The power of economic theory: Graphically illustrated

Good piece by Zaman on the relationship between economic outcomes and economic ideology. One can think of the period from the 1930s to the 1970s as the Keynesian era, and the period since then as the Chicago era (or, more accurately – though clumsily, the Monetarist-Rational Expectations-Real-Business-Cycle era). During the Keynesian era the share of wealth owned by the bottom 90% grew, while the share of wealth owned by the top 0.1% declined. Then, in the current Chicago era the patterns were reversed, with the bottom 90% seeing their share fall while the top 0.1% saw their share rise.

While I’m drawn to the implications suggested by this relationship, I’m not sure that causality is from ideology (or economic theory, if the suggestion that economic theory is ideological seems too extreme) to economic outcomes, mostly because the policies that account for the outcomes in both eras where not necessarily driven by theory. They were instead driven by changes in the balance of power that took place, and is still taking place, between capital and labor. The politics that emerged from that changing balance of power had a bigger impact on the resultant policies of the two eras than the arguments offered by Keynesian or Chicago economists.

The two different ideologies that came to dominate these two eras were more a reflection of the underlying power relationships than a causal force leading to the different policy regimes.

What’s more, while it’s true that economic ideology has gone through a transformation from Keynesianism to Chicagoism it’s a bit of stretch to suggest that Chicagoism was an outcast in the era of Keynes. True, Keynesian theory and policy were dominant in that era, but it was a type of Keynesianism that accepted, in principle, the Chicagoian belief in free markets.

The major difference between these two ideologies, in this regard, was that the Keynesians saw all kinds of imperfections and rigidities interfering with the free market’s ability to do its wonders, while the Chicagoians were confident that, in the real world, free markets move toward full employment. In short, both ideologies accepted the magic of the market. It was just that the Keynesians saw the need for policies that nudge the free market toward outcomes it’s prevented from achieving because of imperfections and rigidities, while the Chicagoians are convinced that real world markets do just fine, even in the presence of imperfections and rigidities.

The Keynesians were, and still are, unwilling to embrace the more radical conclusion arrived at by John Maynard; namely that, even if the free market system were purely competitive, there still would be no guarantee it would arrive at a full employment equilibrium.

For this reason, the Chicagoians were never quite the outcasts. This helps explain the ease with which their ideology was so quickly accepted in the 70s. It also helps explain why the economics of Keynes never moved to center stage.

The ideologies of the two eras never questioned the system’s ability to move toward that magical equilibrium. What instead happened was that the ideology that got the most play was the one most congenial to the structure of power of each corresponding era. But throughout both periods, the system’s capacity to move, of its own accord, toward full employment – even if only in principle – was never up to debate.

Real-World Economics Review Blog

from Asad Zaman and the WEA Pedagogical Blog

A near perfect graphical illustration of the power of economic theory is provided by the following graph; copied from RWER Blog

The impact of the roaring 20’s can be seen clearly as the shares of the bottom 90% drop steadily from 20% to around 13%, while the shares of the top 0.1% shoot up. The Great Depression led to a slew of regulations on banking, and also eventually the development and implementation of Keynesian ideas, which provide an economic rationale for government interventions to reduce unemployment. From 1930 to 1980, we see the rise of populist ideas, implementation of Keynesian theories, and the eclipse of Hayek and the Chicago School. After reaching a nadir in 1978, we see an upswing in the fortunes of the top 0.1%.

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The Fall Quarter Coyote Economist

The most recent issue of the Coyote Economist came out last week. The lead article looks at income and wealth inequality over the course of the Great Recession.

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USA jobs lost 2008-14, average wage of jobs lost, average wage of jobs gained

Thanks to David Ruccio …

Real-World Economics Review Blog

from David Ruccio


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The High Price of Materialism

I was just made aware of a video on materialism created by The Center for a New American Dream, back in 2011. Psychologist Tim Kasser does a good job of laying out, in  5:37 minutes of animation, the negative impact of consumerism on well-being. He correctly notes that when people confuse the “good life” for the “goods life” they not only use up limited resources, they are less happy and less inclined to help others.

The video notes that confronting, let alone overturning, materialism requires not only personal lifestyle choices but broad social change as well. I have no quarrel with this, but feel compelled to point out the enormity of the task confronting those, myself included, who would relish a non-consumerist, sustainable and humane, society. Materialism is axiomatic to capitalism, central to its profit-driven need to grow. Dislodging this motive requires changing, or eliminating, powerful capitalist institutions.

And, while I’m still holding out for the possibility of a massive political upheaval, a more likely scenario is that serious change will not be contemplated, let alone institutionalized, until the life-threatening impact of ecological destruction can no longer be denied.

You can see the video here.

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John Cochrane on the Failure of Macroeconomics

Indeed! ” … modern macroeconomics has achieved its ascendancy in academic circles almost entirely by way of a misguided methodological preference for axiomatized intertemporal optimization models for which a unique equilibrium solution can be found by imposing the empirically risible assumption of rational expectations. These models, whether in their New Keynesian or Real Business Cycle versions, do not generate better empirical predictions than the old fashioned Keynesian models, and, as Noah Smith has usefully pointed out, these models have been consistently rejected by private forecasters in favor of the traditional Keynesian models. It is only the dominant clique of ivory-tower intellectuals that cultivate and nurture these models. The notion that such models are entitled to any special authority or scientific status is based on nothing but the exaggerated self-esteem that is characteristic of almost every intellectual clique, particularly dominant ones.”

Uneasy Money

The state of modern macroeconomics is not good; John Cochrane, professor of finance at the University of Chicago, senior fellow of the Hoover Institution, and adjunct scholar of the Cato Institute, writing in Thursday’s Wall Street Journal, thinks macroeconomics is a failure. Perhaps so, but he has trouble explaining why.

The problem that Cochrane is chiefly focused on is slow growth.

Output per capita fell almost 10 percentage points below trend in the 2008 recession. It has since grown at less than 1.5%, and lost more ground relative to trend. Cumulative losses are many trillions of dollars, and growing. And the latest GDP report disappoints again, declining in the first quarter.

Sclerotic growth trumps every other economic problem. Without strong growth, our children and grandchildren will not see the great rise in health and living standards that we enjoy relative to our parents and grandparents. Without growth, our government’s…

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In an Era of Increasing Fiscal Constraints, an Inexplicable Shift in Hiring Patterns in Higher Education

The same pattern has been unfolding at CSUSB.


In this past week’s issue of the Chronicle of Higher Education, there is a very revealing graph representing the changes in employment in colleges and universities from 1976 to 2011. The graph is based on an analysis of IPEDs data by AAUP’s John Curtis.

Full-Time Tenured and Tenure-Track Faculty

1976 – 353,681

2011 – 436,293

Increase – 23%

Graduate Student Employees

1976 – 160.086

2011 – 358,743

Increase – 123%

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Spring Quarter 2014 Coyote Economist

Here’s the Spring Quarter 2014 edition of the Coyote Economist. The lead article, written by CSUSB Economics Professor Daniel MacDonald, reviews Thomas Piketty’s new book “Capital in the Twenty First Century”.

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