Brouhaha Over Krugman On Endogenous Money

I recently posted about the theory that the money supply is endogenous and under the control of a country's central bank, such as the Federal Reserve. Paul Krugman dismisses the theory.

Proponents of Modern Monetary Theory, in the comments and elsewhere, have taken issue with Krugman. I have in mind, for example, Dean Baker, Peter Cooper, Scott Fullwiler, Greg Hannsgen (of the Levy Institute), Bill Mitchell, Warren Mosler, Cullen Roche, and Pavlina Tcherneva (cross-posted). James Galbraith appears in various comments, for example, in this one, in which he says, "I was a student of Godley (and even more so, of Kaldor) many years ago and a close observer of monetary policy during my years on Capitol Hill, so this material came easily to me."

Elsewhere

• Steve Keen, in the Australian newspaper The Business Spectator simultaneously praises Paul Krugman for building on Hyman Minsky's work, while criticizing him for "embod[ying] everything that is bad in neoclassical economics."
• Bill Mitchell argues, in last week's Nation, that government responses to the global economic crisis have been based on a series of economic myths. (Will the winning cruciverbalist for the Nation be paid in the "high two figures"?)
• John T. Harvey also warns, but in Forbes, against cutting the deficit.
• Branko Milanovic, in a guest post for D. M. Nuti, explains the connection between rising income equality and the global economic crisis.

H/T: Peter Cooper for the links to the second and third links.

Some British Nineteenth Century Controversies In Monetary Theory

Britain suspended convertibility during the Napoleonic wars. During that period, until 1821, money in England was paper, unbacked by gold. The restoration of convertibility was followed by a stagnant period in British development, with a crisis in 1825 and a reform in 1844 called the Bank Charter Act.

This post recalls some debates in monetary theory among British political economists while these events were occurring. (I don't consider myself expert on monetary theory during the Classical period.) Table 1 shows some schools of thought in monetary theory. The term schools is traditional with respect to the currency and banking schools, but should not be interpreted too strongly for any groups in the table. These schools, unlike, say, the Physiocrats, do not have a recognized leader, followers, popularizers, etc. Rather, they are more like the Mercantilists, a diverse set of pamphleteers and politicians grouped together by later writers.

Table 1: Some "Schools" and Example Members

Years	Contending Schools
1797-1821	Bullionists Henry Thornton David Ricardo	Anti-Bullionists Robert Torrens Robert Malthus
1825-1844	Currency School Robert Torrens Samuel Jones Lloyd Mountifort Longfield	Banking School Thomas Tooke John Stuart Mill
2nd Half of the 20th Century	Quantity Theory Milton Friedman	Endogenous Money Nicholas Kaldor

In each period shown in the table, I have listed two schools. Economists in the first school in each row argued that the money supply was exogenous and that the price level varied with amount of money issued by central bank. Economists in the second school in each row argued that the money supply was endogenous, that is was not capable of being controlled by the central bank, and that it varied with demand for it. The details of these arguments varied among these and other economists.

The last row suggests that these arguments are still current. In fact, advocates of Modern Monetary Theory currently argue that the money supply is endogenous.

Card And Krueger's Research On Minimum Wages Superceded

I think of David Card and Alan Krueger's empirical demonstration that increased minimum wages do not reduce employment as having two main components:

• Natural experiments, especially one comparing and contrasting New Jersey and Pennsylvania.
• A meta-analysis of previous published research on minimum wages.

Recent researchers have replicated Card and Krueger's results for both components. And this recent research is more comprehensive and rigorous. (Since Card and Krueger's work, many economists have adopted the methods of natural experiments and meta-analysis, aside from the specific application to labor "markets".)

For natural experiments, I look to a paper by Dube and others. Here's their abstract:

"We use policy discontinuities at state borders to identify the effects of minimum wages on earnings and employment in restaurants and other low-wage sectors. Our approach generalizes the case study method by considering all local differences in minimum wage policies between 1990 and 2006. We compare all contiguous county pairs in the U.S. that straddle a state border and find no adverse employment effects. We show that traditional approaches that do not account for local economic conditions tend to produce spurious negative effects due to spatial heterogeneities in employment trends that are unrelated to minimum wage policies. Our findings are robust to allowing for long term effects of minimum wage changes." -- Andrajit Dube, T. William Lester, and Michael Reich. "Minimum Wage Effects Across State Borders: Estimates Using Contiguous Counties". Review of Economics and Statistics, V. 92, N. 4 (Nov. 2010): 945-964.

For meta-analysis, I look to some studies by Doucouliagos and others. Here's the abstract of an accessible working paper:

"Card and Krueger’s (1995a) meta-analysis of the employment effects of minimum wages challenged existing theory. Unfortunately, their meta-analysis confused publication selection with the absence of a genuine empirical effect. We apply recently developed meta-analysis methods to 64 US minimum wage studies and corroborate that Card and Krueger’s findings were nevertheless correct. The minimum wage effects literature is contaminated by publication selection bias, which we estimate to be slightly larger than the average reported minimum-wage effect. Once this publication selection is corrected, little or no evidence of a negative association between minimum wages and employment remains. --Hristos Doucouliagos and T. D. Stanley (2008). "Publication Selection Bias in Minimum-Wage Research? A Meta-Regression Analysis". Deakin University, Australia.

I don't expect orthodox economists to absorb any time soon my unoriginal point that economic theory gives no foundation for the belief that minimum wages must lead to disemployment, even when one abstracts from less than perfect competition, principal agent problems, information asymmetries, etc. After all, mainstream economists are trained in mumpsimus.

Three Routes To The Choice Of Technique

1.0 Introduction
I think the analysis of the choice of technique in a steady state is a settled question. (The meaning of Sraffa's equations in wider contexts can be debated.) One strength of the analysis of the choice of technique is the existence of several methods of analysis, all reaching the same conclusion. If one wanted to overthrow this analysis, one would need to show that one is not attacking just one such method, but all of them - or at least as many as possible. This post illustrates this strength of the analysis by presenting three such methods.

2.0 Example Technology
I need an example technology (Table 1) to use in stepping through different methods for analyzing the choice of technique. Each process requires the inputs shown to be purchased at the start of the production period (a year) for each unit of output produced and available at the end of the year. Two processes are known for producing steel, and two other processes are likewise known for producing corn. The coefficients are fairly arbitrary. In this example, to produce any net output in a steady state, all commodities - that is, both steel and corn - must be produced.

Table 1: Constant-Returns-to-Scale (CRS) Production Processes

Inputs	Industry Sector
	Steel Industry		Corn Industry
	First Steel-Producing Process	Second Steel-Producing Process	First Corn-Producing Process	Second Corn-Producing Process
Labor (Person-Yrs)	3220/3321	13930/63099	3115/3321	1
Steel (Tons)	0	0	1/2	9/20
Corn (Bushels)	1/18	2752/7011	0	0
Output	1 Ton	1 Ton	1 Bushel	1 Bushel

The analysis of the choice of technique calculates which production process would be adopted for each combination of prices and interest rates. For this technology to be compatible with a steady state, at least one process for producing steel and one process for producing corn must be adopted. A "technique" consists of one process from each of the industries in this example. Table 2 defines the four techniques, each named with a greek letter. (I think this convention of using greek letters in this context may have been introduced by Joan Robinson.)

Table 2: Techniques and Production Processes

Technique	Steel-Producing Process	Corn-Producing Process
Alpha	First	First
Beta	First	Second
Gamma	Second	First
Delta	Second	Second

A technique, in this case, is expressed by a 2-element row vector of direct labor coefficients and a square Leontief Input-Output matrix. For example, the labor coefficients, a₀^α, for the first technique are:

a₀^α = [(3220/3321) (3115/3321)]

The Leontief Input-Output matrix, A^α, for the first technique can be expressed as two columns a_.1^α and a_.2^α:

A^α = [ a_.1^α a_.2^α]

The first labor coefficient and the first column in the Leontief Input-Output matrix come from the specified production process from the steel industry for that technique:

a_.1^α = a_.1^β = [0, (1/18)]^T

The second labor coefficient and the second column in the Leontief Input-Output matrix come from the specified production process from the corn industry for that technique:

a_.2^α = a_.2^γ = [(1/2), 0]^T

I leave to the reader how to completely specify a₀^β, A^β, a₀^γ, A^γ, a₀^δ, and A^δ.

3.0 Direct Method
Heinz D. Kurz and Neri Salvadori refer to this method for analyzing the choice of technique I describe here as the "Direct Method". Before proceeding, I need to introduce some notation. Let p be a two-element row vector of prices:

p = [p₁, p₂]

where p₁ is the price of a ton steel and p₂ is price of a bushel corn. Let w be the wage, assumed to be paid at the end of the year for each person-year of labor expended during the year. Let r be the rate of interest, also called the rate of profits.

I need to introduce a column vector to represent the numeraire. Let e₂ be the second column of the 2x2 identity matrix:

e₂ = [0, 1]^T

The assumption that e₂ is the numeraire implies the following equation:

p e₂ = 1

This specification of the numeraite implies that, p₂, the price of a bushel corn is unity.

The problem is to find a pair (p, w), given the interest rate r, such that

• No process can be operated with costs less than revenues.
• For any process that is operated, the costs do not exceed the revenues.

The first condition implies the following four inequalities must hold:

p a_.1^α(1 + r) + a₀₁^α w ≥ p₁

p a_.1^γ(1 + r) + a₀₁^γ w ≥ p₁

p a_.2^α(1 + r) + a₀₂^α w ≥ p₂

p a_.2^β(1 + r) + a₀₂^β w ≥ p₂

The conjunction of the requirement that steel be produced with the second condition implies that one of the first two inequalities must be met with a strict equality. The analogous requirement for corn production implies that at least one of the last two inequalities must be met with equality.

These specifications are easily graphed (Figure 1). Given the interest rate, the first two inequalities yield upward-sloping lines in the the figure. The last two inequalities yield the downward-sloping lines. The first condition implies the solution must lie on or above all of the lines in the figure. The second condition implies that the solution must lie on

• At least one of the upward-sloping lines
• At least one of the downward-sloping lines.

The only point that satisfies these conditions is graphed. It lies on the upward-sloping line corresponding to the first steel-producing process and the downward-sloping line corresponding to the second corn-producing process. Thus, this analysis shows that the beta technique is cost-minimizing at an interest rate of 100%. The solution wage and price of steel can be read off the figure.

Figure 1: Direct Method Illustrated At r = 100%

The direct method is easily generalized to any finite number of techniques. Each additional production process results in an additional line in the figure, upward-sloping for the steel industry and downward-sloping for the corn industry. The method also generalizes for any finite number of commodities. Each additional commodity results in the introduction of another dimension to the figure. Although the figure quickly becomes unvisualizable, the mathematics generalizes.

4.0 Indirect Method
The indirect method generalizes to cases in which an uncountably infinite number of techniques are available. It is based on constructing the wage-rate of profits frontier as the outer envelope of the wage-rate of profits curve for each technique (Figure 2). I illustrate how to construct the wage-rate of profits curve for the Alpha technique.

Figure 2: Indirect Method Illustrated

The condition that the same rate of profits be earned for each process comprising a technique yields a system of two equations:

p A^α(1 + r) + a₀^α w = p

One also has the equation setting the price of the numeraire to unity:

p e₂ = 1

For a given interest rate r, the above is a linear system of three equations for three variables (p₁, p₂, and w). One can solve the system to express each of these three variables as a function of the interest rate. The wage, for example, can be found as:

w = 1/(a₀^α [ I - (1 + r)A^α]^-1e₂)

One knows, from a theorem due to Perron and Frobenius, that the inverse exists between an interest rate of zero and some maximum interest rate.

Figure 2 shows the wage-rate of profits curves for each of the four techniques. The cost-minimizing technique at each rate of interest is the one with the highest wage. Points at which the rate-rate of profits curves for two or more techniques interesect on the outer frontier are known as switch points. The two switch points are shown in the example. The Gamma technique is cost-minimizing for a very low interest rate. For a somewhat larger interest rate, the Delta technique is cost-minimizing. Finally, the Beta technique is cost minimizing for larger interest rates. My exposition illustrates that the direct and indirect methods give the same conclusion. For example, the wage-rate of profits frontier shows that the Beta technique is cost-minimizing for an interest rate of 100%.

5.0 Cost Minimization Algorithm
This method I take from J. E. Woods. He provides an algorithm for finding the cost-minimizing technique(s), given the interest rate.

1. Pick an initial technique. (For illustration, I start with the Beta technique in the example.)
2. Solve the equations specifying the wage-rate of profits curve for the selected technique. So you now have a price vector p and the wage w.
3. Using p and w, calculate the cost of producing a ton steel with each of the known production processes (Figure 3).
4. If the steel-producing process in the selected technique is cheapest, go to Step 6. Otherwise go to Step 5. (In the example, one would go to Step 5 for low interest rates and to Step 5 for higher interest rates.
5. Replace the steel-producing process in the technique analysed in Step 2 with the cheapest steel-producing process identified in Step 4. Solve the equations specifying the wage-rate of profits curve for the newly selected technique. Use the resulting p and w in Step 6. (In the example, one would calculate the wage-rate of profits curve for the Delta technique for a sufficiently low interest rate.)
6. Using the specified p and w, calculate the cost of producing a bushel corn with each of the known production processes (Figure 4).
7. If cost of producing corn could be found in Step 6 for the technique selected in Step 2 and the corn-producing process in that technique is cheapest, then stop. You have identified the cost-minimizing technique. Otherwise, replace the corn-producing process in the technique analyzed in Step 6 with the cheapest corn-producing process identified in Step 6. (In the example, the algorithm would terminate in one-pass for a sufficiently high interest rate, with the Beta technique identified as the cost-minimizing technique.)
8. Go to Step 2.

Figure 3: Costs of Producing Steel with Prices for the Beta Technique

Figure 4: Costs of Producing Corn with Prices for the Beta Technique

Figures 3 and 4 suggest that for a sufficiently low interest rate, the technique consisting of the second steel-producing process and the first corn-producing process, that is, the Gamma technique, is cost-minimizing. For a somewhat higher interest rate, the technique consisting of the second steel-producing process and the second corn-producing process, that is, the Delta technique, seems to be cost-minimizing. And, as noted above, the algorithm terminates with the Beta technique identified as the cost-minimizing technique at an even higher interest rate. In other words, the graphs suggest that the above algorithm converges to the same solution as the indirect method.

6.0 Conclusions
I have not exhausted the methods available for analyzing the choice of technique. For example, I have not formulated any Linear Programs above. Nor have I presented the diagram in my 2005 Manchester School paper. Furthermore, I have glossed over many interesting mathematical questions, such as proving the existence of solutions and proving that all methods give the same result. But this post is already too long.

References

• Heinz D. Kurz and Neri Salvadori (1995) Theory of Production: A Long-Period Analysis. Cambridge University Press.
• J. E. Woods (1990) The Production of Commodities: An Introduction to Sraffa, Humanities Press.

Great Female Economists

This is a selection. I always exempt those alive in making such judgements.

• Jane Marcet
• Harriet Martineau
• Rosa Luxemburg
• Mary Paley Marshall
• Beatrice Webb
• Charlotte Perkins Gilman
• Elizabeth Boody Schumpeter
• Joan Robinson
• Krishna Bharadwaj

Lost Knowledge In Economics

Economists' concerns can be expected to change as the world changes. In a serious scholarly discipline, however, such changes in emphasis should be theorized and argued. They should not be just a matter of fads and the following of changes in the political environment. I am not sure economics meets this standard. Anyways, here are examples I came up with today for exploring this question:

• Managerial theories of the firm (as developed by, e.g., Robin Marris)
• Markup pricing
• Sidney Chapman's theory of the length of the working day (as opposed to the textbook analysis of tradeoffs between leisure and commodities) (Derobert (2001), (Spencer 2003), and (Walker 2007)).
• Co-operatives (Kalmi 2007).
• Sidney and Beatrice Webb's analysis of labor markets (Kaufman 2008).

References

• L. Derobert. "On the Genesis of the Canonical Labor Supply Model". Journal of the History of Economic Thought, V. 23, N. 2 (2001): 197-215.
• Panu Kalmi. "The Disappearance of Cooperatives from Economics Textbooks". Cambridge Journal of Economics, V. 31 (2007): 625-647.
• Bruce Kaufman. "How a Minimum Wage Can Improve Efficiency Even in Competitive Labor Markets: The Webbs and the Social Cost of Labor". Andrew Young School of Policy Studies Research Paper Series, Working Paper 08-16 (July 2008).
• D. A. Spencer. "The Labor-Less Labor Supply Model in the Era Before Philip Wicksteed". Journal of the History of Economic Thought, V. 25, N. 4 (2003): 505-513.
• Tom Walker. "Why Economists Dislike a Lump of Labor". Review of Social Economy, V. 65, N. 3 (2007).

Coase Theorem Not About Markets

Mainstream economists tend to think of the "laws of demand and supply", for example, as applying to all of human history and independent of institutional structure¹. Geoffrey Hodgson has noted the difficulty of finding a definition of "markets" in mainstream economics.

To me, a market must allow for repetitive purchases and sales of a commodity where participants have information on, for example, prices from previous purchases and sales. A contract drawn up between two organizations to last for several years is a bilateral negotiation, not a market transaction, when neither organization is simultaneous to draw up parallel contracts with competing organizations².

One application of this idea is to labor unions. Maybe the difficulties mainstream economists have with defining "markets" is connected with their backward notions on labor unions, backward notions that others have recently pointed out³.

I was inspired to write this post by Hahnel and Sheeran's article. An train engine with tracks through a farmer's field is an example of application of the Coase Theorem. If vegetation isn't kept a certain distance from the rails, supposedly sparks from the train wheels are likely to start a fire and burn the crops. Do the farmers have a well-defined property right not to have sparks ejected on their fields? Or do trains have a well-defined right to emit sparks? Depending on the answers to these questions, the legal liability for maintaining the track and paying for any resulting fires is different. But, according to the Coase "theorem", if property rights are well-defined and no transaction costs exist, the farmer and the railroad will negotiate an efficient price for allowing the trains to emit sparks. Some conclude that it is government's job to ensure property rights are well-defined and perhaps lower transaction costs. Then the market will come to an efficient solution to the problem of externalities, however property rights are allocated.

Among other criticisms, Hahnel and Sheenan point out that the conclusion is a non-sequitur. This is not an example of a market. I think their treatment of information asymmetries is a formalization of a point I first read from Michael Albert. The Coase set-up will encourage those with property rights to act as bullies, to threaten obnoxious behavior they wouldn't otherwise do, so as to extort payments from their victims.

¹ An interesting experiment would be to count the number of occurrences of the word "capitalism" in, say, the American Economic Review or the Journal of Political Economy in the last decade and contrast those counts with the same counts in, say, the Cambridge Journal of Economics, the Review of Political Economy, or the Review of Radical Political Economics.

² Even if you object to this usage of "market", you should see that the game theoretic models appropriate for a bilateral negotiation under various assumptions about available information is not the typical model of demand and supply schedules.

³ Haven't the criticized economists heard of the theory of the second best? I thought that the case of a large employer and a labor union was a canonical example.

References

• Michael Albert. "Nobel Nerve", Z Magazine (Nov. 1991).
• Robin Hahnel and Kristen A. Sheeran. "Misinterpreting the Coase Theorem" Journal of Economic Issues. V 43, N. 1 (March 2009): 215-238.
• Geoffrey M. Hodgson Economics and Institutions: A Manifesto for a Modern Institutionalist Economists, Basil Blackwell (1989).
• R. G. Lipsey and Kevin Lancaster. "The General Theory of the Second Best", Review of Economic Studies, V. 24, N. 1 (1956-1957): 11-32.

Geoff Harcourt In Audio And Video Formats

As I understand it, Geoff Harcourt is now living in Australia, after having recently moved home from Cambridge, England. While in Cambridge, he wrote The Structure of Post-Keynesian Economics: The Core Contributions of the Pioneers and, especially, Joan Robinson, the latter with Prue Kerr.

While there, Harcourt contributed his time to a few interviews and lectures. I have previously mentioned his November 2009 lecture to the Post Keynesian Study Group on the legacy of Joan Robinson. He also gave a May 2010 lecture, to the same forum, on the crisis in mainstream economics. Finally, one can find a two-interview on YouTube.

Figure 1: First Part of Geoff Harcourt Interview

Figure 2: Second Part of Geoff Harcourt Interview

H/T Daniel Kuehn for links to the You Tube video.

Letter To The Editor

Mike Cushman, the secretary of the London School of Economics University and Colleges Union (LSE UCU) writes to the Guardian:

"Philip Inman (Scene of the crime, G2, 18 February) describes the complicity of economics academics in the crash. They were responsible for providing an intellectual gloss for reckless and maybe criminal behaviour. ...They circulated their legitimising patina in the house journals of their club: the leading economics journals beloved of the US and UK business schools.

These journals, a key part of the conspiracy, continue to cast their shadow. It is almost impossible for economists to get employed or promoted in leading economics and management departments like LSE without publishing in these "A-grade" journals. ...It is the same self-referential circulation of authority that underpinned the collateralised debt obligations and other key instruments of the credit bubble. Essential research income is allocated through the Research Excellence Framework by reference to success in those same publications and adjudicated by those who edit and publish in those journals.

Scholars who will not act as shills for the banks and reinforce the Panglossian orthodoxies, and instead promote critical analyses, are rarely welcome in these journals and thus increasingly not welcome in universities... The REF (Research Exalting Finance) is a dangerous, flawed mechanism, at least in economics and management: an ideological straitjacket disguised as a fair and unbiased assessment." -- Mike Cushman

Mr. Cushman's claims are backed up by academic research on the history and sociology of economics. If I recall correctly, Geoffrey M. Hodgson and Harry Rothman¹, for example, demonstrate the self-referential and closed nature of the supposedly "leading" journals in economics.Frederick Lee² adds to the documentation of the unwillingness of mainstream economists to cite non-mainstream economists with empirically validated analyses of the British Research Excellence Framework (REF). In my reading of Lee, the REF is leading to less excellence in British economics, at least if your measure is an ability to understand actually existing capitalist economies.

¹ Geoffrey M. Hodgson and Harry Rothman. "The Editors and Authors of Economics Journals: A Case of Institutional Oligopoly?". Economic Journal, V. 109, Iss. 453 (Feb. 1999): pp. 165-186.

² Frederic Lee. A History of Heterodox Economics: Challenging the Mainstream in the Twentieth Century.

People I've Never Heard Of, Am Barely Aware Of, And Thought I Knew

News coverage of the Egyptian revolution introduced me to Gene Sharp, who I have never heard of before. Apparently he is at the Albert Einstein Institution, and protesters are taking recipes from his book, From Dictatorship to Democracy.

Nonviolent revolutions these days are somewhat anarchist¹. I am not well read on contemporary anarchists. I found out existence of Colin Ward when he died. I am vaguely aware of Murray Bookchin. I have had a copy of Bill Devall and George Sessions' book, Deep Ecology: Living as if Nature Mattered on my bookshelf for a decade. Going back further, I like Hannah Arendt's On Revolution and Crises of the Republic and Paul Goodman's
Growing Up Absurd.

I have been much influenced, of course, in my views on economics by Joan Robinson. I don't know if I've read these before, but I find her Tanner lectures, "The Arms Race," are available online². In fact, almost all of the Tanner lecture series can be downloaded. There's just too much to read there, but I will pick out Albert Hirschman's, since I have blogged before on his book drawing from those lectures.

Notes:

¹A crossword puzzle clue passed on by Will Shortz: "Disordered sort?" The answer is, "Anarchist."

² I was motivated to look up Robinson's Tanner lecture by listening to Geoff Harcourt's November 2009 presentation on Robinson to the Post Keynesian Study Group.

Stephen Smale Presciently On Global Financial Crisis?

I have argued before that weaknesses in mainstream economics exposed by our current macro-economic problems have been known for decades. I here note another example.

Stephen Smale is a Fields medal-winning mathematician who has advanced our understanding of chaotic dynamical systems. Smale has also contributed to mathematical economics. He wrote the following in 1976:

"A criticism commonly made of economic theory is its failure to make predictions of crises in the country or anticipate correctly unemployment or inflation. One must be cautious in the social sciences about looking towards physics for answers. However, some comparisons with the physical sciences seem profitable in connection with the above criticism. In those sciences, where theory itself is in a far more advanced state, limitations can be seen in a similar way. For example a given individual human body functions according to physical principles; however no physical scientist would predict a heart attack. The physical theory gives understanding of aspects of what goes on in the human body only under very idealized conditions. The physical theories eventually play some role in the education of medical doctors, who can then say some things, some times about a patient's susceptibility to a heart attack, preventive measures, and cures.

The economy of the world or even a nation is a very complex phenomenon, like a human body, involving a number of factors, both economic and political. It is no more reasonable to expect economic theorists to predict a nation's economic future than for a theoretical scientist to predict the future health of an individual...

...I would like to give some reasons why I feel equilibrium theory is far from satisfactory. For one thing the theory has not successfully confronted the question, 'How is equilibrium reached?' Dynamic considerations would seem necessary to resolve this problem. Another is the reliance of the theory on long range optimization.

In the main model of equilibrium theory, say as presented in Gerard Debreu's Theory of Value, economic agents make one life-long decision, optimizing some value. With future dating of commodities, time has almost an artificial role." -- Stephen Smale. "Dynamics in General Equilibrium Theory." American Economic Review V. 66, N. 2 (1976): pp. 288-294.

Celebrity Economists?

When I look at many economists who have won the "Nobel" prize, I often wonder, where is the empirical evidence for their theories? Are they making empirical claims that have passed potentially falsifying tests? It seems to me that both Solow and Lucas, for example, won prizes more on the basis that their work is frequently cited than for expanding our understanding of actually existing economies. Perhaps some, such as Leontief or Stone, won for work providing an accounting framework that is useful in organizing empirical data.

Hence, my title: a celebrity has been defined as somebody who is famous for being famous.

This is a topical post.I was inspired by this list of "top twenty" articles in the American Economic Review, selected by six senior economists.

(While I was writing this post, Merijn Knibbe posted similar thoughts.)

I append the article list for reference:

• Alchian and Demsetz (1972). "Production, Information Costs and Economic Organization".
• Arrow (1963). "Uncertainty and the Welfare Economics of Medical Care".
• Cobb and Douglas (1928). "A Theory of Production".
• Deaton and Muellbauer (1980). "An Almost Ideal Demand System".
• Diamond (1965). "National Debt in a Neoclassical Growth Model.
• Diamond and Mirrlees (1971). "Optimal Taxation and Public Production" (two parts).
• Dixit and Stiglitz (1977). "Monopolistic Competition and Optimum Product Diversity".
• Friedman (1968). "The Role of Monetary Policy".
• Grossman and Stiglitz (1980). "On the Impossibility of Informationally Efficient Markets".
• Harris and Todaro (1970). "Migration, Unemployment and Development: A Two-Sector Analysis.
• Hayek (1945). "The Use of Knowledge in Society".
• Jorgenson (1963). "Capital Theory and Investment Behaviour".
• Krueger (1974). "The Political Economy of the Rent-Seeking Society"
• Krugman (1980). "Scale Economies, Product Differentiation, and the Pattern of Trade.
• Kuznets (1955). "Economic Growth and Income Inequality".
• Lucas (1973). "Some International Evidence on Output-Inflation Tradeoffs".
• Modigliani and Miller (1958). "The Cost of Capital, Corporation Finance and the Theory of Investment".
• Mundell (1961). "A Theory of Optimum Currency Areas".
• Ross (1973). "The Economic Theory of Agency: The Principal's Problem".
• Shiller (1981). "Do Stock Prices Move Too Much to Be Justified by Subsequent Changes in Dividends?"

Elsewhere

• Russell Jacoby pans Erik Olin Wright's book Envisioning Real Utopias. I don't know much about Jacoby. I find his review encourages me not to read Wright. It would help, however, if Jacoby didn't cite Wright's use of the word "interstitial" as an example of boring cant, while praising Veblen, who also used the word.
• Victoria Chick and Ann Pettifor write about the 75th anniversary, on February 3 of Keynes' General Theory.
• Eric Schliesser, a philosopher, notes Greg Mankiw's refusal to acknowledge the existence of literature on his points, a topic I've mentioned before.

Daron Acemoglu

What do you think of Daron Acemoglu?

Since he is a mainstream economist at MIT, I should be inclined to take a critical stance to be consistent with my themes. Acemoglu has written so many papers that I do not feel that I can have a comprehensive view. Maybe I should read up on the summary that must have accompanied his 2005 John Bates Clark medal.

Acemoglu writes on political economy and political science topics I think of interest - for example, power, coercion, social networks, innovation, governance, and economic development. The conclusions he and his colleagues reach are not necessarily a whitewash of capitalism. I've been trying to read, for example, Glenn Ellison and Alexander Wolitzky's paper, "A Search Cost Model of Obfuscation", in which more-or-less competitive firms deliberately put clauses hard to understand in contracts, thereby making it difficult to compare products and to obtain, for example, payouts on warranties, insurance, etc. Most of the papers I've read by Acemoglu and his colleages seem to tell just-so stories with game theory, a branch of mathematics I think can be fascinating. Empirical accounts can be used to illustrate the theories, but I wonder whether the theories are passing potentially falsifying tests. As an exemplar, I take Acemoglu, Egorov, and Sonin's accounts of incidents in the history of the Soviet Politburo in their 2008 Review of Economic Studies paper, "Coalition Formation in Non-Democracies".

Entrepreneurial Profits In A Classical Model

I came upon this passage recently:

"Thus, in the short run, the entrepreneurs introducing new techniques would reap supernormal profits. [Suppose] there is continuous technical change in the system, which Marx assumes to be in the nature of capitalist competition and a requirement for the maintenance of the 'reserve army of labour', then there arises a permanent income category that cannot be accounted for by labour-time accounting... Though Pareto does not clearly separate such entrepreneurial income from returns to capital in general, or from the notion of productivity of capital, it is plain that he foreshadows the idea that was later developed by Schumpeter...as an explanation for positive profits in a capitalist economy." -- Ajit Sinha (Theories of Value from Adam Smith to Piero Sraffa, Routledge (2010) pp. 214-215.)

This suggests to me a puzzle: can I create a model in which entrepreneurs make profits even though the workers are paid what would be the entire net output if the technology in use during the period in which they are paid were to persist unchanged? This post demonstrates that Sinha's comment is well-founded.

2.0 A Model
2.1 The Technology
Consider a simple economy in which a single commodity, corn, is produced each year. Workers produce the annual output from inputs of (seed) corn and their labor. The technology is defined by:

• a₀(t): the labor (in person-years) needed as input per bushel corn produced in the tth year.
• a₁(t): the (seed) corn needed as input per bushel corn produced in the tth year.

The coefficients of production evolve as in the following two equations:

a₀(t) = e^-λ₀t

a₁(t) = c e^-λ₁t

where the positive constants λ₀ and λ₁ are the rate of decrease in the labor and (seed) corn inputs, respectively. I impose the condition that the quantity harvested must exceed the quantity of seed corn planted in the spring:

0 < c < 1

2.2 Quantity Flows
Let Q(t) be the bushels of corn produced during the tth year and available after the harvest at the end of year. Assume:

Q(t) = e^λ₀t

The labor employed each year is a₀(t)Q(t), that is, one person-year.The seed corn, K(t), required for planting at the start of the tth year is:

K(t) = a₁(t)Q(t) = c e^{-(λ₁-λ₀)t}

The seed corn decreases each year if and only if the rate of decrease of the labor input per bushel corn produced exceeds the rate of decrease of the seed corn input per bushel corn produced:

λ₁ < λ₀

The surplus corn harvest, Y(t), over the seed corn planted at the start of the year is:

Y(t) = Q(t) - K(t) = e^λ₀t(1 - c e^-λ₁t)

2.3 Prices, Wages, And Distribution
Assume the labor hired during a given year is paid at the end of the year out of the harvest. The Sraffian price equations for this model are:

a₁(t) + a₁(t) w(t) = 1

where w(t) is the wage per person year, and I have taken a bushel of corn as the numeraire. It is easy to solve this equation to find that the wage is the net output produced by the person-year employed:

w(t) = Y(t)

If the seed corn required for a constant labor force declines year-by-year, this model provides a source of entrepreneurial profit:

π(t) = K(t + 1) - K(t) = c e^{-(λ₁-λ₀)t}[e^{(λ₀-λ₁)} - 1]

What happens if the condition on technological progress is not met? I haven’t worked out this case, but two possibilities seem to me to arise. In the first case, workers cannot consume the entire surplus each year. Perhaps, the capitalists obtain some accounting profits on their capital and they save those profits as additions to the seed corn each year. In the second case, the number of hours worked decline.

No Crisis In Mainstream Economics...

...Instead, the situation is chronic. The long-festering situation of economics is seen in the constant literature on the "crisis" in economics, going back for maybe half a century.

The book The Crisis in Economic Theory (1981) is a timely example. It was edited by Daniel Bell and Irving Kristol, and Daniel Bell's obituary was published in the New York Times today. (See also this Crooked Timber post.) The editors wrote the introduction, and each wrote a chapter. Other contributions include Frank Hahn on general equilibrium theory, Israel Kirzner on the Austrian school, Paul Davidson on Post Keynesianism, and Edward Nell on a Sraffa-influenced interpretation of Marxist economics.

Blah, Blah, Jevon's Paradox, Blah, Blah, Backfire

Figure 1: The Carrier Dome, Named After A Manufacturer Of A/C Equipment No Longer In Syracuse, NY

The Jevon's paradox arises when increased efficiency in the use of a resource results in greater overall use of that resource. This is a severe example of "rebound", where the effects of increased efficiency are lessened by increased use. Jevon's wrote about Coal.

Some may have noticed David Owen's recent article in The New Yorker focused on air conditioning (A/C). By synchronicity, Computer, the flagship journal of the Institute of Electrical and Electronic Engineers (IEEE) Computer Society, also published an article on rebound about the same time. Tomlinson, Sliberman, and White recommend mindfulness in the pursuit of energy efficiency in Information Technology and reference a report from an organization in the United Kingdom. (I'm not as dismissive of the Jevon's paradox as my title may suggests; I just wanted a template to could apply to both articles.)

The New Yorker published three letters on their article. I select Amory Lovins' letter for not just because he is a well-known advocate of increased energy efficiency. He points out that much of the increased use of A/C that David Owens describes is due to increased wealth, not rebound. He uses the example of oil to assert that increases in efficiency could drop energy use in absolute terms, even with economic growth. Apparently, between 1977 and 1985, the United States Gross Domestic Product rose 27 percent and oil use fell 17 per cent.

For utility-sponsored research in the United States, I look to the Electric Power Research Institute (EPRI). I don't know if they have a take on the Jevon's paradox. I think Leontief Input-Output analysis and Luigi Pasinetti's structural economic dynamics provide empirical tools for investigating the question.

References

• Amory B. Lovins (2011) "Letter", The New Yorker (17 Jan.): p. 3.
• David Owen (2010). "The Efficiency Dilemma", The New Yorker (20 & 27 Dec.): pp. 78-85.
• Steve Sorrell (2007). The Rebound Effect: An Assessment of the Evidence for Economy-Wide Energy Savings From Improved Energy Efficiency, UK Energy Research Center.
• Bill Tomlinson, M. Six Sliberman, and Jim White (2011). "Can More Efficient IT Be Worse for the Environment?", Computer, V. 44, Iss. 1 (Jan.): pp. 87-89.

Krugman On The Importance Of Austrian Business Cycle Theory

Paul Krugman writes:

"Someone, I don’t know who at this point, sent me to this post by Robert Murphy, which is the best exposition I’ve seen yet of the Austrian view that’s sweeping the GOP..."

I think the Republicans are not as coherent as Krugman makes them out to be. They are even less coherent than Austrian Business Cycle Theory.

I don't know that I will pursue trying to publish my rebuttal of Austrian Business Cycle Theory. Some have previously brought up my working papers in discussions of Krugman's blog and column. So far, I have not seen my name mentioned in discussions of this Krugman blog post.

ASSA, Not AEA In Denver?

Denver In Some Other Month

The proceedings of the recent American Economic Association annual conference are online. Preliminary versions of some of the papers are available for download.

I have trouble getting a sense of what mainstream economists are about from such a massive list. Doubtless I would find some of these papers of interest, despite the forbidding technical titles. I regret that downloads are not available for panel discussions (for example, "What's Wrong (and Right) with Economics? Implications of the Financial Crisis", "Lessons for Economics from the Great Recession", "Grand Challenges for Social Science...", "History, Crisis, Institutions and Economic Analysis", and "The Ethics of Professional Economic Practice"). (Actually, doing a search on the word "Panel" does cut down the list of titles to a manageable size that may give a feel to the direction of the profession.)

I also look in this list for economists of schools of thought and fields in which I'm interested. The Union of Radical Political Economics has only one session co-sponsored with the AEA. Steve Keen provides videos and download links. The History of Economics Society also has one co-sponsored session. As far as I can see, the Association for Evolutionary Economics (AFEE) and the International Association for Feminist Economics have no sessions. Brad DeLong's presentation is the only one with the word "Keynes" or "Keynesian" in the title. This sample should not lead one to conclude that heterodox economists were not represented in Denver, for they appear in the program of the Allied Social Science Associations. Explicitly identified heterodox economists just seem to be banished from the AEA, to the AEA's shame.