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What We're About

William Krehm

Until a century or so ago most thinking about the economy was done in terms of the labour theory of value. Directly or indirectly, the amount of labour that entered into production of a commodity was seen as what determined its value, and in the long run, its market price. As all theories must, it left a great deal unexplained. Even worse, it brought a lot of uncomfortable facts into too glaring focus – for example: that wages were still set by the barest minimum needed to keep body and soul together.

Long before Karl Marx and other radical thinkers defeated on the barricades of the revolutionary strife of 1848 found refuge in Britain and started holding open-air meetings almost in the backyard of Buckingham Palace, native Brits were drawing uncomfortable conclusions from the labour theory of value. At which point marginal theory made its providential appearance. It shifted the whole discussion from the sphere of production, where discussions were getting rough and unmannerly, to the market where the workers' contribution was defined by what they were paid. Couched in differential equations, the argument became "scientific," supposedly beyond questioning.

That left no other way of reasoning on economic matters than in terms of supply and demand. The social question, which had lain like a dead rat in the chalice of Victorian piety became "scientific," supposedly.

But it all rested on a misunderstanding. The new theory undertook to deduce conclusions about the real world from mathematics instead of by mathematics. And the differential equations of marginal theory became a status symbol that silenced importunate critics.

A little mathematics can be a dangerous acquisition; the antidote, however, is strictly homeopathic – still more and really relevant maths. For if maths teaches us anything, it is the endless variety of possible relationships.

"Time and time again this ritual of reshaping the world to obtain a manageable set of equations was torn to shreds by distinguished critics, but the practice has gone right on. But, of course, we are told that the doctrine is not supposed to have any relevance to the real world, and that it is not supposed to set norms. But there is in fact a note of Victorian hypocrisy about the way in which conventional theory protests that its conclusions are not normative, and then by a vocabulary loaded with normative implications smuggles in policy recommendations drawn from its doctrine.

"The established theory of the thirties held that the sharp drop of prices during the Depression would in itself trigger a flood of buying and bring about recovery – there were after all so many bargains around!

"Today our growing unemployment has been substantially initiated by governments to help bring prices into line. And when it fails to do so, the fault is once again placed on culprits sabotaging the balancing act of providence."

In the thirties the problem that preoccupied Keynes was finding sufficient demand to keep the economy going. He came up with the most whimsical work-making schemes to highlight his point that any economic activity – no matter what its intrinsic merit – would be helpful to start the stalled wheels of industry turning.

That is hardly our problem today. An advanced pluralism has taken over society – something that did not remotely exist in the thirties. At that time the state confined itself largely to its traditional administrative function plus a modest outlay on such items as education. Today in some advanced countries public spending has surpassed forty and even fifty percent of the Gross National Product.

On Bogus Universal Truths

Such statistics, however, understate the change. In Keynes's day the laws of the market had scarcely been challenged; its ethic – "you get what you pay for" – was still taken as a universal truth.

Today other ethics exist in symbiosis with that of the market. A growing part of the national income is allotted by redistribution principles – according to social need as determined by political process. Technological, demographic developments and the rapid urbanization of our cultures have called for costly infrastructures that only the state can provide. The state has also imposed standards of education, undreamt of in the thirties. As a result a ravening demand for capital has arisen without precedent in the history of the world.

We can hardly blame Keynes for having foreseen rather little of this. He rearranged his theory only enough to allow him to get on with the job he had set himself.
The so-called Neo-Keynesians produced a mathematical model that oscillated about equilibrium points set by the aggregate demand that the policy-makers pumped into the system.

But all this was a comedy of errors. To break out of the vicious circle of marginal theory, Keynes had improvised a labor theory of value; for the problem of adequate demand could not even be formulated in an idiom in which supply and demand by definition tended to be in balance at all times. He therefore shifted the argument to real terms and excluded the problem of price levels. Improperly understood, this device gave rise to Paul Samuelson's 45 degree line which marked out the locus of equivalence of aggregate supply and demand. A whole generation of economists have been trained to do their reasoning within this framework that simply by-passes the whole subject of price.

Blocked by marginal theory in his attempts to get at his problem, Keynes had resorted to an ad hoc means of reckoning – much as you might take off your boots and do you reckoning on your fingers and toes if your arithmetic had broken down. Under the circumstances that would be a shrewd if primitive thing to do. The point to remember, however, is that you must eventually put your boots on again. This the Neo-Keynesians forgot to do. Because Keynes had shunted out the whole price problem to deal with aggregate demand, that price stability would present no difficulty if only they balanced supply and demand. That brought back the whole baggage of a self-balancing economy.

A great deal of prejudgment can be built into the language we use. Ethnologists have found the vocabularies of 'primitive' people have developed along functional lines: Eskimos will thus have scores of different words for snow to our one.

Today ours is a very different economy than it was forty years ago. Because of that it is almost inevitable that the economic terminology of that period should have become dysfunctional today. If we had a single word for table fork and pitch fork, we would find it less than helpful both for dining and for cleaning out the barn.

The term "inflation" is an instance of such semantic dysfunction. The word derives from inflare – "to blow up." Inevitably that sneaks in the inference that the phenomenon is reversible. That can no longer be taken for granted today.

William Krehm

-- from COMER, April 2011

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