December 25, 2016

The one stone that kills orthodox and heterodox employment theory

Comment on Asad Zaman on ‘Keynesian Unemployment’


The Post Keynesian critique of Orthodoxy as articulated by Zaman, Syll, Davidson, Fullbrook, and many others on the RWER blog continues the tradition of heterodox blah blah economics that cannot get beyond the repetitive enumeration of Orthodoxy’s most obvious blunders. The incompetence of Heterodoxy guarantees the indefinite prolongation of Orthodoxy’s zombie state.

Heterodoxy claims for 80+ years that Keynesian employment theory is superior. This is NOT the case. The simple fact of the matter is that Keynesian macro is as unacceptable as microfounded macro.

Here is the exact point where macroeconomics has gone wrong: Keynes defined the formal core of the General Theory as follows “Income = value of output = consumption + investment. Saving = income − consumption. Therefore saving = investment.” (p. 63)

This elementary two-liner is defective because Keynes never came to grips with profit. The initiator of the Keynesian Revolution had NO idea of the pivotal concepts of economics, viz. profit and income, and After-Keynesians never detected or rectified his foundational blunder. An economist who cannot tell the difference between profit and income is a laughing stock. This applies to orthodox economists as well as to Zaman, Syll, Davidson, Fullbrook, and the rest of dim bulbs.

To get out of failed Keynesianism requires nothing less than a full-blown paradigm shift to entirely new macrofoundations. In the following, a sketch of the consistent macroeconomic employment theory is given.*

The elementary version of the objective-systemic Employment Law for the investment economy (no government, no foreign trade) is shown on Wikimedia AXEC62:

From this equation follows:
(i) An increase in the expenditure ratio ρE leads to higher employment (the Greek 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 Employment Law gets a bit longer and contains in addition profit distribution, public deficit spending, and import/export.

Item (i) and (ii) cover Keynes’ well-known arguments about aggregate demand. The factor cost ratio ρF as defined in (iii) embodies the price mechanism which, however, does not work as standard economics assumes. As a matter of fact, overall employment INCREASES if the AVERAGE wage rate W INCREASES relative to average price P and productivity R. This implication is readily testable against standard economics.

The systemic Employment Law is the one stone that kills the orthodox employment theory, the Keynesian employment theory, the Keynesian multiplier, all IS-LM models, the stickiness argument, and the (Bastard-) Phillips curve including the natural rate hypothesis. This is bad news for the brotherhood of orthodox and heterodox blatherers.

Egmont Kakarot-Handtke

* All details are to be found in the working papers on SSRN.

Related 'Econ 101 is dead ― and now?' and 'Rethinking the multiplier' and 'How to end the futile economics zombie ping-pong' and 'Unemployment is high because economics is false'.