Home > New vs. Old Paradigm > Still dead after all these years — general equilibrium theory

Still dead after all these years — general equilibrium theory

from Lars Syll

General equilibrium is fundamental to economics on a more normative level as well. A story about Adam Smith, the invisible hand, and the merits of markets pervades introductory textbooks, classroom teaching, and contemporary political discourse. The intellectual foundation of this story rests on general equilibrium, not on the latest mathematical excursions. If the foundation of everyone’s favourite economics story is now known to be unsound — and according to some, uninteresting as well — then the profession owes the world a bit of an explanation.

Frank Ackerman

Almost a century and a half after Léon Walras founded general equilibrium theory, economists still have not been able to show that markets lead economies to equilibria.

We do know that — under very restrictive assumptions — equilibria do exist, are unique and are Pareto-efficient.

But after reading Frank Ackerman’s article — or Franklin M. Fisher’s The stability of general equilibrium – what do we know and why is it important? — one has to ask oneself — what good does that do? 

As long as we cannot show, except under exceedingly special assumptions, that there are convincing reasons to suppose there are forces which lead economies to equilibria — the value of general equilibrium theory is nil. As long as we cannot really demonstrate that there are forces operating — under reasonable, relevant and at least mildly realistic conditions — at moving markets to equilibria, there cannot really be any sustainable reason for anyone to pay any interest or attention to this theory.

A stability that can only be proved by assuming “Santa Claus” conditions is of no avail. Most people do not believe in Santa Claus anymore. And for good reasons. Santa Claus is for kids, and general equilibrium economists ought to grow up, leaving their Santa Claus economics in the dustbin of history.

Continuing to model a world full of agents behaving as economists — “often wrong, but never uncertain” — and still not being able to show that the system under reasonable assumptions converges to equilibrium (or simply assume the problem away), is a gross misallocation of intellectual resources and time.

  1. Guerrien
    November 7, 2014 at 9:43 am

    “As long as we cannot show, except under exceedingly special assumptions, that there are convincing reasons to suppose there are forces which lead economies to equilibria — the value of general equilibrium theory is nil.”
    It is nil even if “there are forces which lead economies to equilibria”, as this “equilibria” are not relevant if we are interested in market economies … and not centralized one. Remember the neoclassical ‘social planner’… This statement was the point of departure of the french students movement and so, of the PostAutisitic, etc. If Arrow Debreu equilibria equilibria are not relevant, it is without interest to discuss about existence, unicity,stability, comparatics statics and whatever you want.
    Don’t you agree ?

  2. November 7, 2014 at 1:18 pm

    Nonentity: The emptiness of economic thinking
    Comment on ‘Still dead after all these years — general equilibrium theory’

    The discussions among physicists, for example, became enormously productive just by no longer applying concepts like perpetual motion machine or epicycle because these words signify nonentities. It took some time to find this out. The specific difficulty with nonentities is sometimes that they cannot be readily recognized or disproved. It is simple with the Easter Bunny and rather demanding with the concept of absolute space.

    Likewise, students of economics can gain a wealth of time by immediately stopping to read an article or a book as soon as the concept of equilibrium is introduced.

    Equilibrium, or by implication disequilibrium, is a nonentity. Of course, there are some other nonentities in conventional economics but equilibrium is the most wasteful.

    Note well that Keynesians could never emancipate themselves from equilibrium thinking:
    “Keynesian economics also provided crucial impetus to the development of two other key developments of the middle part of the century — general-equilibrium reasoning in economic theory, and simultaneous-equation modelling in econometrics.” (Woodford, 1999, p. 7), see also (2014)

    Identifying nonentities is one of the defining activities of science. In took the physicists about eighteen centuries to find out that epicycles are nonentities. As J. S. Mill put it: “Mankind in all ages have had a strong propensity to conclude that wherever there is a name, there must be a distinguishable separate entity corresponding to the name; …”

    General equilibrium is the economic counterpart of a perpetual motion machine; no real thing could possibly correspond to the name. The scientific content of all variants of equilibrium models is nil — it is superstition wrapped in mathematics. The fact that conventional economics clings to equilibrium does not testify for equilibrium but against conventional economics.

    Egmont Kakarot-Handtke

    References
    Kakarot-Handtke, E. (2014). The Three Fatal Mistakes of Yesterday Economics:
    Profit, I=S, Employment. SSRN Working Paper Series, 2489792: 1–13. URL
    http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2489792.

    Woodford, M. (1999). Revolution and Evolution in Twentieth-Century Macroeconomics.
    Mimeo, pages 1–32. URL http://www.columbia.edu/~mw2230/macro20C.
    pdf.

  3. Kihano
    November 7, 2014 at 7:42 pm

    I do not think that equilibrium is a nonentity, but i do not see how the capitalist economy could be in equilibrium. The general principle of the capitalist economy is a positive feedback. There are also large number of secondary and ternary positive feedbacks. By definition, a system with positive feedback can not be in equilibrium.

  4. Norman L. Roth
    November 7, 2014 at 10:28 pm

    Nov. 07, 2014

    Great stuff M. Egmont Handtke !

    Dead-on citation of the great John Stuart Mill. It’s a sad commentary on the “mumpsimus” of human nature, that nearly six decades after Gunnar Myrdal put a stake through the heart of General Equilibrium, in clear common sense language, its bloody-minded zombie paralyzes the minds & curricula of academic Economics to this day. By the way; MUMPSIMUS was a word used frequently by Joan Robinson to describe the most thick-headed of her critics; Such as the Cambridge Mass. crew; Like Paul Samuelson & his ‘mentored’ ones. Who afflict us still in other guises, where equilibrium of any kind is invoked in ‘models’ of human decision making.
    It causes its victims to echo the same explanatory paradigms, long after they have been indisputably falsified by the ultimate laboratory……economic history.

    Norman L. Roth, Toronto Canada
    Please GOOGLE: [1] Norman Roth, Origins of Markets [2] telos & technos [3] Economics of Technology, Roth

  5. Macrocompassion
    November 8, 2014 at 5:30 pm

    What’s the matter with your reasoning?

    It becomes immediately clear that an established stable general equilibrium situation contains the ability regain equilibrium immediately after a disturbance is introduced into the system. This is because, due to the arrangement of the elements of the system and their connections, the disturbance spreads over the system and in so doing it becomes diluted in its effect on any one element. So the system reacts to the changes in a equilibrium-seeking way.

    In the case of a continuing disturbance, the system will try to absorb it, but it may well be that this takes a while until the magnitude of the disturbance slows (which it must inevitably do) or that the system learns to react more strongly and eventually it ceases to grow at such a high rate as formally. This too is inevitable. The idea of stability and equilibrium-seeking are the same, except the latter is a dynamic result of the former.

    • November 8, 2014 at 9:07 pm

      Still alive in some heads — equilibrium
      Comment on Macrocompassion

      You describe the equilibrium metaphor. This is storytelling. The question is whether this metaphor is applicable to the economy. And the definitive answer is: IT IS NOT.

      “The mathematical failure of general equilibrium is such a shock to established theory that it is hard for many economists to absorb its full impact.” (Ackerman, 2004, p. 19)

      Some people, however, simply cannot get their heads around it.

      “And so — faithful to the theory’s conceptual cornerstones and hoping against all hope that the unthinkable may still be achieved (i.e., a satisfactory theory of the price mechanism) — the tormented upholders of the validity of the paradigmatic core of economic equilibrium theory appear singularly reluctant to face the problem of comparing expectations and results and assessing the consistency of the theory.” (Ingrao und Israel, 1990, p. 346)

      You seem to be one of those people. Just in case you are really interested in the correct theory of the price mechanism see (2014).

      Egmont Kakarot-Handtke

      References
      Ackerman, F. (2004). Still Dead After All These Years: Interpreting the Failure of General Equilibrium Theory. In F. Ackerman, and A. Nadal (Eds.), The Flawed
      Foundations of General Equilibrium, pages 14–32. London, New York, NY: Routledge.

      Ingrao, B., and Israel, G. (1990). The Invisible Hand. Economic Equilibrium in the History of Science. Cambridge, MA, London: MIT Press.

      Kakarot-Handtke, E. (2014). Economics for Economists. SSRN Working Paper Series, 2511741: 1–29. URL http://papers.ssrn.com/sol3/cf_dev/AbsByAuth.cfm?per_id=1210665.

      • Macrocompassion
        November 9, 2014 at 6:52 am

        The subject I am discussing is macroeconomics not microeconomics which is what these papers deal with.

        The concept of profit is interesting although it is not realistic in the actual exchange sense about which I am writing. Everybody is inspired to trade due to the so called profit motive. The goods or service seems to be worth more to the recipient than what he/she is paying, and due to this kind of relationship much business takes place. Yet there is no profit in the balance of money nor of goods. The 3 returns for goods production do not include any profit. When the goods are sold for more than their direct production cost, the so called profit is actually what is returned to the sales people and their managers for their participation.

        However when it comes to the trading between idealized and aggregate kinds of entities, which comprise the macroeconomics world, this kind of thinking does not apply. Equilibrium is still the means by which we have to assess the way that these entities balance their income and expenditure. I am sorry to sound so old fashioned (and certainly not metaphorical), but your thinking seems to me to mix up the micro- and macro- effects in an “over-hetrogenous” manner.

    • davetaylor1
      November 9, 2014 at 9:59 am

      While agreeing with Normal about your quote of J S Mill, Egmont, let’s try and make something of what Mac is saying. He’s arse about face, of course: the economic situation is not an equilibrium but so far as we can see (i.e. locally), it acts like one. Likewise, but more significantly, he says “the system” will react in an equilibrium-seeking way, “due to the arrangement of the elements of the system and their connections”. But how? Surely the elements of the system are people, and not the system but the decisions or recipe-following behaviour of the people affected by the generosity or profit-taking of their neighbours creates the slack which enables the overall flows to remain apparently stable. But in that other and more recent story of steersmen making minor decisions to correct the over-all direction of their ships, it is not gravity which is equilibrating the waves but the captain who has set and is seeking to achieve a stable course, perhaps at the behest of others: the ship’s charterers or “owners”: and in the economic system as we have it, that course is the profitability of banking and investment, not the supply of goods for the benefit of everybody including the crew. They too need to allow the rest of us a bit of slack if their PID system of income stability control is to remain stable. Cf. the redundancy necessary for error-correction in Shannon’s error-correction logic.

      • davetaylor1
        November 9, 2014 at 10:07 am

        Sorry, Norman! “My eyes are dim …”.

      • Macrocompassion
        November 10, 2014 at 3:04 pm

        Davetaylor:

        the system about which I write comprises of a small number of aggregate (and idealized) functions, which in turn are representative of the many activities of the actual motley collection of all the individuals in our community. We cannot come directly to grips with this collection because it is too complex and so the best (if not only way) to consider them is as a small number of functioning entities (6 actually in my model) each of which performs certain of the unique functions (19 in all) within our social system. This is the way we can analytically understand how our system works. (Please see my model in Wikimedia as DiagFuncMacroSyst.pdf)

        When for example we talk of “The Capitalists” what we really mean is the group of property owners, whose specific activities are limited and definable, and are associated in the application of their durable capital goods for use by Producers (another entity).

    • November 10, 2014 at 8:05 am

      Second comment to macrocompassion

      You write: “The concept of profit is interesting although it is not realistic in the actual exchange sense about which I am writing.”

      Then you are not writing about the economy we happen to live in. In this, though, you are not alone.

      Neither Classicals, nor Walrasians, nor Marshallians, nor Marxians, nor Keynesians, nor Institutionialists, nor Monetary Economists, nor Austrians, nor Sraffaians, nor Evolutionists, nor Game theorists, nor Econophysicists, nor RBCers, nor New Keynesians, nor New Classicals ever came to grips with profit (cf. Desai, 2008). Hence, ‘they fail to capture the essence of a capitalist market economy’ (Obrinsky, 1981, p. 495).

      Walras invented the nonentity zero-profit-equilibrium. A dead idea from the very first day is still recycled. That is Zombie economics (Quiggin, 2010).

      Egmont Kakarot-Handtke

      References
      Desai, M. (2008). Profit and Profit Theory. In S. N. Durlauf, and L. E. Blume (Eds.), The New Palgrave Dictionary of Economics Online, pages 1–11. Palgrave Macmillan, 2nd edition. URL http://www.dictionaryofeconomics.com/article?id=pde2008_P000213.

      Obrinsky, M. (1981). The Profit Prophets. Journal of Post Keynesian Economics,
      3(4): 491–502. URL http://www.jstor.org/stable/4537615.

      Quiggin, J. (2010). Zombie Economics. How Dead Ideas Still Walk Among Us. Princeton, Oxford: Princeton University Press.

      • Macrocompassion
        November 10, 2014 at 2:38 pm

        Fine words Egmont! And I am very happy to be included with such profound company as you kindly mention. But can you please tell me what happens to the profit that you claim exists? What do the profiteers do with it?

        Surely they use it for one of the more easily defined activities of our macroeconomic world, like savings, investments, purchases, taxes, or charity donations. So to call it profit and to stop thinking about its continuous money circulation is somewhat cool, but most unhelpful when we examine the whole social system.

      • davetaylor1
        November 11, 2014 at 8:02 pm

        You ask what the profiteers do with profit, Macrocompassion. Well, I can give you a real example of a successful businessman, having more money than he knew how to use and banks which paid less interest than the rate of inflation, who bought with his savings a house which he intends to let out to locals at rather more rent than he could have received in interest. Most similarly placed buy themselves second and even multiple homes, or “stately homes” with extensive parklands instead of gardens, depriving the locals of both productive land and the possibility of an affordable first home.

        As a matter of fact, debt money does not continually circulate, any more than battery-powered electricity does. Debts paid off are extinguished, and some monetary profits (whether derived from interest, rent, production or trading) are stored locally not only as property but as standby or working capital, much as electricity is stored in batteries. For every spare negative (IOU) electron circulated via a battery a positive ion goes the other way to replace it, until there are no spare electrons and either the process must be reversed by recharging, or the battery replaced: the latter making electron IOU’s available again by a manufacturing process equivalent to rewriting used IOUs in the banker’s accounts or on new pieces of paper. (Cf. Paul Grignon’s “twice lent money”). One needs to look at this in depth to see what is really happening.

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