December 31, 2015

Conceptual blunder

Comment on ‘Clarence Ayres on the economic concept of capital’

Blog-Reference

Ayres noted back in 1944 “Certainly the concept of capital is not altogether responsible for this general confusion.”

Indeed, it is no other than the representative economist who is entirely responsible for his own confusion (2013). In this context it is important to realize that the confusion does not start with capital but much, much earlier, that is, it in effect starts already with the elementary concepts income and profit. And it is pretty obvious that any theoretical superstructure can be shaky at best if it is built on conceptual sand.

Criticizing Orthodoxy for age-old conceptual blunder, however, backfires because it leads to the question of why Heterodoxy has not taken advantage of the situation and come forward with a consistent set of concepts in all this time?

The enduring general conceptual confusion among economists of all stripes is a strong indicator of what Feyerabend has called a ‘failure of reason’ (2004, p. 72), or what the man in the street might simply call stupidity.

Egmont Kakarot-Handtke


References
Feyerabend, P. K. (2004). Problems of Empiricism. Cambridge: Cambridge University Press.
Kakarot-Handtke, E. (2013). Confused Confusers: How to Stop Thinking Like an Economist and Start Thinking Like a Scientist. SSRN Working Paper Series, 2207598: 1–16. URL

Immediately following post 'Economics as fool’s paradise'

December 30, 2015

Still on the wrong track


Comment on ‘Striving for Balance in Economics: Towards a Theory of the Social Determination of Behavior’

Blog-Reference

Economists, like most human beings, are intensely interested in watching other human beings, interpreting their actions, and second-guessing their motives. After all, between the individual human being and Nature or the universe or reality stands society, which is to say, all the stories society tells about Nature or the universe or reality or history or the hereafter. But from the history of the sciences, we know that virtually all of societal storytelling is logical and factual rubbish. The greater part of humanity, though, never transcends parochial social rubbish. Plato famously described the epistemological condition with the cave metaphor and Buddha with the metaphor of the blind men and the elephant.

Accordingly, the representative economist is as deeply convinced as any flat-earther that economics is essentially about the behavior of human beings. And this is why standard economics has been built upon the behavioral axiom of utility maximization (Weintraub, 1985, p. 147).

And this is the fundamental methodological blunder because there is no behavioral assumption whatever that can play the role of an axiom. Why? Let us go back to Aristotle’s first principle of science “When the premises are certain, true, and primary, and the conclusion formally follows from them, this is demonstration, and produces scientific knowledge of a thing.” (Posterior Analytics)

Now, there is no proposition about human behavior that is ‘certain, true, and primary’ because human actions are original. This has been known to the scientists in all ages “The bifurcation of motion into two fundamentally different types, one for natural motions of non-living objects and another for acts of human volition ... is obviously related to the issue of free will, and demonstrates the strong tendency of scientists in all ages to exempt human behavior from the natural laws of physics, and to regard motions resulting from human actions as original, in the sense that they need not be attributed to other motions.” (Brown, 2011, p. 211)

Scientists in all ages knew that there is, as a matter of principle, no such thing as a behavioral law or anything close to it. Economists, of course, are incompetent scientists and therefore never had much compunction to postulate/accept constrained optimization as their foundational premise. The other methodological lunacy has been to take equilibrium into the set of axioms (Weintraub, 1985, p. 147).

The representative economist has not got the point until this very day. As Krugman put it on his blog “most of what I and many others do is sorta-kinda neoclassical because it takes the maximization-and-equilibrium world as a starting point ...”. More than 100 years after Jevons/Walras/Menger and the total failure of the neoclassical program this is simply self-debunking idiotism.

All the more so as economics, to begin with, is not a science of behavior (Hudík, 2011). Economics is not a so-called social science like psychology/sociology and not a natural science like physics but a system science.

The representative economist never got the crucial methodological point and this is why economics is a failed science. Orthodoxy is built upon the false premises of methodological individualism. It is pretty obvious that behavior is socially conditioned. Thus far Hoff/Stiglitz’s point of analytical departure moves closer to what psychology/sociology has found out long ago.

To leave methodological individualism behind makes perhaps a better sociology or political science but not a better economics. The reason is obvious: no way leads from the understanding of individual or social behavior to the understanding of the behavior of the economic system. Filibustering about fellow human beings or society does not help to find out what profit is, how unemployment can be cured, and what the systemic future of the market economy is.

Feynman already identified the social sciences as cargo cult sciences and because of this Hoff/Stiglitz’s approach is a vain attempt to reanimate the dead scientific corpus called standard economics.

Egmont Kakarot-Handtke


References
Brown, K. (2011). Reflections on Relativity. Raleigh, NC: Lulu.com.
Hudík, M. (2011). Why Economics is Not a Science of Behaviour. Journal of Economic Methodology, 18(2): 147–162.
Weintraub, E. R. (1985). Joan Robinson’s Critique of Equilibrium: An Appraisal. American Economic Review, Papers and Proceedings, 75(2): 146–149. URL

Immediately preceding post 'Economics is NOT a science of behavior'

Related 'The existence of economic laws and the nonexistence of behavioral laws' and 'Lars Syll creatively destructs Wren-Lewis'

December 29, 2015

The existence of economic laws and the nonexistence of behavioral laws

Comment on Lars Syll on ‘The non-existence of economic laws’

Blog-Reference

Economists, like most human beings, are most interested in watching other human beings, interpreting their actions, and second-guessing their motives. After all, between the individual human being and Nature or the Universe stands society and all the stories the respective societies tell about Nature or the Universe or reality or history or the hereafter. From the history of the sciences we know that virtually all of societal storytelling is logical and factual rubbish. The greater part of humanity never transcends parochial social rubbish. Plato famously described the epistemological condition with the cave metaphor and Buddha with the metaphor of the blind men and the elephant.

Accordingly, the representative economist is as deeply convinced as any flat-earther that economics is about the behavior of human beings as far as it relates to what Marshall called ‘the ordinary business of life’. And this is why standard economics is built upon the behavioral axiom that homo oeconomicus is a utility maximizer (Weintraub, 1985, p. 147).

And this is the fundamental methodological blunder because there is no behavioral assumption whatever that can play the role of an axiom. Why? Let us go back to Aristotle’s first principle of science “When the premises are certain, true, and primary, and the conclusion formally follows from them, this is demonstration, and produces scientific knowledge of a thing.” (Posterior Analytics)

Now, there is no proposition about human behavior that is ‘certain, true, and primary’ because human actions are original. This has been known to the scientists in all ages “The bifurcation of motion into two fundamentally different types, one for natural motions of non-living objects and another for acts of human volition ... is obviously related to the issue of free will, and demonstrates the strong tendency of scientists in all ages to exempt human behavior from the natural laws of physics, and to regard motions resulting from human actions as original, in the sense that they need not be attributed to other motions.” (Brown, 2011, p. 211)

Scientists in all ages knew that there is, as a matter of principle, no such thing as a behavioral law or anything close to it. Economists, of course, are incompetent scientists and therefore never had much compunction to postulate/accept constrained optimization as their foundational premise. The other methodological lunacy has been to take equilibrium into the set of axioms (Weintraub, 1985, p. 147).

The representative economist has not got the point until this very day. As Krugman put it on his blog “most of what I and many others do is sorta-kinda neoclassical because it takes the maximization-and-equilibrium world as a starting point ...”. More than 100 years after Jevons/Walras/Menger and the total failure of the neoclassical program this is simply self-debunking idiotism.

All the more so as economics, to begin with, is not a science of behavior (Hudík, 2011).* Economics is not a so-called social science like psychology/sociology and not a natural science like physics but a system science.

Methodologically correct economics starts with the systemic behavior of the monetary economy. There are systemic laws, for instance the Profit Law (2015) or the structural Law of Supply and Demand (2014) but no behavioral laws. Utility based demand and supply functions have traditionally been swallowed by economists hook line and sinker but will never be accepted by anybody with a modicum of scientific instinct. The economist’s proper task is to look out for objective systemic laws and to empirically verify/falsify them. Science is about the invariants beneath changes on the surface and not a commonsensical description of what happens here and now.

The representative economist never got the crucial methodological point and this is why economics is a failed science. Orthodoxy builds from false premises and Heterodoxy is stuck in the methodological cul-de-sac that economics is a social science. On this premise, all that is possible in economics is vacuous blather about beneficial/harmful self-interest, the alleged functioning of markets, the mind-boggling complexity of reality, and the ultimately incomprehensible governance of the Invisible Hand.

The fact of the matter is that the monetary economy is governed by systemic laws which are comprehensible to the scientific mind, which in turn necessarily excludes economists of the Walrasian, Keynesian, Marxian, and Austrian sect.

Egmont Kakarot-Handtke


References
Brown, K. (2011). Reflections on Relativity. Raleigh, NC: Lulu.com.
Hudík, M. (2011). Why Economics is Not a Science of Behaviour. Journal of Economic Methodology, 18(2): 147–162.
Kakarot-Handtke, E. (2014). The Law of Supply and Demand: Here it is Finally. SSRN Working Paper Series, 2481840: 1–17. URL
Kakarot-Handtke, E. (2015). Essentials of Constructive Heterodoxy: Profit. SSRN Working Paper Series, 2575110: 1–18. URL
Weintraub, E. R. (1985). Joan Robinson’s Critique of Equilibrium: An Appraisal. American Economic Review, Papers and Proceedings, 75(2): 146–149. URL

* See also cross-references 'Not a science of behavior'

Objectiv-Systemic (= nonbehavioral) Economic Laws

Austerity and the utter scientific ignorance of economists

Comment on Simon Wren-Lewis on ‘Exploring one set of reasons why austerity happened’

Blog-Reference and Blog-Reference The secular stagnation of labor market theory on Jan 11

“In order to tell the politicians and practitioners something about causes and best means, the economist needs the true theory or else he has not much more to offer than educated common sense or his personal opinion.” (Stigum, 1991, p. 30)

Economists lack the true theory and because of this they have nothing to offer but some political opinion. The market economy does not work as standard economics says. This holds — with damaging consequences — in particular for the labor market.

The core of labor market theory goes as follows “We economists have all learned, and many of us teach, that the remedy for excess supply in any market is a reduction in price. If this is prevented by combinations in restraint of trade or by government regulations, then those impediments to competition should be removed. Applied to economy-wide unemployment, this doctrine places the blame on trade unions and governments, not on any failure of competitive markets.” (Tobin, 1997, p. 11)

Until this day, the representative economist has not realized that the overall systemic interdependence establishes a positive feedback loop between ‘the’ product and ‘the’ labor market, that is, wage rate down - employment down - wage rate down - and so on. Vice versa with an increasing average wage rate. The market system is not an equilibrium system. All equilibrium models are a priori false.

An elementary version of the axiomatically correct Employment Law is shown on  Wikimedia

From this structural equation follows inter alia:
(i) An increase in the expenditure ratio ρE leads to higher employment.
(ii) Increasing investment expenditures I exert a positive influence on employment, a slowdown in growth does the opposite.
(iii) An increase in the factor cost ratio ρF=W/PR leads to higher employment. This implies that a higher average wage rate W leads to higher employment. This is, of course, contrary to conventional economic wisdom. It is, though, easy to prove that conventional wisdom is a mere Fallacy of Composition (2015).

The complete employment equation is a bit longer and contains in addition profit distribution, public deficit spending, and the trade balance with the rest of the world.

(i) and (ii) translate into Keynesian anti-austerity policy, which has its own drawbacks*. Let us focus here alone on the factor cost ratio ρF as defined in (iii). This variable embodies the price mechanism which, however, does not work as the representative economist hallucinates. As a matter of fact, overall employment INCREASES if the average wage rate W increases relative to average price P and productivity R.

The correct employment theory states that the average wage rate must rise on a global scale in order to prevent unemployment and deflation. For the relationship between real wage, productivity, profit, and real shares see (2015, Sec. 10)

With the provable false standard employment theory economists bear the intellectual responsibility for the social devastation of unemployment. The political discussion about austerity is somewhat beside the point. It is the market mechanism which is defective at the core and economists have not realized this in more than 200 years.

The only remaining talking point between politicians and economists is to bring an action for damages.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2015). Major Defects of the Market Economy. SSRN Working Paper Series, 2624350: 1–40. URL
Stigum, B. P. (1991). Toward a Formal Science of Economics: The Axiomatic Method in Economics and Econometrics. Cambridge, MA: MIT Press.
Tobin, J. (1997). An Overview of the General Theory. In G. C. Harcourt, and P. A. Riach (Eds.), The ’Second Edition’ of The General Theory, volume 2, pages 3–27. Oxon: Routledge.

* See 'Deficit spending, helicopter money, and profit' and 'Keynesianism as ultimate profit machine'


Related  'Methodological retards' and 'How the intelligent non-economist can refute every economist hands down' and 'One entirely sufficient reason for the shutdown of economics' and 'The future of economics: why you will probably not be admitted to it, and why this is a good thing' and 'Austerity and the total disconnect between economic policy and science' and 'Austerity and the idiocy of political economists' and 'Economics as poultry entrails reading'

Economics is NOT a science of behavior (III)

Comment on Hoff/Stiglitz on ‘Striving for Balance in Economics: Towards a Theory of the Social Determination of Behavior’

Blog-Reference

Karla Hoff and Joe Stiglitz have not yet realized that economics is not a science of behavior (Hudík, 2011). What they are talking about belongs entirely to the realm of sociology, psychology, anthropology, political science, history, etcetera and what they are advertising is a new version of psycho-sociological dilettantism.

This is remarkable because after more than 200 years of PsySoc economists still have no idea of how the market economy works. It is common knowledge that all profit theories are defective. As the Palgrave Dictionary sums up “A satisfactory theory of profits is still elusive.” (Desai, 2008, p. 10)

This means, to this day neither the Walrasian, nor the Keynesian, nor the Marxian, nor the Austrian sect can tell the difference between income and profit. Hence, they fail to capture the essence of the market economy. This is not exactly a noteworthy scientific achievement of the economics profession.

Does the world expect from economists to find out how people behave? No, this is the proper job of psychology, sociology, anthropology, etcetera. Does the world expect from economists to figure out what profit is? Yes, of course, no philosopher, psychologist, biologist, or sociologist will ever try to figure this out.

Have economists done their proper job? No. Do Hoff/Stiglitz know what profit is? No. Does a ‘Theory of the Social Determinants of Behavior’ help to find out what profit is? No.

It is not the task of economists to dabble in the so-called social sciences. The subject matter of economics is the economy. Economics is a system science and Hoff/Stiglitz have not realized that they are still caught in the wrong paradigm.

Egmont Kakarot-Handtke


References
Desai, M. (2008). Profit and Profit Theory. In S. N. Durlauf, and L. E. Blume (Eds.), The New Palgrave Dictionary of Economics Online, pages 1–11. Palgrave Macmillan, 2nd edition. URL
Hudík, M. (2011). Why Economics is Not a Science of Behaviour. Journal of Economic Methodology, 18(2): 147–162.

Immediately following post 'Still on the wrong track'

Related 'The existence of economic laws and the nonexistence of behavioral laws' and 'The happy end of the social science delusion' and 'From PsySoc to SysHum' and 'The Science-of-Man fallacy' and 'PsySoc — the scourge of economics' and 'Methodological retards'.


For more details see cross-references ‘Not a science of behavior

December 28, 2015

Worthless Canadian model bricolage

Comment on Nick Rowe on ‘Tight money as binding output quota, and upward-sloping IS curves’

Blog-Reference

“In economics we should strive to proceed, wherever we can, exactly according to the standards of the other, more advanced, sciences, where it is not possible, once an issue has been decided, to continue to write about it as if nothing had happened.” (Morgenstern, 1941, pp. 369-370)

A long time before he became famous, Einstein worked in the Bern patent office. What he found occasionally on his desk were patent applications for some new kind of perpetual motion machine. Like any other physicist Einstein knew that a perpetual motion machine is a nonentity because it would violate the laws of thermodynamics. Therefore it was a waste of time for him to go dutifully into the details of such an application.

At some point in history physicists had settled the question of perpetual motion machines but inventors continued to design machines ‘as if nothing had happened’.

In economics matters are quite similar. Economists do not get tired of cobbling together models out of nonentities. Nick Rowe’s ‘neat little model’ is a case in point.

As a general methodological rule it holds: before he goes into details the student of economics makes the nonentity check. What he knows from methodology is that all theories/models are false which are built upon the following concepts: utility, expected utility, rationality/bounded rationality/animal spirits, equilibrium, constrained optimization, well-behaved production functions/fixation on decreasing returns, supply/demand functions, simultaneous adaptation, rational expectation, total income=value of output/I=S, real-number quantities/prices, and ergodicity. All these items are economic nonentities.

Real models are a priori out because the economy constitutes itself through the interaction of real and nominal variables. Models that do not contain profit are a priori out because profit is the pivotal concept of economics.

A nonentity is different from an idealization or simplification. A perpetual motion machine is a physical nonentity, utility maximization or perfect foreknowledge are behavioral nonentities. An economy without profit/loss is a systemic nonentity.

Nonentities have no counterpart in reality and therefore are methodologically inadmissible. All this is well-known among scientists. By ignoring the requirements of material and formal consistency in their mindless model bricolage economists violate scientific standards on a daily basis.

Because Nick Rowe’s metaphor/model fails already the nonentity check (IS curves are nonentities*) it goes into the waste paper basket without further ado. As Morgenstern said: In economics we should strive to proceed exactly according to the standards of science.

Egmont Kakarot-Handtke


References
Morgenstern, O. (1941). Professor Hicks on Value and Capital. Journal of Political Economy, 49(3): 361–393. URL

* See preceding thread ‘Another X-mas fantasy about IS curves

Related 'Make no mistake: there can be only one true theory' and 'Walrasian double-blunder' and 'False on principle' and 'Beyond methodological madness' and 'Economics: the honeypot for know-nothings'.

December 27, 2015

Deficit spending, helicopter money, and profit

Comment on ‘Randall Wray attacks “debt-free-money cranks” based on sloppy arguments’

Blog-Reference

There are two fundamentally different types of profit/loss: monetary and nonmonetary. The latter stems from the change of value of assets. The former emerges in the sphere of production. It is common knowledge that the familiar profit theories are defective. As the Palgrave Dictionary sums up “A satisfactory theory of profits is still elusive.” (Desai, 2008, p. 10)

To this day, neither the Walrasian, nor the Keynesian, nor the Marxian, nor the Austrian sect can tell the difference between income and profit. This is not exactly a noteworthy scientific achievement of the economics profession.

Keynes had no correct profit theory, and Post Keynesianism never realized that deficit spending is the source of monetary profits (2011). So, by fighting unemployment, Keynesians in actuality became the benefactors of business.

How does the Invisible Hand perform this feat? To answer this question the methodologically correct approach is to take the simplest economic configuration as analytical point of departure.

The pure consumption economy is defined for one period by three rather straightforward equations. (i) Yw=WL wage income Yw is equal to wage rate W times working hours L, (ii) O=RL output O is equal to productivity R times working hours L, (iii) C=PX consumption expenditure C is equal to price P times quantity bought/sold X. For the graphical representation see here.

At any given level of employment L, the wage income Yw that is generated in the consolidated business sector follows by multiplication with the wage rate W. On the real side, output O follows by multiplication with the productivity R. Finally, the price P follows as the dependent variable under the conditions of budget balancing, i.e. C=Yw and market clearing, i.e. X=O. Note that the ray in the southeastern quadrant is not a linear production function; the ray tracks any underlying production function. Note also that the wage rate W is an average if the individual wage rates are different among the employees, which is normally the case. These details are of no consequence for the question on hand.

Under the conditions of market clearing and budget balancing in each period the price is given by P=W/R, i.e. the market clearing price is always equal to unit wage costs. All changes in the system are reflected by the market clearing price. Things are different, of course, if the price is not the dependent variable.

In the next period, the households save. The result is shown here. Consumption expenditure C falls below Yw and with it the market clearing price P. With perfect price flexibility there are no unsold quantities and no change of inventory. The product market is always cleared and there is no such thing as an inventory investment. Monetary saving of the household sector is given by Sm=Yw-C.

The business sector makes a monetary loss which is equal to the household sector’s saving, i.e. Qm=-Sm. Therefore, loss is the exact counterpart of saving; by consequence, profit is the exact counterpart of dissaving, that is, of the growth of household sector’s debt. This is the most elementary form of the Profit Law. It follows directly from the profit definition Qm=C-Ym and the definition of household sector saving Sm=Yw-C. The sector balances always add up to zero, i.e. Qm+Sm=0.

With dissaving/deficit-spending the debt of the household sector increases in each period. For simplicity debt takes here the form of current overdrafts at the central bank, which stands for the banking industry. As a mirror image, monetary profit increases the current deposits of the business sector. The stocks of overdrafts and deposits are equal at any point in time.

Helicopter money is deficit spending without a simultaneous increase of households sector debt. To balance the accounts, the central bank enters a debt claim against itself in the books. This ‘drop of money from the sky’ in no way alters the fact that the additional household sector spending increases the profit of the business sector as a whole by exactly the same amount. Ultimately, the business sector is the beneficiary of all forms of deficit spending of the private or public households. Whether the household sector’s debt increases or is taken over by the central bank is a matter of indifference for the business sector.

The Profit Law for the more complex investment economy reads Qm=Yd+I-Sm (2014, p. 8, eq. (18)). Legend: Qm monetary profit, Yd distributed profit, Sm monetary saving, I investment expenditure. Deficit spending of the household sector means that Sm has a negative sign, hence the effect on profit is positive -(-Sm).

With the correct profit theory we arrive at the result that ‘QE for the people’ directly leads to an increase of the volume of financial wealth of the business sector. If employment L and productivity R remain unchanged output remains unchanged and the real situation of the household sector as a whole does not change at all through the issuance of helicopter money. If employment increases the situation of the household sector improves but total profit of the business sector remains unchanged because it is always equal to the amount of deficit spending and independent of employment, productivity, or the wage rate.

Independently of the original intention to benefit the ‘workers’, both Keynesian deficit spending and helicopter money ultimately benefit the ‘capitalists’. In the course of time this leads to an extremely unequal distribution of financial wealth. This is what everybody can observe.

Egmont Kakarot-Handtke


References
Desai, M. (2008). Profit and Profit Theory. In S. N. Durlauf, and L. E. Blume (Eds.), The New Palgrave Dictionary of Economics Online, pages 1–11. Palgrave Macmillan, 2nd edition. URL
Kakarot-Handtke, E. (2011). Why Post Keynesianism is Not Yet a Science. SSRN Working Paper Series, 1966438: 1–20. URL
Kakarot-Handtke, E. (2014). The Three Fatal Mistakes of Yesterday Economics: Profit, I=S, Employment. SSRN Working Paper Series, 2489792: 1–13. URL

Related 'Keynesianism as ultimate profit machine' and 'Profit and the collective failure of economists'.

Immediately preceding post 'Money and debt in six elementary steps'.

December 26, 2015

Methodological retards

Comment on ‘Economists and methodology’

Blog-Reference

You write “Economists do not think enough about their own methodology. This means economists are often not familiar with methodological discussion, which implies that using what they write on the subject as evidence about what they do can be misleading.”

The core problem of economics is the scientific incompetence of economists since Adam Smith. The defective methodology is merely an epiphenomenon.

(i) The first thing one has to realize is that economics is a failed science, see blog post ‘How the intelligent non-economist can refute every economist hands down’.

(ii) Economic methodology is on the same abysmal level as economic theory itself, see blog post ‘Towards the true economic theory’ and ‘How economists became the scientific laughing stock’.

(iii) In order to make economics a science there is no other way than to retire both orthodox and heterodox economists, see blog post ‘Free the academy from economics’.

The big question of economic methodology is Sherlock Holmes’s Hound-of-the-Baskervilles question, that is, why did methodologists not debunk and reject what is so easily identifiable as a proto-science or what Feynman called cargo cult science. Clower seems to be the one exception.

“Suffice it to say that, in my opinion, what we presently possess by way of so-called pure economic theory is objectively indistinguishable from what the physicist Richard Feynman, in an unflattering sketch of nonsense ‘science,’ called ‘cargo cult science’.” (1994, p. 809)

Egmont Kakarot-Handtke


References
Clower, R. W. (1994). Economics as an Inductive Science. Southern Economic Journal, 60(4): 805–814.

Related 'Mental messies and loose losers' and 'Scientific Cave men with a daunting message' and 'Profit and the collective failure of economists' and 'Doomed and damned'.

Confused confusers

Comment on Eric Lonergan on ‘Sitting on cathedral steps’

Blog-Reference

You write “Confusion in economics often resides in methodology — an area where economists are weak, ...”

Confusion in economics is due to the scientific incompetence of economists and nothing else.
(i) The first thing one has to realize is that economics is a failed science, see blog post ‘How the intelligent non-economist can refute every economist hands down’.
(ii) As you correctly state, economic methodology is a deplorable mess, see blog post ‘Towards the true economic theory’ and ‘How economists became the scientific laughing stock’.
(iii) With regard to monetary theory you are part of the crowd of confused confusers (2013), see blog post ‘Money and debt in six elementary steps’.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2013). Confused Confusers: How to Stop Thinking Like an Economist and Start Thinking Like a Scientist. SSRN Working Paper Series, 2207598: 1–16. URL

December 23, 2015

Another X-mas fantasy about IS curves

Comment on Nick Rowe on ‘Upward-sloping IS curves: simple version’

Blog-Reference

You argue “The real rate of interest would fall, because the capital/labour ratio is higher than before, so firms would want to invest less, so you would need a lower interest rate to equilibrate desired saving and investment.”

Obviously, you have not yet realized that there is no such thing as an equilibration of saving and investment — neither ex ante, nor ex post. This is simply an age-old figment of the imagination of scientifically no so competent economists.

Keynes messed up the basics of macro with this faulty syllogism: “Income = value of output = consumption + investment. Saving = income - consumption. Therefore saving = investment.” (1973, p. 63)

Actually, the defect in Keynes’s two-liner is in the premise income = value of output. This equality holds — see the formal proof in (2011) — only in the case of zero profit in both the consumption and investment good industry. Is it necessary to add that zero profit models never had and never will have a counterpart in the real world?

Keynes’s conceptual problems started with profit. “His Collected Writings show that he wrestled to solve the Profit Puzzle up till the semi-final versions of his GT but in the end he gave up and discarded the draft chapter dealing with it.” (Tómasson et al., 2010, p. 12)

This failure kicked off the chain reaction of errors/mistakes, because when profit is not correctly defined, income is not correctly defined, and then saving is not correctly defined. By consequence, all I=S models, including IS-LM, are methodologically defective. Since Keynes’s day, though, the representative economist merely parroted the elementary logical blunder (2014a).

The Profit Law for the investment economy reads Qm=Yd+I-Sm (2014b, eq. (18)). Legend: Qm monetary profit, Yd distributed profit, Sm monetary saving, I investment expenditure. As everybody can see, saving is never equal to investment and there is no mechanism that makes them equal.

The Profit Law gets a bit more complex when foreign trade and government is included. Most important: the Profit Law contains nothing but measurable variables, which means that its empirical fit can be readily established. So there is no need at all for any further filibuster about the slope of a nonentity.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2011). Keynes’s Missing Axioms. SSRN Working Paper Series, 1841408: 1–33. URL
Kakarot-Handtke, E. (2014a). Mr. Keynes, Prof. Krugman, IS-LM, and the End of Economics as We Know It. SSRN Working Paper Series, 2392856: 1–19. URL
Kakarot-Handtke, E. (2014b). The Three Fatal Mistakes of Yesterday Economics: Profit, I=S, Employment. SSRN Working Paper Series, 2489792: 1–13. URL
Keynes, J. M. (1973). The General Theory of Employment Interest and Money. The Collected Writings of John Maynard Keynes Vol. VII. London, Basingstoke: Macmillan.
Tómasson, G., and Bezemer, D. J. (2010). What is the Source of Profit and Interest? A Classical Conundrum Reconsidered. MPRA Paper, 20557: 1–34. URL


***

REPLY Short proof of the nonexistence of an IS curve, comment on Tel of Dec 24

You ask “Where do those profits go? The person who makes the profit must choose to either save it, or spend it on consumption (just like any other income).”

Your error/mistake consists in regarding profit ‘just like any other income’. This error/ mistake you share with the vast majority of economists. Majority, though, counts for nothing in science, only formal and material consistency counts. So, here the shortest possible proof that no such thing as an IS curve exists.

The most elementary economy is the pure consumption economy and it consists of the business and the household sector. For a start, the business sector produces and sells one consumption good.

First period: the business sector pays 100 monetary units [thousand/million/billion, euro/dollar/yen] to the household sector and the household sector spends exactly this amount on the consumption good. There is no saving of the household sector. The business sector’s profit is zero and the price of the consumption good is equal to unit wage costs. For more details see the graphic here.

Second period: the household sector saves 10 monetary units (S=10) and spends 90 units. Now, the business sector makes a loss (Q=-10). The market clearing price is lower than unit wage costs.

Accounting result: saving=loss or S+Q=0. The complementary notion to saving is not investment but loss. And the complementary notion to dissaving is profit. Because of this I=S never holds. By consequence, the whole discussion about whether the interest rate or the income mechanism establishes the equality/equilibrium of saving and investment is as vacuous as the discussion about how many angels could dance on a pinpoint.

Profit can be distributed. The process of the emergence of profit and the distribution of profit, though, has to be thoroughly kept apart. For details see the working paper ‘The Emergence of Profit and Interest in the Monetary Circuit’.

The inclusion of distributed and retained profit does not alter the fact that there never has been nor ever will be an equality/equilibrium of saving and investment (except in the minds of logically retarded economists). See also the blog post ‘I=S: Mark of the Incompetent’ or ‘How the intelligent non-economist can refute every economist hands down’.


***

REPLY Worthless Canadian blather, comment on Nick Rowe of Dec 24 on Dec 25

You comment on my reply to Tel with “But maybe this is what you are trying to say” and refer to another comment of yours on Steve Keen.

You are doubly mistaken. First, I was not trying to say something but I gave a formal proof. This proof is clear and impeccable and for those who find it too brief references have been given.

The proof leaves no room for interpretation: IS curves do not exist and because of this your post ‘Upward-sloping IS curves’ is a senseless exercise. To apply I=S more than 80 years after Keynes demonstrated his logical incompetence is a clear sign that there is no intelligent life in the economics parallel universe.

I=S is defective because Keynesians never understood what profit is (2011) and this is the worst thing that can happen to an economist.

The reference to your comment on Steve Keen is entirely beside the point. The fact of the matter is that Keen’s profit definition is also provable false, which I have shown in a short paper (2013).*

So, what I not only was trying to say but in fact proved was that the concept of an IS curve is pure analytical junk.**

References
Kakarot-Handtke, E. (2011). Why Post Keynesianism is Not Yet a Science. SSRN Working Paper Series, 1966438: 1–20. URL
Kakarot-Handtke, E. (2013). Debunking Squared. SSRN Working Paper Series, 2357902: 1–5. URL

* See also ‘Yes, Orthodoxy is incoherent but, unfortunately, Heterodoxy also
** See also ‘How economists became the scientific laughing stock


***

REPLY Pavlovian blather (I), comment on Oliver of Dec 25 on Dec 27

You say “In this case, the market just hasn’t cleared.” Obviously, you did not get the point. As the graphic clearly shows there are two conditions in the first period: market clearing and budget balancing. In the second period only the condition of budget balancing is lifted. The market is cleared in both periods by assumption in order to focus on the effect of saving/dissaving. Therefore, there is definitively no inventory investment because X=O. See also the 2nd graphic in ‘How the intelligent non-economist can refute every economist hands down’.

You say “Circuit theory disproves S=I not.” For the rectification of circuit theory see the working paper ‘The Emergence of Profit and Interest in the Monetary Circuit’.

You repeat arguments that have long been refuted. Read more, think more, blog less.


***

REPLY Pavlovian blather (II), comment on Tel of Dec 25 on Dec 27

You say “Take note that any standard transaction contains at least FOUR entries: a debit and a credit for the money movement, and also a debit and a credit for the stock movement. We might do more elaborate things, but you must always have at a very minimum a money movement coupled with a stock movement.”

WOW, big news, yes, there are four entries. Because I need only two for the point at issue I have left the other entries out. Of course, I have dealt with them elsewhere as you can glean from my papers on SSRN. See in particular ‘The Common Error of Common Sense: An Essential Rectification of the Accounting Approach’.

The fact of the matter is that economists even messed up the elementary mathematics of accounting. The proof is in I=S. Time to realize that proper accounting yields Q=-S for the most elementary case and Q=Yd+I-S otherwise.

You say “You also presume that 'saving' means stuffing cash into socks and just about everyone admits that if you have a situation where people systematically take the medium of exchange out of circulation and stuff their socks, yes you must get deflation.”

I presume nothing about the relationship between saving and hoarding in my post. Again, this point has been dealt with elsewhere.

You say “but my intent is to outline at least the basic concept of savings.” Again, this point has already been dealt with in the working paper ‘Settling the Theory of Saving’.

Your bean factory example is beside the point because you overlook that the condition in my post is explicitly X=O, that is, market clearing. Time to realize that the inventory argument has already been brain-dead in the 1930s. Because of this, the examples you dream up are indeed continued worthless blather.

Let us return to the point at issue: To uphold the concept of an IS curve is a sure indicator of severe logical incompetence. You just delivered one more corroboration.

Now repeat after me: there never has been nor ever will be such a thing as an equality/ equilibrium of household sector saving and business sector investment.

Money and debt in six elementary steps

Comment on ‘Randall Wray attacks “debt-free-money cranks” based on sloppy arguments’

Blog-Reference and Blog-Reference

Money has taken various historical forms (token, coin, note, deposit, etc.) and the banking system in each country is the outcome of a murky historical process. Therefore, the first thing to do is to abstract from historical detail and to define a clear-cut analytical frame of reference. This frame has been called by Keynes the ‘monetary theory of production’ and it is as close as possible to the economy we happen to live in. The frame of reference consists of the elementary structure of the monetary economy.

(i) The pure consumption economy consists of the business and the household sector. The household sector provides the labor input to the business sector which consists initially of one firm. The output of the firm is sold to the household sector. Example: the wage income per period (e.g. year) is 100 [thousand/million/billion, euro/dollar/yen]. So, in a period of defined length, the households put in their work and the firm owes in total 100 monetary units to the household sector. For an overview how all fits together see here.

(ii) The firm issues IOUs and these are used in turn by the households to buy the output. For simplicity, the wage income of 100 monetary units is fully spent on the consumption good. Starting from zero at the beginning of each period IOUs are created by the firm and vanish completely until the end of the period. Clearly, IOUs are debt and they are used exclusively for the elementary transactions between the business and the household sector.

(iii) IOUs work fine with one firm but not with many firms. If the business sector consists of many firms the need for a general IOU arises. This general IOU is produced by the central bank and is called money. The central bank gives the firms money in the form of current deposits and the firms owe current overdrafts to the central bank. The firms pay the workers by transferring the deposits instead of IOUs. The workers spend their income and the deposits return to the business sector which reduces the overdrafts. At the end of the period, all deposits and overdrafts are again zero. So money is created out of nothing and vanishes into nothing until the end of each period. This process can continue in principle for all eternity no matter how big or small the economy is. There is no such thing as a fixed quantity of money.

(iv) Only deposits are money but, clearly, deposits are always exactly equal to overdrafts. Hence, money is the central bank’s half of what is essentially a credit relationship. Both sides of the central bank’s balance sheet are equal at any point in time by logical necessity. So Randall Wray is fundamentally right: initially, there is no such thing as debt-free money. But note that deposit/overdraft money as transaction medium is entirely different from credit for houses and cars or for financing real investment of the business sector or for financing public deficits. Not to keep these things properly apart is a recipe for guaranteed mental breakdown.

(v) The production/transfer of deposits and overdrafts is in principle not different from the production of bread or haircuts. The central bank pays wage income to its employees and recovers its costs by charging a transaction price. The transaction price is economically different from interest on credit. The sum of wage incomes of the consumption good producing firm and the central bank is fully spent by the household sector. There is neither saving nor dissaving of the household sector, and the profit of the firm and the central bank is zero throughout. This process can continue in in principle in all eternity. What we have is the most elementary version of a proper functioning monetary production economy (2014).

(vi) Things are different if the central bank does not charge a transaction price but interest on overdrafts, which in sum must again be equal to its wage bill. This is how things have developed historically. And this is how the creation of money as a means of transaction became linked to interest. As a matter of principle, these things should be kept institutionally apart. In a well-designed monetary economy the central bank finances the wage bill of the business sector whatever it is and charges a transaction price that covers exactly its costs. Problems of the monetary order do not arise because money is created out of nothing, or because money is one half of a debt relationship. Problems arise because the transaction function and the credit function are not properly kept apart.

Conclusion: Wray is right on insisting that debt-free money is a nonsensical concept. His banana and cloakroom examples, however, are idiotic. The advocates of ‘debt-free money’, on the other hand, have a valid point: the production of transaction money should be institutionally separated from the production/revolving of credit and not be paid for by interest but by a cost covering transaction price. For the inclusion of the store-of-value function and household-, business- and government sector debt see (2015a; 2015b).

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2014). Economics for Economists. SSRN Working Paper Series, 2517242: 1–29. URL
Kakarot-Handtke, E. (2015a). Essentials of Constructive Heterodoxy: Financial Markets. SSRN Working Paper Series, 2607032: 1–33. URL
Kakarot-Handtke, E. (2015b). Essentials of Constructive Heterodoxy: Money, Credit, Interest. SSRN Working Paper Series, 2569663: 1–19. URL

Immediately preceding post 'Money, cranks, and morons'.
Immediately following post 'Deficit spending, helicopter money, and profit'.

December 22, 2015

Money, cranks, and morons

Comment on Norbert Häring on ‘Randall Wray attacks “debt-free-money cranks” based on sloppy arguments’

Blog-Reference and pointer to this post at Naked Capitalism

Sloppy thinking has always been the hallmark of economists, and their natural mental state since Adam Smith is utter confusion.* This thread shows that it is not clear what money is and what the relationship between money and debt is and, most important of all, how the monetary economy works.

Norbert Häring maintains that “the MMT-people are among the ones who understand money best.” That is not the case, the formal foundations of MMT are defective.**

It is decisive to start with an elementary consumption economy without government and taxes in order to make it absolutely transparent how the quite different functions of the transaction unit and the credit unit of the central bank fit together. The specific historical form of money (token, coin, note, deposit, etc.) is irrelevant for the general theory of money.

Money and debt are produced like any other good by the banking industry which can be at first reduced to the central bank alone. If, in the simplest case, interest on debt is equal to the total wage bill of the central bank then profit is zero. In this case, the rate of interest depends on the productivity of central bank. To charge interest for creating money ‘out of nothing’ is therefore in principle not different from charging a price for any other produced good/service. The credit rate of interest is in the grand scheme of things just another price. If this rate is set to zero the central bank makes a loss. Things are obviously different if the debit rate is set to zero.

The case is a bit different for the creation of pure transaction money (= financing the total wage bill of the monetary economy). For the special case of interest-free helicopter money see (2015, Sec. 7).

What neither the orthodox nor the heterodox would-be economists realize is the relationship between change of debt and profit/loss, which is of existential importance for the functioning of monetary economy, and how all is related to the quantity of money (2011a; 2011b).

Not before the elementary relationship of household sector debt and money is crystal clear the case of government sector debt can be tackled. It is moronic to throw all forms of money (token, coin, note, deposit, etc.) and debt (household-, government-, business sector) together.

Debt free money is ultimately a debt that the central bank owes to itself.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2011a). Reconstructing the Quantity Theory (I). SSRN Working Paper Series, 1895268: 1–28. URL
Kakarot-Handtke, E. (2011b). Reconstructing the Quantity Theory (II). SSRN Working Paper Series, 1903663: 1–20. URL
Kakarot-Handtke, E. (2015). Major Defects of the Market Economy. SSRN Working Paper Series, 2624350: 1–40. URL

* See the blog post ‘How the intelligent non-economist can refute every economist hands down
** See the blog post ‘Modern moronomic theory

Related 'Crisis, cranks, and scientists' and 'Political economics and intellectual corruption' and 'The irrelevance of economics'

Immediately following post 'Money and debt in six elementary steps'

December 20, 2015

Quixotic Keynes exegesis

Comment on David Glasner on ‘Keynes on the Theory of the Rate of Interest’

Blog-Reference

Keynes was a political economist and he said many things on many occasions “It is well known that John Maynard was born anew every morning; for this reason, his colleagues at Bretton Woods commented that he was too intelligent to be consistent.” (Valentino, 1988, p. 239)

Logical consistency — one essential criterion of science — has never been Keynes’s main concern. Just the contrary, Keynes’s natural habitat has always been the wish-wash zone where “nothing is clear and everything is possible.” (Keynes, 1973, p. 292)

Accordingly, Keynes has been the most outspoken proponent of the Cambridge School of Loose Verbal Reasoning “Another danger is that you may ‘precise everything away’ and be left with only a comparative poverty of meaning. ... Such a problem was avoided, said Keynes, by Marshall who used loose definitions but allowed the reader to infer his meaning from ‘the richness of context’.” (Coates, 2007, p. 87)

So, here you have it: the reader is allowed to infer his meaning. This invitation to free ink-blot association gave rise to the great palaver about ‘what Keynes really meant’. It should have been clear from the very beginning to every person of average wit and life experience that this palaver could never ever have a worthwhile outcome. And it has not until this very day. Nonetheless, David Glasner heroically carries on with the interpretation of Keynes’s interpretation of what the classicals could have meant.

The methodological moronism of the Cambridge School of Loose Verbal Reasoning has been carved in stone for the amusement of posterity with this statement: “Marshall followed the maxim: Better to be ambiguous and relevant than precise and irrelevant.” (Colander, 1995, p. 283)

This phony trade-off exists only in the minds of economists. Science is qua definition precise and relevant. Because Keynes and the After-Keynesians never understood this they are out of science (2011).

There is no use to refute Keynes’s employment theory or his theory of interest or the multiplier or the ex ante/ex post equality of I and S or what not. Keynes’s profit theory is provable false, and that is enough. If the core concept profit is false then the whole theoretical superstructure falls apart.*

Because Keynes has been logically inconsistent the attempt to find out what he really meant has always been a quixotic enterprise. Keynes cannot be saved. There is one passage in the General Theory that is — in contrast to the usual verbiage — formally crystal clear and it says “Income = value of output = consumption + investment. Saving = income - consumption. Therefore saving = investment.” (Keynes, 1973, p. 63) This two-liner is provable false and no amount of interpretation and exegesis can talk this away.**

That Keynes as political economist produced not much of scientific value is bad but what the neoclassical maximization-and-equilibrium sect has produced then and now is worse. “I consider that Keynes had no real grasp of formal economic theorizing (and also disliked it), and that he consequently left many gaping holes in his theory. I none the less hold that his insights were several orders more profound and realistic than those of his recent critics.” (Hahn, 1982, pp. x-xi)

What Keynes and Fisher had in common was a false profit theory and this is the worst thing that can happen to an economist. In addition they applied the nonentities constrained optimization and equilibrium. More than 80 years later economists are still occupied with making sense of what had no sense right from the start. Not very efficient all this loose verbal reasoning, to say the least.

Egmont Kakarot-Handtke


References
Coates, J. (2007). The Claims of Common Sense. Moore, Wittgenstein, Keynes and the Social Sciences. Cambridge, New York, NY, etc.: Cambridge University Press.
Colander, D. (1995). Marshallian General Equilibrium Analysis. Eastern Economic Journal, 21(3): 281–293. URL
Hahn, F. H. (1982). Money and Inflation. Oxford: Blackwell.
Kakarot-Handtke, E. (2011). Why Post Keynesianism is Not Yet a Science. SSRN Working Paper Series, 1966438: 1–20. URL
Keynes, J. M. (1973). The General Theory of Employment Interest and Money. The Collected Writings of John Maynard Keynes Vol. VII. London, Basingstoke: Macmillan.
Valentino, R. (1988). Discussion. In H. Hanusch (Ed.), Evolutionary Economics. Applications of Schumpeter’s Ideas, pages 238–249. Cambridge, New York, NY, etc.: Cambridge University Press.

* See ‘How the intelligent non-economist can refute every economist hands down
** See cross-references Refutation of I=S

December 19, 2015

Towards the true economic theory

Comment Lars Syll on ‘What we do in life echoes in eternity’

Blog-Reference

This is the consensus to start with: economics is a failed science. The main reason is that the representative economist never had a proper understanding of what science is all about. This lack of understanding gave rise to the following definition of standard economics.

“It is a touchstone of accepted economics that all explanations must run in terms of the actions and reactions of individuals. Our behavior in judging economic research, in peer review of papers and research, and in promotions, includes the criterion that in principle the behavior we explain and the policies we propose are explicable in terms of individuals, not of other social categories.” (Arrow, 1994, p. 1)

This touchstone is subject to the Slutzky-Critique: “... if we wish to place economic science upon a solid basis, we must make it completely independent of psychological assumptions and philosophical hypotheses.” (quoted in Mirowski, 1995, p. 362)

And this quite naturally leads to the correct definition of economics.

“It is a touchstone of accepted economics that all explanations must run in terms of objective and testable structural relationships. Our behavior in judging economic research, in peer review of papers and research, and in promotions, is governed by the criterion that the explanation of the evolving monetary economy, and the numerous embedded sub-units, must be consistently derived from a set of elementary structural propositions.
Economics pushes no agenda whatsoever and applies/accepts exclusively the scientific criterion true/false and neither good/bad nor like/dislike nor useful/useless nor any other social or political criterion. From this follows immediately that subjective/behavioral/ psychological/sociological/political approaches like Walrasianism, Keynesianism, Marxianism, Austrianism are ruled out as proto-scientific.”

The criterion true/false is in turn based on formal and material consistency.

“Research is in fact a continuous discussion of the consistency of theories: formal consistency insofar as the discussion relates to the logical cohesion of what is asserted in joint theories; material consistency insofar as the agreement of observations with theories is concerned.” (Klant, 1994, p. 31)

Material consistency is secured by the application of well-defined statistical methods. Logical cohesion is secured by the axiomatic-deductive method. This method presupposes a set of clearly stated premises. To determine this set is the all-decisive task as every economist knows from the great methodologist among the founding fathers.

“What are the propositions which may reasonably be received without proof? That there must be some such propositions all are agreed, since there cannot be an infinite series of proof, a chain suspended from nothing. But to determine what these propositions are, is the opus magnum of the more recondite mental philosophy.” (Mill, 2006, p. 746)

Approaches that cannot lay out their foundational premises unambiguously or which apply obvious nonentities like constrained optimization or equilibrium are a priori hopeless, methodologically inadmissible, and cannot be admitted to a serious economic discussion. They fall into the categories of political economics, storytelling, propaganda, entertainment, or nuisance.

The propositions to start with must relate to the monetary economy as a whole and not to individual/social behavior. An example of structural axiomatization has been submitted for scrutiny (2014). Serious alternatives are not known at the moment.

Therefore, all preconditions for the indispensable paradigm shift are met. Economics can leave Walrasianism, Keynesianism, Marxianism, and Austrianism safely behind in the eternity of oblivion.

“In order to tell the politicians and practitioners something about causes and best means, the economist needs the true theory or else he has not much more to offer than educated common sense or his personal opinion.” (Stigum, 1991, p. 30)

After more than 200 years of flat common sense and silly model bricolage, the time has come for the true economic theory.

Egmont Kakarot-Handtke


References
Arrow, K. J. (1994). Methodological Individualism and Social Knowledge. American Economic Review, Papers and Proceedings, 84(2): 1–9. URL
Kakarot-Handtke, E. (2014). Objective Principles of Economics. SSRN Working Paper Series, 2418851: 1–19. URL
Klant, J. J. (1994). The Nature of Economic Thought. Aldershot, Brookfield, VT: Edward Elgar.
Mill, J. S. (2006). Principles of Political Economy With Some of Their Applications to Social Philosophy, volume 3, Books III-V of Collected Works of John Stuart Mill. Indianapolis, IN: Liberty Fund. URL
Mirowski, P. (1995). More Heat than Light. Cambridge: Cambridge University Press.
Stigum, B. P. (1991). Toward a Formal Science of Economics: The Axiomatic Method in Economics and Econometrics. Cambridge, MA: MIT Press.

For details see Paradigm shift and New curriculum

December 16, 2015

How the intelligent non-economist can refute every economist hands down

Comment on Lars Syll on ‘Dani Rodrik’s blind spot’

Blog-Reference

Most non-economists are not fully aware that economists do not understand how the market economy works. The designation economist includes here all economists and in particular the adherents to the Walrasian, the Keynesian, the Marxian, and the Austrian approach as well as the Pluralists. This embarrassment is due to the scientific incompetence of the representative economist who stands henceforth for the personified synthesis of the familiar sects.

Most non-economists tend to think that economists know exactly what they are talking about when they use economic terms like income, profit, capital, market equilibrium, GDP and so on. This is not the case. As the Palgrave Dictionary summarizes with regard to profit “A satisfactory theory of profits is still elusive.” (Desai, 2008, p. 10)

What follows from the well-documented fact that the representative economist has no idea of what profit is? Quite simple: if the core concept profit is false then the whole economic theory/model is false. Every non-economist can check it out for himself that neither the Walrasian, nor the Keynesian, nor the Marxian, nor the Austrian sect understands what profit is. There is no need at all to study the whole corpus of an approach in detail. If profit is ill-defined the whole theoretical superstructure falls apart. It is as simple as that. Profit is the key to all of economics.

In more than 200 years the representative economist has achieved nothing of real scientific value. Of course, this failure has often been noticed: “Thousands upon thousands of scholars, as well as thousands of statesmen and men of affairs, have contributed their efforts to the attempt to understand the course of events of the economic world. And today this field of investigation is being cultivated more extensively, than ever before. How is it, then, that in all these years, and with all the undoubted talent that has been lavished upon it, the subject of economics has advanced so little?” (Schoeffler, 1955, p. 2)

The answer is that the representative economist does not understand the pivotal phenomenon of his subject matter. Note well that this has nothing to do with political differences. Both, the defenders of capitalism and the followers of Marx have no idea of what profit is. Thus, neither the capitalist nor the communist economic system (nor their countless variants and combinations) has a sound theoretical foundation. What economists have produced so far are elaborate social belief systems but nothing of any scientific value. Economics looks like a science but is storytelling on a level with myth or religion. Economic policy advice or institution-building never had a sound theoretical foundation.

“In order to tell the politicians and practitioners something about causes and best means, the economist needs the true theory or else he has not much more to offer than educated common sense or his personal opinion.” (Stigum, 1991, p. 30)

Economists have as many opinions as non-economists but no true theory. Because of this, one always has to bear in mind the crucial distinction between political economics and theoretical economics. The main differences are: (i) The goal of political economics is to push an agenda, the goal of theoretical economics is to explain how the actual economy works. (ii) In political economics anything goes; in theoretical economics scientific standards are observed.

Theoretical economics has to be judged according to the criteria true/false and nothing else. The history of political economics since Adam Smith can be summarized as the perpetual violation of well-defined scientific standards. Economics as it actually presents itself to the general public is essentially political economics, which is synonymous with being scientifically worthless. This verdict applies to Walrasian, Keynesian, Marxian, and Austrian economics. Policy proposals of all these sects have no sound theoretical foundation because theoretical economics in the strict sense is virtually non-existent. Seen from the genuine sciences economics is a proto-science or what Feynman called a cargo cult science.

Has the non-economist any chance to understand what economists do not understand? Yes, of course. All that is needed is one iota of scientific instinct. As we know by now, the representative economist lacks this essential mental catalyst.

We take the simplest of all cases as the point of departure. The most elementary economic configuration is the pure production-consumption economy. It is defined for one period by three rather straightforward equations. Note well that no green cheese assumption like constrained optimization or equilibrium is put into the premises.

(i) Yw=WL wage income Yw is equal to wage rate W times working hours L, (ii) O=RL output O is equal to productivity R times working hours L, (iii) C=PX consumption expenditure C is equal to price P times quantity bought/sold X. For the graphical representation see here.


At any given level of employment L, the wage income Yw that is generated in the consolidated business sector follows by multiplication with the wage rate W. On the real side, output O follows by multiplication with the productivity R. Finally, the price P follows as the dependent variable under the conditions of budget balancing, i.e. C=Yw and market clearing, i.e. X=O. Note that the ray in the southeastern quadrant is not a linear production function; the ray tracks any underlying production function. Note also that the wage rate W is an average if the individual wage rates are different among the employees, which is normally the case.

Under the conditions of market clearing and budget balancing in each period the price is given by P=W/R, i.e. the market clearing price is always equal to unit wage costs.

If the wage rate W is lowered, the market clearing price P falls. If the number of working hours L is increased the price remains constant, provided productivity R does not change. If productivity decreases the price P rises. If productivity increases the price falls. In any case, labor gets the whole product, the real wage W/P is invariably equal to the productivity R, and profit for the business sector as a whole is zero. All changes in the system are reflected by the market clearing price.

We know, of course, that the firm sets a price which is different from the market clearing price. This case has to be treated separately on another occasion.

In the next period, the households save. The result is shown here.


Consumption expenditure C falls below Yw and with it the market clearing price P. With perfect price flexibility there are no unsold quantities and no change of inventory. The product market is always cleared and there is no such thing as an inventory investment. So we have household sector saving but no business sector investment, that is, monetary saving which is given by Sm≡Yw−C is not equal to investment.*

The crucial conclusion is that the business sector makes a monetary loss which is exactly equal to the household sector’s saving, i.e. Qm=−Sm Therefore, loss is the exact counterpart of saving; by consequence, profit is the exact counterpart of dissaving, that is, of the growth of household sector’s debt. This is the most elementary form of the macroeconomic Profit Law. It follows directly from the profit definition Qm≡C−Yw and the definition of household sector saving Sm≡Yw−C. The sector balances always add up to zero, i.e. Qm+Sm=0.

Note well that profit for the economy as a whole has nothing at all to do with productivity or the wage rate. And this is why all stories that economists tell about the functioning of the market system and the price mechanism are false (2014). For an individual firm, there is indeed a relationship between productivity or wage rate and profit. But this relationship cannot be generalized for the economy as a whole. This logical mistake is known since antiquity as Fallacy of Composition. This methodological blunder is the defining characteristic of microeconomics, so much so that the representative economist could well be characterized as a Fallacy of Composition on two legs.

The Profit Law for the investment economy reads Qm=Yd+I−Sm (2014, eq. (18)). Legend:  Qmonetary profit, Yd distributed profit, Smonetary saving, I investment expenditure.

The Profit Law gets a bit more complex when foreign trade and government is included.

The Profit Law contains nothing but measurable variables, which means that its empirical fit can be readily established. This ultimately leads from the worthless political economics and the silly model bricolage of the representative economist to economics as a science.

The most valuable contribution to science the non-economist can actually make is to bring in his circle of influence an end to the incompetent waffling of Walrasians, Keynesians, Marxians, and Austrians. Peer-reviewed journal articles, standard textbooks, debates between the sects, and Dani Rodrik’s recent junk recycling are wasteful in all material and intellectual dimensions. To expect New Economic Thinking from people who have demonstrated over two centuries that they can not think is futile.

Egmont Kakarot-Handtke


References
Desai, M. (2008). Profit and Profit Theory. In S. N. Durlauf, and L. E. Blume (Eds.), The New Palgrave Dictionary of Economics Online, pages 1–11. Palgrave Macmillan, 2nd edition. URL
Kakarot-Handtke, E. (2014). The Three Fatal Mistakes of Yesterday Economics: Profit, I=S, Employment. SSRN Working Paper Series, 2489792: 1–13. URL
Schoeffler, S. (1955). The Failures of Economics: A Diagnostic Study. Cambridge, MA: Harvard University Press.
Stigum, B. P. (1991). Toward a Formal Science of Economics: The Axiomatic Method in Economics and Econometrics. Cambridge, MA: MIT Press.

* For details of the I=S blunder see cross-references Refutation of I=S


Related 'How economists became the scientific laughing stock' and 'Scientific Cavemen with a daunting message' and 'The ur-blunder of economics and its rectification' and 'Profit and the collective failure of economists' and 'Free the academy from economics' and 'First Lecture in New Economic Thinking' and the working papers:
'The Profit Theory is False Since Adam Smith. What About the True Distribution Theory?'
'Essentials of Constructive Heterodoxy: Profit'

A PDF-version of this post is available on EconoPhysics and on SSRN.

It is shrinking debt which eventually explodes the market economy

Comment on David R. Richardson on ‘What does “too much government debt” mean in a stock-flow consistent model?’

Blog-Reference

You are right, of course, in summarizing that representative agent models are worse than dilettantish. How anybody at the IMF could ever have taken this stuff seriously is a mystery. What can be observed with the naked eye is what you call a ‘failure of the instincts of many economists and others’.

You are right, of course, to point out that Godley and Lavoie’s approach is the correct one and that every economic model has to satisfy stock-flow consistency. There can be absolutely no doubt and no discussion about this. The two well-known criteria of science are formal and material consistency.

The sad fact is, though, that there is a logical flaw in how Godley and Lavoie define stock-flow consistency. To be precise the fundamental error/mistake is to be found on page 8: “Over any accounting period expenditure has to be equal to income and, as a consequence in a simple model investment must be equal to savings.”

This blunder goes back to Keynes and After-Keynesians have not realized until this very day that Keynes had messed up the formal foundations of the General Theory with this two-liner “Income = value of output = consumption + investment. Saving = income - consumption. Therefore saving = investment.” (1973, p. 63)

The fatal flaw of Keynes’s and Godley/Lavoie’s approach is that the underlying profit theory is false (2011). And it should be beyond any doubt that if one gets the pivotal concept of economics wrong all the rest of one’s theory is vacuous, to say the least. For the rectification of the accounting approach see (2012).

From this follows that your treatment of the debt problem is not substantially better than what standard economics has delivered. The real crux of the debt problem lies in the stock-flow relationship between change of debt (household sector’s and government sector’s) and overall profit/loss of the business sector and that means that the market economy breaks down as soon as overall household and government sector’s debt is redeemed (2014; 2013).

The present state of economics is that neither Orthodoxy nor Heterodoxy has an idea how the market economy works.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2011). Why Post Keynesianism is Not Yet a Science. SSRN Working Paper Series, 1966438: 1–20. URL
Kakarot-Handtke, E. (2012). The Common Error of Common Sense: An Essential Rectification of the Accounting Approach. SSRN Working Paper Series, 2124415: 1–23. URL
Kakarot-Handtke, E. (2013). Redemption and Depression. SSRN Working Paper Series, 2343561: 1–28. URL
Kakarot-Handtke, E. (2014). Mathematical Proof of the Breakdown of Capitalism. SSRN Working Paper Series, 2375578: 1–21. URL
Keynes, J. M. (1973). The General Theory of Employment Interest and Money. The Collected Writings of John Maynard Keynes Vol. VII. London, Basingstoke: Macmillan.

For details of the bigger picture see cross-references Refutation I=S

***
ADDENDUM  The brain-dead blunder with profit; comment on Nick Edmonds on ‘An SFC Version of the Diamond Growth Model’ on Dec 17

Your profit equation (6) is false and because profit is the pivotal concept in economics it holds without exception: if profit is ill-defined the whole theoretical superstructure falls apart.

For details see the related comment on David R. Richardson’ RWER No 73 article ‘What does “too much government debt” mean in a stock-flow consistent model?’ here.

For the comprehensive critique of the ubiquitous profit blunder and its final rectification see ‘How the intelligent non-economist can refute every economist hands down’.

***
REPLY  Urgent: your methodological check-up; reply to Nick Edmonds on Dec 18

You maintain “You can’t say it’s false, because it’s no more than a definition.” This is what Humpty Dumpty always said — and it is pure methodological nonsense. See ‘The Humpty Dumpty methodology’ and ‘Humpty Dumpty is back again

There is no such thing as freedom of definition. This freedom is restricted by the requirement of consistency. Logical consistency, though, has never been a strong point of economists. For more on scientific incompetence see the cross-references.

So, indeed, I can say it is false, because it is provably false. No room for the usual wish-wash.

***
REPLY  to Nick Edmonds on Dec 19

The common usage including SNA is provably false as demonstrated in ‘The Common Error of Common Sense: An Essential Rectification of the Accounting Approach

Your appeal to authority is beside the point. The fact of the matter is that ‘the EC, the IMF, the OECD, the UN and the World Bank’ employ Humpty Dumpty economists who even messed up the elementary mathematics of accounting. Ever wondered why economics never got above the level of silly model bricolage?

December 15, 2015

Nothing to choose

Comment on Lars Syll on ‘Dani Rodrik’s smorgasbord view of economic models’

Blog-Reference

Dani Rodrik repackages and recycles the orthodox approach which is known to be logically and materially inconsistent.*

This is standard operation procedure and would not be remarkable except for the fact that Heterodoxy recycles since more than 70 years Keynes’s approach which is also known to be logically and materially inconsistent (2011).

Progress in economics essentially consists of putting from time to time a new face on old crap. New marketing concepts and more fancy graphics for illiterate students, though, should not be confounded with New Economic Thinking.

Mirowski once put it nicely: “If this was New Thinking, one trembles to contemplate what Old Thinking had looked like.” (2013, p. 160)

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2011). Why Post Keynesianism is Not Yet a Science. SSRN Working Paper Series, 1966438: 1–20. URL
Mirowski, P. (2013). Never Let a Serious Crisis Go to Waste. London, New York, NY: Verso.

* See ‘How economists became the scientific laughing stock
* See ‘Is Keynes acceptable?