It’s Wednesday and also a holiday period, so just a few things today. First, I discuss a research paper that has concluded that central bankers have been using the wrong model for years which has resulted in flawed estimates of the state of capacity utilisation, and, in turn, created excessive unemployment. Second, we have a…
Falling enrolments in mainstream economics programs is a desirable outcome
If you have had the misfortune to study economics formally at university then you will recall sitting through endless and tedious lectures where the instructor asserted some superior knowledge about psychology and human behaviour. If you had combined the economics study with studies in psychology and sociology, you would have soon realised that what was being taught in your economics course was total nonsense. There was an article in the Fairfax press recently (August 6, 2017) – Crisis in high school economics a threat to national wellbeing – ruing the declining enrolments in secondary school economics programs. The point is that these courses are typically more damaging than useful and the contention of the journalist that we are reducing the quality of the economic debate as a result of less people studying economics is problematic. The typical economics program is simple indoctrination into a set of neoliberal principles that allow poor policy to continue despite it delivering disastrous outcomes. There is a crying need for more economic and financial literacy, but that requires an entirely different approach to be adopted rather than jamming more kids into the existing courses and having them come out dangerously brain dead.
The journalist poses the question:
Are we losing our ability, as a nation, to have the great economic debates?
She reports on a recent speech by a senior RBA (central bank) official who:
… painted a truly troubling picture of the state of economic literacy of young Australians today.
This is allegedly because:
Since 1992, the number of year 12 students taking economics has declined by almost 70 per cent, from 40,000 to closer to 10,000.
Students have been lured into “business studies” subjects because they think they will be “more employable”.
The decline in enrolments is also skewed. Less women are studying economics and there is a skew “in economics enrolments towards higher socio-economic schools”. So the kids from the top-end-of-town families are still being versed, according to the journalist “in the powerful language of economics”.
She thinks this is “troubling indeed”.
One might expect, that as a professor of economics, I would be similarly troubled.
I am and I am not.
First, I am worried because of the rising importance of so-called ‘business studies’ masquerading as education. My experience of working in university faculties where this curriculum has also taken over tells me that there is very little educational value in studying these subjects (marketing, HRM, et cetera).
Students who finish these ‘business studies’ degrees are qualified to erect marketing displays in supermarkets, while they are induced into these courses with a promise of managerial positions. The latter get taken up by mathematics and engineering graduates who have nowhere to go in their own discipline fields by way of employment.
So in that sense, the shift that the journalist documents is indeed troubling.
Second, I’m not worried that students are no longer studying economics at high school given the poverty of the curriculum that is offered.
Given the dominance of the mainstream, neo-liberal way of thinking in economics and the way in which this erroneous framework permeates the teaching of the subject in both secondary schools and universities, I suspect the students are better off without the propaganda.
One can hardly say that studying economics in most schools prepares the student to develop a sound understanding of the way the monetary system operates and the policy choices available to a currency-issuing government.
Students from a young age are indoctrinated with a series of myths about these matters if they study economics formally. It is more about training them to be compliant operatives in the neoliberal system rather than educating them to be well read.
Third, to skew towards children from well-off families in private schools continuing to study economics just tells me that the old networks the channel these children into decision-making positions, which perpetuate the existing neoliberal frame, is alive and well and won’t change any time soon.
When you first start to study economics, particularly at universities, you are forced to rote learn and accept a very curious set of assumptions about human behaviour.
You are also urged to accept, rather berated to accept, that economics is a ‘value-free’ area of study. That is, the principles that are espoused are allegedly, independent of human values. You are told there is a clear-cut difference between so-called objectivity (‘value-free’) and subjectivity, which is the messy world of emotions, values, morals and the like – ‘shoulds’ rather than ‘what is’.
It is of course a false distinction. Anything seen through a human lens, by definition, is tainted by our subjective beings.
To try to discourage us from seeing that, and to make it look as though economics is a ‘scientific’ discipline along the lines of the physical sciences, students are told that the goal of individuals, who are assumed to be infinitely rational, is to always maximise utility or, self-interest.
By acting in this fiercely independent fashion, the pursuit of our own greed, produces the best outcomes for everyone. Once we deviate from the maximisation of our own greed, or, more to the point, are prevented from doing so by government regulation, then everybody suffers diminished outcomes.
Moreover, individuals make these rational, maximising decisions on the basis of full and relevant information, which extends from today to infinity. Indeed, many economics papers will assume the choices are made by an ‘infinitely-lived’ agent (individual).
For example, in graduate studies students will be introduced to so-called transversality conditions, which dominate decision-making over the course of one’s lifetime (so-called intertemporal optimisation).
In the Palgrave Dictionary of Economics we read:
The transversality condition for an infinite horizon dynamic optimization problem is the boundary condition determining a solution to the problem’s first-order conditions together with the initial condition. The transversality condition requires the present value of the state variables to converge to zero as the planning horizon recedes towards infinity. The first-order and transversality conditions are sufficient to identify an optimum in a concave optimization problem. Given an optimal path, the necessity of the transversality condition reflects the impossibility of finding an alternative feasible path for which each state variable deviates from the optimum at each time and increases discounted utility.
Got it! Probably not!
In English, individuals have to choose between competing ends over their lifetime and will always choose the best (optimal) outcome given they know what the future holds.
An often-used example in graduate programs relates the decision of an ‘infinitely-lived’ individual to loan their savings to governments to ‘fund’ deficit spending.
What will determine their decision?
Apparently, they have to make up their mind based on the assumption that out in infinitely the debt issued today will be fully paid off by running primary fiscal surpluses in the future (discounted by the appropriate (optimising) factor that takes into account the time impact on a dollar today).
The relevant transversality condition ensures that the present value (that is, in today’s dollars) of the government debt over some infinite time horizon is exactly equal to the present value of all future fiscal primary surpluses that will be required to pay off the debt (also over the infinite time horizon).
These conditions are built into Dynamic Stochastic General Equilibrium (DSGE) models that still dominate policy making (central banks, treasuries etc) and academic research.
Even mainstreamers like Willem Buiter described DSGE modelling as “The unfortunate uselessness of most ‘state of the art’ academic monetary economics”. He noted that:
Most mainstream macroeconomic theoretical innovations since the 1970s (the New Classical rational expectations revolution … and the New Keynesian theorizing … have turned out to be self-referential, inward-looking distractions at best. Research tended to be motivated by the internal logic, intellectual sunk capital and esthetic puzzles of established research programmes rather than by a powerful desire to understand how the economy works – let alone how the economy works during times of stress and financial instability. So the economics profession was caught unprepared when the crisis struck … the Dynamic Stochastic General Equilibrium approach which for a while was the staple of central banks’ internal modelling … excludes everything relevant to the pursuit of financial stability.
I am sorry if you don’t follow it. Most students don’t. They just rote learn it to pass exams but, importantly, pick up the subjective message of the exercise:
– that fiscal deficits have to be paid back via higher taxes or lower government spending in the future and that imposes costs on all of us.
– that is, fiscal deficits are bad and should be avoided.
This is tied in with notions that as individuals (either as household decision makers or in our capacity as decision makers within business firms) we engage in behaviour that offsets any fiscal interventions that the government impose on us.
The best known example of this nonsense in the mainstream narrative is the so-called Ricardian Equivalence which builds on the so-called Rational Expectations concept in economics.
I considered these issues in this blog – The myth of rational expectations
The Rational Expectations (RATEX) literature, which evolved in the late 1970s, claimed that government policy attempts to stimulate aggregate demand would be ineffective in real terms but highly inflationary.
People (you and me) anticipate everything the central bank or the fiscal authority is going to do and render it neutral in real terms (that is, policy changes do not have any real effects).
So attempts by government to expand the economy and reduce unemployment via increases in the discretionary component of the fiscal deficit will lead to accelerating inflation because agents predict this as an outcome of the policy and build it into their own contracts.
In other words, they cannot increase real output with monetary stimulus but always cause inflation.
RATEX theory claims that individuals (you and me) essentially know the true economic model that is driving economic outcomes and make accurate predictions of these outcomes with white noise (random) errors only. The expected value of the errors is zero so on average the prediction is accurate.
Everyone is assumed to act in this way and have this capacity.
For example, if the government announces it will be expanding the deficit and adding new high powered money, we will also assume immediately that it will be inflationary and will not alter our real demands or supply (so real outcomes remain fixed). Our response will be to simply increase the value of all nominal contracts and thus generate the inflation we predict via our expectations.
Ricardian Equivalence goes one step further. It assumes that we know the government has to pay back any deficit with higher taxes in the future – and we know the quantum that will be involved. As a result, we reduce our consumption spending (increase our saving) so as to exactly create a sum in present value terms that is exactly equal to the present value of all future deficits.
So government net spending increases as our spending declines – no change in spending. Less extreme versions of the theory maintain that the non-government offsets might be partial. Some say, the offsets overshoot – so the economy goes backwards if governments increase their spending.
The whole idea that the IMF and others paraded during the GFC of a ‘fiscal contraction expansion’ was predicated on the offsets being greater than 1. In other words, if government engaged in ‘growth-friendly’ austerity (cutting their net spending) then the non-government sector would increase its spending by more than the cuts in public spending and, as a result, total spending would rise and economies would resume growth.
We know from experience that none of that happened.
Researchers who have examined the underlying behavioural assumptions upon which the mainstream theories rely have found that humans are not at all like the way they are assumed to be.
Human decision-making is fraught, driven by emotion, irrationalities, comparison effects (with others) and more.
For example, in one famous 1981 study – The Framing of Decisions and the Psychology of Choice – by psychologists Amos Tversky and Daniel Kahneman showed how framing – how the choice is presented to us – is instrumental in influencing our ultimate decision.
This is, of course, the foundation of advertising, which economists claim is just providing information rather than manipulation.
The famous Tversky-Kahneman experiment offered the following choice to a group of individuals:
Problem 1 [N = 152]: Imagine that the U.S. is preparing for the outbreak of an unusual Asian disease, which is expected to kill 600 people. Two alternative programs to combat the disease have been proposed. Assume that the exact scientific estimate of the con- sequences of the programs are as follows:
If Program A is adopted, 200 people will be saved. [72 percent]
If Program B is adopted, there is 1/3 probability that 600 people will be saved, and 2/3 probability that no people will be saved. [28 percent]
Which of the two programs would you favor?
The N = 152 indicates the sample size and the other numbers in square brackets were the response proportions which lead to the conclusion that “the majority choice … is risk averse”.
That is, “the prospect o f certainly saving 200 lives is more attractive than a risky prospect of equal expected value, that is, a one-in-three chance of saving 600 lives”.
Then, 155 respondents were posed the following problem:
Problem 2 [N = 155]:
If Program C is adopted 400 people will die. [22 percent]
If Program D is adopted there is 1/3 probability that nobody will die, and 2/3 probability that 600 people will die. [78 percent]
Which of the two programs would you favor?
So, now the majority choice indicated “risk taking: the certain death of 400 people is less acceptable than the two-in- three chance that 600 will die”.
Yet, “the two problems are effectively identical”.
Rational decision making would not succumb to this switch in choice as the frame changes.
[Reference: Tversky, A. and Kahneman, D. (1981) ‘The Framing of Decisions and the Psychology of Choice’, Science, 211(4481), 453-458.]
Moreover, the 2015 National Financial Capability Study conducted by the US institution FINRA, is very telling.
It was reported on in this Fortune article (July 12, 2016) – Nearly Two-Thirds of Americans Can’t Pass a Basic Test of Financial Literacy.
The 2015 survey shows that Americans are incapable of performing even the simplest computations that would be required to engage in optimal choice exercises of the type assumed to govern decision-making in the mainstream economic theory.
27,564 Americans revealed an incredible state of ignorance of key financial concepts and variables.
For example, “Nearly two thirds of Americans can’t calculate interest payments correctly” – that is, cannot compute a simple percentage.
Try solving out the transversality condition with that level of skill!
The Survey found, for example:
1. “When budgeting household finances, many Americans focus on relatively short-term time periods.” The majority have a time span of a few years only.
2. When asked five basic questions about interest rates, inflation, bond prices, mortgages and risk, “only 14% of respondents are able to answer all five questions correctly”.
3. And “financial literacy shows a slight downward trend since 2009”.
4. “While speculative, the trends in financial literacy scores suggest a shrinking class of moderately financially literate citizens, just as growing income inequality has led to a shrinking middle class.”
5. On interest rate compounding (an essential concept if one is to understand present value), “only a third of respondents are able to answer the question correctly … many Americans simply do not understand the potential power of compounding.”
6. And despite the sharp rise in fiscal deficits, the Survey concluded that “there is not much evidence to suggest that more Americans are saving for the long term.” So how will the deficits be paid back? (joke, laugh now).
Of course, even if the level of literacy was higher, the sort of decision-making framework claimed to determine individual choices is still pie-in-the-sky sort of stuff.
But it serves its purpose as an ideological construct creating a narrative that is anti-government and allows policy to maintain mass unemployment and diminished well-being.
Crowdfunding Request – Economics for a progressive agenda
18 days left, still only raised 41 per cent of target.
I received a request to promote this Crowdfunding effort. I note that I will receive a portion of the funds raised in the form of reimbursement of some travel expenses. I have waived my usual speaking fees and some other expenses to help this group out.
The Crowdfunding Site is for an – Economics for a progressive agenda.
As the site notes:
Professor Bill Mitchell, a leading proponent of Modern Monetary Theory, has agreed to be our speaker at a fringe meeting to be held during Labour Conference Week in Brighton in September 2017.
The meeting is being organised independently by a small group of Labour members whose goal is to start a conversation about reframing our understanding of economics to match a progressive political agenda. Our funds are limited and so we are seeking to raise money to cover the travel and other costs associated with the event. Your donations and support would be really appreciated.
For those interested in joining us the meeting will be held on Monday 25th September between 2 and 5pm and the venue is The Brighthelm Centre, North Road, Brighton, BN1 1YD. All are welcome and you don’t have to be a member of the Labour party to attend.
It will be great to see as many people in Brighton as possible.
Please give generously to ensure the organisers are not out of pocket.
That is enough for today!
(c) Copyright 2017 William Mitchell. All Rights Reserved.
This Post Has 15 Comments
Some of the students that I taught 15-20 years ago in 2nd yr eco could not add two integers unless they were of the same sign, I sh!t you not. It’s not just the curriculum that is poor, but the standard of students coming through has long been in decline. I doubt this will improve any time soon.
Thanks for bringing up the Tversky-Kahneman experiment. I have never heard of it.
People say framing matters but never give specific examples to show that.
It is true that the Social Management System, schools and media, has continued to dumb the population down, they took political economy out of the curriculum at the turn of the 20th century. Read any old text and you can tell our vocabulary has been decimated. Better to just read than to go to school, they teach a lot of lies, especially in economics which was designed to protect the bankers. The good news is that the cat is out of the bag and despite the efforts to keep it a secret through obfuscation and public incredulity movements are forming that are informed about how money is currently issued as debt for personal gain by banks and how money should instead be issued as a public asset for the general welfare by government. The current system is killing the planet and people are beginning realize that the system must change. As conditions worsen, and they will until the system is changed, this movement and awareness will grow. If it does not change the top.001% will go down with the rest of us and life will be greatly set back on this planet for the 6th time.
“Read any old text and you can tell our vocabulary has been decimated.”
One reason for the deplorable state of economics is the fact that economists devote a lot of effort to scratching each other’s backs, rather than criticizing each other where criticism is warranted. Of course that’s not a characteristic unique to economics: Adam Smith pointed to the back scratching occurs in every profession.
A classic example of this is the relationship between Simon Wren-Lewis (Oxford economics prof) and Kenneth Rogoff. Wren-Lewis basically sees things the same way MMTers do: i.e. he has long argued that the size of the deficit and debt do not matter as long as there is excess unemployment. Plus he constantly derides economics commentators for claiming the debt DOES MATTER. So you’d think Wren-Lewis would criticize Rogoff (and Reinhart). But not a bit of it. Wren-Lewis’s criticism is so mild and oblique you’d hardly think it was criticism.
Result: Rogoff and Reinhart and others have been free over the last ten years to promote their “debt overhang” nonsense, which has condemned millions to unnecessary unemployment.
Two cents of general interest posted on FACEBOOK…..
If we acknowledged employment as a legal right-we would not have an opioid crisis/epidemic in America, today! The right to work was a given in primitive societies-but lost in the Age of Industrialization–and given robots, alone, Job Creation has become more and more difficult as Washington clings to antiquated methods that don’t work in the 21st Century [such as giving obscene piles of cash to the 1%, and praying they will use it to hire people-NOT]! The solution: FULL EMPLOYMENT IS A PRO-MARKET CONCEPT, Amazon/Kindle
Spot on Jim Green! Any attempt to profit by simply cutting labor out of the workforce is both bad economics and frankly it’s just anti-social behavior performed out of spite.
About 20 years ago I worked with a guy who had about three years of college study in economics. He had been kicked out of college for taking drugs. The thing is he and two others in his family argued with me that there was no difference in compound and simple interest. I never did convince them that there was. He finally killed himself. I don’t know if the college course on economics had anything to do with it.
GLH, how could anyone not be able to discern the difference between compound and simple interest? All you have to do is carry out a few calculations. Bizarre.
Tversky-Kahneman: Gerd Gigerenzer has carried out similar experiments on medics and their patients. He found that many medics had little or no understanding of the issues surrounding false positives and false negatives with respect to the tests they administered or suggested. There was also a difference between what he calls “base frequencies” and Kolomogorov probabilities. In assessing certain kinds of probabilistic scenarios, what his subjects did was to assess the alternatives in terms of base frequencies, such as what might be the case relevant for someone like them, rather than standard probability theory, which they had trouble understanding. Here, framing the problem was essential.
In respect of probability theory, Tversky and Kahneman’s Linda experiment has been controversial due to the notion of “rationality” that they used to interpret the results. Some Bayesians dispute what they see as the T-K definition of rationality, based on the Kolmogorov axioms. Bovens and Hartmann, in their Bayesian Epistemology, provide another interpretation of the Linda experiment that contradicts T&K’s solution.
For those unfamiliar with the experiment, subjects were asked which was more probable, that Linda was a bank teller or that she was an activist or both. They were then given four choices. Many selected both, which according to the Kolomogorov axioms is wrong. Bovens and Hartmann re-describe the experiment in such a way that Both can be a correct answer. They are keen that probability theory should be more widely understood, from a Bayesian standpoint.
From Gigerenzer’s experiments, which can be found in his Calculated Risks: How to Know when Numbers Deceive You, it is clear that the average person including many professionals do not use standard probability theory in their decision-making at all. Many use a related framework, base frequencies, if given the option.
Another interesting thought experiment is the runaway train. Subjects have the choice of switching the train so that it kills only one person or doing nothing and thereby letting 5 people die. Most people prefer to do nothing rather than engage in an act that would result in a death as a consequence of what they did. I can’t see how neoliberal econ could handle this scenario either.
Of course the TK experiment is worse for the “rationality” assumptions than Bill suggests, as all four alternatives proposed have the same expected outcome of 200 saved, so they should be indistinguishable to the “rational” agent.
It occurs to me that the “rational” agent assumption is not so rejected by empirical observations of the effectiveness of austerity policies. Perhaps the “rational” agents are tricked by the Ricardian equivalence drivel. They “crowd source” the correct knowledge that less money in the system means less employment and security while more money means more employment and security.
I find your posts very useful, Bill, as a high school eco teacher, I think it is misleading to characterise the subject as an exercise in neoliberal inculcation.
The NSW HSC Economics curriculum does include the various ways of financing a government deficit, and textbooks discuss monetary financing.
Also, things such as the conflict between economic growth and equality and environmenal sustainability are addressed.
While ‘rational’ behaviour is an assumption of the micro theory, if taught properly, it should be explicitly called an assumption and the shortcomings of such an approach should be discussed.
I have found that the HSC economics course provides many opportunities for not only teaching rational thinking, but also critical thinking, and as such, I don’t think it should be dismissed so easily.
Having said all that, my dream is for an extension (3 unit) HSC economics course that covers the various schools of economics: Marxist, neo-Keynesian, institutional, behavioural etc
I studied HSC economics 2004/2005
I found it informative. We were taught about MPC and sectorial balances. I worked out the benefits of a floating currency and understood how the Breton woods system operated.
For the life of me could never understand bond issuance, or why it was governments just wouldn’t fund education (there were severe cuts to education funding at the time) when those real resources were there. I had always concluded governments issued currency and could never run out – this was done through my own reasoning rather than explicitly taught.
I recall thinking the pursuit of surpluses seemed rather ridiculous. But I just took into my modelling, that’s what needed to be done and I never understood why, despite reading those ridiculous assumptions about human behaviour, and thinking I wasn’t clever enough to understand it!
We were still drilled with the taxes fund spending myth and I factored in it was an inflationary control and assumed balanced and surplus budgets meant nil inflation. Inflation was something I could never wrap my young mind around. I just figured the mathematics was too advanced.
We were taught the NAIRU – none of which made sense to me. Being young and rather naive, I gave up and after losing interest, all that thinking was lost and i became indoctrinated in neoliberal assumptions about the economy. I understand the pressure groupthink brings and the difficulty it is to think using a different paradigm.
It’s nice to know, I was thinking in MMT terms before I’d ever heard of differing schools of economic thought. Change will come but first this myth that taxation funds spending must be replaced with the government must spend so we can earn. I think that is simple enough to understand.
Any update on when the advanced version of the MMT textbook will be available?
Any update when the advanced MMT textbook will be available?
You use “Less” when you should be using “fewer”
Otherwise agree that economics is conflated with bad logic and flawed psychology.