Peter Cooper — Short & Simple 7 – A Fundamental National Accounting Identity

The reason real output (or real GDP) is measured in monetary terms is that there is no good way to add up physical quantities of different goods and services to arrive at a single number. For example, imagine an economy that produces just three goods with the following physical output:

Physical Output = 50 computers + 75 motor vehicles + 40,000 apples

We cannot add up these quantities to arrive at a single measure of physical output. The goods have different units of measurement. They are incommensurable.
But if we know prices, we can express the output of each good in monetary terms. All output will then be measured in a common monetary unit and can be added together.

Obvious maybe, but what are the implications?

heteconomist

Short & Simple 7 – A Fundamental National Accounting Identity

Peter Cooper

Ramanan — Public Debt And Current Account Deficits, Part 2

This is a continuation of a recent post at this blog, Public Debt And Current Account Deficits, in which I argued that the current account balance of payments affects the public debt.

The Case for Concerted Action
Public Debt And Current Account Deficits, Part 2
V. Ramanan

Dirk Ehnts — Structuralist Macroeconomics

I have recently ordered a copy of “Structuralist Macroeconomics – Applicable Models for the Third World” by Lance Taylor. However, I did not read very far into the book. Let me explain why. On p. 12, chapter 2 – titled “Adjustment Mechanisms – the Real Side” – starts with the sentence:

“MACROECONOMICS begins with the notion that the value of saving generated by all participants in the economy must by one means or another come into equality with the value of investment in the short run.”

While most economists will probably nod their heads, I don’t. Informed by a book chapter written by Basil Moore (download) and my own research, let me point out the fundamental problems with this statement. The first is trivial, the second not so....

econoblog 101
Structuralist Macroeconomics
Dirk Ehnts | Lecturer at Bard College Berlin

Brian Romanchuk — Fun With Accounting Identities

An article with the flamboyant title "The final implosion of MMT" by Egmont Kakarot-Handtke caught my eye. As I observed at Mike Norman Economics, this was probably just an attempt to troll people. That said, I think it provides another useful example of national accounting works (or does not work...)

Bond Economics
Fun With Accounting Identities
Brian Romanchuk

Ramanan — Output At Home And Abroad

Accounting identities are tautologies that say nothing about the world other than that the relevant accounts balance. As identities they are not functions, in which inputs determine outputs in terms of a rule. 

However, accounting identities can be used in theoretical interpretation to arrive at causal explanation, but this requires examining relevant behaviors. For example, one entity's expenditure is a flow that increases another entity's income, which will have a cumulative influence on a stock.

Stock-flow analysis observes stock-flow consistency. Accounting identities are boundary conditions of stock-flow consistency.

It’s fairly common for economists to confuse accounting identities and behavioural relationships.

Question: What is the best way to find it?

Answer: The behaviour of output (at home and abroad) is not discussed in their analysis.

It’s not always the case that it’s true but a good way to find – check whether the economist is talking of the effect of changes in stocks or flows on output.

It’s also of course important to discern what someone is literally saying and what that person is trying to say. Economists aren’t the best communicators.…

The Case for Concerted Action
Output At Home And Abroad
V. Ramanan

Jason Smith — There is no interpretation, only equation

Jason Smith comments (unfavorably) on Godley & Lavoie.

That dystopian vision can be replaced with something that could be consistent with a much more realistic economy by adding in the constant $\Gamma$. With $\Gamma$, households are paid with direct deposits at banks that are backed by their holdings of government bonds via fractional reserve banking. People buy and sell stuff at any point during a quarter. Velocity of scrip is still proportional to the "velocity" of government bonds ... but as G&L say, this is a toy model.

Information Transfer Economics
There is no interpretation, only equation
Jason Smith

Jason Smith — Does saving make sense?

Jason Smith jumps in on "saving."

Information Transfer Economics
Does saving make sense?
Jason Smith

Ramanan — Two more on economic modeling and stock flow consistency

The Case for Concerted Action
Subscripting Helps!

Discrete Time Or Continuous Time?
V. Ramanan

Roger Farmer — Demand Creates its Own Supply

I have been teaching basic Keynesian economics this week to my undergraduate class and I have just completed a new book manuscript with the working title of Prosperity for All, that will be coming soon to a book store near you. I am thus highly attuned to the debate over the connection between savings and investment.

That debate resurfaced with a vengeance this morning on Twitter when Noah Smith and Jo Michell, among others, engaged in a sometimes testy exchange on the role of the State in promoting investment. Since that debate is at the core of Keynesian economics, and since my class is prepping for Monday’s midterm, this seems like a great opportunity to enlighten readers of all varieties on what Jo and Noah were on about.…

Roger Farmer's Economic Window
Demand Creates its Own Supply
Roger Farmer | Distinguished Professor of Economics at UCLA

David Glasner — Keynes and Accounting Identities

In principle, I have no problem with such a use of accounting identities. There’s nothing wrong with pointing out the logical inconsistency between wanting Germany to pay reparations and being unwilling to accept payment in anything but gold. Using an accounting identity in this way is akin to using the law of conservation of energy to point out that perpetual motion is impossible. However, essentially the same argument could be made using an equilibrium condition for the balance of payments instead of an identity. The difference is that the accounting identity tells you nothing about how the system evolves over time. For that you need a behavioral theory that explains how the system adjusts when the equilibrium conditions are not satisfied. Accounting identities and conservation laws don’t give you any information about how the system adjusts when it is out of equilibrium. So as Pettis goes on to elaborate on Keynes’s analysis of the reparations issue, one or more behavioral theories must be tacitly called upon to explain how the international system would adjust to a balance-of-payments disequilibrium.…

Uneasy Money
Keynes and Accounting Identities
David Glasner

Mean Squared Errors — Economists and accounting identities

Here's a rule of thumb for talking about accounting identities: Accounting identities do not constrain behavior; they constrain accounting. If you find yourself saying or implying that an economic actor cannot do something they want to do because of an accounting identity, you have lost the thread. Backtrack and rethink.

Mean Squared Errors

Economists and accounting identities

JEC

ht Mark Thoma at Economist's View

Peter Dorman — Net Savings and Trade: Krugman is Simply Wrong

I was going to let Paul Krugman’s aside about the trade deficit being “determined” by net national savingspass, but Dean Baker has unintentionally prodded me into action.

It’s actually worse than what Dean says. The sum of a country’s domestic budgets, private and public, is not “equal” to its current account (mostly trade) position; it is the current account position. The two are the same thing. It’s as if my team played your team and you won while we lost. Your victory didn't “determine” our defeat or vice versa: they are one and the same. It’s such a simple idea, but top flight economists like Krugman (who knows trade and open economy macro about as well as anyone on the planet) mess it up just as readily as my introductory students. I've wondered why this is, but it is. (You can read some speculation about why economists don’t distinguish between identity and equality here; see p. 169.)

EconoSpeak

Net Savings and Trade: Krugman is Simply Wrong
Peter Dorman

Brian Romanchuk — Savings Equals Investment And All That

More on the Kalecki profits equation.

Bond Economics
Savings Equals Investment And All That
Brian Romanchuk

Andrew Lainton — The Equity Residue in Bank Deposits

A short note in reply to @Frances_Coppola. She disagreed with a paper from Jan Kregal at Levy.

Kregal argues that there are two types of deposit, deposits of currency and coin, and deposits created when loans are made. If a bank makes bad loan

“it is the failure of the holder of the second type of deposit [loan-created deposits] to redeem its liability that is the major cause of bank failure”

so the first type of depositor (of currency and coin) should not bear the brunt of these bad decisions.

Coppola disagrees with this on a theoretical point via twitter.

Decisions, Decisions, Decisions
The Equity Residue in Bank Deposits
Andrew Lainton

Steve Roth — No: Less Consumption Does Not Cause More Investment

More about confusing the ex post record with ex ante causality, like the "money multiplier" mistake. Saving being identical to investment as an accounting identity (S = I) doesn't imply that saving causes investment.

Asymptosis
No: Less Consumption Does Not Cause More Investment
Steve Roth

Fabian Lindner — Saving does not finance Investment: Accounting as an indispensable guide to economic theory

Abstract 

The paper analyses the accounting relationships between the financial and the real economy. It will be shown that accounting can clarify the nature of economic phenomena and be an important building block for economic theory. The paper will argue that there is much confusion about key macroeconomic concepts like saving, investment and finance. This confusion is best summarised in the statement "saving finances investment". After clearly defining the accounting relationships between lending, financial saving and physical investment it will be shown that this is a nonsense statement. The theory behind it – the loanable funds theory – will be analysed and critiqued. It will be shown that the loanable funds theory confuses the concepts of income and production, lending and saving, and financial saving and non-financial saving. It will further be shown that this has not only theoretical but also important policy implications.

Macroeconomic Policy Institute | Working Paper 100 (Oct 2012)
Saving does not finance Investment: Accounting as an indispensable
guide to economic theory
Fabian Lindner
(h/ t DkN in a comment at Asymptosis)

Steve Roth — Does Saving “Fund” Investment?

Steve Roth explains the accounting meaning of funding.

...it’s important to understand what that key accounting verb (“funds”) actually means. It describes an after-the-fact and arguably largely arbitrary accounting allocation of income streams to outflow streams....

I guess my main point here, perhaps obvious to many, is that accounting descriptions — choices about how to describe the past in accounting-speak, especially regarding “saving” and “funding” — are, inevitably, rhetorical hence normative. Or at least, those choices of descriptions have inevitable rhetorical hence normative implications.

Or to put it simply: accounting is normative.

My impression is that many economic discussions and disagreements, especially in the “MM” worlds, are at their root disagreements about what “funds” what (frequently compounded by imprecise sector definitions with different parties using different implicit definitions), and the rhetorical hence normative implications of those competing descriptions.

Asymptosis
Does Saving “Fund” Investment?
Steve Roth

See also Steve's How Accounting “Constrains” Economics (February 1, 2012). Lots of comments, too.

Ramanan — Income = Expenditure

Ramanan sums up the state of the recente debate fron his perspective and adds the dimension of the Dirac delta function.

The Case For Concerted Action
Income = Expenditure!
Ramanan

Nick Rowe — Identity Economics

Nick riffs on Y = C + I + G + (X-M) and MV = PY (or PT).

Read it at Worthwhile Canadian Initiative
Identity Economics
by Nick Rowe | Associate Professor, Carleton Unversity

Stephanie Kelton — MMT ignores private banks and can't disaggregate the priv sector. Oh, wait ... That's a straw man.

Stephanie Kelton (@deficitowl) tweets:

#mmt ignores private banks and can't disaggregate the priv sector. Oh, wait ... That's a straw man. Both here:levyinstitute.org/pubs/wp_645.pdf

referring to:
Quantitative Easing and Proposals for Reform of Monetary Policy Operations by Scott Fullwiler and L. Randall Wray
Levy Economics Institute of Bard College, Working Paper No. 645

Philip Pilkington (@pilkingtonphil) tweets:
@deficitowl @carney Not fair criticism. When there's net private sec def, there's almost always trouble. Norm=saving. http://pragcap.com/wp-content/uploads/2010/12/sb1.gif

Looks like the discussion has migrated to Twitter:
@pilkingtonphil @carney Don't need priv sect def 2 get in2 trouble. Falling priv sector surp. will do. Slide 6 slidesha.re/wf5hGd

@deficitowl @carney True. True. But net priv def is big trouble. Even w/ big foreign surplus. MMT=right to aggregate! bit.ly/wIZoIe