Monday, 28 September 2015

Keynesianism, market monetarism & Austro-classical compared [update 2]

Paul Krugman has a new post he says “summarises” Keynesian economics:

1. Economies sometimes produce much less than they could, and employ many fewer workers than they should, because there just isn't enough spending. Such episodes can happen for a variety of reasons; the question is how to respond.
2. There are normally forces that tend to push the economy back toward full employment. But they work slowly; a hands-off policy toward depressed economies means accepting a long, unnecessary period of pain.
3. It is often possible to drastically shorten this period of pain and greatly reduce the human and financial losses by "printing money", using the central bank's power of currency creation to push interest rates down.
4. Sometimes, however, monetary policy loses its effectiveness, especially when rates are close to zero. In that case temporary deficit spending can provide a useful boost. And conversely, fiscal austerity in a depressed economy imposes large economic losses.

Scott Sumner does the equivalent for market monetarism. “It might look something like the following,” he says:

1. Economies sometimes produce much less than they could, and employ many fewer workers than they should, because there just isn't enough spending. Such episodes occur because monetary policy is too contractionary, causing NGDP to fall relative to the (sticky) wage level.
[As an aside, economies can also produce too little due to real shocks, such as higher minimum wages. That's also true in the Keynesian model.]
2. There are normally forces that tend to push the economy back toward full employment. But they work slowly; a hands-off policy toward depressed economies means accepting a long, unnecessary period of pain.
[Notice this one is identical.]
3. It is often possible to drastically shorten this period of pain and greatly reduce the human and financial losses by "printing money", using the central bank's power of currency creation to boost M*V, i.e. NGDP, via the "hot potato effect."
4. Monetary policy remains highly effective at the zero bound. As a result, demand-side fiscal policy is mostly ineffective in countries with an independent monetary authority---offset by monetary policy. Fiscal actions that shift the aggregate supply curve, however, can be effective.

Rather than directly challenge either, I figured it might simply be interesting to compare Austro-classical position on their points. (I have added a point ‘zero’ however since, as Hayek used to say, before you can talk about how things go wrong you first have to understand how they go right, something about which both Keynesian economics and so-called “market monetarism” are all too silent ) :

0. The economic system is driven by production, not consumption or “aggregate demand” (consumption is the final cause, but production is the efficient cause that makes it possible.) Production happens and people are employed because entrepreneurs and capitalists advance capital from previous production into long-term value-adding production plans. Capital spending comes from saving; it is productive consumption.

1. Economies sometimes produce much less than they could, and employ many fewer workers than they should, because malinvestment has increased, production plans have got out of whack, and capital spending has consequently diminished.

2. There are forces that tend to push the economy back toward fuller investment and greater employment. Government intervention however increases uncertainty, and monetary intervention encourages capital consumption.

3. It is often possible to drastically lengthen this period of pain and greatly reduce the human and financial losses by pumping out counterfeit capital: reducing interest rates (which discourages saving, and so reduces the ability of destroyed capital to be rebuilt), discouraging wage and price reduction to fit reduced economic circumstances and encouraging consumption (which increases unemployment and human misery) and encouraging consumption instead of saving. There is no choice about the pain of a correction, only about how long it takes. With more intervention it can take years; without it, just months. [Compare, for instance, the 1920/21 depression with that beginning in 1929.]

4. Monetary pumping and credit creation create confusing and destructive price movements and bubbles—and is the primary driver of the business cycle. Government spending crowds out private investment; deficit spending shifts already-diminished capital from investment into consumption.

UPDATE 1: The blurb for the just-released revised and updated edition of Mark Skousen’s modern Austrian classic The Structure of Production goes some way to explaining what the mainstream don’t see that Austroclassicals do:

The almost total inability of economists of the mainstream to make sense of the macroeconomy is because they look only at final demand. To them, the rest of the economy is a black box about which they know next to nothing. And emphasising how little they even understand about what they need to know, the most important statistic for the past seventy years has been the national accounts which measures how much final output is produced. It is why there are still economists who think that our economy is 60% consumption, when that part of the economy is around 5% at best. The rest is that vast hinterland of productive efforts that move resources from the ground and the forest through various stages of processing to the distributors and then, but only then, to retail outlets for final sale. The man who has done the work of Hercules in overturning this shallow and narrow approach is Mark Skousen. Do you wish to know more about this approach and how better to understand how an economy works, this is the go-to book, now released in its third edition.
Mark Skousen, The Structure of Production. New York University Press
Third revised edition, 2015, 402 pages. $26 paperback. Available on Kindle.

Naturally, the book goes a long, long long way to explaining the difference …

UPDATE 2: Another major difference that you might add as Krugman’s fifth point …

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