sfc models — New working paper

Modeling economic forces, power relations, and stock-flow consistency:a general constrained dynamics approach

by Oliver Richters and Erhard Gloetzl

Abstract: In monetary Stock-Flow Consistent (SFC) models, accountingidentities reduce the number of behavioral functions to avoid anoverdetermined system of equations. We relax this restriction using adifferential algebraic equation framework of constrained dynamics.Agents exert forces on the variables according to their desire, forinstance to gradually improve their utility. The parameter ‘economicpower’ corresponds to their ability to assert their interest. Inanalogy to Lagrangian mechanics, system constraints generate additionalconstraint forces that lead to unintended dynamics. We exemplify theprocedure using a simple SFC model and reveal its implicit assumptionsabout power relations and agents’ preferences.

Link: https://ideas.repec.org/p/old/dpaper/409.html

sfc models
New working paper

See also

SFC labs at the annual Minsky Summer Seminar

Alan Longbon — Good News: The CBO Reports The Federal Government Deficit Will Be Larger Than First Thought And Go On For Decades

Summary

• Contrary to mainstream opinion the CBO report is a positive result.
• The CBO finds that higher deficits will lead to higher and faster GDP growth and employment.
• The governement deficit is the private sector surplus and while the private sector balance remains positive and grows the likelihood of a stock market crash or recession is low.

The purpose of this report is to show the finding of the latest CBO about the Federal deficit is a good thing and should be celebrated. To produce this report an analysis of the national accounts will be used and a sectoral balance model constructed after the work of British economist Professor Wynne Godley.

First a quick review of the newly released Congressional Budget Office report.…

MMT-friendly.

Seeking Alpha
Good News: The CBO Reports The Federal Government Deficit Will Be Larger Than First Thought And Go On For DecadesAlan Longbon

Ramanan — A Short Note On George Soros’ Principle Of Reflexivity

A Post Keynesian view of Soros on reflexivity.

The Case for Concerted Action
A Short Note On George Soros’ Principle Of Reflexivity
V. Ramanan

Brian Romanchuk — Equilibrium And Steady State In SFC Models

Noah Smith had already observed that "equilibrium" is an ambiguous term in economics. Brian delves into specifics.

Bond Economics
Equilibrium And Steady State In SFC Models
Brian Romanchuk

Brian Romanchuk — Finding The Solution In A Simple SFC Model

Stock-Flow Consistent models are the mathematical workhorse of much of modern post-Keynesian thought (including Modern Monetary Theory). These models are fairly easy to work with, but there are a lot of details in how the model solution is determined. In this article, I discuss the solution for the simplest model with government money in the textbook Monetary Economics by Godley and Lavoie -- model SIM -- although I have simplified things even further (model SIMplest?)….

Bond Economics
Finding The Solution In A Simple SFC Model
Brian Romanchuk

Zoltan Jakab and Michael Kumhof — Banks are not loanable-funds intermediaries: Macroeconomic implications

Problems in the banking sector played a seriously damaging role in the Great Recession. In fact, they continue to. This column argues that macroeconomic models were unable to explain the interaction between banks and the macro economy. The problem lies with thinking that banks create loans out of existing resources. Instead, they create new money in the form of loans. Macroeconomists need to reflect this in their models.

VoxEU
Banks are not loanable-funds intermediaries: Macroeconomic implications

Zoltan Jakab, Senior Economist at the Research Department, IMF, and Michael Kumhof, Senior Research Advisor at the Research Hub, Bank of England

Jason Smith — On the use of hypotheses: or, what do you get when you assume non-ergodicity?

Jason Smith replies to Lars Syll (and Paul Davidson).

What comes out of assuming ergodicity? All of basic thermodynamics and much of basic economics. If we assume economic (or thermodynamic) systems aren't ergodic -- what does that give us?

Essentially, assuming non-ergodicity is analogous to the assumption that I(A) < I(B) in the information transfer framework (ergoditicy is the assumption that I(A) ≈ I(B) ... the information in the two macro observable is the same, from which you can derive supply and demand). 

What can we get from the assumption I(A) < I(B)? Nothing. 

That is to say that while ergodicity is a useful assumption, non-ergodicity is a completely useless assumption. It doesn't prove that economies are quasi-periodic chaotic systems or that they are some other kind of complex system -- you need evidence for that! Show us a model that that is empirically successful. Or at least more empirically successful than assuming ergodicity.

Yes, that's a point that Keynes made and which Davidson and Syll elaborate:

Many thanks for sending me your article I enjoyed it very much. I am sure these matters need discussing in that sort of way. There is one point, to which in practice I attach a great importance, you do not allude to. In many of these statistical researches, in order to get enough observations they have to be scattered over a lengthy period of time; and for a lengthy period of time it very seldom remains true that the environment is sufficiently stable. That is the dilemma of many of these enquiries, which they do not seem to me to face. Either they are dependent on too few observations, or they cannot rely on the stability of the environment. It is only rarely that this dilemma can be avoided.
Letter from J. M. Keynes to T. Koopmans, May 29, 1941

Of course, that is a bit of a hand wave but Keynes is much more specific about it in other places. But the idea is that the basis for neoclassical assumptions is too non-representation of the subject matter to yield a useful methodology. Neoclassical methods are not useful for telling us what we really need to know, in particular for policy formulation. Keynes proposed a new economic method based on a monetary production economy in which money is non-neutral and uncertainty dominates.

Keynes was not only a theoretician but an economic "engineer" who are active in the world of policy at the time of the Great Depression and his ideas are credited with saving the day — other than by neoclassical economists that have sought to "correct" this, for which the world is now suffering another prolonged contraction.

In the Keynesian view, econometric models are essentially a waste of time. According to old Keynesians and Post Keynesians, Paul Samuelson "bastardized" Keynes by introducing key assumptions that Keynes specifically rejected.

In this view, macroeconometricians should be doing something else, like looking for types of models that actually are useful, like the stock-flow consistent approach developed independently by James Tobin and Wynne Godley, and set forth in Godley & Cripps, Macroeconomics (1983) and Godley and Lavoie (2007, 2nd ed. rev., 2012). See Lavoie (2010).

Information Transfer Economics
On the use of hypotheses: or, what do you get when you assume non-ergodicity?

Jason Smith

Michalis Nikiforos — Not All Macro Models Failed to Predict the Crisis

Noah Smith has a post on the failure of macro theory to predict the crisis. He concedes that DSGE models did very badly on this score, but, he continues, “There are no other models out there that did forecast the crisis” and there is no better alternative.

The word “better” is important here because some “angry heterodox” people have pointed Smith to at least one alternative—Wynne Godley’s Seven Unsustainable Processes—that had in fact predicted the crisis.….

Multiplier Effect
Not All Macro Models Failed to Predict the Crisis
Michalis Nikiforos

Brian Romanchuk — Primer: Can We Consolidate The Central Government And Central Bank?

One of the strengths of Modern Monetary Theory (MMT) is that it provides a clean analytical framework for the analysis of "modern" economies (economies with a free-floating currency and which controls its central bank). One of the ways in which it does this is to consolidate the central bank with the fiscal side of the central government. Such a consolidation has extremely important effects for understanding government default risk, and is controversial as a result.

It should be noted that this is a somewhat abstract issue, and it was generally not the direct topic of debates. Instead, academic debates revolved around the more concrete implications of this issue. However, since the concept is consolidation is used a lot within MMT, this topic provides a natural starting point for addressing those other debates. However, I keep the discussion here relatively short, as I hope to discuss the more substantive issues elsewhere.....

Bond Economics
Primer: Can We Consolidate The Central Government And Central Bank?
Brian Romanchuk

Andrew Lainton — Towards a Formally Defined New Economics

Andrew Lainton's suggestion for development of a consensus-based new axiomatic paradigm using Post Keynesianism, after the crash discredited the neoclassical axiomatic paradigm.

But is an axiomatic approach a suitable methodology for economics?

Decisions, Decisions, Decisions
Towards a Formally Defined New Economics

Andrew Lainton

Warren Mosler — Pending home sales and why housing matters

So why does housing matter? 

Can’t spending simply go elsewhere? 

The problem is the oldest of all macro constraints- 

If any agent spends less than his income, another must spend more than his income for all of the output to get sold. 

It’s also been expressed as ‘the paradox of thrift’- decisions to not spend income and to instead ‘save’ cause sales and income to fall with no increase in net savings.… 

So housing matters a lot as it looks to be the only available avenue for the economy to spend more than its income in sufficient quantities to overcome the demand leakages [with no one else stepping up].

The elegant simplicity of the sectoral balance approach to macro.

The Center of the Universe

Pending home sales and why housing matters

Warren Mosler

Unlearning Economics — How Not to Do Macroeconomics

This is why I’d prefer something like Stock-Flow Consistent models [click to download G & L], which focus on accounting relations and flows of funds, to be the norm in macroeconomics. As economists know all too well, all models abstract from some things, and when we are talking about big, systemic problems, it’s not particularly important whether Maria’s level of consumption is satisfying a utility function. What’s important is how money and resources move around: where they come from, and how they are split – on aggregate – between investment, consumption, financial speculation and so forth.

This type of methodology can help understand how the financial sector might create bubbles; or why deficits grow and shrink; or how government expenditure impacts investment. What’s more, it will help us understand all of these aspects of the economy at the same time.

 We will not have an overwhelming number of models, each highlighting one particular mechanic, with no ex ante way of selecting between them, but one or a small number of generalisable models which can account for a large number of important phenomena.

Unlearning Economics
How Not to Do Macroeconomics

INET — Matheus Grasselli: How Advanced Mathematics Can Support New Economic Thinking (video)

This episode features Matheus Grasselli, Deputy Director of the Fields Institute for Research in Mathematical Sciences and Institute for New Economic Thinking grantee, discussing how the use of advanced mathematics in economics enables innovative new thinking and could help transform what's possible in the field. Below is an intrduction from Grasselli on how the role of math in economics is changing and what could be next in this exciting area of study.

INET
Matheus Grasselli: How Advanced Mathematics Can Support New Economic Thinking (video)
Interview with Marshall Auerback

The 2007-08 financial crisis was a wake-up call to mathematicians working in the area of quantitative finance, which was by then a mature subject, having grown in size and influence since the pioneering work of Black, Scholes, and Merton in the 1970s. Because the financial instruments that relied on sophisticated mathematics – collateralized debt obligations (CDOs) and other structured products – were at the very center of the crisis, many of us started to look for general models that likewise would put finance at the core of economic activity. It came as somewhat of a surprise that mainstream macroeconomic models, for example those routinely adopted by central banks around the world, had no fundamental role for banks, or financial markets for that matter, other than that of passive intermediaries.

The exceptions were the models used by heterodox economists following earlier work by, among others, Hyman Minsky and Wyne Godley. A general framework to formulate these models is what is called the stock-flow consistent approach, in which the economy as a whole is divided into sectors (households, banks, firms, governments, etc.) and every financial transaction between sectors generates a flow of funds, which in turn alters the stocks of balance sheet items (deposits, equities, etc.) Keeping track of these stock-flow relationships over time leads to systems of equations describing the evolution of the economy as a whole.

My research with the Institute for New Economic Thinking consists of analyzing the systems of equations obtained in this way using the tools of modern dynamical systems theory, including bifurcations, global estimates, and topological properties. As is often the case in judicious applications of mathematics, this kind of study can reveal phenomena that are extremely hard to identify simply by “thinking through the model.” I strongly believe that when motivated by historical experience, grounded by empirical data, and guided by institutional knowledge, mathematics can be much more than a mere language of formalization. It can act as a powerful tool for discovery.

Grasselli is collaborating with Steve Keen.

Bill McBride — Goldman's Hatzius: 10 Questions for 2013

Calculated Risk
Goldman's Hatzius: 10 Questions for 2013
Bill McBride

A peek into the output of Goldman's sectoral balances modeling aka "Godley modeling."

Gunnar Tomasson — Mainstream monetary economics and a Fool's Errand

Interesting message to gang8 from Gunnar Tomasson, Mainstream monetary economics and a Fool's Errand, on Claudio Borio's recent BIS paper.

In correspondence with Samuelson, beginning in 1977, I made the point that it was LOGICALLY impossible to integrate what Tobin referred to as the "income" and "asset" sides of the economy.

Samuelson did not challenge the point, noting only that he was "confident" that "any who were expert [in such matters] would not agree that [I] had isolated a contradiction in [his] Foundations."

Later, when I put the very same point to Tobin, he did NOT address its merits but advised that he had "now" - after a quarter century of doing otherwise - come to "like the stock-flow-stock" approach to the subject matter.

That is to say, he had given up on PROVING what Samuelson had ASSUMED/HYPOTHESIZED.

Tobin did not explain WHY he had given up on his long-time quest, but referred me to his Nobel lecture delivered in 1981.

As noted by Claudio Borio, the models of mainstream economists do NOT include money - and there is a very good, but unspoken, reason why that is so:

INCOME FLOWS, measured in money, cannot in principle be placed in a unitary conceptual framework/model with ASSETS, measured in money.

Economists who seek to graft money onto their macroeconomic models are attempting the impossible - both Samuelson and Tobin KNEW that there was a problem with that.

One assumed the problem away - the other tackled it valiantly for a quarter century but changed tack without ever acknowledging (to the best of my knowledge) that it was a fool's errand.

There is also a link at the bottom to an interesting post in The Economist.

Simon Wren-Lewis — Offsetting private sector financial balances with fiscal policy

Simon Wren-Lewis does sectoral analysis. He has been at British treasury and is familiar with Godley's approach.

His approach is clearly neither traditional Keynesian nor MMT, since it is not based on the government's policy objective and moral requirement to maintain optimal use of resources including full employment along with and price stability. But at least we are talking in the same ballpark and asking relevant questions.

mainly macro
Offsetting private sector financial balances with fiscal policy
Simon Wren-Lewis | Professor of Economics, Oxford University