April 21, 2016

The economic Sisyphus: Forever kicking the can down the wrong road

Comment on Arjun Jayadev on ‘ The Road not Taken’

Blog-Reference and Blog-Reference on Apr 23

Arjun Jayadev summarizes: “He [Axel Leijonhufvud] forcefully argued that the free movement of wages and prices can sometimes be destabilizing and could move the economy away from full employment. That helped understand the Great Depression. At that period, wages were highly flexible and all that seemed to occur as they fell was further devastating unemployment.”

Leijonhufvud asked himself: “Had the whole discipline catastrophically misunderstood Keynes’ deeply revolutionary ideas?”

The answer is yes. What is more: “But Keynes, too, sometimes gave the impression of not having fully grasped the logic of his own system.” (Laidler, 1999, p. 281). What is even more, After-Keynesians including Leijonhufvud have not gotten the point to this day.

Keynes defined the formal foundations of the General Theory as follows: “Income = value of output = consumption + investment. Saving = income − consumption. Therefore saving = investment.” (1973, p. 63)

This elementary two-liner is conceptually and logically defective because Keynes never came to grips with profit and therefore “discarded the draft chapter dealing with it.” (Tómasson et al., 2010, p. 12).

Keynes's original blunder kicked off a chain reaction of errors/mistakes with these results:
• All I=S/IS-LM models are false since Keynes and Hicks (2011; 2014).
• Keynes’ profit conundrum has not been solved by After-Keynesians. The correct Profit Law for the investment economy reads Qm≡Yd+I−Sm (2014, p. 8, eq. (18)). Legend: Qm monetary profit, Yd distributed profit, I investment expenditures, Sm monetary saving.
• Keynes got the Employment Law wrong (2012). The correct macroeconomic Employment Law/ Phillips Curve is shown on Wikimedia AXEC62:

The structural employment multiplier is different from Keynes’ behavioral multiplier. The main difference consists of the ratio ρF≡W/PR. This variable embodies the macroeconomic price mechanism. It works such that overall employment INCREASES if the average wage rate W INCREASES relative to average price P and productivity R. Or vice versa: the downward flexibility of wages INCREASES unemployment. And this is EXACTLY what happened in the Great Depression as Leijonhufvud correctly observed.

The crucial point to note is that the price mechanism does NOT work as standard economics hallucinates. So economists are groping in the dark with regard to the two most important features of the economy: (1) the profit mechanism, and (2), the price mechanism. No surprise, then, that economics is a failed science.

Keynes missed the right road. But so did After-Keynesians including Leijonhufvud. Of course, it is correct of Leijonhufvud to emphasize that the road Neo-Walrasians have taken is even more beyond hope.

Egmont Kakarot-Handtke

Kakarot-Handtke, E. (2011). Why Post Keynesianism is Not Yet a Science. SSRN Working Paper Series, 1966438: 1–20. URL
Kakarot-Handtke, E. (2012). Keynes’ 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
Keynes, J. M. (1973). The General Theory of Employment Interest and Money. London, Basingstoke: Macmillan.
Laidler, D. (1999). Fabricating the Keynesian Revolution. 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

Related 'The unfinished Keynes (I)' and 'Finalizing the Keynesian Revolution' and 'The general theory of scientific incompetence'. For details of the big picture see cross-references Refutation of I=S.