Saturday, November 9, 2019

The household fallacy — Charles Adams

Simple explanation.

Progressive Pulse
The household fallacy
Charles Adams | Professor of Physics at the University of Durham, where he teaches Optics and Econophysics


Matt Franko said...

meh... you could just say "govt is like a household!" under platonism...

Thesis: "govt is like a household!"

Anti-thesis: "govt is NOT like a household!"

f-ed up methodology...

Ralph Musgrave said...

University of Durham....that's 2 miles from where I live. I've communicated with this fellow via email, but not actually met him.

Strange world we now live in where you communicate with someone electronically rather than face to face even when they're just two miles away.

S400 said...

” ed up methodology...”

Yes totally f-up methodology to dumb it down like Matt does in order to “prove” that the has a trump card he can play whenever he wants to.

AXEC / E.K-H said...

Exploding the household fallacy
Comment on Charles Adams on ‘The household fallacy’*

Charles Adams, a physics professor at the University of Durham, explains the household fallacy: “When the goverment spends, that spending is someones income and that someone pays some tax so the government immediately gets some of their money back. And then that someone spends most of their money which becomes other peoples income. And these other people also pay tax, so the government gets another fraction back. And these other people also spend which becomes the income of even more people who also give a fraction back to the goverment. And so on. If everyone spends then the government gets all its money back. Whereas when you or I spend we do not get anything back. That is a big difference. The only way the goverment can be in deficit is if the people decide to save. The goverment debt is simply the peoples savings. If at any point the people go out and spend their savings, then the goverment debt will be cleared.”

The first thing to notice is that in this story only the government sector and “people”, i.e. the household sector, appear but not the business sector. And, curiously, the word profit does not appear once. An economic story without profit is fishy, to begin with. However, having a bad smell in the nose and precisely locating its source are quite different things. So, one has to advance from storytelling to proper economic analysis.

For a start, one needs a description of the elementary production-consumption economy. This economy is constructed from scratch with the following set of macroeconomic axioms: (A0) The objectively given and most elementary configuration of the economy consists of the household sector and the business sector which in turn consists initially of one giant fully integrated firm. (A1) Yw=WL wage income Yw is equal to wage rate W times working hours L, (A2) O=RL output O is equal to productivity R times working hours L, (A3) C=PX consumption expenditure C is equal to price P times quantity bought/sold X.

Under the conditions of market-clearing X=O and budget-balancing C=Yw in each period, the price as the dependent variable is given by P=W/R. This is the macroeconomic Law of Supply and Demand. For the graphical representation of the analytical starting point see Wikimedia AXEC31.#1

In this elementary economy, the Central Bank finances the wage bill by creating fiat money out of nothing. The average stock of transaction money is given as M=κYw, with κ determined by the payment pattern.#2

So, the business sector spends money into the economy in the form of wage income Yw and gets it back in the form of consumption expenditures C. The stock of fiat money is zero at the beginning of the period under consideration and zero at the end. Money is created and destroyed by the autonomous transactions between the business and the household sector.

It is pretty obvious that this elementary production-consumption economy can run in all eternity at any level of employment. Problems arise if the households do not spend exactly their income, i.e. do not balance their budget.

Dropping the condition C=Yw yields two balances: Saving/dissaving of the household sector S≡Yw−C and profit/loss of the business sector Q≡C−Yw. It always holds Q+S=0 or Q=−S, in other words, the business sector’s surplus = profit equals the household sector’s deficit = dissaving and, vice versa, the business sector’s deficit = loss equals the household sector’s surplus = saving. This is the most elementary form of the macroeconomic Profit Law.

See part 2

AXEC / E.K-H said...

Part 2

Now, if the households save the business sector makes a loss and if this continues for a while the economy breaks down. If the households dissave, i.e. run a deficit, the business sector makes a profit. The business sector’s deposits at the Central Bank (= money) grow in perfect lockstep with the household sector’s overdrafts (= debt). The deficit spending of the households is financed by the Central Bank and it ends when the Central Bank puts a brake on further debt growth. In this case, C falls back to Yw and profit falls back to zero.

Conclusion: Capitalism depends on profit and profit depends on deficit-spending, so Capitalism depends in the most elementary case on growing debt of the household sector. It is NOT enough that “people” always fully spend their wage income, they have to spend more. So ultimately, Capitalism depends on a credit creating banking system. However, here is the problem: either the households are not willing to go into debt or the banking system is not willing to give them much credit for an extended time span.

This is where the State comes to the rescue. With the State as an additional sector, the Profit Law reads Q=−S+(G−T). So, if the private households balance their budget, i.e. S=0, and the public households balance their budget, i.e. G−T=0, the balance of the business sector (= profit) is zero. If the government sector taxes only a part of its expenditures back, i.e. TS.

Now, the crucial difference between private households and public households is that the growth of household sector debt is limited while the growth of public sector debt is virtually unlimited. Up to an ex-ante unknown amount, State debt is considered as riskless because of the taxing power of the State.

So, the household fallacy does NOT come down to the economic miracle that “If everyone spends then the government gets all its money back.” No, the government runs a deficit, i.e. G−T>0, while the households spend what they get as wage income, i.e. C=Yw. The government does NOT get its spending back and this is why the public debt permanently increases ($22 trillion and counting).#3

The household fallacy consists of the idea that the public sector is in the same way debt-restricted as the individual household. MMT is absolutely right in pointing out that this is NOT the case.

However, MMT is absolutely wrong in maintaining that government deficit-spending/money-creation is good economic policy. As a general rule, is NOT. MMT policy creates the distribution of income and wealth that is now generally regarded as a grave danger for social stability.

The physics professor again gets economics badly wrong.#4 There is something rotten in UK academia.

Egmont Kakarot-Handtke

* Progressive Pulse

#1 Wikimedia AXEC31

#2 For more details see Criminals and the monetary order

#3 Keynes, Lerner, MMT, Trump and exploding profit

#4 MMT and the single most stupid physicist

Matt Franko said...

Well just think of all the ways govt isn’t like a household and make a corrective adjustment in your thinking...

Show me where in a Platonist methodology any discrimination like this is ever made and then a corresponding adjustment or correction and not instead a synthesis of the two opposing theses?

Just one example...

AXEC / E.K-H said...

Substitution of the less-than sign

If the government sector taxes only a part of its expenditures back, i.e. T less than G, then the business sector makes a profit, i.e. Q=G−T. The minimum condition for the survival of State-sponsored Capitalism is G−T>S.

S400 said...

If you think your framed question will get a serious answer think again. And if you think the lack of response to that framed question will automatically prove you right then think again again and again and many more times until you understand that it doesn’t.

AXEC / E.K-H said...


Swimming naked: economists and the Paradigm Shift
Comment and links on Lars Syll on ‘The essence of neoliberalism’

Craig says: “Steve Keen recently gave a presentation to the shifting paradigms conference at the Aberdeen Political Economy Group he called The Incredible Inertness of Paradigm Changes in Economics.”

As Warren Buffett once remarked: “Only when the tide goes out do you discover who’s been swimming naked.”

The tide has gone out, the Paradigm Shift has happened, and one discovers that not only Orthodoxy but also Steve Keen, Lars Syll, the basket of RWER deplorables, and Heterodoxy as a whole has been swimming naked.

For details of the big picture see cross-references Paradigm Shift

CORE: more lipstick on the dead economics pig

The inexorable Paradigm Shift in economics

Reverse Alchemy: from scientific gold to political shit

Real-World Economics: The sanctuary of stupidity and corruption

Links on Neoliberalism

Where advanced Heterodoxy — represented by Steve Keen — took the wrong turn

Scrap the EconNobel

First Lecture in New Economic Thinking

Egmont Kakarot-Handtke