Archive for the 'Economics' Category Page 2 of 6



CIA and Sachs

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.




Glasperlenspielen

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 [1997]), 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]

I agree with the general thrust of this essay, which resonates with some of my own thoughts on the Glass Bead Game of Economics, for example,  here and here.

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.

Reference:

Lars Pålsson Syll [2010]:  What is (wrong with) economic theory?  Real-world Economics Review, 55: 23-57.




Shackle on Rational Expectations

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.

Reference:

George L. S. Shackle [1980]:  Letter to Bryan Hopkins.  Quoted in:  Stephen L. Littlechild [2003]: Reflections on George Shackle:  Three Excerpts from the Shackle Collection.  The Review of Austrian Economics, 16 (1): 113-117.




De mortuis nil nisi bonum

In a posthumous tribute to one of my late university lecturers, I read:

His [name of university] years were characterised by his love and enthusiasm for teaching.  His dedication to his students was reciprocated in their affection for him.  The large Economics I classes that he taught (numbering in some cases up to 400 students) were legendary.”

Although I would prefer not to speak ill of the dead, these words are a distortion of the historical truth, or at the least, very incomplete.   The lecturer concerned was certainly legendary, but mostly for his vituperative disdain for anyone who did not share his extreme monetarist and so-called “economic rationalist” views.   It is true that I did not know ALL of my fellow economics students, but of the score or so I did know, no one I knew felt they received any affection from him, nor did they reciprocate any.   Indeed, those of us also studying pure mathematics thought him innumerate.   He once told us, in a thorough misunderstanding of mathematical induction, that any claim involving an unspecified natural number n which was true for n=1, n=2, and n=3 was usually true, more generally, for all n.  What about the claim that “n is a natural number less than 4“, I wondered.

As I recall, his lectures mostly consisted of declamations of monetarist mumbo-jumbo, straight from some University of Chicago seminar, given along with scorn for any alternative views, particularly Keynesianism.  But he was also rudely disdainful of  any viewpoint, such as many religious views, that saw value in social equity and fairness.   Anyone who questioned his repeated assertions that all human actions were always and everywhere motivated by self-interest was rebuked as naive or ignorant.

In addition to the declamatory utterance of such tendentious statements,  his lectures and lecture slides included very general statements marked, “Theorem“,  followed by words and diagrams marked, “Proof“.  A classic example of a “Theorem” was “Any government intervention in an economy leads to a fall in national income.”   His proof of this very large claim began with the words, “Consider a two-person economy into which a government enters . . . ”  The mathematicians in the class objected strongly that, at best, this was an example, not a proof, of his general claim.  But he shouted us down.  Either he was ignorant of the simplest forms of mathematical reasoning, or an ideologue seeking to impose his ideology on the class (or perhaps both).

I remained sufficiently angry about this perversion of my ideal of an academic discipline that I later wrote an article for the student newspaper about the intellectual and political compromises that intelligent, numerate, rational, or politically-engaged students would need to make in order to pass his course.   That such a lecturer should be remembered as an admirable teacher is a great shame.




Krugman speaking truth to power

When the economic history of the Great Global Recession of 2007- ? comes eventually to be written, let it be recorded that many of us were profoundly opposed from the outset to the economic austerity policies pursued by Governments and central banks in Europe and elsewhere. Not only are these policies selfish, class-based, and unfair, they are also ineffective. Those of us who had heard of Keynes knew they would be ineffective before they were tried. In the case of the “rescue” of southern and peripheral Europe by northern European troikas, they are also being imposed undemocratically and unfairly, rewarding northern European private investors and bank shareholders at the expense of ordinary southern European citizens. (The effective interest rates on troika loans to Greece, which are much higher than current market rates, are truly rapacious.)

Only a handful of economists in this period are speaking truth to power. The most prominent of these is Paul Krugman. He has nailed the bastards again, in this oped article last week. Some excerpts:

The bad metaphor — which you’ve surely heard many times — equates the debt problems of a national economy with the debt problems of an individual family. A family that has run up too much debt, the story goes, must tighten its belt. So if Britain, as a whole, has run up too much debt — which it has, although it’s mostly private rather than public debt — shouldn’t it do the same? What’s wrong with this comparison?

The answer is that an economy is not like an indebted family. Our debt is mostly money we owe to each other; even more important, our income mostly comes from selling things to each other. Your spending is my income, and my spending is your income.”

Krugman could also have added that most families, unlike Governments, cannot increase their income by increasing their spending.

So what happens if everyone simultaneously slashes spending in an attempt to pay down debt? The answer is that everyone’s income falls — my income falls because you’re spending less, and your income falls because I’m spending less. And, as our incomes plunge, our debt problem gets worse, not better.

This isn’t a new insight. The great American economist Irving Fisher explained it all the way back in 1933, summarizing what he called “debt deflation” with the pithy slogan “the more the debtors pay, the more they owe.” Recent events, above all the austerity death spiral in Europe, have dramatically illustrated the truth of Fisher’s insight.

And there’s a clear moral to this story: When the private sector is frantically trying to pay down debt, the public sector should do the opposite, spending when the private sector can’t or won’t. By all means, let’s balance our budget once the economy has recovered — but not now. The boom, not the slump, is the right time for austerity.

As I said, this isn’t a new insight. So why have so many politicians insisted on pursuing austerity in slump? And why won’t they change course even as experience confirms the lessons of theory and history?

Well, that’s where it gets interesting. For when you push “austerians” on the badness of their metaphor, they almost always retreat to assertions along the lines of: “But it’s essential that we shrink the size of the state.”

Now, these assertions often go along with claims that the economic crisis itself demonstrates the need to shrink government. But that’s manifestly not true. Look at the countries in Europe that have weathered the storm best, and near the top of the list you’ll find big-government nations like Sweden and Austria.

And if you look, on the other hand, at the nations conservatives admired before the crisis, you’ll find George Osborne, Britain’s chancellor of the Exchequer and the architect of the country’s current economic policy, describing Ireland as “a shining example of the art of the possible.” Meanwhile, the Cato Institute was praising Iceland’s low taxes and hoping that other industrial nations “will learn from Iceland’s success.”

So the austerity drive in Britain isn’t really about debt and deficits at all; it’s about using deficit panic as an excuse to dismantle social programs. And this is, of course, exactly the same thing that has been happening in America.

In fairness to Britain’s conservatives, they aren’t quite as crude as their American counterparts. They don’t rail against the evils of deficits in one breath, then demand huge tax cuts for the wealthy in the next (although the Cameron government has, in fact, significantly cut the top tax rate). And, in general, they seem less determined than America’s right to aid the rich and punish the poor. Still, the direction of policy is the same — and so is the fundamental insincerity of the calls for austerity.

The big question here is whether the evident failure of austerity to produce an economic recovery will lead to a “Plan B.” Maybe. But my guess is that even if such a plan is announced, it won’t amount to much. For economic recovery was never the point; the drive for austerity was about using the crisis, not solving it. And it still is.”




Alan Greenspan in 2004

Alan Greenspan, then Chairman of the US Federal Reserve Bank System, speaking in January 2004, discussed the failure of traditional methods in econometrics to provide adequate guidance to monetary policy decision-makers.   His words included:

Given our inevitably incomplete knowledge about key structural aspects of an ever-changing economy and the sometimes asymmetric costs or benefits of particular outcomes, a central bank needs to consider not only the most likely future path for the economy but also the distribution of possible outcomes about that path. The decisionmakers then need to reach a judgment about the probabilities, costs, and benefits of the various possible outcomes under alternative choices for policy.”

The product of a low-probability event and a potentially severe outcome was judged a more serious threat to economic performance than the higher inflation that might ensue in the more probable scenario.”




Digital aspen forests

Brian Arthur has an article about automated and intelligent machine-to-machine communications creating a second digital economy underlying the first physical one, in the latest issue of The McKinsey Quarterly here.

I want to argue that something deep is going on with information technology, something that goes well beyond the use of computers, social media, and commerce on the Internet. Business processes that once took place among human beings are now being executed electronically. They are taking place in an unseen domain that is strictly digital. On the surface, this shift doesn’t seem particularly consequential—it’s almost something we take for granted. But I believe it is causing a revolution no less important and dramatic than that of the railroads. It is quietly creating a second economy, a digital one.

. . . .

We do have sophisticated machines, but in the place of personal automation (robots) we have a collective automation. Underneath the physical economy, with its physical people and physical tasks, lies a second economy that is automatic and neurally intelligent, with no upper limit to its buildout. The prosperity we enjoy and the difficulties with jobs would not have surprised Keynes, but the means of achieving that prosperity would have.

This second economy that is silently forming—vast, interconnected, and extraordinarily productive—is creating for us a new economic world. How we will fare in this world, how we will adapt to it, how we will profit from it and share its benefits, is very much up to us.”

Reference:

W. Brian Arthur [2011]:  The Second EconomyThe McKinsey Quarterly, October 2011.




O ignorance! O mores!

In the last few weeks, it was reported that mathematician Edward Nelson of Princeton had claimed to show that Peano Arithmetic, one of many possible axiomatic systems for the numbers, was internally inconsistent.   Within a short period, his claim and proof were subject to examination by other pure mathematicians, not least Terence Tao of UCLA, who thought Nelson’s argument had potential flaws.   Nelson initially defended himself and then, accepting the criticisms, retracted his claim.  More details can be found in a post by John Baez on the n-category blog, which initiated a dialog in which both Tao and Nelson participated, and where Nelson announced his retraction.   A subsequent discussion of what happened in this dialog and the lessons for the philosophy of mathematics can be found on the blog of Catarina Dutilh Novaes, a discussion to which Tao again contributed, this time on his methods.

This example of fast proposal-criticism-retraction contrasts sharply with mainstream Economics, where an error in deductive reasoning may be pointed out, with neither retraction nor revision nor apparent learning from its adherents 70 years on.  Keynes’ criticisms of conventional austerity economics were first uttered in the 1930s, and yet they still have to be repeatedRelcalcitrant ignorance indeed.

One of the key insights of Keynesian economics is that a government is not like a household:  Governments can increase their income by increasing their spending, something most households cannot do.   Another key insight is that the effect of one person doing something may be very different if many people also do it.  To see better at a baseball stadium, for instance, you can stand up, but this only works if the people in front of you stay seated; if everyone stands, you will see no better than if everyone stayed seated.    Likewise, the economy-wide effects of individuals saving may be deleterious even when the effects are beneficial for an individual.   Keynes called this the savings trap.  Instead of learning from such insights, we get a British Prime Minister telling us all in 2011 to save hard and reduce our personal debt, and treating the national budget as if he were running a a household in Grantham.




Recalcitrant ignorance in economics

British business economist John Kay has written an essay for the Institute for New Economic Thinking on the failures of mainstream macro-economics.   Among many insightful comments, there is this:

What Lucas means when he asserts that deviations are ‘too small to matter’ is that attempts to construct general models of deviations from the efficient market hypothesis – by specifying mechanical trading rules or by writing equations to identify bubbles in asset prices – have not met with much success.  But this is to miss the point: the expert billiard player plays a nearly perfect game, but it is the imperfections of play between experts that determine the result.  There is a – trivial – sense in which the deviations from efficient markets are too small to matter – and a more important sense in which these deviations are the principal thing that matters.”

Mostly agreeing with Kay, Paul Krugman repeats a point he has made before about the freshwater economists — their failure to understand the deductive implications of their own models:

Here’s what we agree on: if consumers have perfect foresight, live forever, have perfect access to capital markets, etc., then they will take into account the expected future burden of taxes to pay for government spending. If the government introduces a new program that will spend $100 billion a year forever, then taxes must ultimately go up by the present-value equivalent of $100 billion forever. Assume that consumers want to reduce consumption by the same amount every year to offset this tax burden; then consumer spending will fall by $100 billion per year to compensate, wiping out any expansionary effect of the government spending.

But suppose that the increase in government spending is temporary, not permanent — that it will increase spending by $100 billion per year for only 1 or 2 years, not forever. This clearly implies a lower future tax burden than $100 billion a year forever, and therefore implies a fall in consumer spending of less than $100 billion per year. So the spending program IS expansionary in this case, EVEN IF you have full Ricardian equivalence.”

As Krugman says:

The fact that these guys don’t even get the implications of their own models right tells us that the problem runs deeper than believing too much in abstract math. At some level it has to be political: they want to declare government policy ineffectual so badly that for all their vaunted modeling mojo they can’t be bothered to think it through, or listen to other people who point out their error.”




The macroeconomic dark ages

Paul Krugman, writing about the failings of macro-economists before and after the Great Recession, notes the wide social consequences of the pro-abstraction, anti-history turn in the study of economics this last half-century.   Sadly, this turn has been another instance of the dominance of Descartian autism in western intellectual culture.

Early in 2009, when the Obama stimulus was under discussion, I was stunned to read statements from a number of well-regarded economists asserting not merely that the plan was a bad idea in practice — a defensible idea — but that debt-financed government spending could not, in principle, raise overall spending. Here’s John Cochrane:

Continue reading ‘The macroeconomic dark ages’