Why Animal Spirits Matter for Global Capitalism
The Failure of the Economy and the Economists
Even big name economists critique economics. We trim and append this 2009 essay from the New York Review of Books, April 30, by Benjamin M. Friedman on Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters for Global Capitalism by George A. Akerlof and Robert J. Shiller.
by Benjamin M. FriedmanIn recent years, the financial industry has accounted for an unusually large share of all profits earned in the US economy. The share of the "finance" sector in total corporate profits rose from 10% on average from the 1950s through the 1980s, to 22% in the 1990s, and an astonishing 34% in the first half of this decade.
What fraction of the economy's total returns to productively invested capital is absorbed up front by the financial industry?
Many US banks, including some of the largest ones, are now insolvent. The bank rescue plans offered to date by both the Bush and the Obama administrations amount to ever more expensive fig leafs for avoiding recognition of this sad development.
The economists George Akerlof and Robert Shiller argue that what is missing in the worldview of today's economists is sufficient attention to "animal spirits," by which they mean the psychological and even irrational elements that pervade economic behavior, too.
Akerlof and Shiller identify five distinct elements in what they call "animal spirits":
confidence, or the lack of it;
concern for fairness, that is, for how people think they and others should behave - for example, that a hardware store shouldn't raise the price of snow shovels after a blizzard despite the increased demand;
corruption and other tendencies toward antisocial behavior;
"money illusion," meaning susceptibility to being misled by purely nominal price movements that, because of inflation or deflation, do not correspond to real values;
and reliance on "stories" - for example, inspirational accounts of how the Internet led to a "new era" of productivity.
The omission of these five aspects of "animal spirits," they argue, blocks conventional economics from either understanding today's crisis or providing useful ideas for dealing with it.
Akerlof and Shiller see the limitations of today's conventional macroeconomics as systemic. Conventional economic models fail to fit the facts of observable economic behavior.
They succeed in demonstrating both the narrowness of mainstream macroeconomic thinking in recent decades and the stranglehold that this thinking has placed on the economics profession's ability either to explain phenomena like today's crisis or to advance potential solutions.
For example, economics today is largely taught using mathematical models to describe outcomes under different conditions. And for purposes of macroeconomics -- the study of the economy as a whole -- most of the standard models do not admit the possibility of unemployment; no one has figured out how to allow for it within the confines of sufficiently simple mathematics. Faced with the choice between excluding unemployment and sacrificing analytical simplicity, most macroeconomists have opted for the former.
The standard macroeconomic analysis today also does not acknowledge the existence of banking or other kinds of borrowing and lending. Doing so would place too much strain on mathematical simplicity.
The effort to "clean up macroeconomics and make it more scientific," to impose "research structure and discipline," has proved disastrously confining.
JJS: Economists, despite being paid so well, will continue to be wrong as long as they fail to make any distinction between our paying another person for their labor or capital and our paying another person merely for permission to use some land. The former payment rewards people for supplying their labor or capital, enabling them to keep supplying more goods and services. The latter payment rewards people not for producing anything but for positioning themselves as a gatekeeper, as “the troll under the bridge”, who can extract without producing at all.
Moral arguments aside, as the price of land rises -- as happens when some people provide more or better output from the same inputs of labor and capital so can afford to bid up the price of land -- then everyone else, whose income has stayed the same, must spend more for land and less on rewarding other people’s labor and capital. In a number of years, land will absorb all of society’s discretionary surplus, leaving none for production. At that point, recession begins. That’s why recession follows every “housing” bubble which is really a home site bubble; even the Wall Street Journal acknowledges that.
The solution is not to try to control land prices with “rent control”, since it can’t be done, but to pay ourselves for land. That is, we’d employ the geonomic option. We’d all pay in land dues to the public treasury for the land we claim or use and get back rent dividends equivalent in size to what all our neighbors get.
Getting a share of the rental value of sites, resources, and EM spectrum, we could afford to get by with much less government. Shrinking the state, we could also eliminate counterproductive taxes. In an economy lacking disincentive taxes and addictive subsidies and inequitable rent-retention, there’d be no reason for anyone to speculate in land, hence there’d be bubbles, no crisis, and very little business cycle.
Running so smoothly, we could “lock the hood” on the economic engine and never worry about maintenance or intervention again. Which would render economists even more useless than now. That realization, more than anything else, is what keeps the discipline out of the moral and logical trenches, keeps their field far from scientific, and keeps geonomics on the sidelines. Therefore, it’s not the experts who’ll ever save us; we must save ourselves.
Jeffery J. Smith runs the Forum on Geonomics.
Greenspan and pals need a history lesson
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Economic deja vu all over again
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