Sunday, September 28, 2014

Econ_unmasked — The Unraveling of Economics

The goal of this essay is radical: build a new theory of economics to make sense of the historical success of protectionism. If you're a supporter of free trade, I strongly welcome your critique, because I believe economics can only be fixed with a very healthy national debate. A national debate is needed, for several reasons. First, this is not a task for a single individual, since the literature is immense and the essence of each school of economics is open to interpretation. Secondly, the political body needs to become aware of the fact that economics does not consist of a single school. In fact it is a 'science' of warring factions. I would go so far as to suggest, that Congress needs national hearings on the various schools so as to cast some doubt on our present direction towards the economic abyss. The new model is based on nearly six years of research and 200 plus textbooks of economic theory and history. In a nutshell, it argues the core error lies in an incomplete economic definition of money.
Given this picture, it is not difficult to imagine that these men would have predicted a boom for China and a bust for America. Yet, a modern economist would very likely argue that free trade, not protectionism is the road to prosperity. To make sense of this contradiction, I begin with a very daring proposition: there has never been a sound theory of economics. The key intellectual error of all schools of economics is the incomplete economic definition of money: 1) medium of exchange, 2) store of value, and 3) unit of account. Note this definition completely ignores money's link to wages so that labor content maybe tracked in industrial goods in order to measure productivity gains. Tracking productivity gains is absolutely critical to worker mobility from one sector to another as short term unemployment results from such gains. The cost savings are passed on to the consumer in a price reduction, which in turn is spent in a new sector providing new employment opportunities. More importantly, a correct definition of money is not only needed for a labor theory of value (abandoned by mainstream economics), but that it is ultimately a domestic phenomenon. 
Three critical components give money its domestic basis and its rigidity. The first aspect results from the establishment of a national minimum wage. Thus as James Steuart writing prior to Adam Smith in the 1700s understood, money is nothing more than an "arbitrary scale" which arises out of an infinite and worthless paper money supply or credit system. Thus a minimum wage definition provides the point of gravitation from which a national wage structure is established via supply and demand for skill sets. The second component is wage negotiation process itself. As Keynes observed it is a relative comparison process (an American steelworker compares his wage to another American steelworker, not a foreign steel worker). A necessarily rigid wage system is established so that labor content of industrial goods can be rationally tracked for measuring productivity gains. The properly handling of productivity gains, and the short term resulting unemployment, requires a common language component, a critical theoretical oversight which in my view will prove to be the Euro's undoing. In other words, a French worker will be hard pressed to move should the superior competitor (greatest industrial productivity) happen to be in Germany for example. Thus Steuart's phrase more accurately would be described as "a domestic arbitrary scale that can only be maintained in a closed economy."…
Longish but worthwhile. This is also a good post from the perspective of economic history and history of economics, and it touches on the foundations of economics, aka philosophy of economics.

The Economic Populist
The Unraveling of Economics

See also, Michel Pettis, How much longer can the global trading system last?

The necessity for "open economics" that considers the world economy as a closed system. Otherwise, countries will come into continually conflict over economic policy, and the large will dominate the smaller. Protectionism is no lasting solution and only kicks the can down the road.

I would say rather that "free trade" needs to be reinterpreted with respect to balance development of a global economy that is a a complex adaptive closed system. The US has successfully worked this out with respect to the federal government as currency issuer and the states as currency users.

It's the working model that now exists. But owing to a broad range of differences it would be difficult to implement elsewhere. Europe is good example, so far. The economics got ahead of the politics and the result is mess.

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Ryan Harris said...
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