Economists Without a Clue
Prepare to observe the spectacle of the two great economic paradigms of the twentieth century crashing to the ground, locked in mortal combat.
A hundred years past, markets ruled freely: fortunes were made, workers abused, bubbles blown. According to the Austrian School of economists, led by Ludwig von Mises, this was all as it should be: despite any temporary pain or inconvenience, the unfettered market always knows best how to allocate goods and organize investment and labor.
But the ensuing pain and inconvenience were just too much for the various stripes of Marxists and socialists, some of whom led a revolution in Russia to establish the first state-controlled, planned economy.
The catastrophes of the Great War and the Great Depression led to the ascendancy of John Maynard Keynes, the British economist who argued that even capitalist economies needed regulation and controls in order to avoid excessive manias and subsequent implosions.
Keynesianism reigned supreme throughout the middle decades of the century, as the US, Britain, and nearly every other country adopted regulations on banking, finance, and industry, in many cases going so far as to nationalize railroads and other central features of the productive economy.
Meanwhile, rival economist Friedrich von Hayek and his followers quietly plotted the Austrian School's revenge—the occasion for which was offered by the stagflation of the 1970s. Von Hayek, who had raised a generation of followers (including Milton Friedman) at the Chicago School of Economics while toiling in obscurity, was now prominently rewarded with the so-called Nobel prize in economics (there actually is no prize in economics offered by the Nobel family), and his acolytes Margaret Thatcher and Ronald Reagan promised to show the world the way back to freedom and prosperity: government was the problem, they proclaimed, and privatization the solution!
The ensuing three decades have seen economists crowding back to the "Let Markets Rule" side of the ship, as they giddily praised the wonders of globalization and free trade.
Now with the Collapse of 2008, economists are rushing to announce a new era of neo-Keynesianism: lack of regulation in the finance industry has led to a cataclysm of unimaginable proportions, and only massive government intervention can put us back on track.
Sadly, this time the tracks have been moved, maybe dismantled altogether. The two great economic paradigms of our age simply took too much for granted. They assumed that economies run on money and labor, whereas real economies also need energy and natural resources. They assumed that because population, resource extraction, and available energy had grown throughout the 19th and 20th centuries, they would continue to grow in perpetuity; all that was necessary was to properly adjust the relations between money, market forces, and government regulation. No one (within the economics profession) stopped to think that limits to Earth's supplies of fossil fuels, topsoil, water, and other resources might impose ultimate limits on economic activity.
The fields of ecological economics and biophysical economics have sprung up in the past two or three decades to fill in this enormous blind spot of conventional economic thinking, but both are currently marginalized to the point of irrelevance.
In the months and perhaps years ahead we will see a titanic battle to the finish between the free marketers and the state controllers over who is right about the economy, and about who is capable of restoring the beatific condition of perpetual growth. Sadly, neither camp has the answer this time around. Humanity has reached a significant physical limit to growth—Peak Oil—that will spell ruin to all economic philosophies that fail to take such limits into account.
How long will it take the theoreticians to figure this out? How much of our remaining wealth will they destroy in a futile attempt to prove one or another of their paradigms to be eternally true? How far will society unravel before someone in charge begins to question the received wisdom?
Let's hope their learning curve is short.
Now is the time for changing the economic platform. What we will need is to remake the banking system survive in long periods of negative growth. We may need to rethink bankruptcy and allow people to keep their assets during periods of economic downturn. We may need to re-evaluate whether mass scale marketing and corporate profits are the highest priority over everything else and instead focus on re-localization, less consumption, sustainability, and rebuilding the energy infrastructure. People will need to take the risk of bank failure seriously and regonize that FDIC may not save them in the long run. Our federal government is already broke says David Walker of the Peter G Peterson Foundation, and may not be able to pay for much when the baby boomers start retiring. Now is the time to wake up to the century of declines and bring out the best in all of us to create a sustainable world. I am not saying abandon all the 20th century inventions, but we need to change how they are used some while learning some old methods and invent new ones as well (such as new energy technologies like Offshore Wind, Ocean Wave Motion, Algae Fuel, Better Solar Cells, and others).
"They assumed that economies run on money and labor, whereas real economies also need energy and natural resources."
How can economists and politicians ignore this obvious truth, and so marginalize the ecological economists?
I've found myself in the strange position of hoping that our new president-elect knows the score, but has been less than open about it because of political expediency.
While the general thrust of your post is agreeable, I think you fail to recognize the essential point of Keynes, which is not regulation per se. Rather it is that the "natural" economic equilibrium proclaimed by the Austrians and the rest of the Manchester, neo-liberal, what-have-you school of neo-classicism is a fallacy. Through some elegant math models, Keynes shows that capitalist economies will inexorably slip into depressions due to over-production and inadequate demand. To resolve this fact, he argues for demand stimulus through the government. That is to say, increase consumption so that all labor and capital is employed rather than sitting idle in the depression. Thus your point about growing resource shortages is dead-on, as the last thing we need is increased consumption. Which is why all this new New Deal talk is a little disconcerting. Keynesianism was a half-way solution between the neo-classicists and the socialists. It is of little use now, except to work on reinflating the bubbles.
Regarding Keynes and his prescription for government creating demand so
as to avert depressions, yes of course you're right. I oversimplified
and caricatured all of the economists' positions for the sake of
brevity. Thanks for fleshing that bit out.
Richard
why would anyone want to increase production in a world of overproduction?
its like increasing the speed of the treadmill you are running on even though you cant keep up
am i the dumb one, or are the keynesians crazy?
The economist assumes that relationships that have been observed in the past can be extrapolated to the future. In a resource constrained world though, none of the "rules" that have worked in the past will work in the future.
So once you hear the statements "Economists can't explain why {subject} isn't holding true" or "Economists are puzzled why {subject} is happening", you'll know that we've reached the limits of growth.
First, all science assumes that relationships that have been observed in the past can be extrapolated into the future. What would happen, for example, if the speed of light suddenly changed? It's a silly question because, barring any good reason not to, we assume that it's fixed.
Second, economics is a description of how human beings behave in a resource constrained world. And the pattern is hopeful. The number of resources available to us throughout history has been ever increasing. There are occasional dips, but those are short term blips on the trend line.
You would do well to understand economics. Your criticism is roughly equivalent to an anti-scientist saying, "But physicists simply have no comment, now that we've discovered gravity." Something for which physics has long already had much comment on.
Milton Friedman admitted a few years before his death that his theory was flawed - Greenspan's rampant money creation following the Dotcom Bust should have produced inflation yet didn't:
http://www.smh.com.au/news/business/milton-got-a-lot-of-things-right--ex...
Still, the Goldbugs continue on with warnings of pending hyper-inflation and a soon-to-come spike in the gold. They base their predictions on Friedman's flawed Monetarist theory.
Econ aside, the problem continues to be a Tragedy of the Commons -and not only do the Western Nations continue to live beyong their means through the use of globalized financial "money creation" (replacing property as the underlying value with ill-defined "assets"), but the Developing World as well have joined in. They've allowed themselves to undergo explosive population & mega-city growth, and continue on pursuing neocolonial human peonage practices which only serve local elites and their counterparts in the West.
We already know how this story ends - the Enclosure Laws evolve as we speak.
Economists do not understand thermodynamics and the fed does not understand how to critically damp a control loop.
Physicists and climate scientists don't understand simple things like supply and demand, and how human beings do *not* behave like particles in an experiment. They react to incentives and change their behavior.
Failing to understand this, is why many people in the physical sciences make mistakes in understanding what economists are talking about when they don't worry about things like supply shortages in a free market. Prices are not static, and when valuable things run short, the price goes up. People react to those price increases and start searching for alternatives.
You are free, of course, to claim that economics is pseudoscience. But I suspect it only looks like that to you, in part, because you don't understand it.
Yes, Richard, et. al... this current post reminds me of the recent comment by Kunstler that the first 100 days of the Obama administration will be very telling re: energy policy and his response to the economic crisis. If he unveils a big plan to "rebuild America's roads", we'll know "The Part's Over" is not on his bedside table... Doug Carhart
kkkkkkkkThe Austrians still win out. We predict that when you inflate the currency, you confuse people into thinking that they have more money than they really do. They use that money to expand their business. The thing is, that money wasn't real. As everyone realizes this, they start to raise their prices. The new business that you hoped to get doesn't show up. You have to lay people off, lower salaries, and sell your business improvements for dimes on the dollar. Keynes' prescription: forcing taxpayers to borrow money to buy the unwanted things now. Exactly HOW does that help us??
I predict that none of this "stimulus" spending is going to help one whit. We're in for a good ten years of lowered employment and lessened prosperity. More if government tries to help more. Less if government does nothing.
I'd like to be wrong about this, but I'm not.
Oh, and if you think that recent deregulation got us into this mess, I'd point to things like Sarbanes-Oxley, or Fannie Mae / Freddie Mac, or anti-redlining regulations for banks. There's still plenty of harmful regulation: the Fed, to make our money worthless (by printing up new diluted money), the FDIC, to create a moral hazard for banking (why bother selecting a bank when no matter what they do you can't lose your money?), the farm subsidies (the corn lobby ensures that corn is cheap enough to put into all food products), the Sherman Antitrust act (where you can be charged with anti-trust if you prices are lower, equal to, or higher than your competitors).
The current collaps and recession are (at least in part) the result of growing scarcity of resources.
Gail Tverberg pointed out (http://www.theoildrum.com/node/4770) that oil is just one resource that is peaking. Metals, phosphate and food will also become limiting for economic growth.
Politicians trust economists and their models, politicians too still believe in eternal growth. It will take even longer to convince politicians that they are wrong.
The real question in my mind is how to get this information to Obama's team in a forceful way, how to influence the discussion that is going on now, we hope, about priorities, and indeed about designing a new economy. We can discuss the quality of your (Richard's) essay, but that is like criticizing the voice quality of the person who is yelling "Fire" from inside the burning building. Even Krugman hasn't realized what's at stake here. Friedman is on the verge. Will someone who knows someone please step forward and get Richard into a meeting where he can present this to the team?
We, who are living in Czech Republic had a good opportunity to become familiar with both extreme doctrines - the socialism and neoliberalism. I guess, the both have some advanteges and weak parts, just like it used to be in each extrem.
For both of them looks to be the biggest danger in crating a very huge complex monopols. Because of monopol - it means the end of competetion. The total monopol is the socialistic state, because state has monopol for everything.
Well, some branches is not possible to make competitive and distribution of energy is one of them. You have not posibility to connect your house to several prividers of gas to choose the cheaper one. So this branches are better not to have private.
On the other side, everywhere the good competition is possible is better to have private attitude.
good article- but there needs to be a next step- most of the people who are rational can look at the arguments presented in the party's over and come to the conclusion they carry merit and are worthy of public discussion-
but the next step is getting people up to speed on system dynamics- intro people to the works of howard odum who was a genius and in a open manner explains how energy flows dictate the amount of structure and speed of the processes of systems-
when we look at peak oil from this perspective we lose our fear of it and see it as a natural phenomena which makes adaptation far more simple - for the reality is peak oil is not going to be a technical challenge to our society to adapt- even though it will present some serious challenges, i believe we can adjust- but the biggest challenge is going to be psychological- are we going to be able to let go of our own vested interests in our own lives?
can we live simpler lives?
On a solar economy the ERoEI could be as high as 5:1 more than enough for a very high standard of life-
let us all ask ourselves personally- how do I want to live given the incontrovertible evidence of the limits we have reached- i have no ideas how we are going to manage our systems to adapt- but i believe a good place to start is right in our own home in our own hearts and in our own spirits- release the attachments
cheers
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