decision making group and everything else.  There is some Bureaucrat who is responsible for allowing people into this group and excluding everybody else. This individual or group is Hayek’s demon. This demon does not know the best answer and is responsible for identifying the best group of people to make the decision.  To achieve this the demon has to acquire information. This means: Issuing a RFP (Request For Proposals), aka advertising;  Then, interested individuals diverting their time and action from other pursuits to write the proposals; And, the demon expending energy to evaluate the proposals without a full understanding of the feasibility of every proposal.  Remember, the reason the demon needed the proposal was because the demon wanted to know what the best solution would be. If the demon knew which proposal would be best then they wouldn’t need to submit a RFP. So, the demon selects a number of proposals and excludes the others.

All of the actions of the demon have to be funded from someplace, in our case it is through present taxes and future taxes (debt).  Along with this there is no guarantee that the best solution will be found.  Additionally, how does the demon decide to allocate the available research capital to each of the grant winners.  What is the optimal distribution.  If the demon is honest they will allocate resources evenly, an uninformed distribution.  However, if each of these options were allowed to be acted on through a market discovery process, the market would find a different distribution.

What is the value of the demon?  The demon in its effort to do what we asked it consumed scarce resources through its actions, and resulted in a distribution of outcomes that may resemble what a market would produce, but are not the same, as information and needs constantly change within a society.  What knowledge does this demon possess that is above that of what we have as a society as a whole?