Home > Uncategorized > We need our Hutton

We need our Hutton

from Peter Radford

– the question is how does economics get its much needed revamp?

This caught my eye:

“Debreu noted in his Nobel Prize lecture that the success of the mathematization of economic theory depended “on the fact that the commodity space has the structure of a real vector space”. We have shown that this is incorrect. The “price vector” is not a vector, and GET [General Equilibrium Theory] is therefore false. But we may go further and assert that not only was the proof incorrect, what was set out to be proved was not true in the first place. The real economy cannot be brought into equilibrium by adjusting prices. And indeed, the real economy is never in equilibrium.”

That’s the concluding paragraph in Philip George’s paper in the recently published Real World Economics Review #101.

The emperor, apparently, has no clothes.

But, then, we all knew that, didn’t we?

I wrote earlier this week about the difficulty we have in determining the efficacy of a supposed body of knowledge.  The arbiters of knowledge have a vested interest in maintaining the outward appearance of whatever it is they study.  They act like a priesthood intoning in ancient languages and using secret signs to distinguish themselves from the ordinary folk whom they intend to control or influence.  The problem is that we, those of us on the outside, can only rely on those arbiters for assurance that the efficacy they proclaim for themselves is actually, well, efficacious.  Worse, within a wide discipline such as economics, or applied mathematics as it has now become, the various sub-specialities are so specialized and the knowledge so arcane that anyone not within close proximity to it is unable to offer an opinion as to its validity.

This has become a fundamental and defining issue within economics.  The discipline needs good jolt of reality.  It needs a new direction.  It needs to shake off the errors of its past and begin anew.

The problem is that those errors, as George points out, are huge and have become iconic components of the discipline at large.  General equilibrium is one such component.

It doesn’t exist as a natural phenomenon.  It never did.  It never could.  No one has ever seen one.  No one has ever touched one.  No one has ever experienced one.  It exists only as a concept created for the purpose of allowing exploration of its properties, its values, and its potential as a comparison with the real world.  It is a unicorn.

But we don’t use unicorns as a starting point for the study of real-world horses.  We don’t say, for instance, that a horse is a unicorn without a horn.  No.  We study horses.  Unicorns are for fun.  They are pieces of imaginative excess designed to amuse and tantalize the young.  We can hardly argue that general equilibrium exists for fun.  Except, of course, for those who want to demonstrate their mathematical virtuosity.  Now, if George is correct, their obsession with showing off is revealed to have been a colossal side-show that diverted economics from contact not just with reality but also from mathematical principles.  The post-war rush to make economics mathematical was so intense that no one stopped to make sure it made any sense.

It didn’t.

But that manifest truth doesn’t stop economists from blundering along.  They live in such a bubble that even a major error, one that debilitates the entire enterprise, is insufficient to stop their momentum.  Like alchemists they don’t want mere chemistry to spoil their fun.  It would require a re-write of the discipline and would expose a whole lot of argument over the past few decades as being vapor rather than substance.  No to mention those august reputations that would need reconsideration.

So the question is how does economics get its much needed revamp?  It needs a kick-start similar to that Hutton gave geology.  When he wandered around outside and realized that the rocks he was looking at must have accumulated as layers over aeons, and that the odd intrusions into those layers suggested radical action over similarly long periods of time, he did not run home and seek the solace of a unicorn-like model in order to contrast and simplify what he saw.  Nor did he concern himself overly with the established timeline drawn as a thought experiment from ancient texts.  No.  He dealt with reality.  He dealt directly with the facts around him.  And, by so doing plunged our understanding of the world forward in a great upheaval whose explanatory power is immense and ongoing.

For decades such direct engagement has been lacking substantially in economics.  It has, instead, turned within itself and developed a wonderfully sophisticated toolkit to study its own imagination and imagined phenomenon, not those of a real economy.  It no longer questions its core assumptions.  It has forgotten why it is what it is.  It simply keeps building higher and higher into the air whilst paying little to no attention to whether it has a foundation resting on solid ground.  Even a giant like Keynes wan’t able to shift the momentum away from fantasy for long.

Perhaps the trouble began in the discipline’s founding myths.  Was it Smith’s fault?  When he used metaphor to describe the appearance of a coming together of the parts into a smoothly operating whole he was using metaphor.  He was not describing reality.  The words “as if” had very special meaning.  He separated, by using those words, reality from his imagined vision.  And he offered it in passing.  Yet subsequent economists became lost in the search for that vision.  They saw only the calm surface of the world around them and ignored the roiling depths below.  An economy is never, ever, in equilibrium.  It cannot be.  And no power of imagination can make it otherwise.

Now, I understand that the wise elders of the discipline will be chuckling at my naivety and lack of understanding of the arcane structure they know so well.  I acknowledge that.  To which I retort: what about the financial crisis?  What about that strange denizen of the economist’s jungle: “total factor productivity”?  Oh, and why admist all the perfection of the marketplace do business firms exist?  The elders might say that their constructions of imagination, such as general equilibrium, exist only to act as points of comparison so that they can compare the theoretically perfect with the empirically imperfect to illustrate, elucidate, or to explicate.

But what have they gained by so doing?

All that has happened is that they are where Hutton was when he began.  Looking at reality and trying to understand how it got that way.  The interim edifice of perfection is a complete waste of time.  In all its glorious perfection, it acts as an enormous distraction — the less wary might confuse it with reality.  And, as a point of comparison it offers us nothing.  It might as well have been a unicorn.

Hutton didn’t need one.  Why do economists?

  1. October 7, 2022 at 11:25 pm

    There are a lot of valid points in this article, but it’s over 90 percent in reactive mode, i.e. saying what’s wrong with economics – or at least with a particular part of economic theory. The other bit is analogy, with Hutton’s contribution to geology, together with a call for economists to be like Hutton. I’m tired of saying on this site that we need to resist the temptation to focus on reactive mode, and to get on with constructing valid theory – evidence-based causal theory about the economy.

    My question is this (for everyone not just Peter Radford). Suppose someone is doing the kind of economics that is being called for: would you know about it? Would you publicize it? Would you try and build on it, and/or engage in constructive criticism? For example, the idea that market adjustment results from quantity not price adjustment (I hope I’ve phrased that correctly) would come as no surprise to Yoshinori Shiozawa, who has modelled that; he is a fairly frequent contributor to this list. You could have mentioned his work. There are other examples – seek them out! I have also done some evidence-based economics, most of which can be found on my website.

    One other thing: it has often been said (not only about economics) that in order to replace a theory you have to have a deep understanding about it. I think that is not necessarily true. In economics, people seem to think you have to start from existing theory, and beyond saying what’s wrong with it (reactive mode), add something else to the traditional account, e.g. to bring the theory into alignment with evidence – incremental mode. A classic case is what has happened with behavioral economics: much of it refers to “biases”, so that theory is pushed in the direction of explaining the *discrepancy* from the traditional theory, the deviation, rather than on explaining the phenomenon itself – “how the unicorn lost its horn” in Peter Radford’s nice example. Start afresh! There is abundant evidence about the economy. Work on putting it together to explain how the economy works!

    And don’t spend a lot of time on “what’s wrong with (certain types of) economic theory”. Leave it behind! The only reason for paying attention to existing theory is to see if any of it can be salvaged, so that it is still useful in the new evidence-based theory – don’t rule that out a priori.

  2. Gerald Holtham
    October 8, 2022 at 7:25 pm

    Couldn’t agree more. Some good work has been done. Why not focus on it and try to develop it rather than obsessing about stuff that we all agree about on this blog.

  3. October 14, 2022 at 3:52 pm

    “[T]he question is how does economics get its much needed revamp?” For what it’s worth, I’d say first apostatize one’s faith in the Keynesian first principle: Y=C+I; which Keynes himself, in its original formulation “D=D1+D2”, recognized as leading to a most bothersome riddle*1. Yet the same is envisioned not only by modern econometricians of the Keynesian-synthesis persuasion, but in all of current heterodox macro analysis too ‘as if’ conceptually being a straight forward and quite unproblematic point of departure. These “Post Keynesians” obviously didn’t bother trying to comprehend Keynes’ admittedly convoluted caveat, and have been holding the economy’s conceptual identity as being self-evident for about a full lifetime now; with this supposedly having culminated thus far in its latest major textbook*2. Aside though from keeping its economists employed, what benefits can be pointed out to have made their way from this riddled “know-how” and accrued to the world at large? If the span of a lifetime is considered to be far too long already to live in a hopeful expectation, then it clearly stands to reason that an altogether different (dynamic) approach will need to be taken; as the alternative is more than just hinting at Einstein’s definition of insanity, I’m afraid.
    Furthermore, if our economy exists for a purpose, which ought to be generally agreeable to all as providing a (maximized) livelihood to humanity, then don’t look for that purpose, or meaning, to be obtainable from inside the boundaries of the economic structure; which is what the economy’s purported identity “Y=C+I” undoubtedly does, but logically amounts to the no-no analysis of circular reasoning.

    As I see it, the only possible way to get to the bottom of it all is arguing from what are thought to be indisputable first principles, and only dynamic ones will do if an economy functions dynamically; and with these having been taken from a meta domain that’s located outside the economy’s domain*3, so as to prevent the argument from degenerating either into circular reasoning, or in fumbling self-contradiction(s) that as such are preventing the forming of a true theory. These first principles (or axioms), as having been induced into the thesis, are conditionally true; that is until a contradiction appears, empirically.
    Until a riddled Y=C+I becomes abandoned, there’s only the heterodox pot calling the orthodox kettle black; without hope for the discipline of economics to become a purposeful quest, so as to find out how our economy in fact works, and thus being able to provide guidance that is meaningful, practicable, and undeniable toward its efficient operation.

    *1) Keynes’s “failing some novel expedient*4…riddle” (GT p.104-5). “Consumption—to repeat the obvious—is the sole end and object of all economic activity.” Meaning that (though unrecognized as such by Keynes): in objectively (i.e. from outside the economics’ domain but within the underlying meta domain of applied Justice for all equally) observing systemic-economic continuities – only consumption determines; prior to which both “Y” and “I” will factually have to be indeterminate. If this logical reasoning leads to “I” and “Y” having to be resolved negative instead of depletable positive quantifiabilities, so be it – regardless of its counterintuitivity. Our economic system couldn’t exist without the necessity of it being booked ongoingly in terms of both positively- and negatively-valued non-material characterizations. The all positive Y=C+I, as an economy’s material identity, cannot cut it. Keynes, the economist, most certainly was no dummy; but, without a “class-struggle bone” in his body, hopelessly confused himself by setting terms of reference whilst listening to his inner “investor’s” voice; thus allowing him to cling onto an algebraically-expressed form of equilibrium, as his point of departure for its value-free justification. The economy never is value free, nor is it ever in equilibrium. The first hopefully is explicated in the “endnote*3”-reference; and latter’s reason is because its workings are inherently dynamic. All its forces in play are incomplete (or perhaps overcompensating) at any present moment in time, as being analogous*5 to an always falling moving bicycle, even at some envisioned starting point. The condition to strive for is a dynamic equilibrium, an ongoing process in terms of to be self-canceling values-in-exchange, that over time will be yielding positive results in terms of transcendental and fundamentally different values-in-use.
    Unless there is something demonstratively wrong with my logic, all comparative-static analyses not only are incompatible, these wittingly or not have been misguiding as being value-free and thereby have been rigging the game to benefit elite “investors”.
    *2) Mitchell, Wray, Watts – “Macroeconomics”.
    *3) http://www.vcn.bc.ca/~vertegaa/ontology.pdf
    *4) I don’t claim the “expedient” of an economy’s reality as being an all human-made system of inversely valued non-material accounts – located between induced positively-valued material natural resources and derivative ditto to be consumed final output – as “novel”; only standing on the shoulders of others, (e.g.) as were referenced in Dirk Bezemer’s paper: https://pure.rug.nl/ws/files/81732280
    /Towards_an_accounting_view_on_money_banking_and_the.pdf (“macroeconomy”, just before .pdf, for whatever reason is missing from the clickable url)
    *5) The difference being that the forces acting upon a moving bicycle are physical and thus are determinate within a space-time continuum; hence, a dynamic analysis in mathematical terms is appropriate here. On the other hand however, booked forces in an institutional setting are to become reciprocally determined over time in terms of a human-made non-material unit of account, and therefore are indeterminate within a frame-of-reference exclusive to natural physical objects; so that an analysis in “higher”*6 math, as a general rule, becomes inappropriate.
    *6) Meaning: higher than plain arithmetic, as algebra requires all its factors to be determinate too.

  4. October 17, 2022 at 3:33 am

    I thank evidencebas for mentioning our results as one of efforts that are not simply in a reactive mode.

    Although I do not admit Philip George’s arguments in Real World Economics Review #101 (because it is based on the confusion between intensity quantity [temperature] and extensive quantity [economic goods] and identification of goods at different time points), what Peter Radford claims is quite right:

    >The discipline needs good jolt of reality. It needs a new direction. It needs to shake off the errors of its past and begin anew.

    >The problem is that those errors, as George points out, are huge and have become iconic components of the discipline at large. General equilibrium is one such component.(Shiozawa’s emphasis)

    A weak point of Radford’s argument is, besides that it is in a reactive mode, as evidencebas pointed it, that he is not well versed in recent development of heterodox economics. While mere critical arguments occupy majority of papers, there are some serious attempts that seek to “shake off the errors” of the past and try to construct a new theory that is fundamentally different from General Equilibrium Theory.

    One of examples is our contribution Shiozawa, Morioka and Taniguchi (2019) on how the large economic system works by the actions of agents whose capability is extremely limited (with regard to the largeness of the system) both in sight and rationality.

    Please read a concise introduction of our contribution in a new edition of Post-Keynesian Economics (2022) by Marc Lavoie. I here reproduce whole subsection 3.7.4 (pp.190-191):

    3.7.4 Quantity Adjustments versus Price Adjustments

    Neoclassical economics assumes that price flexibility is at the core of a market economy and that, without it, adjustments to demand changes would be next to impossible. It is often argued that a complex market economy only avoids chaos thanks to these flexible price adjustments, and this would justify the use of the neo-Walrasian model as a rigorous benchmark model. By contrast, the whole chapter has suggested that firms generally wish to avoid price competition, so as to avoid destructive price wars. Leading firms try to stick to their costing margins while peripheral firms match the prices of the price leader, so that competition occurs through lower unit costs, investment and innovation. With the exception of raw materials, prices hardly react to demand changes and only react to changes in their unit costs. One may thus wonder whether a world which consists of such firms relying on cost-plus pricing, and with limited information as argued in Chapter 2, can truly constitute an adequate representation of a reality made of a highly complex and diversified set of interdependent firms and sectors where chaos is avoided. Herbert Simon certainly thought so.

    Price provides only one of the mechanisms for coordination of behavior, either between organizations and within them. Coordination by adjustment of quantities is probably a far more important mechanism from a day-to-day standpoint, and in many circumstances will do a better job of allocation than coordination by prices. … Quantities of goods sold and inventories, not prices, provides information for coordinating these systems. Many observers of business scheduling and pricing practices have claimed that (with the possible exception of agricultural and mining sectors) models that use quantities as signals approximate first-world national economies more closely than do models in which prices are the principal mechanisms of coordination. (Simon,1991, p.40)

    The question has recently been tackled in a book by Shiozawa, Morioka and Taniguchi (2019). They contend that capitalism is by nature a ‘sellers’ market’ — a demand constrained economy–as opposed to the supply-constrained socialist economy described // by Kornai (1980). They link this claim to Sraffa’s 1926 statement that the expansion of firms is not limited by rising unit costs but rather by the difficulty of attracting more customers. The separation of price and quantity adjustments is a fundamental principle. Quantities reflect changes in demand. Prices provide the criterion to judge if a new production technique is better than previously existing ones. Prices are regulated by production costs, that is, the cost for a a given markup structure. What we have here is a Sraffian theory of prices, slightly reinterpreted. The reinterpretation is based on threw features: there is no uniform profit rate; the normal price, based on the normal unit cost, is the actual price, that is, cost-of-production prices are not prices achieved only in the long run; fixed capital is not associated with joint production, on the grounds that such joint production accounting is not practised in actual accounting, thus setting the unit depreciation cost on the basis of the normal volume.

    Shiozawa et al. (2019) construct multi-sectoral models, each sector with several different firms, each firm of a sector disposing of a finite set of fixed-coefficient production techniques. Prices are set by firms on the basis of normal-cost pricing, where prices only change when unit costs change and not when demand or the proportion of demand attributed to each product changes. Production takes time–there is a time sequence, forecast and orders, then production, and finally delivery and sales–so production cannot immediately respond to changes in demand, and hence there must be a buffer, which are the stocks of inventories, for both intermediate inputs and produced outputs. Finally, as argued in section 3.5.3, firms have excess capacity.

    Shiozawa et al. (2019) show that supply adjusts to demand in a converging process, despite the complete lack of reaction of prices to the evolution of sales and inventories, under minimal conditions: production must be equal or higher than the break-even point given by the markup, so that firms do not go bankrupt; banks provide credit on demand; inventory buffers must be large enough, and there must be sufficient smoothing in forecasting demand. These forecasts are based on data that are easily obtainable, and the computations that are assumed to be made by firms require little capability.

    The message being conveyed by their book should by now be clear: the results achieved by Shiozawa et al. (2019) constitute a great breakthrough–an achievement of paramount importance as the authors say–for the analysis of the modern industrial economy (the financial sector requires a completely different story). The authors claim that their results are comparable to those of Arrow-Debreu, but obtained within the completely realistic framework of a production economy where agents dispose only of local information and frugal capabilities. Prices are not scarcity indices: changes in prices are not signalling changes in demand relative to supply. They are a tool to assess the best production method, as improvements or new combinations will be reflected by a decrease in unit costs. The information conveying changes in demand is transmitted and assessed through quantity signals–sales and changes in inventories–but not through prices. A key achievement of the authors is the demonstration that a multi-sectoral economy, where production takes time and with produced inputs, can adjust to changes in demand through the realistic decisions of managers to change quantities without any change in prices–something that previously was not thought to be possible. The only drawback of Shiozawa et al.’s book is the lack of aggregate demand feedback, which will be the main subject of the remaining chapters.

    I do not claim that all basic problems are solved. On the contrary, many fields, for example, financial economy, remain to be studied anew. As Lavoie points it, we still lack the theory of how the aggregate final demand changes. However, I am rather confident that we have arrived at a new basis like that of James Hutton in the case of geology. Although our theory covers only a small part of the economy, the new framework is totally free from equilibrium analysis (and hence from its absurd ab ovo construction) and makes it possible to pursue the causal chains of events within an economy. It is not a total revolution in economic ideas, because, simply stated, the framework is rather a return to classical economics before the arrival of neoclassical economics. As John Hicks remarked, the neoclassical revolution in economics (usually called “marginal revolution”) was a shift from production economics of classical political economy (typically David Ricardo) to an economics of exchange, which may be useful in studying distance trade of old days but not in understanding modern industrial economy.

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