September 27, 2016

The choice between Friedmanian pest and Keynesian cholera

Comment on Brad DeLong on ‘The Stakes of the Helicopter Money Debate: A Primer’


Brad DeLong summarizes: “The Great Moderation of the business cycle from 1984-2007 was a rich enough pudding to be proof, for the rough consensus of mainstream economists at least, that Keynes had been wrong and Friedman had been right. But in the aftermath of 2007 it became very clear that they — or, rather, we, ... — were very, tragically, dismally and grossly wrong.”

And then he continues: “Now we face a choice ...”

No, there never has been a choice between the Friedmanians and Keynesians because BOTH are wrong. Both are groping in the dark with regard to the two most important features of the market economy: the profit mechanism and the price mechanism. Because of this, the discussion about monetary and fiscal policy, or helicopter money for that matter, never had more scientific content than free ink-blot association.

“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 no true theory. Economics is a failed science. What Friedmanians and Keynesians have to offer is political opinion without sound scientific foundation.

For the proof let us very briefly turn to the formally and empirically correct employment theory (2012; 2014). The basic version of the objective structural employment equation is shown on Wikimedia. From this equation follows inter alia:
(i) An increase of the expenditure ratio rhoE leads to higher employment (the letter rho stands for ratio).
(ii) Increasing investment expenditures I exert a positive influence on employment,
(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.

Items (i) and (ii) cover Keynes’s arguments about the role of aggregate demand, which have been commonsensically right but formally defective. The factor cost ratio rhoF as defined in (iii) embodies the price mechanism which works very different from what the representative economist hallucinates. As a matter of fact, overall employment (in the world economy or a closed national economy) INCREASES if the average wage rate W INCREASES relative to average price P and productivity R.

So, in simple terms, full employment (in any definition) can be achieved by increasing aggregate demand or by INCREASING the average wage rate (or by a combination of the two).

The second alternative is preferable to Keynesian deficit spending* but it is the very opposite of what the broad consensus always told the world: “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.” (Tobin, 1997, p. 11)

Both, the Friedmanian and Keynesian approaches have produced misleading policy advice. Unemployment is ultimately the result of theory failure. Before economists can hope to be taken seriously they have to do some scientific homework.

Egmont Kakarot-Handtke

Kakarot-Handtke, E. (2012). Keynes’s Employment Function and the Gratuitous Phillips Curve Desaster. SSRN Working Paper Series, 2130421: 1–19. URL
Kakarot-Handtke, E. (2014). Towards Full Employment Through Applied Algebra and Counter-Intuitive Behavior. SSRN Working Paper Series, 2456184: 1–25. 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 post ‘Keynesianism as ultimate profit machine

REPLY to Ray LaPan-Love on Sep 28

You say: “I get the sense that you expect too much from the ‘dismal science’.”

I get the sense that you have some trouble with clear thinking. It is very well known and communicated each year in no uncertain terms that economics is a science: “Bank of Sweden Prize in Economic Sciences in Memory of Alfred Nobel”.

Science is well-defined by the criteria of 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)

It is a provable fact that neither Walrasianism, nor Keynesianism, nor Marxianism, nor Austrianism is materially/formally consistent. All these approaches are axiomatically false, that is, beyond repair.*

If you think that it is ‘too much’ to demand from economics to live up to scientific standards then you have to see to it, firstly, that the word ‘sciences’ is eliminated from the “Bank of Sweden Prize in Economic Sciences”. The general public has to be informed that the 200 year old claim and the actual state of economics do not match. It follows, secondly, that economists have to be expelled from the scientific community. It follows, thirdly, that organizations like the AEA refrain from speaking in the name of science.

Your argument misses the point. I expect nothing from the currently active and failed economists other than to drop the claim that they are doing science. This claim is ‘too much’.

* See post ‘All models are false because all economists are stupid