economic theory

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Economic Hypocrisy

It takes a particular type of gall for someone hiding behind the comfort of a cozy tenured professorship to yelp about the way in which unions distort the otherwise – presumably – smooth operation of a mainstream style economy. Apparently one person’s guarantee is another’s structural impediment.

This really stinks. It reeks of hypocrisy. It is devoid of ethical self-understanding. It is just rotten.

But it happens all the time. Far too often.

Today’s Financial Times has another in its series focusing on America’s so-called debt problem. This one is decidedly on the side of the austerity seekers. It is written by Ken Rogoff who seems determined to tarnish the good name he earned when he co-authored a book called “This Time is Different” in which he correctly highlighted that recoveries subsequent to a financial melt down are more difficult and prolonged. Unfortunately he drew  some conclusions from his data that have a somewhat tenuous cause and effect connection.

Indeed he may have it all backwards.

At any rate his article acts as a rallying point for anyone.like myself, who sees us as having not a debt problem but a demand problem.

He sets his argument up by noting the intractable partisan conflict in Washington between those who advocate small government and unfettered private enterprise, and those – like me – who see room for a larger government to mitigate the risks of laissez faire.

He then declares his colors: government is just a bad thing. Unless it’s spending on a massive military operation.

As he goes through what he suggests are our budgetary problems to resolve he begins with defense spending. After noting that such spending is a huge strain on our finances, and that we outspend anyone else by a ratio of 2:1, he simply says that we probably can’t cut it down much because we would lose influence. We wouldn’t be able to boss things like we used to. And that might make people less likely to buy our debt.

This is an interesting theory. It sounds as if Rogoff is suggesting we hold a gun to people’s heads as they decide which bonds to buy. Quite how this fits into mainstream theory I am not sure, but we can duly note it and move on.

Next up is the perennial “what should government do” argument. Here Rogoff doesn’t give us much to chew on other than his observation that our schools are antiquated. He hints rather heavily that this is the government’s fault. He presumably tosses in a good dollop of criticism for that evil teacher’s union as well, because as we all know our falling school standards are entirely the result of rotten teachers protecting themselves from market forces, competition, and the good old magic that those things bring. Private educational establishments do not suffer from a decline in standards at all of course. Harvard, where Rogoff teaches, has positively zoomed ahead in recent years. Notwithstanding its quaint attachment to the anti-market institution of tenure. Presumably market restrictions stop magic from working in primary schools, whereas they help hugely at universities.

But let’s give him his due: he does say that the future belongs to online classes and other IT enabled productivity improvements. I imagine he is hoping he has retired before the competition for students intrudes into his own cozy corner. After all his attitude towards the distribution of the gains from productivity appear biased towards capital and away from labor. He has forgotten that he is on the labor side of the equation at Harvard.

Then there’s spending on infrastructure. Here he thinks that we all agree. More spending would be nice. Our third world rail network, collapsing bridges, congested airports, rotting electrical grid, and gridlocked roads could all do with help. But, according to Rogoff, we won’t make progress because some folks think that the unions will scarf up too much of the investment as wages. Rather than pay a decent wage to construction workers, these people, and Rogoff appears to agree with them, would rather our infrastructure decays even more. They would prefer we use private investment, which, of course, means non-union and cheap labor. If cheap labor built the first railways and the Vanderbilt fortune, it can re-build the railways and be the basis for someone else’s fortune. The intervening emergence of our middle class and democracy can be overlooked. Who needs them anyway?

Next up: immigration. This gets a nod because the big businesses that pay for much of Harvard’s research are pressing for immigration liberalization in lieu of investing in our schools. It’s another form of outsourcing. We outsource the cost of education to, say, Europe, and then entice the cream of their educated class to come here and make profits for our businesses. I suppose this is better than holding a gun to Europe’s head and demanding a supply of engineers, but only a little better. What’s really cool about this trick is that we can laugh at the European tax rates needed to pay for those schools while benefitting from the product we didn’t have to pay for.

Parenthetically, this same sort of outsourcing goes here in the US. Our higher tax states tend to be net suppliers of educated labor to our lower tax states. The latter pretend they are cost effective and small government, but, in fact, are living off someone else’s taxes.

This brings us to the healthcare debate. Amazingly Rogofff contributes nothing and prefers to zoom by the issue. He simply says it’s a big deal and leaves it at that. Maybe this is because his preferred solution – market magic – had manifestly failed, and so he would like to defer the discussion to another time.

Now comes the good bit.

The preceding list of hoary right wing opinions is supposed to provide support to his attack on Keynesian spending. Here’s the relevant paragraph from the FT article:

The idea that one should just ignore all these problems and apply crude Keynesian stimulus is a dangerous one. It matters a great deal how the government taxes and spends, not just how much. The US debt level is a constraint. A growing number of empirical studies, including my own joint work with Carmen Reinhart, suggest that the US has already reached a debt level that has been associated with slower growth in advanced countries. The fact interest rates are low today does not necessarily mean the US is an exception to this rule – take one look at stagnant Japan’s rates. The dollar’s reserve currency status buys America more room, but how much and for how long? A high debt burden is a problem precisely because it reduces a country’s capacity to deal with future shocks.

Read that and weep.

Yes it matters how government spends it’s money, and how much it taxes its citizens. good.

The debt level is a constraint? How? Where? When?

His book suggests that the US has ‘already reached a debt level that has been associated with slower growth..’. Hmmm. ‘Associated with’ doesn’t sound like a strong cause and effect. I guess he means that they kind of go together. Kind of. This is so weak that no one can argue with it. It has no content. We could just as easily say that poor demand growth means that debt ratios are likely to pile up. Duh. The debt is a manifestation of a deeper problem, not its cause.

Then there’s the now classic austerity crowd plea to the credit markets: just because rates are low after years of crisis, doesn’t mean that they will stay that way. I hope not! I would hope that once we get demand buoyant rates will rise once more and reflect a return to more normal economic conditions. But that isn’t Rogoff’s point. Not at all. He, being a fully fledged austerity anti-government mainstream guy, needs to repeat that interest rates do not reflect reality. And only the austerity crowd has a handle on reality. Everyone else, including bond investors don’t.

Now this really annoys me.

Rogoff is trying to have it both ways. Presumably he would argue that when rates are high the market is reflecting the ‘reality’ that government debt is too large and making investors nervous. When they are low? That’s because the market is dumb and doesn’t see what Rogoff and his ilk see. So them market is smart when it does what Rogoff thinks it ought. And stupid when it doesn’t.

The truth is that Rogoff’s core economic theory fails to describe market conditions as they are today, so he has to make up stuff to fill in the gaps. Thus the dire warnings.

Frankly this is tired rubbish. But the Ft prints it anyway.

Last, but not least, Rogoff ends with a flourish. He demonstrates his understanding of contemporary business thinking by referring to the US as a ‘great franchise’. Franchise? Let me see: MacDonalds … US … I get it. Meaningless marketing jargon is fun to play with especially when compared with the stuffy and incomprehensible jargon that infests economics. Quite what he means to gain from this I don’t know. All it shows to me is that he is deeply committed to the privatization of America and to the destruction of any role for government in most aspects of the economy. But that may just be me.

One last thing, his last sentence is portentous, gloomy, and contains no little threat:

With more than $5tn of US Treasury debt, and memories of the huge inflation of the 1970s and default on gold clauses in the 1930s, foreigners would be right to worry a little.

How many ghosts can we pack into one sentence? Let me see.

The US has lots of debt. Gasp! [No clue as how significant this is, but it sure sounds awful]. There was high inflation in the 1970’s. Gasp again! [No hint whether that’s a threat now or just a little historical tidbit]. There was a default on gold clauses in the 1930’s too. Oh the Horror! [More history. Less analysis] And Foreigners would be right to worry a little.

That last bit makes sense to me.

Hypocritical professors are, indeed, something to worry about. Especially if they deny that their ideas have just been proven wrong. Big time. Hypocritical professors who refuse to learn are even more dangerous.

Beware!

Addendum:

The Reinhart/Rogoff book is worth reading. I am shocked you haven’t already!

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Cartoon Economics

I haven’t commented on the state of economics lately largely because there’s been no change. It remains a mess. Moreover it remains a mess few people seem keen to clean up. Pet theories abound. Old ones are trotted out anew. Academic bricks are tossed over walls into rival camps. But no one fixes much of anything. The public has a right to be confused.

Perhaps we should all just laugh. Economics is so far away from what its most ardent practitioners think it is that it has become a cartoon. Enjoyable, but not to be taken seriously.

And I say this as someone who has a passion for the subject. Imagine my despair at what its leading thinkers have wrought.

Economists nowadays love to talk about their models. They produce models to explain and elucidate. They devise more complex models to mimic the entire economy. They cobble together small models to illustrate a particular problem. Not to model is not to be an economist.

I call these models caricatures. That’s what they are. Caricatures.

Think of those old political cartoons. The subject of the cartoonist’s scorn was always a politician whose features were exaggerated to make a point. If the nose was large in real life, it became huge in the cartoon. If the ears were a little on the above average side, then they became elephantine. A squeaky voice was portrayed as a squeal. And so on. The point being that the viewer of the cartoon was assumed to be aware of the foible or feature being drawn out, and the exaggeration was a device to convey new information or to highlight something about the subject.

Models are the same thing.

They are gross simplifications with certain features of the real world suppressed or eliminated entirely in order to draw attention to others. If the model is supposed to throw light on one thing, then other stuff is thought of as extraneous and eliminated.

Just as a human face can be recognized either by its salient features, as in a cartoon, or by its entirety, as in a photograph, there is a world of difference between the information conveyed in either medium. The very act of creating a caricature reduces the amount of original information available to the viewer, but allows a single item to stand out. Models do the same thing. One thing stands out. One relationship comes into focus. One exchange or one artifact is rendered more clearly.

But no one thinks of a caricature as a portrait. No one muddles the two up. No one reasons from a caricature and imagines they know something concrete about the original face. Other, that is, than what is already known and is being highlighted.

You see the process of information reduction in order to specify a particular feature to exaggerate severs the cord with reality. It is as if a knife cuts through the complex and often difficult to render in order to leave only a flattened, simplified likeness. Which is not a complete likeness at all, but a vivid selection sufficient for illustration and the spotlight.

The reason a caricature works is that we already know about the nose, the ears, or the voice. There is nothing new being conveyed. Recognition is simplified so that another message can be attached to it and passed along more readily.

In contrast, the reason economists use models is to look for things that are not already known. They are looking for insights not easily revealed by the complex web of reality, but which may come into sharper focus when that complexity os removed.

The success or failure of the technique resides largely in the choice[s] about which aspect of reality to suppress. And therein lies the source of the mess. Economists have made some pretty damn awful choices. So much so that any insights gained are unlikely to have much, if any, relevance to the real world. The cartoon remains just that, a cartoon.
The shame of it is that some of the grandest accomplishments of modern economics fall into such a category. Rational expectations. General equilibrium. Efficient markets. Marginal productivity and costing. The list goes on. Whether these are features of the real world we are supposed to be understanding is highly questionable. That they are commonplace in economic models and are deployed to help explain that real world is beyond question.

That list is more interesting for what it reveals about economists, than for what it allows us to learn about the economy.

Apparently economists like caricatures because they cannot draw good portraits. Economics is mostly a cartoon. We need it to be more.

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Glenn Hubbard – Ethically Challenged

As many of you know I regard Glenn Hubbard as the poster child of the laxity with regard to ethics within economics. That he can get away with it defies reason, but is entirely consistent with the extent of corruption of our elite and our economics elite in particular.

Anyway, I am not alone.

‘Mathbabe’, aka Cathy O’Neil, gets down and dirty with him here …

Hubbard The Economic Whore

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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.

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Weekend October 12, 2012

What a strange week.

The paucity of hard economic news was punctuated by a quite remarkable mea culpa issued by the International Monetary Fund. Or rather the punctuation was provided by the chatter within the commentariat about the apparent regret the IMF has in arguing for austerity prior to the full recovery of sundry economies that it monitors.

You see, the IMF has suddenly come to the realization that cutting government spending is not an expansionary policy. Nope. The numbers don’t add up that way. Austerity is, as has long been advocated here, a one way ticket to contraction. Now the IMF doesn’t quite come out and say whoops. Instead it uses the usual jargon laden obfuscation of economics. It even consigns its volte face to a marginal column where only the commentariat will notice. I imagine this is so the general public of those nations deeply down the road in failed austerity driven attempts to expand will not notice and express their rightful anger at having been sold snake oil and not efficacious policy.

Austerity led expansion is snake oil no matter how you bottle it. That millions of unsuspecting people had to suffer ruin in order for the dolts at the IMF to re-read their history books and re-learn the lessons of the 1930’s is a tragedy. It ought to be a criminal offense – the harm justifies severe punishment. Somehow I doubt we will see hordes of IMF economists being carted off to jail. But its nice to dream about.

The way the IMF packages its mea culpa is sweet: it has discovered, gasp, that the multiplier on spending cuts is more than one.This means that for every dollar of expense reduced the economy loses more than one dollar of GDP. Duh. This seems to me to be a basic lesson of history. Of course it’s a lot more complicated than that, but there’s nothing in the complication not already well documented in Keynes. His entire masterwork is dedicated to learning, explaining, and generalizing from the lessons of the disastrous policies of the 1920’s and 1930’s. It’s all there sitting in the library. The IMF only had to read it. But it didn’t. Not until it had wrought unbelievable damage.

Not that the IMF is alone in its folly. Most central banks, economics ministers, and policy officials seem all in the thrall of the voodoo that superseded Keynes. The absurd belief in market magic and supply side boosterism would be laughable were it not so persistent and damaging. Worse: when the damage started to accumulate and the evidence pointed irrevocably to the failure of supply side magic it took far too long for folks like the IMF to climb down and admit to error. The arrogance of orthodox economists was toxic to social welfare. They put their own reputations and wellbeing ahead of those whose lives they destroyed through the imposition of their ill-founded theories. That their ideas had been debunked decisively seventy years ago apparently was no barrier to their determination to force us all to accept their righteous opinions.

And here’s the real kicker: the biggest culprits are still at it. There are nations who have less wiggle room than others. Some element of austerity may be unavoidable there. But in others, notably the UK and the US, there is no excuse whatever. Taking fright at debt to GDOP ratios well below historic highs bespeaks to weakness not strength. An unwillingness to borrow at zero interest rates is a folly future generations ought to deride in no uncertain terms. Specious argument upon specious argument has been piled up to defend the unnecessary decimation of economies. Why? Ideological lunacy. And unfounded moral sensibility.

Well at least the entire episode has exploded once and for all any pretension economics had to being scientific. Science progresses by correcting its errors. It keeps refining its explanations and laying bare what it fails to explain. Economics, in contrast, magnifies its error by embedding them in its axiomatic foundation, thus avoiding having to discuss them, and so refuses to learn. It is regressive rather than progressive. Right now it is sitting somewhere in the year 1870 waiting for a reason to go further back. We can expect a Marxist critique of capitalism any day now. How new and refreshing that will be. Or has that already been done?

Anyway, at least we learned this week that IMF was wrong and that it knows it was wrong.

I suppose that’s progress.

Maybe.

 

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