Debt­watch No. 42: The eco­nomic case against Bernanke

Flattr this!

The US Sen­ate should not reap­point Ben Bernanke. As Obama’s reac­tion to the loss of Ted Kennedy’s seat showed, real change in pol­icy only occurs after polit­i­cal scalps have been taken. An eco­nomic scalp of this scale might finally shake Amer­ica from the unsus­tain­able path that reck­less and feck­less Fed­eral Reserve behav­ior set it on over 20 years ago.

Some may think this would be an unfair out­come for Bernanke. It is not. There are solid eco­nomic rea­sons why Bernanke should pay the ulti­mate polit­i­cal price.

Haste is nec­es­sary, since Sen­a­tor Reid’s pro­posal to hold a clo­ture vote could result in a deci­sion as early as this Wednes­day, and with only 51 votes being needed for his reap­point­ment rather than 60 as at present. This doc­u­ment will there­fore con­sider only the most fun­da­men­tal rea­son not to reap­point him, and leave addi­tional rea­sons for a later update.

Misunderstanding the Great Depression

Bernanke is pop­u­larly por­trayed as an expert on the Great Depression—the per­son whose inti­mate knowl­edge of what went wrong in the 1930s saved us from a sim­i­lar fate in 2009.

In fact, his igno­rance of the fac­tors that really caused the Great Depres­sion is a major rea­son why the Global Finan­cial Cri­sis occurred in the first place.

The best con­tem­po­rary expla­na­tion of the Great Depres­sion was given by the US econ­o­mist Irv­ing Fisher in his 1933 paper “The Debt-Defla­tion The­ory of Great Depres­sions”. Fisher had pre­vi­ously been a cheer­leader for the Stock Mar­ket bub­ble of the 1930s, and he is unfor­tu­nately famous for the pre­dic­tion, right in the mid­dle of the 1929 Crash, that it was merely a blip that would soon pass:

Stock prices have reached what looks like a per­ma­nently high plateau. I do not feel that there will soon, if ever, be a fifty or sixty point break below present lev­els, such as Mr. Bab­son has pre­dicted. I expect to see the stock mar­ket a good deal higher than it is today within a few months.”  (Irv­ing Fisher, New York Times, Octo­ber 15 1929)

When events proved this pre­dic­tion to be spec­tac­u­larly wrong, Fisher to his credit tried to find an explana­ton. The analy­sis he devel­oped com­pletely inverted the eco­nomic model on which he had pre­vi­ously relied.

His pre-Great Depres­sion model treated  finance as just like any other mar­ket, with sup­ply and demand set­ting an equi­lib­rium price. In build­ing his mod­els, he made two assump­tions to han­dle the fact that, unlike the mar­ket for, say, apples, trans­ac­tions in finance mar­kets involved receiv­ing some­thing now (a loan) in return for pay­ments made in the future. Fisher assumed

(A) The mar­ket must be cleared—and cleared with respect to every inter­val of time.

(B) The debts must be paid.”  (Fisher 1930, The The­ory of Inter­est, p. 495)[1]

I don’t need to point out how absurd those assump­tions are, and how wrong they proved to be when the Great Depres­sion hit—Fisher him­self was one of the many whose for­tunes were wiped out by mar­gin calls they were unable to meet.  After this expe­ri­ence, he real­ized that his equi­lib­rium assump­tion blinded him to the forces that led to the Great Depres­sion. The real action in the econ­omy occurs in dis­e­qui­lib­rium:

We may ten­ta­tively assume that, ordi­nar­ily and within wide lim­its, all, or almost all, eco­nomic vari­ables tend, in a gen­eral way, toward a sta­ble equi­lib­rium… But the exact equi­lib­rium thus sought is sel­dom reached and never long main­tained. New dis­tur­bances are, humanly speak­ing, sure to occur, so that, in actual fact, any vari­able is almost always above or below the ideal equi­lib­rium…

It is as absurd to assume that, for any long period of time, the vari­ables in the eco­nomic orga­ni­za­tion, or any part of them, will “stay put,” in per­fect equi­lib­rium, as to assume that the Atlantic Ocean can ever be with­out a wave. (Fisher 1933, p. 339)

A dis­e­qui­lib­rium-based analy­sis was there­fore needed, and that is what Fisher pro­vided. He had to iden­tify the key vari­ables whose dis­e­qui­lib­rium lev­els led to a Depres­sion, and here he argued that the two key fac­tors were “over-indebt­ed­ness to start with and defla­tion fol­low­ing soon after”. He ruled out other factors—such as mere overconfidence—in a very poignant pas­sage, given what ulti­mately hap­pened to his own highly lever­aged  per­sonal finan­cial posi­tion:

I fancy that over-con­fi­dence sel­dom does any great harm except when, as, and if, it beguiles its vic­tims into debt. (p. 341)

Fisher then argued that a start­ing posi­tion of over-indebt­ed­ness and low infla­tion in the 1920s led to a chain reac­tion that caused the Great Depres­sion:

(1) Debt liq­ui­da­tion leads to dis­tress sell­ing and to

(2) Con­trac­tion of deposit cur­rency, as bank loans are paid off, and to a slow­ing down of veloc­ity of cir­cu­la­tion. This con­trac­tion of deposits and of their veloc­ity, pre­cip­i­tated by dis­tress sell­ing, causes

(3) A fall in the level of prices, in other words, a swelling of the dol­lar. Assum­ing, as above stated, that this fall of prices is not inter­fered with by refla­tion or oth­er­wise, there must be

(4) A still greater fall in the net worths of busi­ness, pre­cip­i­tat­ing bank­rupt­cies and

(5) A like fall in prof­its, which in a “cap­i­tal­is­tic,” that is, a pri­vate-profit soci­ety, leads the con­cerns which are run­ning at a loss to make

(6) A reduc­tion in out­put, in trade and in employ­ment of labor. These losses, bank­rupt­cies, and unem­ploy­ment, lead to

(7) Pes­simism and loss of con­fi­dence, which in turn lead to

(8) Hoard­ing and slow­ing down still more the veloc­ity of cir­cu­la­tion. The above eight changes cause

(9) Com­pli­cated dis­tur­bances in the rates of inter­est, in par­tic­u­lar, a fall in the nom­i­nal, or money, rates and a rise in the real, or com­mod­ity, rates of inter­est.” (p. 342)

Fisher con­fi­dently and sen­si­bly con­cluded that “Evi­dently debt and defla­tion go far toward explain­ing a great mass of phe­nom­ena in a very sim­ple log­i­cal way”.

So what did Ben Bernanke, the alleged mod­ern expert on the Great Depres­sion, make of Fisher’s argu­ment? In a nut­shell, he barely even con­sid­ered it.

Bernanke is a lead­ing mem­ber of the “neo­clas­si­cal” school of eco­nomic thought that dom­i­nates the aca­d­e­mic eco­nom­ics pro­fes­sion, and that school con­tin­ued Fisher’s pre-Great Depres­sion tra­di­tion of analysing the econ­omy as if it is always in equi­lib­rium.

With his neo­clas­si­cal ori­en­ta­tion, Bernanke com­pletely ignored Fisher’s insis­tence that an equi­lib­rium-ori­ented analy­sis was com­pletely use­less for analysing the econ­omy. His sum­mary of Fisher’s the­ory (in his Essays on the Great Depres­sion) is a barely recog­nis­able par­ody of Fisher’s clear argu­ments above:

Fisher envi­sioned a dynamic process in which falling asset and com­mod­ity prices cre­ated pres­sure on nom­i­nal debtors, forc­ing them into dis­tress sales of assets, which in turn led to fur­ther price declines and finan­cial dif­fi­cul­ties. His diag­no­sis led him to urge Pres­i­dent Roo­sevelt to sub­or­di­nate exchange-rate con­sid­er­a­tions to the need for refla­tion, advice that (ulti­mately) FDR fol­lowed. (Bernanke 2000, Essays on the Great Depres­sion, p. 24)

This “sum­mary” begins with falling prices, not with exces­sive debt, and though he uses the word “dynamic”, any idea of a dis­e­qui­lib­rium process is lost. His very next para­graph explains why. The neo­clas­si­cal school ignored Fisher’s dis­e­qui­lib­rium foun­da­tions, and instead con­sid­ered debt-defla­tion in an equi­lib­rium frame­work in which Fisher’s analy­sis made no sense:

Fisher’ s idea was less influ­en­tial in aca­d­e­mic cir­cles, though, because of the coun­ter­ar­gu­ment that debt-defla­tion rep­re­sented no more than a redis­tri­b­u­tion from one group (debtors) to another (cred­i­tors). Absent implau­si­bly large dif­fer­ences in mar­ginal spend­ing propen­si­ties among the groups, it was sug­gested, pure redis­tri­b­u­tions should have no sig­nif­i­cant macro­eco­nomic effects. ” (p. 24)

If the world were in equi­lib­rium, with debtors car­ry­ing the equi­lib­rium level of debt, all mar­kets clear­ing, and all debts being repaid, this neo­clas­si­cal con­clu­sion would be true. But in the real world, when debtors have taken on exces­sive debt, where the mar­ket doesn’t clear as it falls and where numer­ous debtors default, a debt-defla­tion isn’t merely “a redis­tri­b­u­tion from one group (debtors) to another (cred­i­tors)”, but a huge shock to aggre­gate demand.

Cru­cially, even though Bernanke notes at the begin­ning of his book that “the premise of this essay is that declines in aggre­gate demand were the dom­i­nant fac­tor in the onset of the Depres­sion” (p. ix), his equi­lib­rium per­spec­tive made it impos­si­ble for him to see the obvi­ous cause of the decline: the change from ris­ing debt boost­ing aggre­gate demand to falling debt reduc­ing it.

In equi­lib­rium, aggre­gate demand equals aggre­gate sup­ply (GDP), and defla­tion sim­ply trans­fers some demand from debtors to cred­i­tors (since the real rate of inter­est is higher when prices are falling). But in dis­e­qui­lib­rium, aggre­gate demand is the sum of GDP plus the change in debt. Ris­ing debt thus aug­ments demand dur­ing a boom; but falling debt sub­stracts from it dur­ing a slump

In the 1920s, pri­vate debt reached unprece­dented lev­els, and this ris­ing debt was a large part of the appar­ent pros­per­ity of the Roar­ing Twen­ties: debt was the fuel that made the Stock Mar­ket soar. But when the Stock Mar­ket Crash hit, debt reduc­tion took the place of debt expan­sion, and reduc­tion in debt was the source of the fall in aggre­gate demand that caused the Great Depres­sion.

Fig­ure 1 shows the scale of debt dur­ing the 1920s and 1930s, ver­sus the level of nom­i­nal GDP.

Figure 1: Debt and GDP 1920–1940

Fig­ure 2 shows the annual change in pri­vate debt and GDP, and aggre­gate demand (which is the sum of the two). Note how much higher aggre­gate demand was than GDP dur­ing the late 1920s, and how aggre­gate demand fell well below GDP dur­ing the worst years of the Great Depres­sion.

Figure 2: Change in Debt and Aggregate Demand 1920–1940

Fig­ure 3 shows how much the change in debt con­tributed to aggre­gate demand—which I define as GDP plus the change in debt (the for­mula behind this graph is “The Change in Debt, divided by the Sum of GDP plus the Change in Debt”).

Figure 3: Debt contribution to Aggregate Demand 1920–1940

So dur­ing the 1920s boom, the change in debt was respon­si­ble for up to 10 per­cent of aggre­gate demand in the 1920s. But when delever­ag­ing began, the change in debt reduced aggre­gate demand by up to 25 per­cent. That was the real cause of the Great Depres­sion.

That is not a chart that you will find any­where in Bernanke’s Essays on the Great Depres­sion. The real cause of the Great Depres­sion lay out­side his view, because with his neo­clas­si­cal eyes, he couldn’t even see the role that debt plays in the real world.

Bernanke’s failure

If this were just about the inter­pre­ta­tion of his­tory, then it would be no big deal. But because they ignored the obvi­ous role of debt in caus­ing the Great Depres­sion, neo­clas­si­cal econ­o­mists have stood by while debt has risen to far higher lev­els than even dur­ing the Roar­ing Twen­ties.

Worse still, Bernanke and his pre­de­ces­sor Alan Greenspan oper­ated as vir­tual cheer­lead­ers for ris­ing debt lev­els, jus­ti­fy­ing every new debt instru­ment that the finance sec­tor invented, and every new tar­get for lend­ing that it iden­ti­fied, as improv­ing the func­tion­ing of mar­kets and democ­ra­tiz­ing access to credit.

The next three charts show what that dere­lic­tion of reg­u­la­tory duty has led to. Firstly, the level of debt has once again risen to lev­els far above that of GDP (Fig­ure 4).

Figure 4: Debt and GDP 1990–2010

Sec­ondly the annual change in debt con­tributed far more to demand dur­ing the 1990s and early 2000s than it ever had dur­ing the Roar­ing Twen­ties. Demand was run­ning well above GDP ever since the early 1990s (Fig­ure 5). The annual increase in debt accounted for 20 per­cent or more of aggre­gate demand on var­i­ous occa­sions in the last 15 years, twice as much as it had ever con­tributed dur­ing the Roar­ing Twen­ties.

Figure 5: Change in Debt and Aggregate Demand 1990–2010

Thirdly, now that the debt party is over, the attempt by the pri­vate sec­tor to reduce its gear­ing has taken a huge slice out of aggre­gate demand. The reduc­tion in aggre­gate demand to date hasn’t reached the lev­els we expe­ri­enced in the Great Depression—a mere 10% reduc­tion, ver­sus the over 20 per­cent reduc­tion dur­ing the dark days of 1931–33. But since debt today is so much larger (rel­a­tive to GDP) than it was at the start of the Great Depres­sion, the dan­gers are either that the fall in demand could be steeper, or that the decline could be much more drawn out than in the 1930s.

Figure 6: Debt contribution to Aggregate Demand 1990–2010


Bernanke, as the neo­clas­si­cal econ­o­mist most respon­si­ble for bury­ing Fisher’s accu­rate expla­na­tion of why the Great Depres­sion occurred, is there­fore an emi­nently suit­able tar­get for the polit­i­cal sac­ri­fice that Amer­ica today des­per­ately needs. His extreme actions once the cri­sis hit have helped reduce the imme­di­ate impact of the cri­sis, but with­out the igno­rance he helped spread about the real cause of the Great Depres­sion, there would not have been a cri­sis in the first place. As I will also doc­u­ment in an update in early Feb­ru­ary, some of his advice has made America’s recov­ery less effec­tive than it could have been.

Obama came to office promis­ing change you can believe in. If the Sen­ate votes against Bernanke’s reap­point­ment, that change might finally start to arrive.


This is an advance ver­sion of my monthly Debt­watch Report for Feb­ru­ary 2010. Click here for the PDF ver­sion. Please feel free to dis­trib­ute this to any­one you think may be interested–especially peo­ple who may be in a posi­tion to influ­ence the Senate’s vote.

Pro­fes­sor Steve Keen

[1] This book was an untimely relaunch of his 1907 PhD the­sis.
Bookmark the permalink.
  • BrightSpark1


    B. If gov­ern­ment expen­di­tures do not facil­i­tate export pro­duc­tion or if neg­a­tive real inter­est rates cause bond­hold­ers to panic, the exchange rate will suf­fer. This can have big con­se­quences for a coun­try depen­dent on imported fuel or food.”

    The gov­ern­ments over the last 35 years have actively dis­cour­aged exports (reduc­ing tar­iffs even recently while the Chi­nese per­sist in full scale trade war with pegged exchange rates), while encour­ag­ing imports (gst on local ser­vice sec­tor no gst on impor­teed ser­vices direct or online). The only con­se­quence of this has been higher inter­est rates and a huge for­eign debt (approach­ing 100% GDP) which no one even men­tions let alone wor­ries about. This has already reached the run away point with the immi­nent big con­se­quences that you speak about.

    Most notably we are also addicted to cheap crap to fuel our retail “indus­try”, and facil­i­tate much employ­ment.

    I see your “B” as the most impor­tant but widely ignored prob­lem for Aus­tralia, the US, and Europe.


  • Pingback: Yet another Hudson Gem! « Patterns & Fragments()

  • icon­o­clast


    For some­one with a back­ground in con­trolled sys­tems engi­neer­ing, you should know that tran­sients and steady states are not the only things that hap­pen to sys­tems. Sys­tems are sta­ble if you could con­trol cer­tain para­me­ters within lim­its. Oth­er­wise, there are limit cycles, strange attrac­tors, bifur­ca­tions, cat­a­stro­phes, insta­bil­i­ties etc.”

    A mul­ti­vari­able non-lin­ear con­trol sys­tem, Lyon­wiss, depend­ing on its char­ac­ter­is­tics, may or may not be dynam­i­cally sta­ble. A sys­tem that is dynam­i­cally sta­ble will exhibit tran­sients that are bounded and even­tu­ally dis­si­pate with time, lead­ing to the sys­tem adjust­ing itself to a new steady-state oper­at­ing point.

    Alter­na­tively, a sys­tem that is unsta­ble is also com­posed of a tran­sient response that is unbounded, which describes a sys­tem that exhibits insta­bil­ity (cat­a­strophic out­comes, bifur­ca­tions, and limit cycles).

    So it is incor­rect to say that a con­trol sys­tem per­turbed exhibits any­thing more than a tran­sient and steady-state response, although the tran­sient may more not be bounded. I never talked about the bounds of the tran­sient, it was pre­sumed that both sta­ble and unsta­ble tran­sients may exist.

    Both sta­ble and unsta­ble char­ac­ter­is­tics are known to exist and are part of the MMT. So you are mis­rep­re­sent­ing MMT.

    Neo­clas­si­cal eco­nom­ics and Char­tal­ism are real and mon­e­tary extremes of the same flawed approaches which can­not rec­og­nize or describe dis­e­qui­lib­rium and insta­bil­i­ties. Eco­nom­ics (as it is now) is so unsci­en­tific that no argu­ments between dif­fer­ent schools are ever set­tled by its method of rhetoric. Hence there has been no progress for decades and there will be no progress unless new meth­ods are used.”

    This is not the case.

    MMT is founded on Minsky’s insta­bil­ity the­ory, Lerner’s func­tional finance, aspects of Keynes and Marx, and is entirely stock/flow con­sis­tent.

    Lyon­wiss, have read any of the mate­r­ial that I have sug­gested to you? The answer is likely no.

    When Ein­stein devel­oped his the­ory of Rel­a­tiv­ity, he devel­oped most of his the­ory through thought exper­i­ments. The math­e­mat­i­cal rep­re­sen­ta­tion of the the­ory came after.

    That did not ren­der Eistein’s the­ory invalid because he did not begin within the math­e­mat­i­cal space, but rather through think­ing.

    Equally, what because MMT hasn’t devel­oped a dynam­i­cal model of their the­ory does not inval­i­date their the­ory. The thinkers of MMT have fol­lowed a path fol­lowed by Ein­stein, they have thought deeply enough to recog­nise how the fiat+credit mon­e­tary sys­tem actu­ally works, and thus arriv­ing at novel con­clu­sions, just like Ein­stein did.

    It is entirely wrong, to sug­gest that MMT has any­thing at all to do with the neo-lib­eral gib­ber­ish. It is merely mis­rep­re­sent­ing MMT.

  • BrightSpark1

    icon­o­clast @328

    While I do not believe that MMT has con­nec­tions to neo­clas­si­cal gib­ber­ish I do believe that it is flawed in the same way, that is no con­sid­er­a­tion of dynam­ics. In a dynamic sys­tem effects can be ampli­fied atten­u­ated and even negated by feed­back effects.

    Most econ­o­mists think that the sys­tem can be under­stood by watch­ing its behav­iour then assum­ing that this behav­iour will con­tinue by extrap­o­la­tion. Decades ago engi­neers tried to do the same and failed. It was not until dynamic con­trol the­ory was fully devel­oped by Nyquist and oth­ers that sta­ble sys­tems could be mod­elled, and com­plex machines designed. Frankly IMHO MMT resem­bles ama­teur engi­neer­ing of the pop­u­lar mechan­ics vari­ety. The MMT lack of dynamic mod­els does rel­e­gate it to the same cat­e­gory as neo­clas­si­cal gen­eral equi­lib­rium, that is invalid.

  • icon­o­clast


    But you do seem to claim, that one input (fis­cal account) influ­ences one out­put (employ­ment), and that there is one unspec­i­fied delay­ing fac­tor in the tran­sient response . This is all invalid.”

    Brightspark, that is not quite the case. Deficit spend­ing influ­ences many oper­at­ing points of a mul­ti­vari­able sys­tem, although one of them is employ­ment. MMT does not focus on employ­ment only, nor does it focus on any other para­me­ter of the eco­nomic sys­tem. It is I who have per­son­ally, focused on that para­me­ter, employ­ment, of the eco­nomic sys­tem, since it is a para­me­ter that is impor­tant to many. Although MMT tells us a lot more than just about employ­ment and deficit spend­ing.

    MMT allows us to con­clude that invol­un­tary unem­ploy­ment is entirely due to the fact that deficit spend­ing is insuf­fi­cient to shift the eco­nomic sys­tem to an oper­at­ing point where it is able to oper­ate at full capac­ity (full employ­ment). Although, this is not the only con­clu­sion one arrives at from MMT. MMT describes how the fiat+credit mon­e­tary sys­tem works and thus can be used in “what if” analy­sis to deter­mine how the eco­nomic sys­tem at a macro-eco­nomic level respond. It doesn’t oper­ate at the micro-eco­nomic level.

    Also I can not see the con­nec­tion with dou­ble entry acount­ing it seems to me that MMT is sim­ply claim­ing a sta­tic rela­tion­ship between defecits and employ­ment rates, and only con­ced­ing that there may be a delay between cause (fis­cal defecit) and effect (unem­ploy­ment rate).”

    Brightspark, may I ask you what read­ing mate­r­ial on MMT have you actu­ally read? Because, what you have writ­ten, leads me to con­clude that you have not read enough to come to the con­clu­sions that you have arrived at.

    Dou­ble entry account­ing ensures that one does not com­mit fal­lac­ies of think­ing, since the dou­ble-entry account­ing sys­tem, ensures con­sis­tency in the stock and flow of the mon­e­tary sys­tem. Just as Kir­choffs laws ensures con­sis­tency in elec­tri­cal cir­cuit the­ory.

    Brightspark, do you agree that in an elec­tri­cal sys­tem, that kir­choffs laws must always, but always, hold? The answer should be yes, and that is irre­spec­tive of the dynamic nature of the volt­age sig­nal or cur­rent flows within an elec­tri­cal sys­tem. That is kir­choffs law is a macro-sys­tem law for the elec­tri­cal sys­tem, which must always, but always hold true. 

    Equally, the laws that MMT has arrived at for a fiat+credit eco­nomic sys­tem are macro-sys­tem laws, which must always, but always hold true.

    Dou­ble entry account­ing has two causes entry on one side and then the other side of the ledger.”

    Dou­ble entry account­ing ensure that the mon­e­tary sys­tem is stock/flow con­sis­tent, just as the laws of elec­tri­cal cir­cuits the­ory ensures that the elec­tri­cal sys­tem is stock/flow con­sis­tent.

    In elec­tri­cal cir­cuit the­ory, we have Ohms law, Kir­choffs law, Maxwells equa­tions, etc. to ensure our analy­sis is stock/flow con­sis­tent.

    To be blunt, in elec­tri­cal cir­cuit the­ory, we have flow con­sis­tency through a resis­tor, via Ohms law. That is, we don’t say that the cur­rent enter­ing the resis­tor, of a sin­gle resis­tor cir­cuit attached to a volt­age source, to be dif­fer­ent to the cur­rent leav­ing the resis­tor. That is In = Iout at each end of the resis­tor. That is, we don’t have resis­tors that, in elec­tri­cal cir­cuit the­ory, some how accu­mu­late charge on one side of a resis­tors ter­mi­nal cf. to the other side. There is a con­ser­va­tion of charge law in place, that ensures stock/flow con­sis­tency.

    And equally, that is why MMT is using dou­ble-entry account­ing to ensure the flows and the stocks in the mon­e­tary sys­tem are also con­sis­tent.

    MMT offers no cogent expla­na­tion math­e­mat­i­cal or oth­er­wise as to why the con­nec­tion exists. There is no doubt a con­nec­tion but it is not exclu­sive and it is not affected by only one delay­ing fac­tor. There is also feed­back (dole pay­ments and tax effects). Both the tran­sient and steady state responses may involve large changes for large inputs and the steady state may be inher­ently unsta­ble. With­out cre­at­ing accu­rate mod­els no one knows.”

    Brightspark, fac­tors that you have listed are taken into account, but the impor­tant point to under­stand is that kir­choffs laws must always hold, irre­spec­tive of the dynam­ics of the sys­tem. MMT is oper­at­ing at the level of kir­choffs laws. This needs to be under­stood, if any­thing.

  • icon­o­clast


    The sys­tem you are advo­cat­ing based on unchecked deficit spend­ing and only tar­get­ing unem­ploy­ment (this is your error sig­nal in the con­trol cir­cuit if we use that lan­guage) has noth­ing to do with Aus­tralia under Men­zies when unem­ploy­ment was low and Key­ne­sian teach­ings were fol­lowed.”

    Truly unbe­liev­able. Where do you get this stuff from — do you have some­one from the days of McCarthy­ism that you drag out of the closet when­ever you need to respond to your “reds under the bed para­noia”?

    Please point to your unfounded asser­tion that any­one is advo­cat­ing “unchecked deficit spend­ing and only tar­get­ing unem­ploy­ment”? You will not be able to find such a state­ment. Again a mis­rep­re­sen­ta­tion.

    It is a neo-com­mu­nist sys­tem based on the total con­trol of aggre­gated demand by the gov­ern­ment and pos­si­bly involv­ing micro-man­age­ment required to fun­nel funds to these sec­tors which are going to fail (this is the most dan­ger­ous part). This may lead to the grad­ual removal of finan­cial mar­kets and credit money (the hor­i­zon­tal axis in the MMT model) as the fiat money flow will then dom­i­nate. Some peo­ple think this will be great – I don’t agree.”

    ak, there is need for a bal­ance, you seem to be see­ing ghosts. A mixed econ­omy is far more sta­ble, than a unfet­tered free mar­ket dis­as­ter that neo-lib­eral agenda has foisted on the poor and unsus­pect­ing major­ity.

    Why do you think we are in the mess that we are in, and it isn’t over yet?

    If you are happy that a par­a­sitic sec­tor (FIRE) in the eco­nomic sys­tem is able to extract the wealth of the real eco­nomic sys­tem. Because that is what your sug­gest­ing, then I’d say your on your own.

    VK has already men­tioned the long-term risks when you remove any pos­si­bil­ity of a fail­ure. Basi­cally the effects will be sim­i­lar as remov­ing the pos­si­bil­ity of invest­ment banks to fail (the case of the US under Bernanke). The result is a mas­sive mis­al­lo­ca­tion of resources and a total sys­temic fail­ure one or few decades later. I am more con­cerned with the short-term insta­bil­ity.”

    Please go back and read my replies to vk. The argu­ment that vk puts for­ward is spe­cious in form.

    It is really hilar­i­ous, when you attempt to put for­ward the argu­ment of “mas­sive mis­al­lo­ca­tion of resources”, but you seem to ignore that this exactly what has hap­pened with the cap­i­tal (class) in con­trol, and entire missal­lo­ca­tion of resources. I think you shoot­ing your­self in the foot ak.

    You seem to be famil­iar with the con­trol the­ory.”
    That would be an under stat­ment, lets just say that my area of exper­tise is in multi-vari­able non-lin­ear con­trol sys­tems engi­neer­ing.

    You haven’t responded to my ques­tion why aggre­gate unem­ploy­ment is the cor­rect error sig­nal and gov­ern­ment spend­ing is the cor­rect way of con­trol­ling the econ­omy if we know that the cur­rent sys­tem is pre­dom­i­nantly based on hor­i­zon­tal flows (credit money) – unless we want to destroy the cur­rent sys­tem and replace it with a neo-com­mu­nist one.”

    If you under­stand any­thing about a fiat(vertical)+credit (hor­i­zon­tal) mon­e­tary sys­tem, one thing that you would have under­stood is that a credit only mon­e­tary sys­tem imple­mented in the real world is unsta­ble and will col­lapse. Fiat cur­rency is manda­tory to ensure that it remains sta­ble. Noth­ing to do with “neo-com­mu­nism” as you put it. lol. You are really good at this pro­pa­ganda thing, ak, can rec­om­mend any schools?

    ak, go ask the mil­lions of peo­ple that have suf­fered (lost their jobs, lost their wealth) from the activ­i­ties of the FIRE indus­try, cheered on by neo-lib­eral gov­ern­ments and the cap­i­tal class all around the world, to allow the spec­u­la­tive activ­ity with has bloated hor­i­zon­tal (credit) money for no use­ful pur­pose at all, you’ll get your answer, and it won’t be the one that you are think­ing of.

    Because any macro­eco­nomic sys­tem is strictly non lin­ear apply­ing usual trans­fer func­tion based sta­bil­ity cri­te­ria is use­less.”

    That is fac­tu­ally wrong. Con­trol sys­tem sta­bil­ity the­ory can be applied to multi-vari­able non-lin­ear dynamic com­pen­sator design.

    I think that in the future we may be able to model what you are talk­ing about and show the inher­ent insta­bil­ity of the model – when we include credit money, finan­cial mar­kets and float­ing for­eign money exchange rates / for­eign trade. Yes the sim­pli­fied mod­els are sta­ble if you assume that stu­pid agents will keep sav­ing for­ever at a con­stant rate.”

    ak, can you explain how you have reached the above con­clu­sions, have you devel­oped a the­ory of the fiat+credit mon­e­tary sys­tem that you are keep­ing hid­den, or did you visit a clair­voy­ant who pro­vided you with your above belief?

  • BrightSpark1

    iconol­clast @330

    Brightspark, fac­tors that you have listed are taken into account, but the impor­tant point to under­stand is that kir­choffs laws must always hold, irre­spec­tive of the dynam­ics of the sys­tem. MMT is oper­at­ing at the level of kir­choffs laws. This needs to be under­stood, if any­thing.”

    Do you have details of how these fac­tors are taken into account by MMT?

    Kir­choffs laws apply to cur­rents flow­ing to a node, or emf’s in a closed loop, all in an elec­tri­cal cir­cuit and at a par­tic­u­lar instant of time in the time con­tin­uum. It is in no way rel­e­vant to eco­nom­ics and is not dynamic. They make only a minute con­tri­bu­tion in an elec­tronic dynamic model design. They are usu­ally learned in first semes­ter Elec­tri­cal Engi­neer­ing.

    I have not been able to find any rig­or­ous ref­er­ences to time, dif­fer­en­tial equa­tions, feed­back, sta­bil­ity mar­gins or dynamic con­trol the­ory in any­thing I have read about MMT. Per­haps you could direct me to some appro­pri­ate lit­ter­a­ture.

    In the mean time I see all the­o­ries as flawed with only the work of Steve Keen rel­e­vant to the task and likely to derive some rel­e­vant solu­tions. MMT may make a con­tri­bu­tion but only if its adher­ents learn some 3rd year uni­ver­sity math­e­mat­ics.

    many thanks


  • OK icon­o­clast,

    This is get­ting too heated and I sug­gest a break from this dis­cus­sion which is cer­tainly gen­er­at­ing more heat than light right now.

    I think you should sim­ply accept that some highly intel­li­gent peo­ple on this blog are nonethe­less not per­suaded about Char­tal­ist analy­sis. I have my own reservations–not about their account­ing, but about the model of the econ­omy into which that account­ing is fed–but I am restrain­ing from com­ment­ing until I have done some­thing Lyon­wiss sug­gested some time ear­lier in this dis­cus­sion, which is to put an agreed Char­tal­ist posi­tion into an accepted dynamic model of the econ­omy and see how it func­tions (I know that Bill Mitchell sees Japan as that model–so to speak–and as it hap­pens I see Japan’s sit­u­a­tion as sup­port­ing both Char­tal­ist and debt-defla­tion­ary analy­ses).

    But let’s drop this for a while now. I don’t want this to develop into a flame war, and exas­per­a­tion of both sides with each other is promis­ing to give us pre­cisely that.

  • stf


    While it’s abun­dantly clear that com­menters here are intel­li­gent and as of yet also not con­vinced regard­ing MMT, it’s just as clear to me and many oth­ers that they have vir­tu­ally no clue what MMT is. To your credit, even as you have your own reser­va­tions, you rec­og­nize that you have not yet absorbed the entire frame­work; your friends here have yet to even con­sider this pos­si­b­lity even as they are sure MMT is wrong or unsci­en­tific or what­ever (lyon­wiss, scep­ti­cus, brightspark, gamma, ak, etc.). While I have found ample rea­son (and more) to respect the intel­li­gence of each, their under­stand­ing of MMT is quite another mat­ter. I can fully appre­ci­ate that many (maybe even most) would be uncon­vinced even after fully grasp­ing MMT, but that’s not what we have here.

    From my read­ing, icon­o­clast is merely try­ing (rather valiantly, but to no avail) to point out mis­rep­re­sen­ta­tions, which are frankly ubiq­ui­tous here for what­ever rea­son. There’s a rea­son why oth­ers who under­stand char­tal­ism (includ­ing those who don’t nec­es­sar­ily agree with all or parts of it) have mostly stopped com­ment­ing here (or at least slowed sig­nif­i­cantly). The “fors” and “again­sts” sim­ply end up talk­ing past each other, repeat­edly, and with no end in site (4 months and count­ing as near as I can tell). 

    As an aside, if any­one is inter­ested in a dis­cus­sion involv­ing non-char­tal­ists who actu­ally under­stand char­tal­ism (albeit on a fairly small por­tion of the frame­work), the recent dis­cus­sion on Steve Randy Waldmann’s “Inter­flu­id­ity” blog is a case in point.

    Best to you,

    Sign­ing off … 


  • Ramanan/superpoincare


    There is one thing I have seen about the com­menters (you have stood for). They may have opin­ions about trans­ac­tions which change set­tle­ment bal­ances (reserves) and their eco­nomic con­se­quences, but I am not sure that they appre­ci­ate the trans­ac­tions which need not change the set­tle­ment bal­ances –the “hor­i­zon­tal” trans­ac­tions, either!. I remem­ber you fre­quently praise Basil Moore but I am not sure if the com­menters under­stand the credit money part well. I am super­com­fort­able with math­e­mat­ics and the fact that they are trained well in math­e­mat­ics does not impress me too much. 

    I wrote to Prof. Moore to got his per­mis­sion to quote the start­ing para­graph of his great book. I find it inspir­ing. I hope the com­menters appre­ci­ate it. 

    The cen­tral mes­sage of this book is that mem­bers of the eco­nom­ics pro­fes­sion cur­rently oper­ate with a basi­cally incor­rect par­a­digm of the way mod­ern bank­ing sys­tems oper­ate and of the causal con­nec­tion between wages, prices, and mon­e­tary phe­nom­ena. The stan­dard par­a­digm treats the cen­tral bank as deter­min­ing the mon­e­tary base and hence the
    money sup­ply. The growth of the money sup­ply is held to be the main force deter­min­ing the rate of growth of money income, wages, and prices. … This book argues that the above order of cau­sa­tion should be reversed. Changes in wages and employ­ment largely deter­mine the demand for bank loans, which in turn deter­mine the rate of growth of the money sup­ply. Cen­tral banks have no alter­na­tive but to accept this course of events. Their only option is to vary the short-term rate of
    inter­est at which they sup­ply liq­uid­ity to the bank­ing sys­tem on demand. 

    - Basil Moore, Hor­i­zon­tal­ists and Ver­ti­cal­ists: The Macro­eco­nom­ics of Credit Money

  • Re #334 Scott,

    I think it’s fair to say that peo­ple here have not read the Char­tal­ist case as closely as they have read mine–and it’s cer­tainly cor­rect that I have not read key Char­tal­ist argu­ments in detail.

    I have how­ever read a vari­ety of Char­tal­ist works, and there are ele­ments that I find unper­sua­sive for a range of rea­sons. But I have refrained from com­ment because I do not wish to mis­rep­re­sent an argu­ment and then crit­i­cise a mis­prep­re­sen­ta­tion.

    So I have a sug­ges­tion: could you pro­vide a list of what you see as essen­tial read­ings in the Char­tal­ist tradition–ones that pro­vide as thor­ough as is pos­si­ble a state­ment of the Char­tal­ist posi­tion?

    I will then insist that peo­ple address these works when they com­ment on Char­tal­ism on this site.

    Now a bit of lev­ity please: this is start­ing to sound like a dis­pute between the Judean People’s Front and the People’s Front of Judea. Remem­ber the Romans, guys: it’s neo­clas­si­cal eco­nom­ics that is the main “enemy” of logic in eco­nom­ics. Both Cir­cuit The­ory and Char­tal­ism orig­i­nated in cri­tiques of neo­clas­si­cal think­ing on money. This debate which has become very doc­tri­naire on both sides has tended to lose sight of that.

  • stf

    Agreed. Thanks. Will get back to you on the read­ings.

  • Re #335 Ramanan,

    My model began as an attempt to put Basil’s ideas into a math­e­mat­i­cal frame­work, using the Cir­cuitist vision of a pure credit econ­omy as a foun­da­tion. I have always found Basil’s work inspir­ing and I do rec­om­mend that every­one here read his “The Endoge­nous Money Sup­ply”, “Unpack­ing the Black Box” and “Hor­i­zon­tal­ists and Ver­ti­cal­ists”.

    For my part I feel that most com­men­ta­tors here who are crit­i­cal of Char­tal­ism do appre­ci­ate this credit money perspective–certainly I have seen very lit­tle in their cri­tiques (mis­guided or oth­er­wise) of Char­tal­ism that also breaches Basil’s insights about endoge­nous money.

    The one issue where that might be per­ceived to be hap­pen­ing is in regard to restraints on gov­ern­ment spend­ing, where their objec­tions could be seen as being grounded in a “gold money” per­spec­tive. From my read­ing, this is not the source of most objections–they rather seem con­cerned about feed­back effects that they feel (rightly or wrongly) are not being con­sid­ered within MMT.

    Again I return to my sug­ges­tion above–let’s get a “read­ing group” on Char­tal­ism going here, and refer to key ref­er­ences there when cri­tiquing. Until that is done, I would appre­ci­ate both sides giv­ing this topic a break.

  • Quan­ti­ta­tiveEas­ing

    For the Char­tal­ist read­ing list, I nom­i­nate Ran­dall Wray’s “Under­stand­ing Pol­icy in a Float­ing Rate Regime”
    This is a 2006 work­ing paper (30 pages) for the Cen­ter for Full Employ­ment and Price Sta­bil­ity.  It explains Mod­ern Mon­e­tary The­ory with­out resort­ing to the account­ing iden­ti­ties that many of us find con­fus­ing or mean­ing­less, and gives exam­ples from sev­eral coun­tries to show how dif­fer­ent ways of struc­tur­ing your Trea­sury and Cen­tral Bank amount to the same thing.  It makes the case for run­ning deficits to cover an “Employer of Last Resort” pro­gram, and addresses the con­cerns about wage-price infla­tion and exchange rate dri­ven cost-push infla­tion that many of us brought up.
    Ulti­mately, it does not argue that pur­su­ing full employ­ment WILL NOT cause infla­tion.  Some­one else can rec­om­mend a work that does.
    Rather, it seems to argue that tight money (with its side effect of mass unem­ploy­ment) is a poor tool for con­trol­ling infla­tion, bet­ter addressed with bank­ing reg­u­la­tions, tax reform, reduc­ing waste­ful gov­ern­ment spend­ing, reduced depen­dence on imported food and fuel, and other struc­tural changes.
    Framed this way, I find MMT very per­sua­sive, find it con­sis­tent with Dr. Keen’s analy­sis, and think it is even com­pat­i­ble with an ide­o­log­i­cal aver­sion to big gov­ern­ment, but Steve would prob­a­bly rather we didn’t get into that on this forum.
    This paper does not dis­cuss bank­ing crises (the hor­i­zon­tal dimen­sion) or desta­bi­liz­ing inter­na­tional cap­i­tal flows. Any­one know some char­tal­ist works that do?

  • mahaish

    Rather, it seems to argue that tight money (with its side effect of mass unem­ploy­ment) is a poor tool for con­trol­ling infla­tion, bet­ter addressed with bank­ing reg­u­la­tions, tax reform, reduc­ing waste­ful gov­ern­ment spend­ing, reduced depen­dence on imported food and fuel, and other struc­tural changes”

    you missed one of the most impor­tant aspects of their argue­ment, quan­ti­ta­tive eas­ing,

    relat­ing to the monop­oly power of gov­ern­ment in the prices it pays for labour and other goods and ser­vices as a means of con­trol­ling infla­tion.

    as far as this whole debate over char­tal­ism, well i dare say it has a few more fol­low­ers than it did say 12 months ago on this blog stf(scott), and i include myself as one of its admir­ers, just like i admire steves ideas. 

    you might say with friends like this who needs ene­mies :).

    the point is char­til­ism is forc­ing us to con­front some of our pred­ju­dices and long held belief sys­tems about how the finan­cial sys­tem works. and when we join in bat­tle with our pred­ju­dices, rumour and inu­endo are part of the spoils regard­less of what­ever may have been read on the mat­ter.

    blogs arnet just about about what is said or what is read, its some­times about the mean­ing behind what is said. its a broad­cast to the world about how we per­cieve the world from our own instinc­tive and habit­u­ated point of view,

    to quote bertrand rus­sell

    “If a man is offered a fact which goes against his instincts, he will scru­ti­nize it closely, and unless the evi­dence is over­whelm­ing, he will refuse to believe it. If, on the other hand, he is offered some­thing which affords a rea­son for act­ing in accor­dance to his instincts, he will accept it even on the slight­est evi­dence”

    so the moral of the story is that we could be more cir­cum­spect in our prais­ing or con­dem­na­tion of caeser, but i say let the debate rage on, its all part of our indi­vid­ual and col­lec­tive enlight­en­ment

    i dare say we will have learned a thing or two about who we are and what we are dis­cussing in such a often trou­bl­some process, even though there may be still much to resolve in our own minds.

    some of us may not be con­vinced about mmt or for that mat­ter steves prog­nos­sis on cer­tain mat­ters, but all of us are aware of the long shadow they cast.

    every debate we have about mmt on this blog im sure leads many of us to go and read fur­ther on these mat­ters, and hense aware­ness grows, whether we believe it or under­stand it is an all­to­gether dif­fer­ent pro­por­si­tion

    aware­ness is the first step, we are there

    under­stand­ing, well that still has many bat­tles to be won

    the cyn­i­cal view of blog­ging sug­gests its like the UN,

    its a forum for dis­sunity, one upman­ship and vent­ing ones spleen, :). luck­ily we have had the good sense to con­duct such affairs on this blog in a gen­er­ally cor­dial man­ner.

    my knowl­edge of affairs economique has grown con­sid­er­ab­ley since ive joined this blog, to the extent, that ive become a sort of expert to my friends and work mates, poor unsus­pect­ing fools that they are. 🙂 

    if the cri­te­rion for post­ing on this blog was get­ting ones facts straight or know­ing what you were talk­ing about most of the time , it would be a more exclu­sive gath­er­ing than the havnt slept with paris hilton club, 🙂

    which at the moment con­sists of me and the pope i think 🙂

    but in all seri­ous­ness, i think the last thing we should be doing is sti­fling dis­cus­sion how­ever ill informed, and thus destroy the dialec­tic process on mat­ters eco­nomic on this blog, 

    we should let the forces of one upman­ship with his trusted ally curios­ity, wend their merry way through this blog, and in the long run , not the short run, wit­ness the gen­eral increase in the level of eco­nomic enlight­en­ment

  • Quan­ti­ta­tiveEas­ing

    I agree the debate so far has been enlight­en­ing. How­ever, it has not helped to answer my lin­ger­ing doubt about char­tal­ism: does the idea that “gov­ern­ment spend­ing will [only] approach an infla­tion bar­rier as the econ­omy approaches full employ­ment of resources” make any sense in a dynamic, dis­e­qui­lib­rium econ­omy? I couldn’t fol­low the debate over elec­tri­cal engi­neer­ing between Brightspark and Icon­o­clast, but I’m guess­ing that’s what it was about. Sadly, my answer may have to wait until Steve can “put an agreed Char­tal­ist posi­tion into an accepted dynamic model of the econ­omy and see how it func­tions.” I look for­ward to see­ing it. But in the mean­time, I can attempt to resolve another area of dis­pute. If there’s errors in this inter­pre­ta­tion, it’s because my for­mal train­ing was in botany, not eco­nom­ics. Sorry.
    Steve Keen has made it clear that the GFC is rooted in an imbal­ance between debt and income, and that the US, UK, and Aus­tralia can no longer bor­row their way out of reces­sion. The hor­i­zon­tal avenue for money cre­ation has reached its limit. He and Michael Hud­son have lim­ited their rec­om­men­da­tions to dis­cussing the dis­tri­b­u­tional aspects of debt reduc­tion, bailouts, and taxes, argu­ing that Wall Street not Main Street should take the hit. This is extremely impor­tant for both jus­tice and eco­nomic recov­ery. But what about the ver­ti­cal avenue empha­sized by char­tal­ism? Can gov­ern­ments print their way out of reces­sion?
    The indis­putable account­ing of MMT says that gov­ern­ments “print money” by spend­ing in excess of their tax rev­enues. By account­ing neces­sity, if the domes­tic pri­vate sec­tor has too much debt and the for­eign sec­tor is unwill­ing to run a larger sur­plus, the only way to improve the pri­vate sector’s net nom­i­nal bal­ance sheet is for the gov­ern­ment to run a large enough deficit.
    The rest of us are unim­pressed by this epiphany. Yes, an expan­sion­ary mon­e­tary pol­icy can increase employ­ment. Yes, you can pay off debts by print­ing money. But how will this affect the real pur­chas­ing power of my income or sav­ings? Even if the over­all price level is unaf­fected, how will a drop in the exchange rate influ­ence the rel­a­tive price of oil, food, and other neces­si­ties?
    Char­tal­ism has a sur­pris­ingly good answer. Let’s con­sider the United States, with its giant and wor­ri­some imbal­ance between debt and income and between imports and exports.
    US pri­vate debt, espe­cially mort­gage debt, is too high rel­a­tive to wage income. The Finance, Insur­ance, and Real Estate sec­tor has sucked the life out of the real econ­omy. I’ll even go so far as to quote James Howard Kun­stler and say that the so-called ser­vice econ­omy was merely “the final blowout of the cheap oil era: the hyper­trophic build-out of sub­ur­ban sprawl and the fur­nish­ing and final acces­soriz­ing of it. In other words, our liv­ing arrange­ment essen­tially became the remain­ing basis of our econ­omy, in the absence of any other pur­pose­ful cre­ation of value or wealth, such as man­u­fac­tur­ing things.”
    The price of real estate must fall rel­a­tive to wages. AIG should go bank­rupt and there should be fewer jobs for real estate agents, stock­bro­kers, tract home builders and other pro­fes­sion­als who can no longer ride the spec­u­la­tive boom. The US will need to rebuild its man­u­fac­tur­ing sec­tor. Fine, but why should the over­all price level fall, keep­ing down wages and sales in indus­tries that did not gam­ble on home prices? Do neo­clas­si­cal econ­o­mists need to be pun­ished with unem­ploy­ment, or might it be bet­ter for the gov­ern­ment to hire them at min­i­mum wage to build roads? Then they’d learn some skills that would ben­e­fit soci­ety.
    Quan­ti­ta­tive eas­ing could limit the dam­age of the finan­cial col­lapse and speed recov­ery. The trick is spend­ing it in the right place, boost­ing the man­u­fac­tur­ing econ­omy rather than prop­ping up the FIRE sec­tor. Japan did some of both. Zero inter­est rates ben­e­fited for­eign spec­u­la­tors in the yen carry trade more than domes­tic bor­row­ers, but fis­cal stim­u­lus boosted aggre­gate demand by mak­ing some con­struc­tion jobs build­ing (pre­sum­ably) use­ful infra­struc­ture.
    Peo­ple with a con­ser­v­a­tive or lib­er­tar­ian bent hate the “social­ist impli­ca­tions” of char­tal­ism. “Gov­ern­ment is big enough already. You want big­ger deficits!?” MMT is silent about how gov­ern­ment should spend, or how much it should tax. If you want to slash taxes and spend­ing in order to reduce government’s role to enforc­ing laws and the bor­ders, MMT will not argue. MMT only spec­i­fies the size of the deficits needed to over­come the defla­tion­ary effects of pri­vate debts and sav­ings. If you think that the gov­ern­ment can pro­duce noth­ing use­ful by hir­ing the unem­ployed, or that ELR is a some­how a slip­pery slope to a com­mand econ­omy, then the deficit could be dis­persed as a tax credit for indus­try, or as a per capita citizen’s div­i­dend. But if you’re at all con­cerned about unem­ploy­ment, it’s worth tak­ing a sec­ond look at the Employer of Last Resort proposal—-by peg­ging the cur­rency to the min­i­mum wage, it pro­vides full employ­ment with labor mar­ket flex­i­bil­ity, a check on infla­tion, and an auto­matic sta­bi­lizer of the busi­ness cycle.
    What about the trade deficit and national debt? China is wean­ing itself off the US export mar­ket and diver­si­fy­ing its reserves. It will prob­a­bly buy fewer trea­sury bonds. That’s what char­tal­ism says it should do—-print its own money to develop its domes­tic econ­omy, rather than hold­ing worth­less dol­lar reserves to defend its exchange rate. Will the US be the next Argentina? No. Hyper­in­fla­tion is only a con­cern for coun­tries that bor­row in a for­eign cur­rency (see Steve Zarlenga’s The Lost Sci­ence of Money). The US bor­rows in its own cur­rency, from for­eign cen­tral banks with polit­i­cal rea­sons to avoid a sud­den crash of the US$. The more likely sce­nario is what Eric Jan­szen calls Argentina Lite, the slow fall of the dol­lar as for­eign cred­i­tors man­age down their reserves, lead­ing to a rise in import prices (includ­ing oil) and mod­er­ately high infla­tion (or reces­sion) like the oil shocks of the 1970s.
    Con­ven­tional wis­dom sug­gests smaller fis­cal aus­ter­ity to raise inter­est rates to reas­sure bond­hold­ers and sup­port the exchange rate. A dozen cur­rency crises in the devel­op­ing world show us that this strat­egy does not always work; bond­hold­ers are skit­tish. Fur­ther­more, high inter­est rates put a strain on the domes­tic econ­omy and do not address the under­ly­ing imbal­ance. At some point, the US needs to rebuild its local economies and reduce its depen­dence on for­eign oil. Tight money can buy time to make the tran­si­tion, but the peo­ple who advo­cate bal­anced bud­gets are the same peo­ple deny­ing global warm­ing, peak oil, and the prob­lems with glob­al­iza­tion. The bet­ter pol­icy is to run deficits to invest in alter­na­tive energy and sup­port those who are hurt by high energy prices.
    I think char­tal­ists and cir­cuitists are devel­op­ing sep­a­rate parts of a largely com­ple­men­tary analy­sis of the mon­e­tary sys­tem. If Steve Keen’s model of the hor­i­zon­tal dimen­sion doesn’t look stock-flow con­sis­tent to Bill Mitchell, it’s because it leaves out the gov­ern­ment and for­eign sec­tors (whose net sur­plus would have to bal­ance out the pri­vate sec­tor net deficit) and because it speaks of “money” as a finan­cial flow rather than a stock. For exam­ple, the broad­est mea­sure of the US$ “money sup­ply”, M3, is a cash flow posi­tion, not a bal­ance sheet vari­able. But Mitchell and Keen are describ­ing the same prover­bial ele­phant.
    Which reminds me…
    A group of econ­o­mists are exam­in­ing the busi­ness cycle in the dark. “It’s like a snake” says the cir­cuitist, feel­ing its trunk. “It’s like a tree trunk” says the char­tal­ist, feel­ing its leg. “It’s like a rope” says the behav­ioral econ­o­mist, feel­ing its tail. “I have no clue what it is,” says the Aus­trian school econ­o­mist, “but stop pok­ing it, you’ll make it angry!” The oth­ers agree and back away, except for the neo­clas­si­cal econ­o­mist, busy remov­ing its chains. “Don’t worry,” he insists. “It’s per­fectly tame.” The ele­phant gores the neo­clas­si­cal econ­o­mist and runs off, depressed. “Told you so,” say the oth­ers. “It’s just a flesh wound,” says the dis­mem­bered neo­clas­si­cal econ­o­mist.

  • Lyon­wiss


    Great imagery. Econ­o­mists are all blind men feel­ing dif­fer­ent parts of beast, think­ing that they are the only ones who know what it is!

  • Pingback: Choices, Choices | b.y.o Lawnchairs()

  • BrightSpark1

    Lyon­wiss and Quan­ti­ta­tiveEas­ing

    My argu­ment is not that peo­ple are look­ing at dif­fer­ent parts of a beast and reach­ing dif­fer­ent con­clu­sions but that they are look­ing at one or two pho­tographs taken at dif­fer­ent times and com­ing up with dif­fer­ent expla­na­tions as to how the changes took place.

    Around 1680, 330 years ago Sir Isaac New­ton realised that to gain an under­stand of the phys­i­cal world he would need to cre­ate a math­e­mat­i­cal equa­tion which would describe not just the posi­tion of an apple before and after it fell from a tree but also the for entire time for which it was falling. He would also need to con­sider other effects the veloc­ity of the apple and the accel­er­a­tion of the apple.

    With this he made the major con­tri­bu­tion to the sci­ence of physics and went on to develop (in par­al­lel with Lieb­nitz) the branch of math­e­mat­ics know as cal­cu­lus. Thus kick­ing off the enlight­en­ment.

    My point is that his work though 300 years old is rel­e­vant to eco­nom­ics in a big way. How­ever the first econ­o­mist to apply this and later math­e­mat­i­cal, engi­neer­ing, and sci­en­tific work, to eco­nom­ics is Steve Keen 300 years late (obvi­ously not Steve’s fault). Neo­clas­si­cal econ­o­mists have not even tried the first step, defin­ing eco­nomic para­me­ters as a func­tion of time, that is what I mean by dynam­ics. Neo­clas­si­cal eco­nom­ics is a refuge for the greedy and intel­lec­tu­ally lazy.

    Cheers Brightspark

  • paul.georges


  • Pingback: Expansionary Austerity? |()

  • Pingback: Economist Steve Keen On “The Case Against Bernanke” | Easy Mortgage 2012()

  • Erik Nel­son

    Thank you very much for empha­siz­ing the impor­tance of debt-fueled “over-spend­ing” on credit. Such “over-spend­ing” pumps an econ­omy into “over-drive”. In the 1920s, nearly 10% of US aggre­gate spend­ing (GDP) was debt-fueled. Accord­ing to Okun’s Law, that level of “over-spend­ing” depressed unem­ploy­ment by nearly 4%. Thus, on the eve of the Great Depres­sion, the nat­ural rate of unem­ploy­ment in the US was 7%, dou­ble the observed fig­ure of 3.2% for 1929, which had been arti­fi­cially sup­pressed, by the debt-fueled “over-spend­ing” of the Roar­ing Twen­ties.

    The sum of aggre­gate spend­ing (GDP) and aggre­gate bor­row­ing (increase in debt) rep­re­sents the sum of aggre­gate spend­ing and lend­ing. So, when aggre­gate bor­row­ing is pos­i­tive and large (1920s), money is cir­cu­lat­ing through the econ­omy more rapidly than a look at spend­ing alone sug­gests. For, money is often trans­ferred through the econ­omy, as lend­ing, before being spent (on new final goods & ser­vices, so being accounted into GDP). For the US on the eve of the Great Depres­sion, the veloc­ity of spend­ing-and-lend­ing was nearly 10% higher than the fig­ure reported based on spend­ing alone. Math­e­mat­i­cally, V = GDP/M is the veloc­ity of spend­ing alone; V = (GDP + B)/M is the veloc­ity of spend­ing-and-lend­ing; the lat­ter was nearly 10% faster than the for­mer, or 4.3 ver­sus 3.9 (mea­sured from M1).

    Accord­ing to Mad­sen Pirie (Eco­nom­ics Made Sim­ple), bank lend­ing

    has the effect of increas­ing the amount of money mov­ing around the econ­omy, and makes a great deal more avail­able to busi­ness than would be there oth­er­wise”

    The shock of the Great Depres­sion was exag­ger­ated by the switch, from debt-fueled “over-spend­ing”, to debt-lim­ited “under-spend­ing”, as aggre­gate demand decreased, so that some aggre­gate spend­ing could be diverted to debt repay­ment. In the early 1930s, debt repay­ment totaled nearly 25% of aggre­gate spend­ing. Thus, the US econ­omy, which had been over-inflated nearly +10% in the 1920s, quickly became under-inflated nearly –25% in the early 1930s. That “whiplash” accounts for the one-third reduc­tion in aggre­gate spend­ing. (In addi­tion, the US money sup­ply was con­tract­ing, by over 6% per year.) 

    Per­haps the US GD derived from a sud­den rever­sal in the flow of credit, from banks & lenders inject­ing funds into the econ­omy (+10%), to banks & lenders extract­ing funds from the same (-25%) ?

  • Erik Nel­son

    Debt-Defla­tion was crit­i­cized by appeal­ing to the spend­ing propen­sity of lenders:

    Fisher’ s idea was less influ­en­tial in aca­d­e­mic cir­cles, though, because of the coun­ter­ar­gu­ment that debt-defla­tion rep­re­sented no more than a redis­tri­b­u­tion from one group (debtors) to another (cred­i­tors). Absent implau­si­bly large dif­fer­ences in mar­ginal spend­ing propen­si­ties among the groups, it was sug­gested, pure redis­tri­b­u­tions should have no sig­nif­i­cant macro­eco­nomic effects.”

    The pay-down of debt from 1929–33 redis­trib­uted spend­ing, from spend-thrift busi­nesses, to banks, who hoarded reserves owing to the wide­spread bank-runs & bank-fail­ures. Thus, those for­go­ing spend­ing for sav­ing (to repay debt) had high spend­ing propen­sity (busi­nesses & con­sumers); those to whom those funds were repaid had neg­li­gi­ble spend­ing propen­sity (banks). Per­haps every­body is cor­rect — Fisher’s crit­ics, and Fisher, whose expla­na­tion of the GD fell pre­cisely into the sole excep­tion cor­rectly noted by his crit­ics, i.e. “large dif­fer­ences in mar­ginal spend­ing propen­si­ties” ?

  • Hi Erik,

    Reduc­ing debt-deflation’s impact to no more than “dif­fer­ences in propen­si­ties to con­sume” between debtors and cred­i­tors asserts (a) that the change in debt has no aggre­gate effect on demand and (b) that debtors repay their cred­i­tors dur­ing a Depres­sion. Both are wrong, so debt-defla­tion is much more than the issue Bernanke tried to reduce it to (and dis­miss it as a con­se­quence).