Category Archives: Economic theory and policy

The absence of the entrepreneur in economic theory

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It was a choice either to come to France and to the meeting on J.-B. Say or go to Hong Kong and to the Mt Pelerin Society meeting. With some racing across France and then an all-night flight I might have made it for the last three days, one of which was an excursion to Macau, where I have already been. So here I went, not without some regrets, but this conference has been so exceptional and I will feed off the things I learned for a long time to come.

My own presentation was on the absence of the entrepreneur in the economics of the English speaking world, a problem few notice and about which there is generally little comment or even the slightest general recognition that it matters.

• the dominance over the past century of the economics of the English speaking countries

• the absence of discussion of the entrepreneur in the economic literature written in English

• the meaning of “entrepreneur” comes from the French entreprendre which means to undertake with the word for entrepreneur in English having literally been “undertaker” which has its other more common meaning as someone who buries people for a living – a morbid connection

• interestingly as a sidelight, the German word to undertake is unternehmen and therefore the German for entrepreneur is Unternehmer but in this case with none of the morbid connectivity of English

• John Stuart Mill in 1848 was discussing the need for an English equivalent of entrepreneur and lamented that no such term existed

• Schumpeter’s notion of an entrepreneur embeds innovation

• the Kirzner version of an entrepreneur is someone who exploits opportunities others have overlooked

• the meaning that is missing with such overtones is the plain notion of an entrepreneur as a factor of production that exists along with land, labour and capital – someone who runs a business and brings the other factors together in a productive profit making enterprise

• all such entrepreneurs are almost certainly creative in their own way, some more than others, but it is the notion of the organiser of a business that is needed

• economic theory has, however determined that it must follow physics in depending on external non-human forces, such as demand or utility with human decision making almost invisible

• the use of MC=MR as the profit-maximising position is paradigmatic in that no actual human decision making is visible other than to follow the dots to the highest possible profit

• although this is the essence of the theory of the firm, what is omitted is the possibility of novelty and innovation not to mention time

• an innovative entrepreneur is inconsistent with economics-as-physics since it opens up the possibility of discontinuity

• discontinuity via innovation makes mathematically-based economics a limited approach to understanding the dynamics of economic change since the future cannot be expected to be like the past.

The one point that was underscored for me at this conference is the importance of defining capitalism as an economic system in which economic decisions are made by entrepreneurs who are defined as a self-selected group who run businesses to earn their living. They are not chosen by governments or funded by governments but live or fail based on their own capabilities in providing buyers with the things they want. If you want to distinguish a true market-based economy from amongst the many fakes that now exist, just find out who owns their businesses and how such individuals ended up running such firms.

The new French government and the economics of J.-B. Say

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The forces of J.-B. Say seem to have overtaken France in the last couple of days. The front page of Le Figaro is filled with the Prime Minister (not the President – Republic anyone?) doing over his economic ministers and installing someone from the more market oriented side of politics. This Keynesian-socialist stuff is not working so they are about to embark on something new. These are my (free as in best guess) translations from the front page:

The Heads of Industry Applaud these Changes and Now Wait for Some Follow-up Action

And:

The Beliefs of the Prime Minister have Exasperated the Left

And:

Survey: the French Have No Confidence in the New Government

And:

The Unemployment Rate has Reached a New Record

There is Hollande who will go down with the ship one way or another but at least he seems to be trying to do the right thing. I, of course, am in the midst of a conference in which at least some of those are thinking the right way. The conference organisers have just put out a journal which is devoted to “Jean-Baptiste Say: et la liberation des forces de production”. Odd as it may seem, I have never been in the company of anyone at all who has had a strong appreciation of J.-B. Say and for the past two days I have been in rooms filled with them. Incroyable!

Say lives

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I don’t know about the rest of the economics world, but where else but here at the J.-B. Say Congress would one find this:

Entrepreneurship has become a specific field of research in Economics since the beginning of the 1980s. This period was characterised by two linked phenomena: (1) the end of economic growth (“The Glorious Thirty 1945-1975”) and (2) the failure of Keynesian policies. A new economic dynamics should be ensuing from a radical economic and political change. Thus, the challenge was to find a new economic dynamics based on a new institutional structure, aimed to promote free markets and private initiative.

This is from an editorial in the local research institute into industry and innovation newsletter, Innov.doc No. 54 dated Septembre 2014. The spirit of Jean-Baptise Say has not yet been extinguished, although it has been exiled to the far north west of France, as had Say himself.

Central bank policy

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Central banking has as many different approaches as there are central bankers. The aim of central banks is to provide oversight and stability to the financial system which gathers in national savings and disperses those savings to those who can make the most productive (that is, profitable) uses of them. Saving is undertaken individually by putting money aside for future use. But from a national economic perspective, saving is precisely the use of resources to strengthen the economy through productive investment. Watching the two separate streams – the money stream and the real resources stream – and keeping them separate while at the same time being aware of how they interact, is crucial if one is even to have the most basic understanding of the processes involved.

There are real resources (bricks and mortar, labour and machines) that can be used in a variety of productive (and non-productive) enterprises. But the only way for a business to get their hands on these resources is first to get the money that will allow it either to buy, hire or rent the inputs it needs. Thus, what the financial system does is lend money as the intermediary to securing the various resources needed.

There are no end of various financial intermediaries who receive money with the promise to return an even greater amount of money at a later date. Banks, insurance companies, superannuation funds, building societies, share markets and the list goes on. Money comes in because there is an expectation that an even greater amount of money will come out later.

Lots of people want to take your money, and will do that with the promise that they will give it back with interest. The only way they can do that is to lend the money to others who use that money in a value adding productive profitable way. They then repay the financial institution from their receipts which then repays the people from whom they had initially received the funds. The economy grows so long as the people who took the money have used those funds to build productive profit-making assets.

Financial institutions that do not lend to businesses which make a positive return, find they have lent to businesses who cannot repay their loans. The businesses go bankrupt, and for financial institutions, if enough of their borrowers fail to repay their debts, the financial institution will also go bankrupt.

Central banks keep an eye on the entire process, but their two major roles in every economy have always been (1) to keep solvent those financial institutions that run into temporary difficulty and (2) ensure that the financial system itself does not collapse because of a failure of enough liquidity to allow commercial transactions to take place. The role of central banks during the GFC was exemplary. Just what was needed.

Central banks have now taken on an additional role which is to adjust interest rates to affect economic activity. Interest rates will, of course, be generated without a central bank so its role is totally superfluous so far as interest rates are concerned. But many like this role since it seems to provide a form of stability. For myself, the stability is illusionary. They only provide a talking point but can never really do what is needed since they cannot know with sufficient detail about the future state of economic activity. No one else does either, which is why it should be left to the market to sort out all of the contrasting sentiments found across the economy.

But now central banks also adjust rates with the intention of stimulating economic activity and sometimes even slowing it down to slow inflation. Low interest rates are seen as a positively good thing since supposedly it will stimulate investment. But it is noxiously misguided because low interests have all of the following effects:

  • reduces the supply of saving
  • reduces the flow of real resources into the economy
  • misdirects investment since low interest rates allow borrowers with low productivity investments to secure funds ahead of others with riskier but more productive investments
  • lenders are able to choose their friends to lend to since there is an excess supply of funds relative to the period when rates were kept higher
  • money goes into the purchase of readily available forms of assets such as housing or shares
  • governments, who are almost invariably low productivity borrowers, find it easier and cheaper to borrow.

The result of such low interest rates:

  • price bubbles in share markets, housing or other types of value-holding fixed assets
  • higher inflation which may come in the form of higher prices, or if prices are unable to rise, a crumbling asset base across the economy leading to an ageing and decaying capital base
  • slower growth
  • higher unemployment
  • a fall in living standards.

Unnaturally lower rates of interest lead to prolonged periods of depressed economic activity which, given the useless way we teach economics nowadays, hardly anyone understands, while at the same time there is no political constituency for a rise in rates since those who borrow become infuriated at any government that happens to be there when interest rates begin to rise.

For a more detailed discussion, see Chapters 16 and 17 of my Free Market Economics. The 2nd ed will be even clearer on this than the first.

The death of Keynesian economics another step closer

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You would think the Japanese would at least have absorbed the lessons from the catastrophic results of their first stimulus. Such was not the case so they tried another. Didn’t work again.

The economy of Japan, long stagnant, has taken a sharp turn for the worse: It contracted nearly 7 percent (annualized and inflation-adjusted) in the quarter ending in June. By way of comparison, consider that the U.S. contraction in the quarter ending in June 2009, when we were feeling the worst of the financial crisis, was 4 percent; the worst quarter of the 1982 recession saw a contraction of 2.6 percent. You’d have to go back to the 1940s to see a quarter with a 7 percent contraction in the United States.

As a kind of kiss of death, Paul Krugman was full of praise for the policies adopted, called Abenomimcs after the Japanese Prime Minister Shinzo Abe. This is what Professor Krugman said a year ago:

The really remarkable thing about “Abenomics” — the sharp turn toward monetary and fiscal stimulus adopted by the government of Prime Minster Shinzo Abe — is that nobody else in the advanced world is trying anything similar. In fact, the Western world seems overtaken by economic defeatism.

Another great victory for Keynesian stimulus. A few more victories like that and we will be at poverty levels not known since the 1930s. Possibly as remarkable as the outcome in Japan is that even the commentator at National Review Online doesn’t actually understand it himself. He doesn’t really know why these policies didn’t work and can only say something vague about the mathematisation of economic theory and the difficulties in applying policies that might work in one country to another.

Strangely, the policy adopted in Japan included increases in consumption taxes which I am incredulous that anyone would believe would lead to a recovery. Raising taxes in a recession is dead set dumb, as dumb as raising public spending. Next time they should try lower taxes and lower public spending to see how that works out for a change. I know it’s out of fashion, but you never know what might happen then.

[Via Instapundit]

The latest horror stories on the US economy

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From Drudge, just a few side comments on the American economy, not featured but just listed. All so very ho hum because really, who doesn’t know any of this:

Fed Official Warns ‘Disappointing’ Growth Could Foretell Future…

Sluggish jobs market points to structural problems…

Yellen Determined To Avoid ‘Nightmare Scenario’…

Record income gap fuels housing weakness…

Wages Down 23% Since 2008…

Bank Profits Near Record Levels…

Let’s start with the first of these, Fed Official Warns ‘Disappointing’ Growth Could Foretell Future:

The official, Stanley Fischer, who took over as vice chairman of the Fed in June, noted that although the weak recovery might simply be fallout from the financial crisis and the recession, “it is also possible that the underperformance reflects a more structural, longer-term shift in the global economy.”

In a speech delivered on Monday in Stockholm at a conference organized by the Swedish Ministry of Finance, Mr. Fischer also conceded that economists and policy makers had been repeatedly disappointed as the expected level of growth failed to materialize.

“Year after year, we have had to explain from midyear on why the global growth rate has been lower than predicted as little as two quarters back,” he said. “This slowing is broad-based, with performance in emerging Asia, importantly China, stepping down sharply from the postcrisis surge, to rates significantly below the average pace in the decade before the crisis.”

Mr. Fischer said it was difficult to determine how much of the slackness was because of cyclical factors and how much represented a more fundamental, structural change in advanced economies.

In essence, they don’t have a clue what’s going on. Clear as crystal what the problem is if you don’t think along Keynesian lines and do not believe raising aggregate demand is the answer. In fact, all of it makes perfect sense if you go back to the pre-Keynesian (i.e. classical) theory of the cycle. But economists are now three generations into Y=C+I+G that thinking in any other way is a near impossibility.

But this is the one I find the most graphic, US Wages Down 23% since 2008. The American economy is falling into bits and real incomes are falling through the floor:

U.S. jobs pay an average 23% less today than they did before the 2008 recession, according to a new report released on Monday by the United States Conference of Mayors.

In total, the report found $93 billion in lost wages.

Jobs lost during the recession paid an average $61,637. As of 2014, jobs in the same sectors paid an average of $47,171 annually.

“Under a similar analysis conducted by the Conference of Mayors during the 2001-2002 recession, the wage gap was only 12% compared to the current 23%–meaning the wage gap has nearly doubled from one recession to the next,” stated the Conference of Mayors in a statement.

The report also found that 73% of metro area households earn salaries of less than $35,000 a year.

And the only thing they have thought to do to assist business has been to lower interest rates to near zero which, if they understood anything at all, they would understand would only make matters worse.

The evolving nature of the history of economic thought

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An email to a colleague in Europe who is going off to the Congress on J.-B. Say and the entrepreneur at the end of August.

I am very pleased to hear from you and to find you are heading off to this Congress. It seems exceptionally interesting and the focus on the entrepreneur has been for too long ignored within economic theory and policy. There was some interest expressed to me about my going there as well but it has unfortunately come to nothing. It would have been a quite long journey and as I also have a conference in Hong Kong just after may have been too much of an excursion. But whatever might have been the original interest in my attendance, nothing has come of it so I am off to Hong Kong which will be a bit easier than the 20,000 mile round trip going to France would have required. Still, I would have liked to have gone but that’s life.

The seriously interesting part for me, but probably of little interest to anyone looking at what Say was writing in 1803, is that I have written what amounts to Say’s Treatise for the 21st century. I will attach a blog post I did on the book, but it is about nothing less than the crucial role of the entrepreneur combined with an understanding of Say’s Law as expressed by Say, Ricardo, James Mill and John Stuart Mill. I am the living embodiment of those values but probably 150 years behind the times, but in my view, also about 15-20 years before my time. The fact of this conference is a sign of the subterranean changes going on. But it is hard for anyone who has grown up on aggregate demand and math ec to understand what’s required if you remove AD from within macro and start treating the future as genuinely uncertain. What happens then is you end up with the classical theory of the cycle which no one any longer understands. You should be able to read the back cover of the text in the blog post attached which explains all this in more detail.

I should also mention one other reason I was pleased to hear from you. Had you not written, I would not have known that my post to the SHOE website had actually been posted since it drew not a single response and google mail doesn’t post returned emails that one has sent out oneself. My campaign to save HET from the historians and philosophers of science seems to fall on deaf ears, but the more I engage in this debate, the most astonished I am at how misconceived their ideas are. Sure certain aspects of HET are HaPoS but that is not anywhere near HET’s core significance. I really do believe that HET has been overrun by philosophers and sociologists who have almost no interest in economic issues other than as a peripheral matter upon which they can contemplate everything else under the sun aside from the way an economy works. I think that because HET in Australia retains its original essence almost entirely, that the shifts that are going on elsewhere were almost invisible to us when they came to try to remove HET from economics which is why we all rose up as one. Now with conferences such as this in Boulogne-sur-Mer, where the central interest is mainly in understanding how economies function but using past economists as a vehicle, there may be a shift back coming into play. My intervention to preserve HET, however much it seems to have been resented by some of our American and European colleagues, was just in time. Had HET gone to HaPoS, it would have died within the decade within departments of economics. It would have become as relevant to economics as the history of physics is to physicists.

Finally, I am going to copy into this email my young colleague from Auchy so he can know what’s going on. I hope you enjoy the conference which I hope will be a great success and please do keep me informed.

Kind regards

FME2 cover

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fme2 cover_Page_1

fme2 cover_Page_2

The cover of the second edition. I’d forgotten about the first of the cover endorsements. It was provided by a reviewer at Choice which is the magazine subscribed to by libraries to help them choose which books to buy.

Free Market Economics is virtually a must read for serious economists…. Highly recommended.

The second edition should be available in about a month.

The slow death of the American economy

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ageing us businesses

The descent of the United States is taking so many different forms but economically it is heading down towards the middle of the pack and will fall lower before it even begins to turn around. This story from the Wall Street Journal looks at one aspect of this demise: Why It’s Worrying That U.S. Companies Are Getting Older. The effect of public spending and low rates of interest are not just inflation but also come in the form of a crumbling capital stock. In fact, this decay of capital is more insidious since it is harder to identify but eventually there is no doubting that the process is in place and that it is having a devastating effect.

Meanwhile there is this fully related story although modern economic theory would have trouble seeing how the are connected: $7,060,259,674,497.51–Federal Debt Up $7 Trillion Under Obama. How do you suppose this will eventually work its way out?

As of June, there were 115,097,000 households in the United States, according to the U.S. Census Bureau. The $17,687,136,723,410.59 in debt the federal government had accumulated as of the end of July equaled $153,671.57 per household.

The $7,060,259,674,497.51 in new debt that the federal government has taken on during Obama’s presidency equals $61,341.82 per household.

An absolute shambles and with no one in charge.

The entrepreneur and modern economic theory

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The entrepreneur has been written out of economic theory. Let me explain:

      • the dominance over the past century of the economics of the English speaking countries
      • the absence of discussion of the entrepreneur in the economic literature written in English
      • the meaning of “entrepreneur” comes from the French entreprendre which means to undertake and therefore entrepreneur in English is literally translated as “undertaker” which has its other more common meaning as someone who buries people for a living – a morbid connection
      • interestingly as a sidelight, the German word to undertake is unternehmen and therefore the German for entrepreneur is Unternehmer but in this case with none of the morbid connectivity of English
      • Mill in 1848 was discussing the need for an English equivalent of entrepreneur and lamented that no such term existed
      • Schumpeter’s notion of an entrepreneur embeds innovation
      • the Rothbardian version of an entrepreneur is someone who exploits opportunities others have overlooked
      • the meaning that is missing with such overtones is the plain notion of an entrepreneur as a factor of production that exists along with land, labour and capital – someone who runs a business and brings the other factors together in a productive profit making enterprise
      • all such entrepreneurs are almost certainly creative in their own way, some more than others, but it is the notion of the organiser of a business that is needed
      • economic theory has, however determined that it must follow physics in depending on external non-human forces, such as demand or utility with human decision making almost invisible
      • the use of MC=MR as the profit-maximising position is almost paradigmatic in that no actual human decision making is visible other than to follow the dots to the highest possible profit
      • although this is the essence of the theory of the firm, what is omitted is the possibility of novelty and innovation
      • an innovative entrepreneur is inconsistent with economics as physics since it opens up the possibility of discontinuity
    • discontinuity via innovation makes mathematically-based economics a limited approach to understanding the dynamics of economic change since the future cannot be expected to be like the past.