Winner of the New Statesman SPERI Prize in Political Economy 2016

Saturday 4 January 2014

Economic standards

I have used the following analogy before, but it remains pertinent. Imagine you are an academic scientist who is genuinely sceptical about climate change. I have met them so I know they exist. You are asked by a journalist whether the current spell of cold weather disproves man made global warming. Perhaps you are tempted to say yes, or ‘yes, although’, because it would encourage scepticism. But I’m almost certain you would instead say ‘of course not’. You would then give the journalist a little lecture about probabilities, averages, trends and so forth. It is exactly the same answer that a scientist who believes in climate change would give. You do not give the wrong answer just because it is convenient to your overall argument, because you are an academic and a scientist. You have standards.

Now imagine (maybe you do not need to) that you are an economist and you are asked by a journalist “Has George Osborne’s “plan A” [fiscal austerity] been vindicated by the recovery in 2013?” There is only one correct answer to this question - no. It is the correct answer, even if you believe plan A is the right policy. I rather like the analogy that Chris Dillow recently used: “To give Osborne credit for the recovery is like praising a taxi-driver for getting us home when he has taken us on a two-hour detour.” Chris says that the mistake of saying yes is an example of outcome bias. For some maybe, but for a trained economist it is no excuse. I think, like Paul Krugman, that it is just political opportunism.

It is important to understand that this has nothing to do with whether Plan A was a good or bad policy. What a supporter of Plan A should reply is  “No, but I still believe Plan A is the right policy for the following reasons”. If they are being generous they might even say “the fact that the recovery has been so delayed could be evidence against Plan A”. But for an economist, a recovery four years after the recession is never going to be evidence that supports Plan A.

I’m afraid this is an example of something we have seen before. When some economists enter a political arena (using political in its widest sense), there is a danger that they leave their scientific standards behind. Thankfully only two academics answered yes on this occasion, but many more city economists did so. So I should have been braver in my earlier post about the differences between academic and city economists - an explanation I should have added is that some city economists have lower scientific standards.

You could say I am naive to expect anything else. As a great deal of politics is about economics, then economics is also bound to be political, and cannot hope to have the same integrity as a science. There is a weak form of this proposition with which I agree: economic ideas are influenced by ideology, and it is foolish to pretend otherwise. But our reaction should be to expose these influences and try and reduce them, rather than shrugging our shoulders. What I refuse to accept is that economics cannot be an evidence based discipline.

So, if the hypothesis is “Plan A is the appropriate policy” and the evidence is “the economy recovered in 2013”, any economist can only give one response: the evidence does not support the hypothesis. Just because the question is political does not justify saying otherwise. In fact, being in a political arena means it is all the more important to maintain scientific standards. That is why we call economics a discipline.


I wrote this while listening to a Christmas present, a CD of this (Mercury nominated) album by Jon Hopkins (thanks again Sam). I think it is excellent music to blog by. But if you think I’ve gone too far in this post, do say so in comments, as it would allow me to respond that I was entitled to let my normal standards slip because I was under the influence of the music! 


  1. I think the problem is not so much that economics is influenced by politics, but that many economists refuse to debate on the implicit political positions that they take. There is a kind of 'presenting the facts' tone to much of economic debate which distorts the fact that these arguments are inherently intertwined with ideology

  2. Dear Simon,

    We forgive you for writing under the influence of music (as long as the music was not contaminated by some kind of ideology).

    1. Impossible. Economics and music do not mix.

    2. What about JS Bach? Mathematical, precise, harmonious.... hmm, perhaps not.

    3. A musician would tell you that Bach is probably better music than Justin Beiber. But the market value of Beiber is probably higher than Bach. A Marxian economist could very easily explain why this is the case. But how would a classical or New Classical economist go?

  3. In the interests of devil's advocacy....

    "“Has George Osborne’s “plan A” [fiscal austerity] been vindicated by the recovery in 2013?” There is only one correct answer to this question - no"

    Unless you think that what was important was the government's credibility with voters and markets and that sticking with the Plan A rhetoric boosts/boosted this.Thus Plan A worked because enough people believed that it would, and part of making people believe it would was that there had to be some genuine austerity. Given the politics and economics of the time, Osborne had to make a choice which differentiated his party's policies from New Labour and chose Plan A. Having chosen it, the rhetoric had to be maintained - the consequences were politically disastrous for the Coalition and, arguably, economically difficult for the country. So Plan A worked and it took as long as it needed to take to work.

  4. I'll bet that at least a substantial minority of business economists haven't the faintest idea about philosophy of science or scientific method. I don't recall it being part of econ 101 when I read Samuelson in the 60s - perhaps I should check my daughter's more recent textbooks. They would have passed their exams well enough to go on and do Phd, perhaps, with a well-enough chosen thesis, while not even learning the difference between striaght and crooked thinking (Thouless?) just by the application of diligence, a decent memory and an adequate IQ. They then got a job with a financial or other business institution. I'd also bet that this even applies to one or two senior academic economists - as illustrated here
    So perhaps you are assuming too much from the start?

  5. "economic ideas are influenced by ideology, and it is foolish to pretend otherwise" - hence you choosing to name Patrick Minford as one of the 2 academics to give a clear yes response to the FT survey?

    Old warhorses aside I'd have thought a sociological explanation that referred to the different cultural milieu city economists worked in vs academia was more relevant than a special pleading reference to academic standards (see Patrick Minford reference above).

    No one is saying economics can't be or isn't evidence based. But, as it stands its easy for a politician to find an expert to support whatever proposition they happen to have a vested interest in as the Reinhart and Rogoff debacle made abundantly clear. And as the subsequent careers of those academic economists hung out to dry in "Inside Job" makes clear, as it stands it doesn't matter if the "expert" gets exposed as a shill either.

  6. In the case of city economists it's a bit simpler. Their job is to be liked by clients, that's all. In general showing knowledge and agreement with what standard economics actually says is counter productive to this task.

    The prime way city economists attempt to both accomplish their main task and differentiate themselves is with statements of the form "mainstream economics says [...blank...] but that's obviously wrong because it ignores the reality of the markets". The blank is filled in with something clearly incorrect that normal economics doesn't actually say but people believe it does, such as "economists think we can be infinitely rich by the government forever increasing it's spending". (So the whole statement would be something like "economists think we can be infinitely rich by the government forever increasing it's spending but this ignores the fact that markets would stop lending them money")

    This works because most of the bank's clients will know nothing of economics themselves, being physicist trader types who find it easy to believe economists as a group are idiots.

    This is why many city economists have fairly little formal economic training and those that do must be willing to disavow a lot of what academics take to be clear evidence.

    1. IIRC, there was a US court case about twenty years ago in which a client sued a well-known Wall Street investment bank for bad macroeconomic advice from its figurehead economist, which the investment concerned (successfully) defended by arguing that its economists were more entertainers than professional advisers!

      I think you are dead wrong about physicist trader types though. I would be surprised if such people would ever act on the kind of unrigorous stories that even academic economists tell (see my comment below). More likely, physicists are employed in financial markets as quants, to whom the reasons for the overall movements of the markets are largely irrelevant.

    2. Thanks for answering my question in a comment to the previous blog; what precisely is the training and education of yer average city economist?

      Looks like it isn't much, and so we can ignore most of it as self-seeking, agenda-driven 'twaddle'.

    3., the individual "entertainer" concerned had twenty five years as a university academic before a stint as a Fed governor!

    4. I wouldn't have put an ex-Fed governor (US) into the same class as city (sc. of London) economists. But perhaps we need to be clear about definition of each category of professional economist and the two main classes which SWL was alluding to in his previous blog, where he goes to some lengths to distinguish the two. Perhaps his classification is an over-simplification.

  7. "And why beholdest thou the mote that is in thy brother's eye, but considerest not the beam that is in thine own eye?"

    I have to say (and I got as far as completing a scientific PhD, so I like to think that I know something about it) that I find Keynesians, including Krugman, some of the worst offenders against the scientific method. As I have asked for repeatedly on Keynesians' blogs (eg here: ), I want someone to explain to me in rigorous terms, how fiscal stimulus is supposed to work. I ask simply because I want to understand how it works and not because I am trying to make some kind of political point. But no-one, especially the supposedly eminent authors of the blogs, ever does (on that occasion, I at least got as far as establishing that the unused resources were largely the unemployed). Those who ask such questions (as Fame and Cochrane did on Krugman's blog) are generally just fobbed off with an answer like "This is economics 101", which I did in the course of retraining as an economist, and found unrigorous and unconvincing. This attitude is bad enough in purely philosophical terms, but when the Keynesian economists concerned advocate reallocating vast amounts of money to implement their solutions, it is just not good enough.

    I think this goes back to the culture and teaching of economics which has been discussed here in the last couple of months. It seems to me that economics is littered with such unresolved basic questions (another, for example, is whether or not inside money is inflationary) on which its governance structure deters work - because they do not lend themselves to writing the kind of stylised papers of limited scope that get published in "prestigious" journals. As I have mentioned here before, I had a go at trying to do academic economics my own way after working as a central banking practitioner, and while such questions were what motivated me, for teaching as well as research, my colleagues advised me to choose more fashionable research topics. I was, it was explained by one colleague, "asking great questions", but because they were obviously so difficult to resolve, they were unlikely to yield the stream of well-defined papers publishable in reputable journals that I would need to survive as a research academic. Such is the pathetic state of academic economics.

    1. the standard client view well articulated....

      thanks for that.

    2. The simple explanation that I and Krugman repeat often enough is that output is demand constrained, and government spending adds to demand. There are underutilised resources, as the responders to your previous question pointed out. That is Econ 101. So what do you find unrigorous and unconvincing about this?

      I actually have some sympathy with your second paragraph. Its one reason why I like reading and writing blogs.

    3. Thanks for engaging, Simon. However, the entry point to the discussion as raised by Fama and Cochrane, which is the same issue that troubles me, is, where does the money come from that the government spends? If it is taxed, then what of the spending on consumption or assets that the taxed would have otherwise made? And if the money is "printed", that is monetary policy.

      As far as I know, the empirical evidence is that fiscal expansion does seem to work (my remaining doubt about the empirical evidence is whether it comes from economies that are practically closed - I can see how fiscal expansion would work if it involved borrowing resources from abroad), so my default position is that the Keynesians are right. But perhaps, as I think Cochrane concluded, if fiscal stimulus works, it does so because it improves the efficiency of the economy in some way - eg the contribution of the (arguably otherwise wasted) unemployed (people, but also underutilised physical capital) outweighs any costs (eg bond issue, taxation) of shifting resources from the relatively wealthy. This of course requires a more complex, probably micro-founded, argument than the G up Y up of the Econ 101 ISLM model, but that kind of explanation is what would constitute rigour in my (scientist's) judgement.

    4. "I want someone to explain to me in rigorous terms, how fiscal stimulus is supposed to work."

      Read the General Theory.

    5. If there is underutilised physical capacity and there is net private saving, there is not going to be such a tradeoff. Only when fund raising for the public sector comes into competition with that for the private sector will we get the resource allocation trade off you mention. This will happen when balance sheets in the financial sector are restored. Until that happens there are no resource issues to do with bond issuance. When we do see balance sheets restored we will see resource allocative effects which will be reflected in the interest rate. The distinction between monetary policy and the amount of available money supply and fiscal policy is largely irrelevant under a flexible exchange rate regime which does not fix the money supply to maintain the exchange rate. The separation of monetary policy and fiscal policy is only an issue when we have a fixed exchange rate regime and we start seeing inflation, which will not happen when we are a long way from capacity constraints. Hyperinflation, as Paul Krugman has recently reminded us and historians have long known, only occurs during times of political turmoil and when the legitimacy state itself is threatened. (It is not just a function of the money supply - there are many cases over the centuries where there has been large increases in the money supply without price inflation.) The latter point is important in highlighting why we have to think widely about economic policy, not just containing it to a few variables.

      Best way to approach this is looking at a wide set of data and historical studies. Microfounded theory is a dodgy way to go, particularly if this itself is not empirically well founded.

    6. Tim,

      Even if the money is printed, it's not pure monetary policy though. As QE demonstrates, increasing the money supply may do little if there is a lack of demand in the economy and as a result the additional money does not translate into an increase in investment.

      Government expenditure in a recession does exactly that: it creates demand for goods and services, which in turn creates revenue, which in turn stimulates investments.

      Now, in practice, the money actually does not come out of the printing press (though I'm not convinced that it wouldn't be easier/better to just print it), but out of bond issues. As we have seen, in crisis situations wealthy people and their financial intermediaries are willing to lend the government money at extremely low rates, in fact, sometimes even at less than inflation adjustment rates. What does this suggest? I'd argue that it suggests that in the crisis not only labour is un- or underemployed, but also capital.

      Basically, as the economy is suffering from lack of overall demand, there is a lack of meaningful opportunities to invest and those with the funds to do so are sitting on a pile of un- or underused capital (think e.g. about large companies sitting on huge cash reserves).

      Fiscal policy borrows money (i.e. the underused capital) from them to spend it on activities that increase the overall demand in the economy and therefore can spur investments in the future... win-win.

    7. Oh, and if you wondering, how there could be an overall lack of demand: think of it as a co-ordination problem. If company A sacks some of their employees, because they lack access to credit to invest in a new product line, this will reduce these people's income and therefore demand for company B's products, who then will also sack their employees and so on. The same is true the other way around.

      The economy is a full-employment when all companies produce their full output and create demand for the other's products (check out Rosenstein-Rodan's example of the shoe factory).

      Obviously, there are always faillures in a competitive economy, and most of the time, this works with some companies failling all the time, but the loss of demand never really affecting the prospects of the other companies. But if there is some big shock, there may be an initial loss of demand so big that it leads to further faillures, which further reduce demand and so on.

    8. Thanks for the answers so far (except for Anonymous 5 January 2014 04:18 of course!).

      Anonymous 5 January 2014 04:49, I do not entirely follow you, but I find it hard to imagine why could not be the case that "fund raising for the public sector comes into competition with that for the private sector". For example, if the interest rate is sufficiently low (ie negative) I imagine I would always borrow money for some fairly bullet-proof project project like buying farmland and doing something very unintensive with it, like growing trees.

      Anonymous 5 January 2014 05:04 and Anonymous 5 January 2014 05:11: good answers (the state may rationally be less risk-averse and coordination failures - I seem to remember reading about coordination before - Leijonhufvud maybe?), thanks! So what I think is needed is for that type of idea to investigated further including with empirical evidence, and to be used as the basis for policy justification and teaching in future, instead of the hollow G up Y up story.

      Please, keep the ideas coming, including from Simon himself if he was not one of the comments above. Why are there so many "Anonymous" comments on this blog?

    9. Tim,

      Sorry for the "anonymous" badge before when writing the 5:04/ 5:11 responses. The drop down menu had me a bit confused about how to enter a name.

      I agree that further investigation would help, in particular to see what works best.

      However, as you said earlier, "the empirical evidence is that fiscal expansion does seem to work", while at the same time, some people have gone on the record (I think Fama did?) claiming that as a matter of principle, it cannot work. Given this, I kind of understand why people like Simon would opt to argue, somewhat crudely, in favour of higher G. After all, this is where the debate was: the opposing side also did not argue for smarter increases in G or anything, but instead argued to cut G pro-cyclically.

      Personally, I still hope that the discussion will evolve into a discussion about industrial policy and how best to steer investments, i.e. it is not only the size of G that matters, but its sectoral distribution. Precisely because of widespread coordination faillures, government (or government-led) investments will be needed to steer growth towards sectors with substantial positive externalities.

    10. Rafael Goriwoda, I agree. I rather like Jeffrey Sachs' "structuralist" ideas:

    11. Anonymous 5 January 2014 04:49, I do not entirely follow you, but I find it hard to imagine why could not be the case that "fund raising for the public sector comes into competition with that for the private sector". For example, if the interest rate is sufficiently low (ie negative) I imagine I would always borrow money for some fairly bullet-proof project project like buying farmland and doing something very unintensive with it, like growing trees.

      Because buying government bonds underwritten by the central bank is bullet-proof. Central bank purchases guarantee its liquidity. Better than trees, when inventories have run down, corporations can invest their profits into new equipment investment and banks balance sheets have been restored (ie they start lending again), government bonds can be disposed of without a capital loss. That is also the time we start to get a competition for funds, and the government and central bank should start backing off. But it isn't yet.

      I think Rafael also makes some good points. I think many people are worried about what type of recovery we are going to see. Hysteresis in the labour markets, particularly at the low wage end needs to be addressed. We have a problem of long term unemployment and a new one of the working poor. There is intense competition between unskilled workers at the lower wage end. This, I agree with Rafael, will require direct attention independent of macro-economic policy. Thankfully both Cameron and Milliband are actively pushing work apprenticeship schemes.

    12. I suspect that we are talking about semantics here. Bullet proof is about risk, not return. If the government declines to supply more paper (ie including banknotes), the return on government paper becomes market-determined, and can drop sufficiently low that I get my farmland project funded. If I don't get my farmland project funded because the government does choose to supply more paper, that looks like competition to me.

      I think that you are making another form of Rafael's risk aversion argument, which it seems to me works precisely because the government does compete with the private sector for funds, which it invests to better effect than the private section, because the private sector is risk-averse to an unwise degree.

    13. By the way, this discussion raises another issue which I think is very important, and is being neglected by the Keynesians, which is why do they think that the natural rate of interest is apparently negative at the moment. If the authorities could work that out and fix it, they might not need to try to make money so cheap that negative real return projects get funded. I have some tentative answers to that question, but that is too far off-topic for now.

    14. I would stress the coordination aspect though.

      Part of the problem will certainly be that the private sector becomes too risk averse (see Keynes's animal spirits). But if that was all of it, it might be enough to lower taxes or work to improve "confidence".

      Instead, the more difficult part of the problem is that, once in a crisis, it is perfectly rational for individual agents to cut back on investment as they see less of a market for their products. This is, in effect, where the coordination problem kicks in: each company cutting back on its investment reduces demand for every one else, but has no rational interest to change their behaviour because this effect to them is an externality. Hence, a lack of overall demand and underemployment of resources results that can only be overcome if enough companies decide to invest more.

      Now, to overcome the coordination problem, you could either get them all around a table and collectively decide who is going to invest how much in what. But that's a command economy and has its own difficulties.

      Or, you introduce some additional demand through government purchases/investment, which will incite some companies to invest or continue employing people or the government indeed employing them directly as teachers etc.

    15. Thanks Rafael. Your post again proves again that economics is best explained in plain English.

    16. Actually, sorry; come to think about it, coordination failure does not get round the Fama-Cochrane-Young puzzle. One firm cannot cut back on its spending, because it has to do something with its income - either pay it out, invest it or save it financially by lending it to someone else. And if the firm tries to save its income financially, interest rates fall (and I don't think interest rates are supposed to be sticky in general) until someone is prepared to distribute/consume or invest. Wasn't that Adam Smith's point - the market's invisible hand is supposed to do the coordination? Maybe I will go off and read about it though; I am sure I have asked enough already!

    17. One firm cannot cut back on its spending, because it has to do something with its income - either pay it out, invest it or save it financially by lending it to someone else.

      It can also put it into the bank. You assume that the bank will then lend it out. They are not doing that at the moment. That is the essence of the problem. They are restructuring their balance sheets. The result is surplus deposits and idle funds. Central bank guaranteed government bond issuance creates a market for these funds and absorbs them. The dispersal of government funds then stimulates activity.

      We could of course wait until the market clears the situation (when firms have to eventually invest in new capital equipment, new bank lending relative to deposits starts rising...), but we could be waiting a very long time, and in the long run...

    18. @Anonymous 5 January 2014 12:30, No, because banks never leave assets "idle". Even reserves or banknotes in the vaults are a loan to the central bank (which on-lends to private sector banks eg via repo ops or to governments via purchases of government debt).

    19. Tim,

      From where I stand, I think there are two responses: firstly, yes, the interest rate is downward rigid - i.e. as it is the nominal rate cannot go below zero, so the market does not necessarily clear. That is, if I understand correctly, the point Krugman has been making for years.

      Secondly, as alluded to by Anonymous 12:30, there is the role of banks and credit and fiat money, which I don't think is addressed in what you could call the "Smith-Fama-Cochrane-Walras-Young" view.

      It's not only that banks do not properly transmit existing savings in the crisis. Their role in the economy is to create money out of nothing by giving loans to people who want to invest. These people than use the new money to create economic activity. So the coordination problem is e.g. that "I would borrow money to invest and open a sandwhich bar if I knew that you were about to borrow money to open a business nearby so I have the lunch time customers" .. neither you or me need to use someone else's savings for this, just a bank who creates new money for us.

    20. I was hoping to avoid the special case of the zero lower bound, because then policy inevitably becomes monetary, and the explanation for the effectiveness of fiscal policy should work in general. Indeed when I learned ISLM over twenty years ago, zero policy rates were regarded as an unlikely curiosity, but it was still G up Y up.

      I think that the idea that banks create money by lending is a bit of a red herring. True, that is how the process can start, but few people would borrow money at interest to hold in a zero-interest transaction account. In practice, money loaned will be withdrawn rapidly, and then the bank has to come up with the funding to meet the outgoing payment. Ironically, in that debate I am in agreement with Krugman.

    21. Fair enough on the zero lower bound (though I'm not convinced about it fiscal policy becoming monetary policy there - see my very first comment on here).

      As for banks creating money by lending: not sure I follow. Yes, people borrow money to then spend/invest it. But when they do, in a fractional reserve banking system, they rarely do so by paying in cash (or high-powered money/central bank money), using other people's savings.

      In practical terms and to stick with my previous example: assume I want to open a sandwhich shop, I go to the bank and they decide to give me a loan. To do so, they credit my account with an amount of dollars. By which I mean, they just add them to my account. These dollars did not exist before as no one's savings in particular. I then spend the money to, say, buy the property to open my shop. When I do this, the bank transfers the money from my account to someone else's. There is no need for them to "meet the outgoing payment" by handing out cash or similar : they gave a credit to me and I passed the newly created money on to someone else and it is now on their account. (even though banks (have to) keep a certain fraction the money they lent in reserves just in case too many people come asking for their deposits at once).

      This is more than a red herring, I think, because it is a good illustration of how demand constraint economies work in practice. The whole process I've described has increased the amount of money in the economy (M1 - it did not change the monetary base, but increased the velocity with which it ciruclates). Credit/investment determines how much money there is in the economy and the coordiantion faillures and demand matter: if I know you will open your business which produces pickles nearby, I know I will have demand for my sandwhiches - so I go to the bank and ask them for money, and this increases M1 and you do the same, because you know that my I will demand pickles for my sandwhiches.

      In other words,it is investment that determines the amount of output that is produced and this only determines the amount that is saved. I determines S, not S determines I.

    22. I don't think you have to bring in the zero lower bound. This is just a subject for people in love with ISLM and other such gimmick. Fundamentally it is an issue of the short and long run. The market will clear a situation where firms do not have investment opportunities and banks do not wish to lend until they have disposed of bad loans, it just takes a long time. Better to have the government move in in such a situation.

    23. On the zero lower bound: it gets necessarily monetary because money has a nominal interest rate of zero, and so can become the best available store of value as prevailing interest rates approach zero. Then, unless the monetary authority supplied as much money as demanded at this point, money's function as the medium of exchange, and hence the economy, would be disrupted.

      On loans create deposits, my point is that the time between money creation and the bank's need for funding is so short that whether loans create deposit or deposits create loans (and like Krugman, I think it works both ways round) is practically irrelevant for the present discussion. Note that, in general, the bank will need to seek funding when the loan is drawn down, because it is unlikely that the deposit will simply be transferred to another account holder at the same bank. Note also that more base money will be required to support the balance sheet expansion as soon as it occurs, especially if reserves requirements are in operation, but for prudential reasons otherwise. This is supposedly what gives central banks the leverage to set interest rates. But, as I am sure you know, this issue is highly controversial one which generates never-ending discussion, which I follow but do not claim to be sure of the answers, so I don't really want to get into it here.

    24. Finally, at this point it seems that Simon is not going to expand on his glib "G up T up, Econ 101" response to my question without explaining the vital point of how G can be raised without lowering some other expenditure or increasing the money supply - like all the other Keynesians I have asked for an explanation. I must say I am very disappointed by this; it adds to my suspicion that most "eminent" academic economists know more about playing their internal game of publication and status than about how the economy works.

    25. The Government is actually making up for lack of private sector spending - that is the whole point. Even if the money supply has expanded (that is base money - broader measures that include bank's credit creation are probably not expanding enough), that is not a problem in this type of environment.

    26. Anonymous 6 January 2014 06:07, You are missing the point. I am asking the general question how the government can spend more without the private sector spending (even) less. This is the question raised by Fama and Cochrane back in 2009 ( ) that Krugman failed to answer then and Simon Wren-Lewis is failing to answer now. Perhaps expansionary monetary policy is appropriate at this time, but that is a different issue.

    27. Tim (5 January 2014 04:14) Are you having a Says Law problem? Suppose money is the only asset. When someone in the private sector decides to spend more and save less, that increases demand, and the money comes from them holding less money. If the government spend more, it can either (a) get the money from printing it itself, (b) issue bonds, which may be held by the private sector instead of money, (c) raise taxes, some of which will be paid for out of individuals saving (i.e. less money).
      See for more.

    28. Interesting; thanks for re-engaging, Simon. It does seem like I am having at least a Say's Law moment!

      My initial reaction to your argument is that if money is the only asset, that forces a zero bound problem because there is no other asset, in which case fiscal and monetary policy are tied together, whereas, like Say, I am assuming that money is "but an agent in the transfer of values". I will think about this further!

      But standing back from the detail, if I am, arguably, making the same mistake as a Nobel prize winner like Lucas, that suggests to me that there is something wrong with the way that fiscal (balance) policy is presented. You could get a very good student like Lucas, and if he did not play the game of giving the answers he was expected to give in spite of his scepticism (as I did, and I suspect most students of macroeconomics do), he would fail Econ 101! That cannot be right. If the debate cannot be iterated to a conclusion, as scientific debates tend to be, fiscal policy should either be taught as a live controversy, with both sides of the debate explained, or left out of introductory economics altogether.

    29. I agree there is not enough on Says Law in macro texts. But it is not just about fiscal policy. If Says Law holds, aggregate demand is irrelevant. So monetary policy as central banks currently practice it is irrelevant. Keynesian economics is irrelevant. This is why these mistakes by Chicago economists achieved such a high profile. As far as I know none have tried to justify their statements, and Cochrane has since discovered New Keynesian theory, although he remains (naturally!) critical.

  8. In 2008 the Queen is reported to have put Luis Garicano of the London School of Economics on the spot about the recession with the question: “If these things were so large, how come everyone missed them?”
    So in 2014 could she ask the same question about the recovery?
    Economics is not like the physical sciences, but even physical scientist would qualify any statement with “given our current understanding”.
    In 2014 let us be realistic about what economists can and cannot do.

    1. The FT cartoon in response (the economist - an emperor without clothes in front of a blackboard of DSGE equations trying to answer) will go down to historians as a great representation of our times. Did ever a picture paint a thousand words.

    2. Economists did not have to miss the recession if the policy discussion in the years before had been conducted more rigorously. To me, as a fixed income investor at the time, it was obvious that there would be a financial crisis, because the economic authorities - the Greenspan Fed above all - kept inventing dubious excuses for not following through with the policy reactions that they themselves had previously explained would be necessary to maintain stability. This is burned on me, because I kept losing money by studying the detailed economic conjuncture and concluding that it would be incompatible with a monetary policy stance as easy as that which followed - eg the Fed easing in response to the LTCM crisis of 1998, to "address the seizing up of financial markets". Inevitably, the distortion eventually got too big for even very aggressive easing to rescue. But it was in almost no-one's interest who had access to debate with the economic authorities to give them the grilling that was in order. Financial markets were happy with over-valued assets, politicians did not want to be seen as party poopers, challenging journalists are denied access, central banks are loath to criticise each other (with the notable and heroic exception of some at the BIS), and macroeconomic academics depend on central banks goodwill for funding and information. And sadly, I am afraid that this situation has continued, if not got worse, since the financial crisis.

    3. So you're a failed fixed income investor who's completely convinced that only you actually understand what's going on. This is not a surprise based on your comments.

      So why did your understanding not extend to anticipating in real time that " it was in almost no-one's interest who had access to debate with the economic authorities to give them the grilling that was in order" and so policy wouldn't change?

      Or is it at all possible that you fail to understand something that others did understand?

    4. You are right; I failed, and I learned what you describe, to anticipate how the economic authorities WILL act, rather than how they SHOULD act based on their own promises (and, for what it is worth, my own personal finances benefited from the financial crisis as a result!). Some astute investors understood this, but I also think that there are many more whose reasons for, eg, staying long stock, are half baked (eg trend followers) or even irresponsible (it's not my money), but, beyond some critical mass, the cost to the economic authorities of disappointing so many people to keep a principle is prohibitive. I think we are seeing the same process now in the UK with house prices. But I don't think that this is a wise course for society to follow. It means that the authorities give people perverse incentives to do what the authorities themselves understand to be unwise, and by setting up a knife edge situation in which investors are ruined if they miscalculate the authorities' reaction, you favour reckless investors (eg agents with OPM!).

      By the way, unlike you, who may have your own failings to hide, I make these confessions and speculations under my own name.

    5. Finally, at this point it seems that Simon is not going to expand on his glib "G up T up, Econ 101" response to my question without explaining the vital point of how G can be raised without lowering some other expenditure or increasing the money supply - like all the other Keynesians I have asked for an explanation. I must say I am very disappointed by this; it adds to my suspicion that most "eminent" academic economists know more about playing their internal game of publication and status than about how the economy works.

  9. "What I refuse to accept is that economics cannot be an evidence based discipline."

    Nobody disputes this. The problem, though, is that it isn't.

  10. Dear Simon,

    Re listening to music while blogging, thoroughly agree on its efficacy and do it all the time. Depends on which kind of music, of course...

    I prefer Baroque;

    I wonder what George Osborne listens to when preparing his justifications of why Plan A is such a roaring success (see today's Sunday Times' front page with Cameron preparing further goodies for the electorate)

  11. Simon,

    On the issue of politicians not accepting evidence or being scientific, or twisting the evidence, or using whatever city economist available to support their view - all for the sake of ideology - I think Chris Dillow's blog of yesterday

    is highly relevant.

    That fact is the politicians don't need the truth when they have power. That's the main reason the Keynesian arguments made by you, Krugman and others gain no traction. Power trumps Truth. Sadly.


  12. I would like to think that economics can be an evidence based discipline in the way that models and assertions should only be accepted if supported by empirical evidence, but even if this was the case I dont believe that economics can ever be idealogy free.

    It's in my understanding that one of the core beliefs in economics is that it is the study of how limited resources should be allocated, and that the conclusion to this is that these resources should be allocated according to whichever combination allows the most resources to be available (although I'd be the first to admit my understanding is limited and please correct me if Im wrong).

    Surely this pursuit of efficiency over fairness is an ideological assumption in itself?


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