Duncan’s Economic Blog

Post Keynesian Economics: A Guide

Posted in Uncategorized by duncanseconomicblog on June 29, 2009

Post Keynesian Economics, which I linked to last week, really is a great resource.

In particular I like the long series of posts explaining how the macroeconomy works and why we have a crisis. I was planning on writing something vaguely similar myself, but it gives a far clearer explaination.

So here it is, my own long(ish) post on Austrian Economics is nearly finished…

1. Production.

Production takes time and often is debt financed. Hence the key role of banks/finance in the business cycle.

2.Uncertainity and Animal Spirits.

Business investment plans are subject to much uncertainity about the future. Confidence matters.

3.Durable Goods and the Business Cycle.

Whilst demand for non-durables is fairly stable, demand for durables is one driver of the economy.

4. Physical Investment & the Business Cycle.

Physical investment is the key driver of the macroeconomy. And it’s very volatile.

5. The Stock Market. Individual Firms Issues.

Why do individual firms care about their stock price? It can make raising finance in the future more expensive.

6.The Stock Market: Macroeconomic and Psychologicial Issues.

The market is short terminist. Stock prices should mean that the best companies have the highest stock prices. In reality this rarely happens and as a result financing costs are mispriced. My own day job leads me to totally agree with this.

7. Debt, Debt & More Debt.

Stabilty breeds crisis. As Minsky argued, during periods of stability firms and households believe they can take on more and more debt. banks become confident and lend to them. Eventually we hit a point when the debt burden is too large and people become aware of it.

8. What Markets Are and What They Can Do (and Can’t).

What markets are good at and where they fail. A fair summary that is not ‘anti-market’ but simply realistic.

9. Business Cycles & Crisis.

Putting all the above together we get a decent understanding of how confidence, investment decisions, debt levels and stock prices move together. Eventually:

By late expansion, our animal spirits and expectations of profit are at their high point. This means stock prices are sky high, too, and stock holders’ tolerance for poor quarterly reports very low since they are used to hearing about successes. Banks are every bit as excited as everyone else and they have been approving loan after loan, accommodating the rising debt levels. In fact, banks are seeking out the high-risk customers now and, in the heady days of peak expansion, aren’t looking all that closely at credit-worthiness. Consumers are offered lots of good financing deals and those who did not partake in the buying before will now decide, “What the hell–if the Smith’s can afford a new plasma TV, so can we!”

At some point, someone somewhere says, “Whoah! Sales are way off of what we expected!” If the gap between expectations and reality is big enough, this can evolve into a full-blown crisis. The level of debt everyone is carrying makes us even more susceptible.

10.Policy

it is necessary to understand that the market is not the natural or default system for human society. It evolved and is a human, social invention. It is not, as I have heard people say (including some of colleagues!), the way we act when there are no rules. Capitalism is a particular set of rules. Because they are our rules, however, they feel natural to us, just as one’s native language does. Capitalism does some things very well and some things very poorly. Capitalism should serve us and not the other way around, so when we find something we don’t like, we should feel perfectly free to change it without upsetting some “natural” order. This is not to say that we shouldn’t be careful to think through the secondary and tertiary impacts of any policies, but that’s true regardless of what our topic is.

According to my analysis so far, where does the market let us down in our quest for output and employment? I have identified three specific problems:

1. The short-term focus of the stock market means that resources are misallocated and prices are overly volatile (see parts 5 and 6);

2. Because of the fact that the market for physical investment and consumer durable goods can be saturated, we get the irony of the fact that at the very moment when we should be enjoying the highest standards of living, the economy slips into recession (see parts 3 and 4);

3. Overconfidence leads people to take on too much debt (see part 7) and causes shock as agents panic when the economy turns down at the top of the expansion (see part 9).

Posts 11 and 12 go into more detail on the specific background to the current crisis and are well worth a read.

Finally, post 13 gives some current policy recommendations.

Including:

uneven income distributions have weaker economies. There are several reasons for this, but one is the fact that the rich don’t spend much money. The same $10 million dollar salary spread over 100 people generates much more spending that it does if it’s all one person. Income distributions have been deteriorating for the past 40 years and they did the same thing before the Great Depression. Economic growth, when it comes, must be directed toward wage earners and not those scraping the profits off the top. As I mentioned in part 12, this is not a fairness issue, it’s a question of the survival of our system. We can address this through the tax structure, health care reform, and education. If the poor continue to get poorer, the core set of people of create demand for goods and services will be made impotent.

 

 

3 Responses

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  1. […] market news by duncanseconomicblog Mortgage Stock Price Drops Hold Profits For Some | Mortgage Company […]

  2. Mr. Mxyzptlk said, on June 29, 2009 at 4:22 pm

    Dunc

    when i get a month spare i shall read them all especially . Debt, Debt & More Debt. and how to stop the wife spending

  3. rommeldak said, on July 4, 2009 at 2:31 am

    Thx, Duncan! I wrote all this just for friends, really, but it’s nice to see it getting a wider reading. I’d add some new posts, but I’m trying to get ready for the Association for Heterodox Economics conference in London next week (Kingston U.). I was born in London and have relatives there, so I am also going to make a bit of a holiday of it. When I get back, I’ll focus on some new posts!

    John


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