Tag Archives: review

Pop economics and pop economic methodology

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It took me a while to work out what was odd about Ha-Joon Chang’s [amazon_link id=”0718197038″ target=”_blank” ]Economics: The User’s Guide[/amazon_link]. It is that the title is literally descriptive. I was expecting a book about the economy, or economies, told from the author’s refreshingly distinctive perspective. It’s actually a book about the economics profession. An alternative title would be Economic Methodology: an introduction to the issues, although it would obviously sell fewer copies. So it’s a useful book but I wonder about the intended audience? The campaigning economics students will really enjoy it, but I’m just not sure what the general intelligent readership will make of it.

[amazon_image id=”0718197038″ link=”true” target=”_blank” size=”medium” ]Economics: The User’s Guide: A Pelican Introduction (Pelican Books)[/amazon_image]

The first couple of chapters irritated me. He asks, ‘Why are people not very interested in economics?’ Actually, they are. Student numbers are going up, and pop economics books sell well (including [amazon_link id=”0141047976″ target=”_blank” ]23 Things They Don’t Tell You About Capitalism[/amazon_link]).

He then goes on to distinguish between the imperialist version of economics (anything can be seen through the lens of rational choice and claimed as economics) and economics as the study of economies – and I agree with his view that it should mainly be the latter. But along the way the book asserts that ‘most’ economists pay no attention to issues such as bargaining power in labour markets, or technology and the structure of production. Excuse me?! This is a simple bizarre dismissal of huge swathes of economics (including my own areas). I find it increasingly frustrating that critics of economics portray the subject in such a Manichean way that they can’t acknowledge that we’re not all Eugene Famas or Steven Levitts, and in fact very, very, very few actual economists take the kind of approach presented as the ‘neo-liberal mainstream’. Indeed many of us agree with some aspects of the criticisms, and would like to engage in fruitful debate rather than Punch and Judy knockabout. Many – most – of the economists I know think economic history is important and read it themselves, in contrast to Ha-Joon Chang’s assertion. Maybe it’s just Cambridge, although I don’t think so.

The book gets better after this. There are a couple of chapters that cover – briefly – key economic concepts and an outline of global economic history. This is a kind of ‘pass notes’ introduction. A description of the main ‘schools’ of economic thought follows, a one-chapter intro to the history of economic thought. It’s a bit tendentious, but hard for anybody not to be in such a concise summary.

The remaining chapters pick selected macroeconomic topics , including inequality, the role of the state, growth, welfare and happiness, finance. In most cases, Ha-Joon Chang’s preferred approach to the question is contrasted with what a ‘free market’ economist would say about it. There is little about all the other schools of thought such as the Austrian or straight Marxist, described in the earlier history of thought chapter. The presentation is: ‘here’s my sensible, realistic way to think about think about this issue, and here’s what most mainstream economists (by implication, mad ideologues) say about it.’ So it’s a bit irritating but they are decent overviews of the chosen issues.

It takes me back to the audience question, though. This is an interesting read for 6th formers or undergraduates but as a supplement because there isn’t enough economics in it, or rather not enough economics to make sense of the meta-economics. Still, it would give them a useful perspective on macroeconomic issues. The history of thought chapter seems to me the most useful because it is a good capsule overview of something too rarely taught. As for the general reader, I find it hard to tell. I might have to try it on my economist son and my non-economist husband to see what they think. Perhaps I’m just too close to this debate to judge.

Butterflies and hurricanes

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I received a copy in the post this weekend of [amazon_link id=”0691154708″ target=”_blank” ]The Butterfly Defect: How globalization creates systemic risks[/amazon_link], and what to do about it by Ian Goldin and Mike Mariathasan. I’d read the book in draft and it’s a thought-provoking and rather alarming account of some of the vulnerabilities arising from interconnected global systems. Exhibit number one is the financial crisis, I suppose, made significantly more severe by the criss-crossing and largely unmonitored links between banks and shadow banks in many countries. The book also discusses global supply chains, infrastructure, ecology, public health and the social risks arising from inequality (this last obviously written well before Piketty-mania).

The growing complexity in each if these areas is well-documented. The title is a riff on the well-known butterfly effect whereby a small initial disturbance in a complex system with feed-back loops can rapidly lead to large and unexpected results – the flap of a butterfly’s wings in one place leads to a hurricane somewhere else entirely. It has become a defect because our governance systems haven’t remotely kept pace with the changes of the past 25 years. Connectivity has led to complexity has led to systemic risks – but policies address only local risks.

The final chapter asks how to start managing the new risks, without wholly answering it – although to be fair it would take a new book for each of the previous chapters to set out ay detail about what to do. The authors do not want to reverse the interconnectedness, although they acknowledge that some people might prefer that. They call instead for more global management of risk, more awareness of the new kinds of risk on the part of all policymakers and businesses everywhere – better risk measurement, transparent communication about the dangers and the policy uncertainties, gearing economic policies towards giving people incentives to take more account of the personal risks they face, clear definition of legal responsibilites, and contingency planning.

This all seems perfectly sensible. Will it happen? I think the most sobering section of the book talks about the way the post-World War II global governance changes, the ‘Bretton Woods moment’, came about as a result of the cataclysm of total war. The book ends on a very optimistic note:

“With better management, there is the potential for all citizens to share in our world’s magnificent achievements, the most impressive of which could be yet to come.”

But I ended up feeling daunted. Anyway, both pro- and anti-globalizers should read it.

[amazon_image id=”0691154708″ link=”true” target=”_blank” size=”medium” ]The Butterfly Defect: How Globalization Creates Systemic Risks, and What to Do about It[/amazon_image]

A call for stubborn unreasonableness

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[amazon_link id=”0691155240″ target=”_blank” ]Fragile by Design: The Political Origins of Banking Crises and Scarce Credit[/amazon_link] by Charles Calomiris and Stephen Haber is a fascinating exploration of the relationship between banking and politics, and raises some important questions. The bulk of the book is a series of historical narratives looking at the banking history of several countries – the US, UK, Canada, Mexico and Brazil. These histories are seen through the prism of the tight connection between finance and politics, in what the authors call the Game of Bank Bargains.

They argue that banking is inherently political because it is by design potentially unstable – pooling the money of many individuals to make loans to other people –  and depends on the enforcement of certain property rights by legal and political authorities to navigate the conflicting incentives. Three property rights challenges follow: the need for mechanisms to reduce the risk of government appropriation of banks’ assets (either outright, or through regulation, or by printing fiat money); mechanisms to protect depositors and shareholders from the banks’ managers channeling resources to themselves; and mechanisms to prevent borrowers from defaulting. Stability requires finding a balance between the conflicts of interest. It is rare – Canada is the exceptional case, having experienced no systemic crises since 1840 in contrast with the dozen in the US. Populist democracies and more autocratic governments make different types of political deal but both fail to balance the competing interests. Achieving a stable democracy with robust defences against populism is clearly a tricky tightrope act.

The historical narratives are very interesting and do underline the importance of the political context in shaping the banking system. As the final chapter points out, the narrative explanations do offer insights that general theoretical explanations of the financial crisis can not. The general theories fall into one of three categories: inherent structural mismatch of funds and the resulting liquidity risk; inter-connections between banks that give rise to spillovers and domino effects when one bank is in trouble; and the inherent operation of human nature with periods of over-optimism and myopia alternating with pessimism and retrenchment (the Kindleberger and Minsky version). What no general theory can do is explain the contrasting historical paths of the different countries. “The decisive influences determining whether the threats highlighted by these three theories will result in banking crises are political…. The extent of safety nets and prudential regulation are choices made by politicians, and in making those choices they are generally motivated by maximizing what is good for their own short-run political futures, not what is socially desirable in the long run.”

This seems completely persuasive to me. One gap in the book, however, is the part played by the globalization of finance and how that is related to the combination of national politics and international agreement. The historical narratives are entirely focused on the domestic politics of each country. However, globalization has obviously changed the political economy dynamic, even if only by making national politicians feel they face new constraints on their choices. The big global investment banks and the shadow banking sector are surely a key part of the story.

I do like the way the book ends: “As [amazon_link id=”0140437886″ target=”_blank” ]George Bernard Shaw said,[/amazon_link] ‘The reasonable man adapts himself to the world; the unreasonable man persists in trying to adapt the world to himself. Therefore all progress depends on the unreasonable man.’ Meaningful reform in a democracy depends on informed and stubborn unreasonableness.”

[amazon_image id=”0691155240″ link=”true” target=”_blank” size=”medium” ]Fragile by Design: The Political Origins of Banking Crises and Scarce Credit (The Princeton Economic History of the Western World)[/amazon_image]   [amazon_image id=”0140437886″ link=”true” target=”_blank” size=”medium” ]Man and Superman: A Comedy and a Philosophy (Penguin Classics)[/amazon_image]

The eclipse of capitalism – or maybe not

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Jeremy Rifkin’s new book, [amazon_link id=”1137278463″ target=”_blank” ]The Zero Marginal Cost Society[/amazon_link], covers lots of interesting territory but isn’t my cup of tea. One reason for that is apparent in the subtitle: “The internet of things, the collaborative commons and the collapse of capitalism” – wide-ranging is good, but ranging wide over such a disparate set of topics is a bit of a stretch.

[amazon_image id=”1137278463″ link=”true” target=”_blank” size=”medium” ]The Zero Marginal Cost Society: The Internet of Things, the Collaborative Commons, and the Eclipse of Capitalism[/amazon_image]

Another reason is that near the start of the book there is an anti-economics rant, economics being characterised by “unquestioning acceptance, and refusal to envision alternative explanations, lead[ing] to a festering of inconsistencies that pile up.” While I certainly agree that economics too often sets environmental constraints to one side – which is what Rifkin’s rant builds up to – I always check the references and bibliography at this point to see how much modern economics the ranter has read. And as is always the case with such critics, Rifkin cites next to no work done in the past 25 years.

The main argument of this book is that near-zero marginal cost activities make up a growing proportion of economic activity, and this signals the inevitable decline of capitalism. Capitalist markets are not an efficient way to organize a society in which most things are free, because the socially efficient price is zero when marginal costs are zero. Rifkin draws on his last book [amazon_link id=”0230341977″ target=”_blank” ]The Third Industrial Revolution[/amazon_link] and adds in the effects of the Internet of Things and smart grids in optimising energy use to apply this argument to energy prices. He cites also MOOCs and 3D printing. It is not a new observation to point out that many activities involve high fixed costs and low marginal costs. Digital or digitally-enabled activities are adding to the roster of industries with this structure, shaking up business models in music, publishing, newspapers and – soon – education; but other industries from aerospace to pharma to broadcasting have long experienced increasing returns. These too challenge the model of small, perfectly competitive firms delivering efficient outcomes through the magic of the price mechanism and the market.

Rifkin does not, for my taste, adequately address the question of how the high fixed costs are to be covered in his post-capitalist world. “Within 10 years every building in America and Europe, as well as other countries around the world, will be equipped with smart meters,” he writes. He predicts huge cost as well as energy savings, citing a Cisco forecast that the Internet of Everything will generate $14.4 trillion in cost savings and revenues. So that’s selling smart meters plus the cost savings from using less energy once they are installed, I guess – and wouldn’t Cisco, purveyor of smart devices, say that anyway? The smart meter installation programme in the UK alone is estimated to have a: “positive net present benefit of £6.7 billion over the period to 2030, by delivering total benefits of around £18.8 billion and costs of around £12.1 billion.” (House of Commons Energy Select Committee estimates.) These order of magnitude smaller estimates for a longer period predate the actual existence of technical standards and operational meters, needing to be installed in every home and business in the country. I’m sure it’s worthwhile, but I’m sceptical about this happening within 10 years, all around the world.

The most interesting chapters in the book cover collaborative efforts and the switch “from ownership to access.” There have been interesting articles and stirrings around just this past week on the sharing economy – from The Economist, from Public CEO, this New York petition, John Kay in the FT. (HT to @johnfingleton1 for the links.) Parts 3 and 4 of Rifkin’s book provide an overview of this territory. By this stage, I had gone into irreversibly sceptical mode, and concluded that it is too early to say that none of the new digital businesses will find a viable business model.

This book would be a good airport read. Rifkin is a clever and widely-read writer. I don’t like the way he opts for polemic over analysis, but that’s me. Others might enjoy this high-level canter over a wide territory – but I’d caution you to take the claims with more than a pinch of salt.

Macroeconomics and aliens

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Over a few weeks, I’ve been reading[amazon_link id=”0262019736″ target=”_blank” ] Big Ideas in Macroeconomics: A non-technical view[/amazon_link] by Kartik Athreya, an economist at the Richmond Fed. I’ve found it very interesting and illuminating, but what it has illuminated has tended to confirm my scepticism about much conventional macroeconomics.

[amazon_image id=”0262019736″ link=”true” target=”_blank” size=”medium” ]Big Ideas in Macroeconomics: A Nontechnical View[/amazon_image]

The kind of macroeconomic debate that most people are familiar with from the blogs (see Simon Wren-Lewis, the National Institute blog, Noahpion etc) and the economics journalists – discussing why GDP growth is what it is, the effects of fiscal policy, how long interest rates need to stay so low, what is the risk of deflation in the Eurozone etc – is wholly absent from this book.

It is instead about macroeconomic theory. It seeks to explain without equations the deep theoretical foundations of macroeconomic models, the models later used in central banks and elsewhere to inform the practical policy discussion. Although billed as ‘non-technical’, and hence the absence of equations, it is still pretty tough going. Athreya’s starting point is general equilibrium theory derived from Walras in its modern Arrow-Debreu-McKenzie (ADM) manifestation. The first four chapters cover this theory, other theoretical foundations in the form of game theory and overlapping generations models, and the use of four often-criticised techniques or assumptions: aggregation, rationality, equilibrium and mathematics. Chapter 5 turns to policy advice, and chapter 6 to “recent events”. Even these, though, are discussions of the theoretical models.

The book is therefore an excellent guide to macroeconomic theorising – although too hard for a general audience, useful for students of macroeconomics, probably at the graduate level. However, I was genuinely startled by its implicit claim that the ADM model is both the right approach to practical macroeconomic policy and the approach in use in the policy world. This is not because I have any doubts at all about the usefulness of some mathematics, nor of the modelling assumptions of rationality and equilibrium in many contexts. I am a huge fan of markets as a process of information-discovery and co-ordination. But I’d imagined the insistence on the abstraction of the general equilibrium approach to macro was in retreat and now dug deep into in its bunkers in university departments and academic journals.

There is a telling passage in Chapter 2 where Arthreya writes of “the pervasive orderliness of the world in the absence of any central co-ordinator.” Many economists have noted this – Paul Seabright’s [amazon_link id=”0691146462″ target=”_blank” ]The Company of Strangers[/amazon_link] is one wonderful, accessible example. But many have also, I would say, pointed out the frequent disorderliness of the world at the aggregate, macro level. ” ‘ADM minus some markets’ seems like a useful description of the real world,” the book claims – just before noting that the ‘minus some markets’ strikes out financial markets subject to asymmetric information, those with too-big-to-fail entities, and markets characterised by externalities. Then it claims that there are no other important areas of oligopoly power – oh, except for those where innovation is important. I can think of a few other areas of market power too! When ‘minus some markets’ ends up being a very large chunk of the aggregate economy, there is a lot of wishful thinking going on here about the practical relevance of the general equilibrium model.

What about the crisis? Athreya concludes that: “Macroeconomists lack models that can fully account quantitatively for the use of various contracts….Macroeconomics therefore has a good deal of unfinished business.” The crisis has led to a sensible shift in modelling priorities towards including some financial contracts, he says – and the book rightly notes that Keynesian or Minskian models would not have included relevant types of financial contracting for predicting the crisis either. Athreya thinks these evolutionary, internally-driven reforms are all that macro needs. I find this dispiriting.

After reading the book, I read some other reviews and found that John Quiggin had more or less the same reaction as me. I’m not all that persuaded by the revamped Keynesian non-DGSE versions of macro either (unlike Quiggin, I think); for me, we’re simply back to the drawing board on macro, and the most interesting starting points would be something like the Moore/Kiyataki models with credit cycle and labour market interactions at their heart, plus [amazon_link id=”1843763311″ target=”_blank” ]Perez[/amazon_link] on long-term technology and financial cycles. The former seem to me like heirs of the much-underrated [amazon_link id=”063117690X” target=”_blank” ]Malinvaud[/amazon_link] approach.

[amazon_image id=”063117690X” link=”true” target=”_blank” size=”medium” ]Theory of Unemployment Reconsidered: Lectures[/amazon_image]

Still, as Quiggin says, the DSGE cult prevails still in academic economics – and, it seems, in the policy world too. Which means [amazon_link id=”0262019736″ target=”_blank” ]Big Ideas in Macroeconomics[/amazon_link] is worth reading to understand how they think, alien as it may be.