Friday, October 24, 2008

A Look Back At Economics 101

The financial crisis has caused many people to lose faith in traditional economic philosophy. It can be argued, however, that according to Economics 101 principals this crisis should have been expected. James Picerno gives us a history lesson that hopefully we will learn from this time around, in his post from The Capital Spectator.

Seeing the world as chaos, devoid of rules or logic when the capital and commodity markets go into a tailspin and the economic outlook is grim is a potent temptation. But it's a mistake to think that order has run off the rails.

The problem has been hubris—an excess of hubris. The comeuppance is now upon us, and the process of a return to modesty, humility and a healthy respect for risk in money management is in full swing. This comes as a great shock to many investors. But to say this is something new is to ignore history.

Financial calamity is always lurking. As Kindleberger put it, financial crisis is a "hardy perennial." Sometimes it's kept at bay for years, even decades, but eventually the beast returns. Painful as this recurring truth is for those who must live through it and watch hard-earned savings wither, there can be no other path.

Don't misunderstand. The pursuit of progress in economics and portfolio management must continue, and will continue. We're not doomed to sit on our hands and let the financial gods do what they will with us. We can and will advance the cause of intelligence on these fronts. Indeed, we've learned much over the past 100 years. Yet greed and fear are immune to knowledge and wisdom, much as the common cold is resistant to the miracle that is medical science.

But the system—the economy, the markets—impose their own discipline when self-restraint has given way, as it invariably does at some point. Imagine an alternative universe where companies and economies grow to the sky, risk is always rewarded. At some point in this fairy tale world everyone would be a day trader, working out of 80,000-square-foot homes replete and driving SUVs plush with surround sound audio and widescreen TVs.


Such a world, as enticing as it may seem on a personal level, would collapse of its excess. Someone has to run the farms, build the bridges and figure out how to build small, more efficient computer chips. Having plumbers and bus drivers, in short, comes in handy on a regular basis.

The discipline that takes leave at times is returned to by force in the form of economic and financial turmoil. Stability is inherently unstable, as Hyman Minsky famously warned. The inevitable instability isn't pretty, nor is it desirable per se, but ultimately it's necessary to keep us from turning into the financial equivalents of overweight blimps a la the animated movie WALL-E.

One might imagine that the pummeling of investors in the 2000-2002 collapse of the tech bubble would have reacquainted Wall Street and the world generally with the principles of humility and an appreciation of risk. For a time, the lesson was learned (relearned actually), but it was fleeting. This time, however, the lesson will be learned.

We're all guilty in some degree of ignoring the excess that preceded the correction that now bites us all. We're all guilty in some degree of looking back at "history," as defined by 5 or 10 or even 30 years and concluding that risk never looks uglier than this, or that. We're all guilty in some degree of failing to look back over much longer periods of history, at the experiences of different countries, and considering how bad it can really get and what that implies for risk management. We're all guilty in some degree of assuming that a correction would be fairly brief and that it would create a buying opportunity next Thursday, an event that would reap juicy rewards within weeks, or months or certainly within a year. We're all guilty of assuming that the massive rise of debt, the non-stop spending by consumers, and the general embrace of the more-is-better paragon would be a costless affair.

Yes, some of us were warning of the dangers for some time. What's more, some have studied the past deeply in an effort to understand the full range of possibilities in the money game. GMO's Jeremy Grantham is one example. But such warnings generally fell on deaf ears. That's no great mystery. Optimism comes easily to the human mind. Meanwhile, preparing for the apocalypse--even modestly or just thinking about it--is always easy to postpone.

We've all been disabused of these and other short-sighted and historically shallow notions. No, few of us have ever seen anything like what we're experiencing now. But that fact, along with the reality that almost no one was expecting the risk blowback that now afflicts the planet was a warning sign—a warning sign that a reintroduction on a mass scale to the nature of risk was near.

The future is rushing toward us, and it's a future with a lot less finance in the economy. For some time now there has been too much finance in the world. It was naïve to think that the industry, and all its excess, could keep growing indefinitely. But that has stopped, and the process will continue reversing in a big way for a long time. The future will deliver few mutual funds, fewer ETFs, fewer over-sized egos in money management, to name but a few examples.

It's all very painful, of course, partly because the biggest bull market of all was the explosion skyward in expectations. The hardest task is coming to terms with a future that looks radically different from the past. But rest assured, the pain too will be fleeting. When the last man has sold; when it looks like nothing could go possibly right again; when darkness appears infinite; that's when the rebound will commence in earnest. It'll be quietly, mysteriously, and almost no one will see it. But it will come. Meantime, we're all booked for a lengthy session in the Economics Re-education 101.

This article has been reposted from The Capital Spectator. The full post can also be viewed on The Capital Spectator.

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1 comments:

October 24, 2008 at 9:59 PM docjmd said...

The Effectiveness of "Traditional" Neoclassical Economics in Solving current problems

My name is Jeffrey M Doyle. I ATTENDED THE UNIVERSITY OF MICHIGAN, ANN ARBOR AND MICHIGAN STATE UNIVERSITY, RECEIVING MY Ph.D. IN 1977.

FOR OVER THIRTY YEARS MY [AND OTHERS] IDEAS WERE DISMISSED AS UNPROVEN AND NOT RELEVANT. TODAY MOST
OF WHAT I PROPOSED IN A 1977 PH.D. DISSERTATION HAS NOT ONLY GAINED ACCEPTANCE BUT IS BEING ACTIVELY
PROMOTED AND PUT INTO PRACTICE. BETTER LATE THAN NEVER.

IN TERMS OF OUR ECONOMY, WE ARE CURRENTLY IN THE WORST SHAPE SINCE THE GREAT DEPRESSION OF 1929. HARD
CORE, DEEPLY ENTRENCHED ADVOCATES OF NARROWLY DEFINED ECONOMICS WILL STAUNCHLY DEFEND THEIR
ICONIC VIEWS-EVEN IN THE FACE OF ONE DISMAL FAILURE AFTER ANOTHER. GALILEO'S REWARD FOR PROVING THAT
THE EARTH ORBITED THE SUN INSTEAD OF THE OPPOSITE SCENARIO ESPOUSED BY THE VATICAN, LED TO A LIFETIME OF
HOUSE ARREST.

MY WORK IS BEST SUMMARIZED FROM THIS EXCERPT FROM WIKIPEDIA "...Energy economics relating to thermoeconomics, is a
broad scientific subject area which includes topics related to supply and use of energy in societies. Thermoeconomists argue that economic
systems always involve matter, energy, entropy, and information.[12]Thermoeconomics is based on the proposition that the role of energy in
biological evolution should be defined and understood through the second law of thermodynamics but in terms of such economic criteria as
productivity, efficiency, and especially the costs and benefits of the various mechanisms for capturing and utilizing available energy to build
biomass and do work.[13][14] As a result, thermoeconomics are often discussed in the field of ecological economics, which itself is related to
the fields of sustainability and sustainable development.
Georgescu-Roegen reintroduced into economics, the concept of entropy from thermodynamics (as distinguished from the mechanistic
The Effectiveness of "Traditional" Economics in solving Current Problems... http://connect.bioneers.org/profiles/blog/create
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foundation of neoclassical economics drawn from Newtonian physics) and did foundational work which later developed into evolutionary
economics. His work contributed significantly to bioeconomics and to ecological economics..."

The traditional [1970's] curriculum of natural resource economics emphasized fisheries models, forestry models, and minerals extraction models
(i.e. fish, trees, and ore). In recent years, however, other resources, notably air, water, the global climate, and "environmental resources" in
general have become increasingly important to policy-making.
The economics and policy area focuses on the human aspects of environmental problems. Traditional areas of environmental and natural
resource economics, include welfare theory, pollution control, resource extraction, and non-market valuation, and also resource
exhaustibility,[3] sustainability, environmental management, and environmental policy. Research topics could include the environmental
impacts of agriculture, transportation and urbanization, land use in poor and industrialized countries, international trade and the environment,
climate change, and methodological advances in non-market valuation, to name just a few. These items made up the core of my 1970's
curriculum.
Natural resource economics also relates to energy, and is a broad scientific subject area which includes topics related to supply and use of
energy in societies. Thermoeconomists argue that economic systems always involve matter, energy, entropy, and information.
[4]Thermoeconomics is based on the proposition that the role of energy in biological evolution should be defined and understood through the
second law of thermodynamics but in terms of such economic criteria as productivity, efficiency, and especially the costs and benefits of the
various mechanisms for capturing and utilizing available energy to build biomass and do work.[5][6] As a result, Natural resource economics are
often discussed in the field of ecological economics, which itself is related to the fields of sustainability and sustainable development.
In recent years more attention has been given people such as Frederick Soddy who in Wealth, Virtual Wealth and Debt, turned his attention to
the role of energy in economic systems. He criticized the focus on monetary flows in economics, arguing that real wealth was derived from the
use of energy to transform materials into physical goods and services. Soddy's economic writings were largely ignored in his time, but would
later be applied to the development of biophysical economics and ecological economics and also bioeconomics in the late 20th century.
The rise, and absorption into the mainstream of Keynesian economics, which appeared to provide a more coherent policy response to
unemployment than unorthodox monetary or trade policies contributed to the decline of interest in these schools.
After 1945, the synthesis of Keynesian and neoclassical economics resulted in a clearly defined mainstream position based on a division of the
field into microeconomics (generally neoclassical but with a newly developed theory of market failure) and macroeconomics (divided between
Keynesian and monetarist views on such issues as the role of monetary policy). Austrians and post-Keynesians who dissented from this
synthesis emerged as clearly defined heterodox schools. In addition, the Marxist and institutionalist schools remained active.
Hence, while mainstream economics may be defined in terms of the "rationality-individualism-equilibrium" nexus, heterodox economics may be
defined in terms of a "institutions-history-social structure" nexus. Note that there is a different emphasis in distinguishing mainstream and
heterodox economics in this way than is involved in distinguishing them as closed-system and an open-system approaches respectively. It is
often claimed that neoclassical theory is appropriate as a tool only under certain limited conditions, where there is "perfect" or "near-perfect"
competition. While there is a large body of neoclassical analysis of imperfect competition, this terminology may be seen as incorporating the
assumption that non-competitive markets represent minor deviations from an ideal or perfect norm
Fields or schools of heterodox economics
American Institutionalist School
Austrian economics # (partly within, and partly outside of mainstream economics)[20]
Feminist economics #
Binary Economics
Political economy (the term is used in various ways, also to describe certain kind of economics)
Post-Keynesian economics
Post scarcity
Sraffian economics #
Marxian economics #
Socialist economics #
Bioeconomics §
Complexity economics
Evolutionary economics #§ (partly within mainstream economics)
Institutional economics # (partly within mainstream economics)
Ecological Economics
Neuroeconomics
Supply-side economics
Technocracy Incorporated (Energy Accounting)
Thermoeconomics
Ecological economics
Econophysics
# Listed in Journal of Economic Literature codes scrolled to at JEL: B5 - Current Heterodox Approaches.
§ Scrolled to at JEL: C73 - Stochastic and Dynamic games; Evolutionary games.
Research is also being done in the multidisciplinary field of cognitive science on individual decision making, information as a general
phenomena, distributed cognition and their implications on economic dynamicity.
Some schools in the social sciences aim to promote certain perspectives: classical and modern political economy; economic history:
The Effectiveness of "Traditional" Economics in solving Current Problems... http://connect.bioneers.org/profiles/blog/create
2 of 5 10/21/2008 10:36 AM
sociology and anthropology; gender and racial issues in economics; economic ethics and social justice; development studies; and so on.
[edit] References
1.^ a b LAWSON, Tony. The nature of heterodox economics. Published by Oxford University Press on behalf of the Cambridge Political
Economy Society, 2005, in: Cambridge Journal of Economics 2006 30(4):483-505; doi:10.1093/cje/bei093
2.^ Barry, C. (1998). Political-economy: A comparative approach. Westport, CT: Praeger.
3.^ Case, K. & Fair, R. (2008). The principles of economics. New Saddle River, NJ: Pearson.
4.^ http://www.eoearth.org/article/Soddy,_Frederick Soddy, Frederick - Encyclopedia of Earth
5.^ a b DAVIS, John B. The Nature of Heterodox Economics. post-autistic economics review, issue no. 40, 1 December 2006, article 3,
pp.23-30.
6.^ GABRIEL, Satya J. Introduction to Heterodox Economic Theory. , June 4, 2003 Satya J. Gabriel is a Professor of Economics at Mount
Holyoke College
7.^ DOW, S. C. Prospects for the Progress in Heterodox Economics. Journal of the History of Economic Thought 22 (2): 157-170., 2000.
8.^ GABRIEL, Satya J. Introduction to Heterodox Economic Theory. , June 4, 2003, Based on lecture's notes at the author's website. Copyright
© 1996-2007, Satyananda J. Gabriel, Mount Holyoke College.
9.^ GABRIEL, Satya J. Introduction to Heterodox Economic Theory. , June 4, 2003, Based on lecture's notes at the author's website. Copyright
© 1996-2007, Satyananda J. Gabriel, Mount Holyoke College.
10.^ GABRIEL, Satya J. Introduction to Heterodox Economic Theory. , June 4, 2003, Based on lecture's notes at the author's website.
Copyright © 1996-2007, Satyananda J. Gabriel, Mount Holyoke College.
11.^ Colander, D. (2007). Pluralism and Heterodox Economics: Suggestions for an "Inside the Mainstream" Heterodoxy
12.^ Baumgarter, Stefan. (2004). Thermodynamic Models, Modeling in Ecological Economics (Ch. 18)
13.^ Peter A. Corning 1 *, Stephen J. Kline. (2000). Thermodynamics, information and life revisited, Part II: Thermoeconomics and Control
information Systems Research and Behavioral Science, Apr. 07, Volume 15, Issue 6 , Pages 453 – 482
14.^ Corning, P. (2002). "Thermoeconomics – Beyond the Second Law" – source: www.complexsystems.org
15.^ Cleveland, C. and Ruth, M. 1997. When, where, and by how much do biophysical limits constrain the economic process? A survey of
Georgescu-Roegen's contribution to ecological economics. Ecological Economics 22: 203-223.
16.^ Daly, H. 1995. On Nicholas Georgescu-Roegen's contributions to economics: An obituary essay. Ecological Economics 13: 149-54.
17.^ Mayumi, K. 1995. Nicholas Georgescu-Roegen (1906-1994): an admirable epistemologist. Structural Change and Economic Dynamics 6:
115-120.
18.^ Mayumi,K. and Gowdy, J. M. (eds.) 1999. Bioeconomics and Sustainability: Essays in Honor of Nicholas Georgescu-Roegen. Cheltenham:
Edward Elgar.
19.^ Mayumi, K. 2001. The Origins of Ecological Economics: The Bioeconomics of Georgescu-Roegen. London: Routledge.
20.^ A Companion to the History of Economic Thought (2003). Blackwell Publishing. ISBN 0631225730 p. 452
[edit] See also
Marc Linder, Anti-Samuelson.
Austrian School of Economics"
"competition: Austrian conceptions"
Behavioural economics"
Bioeconomics
"biological applications of economics"
EAEPE
Francis Green & Petter Nore (eds.), Economics: An Anti-Text.
The following are entries for the above from The New Palgrave: A Dictionary of Economics (1987):
Institutional economics
Post-Keynesian economics
Marxian economics
Socialist economics
Sraffian economics
[edit] External links
Association for Heterodox Economics
Brazilian Journal of Political Economy (bilingual)
Cambridge Journal of Economics. founded in the traditions of Marx, Keynes, Kalecki, Joan Robinson and Kaldor
Conference of Socialist Economists
Departments of Economics With Heterodox Interests
Dollars and Sense
Debunking Economics
Evolutionary Economics - John P. Birchall
Green Economics Institute (links, aims, activities)
Heterodox Economics Web
The History of the Economic Thought Website
Institutional & Behavioral Economics
The International Journal of Development Issues, Faculty of Economics and Business, University of Sydney, Australia
International Journal of Green Economics (publisher's description)
The London School of Economics at the HET website
Post-Autistic Economics Network - heterodox economics: sanity, humanity and science - pluralism in economics
ROBINSON: Research On Banking International and National Systems Or Networks, University of Ottawa, History of Economics Thought
ROUSSEAU, Jean-Jacques.Page at The History of Economic Thought Website
The Effectiveness of "Traditional" Economics in solving Current Problems... http://connect.bioneers.org/profiles/blog/create
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STEDMAN-JONES, Gareth. Saint Simon and the liberal origins of the socialist critique of Political Economy. King's College, Cambridge
University
"Teaching Heterodox Economics Concepts", Andrew Mearman (2007) in "The Handbook for Economics Lecturers"
Union for Radical Political Economics
LINKS: University of Utah. Economics Dept. Heterodox Economics Student Association
[edit] Publications on heterodox economics
Articles
LEE, Frederic S. "heterodox economics," The New Palgrave Dictionary of Economics, 2008, 2nd Edition, Abstract.
Books
Blatt, John Markus: Dynamic Economic Systems: A Post-Keynesian Approach, Armonk, 1983, ISBN 0710802730
COHN, Steven Mark. Reintroducing Macroeconomics: A Critical Approach. M. E. Sharpe, Inc, December 2006 ISBN 978-0-7656-1450-6
ISBN 978-0-7656-1451-3
DAVIS, John, editor. The Theory of the Individual in Economics: Identity and Value. Routledge, 2003 ISBN 0415202191
FULLBROOK, Edward, editor. A Guide to What's Wrong with Economics. London: Anthem Press, November 2004 ISBN 1843311488
HARVEY, John T. and GARNETT JR., Robert F. Garnett, Editors. Future Directions for Heterodox Economics, Series Advances in Heterodox
Economics, The University of Michigan Press, 2007. ISBN 978-0-472-03247-1
LAVOIE, M. (1992) Foundations of Post-Keynesian Economic Principles, Aldershot: Edward Elgar.
McDERMOTT, John. Economics in Real Time: A Theoretical Reconstruction, Series Advances in Heterodox Economics, The University of
Michigan Press, 2003 ISBN 978-0-472-11357-6
ROCHON, Louis-Philippe (1999) Credit, Money and Banking: An Alternative Post-Keynesian Approach, Cheltenham: Edward Elgar.
ROCHON, Louis-Philippe and ROSSI, Sergio, editors. Modern Theories of Money: The Nature and Role of Money in Capitalist Economies.
Edward Elgar Publishing, 2003 ISBN 1840647892
Articles, conferences, papers
COHN, Steve. Common Ground Critiques of Neoclassical Principles Texts., 2003. Knox College (Illinois).
COLANDER, D. The Death Of Neoclassical Economics. Journal of the History of Economic Thought, 2002, 22 (3), pp. 127-43. Online
readable, free link - Copyright JHET, All rights reserved
LAVOIE, Marc. Do Heterodox Theories Have Anything in Common? A Post-Keynesian Point of View.
LAWSON, Catherine & LAWSON, Larry (1990). Financial system restructuring: lessons from Veblen, Keynes, and Kalecki. Journal of
Economic Issues 24 (1): 115-31.
LAWSON, Tony. The nature of heterodox economics. Published by Oxford University Press on behalf of the Cambridge Political Economy
Society, 2005, in: Cambridge Journal of Economics 2006 30(4):483-505; doi:10.1093/cje/bei093
MINSKY, Hyman (1996). Uncertainty and the institutional structure of capitalist economies. Journal of Economic Issues 30(2):357-68.
RANSON, Baldwin Heterodox theoretical convergence: possibility or pipe dream? (Notes and Communications)(Report). Journal of Economic
Issues, 01-MAR-07
SECCARECCIA, M. Early Twentieth-Century Heterodox Monetary Thought», Money, Financial Institutions, and Macroeconomics, ed. by A.J.
Cohen, H. Hagemann and J.N. Smithin, Boston: Kluwer Academic Publishers, 1997, pp. 125-39
Retrieved from "http://en.wikipedia.org/wiki/Heterodox_economics"
Categories: Heterodox economics | Political economy

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