Banking in the Middle

Politics is dominating the US scenery right now, so very little constructive conversation is taking place in Washington about how to fix the economy. That doesn’t mean that people elsewhere aren’t talking.

Andrew Haldane, for instance, has given us a brief insight into his views. They resonate well here.

The economics profession was, and remains, clearly part of our problem. It is stuck firmly in the past with outmoded and discredited theories still dominating both the curriculum and policy advice. There is, of course, a resurgence of Keynesian thought because of its relevance, policy efficacy, and overall sensibility. It’s as if the entire period since the Great Depression has been a constant attempt to expunge those three attributes from the field. This is especially true when, as Haldane points out, the effort to expunge has wiped away all traces of history from economic theorizing. The hard won lessons of the 1930’s have been deliberately cast aside. Or, rather, events have been re-interpreted so as to provide support for post-1930’s theorizing. History has been made ahistorical to suit economics. Like the background radiation that informs us of the Big Bang, the echoes of past banking crises ought inform us of the need to think about money in our theories.

But, no, the entire financial system has been removed from theory. The standard models used worldwide as a basis for policy making -based on the notorious and erroneous dynamic stochastic general equilibrium theoretical structure – have no room for the effects of money, banking, and credit cycles. None.

This is why the economics profession, myopic and cut off from reality as it has become, can utter surprise when someone comes along and argues that recoveries from a financial crisis are more painful than those from ‘normal’ recessions. I didn’t think this was contentious until John Taylor waded into politics with his recent article arguing against the special nature of financial crises. Then again I don’t live in the miserable epicenter of economic like he does. Maybe the message hasn’t reached him yet.

And it isn’t adequate for some ‘heterodox’ economists to emerge from their various foxholes and claim, after the fact, that they have all the right theories. My experience with them is that they are just as insular as their orthodox brethren. And just as immune to advances or innovation. They pride themselves in ‘pluralism’, by which they mean they want each and every strand of non-orthodoxy to remain singular, respected as a ‘contribution’, and not to be ignored. This, it seems to me, is a recipe for stasis. It is job protection, not learning.

I agree that the Marxist critique of capitalism remains the most complete. That doesn’t mean it is a viable alternative. It means it is a critique. It has content that we ought be aware of, and ideas that can inform us as we progress. But this is not the 1850’s. Capitalism has moved on. The same goes for any number of other such sets of ideas.

The problem with heterodoxy is that now, when the opportunity truly exists to replace the discredited ideas of orthodoxy, it shows itself to be incapable of coming together as a coherent alternative.

This is my problem with Haldane too.

It is one thing for Keynesians to laud their position on uncertainty, it is another to go from there to the importation of the panoply of techniques clustered under the rubric of complexity or evolution and develop a modern version of Keynesianism. Instead we are still arguing whether Hicks got it right in the late 1930’s. And, yes, I know he disavowed his earlier work when he finally grasped the importance of the non-ergodic principle. The problem is that the New Keynesians haven’t.

It is little wonder that people outside of economics are aghast at the relative conceptual stagnation within the field. Yes. There have been a few interesting ideas kicked around since the 1870’s. Heck Darwin wrote his masterwork in 1859. Our understanding of systems, emergence, and other attributes of complexity has moved along since economics wandered off into the unreal world of general equilibrium, ‘representative’ agents, and rational expectations.

As Haldane points out: sociologists, physicists, ecologists, epidemiologists, and anthropologists have all, long ago, recognized the importance of systems studies. If there’s one characteristic of an economy that glares the most it is that it is a system replete with complex relationships, multiple layers, hordes of actors, and riven through with emergent properties and unexpected effects. Ignoring all that in our study of it is inviting not just failure, but contempt.

And, sitting square in the middle is the banking system.

It ought to be central in any modern theory.

And, from a policy perspective, it ought to be managed not simply in terms of monetary aggregates, but as it affects the real economy. Bank regulation ought focus not just on a quasi-audit of banking soundness, but on credit generation and allocation.

It is no accident that the history of modern capitalism is a concomitant history of financial crises. They are intertwined. A sensible social science understands this. Economics, in its orthodox version, doesn’t. It thus abetted the recent crisis.

That is shameful.