No fate but what we make

LET ME PREFACE THIS BY SAYING THAT THE WAY I DO ECONOMICS IS TO JUST KEEP THINKING ABOUT THINGS UNTIL THEY MAKE SENSE TO ME.. IT HELPS THAT I AM PERFECTLY HAPPY TO POSTPONE REACHING CONCLUSIONS.. I FIGURE THE CONCLUSIONS ARE THERE, WAITING FOR ME.. MY OBJECTIVE IS TO UNDERSTAND LITTLE THINGS ALONG THE WAY.

THE REASON I BRING THIS UP IS THAT THIS POST DISCUSSES ''EQUILIBRIUM'' IN ECONOMICS.. I ALWAYS JUST FIGURED ''EQUILIBRIUM'' MEANT SOMETHING LIKE ''EVERYTHING BALANCES OUT'' AND I PAID IT NO MIND.. THEN ONE DAY I CAME ACROSS ZEN BABU'S MACRO CUBE.. THE POST PRESENTS A CUBE UPON WHICH ARE ARRANGED A BROAD COLLECTION OF ECONOMIC THEORIES, IN A REMARKABLE EFFORT TO ORGANIZE THEM.

THE THREE AXES OF ZEN BABU'S CUBE ARE MONETARY POLICY, FISCAL POLICY, AND EQUILIBRIUM ANALYSIS.. NOW FOR YEARS I HAVE CONSIDERED THAT MONETARY AND FISCAL ARE THE TWO TOOLS OF ECONOMIC POLICY.. SUDDENLY, THE NOTION OF EQUILIBRIUM BECAME ELEVATED IN IMPORTANCE IN MY MIND.. YET IT REMAINED ESSENTIALLY UNDEFINED.

SO I HAVE HAD EQUILIBRIUM IN THE BACK OF MY MIND FOR THE PAST YEAR AND A HALF OR SO, AND NOW (WITH THIS POST AND THE PREVIOUS TWO) THE TERM IS STARTING TO MAKE SENSE TO ME.. AND THAT'S WHY I HAVE TO WRITE THIS PREFACE.

WHAT I THINK ''EQUILIBRIUM'' IS MAY NOT BE WHAT ANYBODY ELSE THINKS IT IS, INCLUDING (OR ESPECIALLY) ECONOMISTS.. BUT I HAVE TO SAY IT, SO THAT I KNOW WHAT I'M STARTING TO THINK.

I'M THINKING, EQUILIBRIUM IS SMOOTH SAILING, STEADY-AS-SHE-GOES.. IN EQUILIBRIUM, IF THE ECONOMY'S NOT GROWING, IT'S STATIC.. IF GROWING, THERE ARE NO IMBALANCES -- NO INFLATION, NO DECLINING CAPACITY UTILIZATION, AND NO PERPETUALLY ACCUMULATING DEBT, FOR EXAMPLE.

''EQUILIBRIUM'' IS THE TREND ECONOMISTS USE TO PREDICT THE FUTURE.. THEY USE IT, IGNORING INFLATION, DECLINING CAPACITY UTILIZATION, AND PERPETUALLY ACCUMULATING DEBT.


After I finished writing yesterday's post, I came upon this from the conclusion of a Steve Keen post:

I doubt that Kuznets would have been surprised by the failure of equilibrium-oriented attempts to build dynamic multisectoral models of economic growth, since he argued long ago that dynamics had to be different to statics, and in particular that the fetish with equilibrium had to be abandoned:

According to the economists of the past and to most of their modern followers, static economics is a direct stepping stone to the dynamic system, and may be converted into the latter by the introduction of the general element of change… According to other economists, the body of economic theory must be cardinally rebuilt, if dynamic problems are to be discussed efficiently…

… the static scheme in its entirety, in the essence of its approach, is neither a basis, nor a stepping stone towards a proper discussion of dynamic problems. Kuznets, S. (1930, pp. 422-428, 435-436; emphasis added)

Yet the static approach—masquerading as dynamics via word games such as using the moniker “Dynamic Stochastic General Equilibrium” to describe bastardized Ramsay-Solow equilibrium growth models—still dominate economics, even after the continuing disaster of the crisis of 2007...

A static economy may be seen in any simple picture of the economy that imagines producers and consumers, and sets the thing in motion but eliminates growth for the sake of simplicity, as in this flow diagram from Wikipedia (via Worthwhile Canadian).

If you take that picture and toss it into the air, you have "the static approach—masquerading as dynamics," as Keen put it. As the picture goes up into the air, the uptrend of it is growth.

Not a good economic model, you're saying? That's not the half of it. After a moment the picture stops rising, and starts falling to the ground.


These graphs, which yesterday I admitted were interesting, are from Mark Thoma:
On the left is what Thoma calls the "natural rate" model, and on the right, the "plucking" model. The blue line on both graphs represents "the ceiling/trend", Thoma says in his post. The red lines represent two versions of how we think actual growth fits the ceiling slash trend.

Why and how actual growth can rise above the ceiling, I cannot say. But I observe that the same relation exists between actual and potential output.

Thoma's graphs are repeated below, as an overlay using the ikedim hover.

Default Graph = "Plucking" ... Hover Graph = "Natural Rate"

By moving the mouse on and off this graph, you can see that the blue line or ceiling trend is essentially identical in the two graphs. The blue line is a reference line or benchmark against which actual growth may be compared. As Thoma writes:

Notice that the size of the downturn from the ceiling from a→b (due to the "pluck") is predictive of the size of the upturn from b→c that follows taking account of the slope of the trend... In a natural rate model, there is no reason to expect such a correlation.

(Isn't it interesting?)

The thing is, Thoma and others want to use the blue line (and whichever red line they like better) to make predictions about future economic growth. Again, the title of Thoma's post is "Will the Economy Return To the Old Normal?" And his opening statement is "There's been some pushback against the statement I made ... that the economy would *eventually* return to the trend rate of growth it has displayed since at least 1870." And Thoma says, "I don't pretend to have as good a forecasting staff sitting in my Harvard office as the CEA has."

It's all about predicting the future; that's what makes it interesting.

Doesn't matter. Thoma's blue line there, if it is more that simply conceptual, is a record of past performance. It shows the past. It does not show the future.

But economists like to think of that blue line as an equilibrium trend that exists apart from policy and politics. Like Thoma, economists want to put it into graphs and use it to talk about the future. As though the future and the past are equally certain.

If you throw the static picture up, it goes up. Then it falls. There is no straight-line trend. But Thoma's blue line never falls.


When I imagine making a model of the economy, I see myself using a spreadsheet. I label my columns for my important categories of aggregate numbers. And I plug some reasonable numbers into the first row or two of data.

Then for the remaining rows, the numbers have to be calculated from the numbers on the previous row or couple of rows, and from other numbers on the same row. That's it. Where we are now depends on where we were yesterday, and on what we're doing now. There is no trend. There is no perpetual "equilibrium" extending into the future.

I think my concept of a model of a dynamic economy is more like Keen's than Thoma's. In mine, there is no trend. The new conditions simply emerge. And yes, looking back on it, as long as we're not hit by an asteroid, and unless policy destroys it, the emerging series of outcomes could look like a trend. But that does not mean that tomorrow will be bigger and better than yesterday. It only means we must choose wisely, today.