The ongoing scandal of modern economic theory

Here’s the sub-head: Economists show increased research efforts are yielding decreasing returns. And if they mean negative returns, then I am with them all the way. Economic theory is at a lower level of competence today than in the 1850s. It is such a scandal, but once a subject matter falls into a hole the way economic theory has done, it is near on impossible for it to find its way out. The conclusions drawn from modern theory are literally classical fallacies. An economist raised any time between say 1776 and the 1930s would look at a modern text and disagree with almost every word. There would be almost no overlap between anything found in a modern text and a text written before 1930.

I wrote a paper, published by the skin of its teeth in 2015, on John Stuart Mill’s Fourth Proposition on Capital: “demand for commodities is not demand for labour”. You cannot increase the level of employment by increasing aggregate demand. Everyone once knew this. No one now does. Not one economist in a thousand can any longer understand what was plain as day for a century and a half. We keep growing because we keep inventing things. But the generation that is following behind us will find their living standards falling into a great pit, and the last place anyone will be able to find out why will be from economists.

I have mentioned this already, but perhaps another look might be of interest: What is the difference between Keynesian and classical economics? which is a reply I put up on Quora. Go have a look.

Then there’s this I did not so long ago on marginal analysis which, as presented in a modern text, is as near to empty of content as a theoretical demonstration can be. This is how I look at it which is also classical to its bootstraps.

The diagram represents my own version of the marginal revenue and marginal cost diagram. The traditional version has a series of lines many of which can never be realistically drawn (such as the demand curve), with the ultimate point to show the price-quantity configuration for the sale of a single product. The conclusion is that if a firm wishes to maximise profitability on the sale of some good or service, it will price the product just exactly where a lower or higher price would lead to a lower return over cost. Fatuous and useless, with many bits of the real world left out, such as the actual ability to work out the effect on revenue of changing a price. Modern micro truly is as useless as modern macro.

The above diagram – discussed fully in my Free Market Economics – brings in a number of crucial factors:

  • it is about whether some decision should be made rather than deciding on what price to charge
  • it is about trying to make a decision in the face of a future that can never be foretold but is filled with endless uncertainties
  • it recognises that there are costs that almost invariably must be borne before there is a return [Area A]
  • costs continue even after revenues commence and only eventually, in a profitable venture, will revenues exceed costs [when B = A]
  • the point of origin is the present moment when some decision must be made – all of the lines drawn are the expectations of the decision maker
  • reality may turn out to be much different, with losses instead of a net positive return
  • only when total revenue and total costs are equal – that is, when the expected addition to revenues is equal to the expected addition to costs (when MR=MC at the moment the decision is made) does the firm go ahead with the venture

This is the way a business, or anyone else for that matter, makes a decision: in the present with only one’s own conjectures as a guide.

I will lastly mention a very nice note I received the other day:

Steve

Just finished reading your book Free Market Economics and wanted to congratulate you.

I have read plenty of economic texts, but yours is the best by far and helped crystalize a number of things that have been swirling around in my mind.

Great work.

It was truly appreciated. You can get a copy for yourself right here. I didn’t make any of it up myself. It is just a distillation of classical theory, the economics of John Stuart Mill and his contemporaries. It’s never been improved on and I doubt it ever will be. But so what. It is a massive improvement on that junk science we go around teaching today.

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