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Basics

from Peter Radford

For a variety of reasons I pulled Olivier Blanchard’s macroeconomics textbook off my shelf yesterday — I have the fifth edition which dates back to 2007. Or at least that’s how he begins his opening paragraph, he says he’s writing in mid-2007. So it would be easy to plunge into the book and start to look for evidence that Blanchard’s version of economics led us all to expect or predict the crisis that unfolded only a year later.

But that’s no what caught my eye. No I was interested in another aspect of the book: it has no introduction to what an economy is.

I find that strange. Very strange.

This is supposed to be a textbook about macroeconomics. The subject matter of macroeconomics is the economy, or, rather, aspects of the economy, but there’s no attempt to describe the economy. Instead it plunges in as if we all know what an economy is and that it is uncontroversial. It begins thus:

When macroeconomists study an economy, they first look at three variables:

  • Output — The level of production of the economy as a whole — and its rate of growth

  • The unemployment rate — The proportion of workers in the economy who are not employed and are looking for jobs

  • The inflation rate –the rate at which the average price of the goods in the economy is increasing over time”

So when macroeconomists study an economy they dive right in and study some variables. Do those variables describe what an economy is? They are clearly important, but why these three? 

I realize these first few paragraphs are just to introduce a student to the journey, so I went further to look what happened in the more detailed sections. A few pages on we get to read a description of those three key variables. Here’s the start of the ‘output’ description:

“Economists studying economic activity in the nineteenth century of during the Great Depression had no measure of aggregate activity (aggregate is the word macroeconomists use for total) on which to rely. They had to put together bits and pieces of information, such as the shipments of iron ore, or sales at some department stores, to try to infer what was happening to the economy as a whole.”

Blanchard then goes on to describe the accounting system that measures GDP.

But GDP is not the economy. It is a measure of some aspects of an economy. GDP provides grist for the analytical mill, but is far from being a description of what an economy is. It is roughly akin to a corporate income statement — it tries to measure what went on in a particular period, but it omits tons of interesting stuff and misses entirely anything akin to a balance sheet.

I won’t belabor the point further: economics, when it is taught, ought to begin with a discussion of what an economy is. This is especially important for students who are not going to delve much further and who will, thus, miss the detailed elaborations that Blanchard et al presumably give later on.

Economies are people doing stuff: stuff we all do. They are not time-series, accounting conventions, lines on charts, or equations in models. They are people going about ordinary life. How that activity then gets expressed — some of it — in the collective we call a market is something to talk about. Why is some activity in that collective and not in another collective such as a family? And so on.

The problem with diving straight into macro variables such as output, unemployment rates, and inflation is that it elides any contention in our arriving at the importance of those variables. It elides the conversation about what to count and what not to count. It avoids the entire discussion about the richness and diversity of real economies, about their complexity, about their inherent uncertainty, and thus about our need for humility in our study of them. Plunging in is an expression of the hubris of economists who want the world to imagine that we have a deeper understanding than we do.

It is an avoidance of reality. Students would do well to confront that reality early on. It makes what follows both more interesting, contextual, and human.

Blanchard, of course is not alone. His book is excellent — if you are in his camp of economists. It’s just that it begins in the middle and not the beginning. It describes only part of the journey. It’s rather like having a map where the cartographer omitted to tell you what it’s a map of. Instead the cartographer simply lets you know there will be roads, rivers, and mountains each of which will be discussed at length. They are what cartographers like to put on maps. That’s true. But it always helpful to know what place the map is of.

Isn’t it?

  1. rjw
    September 2, 2016 at 3:39 pm

    Picking up textbooks is a sure fire way to feel bad about the profession, in my humble opinion. I had a similar experience with the Blanchard/Giavazzi book on European macroeconomics, when I picked up a colleague’s copy. The chapter on economic growth started with something like (I am paraphrasing) “The way economists study grow is to use a model developed by Solow in the ……” (etc) Not even Adam Smith got a mention, if I recall. Truly awful.

    • September 2, 2016 at 6:31 pm

      “The way economists study grow is to use a model developed by Solow in the ……” (etc)

      That is about as bad as my class in Advanced Macro (1979) when the prof. said something like, “Lets see if the economy can continue to grow even if we run short of natural resources? Lets start by assuming a Cobb Douglas production function.” Ha Ha. And he seemed serious in his endeavor!

  2. September 2, 2016 at 7:15 pm

    Economists and the economy ― a nonstarter since 200 years
    Comment on Peter Radford on ‘Basics’

    Economics is a failed science. Neither orthodox economists nor their heterodox critics understand how the economy works. One tends to think that heterodox economists are smarter because they regularly debunk Orthodoxy but the fact of the matter is that both factions are caught in the deep woods ― without any clue of how to get out.

    This, for example, is Peter Radford’s idea of what the economy is: “Economies are people doing stuff: stuff we all do. They are not time-series, accounting conventions, lines on charts, or equations in models. They are people going about ordinary life. How that activity then gets expressed — some of it — in the collective we call a market is something to talk about. Why is some activity in that collective and not in another collective such as a family? And so on.” (See intro)

    This description (which dovetails with Marshall’s “… economics is a study of mankind in the ordinary business of life”) certainly appeals to ordinary people, the commonsensers, and the often cited little man. This populism, clearly, is a bit silly.

    Let us face the facts, what we call ‘the economy’ is an abstract mental construct. Nobody can see or touch or experience ‘the economy’. From the history of science, though, it is known that abstraction/idealization can go badly wrong. This happened in economics as almost everybody has realized by now. But this does not mean that the populist’s approach is better or preferable.

    Peter Radford realizes that economics has a starting problem: “… economics, when it is taught, ought to begin with a discussion of what an economy is.” Orthodox economists have done this, of course. As Krugman put it “most of what I and many others do is sorta-kinda neoclassical because it takes the maximization-and-equilibrium world as a starting point”. In more detail, the orthodox starting point is defined by these hard core propositions, a.k.a. axioms, a.k.a. basics:
    HC1. There exist economic agents.
    HC2. Agents have preferences over outcomes.
    HC3. Agents independently optimize subject to constraints.
    HC4. Choices are made in interrelated markets.
    HC5. Agents have full relevant knowledge.
    HC6. Observable economic outcomes are coordinated, so they must be discussed with reference to equilibrium states. (Weintraub, 1985, p. 109)

    Orthodoxy, it has to be admitted, has clearly stated “what an economy is.” However, the methodological blunder that suffices to make this axiom set forever unacceptable is that HC3 and HC5 introduce nonentities and that HC6 is a petitio principii.

    So, the microfoundations approach as defined by the basics HC1/HC6 is dead.

    Keynes made an attempt to switch from microfoundations to macrofoundations but he, too, failed methodologically (2011).

    So Walrasianism and Keynesianism have provided a clear definition of their subject matter. Traditional Heterodoxy, on the other hand, never went above criticism and has never delivered a consistent definition of “what the economy is.” Everybody is here entitled to apply their own definition and this is why Heterodoxy is an anything-goes heap of rubbish.

    Needless to say that Heterodoxy is not in the position to replace Orthodoxy despite the fact that even orthodox economists admit the obvious, i.e. that their approach has failed.

    What is required, therefore, is a paradigm shift and this in turn requires the switch from behavior-centered bottom-up, i.e. subjective microfoundations, to structure-centered top-down, i.e. objective macrofoundations.

    The most elementary configuration of the economy consists of the household and the business sector which in turn consists initially of one giant fully integrated firm and is given by these three objective structural axioms:
    A1. Yw=WL wage income Yw is equal to wage rate W times working hours L,
    A2. O=RL output O is equal to productivity R times working hours L,
    A3. C=PX consumption expenditure C is equal to price P times quantity bought/sold X.

    The investment good sector comes in at a later stage. So, what we have with the minimalist set A1 to A3 is the pure consumption economy as the most elementary economic structure. This structure is the core of what Keynes called the monetary theory of production and it fully replaces silly real exchange models, silly Walrasian equilibrium models, silly Post Keynesian models, and silly heterodox populism.

    The ordinary business of life is the subject matter of psychology, sociology, and Hollywood soaps. Economics is the science which studies how the monetary economy works. The ultimate economic basics are given with the set A1 to A3 which replaces Orthodoxy and traditional Heterodoxy.*

    Egmont Kakarot-Handtke

    References
    Kakarot-Handtke, E. (2011). Why Post Keynesianism is Not Yet a Science. SSRN Working Paper Series, 1966438: 1–20. URL http://ssrn.com/abstract=1966438.
    Weintraub, E. R. (1985). General Equilibrium Analysis. Cambridge, London, New York, NY, etc.: Cambridge University Press.

    *See cross-references Paradigm shift http://axecorg.blogspot.de/2015/02/
    essentials-cross-references.html

  3. September 3, 2016 at 6:35 am

    I like your willingness to consider the reasons economics as a discipline is failing. But your diagnosis is a little off, I think. If we go broader and compare basic economics textbooks with those from sociology and psychology something interesting emerges. The sociology and psychology texts begin with a history of the discipline. In that history they make it very clear that the subject matter of the discipline has changed over time. For example, psychology began as the study of the mind and soul (the classic Greek translation of psychology), then studied the mind-brain, then consciousness and cognition, then behavior, and ends with “recent trends.” This tells us that both the discipline and what and how it studies evolve and change over time. In other words, psychology today is not the psychology of 1900. Economics texts of today have no such awareness of the evolution of their discipline and its subject matter. They portray a one dimensional and ahistorical discipline whose past, if they even admit it had one is unimportant. Obviously current economists are either fearful of the history of their discipline or they believe the discipline has found the ultimate explanation of all things economic which makes both history and future irrelevant. Which means not knowing what place the map is of is actually a good thing. Since the maps, the places they depict, and those who study the map and their methods of study change over time, economics cannot ever be defined once and for all. In this economics is no different from all the other sciences, physical and social.

    • robert locke
      September 3, 2016 at 9:34 am

      Well stated. Hegel said that philosophy was its history.

  4. September 5, 2016 at 3:54 pm

    Economics, at least in the press and at undergraduate level, is obsessed with stocks and levels while ignoring flows and connections. Somehow economics has become a study of aggregates: GDP, unemployment, oil price, currency, money supply, etc. Instead economics should be primarily graph theory because *economies are graphs*

    Graphs as in networks, the things with nodes and edges: How does value flow in a firm? How does the graph inside a firm look different from its network of suppliers? How do firms like UPS or IBM look different as graphs, and why might you want to be in one rather than the other. What do families look like as value graphs? What does unemployment do? What do unions? What is a market? Not as a pair of differential equations, but as a graph. What does a high-speed commodity market look like as a graph? How about a traditional market such as a village economy, or a high-tech components marketplace? Which of these markets is more interesting, when se see them as graphs?

    Economies are graphs! Get used to it, teach it, write new textbooks about it!

    • September 5, 2016 at 7:17 pm

      Even more dynamic. I look at economics and economies as processes of relationships. Study the processes and the relationships through which they exist. Everything else follows.

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