Keen, Hudson, Bezemer, Werner, Koo, Vague, and others

Recommended reading: At Business Spectator, Time for a Copernican revolution in economics by Steve Keen. Keen writes:

The global financial crisis took the vast majority of the economics profession by surprise... The OECD’s advice in its June 2007 Economic Outlook was typical:

"Indeed, the current economic situation is in many ways better than what we have experienced in years. Against that background, we have stuck to the rebalancing scenario. Our central forecast remains indeed quite benign..."

After being so disastrously wrong, one might expect that this modeling approach would now be subject to serious revision. But while New Keynesian DSGE model-builders are starting to add “financial frictions” to their repertoire of factors that prevent the economy from almost instantly attaining a competitive equilibrium (as in New Classical models), the core paradigm -- of an economy which, left to its own devices, will ultimately reach equilibrium, and in which money and financial institutions generally play non-essential roles -- has not been challenged.

Keen provides an extended analogy to astronomy. He explains:

I believe there are enormous parallels between the Ptolemaic-Copernican transformation of astronomy and the current state of economics.The alternative vision of capitalism -- as fundamentally unstable and monetary -- is as discordant with the Neoclassical vision of equilibrium in a barter economy as Copernicus’s Heliocentric vision was to Ptolemy’s Earth-centric model. It simply isn’t possible for one vision to incorporate the other -- which is why Neoclassical attempts to assimilate Hyman Minsky’s “Financial Instability Hypothesis” have been so lame...

Here Neoclassical economics shares another commonality with Ptolemaic astronomy. Just as it couldn’t explain comets, nor will Neoclassical theory be able to explain if another major financial crisis occurs in the relatively near future -- say the next three to seven years (bear in mind that the gap between the crisis of 2007/8 and the previous serious recession was about 18 years). On the other hand, the alternative private-debt-focused perspective that I share with Michael Hudson, Dirk Bezemer, Richard Werner, Richard Koo, Richard Vague, and many others, will have an explanation.

Well I see I didn't make the list :)

I do like that "vision of capitalism -- as fundamentally unstable and monetary". But I don't so much like the self-satisfying notion that Keen, Hudson, Bezemer, Werner, Koo, Vague, and others "will have an explanation" if "another major financial crisis occurs in the relatively near future".

I don't want an explanation. I want to prevent the problem. See the difference?

Keen provides this graph and text:

This recovery is starting from an unprecedented level of private debt: whereas the last post-recession recovery in America began from a debt level of 115 per cent of GDP, this one is commencing from 155 per cent (see Figure 2). If it only reaches the level of the previous peak (177 per cent) in the next five years, it will have fulfilled Richard Vague’s empirical rule of thumb for the cause of an economic crisis (a private debt to GDP ratio above 150 per cent, and an 18 per cent increase in that ratio over 5 or less years).

Yeah, I read that rule. I don't think you can calculate the future so precisely. So, grain-of-salt there. But this recovery is most assuredly starting with an unprecedented level of private debt, and that can't be good.

I don't see why this doesn't make sense to people: If we need credit for growth, and growth is, you know, maybe five percent each year, then I can easily see that we need an accumulated debt of five or ten percent of GDP. And, if it takes some years to pay off debt then I can see that we might have an accumulated debt equal to 50% or 100% of GDP. But there is no reasonable justification to ever have an accumulated debt of 300% or 350% of GDP or more. There is just no reason for it.

Of course, there is a reason. There is no justification for it. The reason we have such debt is that policy encourages the accumulation of debt, fails to discourage the accumulation of debt, and fails to encourage the accelerated repayment that could reduce debt to a sustainable level, a level that maximizes rather than hinders economic growth.

Oops! I let the cat out of the bag. I gave away the secret. I gave you my plan to prevent the problem.