Randomization revisited

5 Apr, 2020 at 16:55 | Posted in Economics | Leave a comment

Development economists have been using randomized controlled trials (RCTs) for the best part of two decades, and economists working on welfare policies in the US have been doing so for much longer. The years of experience have made the discussions richer and more nuanced, and both proponents and critics have learned from one another, at least to an extent. In this essay, I do not attempt to reconstruct the full range of questions that I have written about elsewhere. Instead, I focus on a few of the issues that are prominent in this volume of critical perspectives.

imagesThe RCT is a useful tool, but I think that is a mistake to put method ahead of substance. I have written papers using RCTs. Like other methods of investigation, they are often useful, and, like other methods, they have dangers and drawbacks. Methodological prejudice can only tie our hands. Context is always important, and we must adapt our methods to the problem at hand. It is not true that an RCT, when feasible, will always do better than an observational study. This should not be controversial, but my reading of the rhetoric in the literature suggests that the following statements might still make some uncomfortable, particularly the second: (a) RCTs are affected by the same problems of inference and estimation that economists have faced using other methods, and (b) no RCT can ever legitimately claim to have established causality.

My theme is that RCTs have no special status, they have no exemption from the problems of inference that econometricians have always wrestled with, and there is nothing that they, and only they, can accomplish. Just as none of the strengths of RCTs are possessed by RCTs alone, none of their weaknesses are theirs alone, and I shall take pains to emphasize those facts. There is no gold standard. There are good studies and bad studies, and that is all.

Angus Deaton

Great essay.

The point of making a randomized experiment is often said to be that it ‘ensures’ that any correlation between a supposed cause and effect indicates a causal relation. This is believed to hold since randomization (allegedly) ensures that a supposed causal variable does not correlate with other variables that may influence the effect.

The problem with that simplistic view on randomization is that the claims made are both exaggerated and false:

• Even if you manage to do the assignment to treatment and control groups ideally random, the sample selection certainly is — except in extremely rare cases — not random. Even if we make a proper randomized assignment, if we apply the results to a biased sample, there is always the risk that the experimental findings will not apply. What works ‘there,’ does not work ‘here.’ Randomization hence does not ‘guarantee ‘ or ‘ensure’ making the right causal claim. Although randomization may help us rule out certain possible causal claims, randomization per se does not guarantee anything!

• Even if both sampling and assignment are made in an ideal random way, performing standard randomized experiments only give you averages. The problem here is that although we may get an estimate of the ‘true’ average causal effect, this may ‘mask’ important heterogeneous effects of a causal nature. Although we get the right answer of the average causal effect being 0, those who are ‘treated’ may have causal effects equal to -100 and those ‘not treated’ may have causal effects equal to 100. Contemplating being treated or not, most people would probably be interested in knowing about this underlying heterogeneity and would not consider the average effect particularly enlightening.

• There is almost always a trade-off between bias and precision. In real-world settings, a little bias often does not overtrump greater precision. And — most importantly — in case we have a population with sizeable heterogeneity, the average treatment effect of the sample may differ substantially from the average treatment effect in the population. If so, the value of any extrapolating inferences made from trial samples to other populations is highly questionable.

• Since most real-world experiments and trials build on performing a single randomization, what would happen if you kept on randomizing forever, does not help you to ‘ensure’ or ‘guarantee’ that you do not make false causal conclusions in the one particular randomized experiment you actually do perform. It is indeed difficult to see why thinking about what you know you will never do, would make you happy about what you actually do.

Deaton’s essay underscores the problem many ‘randomistas’ end up with when underestimating heterogeneity and interaction is not only an external validity problem when trying to ‘export’ regression results to different times or different target populations. It is also often an internal problem to the millions of regression estimates that economists produce every year.

‘Ideally controlled experiments’ tell us with certainty what causes what effects — but only given the right ‘closures.’ Making appropriate extrapolations from (ideal, accidental, natural or quasi) experiments to different settings, populations or target systems, is not easy. And since trials usually are not repeated, unbiasedness and balance on average over repeated trials say nothing about any one trial. ‘It works there’ is no evidence for ‘it will work here.’ Causes deduced in an experimental setting still have to show that they come with an export-warrant to the target population/system. The causal background assumptions made have to be justified, and without licenses to export, the value of ‘rigorous’ and ‘precise’ methods — and ‘on-average-knowledge’ — is despairingly small.

RCTs have very little reach beyond giving descriptions of what has happened in the past. From the perspective of the future and for policy purposes they are as a rule of limited value since they cannot tell us what background factors were held constant when the trial intervention was being made.

RCTs usually do not provide evidence that the results are exportable to other target systems. RCTs cannot be taken for granted to give generalizable results. That something works somewhere for someone is no warranty for us to believe it to work for us here or even that it works generally.

Statsskulden är vårt minsta problem nu

4 Apr, 2020 at 14:37 | Posted in Economics | 1 Comment

Den största risken är att vi precis som 2008 underskattar nedgången … Men Magdalena Andersson verkar fast i sin metafor att hon sparat duktigt och därför kan vi använda lite av det hon ”sparat i ladan”. Men metaforen är fel, för en regering måste skydda sin befolkning även när ”ladan är tom”.

Coronavirus economic impact concept imageI stora kriser som krig och pandemier ställs de vanliga reglerna på ända. Precis allt måste göras för att besegra viruset och skydda samhället från en större katastrof. Den sjukvårdskris som snart kommer explodera har vi dessutom sparat oss in i. Just nu hade vi hellre haft fler anställda och vårdplatser än alla miljarder kronor vi sparat. Därför trollas det nu med knäna i vården för att reparera 30 års svältkur.

Den andra krisen är den massarbetslöshet och ekonomiska depression vi står inför. Även den måste regeringen göra allt för att hindra …

Det är dags att lägga 90-talets sparretorik bakom sig. Ladan brinner. Om den ska kunna släckas avgörs inom kort. Framtiden kommer döma försiktiga politiker hårt.

Daniel Suhonen

Yours truly och några få andra nationalekonomer — de som fortfarande har lite kontakt med verkligheten — har under ett par års tid nu frågat sig varför vi i det här landet har en regering som inte vågar satsa på en offensiv finanspolitik och låna mer. Inte minst mot bakgrund av de historiskt låga räntorna är det ett gyllene tillfälle att satsa på investeringar inom infrastruktur, vård, skola och välfärd.

Tyvärr verkar det som om Magdalena Andersson — i likhet med många andra studenter från Handelshögskolan i Stockholm — har rejäla kunskapsluckor. Kanske borde man sluta lära ut monetaristiskt Chicago-nonsens från 70-talet och istället följa med i teoriutvecklingen. Lite ‘functional finance’ och MMT kanske inte skulle skada även på maktelitens lekskola …

Ett lands statsskuld är sällan en orsak till ekonomisk kris, utan snarare ett symtom på en kris som sannolikt blir värre om inte underskotten i de offentliga finan­serna får öka.

Den ­svenska utlandsskulden är historiskt låg. Den konsoliderade statsskulden ligger idag på lite över 20 procent av BNP och enligt regeringens prognoser kommer den att vara kring 16 procent om två år. Med tanke på de stora utmaningar som Sverige står inför i coronavirusets kölvatten är fortsatt tal om “ansvar” för statsbudgeten minst sagt oansvarigt. I stället för att ”värna om statsfinanserna” bör en ansvarsfull rege­ringen se till att värna om samhällets framtid. När numera t.o.m. IMF insett att det är kontraproduktivt att föra en ekonomisk politik med syfte att minska statsskulden, är det minst sagt bedrövligt när en regering inte insett att problemet med en statsskuld i en situation med nästintill negativa räntor inte är att den är för stor, utan för liten.

How money is created

4 Apr, 2020 at 10:29 | Posted in Economics | 23 Comments

Everything we know is not just wrong – it’s backwards. When banks make loans, they create money. This is because money is really just an IOU. The role of the central bank is to preside over a legal order that effectively grants banks the exclusive right to create IOUs of a certain kind, ones that the government will recognise as legal tender by its willingness to accept them in payment of taxes.

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There’s really no limit on how much banks could create, provided they can find someone willing to borrow it. They will never get caught short, for the simple reason that borrowers do not, generally speaking, take the cash and put it under their mattresses; ultimately, any money a bank loans out will just end up back in some bank again. So for the banking system as a whole, every loan just becomes another deposit. What’s more, insofar as banks do need to acquire funds from the central bank, they can borrow as much as they like; all the latter really does is set the rate of interest, the cost of money, not its quantity. Since the beginning of the recession, the US and British central banks have reduced that cost to almost nothing. In fact, with “quantitative easing” they’ve been effectively pumping as much money as they can into the banks, without producing any inflationary effects.

What this means is that the real limit on the amount of money in circulation is not how much the central bank is willing to lend, but how much government, firms, and ordinary citizens, are willing to borrow. Government spending is the main driver in all this … So there’s no question of public spending “crowding out” private investment. It’s exactly the opposite.

David Graeber

Sounds odd, doesn’t it?

This guy must sure be one of those strange and dangerous heterodox cranks?

Well, maybe you should reconsider …

The reality of how money is created today differs from the description found in some economics textbooks:
• Rather than banks receiving deposits when households save and then lending them out, bank lending creates deposits.
• In normal times, the central bank does not fix the amount of money in circulation, nor is central bank money ‘multiplied up’ into more loans and deposits …
Most of the money in circulation is created, not by the printing presses of the Bank of England, but by the commercial banks themselves: banks create money whenever they lend to someone in the economy or buy an asset from consumers. And in contrast to descriptions found in some textbooks, the Bank of England does not directly control the quantity of either base or broad money. The Bank of England is nevertheless still able to influence the amount of money in the economy. It does so in normal times by setting monetary policy — through the interest rate that it pays on reserves held by commercial banks with the Bank of England. More recently, though, with Bank Rate constrained by the effective lower bound, the Bank of England’s asset purchase programme has sought to raise the quantity of broad money in circulation. This in turn affects the prices and quantities of a range of assets in the economy, including money.

Michael McLeay, Amar Radia and Ryland Thomas
Bank of England’s Monetary Analysis Directorate

Politiska reformer bakom ökade ojämlikheten

3 Apr, 2020 at 18:38 | Posted in Economics | 1 Comment

Både den rikaste och den fattigaste tiondelen av befolkningen sticker ut i statistiken, men det finns även skillnader inom dessa grupper. Under 70-talet minskade de rikaste 10 procentens andel av inkomsterna från omkring en fjärdedel till en femtedel, men har sedan 1980 knaprat sig tillbaka. Den rikaste procentens andel har däremot nästan fördubblats till cirka 7 procent av landets samlade inkomster. Det mesta av ökningen står kapitalinkomsterna för, en inkomst som kommer av sparat kapital snarare än arbete.

loDet beror på marknaden, men även 80-talets avregleringar (privatisering av statliga bolag) och andra politiska reformer. Redan 1991 sänktes skatten på kapitalinkomster, vilket gör det lönsammare att ta ut vinster som utdelning i stället för lön. Under 00-talet avskaffades skatterna på arv och gåvor, förmögenhet och fastigheter.

Jobbskatteavdragen och det ökade värdet av bostäder och bostadsrätter har spätt på ökningen mellan de rikaste och de fattigaste ytterligare. En effekt är att utdelningarna i onoterade fåmansbolag har ökat. För sådana är skatten 10 procentenheter lägre än i börsnoterade bolag.

– Det finns ett enormt incitament för ägare av fåmansbolag att ta ut sina inkomster som utdelning i stället för lön. De går primärt till människor i den övre delen av inkomstfördelningen. Och samtidigt som kapitalinkomsterna i toppen ökat så har de som saknar jobb halkat efter i relativa termer, säger Håkan Selin, docent i nationalekonomi och verksam vid IFAU, Institutet för arbetsmarknads- och utbildningspolitisk utvärdering.

Mats Karlsson / Forskning.se

Cauchy logic and economics

3 Apr, 2020 at 11:21 | Posted in Economics | Leave a comment

 

Yours truly has no problem with solving problems in mathematics by ‘defining’ them away. But how about the real world? Maybe that ought to be a question to ponder even for economists all to fond of uncritically following the mathematical way when applying their mathematical models to the real world, where indeed “you can never have infinitely many heaps” …

In econometrics we often run into the ‘Cauchy logic’ — the data is treated as if it were from a larger population, a ‘superpopulation’ where repeated realizations of the data are imagined. Just imagine there could be more worlds than the one we live in and the problem is fixed …

Accepting Haavelmo’s domain of probability theory and sample space of infinite populations – just as Fisher’s “hypothetical infinite population, of which the actual data are regarded as constituting a random sample”, von Mises’s “collective” or Gibbs’s ”ensemble” – also implies that judgments are made on the basis of observations that are actually never made!

Infinitely repeated trials or samplings never take place in the real world. So that cannot be a sound inductive basis for a science with aspirations of explaining real-world socio-economic processes, structures or events. It’s — just as the Cauchy mathematical logic of ‘defining’ away problems — not tenable.

In social sciences — including economics — it’s always wise to ponder C. S. Peirce’s remark that universes are not as common as peanuts …

Coronakrisen — ett postkeynesianskt perspektiv

2 Apr, 2020 at 17:07 | Posted in Economics | 2 Comments

UnknownDet har uppstått ett brett politiskt stöd under coronakrisen för finanspolitiska stimulanser i de enskilda EU-länderna (och i Storbritannien). EU har åtminstone tillfälligt släppt sina stränga krav på offentlig budgetbalans och de nationella regeringarna har tvingats att göra avkall på sina egna finanspolitiska regler. Den expansiva finanspolitiken på ländernivå för att rädda jobb och företag har få restriktioner. Långräntorna är låga och kommer förmodligen att sjunka ytterligare trots de finanspolitiska åtgärderna – finansmarknaden förväntar sig nya penningpolitiska stimulanser och regeringar och riksbanker kommer att skapa nya pengar för att ”finansiera” de offentliga budgetunderskotten. Inflationstrycket i dagens internationella lågkonjunktur är dessutom obefintligt.

Vidare ökar utrymmet för en inhemsk efterfrågestimulans i länder som Sverige när även omvärlden för en liknande ekonomisk politik. De stora OECD-ländernas expansiva finanspolitik kommer dessutom att gynna Sveriges export. Det är fullt förståeligt att EuroMemo inte kan särbehandla EU-länder med en egen valuta i sitt upprop. Men vi kan inte bortse ifrån det faktum att kronans värde har en tendens att sjunka i tider av turbulenta finansmarknader. Krondeprecieringar utgör en ytterligare stimulans av vår export. Till detta ska läggas att en expansiv finanspolitisk i ett land på basis av ett ökat offentligt penningutbud förutsätter att landet har en egen valuta. En samordnad eller rentav samfälld finanspolitik i EU är inte bara en politisk omöjlighet i dagsläget utan också av mindre betydelse för Sverige under coronakrisen.

Det hade kanske varit på sin plats i uppropet med en kommentar av de företags- och bankstöd som redan har genomförts i EU-länderna. Förslag om en alternativ ekonomisk politik hade varit välkomna. Uppropet menar att en finansiering av offentliga initiativ för att övervinna coronakrisen och bygga upp en hållbar framtid är omöjlig på nationell nivå. Konkret rekommenderar uppropet en utgivning av euroobligationer och en förstärkning av EUs budget, åtgärder som dock är svåra att genomföra, speciellt med kort varsel för att lindra dagens ekonomiska kris.

För att förhindra massarbetslöshet, fattigdom och ojämlikhet måste den sociala dimensionen prioriteras i den ekonomiska politiken på EU-nivå enligt uppropet Men det hade varit konstruktivt att nämna behovet av en omfattande utbildnings- och arbetsmarknadspolitik för att möta kraven på en omställning av produktionen i coronakrisens kölvatten. I en rapport uttryckte EuroMemo Group nyligen en kritik av den omställningsorienterade arbetsmarknadspolitiken. Rapporten avfärdade politiken som en nordisk variant av ”supply-side economics”. Den förespråkade i stället Hyman Minskys ”job creation programs”, ett doktrinärt och snävt synsätt som även var svårt att försvara innan coronakrisen.

Ett progressivt program för att bekämpa dagens ekonomiska kris och lägga grunden till en återhämtning i EU-området måste bestå av åtgärder på nationell nivå som är ”postkeynesianskt” efterfrågeorienterade och ”nordiskt” utbudsorienterade. Köpkraften måste upprätthållas genom skattelättnader för låg- och medelinkomsttagare, reformeringar av pensions- och socialförsäkringssystemet- och helikopterpengar. En massiv satsning på utbildning och arbetsmarknadspolitik är nödvändig för att arbetslösa tillfälligt ska kunna ta andra jobb under dagens ekonomiska kris och för att anpassa arbetsmarknaden till en ekonomi utan corona. Skattelättnader för och subventioner till gröna investeringar är andra exempel på en progressiv utbudsekonomi.

Lennart Erixon

Dumb and Dumber — the Chicago version

2 Apr, 2020 at 12:18 | Posted in Economics | Leave a comment

dumb_aA couple of years ago, in a lecture on the US recession, Robert Lucas gave an outline of what the New Classical school of macroeconomics today thinks on the latest downturns in the US economy and its future prospects.

Lucas starts by showing that real US GDP has grown at an average yearly rate of 3 per cent since 1870, with one big dip during the Depression of the 1930s and a big – but smaller – dip in the recent recession.

After stating his view that the US recession that started in 2008 was basically caused by a run for liquidity, Lucas then goes on to discuss the prospect of recovery from where the US economy is today, maintaining that past experience would suggest an “automatic” recovery, if the free market system is left to repair itself to equilibrium unimpeded by social welfare activities of the government.

As could be expected there is no room for any Keynesian type considerations on eventual shortages of aggregate demand discouraging the recovery of the economy. No, as usual in the new classical macroeconomic school’s explanations and prescriptions, the blame game points to the government and its lack of supply side policies.

Lucas is convinced that what might arrest the recovery are higher taxes on the rich, greater government involvement in the medical sector and tougher regulations of the financial sector. But — if left to run its course unimpeded by European type welfare state activities — the free market will fix it all.

In a rather cavalier manner — without a hint of argument or presentation of empirical facts — Lucas dismisses even the possibility of a shortfall of demand. For someone who already 30 years ago proclaimed Keynesianism dead — “people don’t take Keynesian theorizing seriously anymore; the audience starts to whisper and giggle to one another” — this is of course only what could be expected. Demand considerations are simply ruled out on whimsical theoretical-ideological grounds, much like we have seen other neo-liberal economists do over and over again in their attempts to explain away the fact that the latest economic crises shows how the markets have failed to deliver. If there is a problem with the economy, the true cause has to be government.

Chicago economics is a dangerous pseudo-scientific zombie ideology that ultimately relies on the poor having to pay for the mistakes of the rich. Trying to explain business cycles in terms of rational expectations has failed blatantly. Maybe it would be asking too much of freshwater economists like Lucas to concede that, but it’s still a fact that ought to be embarrassing.

shackleIf at some time my skeleton should come to be used by a teacher of osteology to illustrate his lectures, will his students seek to infer my capacities for thinking, feeling, and deciding from a study of my bones? If they do, and any report of their proceedings should reach the Elysian Fields, I shall be much distressed, for they will be using a model which entirely ignores the greater number of relevant variables, and all of the important ones. Yet this is what ‘rational expectations’ does to economics.

G. L. S. Shackle

Game theory — a scientific cul-de-sac

1 Apr, 2020 at 13:56 | Posted in Economics | 4 Comments

Half a century ago there were widespread hopes game theory would provide a unified theory of social science. Today it has become obvious those hopes did not materialize. This ought to come as no surprise. Reductionist and atomistic models of social interaction — such as the ones mainstream economics and game theory are founded on — will never deliver sustainable building blocks for a realist and relevant social science. That is also — as yours truly argues in real-world economics review — the reason why game theory never will be anything but a footnote in the history of social science.

Lars Pålsson Syll_06Heavy use of formalism and mathematics easily foster the view that a theory is scientific. But although game theory may produce ‘absolute truths’ in imaginary model worlds, in the real world the game theoretic models are nothing but — as Rubinstein (2012a) puts it — fables. Fables much reminiscent of the models used in logic, but also like them, delivering very little of value for social sciences trying to explain and understand real-life phenomena. The games that game theory portrays are model constructs, models without significant predictive capacity simply because they do not describe an always much more complex and uncertain reality …

Although some economists consider it useful to apply game theory and use game theoretical definitions, axioms, and theorems and (try to) test if real-world phenomena ‘satisfy’ the axioms and the inferences made from them, we have argued that that view is without warrant. When confronted with the real world we can (hopefully) judge if game theory really tells us if things are as postulated. The final court of appeal for models is the real world, and as long as no convincing justification is put forward for how the inferential bridging de facto is made, model building is little more than hand-waving that give us rather little warrant for making inductive inferences from the model world to the real world.

The real challenge in social science is to accept uncertainty and still try to explain why different kinds of transactions and social interactions take place. Simply conjuring problems away by assuming patently unreal things and treating uncertainty as if it was possible to reduce to stochastic risk, is like playing tennis with the net down. That is not the kind of game that scientists working on constructing a relevant and realist science want to play.

Maths and economics

31 Mar, 2020 at 15:05 | Posted in Economics | Leave a comment

Many American undergraduates in Economics interested in doing a Ph.D. are surprised to learn that the first year of an Econ Ph.D. feels much more like entering a Ph.D. in solving mathematical models by hand than it does with learning economics. Typically, there is very little reading or writing involved, but loads and loads of fast algebra is required. Why is it like this? …

ecoOne reason to use math is that it is easy to use math to trick people. Often, if you make your assumptions in plain English, they will sound ridiculous. But if you couch them in terms of equations, integrals, and matrices, they will appear more sophisticated, and the unrealism of the assumptions may not be obvious, even to people with Ph.D.’s from places like Harvard and Stanford, or to editors at top theory journals such as Econometrica …

Given the importance of signaling in all walks of life, and given the power of math, not just to illuminate and to signal, but also to trick, confuse, and bewilder, it thus makes perfect sense that roughly 99% of the core training in an economics Ph.D. is in fact in math rather than economics.

Douglas L. Campbell

Indeed.

No, there is nothing wrong with mathematics per se.

No, there is nothing wrong with applying mathematics to economics.

amathMathematics is one valuable tool among other valuable tools for understanding and explaining things in economics.

What is, however, totally wrong, are the utterly simplistic beliefs that

• “math is the only valid tool”

• “math is always and everywhere self-evidently applicable”

• “math is all that really counts”

• “if it’s not in math, it’s not really economics”

• “almost everything can be adequately understood and analyzed with math”

Mainstream economists have always wanted to use their hammer, and so have decided to pretend that the world looks like a nail. Pretending that uncertainty can be reduced to risk and that all activities, relations, processes and events can be adequately converted to pure numbers, have only contributed to making economics irrelevant and powerless when confronting real-world financial crises and economic havoc.

How do we put an end to this intellectual cataclysm? How do we re-establish credence and trust in economics as a science? Five changes are absolutely decisive.

(1) Stop pretending that we have exact and rigorous answers on everything. Because we don’t. We build models and theories and tell people that we can calculate and foresee the future. But we do this based on mathematical and statistical assumptions that often have little or nothing to do with reality. By pretending that there is no really important difference between model and reality we lull people into thinking that we have things under control. We haven’t! This false feeling of security was one of the factors that contributed to the financial crisis of 2008.

(2) Stop the childish and exaggerated belief in mathematics giving answers to important economic questions. Mathematics gives exact answers to exact questions. But the relevant and interesting questions we face in the economic realm are rarely of that kind. Questions like “Is 2 + 2 = 4?” are never posed in real economies. Instead of a fundamentally misplaced reliance on abstract mathematical-deductive-axiomatic models having anything of substance to contribute to our knowledge of real economies, it would be far better if we pursued “thicker” models and relevant empirical studies and observations.

(3) Stop pretending that there are laws in economics. There are no universal laws in economics. Economies are not like planetary systems or physics labs. The most we can aspire to in real economies is establishing possible tendencies with varying degrees of generalizability.

(4) Stop treating other social sciences as poor relations. Economics has long suffered from hubris. A more broad-minded and multifarious science would enrich today’s altogether too autistic economics.

(5) Stop building models and making forecasts of the future based on totally unreal micro-founded macro models with intertemporally optimizing robot-like representative actors equipped with rational expectations. This is pure nonsense. We have to build our models on assumptions that are not so blatantly in contradiction to reality. Assuming that people are green and come from Mars is not a good – not even as a ‘successive approximation’ – modelling strategy.

Good reasons to become a Keynesian

30 Mar, 2020 at 18:14 | Posted in Economics | 1 Comment

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

Chicago economics — in praise of superficiality

29 Mar, 2020 at 14:50 | Posted in Economics | 9 Comments

igTo observe that economics is based on a superficial view of individual and social behaviour does not seem to me to be much of an insight. I think it is exactly this superficiality that gives economics much of the power that it has. Its ability to predict human behaviour without knowing very much about the make up and lives of the people whose behaviour we are trying to understand.

Robert Lucas

The purported strength of Chicago — New Classical — macroeconomics is that it has firm anchorage in preference-based microeconomics, and especially that the decisions are taken by inter-temporal utility maximizing ‘forward-looking’ individuals.

To some of us, however, this has come at too high a price. The almost quasi-religious insistence that macroeconomics has to have microfoundations — without ever presenting neither ontological nor epistemological justifications for this claim — has put a blind eye to the weakness of the whole enterprise of trying to depict a complex economy based on an all-embracing representative actor equipped with superhuman knowledge, forecasting abilities and forward-looking rational expectations.

That anyone should take that kind of stuff seriously is totally and unbelievably ridiculous. Or as Robert Solow has it:

4703325Suppose someone sits down where you are sitting right now and announces to me that he is Napoleon Bonaparte. The last thing I want to do with him is to get involved in a technical discussion of cavalry tactics at the battle of Austerlitz. If I do that, I’m getting tacitly drawn into the game that he is Napoleon. Now, Bob Lucas and Tom Sargent like nothing better than to get drawn into technical discussions, because then you have tacitly gone along with their fundamental assumptions; your attention is attracted away from the basic weakness of the whole story. Since I find that fundamental framework ludicrous, I respond by treating it as ludicrous – that is, by laughing at it – so as not to fall into the trap of taking it seriously and passing on to matters of technique.

Robert Solow

Covid-19 and the magic money tree

28 Mar, 2020 at 09:52 | Posted in Economics | 3 Comments

What will be the lasting effects of the covid-19 pandemic? Start with the size of the state. Over the next year government debt will rise sharply, as spending jumps and tax revenues collapse. When the economy recovers, attention will turn to paying it down. “Capital and Ideology”, a new book by Thomas Piketty, shows that after the first and second world wars many governments in the West turned to heavier taxation of the incomes and wealth of the richest to achieve that goal …

treeCentral banks’ innovations will also have lasting consequences. Few economists believe that the explicit co-operation between the fiscal and monetary authorities risks creating runaway inflation … However, just as the use of quantitative easing in 2008-09 opened the door to more of the same down the road, it will become harder to make the argument that the “magic money tree” does not exist … If central banks promised to fund the government during the coronavirus pandemic, they might ask, then why shouldn’t they also fund it to launch an expensive war against a foreign enemy or to invest in a Green New Deal?

Calls for a more activist fiscal-monetary government will come against a backdrop of structurally higher demand for state spending. The public sector tends to provide labour-intensive services in which productivity improvements are difficult, such as health care and education. It must match the salaries of workers in other sectors in order to retain its own, even as they become less productive relative to the overall economy—a phenomenon which raises the cost of provision. Long before the coronavirus pandemic, fiscal wonks argued that government spending would soar during the 2020s, even in the absence of a crisis. That was not only or even primarily because an ageing population would raise demand for health care, but because health systems would be able to treat a wider range of illnesses more effectively, which would push up costs.

The likely economic effects of the pandemic reach far beyond the role of the state … But the redefined role of the state could prove to be the most significant shift. The rules of the game have been moving in one direction for centuries. Another radical change is looming.

The Economist

‘New Keynesians’ have long been arguing that, at the zero lower bound of nominal interest rates, central bankers don’t have the tools to effectively fight recessions. This yours truly and other Post Keynesian economists have criticized, arguing that those monetary measures don’t work even when we’re not even close to the zero lower bound.

In the ‘New Keynesian’ world we don’t need fiscal policy other than when interest rates hit their lower bound (ZLB). In normal times monetary policy suffices. The central banks simply adjust the interest rate to achieve full employment without inflation. If governments in that situation take on larger budget deficits, these tend to crowd out private spending and the interest rates get higher.

Now, the logic behind the New ‘Keynesians’ loanable-funds-IS-LM-theory is that if the government is going to pursue an expansionary fiscal policy it will have to borrow money and thereby increase the demand for loanable funds which will — “other things equal” — lead to higher interest rates and less private investment. According to this approach, the interest rate is endogenized by assuming that Central Banks can (try to) adjust it in response to an eventual output gap. This, of course, is essentially nothing but an assumption of Walras’ law being valid and applicable, and that a fortiori the attainment of equilibrium is secured by the Central Banks’ interest rate adjustments. From a Post Keynesian point of view, this is a belief resting on nothing but sheer hope.

We have to start using good old Keynesian fiscal policies. Keynes — as did Lerner, Kaldor, Kalecki, and Robinson — showed that it was possible to promote economic growth with an “appropriate size of the budget deficit.” The stimulus a well-functioning fiscal policy aimed at full employment may have on investment and productivity does not necessarily have to be offset by higher interest rates.

Under the pressure of Covid-19, more and more economists and politicians have now come to realize that the ‘New Keynesian’ dogma is wrong and that we need other stabilisation (read fiscal) tools to get the economy going. That’s great. Now we’re eagerly awaiting the ‘New Keynesians’ to also finally wake up …

On the non-neutrality of money

24 Mar, 2020 at 10:12 | Posted in Economics | 4 Comments

Paul Krugman has repeatedly over the years argued that we should continue to use neoclassical hobby horses like IS-LM and Aggregate Supply-Aggregate Demand models. Here’s one example:

So why do AS-AD? … We do want, somewhere along the way, to get across the notion of the self-correcting economy, the notion that in the long run, we may all be dead, but that we also have a tendency to return to full employment via price flexibility. Or to put it differently, you do want somehow to make clear the notion (which even fairly Keynesian guys like me share) that money is neutral in the long run.

I doubt that Keynes would have been impressed by having his theory being characterized with catchwords like “tendency to return to full employment” and “money is neutral in the long run.”

alfa

One of Keynes’s central tenets — in clear contradistinction to the beliefs of mainstream economists — is that there is no strong automatic tendency for economies to move toward full employment levels in monetary economies.

Money doesn’t matter in mainstream macroeconomic models. That’s true. But in the real world in which we happen to live, money does certainly matter. Money is not neutral and money matters in both the short run and the long run:

The theory which I desiderate would deal … with an economy in which money plays a part of its own and affects motives and decisions, and is, in short, one of the operative factors in the situation, so that the course of events cannot be predicted in either the long period or in the short, without a knowledge of the behaviour of money between the first state and the last. And it is this which we ought to mean when we speak of a monetary economy.

J. M. Keynes A monetary theory of production (1933)

Chicago economics — a bit out of touch with the real world

23 Mar, 2020 at 08:34 | Posted in Economics | 1 Comment

new classicalTom Sargent is a bit out of touch with the real world up there in his office … Certain people have a capacity for ignoring facts which are patenty obvious, but are counter to their view of the world; so they just ignore them …

Sargent is a sort of tinkerer, playing an intellectual game. He looks at a puzzle to see if h ecan solve it in a particular way, exercising these fancy techniques.

Alan Blinder

Do you think this is too harsh? Well, then I suggest you read the following excerpt from the interview with Sargent in Arjo Klamer’s The New Classical Macroeconomics (1984):

People say that many of your assumptions are unrealistic.

It is true that these assumptions are unrealistic.

Do you feel comfortable with them?

Yes, about certain matters. I’m aware of all the problems with them. There are philosophical contradictions about using this methodoology. Deep down I don’t believe in them, but I don’t have a better method of understanding what’s going on out there.

But if the best is not good enough? Wittgenstein’s dictum in Tractatus Logico-Philosophicus comes to mind:

Wovon man nicht sprechen kann, darüber muss man schweigen.

La discipline économique et le mirage de la ‘vraie science’

20 Mar, 2020 at 15:19 | Posted in Economics | Leave a comment

canguLe mirage de la « vraie science », dont la puissance fantasmatique est immense chez les économistes, met sur la voie d’une autre catégorie canguilhemienne, qui permet peut-être de donner sa qualification la plus précise à la situation épistémologique de l’économie : il s’agit de la catégorie « d’idéologie scientifique » … La catégorie d’idéologie scientifique est d’abord purement interne au registre de l’histoire et de la philosophie des sciences, et désigne «l’ambition explicite d’être science à l’imitation de quelque modèle de science déjà constituée (…) L’idéologie scientifique (…) est une croyance qui louche du côté d’une science déjà instituée, dont elle reconnaît le prestige et dont elle cherche à imiter le style.»

Cette formidable intuition conceptuelle est d’ailleurs presque en dessous de la vérité s’agissant des économistes standard, dont bon nombre ne se contentent pas de se croire des physiciens de l’économie, mais croient bien sincèrement y voir plus droit que la science sur laquelle ils louchent – après tout, la théorie économique n’est-elle pas parfaitement unifiée et ne saisit-elle pas dans son modèle unique aussi bien les marchés de produits dérivés de Chicago, les comportements productifs des agriculteurs subsahariens ou bien l’économie des comportements criminels et addictifs, là où la physique, la pauvrette, peine encore à unifier mécanique quantique et relativité générale.

Au-delà même de ce que Georges Canguilhem avait imaginé, l’économie ne fait donc pas que bigler : elle y ajoute le délire. Or, sans vouloir trop jouer de la paronymie, c’est dans le désir, ou dans un certain désordre du désir, qu’il faut chercher l’origine du délire — en l’occurrence dans le désir caractéristique d’une idéologie scientifique : le désir de faire science. On comprend dans le cas de l’économie qu’il ait mal tourné — en fait à proportion de ce qu’il a été excité. Car l’économie a été soumise comme aucune autre science sociale au démon de la tentation galiléenne : n’est-elle pas par excellence science social du quantitatif et science des rapports sociaux nombrés ? C’est du fait d’être fondamentalement monétaire que l’économie tient d’avoir un substrat immédiatement quantifiable. Aussi s’est-elle laissé aller à croire que la quantité épuisait l’être économique pour en conclure plus vite que son domaine de faits était légalisable en principe, c’est-à-dire que les nombres de l’économie pouvaient être saisis dans la structure universelle de leurs rapports fonctionnels — alias les « lois de l’économie » : s’il y a du quantifiable, il y a du mathématisable, et s’il y a du mathématisable, il y a du légalisable, tel a été le fantasme galiléen de la science économique.

Frédéric Lordon

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