Phrenology is a pseudoscience which reached its highest level of prestige and practice in the 19th century. It is based on the belief that the external morphology of the brain and relative sizes of different sections of the brain are significant in predicting behavior and can be determined by an inspection of the skull. It has a distinguished history, tracing its origins to Aristotle, and an elegant, intricate, and developed supporting theory. It fell from favor not for lack of a distinguished history and elegant theory but for a lack of reproducible, empirical evidence (to be succeeded by other theories, mostly similarly lacking in reproducible, empirical evidence).
In his column in the Washington Post today Robert Samuelson muses over the loss of confidence in economists:
Last week, interest rates on 10-year U.S. Treasury bonds fell to 1.4 percent. This was the lowest on record and less than present or expected inflation (generally 2 percent to 3 percent). On 30-year Treasuries, rates have tumbled to 2.5 percent. The investors piling into Treasuries and driving rates down aren’t buying risky stocks or using their cash to expand businesses. They’re protecting themselves against unknowns. The question is whether the resulting plunge of rates signals something more ominous: renewed recession, deflation or both.
Granted, there are always the standard unknowns of business cycles, new technologies, competitive pressures and shifting government policies. But today’s seem on a scale unprecedented since World War II. Does Europe — one-fifth the world economy — face stagnation or collapse because debt-ridden countries cannot defend the euro? What happens to the weak U.S. recovery if it drops off the “fiscal cliffâ€: the $500 billion of spending cuts and tax increases (as estimated by the Committee for a Responsible Federal Budget) scheduled for early 2013?
To these daunting uncertainties must be added at least one other that, though less recognized, is perhaps more powerful. It is an intellectual breakdown. There is a loss of faith in economic ideas — and government policies based on them — driven by most economists’ failure to anticipate the financial crisis and many subsequent events.
Economics is not without its useful, commonsensical, practical, predictive side. But it also has plenty of reading the bumps on skulls. Some of its predicted results are replicated again and again. Others, like so many of the prescriptions of Keynesians and neo-Keynesians, have non-existent or such weak empirical support that they can be explained by data collection error or in any number of other ways.
Economics is and will remain a science of human behavior. There’s a critical difference between, say, chemistry or physics, and sciences of human behavior. There is an inherently faith-based component to the latter. If you have built your rocket according to established principles of chemistry, physics, and engineering and calculated its path correctly and fired it correctly it will, in fact, go to the moon whether you believe it will or not. In economics it matters who does it and whether people have confidence in them and whether people believe the things that are done will work.
I think that much of what we’ve seen in our economy over the period of the last twenty or so years can be explained by trade policy. The practice of foreign governments, China’s in particular, taking so much of the proceeds of trade and using it to buy Treasury bonds has caused much of the benefits of trade to accrue to the federal government. The federal government has then spent the money on finance, weaponry and security and military personnel, and healthcare. Should we be surprised that our economy has become disproportionately oriented towards finance, weaponry and security and military personnel, and healthcare?
Right now about half of all federal spending is being financed by selling Treasury bonds and just about 80% of all Treasury bonds are being purchased by the Federal Reserve. Yes, something like $1 trillion per year, about 40% of all federal spending is not a transfer but is in effect being spent into existence. As I understand the theory that should be producing inflation. It does not appear to be. Additionally, I would think it would be producing more growth than it is, significantly more than $1 trillion in additional growth if the Keynesians are correct. Explanations for both would be handy right about now.
I’d go further and say this is true of much of macro-economics. Micro-economics is the branch with lots of the ” useful, commonsensical, practical, predictive” elements of the discipline. Raise prices above the equilibrium level and people consume less, suppliers provide more leading to a excess supply or in the vernacular, a glut. Taxes impose a deadweight loss…a result from basic micro theory, supply and demand analysis. These are pretty uncontroversial and should be kept in mind when one transitions from micro to macro. All taxes will impose a deadweight loss. This will reduce the level of output in the taxed industries. That does not mean growth has to be negative, but all other factors held the same, it will mean growth is lower than it would be without the taxes. Of course, if the taxes are used to provide goods that have a serious free rider problem, then that benefit might swamp the negative aspect of taxes.
But this is all way down deep in the weeds and it doesn’t make for good sound bites or easy to transmit campaign propaganda. So most of these kinds of things are ignored or left for the bureaucrats and technocrats to fuss over.
As for inflation and growth and spending, that is an area that is not nearly as well understood by economists. We rarely get to do large scale experiments like what we are currently doing. And we have had too many periods in our past like we have now, so even using models is going to be problematic.
As an economist who considers himself more of micro economist than macro (I know about many of the big name macro schools of thought, but I don’t keep up with it all that much) if we assume the above is true it screams huge misallocation of resources due to government fiat. Government is one of the few entities that can routinely and for prolonged periods ignore price signals regarding where to send resources for their best use. If the above is true, we have wildly misallocated resources and maybe what we are seeing is an attempt to correct for the misallocation.
A couple of things come to mind in this case, again assuming it is true. First, given that it was 20 years in the making it could take just as long for it to “correct itself”. Maybe longer. Second, the powers that be wont like it, they’ll see their livelihood quite possibly slipping away and since they have invested so much in the current state of misallocation of resources chances are they’ll fight like Hell to prevent any correction….which means we’ll likely piss away more resources and it will take even longer for a correction.
This,
should read as,
Left out the “not”…d’oh.
I seem to recall at my college, a class in macro-economics was not required for an economics degree. I don’t know if that was a bias of ideology or pragmaticism at the school, but I still recall an econ professor saying macro was “just theory.”
“Yes, something like $1 trillion per year, about 40% of all federal spending is not a transfer but is in effect being spent into existence.
As I understand the theory that should be producing inflation. It does not appear to be.”
The quantitative theory of money is not empirically supported. It is based on the equation MV=PQ, where M is the monetary aggregate, V is its turnover rate, or velocity, P is price and Q is total economic output. V, velocity, is assumed by mainstream micro- and macro-economists to be fixed despite mass empirical evidence that it continually moves all over the place. In Q, output, employment is assumed to be at full (yes, the equation and theory deny the existence of unemployment.) That conveniently leaves only M, the money aggregate, to influence P, price. The theory is a canard intended to justify ideological opposition to government spending by asserting that doing so will result in rampant inflation.
“Additionally, I would think it would be producing more growth than it is, significantly more than $1 trillion in additional growth if the Keynesians are correct.”
Mainstream economists discuss spending multipliers as if they had no variables. In reality the effectiveness of multipliers changes in response to current economic conditions. Taxation, trade balances and the savings rate all vary and alter how much bang you get for each buck.
1) The personal savings rate in May of 2012 was 3.9%, or $463 billion. Assume a nice, round $400 billion per month and we get over $4 trillion taken out of spending in 2012. Some of that will return as delayed spending, some of it will be used to repay loans and be permanently lost, and some will remain in long-term savings.
2)Let us also assume the trade deficit will be low this year, only $500 billion removed from circulation.
3) Let us assume a ridiculously low figure for federal, state and local taxation of $2.5 trillion, the federal portion of which gets thrown into an electronic shredder.
Set against these trillions in financial leakage is $1.4 trillion in deficit spending for that year, and it becomes rather suggestive as to why growth has stalled. The truth is we tend to lose sight of just how massive our economy is. Whether some will admit it or not, economic growth increased in response to the ARA. It was poorly structured and inefficient, but the relationship is clear across the entire planet. Higher spending (regardless of whether it comes from the government, non-government or foreign sectors) drives growth. Reduced spending impedes growth.
The irony of this statement coming from you Ben is simply amazing. Hilariously amazing.
There you go again….was Paul Samuelson a mainstream economist, according to what you have written he was not, although most would say he was.
Thanks for the laughs Ben.
It is kind of odd if you think about it, that the major macro schools were established decades ago. They have shown little ability to predict future events. They have offered little to ameliorate problems. After this latest crisis, I am disappointed that no new school of thought is emerging. Maybe it is just too early.
OT- Dave- I was looking at your Chicago taxes chart again. Is Chicago a net exporter or importer of tax money? I have had no look finding this data. Ideally, I would like to know the case for total taxes (income, payroll, state, corporate, excise), but I suspect that is pretty obscure. Have you seen it just for state taxes? What about large cities in general?
Steve
Relative to the state and federal governments, the Chicago metropolitan area—Chicago, Cook County, and its “collar counties” are net exporters of tax money. I’ve never tried isolating Chicago from Cook County and from its metropolitan area. I might look into it.
It’s a bit complicated. For one thing, the whole property tax “multiplier” thing tends to under-charge some city properties and over-charge others.
Thanks Dave. That is what I thought, so I will keep looking for the data to support it.
Steve
@steve
The newest school, MMT is about 16 years old but there’s no new school that’s emerged since the great recession. Market Monetarists claim to be new, but their policy recommendations are virtually identical to those derived from the original Monetarist school. I’ve seen a renewed interest in the Austrian and post-Keynesian schools though.
@Steve Verdon
If you aren’t familiar with the representative body of mainstream work, you need to read more. Samuelson’s work contains a number of viewpoints more closely related to classical Keynesianism than the New Keynesianism he founded. Things change over time.
James Galbraith published a paper along the lines we’re discussing a few years ago:
“Leading active members of today’s economics profession… have formed themselves into a kind of Politburo for correct economic thinking. As a general rule—as one might generally expect from a gentleman’s club—this has placed them on the wrong side of every important policy issue, and not just recently but for decades. They predict disaster where none occurs. They deny the possibility of events that then happen. … They oppose the most basic, decent and sensible reforms, while offering placebos instead. They are always surprised when something untoward (like a recession) actually occurs. And when finally they sense that some position cannot be sustained, they do not reexamine their ideas. They do not consider the possibility of a flaw in logic or theory. Rather, they simply change the subject. No one loses face, in this club, for having been wrong. No one is dis-invited from presenting papers at later annual meetings.And still less is anyone from the outside invited in.”
http://www.nea.org/assets/docs/HE/TA09EconomistGalbraith.pdf
… As I understand the theory that should be producing inflation. It does not appear to be. …
It depends upon your definition of inflation. This is not a trivial issue. Keynesians use price increases. Austrians use money supply increases. Using the Keynesian definition, which one? The US government has an inflation number and a CPI number.
The money supply is dwarfed by private debt. The debt is levered 10-20 to 1. The increase in money supply is negligible with the money supply + private debt.
As noted by @Ben Wolf, the increase in money supply is being used to pay down debt faster than new debt is being created. In the case where the loan was used to create something of value, this is not a problem. If the loan was used to create something that will increase in value, that is better. If the loan was used to create something that will create other things of value, that is best.
The problem with “more money chasing fewer goods” is the assumptions of the statement. If the government sends me a check, I can use that money for different things. I could build (or invest in a company) a manufacturing plant to create more goods. I could use it to buy new types of goods (iPad). I could use it to pay down debt. I could use it to purchase something the official inflation rate does not track.
Samuelson was not a New Keynesian. If one had to describe Samuelson’s views on macro-economics it would probably be fair to classify him as a neo-Keynesian (along with economists like Robert Solow and Franco Modigliani) which if we had to pick a founder we would do better with Sir John Hicks (he was the one who came up with the IS-LM model).
New Keynesian macro economics was a Keynesian response to the New Classical macro economists (e.g. Robert Lucas, Robert Townsend, Robert Barro), and two of the big names in this school are David Romer and N. Gregory Mankiw.
I find it amusing that you don’t know this distinction, but tell me to read more.
BTW, you are welcome for the quick overview of the history some of the more common schools of thought where macro-economics is concerned.
This is always the complaint of the heterodox academic. The often complain bitterly that their unorthodox ideas are not immediately accepted and that they have to do things like present evidence. You can see it in biology as well where people like Stephen J. Gould and Lynn Margulis complain about the Darwinian hegemony.
@Steve Verdon
I used to think you had some knowledge in the field, but you’ve made it clear you don’t really know much. Samuelsons’s 1955 book “Economics” heavily supported neo-classical synthesis of Keynesianism with neo-classical work. In fact Samuelson coined the term “synthesis”, in combining Keynesian work via Hick’s IS/LM model with the neo-classical. He was a New Keynesian.
Furthermore your criticism of the “heterodox” rings hollow. Steve Keen, Wynne Godley and others forecast the financial crash, forecast the balance sheet recession, forecast that cuts to spending would impede growth. But for some, being correct never seems to matter.
Yes, that makes him a neo-Keynesian, not a New Keynesian.
No. This is false. New Keynesians came about much later and were a response to the New Classical attack on the neo-Keynesian school of thought. The New Classicals started their attack in the late 1960s (Lucas and Rapping’s first paper was in 1969 IIRC) 1970’s and it lasted through much of the 1980s. In the 1980s some economists responded to the New Classical criticisms and that work was called “New Keynesian”. New Keynesians accepted many of the criticisms of the neo-Keynesian approach and went back to shore up the micro-foundations of the Keynesian position. They even started including various type of (rational) expectations in their models as well.
The synthesis you are referring to is in regards to neoclassical economics, that is rational choice theory, utility maximization and supply and demand analysis. The synthesis was to bring the two into alignment. The first part of the attack on this synthesis was to note that it lacked proper micro-foundations. That one of the key elements of the synthesis was a reliance on money illusion via the Philips curve.
What is interesting, is that Real Business Cycle theorists also took neo-classical economics and built their theories and got very different models. Another bit of irony is that one could argue that the New Keynesians, if anything, were trying to strengthen the neoclassical synthesis by strengthening the micro-foundations while maintaining certain elements from earlier Keynesian theories (e.g. sticky wages & prices).
Your understanding of economics is shallow and stunted. You can’t even distinguish between different schools of thought.
Here you go Ben,
neo-Keynesian economics
@Steve Verdon
That you rely on wikipedia entries instead of reading books is illustrative. Also your failure to read what you posted:
“Through the 1980s Keynesian macro-economics fell out of fashion as a policy tool, and as a field of study. . . The repeated failures of “big bang†marketization in the former Soviet Bloc have encouraged the recent revival in Keynesian ideas, with particular emphasis on giving the Keynesian macroeconomic analysis theoretically sound foundations in microeconomics. These theories have been called new Keynesian economics.”
Your own source states that New Keynesianism is the revival of Samuelson’s and Hick’s work. Really. attempting to derail a discussion with this sort of banality is unfortunate. It’s commonplace for those reviving an old school of thought to give themselves a new name.
I was not relying on Wikipedia, I was providing you with the information you are completely lacking. I was relying on what we studied in graduate school.
Yes, Samuelson and Hicks are the intellectual antecedents to New Keynesians, but is is not the same thing. It is different. New Keynesians, like Real Business Cycle Theorist, start with what is basically a micro economics model and from there work towards macro-economic conclusions. This is why current New Keynesians use Dynamic Stochastic General Equilibrium models. In Samuelson and Hicks’ work you’ll see little discussion of General Equilibrium models (which is a bit unusual given that was what Samuelson’s PhD was on).
There is a distinction between the two. To call Samuelson a New Keynesian is, in my view, misleading. I know you don’t believe me, but try this blog post by Mankiw. There are two points there,
1. Tobin, a neo-Keynesian, was rather hostile to the New Keynesians.
2. Mankiw, one of “big names” in the New Keynesian school of thought, notes that the work of Samuelson, Hicks, Tobin, Solow, Modigliani, etc. was the intellectual antecedent to the New Keynesians.
I’m highlighting your ignorance of this topic. You have the typical view of many who hold crank views. You have an “Us” vs. “Them” dichotomy and you can’t distinguish between different groups of “Them”. To you they are all the same, when in fact they aren’t. I think this is a failure on your part, a big blind spot when it comes to understanding what others are saying.
Have you read the work of Blanchard and Kiyotaki? Ball and Romer? I have. It is quite different from the neo-Keynesian approach and models. For example, nowhere in the neo-Keynesian work will you see a discussion of menu costs, aggregate demand externalities, let alone things like rational expectations. Further, the neo-Keynesian models are usually not dynamic, unlike the New Keynesian models.
In short, there is a definite difference between the two.
Also consider that both Mankiw, Krugman and even Tobin are in a broad sense “Keynesians”. Yet they disagree (Tobin & Krugman with Mankiw). However, I bet Krugman and the Romers probably have a fair amount of agreement. The Romers are New Keynesians much like Mankiw. So why all this disagreement from people who are all “Keynesians”? I’d argue this highlights the issue with macro economics and macro economic policy…there is no agreed upon model (compared to say the field of biology, where the Darwinian model is broadly accepted). Macro is a mess. As a result much of our policies are a mess.
The truth is Ben, when it comes to different schools of thought…you’re pretty ignorant.
Now to bring it back closer to the topic at hand. Not every economist thinks they way you assert they do.
Oh, and not to miss an opportunity to make a snide comment. Your reading comprehension sucks too. You’ll note that there are two schools of thought named in the Wikipedia entry…neo-Keynesian, and New Keynesians. Also look at the top of the Wikipedia page,
Time to go back the elementary school Ben. First finish up the reading comprehension, then take a stab at reading the original research of different schools of thought and not just the MMT interpretations.