Let me go back to something I have managed to avoid for a while, the absence of penetration in modern economic theory. Governments waste spectacular amounts of our productive resources on projects that will never turn a dime and are then surprised when the economy goes nowhere. This is from yesterday’s Oz: After the boom, pay packets are on a flatline for all. And this is what it said:

Our wage growth, the third weakest in the developed world, is fuelling simmering political discon­tent about everything from house prices to inequality and energy prices. This will have profound political consequences.

The living conditions of Australians are rising at the slowest pace in more than a generation. Wage growth fell off a cliff in 2012 as the resources boom petered out, and it hasn’t recovered. The torrent of foreign cash washing over the economy has receded, leaving a high-wage, heavily regulated economy struggling to compete. . . .

Australian private sector wages rose only 1.8 per cent last year, not much above consumer prices, which edged up 1.5 per cent. That’s the slowest pace since the Australian Bureau of Statistics started tracking hourly wages in 1997. Average weekly earnings, which don’t factor in changes in the number of hours worked, rose 2.2 per cent for full-time workers to $1533, the slowest pace since World War II.

According to the OECD, a Paris-based club of rich countries, Australians’ average real wages, which adjust for inflation, shrank by 1.1 per cent in 2015, more than any of the other 33 countries bar Portugal and Mexico.

Real wages can only rise if we are producing the goods and services wage earners wish to buy, or can trade what we do produce with others for these kinds of things instead. The NBN is merely an example of the kinds of government unproductivity that leads to what you see.

The cross-post from Richard Holden begins as follows:

Economists did not predict the financial crisis of 2007, nor did we predict that advent of secular stagnation that has followed. Those events have shaken the economic and political world. Our theories need work. Maybe a lot of work.

Recessions are naturally occurring phenomena which always come as a surprise, but on the second half of his statement, let me take you back to what I published in Quadrant in February 2009 and which I had written the previous December.

Just as the causes of this downturn cannot be charted through a Keynesian demand-deficiency model, neither can the solution. The world’s economies are not suffering from a lack of demand, and the right policy response is not a demand stimulus. Increased public sector spending will only add to the market confusions that already exist.

What is potentially catastrophic would be to try to spend our way to recovery. The recession that will follow will be deep, prolonged and potentially take years to overcome.

This has been exactly what has followed the stimulus and it should not be a surprise although among economists it is. And this is not “secular stagnation”. This is the full-on consequence of following a Keynesian approach to recovery. Just because economists no longer understand the crucial importance of value-adding activity doesn’t mean it has stopped being essential to recovery. It has only meant that modern economists have no idea what is going on.

The rest of Holden’s post tries to get at the point via a critique of modern monetary policy – of which there is no greater critic than I am – that Say’s Law makes straightforward. He crosses correctly over to the real side of the economy to show that you can pour out all the money you like, but if there is no real value-adding activity to support it, you cannot make a recovery happen.

The problem with modern monetary theory is that, in short, there is only a finite amount of real economic resources that can be extracted through seigniorage (the difference between the face value of physical money and its production costs). Or, to quote the late, great Zvi Griliches: “one can only get so much lemon juice out of a lemon.”

It is understanding the overlap between the monetary side of the economy and the real side that is without doubt among the major issues in getting many of these things right. This is covered in Chapters 16 and 17 of the second edition of my Free Market Economics, which I began to write at the end of 2008 to explain why a Keynesian stimulus can never work. It is Say’s Law – uniquely discussed in this book and found nowhere else in all of modern economic literature! – that explains how these things work. Every economist understood this before 1936. Now almost no one does. This is the tragedy of modern macroeconomic theory which only makes things worse every time it is applied.

This is Captain Capitalism we are talking about, in a quite nice post on Debunking the Multiplier Effect. To me it is essential to take his criticism of Keynesian theory back to Say’s Law since otherwise there is no reference point to hold onto when trying to explain what’s wrong with modern macro. This is his final para:

The truth is economic growth is caused by hard work, innovation, creativity, self-supportation, and increased efficiency. It’s nothing new or mysterious as human kind has, through trial and error (and not faux “studies” done by idiots in the economic departments of academia or Washington) figured this out over the millennia. And the fact something as stupid as “the multiplier” effect can not only be swallowed, but be so prominent among economist and professional circles, is more a testament to the human mind’s amazing ability to lie to itself than any kind of epiphany or “discovery” by the “profession” of economics. It is here I simply ask Americans and westerners to do something they pride themselves off of. Be TRULY independent minded people with genuine critical thinking skills. Wake the F up, use your brain, think things through and realize just what a bunch of frauds, posers, and charlatans most economists and politicians are.

Economists can’t do macro any more because they can’t do micro, but that’s another story. Only an increase in the supply of products whose production costs are covered by their sales revenue will push an economy along. That is not 100% right, but it is close enough so as not to matter if you want to see what governments are doing wrong.

Two things sent to me by friends of which this is far and away the most significant. There may be about half a dozen economists in the world who understand the difference the absence of Say’s Law makes to economic theory. Mark Skousen is one of them, and he has just written an article on Which Is More Accurate, Say’s Law or Keynes’s Law? Here is the start:

We all know that teachers, especially at the college level when students are away from their parents, can have tremendous influence.

My best example is when I ask my economics students “Which is more accurate, Say’s law or Keynes’s law?” Say’s law (defined below) is named after the 19th century French economist J.-B. Say, while Keynes’s law is named after the 20th century British economist John Maynard Keynes.

Most of the students have never heard of either law, so on the blackboard or PowerPoint, I simplify the definition as follows:

Say’s Law: “Supply creates demand.”
Keynes’s Law: “Demand creates supply.”

Before we have any discussion, I ask the students to intuitively decide which one makes more sense, and why.

Invariably, the vast majority of students side with Keynes. Demand, they say, is essential. Without consumers willing to buy a product, suppliers will go out of business. They conclude, consumer spending drives the economy.

What can you do? These students are as clueless as most economists about what causes an economy to grow and employ. Read the whole thing. Then there’s this, Chief economist of Bank of England admits errors in Brexit forecasting. Forecasting errors are a dime a dozen and comes with the territory. The subtitle captures more of what’s wrong with economics:

Andrew Haldane says his profession must adapt to regain the trust of the public, claiming narrow models ignored ‘irrational behaviour’

This irrationality in economics – the latest pile of junk which comes under the heading “behavioural economics” – is as nonsensical as it gets. It seems to be news to economists that people make mistakes, which after the fact they describe as irrational behaviour. It’s the same guk I am getting in Michael Lewis’s Undoing Project. My great classical economists all understood the role of mistakes, and even crowd behaviour, in moving an economy off course. The point about the market economy was that you could not be wrong for very long since you would then lose your shirt, as many did. The modern view is that governments should do the spending to make up the difference, and they can be wrong for a very very very very long time. Even now with government debt rising, no one is seriously trying to cut it back. Classical economists universally would have understood the problem. A modern economist is miseducated to such a fantastic extent that they still think Keynesian theory is right and Say’s Law is wrong. And as long as that goes on they will never get anything right.

At about 11:15 he actually brings Say’s Law into it, and this comes almost a minute after he bags Keynesian economics (around 10:25). The problem remains how difficult it is to keep track of the real side of the economy at the same time as you are trying to keep track of the money side. There are the real goods and services which are limited and finite and the amount of purchasing power that can be expanded forever.

The question that really does require a proper answer is why has there been no major increase in the growth in consumer prices even though there have apparently been massive increases in the amount of money.

It’s partly the way money has been kept from flowing into the economy generally, it is partly because we can produce standard goods and services more cheaply, it is partly because inflation has affected various products that do not enter into the CPI such as share prices, it is partly because the economy is do dead and it is partly because labour cost growth is so low.

[Spotted by Turtle of WA in the Catallaxy comments thread.]

They don’t say it in words, but the reality is that Say’s Law is right and Keynesian economics is junk science. A stimulus takes an economy backwards, makes things worse. This is not about this program or that. This is about the very principle of trying to revive an economy from the demand side based on unproductive forms of public spending. They also don’t use the phrase Say’s Law, and may not even be aware that Say’s Law was specifically designed to explain that a public spending stimulus not only will not work, but will make things worse. So read this from the front page of The Oz today: Stimulus a waste, damaged industries.

A damning Treasury-commissioned independent review of the former Labor government’s unprecedented spending response to the global financial crisis has found it was a “misconceived” waste of money, fundamentally weakened Australia’s economy, almost destroyed parts of the manufacturing sector and ­inflicted more long-term harm than good.

The review is also scathing of government failure on both sides of politics to address the budget crisis triggered by the $100 billion fiscal stimulus project, which has saddled the nation with the ­fastest-growing public debt in the world. “There is no evidence fiscal stimulus benefited the economy over the medium term,” says the paper, to be released today.

It says the stimulus was “misconceived”, with an emphasis on transfer payments and “unproductive expenditure such as school halls and pink batts”.

And I do wish to emphasise that this is not a critique of how things were done, but that these things were done at all. You want to understand the theory, you can either go back to John Stuart Mill or Henry Clay or any of the pre-Keynesian classics. Or you can read my em>Free Market Economics< in which it is all set down in cold print.