Merijn Knibbe — The difference a price level makes

The European Central Bank targets the consumer price level, among other reasons because neoclassical macro-economic models often picture a world where this is the only level which matters. Indeed, as there is only one product in quite some models, the only level which even can exist. In reality, money is not only used to purchase vegetables and cars (household consumption) but also to pay for street lights (government consumption)and new houses and machinery (fixed investment). Theoretically, a broader inflation metric like ‘domestic demand inflation’ (household consumption + government consumption + investments) is therefore superior to a consumption price metric as far as targets go….

Real-World Economics Review Blog
The difference a price level makes
Merijn Knibbe

There is no such "thing" as a price level. That is to say, price level is not an observable. It is a theoretical construct that is defined operationally, usually in terms of an index, often by a government agency charged with the task. Different governments may choose different operational definitions. Historically, price level is often more a guess.

Price level is particularly important since it is one of the three chief factors taken into account in macroeconomics — growth, employment, and price level — since macro is a "policy science" and these are major determinants in policy owing to their political implications. Therefore, getting the measures right is of utmost importance to economic welfare, but all three measures are operationally defined rather than observed directly. This allows for stretching a case based on ideological approach, since there are winners and losers, e.g., creditors and debtors, borrowers and savers, owing to policy choices influenced by the concept and measurement of price level.

Price level is one of the most ambiguous and misunderstood terms in economics, policy, and politics, as well as by ordinary people who confuse it with price volatility of commonly used goods whose prices are observable. This is often used rhetorically to promote a policy such as austerity to "control inflation" when price level is not the most salient issue in context.

Lars P. Syll — Neoclassical “Walt Disney” economics

Price rigidities of all kinds are common in real economies. The nodal point in the macroeconomics, however, is not their existence, but rather that even if they did not exist, our economies would not turn into the kind of Panglossian full employment equilibrium Walt-Disney-fiction-world that neoclassical macroeconomists seems to take more or less for granted....

Lars P. Syll's Blog
Neoclassical “Walt Disney” economics
Lars P. Syll | Professor, Malmo University

My comment there:

Representative agent modeling is based on methodological atomism, which treats individuals as atoms in a physical system. This is overly simplistic in biological and social systems, which are complex adaptive systems rather than mechanical. Such modeling can never serve as anything more than a simple heuristic device.

Modeling based on the assumption of a representational rational agent pursuing maximum utility involves the further assumption of Bentham’s hedonistic utility theory based on a calculus of “utility” defined as material satisfaction. J. S. Mill pointed out the insufficiency of that stance in Utilitarianism: “It is better to be a human being dissatisfied than a pig satisfied; better to be Socrates dissatisfied than a fool satisfied. And if the fool, or the pig, are of a different opinion, it is because they only know their own side of the question.”

See The Romantic Economist: Imagination in Economics by Richard Bronk, London School of Economics and Political Science, published by Cambridge University

Lars Syll — There is no trade-off between equality and efficiency

Neoclassical economists often maintain that there is a trade-off between equality and efficiency. That this is a false contention is shown forcefully by research conducted for example by Andrew Berg and Jonathan Ostry.

Lars P Syll's Blog
There is no trade-off between equality and efficiency
Lars P. Syll | Professor of Economics, Malmo University

Another shibboleth of neoliberalism as a political theory based on economic efficiency bites the dust.

Matias Vernengo — Krugman on the meaning of neoclassical economics

So what is neoclassical economics? According to Krugman it is basically maximization and equilibrium....This is clearly incorrect.

Naked Keynesianism
Krugman on the meaning of neoclassical economics
Matias Vernengo | Associate Professor, University of Utah

Matias Verengo on the Cambridge capital controversy

Matias Verengo explains the Cambridge capital controversy.

Naked Keynesianism
Nick Rowe on Reswitching and the Capital Debates
Matias Verengo | Associate Professor, University of Utah

Weekend Reading — More Debunking Neoclassical Economics

The article is fairly short, but if you don't read anything more, at least read the first section, "Origins of Neoclassical economic theory." Junk economics based on bad physics. The whole model is bonkers. I regard this as a must-read. Most books on economics overlook this.

The Encyclopedia of Earth
Neoclassical economic theory
Robert Nadeau | Professor of Environmental Science and Public Policy at George Mason University

Robert Shiller on Behavioral Economics: Interview

Important interview with Robert Shiller on behavioral economics. Must-read. He cover the high points and shows how the way economics is pursued today is doomed to failure, especially at turning points. Models based on "rationality" and "utility are elegantly simple but too simplistic to model human events. Keynes had already observed the intractability of uncertainty and fallacies of composition. George Soros points to reflexivity. Behavioral economics adds the dimension of findings in the life and social sciences.

Why neo-classical economics, which is based on assuming a rational representative agent maximizing utility over a lifetime, is bonkers. The problem? According to Shiller it seems to be physics-envy.

Read or download transcript, or listen to podcast at Social Science Bites
Robert Shiller on Behavioral Economics
Interview by Nigel Warburton
(h/t Cullen Roche at Pragmatic Capitalism)

My comment at Pragmatic Capitalism:

The interview is a must-read in its entirety. Shiller sums up neatly what wrong with mainstream economics. His summary analysis also implies why the conclusions most economists draw are pretty useless for trading, and why listening to them can be dangerous to your portfolio. But most traders have likely figured this out already.

Matias Vernengo — Why is neoclassical economics so resilient?

Historical overview of economics, the present state and where it is headed in the immediate future. Must-read.

Read it at Naked Keynesianism
Why is neoclassical economics so resilient?
Matias Vernengo | Associate Professor of Economics, University of Utah

Simon Wren-Lewis issues a put-up-or-shut-up challenge to heterodoxy

For heterodox economists

Read it at mainly macro
Can heterodox economists constructively engage the mainstream?
by Simon Wren-Lewis

Dirk Ehnts on the austerity fallacy

Historical evidence says that austerity doesn’t work, and to my knowledge there is no theory that supports it either. You can, of course, use neo-classical theory, but that is about flows, not stocks. You simply cannot jump to the conclusion that if you stop a flow (government expenditure) the stock (government debt) will change in the very same direction by the very same amount. For a single household, that may work: I save €100 a month more in order to repay my debt of €1,000, and after 10 months it is all over. However, if all households do it at the same time, then the increase in savings will cause a significant contraction in demand. Hence, firms will not be able to sell and not hire or fire workers. That will make the demand problem worse, since now these newly unemployed consume even less. The government income (taxes) will sink and expenditures will rise (unemployment insurance). There is no one-to-one relationship between the flow and the change in the stock!

The neo-classical theory is a strict flow theory and cannot deal with levels debt. In neo-classical theory, households (entrepreneurs) can only borrow from other households, so that aggregate household debt is zero and non-relevant. However, that is not what reality looks like. Households as an aggregate are indebted, and very much so. Also, some households might face bankruptcy problems. Using neo-classical theory in a situation where debt levels play a major role will lead to wrong policy prescriptions, like austerity. It is the same with some policy prescriptions of Keynesian theory in a situation of full employment, where debt levels might not be binding and a liquidity trap is nowhere in sight. When ideology rules, economies break.

Read it at Econoblog101
Boomtje Boomtje, Bustje BustjeDirk Ehnts | research assistant at the chair for international economic relations at University of Oldenburg, Germany