Category Archives: Law of Markets

Macro follies continue

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It’s been five years of this Keynesian mess with the notion that economies are driven from the demand side. At the start it was direct government spending. As an approach to recovery it has comprehensively failed as no one now denies. So we have now gone to the monetary policy approach with Quantitative Easing, pour money out into the economy and low interest rates will finally lift things up. Also not working but no one knows why. So here’s why, and odd that you have to come to this website to get the only sound economic advice available anywhere. But here is why. Economies are driven forward by increases in value adding supply and by absolutely nothing else. Others can tax, steal or otherwise appropriate the productivity of others and squander what they get. But this will NEVER lead to a recovery, not ever. So we have kept rates low and watched as nothing has happened. Unexpected to others but not to anyone who understands the classical theory of the cycle and Say’s Law.

Anyway, it’s that time of year again. Macro follies continue and no one seems to have learned a thing. And it’s not just consumer spending but all unproductive spending that is a draw down on productivity. Consumer demand is, of course, the reason for bothering with any production at all. But if we are thinking about growth and employment, consumer and government demand has nothing to contribute, nothing whatsoever. Nor does mis-directed investment spending. If you don’t understand why, ask someone to give you a copy of Free Market Economics: an Introduction for the General Reader for Christmas. It’s what I gave everybody last year so why shouldn’t you have a copy yourself?

Half way there

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Yesterday I discussed a comment on the History of Economics website about the growing need to be wary about Keynesian economics and today there’s an article at the Wall Street Journal about the same thing, this one titled, Worse than Obamacare which it is. Let me pull out two bits before I get to my main point:

In February 2009, he got $831 billion of stimulus spending. Not even seismographs can detect the results. Every speech he outputs about “middle-class folks” offers them the same solutions: more public spending on education, on public infrastructure projects and, even now, on alternative energy. As he tirelessly repeats what remain promises, the Labor Department’s monthly unemployment-rate announcement on Friday mornings has become a day of dread.

No one any longer expects an upturn in the American economy. Long, slow and tortured is now the way things are. And finally people are getting around to thinking that it may well be Keynesian theory that is in itself the problem:

You know the theory here: Spend a public dollar and you get $1.50 of economic output. It hasn’t happened, but Barack Obama is gonna crank his old Keynesian Multiplier, created during the 1930s in the era of the Hupmobile, until it sputters to life.

Well, you’ve been hearing from me from the start that it was never going to work and for some reason it has taken five years for the penny to drop. It was never going to work because the underlying Keynesian theory is false from surface to core. But it’s only obvious if you understand the economics that existed before Keynesian economics entered the scene and return to the specific proposition that Keynes derailed.

There are others who think they can see Keynesian economics off the lot through some other means but I don’t believe it. It is only if you understand the classical theory of the cycle and Say’s Law can you make sense of why the stimulus did not achieve a single one of its aims. Stimulating demand cannot work because you cannot stimulate demand by increased spending on anything at all. You can only increase economic activity through increases in value adding supply, the very thing no government can ever do. What governments do is waste and the effect is to deaden the economy, and the more waste there is, the deader it becomes.

In seeing that Keynes must go we are only half way there. The other half is to restore the economic theory that Keynesian economics replaced.

[My thanks to Julie for the WSJ link.]

Spending does not make an economy grow

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A note by Karen Maley in the AFR today brings enlightenment following my post on True Confessions yesterday. There she wrote:

Dalio and his team at Bridgewater, the world’s largest and most successful hedge fund, which manages about $150 billion in global investments, argue in a note to clients this week that in the old days, central banks used to cut interest rates to stimulate the economy. But that all changed when interest rates fell to zero per cent. At that point, central banks instead adopted quantitative easing (QE), or printing money and buying financial assets such as bonds. This pushed up the price of financial assets, and central banks hoped those who owned these assets would feel wealthier and would spend more, and this would, in turn, trickle down to stimulate economic activity. [My bolding]

I do not know what to make of this Keynesian dreck any more. If this is the actual dinkum basis for the quantitative easing we have been having, then this is worse than insane, assuming financial suicide is a form of peak insanity.

Spending does not make an economy grow. I’ll say it again. Spending does not make an economy grow. Putting in place real productive assets makes an economy grow. Can you see the difference? Apparently there are folks in powerful positions in every major central bank in the world, and probably in every Treasury as well, that can’t see the difference. But the difference is in having low growth economies that never seem to budge and high growth economies where the largest problem is a shortage of labour.

The Keynesian walking dead

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keynesian walking dead

Megan McArdle has an article on Bloomberg they’ve titled, Why It’s So Hard to Kill Keynesianism. And in spite of the arguments you find in the article which are from a rather diverse crew of supposedly anti-Keynesian economists, it’s straightforward why Keynesian theory continues to lurch forward.

  • It is taught in virtually every introductory economics textbook in the world.
  • No economist would even consider giving up on aggregate demand as the driver of economic activity.

So we have John Cochrane quoted as saying:

Since about 1980, if you send a paper with this model to any half respectable journal, they will reject it instantly.

I don’t know what “this model” consists of but if he is saying that employing aggregate demand is instant death for any article, I would have my doubts. But it’s not the articles supporting Keynes that interest me. Where are the ones that point out that Keynesian theory and policy are nonsense? Articles along those lines would be a radical departure but where are they? And let me add, as a personal experience, that it is not all that easy to get them published if you write them.

But then, what would be the exact point of these articles so far as policy is concerned? As McArdle says herself:

New Keynesian models do predict stimulative effects from government spending. But they do so through a completely different channel from the old Keynesian models that are still popular with most of the public intellectuals who support stimulus.

No one at the political level, trying to work out what to do as recession comes crashing through the wall, is going to be interested in the channels that cause a stimulus to work. They just want an answer, and if the answer is a stimulus then off they go. And off they did go. They have now spent in haste and are repenting in leisure but it was some variant version of Keynesian theory that drove them to take the actions that they took. But where are the post mortems on what went wrong? Plenty on what caused the Global Financial Crisis. Almost nothing on why the stimulus that followed has been such a disaster.

And for McArdle to say that Keynesian theory represents “an economic model with zero percent mindshare among professional macroeconomists” just cannot be true. The reality is that economists know virtually nothing else. I have scoured the article for the alternative theory the people she spoke to have in mind and can find nothing. The most you hear is that we should abandon macro and leave everything to micro which is as nonsensical an idea as the Keynesian theory it would replace. I would merely point out that The Wealth of Nations was entirely macro, classical macro. That is where the action is and the answers begin. Economic theory around 1916 say, would be something like the high point and a good place to start over from.

McArdle does, however, go into “supply side economics” but restricts it to the notion of tax cuts. She unfortunately goes nowhere near the underlying theory or discusses any of the wider implications. And there is nothing on the absolute necessity found within supply-side theory which explicitly requires starting over from classical presuppositions and a return to Say’s Law.

And while the efficient market hypothesis is fine as far as it goes, what it does not do and cannot do is rule out recessions. In my view, there is nothing in the EMH that is not fully discussed in classical business cycle theory (and who amongst the entire history-deprived economics profession could tell me whether I am right or wrong on this). Just because you believe that information gets fully used as soon as it is available is no reason to think recessions cannot happen. There are the known unknowns and the unknown unknowns that will get you every time. Even the known knowns can sometimes put an economy into recession. No one can prepare for everything.

The Keynesian walking dead are anyone who uses aggregate demand to explain how an economy works. If that’s not 100% of the profession, it’s near enough.

[My thanks to I.D. for bringing this article to my attention.]

Explaining Hayek’s logic

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This was posted today on the Societies for the History of Economics (SHOE) website:

Can someone explain Hayek’s (1978) logic:

“I have just published an article in the London Times on the effect of trade unions generally. It contains a short paragraph just pointing out that one of the effects of high wages leading to unemployment is that it forces capitalists to use their capital in a form where they will employ little labor. I now see from the reaction that it’s still a completely new argument to most of the people. [laughter]”

In further explanation of his puzzlement, he pointed out that this makes no sense using marginal productivity theory since everything else will re-adjust to create full employment so what was Hayek trying to say. I therefore gave my explanation which followed behind another explanation given by James Ahiakpor, the only other modern day relentlessly anti-Keynesian economist I know of, but this is from me:

In Australia where I was involved in our National Wage Cases on behalf of employers, there was an argument we continually had to deal with which came from the bench and not the unions. It was that raising wages would be good for the economy since it would force businesses to become more capital intensive. The assumption here was that the higher productivity forced on employers would lead to increases in the economy’s ability to finance the higher real wage being imposed.

Marginal productivity theory is part of micro and will tell you what an individual firm will do in the face of higher real labour costs. It does not, however, tell you what will happen across the economy. Forcing real wages higher than the underlying productivity of the economy will support will drive some people out of work. This seems to me so obvious that both then and now it leaves me nonplussed to see it even mentioned, but then I, like James, think about these questions using classical forms of analysis. Unfortunately, like Hayek said, it still seems to be a completely new argument to most people.

The only difference between myself and James is that I would send you to Mill rather than Ricardo.

Classical economists – there are still a few of us around

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A quite instructive article by Peter Boettke on The Great Disruption in Economic Thought. Addressed in particular towards Janet Yellen but more generally to anyone capable of listening, you are encouraged to read it all but let me provide the first para so that you can decide if you would like to continue after that:

Roughly speaking classical political economy, or economic orthodoxy, taught the following: private property, freedom of contract and trade, sound money, and fiscal responsibility. For our purposes we refer to this set of policies as the laissez-faire principle. Of course throughout the history of economic ideas there were always subtle differences of opinion within orthodoxy, and fine points of disagreement in method and methodology. But these paled in comparison with the broad consensus on matters concerning the nature and signficance of economics and political economy. Yes, John Stuart Mill had exceptions to the laissez-faire principle that one could drive an intellectual truck through, but re-read how he sents up that discussion and the importance he places on the laissez-faire presumption.

I will only add that anyone who thinks they can drive an intellectual truck through the ideas of John Stuart Mill has their work cut out for them. But since for most people, someone’s views on John Stuart Mill are not apt to be an obstacle, let me encourage you to read the rest.

And if you do, let me mention that I specifically classify myself as a classical economist a label which Peter is also willing to use. Indeed, I go further. I think of my own book on economic theory as a twenty-first century version of Mill’s 1848 Principles. We have learned a lot since then it is true, but we have forgotten even more.

An Austrian course on Keynesian economics

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I have been hassling my Austrian friends for quite some time that it is not enough to be pro-Hayek and pro-Mises but they also have to be anti-Keynes. Unless they specifically present their own pre-Keynesian classical views as a direct counterweight to the Keynesian wreckage, they have no hope of seeing Keynesian economics finally removed from our texts. It still remains a mystery that the events of the past five years have not even commenced a massive overhaul of mainstream economics. It does seem as if the mainstream continues to believe they are on top of it all. But if mainstream economists still think that Y=C+I+G can explain what caused the recession in the first place or what is needed to create recovery, not only is their economic understanding now worthless but so too is their credibility.

But this morning I have received a notice from the Mises Institute that it is about to run a six-week online course on Keynesian economics:

Beginning Monday, November 11, William Anderson will be teaching ‘The Ghost of Keynes’ at Mises Academy. This six-week online course will examine how and why many economists and governments continue to ignore the numerous fallacies that accompany Keynesian thinking even as the Keynesian-influenced economies around the world continue to flounder in high unemployment and low growth.

Whether this will include a discussion of Say’s Law I do not know but it absolutely needs to. You can watch my presentation to the Mises Institute above on Keynesian economics and Say’s Law. But even though there is an appreciation amongst Austrian economists that the two are related, the importance of Say’s Law is not yet completely embodied in the way Austrians discuss economics. They, of course, do not reject Say’s Law but they also do not fully embrace it.

Nevertheless, I encourage you to sign up for this six-week course. You can enroll here.

Art Laffer and Say’s Law

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laffer - us govt spending fall

There is an article by Arthur Laffer at The Spectator that you can find here here. And I only mention it because I want to point out that Laffer had himself tried to resurrect Say’s Law back in the 1980s. If you look at the original supply side revolution which is coincident with the Reagan Revolution, the literature is filled with Say’s Law, and even amongst the comments at the Spectator article, there is this:

Rubbish. Say’s Law (the formal name for the views in this article) has been refuted. I hope Krugman sees this article.

Me too. I hope he does see it. And I hope he does try to buy into this. He would for a change be taking on someone his own size in the heavyweight division. The cuts to public spending are the only way into resurrecting growth. Who knows, the sequester may yet make Obama an economic hero by having the American economy turned around on his watch. Not his doing but there you are.

And if you would like to see a bit more on Arthur Laffer and Say’s Law, this is the place to look. Jude Wanniski was the third in the triumvirate in the supply side revolution, along with the Great George Gilder.

Keynes versus Hayek once again

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alex on keynes and hayek

I suppose that’s one way to look at it: Keynesian economics as a make-work project for anti-Keynesians. On the other hand, if the notion that digging holes to fill them in again doesn’t strike you as the epitome of an insane economic policy then what hope is there for any of us other than for the hole-digging and hole-filling industries, along with businesses in shovel and overalls production. But Alex does get the nature of Keynesian economics 100% right. It is just what Keynes recommended and Krugman to this day supports.

[My thanks to Robert for sending this along. How could I have missed it?]

Right questions wrong answers

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Thomas Sowell and I have many things in common most importantly of which was that we both did our PhDs on Say’s Law and for both of us this was the subject of our first books: here’s his and this is mine. And once you understand Say’s Law, you will never again think of economics in the same way. Rather than Keynes having disproved this law, he made it unfashionable, and thus it has remained for the past three-quarters of a century. But unfashionable or not, it is the indispensable core of economic reasoning which is why its original name was the law of markets. If you want to understand how a market economy works, you must understand Say’s Law.

Anyway. Sowell has put together a column on the nomination of Janet Yellen as the next Chairman of the Federal Reserve (found here) and structures his comments around her incorrigible Keynesian approach to matters economic in much the same way I did myself the other day. This is from Sowell.

The Keynesian economists have staged a political comeback during the Obama administration. Janet Yellen’s nomination to head the Federal Reserve is the crowning example of that comeback.

Ms. Yellen asks: ‘Do policy-makers have the knowledge and ability to improve macroeconomic outcomes rather than making matters worse?’ And she answers: ‘Yes.’

The former economics professor is certainly asking the right questions — and giving the wrong answers.

The amazing part of the way Thomas Sowell writes is how much he can pack into a few hundred words. If you can read what he writes and still not at least start to think that maybe, just maybe, there is something to that classical economic theory after all then you are as incorrigible as Janet Yellen and about as clueless on how to manage an economy as well.