May 16, 2019

Frustrations of an unreconstructed, unrepentant Keynesian

Those with a progressive agenda (and, yes, I count myself as one) have been frustrated by our own inability and reluctance to engage head-on in the most important argument in political discourse – the role, function, and objective of government.

Economics has a critical part to play in preserving the liberal political system. But to do so political liberalism must be detached from neo-liberal economics.

Skidelsky, Robert (2018)

Further, the progressive agenda remains severely hindered when avoiding the critical interaction with economics in this discourse. Rightly, it has identified (if not properly understood) the havoc and harm wreaked by the adherence to a pure laissez-faire form of economics. Nevertheless, that particular School of economics and its adherents continues to hold power and sway, as progressives continue to be apologetic (or lack clarity) about their proposed replacement model.

For the absence of doubt, I use the term ‘progressive’ to describe those who recognise that markets are inherently imperfect, incomplete, and indifferent to the consequential impacts on individuals, families, and communities, current and future. I acknowledge drawing heavily from Robert Skidelsky’s Money and Government1 and his other writings, and have taken the liberty to pepper this note with some quotations from that work.  As always, though, this note is solely my responsibility.

Economic and political discourse since the 1980s have been framed within the belief that markets, as propounded by microeconomic theory, will gravitate towards an equilibrium that will be optimal over the long term guided by the behaviour of rational individuals. Admittedly, there will be deviations from equilibrium over the short term, but Adam Smith’s invisible hand will ultimately settle us at an equilibrium position. Moreover, this equilibrium will by definition include full employment of labour – given that labour is just another market where price will adjust to equilibrate demand and supply.

Students of economics are still taught these fundamentals of microeconomics. Most economic advisors and policy analysts, having learnt their trade over the past 40 years, will have been guided by the accompanying Manual. Missing in action from this perspective is a role for money and a role for government.

Microeconomics does not foreshadow a role for government. According to the Manual, the entry of government will inevitably obstruct the mechanics of the invisible hand and slow, stall, or stop the movement towards the optimal full employment equilibrium. Indeed, the government is in many cases the primary cause of the initial deviation from equilibrium according the Manual.

Microeconomics does not require an explanation for money. Money is neutral and is only required to assist in the exchange of goods and services between producers and consumers. Assuming away uncertainty (a minor detail?), there is no need to save for emergencies or the prospect of unforeseen untoward events.

Relative prices matter to the market Manual, but as long as the absolute price level is controlled then money is neutral. Conveniently, this can be achieved by outsourcing (to an institution independent, so-called, of government) the supply of money (credit) to be consistent with the demand for such credit. Thus, there will be no inflation and the absolute price level will remain under control. Hence, there is no requirement (or incentive) to engage in speculation. Consequently, investment decisions are similarly optimal, being based on the capital replacement and expansion needs of the numerous markets competing for capital owners’ funds.

Microeconomics continues to expound the belief that markets deliver an optimal solution – if only governments kept out of the way. Macroeconomics is not so hamstrung.  Further, two principal characteristics of macroeconomics are roles for money and for government2.

Microeconomics was designed to show that markets worked; macroeconomics, how they might fail.

Skidelsky, Robert (2018)

With the presence of uncertainty (which, in the interests of clarity, is not a minor detail), savings as a defence against the unforeseen and untoward becomes necessary. Consequently, money is no longer neutral, as its availability impacts on savings and so on consumption behaviour. Thus, the absolute price level does matter (as well as relative prices). Further, with the presence of uncertainty investment decisions can be clouded by the introduction of the incentive to speculate.

Uncertainty introduces the prospect of markets not gravitating to any optimal equilibrium – it may not go towards any equilibrium at all.

Macroeconomics describes the prospect of an inherent imbalance between savings and investment that leads to sub-optimal (i.e. below full employment) equilibrium and, consequently, proposes an active role for government to manage the economy towards a more optimal situation. This usually involves public investments (e.g. transport, hospitals, schools, community institutions) to close the gap between savings and investments. However, the role of government can also sometimes require public savings (i.e. financial debt reduction or financial asset accumulation) through appropriate tax policy. Together, these options are termed fiscal policy.

Further, there is no contracting out of the control of money (credit), as it is very much subservient to the needs of managing the economy (together with the aforementioned fiscal policy) towards an improved optimal situation.

Since the 1980s a determined attempt has been made to squeeze macroeconomics out of economics.

Skidelsky, Robert (2018)

It is this macroeconomic mechanism that is rendered totally impotent by the microeconomic market Manual. And, worse, with the contracting out of money (credit) control and the imposition of so-called Budget (or fiscal) Responsibility Rules, this impotence is now given the status of de facto legislated statute.

Such has been the surrender by those with a progressive agenda that this impotence is only marginally addressed in their proposed replacement model. Contracting out of the control of money (credit) continues. Admittedly, the addition of an output/employment level target does contravene the Manual. However, the contracting out element is far more important in that it continues to negate a role for government.

Indeed, a consequence of the application of the Manual over the past 40 years has been the elevation of the importance of the finance sector (effectively replacing the government) as the overlord of economic management. This remains in the proposed replacement model.

Further, the progressive agenda is supposedly now devising a re-specification of the Budget Responsibility Rules. Surely, if we are to argue an unapologetically active role for government, then it’s not Budget Responsibility that matters. The role for government is not to be responsible with its Budget; the role for government is to responsibly manage the economy so that all individuals, families, and communities have opportunities to live, contribute, and prosper.

Once this proposed role is forwarded, argued, and becomes the centrepiece of the progressive agenda, then related policy suggestions can be considered. In particular, with the proposition of a positive and active role for government, the progressive agenda need not be defensive about its current Achilles Hell – tax3. Tax itself can then be reframed as individuals’ and corporates’ positive contribution to the enhancement and maintenance of the necessary structures, institutions, and mores of communities. Without these facilities and accepted norms, groups degenerate into dysfunctional, distrusting, exclusive cliques with high transaction costs and wasted opportunities, people, and resources. Tax is not a cost. Rather, it provides institutions and enterprises with a licence to operate. It enables the level playing field of a truly inclusive agenda, thus providing all individuals the opportunity to participate in and contribute to their communities.

If the thesis of this book, that money and government are stars of the economic drama, is accepted, economics will need to give them the appropriate starring role.

Skidelsky, Robert (2018)

The responsible management of the economy is the means to an end, not an end in itself. What’s ‘good for the economy’, need not be the same as what’s ‘good’ for individuals, families, and communities. If the two do not coincide then it is the economy that needs reshaping, not individuals, families, or communities. Those with a progressive agenda have to assert that the economic mechanism that government should allow to operate must be designed to meet the needs of communities (not vice-versa).

For guidance, we could call on the purpose of Local Government – improving the economic, environmental, cultural, and social wellbeing of current and future communities. Or we could just take the top line of the NZ Treasury Living Standards Framework – intergenerational wellbeing. Interestingly, these (at face value at least) seem to have no problems with acknowledging a proactive role for government. So, maybe there is hope?

The progressive replacement for the Manual must recognise the teachings of macroeconomics and the consequential critical role (and function and objectives) of government. This role should not be artificially constrained by rules written by those that are openly hostile to a role for government in the first place. If a constraint is required, it needs to be consistent with agreed functions and objectives (e.g. as above) that unashamedly notes that Budget (or fiscal) Responsibility must be subservient to Responsibility for Intergenerational Community Outcomes.

The reinvention of macroeconomics requires inserting society into the study of economics. …. We should start, therefore, with the social structures, relations, norms and institutions through which individual decisionmaking takes place, as Keynes himself did in the General Theory. … He emphasised in particular the role of norms and conventions, as opposed to correct information, in anchoring beliefs.

Skidelsky, Robert (2018)

Progressives need to (re-)enter the game and strongly, unapologetically and uncompromisingly argue for a positive, pro-active role for government. For way too long those with a progressive agenda have sat on the sidelines, defaulting the game and effectively acceding to the wishes and perspectives of the Manual – that government is inherently bad and so needs to be shackled accordingly.

As noted earlier, I use the term progressives to describe those who recognise that markets are inherently imperfect, incomplete, and indifferent to the wider wellbeing of current and future communities. For markets to serve as a powerful tool in the pursuit of such wellbeing, korero, debate, and narrative needs to be oriented towards recognising and thereafter assigning a powerful, pro-active role for government. Government is good, and so should be allowed to undertake its mandate unshackled .

Students of other disciplines (e.g. politics, philosophy and others) may note that within (or aligned to) this argument of a role for government is (implicitly) the importance of the individual versus the collective. The market Manual has successfully devalued and diminished the importance of collective behaviour, institutions, and aspirations.

But the Manual has not delivered the promised prosperity for all, and it has had a good four decades to do so.

Disillusioned individuals, dismembered families, and dislocated communities are just the tip of the iceberg of harm caused. The yield of land, the health of water ways, and the bio-diversity of environments are in extreme peril. And the growing divide, as entrenched inequality normalises the situation of the lower paid, will only continue unchecked as opportunities for future generations recede further.

An economics course … would make no strong a priori claims about individual behaviour, calling it neither rational nor irrational, but assuming, rather, that people do the best they can for themselves in situations into which they are born or find themselves in.

Skidelsky, Robert (2018)

Those with a progressive agenda need to stop holding the language of the market economy as a biblical text not to be contravened. There cannot be any hesitation or apology in over-riding (or re-writing) the market Manual. Appropriate definitions for ‘productivity’ and ‘profitability’ should be promoted. In particular, the government’s role is not in some way to enable a market mechanism to be mimicked.

Importantly, the language of tax wedges, deadweight losses, blurred incentives, and compliance costs all assume that the market equilibrium (if we were ever to get there) is the preferred outcome. It was never the market equilibrium that was the ends, it was always the means to reach the ends. Now it has been shown (as evidenced over the last 40 years) that the market Manual does not deliver acceptable ends, it is time for government (as agents of individuals, families, and communities) to reclaim control of the market mechanism.

1 Skidelsky, Robert (2018), Money and Government: A Challenge to Mainstream Economics, Penguin Random House UK. I would also recommend Skidelsky’s (2010) Keynes: The Return of the Master, Penguin.

2 It is pertinent and more than relevant to note that Keynes titled his seminal contribution “The General Theory of Employment, Interest and Money”, Macmillan and Co, 1936.

3 For example, see Tax – the Achilles Heel of a Transformative Agenda,

4 In deference to my professors and mentors of so many years ago, I need to rightly note that the New Zealand situation requires an open acknowledgement that a ‘foreign exchange constraint’ sets a very real boundary for the government’s (and indeed nation’s) options. A thorough incorporation of the external sector is critical for any macroeconomic Handbook to be applicable to the New Zealand context.