Economics Is Hard?

Market Ticker – Karl Denninger
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June 28, 2010 07:09 AM

An amusing piece of mental masturbation from Richmond Fed Economist Kartik Athreya has been making the rounds….
In this essay, I argue that neither non-economist bloggers, nor economists who portray economics — especially macroeconomic policy — as a simple enterprise with clear conclusions, are likely to contibute(sic) any insight to discussion of economics and, as a result, should be ignored by an open-minded lay public.

Yes, he really got the spelling error past whatever review this paper received.  That would be none, right?

One wonders if the “or”, however, is what he intended.  After all, if you can’t spell, can you properly construct grammar to make your point clear?
In the wake of the recent financial crisis, bloggers seem unable to resist commentating routinely about economic events. It may always have been thus, but in recent times, the manifold dimensions of the financial crisis and associated recession have given fillip to something bigger than a cottage industry.

Really?  You mean as opposed to pieces like Bernanke’s “Making sure ‘it’ doesn’t happen here”?

Well, dear Mr. Athreya, it has happened here:

That’s credit contraction.  That’s the “it” Bernanke was talking about.

In terms of houses, we’ve suffered a fairly-severe deflation.  Of course there’s another way to look at it too, which is that under Greenspan and Bernanke we have spent more than 20 year in what amounts to a credit-led hyperinflation, fostered and intentionally caused by these two gentlemen, and thus we are “merely” deflating that which they inflated.

Nonetheless, Bernanke’s “Magnum Opus” argues that this outcome can be prevented, and many have rested comfortably believing him, in no small part, I’m sure due to the little three letters “PiledHigher and Deeper”, after his name.

It concerns me greatly that the author spends this digital ink blasting away yet didn’t read his own paper before he published it, for if he had, the light would have gone on.

The main problem is that economics, and certainly macroeconomics is not, by any reasonable measure, simple. Macroeconomics is most narrowly concerned with the tracing of individual actions into aggregate outcomes, and most fatally attractive to bloggers: vice versa. What makes macroeconomics very complicated is that economic actors… act. Firms think about how to make profits, households think about how to budget their resources. And both sets of actors forecast. They must. One has to take a view on one’s future income, health, and familial obligations to think about what to set aside for retirement, how much life insurance to buy, and so on. Of course, all parties may be terrible at forecasting, that’s certainly a possibility, but that’s not the issue. Even if one wanted to think of all economic actors as foolish and purposeless organisms making utterly random choices, one must accept that their decisions will still affect, and be affected by what others do. The finitude of resources ensures this “accounting” reality.

Well, well, well.

Read that last sentence again.  And again.  And again.

Bang yourself over the head with it until you “get it”, because that is the very point I’ve been trying to drill into your f$#king head for the last three years you jackasses at The Federal Reserve – and Congress!

It is indeed that fact that leads to my simple-sounding reply to such arguments about this or that in the context of economics: The math is never wrong.

Indeed, you can try to cheat, you can try to scam, you can try all sorts of games.  But in the end there is a totality of resource available – a totality of wealth production, or actual output, that can be distributed around the economy.

You would think that a degreed “economist” would look at the following graph and instantly “get it”:

There’s nothing complicated in that graph.  It points out in clear pictorial form that until the late 1970s as a nation we primarily used credit for purposes that ultimately boosted output – that is, GDP. 

We bought factories, milling machines, lathes, forges and similar instruments on credit.  We used it a means to finance things that provided more output over their useful life than their amortized cost.  That is, of the three types of credit use, the primary driving use was productive investment.

In the late 1970s this changed.  Credit became a means to consume a hamburger today and pay for it tomorrow – not buy a grill and charcoal with which to cook hamburgers for sale.  Worse, it turned into an instrument to leverage speculation, with no productive impact whatsoever in the economy, other than the ability to spend the winning bets.

But for each winning bet in such an endeavor there was a losing bet, and as such consumption of these “winnings” was not an actual addition to the economy at all.  That is, said consumption came at the expense of the loser.
Examples of this approach done right in the context of some of the topics mentioned above are recent papers by Robert Lucas of the University of Chicago, Jonathan Heathcote of the Minneapolis Fed, or Dirk Kreuger and his co-authors. Comparing, even momentarily, such careful work with its explicit, careful reasoning, its ever-mindful approach to the accounting for feedback effects, and its transparent reproducibility, with the sophomoric musings of auto-didact or non-didact bloggers or writers is instructive. For those who want to really know what the best that economics has to offer is, you must look here. And this will be hard.


How many of those papers (and yes, I’ve read a good number of them) account for the outrageously insane activity of The Fed and other actors in the regulatory and government sector in fostering and promulgating the current credit environment?

How many account for The finitude of resources ensures this “accounting” reality?

Zero, in my experience.

I have yet to see any of the “research papers” deal with the role of credit expansion for the purpose of consumption of speculation, and the corrosive effect that such an environment has on the macroeconomic welfare of a nation – or the world.  I have yet to see any of these authors opine that the monetary resources are in fact finite, and that playing Wimpy has a natural conclusion: bankruptcy.

It cannot be otherwise, incidentally, so long as credit is used for those purposes.  Credit used for consumption does nothing more than shift the time of said consumption (that is, it pulls forward demand) while credit used for speculation provides no economic benefit at all and is in fact corrosive to the economy because the “wealth” the winner accumulates comes at the direct expense of the loser. 

It cannot be otherwise as the actual resource is, as noted, finite.
Naifs write books, and sell many of them too.


It seems to me that the “naive and inexperienced” would be those who believe that the laws of thermodynamics and mathematics do not apply to macro economics, and refuse to validate their claimed works against those principles.

Indeed, the entire premise of much modern economic theory is nothing other than a claim of perpetual motion – an outright fraud that is well-recognized in the world of physical science.
So far, I’ve claimed something a bit obnoxious-sounding: that writers who have not taken a year of PhD coursework in a decent economics department (and passed their PhD qualifying exams), cannot meaningfully advance the discussion on economic policy.

Ah, now we get down to it.  Those who do not agree with the orthodoxy of so-called “economists” are unqualified because, well, they just are.

Yet as I’ve noted the primary problem with most “mainstream” economic thought these days, including at the doctorate level, is that they put forward very complicated nonsense that fails to honor the basic mathematical fact that both sides of an equation must balance and that all dynamic systems in the real world suffer loss – that is, whatever you put in you will receive less, in total, back out.

This is the premise of thermodynamics – that there is no such thing as a free lunch.  You cannot in fact break even, say much less win.  Yet mainstream economics continues to espouse that one can look at macro economics through a lens where credit expansion can continue forever at rates that exceed that of productive output, that mean reversion need never occur and that through manipulation of various aspects of the economy one can prevent or mitigate recession.

This is a mathematical impossibility.

As soon as you allow lending of capital at interest you have produced a dynamically unstable system.  This is trivially easy to prove, as nobody will intentionally lend at a loss.  That is, on balance all persons who lend capital will only do so at a rate of interest that exceeds the growth rate in the economy.

The fact that both growth and interest are compound functions means that it is inevitable that the service of that debt will outstrip the ability to pay for it via production. 

This is a fundamental mathematical fact that cannot be avoided.

Recessions serve an essential purpose in all such economies in that they bankrupt both lenders and borrowers.  In doing so they extinguish the excessive debt at the margins – that is, the weakest actors in the economy (both as creditors and debtors) go bankrupt.

That the macro economic environment is operating properly is evidenced by a reasonably-stable debt-to-gdp ratio.  We had that during the 1950s to late 1970s.  Recessions were frequent but allowed to occur.

It was the very idiocy of the so-called “economic elite” that led us down the path we now walk.  The belief that recessions could be “managed.”  The belief that credit expansion could continue indefinitely in violation of the laws of mathematics.  The belief that macro economic “policy” could be willfully shaped to violate what amounts to laws of physics.

This willful and intentional blindness has come from so-called “elite” economists with plenty of letters after their names.  I find it outrageous and indeed insulting that any so-called “professor” or “professional economist” can present an economic theory to the public, or any paper bearing thereupon, that fails to conform to the fundamental laws of mathematics – that is, the fact that two exponential functions, where one exponent is larger than the other, will always run away from each other.

Any such “theorem” is inherently a Ponzi Scheme.  It relies on geometrically increasing numbers of participants to continue, which is, in a finite world with finite land mass and resources, mathematically impossible.

It is true that there are “bloggers” and even “economists” (Krugman anyone?) who post bombastic piles of dog squeeze.  But then again, so do most so-called “articles” in the so-called “academic press”, when it comes to matters economic.

I propose a seminal test for all such papers: Those that fail to account for the fundamental principles of mathematics, including the law of exponents and the fundamental principles of thermodynamics as applied to the economic field – that is, that all process involves loss and there is no such thing as a free lunch or even managing to break even, must be discarded.

Under this standard Bernanke’s famous “printing press” speech, not to mention virtually all “modern” economic work I have seen, must be judged infirm and discarded.