A pact for industrial policy and development

Production_LineSince I was a student I have been fascinated by industrial policy and the role it can play in fostering economic development. It is important for all countries, not least the poorest, but also for those defined as ‘middle income’, which have already industrialised, and some of which have subsequently experienced economic stagnation and even premature deindustrialisation as they cease catching up with the richest countries or those at the technological frontier. Industrial policy in all its forms, whether it involves the promotion of industrialisation itself, or the discovery and commercialisation of new technologies, is vital for raising living standards and enabling the reduction of poverty and inequality around the world. Continue reading

The political economy of the current inflation

Contando_Dinheiro_(8228640)Today’s inflation is leading to calls for mitigating policy responses. The distributional outcomes of higher inflation are necessarily uneven, creating winners and losers across society and the economy. I outline some of the likely impacts on households, businesses, government, and the wider economy, as well as the effects of changes in economic policy.

In recent months rising inflation, termed ‘the cost of living crisis’ by the media, has become a major issue for households, businesses and, increasingly, governments and central banks, who are tasked with policy responses. Caused by a combination of bottlenecks in global supply chains and recovering demand as many economies emerge from severe pandemic-induced downturns, it has hit rates not seen for decades in countries such as the US and UK. What are the likely impacts on the various elements of the economy? It is important for decision makers across the economy, from ordinary workers to policymakers, to understand how higher inflation can affect livelihoods and behaviour. Continue reading

Anwar Shaikh on the contrasting approaches of classical and neoclassical economics

9780199390632In this extract from Anwar Shaikh’s work Capitalism, he draws a striking contrast between the theoretical approaches of his own adopted classical economics, and neoclassical approaches, which dominate the mainstream. He highlights how the classics (and Marx, who he counts as part of this group) more satisfactorily address the real nature of capitalism, starting from its observed patterns and behaviour. Neoclassical economics starts from an idealized vision, a long way from the reality of the economy, in order to act as an apology for capitalism with all its flaws, and then adds “imperfections” to bring the theory closer to the real world. As Shaikh says, this is certainly a strange approach.

“Classical political economy attempted to get underneath the tempestuous surface of capitalism to identify the central tendencies of the actual system. Neoclassical economics took the opposite tack. From the very start, it was focused on the task of constructing a vision of perfect capitalism, optimal, efficient, and thoroughly idealized – all under the guise of “analytical refinement.” Real competition was replaced by perfect competition, the aggressive cost-cutting firm turned into a passive price-taker, and the turbulent movement of real markets was substituted with the smooth path of equilibrium-as-bliss. In the midst of the Great Depression of 1873-1896, Jevons and Edgeworth were refining the list of requirements for “perfect competition,” while Walras was weaving these elements into the general equilibrium model which still dominates orthodox macroeconomics. It is a particular historical irony that Walras, a French socialist who looked to the state for “proper guidance” on the installation and maintenance of “free competition”, would become the patron saint of conservatives who defend corporate capitalism and revile the state…[E]ven those who seek to return to the task of analyzing the actual system generally begin from the Walrasian framework in order to introduce selective “imperfections” here or there.

What a strange manner of proceeding! First, one invents a fictitious idealized world, a veritable Garden of Eden where even the snake of scarcity works for the general good. Most of the effort is then dedicated to explicating the properties of this paradise, although sometimes it becomes necessary to address the clamorous multitudes outside the gates. Then the intellectual problem becomes one of positing particular “imperfections” that can be used to account for otherwise inexplicable behaviors of the obdurate masses. This is the modus operandi of all orthodox economics after Keynes, with differences among the schools arising from disputes about specific attributions of imperfections. Proceeding in this manner ensures that orthodox theory can never be deemed to be wrong: it is only a matter of finding the right set of imperfections to explain each particular “deviation” from the ideal. I do not subscribe to this procedure because I reject its very starting point. I would argue that real macro dynamics is just as different from Walrasian general equilibrium as the classical theory of real competition is from perfect competition. The difference between classical and neoclassical approaches is not about abstraction itself, but rather about the method of abstraction. Abstraction-as-typification begins from the real in order to identify typical patterns and their underlying drivers; abstraction-as-idealization begins from the ideal and inevitably ends up with a vision of the real as a catalogue of imperfections.”

Anwar Shaikh (2016), Capitalism: Competition, Conflict, Crises, Oxford University Press, p.540-541.

Robert Reich on how America got obsessed with the deficit

Robert Reich, who was Labour Secretary under Bill Clinton back in the 1990s, produces plenty of snappy, informative videos and I have shared them on this blog a number of times. Here he is criticising America’s obsession with the government deficit.

Reich claims that this obsession, in its modern guise at least, began under Ronald Reagan, and points out that the concern fails to stretch to the vast and ever-increasing military budget, as well as tax breaks for particular corporations and for the wealthy more generally. Instead, it focuses on the ‘lack of affordability’ of programs which benefit the poor, the middle class and these days even the environment. Republicans in particular seem to do this when Democrats are in power, and then rather ignore the issue when they hold the reigns.

From Reagan and Bush Junior to Trump, tax cuts for the wealthy were prioritised under the mantle of ‘trickle-down economics’, the idea that these cuts would pay for themselves since the wealthy would respond by stepping up investment and job creation. But this assumes that most wealthy people are entrepreneurs and are motivated primarily by ever-higher earnings. The case for this is not so clear cut.

It is worth noting that outside of the Great Financial Crisis of 2008-09 and the pandemic, moments when substantial fiscal stimulus was more justified, Republican policies of tax cuts for the wealthy and large increases in military spending have consistently blown up the deficit rather than pay for themselves by shrinking it through faster economic growth. These outcomes have then led to calls for ‘starving the beast’, or cuts to spending programs which prioritise the most vulnerable.

Economics as a subject: unrealistic or misused?

KitsonMichiePEofComp“There are several reasons why the economy is not amenable to simple modelling. Or rather why, when it is subjected to simple modelling – by economists – the results should be treated with a judicious degree of caution. To be specific, the results should be interpreted as applying to the particular model, not necessarily to the economy.

First, there are a huge number of economic – and non-economic – factors continually interacting. Many of these interactions are two-way – where one factor will change, causing other things to change, and then these changes themselves affect the initial factor – causing a new cycle of interaction, and so on.

Second, the nature of the causal mechanisms themselves alters over time.

Third, one may sometimes find a causal mechanism from one variable to another that appears absolutely stable, so one can predict that if a certain event happens it will always be followed by the same consequence. But if something new is introduced – for example a policy intervention suggested by the economist who has discovered this stable relation – then that may well cause the previously stable correlation to break down. This may sound rather esoteric, but it became crucially important when, for example, policy makers accepted the claim that there was stable relationship between money and prices, so that if the money supply was controlled, inflation could be eliminated painlessly. In the event, as governments clamped down on the money supply, people just used the existing money stock more intensively. This hadn’t happened before, but it did now. This phenomenon – that intervening on the basis of past behaviour can actually change that behaviour in the future, thus undermining the intervention – came to be known as ‘Goodhart’s Law’. (After Charles Goodhart, an economics professor at the London School of Economics and a member of the Bank of England’s Monetary Policy Committee, who had pointed out that this was indeed likely to be the result of the Conservative Government’s monetarist policies in the 1980s.)

Fourth, many of these ‘laws’, causal mechanisms, call them what you will, depend on what decisions actually come to be taken by various people in the economy (and, indeed, in other economies). So an economist might predict that since a fall in interest rates will reduce the cost of borrowing to make an investment, investment will therefore increase if the interest rate is reduced. And so, often, it does. But if, on the other hand, investors decide not to invest after all, say because of their uncertainty about the future, then that’s that. And if the decision is a general one, then our economist will be proved wrong. End of story. This is why Keynes described ‘animal spirits’ as playing a part in investors’ decisions (meaning their business and financial instincts). Indeed, the terms ‘bear’ and ‘bull’ market are used to describe the stock exchange when it’s on the way down or up, respectively.

And fifth, many of the things that economists are analysing – what the effects of changing interest rates will be, or which will be the richest ten countries in five, ten or twenty years time – are simply unknowable. The answer will depend on what happens to a whole range of other factors, about which we can’t be sure.

These difficulties are not, in our view, what put people off the subject. But they do lie behind one of the off-putting factors, which is, rather, that too many economists are either unaware of, or else forget, the above. They talk as if the results of simple models can be translated directly into policy for the real world. Students often object to this – rightly – saying that ‘economics is completely unrealistic’. The problem, though, is not economics – it is the misuse of economics.”

Michael Kitson and Jonathan Michie (2000), The Political Economy of Competitiveness, Routledge, p.3-4.

The decade the rich won: was there an alternative?

800px-A1_Houston_Office_Oil_Traders_on_MondayA new tv documentary explores the decade following the crash of 2008 and the uneven outcomes of economic policy which benefited many wealthier households while living standards for the majority stagnated. The theory of balance sheet recessions suggest that the policy response could have been very different.

The BBC still makes plenty of quality documentaries. One of the most recent, The Decade the Rich Won (hereafter TDTRW), chronicles the story of the lopsided results of the economic policy response to the Global Financial Crisis (GFC) of 2008. It focuses on the UK, though the lessons are universal, and features interviews with many of the key players, from government ministers and the former governor of the Bank of England to those working in finance, as well as those who truly suffered at the hands of austerity. It is implicitly critical and begs the question: was there an alternative? Continue reading

Anwar Shaikh on economics and the real world

The video below features Anwar Shaikh discussing the basic framework he uses in his 2016 magnum opus Capitalism: Competition, Conflict, Crises. Shaikh describes his approach as working in the tradition of classical political economy, and draws in particular on the ideas of Adam Smith, David Ricardo, Karl Marx and John Maynard Keynes, integrating them into a coherent form. He emphasis the importance of profitability under capitalism as a motivating and regulating force, and what he terms ‘real competition’ in the marketplace, in contrast to theories of so-called perfect or imperfect competition. He also explains how his theory can explain the failure of Keynesian policies to deal with the stagflation of the 1970s, which led to the widespread abandonment of demand management as a tool to achieve full employment.

The relationship between economics and politics

Whatever happened to Britain

“[E]conomic ideas do not arise from simple intellectual curiosity. When vested interests in society clash, ideas are one of the weapons used in the struggle. A group putting forward a particular point of view will try to show not only that it has a uniquely correct understanding of how the system works, but also that, as a consequence, its policies conform to ‘natural justice’, or are in the ‘national interest’. Economic analysis thus plays a vital role in political controversy. But it would be wrong to imagine that this role is pursued entirely cynically. Economists’ ideas do not lead events, they follow them. Brilliant political fashions are often economically old-hat. Ideas are picked up, dropped, revived, given more attractive covering (mathematics being the fashionable top-dressing at the moment) and presented as penetrating and new. Nothing is quite so powerful as an ideas whose time has come.

Therefore, once a particular interpretation has been invented of how the system works, it may be transformed and developed in a way which is totally independent of the conflict in which it originated. An idea which began merely as an argument in a particular cause acquires a ‘scientific aspect’. It appears to be independent of political controversy, and so becomes a yet more powerful propaganda weapon.

Although economists are often the intellectual hired guns of political interests, this does not mean that they don’t sometimes identify some elements of the process by which the market mechanism actually works. But it does mean that we should always be aware of just where ideas come from. For even the most abstract bit of theorising is erected round the skeleton of its ideological origins.”

John Eatwell (1982), Whatever Happened to Britain? The economics of decline, BBC/Duckworth, p.33.

Economics and the left – some recurring themes

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Inspired by a book on the economics of decline, I reflect on some themes which concerned the left in the 1980s. Many of these continue to exercise our attention today, and distinguish progressive thinkers from conservatives in economic and political debate.

Since the advent of Keynesianism, leftist and progressive economics has been concerned with government policies of demand management to help the economy attain full employment. More broadly, social justice and reducing inequalities of all kinds have even deeper roots. Apart from its socialist wing, the left has tended to champion economic and social reform in the shape of capitalist social democracy, as opposed to revolution leading to socialism. Back in the 1970s and 80s, during the rise and heyday of Margaret Thatcher, British left wing economists had become deeply concerned about the relative, and at times absolute, economic decline of the UK, compared with its international rivals, such as the US, Japan and continental Europe. Radical economic and social reform involving increased intervention in the economy were seen as a solution to the country’s problems. This was in opposition to the Thatcherite programme of monetarism, deregulation and privatisation. But the left were kept out of power for 18 years, by which time, under the leadership of Tony Blair, they accepted much of the Conservative legacy, and attempted to improve on it rather than undo it. Continue reading