What ideas should be making their way forward (and aren't) in the context of the economic crisis?
"Credit bubble models of the business cycle" is my own term for discussions which can be found in the writings of Veblen (in particular The Theory of Business Enterprise, 1904) and Minsky (Stabilizing an Unstable Economy, 1986). Interestingly, Minsky doesn't mention Veblen at all in his book. A credit bubble model of the economic cycle would be totally consistent with Fisher's _debt deflation model of recession and depression. The flip side is the idea that debt inflation fuels the growth phase of the business cycle.
A credit bubble model of the economic cycle would be totally consistent with Fisher's _debt deflation
See also this comment of mine from May 2009, in response to Vladimir's question
So what's the alternative paradigm?
From the 1970's we have seen an updated version of the paradigm that reigned before Keynes wrote his tract. Monetarist macroeconomics has failed just as spectacularly as pre-Keynesian economics did. The question is whether it suffices to relearn Keynesianism or a totally new paradigm is necessary. I don't know the answer. At the risk of repeating myself I'll quote Krugman:The answer, I think, is that we're living in a Dark Age of macroeconomics. Remember, what defined the Dark Ages wasn't the fact that they were primitive -- the Bronze Age was primitive, too. What made the Dark Ages dark was the fact that so much knowledge had been lost, that so much known to the Greeks and Romans had been forgotten by the barbarian kingdoms that followed. And that's what seems to have happened to macroeconomics in much of the economics profession. The knowledge that S=I doesn't imply the Treasury view -- the general understanding that macroeconomics is more than supply and demand plus the quantity equation -- somehow got lost in much of the profession. I'm tempted to go on and say something about being overrun by barbarians in the grip of an obscurantist faith, but I guess I won't. Oh wait, I guess I just did.Just yesterday, he wroteI guess the point is that you can be a bad writer and a great economist. And I really am gravitating toward a Keynes-Fisher-Minsky view of macro, although of the three I'd much rather read Keynes."A Keynes-Fisher-Minsky view of macro" would involve, I guess: a focus on aggregate demand (with the attendant countercyclical fiscal policy), an understanding of debt deflation (requiring tighter control of credit at the policy level), and of the fact that bubbles are a systemic feature of unregulated markets (requiring regulation of capital flows). Oh, and throw out Monetarism.
The question is whether it suffices to relearn Keynesianism or a totally new paradigm is necessary. I don't know the answer. At the risk of repeating myself I'll quote Krugman:
The answer, I think, is that we're living in a Dark Age of macroeconomics. Remember, what defined the Dark Ages wasn't the fact that they were primitive -- the Bronze Age was primitive, too. What made the Dark Ages dark was the fact that so much knowledge had been lost, that so much known to the Greeks and Romans had been forgotten by the barbarian kingdoms that followed. And that's what seems to have happened to macroeconomics in much of the economics profession. The knowledge that S=I doesn't imply the Treasury view -- the general understanding that macroeconomics is more than supply and demand plus the quantity equation -- somehow got lost in much of the profession. I'm tempted to go on and say something about being overrun by barbarians in the grip of an obscurantist faith, but I guess I won't. Oh wait, I guess I just did.
And that's what seems to have happened to macroeconomics in much of the economics profession. The knowledge that S=I doesn't imply the Treasury view -- the general understanding that macroeconomics is more than supply and demand plus the quantity equation -- somehow got lost in much of the profession. I'm tempted to go on and say something about being overrun by barbarians in the grip of an obscurantist faith, but I guess I won't. Oh wait, I guess I just did.
I guess the point is that you can be a bad writer and a great economist. And I really am gravitating toward a Keynes-Fisher-Minsky view of macro, although of the three I'd much rather read Keynes.
I think the most serious program of development of Minsky's ideas is currently Steve Keen's (ARGeezer's diary). En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma
Hedge finance is where you can pay interest and principal on your debt from your earnings.
Speculative finance is where you can pay interes out of earnings but need to roll over your loans (borrowing to pay down the principal).
Ponzy finance is where you need to borrow even to pay the interest.
'Ponzi finance' here is not a term of abuse. Minsky says that not all Ponzi-financed enterprises are fraudulent (startups, venture capital, being possible examples off the top of my head). Also, banks are by definition speculative since they lend long and borrow short and need constant access to liquidity from the money markets to roll over their short-term debt.
This is all quantitative and precise, assuming you know the balance sheet and cash flow of an entity.
So, I think the answer to your question is probably yes. En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma
Example 1: Corporation A lays off 20% of its workforce because of the usual pressures. Profits and dividends increase. Are these profits real?
If this is part of a movement among a significant majority of corporations, is the 'growth' in indices and GDP real, or bubble-ish?
Example 2: Corporation B is part of a national movement to increase the perceived value of a scarce good or product. The physical reality and practical use value of the item - if any - remain unchanged. But various persuasive techniques are used to herd the population in the direction of ownership.
Irrespective of how investment is funded - are the resulting profits real?
There are other examples. But when it comes to bubble profits vs social good profit, I'd see debt financing as a side issue.
Does the concept of a 'social good' profit even exist in conventional economic theory?
If it doesn't, there really isn't any useful way to distinguish between transactions that generate collective wealth, and collective illth with minor individual exceptions.
If the corporation is able to sustain itself as a going concern with the new and reduced payroll, then yes. If not, then no, it is a liquidation that has been booked as a profit.
However, even in the former case, the fact that the profit is greater for the company does not mean that the profit is greater for society overall, because the laid-off workers are no longer being paid. That has to be counted as well.
In the above example, GDP would most likely contract, unless measures are taken to prop it up. After all, reduction in workforce means, ceteris paribus, a reduction in output, which means a reduction in GDP.
Example 2: Corporation B is part of a national movement to increase the perceived value of a scarce good or product. The physical reality and practical use value of the item - if any - remain unchanged. But various persuasive techniques are used to herd the population in the direction of ownership. Irrespective of how investment is funded - are the resulting profits real?
Assuming that the supply of the good in question is sustainable, and that the producers can keep propping up demand indefinitely, then yes. Otherwise, it is either a liquidation, a bubble, or both.
Whether demand-creation through advertising is socially desirable is, of course, a different question from the reality of the profits.
Conventional economic theory presumes that all transactions are voluntary, and serve to satisfy a need or desire. As such, all revenue (excepting those that involve negative externalities to third parties) represents a social good, and therefore all profits (which are a subset of revenues) represent a social good.
"Social ill" is abstracted away into externalities, and demand synthesis through advertising does not exist (in the aggregate) in conventional economic theory.
- Jake If you only spend 20 minutes of the rest of your life on economics, go spend them here.
Example 1: Corporation A lays off 20% of its workforce because of the usual pressures. Profits and dividends increase. Are these profits real? If this is part of a movement among a significant majority of corporations, is the 'growth' in indices and GDP real, or bubble-ish?
It doesn't matter whether you think money values are "real values". Because money values can lead to lay-offs, which are real, and asset bubbles, and defaults (which are also real), one has to assume "money values" are "real" even if they are not "real values". En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma
This seems to have been happening since the 70s, and it hasn't necessarily coincided with recession. (Not immediately, anyway.)
2. The point is that the model should predict explicitly that lay-offs, bubbles and defaults are a form of illth. Among other kinds of illth.
You can't run an economy by counting beans and trying to create differential equations for bean flow. Even if it doesn't matter that some of the beans are imaginary, you still need a model that accounts for experiences and physical effects first, and doesn't assume that the beans are the first order reality and everything else is imaginary.
Currently models seem to assume that cash flows are primary, and reality is imaginary, which seems a rather odd way to be approaching the problem.
As JakeS says, there's an assumption that more profit, more GDP and bigger numbers on the Dow are equal to better experiences, and an assumption that this is somehow an objective truth, and not based on a very biased political and moral world view.
I'm not convinced you can change the morals and the politics by tinkering with the numbers.
The point Chris is trying to make - and I agree with theory, but not with his implementation - is that models that assume something called 'debt' exists are making moral assumptions.
Those assumptions are arbitrary and open to question.
There is a moral case against debt but I have deliberately tried to put that to one side.
My case against debt is that it is sub-optimal in terms of sharing risk and reward, and I say the same about 'free' (ie gratis) limited liability. I speculate therefore that ethical may well be optimal, but I don't recall (willingly) getting into moral arguments. "Any economic unit can emit money. The serious problem is to get it accepted" Hyman Minsky
Um, 'debt' exists right there in contract law. En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma
Law is a codification of prevailing morality, not an objective truth - although like economics, it pretends otherwise.
So if we want to understand the here and now we have to understand debt contracts and their economic impact.
If you want to theorise about hypothetical instututional structures, be my guest. En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma
Can you explain slavery by looking at the laws that supported it?
Minsky actually writes an economic theory that explains what we observe. Steve Keen is working on explicit dynamical equations to do simulations based on it. The theory is based on understanding the effect of debt contracts denominated in nominal (not 'real') money values.
Standard economics can't explain what's going on except as an "exogenous shock".
And you come and tell us that we don't need an economics of debt contracts to understand what's going on.
Minsky doesn't do it by means of cultural anthropology, whereas standard economics is just religion. En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma
It's nice that Minsky knew what was going on ahead of time, but a lot of other people who aren't nearly as economically sanctified seem to have been able to predict the last melt-down too.
Which isn't really that difficult, considering similar melt-downs have been happening since at least the 15th century, often for congruent reasons.
Why did Minsky's modelling not make any difference to the outcome?
Could that have been because of the politics?
So shall we pretend that politics and morality don't matter as long as we have some differential equations that can Explain Everything™?
Excuse my scepticism, but I'll be more convinced when I see this making a real difference to policy.
But anyway, we're agreed that the problem is not one of economics but of politics. And one of the most important rhetorical/political tools is to obscure the role of the financial sector in economics, focusing on "the real economy". "Real business cycle" theory is a way of blaming the unemployed for taking an unpaid vacation. The reason these (IMHO) correct theories are being ignored is precisely that they are 1) correct; 2) politically inconvenient. So don't tell me that the fact that they are correct doesn't matter. There has to be a role in politics for actually having the right information about what is going on and how.
And Minsky is not sanctified, he was studiously ignored and now he's being misrepresented (his work is not "prescient" - writing an economic history of the US 1960-1980 in 1986 is anything but - and it is not about "minsky moments" it's about fiscal policy, monetary policy, banking supervision, and so on. Precisely the kind of things the serious people need to get right but don't). En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma
Don't take this the wrong way, but your appeals to "reality" (especially "real value") sound to me like hidden variables in quantum mechanics. En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma
In other words, cash flows are important to analyse in their own right, but not the way economists think and not for the reasons economists normally assume.
The difference is that hidden variables in QM won't kill you if you ignore them.
In economics, political and physical externalities can, and will.
Physical and natural processes don't care about cash flow. And economies are physical first, then moral and political, then abstracted and symbolic, and only then can you think about them financially.
You can only make cash flows primary by writing all of those preceding elements out of a model.
Do you really want to do that?
Do you really claim you can do that? What are you doing blogging when you could be revolutionizing social science? En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma
Why are you blogging when you could get a job with a think tank doing that?
What are you doing blogging when you could be revolutionizing social science?
um, revolutionizing social science through blogging?
surreal dialogue, lol. ~"When an inner situation is not made conscious, it appears outside as fate." Karl Jung~
