issue no. 76 of the Real-World Economics Review

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Negative interest rates or 100% reserves: alchemy vs chemistry          2
Herman Daly          download pdf

Why negative interest rate policy is ineffective and dangerous          5
Thomas I. Palley          download pdf 

Japan’s liquidity trap          15
Tanweer Akram          download pdf

Paul Romer’s assault on ‘post-real’ macroeconomics          43
Lars Pålsson Syll          download pdf                                                                                     

Another reason why a steady-state economy will not be a capitalist economy          55
Ted Trainer          download pdf

Using regression analysis to predict countries’ economic growth:          65
illusion and fact in education policy
Nelly P. Stromquist            download pdf 

Can a country really go broke?   Deconstructing Saudi Arabia’s macroeconomic crisis          75
Sashi Sivramkrishna           download pdf                                                                                                  

Reconsideration of the Prebisch-Singer Hypothesis          95
Ewa Anna Witkowska          download pdf

Industrial policy in the 21st century: merits, demerits and how can we make it work          109
Mohammad Muaz Jalil          download pdf

Review Essays

Review of James Galbraith, Welcome to the Poisoned Chalice          124
Michael Hudson          download pdf

A travesty of financial history – which bank lobbyists will applaud          129
Michael Hudson           download pdf

Discussion

Capitalism, corporations and ecological crisis: a dialogue concerning Green Capitalism          136
Richard Smith, William Neil and Ken Zimmerman          download pdf

Board of Editors, past contributors, submissions and etc.             146

Phlogiston, the identification problem, and the state of macroeconomics

from David Ruccio

The other day, I argued (as I have many times over the years) that contemporary mainstream macroeconomics is in a sorry state.

Mainstream macroeconomists didn’t predict the crash. They didn’t even include the possibility of such a crash within their theory or models. And they certainly didn’t know what to do once the crash occurred.

I’m certainly not the only one who is critical of the basic theory and models of contemporary mainstream macroeconomics. And, at least recently (and, one might say, finally), many of the other critics are themselves mainstream economists—such as MIT emeritus professor and former IMF chief economist Olivier Blanchard (pdf), who has noted that the models that are central to mainstream economic research—so-called dynamic stochastic general equilibrium models—are “seriously flawed.”

Now, one of the most mainstream of the mainstream, Paul Romer (pdf), soon to be chief economist at the World Bank, has taken aim at mainstream macroeconomics.* You can get a taste of the severity of his criticisms from the abstract: 

Why critique in economics is so important

Lars Syll

Some of the economists who agree about the state of macro in private conversations will not say so in public. This is consistent with the explanation based on different prices. Yet some of them also discourage me from disagreeing openly, which calls for some other explanation.

They may feel that they will pay a price too if they have to witness the unpleasant reaction that criticism of a revered leader provokes. There is no question that the emotions are intense. After I criticized a paper by Lucas, I had a chance encounter with someone who was so angry that at first he could not speak. Eventually, he told me, “You are killing Bob.”

But my sense is that the problem goes even deeper that avoidance. Several economists I know seem to have assimilated a norm that the post-real macroeconomists actively promote – that it is an extremely serious violation of some honor code for anyone to criticize openly a revered authority figure – and that neither facts that are false, nor predictions that are wrong, nor models that make no sense matter enough to worry about …

Science, and all the other research fields spawned by the enlightenment, survive by “turning the dial to zero” on these innate moral senses. Members cultivate the conviction that nothing is sacred and that authority should always be challenged … By rejecting any reliance on central authority, the members of a research field can coordinate their independent efforts only by maintaining an unwavering commitment to the pursuit of truth, established imperfectly, via the rough consensus that emerges from many independent assessments of publicly disclosed facts and logic; assessments that are made by people who honor clearly stated disagreement, who accept their own fallibility, and relish the chance to subvert any claim of authority, not to mention any claim of infallibility.

Paul Romer

This is part of why yours truly appreciate Romer’s article, and even find it ‘brave.’ Everyone knows what he says is true, but few have the courage to openly speak and write about it. The ‘honour code’ in academia certainly needs revision. 

Insider critiques of neoclassical macro models

Paul Romer has just published a devastating critique of DSGE (or, in his parlance, ‘Post Real’) macro models. He’s not the first important insider to write an article like this. Look here for Paul Krugman, ‘How did economists get it so wrong‘. Look here for Willem Buiter, ‘The unfortunate uselessness of most ‘state of the art’ academic monetary economics’. Look here for Charles Goodhart, ‘Whatever became of the monetary aggregates‘. And look here for the insider of insiders, Olivier Blanchard, ‘Do DSGE models have a future‘ (His analysis: NO! His conclusion: yes).  Especially Krugman, Buiter en Goodhart are extremely eloquent and their pieces are a joy to read.

Two questions: is there a common denominator to these fierce critiques? And does ‘your humble narrator’ have something to add?

The answer to the first question: yes, there is. All authors mention a contempt for reality. All authors mention obfuscating math. And the impossibility to ask questions about monetary instability when even ‘monetary’ models do not model money (and debt). My summary: the models in question disable economists to analyse economic reality instead of enabling them to do this.

Do I have something to add? Yes. Of the authors above, Romer is clearest (not the same as: clear) about the fact that a scientific paradigm does not only need theory but also needs a matching system of measurement, though Goodhart also clearly mentions (in 2007!) that not paying attention to the monetary aggregates (money but, in his view, also credit and debt) was quite a mistake. For quite some time, economic measurement and theory developed more or less in tandem. Veblen’s best students became the heads of organizations, the National Bureau of Economic Research and the Bureau of Labor Statistics and developed the Flow of Funds statistics. Keynes himself established the British Office of National Statistics (yes, the present day ONS), as he needed national accounts data which were not available. In the Netherlands, Tinbergen established the Centraal Planbureau, a ‘fiscal watchdog’ with a strong emphasis on empirics. Look here and here for more information about this. Instead of at least trying to match these efforts and directly measure the variables they model, like ‘the natural rate of interest’,  ‘natural unemployment’ and ‘utility’ they chose to assume that these variables are emergent properties not of the economy – but of the models (read Romer). My point: earlier generations of economists did a much better job and did estimate variables consistent with their ideas and models. Which made their efforts scientific. Let’s stand upon their shoulders!

Economists — math-heavy astrologers

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.

Bernie Slanders: How the Democratic Party establishment in the US suffocates progressive change

from Thomas Palley

The Democratic Party establishment has recently found itself discomforted by Senator Bernie Sanders’ campaign to return the party to its modern roots of New Deal social democracy. The establishment’s response has included a complex coupling of elite media and elite economics opinion aimed at promoting an image of Sanders as an unelectable extremist with unrealistic economic policies.

The response provides a case study showing how the Party suffocates progressive change. Every progressive knows about the opposition and tactics of the Republican Party. Less understood are the opposition and tactics of the Democratic Party establishment. Speaking metaphorically, that establishment is a far lesser evil, but it may also be a far greater obstacle to progressive change.

The elite media’s response was captured in a snapshot report by Fairness and Accuracy In Reporting (FAIR) showing that the Washington Post ran 16 major negative stories on Sanders in 16 hours, prior to the Michigan primary. The headlines were particularly hostile, and since only 40 percent of the public reads past the headline, that is as important as the substance of the story.

Economic policy has been the fulcrum of Sanders’ campaign, and the response of elite opinion has been exemplified by Paul Krugman of The New York Times. 

Looking below the surface

from David Ruccio

Mark Tansey, “The Myth of Depth” (1984)

The original title of this post was, “What do liberal economists want?”

So, what is it they want? According to their public pronouncements, not a whole helluva lot.

The liberal mainstream economists who have been attacking Bernie Sanders’s proposals and Gerald Friedman’s analysis of those proposals have acknowledged they actually support some of Sanders’s proposals.

Bernie Sanders and the Verdoorn law

from Lars Syll

Reading the different reactions, critiques and ‘analyses’ of Gerald Friedman’s calculations on the long term effects of implementing the Sanders’ program, it seem to me that what it basically burns down to is if the Verdoorn law is operative or not.

Estimating the impact of Sanders’ program Friedman writes (p. 13):

Higher demand for labor is also associated with an increase in labor productivity and this accounts for about half of the increase in economic growth under the Sanders program.

Obviously, that’s a view that  Christina Romer and David Romer (p. 8) don’t share:

The debate continues

from David Ruccio

source

A week ago, I noted the pushback against liberal mainstream economists’ attacks on Bernie Sanders’s plans and Gerald Friedman’s analysis of those plans.

The first set of attacks, as Bill Black explained, plumbed “new depths of moral obtuseness, arrogance, and intellectual dishonesty.”

Human capital and ‘bad taste in mouth’ models

from Lars Syll

I came to think about this dictum when reading Thomas Piketty’s Capital in the Twenty-First Century. 

Piketty refuses to use the term ‘human capital’ in his inequality analysis.

I think there are many good reasons not to include ‘human capital’ in economic analyses. Let me just give one — perhaps analytically the most important one — reason and elaborate a little on that.

RBC theory — willfully silly obscurantism

from Lars Syll

Lucas and his school … went even further down the equilibrium rabbit hole, notably with real business cycle theory. And here is where the kind of willful obscurantism Romer is after became the norm. I wrote last year about the remarkable failure of RBC theorists ever to offer an intuitive explanation of how their models work, which I at least hinted was willful:

“But the RBC theorists never seem to go there; it’s right into calibration and statistical moments, with never a break for intuition. And because they never do the simple version, they don’t realize (or at any rate don’t admit to themselves) how fundamentally silly the whole thing sounds, how much it’s at odds with lived experience.”

Paul Krugman

Yours truly, of course, totally agrees with Paul on Lucas’ rabbit hole freshwater school.

And so does Truman F. Bewley:

DSGE macro-models criticism, a round up. Part 6. Consumption

Looking at neoclassical macro-models through the lens of economic statistics. Today: consumption.

According to a Eurostat headline, “In 2014, CO2 emissions in the EU estimated to have decreased by 5% compared with 2013“. It is important to know if this decline was caused by technological progress or by lower consumption and/or investment. Alas, these data are too vague and fuzzy to answer such questions, as the article also states:

It should … be noted that imports and exports of energy products have an impact on CO2 emissions in the country where fossil fuels are burned: for example if coal is imported this leads to an increase in emissions, while if electricity is imported, it has no direct effect on emissions in the importing country

Can’t economic statisticians do better than this? Yes, they can.  A Eurostat publication about this states: 

June Sekera on ‘Economics and the Near-Death Experience of democratic governance’

June Sekera has published a new working paper which sets out to  “outline the elements of a theory of the public non-market, and suggest a model to explain its forces, flows and dynamics“. She wants to do this because: “More than a century ago, the effective operation of the public economy was a significant, active concern of economics. But, with the rise of market-centrism and rational choice economics, government was devalued and allowed a role only in cases of “market failure.” The very idea of a valid, valuable public non-market almost disappeared from sight. So today we lack a coherent, comprehensive theory of the public economy“.

Sadly, 

Consistency and validity is not enough!

from Lars Syll

Neoclassical economic theory today is in the story-telling business whereby economic theorists create make-believe analogue models of the target system – usually conceived as the real economic system. This modeling activity is considered useful and essential. Since fully-fledged experiments on a societal scale as a rule are prohibitively expensive, ethically indefensible or unmanageable, economic theorists have to substitute experimenting with something else. To understand and explain relations between different entities in the real economy the predominant strategy is to build models and make things happen in these “analogue-economy models” rather than engineering things happening in real economies.

Formalistic deductive “Glasperlenspiel” can be very impressive and seductive. But in the realm of science it ought to be considered of little or no value to simply make claims about the model and lose sight of reality. As Julian Reiss writes: 

DSGE macro models criticism, a round up. Part 5, the intertemporal government budget constraint

Guest post by Brian Romanchuk (see also his blog Bond Economics)

Earlier posts in this series, which consists of concise posts looking at DSGE models using the lens of statistical concepts, were about money, market fundamentalism, unemployment and capital.

Problems With Fiscal Policy In DSGE Models

Dynamic Stochastic General Equilibrium (DSGE) models suffer from a great many defects, but the specification of fiscal policy in standard models stands out. Given the ongoing wave of publications of these models, it is hard to generalise about them. My statements here are based on how fiscal policy is represented within the models presented in the Chapter 12 of the text Advanced Macroeconomics by Paul Romer (fourth edition). The models in Romer are fairly indicative of much of the literature, but my criticisms here will not apply to all of them.

Behavioural Assumptions

One of the key results used within DSGE models is that the timing of taxes has no effect on household behaviour.  This assumption is known as “Ricardian Equivalence”. There is an academic literature which questions this behavioural assumption. Although this is an interesting debate, my view is that the specification of fiscal policy within DSGE is internally inconsistent, and so the quality of the behavioural assumptions around Ricardian Equivalence appears to be a secondary issue.

The fetishism of mathematics

from David Ruccio

I am tempted, in response to Paul Romer, to paraphrase the Old Moor: “The use of mathematics in economics appears, at first sight, a very trivial thing, and easily understood. Its analysis shows that it is, in reality, a very queer thing, abounding in metaphysical subtleties and theological niceties.”

The last time I had the occasion to comment on Romer’s work was in reaction to the neoclassical colonialism of his proposal for “charter cities” in poor countries. Now, in a desperate bid to save the last vestiges of so-called endogenous growth theory, Romer has gone on the attack against what he calls “mathiness” in contemporary growth theory.

What is mathiness?

DSGE macro models criticism 4. Capital.

Earlier posts in this series, which takes short looks at DSGE models using the lens of statistical concepts, were about money, market fundamentalism and unemployment.

There are at least three fundamental differences between ‘capital as statisticians measure it’ and ‘capital as a concept in neoclassical macro models’. Next to this, statisticians as well as neoclassical economists shy away from a crucial aspect of the ownership of capital: it’s forged in the fire of revolutions. Examples are the Protestant revolution (Cromwell, the Dutch Revolt, the  Glorious Revolution, expropriation of the massive wealth (land!) of many cloisters), the Enlightenment revolutions (the French revolution, the abolishment of slavery and the Civil War) or the decolonization revolutions. This last point won’t be elaborated but it is good to remember it when rating the statistics and the models – just read ‘Capital in the twenty first century’ to get an idea about the importance of slaves as a main asset on USA balance sheets before the civil war.

The three differences (to be elaborated below):

Yellen, patience and the Fed. How economic theory shapes our understanding of the facts.

A long post from Erwan Mahé – but immensely readable. It shows how ideas from academic scribblers (especially about the nature of money and (un)employment) directly guided central bank discussions and policies in a crucial period (some articles are even explicitly mentioned by Yellen!). Don’t forget, however, the anonimous data produced by economic statisticians, which with their strengths, weaknesses and unavoidable biases guide policy too. In the end it’s about wich theory is, at a central bank, used to understand this data. MK.

The human capital controversy

from Lars Syll

I came to think about this dictum when today reading yet another piece on Piketty — this time on his refusal to use the term “human capital” in his inequality analysis.

I think there are many good reasons not to include human capital in economic analyses. Let me just give one — perhaps analytically the most important one — reason and elaborate a little on that.

YES to national QEs!

From: Erwan Mahé

Now that it is pretty much agreed that the ECB will launch a quantitative easing this Thursday 22 January, the debate is focused on the way those asset purchases will be carried out. It is not so much the total amount of purchases that is at issue but the breakdown between those made by the ECB itself (Eurosystem) and those made by the central banks of each country. Many are concerned that the ECB officials who have been the most reticent in their attitude to a QE will insist that national central banks carry as much of the load as possible by acquiring the bonds of their own countries. We will explain below why the countries who are paying the highest interest rates, namely, the peripherals, should themselves embrace this approach and why, once people have gotten over the initial shock of segregating asset purchases along national line, such a measure is absolutely necessary to the future success of a European QE!

Is the American QE a model?