Choleric Economic Man

choleric

Recessions are part of human nature, says Reserve Bank Governor Glenn Stevens [pdf]:

No country has managed to eliminate the business cycle. No country ever will, because the cycle is driven by human psychology, which finds expression in financial behaviour as well as ‘real’ behaviour. We are seemingly just made – ‘hardwired’, as some would put it – in a way that makes us prone to bouts of optimism and pessimism. Occasionally, we are prone to periods of myopic disregard for risk followed, in short order, by an almost complete unwillingness to accept risk. [p. 2]

‘Behavioural finance’ is one of the new big things in economics. It ditches the assumption of rationality but keeps the methodological individualism. 

Better explanations for booms and busts ditch the methodological individualism, and it follows from that that psychological states don’t matter so much. Rationality we can actually keep, but (1) bureaucratic rather than personal rationality, (2) embodied in a variety of fundamentally different kinds of institution, and (3) bearing in mind that ‘rationality’ does not mean ‘omniscience’ and certainly not ‘knowledge of the future’. (The last might go without saying, but the term has slipped a long way in economic theory.)

Published in: on 9 November, 2009 at 10:40 am  Leave a Comment  

DeLong wrong on Kalecki

kalecki

Kalecki: The mockery I can take. But this?

Brad DeLong damns Kalecki with praise:

I WAS EXPECTING A 6% PRODUCTIVITY GROWTH QUARTER, BUT THIS IS RIDICULOUS!!!

Productivity increased 9.5 percent in the nonfarm business sector during the third quarter of 2009 as unit labor costs fell 5.2 percent (seasonally adjusted annual rates). In manufacturing, productivity increased 13.6 percent while unit labor costs fell 7.1 percent…

Back in the 1930s there was a Polish Marxist economist, Michel Kalecki, who argued that recessions were functional for the ruling class and for capitalism because they created excess supply of labor, forced workers to work harder to keep their jobs, and so produced a rise in the rate of relative surplus-value.

For thirty years, ever since I got into this business, I have been mocking Michel Kalecki. I have been pointing out that recessions see a much sharper fall in profits than in wages. I have been saying that the pace of work slows in recessions–that employers are more concerned with keeping valuable employees in their value chains than using a temporary high level of unemployment to squeeze greater work effort out of their workers.

I don’t think that I can mock Michel Kalecki any more, ever again.

Well I don’t think DeLong knows much about Kalecki.

In Kalecki’s general model of the business cycle, gross profits fall in recessions just as the pre-3Q-2009 DeLong would have expected them to, because investment and hence total demand declines. The effect on profit and wage shares depends on how much total output and employment fluctuates alongside it, and in fact, on how much labour businesses keep (under)employed – exactly the reason DeLong gives for the worldview he maintained before 3rd-quarter 2009 data came along and shattered it.

In “Distribution of National Income” (1956) Kalecki writes that the wage share excluding salaries “does not seem to show marked cyclical fluctuations”. [p. 66 in his 1971 ‘Selected Essays’ book] But once salaries are included, “the ‘real’ wage and salary bill… can be expected to fluctuate less during the course of the cycle than the ‘real’ gross income of the private sector.” [pp. 75-76] Therefore, the wage+salary share increases in a recession. He gives theoretical reasons – mainly that salaried workers’ employment and pay does not vary so much with output – and runs a regression on US data 1929-41 to back it up. This is exactly the opposite of deLong’s representation.

Kalecki does not use the Marxian value terminology, so DeLong’s use of ‘relative surplus value’ is odd.

DeLong seems to be vaguely remembering and mashing into Kalecki’s business cycle theory his infamous 1943 essay “Political aspects of full employment”, although here too Kalecki clearly argues that less-than-full employment is bad for profits: “It is true that profits would be higher under a regime of full employment than they are on average under laissez-faire; and even the rise in wage rates resulting from the stronger bargaining power of the workers is less likely to reduce profits than to increase prices…” [p. 141]

But full employment was likely to meet political opposition from ‘business leaders’ and ‘captains of industry’ (he also never says ‘capital’ or ‘the ruling class’) because of (i) ideological prejudice against Government deficit spending and (ii) any expansion of public investment “which may foreshadow the intrusion of the state into the new spheres of economic activity” [p. 142], and (iii) dislike of the social and political consequences of greater working class confidence that comes with full employment. ‘Rentiers’ would have an additional reason: the erosion of their wealth from more rapid inflation. Kalecki thus predicted a political alliance between rentiers and the intellectual representatives of big industry, “and they would probably find more than one economist to declare that the situation was manifestly unsound.” [p. 144]

DeLong’s account of Kalecki’s views is thus completely misleading. But there’s some wholesale inventories data out today that might just make him rethink everything he thought he knew about Joan Robinson.

Published in: on 6 November, 2009 at 10:57 am  Comments (3)  

All that is solid melts into liquidity (and then sometimes freezes)

What follows is a descendant of the paper I presented at Historical Materialism in London about a year ago. It’s an attempt to introduce a post-Keynesian conception of liquidity into Marx’s theory of credit-money. It has gone through a few versions. After the conference I was invited to present a longer version as a seminar at SOAS to a bunch of post-Keynesians, including the eminent Victoria Chick, Emeritus Professor of Economics at the University of London, whose work I love and draw in the paper. I reworked it quite a bit: at HM I was explaining what I thought Marxian economics can get from Keynes, this time I reversed it to explain what Marx does that Keynes doesn’t. Back in Sydney I reworked it again to turn it into a thesis chapter, which is why you see references to other chapters, etc. I have been meaning to clean it up and submit one version or another to a journal at some point, but thesis has taken over. I’m putting it up here now because what it deals with came up in conversation over at Duncan Law’s blog.

Commodity money, state money, capitalist money

5306. If there should not be currency to settle the transactions at the clearing house, the only next alternative which I can see is to meet together, and to make our payments in first-class bills, bills upon the Treasury, and Messrs Smith, Payne, and so forth.’ — ‘5307. Then, if the government failed to supply you with a circulating medium, you would create one for yourselves? — What can we do? The public come in, and take the circulating medium out of our hands; it does not exist.’ — ‘5308. You would only then do in London what they do in Manchester every day of the week? — Yes.’

– Chapman, a banker, testifies before the Bank Acts Committee in 1857, quoted in Marx [1981: 671]

In some respects, Marx and Keynes appear at opposite poles of monetary theory. Marx is the theorist of commodity-money, for whom “the money-form is merely the reflection thrown upon a single commodity by the relations between all other commodities” [Marx, 1976: 184], and “gold confronts the other commodities as money only because it previously confronted them as a commodity” [ibid: 162]. Keynes, on the other hand, is patron saint of modern cartalists, writing that “the Age of Chartalist or State Money was reached when the State claimed the right to declare what thing should answer as money to the current money-of-account – when it claimed the right not only to enforce the dictionary but also to write the dictionary.” [Keynes, 1930: 5] Commodity-money versus state-money: this disagreement does indeed stem from deeper, fundamental differences of vision regarding the place of the state within capitalism. (more…)

Published in: on 1 November, 2009 at 3:11 pm  Comments (3)  

Social democratic utopianism and capitalist realism

This is an essay I wrote for a local newsletter. It’s fairly long and I thought about breaking it up across a few posts, but what the hell…

King Dork

King Dork

‘Social democracy’ means a lot of different things to different people, and its meanings have slipped around over the decades. Once upon a time it could be synonymous with socialism; nowadays it is a title claimed by the most moderate governments and some of the drippiest Third Way intellectuals of the ‘centre-left’. Further left, it still works as a rallying point for more radical energies. In the past, a definition of the social democratic project might have been something like ‘the project of reforming capitalism in the interests of the working class’. That is broad enough to cover a fair spectrum of radicalism, but still distinguishes it from liberal reform projects.

Nowadays, however, self-proclaimed social democrats are much more likely to speak for people in general, rather than a class, though perhaps with special reference to those from ‘socio-economically disadvantaged backgrounds’, women, and ethnic minorities. Environmental concerns are likely to be central, with the likes of Clive Hamilton and David McKnight arguing explicitly against a preoccupation with ‘deprivation’ or class. It is now more difficult to draw a line between social democracy and liberalism. Though spectrum of radicalism remains, today’s social democrats might be defined broadly in terms of a desire to ‘restrain the market’, though often enough they are at pains to emphasise their understanding of the efficiency of the market in its proper place.

Our illustrious prime minister channels this rhetoric, writing in his February Monthly essay of “that particular brand of free-market fundamentalism, extreme capitalism and excessive greed which became the economic orthodoxy of our time.” [p.20] “Not for the first time in history,” he goes on to say,

the international challenge for social democrats is to save capitalism from itself: to recognise the great strengths of open, competitive markets while rejecting the extreme capitalism and unrestrained greed that have perverted so much of the global financial system in recent times… The second challenge for social democrats is not to throw the baby out with the bathwater… Social democracy’s continuing philosophical claim to political legitimacy is its capacity to balance the private and the public, profit and wages, the market and the state. That philosophy once again speaks with clarity and cogency to the challenges of our time. [pp. 20-21]

Whether Rudd can speak for social democracy is a question we’ll come back to. In any case, in that essay he gives a pretty good impression of a real social democrat. He, or whatever aide pulled the thing together, knew the buttons to push. And the fact that this stuff was said publicly by the prime minister seems to many a sign the the ideological wind has changed. If Rudd is a virtuosic opportunist – and that is a prerequisite for the job – until a few months before it had been more opportune for him to describe himself again and again as an ‘economic conservative’. But the global financial crisis apparently showed that economic rationalism, or neoliberalism, or whatever you want to call it, was rubbish. To quote the learned leader again:

The time has come, off the back of the current crisis, to proclaim that the great neo-liberal experiment of the past 30 years has failed, that the emperor has no clothes. Neo-liberalism, and the free-market fundamentalism it has produced, has been revealed as little more than personal greed dressed up as an economic philosophy… Others have argued that we are seeing a more fundamental regime change: the third in postwar history, starting with the Keynesian model, from the 1940s to the ’70s; the neo-liberal ascendancy, from 1978 to 2008; followed by a new regime, which is currently being shaped… [S]eismic changes are underway, fault lines yielding to fractures which in time may yield to even deeper tectonic shifts. Neither governments nor the peoples they represent any longer have confidence in an unregulated system of extreme capitalism. [pp. 25, 29]

That the ALP was in power for much of the period of ‘neoliberal ascendancy’ is inconvenient for Rudd’s claim that “the political home of neo-liberalism in Australia is, of course, the Liberal Party itself” [p. 27]. (Hawke and Keating, he claims, were ‘economic modernisers’, not neoliberals.) But it’s not necessarily a problem for the broader argument: social democrats who kept the faith through all those years in the wilderness can explain Labor’s apostasy in terms of its own ideological slide. Labor moved with the zeitgeist; partly because it was enthusiastically taken in, like Keating, and partly out of electoral necessity, because the media was taken in. Now the zeitgeist moves back. (more…)

The new old economics

Econ cover

The Economist has a feature this week on “the state of economics” in the wake of the crisis. It’s worth a read as an overview of the PR battle between schools of thought within the mainstream.

The likes of Krugman and deLong are undoubtedly in the ascendancy. As I suggested a few months ago, I think we should see this as the victory of a rational technocratic economics over an ideological conservative economics. While these guys are more pleasant and more fun to read than the so-called ‘freshwater’ economists, it is not an especially ‘progressive’ or ‘left’ economics.

The line of both Krugman and William Buiter that the last 30 years of economics have been a dead end dates the wrong turn to the 1970s. Their cut-off point would, I think, come between Friedman and Lucas. The mistake was ‘rational expectations’ and ‘new classical economics’, which basically completely reject Keynes – uncertainty, historical time instead of general equilibrium, and the non-neutrality of money – and return to pre-Keynesian orthodoxy on a more mathematically sophisticated basis.

Friedman’s version of the quantity theory was also a mistake, though that is hardly news. His politics may be gauche. But the Friedman of the ‘natural rate of unemployment’ and the ‘expectations-adjusted Phillips curve’ was not at all a mistake for the technocrats. In fact he represents the apogee of the technocratic neoclassical-Keynesian synthesis rather than a rejection of it. DeLong in particular has been quite explicit about this, arguing that “Friedman completed Keynes” . (For more detail see his “The Triumph of Monetarism?” in the Journal of Economic Perspectives, Winter, 2000.)

The shifting of mainstream economics and policy back towards neoclassical-Keynesianism well predates the crisis. In fact, as I’ve argued before, it never really stopped dominating macropolicy-oriented economics, as opposed to academic economics or microeconomic policy. You can see the basic argument that macroeconomics had it basically right around 1971 or so, for example, in this 1999 paper from the Reserve Bank of Australia:

By the 1990s, however, the intellectual framework for analysing inflation had come full circle. The framework of the 1990s had much in common with the  one enunciated in the 1971 ‘Inflation’ paper. The intervening years had led to some refinement of the analysis, but the expectations-augmented Phillips curve had returned and once again was at centre-stage. [p. 40]

What we’re seeing now is an opportunistic reconsolidation of its academic and public reputation against ‘new classical’ holdouts.

The rediscovery of the specifically financial side of Keynes may be genuinely new. That The Economist quotes Paul Davidson  and calls Minsky a “neglected prophet”, is an interesting sign. Both are post-Keynesians, well out of the mainstream. Post-Keynesian economics, incidentally, has very little to be embarrassed about by the crisis, since it has analysed finance in a realistic way all along.

(The term ‘post-Keynesian’, confusingly, refers to Keynes purists who set themselves against the ‘bastard Keynesianism’ of the post-war period, also incorporating a great deal of Marxian influence, thanks to Robinson, Kalecki and Sraffa. Davidson’s relatively conservative as these guys go, while Minsky comes out of the Marx-inflected side, and I hear they didn’t get on well after Minsky gave Davidson’s magnum opus a critical review.)

Published in: on 18 July, 2009 at 4:34 pm  Leave a Comment  

1.5 Conclusion

Alright, having so much trouble fitting all my material on inflation theory into a couple of thousand words, so I’ve decided to make it a whole new chapter. The upside is that this chapter is finished! The downside is that all the chapter references above are now wrong! Here’s the summary of the chapter as a whole. You may notice some subtle differences of emphasis from the body of the chapter, in point #4 in particular; that’s partly thanks to the helpful discussions in the comments here. Eventually I’ll rework the earlier sections a little, correspondingly. But in general, I’m pretty happy with this chapter. Hopefully the next one will come faster.

A draft thesis section. This is a draft of an unfinished document, please don’t quote without getting in touch first. Quoting in blogs is fine.

Previous section / Next section

In this chapter I have set out my approach to understanding economic policy and its historical development within the broader social structure of capitalism. To summarise:

  1. Economic policy exists at the boundary between two relatively independent systems, the state and the economy. These two systems are only relatively independent, because each is necessary to the other’s reproduction, and they are not even institutionally separate, in that, for example, the economic system depends everywhere on a system of laws and their enforcement, while state activities involve the use of money and wage-labour.
  2. The capitalist state has historically evolved certain structures and processes which deal with dysfunctions in the economic system, and thus modified the way in which the two structures reproduce themselves as a whole. Two fields in which state involvement has been especially important are the reproduction of labour-power and the management of money. This evolution can be understood in more-or-less functionalist terms, though it is of course driven by conscious political activity – within legislative, executive and judicial structures – focused on solving specific ‘problems’, which dysfunctions appear as politically. This is definitely not to say the process is driven by a singular state subject.
  3. However, in the course of the Great Depression and the Second World War, something like a unified strategic actor in the field of economic policy emerged (though the unity is of course contingent and can break down). It was unified partly on the basis of new macroeconomic theory which posited it as such an actor, calling for a rational and combined use of certain state structures which had already developed independently within the economic system for other reasons. It involved especially the use of state budgets (fiscal policy), central banking (monetary policy) and arbitration system (wages policy) as instruments.
  4. The work of Jan Tinbergen on economic policy illustrates well the ‘point of view’ from the ‘subjectivity’ of economic policy. The economic system appears as a problem to be solved – in fact, even abstractly represented as a system of equations. However, the contradictions of the system – especially those arising from the conflicting aims of classes and other groups with the social power to pursue them – mean that it may lack a solution. Contradictions can reappear at a policy level, with instruments torn in different directions. This can motivate policy attempts to restructure its own apparatus and to reshape the economic system itself to attack the social power bases of the groups in pursuit of functionality. Meanwhile, groups themselves are actively seeking to improve their own strategic position. This may include attempts to use political power to restrain or direct policy itself. However, the fact that policy has come to be held responsible for the functionality of the system as a whole places powerful selective pressures on political possibilities.
  5. My use of this conception of economic policy to explain the development of counter-inflation policy in Australia between 1945 and 1985 is in sharp contrast to the standard neoclassical ‘new macroeconomic consensus’s’ narrative of its own emergence, as essentially the triumph of correct views over error. Here I briefly pointed to some problems in the standard narrative, and signalled some aspects of my own story, which will be expanded upon in the coming chapters.

Laughing last

In a review of Martin Wolf’s Fixing Global Finance Alex Callinicos takes a detour to gloat a little at Leo Panitch, who he had debated on political economy and imperialism just before this whole crisis thing broke out.

But plotting the course of a crisis that has undergone such dramatic twists and turns is a hazardous business even for those not intellectually imprisoned in the theoretical assumptions of neoclassical economics. For example, Leo Panitch and Martijn Konings, introducing a valuable collection of essays written from a broadly Marxist perspective about finance and American imperialism and published last autumn, rather unwisely expressed “some scepticism” about “strong claims concerning the disastrous outcome of the current liquidity crunch for the global system of finance and America’s position in it”. They add, “The main upshot of the current situation is that the American state finds itself with a peculiar and unanticipated problem of imperial management”. I think it’s fair to say the problem lies a bit deeper than one of “imperial management”.

It seems Panitch and Konings might have felt a little remorse of their own, since their (edited) book, American Empire and the Political Economy of Global Finance, published last year, is already getting a second edition.

But it’s unfortunate if Callinicos and others are taking the crisis as a vindication of the idea they were defending through those debates earlier in the decade, that capitalism’s still suffering from the aftereffects of the 1970s crisis and an associated decline in the profit rate. Panitch, with collaborators Sam Gindin and Martijn Konings, has had the stronger argument throughout. It’s never been simply that there would be no crisis, but only that Marxists should think twice before leaping to the ‘imminent crisis’ conclusion, that we don’t have special economic forecasting powers, and that always harping on imminent crisis and/or continual stagnation distracts from other criticisms and strategies, not to mention the continuing dynamism of capitalism.

Here’s a piece from 2002 from Panitch and Gindin on the topic, which I’ve posted before. Calling into question Monthly Review‘s familiar diagnosis of everlasting stagnation and prognosis of imminent financial crisis, it still stands up pretty well even in the midst of an actual financial crisis. (Did Monthly Review predict it? How ‘imminent’ is ‘imminent’?)

To its credit, the ISJ has followed a policy of seeking out and publishing pieces critical of its own editors’ lines, which is how the Panitch-Callinicos debate started, after all. Another critical highlight, which addresses pretty well this idea of permanent stagnation since the 1970s, is this piece from last year by the excellent Jim Kincaid.

Published in: on 6 July, 2009 at 6:26 pm  Leave a Comment  

Marx’s Capital as critique of and contribution to political economy

This is the director’s cut of a piece I wrote for a local discussion newsletter.

The subtitle of Marx’s Capital is “a critique of political economy” and not “a contribution to political economy”. But this can be interpreted in different ways. One is to see ‘Marxian economics’ as a total refutation of ‘bourgeois economics’, with any science in the latter hopelessly compromised by its basis in political apologetics for capital. The Marxian economist has special knowledge of how the capitalist economic system really works. If the ‘transformation problem’ is interpreted correctly, the ‘labour theory of value’ explains relative prices while neoclassical microeconomics is nonsense. Crises always have their root ultimately in the tendency of the rate of profit to fall, financial phenomena are mere surface appearances, and so on. There is room for disagreement between Marxists on the details – endless controversy in fact. But Marxian economics is scientific, and bourgeois economists are not only politically reactionary but deluded as well.

A second view sets itself against the first, arguing that Marx brought into question the whole enterprise of an objective economics, ‘Marxian’ or otherwise. In Reading Capital Politically Harry Cleaver criticises readings of Capital as political economy in no uncertain terms: “No matter how critical they are of various features of capitalism, they are basically no more than passive interpretations of the social situation…” [Cleaver, 2000: 30]

In other words, the political economists have only interpreted the world; the point is to change it. Worse, the political economists have interpreted the world in such a way as to present it as a self-reproducing mechanism – a contradictory one, prone to crisis, with an inexorable tendency to run itself down eventually, but in which the working class is a moving part whose whose consciousness doesn’t matter much. They forget Marx’s fundamental criticism of classical political economy – that economic structures are social relations.

I think Cleaver is right that the relevance of Marx to socialists today is due to his strategic vision, and not because he was some kind of prophet of capitalism’s collapse under its internal contradictions. You can find catastrophist predictions in Marx, but not so much in his mature political economy. In Capital, “Crises are never more than momentary, violent solutions for the existing contradictions, violent eruptions that re-establish the disturbed balance for the time being.” [Vol. III, Ch. 15] In Theories of Surplus Value: “Crisis is nothing but the forcible assertion of unity of phases of the production process which have become independent of each other.” [Vol. II] Yet crisis and its cousin ‘stagnation’ have become the main story for too many Marxian economists. It’s unfortunate because it draws the attention away from the more important question of how capitalism has managed to reproduce and expand itself so dynamically for so many decades.

There is a risk, though, that a criticism of the political economic tendency to objectify social relations slides into the opposite tendency, to subjectivise them, especially by falsely attributing a subjectivity to a whole class – a tendency common in philosophical ‘Western Marxism’ and in Cleaver’s autonomism, in which it sometimes seems that revolutionary politics is a matter of conjuring up a new subjectivity for the working class. Marx’s point about certain capitalist social relations appearing as things is not that it is necessarily mistaken to see them as things. Money, capital, commodities really are things, as well as social relations: they are social relations manifest as things. As things, we can’t get rid of them just by deciding to stop believing in them. In understanding capitalist reality, Marx makes positive use of classical political economy to make this point against utopian socialism and Hegelian idealism – for example in The German Ideology when he and Engels approvingly cite Adam Smith’s ‘invisible hand’ as a way of understanding how it is that

the social power… which arises through the co-operation of different individuals as it is determined by the division of labour, appears to these individuals… not as their own united power, but as an alien force existing outside them, of the origin and goal of which they are ignorant, which they thus cannot control, which on the contrary passes through a peculiar series of phases and stages independent of the will and the action of man, nay even being the prime governor of these. [Marx and Engels, 1845: Ch. 1]

It doesn’t take specialist economic knowledge to get the most important ideas from Capital – the emphasis on the law of value as co-ordinator of labour, the vision of capital as process and class relation, the focus on conflict and contradiction rather than harmony. These are the elements on which Marx criticised classical political economy as a whole, and they are as valid a criticism of modern economics. However, Capital is not only a critique of political economy as Marx found it, but also a positive contribution in which he treats economic structures and processes as real, complex things with workings to be unravelled. In investigating the complex workings of capital, he not only criticises political economy, but enters its debates, criticises some writers, takes sides with others. His mode of presentation, moving from the abstract to the concrete, makes it appear as if he is building the whole incredible structure from first principles. But there is much of classical economics in Marx – not only because he adopts freely from it when he agrees, but because his understanding cannot not help but be partly shaped by the discourses he reads and engages with, in the questions they ask and the phenomena they take as significant. He accepts that ‘bourgeois economics’ has its scientific element, that it refers to real social structures and processes, and that explanatory adequacy of economic theories depends on scientific and not political criteria.

Such an understanding of how the economic aspect of capitalist society works remains a vital part of strategic Marxist politics – even moreso today, because modern economics has since Keynes developed into a strategic guide for the state, rather than simply apologetics, and the state’s economic policy is more crucial to the reproduction of the system than it ever was in Marx’s day. Now more than ever, politics is framed by economics.

Published in: on 28 June, 2009 at 2:33 pm  Comments (11)  

1.4 Inflation as a policy problem

So a longer delay than I hoped in putting up the rest of the first chapter. Partly that’s because we’ve had visitors, but mainly because I’ve found it tough to whittle down the huge mess of a draft. This was a tough section to write because it summarises later chapters, and it’s hard to find a balance between incomprehensible density and taking up too much space with stuff that will be repeated later. I have ended up leaning towards the dense because all this stuff will be expanded on in the substantive chapters. The density shows especially in the last couple of paragraphs here; it may be better to just cut them and leave to the later chapters. Two more sections still to come, which is going to make this a long chapter – and it may end up being split in two.

A draft thesis section. This is a draft of an unfinished document, please don’t quote without getting in touch first. Quoting in blogs is fine.

Previous section / Next section

December 19, 1969: Friedman's curve shifts upward

December 19, 1969: Friedman's curve shifts upward

Understanding inflation as a policy problem requires an understanding both of its causes – at least as perceived by policymakers – and of the relationships of these causes with policy instruments and other policy goals. If there were a clear chain of influence between a policy instrument and the target of a stable price level, and no competing demands on the instrument, inflation would present no particular problem. The message of the monetarists is that such is the case: the only barrier to price stability is a failure to understand inflation’s nature as “always and everywhere” a question of the money supply (a clear chain of policy influence) and/or that policy can have no long-run effect on unemployment (no competing demands on the instrument). From such a perspective, inflation is a problem only because policymakers misunderstand it – or because they pander to a public that misunderstands it.

In the ‘new macroeconomic consensus’ of the 1990s and 2000s, the monetarist preoccupation with the money supply has been replaced by a focus on the ‘correct’ interest rate. [Arestis, 2007; Arestis and Sawyer, 2008] But the conception of the history of counter-inflation policy – as the eventual triumph of correctness over error – remains. Inflation is explained as a result of what the authorities failed to do. This is the centrepiece of a new crop of neoclassical research into the stagflationary episode of the 1970s. Despite significant debate on the details among this recent literature, Cecchetti et al [2007: 8] note that “[a]ll of these accounts view the Great Inflation as a result of monetary policy error and the Inflation Stabilisation as a restoration of more effective monetary policy.” For example, Nelson [2004] puts forward the ‘monetary policy neglect hypothesis’, while from a different perspective Cecchetti et al [2007: 42] themselves explain ‘the Great Inflation’ in terms of policy deviations from the Taylor rule:

Summing up the international comparisons, three of the four countries exhibit a qualitatively similar pattern in which deviations from a simple policy rule in the 1970s and early 1980s are consistent with the timing of the increases and declines in trend inflation (and its volatility). The peak in the inflation trend and the undershooting of interest rates relative to those implied by a Taylor rule generally occurred around the mid-1970s. There also is some evidence that increases in deviations from policy rules (in an accommodative direction) accompanied increases in trend inflation in the early 1970s.

Yet the Taylor rule – that a central bank should set interest rates according to a formula linking them to the output gap and the distance between actual and target inflation – was not formulated until 1993, as The Economist [2007] dryly notes in reporting on this research. To ‘explain’ the 1970s inflation in this way shows a great deal of confidence that economists have finally worked out how inflation works for once and for all. As we will see, the notion that “the mystery element in monetary policy” [Coombs, 1971 (1954)] has finally been cleared up has been a recurring theme in economic thought. Time and again, paradigms have been knocked over and pre-Enlightenment history re-written as a tragicomedy of grievous, incomprehensible error.

My own story is very different. First, I recognise that inflation has no single cause; rather, it develops from the conjuncture of a number of conditions. It may be argued that this is implicit in the ‘new consensus’ literature with its acknowledgement that ‘potential output’ (i.e., the level of real output associated with a stable rate of inflation) and the corresponding rate of unemployment are not fixed, but depend on factors such as labour productivity, the institutional structure of the labour market, and so on. However, the main point of these models is precisely to fix all these diverse factors in place, at least ‘in the short run’, and in focusing the attention on a few variables, the structure itself is reified and slips into the theoretical unconscious. The apparatus of the output gap, the ‘non-accelerating inflation rate of unemployment’ (NAIRU), and the Taylor rule form an assemblage of a number of factors which could be pulled apart and reassembled in different ways. The particular form it takes represents a decision about which factors to take as given – permanently or in the short run – and which to treat as variables.

Second, I argue that the changing way in which the theoretical structure was assembled not only informed policy but was strongly influenced by the development of policy itself. The material shape of the state policy apparatus within the economic system, and policy strategy in using it, were among the complex of factors determining inflation. For theory, what was considered a constant, what was an exogenous variable, and what was a policy variable depended partly on policy capacity. Or, rather, it depended, on what was perceived as policy capacity, which was subject to dispute. Furthermore, given that price stability was one of a number of policy goals, there was the possibility that policy capacity that could potentially be brought to bear on inflation would not be fully available, given inflation’s interrelationship with other goals. In particular, I argue that inflation theory developed alongside counter-inflation policy in the tension between price stability, full employment and ‘external balance’. Finally, the field on which these tensions played out reflected not only the developing capacities and strategies of policy, but also those of other social actors. All these factors influenced the structure of inflation theory, which in turn informed policy strategy.

So, while my narrative could be read as a long pre-history of the ‘new macroeconomic consensus’ which finally cohered in the 1990s, it is not teleological, while that consensus’s own origin myth is: the consensus was right all along, even before it was formulated, and economists and policymakers eventually realised it. Instead, I present a narrative of a development that could have been different. Policy change comes from contradictions, both internal to policy and external clashes of policy with the defence (and offence) lines of other group-actors. Consequently, also, there is no suggestion in my story that policy history has ended with the consensus: my excavation of the past points to contradictions which still exist below the surface today. (See Chapter 9.)

The non-expectations-augmented Phillips curve relating (inversely) unemployment and inflation is the beginning of the new consensus story, which presents it as the pre-monetarist Keynesian theory of inflation. In my own narrative, it is only the half-way point, already representing a conglomeration of factors which had previously been theoretically separate. It rose to prominence in the 1960s because it appeared to unify two strands of Keynesian inflation theory: ‘demand-pull’ theory focusing on inflation’s relationship with effective demand, and ‘cost-push’ theory centred on its relationship with money-wage growth. These two strands of theory matched separate avenues of policy influence: the first implicated aggregate demand management through fiscal and monetary policy, while the second implicated wages policy. The rise of the Phillips curve internationally was related to the failure of policy to secure direct influence over the money-wage. Targeting it indirectly with aggregate demand put the goal of price stability in conflict with that of full employment, though policy often still aimed to ‘shift the curve’ rather than accept a fixed trade-off. In Australia, where the arbitration system seemed to put the money-wage closer to policy control, the Phillips curve took longer to find policy favour, though a trade-off between unemployment and inflation was recognised as a possibility early on. (See Chapter 4.)

It is far from the case that policy was unaware of the potential for inflationary momentum before the introduction of expectations into Phillips curve models by Phelps [1967] and Friedman [1968]. On the contrary, the reaction of money-wages to price inflation was at the centre of Australian policy attention. Even in the Phillips curve literature, there is recognition that experience of inflation could shift the curve – right from Samuelson and Solow’s [1960] original Phillips curve article. The changing way in which inflationary momentum was understood is in itself an interesting story, but as I argue in Chapter 7, is not an explanation for the policy turn of the 1970s. I show that expectations-augmenting the Phillips curve does not explain the 1970s jump in the ‘non-accelerating inflation rate of unemployment’ apparent in such models. The explanation for this jump must be sought elsewhere. I present the policy upheaval of the 1970s and 1980s not in terms of policymakers seeing the light, but as a result of the need to reconcile expectations of a growth rate of real living standards and employment with an economic system that could no longer provide them.

References

Philip Arestis [2007]:”What is the new consensus in macroeconomics?”, in Philip Arestis (ed.), Is There a New Consensus in Macroeconomics?, Palgrave Macmillan, London.

Philip Arestis and Malcolm Sawyer [2008]: “A critical reconsideration of the foundations of monetary policy in the new consensus macroeconomics framework”, Cambridge Journal of Economics, 32:5, pp. 761-79.

Stephen Cecchetti, Peter Hooper, Bruce C. Kasman, Kermit L. Schoenholtz and Mark W. Watson [2007]: “Understanding the evolving inflation process”, paper presented to U.S. Monetary Policy Forum, available at http://www.brandeis.edu/global/rosenberg_institute/usmpf_2007.pdf, accessed 11 June, 2008.

H. C. Coombs [1971 (1954)]: “The development of monetary policy in Australia”, in Neil Runcie, Australian Monetary and Fiscal Policy: selected readings, v. 1, Hodder and Stoughton, Sydney, pp. 22-43, originally the English, Scottish and Australian Bank Limited Research Lecture, 1954.

The Economist [2007]: “Anatomy of a hump”, The Economist, 10 March.

Milton Friedman [1968]: “The role of monetary policy”, American Economic Review, 58:1, pp. 1-17.

Edward Nelson [2004]: “The Great Inflation of the Seventies: what really happened?”, Working Paper 2004-001, Federal Reserve Bank of St. Louis.

Edmund S. Phelps [1967]: “Phillips curves, expectations of inflation and optimal unemployment over time”, Economica, 34: 135, pp. 254-81.

Paul A. Samuelson and Robert M. Solow [1960]: “Analytical aspects of anti-inflation policy”, American Economic Review, 50:2, pp. 177-94.

1.3 (II) Thinking like a state about economic contradictions: Tinbergen

A draft thesis section. This is a draft of an unfinished document, please don’t quote without getting in touch first. Quoting in blogs is fine.

Previous section / Next section

Much of the policy theory inspired by Tinbergen’s work took on board only the idea of the formal models. The medium really was the message here, because the lesson of representing the policy system as a system of equations is that if conflicts are to be avoided, there must be one instrument per target, just as a solvable system of equations requires one equation per unknown. The best-known result here, which I discuss in Chapter 3, is the idea pervading 1950s theories of the balance of payments: that the apparent contradiction between external balance and full employment could be resolved with an extra policy instrument, the exchange rate. But Tinbergen’s own views are more subtle, because he is also preoccupied with both the technical and the social limits to the use of policy instruments. The bare system of equations implies that so long as there are equal numbers of instruments and targets, it does not much matter which instrument is assigned to which target. But Tinbergen, a practical policymaker as well as a theorist, recognises the material reality of the instruments: that using a policy instrument is both rarely as simple as choosing a value for a variable, but works within limits, and often has ‘side-effects’ on groups within society which they resist.

Tinbergen thinks of such things in terms of ‘boundary conditions’, which could in principle be imposed as limits to variable values within the system of equations1, but for the practising policymaker are of course much more nebulous and ill-defined. A classic instance of a technical boundary condition in the neoclassical-Keynesian literature is the ‘liquidity trap’ in which expansionary monetary policy fails to influence the interest rate beyond a certain point. In practice policy is continually grappling with many kinds of slippages in the effectiveness of its instruments. For example, investment was long seen in the postwar period to be interest-inelastic, so that interest rate adjustment would affect aggregate demand only at levels which were, in practice, inconceivable. On the fiscal side, there were real practical limits to the rate at which government expenditure could increase or decrease coming from the simple fact that it was not merely a component of ‘aggregate demand’ but also spent on real things – infrastructure, etc. – which could not be turned on and off like a tap.2

Then there are the boundary conditions arising from social groups’ ‘defence lines’. Tinbergen [1966: 26] mentions, for example, limits to taxation beyond which the costs of evasion outweigh the desired effects, and wage reductions provoking worker rebellion. Here class conflict intrudes upon the system of equations, and once it does, there is no guarantee of a ‘solution’, especially when the defence lines of different groups are simply incompatible, or irreconcilable by policy in its current form. Tinbergen gives a telling example from his own experience as a Dutch policymaker:

In the situation of that year [1950] and as far as the model used was a true representation of the Dutch economy, the calculations showed that the target set would require a wage decrease of 5%, a decrease in profit margins of some 13%, an increase in labour productivity of 4% and an increase in indirect taxes equal to 2% of prices. Both the wage decrease and the profit reduction seemed to be beyond the boundary conditions. A long list of alternative targets was then studied. Accepting a boundary condition of no reduction in the nominal wage meant the necessity of still heavier reductions in profit margins and a heavier increase in indirect taxes; accepting a boundary condition of no profit margin reduction implied impossible requirements as to labour: either a reduction in real wages of 13% or a reduction of employment by the same percentage, both accompanied by increases in labour productivity. [Tinbergen, 1966: 60]

Social contradictions are then manifest as policy contradictions, and something has to give: policymakers are driven into ‘qualitative policy’, i.e., attempts to change the structure of the economy, which in such cases must involve an attack on one or more groups’ capacity to maintain their defence lines, and/or moral suasion convincing them to pull back their demands ‘for the sake of the national economy’. To complete the picture, we need to recognise that the state does not have a monopoly on initiative in the changing structure of the economy. Tinbergen [ibid: 149] gestures towards this in his distinction between (policy) ‘induced’ and ‘spontaneous’ changes in organisation, but spontaneous developments – that is, change emerging from the socio-economic system independently of policy – get no further mention. In reality, many ‘policy problems’ emerge not from any deliberate action on the part of authorities, but from the dynamics of the wider system and changes in subjective consciousness and strategy within classes, groups and institutions.

As long as we remember that Tinbergen’s instruments, parameters and targets are social relations, and ‘boundary conditions’ often tied up with the expectations and consciousness of classes and class fractions, the framework is helpful in specifying the Jessop-Poulantzas concept of ‘strategic selectivity’ for the particular realm of economic policy. It is not a deterministic approach because it acknowledges the creative agency of policymakers and other actor-groups. The projects of the latter of course impinge upon economic policy from outside policymaking in two ways: (1) through directly political attempts to influence or capture legislative and executive capacities of the state; and (2) through power bases within the economic sphere, such as those occupied by capital by virtue of their control of investment, or labour through industrial organisation. Nevertheless, the approach recognises that a serious limit is placed on economic policy by the imperative that it all hang together – that the capitalist economic system is not one which can be bent into any shape, and in fact in many ways is not very flexible at all. This imperative exerts a strategic selectivity on political projects, and even motivates policy attempts to reshape aspects of the economic system to shift the power bases of actor-groups within it, or ideological attempts to manage expectations, in order to work out contradictions.

This leads to a different analysis of the relationship between class and politics than one which seeks to explain political ebbs and flows as a consequence of the ‘balance of class forces’. Rather, the ‘balance’ can be seen as – at least in part – a result of the selective pressure of this need for the socio-economic system to function, which requires that the state do particular things and not others. Causation runs both ways. Functional failures do not force political adaptation. But when they manifest as crises, they change the political dynamic so that political actors are expected to resolve them one way or another, even though their ability to do so may be uncertain. Policy action which fails to end a crisis is likely to be ‘deselected’, along with its ideological champions in the political sphere.3

Bob Jessop

Bob Jessop

For the state involves a paradox. On the one hand, it is just one institutional ensemble among others within a social formation; on the other, it is peculiarly charged with overall responsibility for maintaining the cohesion of the social formation of which it is merely a part. Its paradoxical position as both part and whole of society means that it is continually called upon by diverse social forces to resolve society’s problems and is equally continually doomed to generate ‘state failure’ since so many of society’s problems lie well beyond its control and may even be aggravated by attempted intervention. [Jessop, 2007: 7]

Thus my thesis attempts to explain the shifts in the policy importance of inflation in my period – which, I will argue, goes some way towards explaining much wider policy shifts – in terms of its ‘strategic selection’ by the responsibility of economic policy to maintain cohesion of the socio-economic system as a whole. This is in contrast to explanations centred around ideological ‘paradigm shifts’ or those which take ‘the balance of class forces’ to be entirely causally prior to political-economic change.

1“With sufficiently complicated non-linear equations all phenomena of saturation, bottlenecks, etc., will be accounted for and no boundary conditions will have to be added. Boundary conditions are needed only as corrections on too simple linear equations.” [Tinbergen, 1966: 54]

2“This may be so for physical reasons: if government building activity were an instrument, this activity cannot surpass the production capacity present in the relevant industry.” [Tinbergen, 1966: 59]

3Radical political projects aiming to fundamentally alter the economic system face an extremely formidable challenge on this front, in that any single reform incompatible with overall cohesion is likely to be ‘rejected’ by the system as a whole; everything needs to change before anything in particular can.

References

Bob Jessop [2008]: State Power: a strategic-relational approach, Polity, Cambridge.

Jan Tinbergen [1966]: Economic Policy: principles and design, North-Holland, Amsterdam.