September 3, 2016

Unemployment is the outcome of political economics

Comment on Sandwichman on ‘Did Jonathan Portes Cause Brexit?’


Sandwichman characterizes the lump-of-labor fallacy as follows: “The alleged belief is indeed false, as is the claim that support for the policy in question is motivated by it. The bogus fallacy claim was a staple of 19th-century anti-trades union propaganda.” (See intro)

The key point is that there is political economics and theoretical economics and ALL political economics is proto-scientific dung.

To poke fun at the lump-of-labor fallacy is only a distraction from the real embarrassment, viz. that until this day economists have no valid employment theory. Worse, most economists still believe that the wage rate must fall in order to establish full employment: “We economists have all learned, and many of us teach, that the remedy for excess supply in any market is a reduction in price.” (Tobin, 1997, p. 11)

Walrasian, Keynesian, Marxian, and Austrian economists are groping in the dark with regard to the two most important features of the market economy: the price mechanism and the profit mechanism. The fault lies in the fact that economists argue from false premises, that is, Walrasianism in all shapes and forms (DSGE, RBC, AD/AS, etc.) argues from unacceptable microfoundations, and Keynesianism in all shapes and forms argues from false macrofoundations. To get out of failed economics requires nothing less than a paradigm shift.

In the following, a sketch of the formally and empirically correct employment theory is given. A rather elementary version of the objective structural Employment Law (2012) is shown on Wikimedia AXEC62:

From this equation follows inter alia:
(i) An increase of the expenditure ratio ρE leads to higher employment (the letter ρ stands for ratio). An expenditure ratio ρE greater than 1 indicates credit expansion, a ratio ρE 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 in the factor cost ratio ρF≡W/PR leads to higher employment.

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

Items (i) and (ii) cover Keynes’ arguments about aggregate demand, which have been commonsensically right but formally defective. More precisely, Keynes’ multiplier is provably false (see 2012). The factor cost ratio ρF as defined in (iii) embodies the price mechanism which works very differently from what the representative economist falsely assumes. 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.

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

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

Both, the Walrasian and Keynesian approaches have produced COUNTERPRODUCTIVE policy advice. Unemployment is ultimately the result of theory failure, that is, of the utter scientific incompetence of economists.

Egmont Kakarot-Handtke

Kakarot-Handtke, E. (2012). Keynes’ Employment Function and the Gratuitous Phillips Curve Disaster. SSRN Working Paper Series, 2130421: 1–19. URL
Kakarot-Handtke, E. (2015). Major Defects of the Market Economy. SSRN Working Paper Series, 2624350: 1–40. URL
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.