Gibson Hall, London, venue for DevCon1, 9-13 November 2015. There was some irony in holding a conference to discuss technology developments in blockchains and distributed ledgers in a grand, neo-classical heritage-listed building erected in 1865. At least it was fitting that a technology currently taking the financial world by storm should be debated in what was designed to be a banking hall (for Westminster Bank). The audience was split fairly evenly between dreadlocked libertarians & cryptocurrency enthusiasts and bankers & lawyers in smart suits: cyberpunk meets Gordon Gekko.
Archive for the 'Economics' Category
The truly criminal destruction by the Troika of the Greek economy and Greek society that we have witnessed these last five years may have one good outcome: it may bring down at least one of the organizations responsible, according to this scathing indictment by Ambrose Evans-Pritchard in the London Telegraph today. An excerpt:
The International Monetary Fund is in very serious trouble. Events have reached a point in Greece where the Fund’s own credibility and long-term survival are at stake.
The Greeks are not withholding a €300m payment to the IMF because they have run out of money, though they soon will do.
Five key players in the radical-Left Syriza movement – meeting in the Maximus Mansion in Athens yesterday – took an ice-cold, calculated, and carefully-considered decision not to pay.
They knew exactly what they were doing. The IMF’s Christine Lagarde was caught badly off guard. Staff officials in Washington were stunned.
On one level, the “bundling” of €1.6bn of payments due to the IMF in June is just a technical shuffle, albeit invoking a procedure last used by Zambia for different reasons in the 1980s. In reality it is a warning shot, and a dangerous escalation for all parties.
Syriza’s leaders are letting it be known that they are so angry, and so driven by a sense of injustice, that they may indeed default to the IMF on June 30 and in so doing place the institution in the invidious position of explaining to its 188 member countries why it has lost their money so carelessly, and why it has made such a colossal hash of its affairs.
The Greeks accuse the IMF of colluding in an EMU-imposed austerity regime that breaches the Fund’s own rules and is in open contradiction with five years of analysis by its own excellent research department and chief economist, Olivier Blanchard.
Greece’s public debt is 180pc of GDP. The loans are in a currency that the country does not control. It is therefore foreign currency debt. The IMF knows that Greece cannot possibly pay this down by draconian austerity – the policy already implemented for five years with such self-defeating effects – and the longer it pretends otherwise, the more its authority drains away.
It is has pushed for debt relief behind closed doors but only half-heartedly, unwilling to confront the EMU creditor powers head on. Objectively, it is acting as an imperialist lackey – as Greek Marxists might say.
Indeed, it has brought about the worst possible outcome. The Fund’s man on the ground in Athens – Poul Thomsen – has pushed the austerity agenda with a curious passion that shocks even officials in the European Commission, pussy cats by comparison.
This would be justifiable (sort of) if the other side of the usual IMF bargain were available: debt relief and devaluation. This how IMF programmes normally work: impose tough reforms but also wipe the slate clean on debt and restore crippled countries to external viability.
It is a very successful formula. On the rare occasion when the IMF goes wrong it is usually because it tries to prop up a fixed-exchange rate long past its sell-by date.
All of this went out of the window in Greece. The IMF enforced brute liquidation without compensating stimulus or relief. It claimed that its policies would lead to a 2.6pc contraction of GDP in 2010 followed by brisk recovery.
What in fact happened was six years of depression, a deflationary spiral, a 26pc fall in GDP, 60pc youth unemployment, mass exodus of the young and the brightest, chronic hysteresis that will blight Greece’s prospects for a decade to come, and to cap it all the debt ratio exploded because of the mathematical – and predictable – denominator effect of shrinking nominal GDP.
It is a public policy scandal of the first order. One part of the IMF has issued a mea culpa admitting that its own analysts misjudged the fiscal multiplier badly. Plaudits to them.
Another part of the Fund continues to push new variants of the same indefensible policies, demanding a combined fiscal squeeze from pension cuts and VAT rises equal to 1pc of GDP this year and 2pc next year even as the economy lurches back into recession.
Ashoka Mody, former chief of the IMF’s bail-out in Ireland, refuses to criticise his former colleagues on the European desk, but the meaning of the words I quoted last night are clear enough.
“Everything that we have learned over the last five years is that it is stunningly bad economics to enforce austerity on a country when it is in a deflationary cycle. Trauma patients have to heal their wounds before they can train for the 10K.”
“I am frankly shocked that we are even having a discussion about raising VAT at all in these circumstances. We have just seen a premature rise in VAT knock the wind out of a country as strong as Japan.”
“Syriza should recruit the IMF’s research department to be their spokesman because they are saying almost exactly the same thing as Syriza on the economics of this. The entire strategy of the creditors is wrong and the longer this goes on, the more is its going to cost them.”
The IMF’s Original Sin in Greece was to allow the urbane Parisian Dominique Strauss-Kahn to hijack the institution to prop up Europe’s monetary union and the European banking system when the crisis erupted in 2010.
The Fund’s mission is to save countries, not currencies or banks, and it certainly should not be doing dirty work for a rich currency union that is fully capable of sorting out its own affairs, but refuses to do so for political reasons.
It was of course a difficult moment in May 2010. The eurozone was spinning out of control. There were no backstop defences – due to the criminal negligence of Europe’s leaders and banking regulators – and fears of a euro-Lehman were all too real.
Yet leaked minutes from the IMF board meetings showed that all the emerging market members (and Switzerland) opposed the terms of the first loan package for Greece. They protested that it was intended to save the euro, not Greece.
It loaded yet more debt onto the crushed shoulders of an already bankrupt country, and further complicated the picture by allowing one large French bank and one German bank – no names please – to offload much of their €25bn combined exposure onto EMU taxpayers.
“Debt restructuring should have been on the table,” said Brazil’s member. The loans “may be seen not as a rescue of Greece, which will have to undergo a wrenching adjustment, but as a bailout of Greece’s private debt holders, mainly European financial institutions”.
Arvind Virmani, India’s member, was prophetic. “The scale of the fiscal reduction without any monetary policy offset is unprecedented. It is a mammoth burden that the economy could hardly bear,” he said.
“Even if, arguably, the programme is successfully implemented, it could trigger a deflationary spiral of falling prices, falling employment and falling fiscal revenues that could eventually undermine the programme itself.” This is exactly what has happened.
The Fund might have atoned later by acknowledging its special duty of care towards Greece and softening the terms. It did not do so. We should hardly be surprised if Syriza is now on the warpath.
The IMF needs to be careful. It has itself become an emblem of bad governance. Mr Strauss-Kahn was caught in flagrante delicto, only to be replaced instantly in a political stitch-up by another French finance minister (of quality and integrity – but that is not the point). Mr Strauss-Kahn’s predecessor was recently indicted in Spain for fraud.
The institution cries out for reform. There is no justifiable reason why the job of managing-director should go by divine right to a European, nor why the Europeans still control eight seats on the IMF board.
. . .
These anomalies should have been sorted out at the time of the Strauss-Kahn debacle – along with quota reform blocked by the US Congress – all the more so since China and a host of rising reserve powers were already bursting onto the scene by then.
Leadership failed. The West disgraced itself. No wonder Asia is now going its own way with a rival set of bodies.
Greece’s firebrand government is bringing matters to a head for an institution already in trouble, but one with a superb staff and still worth saving.
Mrs Lagarde must stop playing the role of a diplomat. She must take off her European hat and speak instead for the organisation she leads and for the world.
She must confront the EMU creditors head on and in public. She must tell them, in blunt language, that they share much of the blame for the current impasse.
She must make it clear to them that Greece needs sweeping debt relief – as a matter of economic science, whatever the morality – and that the refusal of the creditors to face up to this elemental fact is now the chief impediment to a solution. And she should tell them that the IMF will no longer play any part in their deceitful charade.
If she does not do so, and if the lack of leadership by Europe’s political class leads to a catastrophic denouement on every level, then let it be on her head too.
Yanis Varoufakis, Greek Minister for Finance, speaking at a press conference in Berlin on 5 February 2015:
“As finance minister in a government facing from day one emergency circumstances caused by a savage debt deflationary crisis, I feel that the German nation is the one nation in Europe that can understand us better than anyone else.
No-one understands better than the people of this land how a severely depressed economy, combined with a ritual national humiliation and unending hopelessness can hatch the serpent’s egg within its society.
When I return home tonight, I will find myself in a parliament in which the third-largest party is not a neo-Nazi party, it is a Nazi party.”
West Germany received debt relief in 1953, yet now deny it to the rest of Europe. The hypocrisy and economic negligence of the German government of Mrs Merkel reminds me of the British Government’s hypocrisy in the Great Depression: insisting that Australian Federal and State Governments continue to pay all interest and loans owed to British lenders, while at the same time seeking debt relief for British loans from American creditors. Every Australian economist, including no doubt the very impressive former Sydney University academic Dr Varoufakis, knows the name of Sir Otto Niemeyer, bullying representative of colonial rapacity. The unspeakable Mrs Merkel and her condescending ilk will, like Niemeyer, live long in the memory of Greeks.
Niemeyer came first in the 1906 British Civil Service entrance examination in which John Maynard Keynes came second, according to Richard Davenport-Hines’ fine new biography of Keynes.
It was, of all people, Elizabeth Windsor who laid the charge most forcefully. Opening a new building at the LSE, weeks after Lehman Brothers imploded, she asked one of the dons why no one had seen the meltdown coming. In the years since, it has often seemed as if students are more serious than their lecturers about pursuing the monarch’s concern.
Undergraduates at Sheffield and Cambridge have set out to rattle the foundation stones of their discipline. In Manchester, they went further, organising the Post-Crash Economics Society and securing more eclectic instruction, through a new Bubbles, Panics and Crashes module. Covering the former Fed boss, Ben Bernanke, as well as the interwar Marxist, Kalecki, the course was not reducible to right or left. It offered something closer to economics as understood in Keynes’s Cambridge. Manchester, however, has now declined to accredit the course, and instead opted to pull the plug.
There are, of course, outstanding scholars within the economics mainstream. Its pre-eminent theorist, Kenneth Arrow, wrote for the Guardian within weeks of the crisis that the discourse he helped develop – about finance improving the distribution of risk – had become increasingly vulnerable to rival analysis, which emphasised how markets go awry where buyers and sellers have different information. The roots of that evolution go back to the 1970s, but it has picked up since 2008. The mainstream can also fairly point out that “non-linear” phenomena, such as bubbles and panics, are inherently hard to predict, which half-answers the Queen’s question.
The awkward thing, however, is that there were those who spotted at least the possibility of trouble on the horizon; it is just that they were rarely mainstream economists. Several journalists were asking sharper questions than academics. To take one example, the FT’s Gillian Tett, who has a background in anthropology rather than economics, asked where the frenzied debt dance would end. A grasp of the human propensity for herding is more useful in getting a handle on bubbles and crashes than any postulations about the individualistic calculations of rational economic man.
The failure to spot the crisis raised wider questions about the discipline’s usefulness. It can shelter behind unavoidable ambiguities regarding the price of both labour and capital. Will workers respond to income tax cuts by striving for the extra earnings they can now keep or by skiving, on the basis that they can now afford to take more time off? Do high interest rates induce savers to scrimp or encourage them to go out and blow their extra return? No one can say without interrogating the data – which good economists do try to do. But hopes of clear answers are retarded by departments that treat the subject as a branch of applied mathematics, and by practitioners less concerned with the insight than the arithmetical tractability of their models.
These shortcomings go back to “the marginal revolution”, which jettisoned the dynamic, sweeping preoccupations of 19th century classical political economy in favour of a narrower but more precise concern with movements between market equilibrium. But the big questions that concerned Mill, Marx and Smith are now rearing their heads afresh.
Michael Sandel’s What Money Can’t Buy unearthed the hidden moral assumptions of all the theory. Daniel Kahneman spent his career exploring how the way economic choices are conceived affects what decisions are made, but these days he can pack out Westminster Hall by speaking about his conclusions. Now Thomas Piketty – who spent long years, during which the mainstream neglected inequality, mapping the distribution of income – is making waves with Capital in the 21st Century. Nodding at Marx, that title helps explain the attention, but his decidedly classical emphasis on historical dynamics in determining who gets what resonates in a world where an increasing proportion of citizens are feeling fleeced by the elite. The tide of intellectual history is on the side of Manchester’s students.”
Different knowledge disciplines mean different things by the verb “to understand”. For economists and physicists, a domain or a problem is not understood unless and until it is modeled, and often only by a particular type of model. For most economists, for instance, agent-based models do not provide understanding, because they only show sufficient and not necessary conclusions. For mechanical engineers, understanding usually only comes from a physical prototype. For computer programmers, understanding happens through and with the writing of a software programme for the problem. For legal scholars, it arises with and from the writing of a narrative text reflecting on the problem and its issues.
Here is economist and game theorist Ariel Rubinstein on models in economics:
Our modern, technologically-advanced, societies require very specialized knowledge and expertise to function. In such societies, it benefits individuals to specialize. Despite the beliefs of management consultants and the old Bell System, it is not true that everyone can do anything.
In the 1950s and 1960s, for instance, the British Government successfully promoted the development of a highly-specialized cadre of nuclear energy physicists and engineers, able to design, build and operate nuclear power stations. Once that technology became mature, however, Government policy shifted and it was thought that country could purchase nuclear power technology “off the shelf”; the country had no need for the skills involved (it was argued) and thus de-skilled. The French government took a different view, with the consequence today that young French nuclear engineers are in high demand in Britain.
Just as it benefits individuals to specialize, so too with cities and regions. If there are many companies in the same industry near to one another, recruitment of specialized, skilled staff is easier, exchanges of ideas and business occurs more often, and collaborative partnerships and common campaigns are facilitated. This is why, for example, the world’s leading commercial insurance companies operate near to one another in Trinity Square, London, and have done for centuries. This is why Stamford, CT, is a similar centre for insurance companies. This is why, despite the so-called abolition of distance by the Internet, the key US companies in telemedicine all operate within a few blocks of one another in Manhattan. Michael Porter’s work on regional industrial clusters has been rightly compelling in explaining the causes and consequences of these phenomena.
But what of countries? Most national borders are historical or geographic artefacts, contingent accidents of history that could well be otherwise. So, prima facie, what is true of regions should also be true of countries: it should benefit countries to specialize. Since David Ricardo’s theory of comparative advantage in 1817, economists have believed that countries gain from specialization in the production of goods for which they have relative advantage (despite the theory’s flaws). Why then do many people think it necessary for countries to NOT specialize, to have strong services sectors AND strong manufacturing industries AND a strong agricultural base? Many Marxists seem to think this – that all countries should have large manufacturing sectors – and none I have questioned has ever been able to give me a good justification as to why. (Perhaps believing that a proletarian revolution is a necessary stage of every country’s history leads one to believe that an industrial working class is also necessary, and hence a large manufacturing sector.)
Since the Great Global Recession of 2007-?, conventional public policy wisdom in Britain has been that the country’s economy needs “rebalancing” to reduce the role and proportion of financial and professional services, and increase the role of manufacturing. But why? Surely, most jobs in services are better paid, have better working conditions, and are generally more intellectually and emotionally challenging, than the repetitive, dirty, noisy, foul-smelling, physically-demanding jobs of factories. Of course, modern factories are often clean, quiet, and air-conditioned, because robots, unlike people and trades unions, refuse to work in any other conditions.
Now, according to The Economist, the British Government is planning to throw money at industrial sector strategy again – “picking winners” is the term of art. Not only did this fail last time Britain did it (in the 1960s and 1970s), but even MITI – the once all-powerful Japanese Ministry of International Trade and Industry – failed at it. Japanese attempts to enter the avionics industry were a bust, for example, despite MITI’s great desire, focus, power, and resources.
I can see a valuable role for government in overcoming problems of collective action – for example, when the actors lack knowledge of each other’s capabilities, beliefs or intentions, or when there are network effects or externalities associated to actions, or when it is in everyone’s interest to do something, but in no one’s interest to be the first to do that something. In these cases, government can can bring relevant actors or stakeholders together; it can convene; it can co-ordinate; it can develop common visons for the future; it can suggest, request, cajole, morally suade, and even harry participants to act for the collective good against their own self-interest. But none of these government actions or policies requires the government to choose winning companies or perhaps even winning sectors or regions. And none requires vast sums of money.
Ambrose Evans-Pritchard in The Telegraph:
The Troika originally said that Greece’ economy would contract by 2.6pc in 2010 under the austerity regime, before recovering with growth of 1.1pc in 2011, and 2.1pc in 2012.
In fact, Greek GDP remained in an unbroken free-fall. It did not grow in either year. It contracted a further 7.1pc in 2011, 6.4pc in 2012.
Roughly speaking, the Troika misjudged the scale of economic decline over three years by 12pc of GDP. The total decline will be around 25pc, surely a Great Depression.
Don’t tell it was hard to foresee. The Greek Labour Institute and the think tank IOVE produced very accurate forecasts. The truth is that the Troika’s ideology of “expansionary fiscal contraction” is bunk, and doubly dangerous when compounded by tight money.
Like the Spartans, Thebans, and Thespians at the Pass of Thermopylae, the Greeks were sacrificed to buy time for the alliance.
Instead of applause, they were then vilified for their heroic efforts by ill-informed and self-interested Dutch, Finnish, Austrian, and German politicians. A squalid episode.
I have been arguing against the ideas of wunderkind economist Jeffrey Sachs since his ruthless shock therapy advice in Latin America a quarter-century ago. Now he has written some JFK hagiography which contains both errors of fact and interpretation. We read:
Worse still, tensions intensified in the months between JFK’s election victory in November 1960 and his assumption of office on 20 January 1961. A long-awaited Khrushchev-Eisenhower summit failed when a CIA spy-plane was shot down in Soviet airspace just weeks before the scheduled meeting. This was par for the course: no agency did more damage more consistently to the cause of peace than the malign and bungling CIA. But Eisenhower compounded the CIA’s damage by brazenly denying the spy mission, only to have the Soviets produce both the plane’s wreckage and the captured US pilot for a global audience.
Kennedy came into office in 1961 hoping to reach a series of arms-control treaties with the Soviet Union, specifically a ban on nuclear arms testing to be followed by a nuclear non-proliferation treaty. Yet as an initially inexperienced leader, JFK drifted with events instead of leading them. The CIA reprised its spy plane bungling in a far larger and more dangerous debacle, by staging an invasion of Cuba by Cuban exiles. When the attempt immediately collapsed on the beach of the Bay of Pigs, Kennedy repeated Eisenhower’s blunder by brazenly (and ridiculously) lying to Khrushchev about the US role in the attempted invasion.”
Although planning for the Bay of Pigs operation began before Kennedy became President, he had had plently of time to cancel it. Moreover, the White House – and he, JFK!, himself personally – interfered in its planning right up to the actual event. Indeed, the specific site in Cuba of the invasion was changed – at JFK’s order, and despite CIA’s great reluctance – just 4 days before the scheduled date. Afterwards, JFK knew that he was the one ultimately responsible for its failure – responsible not merely in a hierarchical or legal sense, but actually, morally and operationally, responsible, and to his credit he took public responsibility for the operation. He did still later sack the leadership of CIA, though, since somebody needed to be punished for his failure. But his hagiographers and those who wish to attack CIA continue to put all the blame on “CIA bungling”, while the anti-Kennedy right usually blame the failure of the operation on Kennedy’s repeated refusal to provide USAF air cover for the invaders as they fought on the beach.
The chief problem of the Bay of Pigs, as I have remarked before (here and here), was not poor planning or ineffective operations or betrayal by JFK, but was existential: the operation’s aim was to convince the Castro regime that Cuba was being invaded by the full overhwelming might of the USA military and to thus scare them into running away, without actual US forces invading anything. To have used actual US military forces (including USAF airplanes) would have risked the operation escalating into a major conflagration with the USSR, Cuba’s supporters. A similar bluffing game had worked for CIA in Guatamela in 1954, but Fidel Castro was made of sterner stuff than Jacobo Arbenz, and he called the US’s bluff. To say the failure was merely due to “bungling” by CIA betrays both a lack of knowledge of the facts of the operation, and a lack of understanding of its Cold War context, when small events in far-away places often had global ramifications.
And the shooting-down of the U2 spy plane? Another bungle? “no agency did more damage more consistently to the cause of peace than the malign and bungling CIA”? I’ve not done a survey of the activities US Government agencies in the Cold War period, so I could not possibly argue that there were not other US government agencies with worse records of damage to peace than that of CIA. However, I’m sure Sachs hasn’t done a survey either, so I will take this statement as exaggerated for rhetorical effect. But even excluding the comparison, did CIA’s activies consistently damage the cause of peace? In a war, it is vital for each side to understand the enemy’s plans and intentions. This is even more so in a cold war, when much offensive and defensive activity may be undertaken indirectly or through proxies or be part of some long-term game of influence. For the West, spy agencies such as CIA played the major part in understanding the enemy’s motivating beliefs and their plans and intentions. (The same role was played by KGB and its sister agencies for the Eastern bloc.) The U2 plane shot down was part of a long-term, high-altitude espionage program that provided the West with valuable information about Soviet activities not otherwise obtainable. U2 spy planes run by CIA, for instance, first told the US Government in September and October 1962 that there were Soviet long-range missiles being installed in Cuba.
Again, to ignore or overlook this function betrays a lack of understanding of the nature of the Cold War context, when knowledge about the enemy and their actual, true, beliefs and intentions was hard to come by – for both sides. Arguably, no agencies did more to advance the cause of peace, and to prevent the Cold War escalating into a hot one, than CIA and KGB.
Lars Pålsson Syll on “orthodox, mainstream, neoclassical economics”:
Economic theory today consists mainly in investigating economic models.
Neoclassical economics has since long given up on the real world and contents itself with proving things about thought up worlds. Empirical evidence only plays a minor role in economic theory (cf. Hausman ), where models largely functions as a substitute for empirical evidence. But “facts kick”, as Gunnar Myrdal used to say. Hopefully humbled by the manifest failure of its theoretical pretences, the one-sided, almost religious, insistence on mathematical deductivist modeling as the only scientific activity worthy of pursuing in economics will give way to methodological pluralism based on ontological considerations rather than formalistic tractability.
If not, we will have to keep on wondering – with Robert Solow and other thoughtful persons – what planet the economic theoretician is on.” [page 54]
Mind you, I don’t agree with everything that Syll says in this essay. For example, he argues that good predictive capabilities require models to bear resemblance to their target domains. But we know many counter-examples to this claim, from Newton’s model of planetary motion to Friedman’s billiard players. Prediction and explanation are two orthogonal dimensions of a model, which may or may not be related in any particular case.
His essay also overlooks the fact the the so-called “real world” which is the target domain of economic models contains, at least in the case of macro-economics, mostly humanly-constructed artefacts, such as the “variables” known as inflation and unemployment rates. Having sat in working parties defining and redefining such artefacts, I am always surprised that any economist could possibly imagine they are modeling an independent reality.
Lars Pålsson Syll : What is (wrong with) economic theory? Real-world Economics Review, 55: 23-57.
The Rational Expectations model in economics assumes that each economic agent (whether an individual or a company) can predict the future as perfectly as the modelers themselves. To anyone living outside the rarified bubble of mathematical economics, this is simply ridiculous. It is clear that no one associated with that theory has ever made any real business decisions, or suffered their consequences.
Here is non-mainstream economist George Shackle, writing to Bryan Hopkins on 1980-08-20:
‘Rational expectations’ remains for me a sort of monster living in a cave. I have never ventured into the cave to see what he is like, but I am always uneasily aware that he may come out and eat me. If you will allow me to stir the cauldron of mixed metaphors with a real flourish, I shall suggest that ‘rational expectations’ is neo-classical theory clutching at the last straw.
Observable circumstances offer us suggestions as to what may be the sequel of this act or that one. How can we know what invisible circumstances may take effect in time-to come, of which no hint can now be gained? I take it that ‘rational expectations’ assumes that we can work out what will happen as a consequence of this or that course of action. I should rather say that at most we can hope to set bounds to what can happen, at best and at worst, within a stated length of time from ‘the present’, and can invent an endless diversity of possibilities lying between them. [Italics in original]
Of course, unlike John Muth or Robert Lucas, Shackle had actual real-world experience of investment decision-making from his experience during WW II on national infrastructure planning.
George L. S. Shackle : Letter to Bryan Hopkins. Quoted in: Stephen L. Littlechild : Reflections on George Shackle: Three Excerpts from the Shackle Collection. The Review of Austrian Economics, 16 (1): 113-117.