the responsibilities of heterodoxy

Remembering Jim Crotty

Last weekend I went up to Amherst, for an event — half conference, half memorial — in honor of Jim Crotty.

Jim was a very important presence for me when I was at a graduate student at the University of Massachusetts, as he was for many people who passed through the economics program there in the 1980s, 1990s and 2000s. His approach to economics, drawing on the traditions of Marx and Keynes, was for us almost the definition of heterodox macroeconomics. He was also a model for us as a human being. He never wavered from his political commitments, and he was — as many speakers at the event testified — a wonderful person, down to earth, warm and outgoing.

Some years ago, Arjun Jayadev and I recorded a long interview with Jim. INET has put video of the interview online. (The videos are somewhat abridged; you can read the full transcript here. ) I think the interview managed to capture Jim’s broader outlook as well as his economics interests. (Well, some of them — his interests were very broad!) He also has some very interesting things to say about the origins of radical economics as a distinct body of thought in the 1970s. I think the videos are well worth watching, if you want to get a sense (or a reminder) of what Jim Crotty was all about.

I wrote a piece on his work in 2016, to go along with the interviews. That piece focuses on his argument for taking Keynes seriously as a socialist, the argument which later became his last published work, Keynes against Capitalism. (There is an earlier draft that circulated within the UMass economics department, which I think makes the argument more clearly than the published book does.)

For this event, Arjun and I wrote an article on Jim, talking more about what his teaching meant for us and how one might carry his vision forward. It will be published in an upcoming special issue of the Review of Radical Political Economics, along with a number of other pieces on Jim’ thought and work. Here are some excerpts from our contribution. You can read the whole thing here, if you’re interested.

“If Keynes were Alive Today…”: Reflections on Jim Crotty

by Arjun Jayadev and J. W. Mason

Jim Crotty’s ECO 710 was for us, as for hundreds of UMass grad students over the past 40 years, the starting point for systematic thought about the economy as a whole. In this he was, like all the great teachers, presenting not so much any particular technique or ideas as himself as a model – a touchstone to go back to when you hit a dead end, and a living example of how to be a serious economist-in-the-world. The content of the class varied over the years, but it usually involved a close reading of The General Theory, with a focus on its three great advances— fundamental uncertainty, liquidity preference and effective demand.

Perhaps the most distinctive aspect of Jim’s pedagogy and scholarship, almost alone among economists we have known, was his ability to synthesise these two thinkers in ways that gave equal weight to both, that placed them in conversation rather than in tension. Crotty’s Marx anticipates Minsky, while his Keynes is a political radical – a socialist – in ways that few others have recognized.

Perhaps his most profound contribution to both traditions was the brilliant 1985 article “The Centrality of Money, Credit, and Financial Intermediation in Marx’s Crisis Theory” (Crotty 1985). There, he developed the idea that the Marxian vision of capitalist crises could only be understood in terms of the development of the credit and the financial system – that it was only via financial commitments that a fall in the profit rate could lead to an abrupt crisis rather than just a slower pace of accumulation. His reconstruction of a vision of the credit system that may either dampen or amplify disruptions to the underlying process of production suggests that Marx anticipated the ideas about financial fragility later developed in the Post Keynesian tradition. With a critical difference: While Minsky has finance calling the tune, in the Marx-Crotty version the ultimate source of instability is in the real world of labor and capital.

For us, Jim’s most important work came in four areas. The first was the interplay of real and financial instability in capitalist crises, as in the 1985 article and his work after 2008. Second was the shifting relationship between shareholders and managers in the governance of corporations. Third was his insistence on the importance of fundamental uncertainty for macroeconomic theory – if we imagine one phrase in Jim’s voice, it is “we simply do not know.” Last, chronologically, but certainly not least, was his rehabilitation of Keynes’ socialist politics – a socialist Keynes to go with his Minskyan Marx.

Most of Crotty’s published work fits within the broad post-Keynesian tradition. But his earlier and stronger commitment was to Marx. In a series of papers in the 1970s with Raford Boddy he put class conflict and imperialism front and centre in the analysis of contemporary capitalism, exploring Marxian crisis theory and what it could illuminate about contemporary macroeconomic problems. From the mid-1980s onward, his published work no longer used an explicitly Marxist framework, and the name Keynes appears much more often than that of Marx. But this was a matter of shifting focus and circumstances rather than any more fundamental re-evaluation. In a conversation with us in 2016, he described Marx as: “clearly the more brilliant social scientist and thinker and philosopher” of the two, “with a much more ambitious project, with clearer and deeper political roots.” And yet, he added: “I am writing a book about Keynes.”

At Substack: The End of Laissez Faire

(I wrote this post about two weeks ago, but then took a while getting the Substack actually launched. Going forward, hopefully the content will be more timely. All substack content is free; you can subscribe to the newsletter version here. Hopefully the content will be more timely in the future!)

Sometimes I think being a normal economist must be like one of those classic office jobs. You drive to work, park in the garage, take the elevator up to your office. You take some papers from your inbox and put them in your outbox. There’s the research frontier; ok, we’ve advanced it a little bit. Then the bell rings, quitting time. Whereas here in the heterodox world, it’s like you’ve let yourself in through a gap in the fence and you’re wondering, is this place a construction site, or is something being demolished, or is it an archaeological dig? I think this is my desk, but it could be some weird art object, or possibly part of the ventilation system. This person in the hallway — are they the boss, or a customer, or maybe someone in need of emergency medical assistance? Am I sure I have a job? Am I even supposed to be in here?

Well then. Back to work!

The question of the moment is industrial policy. Not so long ago, the consensus on climate policy, at the high table at least, was that carbon pricing was it. Government provides the public interest with an abstract monetary representation, and then private businesses (or “markets”) will translate that representation into whatever concrete changes to production are called for. In recent years, though, the debate seems to have been shifting rather rapidly towards what I have called an investment-focused approach. The passage of the Inflation Reduction Act (along with other similar measures) seems to mark a decisive turn toward industrial policy, in the US at least. This is not only about climate — the disruptions to global supply chains during the pandemic and, more worryingly, a renewed sense of rivalry with China, have strengthened the case for support for key sectors of the economy.

(Full disclosure: When someone mentioned to me early in the Biden administration that there was interest in dealing with the chip shortage by fostering a US industry, I thought it was a silly idea that would go nowhere. This was, it seemed to me, about the worst case for policy — a problem that was at once both extraordinarily hard for government to solve, and likely to take care of itself on its own before long. Shows you how much I know! — or perhaps, how much things have changed.)

The case for industrial policy, obviously, involves a reevaluation of the capacity of government and the problems it is expected to solve — what Keynes, in an essay whose title can be repurposed today, called the line between agenda and non-agenda. But it also, a bit less obviously, involves a shift in how we think about the economy. An economy where industrial policy makes sense is not one that can be usefully described in terms of a unique, stable equilibrium toward which decentralized decisionmakers will converge. Industrial policy only makes sense in a world where increasing returns and learning by doing create significant path dependence — what we are good at today depends on what we were doing yesterday — and where an uncertain future and the need for large, irreversible investments, and the prevalence of complementarity rather than substitution, creates coordination problems that markets are unable to solve. I don’t know that the drafters of the IRA were conscious of it, but they were implicitly endorsing a very different model of the economy than the one that one finds in textbooks.

Supply constraints. My big recent publication, coauthored as usual with Arjun Jayadev, is an article in the Review of Keynesian Economics called “Rethinking Supply Constraints.” It addresses exactly this issue. The one-sentence summary is that it makes more sense to think of the productive capacity of the economy in terms of a speed limit — a limit on the rate at which output and employment can grow — rather than an absolute ceiling, as in conventional measures of potential output. This, we argue, fits better with a wide range of empirical phenomena. Equally important, it fits better with a vision of the economy as an open-ended collective transformation of the world, as opposed to the allocation of an existing basket of stuff.

There’s a summary in this blogpost, and video of my presentation of it at the University of Massachusetts is here. (I start around 47 minutes in.) I will try to write more about it in this newsletter soon.

Low rates and bubbles. My latest Barron’s piece (I write one more or less monthly) was on whether the post-2007 decade of low interest rates can be blamed for Sam Bankman-Fried and financial bubbles and frauds more generally. As always, when the headline is a question, the answer is no.

I don’t think I quite stuck the landing with this one. The big point I should have hammered on is that if abundant credit ends up supporting projects that are socially and privately worthless, that’s a problem. But it is a problem with the institutions whose job it is to allocate credit, not with low interest rates or abundant credit as such. If banks and bank-like institutions can borrow at lower rates, it’s easy to see why they’d lend to projects with lower returns. It’s harder to see why they’d lend to projects with negative returns. The idea, evidently, is that for some reason when interest rates are too low financial-market participants will make choices that are not only socially costly but costly to themselves as well. The low rates-cause-bubbles arguments almost amount to a kind of financial terrorism — give us the risk-free returns we were counting on, or we’ll blow up our portfolios, and some chunk of the economy along with it.

The connection to industrial policy? If we don’t trust financial markets to make investment decisions, that strengthens the case for a bigger public role.

Biden, Brenner, and Benanav. Robert Brenner’s frequent collaborator Dylan Riley wrote a piece in the NLR blog Sidecar, drawing on Brenner’s work to argue that industrial policy is hopeless because of global overcapacity; you’ve got to seize the commanding heights or stay home. I don’t agree. I think there are ways that the socialist project can be advanced via Biden administration initiatives like the IRA, and wrote a piece for Jacobin explaining why.

Some people liked it — Adam Tooze gave it a nice mention in one of his newsletters. Others did not. Aaron Benanav wrote a long and rather irritated rebuttal in New Left Review. I disagree with a lot of what he wrote, which is fine; he, as he made very clear, disagreed with what I wrote. As the protagonist of James Salter’s great Korean War novel The Hunters says, “You shoot at them, they shoot at you. What could be fairer?” But I am a little annoyed that my jaunty Hamilton reference, intended to warn against the danger of imagining that you are in a position of power, got turned into evidence that I myself dream of being in the “room where it happens.” That seems unsporting.

I talked about my piece and the larger debate with Doug Henwood on his excellent Behind the News podcast. I will also be writing a piece for NLR that will be in part a response to Benanav but mostly, I hope, an intervention to move the debate in a more positive direction.

Speaking of Korea. I was on an English-language Korean news show recently, talking about the IRA. The video is here; a twitter thread summarized the points I was trying to make is here. An implicit background point, also very relevant to my objections to the Brenner-Riley-Benanav position, is that trade flows respond mostly to income, not relative prices. How much the US imports from Korea is to a first approximation a function of US GDP growth; subsidies (and exchange rates) are distinctly secondary.

What I am reading. I just finished the novel Variations on Night and Day, by Abdelrahman Munif. It’s the third novel in the Cities of Salt trilogy, though the first chronologically. The first novel, also called Cities of Salt, is about people in a fictional Middle Eastern Country (more or less Saudi Arabia) in the early days of the oil boom. It’s an extraordinary book in many ways, including its use of mostly collective protagonists — large parts of the narration are from the point of view of “the villagers”, “the workers” and so on. The second book, The Trench, moves up the social scale, focusing on the various schemers, strivers, climbers and entrepreneurs – business and political – who accrete around the monarchy’s capital. It’s got an ensemble, rather than collective cast, with one central character and an endless number of minor ones – it would make a great tv show. (Think a gulf-monarchy version of Hillary Mantel’s Cromwell novels.) The third book — Variations on Night and Day — moves up the social scale again, and back in time, to the earlier life of the sultan whose death occurs at the very beginning of The Trench. It’s a great book, gripping as narrative and morally serious. It provides what science fiction and fantasy promise but very seldom deliver, an immersive experience of a world very different from our own. Still I have to say, I somewhat preferred the first two books. At the end of the day, sultans are just not that interesting.

ETA: As it happens, I went to graduate school with Munif’s son Yasser. He was in the sociology department while I was in economics and we used to hang out quite a bit, tho I haven’t seen him in some years.

Heterodoxy and the Fly-Bottle

(I have a review in the new Review of Keynesian Economics of a collection of essays on pluralist, or non-mainstream, economics teaching. You can the full review here. Since I doubt most readers of this blog are interested in the book, I’ve posted a shorter version of the review below – just the parts on the broader issues rather than my assessment of these particular essays.)

Wittgenstein famously described his aim in philosophy as “showing the fly the way out of the fly bottle.” The goal, he said, was not to resolve the questions posed by philosophers, but to escape them. As long as the fly is inside the bottle, understanding its contours is essential to getting it wherever it wants to go; but once the fly is outside, the shape of the bottle doesn’t matter at all.

Non-mainstream economists have a similar relationship to dominant theory. Because we’ve been inculcated for years that the best way to think about the economy is in terms of the exchange of goods by rational agents, criticisms of that framework are a necessary step on the way to thinking in other terms. But the logical and empirical shortcomings of thinking about economic life in terms of a perfectly rational representative agent optimizing utility over infinite future time don’t, in themselves, tell us how we should think instead.

The essentially negative character of economic heterodoxy is a special challenge for undergraduate teaching. You can’t teach criticisms of economic orthodoxy without first teaching the ideas to be criticized. Finding our way out of orthodoxy was, for many of us, central to our intellectual development. Naturally we want to reproduce that experience for our students. This leads to a style of teaching that amounts to putting the flies into the bottle so we can show them the way out. But how useful is it to our students to understand the defects of a logical system it would never have occurred to them to adopt in the first place? Having spent so much time looking for a way out, it sometimes seems we don’t know what do in the open air.

This dilemma is on full display in The Handbook of Pluralist Economics Education. In order to present a realistic model of the economy, Steve Keen writes in one of his two chapters, “an essential first is to demonstrate to students that the ostensibly well-developed and coherent traditional model is in fact an empty shell”. Many of the volume’s other contributors make similar claims. This is the spirit of Joan Robinson’s famous quip that the only reason to study economics is to avoid being fooled by economists. But if that is all we can offer, better to send our students to the departments of history, anthropology, engineering, or some other field that offers positive knowledge about social reality.

What then are we to do? Pluralism as such is not a useful guide; carried to an extreme it would, as Sheila Dow says here, amount to “anything goes,” which is not a viable basis for teaching a class (or for any other intellectual endeavor). This is a problem with pluralism as a positive value (and not only in economics teaching): Pluralism implies a number of distinct perspectives, but to be distinct they must be internally coherent, that is, unitary. Carried to an extreme, pluralism is self-undermining. To challenge the mainstream, at some point you must argue not just for the value of diversity in the abstract, but in favor of a particular alternative.

In practice, even economists who completely reject mainstream approaches in their own work often give them a large share of time in the classroom, in part because they feel obligated to prepare students for future academic work and in part, as Keen says, simply because of “the pressure to teach something”. Teaching is hard enough work even when you aren’t reconstructing the curriculum from the ground up. It’s much easier to teach a standard course and then add some critical material.

But pluralism in economics teaching doesn’t have to mean simply presenting orthodoxy and adding some criticisms of it. It could also mean approaching the material from a different angle that avoids — rather than attacks — the dominant formalisms in economics and gives students a useful set of tools for engaging with economic reality. For me, this means a focus on the definition and measurement of macroeconomic aggregates, and on the causal relationships between those aggregates. Concretely, it means reliance on flowcharts where the nodes are some observable variable, as opposed to the normal emphasis on diagrams representing functional relationships — ISLM, AS-AD, etc. — that can’t be directly observed.

A more specific problem in heterodox teaching — and heterodox economics in general — is the weight put on the financial crisis as an argument for alternatives to the mainstream. Many of the authors in this collection present the crisis of 2008 and its aftermath as a decisive refutation of economic orthodoxy. Edward Fullbrook declares that ‘no discipline has ever experienced systemic failure on the scale that economics has today.” David Wheat, less hyperbolically, argues that “the failure to foresee the financial epidemic in 2008” demonstrates a need to shift the focus of economics teaching away from long-run equilibrium. One might push back against this line of argument. It is true that several large financial institutions went bankrupt in 2008, and some financial assets fell steeply in value, to the dismay of their owners; but with the perspective of close to a decade, it’s less clear how much of a base these events offer for critique of either the economics profession or economic institutions. Singleminded focus on “the crisis” risks implying that the problem with our economic system is the rare occasions on which it fails to work well for owners of financial assets, while ignoring the ongoing problems of inequality, hierarchy and privilege; tedious and demeaning work; environmental degradation; and the fundamental disconnect between ever-increasing money wealth and unmet human needs – none of which has much to do with the failure of Lehman Brothers. As people used to say: capitalism is the crisis.

It is true, of course, that the economics profession failed to foresee or explain the 2008 crisis, but that’s nothing special. To make a list of phenomena unexplained by orthodox economics, just open the business pages of a newspaper. In any case, while it might have been reasonable at the time to expect some degree of self-criticism in the economics profession, and some increase in openness to alternatives, seven years later it is clear that there has not been. With a handful of exceptions – Naryana Kocherlakota is probably the most prominent in the US – mainstream economists have not revised their views in the light of the crisis; even those who were initially inclined to soul-searching have mostly decided that they were right all along. The case for heterodoxy must be made on other grounds.

Links for July 20, 2016

The responsibilities of heterodoxy. Arjun Jayadev and I have an ongoing project of interviewing dissenting economists who we think deserve wider recognition. Our first interview was with Axel Leijonhufvud; the second, just now up at the INET site, is with our old professor Jim Crotty. Jim’s ECO 710 was for us, as for hundreds of UMass grad students over the past 30 years, the starting point for systematically thinking about the economy as a whole. (You could think of him as sort of the Earth-II version of Rudi Dornbusch.) You can read more of my thoughts about him at the link.

Here’s an interesting clip that didn’t make it into the INET version:

The radicalism — and coherence — of Keynes larger political-economic program is a topic I’d like to return to in the future, as is the importance of an organic relationship to some broader social movement or political project. For heterodox economists, I think even more than for other academics, it’s impossible to even do good scholarship if your relationship to your object of study is only as a scholar. Science, as Max Weber says, “presupposes that what is yielded by scientific work is important in the sense that it is ‘worth being known.’ … This presupposition cannot be proved by scientific means.”

The problem with heterodoxy. The post here about the non-existence of mainstream economics is now up at Evonomics, in a somewhat improved form. While we’re on that topic, I will let loose with a peeve. Joan Robinson is like a god to me — in an anthropological sense she might even literally be a divinity for my tribe. But I hate that often-quoted line that the only reason to study economics is “to avoid being fooled by economists.” It reinforces the worst habit of heterodox people: putting negative critique above positive efforts to understand the world.

Articles to read. Three recent articles that really deserve posts of their own:

Thomas Palley on negative interest rates (he’s against them).

Jerry Epstein on the costs of big finance.

Cédric Durand and Maxime Gueuder on the weakening link between profits and corporate investment. I’ve been planning to write something on exactly this; clearly it will have to respond to this paper.

Interest rates and trade imbalances. Izabella Kaminska has a very interesting post up at FT Alphaville. (Does she write any other kind?) This one brings out two important points. First, to the extent that low interest rates mainly lead to bringing forward future spending — this is probably especially true in housing — they are good tools for dealing with temporary downturns but not for secular shortfalls. (Kaminska doesn’t say so, but this is one reason the “natural rate” concept is misleading.) Second, the macroeconomic significance of trade imbalances depends on what happens to the corresponding financial flows — and this isn’t automatic. Continuous British surpluses in the gold standard era were compatible with steady growth of the world economy because they financed investment — in railroads especially — in the peripheral countries, using British capital goods. The general lesson is:

If countries want to carry international surpluses indefinitely the suggestion here is they need also to reinvest those “savings” into capacity expanding investments abroad.

Also in FT Alphaville, here’s a nice post by Matthew Klein on a question that should be obvious, but is seldom asked: If large current account deficits are dangerous, then what exactly is the purpose of allowing free flows of portfolio investment across borders? From the point of view of the receiving country, the only benefit of portfolio inflows is that it lets them finance current account deficits. If that’s not desirable, why allow them? Klein doesn’t give the clear negative answer that I would, but it’s the right question to be asking.

Evicted. At Dissent, my Roosevelt colleague Mike Konczal has an excellent review of two new books on eviction and foreclosure. It’s an important topic, and Evicted looks like an important book. I had some debates about it on twitter that clarified a question that doesn’t quite come out in the review itself. Are housing costs so high for more people because of market and regulatory failures that allow landlords to exploit poor tenants? Or is the cost of providing adequate housing simply greater than poor families can pay? The first points toward tenants organizing and better regulation of rental housing, the latter toward direct or indirect subsidies or direct public provision of housing.

Also from Mike, a review of two recent books about the appropriate role of the state.

Rising health costs in Europe. Via Adam Gaffney, here’s an interesting article on rising household payments for heatlh care in Europe, even in countries that are notionally single payer. Adam’s summary:

It supports the hypothesis—put forward by many—that there has been a *partial* retreat from universal health care in Europe (especially if we define universal health care as free care at point of use for all). The main findings are as follows:

-The odds of having any out-of-pocket expenditures on health care in the previous 12 months (among 11 European nations) were 2.6 fold higher in 2013 than in 2006-2007;

-Overall out of pocket payments for health care increased 43.6% (inflation adjusted) between 2006-2007 and 2013;

-The proportion of individuals with catastrophic health care expenditures rose, particularly in Spain and Italy, which have been particularly hard-struck by austerity.

My take: We need to stop thinking about universal health care as an end goal or terminus: its actually a work in progress, and neoliberal health policy ideology has already done a number on it in Europe.

The poor stay poor. My old UMass comrade Mike Carr has a new article on income mobility, coauthored with Emily Wiemers. There’s a nice writeup of it in The Atlantic.

The right vs the rentiers? I was interested to learn that one of Theresa May’s declared priorities as Prime Minister is reforming corporate governance, including requiring worker representatives on boards. I have no idea if anything will come of it, but it’s interesting to see ideas that would be well to the left of the mainstream here adopted at least rhetorically by a conservative government in the UK. Was also interesting, in the coverage, to see some acknowledgement of the importance of cogovernance and works councils in Germany. Obviously export surpluses should not be taken as the measure of economic success in any broader sense, but it’s still worth pointing out that Europe’s biggest exporter is one of its least liberal economies.

Also in Theresa May news, doesn’t it seem like if Article 50 can’t be invoked without Scotland’s ok, that means Brexit isn’t happening? Which I think was the safe bet all along. Because if what scares you is that the “burghers of middle England” can “with a single vote destroy trillions of dollars of value,” then you can probably relax. The trillions will win the next round.

Aggregate Demand and Modern Macro

Start with a point on language.

People often talk about aggregate demand as if it were a quantity. But this is not exactly right. There’s no number or set of numbers in the national accounts labeled “aggregate demand”. Rather, aggregate demand is a way of interpreting the numbers in the national accounts. (Admittedly, it’s the way of interpreting them that guided their creation in the first place). It’s a statement about a relationship between economic quantities. Specifically, it’s a statement that we should think about current income and current expenditure as mutually determining each other.

This way of thinking is logically incompatible with the way macroeconomics is taught in (almost) all graduate programs today, which is in terms of optimization under an intertemporal budget constraint. I’ll avoid semi-pejorative terms like mainstream and neoclassical, and instead follow Robert Gordon and call this approach modern macro.

In the Keynesian income-expenditure vision — which today survives only, as Leijonhufvud put it, “in the Hades of undergraduate instruction” — we think of economic actors as making decisions about current spending in terms of current receipts. If I earn $X, I will spend $Y; if I earn one dollar more, I’ll spend so many additional cents. We can add detail by breaking these income and expenditure flows in various ways — income from dividends vs. incomes from wages, income to someone at the top decile vs someone at the bottom, income to urban households vs income to rural ones; and expenditures on services, durable goods, taxes, etc., which generate income in their turn. This is the way macro forecasting models used by business and government were traditionally constructed, and may still be for all I know.

Again, these are relationships; they tell us that for any given level of aggregate money income, there is a corresponding level of aggregate expenditure. The level of income that is actually realized, is the one for which desired expenditure just equals income. And if someone for whatever reason adjusts their desired level of expenditure at that income, the realized level of income will change in the same direction, by a greater or lesser extent. (This is the multiplier.)

I should stress that while this way of thinking may imply or suggest concrete predictions, these are not themselves empirical claims, but logical relationships.

The intertemporal optimization approach followed in modern macro is based on a different set of logical relationships. In this framework, agents know their endowments and tastes (and everyone else’s, though usually in these models agents are assumed to be identical) and the available production technology in all future periods. So they know all possible mixes of consumption and leisure available to them over the entire future and the utility each provides. Based on this knowledge they pick, for all periods simultaneously (“on the 8th day of creation” — that’s Leijonhufvud again) the optimal path of labor, output and consumption.

I realize that to non-economists this looks very strange. I want to stress, I’m not giving a dismissive or hostile summary. To anyone who’s done economics graduate work in the last 15 or 20 years (a few heterodox enclaves excepted) constructing models like this is just what “doing macroeconomics” means.

(For a concrete example, a first-year grad textbook offers as one of its first exercises in thinking like an economist the question of why countries often run current account deficits in wartime. The answer is entirely in terms of why countries would choose to allocate a greater share of consumption to periods when there is war, and how interest rates adjust to make this happen. The possibility that war leads to higher incomes and expenditure, some of which inevitably falls on imported goods — the natural answer in the income-expenditure framework — is not even mentioned. Incidentally, as this example suggests, thinking in terms of intertemporal allocation is not always necessarily wrong.)

In these models, there is no special relationship between income and expenditure flows just because they happen to take place at the same time or in any particular order. The choice between jam today and jam tomorrow is no different from the choice between blackberry and lingonberry jam, and the checks you get from your current job and from the job you’ll hold ten years from now are no more different than the checks from two different jobs that you hold right now are. Over one year or 50, the problem is simply the best allocation of your total income over your possible consumption baskets — subject, of course, to various constraints which may make the optimal allocation unachievable.

My point here is not that modern models are unrealistic. I am perfectly happy to stipulate that the realism of assumptions doesn’t matter. Models are tools for logical analysis, not toy train sets — they don’t have to look like real economies to be useful.

(Although I do have to point out that modern macroeconomics models are often defended precisely on the grounds of microfoundations — i.e. more realistic assumptions. But it is simply not true that modern models are more “microfounded” than income-expenditure ones in any normal English sense. Microfoundations does not mean, as you might imagine, that a model has an explicit story about the individual agents in the economy and how they make choices — the old Keynesian models do at least as well as the modern ones by that standard. Rather, microfoundations means that the agents’ choices consist of optimizing some quantity under true — i.e. model consistent — expectations.)

But again, I come not to bury or dispraise modern models. My point is just that they are logically incompatible with the concept of aggregate demand. It’s not that modern macroeconomists believe that aggregate demand is unimportant, it’s that within their framework those words don’t mean anything. Carefully written macro papers don’t even footnote it as a minor factor that can be ignored. Even something anodyne like “demand might also play a role” would come across like the guy in that comic who asks the engineers if they’ve “considered logarithms” to help with cooling.

The atomic units of one vision are flows — that is, money per time period — between economic units. The atomic units of the other are prices and quantities of different goods. Any particular empirical question can be addressed within either vision. But they generate very different intuitions, and ideas of what questions are most important.

Still, it is true that the same concrete phenomena can be described in either language. The IS curve is the obvious example. In the Hades of the undergraduate classroom we get the old Keynesian story of changes in interest rate changing desired aggregate expenditure at each given income. While in the sunlit Arcadia of graduate classes, the same relationship between interest rates and current expenditure is derived explicitly from intertemporal optimization.

So what’s the problem, you say. If either language can be used to describe the same phenomena, why not use the same language as the vast majority of other economists?

This is a serious question, and those of us who want to do macro without DSGE models need a real answer for it. My answer is that default assumptions matter. Yes, with the right tweaks the two models can be brought to a middle ground, with roughly the same mix of effects from the current state and expected future states of the world. But even if you can get agreement on certain concrete predictions, you won’t agree on what parts of them depend on the hard core of your theory and what on more or less ad hoc auxiliary assumptions. So Occam’s Razor will cut in opposite directions — a change that simplifies the story from one perspective, is adding complexity from the other.

For example, from the income-expenditure perspective, saying that future interest rates will have a similar effect on current activity as current interest rates do, is a strong additional assumption. Whereas from the modern perspective, it’s saying that they don’t have similar effects that is the additional assumption that needs to be explained. Or again, taking an example with concrete applications to teaching, the most natural way to think about interest rates and exchange rates in the income-expenditure vision is in terms of how the the flow of foreign investment responds to interest rates differentials. Whereas in the modern perspective — which is now infiltrating even the underworld — the most natural way is in terms of rational agents’ optimal asset mix, taking into account the true expected values of future exchange rates and interest rates.

Or, what got me thinking about this in the first place. I’ve been reading a lot of empirical work on credit constraints and business investment in the Great Recession — I might do a post on it in the next week or so, though an academic style literature review seems a bit dull even for this blog — and three things have become clear.

First, the commitment to intertemporal optimization means that New Keynesians really need financial frictions. In a world where current output is an important factor in investment, where investment spending is linked to profit income, and where expectations are an independently adjusting variable, it’s no problem to have a slowdown in investment triggered by fall in demand in some other sector, by a fall in the profit share, or by beliefs about the future becoming more pessimistic. But in the modern consensus, the optimal capital stock is determined by the fundamental parameters of the model and known to all agents, so you need a more or less permanent fall in the return on investment, due presumably to some negative technological shock or bad government policy. Liberal economists hate this stuff, but in an important sense it’s just a logical application of the models they all teach. If in all your graduate classes you talk about investment and growth in terms of the technologically-determined marginal product of capital, you can hardly blame people when, faced with a slowdown in investment and growth, they figure that’s the first place to look. The alternative is some constraint that prevents firms from moving toward their desired capital stock, which really has to be a financial friction of some kind. For the older Keynesian perspective credit constraints are one possible reason among others for a non-supply-side determined fall in investment; for the modern perspective they’re the only game in town.

Second, the persistence of slumps is a problem for them in a way that it’s not in the income-expenditure approach. Like the previous point, this follows from the fundamental fact that in the modern approach, while there can be constraints that prevent desired expenditure from being achieved, there’s never causation from actual expenditure to desired expenditure. Businesses know, based on fundamentals, their optimal capital stock, and choose an investment path that gets them there while minimizing adjustment costs. Similarly, households know their lifetime income and utility-maximizing consumption path. Credit constraints may hold down investment or consumption in one period, but once they’re relaxed, desired expenditure will be as high or higher than before. So you need persistent constraints to explain persistently depressed spending. Whereas in the income-expenditure model there is no puzzle. Depressed investment in one period directly reduces investment demand in the next period, both by reducing capacity utilization and by reducing the flow of profit income. If your core vision of the economy is a market, optimizing the allocation of scare resources, then if that optimal allocation isn’t being achieved there must be some ongoing obstacle to trade. Whereas if you think of the economy in terms of income and expenditure flows, it seems perfectly natural that an interruption to some flow will will disrupt the pattern, and once the obstacle is removed the pattern will return to its only form only slowly if at all.

And third: Only conservative economists acknowledge this theoretical divide. You can find John Cochrane writing very clearly about alternative perspectives in macro. But saltwater economists — and the best ones are often the worst in this respect — are scrupulously atheoretical. I suspect this is because they know that if they wanted to describe their material in a more general way, they’d have to use the language of intertemporal optimization, and they are smart enough to know what a tar baby that is. So they become pure empiricists.

In Leon Fink’s wonderful history of the New York health care workers’ union 1199, Upheaval in the Quiet Zone, he talks about how the union’s early leaders and activists were disproportionately drawn from Communist Party members and sympathizers, and other leftists. Like other communist-led unions, 1199 was kicked out of the CIO in the 1940s, but unlike most of the others, it didn’t fade into obscurity. Originally a drugstore-employees union, it led the new wave of organizing of health care and public employees in the 1960s. Fink attributes a large part of its unusual commitment to organizing non-white and female workers, in an explicitly civil-rights framework, and its unusual lack of corruption and venality, to the continued solidarity of the generation of the 1930s. Their shared political commitments were a powerful source of coordination and discipline. But, says Fink, it was impossible for them to pass these commitments on to the next generation. Yes, in 1199, unlike most other unions, individual leftists were not purged; but there was still no organized left, either within the union or in connection to a broader movement. So there was no way for the first generation to reproduce themselves, and as they retired 1199 became exposed to the same pressures that produced conservative, self-serving leadership in so many other unions.

I feel there’s something similar going on in economics. There are plenty of people at mainstream departments with a basically Keynesian vision of the economy. But they write and, especially, teach in a language that is basically alien to that vision. They’re not reproducing the capacity for their own thought. They’re running a kind of intellectual extractive industry, mining older traditions for insights but doing nothing to maintain them.

I had this conversation with a friend at a top department the other day:

me: http://noahpinionblog.blogspot.com/2013/03/the-swamp-of-dsge-despair.html

what do you think? is this kind of critique valid/useful?

11:17 AM him: its totally true

11:18 AM and you wouldn’t know what was getting baked into the cake unless you were trained in the literature

I only started understanding the New Keynsian models a little while ago

and just had the lazy “they are too complicated” criticism

11:19 AM now I understand that they are stupidly too complicated (as Noah’s post points out)

11:20 AM me: so what is one supposed to do?

if this is the state of macro

him: i dunno. I think participating in this literature is a fucking horror show

me: but you don’t like heterodox people either, so….?

11:21 AM him: maybe become a historian

or figure out some simple variant of the DSGEmodels that you can make your point and publish empirical stuff

This is where so many smart people I know end up. You have to use mainstream models — you can’t move the profession or help shape policy (or get a good job) otherwise. But on many questions, using those models means, at best, contorting your argument into a forced and unnatural framework, with arbitrary-seeming assumptions doing a lot of the work; at worst it means wading head-deep into an intellectual swamp. So you do some mix of what my friend suggests here: find a version of the modern framework that is loose enough to cram your ideas into without too much buckling; or give up on telling a coherent story about the world and become a pure empiricist. (Or give up on economics.) But either way, your insights about the world have to come from somewhere else. And that’s the problem, because insight isn’t cheap. The line I hear so often — let’s master mainstream methods so we can better promote our ideas — assumes you’ve already got all your ideas, so the only work left is publicity.

If we want to take questions of aggregate demand and everything that goes with it — booms, crises, slumps — seriously, then we need a theoretical framework in which those questions arise naturally.

[*] Keynes’ original term was “effective demand.” The two are interchangeable today. But it’s interesting to read the original passages in the GT. While they are confusingly written, there’s no question that Keynes’ meant “effective” in the sense of “being in effect.” That is, of many possible levels of demand possible in an economy, which do we actually see? This is different from the way the term is usually understood, as “having effect,” that is, backed with money. Demand backed with money is, of course, simply demand.

UPDATE: The Cochrane post linked above is really good, very worth reading. It gives more of the specific flavor of these models than I do. He writes: In Old Keynesian models,

consumption depends on today’s income through the “marginal propensity to consume” mpc.

Modern new-Keynesian models are utterly different from this traditional view. Lots of people, especially in policy, commentary, and blogging circles, like to wave their hands over the equations of new Keynesian models and claim they provide formal cover for traditional old-Keynesian intuition, with all the optimization, budget constraints, and market clearing conditions that the old-Keynesian analysis never really got right taken care of. A quick look at our equations and the underlying logic shows that this is absolutely not the case.

Consider how lowering interest rates is supposed to help. In the old Keynesian model, investment I = I(r) responds to lower interest rates, output and income Y = C + I + G, so rising investment raises income, which raises consumption in (4), which raises income some more, and so on. By contrast, the simple new-Keynesian model needs no investment, and interest rates simply rearrange consumption demand over time.

Similarly, consider how raising government spending is supposed to help. In the old Keynesian model, raising G in Y = C + I + G raises Y, which raises consumption C by (4), which raises Y some more, and so on. In the new-Keynesian model, the big multiplier comes because raising government spending raises inflation, which lowers interest rates, and once again brings consumption forward in time.

Note, for example, that in a standard New Keynesian model, expected future interest rates enter into current consumption exactly as the present interest rate does. This will obviously shape people’s intuitions about things like the effectiveness of forward guidance by the Fed.

UPDATE 2: As usual, this blog is just an updated, but otherwise much inferior, version of What Leijonhufvud Said. From his 2006 essay The Uses of the Past:

We should expect to find an ahistorical attitude among a group of scientists busily soling puzzles within an agreed-upon paradigm… Preoccupation with the past is then a diversion or a luxury. When things are going well it is full steam ahead! …. As long as “normal” progress continues to be made in the established directions, there is no need to reexamine the past…

Things begin to look different if and when the workable vein runs out or, to change the metaphor, when the road that took you to the “frontier of the field” ends in a swamp or in a blind alley. A lot of them do. Our fads run out and we get stuck. Reactions to finding yourself in a cul-de-sac differ. Tenured professors might be content to accommodate themselves to it, spend their time tidying up the place, putting in modern conveniences… Braver souls will want out and see a tremendous leap of the creative imagination as the only way out — a prescription, however, that will leave ordinary mortals just climbing the walls. Another way to go is to backtrack. Back there, in the past, there were forks in the road and it is possible, even probable, that some roads were more promising than the one that looked most promising at the time…

This is exactly the spirit in which I’m trying to rehabilitate postwar income-expenditure Keynesianism. The whole essay is very worth reading, if you’re interest at all in the history of economic thought.

The Case of Keen

(Warning: To anyone reading this who’s not immersed in the debates of the econo blogosphere, this post will fully live up the blog’s subtitle.)

One of the big things this past week was Krugman’s criticism of Steve Keen. This was a Big Deal, since it is, sadly, rare for someone of Krugman’s stature to engage with anyone in the heterodox world. Unfortunately it wasn’t a productive exchange; no real information was exchanged, and neither side, IMveryHO, covered themselves in glory. For anyone interested in what’s wrong with Krugman’s side, there’s a good discussion in the comments to this Nick Rowe post. Here I am going to focus on Keen.

Keen’s most recent paper is here; it gives the clearest statement of his view that I’ve seen. As I see it, there are two parts to it. First, he argues that a tradition running from Minsky back to Keynes and Schumpeter (and, I would add, Wicksell and on back to the “caps” in 17th century Sweden) sees money as endogenously created by the banking system, rather than exogenously set by central banks (or, earlier, by the supply of gold). This means that banks can lend to borrowers without a prior decision by anyone to save, which in turn means that changes in the terms on which banks extend credit are an important source of fluctuations in aggregate demand that drive movements in output and prices. With all this, I am in perfect agreement.

But then he tries to formalize these ideas. And about the best thing you can say about his formalization is that it uses terms in such an idiosyncratic way that communication is all but impossible. I know I’m not the only one who’s found Keen’s stuff a bit like the novel Untitled in Martin Amis’ The Information, which literally cannot be read. But let’s make an attempt. Here are what seem to be the two key elements.

Keen repeatedly says that “aggregate demand is income plus change in debt.” There are many variations on this through his writing, he evidently regards it as a central contribution. But what does it mean? To a non-economist, it appears to be a challenge to another, presumably orthodox, view that aggregate demand is equal to income. But if you are an economist you know that there is no such view, whether neoclassical, Keynesian or radical.

What economist do believe, across the spectrum, is that total expenditure = total output = total income, or Y = Z = C + I + G + X – M. Given the way our national accounts are set up, this is an identity. The question, as always, is which way causality runs. The term “aggregate demand” is shorthand for the argument that causality runs from aggregate expenditure to aggregate income, whereas pre-Keynesian orthodoxy held that causality ran strictly from income to expenditure. (It’s worth noting that in this debate Krugman is solidly with Keen — and me — on the Keynesian side.) But there isn’t any separate variable called “aggregate demand”; AD is just another name for aggregate expenditure insofar as it determines output. Nobody ever says that AD is equal to income; what they typically say is that AD is a function of income, along with other variables such as interest rates, wealth, and changes in sentiment. (People do say that income is equal to AD, but that is a very different claim, and it’s true by definition.)

I can imagine various more or less sensible things Keen might have meant by the statement, but it feels kind of silly to speculate. As written it makes no sense at all.

The second formalism is Keen’s equation, which he gives the jawbreaker of a name “the Walras-Schumpeter-Minsky’s Law”:

Y(t) + dD/dt = GDP(t) + NAT(t).

Y is income, D is debt, and NAT is net asset turnover. This last is defined as “the price index for assets P, times their quantity Q, times the annual turnover T expressed as a fraction of the number of assets, T<1: NAT = P*Q*T.”

And now we really run into problems.

First of all, is this an accounting identity, or a behavioral equation? Does it hold exactly by definition, or does it describe an empirical regularity that holds only approximately? This is the most basic thing you need to know about any equation in economics, but Keen, as far as I can tell, doesn’t say.

Second, in the national accounts and every economic tradition that I’m aware of, aggregate income Y is identically equal to GDP. They’re just two ways of representing the same quantity. So it seems that Keen is using “income” in some idiosyncratic way that he never specifies. Alternatively, and more in the spirit of Minsky and Schumpeter, perhaps he is thinking of Y as anticipated or current-period income, and GDP as realized or next-period income. But again, it’s not much use to speculate about what Keen might have meant.

The next problem is units. GDP and presumably Y are flows over a specified period (a year or a quarter); they are in units of dollars. dD/dt is an instantaneous rate of flow; it is in units of dollars per unit time. And NAT, as defined, is the product of two indexes times a fraction, so it is a dimensionless number. Well, you can’t add variables with different units. That is just algebra. So again, whatever Keen has in mind, it is something other than what he wrote. And while it’s easy enough to replace dD/dt with delta-D over the period that GDP is being measured, I really have no idea what to do with the NAT term.[1]

It doesn’t help that at no point in the paper — or in any of his other stuff that I’ve seen — does he give any values for Y or NAT. He has lots of graphs of debt, output, employment, etc., showing — to the surprise of no one — that these cyclical variables are correlated. But since Y and NAT don’t figure in any of them, it’s not clear what work the Walras-Schumpeter-Minsky’s Law is supposed to be doing. Again, if his point is that endogenous changes in credit supply are important to business cycles, I’m with him 100%. (Though so are, it’s worth noting, some perfectly orthodox New Keynesians.) But if your idea is just that there is some important connection between A and B and C, the equation A = B + C is not a good way of saying it.

Honestly, it sometimes feels as though Steve Keen read a bunch of Minsky and Schumpeter and realized that the pace of credit creation plays a big part in the evolution of GDP. So he decided to theorize that relationship by writing, credit squiggly GDP. And when you try to find out what exactly is meant by squiggly, what you get are speeches about how orthodox economics ignores the role of the banking system.

Keen is taken seriously by serious people. He’s presenting this paper at the big INET conference in Berlin next week. It’s not OK that he writes in a way that makes it impossible to understand or evaluate his ideas. For better or worse, we in the world of unconventional economics cannot rely on the usual professional gatekeepers. So we have a special duty to police each other’s work, not of course for ideology, but for meeting basic standards of logic and evidence. There are very important arguments in Schumpeter, Minsky, etc. about the role of the financial system in capitalism, which mainstream economics has downplayed, just as Keen says. And he may well have something important to add to those arguments. But until he writes in a language spoken by people other than himself, there’s no way to know.

[1] Not to mention the odd stipulation that T < 0. Why is it impossible for the average turnover time of assets to be less than a year? Or does he really mean the fraction of assets that change hands at least once? What possible economic meaning could that have?

EDIT: I’m a bit unhappy about this post. It’s too harsh on Keen. As Steve Randy Waldman suggests in comments, there probably is a valid insight in there, if one can just get past his opaque terminology. (Altho that’s all the more reason for him to stop speaking in idiolect…) More importantly, posting this critique of Keen makes it seem like I am on Krugman’s side, when his contributions to the debate have been every bit as bad in their own way — as lucid as Keen is impenetrable, but also just embarassingly wrong, at least form where I’m sitting. This post by ~~Michael Stephens~~ Randy Wray at the Levy Institute blog does a good job laying out the issues. I agree with everything he says, I think.

EDIT 2:… and now here’s Keen saying that

Krugman’s part of the economic establishment, which for thirty or forty years has got away with arguing that you can model a capitalist economy as if it had no banks in it, no money, and no debt… You just don’t have a model of capitalism if you don’t include those components.

I’m also unhappy with that. Krugman (and New Keynesians/monetarists in general) are very specifically modeling an economy with money, but without banks. I agree with Keen that you do need to think about the financial system to understand macro dynamics, but you can’t make the case for that if you can’t correctly describe the position you are arguing against. I don’t think we will make intellectual progress without being more careful about this stuff.

Krugman: Irish Monk or Norse Raider?

Paul Krugman is fond of describing the current state of macroeconomics as a dark age — starting around 1980, the past 50 years’ progress in economics was forgotten. True that. If we want to tell a coherent story about the operation of modern capitalist economies, we could do a lot worse than start with the mainstream macro of 1978.

Thing is, as Steve Keen among others has pointed out, liberal New Keynesians like Krugman are every bit as responsible for that Dark Age as their rivals at Chicago and Minnesota. Case in point: His widely-cited 1989 paper on Income Elasticities and Real Exchange Rates. The starting point of the paper is that floating exchange rates have not, in general, adjusted to balance trade flows. Instead, relative growth rates have roughly matched the growth in relative demand for exports, so that trade flows have remained roughly balanced without systematic currency appreciation in surplus countries or depreciation in deficit countries. Krugman:

The empirical regularity is that the apparent income elasticities of demand for a country’s imports and exports are systematically related to the country’s long-term rate of growth. Fast-growing countries seem to face a high income elasticity of demand for their exports, while having a low income elasticity of demand for imports. The converse is true of slow-growing countries. This difference in income elasticities is, it turns out, just about sufficient to make trend changes in real exchange rates unnecessary.

The obvious explanation of this regularity, going back at least to 1933 and Roy Harrod’s International Economics, is that many countries face balance-of-payments constraints, so their growth is limited by their export earnings. Faster growth draws in more imports, forcing the authorities to increase interest rates or take other steps that reduce growth back under the constraint. There are plenty of clear historical examples of this dynamic, for both poor and industrialized countries. The British economy between the 1940s and the 1980s, for instance, repeatedly experienced episodes of start-stop growth as Keynesian stimulus ran up against balance of payments constraints. Krugman, though, is having none of it:

I am simply going to dismiss a priori the argument that income elasticities determine economic growth… It just seems fundamentally implausible that over stretches of decades balance of payments problems could be preventing long term growth… Furthermore, we all know that differences in growth rates among countries are primarily determined in the rate of growth of total factor productivity, not differences in the rate of growth of employment; it is hard to see what channel links balance of payments due to unfavorable income elasticities to total factor productivity growth. Thus we are driven to a supply-side explanation…

Lucas or Sargent couldn’t have said it better!

Of course there is a vast literature on balance of payments constraints within structuralist and Post Keynesian economics, exploring when external constraints do and do not bind (see for instance here and here), and what channels might link demand conditions to productivity growth. [1] Indeed, Keynes himself thought that avoiding balance-of-payments constraints on growth was the most important goal in the design of a postwar international financial order. But Krugman doesn’t cite any of this literature. [2] Instead, he comes up with a highly artificial model of product differentiation in which every country consumes an identical basket of goods, which always includes goods from different countries in proportion to their productive capacities. In this model, measured income elasticities actually reflect changes in supply. But the model has no relation to actual trade patterns, as Krugman more or less admits. Widespread balance of payments constraints, the explanation he rejects “a priori,” is far more parsimonious and realistic.

But I’m not writing this post just to mock one bad article that Krugman wrote 20 years ago. (Well, maybe a little.) Rather, I want to make two points.

First, this piece exhibits all the pathologies that Krugman attributes to freshwater macroeconomists — the privileging of theoretical priors over historical evidence; the exclusive use of deductive reasoning; the insistence on supply-side explanations, however implausible, over demand-side ones; and the scrupulous ignorance of alternative approaches. Someone who at the pinnacle of his career was writing like this needs to take some responsibility for the current state of macroeconomics. As far as I know, Krugman never has.

Second, there’s a real cost to this sort of thing. I constantly have these debates with friends closer to the economics mainstream, about why one should define oneself as “heterodox”. Wouldn’t it be better to do like Krugman, clamber as far up the professional ladder as you can, and then use that perch to sound the alarm? But the work you do doesn’t just affect your own career. Every time you write an article, like this one, embracing the conventional general-equilibrium vision and dismissing the Keynesian (or other) alternatives, you’re sending a signal to your colleagues and students about what kind of economics you think is worth doing. You’re inserting yourself into some conversations and cutting yourself off from others. Sure, if you’re Clark medal-winning Nobelist NYT columnist Paul Krugman, you can turn around and reintroduce Keynesian dynamics in some ad hoc way whenever you want. But if you’ve spent the past two decade denigrating and dismissing more systematic attempts to develop such models, you shouldn’t complain when you find you have no one to talk to. Or as a friend says, “If you kick out Joan Robinson and let Casey Mulligan in the room, don’t be surprised if you spend all your time trying to explain why the unemployed aren’t on vacation.”

[1] “In practice there are many channels linking slow growth imposed by a balance of payments constraint to low productivity, and the opposite, where the possibility of fast output growth unhindered by balance-of-payments problems leads to fast productivity growth. There is a rich literature on export-led growth models (including the Hicks supermultiplier), incorporating the notion of circular and cumulative causation (Myrdal 1957) working through induced investment, embodied technical progress, learning by doing, scale economies, etc. (Dixon and Thirlwall, 1975) that will produce fast productivity growth in countries where exports and output are growing fast. The evidence testing Verdoorn’s Law shows a strong feedback from output growth to productivity growth.”

[2] Who was it who talked about “the phenomenon of well-known economists ‘rediscovering’ [various supply-side stories], not because they’ve transcended the Keynesian refutation of these views, but because they were unaware that there had ever been such a debate”?

More Anti-Krugmanism

[Some days it feels like that could be the title for about 40 percent of the posts on here.]

Steve Keen takes up the cudgels. (Via.)

There is a pattern to neoclassical attempts to increase the realism of their models… The author takes the core model – which cannot generate the real world phenomenon under discussion – and then adds some twist to the basic assumptions which, hey presto, generate the phenomenon in some highly stylised way. The mathematics (or geometry) of the twist is explicated, policy conclusions (if any) are then drawn, and the paper ends.

The flaw with this game is the very starting point, and since Minsky put it best, I’ll use his words to explain it: “Can ‘It’ – a Great Depression – happen again? And if ‘It’ can happen, why didn’t ‘It’ occur in the years since World War II? … To answer these questions it is necessary to have an economic theory which makes great depressions one of the possible states in which our type of capitalist economy can find itself.”

The flaw in the neoclassical game is that it never achieves Minsky’s final objective, because the “twists” that the author adds to the basic assumptions of the neoclassical model are never incorporated into its core. The basic theory therefore remains one in which the key phenomenon under investigation … cannot happen. The core theory remains unaltered – rather like a dog that learns how to walk on its hind legs, but which then reverts to four legged locomotion when the performance is over.

Right.

Any theory is an abstraction of the real world, but the question is which features of the world you can abstract from, and which, for the purposes of theory, are fundamental. Today’s consensus macroeconomics [1] treats intertemporal maximization of a utility function (with consumption and labor as the only arguments) under given endowments and production functions, and unique, stable market-clearing equilibria as the essential features that any acceptable theory has to start from. It treats firms (profit-maximizing or otherwise), money, credit, uncertainty, the existence of classes, and technological change as non-essential features that need to be derived from intertemporal maximization by households, can be safely ignored, or at best added in an ad hoc way. And change is treated in terms of comparative statics rather than dynamic processes or historical evolution.

Now people will say, But can’t you make the arguments you want to within standard techniques? And in that case, shouldn’t you? Even if it’s not strictly necessary, isn’t it wise to show your story is compatible with the consensus approach, since that way you’ll be more likely to convince other economists, have more political influence, etc.?

If you’re a super smart micro guy (as are the two friends I’ve recently had this conversation with) then there’s probably a lot of truth to this. The type of work you do if you genuinely want to understand a labor market question, say, and the type of work you do if you want to win an argument within the economics profession about labor markets, may not be exactly the same, but they’re reasonably compatible. Maybe the main difference is that you need fancier econometrics to convince economists than to learn about the world?

But if you’re doing macroeconomics, the concessions you have to make to make your arguments acceptable are more costly. When you try to force Minsky into a DSGE box, as Krugman does; or when half of your paper on real exchange rates is taken up with models of utility maximization by households; then you’re not just wasting an enormous amount of time and brainpower. You’re arguing against everyone else trying top do realistic work on other questions, including yourself on other occasions. And you’re ensuring that your arguments will have a one-off, ad hoc quality, instead of being developed in a systematic way.

(Not to mention that the consensus view isn’t even coherent on its own terms. Microfoundations are a fraud, since the representative household can’t be derived from a more general model of utility maximizing agents; and it seems clear that intertemporal maximization and comparative statics are logically incompatible.)

If we want to get here, we shouldn’t start from there. We need an economics whose starting points are production for profit by firms employing wage labor, under uncertainty, in a monetary economy, that evolves in historical terms. That’s what Marx, Keynes and Schumpeter in their different ways were all doing. They, and their students, have given us a lot to build on. But to do so, we [2] have to give up on trying to incorporate their insights piecemeal into the consensus framework, and cultivate a separate space to develop a different kind of economics, one that starts from premises corresponding to the fundamental features of modern capitalist economies.

[1] I’ve decided to stop using “mainstream” in favor of “consensus”, largely because the latter term is used by people to describe themselves.

[2] By “we,” again, I mean heterodox macroeconomists specifically. I’m not sure how much other economists face the same sharp tradeoff between winning particular debates within the economics profession and building an economics that gives us genuine, useful knowledge about the world.

Why Do We Need Heterodox Economics Departments?

A comrade writes:

Economics is too important to leave it to the mainstream. Economic ideas and economists are very powerful at shaping and influencing the societies in which we live. We, heterodox economists, are a minority and we need our voice be heard. I’m afraid that the radicalism of “I don’t care the mainstream, I do my own thing” is the most conservative strategy. It leaves us as college professors teaching mainstream stuff with a heterodox twist but without any significant influence in the real world. Please, don’t take this wrong. I respect and admire those who like teaching at colleges as a way of life. I’m just saying that as a collective output is a suicide. Our battle is at research universities, central banks, finance ministries, international institutions and think tanks, where the presence of mainstream economist is overwhelming. We need to challenge and persuade them and for that we need to know their theories and methods.

I disagree.

Of course we don”t want to be cloistered. But there are many possible channels by which our work can reach public policy, social movements and the larger world. Shifting the mainstream of economics is only one possible channel and not, in my judgment, the strongest or most reliable one.

To take a personal example: I recently agreed to do some research work for a couple of state-level minimum-wage campaigns,giving them numbers on the distribution of workers who would be covered by the bills by industry and firm size and the profitability of the major low-wage sectors in those states. The people organizing the campaigns are now using those numbers for position papers, talking points for canvassing, op-eds, etc. I even went down to Maryland a couple weeks ago to testify before the legislature.

Of course you need some basic knowledge of econometrics and the relevant literature to do this kind of work. But do you need the kind of knowledge you’d need to be a cutting-edge labor economist? No, obviously not; I’m not a labor economist of any sort. And yet, I would argue, this kind of direct work with practical political campaigns/organizations is at least as likely — more likely, IMO — to produce concrete policy changes and to shift the public debate, than an effort to master the techniques of mainstream labor economics, publish sufficiently on the minimum wage to move the consensus of the profession, and then count on the “official” representatives of the profession to pass the message on to policymakers. Fundamentally, I don’t agree that our battle is at research universities, central banks, etc. Our jobs may be at those places. But our battle is with people engaged in practical political work and organizing. This isn’t (just) a moral stand; I think the implicit assumption that the consensus of the economics profession is first shaped by the quality of the arguments made on various sides, and then transmitted to politics, is not applicable to the real world. If you want to contribute to political change, you need to be part of a political project; winning debates within the economics profession doesn’t help. The recent history of macroeconomics shows that clearly, no?

There’s a second point. The idea that we should be orienting our training around learning to persuade the mainstream assumes that “we” already know what we want to persuade them of. But that’s not the case. On most of the big questions, we don’t have any consensus on what the right answers are, even if we’re confident they’re not what’s taught in most programs. And the project of developing an alternative economics is very different from the project of persuading people of an alternative economics. The second would require talking — and having the tools to talk — with others. But the first requires primarily talking among ourselves. And the first has to come first. Economics is hard! And Marxist, post-Keynesian, feminist, institutionalist economics is just as hard as mainstream economics. (Albeit in different ways — less math, more fieldwork & history.) Unless we — meaning we heterodox/radical economists — are systematically building on each others’ work, there will never be an alternative view to persuade the mainstream of. Which means there needs to be spaces for conversations within radical economics, where we can critique and develop our own approaches, and for getting the training necessary to take part in those conversations.

All of us tend to exaggerate our own intellectual autonomy. (It’s a legacy of the Enlightenment.) We think we’re rational beings, who know what we want and choose the best tools to get it. But , means and ends don’t always separate so cleanly. You say you want a prestigious position only in order to have a better platform from which to advance progressive ideas, but soon enough the means becomes the ends. (I’ve seen it happen!) There can’t be left ideas without a sociological left — without a group of people who feel some objective connection with each other, have shared experiences and interests, share a common identity. Because ideas will accomodate to the situation of the person who holds them. (Erst kommt das Fressen, dann die Moral.) We all think, no not me, but yes us too. If there aren’t at least a few settings in which specifically radical economics is professionally rewarded, we shouldn’t take it for granted that it will continue to exist.

Marx and the crisis: missing or just missed?

Over at Crooked Timber, John Quiggin suggests that Marxian analyses of the economic crisis have been MIA. So, for the record:
Chris Rude, The World Economic Crisis and the Federal Reserve’s Response to It: August 2007-December 2008Jim Crotty, Structural Causes of the Global Financial Crisis: A Critical Assessment of the ‘New Financial Architecture’David Kotz, The Financial and Economic Crisis of 2008: A Systemic Crisis of Neoliberal CapitalismErdogan Bakir and Al Campbell, The Bush Business Cycle Profit Rate: Support in a Theoretical Debate and Implications for the Future
Engelbert Stockhammer, The finance-dominated accumulation regime, income distribution and the present crisisCostas Lapavitsas, The Roots of the Global Financial Crisis and Financialised Capitalism: Crisis and Financial Expropriation
Gerard Duménil and Dominique Lévy, The Crisis of Neoliberalism and U.S. HegemonyAnwar Shaikh on Marx and the crisis (video)Rick Wolff, Economic Crisis from a Socialist Perspective
Robert Brenner, What Is Good for Goldman Sachs Is Good for America: The Origins of the Current CrisisJohn Bellamy Foster and Harry Magdoff, Financial Implosion and Stagnation: Back To The Real Economy