Economics — Here’s My Take by Martin Kienitz

15 – SELECTED BIBLIOGRAPHY

This classic book describes the history, structure, and operations of the banking system of England in the late 1800s when it was the center of world finance. Bagehot’s writing is wonderfully clear and accurate, nicely educating the reader from chapter to chapter. He shows how the British banking system, for all its power, had vulnerable spots that wouldn’t exist in a ‘natural’ banking system. But it had developed that way and there was no way to change it.

He writes, “The peculiar essence of our banking system is an unprecedented trust between man and man: and when that trust is destroyed by hidden causes, a small accident may greatly hurt it, and a great accident may in a moment almost destroy it . . . . we can thoroughly comprehend the cardinal importance of always retaining a great banking reserve. Whether times of adversity are well met or ill met depends far more on this than on any other single circumstance.”

From Bagehot’s time to ours, “times of adversity, panics, seasons of incipient alarm, public nervousness and anxiety” (all his terms) keep on occurring. He was familiar with them. Much of his book describes how banks prepare for and deal with these dramatic events. Modern bankers should re-read his book. Some may have done so but others seem to operate like the buccaneers and bill-brokers he describes, utterly dependent on rich backers to rescue them when trouble comes.

Dr. Blatt’s book is extremely valuable as a foundation for understanding the foundations of present-day economic theory. It is highly mathematical and not suitable for the general public, or for many economists.

The book is in five sections: 1) definitions of economic models and states, 2) growth and stability in linear systems, 3) non-linear systems and the business cycle, 4) uncertainty in economics and 5) the background of his ideas. Each chapter has a literary section and a dense mathematical appendix proving the theorems he has mentioned earlier.

He establishes that any simplified linear economic model (which assumes all markets clear, no uncertainty of the future, no monopolies or oligopolies and no credit or financial sectors) will show either damped oscillations in time about a balance point, or else veer off without bound – depending on the choice of initial parameters.

Blatt discusses the simple non-linear economic models of Hicks, Frisch, and Goodwin. All show limit cycles in time (endlessly repeating paths in phase space) which could be taken to be business cycles. However, none of them copy actual business cycles which build up slowly and crash down abruptly. He proves that the Frisch model, and any like it, has symmetric cycles and can never match the real world. Goodwin’s model comes closest and merits further study.

Blatt then extensively discusses uncertainty vs. risk, utility theory, and investment under uncertainty. He introduces his own model of investment using the concept of payback time, which is totally ignored in standard economic theory but is extremely important in the decisions facing real businessmen.

Finally he explains that his work is based on the Physiocrats of 18^th century France, begun by Dr. Francois Quesnay, whose original work was ignored in favor of the equilibrium models started in the 1870s and dominant ever since.

Dr. Blatt (1921-1990) was professor of applied mathematics at the University of New South Wales in Australia. His book was recommended to me via e-mail by Dr. Steve Keen of the University of West Sydney.

A literary essay with a thousand turns, fascinating. From the introduction: “I realized that moneyness was not a permanent attribute of those pieces of paper, but attended them for a period, as good fortune had attended me as a young man; in reality attended them only so long as they were in motion . . . money must be visible, for a buried hoard is not money until it is exhumed . . . a banknote blowing in the street is not money until it is run after and picked up. Money becomes money only at the instant it incorporates a wish; and I saw it was a treadmill; that it led us all on a mad bacchanal from which we could not break out and sit down.”

Non-Western societies fail to develop their own immense wealth because they have no secure system of wealth ownership. Without deeds, titles and supporting laws, possessors of property cannot claim ownership. Without clear ownership, they cannot borrow against their property, start new businesses and create new capital. An extended and solid legal structure allows people to do business with strangers, rather than deal only with those they know and trust.

Each author has contributed two papers to this review of economic theory. I got this book in order to read Earley’s essays. He points out that laissez faire was in trouble with economists before 1900 but there seemed no way to go beyond it. Facts contradicted theory at every turn, making economists appear to be willfully ignorant although they saw their problems well enough. Boulding lays out some simple mathematical identities that show how economic variables and changes to them are related. All very precise,with nothing of the uncertain real world in it. Gruchy describes the different approaches of Keynes, concerned with unemployment, with the so-called institutionalists such as Veblen who dealt with the problems of giant monopolists. Seltzer writes clearly about money and credit, their history, the continual confusion surrounding Say’s Law. This is an excellent summary of where economic theory stood in 1949; further ahead than I’d thought, at least in the minds of these gentlemen.

Taking a series of minimum-wage jobs in several cities, Ehrenreich discovers the nitty-gritty of being poor in America. A single job won’t cover expenses. Housing is the deal breaker because rents are high and wages are low; transport and child care are next. Why do people put up with being paid so little? No cash reserves at all; no car; it’s a struggle to find a different job, much less a better one; workers don’t discuss pay with each other. It’s taboo so they are ignorant and each thinks it’s their own individual problem. Plus, employers fight wage increases with every trick they have.

While working in ladies wear at Wal-Mart, Ehrenreich realizes she shouldn’t be angry with women who pick clothes from the rack and dump them on the floor. It is her job to put things back in order again all day, every day. These women have to pick up after their screaming kids at home. Here’s their chance to come to a place where things are orderly, and act-out. No wonder they shop at Wal-Mart several times a week.

The love of money is vilified as the root of all evil, but it is has been essential to the rise of man from wretched subsistence to prosperity. Ferguson imagines its invention, describes its elaboration into ever more complicated forms such as precious metals, bonds, banknotes, and mortgages. He gives the histories of insurance, annuities and pensions; stock markets, hedge funds, options and derivatives. He tells the tales of the many financial disasters from Lorenzo di Medici’s banking failure of 1464, John Law’s Mississippi scheme of 1719, to the housing bubble of 2008.

Ferguson concludes that panics and crashes will continue to happen. Events happen which are not merely chancy but completely unforeseen. As Keynes said, “. . . there is no scientific basis on which to form any calculable probability whatever. We simply do not know.” Further, humans are prone to veer from euphoria to despondency. They fail to learn from history, are overconfident, and tend to prefer gambles with high payoffs.

Economic growth is accepted as being dependent upon technological innovation. Ford says that technology is accelerating faster than society can keep up with it. Worse, as machine intelligence improves there will come a tipping point where most workers, blue and white collar, will be permanently unemployed. The goods and services needed for a mass market could be provided using less than a third of the jobs in today’s economy. Ford believes that the Luddites may be right this time because the economy won’t create new paying jobs on such a huge scale. He believes the size of the problem is not appreciated. Previously, when the farms were mechanized millions moved to factory jobs. Blacksmiths were replaced by auto repair shops. Tomorrow’s machines will be able do almost any tasks that can be broken into stages and steps. Artists, athletes and musicians will be safe but the majority, the many millions, will not be. Such a loss of jobs and incomes will cause a huge drop in demand. The mass market will disappear. What would the machines produce then?

Ford proposes several ideas that would effectively provide guaranteed incomes to all, hopefully without producing dependency. He realizes that wrenching cultural changes will be needed. He thinks they will gradually be forced upon us.

This is a lengthy statistical analysis of data on inequality from around the world. Galbraith concludes that inequality is macroeconomic. It is produced by forces operating worldwide and these are mostly financial: interest rates and capital flows along with pressures to maintain growth make inequality rise inexorably.

This book is a summary of the so-called ‘Cambridge controversies’ between Cambridge, England and MIT in Cambridge, Mass. They began in 1954 when English economist Joan Robinson published her complaint that capital couldn’t be measured by money independently of interest rates, profits or human capital skills. They couldn’t be combined into a single kind of capital. This irritated the economists at MIT such as Samuelson and Solow because it violated the reigning marginal theory of value which had become a dominant part of economic teaching. The pot was stirred when economist Piero Sraffa published Production of Commodities by Means of Commodities in 1960. Harcourt describes the academic storm it created. The parties on both sides of the Atlantic wrote papers exposing the errors of the others. It went on for years. There were even academic insults. Harcourt’s narrative makes it seem like a tempest in a teapot, a spat, a contest of wounded academic vanities. It was all of these and also a missed opportunity, a road not taken, a new paradigm rejected.

Harcourt notes that Sraffa’s result totally undermined the marginal theory of value and should have caused big changes in economic theory, but did not. Marginal theory continued as the central pillar of academic economic theory.

Optimism and progress, even history, are recent ideas. They required developments in social structures which happened slowly in the 17^th – 19^th centuries and opened great possibilities in people’s minds. Improvements year by year were no longer just luck but became inevitable and automatic. This led to a belief in growth and a future that would be open and accepting of it. The 20^th century damaged this view except in America which is now quite parochial, having suffered no damage in the World Wars.

Technology’s rapid change has created alienation, big cities and tighter social machinery. Even more drastic social controls may come about if economic pressures are not enough to get the necessary grubby jobs done. Abundance will make them seem to be optional. The American economy has a huge unacknowledged stimulus program in the defense budget. If it were cut back the private sector probably could not fill the gap, and big new government expenditures would not be politically acceptable. In addition, the developing countries are rising. They will never catch up with us unless their growth rates far exceed ours. Gross inequality between nations won’t be tolerable much longer. Our forward-looking optimism may have to yield. Planning and socialism will be the result. Inertia and habit will make a transition drawn out, painful and perhaps unsuccessful.

Hutchison’s book shows that extreme doubts about the predictive ability (beyond trend-following) and the mathematical foundations of classical economics began in the early 1970’s. (This was well before Steve Keen’s 2008 book, Debunking Economics.) Hutchison, in his understated British manner, shows how it’s all built on sand. He predicts economists will ignore his demolishing of the foundation of their ‘science,’ and proceed just as before because they have nothing better to put in its place. Keen predicted the same.

Hutchison makes allowance for such poor predicting and theorizing early-on in economics because of a complete lack of accurate data on population, GNP, national income and other accounts before the 1940s. Economic predictions had to be mostly conjecture and could not be tested. The demand for predictions was always unremitting however, accurate or not, which led economists to pick assumptions out of the air and greatly elaborate their models.

Hutchison added a chapter on Abstraction, quoting the many critics of the ‘equilibrium model’ of the economy and the rational economic actor.

With the crash of 2007-08 behind us, Steve Keen has completely revised his 2004 book and enlarged it over 40% to 447 pages. It should be a new book with a new title. He lists the failings of each economic school; how they’re unable to incorporate, much less predict, the booms and busts of capitalism. Many theories explicitly rule them out as impossible. Keen lists many specific errors arising from poor understanding of basic calculus and probability. He hopes this explains the profession’s neglect of such errors even when they’re discovered by other economists. He believes they are ignored because, if accepted, a complete upheaval and re-do of economic theories and institutions would have to result. Academia, banking and finance, industry, and government would all need to change their procedures and modes of thinking.

Keen breaks new ground by introducing his simplified model: Investment minus Profits equals the change in Debt. This is a simple differential equation that adds a time-dependent term into the economist’s usual monetary equation, since some variables depend on time-changes in others. Keen simulated the equation with a computer without assuming that the variables come to equilibrium. His model showed time-curves that look like the business cycles, moderations, booms and crashes that appear in the real world. He found ongoing correlations between changes in debt and changes in employment, between inflation and the debt-to-GDP ratio, both known to be true but not found in standard economic theory. Keen’s model leaves out government and consumer spending, finance, imports and exports. He knows these should be incorporated and will do so in his next book.

This book will be a hard slog for non-mathematical readers. Keen puts the equations in verbal form for the general reader, but they’re all present. This is not Economics Made Simple. There are tables and graphs, but 120 more illustrations are viewable and downloadable from the publisher’s website. A larger print copy including all illustrations can be ordered.

Keynes was present in Paris after World War I at the negotiation of the Treaty of Versailles as a member of the British Treasury delegation. He was appalled by the vicious treaty terms and reparations applied to Germany, saw the desperate economic situations of both Germany and the Allies, foresaw that nothing but ruin would come if no spirit of magnanimity prevailed, and none ever did. Keynes’s book is full of back-of-the-envelope calculations of the coal & iron, wheat, cotton, cattle, fertilizer, railroad rolling-stock, shipping, man-hours; everything necessary for the economies of Europe to survive much less flourish, and he sees that it will be impossible. His final chapter proposes some remedies, all of which were politically impossible. They would have to wait until after World War II for the Marshall Plan, the European Coal Community, NATO, the Common Agricultural Policy, and the Common Currency pact. They were conceivable only after another, even more horrific, bloodletting.

This small book is the text of lectures given by Keynes in 1924 and 1926 but not published until 1926 by Leonard and Virginia Woolf. Keynes outlines the origins of laissez-faire in the obvious successes of industrialists and the failures of aristocratic governments: best leave things to those who know how to get things done. He also notes that Darwin’s theory of evolution helped turn a corner. Economists said that wealth was the result of free competition, but Darwin went even further – free completion had created mankind. As Keynes put it:

“The human eye was no longer the demonstration of Design; . . . it was the supreme achievement of Chance, operating under conditions of free competition and laissez-faire. The principle of Survival of the Fittest could be regarded as a generalization of Ricardian economics.”

The invention of limited-liability companies and their drift toward socializing themselves by separating management from ownership, effectively put an end to laissez-faire in practice. It remains a powerful rallying cry among conservatives. Keyes concludes Chapter I: “I do not know which makes a man more conservative – to know nothing but the present, or nothing but the past.”

Keynes wrote this epoch-making book during the Great Depression, changing economics for generations. He introduced the concepts of the Propensity to Consume and Propensity to Save, Inducement to Invest, Liquidity Preference, of Aggregate Demand and Aggregate Supply for the economy as a whole. He showed that rich communities would have difficulty providing enough aggregate demand to create full employment, as compared with poor communities, contrary to Say’s law where supply would always create sufficient demand. He re-established Montesquieu’s earlier theory that interest rates shift to preserve equilibrium between the demand and supply of money, not between the demand of investment and the supply of savings.

That over-saving could be bad for an economy was nearly heresy. Keynes’s formulation, re-enforced by the depression, made it respectable again as did his insight that every act of consumption was also an act of disinvestment. It led inexorably to the idea of demand management by governments as the cure for depressions, since no one else was left standing and able to do anything.

This book is a wonderfully written introduction to economics “for the leaders in public life who should have some knowledge of economics.” It is not ‘economics for the common man.’ It is clear and understandable while using no mathematics. Shackle lays out the intricate relationships that economists deal with and how they go about it, sometimes using one approach then another. Each chapter has begins with a situation that economic theory deals with. He explains the meanings of its terms like ‘balance of payments’ or ‘marginal cost.’ The rest of the chapter describes and comments on how the theory applies.

His purpose is to bridge the gap between economists and businessmen, politicians, and journalists; those who know society well but could use a better knowledge of economics.

Veblen deals with the practices and attitudes of business men, as he calls them. Not factory owners, entrepreneurs, or small businessmen but the titans of industry, the movers and shakers: those who have vision and are concerned with deals, mergers and grand strategies. Today’s Jeff Bezos of Amazon and yesterday’s Andrew Carnegie of U.S. Steel are Veblen’s business men. He explains that these men operate in a credit, not a money economy. To them, capital means available funds – not the land, factories and machinery normally thought to be part of capital. The basis of capitalization for a corporation is not, for them, the capitalized value of its assets but its earning capacity as a going concern.

Stockholder owners have a very distant relation to their property. The credit economy is far advanced over the money economy. Business men control company capital in the form of securities which change with confidence and psychology. The capital markets are the source of capital used for production. The difference between ordinary businessmen and Veblen’s business men is in their purpose. One is a quest for livelihood, the other a quest for profits. Prosperity to the latter means industrial efficiency.

Business men tend toward combination, away from competition. Often consolidation is to the good because efficiencies are gained and profits can be made at lower prices without suppressing wages, thus preventing chronic depression. But there is always a tendency to depression because greater efficiency requires greater growth which can lead to depression though overproduction and over-accumulation of wealth. Countervailing forces are taxes and combined labor.

Business law is based on the theory of Natural Liberty, arising from the common law, where men met on a common footing with free competition as ideally occurred with small merchants and industries. Business law developed with Natural Liberty as its base, with freedom from restraint except regarding rights of ownership, property, and contract. These ideals gradually became obsoleted by the industrial system.

A lucid presentation of supply side economics, the Laffer curve, and the “wedge” effects of taxation. Wanniski gives a very good summary of the differing points of view between supply-side and demand-side economists; what’s important and what’s not, for both. There are many historical examples of how mistaken or egregious taxation may ride too far up the Laffer curve, and thereby ruin economies.

Weber, a German academic, published from 1904 to 1906 his studies on the sociology of religion which were recognized as landmark contributions. He sought to explain the psychological conditions that made possible the rise of capitalism. Speculation, money-lending and commercial enterprises are as old as history. But capitalism, based on profit by the owners of capital and affecting every aspect of society, is a modern phenomenon. Its code of economic conduct and scheme of human relations were at variance with the accepted scheme of social ethics, the law of the church, and European states.

Weber’s thesis was that the new factor was a cultural residue of some forms of Protestantism such as Calvinism, Pietism, Methodism and Baptism; all trying to cope with the doctrine of predestination. From this struggle came the concept of a “calling.” This was a form of asceticism wherein one could discover one’s true function; one’s purpose as given by God. Following a calling let one believe that one could be among the Elect (which was unknowable) and not merely one of the useless ones. All forms of purposeful work could be callings, including business and money-making. Doing them fully and well became doing the Lord’s work. Weber quotes John Wesley, founder of the Methodist church:

“Methodists in every place grow diligent and frugal; consequently they increase in goods. Hence they proportionally increase in pride, in anger, in the desire of the flesh, the desire of the eyes and the pride of life . . . . Is there no way to prevent this – the continual decay of pure religion? We ought not prevent people from being diligent and frugal; we must exhort all Christians to gain all they can; and to save all they can; that is, in effect, to grow rich.”

The usual explanations of the origins of capitalism assume that it was immanent in history or part of human nature, and it sprang up when the restrictions of feudalism were lifted. This circular definition assumes what needs to be described. Ellen Wood shows how capitalism originated in England, and only there, as Agrarian Capitalism. Both landlords and their tenant farmers became subject to market pressures for improvements in land productivity. This was in contrast with France where farmland was held by the peasants and the aristocracy extracted a surplus with taxes.

She quotes Locke’s argument that unimproved land is waste and may be appropriated, as being the primary theory supporting both the enclosure movement and colonial imperialism.

This book is my long-awaited introduction to Modern Monetary Theory (MMT). It has been much fought over in articles and blogs, but I didn’t understand what the fuss was about. Now I finally get it. Dr. Wray lays out a coherent presentation of MMT. It uses a basic accounting identity based on stocks within and flows between the sectors of the economy. Each must sum to zero at any moment in time. As a result, those who want to accumulate financial wealth cannot do so unless others are willing to deficit-spend. Wray shows that a country that issues its own currency can always pay its bills. It can ‘afford’ to buy anything for sale in its own currency, including labor. Its priorities should be full employment with floating exchange rates. Inflation can be controlled by combining capital controls, import restrictions and tax policy. He shows how government ‘spending’ operations are unlike those in other sectors of the economy, making the Austrian, Libertarian and Gold-bug viewpoints untenable.

It is amazing how contentious the nature of money and the operations of banks still are. So many experts – economists and even bankers – have labored so many years yet the arguments about “sound money” and “fiat money,” “money is wealth” and “money is an IOU” still go on. Even among those who should know about such things. The passion on all sides runs high.

Wray is professor of economics at the University of Missouri-Kansas City and Director at the Center for Full Employment and Price Stability.