from Thomas Palley
Club, noun. 1. An association or organization dedicated to a particular interest or activity. 2. A heavy stick with a thick end, especially one used as a weapon.
Paul Krugman’s economic analysis is always stimulating and insightful, but there is one issue on which I think he persistently falls short. That issue is his account of New Keynesianism’s theoretical originality and intellectual impact. This is illustrated in his recent reply to a note of mine on the theory of the Phillips curve in which he writes: “I do believe that Palley is on the right track here, because it’s pretty much the same track a number of us have been following for the past few years.”
While I very much welcome his approval, his comment also strikes me as a little misleading. The model of nominal wage rigidity and the Phillips curve that I described comes from my 1990 dissertation, was published in March 1994, and has been followed by substantial further published research. That research also introduces ideas which are not part of the New Keynesian model and are needed to explain the Phillips curve in a higher inflation environment.
Similar precedence issues hold for scholarship on debt-driven business cycles, financial instability, the problem of debt-deflation in recessions and depressions, and the endogenous credit-driven nature of the money supply. These are all topics my colleagues and I, working in the Post- and old Keynesian traditions, have been writing about for years – No, decades! Read more…
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from Dean Baker
Federal Reserve Board Chair Janet Yellen made waves in her Congressional testimony last week when she argued that social media and biotech stocks were over-valued. She also said that the price of junk bonds was out of line with historic experience. By making these assertions in a highly visible public forum, Yellen was using the power of the Fed’s megaphone to stem the growth of incipient bubbles. This is an approach that some of us have advocated for close to twenty years.
Before examining the merits of this approach, it is worth noting the remarkable transformation in the Fed’s view on its role in containing bubbles. Just a decade ago, then Fed Chair Alan Greenspan told an adoring audience at the American Economic Association that the best thing the Fed could do with bubbles was to let them run their course and then pick up the pieces after they burst. He argued that the Fed’s approach to the stock bubble vindicated this route. Apparently it did not bother him, or most of the people in the audience, that the economy was at the time experiencing its longest period without net job growth since the Great Depression.
The Fed’s view on bubbles has evolved enormously. Most top Fed officials now recognize the need to take steps to prevent financial bubbles from growing to the point that their collapse would jeopardize the health of the economy. However there are two very different routes proposed for containing bubbles. Read more…
from Thomas Palley
There is an old story about a policeman who sees a drunk looking for something under a streetlight and asks what he is looking for. The drunk replies he has lost his car keys and the policeman joins in the search. A few minutes later the policeman asks if he is sure he lost them here and the drunk replies “No, I lost them in the park.” The policeman then asks “So why are you looking here?” to which the drunk replies “Because this is where the light is.”That story has much relevance for the economics profession’s approach to the Phillips curve.
The question triggering the discussion is can Phillips curve (PC) theory account for inflation and the non-emergence of sustained deflation in the Great Recession? Four approaches are considered: (1) the original PC without inflation expectations; (2) the adaptive inflation expectations augmented PC; (3) the rational inflation expectations new classical vertical PC; and (4) the new Keynesian “sluggish price adjustment” PC that embeds a mix of lagged inflation and forward looking rational inflation expectations. The conclusion seems to be the original PC does best with regard to recent inflation experience but, of course, it fails with regard to past experience.
There is another obvious explanation that has been over-looked by mainstream economists for nearly forty years because they have preferred to keep looking under the “lamppost” of their conventional constructions. That alternative explanation rests on a combination of downward nominal wage rigidity plus incomplete incorporation of inflation expectations in a multi-sector economy. Read more…
from Lars Syll
Last year Dirk Ehnts had an interesting post up where he took Paul Krugman to task for still being married to the loanable funds theory.
Unfortunately this is not an exception among “New Keynesian” economists.
Neglecting anything resembling a real-world finance system, Greg Mankiw — in the 8th edition of his intermediate textbook Macroeconomics — has appended a new chapter to the other nineteen chapters where finance more or less is equated to the neoclassical thought-construction of a “market for loanable funds.”
On the subject of financial crises he admits that
perhaps we should view speculative excess and its ramifications as an inherent feature of market economies … but preventing them entirely may be too much to ask given our current knowledge.
This is of course self-evident for all of us who understand that both ontologically and epistemologically founded uncertainty makes any such hopes totally unfounded. But it’s rather odd to read this in a book that bases its models on assumptions of rational expectations, representative actors and dynamically stochastic general equilibrium – assumptions that convey the view that markets – give or take a few rigidities and menu costs – are efficient! For being one of many neoclassical economists so proud of their (unreal, yes, but) consistent models, Mankiw here certainly is flagrantly inconsistent! Read more…
from Peter Radford
There is no point is bashing away at old economics or old economists. They are what they are. And it isn’t as if there is a compelling alternative to orthodoxy, if there were we wouldn’t be in this never ending and unproductive cycle of throwing stones at the establishment.
I think we all ought take comfort in the fact that a few decades ago things were so much different. The generation that trashed economics was on the rise and on the outside once. There are great reputations to be made fixing and updating the entire enterprise. In a business where incentives are so lauded, I imagine the incentive of fame should bring a savior soon enough.
Meanwhile it was sobering to read:
“The modern industrial system is no longer essentially a market system. It is planned in part by large firms and in part by the modern state. It must be planned, because modern technology and organization can flourish only in a stable environment, a condition the market cannot satisfy.” – J.K. Galbraith, “The New Industrial State”
Looking back at the state-of-the-art analysis concerning business organization in the first post-war decades we find a picture so discordant with modern business theory that it is hard to connect the two. There was a distinct feeling back then that the complexity of a modern economy would overwhelm the ability of the simple structures of a market and that long and complicated production processes therefore needed to be set within a controlled environment. That environment being a bureaucratic and centrally planned “meso-economy” called a business firm. Read more…
from Lars Syll
Assumptions in scientific theories/models are often based on (mathematical) tractability (and so necessarily simplifying) and used for more or less self-evidently necessary theoretical consistency reasons. But one should also remember that assumptions are selected for a specific purpose, and so the arguments (in economics shamelessly often totally non-existent) put forward for having selected a specific set of assumptions, have to be judged against that background to check if they are warranted.
This, however, only shrinks the assumptions set minimally – it is still necessary to decide on which assumptions are innocuous and which are harmful, and what constitutes interesting/important assumptions from an ontological & epistemological point of view (explanation, understanding, prediction). Especially so if you intend to refer your theories/models to a specific target system — preferably the real world. To do this one should start by applying a Real World Filter in the form of a Smell Test: Is the theory/model reasonable given what we know about the real world? If not, why should we care about it? If not – we shouldn’t apply it (remember time is limited and economics is a science on scarcity & optimization …)
from John Weeks
Against all expectations an economics book became a best seller this year. I illustrate this unlikely occurrence with a true story. One day in London I hailed a taxi near the Houses of Parliament (the workers of the underground system were on strike). I mentioned to the driver that I taught economics at the University of London before retiring several years ago. The driver asked me, have you read this book by a Frenchman named Piketty?
A London taxi driver discussing an economics book 578 pages long (text only) with countless graphics and even a bit of algebra qualifies the book as a “phenomenon” by the dictionary definition, “a fact or situation that is observed to exist or happen, especially one whose cause or explanation is in question”. Very much in question the cause is. I am in the process of writing a review of these 578 pages (plus the occasional excursion into a footnote). At this point I limit myself to speculating over why it has swept all before it, especially since it is certain to be a book that many people buy and almost no one reads.
We find many reviews of Capitalism in the 21st Century (which I shorten to C21C), most from progressives, soft to hard left. The inequality deniers have yet to launch a frontal assault, though a recent blog entry for the Financial Times by Chris Giles is a shot from that direction (see Piketty’s reply). Prominent UK journalist Paul Mason succinctly dismisses the attempted hatchet job (here). Read more…
from Lars Syll
But I am unfamiliar with the methods involved and it may be that my impression that nothing emerges at the end which has not been introduced expressly or tacitly at the beginning is quite wrong … It seems to me essential in an article of this sort to put in the fullest and most explicit manner at the beginning the assumptions which are made and the methods by which the price indexes are derived; and then to state at the end what substantially novel conclusions has been arrived at …
I cannot persuade myself that this sort of treatment of economic theory has anything significant to contribute. I suspect it of being nothing better than a contraption proceeding from premises which are not stated with precision to conclusions which have no clear application … [This creates] a mass of symbolism which covers up all kinds of unstated special assumptions.
Letter from Keynes to Frisch 28 November 1935
from Peter Radford
One of the central beliefs held by people who advocate a market based worldview is that, somehow, markets are apolitical, they are antiseptic, they are objective. This is nonsense. It is dangerous nonsense.
That markets work according to rules does not make them objective or even impersonal. Rules are human constructs. Ergo markets are simple extensions of base human attitudes and are thus fraught with all the frailties that encumber all human activity.
The sanitization of markets, by which I mean the constant effort to make them appear “natural” or “neutral” and thus “fair”, is an ideological cover that market ideologues desperately, and successfully, propagate. It is a cover to mask the consequences of this supposed naturalness and to give it the imprint of ethical cleanliness. After all if the outcomes of a market are simply those of nature working her course, who are we too argue?
Economists, or at least orthodox economists, are the great cheerleaders of this ruse to get us all to accept our fate. Over the course of the development of economics much work has been put in to the elucidation of the mechanics of markets. There is an overpowering sense of determinism in the result. Start here, crank the machinery, and let the outcomes just flop out. The market is such that any outcome is “correct”, because left untouched market machinery always hones in on the superior outcome. Thus the current distribution of income “must” be the correct one: the market created it and the market is always, unerringly, right. Read more…
Here are some highlights from a strong post from Steve Denning on Forbes blog that condemns Joseph Stiglitz for shielding the “villains”.
Joseph Stiglitz, who this week offers his final entry in the New York Times’ series, The Great Divide, with the conclusion that inequality is not inevitable. The United States that was once a “shining city on a hill” has now become, he writes, “the advanced country with the greatest level of inequality.” In effect, it’s a choice that our society can make one way or the other. As a result of the actions of many individuals, our society has chosen inequality.
And Stiglitz names those responsible for this choice. They include CEOs, bankers, private equity titans, venture capitalists, politicians, deregulators, lobbyists, the Supreme Court, and those who run corporate welfare, the prison system, the high-price justice system and the unequal health system.
The missing villains: economists
Yet there is one category of actor curiously missing from Stiglitz’s list of villains: his fellow economists.
from Peter Radford
Greg Clarke ends his book “A Farewell to Alms” with a not too encouraging summation about the ability of economists to explain much. Allow me to give you three lengthy quotes:
“In economics, however, we see instead that our ability to describe and predict the economic world reached a peak around 1800. In the years since the Industrial Revolution there has been a progressive and continuing disengagement of economic models from any ability to predict differences of income and wealth across time and across countries and regions.”
“Since then economics has become more professional. Graduate programs have expanded, pouring out a flood of talented economists armed with an ever more sophisticated array of models and statistical methods. But since the Industrial Revolution we have entered a strange new world in which the rococo embellishments of economic theory help little in understanding the pressing questions that the ordinary person asks of economics.”
“Our economic world is one that the deluge of economics journal articles, working papers, and books – devoted to ever more technically detailed studies of capital markets, trade flows, tax incidence,sovereign borrowing risk, corruption indices, rule of law – serves more to obscure than to illuminate. For the economic history of the world constructed in these pages is largely innocent of these staples of the discipline. The great engines of economic life in the sweep of history – demography, technology, and labor efficiency – seem uncoupled from theses quotidian economic concerns.”
It must be frustrating to try to stay within the boundaries of economics and end up having to admit that fully three-quarters of all growth since the Industrial revolution crops up in the standard models of growth as a “residual”. That residual being, as Moses Abromovitz suggested, being a measure of the ignorance of economists. Read more…
from Lars Syll
Alex Rosenberg — chair of the philosophy department at Duke University, renowned economic methodologist and author of Economics — Mathematical Politics or Science of Diminshing Returns? – had an interesting article on What’s Wrong with Paul Krugman’s Philosophy of Economics in 3:AM Magazine the other day. Writes Rosenberg: Read more…
from Lars Syll
Mathematical statistician David A. Freedman‘s Statistical Models and Causal Inference (Cambridge University Press, 2010) is a marvellous book. It ought to be mandatory reading for every serious social scientist – including economists and econometricians – who doesn’t want to succumb to ad hoc assumptions and unsupported statistical conclusions! Read more…
from Peter Radford
I have been reading Gregory Clark’s brief history of the world economy “A Farewell to Alms” as part of my continuing reading on inequality. Somehow I think I need to know more about the entire arc of growth in our modern era and inevitably that means reading more about the great mystery of the surge in living standards since about 1750. Clark gives me a fairly standard view. He divides history into two distinct positions. An older “Malthusian” era, where growth was negligible, and a modern era dominated by “innovation”.
On page 197 he tells us:
“For, although modern economies are deeply complex machines, they have at heart a surprisingly simple structure. We can construct a simple model of this complex economy and in that model catch all the features that are relevant to understanding growth.”
That ought to encourage us all.
A simple model – how economists love those – but all inclusive.
Read on: Read more…
from John Komlos
Remember the walkout of students from their Principles of Economics class at Harvard a couple of years ago in solidarity with the “Occupy” movement?
They thought that the economics they were being taught was doctrinaire, failed to provide a balanced perspective on the real existing economy, and did not show sufficient empathy for the 45 million people living in poverty. No wonder, the economics being taught on blackboards in almost all classrooms makes it appear as though markets descended straight from heaven while maintaining a conspiracy of silence on the Achilles heals of free markets such as not paying sufficient attention to safety, not caring enough about the environment, and being indifferent to the welfare of future generations.
Now John Cassidy reports in the New Yorker that a group of students in 16 countries are pushing back on the arrogance of mainstream economists and are demanding that a more realistic economics be taught with fewer abstractions, less emphasis on mathematical methods of problem solving, and more attention devoted to the plight of the underclass. Read more…
from Edward Fullbrook
We economists use the sign “capital” to designate two fundamentally different but related things, rather as “Thomas” may be the name of both father and son. The latter type of double reference, for various reasons, does not generally cause serious problems. But the double and sometimes triple use of the sign “capital”, and often in the same paragraph, has caused centuries of confusion for the economics profession and now at escalating cost to humanity. In my mind I try always to use “capital-1” for physical capital and “capital-2” for market-values of capital-1. But when reading and the two semiotic objects are signified by the same sign on the same page, this, for me at least, is not easy.
Thomas Piketty has written an important book, and now James Galbraith has rendered it an important service. Piketty’s Capital, left to its own devices, continues economics costly tradition of conflating “capital-1” and “capital-2”. But Galbraith’s review essay in Dissent comes to the rescue. Here are a few quotes. Read more…
from Lars Syll
To what extent has – or should – the teaching of economics be modified in the light of the current economic crisis? … For macroeconomists in particular, the reaction has been to suggest that modifications of existing models to take account of ‘frictions’ or ‘imperfections’ will be enough …
However, other economists such as myself feel that we have finally reached the turning point in economics where we have to radically change the way we conceive of and model the economy … Rather than making steady progress towards explaining economic phenomena professional economists have been locked into a narrow vision of the economy. We constantly make more and more sophisticated models within that vision until, as Bob Solow put it, ‘the uninitiated peasant is left wondering what planet he or she is on’ …
from Peter Radford
All the justified fuss over inequality in recent months begs a rather significant question doesn’t it? If we are all so vexed over inequality we must have some yardstick or some more ideal state we could call equality. What is it?
The problem I have is that equality almost immediately disappears into a fog.
There are very few of us who would argue for the blandness of total equality. That seems to be as inhuman as extreme inequality. After all we are all very different and thus there is an inherent tendency towards lumpiness in society. Some people will always outperform others whilst some will underperform. Some will be richer and others poorer. This much is so simple we can move on quickly. After all we don’t want to fall into the trap that has ensnared orthodox economists: they cannot do their work without expunging humanity from their equations. Else all that lumpiness gets in the way of the smooth operation of maximization, efficiency, and rationality. So they sweep it away peremptorily by making absurd assumptions and then pretend to have discovered something of extreme value about humanity. Ridiculous, I know, but they plod on stupidly despite it.
So what is equality in the context of our discussion of inequality? Read more…
from David Ruccio
Benjamin Wallace-Wells [ht: sm] argues that the broad interest in Thomas Piketty’s book (along with the attention to Nate Silver’s data) is a sign that we’re now speaking the language of economics.
What is up isn’t a mystery. It makes perfect sense to be seeking economic explanations in the years just after the economy has imploded, and while the presidency is preoccupied with trying to fix it. I suspect there’s something else contributing, too — a desire for an objective, numerate authority when elites and their subjective authority are so broadly distrusted.
I suspect that’s true, which is one of the reasons I’ve tried to convince my colleagues that what we should be teaching is critical economic literacy—an ability to understand how economic theories work, and how dependent the conclusions are on the assumptions and concepts of different economic theories. Read more…