from Lars Syll
Ultimately, the problem isn’t with worshipping models of the stars, but rather with uncritical worship of the language used to model them, and nowhere is this more prevalent than in economics. The economist Paul Romer at New York University has recently begun calling attention to an issue he dubs ‘mathiness’ – first in the paper ‘Mathiness in the Theory of Economic Growth’ (2015) and then in a series of blog posts. Romer believes that macroeconomics, plagued by mathiness, is failing to progress as a true science should, and compares debates among economists to those between 16th-century advocates of heliocentrism and geocentrism. Mathematics, he acknowledges, can help economists to clarify their thinking and reasoning. But the ubiquity of mathematical theory in economics also has serious downsides: it creates a high barrier to entry for those who want to participate in the professional dialogue, and makes checking someone’s work excessively laborious. Worst of all, it imbues economic theory with unearned empirical authority.
from Peter Radford
One of the mysteries of economics is its contemporary willingness to ignore everything around it. Economists act as if the economy they study is easily isolated from its surroundings and thus immune to the trends, problems, and changes that go on in those surroundings. Indeed this isolationism is a key component of economics because it allows the profession to preserve and bolster its pretense to being scientific. It allows economists to chat away blithely without concern for the web of entanglement within which actual economies reside. Instead they can pretend to have discovered timeless regularities that allow the ‘system’ to glide smoothly and effortlessly towards a singularity, unsullied by the nastiness of the self-same system’s attachment to other social realities.
It is thus that economists indulge in their fantasies of social physics, and consign anything that interrupts the aforementioned smooth glide to the horrible non-economic netherworld known as ‘exogenous’ forces.
A netherworld which you and I refer to as ‘life’.
It is as if the economy was plopped pristine into a pre-existing reality, with the shape of that pre-existence fitted perfectly to conform with the analytical demands of economics. Read more…
The savings ratio of British households according to two different estimates of savings, UK
When we, as the ONS (Office for National Statistics) recently did, exclude all kinds of non-monetary imputations from the data on household income and household saving the resulting data show that the Great Financial Crisis caused a much larger upturn in household saving (and subsequently: a much larger decline in expenditure) than indicated by the national accounts data. Which means that the consequences of household behaviour on aggrevating the crisis were much larger and immoderate than previously thought.Why didn’t we see this? What troubled our perception? Why didn’t we understand that household income had to be sustained instead of cut, to stem the crisis?
From the times of Galileo and Newton, physicists have learned not to confuse what is happening in the model with what instead is happening in reality. Physical models are compared with observations to prove if they are able to provide precise explanations … Can one argue that the use of mathematics in neoclassical economics serves similar purposes? … Gillies‘s conclusion is that, while in physics mathematics was used to obtain precise explanations and successful predictions, one cannot draw the same conclusion about the use of mathematics in neoclassical economics in the last half century. This analysis reinforces the conclusion about the pseudo-scientific nature of neoclassical economics … given the systematic failure of predictions of neoclassical economics.
Francesco Sylos Labini is a researcher in physics. His book is to be highly recommended reading to anyone with an interest in understanding the pseudo-scientific character of modern mainstream economics. Turning economics into a ‘pseudo-natural-science’ is — as Keynes made very clear in a letter to Roy Harrod already back in 1938 — something that has to be firmly ‘repelled.’
from David Ruccio
The problems surrounding the central institution of capitalism—the corporation—are so widespread and enormous they’ve even provoked concern in sympathetic quarters, such as the Harvard Business School.
This past November, Harvard hosted a conference during which participants attempted to grapple with the tensions between Milton Friedman’s theory of the firm—according to which firms can and should only benefit society by focusing on maximizing shareholder value—and the growing political influence of corporations after Citizens United—when it has become increasingly easy for firms to tweak the rules of the game in their favor.
Now, for the rest of us—citizens, nonmainstream economists, and academics in disciplines outside of business and economics—both the history of corporations and the prevailing neoclassical theory of the firm present so many problems it’s hard to believe Friedman’s ideas are still taken seriously. Long before Citizens United, corporations have exercised a great deal of influence both inside (over their workers) and outside (in politics and in the wider society). That’s why the corporation has been a contested institution—legally, economically, politically—since its inception. Similarly, the neoclassical theory of the firm (initially in its “black box” form, then when the owner-manager agency problem was raised) has swept most of the serious problems under the theoretical rug.*
But for the scholars gathered at Harvard, the key issue (as presented in the brief paper coauthored by Harvard Business School faculty members Paul Healy, Rebecca Henderson, David Moss, and Karthik Ramanna [pdf]) was a relatively narrow one: Read more…
from Lars Syll
It may be argued … that the betting quotient and credibility are substitutable in the same sense in which two commodities are: less bread but more meat may leave the consumer as well off as before. If this were, then clearly expectation could be reduced to a unidimensional concept … However, the substitutability of consumers’ goods rests upon the tacit assumption that all commodities contain something — called utility — in a greater or less degree; substitutability is therefore another name for compensation of utility. The crucial question in expectation then is whether credibility and betting quotient have a common essence so that compensation of this common essence would make sense.
Just like Keynes underlined with his concept of ‘weight of argument,’ Georgescu-Roegen, with his similar concept of ‘credibility,’ underlines the impossibility of reducing uncertainty to risk and thereby being able to describe choice under uncertainty with a unidimensional probability concept. Read more…
from David Ruccio
No, that’s not the democratic socialist candidate for the Democratic nomination. It was actually Al Capone who once said that “Capitalism is the legitimate racket of the ruling class.”*
That racket—and, with it, challenges to the legitimacy of capitalism—was evident in a wide variety of news stories yesterday.
First, there was the issue of health. Once again, we’re learning that the capitalist racket is affecting health. In particular, the gap in life span between rich and poor is widening. The top 1 percent among American men live 15 years longer than the poorest 1 percent; for women, the gap is 10 years. These rich men and women have gained three years of longevity just in this century. Read more…
from Asad Zaman
In the wake of the Global Financial Crisis (GFC 2007), the Queen of England asked academics at the London School of Economics why no one saw it coming. The US Congress constituted a committee to investigate the failure of economic theory to predict the crisis. Unfortunately, economists remain unable to answer this critical question. Some say that crises are like earthquakes, impossible to forecast. Others take refuge behind technical aspects of complex mathematical models. With monotonous regularity, more than 200 monetary crises have occurred globally, ever since financial liberalization started in the 1980’s. the methodology currently in use in economics systematically blinds economists to the root causes of these crises. Many leading economists have called for radical changes to bring economic theory into closer contact with reality.
Many who had hoped that the GFC would serve as a wake-up call for the profession have been extremely disappointed by subsequent developments. Although there has been a flurry of papers on various aspects of the crisis, there has been no fundamental re-thinking. Theories which assume free markets will create full employment and maximal growth, continue to be taught at universities. The rational expectations theory of Eugene Fama says that the stock market prices always correctly reflect the information available to the market, and there is no possibility of a bubble – a systematic over-valuation of all stock market prices. Under the influence of this theory, Robert Shiller’s demonstration that the stock market prices were over-inflated went unheeded. Similarly, warnings by many Cassandras like Steve Keen, Raghuram Rajan, Dean Baker, Nouriel Roubini, were ridiculed and ignored by senior level policy makers infatuated with free market dogma. read more
from Dean Baker
Ever wonder how top executives like former Republican presidential candidate Carly Fiorina can walk away with $100 million after nearly wrecking a major corporation? The answer is that the market doesn’t work the same way at the top as it does for the rest of us. While most of us expect our pay to bear some relationship to our performance, at the top it’s mostly a story of play money among friends.
Corporate executives get patted on the back when they announce plant closings, layoffs, and pay cuts. This is seen as good news for corporate profits and stock prices. But there is no one to applaud when the CEO gets their pay cut because they are not worth the money. That would be a decision of corporate boards, and these boards tend to have more loyalty to CEOs and top management than to the shareholders they ostensibly represent.
After all, top management often played a role in getting the directors their job. And being a director is a very good job. Typically it means getting paid several hundred thousand dollars a year for showing up at 6–10 meetings. Many corporate directors find the time to sit on three or four boards while still holding down full time positions of their own. Read more…
from Lars Syll
Roman Frydman is Professor of Economics at New York University and a long time critic of the rational expectations hypothesis. In his seminal 1982 American Economic Review article Towards an Understanding of Market Processes: Individual Expectations, Learning, and Convergence to Rational Expectations Equilibrium — an absolute must-read for anyone with a serious interest in understanding what are the issues in the present discussion on rational expectations as a modeling assumption — he showed that macroeconomic models founded on the rational expectations hypothesis are inadequate as representation of economic agents’ decision making. Read more…
- In and after 2008 banks have received an in-cre-di-ble amount of state money. It can be argued that a main reason why pensions have to be cut, again, in Greece is this perceived need to shore up the banks. Matthew Klein argues (based upon a BIS paper) that the need for government transfers to banks would have been much smaller why lending would have been higher if the banks had paid less dividends and had bought back less dividends.
- A disillusioned Thomas Fazi argues that ´The Left´ should not so much embrace but at least acknowledge the importance of nationalism: ´So unless we develop a progressive, well, a progressive nationalism sounds quite bad, so we definitely need to find a better word, but we have to develop a progressive agenda that understands that change – especially in the eurozone – must first happen at the national level. If not, we are doomed.´Mind that authoritarian nationalism is the main theme of the populist backlash (Le Pen, Wilders, Trump, Alternative fùr Deutschland) which at this moment in many countries seems to be backed by about 30% of the vote.
- Frances Coppola shows what happens when a not-so-progressive agenda hijacks the state. Too much German savings which, predictably, drives down interest rates. Schauble, not Draghi, is the real ´low interst monster´.
- An increasingly less neoclassical Brad deLong argues that the state will grow – as we need more non-market coordination, not because of market failures but because of non-market opportunities. And much more.
from Gary Flomenhoft and the RWER’s current issue.
We are first looking at items produced for sale on the market, and in particular a competitive market. The conditions for maximizing consumer surplus are approached in some industries. The most obvious one is the microelectronic industry, where Moore’s law has prevailed for many decades since first stated in 1965, doubling computing power at the same price every 18-24 months. Competition between Intel, Samsung, Qualcomm, Micron, etc. is fierce, dropping prices, while improving performance. The Top 10 manufacturers in 2013 from Wikipedia with market share are:
from David Ruccio
The latest bank to admit criminal fraud is Wells-Fargo. The largest U.S. mortgage lender and third-largest U.S. bank by assets, Wells-Fargo deceived the U.S. government into insuring thousands of risky mortgages, and formally reached a record $1.2 billion settlement of a U.S. Department of Justice lawsuit. Several lenders, including Bank of America Corp, Citigroup Inc, Deutsche Bank AG, and JPMorgan Chase & Co, previously settled similar federal lawsuits.
To read Paul Krugman (who’s “been doing a lot of shovel work for the Hillary Clinton campaign lately”), the real problem in the run-up to the spectacular crash of 2007-08 was not Too Big to Fail banks like Wells-Fargo, but the so-called shadow-banking system. But, as Matt Taibi [ht: db] explains, “Krugman is just wrong about this.”
The root problem of the ’08 crisis lay in a broad criminal fraud scheme in the mortgage markets. Real-estate agents fanned out into middle- and low-income neighborhoods in huge numbers and coaxed as many people as possible into loans, whether they could afford them or not.
Those loans in turn were bought up by giant financial companies on Wall Street, who chopped them up into a kind of mortgage hamburger. Out of this hamburger, they made securities. These securities were then sold to institutional investors like pension funds, unions, insurance companies and hedge funds.
from Frank Stilwell
Even if the economics profession continues to deflect the challenges posed by heterodox economists, substantial progress can be made in relation to cognate social sciences. This is a necessary element in a strategy for progress because mainstream economists working in universities usually resist attempts to reconstitute their discipline on genuinely pluralist principles. Marxist political economy, for example, can usually only get a hearing as an historically discredited view; while “old” institutionalism, if mentioned at all, is merely a precursor to “new institutional economics”, which is more compatible with a neoclassical approach. Heterodox economists may get jobs in economics departments: some do, especially if their “deviance” develops after secure employment has been achieved, but they are often not replaced by people of similar inclination when they retire or move on.
from David Ruccio
Corporate income taxes represent a small percentage of total federal tax revenue (at 11 percent) and they’ve been declining for a long time (since the 1940s).
from Lars Syll
The kind of fundamental assumption about the character of material laws, on which scientists appear commonly to act, seems to me to be much less simple than the bare principle of uniformity. They appear to assume something much more like what mathematicians call the principle of the superposition of small effects, or, as I prefer to call it, in this connection, the atomic character of natural law. The system of the material universe must consist, if this kind of assumption is warranted, of bodies which we may term (without any implication as to their size being conveyed thereby) legal atoms, such that each of them exercises its own separate, independent, and invariable effect, a change of the total state being compounded of a number of separate changes each of which is solely due to a separate portion of the preceding state. We do not have an invariable relation between particular bodies, but nevertheless each has on the others its own separate and invariable effect, which does not change with changing circumstances, although, of course, the total effect may be changed to almost any extent if all the other accompanying causes are different. Each atom can, according to this theory, be treated as a separate cause and does not enter into different organic combinations in each of which it is regulated by different laws …
The scientist wishes, in fact, to assume that the occurrence of a phenomenon which has appeared as part of a more complex phenomenon, may be some reason for expecting it to be associated on another occasion with part of the same complex. Yet if different wholes were subject to laws qua wholes and not simply on account of and in proportion to the differences of their parts, knowledge of a part could not lead, it would seem, even to presumptive or probable knowledge as to its association with other parts. Given, on the other hand, a number of legally atomic units and the laws connecting them, it would be possible to deduce their effects pro tanto without an exhaustive knowledge of all the coexisting circumstances.
Keynes’ incisive critique is of course of interest in general for all sciences, but I think it is also of special interest in economics as a background to much of Keynes’ doubts about inferential statistics and econometrics.
from Asad Zaman
Modern economic theory is founded on the principle that human beings “maximize utility”; that is, they choose the best action from among a collection of choices. This axiom is considered self-evident: why would anyone make an inferior choice, when a better option is available? However, the mathematical formulation of this axiom is far from realistic. After all, it is self-evident that human behavior cannot be described by mathematical laws. Critics have invented the term “homo economicus” to describe behavior governed by economic laws, which differs drastically from normal human behavior. We can describe homo economicus as cold, calculating, and callous. We explain each of these terms separately.
The theory of consumer behavior which is taught in business school differs drastically from the same theory taught in the economics school. The homo economicus of economists is cold – not subject to any emotional influences in his consumption decisions. In complete contrast, a fundamental axiom of consumer theory in the business school is that effective marketing appeals to emotions instead of reason. The proven effectiveness of business school methods in getting consumers to purchase a wide range of completely useless goods shows the superiority of their models of human behavior. read more
from Lars Syll
In 1938 Paul Samuelson offered a replacement for the then accepted theory of utility. The cardinal utility theory had been discarded a couple of years earlier, but according to Samuelson, the ordinalist revision of utility theory was not drastic enough. One ought to analyze the consumer’s behaviour without having recourse to the concept of utility at all, since this did not correspond to directly observable phenomena.
The new theory’s main feature was a consistency postulate which said ‘if an individual selects batch one over batch two, he does not at the same time select two over one.’ From this ‘perfectly clear’ postulate and the assumptions of given demand functions and that all income is spent, Samuelson could derive all the main results of ordinal utility theory (single-valuedness and homogeneity of degree zero of demand functions, and negative semi-definiteness of the substitution matrix).
In 1950 Hendrik Houthakker made an amendment to the theory assuring integrability, and by that the theory had according to Samuelson been ‘brought to a close.’ According to Houthakker, the aim of the revealed preference approach was ‘to formulate equivalent systems of axioms on preferences and on demand functions.’
Arna Vardardottir on Voxeu: “One of the many impacts of the Global Crisis was on stress levels, and these can be a risk factor for adverse birth outcomes. This column shows that exposure to the Crisis resulted in a significant reduction in the birth weight of babies in Iceland, comparable in size to the effect of smoking during pregnancy. The full costs of poor health at birth as a result of the Crisis will not materialise until the children exposed in utero become adults”
Mathieu Couttenier, Veronica Preotu and Mathias Thoenig on Voxeu: “The refugee crisis that erupted in 2015 has raised concerns about potential violence and criminality of the migrants. This column investigates whether past exposure to conflict makes asylum seekers in Switzerland more violent. The findings show that cohorts exposed to civil conflicts/mass killings during childhood are, on average, 40% more prone to violent crimes than their co-nationals born after the conflict. Certain policies can mitigate this result. In particular, offering labour market access to asylum seekers eliminates all the effect” Read more…