One of the perils of growing old is that you get that jaded “seen-it-all-before” feeling. Which is the reaction I have to so-called heterodox economics. What you youngsters call ”heterodox economics” is what I call “stuff I remember learning in the 1980s”. Which is not to denigrate it. Quite the opposite. It is the rediscovery of old truths which were forgotten after the late 80s. Here are some examples of what I mean. First, Lance Taylor and Nelson Henrique Barbosa Filho complain that standard inflation theory “leaves out social conflict”. But the account of inflation I learned in the 80s put class conflict centre stage. “Conflict over the distribution of income affects the general level of prices in advanced capitalist economies” wrote Bob Rowthorn in his 1977 paper Conflict,
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One of the perils of growing old is that you get that jaded “seen-it-all-before” feeling. Which is the reaction I have to so-called heterodox economics. What you youngsters call ”heterodox economics” is what I call “stuff I remember learning in the 1980s”.
Which is not to denigrate it. Quite the opposite. It is the rediscovery of old truths which were forgotten after the late 80s.
Here are some examples of what I mean.
First, Lance Taylor and Nelson Henrique Barbosa Filho complain that standard inflation theory “leaves out social conflict”. But the account of inflation I learned in the 80s put class conflict centre stage. “Conflict over the distribution of income affects the general level of prices in advanced capitalist economies” wrote Bob Rowthorn in his 1977 paper Conflict, Inflation and Money which as good as introduced the Nairu. And in the Layard-Nickell model, the Nairu is the unemployment rate necessary to bring peace in “the battle of the mark-ups.”
One implication of this is that controlling inflation needs more than technocratic monetary policy tightenings, which only cut inflation by raising unemployment. It also requires changes in property rights to overcome class conflict. James Meade and Martin Weitzman, for example, proposed capital-labour partnerships which would give workers significant shares of profits and so mitigate wage militancy. This was hinted at by William Beveridge in 1944:
If…it should be shown by experience or by argument that abolition of private property in the means of production was necessary for full employment, this abolition would have to be undertaken. (Full Employment in a Free Society, p23)
It’s no accident that this view was totally forgotten when capitalists triumphed in the battle of the mark-ups.
Beveridge’s Full Employment in a Free Society saw something else that was subsequently forgotten and is only now being rediscovered – that the purpose of fiscal policy was not to balance the books but to ensure full employment:
It must be a function of the State in future to ensure adequate total outlay and by consequence to protect its citizens against mass unemployment.
Which illustrates Randall Wray’s point (pdf):
The main principles of functional finance were relatively widely held in the immediate postwar period. However, with the rise of the Phillips curve, the return of the Quantity Theory, the development of the notion of a government budget constraint, and accelerating inflation at the end of the 1960s, functional finance fell out of favour.
MMT is largely a rediscovery and repackaging of functional finance.
These are not the only examples of the Great Forgetting. Back in the 80s, macroeconomic modelling was about building structural models based upon econometric estimation of relations between macro variables. This was supplanted by dynamic stochastic general equilibrium models based upon microfoundations - usually, where the foundations were mythical rational representative agents rather than anybody you’d meet in the real world.
But these models have failed – either to predict the economy or to explain it, as Servaas Storm points out in a brilliant essay. Sure, later generations of such models have added real-world features, but Joe Stiglitz says these are like adjustments to Ptolemaic epicycles – attempts to fix a faulty theory with increasingly awkward patches.
Which means there is a place for structural models we had in the 80s. Yes, these have wonky microfoundations and it’s not obvious that they have a great predictive record. But as Simon says, they can do a better job of highlighting important relationships and mechanisms. Perhaps this is an example of something Robyn Dawes said – that improper (pdf), rough and ready models can do a decent job. Maybe they are like old cars – prone to breakdown, but easier for a reasonably skilled person to fix.
I’ve another example of the Great Forgetting – the Cambridge capital controversies. These showed that there were grave problems with the ideas of an aggregate production function and a marginal product of capital. One problem is that you can only aggregate different capital goods by adding up their prices, but these prices are a function of how much they could produce, so we have circular reasoning*. A second problem was noted by Sraffa – that a marginal product can only be discovered if things change, which doesn’t happen in equilibrium:
The marginal approach requires attention to be focused on change, for without change either in the scale of an industry or in the ‘proportions of the factors of production’ there can be neither marginal product nor marginal cost. In a system in which, day after day, production continued unchanged in those respects, the marginal product of a factor (or alternatively the marginal cost of a product) would not merely be hard to find - it just would not be there to be found. (Production of Commodities by Means of Commodities, pv)
Herbert Scarf noted a further problem – that marginal products require there to be constant returns to scale, but:
If production really does obey constant returns to scale, there is nothing to be gained by organizing economic activity in large, durable and complex units; in short, there is no economic justification for the existence of firms.
All of which means that, as John McCombie and Marta Spreafico say (pdf):
the marginal productivity theory is deeply flawed empirically and cannot, as a matter of logic, be substantiated theoretically.
Casual empiricism tells us that wages don’t equal marginal product for individuals simply because they differ in their bargaining power. And given these problems with aggregate production functions, it’s hard to see that marginal product theory applies (pdf) to aggregates of people either.
All this however was largely forgotten after the 80s. As Geoff Harcourt has written:
When theories of endogenous growth and real business cycles took off in the 1980s using aggregate production functions, contributors usually wrote as if the [Cambridge capital] controversies had never occurred and the Cambridge, England contributors had never existed.
In the same vein, Greg Mankiw tried to defend (pdf) the high incomes of the 1% by invoking marginal product theory, oblivious to these issues.
Which is all the weirder because, as Robert Solow replied (pdf) to him: “economic rents are pervasive…it is too nonchalant to presume that all market incomes reflect true productivity.” Indeed, one development of recent years has exactly been growing interest in the importance of rent extraction – highlighted by the work of researchers such as Lindsey and Teles, Thomas Philippon, Brett Christophers, or Jan De Loecker (pdf) and Jan Eeckhout (pdf). Which returns us to a theme of Joan Robinson – that the economy is dominated by imperfect competition and must be analysed (pdf) as such.
Of course, my account here is a little stylized. I don’t like talking about “mainstream” economics because it is often a straw man. But I think I’ve outlined a tendency for there to have been a Great Forgetting after the 80s, which a younger generation is reversing. But should this generation call themselves “heterodox”? On Twitter, Peter Doyle has suggested not. I agree. Perhaps we should regard the Great Forgetting as the aberration in economics, and the rediscovery of an economics as an empirical-based intellectual tradition as a restoration of normality.
* When Ian Steedman taught international trade theory at Manchester in the 80s, he refused to use the word “capital” in two-factor models, because he thought the notion of aggregate capital absurd.