June 16, 2016

Unemployment ― the fatal consequence of economists’ scientific incompetence

Comment on Asad Zaman on ‘Creating full employment’

Blog-Reference

Walrasian, Keynesian, Marxian, and Austrian economists are groping in the dark with regard to the two most important features of the market economy: (1) the profit mechanism, and (2), the price mechanism. The fault lies in the fact that economists argue from the micro level upwards to the economy as a whole. And here the fallacy of composition regularly slips in. To get out of failed economic theory requires nothing less than a full-blown paradigm shift from accustomed microfoundations to entirely new macrofoundations. In other words, the faulty axiomatic foundations of standard economics have to be replaced and Keynes’s ill-defined employment equation has to be rectified (2012).

In the following, a sketch* of the formally and empirically correct price, employment, and profit theory is given. The most elementary version of the objective structural employment equation is shown on Wikimedia.

From this equation follows:
(i) An increase of the expenditure ratio rhoE leads to higher employment (the letter rho stands for ratio). An expenditure ratio rhoE greater than 1 indicates credit expansion, a ratio rhoE less than 1 indicates credit contraction.
(ii) Increasing investment expenditures I exert a positive influence on employment, a slowdown of growth does the opposite.
(iii) An increase of the factor cost ratio rhoF=W/PR leads to higher employment.

The complete AND testable employment equation is a bit longer and contains in addition profit distribution, public deficit spending, and import/export.

Item (i) and (ii) cover Keynes’s arguments about aggregate demand. Here, the focus is on the factor cost ratio rhoF 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.

For the relationship between real wage, productivity, profit, and real shares see (2015, Sec. 10)

The correct profit equation reads: Qm Yd+I-Sm (2014, p. 8, eq. (18)).** Legend Qm: monetary profit, Yd: distributed profit, Sm: monetary saving, I: investment expenditure.

The profit equation gets a bit longer when import/export and government is included.

Note that OVERALL profit and by consequence the income distribution has NOTHING to do with productivity or low wages or market power. These and other factors affect only the DISTRIBUTION of overall profit BETWEEN firms. What holds on the firms’ level does NOT hold for the economy as a WHOLE. Not to realize this is the fatal insufficiency of economists’ feeble-minded ruminations about the relationship between (average) wage rate, price, productivity, and employment. Note also that Keynes, Marx, Kalecki, Keen, Minsky and other heterodox economists got profit PROVABLE wrong. There is nothing to choose between Orthodoxy and Heterodoxy.

Keynes’s approach is macrofounded but incomplete because he had no deeper understanding of the profit and price mechanism. Therefore, both the Walrasian and Keynesian approach produce misleading policy advice.

The structural employment equation contains nothing but measurable variables and is therefore readily testable. So, there is no need of prolonged waffling. As always in science, a test decides the matter.

The ultimate cause of unemployment is the proven scientific incompetence of orthodox AND heterodox economists since more than 200 years.

Egmont Kakarot-Handtke


References
Kakarot-Handtke, E. (2012). Keynes’s Employment Function and the Gratuitous Phillips Curve Disaster. SSRN Working Paper Series, 2130421: 1–19. URL
Kakarot-Handtke, E. (2014). The Three Fatal Mistakes of Yesterday Economics: Profit, I=S, Employment. SSRN Working Paper Series, 2489792: 1–13. URL
Kakarot-Handtke, E. (2015). Major Defects of the Market Economy. SSRN Working Paper Series, 2624350: 1–40. URL

* Students are referred to the working papers for more details.
** See Wikimedia here or here or here.