August 31, 2015

Disoriented and lost in folk psychology

Comment on stevepostrel on ‘Romer v. Lucas’

Blog-Reference

Economics is a failed science. Economists can not see this because they never understood what science is. The fundamental methodological blunder is located in the commonsensical intuition that economics is first and foremost about human behavior (Hudík, 2011).

The representative economist cannot get her head around the fact that economics is about the behavior of the economic system. What the behaviorals are talking about belongs entirely to the realm of sociology, psychology, anthropology, political science, history, etcetera. What most behaviorals are practicing is a variant of psycho-sociology that works reasonably well on an easily to overview small scale where not much more than common sense and some readily available statistics is required.

The subject matter of economics has to be redefined. No way leads from the understanding of human behavior to the understanding of how the actual economy works.

Methodologically correct economics starts with the systemic behavior of the monetary economy. There are systemic laws, for instance the Profit Law (2015), but no behavioral laws. The economist’s task is to find these objective systemic laws and to empirically verify/falsify them.

Does the world expect from economists to find out how people behave? Not really, this is the proper job of psychology, sociology, anthropology, political science, history, etcetera. Does the world expect from economists to figure out what profit is? Yes, of course, no philosopher, physicist, biologist, or sociologist will ever do this. Have economists done their proper job? No.* They have wasted more than 200 years with second-guessing their fellow men’s behavior and telling stories that have less real-world content than Greek mythology.

You say: “These broadbrush criticisms of economics are ludicrous.” What is indeed ludicrous is that economists are so disoriented that they cannot properly define the subject matter of economics and — deeply embarrassing indeed — cannot tell the difference between profit and income, which are indisputably the most important phenomena in their universe. How would you characterize a physicist who cannot tell the difference between velocity/ acceleration or force/energy?

Time for economists to leave the scientific Neanderthal!

Egmont Kakarot-Handtke


References
Hudík, M. (2011). Why Economics is Not a Science of Behaviour. Journal of Economic Methodology, 18(2): 147–162.
Kakarot-Handtke, E. (2015). Essentials of Constructive Heterodoxy: Profit. SSRN Working Paper Series, 2575110: 1–18. URL

* See also ‘Mental messies and loose losers’ and ‘The Humpty Dumpty methodology’ and ‘Economics: the honeypot for know-nothings

Preceding post 'Whatever it is, let's call it conservatism'

August 30, 2015

ICYMI Old-Post-New Keynesian models

Blog-Reference

The conclusion “‘New Keynesian’ models are not too simple. They are just wrong” is beyond reasonable doubt, but this applies also to the ‘Old Keynesian’ models. See ‘Why Post Keynesianism is not yet a science’ and ‘Mr. Keynes, Prof. Krugman, IS-LM, and the end of economics as we know it.’

For the summary on Wren-Lewis's DSGE models see ‘Much change, no progress.’

Always clueless, never speechless

Comment on ‘U.S. Inflation Developments’

Blog-Reference

For a dispassionate observer Stanley Fischer’s speech and the tidal wave of blog comments makes it pretty clear that there is an intellectual Black Hole where something like a true economic theory should be.

There is absolutely no use in entering into the morass of conflicting nonsense. Here are two fixpoints to secure some orientation.
• Inflation theory has never risen much above the commonplace Quantity Theory. The QT is plausible but ultimately untenable. The correct formula for the overall price level is given here, for details see (2015, eq. (12)).
• Alternative macroeconomic approaches like Krugman’s IS-LM are fundamentally flawed since Keynes and Hicks (2014) without the representative economist ever spotting the provable formal defect.

So there is nothing to choose. Current economics consists of political economics, which is scientifically worthless, and theoretical economics, which is logically and materially inconsistent. Luckily, Jackson Hole shows: economists are clueless, but never speechless.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2014). Mr. Keynes, Prof. Krugman, IS-LM, and the End of
Economics as We Know It. SSRN Working Paper Series, 2392856: 1–19. URL
Kakarot-Handtke, E. (2015). Major Defects of the Market Economy. SSRN Working
Paper Series, 2624350: 1–40. URL

The philosophy of know-nothingers

Comment on Tom Hickey on ‘What can economists know?’

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You say that economists are clueless about fundamental philosophical questions: “These issues can be summarized as 1) what is, 2) what can we know about what is and 3) how can we know it, what can we say about what we know. These are the fundamental questions of 1) ontology, 2) epistemology, and 3) philosophical logic and semiotics.”

What a compact nutshell! I agree with this summary — except for one point. You tacitly presuppose that economics is a science. Indeed, this is the claim since Adam Smith, but it cannot be taken at face value.

Economics consists of political economics and theoretical economics. In political economics anything goes, only in theoretical economics scientific standards are observed. Most of economics since Adam Smith has been political economics and is by implication scientifically worthless.

Economists cannot tell the difference between profit and income and because of this they cannot know anything about how the actual economy works (2014).

Economists are well aware that they know nothing, and they have an explanation for this obvious fact. They say because of complexity and uncertainty not much can ever be known. In other words, in economics ignorance is ontological: “Given these difficulties it is extraordinary that economics has achieved as much as it has.” (Dow, 2006, p. 51)

Or here, the same argument in the cine-max-version: “Economics is not a Science with a capital S. It lacks the experimental method as a way of testing hypotheses. . . . There are always differences of opinion at the cutting edge of a science, . . . . But they last longer in economics . . . and there are reasons for that. As already mentioned, rival theories cannot be put to an experimental test. All there is to observe is history, and history does not conduct experiments: too many things are always happening at once. The inferences that can be made from history are always uncertain, always disputable, . . . You can’t even count on a long and undisturbed run of history, because the 'laws' of behavior change and evolve. Excuses, excuses. But the point is not to provide excuses.” (Solow, 1998, pp. x-xi)

In political economics, ontology comes in very handy as a fig leaf for scientific incompetence. But, much more important, it serves also a political purpose, viz. if you know nothing you cannot do anything. Ontological opaqueness paralyzes. We are certainly not far off the mark by assuming that this cognitive immobilization has been purposefully applied by Hayek in order to fight Keynesian interventionism or statism in general. Because a central institution is ontologically blind, that is, it can never know what all individuals taken together know, all economic policy is futile in principle (Hayek, 1945). By the same token is economics ontologically blind; it is science with a small s, or else preposterous scientism.

The fundamental blunder of Hayek as wandering sociologist is that economics is not about ‘the use of knowledge in society’ but about objective knowledge of the functioning of the monetary economy.

Summa philosophica: lack of knowledge has hitherto been the natural, ontologically justified, and universally accepted condition of the representative economist.

Egmont Kakarot-Handtke


References
Dow, S. C. (2006). Economic Methodology: An Inquiry. Oxford: Oxford University Press.
Hayek, F. A. (1945). The Use of Knowledge in Society. American Economic Review, 35(4): 519–530. URL
Kakarot-Handtke, E. (2014). The Three Fatal Mistakes of Yesterday Economics: Profit, I=S, Employment. SSRN Working Paper Series, 2489792: 1–13. URL
Solow, R. M. (1998). Foreword, volume William Breit and Roger L. Ranson: The Academic Scribblers. Princeton, NJ: Princeton University Press, 3rd edition.

August 29, 2015

Schumpeter's two axioms of discourse

Comment on Lars Syll on ‘Axiomatic economics — total horseshit’

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I enjoyed Victor Aguilar's article, albeit — in rear view — sometimes for the wrong reasons. Aguilar's methodological critique of Tony Lawson is spot on but he unnecessarily dilutes his argument by becoming personally.

“Remember: occasionally, it may be an interesting question to ask why a man says what he says; but whatever the answer, it does not tell us anything about whether what he says is true or false.” (Schumpeter, 1994, p. 11)

It is sufficient to demonstrate how Tony Lawson conflates taxonomy and deductive logic, but counterproductive to add in a footnote a derogatory remark about Marxism/Feminism.

It is also counterproductive to equate empiricism one-to-one with idiotism. While it is true that the empiricism of the confederate artillerymen was indeed utterly dilettantish this does not hold for the immensely valuable work of Tycho Brahe, for example.

Finally, it is counterproductive not to mention that there has also been some dilettantism in the application of the axiomatic-deductive method. For example, the philosopher Spinoza applied the method to prove the existence of God. More important for economists is, of course, that Debreu messed things up by choosing the wrong set of axioms.

So it is a bit misleading to play idiotic empiricism against the overwhelmingly successful axiomatization of Euler or Newton. It cannot be stressed enough that the success of the axiomatic-deductive method depends on the selection of axioms, as already J. S. Mill knew.

“What are the propositions which may reasonably be received without proof? That there must be some such propositions all are agreed, since there cannot be an infinite series of proof, a chain suspended from nothing. But to determine what these propositions are, is the opus magnum of the more recondite mental philosophy.” (2006, p. 746)

Orthodoxy is based on the following propositions: “HC1 economic agents have preferences over outcomes; HC2 agents individually optimize subject to constraints; HC3 agent choice is manifest in interrelated markets; HC4 agents have full relevant knowledge; HC5 observable outcomes are coordinated, and must be discussed with reference to  equilibrium states. (Weintraub, 1985, p. 147)

What can be said with certainty is that this set of axioms has proven its worthlessness. Orthodoxy is a total failure according to formal and empirical criteria. This is the decisive point where Lawson, Aguilar, Zaman — and in addition all economists and scientists who really understand the axiomatic-deductive method — agree.

Heterodoxy's most important task is to fully replace HC1 to HC5. As Schumpeter's 2nd axiom says: “If we feel misgivings ..., all we have to do is to start appropriate research. Anything else is pure filibustering.” (1994, p. 577)

Egmont Kakarot-Handtke


References
Mill, J. S. (2006). Principles of Political Economy With Some of Their Applications to Social Philosophy, volume 3, Books III-V of Collected Works of John Stuart Mill. Indianapolis, IN: Liberty Fund. URL
Schumpeter, J. A. (1994). History of Economic Analysis. New York, NY: Oxford University Press.
Weintraub, E. R. (1985). Joan Robinson’s Critique of Equilibrium: An Appraisal. American Economic Review, Papers and Proceedings, 75(2): 146–149. URL

For details of the bigger picture see the cross-references Axiomatization.

August 28, 2015

Whatever it is, let's call it conservatism

Comment on David Glasner on ‘Romer v. Lucas’

Blog-Reference

You write: “The reason economists keep teaching economics, despite its many shortcomings, is that we don’t have anything that is clearly better to replace it with. That’s too bad, but for the time being at least, we are stuck with the economics we have.”

In fact, that is not so terribly bad. Economists are rather comfortable with the status quo. “Yet most economists neither seek alternative theories nor believe that they can be found.” (Hausman, 1992, p. 248)

There are two great puzzles here:
(i) Why are economists retelling theories knowing very well that what they keep alive is pseudo-scientific junk?
(ii) Why can Heterodoxy not take advantage of Orthodoxy's openly admitted shortcomings.

The answer is that we have political economics and theoretical economics and, unfortunately, the former has hijacked the latter.

“A genuine inquirer aims to find out the truth of some question, whatever the color of that truth. ... A pseudo-inquirer seeks to make a case for the truth of some proposition(s) determined in advance. There are two kinds of pseudo-inquirer, the sham and the fake. A sham reasoner is concerned, not to find out how things really are, but to make a case for some immovably-held preconceived conviction. A fake reasoner is concerned, not to find out how things really are, but to advance himself by making a case for some proposition to the truth-value of which he is indifferent. (Haack, 1997, p. 1)

It seems that all camps lack genuine inquirers. Yet, an even better answer is provided by elementary economics, viz., economists stick ‘with the economics we have’ as long as there are bigger fools who happily buy the stuff. And, no surprise, economists can explain everything economically.

“Gary Becker has suggested that a substantial resistance to the acceptance of new ideas by scientists can be explained by two familiar economic concepts. One is the concept of specific human capital: the established scholar possesses a valuable capital asset in his command over a particular body of knowledge. That capital would be reduced if his knowledge were made obsolete by the general acceptance of a new theory. Hence, established scholars should, in their own self-interest, attack new theories, possibly even more than they do in the absence of joint action. The second concept is risk aversion, which leads young scholars to prefer mastery of established theories to seeking radically different theories. Scientific innovators, like adventurers in general, are probably not averse to risk, but for the mass of scholars in a discipline, risk aversion is a strong basis for scientific conservatism.” (Stigler, 1983, p. 538)

Yes, let us simply euphemize ‘sticking to clearly refuted theories’ as conservatism. It is not that economists are scientifically incompetent and it is not that they have achieved nothing — the truth is that reality is complex. “Given these difficulties it is extraordinary that economics has achieved as much as it has.” (Dow, 2006, p. 51)

OK, then, standing ovations for sticking conservatively to pseudo-scientific junk.

Egmont Kakarot-Handtke


References
Dow, S. C. (2006). Economic Methodology: An Inquiry. Oxford: Oxford University Press.
Haack, S. (1997). Science, Scientism, and Anti-Science in the Age of Preposterism. Skeptical Inquirer, 21(6): 1–7. URL
Hausman, D. M. (1992). The Inexact and Separate Science of Economics. Cambridge: Cambridge University Press.
Stigler, G. J. (1983). Nobel Lecture: The Process and Progress of Economics. Journal of Political Economy, 91(4): 529–545. URL

Preceding 'Economics and the litmus test of science' and 'United in confusion'. See also 'Mental messies and loose losers' and 'Secular intellectual stagnation'.

Much change, no progress

Comment on ‘The day macroeconomics changed’

Blog-Reference

‘The Council of Nicaea repudiated Arianism and adopted the original Nicene Creed.’ Each belief system redefines itself from time to time and orthodox economics is no exception. Clearly, for others the specification of concepts that have been unacceptable ab initio is not such a memorable event.

Keynes started macro with a repudiation of the classicals: “The classical theorists resemble Euclidean geometers in a non-Euclidean world ...” and pointed the way “... there is no remedy except ... to work out a non-Euclidean geometry.” (1973, p. 16)

This Keynes did but his non-Euclidean axioms were not quite correct (2011a). The inconsistency, however, went unnoticed and Keynes’s foundational concepts became part of the neoclassical synthesis, which in turn lacked consistency because of the heterogeneity of the constituent parts.

So, Keynes made a change, but no real progress, and the same happened with the neoclassical synthesis. Post-Keynesianism, on the other hand, perpetuated the fatal logical mistake that was hidden in the formal groundwork of the General Theory (2011b). Lucas’s critique of the neoclassical synthesis was valid but his return to pre-Keynesianism, too, was change without real progress (2010).

The fact that DSGE is applied in comprehensive econometric models does not prove too much and is analogous to the application of the faulty geocentric model: ‘The astronomical predictions of Ptolemy’s geocentric model were used to prepare astrological and astronomical charts for over 1500 years’ (Wikipedia). Ironically, just because of good empirical fit it took quite a time to find out that the underlying theory was false.

To summarize the memorable day in 1978 from an objective viewpoint: macro has changed three times, but made no real progress. Macro will fail as long as it starts with these, or roughly equivalent, premises: “HC1 economic agents have preferences over outcomes; HC2 agents individually optimize subject to constraints; HC3 agent choice is manifest in interrelated markets; HC4 agents have full relevant knowledge; HC5 observable outcomes are coordinated, and must be discussed with reference to  equilibrium states. (Weintraub, 1985, p. 147)

No way leads from these behavior-centric premises to an understanding of how the actual economy works. After a long detour, macro is back where nothing really changed: ... there is no remedy except to make a genuine paradigm shift.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2011a). Keynes’s Missing Axioms. SSRN Working Paper Series, 1841408: 1–33. URL
Kakarot-Handtke, E. (2011b). Why Post Keynesianism is Not Yet a Science. SSRN Working Paper Series, 1966438: 1–20. URL
Keynes, J. M. (1973). The General Theory of Employment Interest and Money. The Collected Writings of John Maynard Keynes Vol. VII. London, Basingstoke: Macmillan.
Quiggin, J. (2010). Zombie Economics. How Dead Ideas Still Walk Among Us. Princeton, NJ, Oxford: Princeton University Press.
Weintraub, E. R. (1985). Joan Robinson’s Critique of Equilibrium: An Appraisal. American Economic Review, Papers and Proceedings, 75(2): 146–149. URL

See also 'An epic detour'

August 27, 2015

Pygmy economics

Comment on graccibros and Ishi Crew on ‘Quick thoughts on the stock market and the economy’

Blog-Reference

(i) I think your perspective is wrong. The issue is not about fixing the Chinese stock market by kicking out some Flash Boys. That is Roubini pygmy economics. What is required is to find out what financial institutions China needs for the transition to a full-employment economic future in a stationary world economy. My hypothesis is that she is better off without a stock market.

(ii) I agree with you that in economics almost everything and the exact opposite has already been said sometime, somewhere, by somebody. There is an abundance of opinion and a dearth of knowledge. In other words, economics is a failed science.

“In order to tell the politicians and practitioners something about causes and best means, the economist needs the true theory or else he has not much more to offer than educated common sense or his personal opinion.” (Stigum)

The true theory is not to be found in the history of economic thought. Heterodoxy either develops a new paradigm or it goes down the opinion-drain like Walrasianism, Keynesianism, Marxianism, Austrianism, Ishiism and all the rest.

Egmont Kakarot-Handtke


Connects to 'The heterodox perspective becomes dominant' and 'Quick rethinking of the stock market'

The heterodox perspective becomes dominant

Comment on BC on ‘Quick thoughts on the stock market and the economy’

Blog-Reference

I agree with your analysis. My perspective, however is different. You say financial crises are the nature of capitalism. The Nature-argument implies — intentionally or unintentionally — that things have to be accepted as given like the law of gravity. This, however, is not true for institutions like the financial sector of any regional/national economy.

We know that orthodox economics is a scientific failure. Therefore, the familiar explanations of how the economy works cannot be taken at face value. Heterodoxy has to do better. This implies that we do not ask: does the stock market work as the efficient market hypothesis assumes? but: do we need a stock market? And if so, how can we make sure that it functions without negative externalities?

As you say, the market economy can only exist as growing economy. On the other hand, it cannot grow much longer. The core problem is how to achieve the transition to a stationary or even shrinking economy without a self-reinforcing downward spiral. This is the actual situation of China, but under the broader perspective it is the situation of the world economy.

Neither Walrasian nor Keynesian theory can deal with the situation. My point is: we have a lot of good descriptions of what goes on in the world economy — and yours is one of it — but we still lack a comprehensive theory that includes some ideas for a soft transition of the world economy after expansion has run its course.

China's chance is that it invents the new sustainable economic order and the appropriate institutions. This presupposes to rethink theoretical economics from the ground up. Hence, Chinese economists are by nature heterodox. Why are we still discussing local pseudo-issues like DSGE, rational expectations, Lucas’s mathiness, or McCloskey's silliness? That has become rather boring, to say the least.

Egmont Kakarot-Handtke

Connects to 'Quick rethinking of the stock market'. For the long run perspective see the working papers 'Mathematical proof of the breakdown of capitalism' and 'Beginning, crises, and end of the money economy'.

August 26, 2015

Quick rethinking of the stock market

Comment on ‘Quick thoughts on the stock market and the economy’

Blog-Reference

The monetary order, banking, and the stock market are institutions that evolved historically. Like in biological evolution the outcome of this messy process is often suboptimal. Institutions can and must be designed, constructed, and maintained. The U.S. is particularly bad at institution building.

Mortgage financing, for example, is a very old and rather simple business. In Germany, it was institutionalized in 1900 with the Mortgage Banking Act. This law was so well-crafted that it worked with minor modifications until 2005 when it was abolished in an act of institutional suicide. This was when deregulation was the hype of the day, which lasted until Wall Street's meltdown. This financial mega crash, first of all, showed one thing: what happens when you do mortgage banking the American way.

Remember that the investment banks literally invented and pushed subprime lending and the derivatives superstructure. No classical mortgage banker, neither in Germany nor in France, would ever have touched this type of business. It is important to realize that after 1900 there has never been a real estate boom-bust cycle in Germany. That is quite remarkable when one considers that Japan, the U.S., Britain, Spain and many other economies have been badly devastated by real estate busts.

Interim results: (i) financial crises are the result of a bad institutional design, (ii) the U.S. is particularly untalented at institution building, (iii) in the international arena, according to a variant of Gresham’s Law, bad institutions crowd good institutions out, (iv) without well-crafted counter-measures the financial superstructure quite naturally deteriorates and becomes a menace to the real economy.

Therefore, the question is not: does the stock market have an effect on the real economy? but: should the stock market be allowed to have such an effect in the first place? Or, even more fundamental, is a stock market needed at all or can its useful functions be taken over by a better-designed institution and its negative impacts thereby eliminated?

The stock market wrecked the U.S. economy in the 1930s and in 2008. This is sufficient proof of a dilettantish institutional design of the financial sector including the central bank. For China, the fundamental question is whether she needs a stock market at all. It should not be impossible for the Chinese economists to come up with a superior institutional design that shields the real economy from dysfunctional international shifts between liquidity, stocks, and bonds.

With a plan-B in place, China could let equities crash, buy the rest cheap, close the stock market, regain her full financial sovereignty, and live happy thereafter.

Rethinking economic theory is indispensable because neither Walrasians nor Keynesians have found out until this day how the market system works.

Egmont Kakarot-Handtke

Common non-sense

Comment on Tim Worstall on ‘On not understanding the quantity theory of money’

Blog-Reference

The current economic situation is a clear refutation of both commonplace employment and Quantity Theory. When things get tough everyone can see that economists have no idea how the economy works.

The Quantity Theory falls into the class of flat-earth theories, which are immediately convincing to common sense. The first thing an economist has to realize, though, is that common sense is not the best guide in economic matters. This is known since J. S. Mill: “People fancied they saw the sun rise and set, the stars revolve in circles round the pole. We now know that they saw no such thing; what they really saw was a set of appearances, equally reconcileable with the theory they held and with a totally different one. It seems strange that such an instance as this, ... , should not have opened the eyes of the bigots of common sense, and inspired them with a more modest distrust of the competency of mere ignorance to judge the conclusions of cultivated thought.” (Mill, 2006, p. 783)

The MV=PQ equation provides one of the silliest of the numerous common sense explanations. The correct equation for the determination of the price level is given here. Note well: the quantity of money does not appear as independent variable in this equation. For the rectification of the commonplace Quantity heory see (2011a; 2011b).

There is not much use in discussing defunct theories any further. In particular, it should be evident after 100 years that from all scientifically incompetent economists the worst are assembled in Mises’s Austrian school.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2011a). Reconstructing the Quantity Theory (I). SSRN Working Paper Series, 1895268: 1–28. URL
Kakarot-Handtke, E. (2011b). Reconstructing the Quantity Theory (II). SSRN Working Paper Series, 1903663: 1–20. URL
Mill, J. S. (2006). A System of Logic Ratiocinative and Inductive. Being a Connected View of the Principles of Evidence and the Methods of Scientific Investigation, volume 8 of Collected Works of John Stuart Mill. Indianapolis: Liberty Fund.

August 25, 2015

False on principle

Comment on ‘A critique of Samuelson’s and Nordhaus’s Principles of Economics

Blog-Reference

“I often wonder whether other subjects suffer as much from textbook writers.” (Hahn, 1980, p. 127)

You say: “Econ 101 textbooks are misleading more than a million students a year in the U.S. alone because they leave the lasting impression that markets could solve all our economic problems if only they were left to themselves.” (See intro)

The first thing every economics student encountered in Samuelson's textbook was the ‘totem of the micro’, that is, supply-demand-equilibrium. And nothing has changed since then. “Supply and demand are at the heart of how market economies work.” (Mankiw, 1998, p. 519)

Then and now, this first encounter is the all-deciding moment. From a student who accepts supply-demand-equilibrium as an explanation for the functioning of the market system nothing of scientific value can be expected in the future.

“There is little or nothing in existing micro- or macroeconomics texts that is of value for understanding real markets. Economists have not understood how to model markets mathematically in an empirically correct way.” (McCauley, 2006, p. 16)

Nobody with a modicum of scientific instinct can accept the shallow explanations, the logical blunders and the superficial formalization of Samuelson's textbook. The time that elapses before it sinks into oblivion is a straightforward metric for the stupidity of economists.

The first thing to do for Heterodoxy is to get rid of supply-demand-equilibrium and to come forward with the true theory of market interaction (2013; 2014; 2015). This is the cardinal point. What every heterodox economist should have learned by now is that critique and debunking is necessary but not sufficient.

This is the scientifically correct way and there is no shortcut and no royal road: “The moral of the story is simply this: it takes a new theory, and not just the destructive exposure of assumptions or the collection of new facts, to beat an old theory.” (Blaug, 1998, p. 703)

What indeed can be learned from Samuelson and the rest of textbook writers is how not to do economics. All theories/models that take at least one of the following nonentities into the premises are dead from the beginning: utility, expected utility, rationality/bounded rationality/animal spirits, equilibrium, constrained optimization, well-behaved production functions/fixation on decreasing returns, supply/demand functions, simultaneous adaptation, rational expectation, total income=value of output/I=S, real-number quantities/ prices, and ergodicity.

The only valid conclusion one can draw from all Foundations and Principles textbooks is that these foundations are unacceptable. Economics has not been built on methodologically sound foundations and this is why it is a failed science. “For it can fairly be insisted that no advance in the elegance and comprehensiveness of the theoretical superstructure can make up for the vague and uncritical formulation of the basic concepts and postulates, and sooner or later ... attention will have to return to the foundations.” (Hutchison, 1960, p. 5)

Eventually, Heterodoxy has to come up with the set of foundational propositions that displays both formal and material consistency. This will be the day when Heterodoxy legitimately takes over Econ 101. Hurry up!

Egmont Kakarot-Handtke


References
Blaug, M. (1998). Economic Theory in Retrospect. Cambridge: Cambridge University Press, 5th edition.
Hahn, F. H. (1980). General Equilibrium Theory. Public Interest. Special Issue: The Crisis in Economic Theory, pages 123–138.
Hutchison, T.W. (1960). The Significance and Basic Postulates of Economic Theory. New York, NY: Kelley.
Kakarot-Handtke, E. (2013). How to Get Rid of Supply-Demand-Equilibrium. SSRN Working Paper Series, 2263172: 1–24. URL
Kakarot-Handtke, E. (2014). The Law of Supply and Demand: Here it is Finally. SSRN Working Paper Series, 2481840: 1–17. URL
Kakarot-Handtke, E. (2015). Essentials of Constructive Heterodoxy: The Market. SSRN Working Paper Series, 2547098: 1–10. URL
Mankiw, N. G. (1998). Teaching the Principles of Economics. Eastern Economic Journal, 24(4): 519–524. URL
McCauley, J. L. (2006). Response to "Worrying Trends in EconoPhysics". EconoPhysics Forum, 0601001: 1–26. URL

An epic detour

Comment on Lars Syll on ‘Has macroeconomics — really — progressed?’

Blog-Reference

The more fundamental question is ‘Has economics progressed?’ and the answer is No: “... we know little more now about ‘how the economy works,’ or about the modus operandi of the invisible hand than we knew in 1790, after Adam Smith completed the last revision of The Wealth of Nations.” (Clower, 1999, p. 401)

The deeper reason is that the profit theory is false since Adam Smith — with the representative economist in blissful ignorance since then (2014).

With regard to macroeconomics, Keynes has to be praised for realizing that nothing less than a paradigm shift is required. Yet, Keynes, too, could not solve the profit puzzle. Because of this, the macroeconomic revolution is stuck exactly where Keynes left it. “The classical theorists resemble Euclidean geometers in a non-Euclidean world ... in truth, there is no remedy except to throw over the axiom of parallels and to work out a non-Euclidean geometry. Something similar is required to-day in economics.” (1973, p. 16)

This was the situation back in 1936. From this point onwards economists walked straight into the wood for an epic detour. The illusory progress of both New Classicals and New Keynesians consists in going further in the wrong direction.

As long as economics is built upon nonentities there will not be one iota of progress. All theories/models that take at least one of the following concepts into the premises are dead from the beginning: utility, expected utility, rationality/bounded rationality/animal spirits, equilibrium, constrained optimization, well-behaved production functions/fixation on decreasing returns, supply/demand functions, simultaneous adaptation, rational expectation, total income=value of output/I=S, real-number quantities/prices, and ergodicity.

It is a bit perplexing that some economists still think that there has been any progress. This is the fact of the matter: “The last thirty years seem to this observer to have been downhill almost all the way. So much of the literature ... I see as silly beyond all expectation and unscholarly beyond all endurance.” (Leijonhufvud, 1998, p. 234)

Replace ‘thirty years’ by ‘eighty years’ for the correct positioning of macro.

Egmont Kakarot-Handtke


References
Clower, R. W. (1999). Post-Keynes Monetary and Financial Theory. Journal of Post Keynesian Economics, 21(3): 399–414. URL
Kakarot-Handtke, E. (2014). The Profit Theory is False Since Adam Smith. What About the True Distribution Theory? SSRN Working Paper Series, 2511741: 1–23. URL
Keynes, J. M. (1973). The General Theory of Employment Interest and Money. The Collected Writings of John Maynard Keynes Vol. VII. London, Basingstoke: Macmillan.
Leijonhufvud, A. (1998). Discussion: Involuntary Unemployment One More Time. In R. E. Backhouse, D. M. Hausman, U. Mäki, and A. Salanti (Eds.), Economics and Methodology. Crossing Boundaries., pages 225–235. Houndmills, Basingstoke, London: Palgrave.

August 24, 2015

It’s the wage-price-productivity mechanism, stupid!

Comment on ‘The Fed Looks Set to Make a Dangerous Mistake’

Blog-Reference

The current situation is a clear refutation of both employment and quantity theory. It is an eerie déjà-vu: when things get tough it becomes self-evident that economists have no idea how the economy works.

There is not much use discussing defunct theories any further. The most elementary version of the correct employment equation is summarized here.* This equations tells us three things:
(i) An increase of the expenditure ratio rhoE leads to higher employment. A ratio rhoE>1 means deficit spending. This option has been exhausted.
(ii) Increasing investment expenditures exert a positive influence on employment. This option, too, has been exhausted.
(iii) An increase of the factor cost ratio rhoF=W/PR leads to higher employment.

The factor cost ratio formally represents the price mechanism which, however, works quite differently from what standard economics assumes. As a matter of fact, overall employment increases if the average wage rate W increases relative to average price P and productivity R. This is a systemic law and not a behavioral assumption.

The core of the employment problem is that the price mechanism does not work as the textbook cliche says. It is contrary to habitual economic intuition (which rests on the fallacy of composition), yet there is no way around it: UPward wage rate stickiness produces unemployment and deflation. It is the wage rate and not the interest rate that is crucial in the current situation. Courtesy of the U.S., we now participate in the biggest real life test in economic history and the most expensive refutation of silly economic theories.

Egmont Kakarot-Handtke

* For details see ‘Major Defects of the Market Economy

August 23, 2015

United in confusion

Comment on ‘Lucas’ caricature of economic science’

Blog-Reference and Blog-Reference

You write: “Economics confuses mathematicisation and internal consistency with science. It is amateurism at its worse. And it has gone on for too long.”

That is not quite correct. Science is defined by its methodology: “Research is in fact a continuous discussion of the consistency of theories: formal consistency insofar as the discussion relates to the logical cohesion of what is asserted in joint theories; material consistency insofar as the agreement of observations with theories is concerned.” (Klant, 1994, p. 31)

So, one needs always both. Orthodoxy cannot be criticized for insisting on formal consistency but for lacking material consistency.

What you are proposing as remedy — historicism, sociologism, psychologism — is not the way forward. We know from the examples of Veblen or the German Historical School that this program, too, has produced much storytelling but nothing of real scientific value.

The failure of Orthodoxy is due to the following set of foundational propositions: “... HC1 economic agents have preferences over outcomes; HC2 agents individually optimize subject to constraints; HC3 agent choice is manifest in interrelated markets; HC4 agents have full relevant knowledge; HC5 observable outcomes are coordinated, and must be discussed with reference to equilibrium states.” (Weintraub, 1985, p. 147)

HC1 is vacuous and HC2 to HC5 lack material consistency. This is sufficient for the refutation of Orthodoxy.

The whole discussion about formalization and mathiness is beside the point. Science is defined by formal and material consistency. Economics lacks both. Ergo, economics is not a science. There is no difference between Orthodoxy and Heterodoxy in this respect. The representative economist is a confused confuser (2013), that is all.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2013). Confused Confusers: How to Stop Thinking Like an Economist and Start Thinking Like a Scientist. SSRN Working Paper Series, 2207598: 1–16. URL
Klant, J. J. (1994). The Nature of Economic Thought. Aldershot, Brookfield, VT: Edward Elgar.
Weintraub, E. R. (1985). Joan Robinson’s Critique of Equilibrium: An Appraisal. American Economic Review, Papers and Proceedings, 75(2): 146–149. URL

Preceding post 'No foundations'

August 22, 2015

Buridan’s ass economics

Comment on ‘Krugman is right — public debt is good!’

Blog-Reference

Lars Syll resumes: “The pros and cons of public debt have been put forward for as long as the phenomenon itself has existed, but it has, notwithstanding that, not been possible to reach anything close to consensus on the issue — at least not in a long time-horizon perspective.” (See intro)

This is the perfect Buridan’s ass outcome of every grand economic debate (capital controversy, Phillips curve trade-off, saving-equals-investment, and so on). Hicks nicely formulated the one-size-fits-all résumé: “As far as I can make out, there are relevant and important senses in which all these statements are each of them right and each of them wrong.” (Hicks, 1939, p. 184) That's economics at its best.

When theoretical analysis is inconclusive, when true/false is no longer the ultimate criterion, when “nothing is clear and everything is possible” (Keynes, 1973, p. 292), then all becomes political. Knowledge goes out of the window and opinion takes over. Buridan’s theoretically inconclusive ass is simply politically kicked in one direction or the other.

The fact that economics has not arrived since its very beginning at a valid theory of public debt is taken by most economists as a sign that the whole matter is complex, vague, subjective, and therefore does not yield to a clear cut solution. In the midst of obvious failure, economists turn it into a triumph: “Given these difficulties it is extraordinary that economics has achieved as much as it has.” (Dow, 2006, p. 51)

This is a ridiculous self-delusion. Nothing has been achieved. What is truly extraordinary is the scientific incompetence of economists of all stripes over more than 200 years. The debate over public debt is a case in point.

The most telling fact is that the pivotal phenomenon of the monetary economy — profit — makes no appearance at all in the whole discussion. Actually, the interrelationships are as follows (for more details see 2015).

The employment equation is given in the simplest case by URL. The employment multiplier contains the expenditure ratio rhoE. If rhoE increases, employment L increases. An expenditure ratio rhoE>1 means deficit spending. Thus, the equation contains the Keynesian assertion that deficit spending increases employment.

The profit equation is in the simplest case given by URL. Overall monetary profit Qm of the business sector, too, depends on the expenditure ratio rhoE. Hence, this variable constitutes the link between changes of debt, employment, and the overall profit of the business sector.

With the correct profit theory we now arrive at the remarkable result that no other than Keynes, the most outspoken critic of the Laissez-faire order, has in effect stabilized this order more than anybody else, such that overall profit of the business sector increased exactly in step with the deficits of the private/public households.*

And, irony of ironies, the naive defenders of a pure market order, balanced public budgets, and austerity indeed argue against the very interests of the business sector as a whole (2013; 2014). They do not understand that deficit and profit is ultimately the same thing.

To paraphrase Krugman: public debt is not only good, it is the best thing that can ever happen to the business sector; and in turn promotes an accelerated concentration of income and wealth. After this straightforward lecture in theoretical economics Buridan’s ass hopefully knows where to turn now.

Egmont Kakarot-Handtke


References
Dow, S. C. (2006). Economic Methodology: An Inquiry. Oxford: Oxford University Press.
Hicks, J. R. (1939). Value and Capital. Oxford: Clarendon Press, 2nd edition.
Kakarot-Handtke, E. (2013). Redemption and Depression. SSRN Working Paper Series, 2343561: 1–28. URL
Kakarot-Handtke, E. (2014). Mathematical Proof of the Breakdown of Capitalism. SSRN Working Paper Series, 2375578: 1–21. URL
Kakarot-Handtke, E. (2015). Major Defects of the Market Economy. SSRN Working Paper Series, 2624350: 1–40. URL
Keynes, J. M. (1973). The General Theory of Employment Interest and Money. The Collected Writings of John Maynard Keynes Vol. VII. London, Basingstoke: Macmillan.

* See also the blog post ‘Keynesianism as ultimate profit machine

August 21, 2015

Sticky brains

Comment on ‘Evidence for Sticky Wages’

Blog-Reference

“We economists have all learned, and many of us teach, that the remedy for excess supply in any market is a reduction in price. ... Applied to economy-wide unemployment, this doctrine places the blame on trade unions and governments, not on any failure of competitive markets.” (Tobin, 1997, p. 11)

Conventional employment theory is false because the underlying profit theory as the core of all of economics is logically defective (2014). In simple words: economists cannot tell the difference between profit and income and because of this, they cannot tell how the market economy works. To make the longer systematic analysis short, the most elementary version of the correct employment equation is summarized here.

From this equation follows inter alia:
(i) An increase of the expenditure ratio rhoE leads to higher employment.
(ii) Increasing investment expenditures I exert a positive influence on employment, a slowdown of growth does the opposite.
(iii) An increase of the factor cost ratio rhoF=W/PR leads to higher employment. This implies that a higher average wage rate W leads to higher employment.
(iv) A price increase lowers the factor cost ratio and is conducive to lower employment.
(v) The complete employment equation is a bit longer and contains in addition profit distribution, public deficit spending, and the trade balance with the rest of the world.

Point (i) and (ii) is familiar Keynesian stuff. We focus here alone on the factor cost ratio as defined in (iii). This variable formally represents the price mechanism which, however, does not work as standard economics claims. As a matter of fact, overall employment increases if the average wage rate W increases relative to average price P and productivity R. This is a systemic law and not a behavioral assumption.

The core of the employment problem is that the price mechanism does not work as the textbook cliche says and this has nothing to do with wage or price stickiness but with scientific incompetence, more precisely with the fallacy of composition.

With their scientifically untenable textbook employment theory economists bear the intellectual responsibility for the social devastations of unemployment.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2014). The Three Fatal Mistakes of Yesterday Economics: Profit, I=S, Employment. SSRN Working Paper Series, 2489792: 1–13. URL
Tobin, J. (1997). An Overview of the General Theory. In G. C. Harcourt, and P. A. Riach (Eds.), The ’Second Edition’ of The General Theory, volume 2, pages 3–27. Oxon: Routledge.

***
ICYMI (of August 22)

It is UPward stickiness that produces unemployment and deflation. See the formal proof above.* The U.S. is on the way to get more of both.

* For details of the bigger picture see cross-references Employment

No foundations

Comment on ‘Lucas’ caricature of economic science’

Blog-Reference

You quote: “As Lucas himself wrote ... he was bewitched by the beauty and power of Samuelson’s Foundations of Economic Analysis ...” (See intro)

The first thing every economics student encountered in Samuelson's textbook was the ‘totem of the micro’, that is, supply-demand-equilibrium. And nothing has changed since then. “Supply and demand are at the heart of how market economies work.” (Mankiw, 1998, p. 519)

Then and now, this first encounter is the all-deciding moment. From a student who accepts supply-demand-equilibrium as an explanation for the functioning of the market system nothing of scientific value can be expected in the future.

“There is little or nothing in existing micro- or macroeconomics texts that is of value for understanding real markets. Economists have not understood how to model markets mathematically in an empirically correct way.” (McCauley, 2006, p. 16) *

Nobody with a modicum of scientific instinct can accept the shallow explanations and the superficial formalization of Samuelson's textbook.

On the next higher level, nobody with his logical apparatus intact can accept the following behavioral assumptions as foundations of economic research. “As with any Lakatosian research program, the neo-Walrasian program is characterized by its hard core, heuristics, and protective belts. Without asserting that the following characterization is definitive, I have argued that the program is organized around the following propositions: HC1 economic agents have preferences over outcomes; HC2 agents individually optimize subject to constraints; HC3 agent choice is manifest in interrelated markets; HC4 agents have full relevant knowledge; HC5 observable outcomes are coordinated, and must be discussed with reference to equilibrium states. By definition, the hard-core propositions are taken to be true and irrefutable by those who adhere to the program.” (Weintraub, 1985, p. 147)

What should be almost self-evident is that HC1 is vacuous and that HC2 to HC5 are simply green cheese assumptions. This holds independently from and prior to any formalization.

The only conclusion one can draw from Samuelson's Foundations of Economic Analysis and the neo-Walrasian hard core propositions is that these foundations are unacceptable. If the foundations are unsound, then in the course of time nothing remains standing. This what Heterodoxy can learn from Lucas’s epic failure.

“For it can fairly be insisted that no advance in the elegance and comprehensiveness of the theoretical superstructure can make up for the vague and uncritical formulation of the basic concepts and postulates, and sooner or later ... attention will have to return to the foundations.” (Hutchison, 1960, p. 5)

Eventually, Heterodoxy has to come up with the correct set of foundational propositions.

Egmont Kakarot-Handtke


References
Hutchison, T.W. (1960). The Significance and Basic Postulates of Economic Theory. New York, NY: Kelley.
Mankiw, N. G. (1998). Teaching the Principles of Economics. Eastern Economic Journal, 24(4): 519–524. URL
McCauley, J. L. (2006). Response to "Worrying Trends in EconoPhysics". EconoPhysics Forum, 0601001: 1–26. URL
Weintraub, E. R. (1985). Joan Robinson’s Critique of Equilibrium: An Appraisal. American Economic Review, Papers and Proceedings, 75(2): 146–149. URL

* For the correct way see the working papers 'Essentials of Constructive Heterodoxy: The Market' and 'How to Get Rid of Supply-Demand-Equilibrium'

Economics and the litmus test of science

Comment on ‘Romer v. Lucas’

Blog-Reference

You write “My own view is that being personally and emotionally attached to one’s own theories, whether for religious or ideological or other non-scientific reasons, is not necessarily a bad thing as long as there are social mechanisms allowing scientists with different scientific viewpoints an opportunity to make themselves heard.” And “My favorite example of the importance of personal belief in, and commitment to the truth of, one’s own theories is Galileo.”

Since the Enlightenment everybody knows that science is about knowledge and that religion is about belief. Galileo never pleaded for belief, just the contrary.

“I shall never be able to express strongly enough my admiration for the greatness of mind of these men who conceived this [heliocentric] hypothesis and held it to be true. In violent opposition to the evidence of their own senses and by sheer force of intellect, they preferred what reason told them to that which sense experience plainly showed them ... I repeat, there is no limit to my astonishment when I reflect how Aristarchus and Copernicus were able to let conquer sense, and in defiance of sense make reason the mistress of their belief.” (quoted in Popper, 1994, p. 84)

All great scientists pleaded for the utmost degree of objectivity and that meant to rule belief, passion, and the other human-all-too-human excuses out. Science is about true/false and that is that.

“Like Planck, Einstein viewed the human element of any physical theory as essentially arbitrary, something that should be purged on realization of the final true theory.” (Mirowski, 2004, p. 159)

Galileo was well aware that most of those who pass as scientists are not up to the task. “These savants, as Galileo put it, first decided how the world should function in accordance with their preconceived principles. ... He openly criticized scientist and philosophers who accepted laws which conformed to their preconceived ideas as to how nature must behave. Nature did not first make men’s brains, he said, and then arrange the world so that it would be acceptable to human intellects.” (Kline, 1982, p. 48)

Galileo did not excuse incompetence and proto-science with passionate belief. He wanted to throw these guys out of science. And as far as physics is concerned he succeeded. In economics things are a bit different. There is a lot of self-delusion: “Economists think of themselves as scientists, but ... they are more like theologians.” (Nelson, 2006, p. xv)

Genuine scientists like Feynman subsumed economics squarely among the cargo cult sciences. This got not lost with Clower: “Suffice it to say that, in my opinion, what we presently possess by way of so-called pure economic theory is objectively indistinguishable from what the physicist Richard Feynman, in an unflattering sketch of nonsense ‘science,’ called ‘cargo cult science’.” (1994, p. 809)

Science, we know it from Popper, is ‘conjecture and refutation.’ We know also that conjectures often turn out to be false. And here the great divide between science and mere belief systems becomes clearly visible. The idea of science necessarily includes to accept a refutation. That does not happen in economics.

“In economics we should strive to proceed, wherever we can, exactly according to the standards of the other, more advanced, sciences, where it is not possible, once an issue has been decided, to continue to write about it as if nothing had happened.” (Morgenstern, 1941, pp. 369-370)

The question between New Classics and New Keynesianism has been decided. Both are indefensible. If economics were a science both Romer and Lucas would quietly say Good Bye.

Egmont Kakarot-Handtke


References
Clower, R. W. (1994). Economics as an Inductive Science. Southern Economic Journal, 60(4): 805–814.
Kline, M. (1982). Mathematics. The Loss of Certainty. Oxford, New York, NY: Oxford University Press.
Mirowski, P. (2004). The Effortless Economy of Science? Durnham, London: Duke University Press.
Morgenstern, O. (1941). Professor Hicks on Value and Capital. Journal of Political Economy, 49(3): 361–393.
Popper, K. R. (1994). The Myth of the Framework. In Defence of Science and Rationality., chapter Science: Problems, Aims, Responsibilities, pages 82–111. London, New York, NY: Routledge.

***
ICYMI (of August 22)

Feynman-integrity first of all demands to listen what he said about economics. For a short overview see ‘The Farce That Is Economics: Richard Feynman On The Social Sciences

Economics could get out of its current proto-scientific state if flat-earthers now turn to a socially more productive engagement, e.g. looking Game of Thrones and such.

For details of the bigger picture of manifest scientific incompetence see the cross-references.

The Napoleon game

Comment on Lars Syll on ‘General equilibrium theory — a gross misallocation of intellectual resources and time’

Blog-Reference

Above in ‘Unsmart allocators’ I said that equilibrium is a nonentity and this implies that disequilibrium is also a nonentity. So, any discussion about equilibrium/disequilibrium/near-equilibrium/nonequilibrium/longrunequilibrium etcetera is as good as a discussion about whether the Easter Bunny has red or green ears.

For a heterodox economist to enter any discussion about a nonentity is to fall into the Napoleon trap. Solow put it nicely: “Suppose 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.”

In economics, to accept the concept of equilibrium/disequilibrium means getting tacitly drawn into the game that the other guy is a scientist. He is not, he is only a dilettante economist. The last thing for Heterodoxy is to get involved in any technical discussion about nonentities with any sort of scientific Napoleons.

Egmont Kakarot-Handtke

August 20, 2015

Potemkonomics

Comment on Simon Wren-Lewis on ‘Reform and Revolution in Macroeconomics’

Blog-Reference

Your summary of what Lucas said or meant about Keynesianism and what Keynesians commented on rational expectations reminds one of the definition of scholarship: “Yet a good deal of what is published is, at best, trivial stuff, putting me in mind of that observation: ‘Rubbish is rubbish, but the history of rubbish is scholarship.’” (Haack, 1996, p. 301)

The history of rubbish clearly shows that the representative economist does not understand the basics of scientific methodology. “Research is in fact a continuous discussion of the consistency of theories: formal consistency insofar as the discussion relates to the logical cohesion of what is asserted in joint theories; material consistency insofar as the agreement of observations with theories is concerned.” (Klant, 1994, p. 31)

So, one always needs both: formal and material consistency. Economics as ‘inexact and separate science’ (Hausman, 1992) is content with one.

“The unique property that DSGE models have is internal consistency. Take a DSGE model, and alter a few equations so that they fit the data much better, and you have what could be called a structural econometric model. It is internally inconsistent, but because it fits the data better it may be a better guide for policy.” (See intro)

Note well: an inconsistent model underlies policy guidance. And this is exactly why a genuine scientist like Feynman characterized the whole proto-scientific exercise as farce.

The actual problem of economics is not that this or that model is insufficient. The problem is that both the New Classical and the New Keynesian approach is a failure. Reform is not an option.

The scientific revolution still stands where Keynes left it. “The classical theorists resemble Euclidean geometers in a non-Euclidean world who, discovering that in experience straight lines apparently parallel often meet, rebuke the lines for not keeping straight — as the only remedy for the unfortunate collisions which are occurring. Yet, in truth, there is no remedy except to throw over the axiom of parallels and to work out a non-Euclidean geometry. Something similar is required to-day in economics.” (Keynes, 1973, p. 16)

This was the agenda in 1936 and this is the agenda today. New Classicals and New Keynesians have only prolonged the detour.

Egmont Kakarot-Handtke


References
Haack, S. (1996). Preposterism and Its Consequences. In E. F. Paul, F. D. Miller, and J. Paul (Eds.), Scientific Innovation, Philosophy, and Public Policy, pages 296–315. Cambridge, New York, NY: University of Cambridge.
Hausman, D. M. (1992). The Inexact and Separate Science of Economics. Cambridge: Cambridge University Press.
Keynes, J. M. (1973). The General Theory of Employment Interest and Money. The Collected Writings of John Maynard Keynes Vol. VII. London, Basingstoke: Macmillan.
Klant, J. J. (1994). The Nature of Economic Thought. Aldershot, Brookfield, VT: Edward Elgar.

***
ICYMI (of August 22)

DSGE is beyond repair. The problem goes much deeper. As a matter of fact, the representative economist cannot tell the difference between profit and income, which, clearly, is the precondition for understanding how the market economy works.

There is neither hope for New Classicals, New Keynesians, Post Keynesianism or MMT in general, or Godley/Lavoie and Wren-Lewis in particular.

For details of the bigger picture see the cross-references Profit.

Which revolution?

Comment on ‘Reform and Revolution in Macroeconomics’

Blog-Reference

You say: “This is something I've stressed with respect to the failure of macroeconomic models, the failure to ask the right questions prior to the crisis.”

The problem of economics is not that this or that model is insufficient. The problem is that economics as a whole is a failure.

All theories/models that take at least one of the following concepts into the premises are scientifically worthless: utility, expected utility, rationality/bounded rationality, equilibrium, constrained optimization, well-behaved production functions/fixation on decreasing returns, supply/demand functions, simultaneous adaptation, rational expectation, total income=value of output/I=S, real-number quantities/prices, and ergodicity. All these items are economic nonentities comparable to the perpetual motion machine, unicorns, or dancing-angels-on-a-pinpoint.

Economists have no clue how to do economics without these concepts and are hopelessly chained to their degenerating program. They are simply not up to the challenge: “A new idea is extremely difficult to think of. It takes a fantastic imagination.” (Feynman) A scarcity of imagination and an abundance of self-delusion has always been the hallmark economists.

As Joan Robinson put it: Scrap the lot and start again.

Egmont Kakarot-Handtke

Unsmart allocators

Comment on ‘General equilibrium theory — a gross misallocation of intellectual resources and time’

 Blog-Reference

“Thousands upon thousands of scholars, as well as thousands of statesmen and men of affairs, have contributed their efforts to the attempt to understand the course of events of the economic world. And today this field of investigation is being cultivated more extensively, than ever before. How is it, then, that in all these years, and with all the undoubted talent that has been lavished upon it, the subject of economics has advanced so little?” (Schoeffler, 1955, p. 2)

Since science is a trial and error process, a fair amount of time is inevitably wasted with groping in the dark and following blind alleys. This, however, is not as big a loss as it seems at first. The positive result consists in knowing better which approach does not work and — most importantly — why. The gargantuan wasting sets in with sticking to a degenerating research program.

With regard to equilibrium theory we have the peculiar phenomenon that it took the representative economist so long — about 100 years or so — to realize that he is in a cul-de-sac.

Every heterodox economist worth his or her salt knows that all theories/models that take at least one of the following concepts into the premises are scientific black holes: utility, expected utility, rationality/bounded rationality, equilibrium, constrained optimization, well-behaved production functions/fixation on decreasing returns, supply/demand functions, simultaneous adaptation, rational expectation, total income=value of output/I=S, real-number quantities/prices, and ergodicity. All these items are economic nonentities comparable to the perpetual motion machine, unicorns, or dancing-angels-on-a-pinpoint.

Orthodox economists have no clue how to do economics without these concepts and are hopelessly chained to their degenerating program. They are simply not up to the challenge: “A new idea is extremely difficult to think of. It takes a fantastic imagination.” (Feynman, 1992, p. 172)

Unfortunately, a scarcity of imagination and an abundance of confusion has always been the hallmark of the representative economist.*

Egmont Kakarot-Handtke


References
Feynman, R. P. (1992). The Character of Physical Law. London: Penguin.
Schoeffler, S. (1955). The Failures of Economics: A Diagnostic Study. Cambridge, MA: Harvard University Press.

* See ‘Secular intellectual stagnation

August 18, 2015

Nine views are nine too much

Comment on Brad DeLong on ‘Forder: Nine View of the Phillips Curve’

Blog-Reference

The history of economic thought tells us that economic methodology consists in kicking the can down the road until all gets stuck in the morass of multiplicity, inconclusiveness, and confusion.

The Phillips curve debate is a case in point. Forder concludes his paper: “There was no clear meaning attaching to the expression ‘Phillips curve’ and consequently, nothing much could be said to be definitely true or false of it.” And “A further point is that anyone — very nearly anyone — could find some kind of ‘Phillips curve’ of which they approved, or could use in analysis, or could fit into a model.”

The compulsive drive to push every issue to the point of inconclusiveness and anything-goes is so characteristic of economics that it deserves its own label. Let us call it the Hicks drive. "As far as I can make out, there are relevant and important senses in which all these statements are each of them right and each of them wrong.” (Hicks, 1939, p. 184)*

This is the natural end of every economic debate. For lack of the true theory, this is all economists have to offer. “In order to tell the politicians and practitioners something about causes and best means, the economist needs the true theory or else he has not much more to offer than educated common sense or his personal opinion.” (Stigum, 1991, p. 30)

The Phillips curve is part and parcel of employment theory (2012). Conventional employment theory is a failure. To make a long argument short, the most elementary version of the correct employment equation is given here.

From this equation follows inter alia:
(i) An increase of the expenditure ratio rhoE leads to higher employment. An expenditure ratio rhoE>1 indicates credit expansion, a ratio rhoE<1 indicates credit contraction/debt repayment.
(ii) Increasing investment expenditures I exert a positive influence on employment, a slowdown of growth does the opposite.
(iii) An increase of the factor cost ratio rhoF=W/PR leads to higher employment. This implies that a higher average wage rate W leads to higher employment. This explains the original Phillips curve.
(iv) A price increase lowers the factor cost ratio and is conducive to lower employment. This explains stagflation.
(v) The complete employment equation is a bit longer and contains in addition profit distribution, public deficit spending, and the trade balance with the rest of the world. All variables are measurable, the structural employment equation is testable.

Point (i) and (ii) is familiar Keynesian stuff. Let us focus here alone on the factor cost ratio as defined in (iii). This variable formally represents the price mechanism which, however, does not work as Orthodoxy hallucinates. As a matter of fact, overall employment increases if the average wage rate W increases relative to average price P and productivity R.

The core of the employment problem is that the price mechanism does not work as orthodox economics says and this has nothing to do with wage or price stickiness but only with scientific incompetence.

Forder’s Phillips curve summary can be generalized for all of economics: “None of those things is true. Indeed, it is a stretch to say that any of them has an element of truth. They are part of a widely believed fiction and certainly the story taken as a whole has no historical merit.”

Egmont Kakarot-Handtke


References
Hicks, J. R. (1939). Value and Capital. Oxford: Clarendon Press, 2nd edition.
Kakarot-Handtke, E. (2012). Keynes’s Employment Function and the Gratuitous Phillips Curve Disaster. SSRN Working Paper Series, 2130421: 1–19. URL
Stigum, B. P. (1991). Toward a Formal Science of Economics: The Axiomatic Method in Economics and Econometrics. Cambridge, MA: MIT Press.

* See ‘The Hicks drive’ and ‘Mental messies and loose losers’ and ‘The Humpty Dumpty methodology

August 17, 2015

The moral of the story

Comment Lars Syll on ‘Robert Solow kicking Lucas and Sargent in the pants’

Blog-Reference

Lucas et al. diagnosed the ruling paradigm of the 1970s with a crushing curse “wildly incorrect, fundamentally flawed, wreckage, failure, fatal, of no value, dire implications, failure on a grand scale, spectacular recent failure, no hope.”

This is roughly what Keynes said about the ruling paradigm of the 1930s.

Both diagnoses were spot on. Now Solow tells us roughly the same about the New Classical paradigm. He, too, is spot on.

Let us synthesize the recurring small light bulb moments over the last 200 years to one gigantic light bulb moment. All theories/models that contain at least one of the following concepts fall under the Lucas curse: utility, expected utility, rationality/bounded rationality, equilibrium, constrained optimization, well-behaved production functions/ fixation on decreasing returns, supply/demand functions, simultaneous adaptation, rational expectation, total income=value of output/I=S, and ergodicity. All these items are nonentities like the perpetual motion machine, unicorns, or dancing-angels-on-a-pinpoint.

The first thing to notice is that Solow himself employed nonentities. Therefore, his growth theory falls also under the Lucas curse. Let us make it short: economics is a failed science, there is nothing to choose. This is the situation: the critique of the at any one time ruling paradigm has always been spot on, but the proposed alternative has not been much better or even worse. This explains the secular stagnation of economics.

“The moral of the story is simply this: it takes a new theory, and not just the destructive exposure of assumptions or the collection of new facts, to beat an old theory.” (Blaug, 1998, p. 703)

The new economic paradigm must not contain any of the cursed nonentities enumerated above (2014). That much is clear: in the history of economic thought pants kicking has never led to real progress. Solow is a case in point.

Egmont Kakarot-Handtke


References
Blaug, M. (1998). Economic Theory in Retrospect. Cambridge: Cambridge University Press, 5th edition.
Kakarot-Handtke, E. (2014). Economics for Economists. SSRN Working Paper Series, 2517242: 1–29. URL

Relates to 'Secular intellectual stagnation'

For more details of the big picture see the cross-references Incompetence and Proto-science

ICYMI Accounting for ****

Blog-Reference with AXEC comments here and here

There is a parallel discussion on mainly macro under the heading ‘What is it with economists and accounting identities?

See AXEC's answers ‘Either stupid or duplicitous’ and 'Stupid or duplicitous? Both!'

For the bigger picture see the cross-references 'Refutation of I=S'

Relates also to MMT see 'Modern moronomic theory'

August 16, 2015

Sales talk vs. Science

Comment on Brad DeLong on ‘“We Always Thanked Robert Lucas for Giving Us a... Monopoly” Over Valuable Macroeconomics’

Blog-Reference and Blog-Reference

First of all, it is of utmost importance to distinguish between political and theoretical economics. The main differences are:
— The goal of political economics is to push an agenda, the goal of theoretical economics is to explain how the actual economy works.
— In political economics anything goes; in theoretical economics scientific standards are observed.
Political economics is scientifically worthless. Most of economics since more than 200 years has been political economics.

“In order to tell the politicians and practitioners something about causes and best means, the economist needs the true theory or else he has not much more to offer than educated common sense or his personal opinion.” (Stigum, 1991, p. 30)

Economists have produced gigabytes of opinion but failed to develop the true theory. What has been developed instead falls roughly into three categories: Walrasian, Keynesian, Other. What these approaches have in common is that the representative WKO-economist cannot tell the difference between profit and income. Because of this, WKO-economists never captured the essence of the market economy. This is what unites them. This common lethal defect, though, gets regularly out of sight when relative merits/demerits are discussed.

It takes not much ingenuity to see that Lucas et al. is junk. But to argue “Consider Macro Advisers. Macro Advisers makes a very good living today selling its simulation models.” and implying with this recommendation that the MA-approach is methodologically superior is a non sequitur.

In fact, without going deeper into details, we can can safely conclude that the MA-model, too, is junk, albeit somewhat different from the New Classical ilk. We can conclude this with certainty from this description: “The heart of this new synthesis — a dynamic general equilibrium system with nominal rigidities — is precisely what one finds in the early Keynesian models. Hicks proposed the IS-LM model, for example, in an attempt at putting the ideas of Keynes into a general equilibrium setting.” (See intro)

Now, we know
— all equilibrium models are false because equilibrium is a nonentity (2015),
— all IS-LM models are false because of a mis-specification of overall profit (2014).*

Profit did not appear in Keynes's elementary formalism because he never came to grips with this pivotal economic phenomenon. Neither did the Post Keynesians until this day (2011). What makes all WKO-models worthless is the lack of understanding of what profit is.

The criterion of science has always been true/false. Whether New Keynesian models sell better than New Classical models is irrelevant. To recall, Kepler had figured out the laws of planetary motion. What he was paid for handsomely, though, was not this unique scientific achievement but the horoscopes he produced for the imperial court of the Holy Roman Empire. Clients never had a sound judgment in scientific matters. This is why political economics and disqualified scientists are still among us.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2011). Why Post Keynesianism is Not Yet a Science. SSRN Working Paper Series, 1966438: 1–20. URL
Kakarot-Handtke, E. (2014). Mr. Keynes, Prof. Krugman, IS-LM, and the End of Economics as We Know It. SSRN Working Paper Series, 2392856: 1–19. URL
Kakarot-Handtke, E. (2015). Major Defects of the Market Economy. SSRN Working Paper Series, 2624350: 1–40. URL
Stigum, B. P. (1991). Toward a Formal Science of Economics: The Axiomatic Method in Economics and Econometrics. Cambridge, MA: MIT Press.

* See ‘Mental messies and loose losers

August 15, 2015

Hmmm?

Comment on ‘Some Issues Re-visited’

Blog-Reference

It is very important for you to repeat: “I want to say that I regard neoclassical economics as a triumph. A wonderful achievement. Brilliant.”

No real scientist ever had or ever will agree with you. The summary of Feynman's 1981 interview is spot on: The Farce That Is Economics.

In the defense of the scientific stillbirth called neoclassical economics the real-world economist Peter Radford is the last man standing.

Can we now end the farce?

Egmont Kakarot-Handtke


Refers to 'Heterodoxy: important decisions ahead' and related to 'How to stop idiot-breeding'

Stupid or duplicitous? Both!

Comment on Kristjan on ‘What is it with economists and accounting identities?’

Blog-Reference

You say: “I don't have to understand what profit is to say that Keynes is correct. Just like government deficit equals private sector surplus in a closed economy. I don’t have to understand what profit is to state that this is correct.”

It is not necessary to stress it two times that you don't have to understand what profit is. After all, you are an economist and the others, too, don't understand it.

In any case, Keynes didn't. “His Collected Writings show that he wrestled to solve the Profit Puzzle up till the semi-final versions of his GT but in the end he gave up and discarded the draft chapter dealing with it.” (Tómasson and Bezemer, 2010, pp. 12-13, 16), see also (2011)

It is pretty obvious that you do not understand the essence of the market economy if you do not understand profit. And, to paraphrase Wren-Lewis's unintended self-portrait: who cannot tell the difference between income and profit is stupid or duplicitous or both.*

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2011). Keynes’s Missing Axioms. SSRN Working Paper Series, 1841408: 1–33. URL
Tómasson, G., and Bezemer, D. J. (2010). What is the Source of Profit and Interest? A Classical Conundrum Reconsidered. MPRA Paper, 20557: 1–34. URL

* See ‘Mental messies and loose losers

August 14, 2015

Either stupid or duplicitous

Comment on ‘What is it with economists and accounting identities?’

Blog-Reference

You say: “It's very strange. There seems to be something about accounting identities that causes otherwise reasonable economists — pardon my bluntness — to become either stupid or duplicitous.” (See intro)

It is not strange at all if one drops the unwarranted premise that there is in the beginning something like a ‘reasonable economist.’ It is as simple as that: being habitual confused confusers economists did not miss the opportunity to mess up accounting, too. This holds for balance of payments accounting, but in fact goes deeper.

It started with Keynes. He gave the following elementary formal description of the economy: “Income = value of output = consumption + investment. Saving = income - consumption. Therefore saving = investment.” (Keynes, 1973, p. 63)

This is the most basic accounting identity and, no surprise, economists got it badly wrong — from Keynes to Hicks to Krugman to Wren-Lewis*. Actually, the fault in Keynes's two-liner is in the premise income = value of output. This equality holds only in the limiting case of zero profit in both the consumption and investment good industry.

Profit does not appear in Keynes's elementary formalism because he never came to grips with this pivotal economic phenomenon. Neither did the Post Keynesians until this day (2011). Unaware of the underlying conceptual and logical defects, economists finally messed up National Accounting (2012).

The root cause of all accounting errors/mistakes is a complete lack of understanding of what profit is. For an economist this is disqualifying.

To make it short, here is the formally correct accounting identity for the closed economy (2014, eq. (47)). Derivation and explanation is to be found in the referenced paper.

Because the fundamental accounting identity for the closed economy has always been false, the identity for the open economy has also been false.

The problem with accounting identities has, indeed, something to do with equilibrium thinking, yet ultimately, the all-pervasive analytical blunder can be traced back to the provable false profit theory.**

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2011). Why Post Keynesianism is Not Yet a Science. SSRN Working Paper Series, 1966438: 1–20. URL
Kakarot-Handtke, E. (2012). The Common Error of Common Sense: An Essential Rectification of the Accounting Approach. SSRN Working Paper Series, 2124415: 1–23. URL
Kakarot-Handtke, E. (2014). Economics for Economists. SSRN Working Paper Series, 2517242: 1–29. URL
Keynes, J. M. (1973). The General Theory of Employment Interest and Money. The Collected Writings of John Maynard Keynes Vol. VII. London, Basingstoke: Macmillan.

* See the 2012 MM-post ‘Savings Equals Investment?’
** See ‘More than two centuries of waffling in the dark

How to stop idiot-breeding

Comment on ‘Economics departments — breeding generation after generation of idiot savants’

Blog-Reference

“It may be distasteful for recently trained economists to admit that there is a lot of silly philosophy underlying ordinary neoclassical economics, but I think such is the case.” (Boland, 1992, p. 203)

Orthodoxy is based on the following set of premises: “HC1 economic agents have preferences over outcomes; HC2 agents individually optimize subject to constraints; HC3 agent choice is manifest in interrelated markets; HC4 agents have full relevant knowledge; HC5 observable outcomes are coordinated, and must be discussed with reference to equilibrium states.” (Weintraub, 1985, p. 147)

To recall, Arnsberger/Varoufakis have thoroughly debunked these orthodox hard core propositions (2006). From this follows that Heterodoxy — in order to stop idiot-breeding once and for all — has now to move to an entirely new set of foundational propositions. Not one of the HC1 to HC5 propositions can any longer be defended or applied. Every paper or textbook that contains one of them goes straight into the wastepaper basket.

In order to build up the economics of the future, students first of all need a methodologically acceptable curriculum.* It is not helpful to replace silly orthodox philosopy by silly heterodox philosopy.

Egmont Kakarot-Handtke


References
Arnsperger, C., and Varoufakis, Y. (2006). What Is Neoclassical Economics? The Three Axioms Responsible for its Theoretical Oeuvre, Practical Irrelevance and, thus, Discursive Power. Paneconomicus, 1: 5–18.
Boland, L. A. (1992). The Principles of Economics. Some Lies my Teacher Told Me. London, New York, NY: Routledge.
Weintraub, E. R. (1985). Joan Robinson’s Critique of Equilibrium: An Appraisal. American Economic Review, Papers and Proceedings, 75(2): 146–149. URL

* See cross-references

Relates to 'Potentially counter-productive'  and  'Secular intellectual stagnation'

August 13, 2015

No future for the representative economist

Comment on ‘The Future of Work: Why Wages Aren't Keeping Up’

Blog-Reference

Orthodox economists know it, heterodox economists know it, and Solow knows it: economics is a failed science. The market economy does not work as economic theory says. This holds — with damaging consequences — in particular for the labor market.

The core of labor market theory, purified from the myriad of idiosyncratic variants, goes as follows. “We economists have all learned, and many of us teach, that the remedy for excess supply in any market is a reduction in price. If this is prevented by combinations in restraint of trade or by government regulations, then those impediments to competition should be removed. Applied to economy-wide unemployment, this doctrine places the blame on trade unions and governments, not on any failure of competitive markets.” (Tobin, 1997, p. 11)

Until this day, the representative economist has not realized that the overall systemic interdependencies establish a positive feedback loop between ‘the’ product and ‘the’ labor market, that is, wage rate down—employment down—wage rate down—and so on. Vice versa with an increasing average wage rate.

Solow’s piece contains at least three errors/mistakes. They relate to employment -, distribution -, and profit theory. Let us here go straight to the heart of the matter. The most elementary version of the correct employment equation reads: here.

From this equation follows inter alia:
(i) An increase of the expenditure ratio rhoE leads to higher employment. An expenditure ratio rhoE>1 indicates credit expansion, a ratio rhoE<1 indicates credit contraction/debt repayment.
(ii) Increasing investment expenditures I exert a positive influence on employment, a slowdown of growth does the opposite.
(iii) An increase of the factor cost ratio rhoF=W/PR leads to higher employment. This implies that a higher average wage rate W leads to higher employment. This is, of course, contrary to conventional economic wisdom. It is, though, easy to prove that conventional wisdom is a mere fallacy of composition (2015). The factor cost ratio is formally inverse to the profit ratio.
(iv) The complete employment equation is a bit longer and contains in addition profit distribution, public deficit spending, and the trade balance with the rest of the world. As a matter of principle, the structural employment equation contains only measurable variables and is testable. Hence, matters can be settled once and for all.

Point (i) and (ii) is old Keynesian stuff. Let us focus here alone on the factor cost ratio rhoF as defined in (iii). This variable embodies the price mechanism which, however, does not work as the representative economist hallucinates. As a matter of fact, overall employment increases if the average wage rate W increases relative to average price P and average productivity R.

The correct employment theory states that the average wage rate must rise in order to prevent unemployment and deflation. For the relationship between real wage, productivity, profit and real shares see (2015, Sec. 10)

The ultimate cause of unemployment (including his own) is the scientific incompetence of the representative economist.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2015). Major Defects of the Market Economy. SSRN Working Paper Series, 2624350: 1–40. URL
Tobin, J. (1997). An Overview of the General Theory. In G. C. Harcourt, and P. A. Riach (Eds.), The ’Second Edition’ of The General Theory, volume 2, pages 3–27. Oxon: Routledge.


Thread-summary
The representative economist cannot tell the difference between income and profit. Solow is part of the crowd. His piece is defective with regard to profit-, distribution-, and employment theory. As Joan Robinson put it: "Scrap the lot and start again."