Steve Keen’s manifesto for a new economics

A brief review of prominent heterodox economist Steve Keen’s latest book, in which he lays out his vision for the future of economics, arguing that the neoclassical approach has been highly damaging to humanity, and needs to be replaced.

Steve Keen has a new book out, entitled The New Economics – A Manifesto. It is the latest chapter in the author’s tireless efforts to replace neoclassical economics and its damaging dominance of mainstream thinking with what he argues is a more scientific and explanatorily powerful body of thought drawing on post-Keynesian and, more recently, Biophysical economics.

Keen, who has been a heterodox or non-mainstream economist since his student days, has been critiquing neoclassical economics for many years. Post-Keynesianism takes its main inspiration from arguably the twentieth century’s greatest and most influential economist, John Maynard Keynes. It draws on the work of Keynes’ followers at Cambridge University, and those who studied under or have been influenced by them, though post-Keynesians remain a radical minority in the grand scheme of things.

Keen was one of the few economists to correctly predict a major financial and economic crisis in the years leading up to 2008. Not one of these iconoclastic souls was a neoclassical. In the 2011 edition of his book Debunking Economics, he painstakingly deconstructed much of neoclassical theory, and began the task of laying out the monetary economics he felt should replace it.

In this engaging new book, Keen argues once again that there is a need for a new scientific paradigm in economics, and that neoclassical economics has failed scientifically even though it remains the dominant approach to the subject. This call for change is more urgent than ever, with the inadequate policies undertaken by governments in response to the crisis of 2008, and accelerating climate change posing existential threats to humanity.

Keen notes that new and more fruitful scientific paradigms tend only to replace old ones when influential thinkers holding onto the outdated belief system pass away, to be replaced by new thinkers who have been educated in the new beliefs and theories in their formative years. As economics remains a social and not a physical or natural science, such a process is less likely to occur, which goes some of the way to explaining the continued dominance of neoclassical economics in the field, despite many real world challenges. It is possible, but worrying, that only catastrophic threats to life such as the impacts of climate change can ensure some kind of transition to new, more useful ways of economic thinking.

His fairly short book is somewhat academic, and is aimed partly at new students of the dismal science who are drawn to alternative, heterodox approaches to the subject. There are plenty of references supplied in the final chapter for those who want to take up Keen’s call to arms and ensure that their economics education is truly relevant to the world they see around them and can make a positive difference to society and the environment on which we all depend.

The four central chapters in the book focus, respectively, on the following areas, which are typically neglected by neoclassical theory:

1. Money – the idea that money in the economy is created by the government and banks issuing debt, and that these processes have real and significant economic effects.
2. Complexity – the importance of non-linear economic modelling.
3. Energy and the environment – the application of the laws of thermodynamics to economics.
4. The “neoclassical disease” – the importance of domain assumptions in economic theory, which need to be realistic, as opposed to the simplifying assumptions which dominate mainstream theory.

Throughout the book, Keen champions and provides worked examples using the Minsky modelling software, named after the post-Keynesian financial economist Hyman Minsky, which Keen has been developing in recent years. It employs non-linear system dynamics, in contrast to the linear modelling employed by neoclassical and even many post-Keynesian theorists.

In what follows, I will mention a few of the stand-out ideas from the book, but those who want to go deeper and find them fully and clearly explained would do well to read it.

A monetary economics

• Bank lending and government deficits create money.
• Persistent government budget surpluses can create financial instability and fragility as they mean that economic growth then needs to be driven by unsustainable increases in private debt. (NB. this need not be the case if a country’s growth is driven by net exports and a current account surplus, but this then means that debt accumulates abroad in the corresponding current account deficit countries).
• Keen reiterates his long held idea that economic recessions and rising unemployment are associated with, or even driven by, shrinking private debt.
• Government borrowing generates monetary assets for current generations, rather than burdening future ones.

Complexity

• Microfoundations of macroeconomics, which dominate neoclassical theory, are impossible for complex systems, which require macrofoundations and are structural, based on macro or systemic definitions and data. The latter are the foundations of macroeconomics, are emergent, and contain irreducible properties.

A genuine environmental economics

• Biophysical economics should provide the necessary foundations of macroeconomics.
• Keen draws on the thinking of the Physiocrats, and argues against Adam Smith and the classical economists, to propose that the real source of wealth is to be found in nature and comes from the land, rather than labour, as in the classical and Marxist Labour Theory of Value. The physiocrat Turgot argued that Nature provides a “free gift”, and in modern terms, this is energy, which enables useful work to be performed by labour, and capital in the form of machines.
• There is a close correlation between the change in global energy consumption and the change in global GDP.
• The Second Law of Thermodynamics states that using energy to perform useful work creates waste energy production.
• The Nobel Prize-winning, and neoclassical, economist William Nordhaus’ economic analysis of climate change ignores the work of scientists who have predicted much greater disruption due to global warming and ignores the tipping points that are likely to result in catastrophic change in the conditions for life on earth.

The need for a new economics

• The “New Economics” must be grounded in the actual dynamics, complexity and chaos of capitalism.
• Distributions of income, wealth and power matter.
• Economics is therefore necessarily political, and should be based on social class as an important unit of analysis rather than the “representative agent” of neoclassical theory.
• There is an urgent need for a more relevant and explanatorily powerful mathematics and mathematical modelling, of which Keen’s Minsky software is one example.

Keen remains a passionate iconoclast when it comes to his tirade against the economics mainstream. With regards to climate change, sloppy thinking literally poses a major threat to life on earth. Thus, he clearly argues, his particular vision for the future of economics needs to be taken deadly seriously. His is not the only voice making such a case for radical change, but it remains one of the most prominent. Keen was right about the advent of a major financial crisis some years before it took place, and he may well be right again. Let us hope that a genuine paradigm shift in economics will not be wholly reliant on further and greater catastrophes.