The following petition has been circulating and was sent to me just in case I was interested in putting my name to such thoughts. In me they have the wrong economist, but I fear they will find many others quite willing to sign on. Here is the petition:
Signatories of this plea support the following words by Nobel Laureate Paul Krugman:
“Few economists saw our current crisis coming, but this predictive failure was the least of the field’s problems. More important was the profession’s blindness to the very possibility of catastrophic failures in a market economy … the economics profession went astray because economists, as a group, mistook beauty, clad in impressive-looking mathematics, for truth … economists fell back in love with the old, idealized vision of an economy in which rational individuals interact in perfect markets, this time gussied up with fancy equations … Unfortunately, this romanticized and sanitized vision of the economy led most economists to ignore all the things that can go wrong. They turned a blind eye to the limitations of human rationality that often lead to bubbles and busts; to the problems of institutions that run amok; to the imperfections of markets – especially financial markets – that can cause the economy’s operating system to undergo sudden, unpredictable crashes; and to the dangers created when regulators don’t believe in regulation. … When it comes to the all-too-human problem of recessions and depressions, economists need to abandon the neat but wrong solution of assuming that everyone is rational and markets work perfectly.” New York Times, September 2, 2009.
Let me just say that you would have to go a long way to find an economist, or anyone else for that matter, who assumes that everyone is rational or that markets work perfectly. But what I and the majority of my fellow economists do believe is that most of us act in ways which are best for ourselves to the extent that we can work out what is best for ourselves. And we also believe that while markets do have failures, they work so incomparably better than any other form of economic structure that you really do have to wonder where Krugman – Nobel Prize or not – has picked up his ideas about what other economists believe. This petition is no more than a plea for more government intervention, a very bad idea indeed. That it has originated in the United States, in an economy now being choked by intervention, is as worrying as the text itself.
That our economies from time to time enter recession is what every economist well understood before Keynes published his General Theory in 1936. That a large proportion of economists – Paul Krugman included – now believe that governments and their economic advisors can second guess the market is one of the truly lamentable consequences of the publication of that truly lamentable book. The vast oceans of public spending in the United States will either demonstrate for all time that Keynesian economics really does work and really does pave the way for recovery out of recession. Or it will demonstrate, to those who are capable of understanding the lesson, that the government cannot spend an economy into recovery. If it turns out to be the second of these possibilities, we will end up having had the most expensive economic lessons in the history of the planet.
Moreover, should the second of these possibilities turn out to be our reality, economic theory will have to rid itself of its Keynesian legacy and will very likely need to resurrect the pre-Keynesian theory of the cycle which has been all but lost. An understanding and appreciation of the cycle would put economists into a position to understand that downturns are inevitable. They would also then have an ability to provide sensible advice on how to find our way out of recessions when they occur.
The classical theory of the cycle made it clear that a recession could start absolutely anywhere and would then spread infecting one industry after another. That there has been a confluence of factors that have caused the present downturn is nothing new, but the directions given by the US Congress instructing financial institutions to lend mortgage money to those who could never repay is high on the list of factors that started the global economic system crumbling. Most economists believe that is where the downturn began.
That the solution is, in general, to let the market find its way back to full employment is something else that our Keynesian legacy has left most economists incapable of understanding. So much the worse for us all. There are things that can be done – including some well conceived increases in infrastructure spending. But whatever actions are taken must be part of a general process which aims at an improvement in business profitability. From there, economies will grow and continue to grow until the next downturn which, like every downturn, will come out of nowhere and be a major surprise to everyone.
What I write was known to the entire economics profession a century ago, while today it is known to virtually no one at all. There are lessons from the past that need to be relearned, and the theory of the cycle is amongst the most crucial of all.