The macro: what’s the big idea?

Yet again, mainstream economics is trying to rethink its effectiveness as an objective scientific analysis of the laws of motion of major economies.  Ever since the mainstream failed to foresee the global financial crash, come up with a convincing explanation for what happened and adopt policies that could get the capitalist economy out of the subsequent long depression of growth and investment, the mainstream has been stymied.

I covered various attempts to rethink in posts on this blog by: Dani Rodrik, Paul RomerRobert Skidelsky and more recently by John Quiggin.  I have also covered the attempts of more heterodox economics to critique mainstream failures.

Now we have yet another bout of navel gazing.  The latest issue of the Oxford Review of Economic Policy is devoted to ‘Rebuilding macroeconomic theory’ (all the articles are free to view until February 7).  And Martin Sandbu in the UK’s Financial Times has reviewed the various papers in the journal from such eminent mainstream economists as former IMF chief economist Olivier Blanchard, Nobel prize winners Paul Krugman and Joseph Stiglitz; and leading UK Keynesian Simon Wren-Lewis.

In these papers, the usual criticisms of modern macro are repeated: the failure to cover ‘irrationality’ and uncertainty; the insistence on ‘micro-foundations’ for macro models of economics reality (ie the Lucas critique) and the use of unrealistic assumptions in so-called DSGE models that have no relation to empirical evidence.

Sandbu sums up his review of these new efforts of the mainstream to rethink its faults and failures and concludes: that it “leaves little doubt that mainstream macroeconomics is in deep need of reform.”  He says: “the question is how, and whether the standard approach, DSGE modelling, can be sufficiently improved or should be jettisoned altogether.”

Well, as for the latter, opinion in the mainstream is divided.  As Sandbu says, “DSGE macroeconomics does not really allow for the large-scale financial panic we saw in 2008, nor for some of the main contending explanations for the slow recovery and a level of economic activity that remains far below the pre-crisis trend.”

Yet Paul Krugman, while admitting the blind spot of conventional DSGE, argues that existing macroeconomic theory is “good enough for government work” and policy advice.  What he means is that mainstream economic theory cannot explain the motion of capitalism but it can be used for quick economic solutions.  This is Krugman’s way – if you read his book on the crisis, End this Depression Now!, he says, there is no need to explain the Great Recession; let’s just get on with adopting policies to get out of it.  I think most of us would think that we wont know what are the right policies if we don’t know what caused the crisis in the first place!

And others in the Oxford Review reckon that with a bit of tweaking, DSGE models can be made useful in forecasting crises.  And one attempt cited by Sandbu from the review does lead to some interesting results.  It tries to ‘model’ the current Long Depression and finds that its model explains why the major economies have not ‘recovered normally’ nor slipped into deep deflationary depression.

It’s due to the failure of investment in the capitalist sector to return to previous levels: “the economy can get caught in a prolonged period of stagnation. In addition, productivity growth is embedded at least in part in investment: hence investment-induced stagnation can tie down productivity growth to very low levels.”  However, even this model falls back on the explanation of low investment as due to a lack of a “shift to the optimistic scenario about future growth” (ie lack of ‘animal spirits’ a la Keynes), which is no explanation at all.

Other mainstream economists like Simon Wren-Lewis or Olivier Blanchard are not sure that DSGE models can ever be fixed: “The attempts of some of these models to do more than what they were designed to do seem to be overambitious. I am not optimistic that DSGEs will be good policy models unless they become much looser about constraints from theory. I am willing to see them used for forecasting, but I am again sceptical that they will win that game.” (Blanchard).

Joseph Stiglitz condemns the very ‘microfoundations’ of modern DSGE models as unrealistic.  That means microeconomics, in particular general equilibrium theory, utility theory and marginalism provide no sound basis for analysis of the ‘agents’ at work in the movement of modern capitalist economies.  Macroeconomics has come to a dead end because microeconomics is flawed.  As Sandbu puts it “Bad macro is, to some extent, a case of too much bad micro.”   Not good news for mainstream macro.

But what  else is there?  Despite recognising that “the fundamental difficulty of microfoundations is that we simply do not have a comprehensive and convincing theory of economic behaviour at the micro level”,  Sanbu wants to plough on with “a more expansive and liberal form of DSGE”. So no change then for mainstream economics: it will continue to use marginalism and general equilibrium theory, but try to incorporate ‘animal spirits’ or ‘irrationality’ into its models of modern economies.  Good luck!

In a new piece, Keynesian biographer, Robert Skidelsky complains of the failure radically to rethink mainstream economic theory and attacks Krugman for his view that macroeconomics is “good enough” for policy decisions.  Skidelsky, in contrast, sees modern macro theory as having crucial faultlines: “the problem for New Keynesian macroeconomists is that they fail to acknowledge radical uncertainty in their models, leaving them without any theory of what to do in good times in order to avoid the bad times…. macroeconomics still needs to come up with a big new idea.”

What Skidelsky and other critics of mainstream economics (both in its micro and macro parts) fail to recognise is that no new big idea will appear because mainstream economics is a deliberate result of the need to avoid considering the reality of capitalism.  Its theories are ideological justifications of capitalism( its supposed tendency to harmonious growth, equilibrium and equality). When reality does not bear out the mainstream, it is ignored. That’s because ‘mainstream’ means support for the existing dominant ideology.

‘Political economy’ started as an analysis of the nature of capitalism on an ‘objective’ basis by the great classical economists Adam Smith, David Ricardo, James Mill and others.  But once capitalism became the dominant mode of production in the major economies and it became clear that capitalism was another form of the exploitation of labour (this time by capital), then economics quickly moved to deny that reality.  Instead, mainstream economics became an apologia for capitalism, with general equilibrium replacing real competition; marginal utility replacing the labour theory of value and Say’s law replacing crises.

Even the so-called Keynesian revolution that came out of the experience of the Great Depression was hardly ever applied and was soon dumped when capitalism faced renewed crisis in the 1970s.  The Keynesians are now either advocates of theory that is ‘good enough’ or critics with no ‘big new idea’.

12 thoughts on “The macro: what’s the big idea?

  1. Roberts is correct and has provided a good survey of the recent debates. The best of mainstream economics (which I divide into two general camps–the ‘hybrid Keynesians’ who are a half breed combination of Keynes’ and pre-Keynesian neoclassical economics, and the ‘Retro Classicalists’ who have been trying to resurrect the failed concept of the ‘equation of exchange’ (aka quantity theory of money) since Friedman int he 1960s–are completely confused as to how to forge a new conceptual apparatus for analyzing 21st century capitalism. That new conceptual framework must somehow integrate a convincing analysis of financial cycles and how they determine–and in turn are determined by–real business cycles. The problem with mainstream economics is that its adherents are trained in NIPA (GDP) data and framework. That’s the failure of DSGE models, which are based on mid-20th century capitalist dynamics, when financial forces were temporarily muted by depression, war, and immediate post-1945 opportunities for capital expansion rebuilding the global economy from wartime destruction, and then the movement of capital from the core US-Europe-Japan geographical concentration to penetrate the rest of the global economy (as well as penetration of remaining interstices within that core by privatization of public goods and nationalized industries).

    That all began to end in the 1970s, and has accelerated every decade thereafter, until the present. 21st century global capital is not mid-20th century. Nonetheless, mainstream economics still relies son a faulty and insufficient conceptual framework based on NIPA data, trying to explain the dynamics of business cycles (recessions, great recessions, depressions) driven increasingly by the emergence of a massive, global highly integrated network of highly liquid financial asset markets, the equal spread of new financial institutions (shadow banking network), financial engineering of new asset products that are speculated with, and the emergence of new, increasingly influential economically, and politically, global finance capital elite of about 200,000 multimillionaires-billionaires who are increasingly dominant in terms of investible assets (now more than commercial banks) and growing political influence. (US economic policy now is run by former Goldman-Sach investment (shadow) bankers (Mnuchin, Cohn, Dudley, etc.). Soon Powell (private equity) and other imminent appointees to the Fed.

    The dominant characteristic of the 21st century global economy is the financial cycle-real cycle mutual negative feedbacks. It led to the 2007-09 crash, and a nearly stagnant subsequent trajectory, that was propped up by $25 trillion in central bank liquidity injections that provided rapid and historical boost to financial assets and corporate profits, but did little else than result in stagnation in real investment, productivity, and wage incomes, and replaced full time permanent jobs with part time, temp, gig, contingent, low paid, no benefit employment. Now capitalist economies are adding still further massive subsidization of capital incomes by the State via business-investor tax cuts, deregualtion, privatization, austerity fiscal policies for the rest. This represents the second major characteristic of 21st century capitalism–increasing direct subsidization of capital by the capitalist State itself.

    What we have is not a ‘long depression’, but a long period of stagnation, punctuated by temporary, short boosts to capital from monetary and fiscal policies. Mainstream economics falsely describes fiscal-monetary policies as means by which to ‘stabilize’ capitalism economies and minimize business contractions. That is an erroneous view. The role increasingly of such policies is to subsidize capital as never before. Mainstream notions of phillips curves, monetary growth rules, and the like do not exist or are totally incorrect in their objectives. These are 20th century capitalist notions that no longer (if ever) are true in the 21st century. Yet they get continued support from mainstream economics. They represent economic ideology, not economic science. Yet mainstream economics can’t seem to break from them, and surely can’t develop a better (more predictive) scientific conceptual framework for the 21st century. It immersed itself in ‘micro’ analysis and came up with irrelevant notions of ‘asymmetric information’, moral hazard, and other ‘micro’ notions relevant to isolated markets (with absurd assumptions about such markets). It’s the old classical-neoclassical nonsense, moreover, that the macro economy, and instability, is just ‘micro writ large’! And that capitalist instabilty and crises can be explained with a micro-conceptual framework. (The ghost of JB Say a la 1808).

    Another point about mainstream is that it has always remained focused on ‘normal recessions’–i.e. the short contractions created by building or real investment cycles during the mid-20th century–and have never developed an explanation of bona fide depressions, which are both quantitatively and qualitatively different from ‘normal’ recessions. So too has it failed to explain the 2008-09 event, except to call it a ‘great’ recession (Krugman’s term originally), without explaining how ‘great’ is different from ‘normal’ or even depressions. Somehow simply adding an adverb, ‘great’, and saying it was more severe than a normal recession and not as bad as a depression explains it! To this date, mainstream has developed no integrated theory of depressions (what are the quantitative and qualitative thresholds and differentiators, in other words, that define a depression? How are these quantitataive-qualiltative defining factors similar and different from those in ‘great’ recessions’? Or ‘normal’ recessions?

    Mainstream business cycle theory is bankrupt! And so long as it continues to try to explain 21st century capitalist instability by referencing NIPA data primarily, and ignoring financial cycles, and adhering to defunct conceptual frameworks (like DSGE models), or searching for new micro explanations to macro ‘writ large’–it will continue to fail to predict the continuing long run stagnation, punctuated by increasingly severe crises provoked by the mutual negative interaction of financial asset with real asset cycles.

    1. I think that there is a general consensus among economists (left and right) that WW2 brought the US (and consequently Europe) out of the Great Depression. Mainstream economists (and even some marxists) tend to view war production and the profitable reconstruction of devastated nations as an empirical fact that is behind us. But of course that’s not true.

      Why didn’t you include military (war) Keynesianism in your list of dominant characteristics of 21st century capitalism? It certainly has been an significant part of the financialization process. True, state borrowing to finance a policy of endless war/destructive production=profitable expropriations/reconstruction was born in the mid-20th century (even earlier), but remains with us with a vengeance–but apparently no longer working, since the investment seems no longer profitable (enough) and the United States has become the world’s most powerful and dangerous banana republic.

      Keynesians like Krugman won’t touch military Keynesianism, probably because this obscenely destructive characteristic of 20th/21st century capitalism is somewhat distasteful to an educated bourgeois.

      1. Actually there is virtually no consensus among mainstream economists as to what ended the great depression of the 1930s. Some argue that it was the central bank finally growing the money supply after 1938 that was responsible; others argue that recovery was already underway before the war as US capitalists replaced worn out 1920s-1930s capital equipment with new investment; others argue it was trade and tariffs replaced with the Bretton Woods open system; others that the problem of the gold standard was resolved with the dollar-gold post 1944 system; and so on. The most n otable economic event of the 20th century–the great depression–has produced no consensus explanation among mainstream economists–whether the ‘hybrid Keynesian’ (my term) or ‘Retro-Classicalist’ (also my term) wings of mainstream economics.

        As to why I didn’t include ‘military Keynesianism in my list of 21st century capitalist characteristics, it is because this was a 20th century ‘innovation’ to keep capitalism going. (Actually, it was also a key feature of modern capitalism). I focused in my comment on the new, additional key forces that have emerged as part of the Neoliberal restoration of capital since the late 1970s.

      2. “Some argue that it was…”

        And others argue it was a combination of multiple factors!

        “I focused in my comment on the new, additional key forces that have emerged as part of the Neoliberal restoration of capital since the late 1970s”

        That, i am sure you will admit, wasn’t exactly crystal clear from your initial comment. In science being prescriptive and stating clearly the context and level of abstraction carries some importance.

  2. Thanks for the link to articles available for next few days!

    I have read the abstracts and downloaded the pdfs to read properly after finishing Anwar Sheikh. Look like exactly what’s needed to catch up with where mainstream is currently headed.

    BTW all such articles are also accessible at any time via: (select “Scientific articles” instead of default, use the doi provided by article publisher)

    Have not read FT review by Sandbu as not a subscriber.

    Very interested in quote from Sandbu re this article:

    “It tries to ‘model’ the current Long Depression and finds that its model explains why the major economies have not ‘recovered normally’ nor slipped into deep deflationary depression.

    It’s due to the failure of investment in the capitalist sector to return to previous levels: “the economy can get caught in a prolonged period of stagnation. In addition, productivity growth is embedded at least in part in investment: hence investment-induced stagnation can tie down productivity growth to very low levels.” However, even this model falls back on the explanation of low investment as due to a lack of a “shift to the optimistic scenario about future growth” (ie lack of ‘animal spirits’ a la Keynes), which is no explanation at all.”

    Only skimmed the article without understanding as my eyes always glaze over at Keynesian equations. But did see this bit on what they are trying to explain:

    “… how an economy with an inflation-targeting central bank can exhibit the following features:

    – virtual stagnation of productivity, capital services per hour and real wages;

    – a real interest rate close to zero;

    – low unemployment and high employment rates;

    – low growth of nominal wages.”

    Concept of an “inflation-targeting central bank” seems bizarre. My guess is that the terminology was adopted during “Great Moderation” when central banks were supposed to be using interest rates to stabilize both unemployment and price level. Now desperate Quantiative Easing to avoid deflationary crash is described with the same term “inflation targeting” to refer to a more or less opposite target.

    But “investment induced stagnation” only gets one step along the same series of near tautologies as “profit induced investment”, “disproportions between output and input prices induced fall in profits”, “disproportions between production of inputs and production of outputs induced price disproportions from values”.

    I have not done the work necessary but my conjecture based on Maksakovsky is that key point has to be that the stylized facts they seek to explain are best accounted for by the absence of a “crash”. There has to be a deep deflation and depression before there can be a full recovery.

    Central Banks have not just followed the traditional Walter Bagehot policy described by Marx (prevent panics by lending freely at high rates on good collateral). They have been acting as “dealer of last resort”, not just “banker of last resort”.

    For many decades they were rather successful in ignoring Marx’s explanation:

    “The entire artificial system of forced expansion of the reproduction process cannot, of course, be remedied by having some bank, like the Bank of England, give to all the swindlers the deficient capital by means of its paper and having it buy up all the depreciated commodities at their old nominal values.”

    As with Monty Python’s “flying sheep”, the result will be not so much flying as plummeting, but “think of the enormous commercial possibilities if they should succeed”

    Central banks target was preventing a crash not inflation. They have succeeded so far as Hilferding and Keynes expected. Consequently the disproportions that the crash would resolve have continued and intensified as Maksakovsky explained.

    This should not be that hard to understand. Given the attractiveness of the series of “near tautologies” listed above it seems natural to expect that only a crash would push output prices relative to input prices low enough for a low average rate of profit to make more capital intensive techniques economic and thus generate a wave of new fixed capital investment that would raise productivity, to raise real profits while accomodating higher real wages. The mysterious “multifactor productivity” is as nonsensical as “capital productivity”. It is all labor productivity and gets increased by shift to higher organic composition of capital that occurs when crash of prices and profit rates makes existing plant technologically obsolete. No crash means no such wave and so no basis for next cycle with full recovery.

    Maksakovsky’s introduction and chapter 1 on methodology give a pretty clear account of why empirical work without a correct guiding theory can only provide useful data but not substitute for that lack of theory.

    See notes on Essence and Appearance:

    The only other article I have skimmed so far was “An interdisciplinary model for macroeconomics” by Haldane and Turrell

    I read that because of my prejudice that Agent Based Modeling is far closer to a scientific approach than anything else I am aware of.

    Cannot see it mentioned in Michael’s post. Strongly recommend taking a good look. At least they try to explicitly model such “heterogenous agents” as capitalists and workers instead of keeping ideological blinkers fully on and this approach allows even toy models to actually represent emergent phenomena such as prices and values related to actual fluctuations and disproportions in demand and supply, physical stocks, technologies etc. I will be studying it closely after finishing Anwar Sheikh.

  3. Also, as is entirely predictable, the senior members of the economics profession who are responsible for the profession’s failures will now all be desperately trying to portray themselves as “reformers”. Bit like the way in which after the French revolution, numerous aristocrats no doubt doned peasants’ cloths and claimed they were supporters of the revolution all along.

    The classic case of that is Oliver Blanchard who was busy promoting austerity during the crisis along with his IMF colleagues.

    1. I would advise any comrade to give workers liberty a miss, as they are the most aggressively pro imperialist and pro war section of the left.

      The word Marxist should be in quotes along with the word ‘take’.

  4. Present capitalism has one major problem, an unused surplus. Probably a large tax on capital assets combined with a maximum income limit would cure its stagnation. The French presidential election this last year featured a candidate who advocated a 100% tax on income above 360,000 Euros a year. The U.S. in the 1950s had a 91% tax on all income above about $1 million. In the U.S. real estate is taxed at the local and state level, but financial assets are not taxed, not at all. Only realized capital gains, interest, dividend income is taxed. The Urban Institute’s Tax Policy Center reported that $458 billion of tax revenue was realized in 2016 from taxation on real estate property. Financial assets are about 3 times greater in total value than real estate, and a proportional tax on financial assets would yield $1.1 trillion yearly. That’s about 33% of the “on budget” expenditures of the federal budget. There are many other possible capital taxes, the FTT is one. Increasing the Earned Income Tax Credit, the minimum wage, and providing subsidized health, housing, food, child care, transportation who put a basic floor on the standard of living. The economy serves the society, not the other way around. I read the article by Skidelsky at Project Syndicate, and I was impressed at how abstract it was. It did not help my thinking at all. I am more of a Keynsian than a Marxist, but I believe a planned economy, say 66% planned, 34% unplanned, would be more efficient, fairer, simpler, and meet the civil rights needs of the planet. I write a blog, Economics Without Greed,, and the last essay is about a budget that increases U.S. government spending by about 16%, all government, local, state and federal, from 37.6% of GDP to 43.6%, which about the size of the German government budget today. So, about the surplus that is unused: it creates a lot of unneeded problems, and deprivation on a mass scale is one of them. The actual “wealth” of a nation is its people, not its capital.

  5. Michael, could you please offer us your take on the following interpretations of Marx’s work:

    Massimo De Angelis’ take on Marx’s value theory in his “The Beginning of History: Value Struggles and Global Capital”:

    Click to access Beginning%20of%20History.pdf

    Harry Cleaver’s book “Reading Capital Politically”:

    His new book on value theory “Rupturing the Dialectic: The Struggle against Work, Money, and Financialization”:

    Click to access Rupturing-the-Dialectic-final.pdf

    As well as the critique of Marx’s value presented by Jonathan Nitzan and Shimshon Bichler in their “Capital as Power: A Study of Order and Creorder”:

    Click to access 20090522_nb_casp_full_indexed.pdf

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