March 23, 2015

Vacuonomics II

Comment on ‘A Quick Point on Models’


Economists are in the state of manifest self-delusion. They are convinced that what they do is science.

“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’.” (Clower, 1994, p. 809)

Keynes provides as good an example as any classical or neoclassical economist. JW Mason writes:
“According to Keynes the purpose of economics is ‘to provide ourselves with an organised and orderly method of thinking out particular problems’.” (See intro post)

Let us accept this for the moment and see how it plays out in practice. As a centerpiece of his General Theory Keynes formulated the foundational syllogism of macroeconomics.

“Income = value of output = consumption + investment. Saving = income - consumption. Therefore saving = investment.” (1973, p. 63)

The fault in Keynes's two-liner is in the premise income = value of output. It can be formally demonstrated that this equality holds only in the limiting case of zero profit in both the consumption and investment good industry (2014b). Keynes himself felt that something was wrong with profit but he could not identify it.

“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 and Bezemer, 2010, p. 12)

Keynes was first and foremost a political economists and this means — as a matter of principle — that methodological trivia are never allowed to derail the good cause.

“For Keynes as for Post Keynesians the guiding motto is ‘it is better to be roughly right than precisely wrong!’” (Davidson, 1984, p. 574)

The real scientist's motto is of course ‘It is better to be precisely right than roughly wrong.’ When von Neumann considered the overall poor performance of economics he came to this conclusion.

“I think it is the lack of quite sharply defined concepts that the main difficulty lies, and not in any intrinsic difference between the fields of economics and other sciences.” (quoted in Mirowski, 2002, p. 146 fn. 49)

Indeed, when profit is not correctly defined, income is not correctly defined, and then saving is not correctly defined. It is with profit where the confusion about saving ‘equals’ investment starts. In addition, when income and profit are not correctly defined then distribution theory goes down the tube. And this in turn means that Piketty's study lacks sound conceptual foundations already long before he comes to the definition of capital.

The representative economist is not much disturbed by all this. He builds one zero profit and I=S model after the other (2014a). Economics has its own methodology.

“The test of a good model is not whether it corresponds to the true underlying structure of the world, but whether it usefully captures some of the regularities in the concrete phenomena we observe.” (see intro)

The sun goes up: this model ‘usefully captures some of the regularities we observe.' Indeed. Another regularity since more than two hundred years is that the representative economist cannot tell the difference between income and profit. It can hardly be denied that this distinction is fundamental for all economic models. Yet, neither in the Keynesian nor the Walrasian context it is carried out correctly.

The quickest point on economic models is therefore that they do not satisfy the most elementary methodological requirements. Or, in Joan Robinson's unsurpassable tweet format: Scrap the lot and start again.

Egmont Kakarot-Handtke

Clower, R. W. (1994). Economics as an Inductive Science. Southern Economic Journal, 60(4): 805–814.
Davidson, P. (1984). Reviving Keynes’s Revolution. Journal of Post Keynesian Economics, 6(4): 561–575. 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. (1936).
Mirowski, P. (2002). Machine Dreams. Cambridge: Cambridge University Press.
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