Ho hum; trillion dollar deficit

us fed debt

Here’s the US debt story with a bit of historical perspective. Here we find an example of Change You Can Believe In care of the blessedly departed Barack Obama. Consequences include slower growth, limited if not actually negligible increases in the real wage, additional upwards pressure on the price level and some additional increases in rates of interest. But really, where’s the constituency to do anything else? How many non-Keynesians are there, never mind anti-Keynesians?

Remember this? Remember how it ends?

What’s changed and how you gonna change it? Still, there are  regulations going and public spending is being better targeted. Large numbers are being peeled from the welfare rolls. Not good, but if the deficit is rising and you’re a Keynesian, what’s the problem? And if you’re not, what are you going to say to convince them otherwise?

Of course, there is then this from Drudge yesterday:

Then there’s this from today:

But then there’s this also from today.

Really, you only wish people knew how things worked, as in some business comes up with an idea, borrows some money to buy in some capital and labour, and then produces that are sold on the market for a profit. There is endless entrepreneurial drive in the US. With a President who is an entrepreneur, who knows what’s possible.

Classical theory explained

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.

Say’s Law and Austrian economics

Peter Boettke at Coordination Problem links to the Liberty Fund discussion on the economics of John Stuart Mill under the heading, Mill > Keynes, so says Steven Kates. Very pleasing, but more pleasing are the two comments, very critical of what I wrote, that have been sent in by Barkley Rosser.

Kates is obsessed with Say’s Law, how it is true basically by definition. Mill’s view of macroeconomics is very sophisticated indeed, and Keynes notoriously undervalued the knowledge of his predecessors. But one very big difference is indeed over Say’s Law, which Mill accepted and Keynes did not. Given Kates’s strong views on this, of course he says Mill > Keynes, but, in fact, Say’s Law is not true in general, and Say himself knew it, as Kates has had pointed out to him on numerous occasions, but…
Posted by: Barkley Rosser | July 16, 2015 at 04:45 PM

BTW, now that it seems I can post here again after a long period of not being able to, let me add that I do not see anything particularly Austrian about Say’s Law. I just scanned a few books by Hayek and von Mises I have here in my office, and there was not a single mention of Say’s Law in any of them. I did find a mention of Say in Mises’s Socialism, but about whether or not Ricardo was right about gross versus net product. No Say’s Law.

I would suggest you all should not get yourselves too worked up about hanging your hats on Kates’s obsession, which he shares with the even more fanatical James Ahiakpor, whom those who follow HET know of. What is in it for you guys other than another way to bash Keynes?
Posted by: Barkley Rosser | July 16, 2015 at 04:53 PM

It’s as if criticising Keynes is some kind of thing in itself, and not one of the paramount economic issues of our time. Or that Say’s Law is not absolutely embedded in Austrian theory even if seldom mentioned. This is what I have replied:

It pleases me to see that Barkley Rosser has opened a second front on the issue of Say’s Law. And let me begin by noting where we agree, which is the absence of much discussion on Say’s Law among Austrian economists. But while there is not a lot, there is some, the most important one unfortunately going all the way back to 1950, in an article by Ludwig von Mises in The Freeman, “Lord Keynes and Say’s Law”. You can read the whole lot at this link but I will quote you the most relevant passage:

“The exuberant epithets which these admirers have bestowed upon his work cannot obscure the fact that Keynes did not refute Say’s Law. He rejected it emotionally, but he did not advance a single tenable argument to invalidate its rationale.

“Neither did Keynes try to refute by discursive reasoning the teachings of modern economics. He chose to ignore them, that was all. He never found any word of serious criticism against the theorem that increasing the quantity of money cannot effect anything else than, on the one hand, to favor some groups at the expense of other groups, and, on the other hand, to foster capital malinvestment and capital decumulation. He was at a complete loss when it came to advancing any sound argument to demolish the monetary theory of the trade cycle. All he did was to revive the self-contradictory dogmas of the various sects of inflationism. He did not add anything to the empty presumptions of his predecessors, from the old Birmingham School of Little Shilling Men down to Silvio Gesell. He merely translated their sophisms—a hundred times refuted—into the questionable language of mathematical economics. He passed over in silence all the objections which such men as Jevons, Walras and Wicksell—to name only a few—opposed to the effusions of the inflationists. . . .

“In fact, inflationism is the oldest of all fallacies. It was very popular long before the days of Smith, Say and Ricardo, against whose teachings the Keynesians cannot advance any other objection than that they are old.”

Say’s Law is at the heart of Austrian theory without most Austrians being fully aware of it. I have spent a good deal of effort trying to get Austrians more interested in Say’s Law as a means to explain the fallacies of Keynesian economics. I will merely here provide a link to my “Ludwig von Mises Lecture” of 2010, where I tried to show just how important Say’s Law is if classical economic theory – of which Austrian economics is the only modern manifestation – is ever again to become central to our understanding of the way in which an economy works. Just let me apologise in advance for the way in which I pronounce Mises’s name; at the time I had read much of what Mises had written, but by the nature of things, had never actually heard his name said by anyone else. It’s one of the problems being a lonely scholar way off on the other side of the globe. But as you will see, there is no denying my extremely high regard for both Mises and Hayek which I discuss early on.

Shifting in a Keynesian direction

First there were two articles, one by Paul Krugman with the title, Keynes is slowly winning and the other by Tyler Cowen in reply to Krugman titled, Keynes is slowing losing (winning?). There is now a third, Krugman’s reply to Cowen, In Front Of Your Macroeconomic Nose, in which he says what I believe myself:

Cowen seems to have missed my point; I wasn’t talking about the merits of the Keynesian case, which I believe have always been overwhelming, but about the way macroeconomics is discussed in the media and among VSPs in general. My sense is that this is shifting in a Keynesian direction.

There is no other theory known to anyone other than Keynesian. You can talk about debt and deficits until the end of time, but unless you can relate it to a theoretical understanding of what needs to be done and more importantly why, there is nothing to grab onto when trying to craft policy. Keynesian economics may be ruinous, but you can find it in a million texts and it has been taught for three generations, coming up to four. Even Cowen in his pussycat weak attack on Keynes can do no better than this at the end:

It would be wrong to conclude that Keynes was anything other than a great, brilliant economist. Rather these citations, plus many of Krugman’s points, give you some beginnings for this issue. It’s not nearly “Keynes’s time” as much as many people are telling us, after all his biggest book is from 1936 and that is a long time ago. Keynes is both winning and losing at the same time, like many other people too, fancy that.

Economies are not driven from the demand side. But other than myself and a handful of others, you will find hardly anyone else to say it across the wide expanse of economics. So on we go, tilting back to public spending while real incomes descend and our economies weaken with not a clue why that might be. So at least there is Johnny Cochrane writing this in a discussion of the articles by Cowen and Krugman:

I posted this last week, but I was unaware at the time of the Paul Krugman’s “Keynes is slowly winning” post; Tyler Cowen’s 15-point response, documenting not only Keynesian failures but more importantly how the policy world is in fact moving decidedly away from Keynesian ideas, right or wrong (that was Krugman’s point); and Krugman’s retort, predictably snarky and disconnected from anything Cowen said, changing the subject from Keynesian ideas are winning to the standard what a bunch of morons they’re not Keynesians though I keep telling them to be. . . .

In that context, I added two “Facts in front of our noses.” Keynesians, and Krugman especially, said the sequester would cause a new recession and even air traffic control snafus. Instead, the sequester, though sharply reducing government spending, along with the end of 99 week unemployment insurance, coincided with increased growth and a big surprise decline in unemployment. And ATC is no more or less chaotic than ever. Keynesians, and Krugman especially, kept warning of a “deflation vortex.” We and Europe still don’t have any deflation, and even Japan never had a “vortex.” These are not personal prognostications, but widely shared and robust predictions of a Keynesian worldview. Two strikes. Batter up.

But still no theory to explain why cuts to public spending will raise economic growth while increased public spending will slowly but surely reduce our standard of living. If, however, you are interested in understanding why, there is always the second edition of my Free Market Economics.

UPDATE: One of the great anti-Keynesians has written an article for this month’s Standpoint in the UK, Don’t let the Keynesians Wreck the Recovery. He discusses the famous letter signed by 364 economists across Britain warning of the consequences of Thatcherism, that is, the consequences of fiscal discipline:

Famously or notoriously, depending on one’s viewpoint, the 364 were wrong. To quote Nigel Lawson, who would become Chancellor of the Exchequer in 1983, the timing of the recovery was “exquisite” in refuting the 364’s prognoses. Demand and output started to move upwards in the second quarter of 1981, just as the debate about the Times letter was at its most intense. Although unemployment remained high for some years, the economy gathered pace and in the late 1980s entered another boom. If this was a laboratory experiment for Keynesian economics, its results suggested that the textbook formulas were flawed. Old-fashioned principles of sound finance returned to favour in the UK, while the ratio of public debt to gross domestic product fell to manageable levels. For more than 25 years Keynesian fiscal activism was ignored or even forgotten.

But the events of the 1980s have been ignored, particularly by writers of textbooks. As Tim notes:

But university economists continued to teach Keynesian macroeconomic as if nothing had happened. Sure enough, in Britain many academics realised from the sequel to the 1981 Budget that something was wrong with Keynesianism or, at any rate, with the naive versions of Keynesianism which emphasised the blessings of fiscal fine-tuning. But in the American East Coast universities — notably the Ivy League establishments — the UK’s 1981 Budget was too parochial an event to justify rewriting textbooks and lecture notes. Such influential figures as George Akerlof and Robert Shiller of Yale, Paul Krugman of Princeton and Joseph Stiglitz of Columbia, all now Nobel prize laureates, continued to teach that an increase in the budget deficit adds to aggregate demand and a decrease deducts from it.

And so here we are, dragging our economies down by pretending we are doing them good.

The great discontinuity in Keynes’s economic thought

This is an extract from a note I have written to an economist in the United States whose work I have only just come upon. I am beginning to become aware of the various attempts by a number of economic schools to abandon modern neo-classical theory which, in my view anyway, mostly means trying to rediscover what the classical economists already knew. Perhaps there is more to it but so far I cannot see what. The interest in this letter, however, is in the nature of the Keynesian Revolution. I have no in-depth knowledge of Keynes’s Treatise on Money although am reasonably familiar with it. But it was published in 1930 while my interest begins in 1932 with Keynes’s discovery of demand deficiency as the explanation of recession and involuntary unemployment.

The paper I am commenting on treats Keynes’s ideas as if there had not been the great disruption at the end of 1932 when Keynes came upon Malthus’s 1820 letters to Ricardo. It was these that instantly converted him into a Keynesian theorist which he had not previously been, even though he had always sought to increase public spending to reduce unemployment during recessions. That virtually all of his contemporaries understood how thin Keynes’s arguments are is now just of historical interest and of interest to hardly anyone at all. Only by going back to those moments of transition, and by understanding what economic theory was like before 1936, is there any hope for again turning economic theory into something useful for analysing economic events. This then is what I wrote:

I would have written back straight away but Tuesdays is my heavy duty teaching day and I also didn’t want to clutter your inbox until I had read your brilliant article on Keynes. You cannot imagine how similarly we see the world and what a treat it is for me to read something like what you wrote. I will, of course, include this paper in my Anti-Keynesian Reader, but I must also beg your indulgence if I explain to you the 1932-1933 shift in Keynes’s thinking which is my speciality. I have also ordered your macroeconomics text which I am looking forward to since it came after your paper and must therefore incorporate the same ideas.

You have also made me even more aware than I was before that I have not been keeping up with the literature as well as I should. I found the scholarship of your article exhilarating and finished it at one go. I just sat down and read it and was only sorry that after thirty pages it turned out to be so short. My own excuse for not being aware of the most recent literature is that I spent the years from 1980-2004 as the Economist for the Australian Chamber of Commerce and Industry. I therefore think that my economic interests were driven by an eclectic interest in arguments that could be used to explain economic issues from the perspective on an entrepreneur. It is why the classical economists so appealed to me since that was their aim. From the marginal revolution on, I find almost nothing of much value in framing issues, specially since post the marginal revolution economics went micro and into equilibrium analysis, both of which are utterly contrary to what I could see right before my eyes being the need to make sense of an economy in which every business decision is fraught with the uncertainty of spending tonnes of money before the outcome of each of those decisions could be known. And while I may have been feeding on the classics, nothing I ever wrote looked archaic to those to whom our submissions went. Classical economics makes perfect sense and is much more logical and insightful than the kinds of economic theory we find today.

But what started me on the trajectory I travelled was a minor issue in the National Wage Case of 1980. I was brought on to write the economic submission to our industrial relations court on behalf of employers. It was explained to me that every argument in a court of law must be controverted so I had to go through the union submission, identify each argument they had made and then explain why it was wrong. Believe me, this was the easiest task I have ever been given, but one of them was easiest of all. This was the argument that wages had to be raised as a means to stimulate demand. So I just pointed out that you could not stimulate an economy by making employers pay an extra $100 a week so that employees could then spend that extra $100 in their shops. And then, in 1982, I was reading John Stuart Mill’s Principles, for no other reason than because I was interested in what he might have to say, and came across his Four Propositions on Capital which literally, on the spot, ended my days as a Keynesian. (And now, 32 years later, I am about to finally have an article published on these four propositions.) From there, I continued reading more of Mill and found a passage in which he pointed out how ridiculous it was that people thought an economy could be driven forward by demand. And the example he gave of how ridiculous this argument is was of someone who might steal from the till of the business they are working in, go out the back door and come back in the front and spend the money, and that the more this was done, the faster the business would grow. This was so exactly my own argument that it completely dumbfounded me. And yet, it was probably not until another couple of years later that I worked out that the notions that Mill was discussing are the actual meaning of “Say’s Law”. It has been coming to terms with Say’s Law and what it meant and all of its implications that has been the pole star for all of my economic writing ever since. And so, my Free Market Economics, which is me trying to do in my own fashion right now what Mill had done in 1848.

I have tried to explain over and again that Say’s Law is the Rosetta Stone for understanding The General Theory, and is also the foundational principle for understanding how an economy works. For the second, you can read my text when it gets to you. But the first is what you have written your article about which has been in so many ways a revelation to me. My speciality is the Keynesian Revolution and know less than perhaps I ought to about The Treatise and Keynes’s original monetary theories. You have perfectly situated Keynes’s arguments for me and his original conception which fits into everything I already know and understand. It is a tour de force, and I have tried to read everything I can on the critics of Keynes. But this is what I can add to what you have written. I have, of course, published things on this but to say that it has been ignored is something of an understatement. It so badly fits the narrative others wish to promote, and truly undermines Keynes as an original thinker and an honest purveyor of ideas, that it just cannot be allowed into the canon. Perhaps, however, you will see my point.

Keynes was doing exactly what you write all the way up to the end of 1932. He was going to write a book about the Monetary Theory of Production, almost certainly along the lines you set out. Unfortunately, it was just then that he came across Malthus’s long-lost letters to Ricardo which had just been discovered by his best friend, Piero Sraffa. In updating his “Essay on Malthus” for inclusion in his Essays in Biography, he read through those letters and discovered demand deficiency, the issue of the general glut debate of the 1820s. He therefore stopped writing about the monetary theory of production and began to write about Say’s Law. And rather than requiring a form of disequilibrium analysis, he is forced by what he wishes to argue, to adopt the most rigid form of equilibrium analysis. This may seem a conundrum to others who work forward from Keynes’s previous writings, but working backwards from The General Theory as I do, it seems perfectly clear to me what he had done.

The enduring legacy of Keynes

us unemployment jan 2014

After a while the dismal state of the world’s economies becomes merely background. We forget the better times and accustom ourselves to how things now are.

I am, however, in the process of putting together the second edition of my Free Market Economics and have just been through the Keynes versus the classics section. And let me tell you, there has been a lot to add based on our experiences over the past five years but there is nothing that needs to be revised. And the most interesting part that needs no revision is the way that macro continues to be taught which is Keynesian from end to end. How anyone can still think that a public stimulus has anything to offer in bringing recessions to an end after what we have gone through is beyond me. But they do, and Y=C+I+G remains in every text and is taught as the best explanation economists have for how economies work and what needs to be done when an economy is in recession.

Anyway, the data are from the US which is the epicentre of economic policy death. From an article on the last six years of the American Labour Market and picked up at Powerline. It’s a measure I often used to do myself since the labour market data only include as unemployment people who are actively looking for work. After a while you just give up so the unemployment rate falls even while the labour market remains stagnant. That’s what the picture all too clearly shows about the US.

There is more to it than just the deadly effects of the stimulus but most of it starts from there. It’s almost as if the US had never heard about free enterprise and the private sector the way they are going about things.

Meanwhile, at Drudge the main headline highlights a new record of sorts:


And those subheadings beneath add to the picture:

Record Number of Women Not In Labor Force…

Growth slumps…

Slowest in three years…

1,500 people camp out for chance to apply for job…

‘For Every One Job Added, Nearly 5 People Left the Workforce’

MSNBC: ‘Awful,’ ‘Very bad,’ ‘Ugly’…

If you are interested in finding out about Say’s Law and the classical theory of the cycle, or what a classical economist would do when an economy is in recession, so far as I know there’s only one place where you could find any of that out. I may, of course, be wrong but what I write is in accord with the way economists looked at things from 1776-1936 and that includes a very large number of very cluey people. If there really is such a thing as evidence-based policy as opposed to ideologically-based policy, you could do worse than to see what the book has to say.

Hayek on Keynes’s ignorance of economics

I’d never seen this before and was apparently first published on 29 September 2012. The notes on the Youtube clip read:

Friedrich Hayek explains to Leo Rosten that while brilliant Keynes had a parochial understanding of economics.

“Parochial” is quite a word when the clip actually speaks of Keynes’s ignorance. It is well known that Keynes had a third rate understanding of economics but was a genius at polemical writing. After Marx, Keynes is the most destructive economist who has ever lived.

It is also interesting that Hayek sees understanding the history of economics as an important part in the education of an economist. Keynes’s ignorance of the economics of the past was seen as a great failing, a failing which now besets the whole of the profession. I wonder how much any modern economist would know about the monetary economists Hayek lists assuming they even know their names.

[My thanks to Harry for sending this on.]