Macroeconomic foundations made of sand

28 February, 2015 at 15:57 | Posted in Economics | Comments Off on Macroeconomic foundations made of sand

Olivier Blanchard, the IMF’s chief economist, recently wrote:

“We in the field did think of the economy as roughly linear, constantly subject to different shocks, constantly fluctuating, but naturally returning to its steady state over time. Instead of talking about fluctuations, we increasingly used the term “business cycle.” Even when we later developed techniques to deal with nonlinearities, this generally benign view of fluctuations remained dominant.”

o-OSTRICH-IN-THE-SAND-facebookThe models that macroeconomic practitioners developed reflected this essentially linear view. Blanchard went on to observe that although macroeconomists did not ignore the possibility of extreme tail risk events, they regarded them as a thing of the past in developed countries … If you get the policy settings right, linear models will work.

Except that they won’t. And that is because these models are not realistic views of how the economy actually works. Representative agents aren’t actually representative of anyone. Rational expectations are driven as much by emotion as logic …

Leaving banks out of economic models, or – worse – modelling their money-creating function incorrectly, made it impossible for mainstream economists to understand the significance of the build-up of credit that led to the financial crisis. The warnings came principally from people outside mainstream economics, particularly the followers of Hyman Minsky. After the crisis, Minsky’s “financial instability hypothesis”, long consigned to a dusty shelf in a dark cupboard, suddenly became hot news. Unsurprisingly, since we had just lived through something that looked very like a “Minsky moment”.

Clearly, the exclusion of the financial industry from models of the macroeconomy was a major omission. Equally clearly, the fact that most macroeconomists did not, and to a large extent still do not, understand the mechanisms by which money is created and circulated in the modern monetary economy, is a big, big problem. Central banks are now “adding” the financial sector to existing DSGE models: but this does not begin to address the essential non-linearity of a monetary economy whose heart is a financial system that is not occasionally but NORMALLY far from equilibrium. Until macroeconomists understand this, their models will remain inadequate …

Some of the most influential people in macroeconomics have spent their lives developing theories and models that have been shown to be at best inadequate and at worst dangerously wrong. Olivier Blanchard’s call for policymakers to set policy in such a way that linear models will still work should be seen for what it is – the desperate cry of an aging economist who discovers that the foundations upon which he has built his career are made of sand. He is far from alone.

Frances Coppola


Lördagsmorgon i P2 — ljuset i det musikaliska mörkret

28 February, 2015 at 15:31 | Posted in Varia | Comments Off on Lördagsmorgon i P2 — ljuset i det musikaliska mörkret

radioI dessa tider — när ljudrummet dränks i den kommersiella radions tyckmyckentrutade ordbajseri och fullständigt intetsägande melodifestivalskval — har man ju nästan gett upp.

Men det finns ljus i mörkret! I radions P2 går varje lördagmorgon ett vederkvickelsens och den seriösa musikens Lördagsmorgon i P2.

Så passa på och börja dagen med en musikalisk örontvätt och rensa hörselgångarna från kvarvarande musikslagg. Här kan man till exempel lyssna på musik av Vassilis Tsabropoulos, John Tavener, Gustav Mahler och Arvo Pärt. Att i tre timmar få lyssna till sådan musik ger sinnet ro och får hoppet att återvända. Tack public-service-radio!

Och tack Eva Sjöstrand. Att i tre timmar få lyssna till underbar musik och en programledare som har något att säga och inte bara låter foderluckan glappa hela tiden — vilken lisa för själen!

Molins fontän

28 February, 2015 at 10:11 | Posted in Varia | 4 Comments


Tillägnad alla gamla radikala vänner och kollegor som numera glatt traskar patrull och omfamnar allt de en gång i tiden hade modet att våga kritisera och ifrågasätta …

Milton Friedman’s anti-feminist feminism

27 February, 2015 at 14:58 | Posted in Economics, Politics & Society | 2 Comments


‘How I became a Keynesian’

26 February, 2015 at 18:06 | Posted in Economics | 3 Comments

Until [2008], when the banking industry came crashing down and depression loomed for the first time in my lifetime, I had never thought to read The General Theory of Employment, Interest, and Money, despite my interest in economics … I had heard that it was a very difficult book and that the book had been refuted by Milton Friedman, though he admired Keynes’s earlier work on monetarism. I would not have been surprised by, or inclined to challenge, the claim made in 1992 by Gregory Mankiw, a prominent macroeconomist at Harvard, that “after fifty years of additional progress in economic science, The General Theory is an outdated book. . . . We are in a much better position than Keynes was to figure out how the economy works.”

adaWe have learned since [2008] that the present generation of economists has not figured out how the economy works …

Baffled by the profession’s disarray, I decided I had better read The General Theory. Having done so, I have concluded that, despite its antiquity, it is the best guide we have to the crisis …

It is an especially difficult read for present-day academic economists, because it is based on a conception of economics remote from theirs. This is what made the book seem “outdated” to Mankiw — and has made it, indeed, a largely unread classic … The dominant conception of economics today, and one that has guided my own academic work in the economics of law, is that economics is the study of rational choice … Keynes wanted to be realistic about decision-making rather than explore how far an economist could get by assuming that people really do base decisions on some approximation to cost-benefit analysis …

Economists may have forgotten The General Theory and moved on, but economics has not outgrown it, or the informal mode of argument that it exemplifies, which can illuminate nooks and crannies that are closed to mathematics. Keynes’s masterpiece is many things, but “outdated” it is not.

Richard Posner

On prices and profits

25 February, 2015 at 19:10 | Posted in Economics | Comments Off on On prices and profits

a twistMuch recent discussion about potential price inflation seems to take as a given that it would be sparked by a pickup of wage growth. But looking at data from the non-financial corporate sector–which accounts for well more than half of all private-sector economic activity and for which rich data are available–what’s really striking about price growth since the end of the Great Recession is how much of it has been driven by risingprofits, not rising labor costs. In fact, labor costs have been essentially flat between the end of the Great Recession and the first quarter of 2014. Profits earned per unit sold, on the other hand, have been rising at an average annual growth rate of nearly 9% since the recovery’s beginning. To the degree that there is any inflationary pressure in the U.S. economy over that time, it is surely not coming from labor costs.

Josh Bivens

On knowledge and education

23 February, 2015 at 21:27 | Posted in Economics, Politics & Society | Comments Off on On knowledge and education

Education is a friend of mine. And it should be available and affordable for all. But … people insisting that educational failings are at the root of still-weak job creation, stagnating wages and rising inequality. This sounds serious and thoughtful. But it’s actually a view very much at odds with the evidence, not to mention a way to hide from the real, unavoidably partisan debate.

The education-centric story of our problems runs like this: We live in a period of unprecedented technological change, and too many American workers lack the skills to cope with that change. This “skills gap” is holding back growth, because businesses can’t find the workers they need. It also feeds inequality, as wages soar for workers with the right skills… So what we need is more and better education … It’s repeated so widely that many people probably assume it’s unquestionably true. But it isn’t … there’s no evidence that a skills gap is holding back employment.

Paul Krugman

Although Krugman doesn’t name him explicitly, Harvard economist and George Bush advisor Greg Mankiw is one of those mainstream economists who has been appealing to the education variable to explain the rising inequality we have seen for the last 30 years in both the US and elsewhere in Western societies. Mankiw writes:

Even if the income gains are in the top 1 percent, why does that imply that the right story is not about education?

If indeed a year of schooling guaranteed you precisely a 10 percent increase in earnings, then there is no way increasing education by a few years could move you from the middle class to the top 1 percent.

But it may be better to think of the return to education as stochastic. Education not only increases the average income a person will earn, but it also changes the entire distribution of possible life outcomes. It does not guarantee that a person will end up in the top 1 percent, but it increases the likelihood. I have not seen any data on this, but I am willing to bet that the top 1 percent are more educated than the average American; while their education did not ensure their economic success, it played a role.

To me this is nothing but really one big evasive attempt at trying to explain away a very disturbing structural shift that has taken place in our societies. And change that has very little to do with stochastic returns to education. Those were in place also 30 or 40 years ago. At that time they meant that perhaps a CEO earned 10-12 times what “ordinary” people earns. Today it means that they perhaps earn 100-200 times  what “ordinary” people earns.

A question of education? No way! It is a question of  income and wealth increasingly being concentrated in the hands of a very small and privileged elite, greed and a lost sense of a common project of building a sustainable society.


Fiscal debt — what we should be aiming for

23 February, 2015 at 15:08 | Posted in Economics, Politics & Society | Comments Off on Fiscal debt — what we should be aiming for


Lynn Parramore: Do you think there are lessons in what has happened in the Eurozone for students of economics and the way the subject is taught?

Mario Seccareccia: Yes, indeed. Ever since the establishment of the modern nation-state in the late eighteenth and nineteenth centuries, the creation of the euro was perhaps the first significant experiment in modern times in which there was an attempt to separate money from the state, that is, to denationalize currency, as some right-wing ideologues and founders of modern neoliberalism, such as Friedrich von Hayek, had defended. What the Eurozone crisis teaches is that this perception of how the monetary system works is quite wrong, because, in times of crisis, the democratic state must be able to spend money in order to meet its obligations to its citizens. The denationalization or “supra-nationalization” of money with the establishment that happened in the Eurozone took away from elected national governments the capacity to meaningfully manage their economies. Unless governments in the Eurozone are able to renegotiate a significant control and access money from their own central banks, the system will be continually plagued with crisis and will probably collapse in the longer term.

Lynn Parramore

Voyage to Avalon

22 February, 2015 at 17:19 | Posted in Varia | Comments Off on Voyage to Avalon


Game of chicken

21 February, 2015 at 15:24 | Posted in Economics | Comments Off on Game of chicken


Wynne Godley on the euro project

21 February, 2015 at 13:07 | Posted in Economics, Politics & Society | 1 Comment

If a government stops having its own currency, it doesn’t just give up “control over monetary policy” as normally understood; its spending powers also become constrained in an entirely new way. If a government does not have its own central bank on which it can draw cheques freely, its expenditures can be financed only by borrowing in the open market in competition with businesses, and this may prove excessively expensive or even impossible, particularly under “conditions of extreme emergency.”


If Europe is not to have a full-scale budget of its own under the new arrangements it will still have, by default, a fiscal stance of its own made up of the individual budgets of component states. The danger, then, is that the budgetary restraint to which governments are individually committed will impart a disinflationary bias that locks Europe as a whole into a depression it is powerless to lift.

Wynne Godley

(h/t Edward Fullbrook & Stephanie Kelton)

Greece — the perfect example of debt deflation

20 February, 2015 at 10:22 | Posted in Economics, Politics & Society | 1 Comment


irvingDeflationary policies are deflationary. To a large extent the deflation is caused by tight monetary and fiscal policies pursued by ECB. With a very defensive fiscal policy and a targeted inflation rate set at a very low level, real inflation has during the last couple of years been negative. Another consequence of the austere fiscal and monetary policies is that overall unemployment is stuck at an enormously high level.

This is deeply worrying.

So here’s a suggestion for reading …

Zoltan Pozsnar and Paul McCulley have written an absolutely splendid essay on what a liquidity trap means and why mainstream neoclassical economics has nothing to offer in way of solving the problems that it brings along – and why it is so important to get hold of the insights that Fisher, Keynes, and Minsky have given us on debt-deflation processes and liquidity traps:

A liquidity trap is a circumstance in which the private sector is deleveraging in the wake of enduring negative animal spirits caused by the bursting of joint asset price and credit bubbles that leave privatesector balance sheets severely damaged. In a liquidity trap the animal spirits of the private sector cannot be revived by a reduction in short-term interest rates because there is no demand for credit. This effectively means that conventional monetary policy does not work in a liquidity trap …

Deleveraging can be rational for an individual household. It can be rational for an individual corporation. It can be rational for an individual country. However, in the aggregate it begets the paradox of thrift1: what is rational at the microeconomic level is irrational at the community, or macroeconomic, level.

This is not to say that the private sector should not deleverage. It has to. It is a part of the economy’s healing process and a necessary first step toward a self-sustaining economic recovery.

However, deleveraging is a beast of a burden that capitalism cannot bear alone. At the macro level, deleveraging must be a managed process: for the private sector to deleverage without causing a depression, the public sector has to move in the opposite direction and re-lever by effectively viewing the balance sheets of the monetary and fiscal authorities as a consolidated whole.

Fiscal austerity does not work in a liquidity trap and makes as much sense as putting an anorexic on a diet. Yet, “diets” are the very prescriptions that fiscal austerians have imposed (or plan to impose) in the U.S., U.K. and Eurozone. Austerians fail to realize, however, that everyone cannot save at the same time and that in liquidity traps, the paradox of thrift and depression are fellow travelers that are functionally intertwined.

Historically, austerity has only worked when accompanied by monetary easing – where wealth effects and stronger private demand for credit helped offset the effects of fiscal austerity – and/or a weaker currency – which helped steal others’ demand.

In a liquidity trap, however, austerity cannot work because monetary policy is neither functioning correctly nor able offset lost demand, and weak currencies work only at a time of strong global demand and only for individual countries, not for several major countries at one time. Imposing austerity without potential offsets and at a time of weak global aggregate demand is deflationary, which makes deleveraging much harder, balance sheet repair much slower and recovery much less likely to achieve. In a liquidity trap, governments have no logical option but to borrow and to invest.

How could governments borrow more if government debt is also a problem everywhere? Would it not be irresponsible to increase borrowing at a time of record government debt levels? Fiscal austerians are quick to invoke age-old textbook orthodoxies: (1) that additional borrowing will be too much for future generations to handle, citing the law of Ricardian equivalence; (2) that increased borrowing will crowd out private sector borrowing and will most likely delay the economic recovery; and (3) that bond investors will stop buying and send yields higher.

However, in the topsy-turvy world of liquidity traps, these textbook orthodoxies do not apply, and acting irresponsibly relative to orthodoxy by increasing borrowing will do more good than harm. Austerians argue that reducing deficits and putting nations’ fiscal houses in order will help growth through confidence. However, Ricardian equivalence does not work in reverse! It is not confidence, but Godley’s tyranny of arithmetic that matters: someone simply has to borrow and invest to fill missing demand.

Crowding out, overheating and rising interest rates are also not likely to be a problem as there is no competition for funds from the private sector. For evidence, look no further than the impact of government borrowing on long-term interest rates in the U.S. during the Great Depression, or more recently, Japan …

Held back by concerns borne of these orthodoxies, however, governments are not spending with passionate purpose. They are victims of intellectual paralysis borne of inertia of dogma that, in the present circumstances, do not apply. As a result, their acting responsibly relative to orthodoxy and going forth with austerity may drag economies down the vortex of deflation and depression.

The importance of fiscal expansion and the impotence of conventional monetary policy measures in a liquidity trap have profound implications for the conduct of central banks. This is because in a liquidity trap, the fat tail risk of inflation is replaced by the fat tail risk of deflation. In turn, the fatness of the deflation tail is a function of the government’s willingness and ability to pump-prime, i.e. to borrow and spend.

The truth about relativity

19 February, 2015 at 15:39 | Posted in Economics | 1 Comment

What if you are single, and hope to appeal to as many attractive potential dating partners as possible at an upcoming singles event? My advice would be to bring a friend who has your basic physical characteristics (similar coloring, body type, facial features), but is slightly less attractive (—you). predictablyWhy? Because the folks you want to attract will have ahard time evaluating you with no comparables around. However, if you are compared with a “-you,” the decoy friend will do a lot to make you look better, not just in comparison with the decoy but also in general, and in comparison with all the other people around. It may sound irrational (and I can’t guarantee this), but the chances are good that you will get some extra attention.

Of course, don’t just stop at looks. If great conversation will win the day, be sure to pick a friend for the singles event who can’t match your smooth delivery and rapier wit. By comparison, you’ll sound great.

Now that you know this secret, be careful: when a similar but better-looking friend of the same sex asks you to accompany him or her for a night out, you might wonder whether you have been invited along for your company or merely as a decoy.

Great book that ought to be on every economist’s reading list.

Even a genius has to work hard

19 February, 2015 at 10:14 | Posted in Education & School | 1 Comment

Several years later I developed a broader theory of what separates the two general classes of learners—helpless versus mastery-oriented. I realized that these different types of students not only explain their failures differently, but they also hold different “theories” of intelligence. The helpless ones believe that intelligence is a fixed trait: you have only a certain amount, and that’s that. I call this a “fixed mind-set.” Mistakes crack their self-confidence because they attribute errors to a lack of ability, which they feel powerless to change. They avoid challenges because challenges make mistakes more likely and looking smart less so … Such children shun effort in the belief that having to work hard means they are dumb.

Your-Inner-GeniusThe mastery-oriented children, on the other hand, think intelligence is malleable and can be developed through education and hard work. They want to learn above all else. After all, if you believe that you can expand your intellectual skills, you want to do just that …

We validated these expectations in a study published in early 2007 … As we had predicted, the students with a growth mind-set felt that learning was a more important goal in school than getting good grades. In addition, they held hard work in high regard, believing that the more you labored at something, the better you would become at it. They understood that even geniuses have to work hard for their great accomplishments. Confronted by a setback such as a disappointing test grade, students with a growth mind-set said they would study harder or try a different strategy for mastering the material.

The students who held a fixed mind-set, however, were concerned about looking smart with less regard for learning. They had negative views of effort, believing that having to work hard at something was a sign of low ability …

EinstinePeople may well differ in intelligence, talent and ability. And yet research is converging on the conclusion that great accomplishment, and even what we call genius, is typically the result of years of passion and dedication and not something that flows naturally from a gift. Mozart, Edison, Curie, Darwin and Cézanne were not simply born with talent; they cultivated it through tremendous and sustained effort. Similarly, hard work and discipline contribute more to school achievement than IQ does.

Carol S. Dweck

Extremely important and far-reaching research indeed.

Being diagnosed a “gifted child” sure is a confidence boost. But it’s not always the blessing people so often assume. It can also blind you to the fact that even if you’re smart, there are other people who are also smart. People you can learn from them. Learning that makes brain neurons grow new connections. For some of us that insight — unfortunately — comes late in life.

Lucas’ bridge and the Ricardian equivalence fairy-tale

18 February, 2015 at 19:03 | Posted in Economics | 1 Comment

Imagine a Nobel Prize winner in physics, who in public debate makes elementary errors that would embarrass a good undergraduate. Now imagine other academic colleagues, from one of the best faculties in the world, making the same errors. It could not happen. However that is exactly what has happened in macro over the last few years.

Where is my evidence for such an outlandish claim? Well here is Nobel prize winner Robert Lucas:

Bridge_to_nowhere“But, if we do build the bridge by taking tax money away from somebody else, and using that to pay the bridge builder — the guys who work on the bridge — then it’s just a wash.  It has no first-starter effect.  There’s no reason to expect any stimulation.  And, in some sense, there’s nothing to apply a multiplier to.  (Laughs.)  You apply a multiplier to the bridge builders, then you’ve got to apply the same multiplier with a minus sign to the people you taxed to build the bridge.”

And here  is John Cochrane, also a professor at Chicago, and someone who has made important academic contributions to macroeconomic thinking:

“Before we spend a trillion dollars or so, it’s important to understand how it’s supposed to work.  Spending supported by taxes pretty obviously won’t work:  If the government taxes A by $1 and gives the money to B, B can spend $1 more. But A spends $1 less and we are not collectively any better off.”

Both make the same simple error. If you spend X at time t to build a bridge, aggregate demand increases by X at time t. If you raise taxes by X at time t, consumers will smooth this effect over time, so their spending at time t will fall by much less than X. Put the two together and aggregate demand rises.

The more interesting question for me is why the errors were made … I want to suggest two answers. The first is familiarity with models. I cannot imagine anyone who teaches New Keynesian economics, or who talked to people who teach New Keynesian economics, making this mistake … The second difference between physics and macro that could lead to more mistakes in the latter is ideology … When you are arguing out of ideological conviction, there is a danger that rhetoric will trump rigour … The problem too many macroeconomists have with fiscal stimulus lies not in opposing schools of thought, or the validity of particular theories, or the size of particular parameters, but instead with the fact that it represents intervention by the state designed to improve the working of the market economy. They have an ideological problem with countercyclical fiscal policy. But the central bank is part of the state, and it intervenes to improve how the economy works, so this ideological view would also mean that you played down the role of monetary policy in macroeconomics. So ideology may also help explain a lack of familiarity with the models central banks use to think about monetary policy. In short, an ideological view that distorts economic thinking can lead to mistakes.

Simon Wren-Lewis

In case your not yet persuaded, here’s another blog post describing what goes wrong  when people like Robert Lucas and those with similar views apply their models based on Ricardian equivalence:

[T]hink about what happens when a family buys a house with a 30-year mortgage.

Suppose that the family takes out a $100,000 home loan (I know, it’s hard to find houses that cheap, but I just want a round number). If the house is newly built, that’s $100,000 of spending that takes place in the economy. But the family has also taken on debt, and will presumably spend less because it knows that it has to pay off that debt.

But the debt won’t be paid off all at once — and there’s no reason to expect the family to cut its spending right now by $100,000. Its annual mortgage payment will be something like $6,000, so maybe you would expect a fall in spending by $6000; that offsets only a small fraction of the debt-financed purchase.

Now notice that this family is very much like the representative household in a Ricardian equivalence economy, reacting to a deficit financed infrastructure project like Lucas’s bridge; in this case the household really does know that today’s spending will reduce its future disposable income. And even so, its reaction involves very little offset to the initial spending.

How could anyone who thought about this for even a minute — let alone someone with an economics training — get this wrong? And yet as far as I can tell almost everyone on the freshwater side of this divide did get it wrong, and has yet to acknowledge the error.

Paul Krugman

Indeed — how can anyone get this wrong and make such ridiculously simple errors when arguing about fiscal stimulus?

Fiscal policy is not irrelevant. Ricardian equivalence is.

Abba Lerner on Functional Finance and Ricardian equivalence

18 February, 2015 at 10:19 | Posted in Economics, Politics & Society | 6 Comments

Commenting on an earlier post of yours truly on Abba Lerner’s Functional Finance view of public debt, Cambridge macroeconomist Pontus Rendahl maintained that “Abba Lerner IS evoking Ricardian equivalence in his argument” and that I didn’t understand “it.”

Hmmm …

According to Lerner, the purpose of public debt is “to achieve a rate of interest which results in the most desirable level of investment.” He also maintained that an application of Functional Finance will have a tendency to balance the budget in the long run:

Finally, there is no reason for assuming that, as a result of the continued application of Functional Finance to maintain full employment, the government must always be borrowing more money and increasing the national debt. There are a number of reasons for this.

dec3bb27f72875e4fb4d4b62daebb2fd161b36392c1a0626f00cfd2ece207d84First, full employment can be maintained by printing the money needed for it, and this does not increase the debt at all. It is probably advisable, however, to allow debt and money to increase together in a certain balance, as long as one or the other has to increase.

Second, since one of the greatest deterrents to private investment is the fear that the depression will come before the investment has paid for itself, the guarantee of permanent full employment will make private investment much more attractive, once investors have gotten over their suspicion of the new procedure. The greater private investment will diminish the need for deficit spending.

Third, as the national debt increases, and with it the sum of private wealth, there will be an increasingly yield from taxes on higher incomes and inheritances, even if the tax rates are unchanged. These higher tax payments do not represent reductions of spending by the taxpayers. Therefore the government does not have to use these proceeds to maintain the requisite rate of spending, and can devote them to paying the interest on the national debt.

Fourth, as the national debt increases it acts as a self-equilibrating force, gradually diminishing the further need for its growth and finally reaching an equilibrium level where its tendency to grow comes completely to an end. The greater the national debt the greater is the quantity of private wealth. The reason for this is simply that for every dollar of debt owed by the government there is a private creditor who owns the government obligations (possibly through a corporation in which he has shares), and who regards these obligations as part of his private fortune. The greater the private fortunes the less is the incentive to add to them by saving out of current income …

Fifth, if for any reason the government does not wish to see private property grow too much … it can check this by taxing the rich instead of borrowing from them, in its program of financing government spending to maintain full employment. The rich will not reduce their spending significantly, and thus the effects on the economy, apart from the smaller debt, will be the same as if Money had been borrowed from them.

Abba Lerner

Much positive wealth effects here — and no Ricardian equivalence …

So — one may wonder who is not understanding what about Lerner and the Functional Finance view of public debt …

But even if today’s mainstream Cambridge economists do not understand Lerner, there once was one who certainly did:

I recently read an interesting article on deficit budgeting … His argument is impeccable.

John Maynard Keynes CW XXVII:320

Added GMT 1400: In a new comment Rendahl now maintains that “the core argument here is that the timing of taxes is irrelevant for servicing domestic debt, which is exactly what Ricardian equivalence says.”

Although the issue of timing is one well-known part of Ricardian equivalence, I still beg to differ on it being “exactly what Ricardian equivalence says.” Let me elaborate on why.

According to the Ricardian equivalence hypothesis the public sector basically finances its expenditures through taxes or by issuing bonds, and bonds must sooner or later be repaid by raising taxes in the future.

If the public sector runs extra spending through deficits, taxpayers will according to the hypothesis anticipate that they will have pay higher taxes in future — and therefore increase their savings and reduce their current consumption to be able to do so, the consequence being that aggregate demand would not be different to what would happen if taxes were rised today.

Robert Barro attempted to give the proposition a firm theoretical foundation in the 1970s.

So let us get the facts straight from the horse’s mouth.

Describing the Ricardian Equivalence in 1989 Barro writes (emphasis added):

Suppose now that households’ demands for goods depend on the expected present value of taxes—that is, each household subtracts its share of this present value from the expected present value of income to determine a net wealth position. Then fiscal policy would affect aggregate consumer demand only if it altered the expected present value of taxes. But the preceding argument was that the present value of taxes would not change as long as the present value of spending did not change. Therefore, the substitution of a budget deficit for current taxes (or any other rearrangement of the timing of taxes) has no impact on the aggregate demand for goods. In this sense, budget deficits and taxation have equivalent effects on the economy — hence the term, “Ricardian equivalence theorem.” To put the equivalence result another way, a decrease in the government’s saving (that is, a current budget deficit) leads to an offsetting increase in desired private saving, and hence to no change in desired national saving.

Since desired national saving does not change, the real interest rate does not have to rise in a closed economy to maintain balance between desired national saving and investment demand. Hence, there is no effect on investment, and no burden of the public debt …

Compairing this crystal-clear statement of the Ricardian hypothesis with what Lerner wrote, it should be obvious to anyone how far-fetched it is to maintain that Lerner is evoking any Ricardian equivalence or that the irrelevance of the timing of taxes is “exactly” what Ricardian equivalence is all about.

Ricardian equivalence basically means that financing government expenditures through taxes or debts is equivalent, since debt financing must be repaid with interest, and agents — equipped with rational expectations — would only increase savings in order to be able to pay the higher taxes in the future, thus leaving total expenditures unchanged.

There is, of course, no reason for us to believe in that fairy-tale. Ricardo himself — mirabile dictu — didn’t believe in Ricardian equivalence. In “Essay on the Funding System” (1820) he wrote:

But the people who paid the taxes never so estimate them, and therefore do not manage their private affairs accordingly. We are too apt to think that the war is burdensome only in proportion to what we are at the moment called to pay for it in taxes, without reflecting on the probable duration of such taxes. It would be difficult to convince a man possessed of £20,000, or any other sum, that a perpetual payment of £50 per annum was equally burdensome with a single tax of £1000.

Greek retreat from game theory

17 February, 2015 at 17:03 | Posted in Economics, Politics & Society | 4 Comments

ATHENS — I am writing this piece on the margins of a crucial negotiation with my country’s creditors — a negotiation the result of which may mark a generation, and even prove a turning point for Europe’s unfolding experiment with monetary union.

Game-Theory-Paper-Matrix-Final1Game theorists analyze negotiations as if they were split-a-pie games involving selfish players. Because I spent many years during my previous life as an academic researching game theory, some commentators rushed to presume that as Greece’s new finance minister I was busily devising bluffs, stratagems and outside options, struggling to improve upon a weak hand.

Nothing could be further from the truth.

If anything, my game-theory background convinced me that it would be pure folly to think of the current deliberations between Greece and our partners as a bargaining game to be won or lost via bluffs and tactical subterfuge.

The trouble with game theory, as I used to tell my students, is that it takes for granted the players’ motives. In poker or blackjack this assumption is unproblematic. But in the current deliberations between our European partners and Greece’s new government, the whole point is to forge new motives. To fashion a fresh mind-set that transcends national divides, dissolves the creditor-debtor distinction in favor of a pan-European perspective, and places the common European good above petty politics, dogma that proves toxic if universalized, and an us-versus-them mind-set.

As finance minister of a small, fiscally stressed nation lacking its own central bank and seen by many of our partners as a problem debtor, I am convinced that we have one option only: to shun any temptation to treat this pivotal moment as an experiment in strategizing and, instead, to present honestly the facts concerning Greece’s social economy, table our proposals for regrowing Greece, explain why these are in Europe’s interest, and reveal the red lines beyond which logic and duty prevent us from going.

The great difference between this government and previous Greek governments is twofold: We are determined to clash with mighty vested interests in order to reboot Greece and gain our partners’ trust. We are also determined not to be treated as a debt colony that should suffer what it must. The principle of the greatest austerity for the most depressed economy would be quaint if it did not cause so much unnecessary suffering.

I am often asked: What if the only way you can secure funding is to cross your red lines and accept measures that you consider to be part of the problem, rather than of its solution? Faithful to the principle that I have no right to bluff, my answer is: The lines that we have presented as red will not be crossed. Otherwise, they would not be truly red, but merely a bluff.

But what if this brings your people much pain? I am asked. Surely you must be bluffing.

The problem with this line of argument is that it presumes, along with game theory, that we live in a tyranny of consequences. That there are no circumstances when we must do what is right not as a strategy but simply because it is … right.

Against such cynicism the new Greek government will innovate. We shall desist, whatever the consequences, from deals that are wrong for Greece and wrong for Europe. The “extend and pretend” game that began after Greece’s public debt became unserviceable in 2010 will end. No more loans — not until we have a credible plan for growing the economy in order to repay those loans, help the middle class get back on its feet and address the hideous humanitarian crisis. No more “reform” programs that target poor pensioners and family-owned pharmacies while leaving large-scale corruption untouched.

Our government is not asking our partners for a way out of repaying our debts. We are asking for a few months of financial stability that will allow us to embark upon the task of reforms that the broad Greek population can own and support, so we can bring back growth and end our inability to pay our dues.

One may think that this retreat from game theory is motivated by some radical-left agenda. Not so. The major influence here is Immanuel Kant, the German philosopher who taught us that the rational and the free escape the empire of expediency by doing what is right.

How do we know that our modest policy agenda, which constitutes our red line, is right in Kant’s terms? We know by looking into the eyes of the hungry in the streets of our cities or contemplating our stressed middle class, or considering the interests of hard-working people in every European village and city within our monetary union. After all, Europe will only regain its soul when it regains the people’s trust by putting their interests center-stage.

Yanis Varoufakis

Varoufakis’ retreat from game theory is a perfect illustration of the limitations of überrationalistic modeling and what happens when confronting deductive-axiomatic economic models with reality.

Back in 1991, when yours truly earned his first Ph.D. with a dissertation on decision making and rationality in social choice theory and game theory, I concluded that “repeatedly it seems as though mathematical tractability and elegance — rather than realism and relevance — have been the most applied guidelines for the behavioural assumptions being made. On a political and social level it is doubtful if the methodological individualism, ahistoricity and formalism they are advocating are especially valid.”

This, of course, was like swearing in church. My mainstream neoclassical colleagues were — to say the least — not exactly überjoyed.

For those of you who are not familiar with game theory, but eager to learn something relevant about it, I have three suggestions:

Start with the best introduction there is


and then go on to read more on the objections that can be raised against game theory and its underlying assumptions on e.g. rationality, “backward induction” and “common knowledge” in


and then finish off with listening to what one of the world’s most renowned game theorists — Ariel Rubinstein — has to say on the — rather limited — applicability of game theory in this interview (emphasis added):

What are the applications of game theory for real life?

That’s a central question: Is game theory useful in a concrete sense or not? Game theory is an area of economics that has enjoyed fantastic public relations. [John] Von Neumann [one of the founders of game theory] was not only a genius in mathematics, he was also a genius in public relations. The choice of the name “theory of games” was brilliant as a marketing device.
rubinThe word “game” has friendly, enjoyable associations. It gives a good feeling to people. It reminds us of our childhood, of chess and checkers, of children’s games. The associations are very light, not heavy, even though you may be trying to deal with issues like nuclear deterrence. I think it’s a very tempting idea for people, that they can take something simple and apply it to situations that are very complicated, like the economic crisis or nuclear deterrence. But this is an illusion. Now my views, I have to say, are extreme compared to many of my colleagues. I believe that game theory is very interesting. I’ve spent a lot of my life thinking about it, but I don’t respect the claims that it has direct applications.

The analogy I sometimes give is from logic. Logic is a very interesting field in philosophy, or in mathematics. But I don’t think anybody has the illusion that logic helps people to be better performers in life. A good judge does not need to know logic. It may turn out to be useful – logic was useful in the development of the computer sciences, for example – but it’s not directly practical in the sense of helping you figure out how best to behave tomorrow, say in a debate with friends, or when analysing data that you get as a judge or a citizen or as a scientist.

In game theory, what we’re doing is saying, “Let’s try to abstract our thinking about strategic situations.” Game theorists are very good at abstracting some very complicated situations and putting some elements of the situations into a formal model. In general, my view about formal models is that a model is a fable. Game theory is about a collection of fables. Are fables useful or not? In some sense, you can say that they are useful, because good fables can give you some new insight into the world and allow you to think about a situation differently. But fables are not useful in the sense of giving you advice about what to do tomorrow, or how to reach an agreement between the West and Iran. The same is true about game theory.

In general, I would say there were too many claims made by game theoreticians about its relevance. Every book of game theory starts with “Game theory is very relevant to everything that you can imagine, and probably many things that you can’t imagine.” In my opinion that’s just a marketing device.

Why do it then?

… What I’m opposing is the approach that says, in a practical situation, “OK, there are some very clever game theoreticians in the world, let’s ask them what to do.” I have not seen, in all my life, a single example where a game theorist could give advice, based on the theory, which was more useful than that of the layman.

Looking at the flipside, was there ever a situation in which you were pleasantly surprised at what game theory was able to deliver?

None. Not only none, but my point would be that categorically game theory cannot do it.

One of the proof methods that I was especially critical of in my dissertation was the use of “backward induction.” I have to confess I haven’t given it much thought outside the class room since then, but after having spent yesterday afternoon reading Ken Binmore’s Game Theory: A Very Short Introduction, I have to confess I’m slightly surprised that it — obviously — still holds such a strong position among game theorists. For those of you not familiar with it I recommend looking at the video below and afterwards take a minute or two and try to figure out how convinced you are about backward induction really helping us to understand what is after all the very idea of game theory — to analyze, understand, and explain strategic thinking …

Varoufakis on the Greek bailout programme

17 February, 2015 at 10:13 | Posted in Economics | Comments Off on Varoufakis on the Greek bailout programme


Germany 1919 — Greece 2015

16 February, 2015 at 23:12 | Posted in Economics, Politics & Society | Comments Off on Germany 1919 — Greece 2015

The Greeks tried to talk with the other finance ministers of EU. The negotiations broke down.

140906085As soon as it was admitted that it was in fact impossible to make Germany pay the expenses of both sides, and that the unloading of their liabilities upon the enemy was not practicable, the position of the Ministers of Finance of France and Italy became untenable. Thus a scientific consideration of Germany’s capacity to pay was from the outset out of court. The expectations which the exigencies of politics had made it necessary to raise were so very remote from the truth that a slight distortion of figures was no use, and it was necessary to ignore the facts entirely. The resulting unveracity was fundamental. On a basis of so much falsehood it became impossible to erect any constructive financial policy which was workable. For this reason amongst others, a magnanimous financial policy was essential.

And in Greece the people still have to pay the true costs of misguided austerity policies.


Debt myths debunked

16 February, 2015 at 16:42 | Posted in Economics | 5 Comments


A government with a “credible” plan for “fiscal consolidation” supposedly is less likely to default on its debt, or leave it for the future to pay. This will, it is thought, enable the government to borrow money more cheaply than it would otherwise be able to do, in turn lowering interest rates for private borrowers, which should boost economic activity. So fiscal consolidation is the royal road to economic recovery.

This, the official doctrine of most developed countries today, contains at least five major fallacies, which pass largely unnoticed, because the narrative is so plausible.

First, governments, unlike private individuals, do not have to “repay” their debts. A government of a country with its own central bank and its own currency can simply continue to borrow by printing the money which is lent to it …

Second, deliberately cutting the deficit is not the best way for a government to balance its books. Deficit reduction in a depressed economy is the road not to recovery, but to contraction, because it means cutting the national income on which the government’s revenues depend …

Third, the national debt is not a net burden on future generations. Even if it gives rise to future tax liabilities (and some of it will), these will be transfers from taxpayers to bond holders. This may have disagreeable distributional consequences. But trying to reduce it now will be a net burden on future generations: income will be lowered immediately, profits will fall, pension funds will be diminished, investment projects will be canceled or postponed, and houses, hospitals, and schools will not be built. Future generations will be worse off, having been deprived of assets that they might otherwise have had.

Fourth, there is no connection between the size of national debt and the price that a government must pay to finance it. The interest rates that Japan, the United States, the UK, and Germany pay on their national debt are equally low, despite vast differences in their debt levels and fiscal policies.

Finally, low borrowing costs for governments do not automatically reduce the cost of capital for the private sector. After all, corporate borrowers do not borrow at the “risk-free” yield of, say, US Treasury bonds, and evidence shows that monetary expansion can push down the interest rate on government debt, but have hardly any effect on new bank lending to firms or households.

Robert Skidelsky

Mediamacro and economic priorities

15 February, 2015 at 17:06 | Posted in Economics, Politics & Society | Comments Off on Mediamacro and economic priorities

corporate_mediaWe have come to a highly paradoxical situation. The position that many policymakers adopted in 2009 – that in a liquidity trap you need fiscal stimulus to help the recovery – seems to have been vindicated. QE hasn’t proved strong or reliable enough to negate the need for fiscal stimulus. In addition, the view, current in 2009, that we should not worry about increasing government debt in the short term, has also proved correct outside the Eurozone. The key point is that deficit reduction should be left until a time when interest rates are high, so that they can be reduced to counteract the negative impact of austerity on demand. When this view was abandoned in favour of austerity, the recovery in the UK and elsewhere was needlessly delayed or restrained. Yet this is not the media’s perception. Mediamacro still sees reducing debt as the number one priority …

It is as if Osborne’s real priority was and still is to cut all forms of government spending, and as if the deficit was, and he hopes will remain, a convenient pretext to achieve that goal. It will be some time before economists settle on a number for the total cost of the austerity mistake, but a conservative estimate would be that, in total, resources worth around 5 per cent of GDP will have been lost for ever by delaying the recovery. That’s about £100 billion, or £1500 for each adult and child in the country.

If any other government department had wasted that amount, there would be a huge outcry from the media. Yet when it comes to macroeconomics, the media seems to play by different rules. It continues to misrepresent economic ideas even though it has access to academic expertise. Why is this? … Part of the explanation, I think, is that we have a particular problem with macroeconomics, which is the influence of economists working in the City. There are some wise and experienced City economists, but there are also many with limited expertise and sometimes fanciful views. Their main job is to keep their firm’s clients happy, and perhaps to help traders improve their predictions of what might happen in the markets in the next few days. Their views tend to reflect the economic arguments of those on the right: regulation is bad, top rates of tax should be low, the state is too large, and budget deficits are a serious and immediate concern …

Of course it is also the case that large sections of the print media have a political agenda. Unfortunately the remaining part, too, often seeks expertise among City economists who have a set of views and interests that do not reflect the profession as a whole. This can lead to a disconnect between macroeconomics as portrayed in the media and the macroeconomics taught in universities. In the case of UK austerity, it has allowed the media to portray the reduction of the government’s budget deficit as the overriding macroeconomic priority, when in reality that policy has done and may continue to do considerable harm.

Simon Wren-Lewis

Taking a tenable position on public debt

15 February, 2015 at 13:34 | Posted in Economics, Politics & Society | 4 Comments

I thought we all had this debt burden stuff sorted out 30 years ago. Obviously we didn’t …

debtThere are 4 possible positions to take on the debt. One of them doesn’t make sense; the other 3 do. Which of those 3 is right is an empirical question.

Here are the 4 positions. I gave each one a name. I made up the quotes.

1. Abba Lerner.The national debt is not a first-order burden on future generations. We owe it to ourselves. The sum of the IOU’s must equal the sum of the UOMe’s. You can’t make real goods and services travel back in time, out of the mouths of our grandkids and into our mouths. The possible second-order exceptions are: if we owe it to foreigners; the disincentive effects of distortionary future taxes; the lower marginal product of future labour if the future capital stock is smaller.

2. James Buchanan/uneducated person on the street.The national debt is a burden on future generations of taxpayers. Foreigners are basically irrelevant. Any second order effects of distortionary taxes and lower capital stock are over and above that first order effects of the taxes themselves.

3. Robert Barro/Ricardian Equivalence.The national debt is not a burden on future taxpayers (except for the deadweight costs of distortionary taxation) but only because ordinary people take steps to fully offset the burden on future generations by increasing private saving to offset government dissaving and increasing bequests to their heirs to offset the debt burden.

4. Samuelson 1958.If the rate of interest on government bonds is forever less than the growth rate of the economy, the government can run a sustainable Ponzi finance of deficits, where it rolls over the debt plus interest forever and never needs to increase taxes, so there is no burden on future generations.

I personally was taught 1 as an undergraduate. And I believed in 1 until about 1980, when I spent some time reading Buchanan and Barro arguing with each other. And I worked 4 into my own beliefs soon after.

And now, I believe 1 is false. The truth is some sort of mixture of 2,3, and 4. What precise mixture of 2,3,4 is true is an empirical question. My prior is one third-one third-one third.

Until last week, I thought that almost every macroeconomist had now realised that 1 was false. And I wrote a post arguing 1 is false. My post was triggered by Paul Krugman’s recent post, which I interpret as saying that 1 is true. Paul wrote two later posts too, which I interpret as also saying that 1 is true …

And look, just because deficits have costs doesn’t mean we shouldn’t do them. Like a lot of things, deficits have benefits too, and sometimes the benefits are bigger than the costs. But we shouldn’t ignore those costs, just because we think the benefits are bigger than the costs.

And what we need to do more work on is this: we know Samuelson is right, if we know for sure that the interest rate on bonds is less than the growth rate of GDP forever. That is a sufficient condition for Samuelson being right, but I rather doubt it’s a necessary condition. What if the interest rate will probably be less than the growth rate part of the time for arather long time? Could Samuelson still be right, or at least partly right?

Nick Rowe


14 February, 2015 at 18:11 | Posted in Varia | Comments Off on Woman


Neneh Cherry was among the ten artists inducted into the Swedish Hall of Fame earlier this week. Congratulations Neneh!

The non-burden of public debt

14 February, 2015 at 10:38 | Posted in Economics | 5 Comments

The govt. debt number may not equal the burden number (and in general does not). The size of the current stock of government debt may be much larger than the total amount of the aforementioned screwage. In other words, govt. debt may be $10,000,000,000 today, but the total amount of necessary screwage might be much smaller, or might even be zero. This can happen, for example, if the government spends money on the same people it taxes, or if people leave government bonds to their children in a certain way. So debt is not a book-keeping device that faithfully records the amount of necessary future screwage.

Darling! Let's get deeply into debtNote that this means that government debt’s effect on society is very different from the effect of one household’s debt on that household. If I borrow $10,000 and spend it today, I’m going to need to take a $10,000 hit in the future in order to pay it back. But if the government borrows $10,000 today, it’s quite possible that nobody ever has to take a hit at all.

Noah Smith

Important lesson. Public debt is not equal to a burden on future generations. Positive public debt may well be compatible with there being no burden at all, while having no public debt may indeed be a beast of burden.

Public debt and Keynes’ paradox of thrift

13 February, 2015 at 17:24 | Posted in Economics | 2 Comments

thegeneraltheoryFor although the amount of his own saving is unlikely to have any significant influence on his own income, the reactions of the amount of his consumption on the incomes of others makes it impossible for all individuals simultaneously to save any given sums. Every such attempt to save more by reducing consumption will so affect incomes that the attempt necessarily defeats itself. It is, of course, just as impossible for the community as a whole to save less than the amount of current investment, since the attempt to do so will necessarily raise incomes to a level at which the sums which individuals choose to save add up to a figure exactly equal to the amount of investment.

When applied to the question of public debt, it can be argued that thriftiness and an exaggerated eagerness to pay back the debt lead to counterfinal results — instead of shrinking the debt mountain, it will in fact only make it bigger.

Wrong FocusA starving state reduces the economic activity level, incomes, investments, and tax revenues. Unemployment increases and unemployment payments grows — ultimately resulting in even higher public debt.

Today most mainstream economists are focusing on problems following on public debt being to high. Based on Keynes’ reasoning, I would rather say the focus ought to be on problems following on public debt being too low.

Ricardian equivalence and crowding-out

12 February, 2015 at 19:16 | Posted in Economics | 2 Comments

Before the publication of Keynes’ General Theory, most marginalist economists were against expansionary fiscal policy. It was believed that an increase in government spending would reduce by the same amount private spending, and, hence, it would have no effect on output and employment … This has been known as crowding-out in more recent times.

Amazingly … there is not much research on the effects of deficits on interest rates. Robert Murphy, on the Instructor’s Resources for Mankiw’s manual (funny that is NOT in the manual) says:

“Economists worry, therefore, that high deficits imply low levels of investment, leading ultimately to a lower capital stock and so lower living standards. It is, therefore, important to see if this prediction that high deficits lead to high interest rates is supported by the data. Like many empirical questions in economics, this one is difficult to answer unequivocally. Figure 1 shows a scatterplot of the real government deficit and the ex post real interest rate between 1960 and 2000. While there is some evidence of a positive association, it is not strong.”

The graph below.

Updating the graph for 1962 to 2014, with CPI for deflating the rate of interest, I’ve got the following graph:

There is a very weak, and statistically insignificant relation between deficits and the real rate of interest … Deficits do not seem to impact the rate of interest, and crowding out is not empirically relevant. There are plenty theoretical reasons for not believing in it too. And Ricardian Equivalence is NOT one of those.

Matias Vernengo

Riksbanken och den negativa räntan — ett kvitto på misslyckad ekonomisk politik

12 February, 2015 at 14:29 | Posted in Economics, Politics & Society | 6 Comments

Sveriges_Radio_P4_VRiksbanken sänkte idag reporäntan till minus 0.1%. I den här radiointervjun från tidigare idag ger jag min syn på denna unika åtgärd i svensk histora — men låt mig elaborera lite på de tankegångar jag för fram där.

Grundproblemet i dag för Sveriges krisdrabbade ekonomi är att det är svårt att få fart på hjulen. Ingen vill investera, arbetslösheten är hög och BNP vill inte riktigt öka. I det läget måste målet för en hållbar ekonomisk politik vara att expandera den effektiva efterfrågan för att få kugghjulen att greppa tag och ge ny utväxling.

Den etablerade ekonomiska klokskapen verkar dock vara rörande överens om att Riksbankens reporänta och penningpolitiken är de enda verkningsfulla medlen.

Riksbanken sänkte i dag reporäntan till -0.1%. Men även om det är första gången i modern svensk historia som räntan är negativ, är idén om negativ ränta ingalunda ny.

Den tysk-argentinske ekonomen Silvio Gesell pekade redan vid förra seklets början på att sedlar kunde förses med stämplar som minskar deras värde med ett visst antal procent per år. Vid årsskiftena skulle innehavarna byta ut sina gamla sedlar mot nya, vilket skulle göra det möjligt att ”beskatta” innehavet av pengar.

fSystemet med stämplade pengar (”stamp scrip”) fick den ledande amerikanske nationalekonomen Irving Fishers välsignelse och Keynes menade att idén var ”fullt hållbar”. Man skulle bara se till att kostnaden för stämpelmärkena sattes på en nivå som garanterade en investeringsvolym som var förenlig med uppnåendet av full sysselsättning. Keynes skrev: ”Följaktligen har de reformatorer varit inne på rätt spår, som sökt ett botemedel i skapandet av konstlade förvaringskostnader för pengar genom att kräva att de lagliga betalningsmedlen, för att behålla sin egenskap av pengar, periodiskt skulle stämplas mot en viss kostnad, eller att några liknande åtgärder skulle erfordras.”

Även Maurice Allais – fransk nobelpristagare i ekonomi – framförde på 1940-talet nära besläktade idéer. Allais ville ”underlätta och förbättra konkurrensekonomins funktionssätt”. För att uppnå detta skulle incitamentet för madrassparande elimineras genom en kontinuerlig värdeminskning av pengarna som skulle pressa ner räntan till noll.

Ännu en annan nobelpristagare i ekonomi – norrmannen Ragnar Frisch – fann Gesells idé om en automatisk värdeminskning på pengar ”intressant”.

Dessa ekonomers idéer skulle kunna ge oss värdefull vägledning för hur penningpolitik ska kunna bedrivas i en ekonomi med deflation (i Sverige idag på minus 0.3 %) och det traditionella räntevapnet förefaller allt mer tandlöst.

Kruxet är bara att det inte räcker med att sänka reporäntan. Vi måste också börja våga använda finanspolitiken. Att bara stå på ett ben gör det svårt att balansera. På två ben går det mycket lättare. För att få fart på ekonomin behöver vi både en penningpolitisk och en finanspolitisk dynamo. Det är med andra ord hög tid att skrota förlegade och kontraproduktiva överskottsmål och utgiftstak!

Riksbanken var idag också väldigt tydlig med att räntesänkningen gör läget på tillgångsmarknader — läs bolån — ännu mer prekärt än vad det redan är och att därför andra aktörer måste agera effektivt och kraftfullt för att hindra framför allt bostadsbubblan från att fortsätta att bara växa och växa.

Räntesänkningen idag är mer än något annat ett kvitto på att den nyliberala åtstramningspolitiken nått vägs ände. Om den inte ersätts — och det snart — med en mer expansiv ekonomisk politik ser den svenska ekonomins framtid verkligt mörk ut.

Tillägg 16.30: Mer om “räntevansinnet” hittar du här.

Tillägg 17.30: Efter att ha blivit intervjuad flera gånger idag av media och försökt förklara (t ex i Expressen) varför det är så viktigt att vi har en måttlig inflation — 3-4 % — istället för dagens sanslösa och i grunden onödiga deflation, kom jag att tänka på att det kanske är lättare att förstå resonemanget med hjälp av en parabel. Så …

Anta att du har ett kooperativ där en grupp föräldrar ställer upp och sitter barnvakt mot betalning i form av andelsbevis (kuponger) som berättigar innehavaren en timmes barnvakt. Anta vidare att systemet garanterar att varje förälder sitter barnvakt lika många timmar som man själv använder barnvakt.

Problemet med denna form av barnvaktssystem är att det kräver tillräckligt många kuponger i cirkulation. Risken finns att föräldrar som för tillfället inte har behov av barnvakt bjuder ut sina tjänster i större omfattning för att kunna ackumulera reserver av kuponger för användning i framtiden, när man tror sig ha mer behov av barnvakt.

Över tiden kan detta resultera i en kumulativ process som gör att alldeles för få kuponger cirkulerar. De som vill ackumulera kuponger efterfrågar ingen barnpassning, de som behöver barnpassning har svårt att hitta barnvaktsuppdrag, vilket i sin tur gör att föräldrar är ännu ovilligare att spendera sina reserver o s v. Lågkonjunktur för barnvaktskooperativet är ett faktum. Orsak: för låg effektiv efterfrågan. Istället för att konsumera barnvaktstid ackumulerar man kuponger.

Hur tar man sig ur denna lågkonjunktur? Man ökar helt enkelt utbudet på kuponger! Genom att utfärda fler kuponger, ökar kupongreserverna hos föräldrarna, som därigenom blir både mer villiga att sitta barnvakt och efterfråga banvakt o s v. Genom att trycka fler kuponger vänder man konjunkturnedgången.

Men ibland händer det likväl att vissa föräldrar kanske behöver mer barnvakt på kort tid än vad de hinner ackumulera i form av kuponger att betala med. Kooperativet kan då bestämma att föräldrar kan låna ett extra antal kuponger mot att man i framtiden betalar tillbaka dessa. För att systemet inte ska utnyttjas av rent okynne bestämmer man också att låntagarna utöver de lånade kupongerna betalar tillbaka ett antal ytterligare kuponger (ränta).

I normalfallet fungerar detta väl. Men om säsongsvariationen är stor (alla vill kanske helst ha barnpassning på våren) skulle man kunna hamna i en situation där även om kuponglånen kunde betalas tillbaka med noll procents ränta så skulle det finnas fler föräldrar som vill sitta barnvakt än föräldrar som efterfrågar barnvakt. Kooperativet befinner sig i en likviditetsfälla och lågkonjunkturen står åter för dörren.

Vad gör man? Man sätter priset på barnvaktstjänsten rätt – så klart. Värdet på de kuponger som tjänas in under ”lågsäsong” skrivs helt enkelt ner om föräldrar håller på dem till ”högsäsong”. Det innebär att föräldrar har incitament att spendera sina barnvaktskuponger snabbare istället för att lägga dem på hög (tesaurera), eftersom kupongernas reala värde minskar över tiden. Ungefär som pengar när man har inflation. Nedskrivning – och redan förväntningen om en framtida nedskrivning – av kupongernas respektive pengarnas värde innebär på så vis att man kan ta sig ur likviditetsfällan och få fart på kooperativ och ekonomi.

Vad säger oss då denna lilla parabel? Jo, att inflation kan hjälpa oss ta oss ur ekonomiska lågkonjunkturer och depressioner. Inflation får oss att spendera nu – vare sig det gäller barnvaktskuponger eller pengar – och ökar den effektiva efterfrågan och får fart på både kooperativ och ekonomin.

Keynes, John Maynard (1994(1936)): Allmän teori om sysselsättning, ränta och pengar  Pontes
Krugman, Paul (2009): Krisen – orsaker, verkan, åtgärder  Leopards Förlag

Mark Blyth on public debt and Ricardian equivalence

12 February, 2015 at 09:05 | Posted in Economics | Comments Off on Mark Blyth on public debt and Ricardian equivalence

[h/t Gabriel Uriarte]

The true nature of public debt

11 February, 2015 at 17:39 | Posted in Economics | 13 Comments

national debt5One of the most effective ways of clearing up this most serious of all semantic confusions is to point out that private debt differs from national debt in being external. It is owed by one person to others. That is what makes it burdensome. Because it is interpersonal the proper analogy is not to national debt but to international debt…. But this does not hold for national debt which is owed by the nation to citizens of the same nation. There is no external creditor. We owe it to ourselves.

A variant of the false analogy is the declaration that national debt puts an unfair burden on our children, who are thereby made to pay for our extravagances. Very few economists need to be reminded that if our children or grandchildren repay some of the national debt these payments will be made to our children or grandchildren and to nobody else. Taking them altogether they will no more be impoverished by making the repayments than they will be enriched by receiving them.

Abba Lerner The Burden of the National Debt (1948)

Added 18:30 GMT: But how about Ricardian equivalence then? Surely Lerner would have had a different view if only he had been familiar with that pivotal element of “modern” macroeconomics? I’ll be dipped!

Ricardian equivalence basically means that financing government expenditures through taxes or debts is equivalent, since debt financing must be repaid with interest, and agents — equipped with rational expectations — would only increase savings in order to be able to pay the higher taxes in the future, thus leaving total expenditures unchanged.



In the standard neoclassical consumption model — used in DSGE macroeconomic modeling — people are basically portrayed as treating time as a dichotomous phenomenon  today and the future — when contemplating making decisions and acting. How much should one consume today and how much in the future? Facing an intertemporal budget constraint of the form

ct + cf/(1+r) = ft + yt + yf/(1+r),

where ct is consumption today, cf is consumption in the future, ft is holdings of financial assets today, yt is labour incomes today, yf is labour incomes in the future, and r is the real interest rate, and having a lifetime utility function of the form

U = u(ct) + au(cf),

where a is the time discounting parameter, the representative agent (consumer) maximizes his utility when

u'(ct) = a(1+r)u'(cf).

This expression – the Euler equation – implies that the representative agent (consumer) is indifferent between consuming one more unit today or instead consuming it tomorrow. Typically using a logarithmic function form – u(c) = log c – which gives u'(c) = 1/c, the Euler equation can be rewritten as

1/ct = a(1+r)(1/cf),


cf/ct = a(1+r).

This importantly implies that according to the neoclassical consumption model changes in the (real) interest rate and consumption move in the same direction. And — it also follows that consumption is invariant to the timing of taxes, since wealth — ft + yt + yf/(1+r) — has to be interpreted as present discounted value net of taxes. And so, according to the assumption of Ricardian equivalence, the timing of taxes does not affect consumption, simply because the maximization problem as specified in the model is unchanged.

That the theory doesn’t fit the facts we already knew.

A couple of months ago, Jonathan A. Parker summarized a series of studies empirically testing the theory, reconfirming how out of line with reality is Ricardian equivalence.

This only, again, underlines that there is, of course, no reason for us to believe in that fairy-tale. Ricardo himself — mirabile dictu — didn’t believe in Ricardian equivalence. In Essay on the Funding System (1820) he wrote:

But the people who paid the taxes never so estimate them, and therefore do not manage their private affairs accordingly. We are too apt to think that the war is burdensome only in proportion to what we are at the moment called to pay for it in taxes, without reflecting on the probable duration of such taxes. It would be difficult to convince a man possessed of £20,000, or any other sum, that a perpetual payment of £50 per annum was equally burdensome with a single tax of £1000.

And as one Nobel laureate had it:

Ricardian equivalence is taught in every graduate school in the country. It is also sheer nonsense.

Joseph E. Stiglitz, twitter

Non-contagious rigour & DSGE models

11 February, 2015 at 13:53 | Posted in Economics | 1 Comment

broken-linkMicrofounded DSGE models standardly assume rational expectations, Walrasian market clearing, unique equilibria, time invariance, linear separability and homogeneity of both inputs/outputs and technology, infinitely lived intertemporally optimizing representative household/ consumer/producer agents with homothetic and identical preferences, etc., etc. At the same time the models standardly ignore complexity, diversity, uncertainty, coordination problems, non-market clearing prices, real aggregation problems, emergence, expectations formation, etc., etc.

Behavioural and experimental economics — not to speak of psychology — show beyond any doubts that “deep parameters” — peoples’ preferences, choices and forecasts — are regularly influenced by those of other participants in the economy. And how about the homogeneity assumption? And if all actors are the same – why and with whom do they transact? And why does economics have to be exclusively teleological (concerned with intentional states of individuals)? Where are the arguments for that ontological reductionism? And what about collective intentionality and constitutive background rules?

These are all justified questions – so, in what way can one maintain that these models give workable microfoundations for macroeconomics? Science philosopher Nancy Cartwright gives a good hint at how to answer that question:

Our assessment of the probability of effectiveness is only as secure as the weakest link in our reasoning to arrive at that probability. We may have to ignore some issues to make heroic assumptions about them. But that should dramatically weaken our degree of confidence in our final assessment. Rigor isn’t contagious from link to link. If you want a relatively secure conclusion coming out, you’d better be careful that each premise is secure going on.

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