Recent Posts On John Maynard Keynes

Some prominent economist bloggers have recently commented on Keynes. Brad DeLong excoriates John Gray for asserting Keynes' view contrasts with the idea that markets are swayed by emotion, contagion, and speculation. Brad DeLong and Paul Krugman criticize Steven Landsburg for arguing as if Keynes had never overthrown Says's law.

Alex Tabarrok points out that the young Keynes kept diaries about his early (probably homo-) sexual encounters.

Some of the commentators on some of these posts are interesting. Kevin Quinn suggests that Gray's ignorance might be explained by the distorted view put forth by mainstream Keynesian teaching. Many students are not told about the ideas in Chapter 12 and their central nature to Keynes' General Theory. One commentator wonders why Krugman concentrates on the Washington Post for publishing Landsburg, but not the economic profession for producing somebody like Landsburg at a "top 20" university for economics. (That would be the University of Rochester.) That criticism could equally be directed at DeLong. Another commentator on Krugman knows the mainstream view that Keynesian theory applies in the short run, when wages and prices are supposedly sticky or slow to adjust, and classical (Say's law) theory applies in the long run. He thinks that Landsburg merely expects the short run to be much shorter than Krugman does.

It is a Post Keynesian view that mainstream (bastard) Keynesianism misses essential points in Keynes' theory, including the setting in historical time. Keynes' theory applies in all runs. (By the way, I wrote the original Wikipedia entry on Post Keynesian economics, if I recall correctly.)

I was under the impression that Maynard's bisexuality was well-known. I cannot keep straight the relations inside the Bloomsbury group. It seems they had an instance of every geometrical figure you can name.

It seems Keynes' sometime lover Lytton was called up by the draft board during World War I. Lytton claimed conscientious objector status, at least for that war. One of the members of the tribunal asked Lytton what he would do if a german were trying rape Lytton's sister. Lytton said, "Sir, I would try and interpose my own body."

Lytton's most famous work is probably Eminent Victorians. In honor of George MacDonald Fraser, I am currently reading Thomas Hughes' Tom Brown's School Days. Hughes continual lectures to the reader drive me into Lytton's camp of reacting against the Victorians.

Therefore I Ain't Got No Money To Pay The Rent

1.0 Introduction
A vulgar belief is that competitive factor prices reward factor owners for the physical contributions of their services to output, in some sense. Although David Ricardo was not a vulgar economist - he is one of the paradigms for defining Classical economics - he made a similar mistake. In particular, Ricardo treated land as capable of being ordered from high rent to low rent based on physical data (fertility) alone. He only considered a special case where the order of rentability can be read off of physical data alone, rather than the more general case where the order of rentability can be altered by differences in distribution between wages and profits. Understanding the more general case seems appropriate for one who considers economics a social science.

This post demonstrates the limitations of the Ricardian doctrine. These limitations are shown by means of an example. Since so-called Neoclassical economics is often claimed to have been developed by extending the Ricardian theory of rent, the analysis presented here may be of slightly more contemporary interest as well.

2.0 The Technology
Consider a very simple economy that produces a single consumption good, corn, from inputs of labor and (seed) corn. Corn is grown on two grades of land. All production processes in this example require a year to complete. Only one production process is known for producing corn on each grade of land. These processes require the inputs shown in Table 1 to be available at the beginning of the year for each bushel corn produced and available at the end of the year.

Table 1: Inputs Required Per Bushel Corn Produced

Grade I Land	Grade II Land
1 Acre	1 Acre
1/4 Person-Years	2/3 Person-Years
1/2 Bushels Corn	1/3 Bushels Corn

Notice that the proportions of labor and seed corn differ on the two grades of land. This idea can be generalized to a model of the choice of technique in long period positions, where this model includes both extensive and intensive rent:

"...it is very well possible that a larger output per hectare is obtained by using less (or even nothing) of some input(s) and more of some other input(s) or some positive amount of some input(s) not used at all at the smaller level of production." -- Heinz D. Kurz and Neri Salvadori

Assume that the total corn output required in this economy can be grown on some combination of both grades of land, but exceeds the amount that can be grown on either grade alone. In other words, when enough corn is produced to satisfy this economy's requirement for use, some, but not all, of one grade of land will lie fallow. Thus, rent will almost always be paid on one grade of land, and the other is free (non-scarce).

Here's how Ricardo explains the emergence of rent:

"On the first settling of a country, in which there is an abundance of rich and fertile land, a very small proportion of which is required to be cultivated for the support of the actual population, or indeed can be cultivated with the capital which the population can command, there will be no rent; for no one would pay for the use of land, when there was an abundant quantity not yet appropriated, and, therefore, at the disposal of whosoever might choose to cultivate it...

If all land had the same properties, if it were unlimited in quantity, and uniform in quality, no charge could be made for its use, unless where it possessed peculiar advantages of situation. It is only, then, because land is not unlimited in quantity and uniform in quality, and because in the progress of population, land of an inferior quality, or less advantageously situated, is called into cultivation, that rent is ever paid for the use of it. When in the progress of society, land of the second degree of fertility is taken into cultivation, rent immediately commences on that of the first quality, and the amount of that rent will depend on the difference in the quality of these two portions of land...

Thus suppose land - No. 1, 2, 3, - to yield, with an equal employment of capital and labor, a net produce of 100, 90, and 80 quarters of corn. In a new country, where there is an abundance of fertile land compared with the population, and where therefore it is only necessary to cultivate No. 1, the whole net produce will belong to the cultivator, and will be the profits of the stock which he advances. As soon as population had so far increased as to make it necessary to cultivate No. 2, from which ninety quarters only can be obtained after supporting the labourers, rent would commence on No. 1; for either there must be two rates of profit on agricultural capital, or ten quarters, or the value of ten quarters must be withdrawn from the produce of No. 1, for some other purpose. Whether the proprietor of the land, or any other person, cultivated No. 1, those ten quarters would equally constitute rent; for the cultivator of No. 2 would get the same result with his capital, whether he cultivated No. 1, paying 10 quarters for rent, or continued to cultivate No. 2, paying no rent. In the same manner it might be shown that when No. 3 is brought into cultivation, the rent of No. 2 must be ten quarters, or the value of ten quarters, whilst the rent of No. 1 would rise to twenty quarters; for the cultivator of No. 3 would have have the same profits whether he paid twenty quarters for the rent of No. 1, ten quarters for the rent of No. 2, or cultivated No. 3 free of all rent." -- David Ricardo (1821)

3.0 Prices
Consider stationary prices where seed corn is paid for at the beginning of the year, and wages and rent are paid at the end of the year. Then prices must satisfy the following pair of equations:

( 1/2 )( 1 + r ) + ( 1/4 ) w + ρ(I) = 1

( 1/3 )( 1 + r ) + ( 2/3 ) w + ρ(II) = 1

where

• Corn is the numeraire
• w is the wage
• r is the (common) rate of profits
• ρ(I) and ρ(II) are the rents on the respective grades of land.

The condition that at least one grade of land be free is expressed by a third equation:

ρ(I) ρ(II) = 0

The last condition is that all rents must be nonnegative.

3.1 Case 1
Consider the case when wages are 1/2 bushel per person-year. The rate of profits is then 75%. The rent on grade II land is 1/12 bushel per acre, and grade I land is free.

3.2 Case 2
Consider the case when wages are 5/6 bushel per person-year. The rate of profits is 33.3%. The rent on grade I land is 1/8 bushel per acre, and grade II land is free.

4.0 Conclusions
A figure is useful for visualizing the analysis of rent. Figure 1 shows the wage-rate of profits curves for this example. One commodity is produced in the above example, and that commodity functions both as a capital good and as a consumption good. This leads to the wage-rate of profits curves being straight lines. In models with more goods, these curves, while still decreasing, can be of varying convexity. In models with more than two grades of land, more than two curves exist. The figure can be used to locate the grade of land at the extensive margin in working inward from the outer frontier. With a given real wage, one works from right to left. Can the grade of land associated with the rightmost curve satisfy the requirements for use? If so, all land is free, and that grade is used. Otherwise, look at the grade associated with the next curve inward. If both grades can satisfy the requirements for use, then the first grade pays rent, and the second grade is free. In the general case, the frontier associated with the extensive margin may be neither the outer nor the inner frontier formed by the curves on the graph. Furthermore, the order in which grades of land are introduced to satisfy higher requirements for use need not be the order from high-rent land to lower-rent land. If I fully understood my references, I probably could note other counterintuitive results.

Figure 1: Wage-Rate of Profits Frontier for Rent Analysis

Table 2: Summary

Wage Per Person-Year	Location of Extensive Margin
Between 0 and 2/3 Bushels	Land I Non-Scarce, Land II Scarce
Between 2/3 and 1 Bushels	Land I Scarce, Land II Non-Scarce

Table II summarizes the results from the example. The scarcity of land of the best grade is reflected in the use of both grades of land. But which land is best, and therefore scarce, varies with the distribution of income and the price system. Scarcity, then, generally cannot be simply read off of the technological data. It is determined with the price system.

Ricardo was wrong; the order of rentability may be altered by differences in distribution between wages and profits.

References

• Christian Bidard, Prices, Reproduction, Scarcity, Cambridge University Press (2004).
• Heinz D. Kurz and Neri Salvadori, "A Single Theory or Two? Walras's Critique of Ricardo".
• Alberto Quadri-Curzio, "Rent, Income Distribution, and Orders of Efficiency and Rentability", in Essays on the Theory of Joint Production (ed. by Luigi L. Pasinetti), Columbia University Press (1980).
• David Ricardo, On the Principles of Political Economy and Taxation, 3rd edition (1821).
• Bertram Schefold, Mr. Sraffa on Joint Production and Other Essays, Unwin Hyman (1989).

Is There Anything Worth Keeping In Neoclassical Microeconomics?

Bernard Guerrien has joined with Emmanuelle Benicourt in updating Guerrien's prior objections. Deirdre McCloskey chaired an URPE-sponsored session at the Allied Social Science Associations (ASSA) conference. Donald Katzner and Karl Case each defend, more or less, the textbooks.

Guerrin and Benicourt still find contradictions in the textbooks, arising from treatment of the question of how prices get changed. Examples are given from Stiglitz and Mankiw's textbooks. (Previously, Guerrin had used mistakes in McCloskey and David Friedman's textbooks.) Guerrin and Benicourt ask, "Does teaching elementary economics authorize elementary faults of logic?" The respondents put on good cases, too. I learn from Katzner that an auctioneer is not needed; all of the agents in the market can quote prices. Katzner, however, doesn't see how false trading - that is, transactions actually taking place at non-equilibrium prices - can be allowed for in the models.

A theory with logical contradictions is invalid. A theory with implications that are repeatedly falsified empirically is incorrect, no matter how useful it is empirically elsewhere. One cannot conclude, though, that a better theory is not some minor tweak of such a theory. The question of whether researchers should concentrate on such tweaks or look at radical alternatives is a matter of judgement. I think good teaching ought to point out flaws and alternatives.

I Have Only Come Here Seeking Knowledge, Things They Wouldn't Teach Me Of In College

Perhaps some would like to read more practical policy advice and less abstract arguments that I usually point to in my posts. Many organizations present papers, talks, symposia, and so. Some draw on economists I also draw on. Among these are:

• The Bernard Schwartz Center for Economic Policy Analysis (I cannot find Paul Davidson's recent papers here. I know he has one about the housing market, for example.)
• The Center for Economic and Policy Research (CEPR)
• The Center for Full Employment and Price Stability, a research center at the University of Missouri at Kansas City
• The Economic Policy Institute
• The Levy Economics Institute of Bard College
• The Political Economy Research Institute is affiliated with the University of Massachusetts at Amherst

Non-Teaching Of Empirical Superiority Of Non-Neoclassical Theory: Sources For A Case Study

Stephen Marglin is a professor of economics at Harvard. As I understand it, he was just starting out when several promising Harvard professors went on an exodus to Amherst. And Marglin became tenured before he decided that Marx had more to say than neoclassical economics.

He wrote a very interesting book, which Harvard published in 1984. It contains an extensive theoretical investigation of an open model with at least three possible closures. Here is a comment on some of that theory:

"There are, in short, two marginal-productivity theories. There is first of all a general theory that assumes nothing more controversial than continuous substitution, constant returns to scale, and competitive profit maximization. This theory, far from being unique to one school of thought, is - or at least ought to be - the common property of all three approaches ['neo-Keynesian', 'neo-Marxian', and 'neoclassical']. The second marginal-productivity theory adds the assumption that sooner or later, in the long run if not in the short, the wage rate clears the labor market and ensures full employment. This version of marginal productivity theory, the special theory, is manifestly the property of the neoclassical model. Neo-Marxians and neo-Keynesians wouldn't touch it with a ten-foot pole." -- Stephen A. Marglin (1984). Growth, Distribution, and Prices, Harvard University Press: 223.

Marglin's "Neo-Keynesian" model contains the theory of distribution developed by Richard Kahn, Nicholas Kaldor, Luigi Pasinetti, and Joan Robinson in the late 1950s and early 1960s. Marglin's neoclassical model has intertemporal utility-maximization in an overlapping generations setting, but doesn't imply Marshall's principle of substitution or that prices are scarcity indices. That is, while logically consistent, it lacks the features that make the model intuitive and easy to apply.

Marglin looks at both long-run and short-run version of the models. Here he offers a judgement on the neoclassical model:

"Observe that even in neoclassical theory full employment alone is not enough to transform marginal-productivity relationships into a long-run theory of distribution. In long-run neoclassical theory, the capital:labor ratio is endogenously determined, so that the wage rate cannot be determined solely by marginal productivity of labor at full employment - not even in Chicago. Instead, distribution must reflect household preferences with respect to present and future consumption.

Thus, it is fair to conclude that there are two marginal-productivity theories. The first is a relatively innocuous, general theory that involves nothing more controversial than competitive profit maximization - and provides correspondingly little contribution to the theory of growth and distribution under capitalism. The second is more powerful, and very special, providing by itself a theory of distribution, for the short run at least, whose 'only' defects are (1) that it assumes full employment and (2) that it begs the question of accumulation. The wonder is that it is precisely this theory that so many students come away with from their study of economics. Only slightly more wondrous is that by and large they believe it!" - Stephen Marglin, ibid: 330-331

Marglin reports on some econometric evidence. Despite the differences in mechanisms driving value and distribution in the models and the difference in policy implications, it is sometimes difficult, Marglin notes, to draw different implications on the direction of effects in certain empirical applications, such as a shock to oil prices. He does find some contrasting implications when it comes to pensions. And he finds the neoclassical model does the worst, although he thinks his empirical findings are not decisive.

A couple of years ago, some Harvard students wanted to be seriously taught introductory economics, instead of the ideological propaganda that Marty Feldstein and now Greg Mankiw apparently teach. And they wanted to be able to take this course for credit. They asked Marglin to teach this revised Ec 10 course. I'm not sure how much Marglin planned to go into alternatives, or whether he would mention his empirical results. I do know that Harvard decided (again) no way would they permit future leaders of the United States to get an education about the sources of income and property.

Update: Originally posted 5 September 2006. The update is to highlight Ekaterina's comment.

Third World Bourgeoisies Failing In Their Historical Role

I find that Frantz Fanon and Michal Kalecki have similar ideas on the middle classes in many underdeveloped countries. They think that these middle classes are unlikely to fulfill their historical role.

That role is to innovate and to accumulate capital embodied in a massive productive infrastructure. An impressive rate of economic growth comes about when the middle classes fill that role, as in nineteenth century Europe:

"Thus this remarkable system depended for its growth on a double bluff or deception. On the one hand the laboring classes accepted from ignorance or powerlessness, or were compelled, persuaded, or cajoled by custom, convention, authority, and the well-established order of Society into accepting, a situation in which they could call theirs very little of the cake they and Nature and the capitalists were co-operating to produce. And on the other hand the capitalist classes were allowed to call the best part of the cake theirs and were theoretically free to consume it, on the tacit underlying condition that they consumed very little of it in practice." -- Keynes (1920: 19-20)

Here is Fanon doubting that third world middle classes will play their part:

”The national middle class which takes over power at the end of the colonial regime is an undeveloped middle class. It has practically no economic power, and it is in no way commensurate with the bourgeoisie of the mother country which it hopes to replace... The university and merchant classes which make up the most enlightened section of the new state are in fact characterized by the smallness of their number and their being concentrated in the capital, and in the type of activities in which they are engaged: business, agriculture, and the liberal professions. Neither financiers nor industrial magnates are to be found within this national middle class. The national bourgeoisie of underdeveloped countries is not engaged in production, nor in invention, nor building, nor labor; it is completely canalized into activities of the intermediary type. Its innermost vocation seems to be to keep in the running and to be part of the racket. The psychology of the national bourgeoisie is that of the businessman, not that of a captain of industry... Under the colonial system, a middle class which accumulates capital is an impossible phenomenon.” -- Fanon (1963)

Fanon has much more to say long these lines.

And here is Kalecki saying something similar:

”At the time of achieving independence the lower-middle class is very numerous while big business is predominately foreign controlled with a rather small participation of native capitalists...

...a well known historical pattern – the final submission of the lower-middle class to the interests of big business. This, however, is prevented by the weakness of the native upper-middle class and its inability to perform the role of ‘dynamic entrepreneurs’ on a large scale.” -- Kalecki (1967)

Apparently, this was a quite influential essay from Kalecki.

References

• Franz Fanon (1963). The Wretched of the Earth (Trans. by Constance Farrington), Grove Weidenfeld
• Michal Kalecki (1967). "Observations on Social and Economic Aspects of 'Intermediate Regimes'", Coexistence, V. IV, N. 1: 1-5 (Reprinted in Michal Kalecki (1976). Essays on Developing Economies, Harvester Press.)
• John Maynard Keynes (1920). The Economic Consequences of the Peace, Harcourt, Brace, and Howe

Some Of Samuelson's Textbook On Reswitching

I'm not sure I've ever read any edition of Paul Samuelson's introductory textbook cover to cover. I know I haven't since I've read Sraffa. I've previously commented on Samuelson's appreciation of Robinson and Sraffa in some of his research papers. Charles would like to know how that appreciation has influenced Samuelson in his role as textbook writer. I happened to have looked into this question a number of years ago.

My local library has a copy of the tenth edition of Samuelson's Economics, from 1976 (with assistance from Peter Temin). In an early chapter, Samuelson distances himself from the notion that interest is a reward to a contribution to production, while not exactly denying this idea:

"Part Four will show that, just as wages and rent are the factor-prices of primary labor and land, the 4 or 6 or 10 per cent interest rate per annum can, in a more subtle way, be regarded by the apologists for capitalism, as the factor-price that rations and rewards society's scarce supply of various capital goods and investment projects." (Chap. 3)

Part 4 begins with the statement that the theory of distribution is controversial:

"The theory of distribution is still in an unsettled state." (Chap. 27)

Samuelson says the issue is how much of distribution can be explained by market forces and how much by power.

In Chapter 27, Samuelson explains distribution with a model with labor and land. He later introduces capital goods and argues that, in equilibrium, the marginal product of capital is equal to the "price charged for use of capital good." This is distinguished from the interest rate. Chapter 27 also presents the "aggregate american production function."

Chapter 30 is more explicitly about capital. Samuelson talks about "roundabout processes." Samuelson also says:

"At this point we can greatly simplify the exposition of the traditional theory if we agree to concentrate on the case where all physical capital goods are exactly alike and highly versatile." (Chap. 30)

An appendix to Chapter 30 has a section titled, "Reswitching and all that", with a footnote:

"This section may be skipped. Footnote 5's fine point provided an example of reswitching for a durable machine."

I don't recall that I found all these distinctions when dipping into later editions. As I recall, Samuelson deleted that appendix and all mentions of reswitching. He had firms "usually" adopting more capital-intensive techniques at lower rates of interest. I read that qualification as referring to the Cambridge Capital Controversy, but did not see how students could get that. They might read Samuelson as merely acknowledging the possibility of entrepenuers making mistakes.

On Arguments Not Of A Logical Type

"The critique of Robinson and Sraffa is more than forty years old. Yet for psychological and political reasons, rather than for logical and mathematical ones, the capital critique has not penetrated mainstream economics. It likely never will. Today only a handful of economists seem aware of it. Aggregate production function applications run rampart in studies of economic growth (new growth theory), development and convergence, and international trade (factor-price equalization and other applications of Heckscher-Ohlin). Ostensible liberals are not exempt; their arguments for higher public infrastructure investment (based on its alleged marginal productivity) are precisely of this type, as are arguments for increased investment in education based on the higher marginal productivity of human skill. To mainstream economics, Keynesianism has been reduced to a narrow doctrine relating sticky wages, public spending, and employment. The fact that there exists a Post Keynesian distribution theory, still less the reasons for it, has been mostly forgotton." -- James Galbraith, "The Distribution of Income". In A New Guide to Post Keynesian Economics, 2001.

"It should not be asked why the post-classical theory has been so determined in rejecting, or so astute in avoiding, the capital theory criticism raised against it; it should instead be asked why that criticism has been so ineffective to the point of being ultimately incapable of undermining currently dominant economic theory. Perhaps the question which should be asked is whether a purely logical critique could undermine a theory with so many ideological implications. That question – one that invites no small irony when asked about a tradition of economic theorising that prides itself on having excluded ethical values – surely deserves careful consideration." -- Guglielmo Chiodi and Leonardo Ditta (forthcoming)

Perception of Behavioral Economics

David Leonhardt, in the 2 January edition of the New York Times, describes behavioral economics as "a left-leaning academic movement that has challenged traditional neoclassical economics over the last few decades." I never thought of behavioral economics as particularly leftist.

(Peter Dorman comments on other aspects Leonhardt's article.)

Who Changes The Prices?

An assumption in neoclassical models of perfect competition is that all agents are price-takers. That is, they take prices on the market as parametric data. If everybody takes prices as given, nobody is left to change the prices. So, for example, in general equilibrium theory, one has to assume the existence of an auctioneer to oversee the tâtonnement process. No trading, consumption, and production can take place outside of equilibrium.

This is not an original criticism. Bernard Guerrien calls this problem "the logical flaw in micro theory" and "the principal bug in microeconomics". (I do not agree. Neoclassical microeconomics has so many bugs it seems hard to justify calling one, even though important, the principal bug.) Apparently Kenneth Arrow brought this problem up in 1959. ("Toward a Theory of Price Adjustment", in The Allocation of Economic Resources (edited by M. Abramovitz), Stanford University Press).