Tag Archives: economic theory

The great mystery is why they are so clueless

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If you are wondering why you should never go to a mainstream economist to solve our economic problems, you should read through this: A Rare Prize for an Economist Looking at the Big Picture. That is, he has won the John Bates Prize awarded to economists under 40. “New” Keynesian Economics is not actually new; more like the far-left wing of modern macro.

Nakamura is one of the leaders in the field of New Keynesian economics. This school of thought, which has become the dominant paradigm at central banks around the world, holds that recessions happen because companies are unable to adjust their prices in response to events like a financial crisis or a big rise in interest rates. Without the ability to adjust prices, the theory goes, companies cut their output and lay off workers instead. In a 2008 paper with frequent co-author and husband Jon Steinsson, Nakamura showed that even very small amounts of this so-called price stickiness can generate large recessions, and make the economy very sensitive to changes in monetary policy.

“Not able to adjust their prices”? Surely they can put their prices down. Who would stop them? Surely they could raise their prices as well if they saw fit. But the problem is that at the prevailing prices and other prices as well, these firms cannot make a profit. As noted in the article:

Exactly why companies can’t adjust prices, however, remains something of a mystery. Nakamura’s research has helped to shed light on this question. Another 2008 paper with Steinsson helped to establish that price stickiness probably results from multiple factors.

The other word for it being a “mystery” is that they are “clueless”. I wonder if there are any lessons to be learned from the United States.

ENVY OF THE WORLD
UNEMPLOYMENT 49-YEAR LOW
WAGE HITS $27.77/HOUR
STOCK MARKET ENDLESS RALLY
TRUMP APPROVAL 50%

And speaking about clueless, think about the other 50% of Americans who do not approve of Donald Trump.

[My thanks to Nathan for sending me the news of the JB Clark medal.]

RMIT is the George Mason of the South

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It was certainly never intended that way but the School of Economics, Finance and Marketing at RMIT has become one of the great free market universities of the world. This has been posted at Instapundit just today following the post you see below on The Blockchain Economy:

INTERNET 4.0: Chris Berg (Australia’s free speech champion), Sinclair Davidson (of Catallaxy Files fame), and Jason Potts have put together The Blockchain Economy: A beginner’s guide to institutional cryptoeconomics. If they’re right, regulators and taxmen have a lot to fear.

And allow me to add myself into this equation. I presented my paper on Tuesday on “Classical Economic Theory Explained” which discussed the many many many things wrong with Keynesian macro – that is, all of modern macro – that the classics got right. And while the number of people who get this is quite small at the moment it is not quite zero and the numbers are growing. Therefore, let me refer you to this paper by Per Bylund More Spending Does Not Drive More Employment in which the following passage may be found:

Economists prior to the Keynesian avalanche, which contemporary Say’s Law scholar Steve Kates argues was all about dismissing the organic view of the market economy, had the same understanding of the economy as Mises. What drives the economy is not demand or spending, but entrepreneurship and production.

Indeed, JS Mill famously notes that “Demand for commodities is not demand for labour” in his fourth fundamental proposition on capital. While this statement is subject to much debate and most modern economists cannot make sense of it, it is in effect very straight-forward if one recognizes the role of entrepreneurs.

And if you want to want to read about Mill’s Fourth Proposition, you can go here. This was its first defence in more than a century but as said by Leslie Stephen in 1876, “it is the best test of a sound economist”.

Classical theory explained

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I’ll be in Canberra for the first three days of next week for the meeting of the History of Economic Society of Australia where I will be giving a presentation on the actual meaning and significance of “classical” economic theory. I am therefore putting up a post from way back in history that I did in 2011, so ancient that Maurice Newman was the Chairman of the ABC and I was still being published at The Drum. The rest of this post is what I said then. But before I get to that, I will put up this quote from a brief article on me [my name even comes first in the article’s title!] which you may find in the latest edition of the Journal of the History of Economic Thought:

“Steven Kates is probably the best-known present-day proponent of the old ‘classical’ macroeconomics of Jean-Baptiste Say, James Mill, David Ricardo, and John Stuart Mill.”

But as I say in the heading in the slide, I am probably the “best-known” because I am probably the only one in existence. It was also, let me assure you, not intended as a compliment. Anyway, here is what I wrote back then.

__________

I have an article up at The ABC’s Drum website where I again look at the statement by the ABC’s Chairman, Maurice Newman, on the value of classical economic theory in comparison with the modern. Here was the full quote from his speech:

We may think we are all Keynesians now, but perhaps contemporary teachings of Keynes are not faithful to the original doctrine, or, maybe, Keynes is now a defunct economist. Perhaps post modernist economics has so captivated our journalists that they have suspended the spirit of enquiry, open-mindedness and scrutiny that an informed democracy so desperately needs.

Under relentless pressure, classical economics has become all but a relic of a bygone era. Yet the work of classical economists most likely holds the solution to today’s economic ills.

The point that Maurice Newman was making was that journalist really ought to take a look at the economic ideas of the classical economists, which using the modern Keynesian definition incorporate every economist before Keynes himself, with the exception of Malthus, Hobson, Major Douglas and Gesell (who these last three are you might very well ask, but this is Keynes’s very own and very short list). As for the rest, they were consigned by Keynes to the dustbin of history, whose theories are only kept alive by a very small band of economists scattered across the world.

In the article, I quote Alfred Marshall, arguably the greatest economist to emerge from the nineteenth century. As I wrote on The Drum, Marshall “was very specific about not mistaking an economic recession for a failure to spend and he very much thought of himself as following in the tradition of the classical economists. This is what he wrote in his Principles of Economics:

[This is] the attitude which most of those, who follow in the traditions of the classical economists, hold as to the relations between consumption and production. It is true that in times of depression the disorganization of consumption is a contributory cause to the continuance of the disorganization of credit and of production. But a remedy is not to be got by a study of consumption, as has been alleged by some hasty writers … The main study needed is that of the organization of production and of credit.

Demand deficiency was not an idea discovered by Keynes. It was an idea about as old as economics itself and had been thoroughly debated and rejected for a hundred years before Keynes came along. And the fact of the matter is, there is not an economist in a hundred who could tell you in a convincing way why demand deficiency had been seen by classical economists as the province of cranks. They would also be unable to tell you what the classical theory of recession actually was. All they have is what they were told by Keynes, the very last man in the world from whom anyone should try to learn what classical economists had said.

Newman’s point is exactly right. Why don’t our journalists (and economists) show enough curiousity to find out what those classical economists said and wrote. We might still reject classical theory when we have examined their theories and ideas. But then again there is the possibility, a possibility that grows stronger by the day as we move towards another downturn, that classical economists actually did know more about the causes of recessions and their cures than we are currently led to believe.

Economic theory has been hollow for a long long time

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The secret is getting out. Modern economic theory is a pseudo-science. So let me give you some recent discussions of what ought to be obvious to anyone living in an economy in which economists are advising governments. First this: The new astrology: By fetishising mathematical models, economists turned economics into a highly paid pseudoscience. From which:

The economist Paul Romer at New York University has recently begun calling attention to an issue he dubs ‘mathiness’ – first in the paper ‘Mathiness in the Theory of Economic Growth’ (2015) and then in a series of blog posts. Romer believes that macroeconomics, plagued by mathiness, is failing to progress as a true science should, and compares debates among economists to those between 16th-century advocates of heliocentrism and geocentrism. Mathematics, he acknowledges, can help economists to clarify their thinking and reasoning. But the ubiquity of mathematical theory in economics also has serious downsides: it creates a high barrier to entry for those who want to participate in the professional dialogue, and makes checking someone’s work excessively laborious. Worst of all, it imbues economic theory with unearned empirical authority. . . .

Romer is not the first to elaborate the mathiness critique. In 1886, an article in Science accused economics of misusing the language of the physical sciences to conceal ‘emptiness behind a breastwork of mathematical formulas’. More recently, Deirdre N McCloskey’s The Rhetoric of Economics (1998) and Robert H Nelson’s Economics as Religion (2001) both argued that mathematics in economic theory serves, in McCloskey’s words, primarily to deliver the message ‘Look at how very scientific I am.’ . . .

Romer believes that fellow economists know the truth about their discipline, but don’t want to admit it. ‘If you get people to lower their shield, they’ll tell you it’s a big game they’re playing,’ he told me. ‘They’ll say: “Paul, you may be right, but this makes us look really bad, and it’s going to make it hard for us to recruit young people.”’

There was then this in The Wall Street Journal a couple of days ago: The Great Economics Debate. Here is the bit before the paywall.

Friedrich Hayek and John Maynard Keynes worked at a time when the study of economics was concerned with society and its values. Richard Vedder reviews ‘Hayek vs Keynes’ by Thomas Hoerber. By Richard Vedder

Today economics is a fundamentally quantitative pursuit, dominated by abstract mathematics and complex modeling, largely removed from the realities of human interaction. But it was not always thus. Economic theory . . .

You can undoubtedly guess the rest. Meanwhile, here at RMIT, Imad Moosa, one of my professorial colleagues, has just had a book published with the quite direct title: Econometrics as a Con Art. Here is a summary of the book:

Imad Moosa challenges convention with this comprehensive and compelling critique of econometrics, condemning the common practices of misapplied statistical methods in both economics and finance.

After reviewing the Keynesian, Austrian and mainstream criticisms of econometrics, it is demonstrated that econometric models can be manipulated to produce any desired result. These hazardous analyses may then be relied upon to support flawed policy recommendations, ideological beliefs and private interests. Moosa proposes that the way forward should instead be to rely on clear thinking, intuition and common sense rather than to continue with the reliance upon econometrics. The mathematization of economics has limited the accessibility of and participation in economic discussion by converting the area into a complex ‘science’ when it should not be.

Economic theory has been hollow for a long long time, but good economics exists. Unfortunately you would have to go back near a hundred years to find a time when economic theory was consistently sound. Nor is it just the maths that has ruined theory but the diagrams as well. That, however, is for another day.

In the meantime, I have just sent out a final draft of an article I have written to a number of colleagues and friends with this note attached.

I have written that it is almost impossible for an economist raised on Keynesian models and presuppositions to understand how classical economists approached economic issues. I also say, which is a bit more provocative, that they understood the processes of an economy better than we do, which of course implies that I think I understand how an economy works better than most economists today. Which, to tell the truth, I do. This is the article in which I try to explain why I think that in less than 2000 words. It is therefore not long, and I also think not very hard to understand, but then I think that about everything I write on classical theory which turns out to be immensely difficult.

I will just bring this joke out of the paper since I think it’s clear what I’m saying, but perhaps it is a bit too enigmatic. In any case, I think this is also true if you see my meaning:

Grieve mentions that I must think of myself as the only one in step. The joke I actually see myself in the midst of is about the impossibility that there could be a twenty dollar bill on the ground because if there were someone would already have picked it up. But there are others [who understand Say’s Law and classical theory], with Bylund (2017) a particularly fine example.

And if you would like to look at Bylund’s article, you will find it here: Rick Perry — and His Critics — Still Don’t Understand Say’s Law.”

Communism for Kids v Economics for Infants

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Just like the article says, this is MIT’s new publication ‘COMMUNISM FOR KIDS’. You can pick it up at Amazon where you can find the following blurb:

Once upon a time, people yearned to be free of the misery of capitalism. How could their dreams come true? This little book proposes a different kind of communism, one that is true to its ideals and free from authoritarianism. Offering relief for many who have been numbed by Marxist exegesis and given headaches by the earnest pompousness of socialist politics, it presents political theory in the simple terms of a children’s story, accompanied by illustrations of lovable little revolutionaries experiencing their political awakening.

It all unfolds like a story, with jealous princesses, fancy swords, displaced peasants, mean bosses, and tired workers–not to mention a Ouija board, a talking chair, and a big pot called “the state.” Before they know it, readers are learning about the economic history of feudalism, class struggles in capitalism, different ideas of communism, and more. Finally, competition between two factories leads to a crisis that the workers attempt to solve in six different ways (most of them borrowed from historic models of communist or socialist change). Each attempt fails, since true communism is not so easy after all. But it’s also not that hard. At last, the people take everything into their own hands and decide for themselves how to continue. Happy ending? Only the future will tell. With an epilogue that goes deeper into the theoretical issues behind the story, this book is perfect for all ages and all who desire a better world.

You would hope that it’s all intended to be ironic but given the way of the world, every word is meant just as it is written. “Happy ending?” they ask. Complete idiots which often comes with high IQ grade stupidity.

So I will just mention that I have written my own little book which is titled Economics for Infants, the first children’s book ever premised on the classical economics of Say’s Law and John Stuart Mill’s On Liberty.

More details to come.

[The story on The Children’s Guide to the Gulag comes via Instapundit]

Why don’t economists get it?

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China, India, Japan, US and Europe have weakening or underperformaning GDP growth. And by no coincidence at all, these are all economies that have tried a Keynesian expenditure program to end recession. The thing that is most astonishing is that there is virtually no economist of the mainstream who could even explain it. And as the article points out, this is even happening as the price of oil has plummeted.

Here’s a clue about what’s wrong with modern theory. Our economies are not saving too much. Our economies are being plundered of their savings by our governments who are wasting our resources on projects that will never bring a positive return. Go back to the stimulus packages and other government-directed expenditures of 5-6 years ago – some of which were even ludicrously described as infrastructure investment. What you are seeing today is the absence of the private sector projects that were forestalled back then. We are ruining our economies, and the economics profession is at the heart of the problem. Aggregate demand does not make an economy grow. Economies only grow if there is value adding investment. Seems obvious. Why don’t economists get it?

The Economist still thinks our economic problems are due to a shortfall of spending!

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economics hides its head

Like so many others, I have the answers to the dilemma economic theory is now in. My answers centre around the classical economics that was the core of theory before Keynes brought ruin to the heart of economics with his General Theory. Clear as a bell to me the havoc this has caused, but there are other views as well, some of whom, according to The Economist, are put forward by other economists as part of their blogs. Here’s how I can tell that most of the bloggers and economists they focus on are absolutely wrong:

America is suffering from a shortfall of spending. Both market monetarism and the neo-chartalists are right about that. They disagree about whether the best response is monetary or fiscal. The market monetarists argue that fiscal stimulus should be redundant, because a central bank can always revive spending—if it sets its mind to it. If the Fed’s efforts have disappointed, it is not because market monetarism is wrong, but because the Fed is not sufficiently committed to the cause. [my bolding]

Of course, both monetary and fiscal are important: the imperative is to raise interest rates and cut spending. But I don’t think that’s what they mean.

See how fortunate you are to be able to come to this blog and find out what is wrong and what to do. The problem is that both central banks and government spending are diverting our very scarce productive resources into a series of wasteful outcomes that are making us progressively less wealthy. The gross stupidity of thinking that the cause of our currently slow rates of activity and high levels of unemployment is a shortfall of spending shows that the curse of Keynes is going nowhere soon.

[An article from 2011 sent to me from a friend for comment. Economics is not about to change is my only answer.]

Economic sinners

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I am in the middle of so many projects in which the modern version of economic theory is at the centre, that I find my thoughts overflowing into these blogs. A blog is not, however, supposed to be anything other than an overview shared among like-minded people. Comments on my post on the sins of economics are reasonable and temperate, but still fill me with some dismay which has me led me to go over some of that ground again. The sense of inevitability for the Industrial Revolution in the midst of the pastoral settings of eighteenth century England is not one I share. What did happen is not necessarily what had to happen. As Tel, no doubt intending to be ironic, points out:

I dunno, it’s probably more important that Isaac Newton invented gravity… I mean, without gravity you could slip easily, lose your footing and fly off into space. Sorry, but Newton is much more important in the scheme of human progress.

As it happens, Newton’s three laws did not change all that much about anything, but it did change the climate of thought. Certain ideas matter. It was not Adam Smith by himself and on his own, although he did have a fair share to do with it. The period 1770 through to about 1830 was the only period in history when being anti-establishment meant being pro-market. It was in that relatively brief span of time that the market economy was allowed to come into the foreground in the teeth of opposition from the landed aristocracy to the Luddite opponents of new technologies. Economic theory has been trying to backtrack ever since, whether the Marxist variety or the Keynesian variety and now even the mainstream. With Green policies so insidious, where to from here is not all that obvious, although I think that with the market genie out of the bottle, it remains almost impossible to stop. But Schumpeter in 1942 was already predicting that capitalism’s success would be its downfall.

Ray has then added:

I trust we are not ascribing the growth experienced during the Industrial Revolution to Adam Smith. It was not until after the repeal of the Corn Laws and Navigation Acts in 1846 and 1849 respectively, more than seventy years after The Wealth of Nations was first published, that the teachings of Smith and Ricardo, began to dominate policy matters. Until then, the Mercantilists ran public policy, very much the antithesis of everything Smith taught us.

A climate of opinion is essential for any system to take hold. If opinion didn’t matter, if the structure of beliefs made no difference, then elect socialists and get on with spreading equity instead of wealth. These things matter now and they certainly mattered 1770-1830.

And this was brought up from the Zero Hedge list, which is supposedly an example of seeking greater market regulation:

The benefits of free trade outweigh the costs of a country losing its manufacturing sector as a result; the fact that domestic companies have to comply with much stricter and costlier regulations than their foreign competitors is of no consequence.

If you don’t think domestic regulation affects an economy’s ability to produce, just have a look at the mining industry before and after Labor. Try adding in a measure of carbon pricing and see how the aluminium industry prospers. The phrase “internationally competitive” has a meaning. This may not be phrased to your liking, but it makes a point worth thinking about.

So let me finish with this quote from Rich:

A seed takes time to grow to a tree that bares fruit, and in that time it needs its protectors and proselytisers.

If economics in 1776 was like economics today, how likely would the Industrial Revolution have been then?

Economic Council of Tribal Elders

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This is a self-explanatory letter I have written to Professor Richard Lipsey. It was a Saturday afternoon, my most whimsical moment of the week. I have re-read it now on Monday morning, my least whimsical moment, and it still works for me. While my proposal for encouraging change was not intended to be taken literally, something really does need to be done.

Dear Professor Lipsey

I hope you won’t mind my invading your email account but following your posting on the SHOE website, I wanted to continue that conversation because I think this is an issue of no small importance. I have posted the correspondence up on my blog so you can look at my more considered thoughts here.

About myself, I will mention only four things: (1) Canadian born and educated though living in Australia for the past forty years, I have learned and taught from your Positive Economics; (2) I have been trying in my own way to save the history of economic thought from oblivion an outcome it seems destined to achieve [see my Defending the History of Economic Thought (Elgar 2013)]; (3) I am in the smallest of all current heterodox groups – the John Stuart Mill Classical School of Economic Theory for which I have written the textbook: Free Market Economics: an Introduction for the General Reader (Elgar 2nd ed 2014); and (4) virtually all of my career was spent in politics as the Chief Economist for Australia’s national organisation of employers which has warped my approach to issues, both economic and academic (see below).

I think there is a crisis in economics at the moment that no one is facing up to. The Queen supposedly put her finger on it by asking why no one had forecast the GFC. I think the crisis comes from no one being able to guide us out of the recession. You will have seen that I think that is because of the Keynesian models we have embedded, on which I may be right or wrong. But what troubles me is that no one has made a serious effort to revisit economic theory and worry over where the problem is. If I were to be classified using any of the modern schools, I would probably find myself, like you, within the Evolutionary Economics camp (my close associate at RMIT is Jason Potts who I understand is well known in this area). But whatever fuss has been made seems very muted, so muted I have been unable to detect anything at all.

In fact, until I read your post, I had no idea that you had these views. There may be many others who hold views similar to your own, who are, like yourself, individuals with genuine stature who are concerned about the way things are going. The minute I saw your post, I knew whatever thoughts others may have had to take potshots at me – and there may well have been none – they would be instantly suppressed. I am also very conscious of how narrow economic theory is, but as presently designed, it is both seductive and empty. The MC=MR diagram drives me crazy, and I won’t teach it, and in fact, instruct anyone who has ever come across it, to do all they can to forget it. Yet everyone who has learned it, cannot be lured away from its seductive grasp. I make the notion of equilibrium something that should be shunned and a concept devoid of serious economic content but on it goes even though economies are absolutely open ended and with so many cross-currents, the very notion is pointless. I think the stimulus was as deranged as anything I have ever seen inflicted on a peacetime population in my life but seriously, aside from myself, no one seems to be taking up arms against the underlying theory that has led to these policy outcomes. But my point is that although everyone can understand what is in my text, their careers would be cut dead if any of them ventured into this kind of territory, enemy territory to the mainstream (although a couple of them have, brave souls).

The nature of what we teach and the way we restrict what is in and what is not in, so far as a mainstream department goes, is astonishing. For whatever reason, the latitude given is near zero. You could drop your first edition into any course today and it would hardly make a difference compared with the latest, most up-to-date text just off the press. I came back to teaching after 35 years away and I didn’t have to learn a single new thing.

I don’t know whether there is something that can be done. But an Economic Council of Tribal Elders made up of people like yourself seems to me to be the only answer. A student uprising, as at Manchester and discussed by Hugh Goodacre, can only go so far but must stop. No one will pay attention, and I’m afraid, no one should either. But persons such as yourself in league with others of a similar stature, people who are no longer worried about contract renewals and finding their next job, can make the difference that I think needs to be made.

You must know others like yourself who are dissatisfied with the mainstream plod. Perhaps it is too hard, but perhaps it is also not too late.

With kindest best wishes.

It really shouldn’t be so hard

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Here’s the strategy:

Arthur Laffer has a simple theory of politics. It’s about as simple as his theory of economics. . . . The economic theory says that the lowest, simplest tax code will produce the most growth. The political theory goes like this: Politicians crave love from voters. So if you want to get a politician to do what you think is right, give him a plan he can easily sell, and make sure that plan will deliver a lot of crowd-pleasing economic growth.

George Bush Snr sat in the Reagan White House for eight years and didn’t learn a thing. Nor did the voters who elected Obama. Even here, we had a government that brought us lower taxes and ongoing prosperity, so we rewarded them by bringing in the other side. There is, of course, more to the theory than we see at the final upper stage. And it is even possible he is right about what might happen in the US next, assuming someone can be induced to actually take those crucial first steps.

His economic calculations have led him to believe that the U.S. economy is primed, after a decade of slow growth and middle-class income stagnation, to grow rapidly – it just needs a big tax reform bill that would lower rates and eliminate most deductions. . . .

This is Laffer’s unshakeable belief: that once voters elect a supply-side acolyte to the White House, massive growth will follow. That growth will please voters. Voters will reward the president’s party. And Republicans, he predicts, will go on to enjoy a generation-long lock on Washington – until, he says, voters forget the power of supply-side economics, and the cycle begins again.

Here, alas, we are still trying to unwind from the old cycle never mind starting a new one.

MORE ALONG THE SAME LINES BUT FROM AUSTRALIA: Peter Costello’s taxing truths. Here is what you need to know but do read the rest:

The government has been hurt by the former treasurer’s claim that it is leaning too heavily on tax increases and not enough on spending cuts to repair the budget.

Raising taxes is bad economics and will repel votes. Other than that, it’s a great idea.