The New Arthurian Economics: A prediction

Thursday, January 15, 2015

A prediction

The first of the great powers to reduce private debt will be the world's next hegemon.

24 comments:

AXEC / E.K-H said...: Growing debt is bad, but shrinking debt is worse

Comment on 'The first of the great powers to reduce private debt will be the world's next hegemon'

Your blog is about the perils of debt. On the face of it, you are right: there are problems and they are as old as economics.

“Adam Smith, when he wrote his Wealth of Nations, and Burke, when he produced his famous speech on economic reform, understood by political economy a branch of the science of the statesman or legislator, a theory of practice, the science of the prudent management of the public finances. The growth of the huge debts which weighed on the great military nations would end in proving their ruin. This was especially true of England, which had become immensely in debt trough the conquest of her colonial Empire.” (Halévy, 1960, pp. 104-105)

The core problem with debt is that economists do not understand the relationship between household sector deficit and business sector profit. In other words, the profit theory is false since Adam Smith.

In a short working paper titled 'Debunking squared' (2013) I have demonstrated this for Steve Keen's profit theory. What holds for Keen holds for the rest of Heterodoxy -- and, of course, for the New Arthurian.

First important point: both Orthodoxy and Heterodoxy lacks the true theory. That is bad in several respects.

“In order to tell the politicians and practitioners something about causes and best means, the economist needs the true theory or else he has not much more to offer than educated common sense or his personal opinion.” (Stigum, 1991, p. 30)

The true theory says that -- in the simplest of all possible cases -- profit/loss is exactly equal to dissaving/saving or in other words to growing/shrinking household sector debt. For the formally correct derivation of this fundamental relationship (in fact, the live formula of the market economy) see (2014). The relationship becomes a bit more complex when profit distribution, investment, government, and foreign trade are included.

Condensed to a slogan, the true theory says for the world economy as a whole: a growing debt of private households and/or government is the essential condition for the stability of the market economy.

In other words, the true theory predicts (for a closed economy): As soon as private/public households pay off their debt the economy breaks down.

References
Halévy, E. (1960). The Growth of Philosophic Radicalism. Boston, MA: Beacon
Press.
Kakarot-Handtke, E. (2013). Debunking Squared. SSRN Working Paper Series,
2357902: 1–5. URL http://papers.ssrn.com/sol3/papers.cfm?abstract_id=
2357902.
Kakarot-Handtke, E. (2014). Mathematical Proof of the Breakdown of Capitalism.
SSRN Working Paper Series, 2375578: 1–21. URL http://papers.ssrn.com/sol3/
papers.cfm?abstract_id=2375578.
Stigum, B. P. (1991). Toward a Formal Science of Economics: The Axiomatic
Method in Economics and Econometrics. Cambridge, MA: MIT Press.; January 15, 2015 at 8:10 AM
The Arthurian said...: Wellsir, thanks for the visit!

-------------------------------

It wasn't too hard to find AXEC: New Foundations of Economics. Turns out, E.K-H is Egmont Kakarot-Handtke. And I think AXEC might be Axiomatic Economics, but that's just a guess.

//

From the comment above:
"The true theory says that -- in the simplest of all possible cases -- profit/loss is exactly equal to dissaving/saving or in other words to growing/shrinking household sector debt."

I'm not comfortable with terms like "The true theory". I'm more inclined to go with the Andre Gide quote from Macromania: "Believe those who are seeking the truth. Doubt those who find it.""

No biggie.

What that theory says (profit/loss = growing/shrinking household debt) is a version of the "sectoral balances" story. (except in the simple version presented, there is no government sector to do the balancing.)

But let me repeat something I said the other day: "What goes into one pocket comes out of another." At bottom, sectoral balances boils down to pockets.

No biggie.

//

E.K-H wrote of "the profit theory". I didn't know what that is, so it caught my eye. Also found it at the AXEC site. And found a 5-page PDF on the profit theory at SSRN. I hope to do a post on it in a few days.; January 15, 2015 at 8:03 PM
AXEC / E.K-H said...: Addendum to my comment 'Growing debt is bad, but shrinking debt is worse'

You write: “E.K-H wrote of "the profit theory". I didn't know what that is, so it caught my eye. Also found it at the AXEC site. And found a 5-page PDF on the profit theory at SSRN.”

The 5-page PDF you found is the very paper I quoted in my comment.

I wrote “In a short working paper titled 'Debunking squared' (2013) I have demonstrated this for Steve Keen's profit theory.”

If you had simply looked in the References you could have saved a lot of searching time.

You mention that you didn't know what the profit theory is. Yes, this is a problem you share with most economists. I wonder what the 'New' in New Arthurian Economics is.

For your convenience here are all important links at a glance:

AXEC website: http://www.axec.org/

AXEC blog http://axecorg.blogspot.de/

AXEC working papers http://papers.ssrn.com/sol3/cf_dev/AbsByAuth.cfm?per_id=1210665

I recommend, however, that you read my paper 'Confused Confusers. How to stop thinking like an economist and start thinking like a scientist' first.

Don't search, here is the link:

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2207598

Egmont Kakarot-Handtke; January 16, 2015 at 4:20 AM
The Arthurian said...: Well that's gotta be the first time anybody complained about people reading their blog :)

Since you bring it up: "New Arthurian Economics" is a name I made up back in the '90s to poke fun at the very silly name "New Keynesian Economics". And (for the record) I'm not an economist, just an old math major... which saves me the trouble of escaping from a lot of old ideas which ramify into every nook and cranny of our minds.

Thanks for the links.; January 16, 2015 at 5:02 AM
AXEC / E.K-H said...: Second addendum to my comment 'Growing debt is bad, but shrinking debt is worse'

What is the question?

You say: “The first of the great powers to reduce private debt will be the world's next hegemon.”

I say (based on the papers given in the References): “As soon as private/public households pay off their debt the economy breaks down.”

You inform me that you are a math major. Yes, ok, so what? Should this be taken as a refutation of my well-founded argument?

Egmont Kakarot-Handtke; January 16, 2015 at 6:37 AM
The Arthurian said...: E.K-H: As soon as private/public households pay off their debt the economy breaks down.

Yes, because of the way we run our economy. We use credit for growth. "Using credit is good for growth" is a fundamental assumption that underlies all of policy. It is at this fundamental level that policy must change.; January 16, 2015 at 7:42 PM
AXEC / E.K-H said...: Concluding comment on 'A prediction'

You are of the opinion that policy must change. With many others, I too hold this opinion. So, we are close to worldwide unanimity, except perhaps for the technical bagatelle that your profit theory is false.

Egmont Kakarot-Handtke; January 17, 2015 at 5:22 AM
The Arthurian said...: It's funny, you know? I read your Debunking Squared pdf and

1. could not understand your graphs, but

2. realized that your graphs are "models". I do tons of graphs that always show historical trends in the data. To my mind, my graphs are graphs, yours are models. Yours escape me.

3. I absolutely do like the summary of your pdf:
Total income is the sum of wage income and distributed profit and not of wage income and profit.

What most people call "profit", I separate into "profit" and "interest", interest being the financial sector's version of profit, more or less.

And then I take "interest" and separate it into the part that stays in finance, and the part that is spent back into circulation.

Your "distributed" profit is like my interest spent back into circulation.

Something like that.; January 17, 2015 at 1:56 PM
jim said...: AXEC wrote: “As soon as private/public households pay off their debt the economy breaks down.”

Your profit theory is probably valid AFAICT, But
that doesn't mean profits require bank loans, public and private securities or household leverage. It seems to me that the debt that would support aggregate profits greater than zero could all be in the form of accounts payable and receivable. That would probably be something like how the Sharia vision of how commerce should work. If you look at the huge growth during WW2, some of it came from govt borrowing but probably most of the debt that supported the growth was in the form of accounts payable. The entire supply chain was issuing unlimited credit on the assumption that eventually they would be paid.

Art views the financial sector as a blackhole where money flows in but never comes out. Ironically, the policy response to the 2008 meltdown has given some credibility to Art's view.
Financial institutions are now required to retain more of their profits as cushions against future meltdowns. That retention of profits is huge drag on growth.; January 18, 2015 at 9:44 AM
AXEC / E.K-H said...: Refocusing the issue

Comment on 'The first of the great powers to reduce private debt will be the world's next hegemon'

The two Figures in Debunking Squared (2013) have been characterized in the text as 'straightforward graphical demonstration'. Whether you call the four-quadrant representation of the pure consumption economy a model or a graph is of no great importance.

It is a bit unfortunate that you obviously cannot interpret the Figures. However, if you prefer a strictly formal argument you could turn to the working papers that have been listed in the References. You find the elementary equations that underlie the graphical representation also here http://axecorg.blogspot.de/2015/01/the-profit-law.html and here (2015, p. 2) and here http://www.axec.org/#!axioms/cy2g.

You say you like the summary: 'Total income is the sum of wage income and distributed profit and not of wage income and profit.' However, that is not a matter of personal taste but of the correct formal representation of the pure consumption economy. If you do not get this most elementary case right you are lost.

The key argument is that BECAUSE total income is NOT (i) the sum of wages and profits BUT of (ii) wages and distributed profit ALL approaches that are based on (i) are untenable and this includes Keen's approach (and Keynes's, and Kaldor's, and Kalecki's, and Minsky's, and so on).

The fact of the matter is that both orthodox and heterodox economists cannot tell the difference between the fundamental economic magnitudes income and profit. This means that they are out of science.

From the formally correct approach follows for the pure consumption economy: As soon as private/public households pay off their debts the economy breaks down. It does not matter whether the debt consists of overdrafts, mortgages, bonds or any other of the myriad forms. The consistent inclusion of the banking sector is an entirely separate issue (2011; 2011).

Egmont Kakarot-Handtke

References
Kakarot-Handtke, E. (2011a). Reconstructing the Quantity Theory (I). SSRN
Working Paper Series, 1895268: 1–26. URL http://ssrn.com/abstract=1895268.
Kakarot-Handtke, E. (2011b). Reconstructing the Quantity Theory (II). SSRN
Working Paper Series, 1903663: 1–19. URL http://ssrn.com/abstract=1903663.
Kakarot-Handtke, E. (2013). Debunking Squared. SSRN Working Paper Series,
2357902: 1–5. URL http://papers.ssrn.com/sol3/papers.cfm?abstract_id=
2357902.
Kakarot-Handtke, E. (2015). Essentials of Constructive Heterodoxy: The Market.
SSRN Working Paper Series, 2547098: 1–10. URL http://papers.ssrn.com/sol3/
papers.cfm?abstract_id=2547098.; January 18, 2015 at 2:11 PM
The Arthurian said...: Suppose in my business I spend $100 and as a direct result I receive $180. This $180 is "gross income". The difference ($80) is "net income". Now suppose I take $50 of the $80 for use in the business. And I take the other $30 and spend it on myself.

You say only the $30 is income? But the $50 is income (to the business). Actually, the whole $180 is income to the tax-paying entity that received it.

What an entity does (or does not do) with received revenue, does not determine whether that revenue is income.

My definition: gross revenue is income.; January 19, 2015 at 4:48 AM
The Arthurian said...: Gross revenue received is income.

Egmont, if you can revise my example to fit your thinking, it would help me understand your view.; January 19, 2015 at 4:54 AM
AXEC / E.K-H said...: Income, profit, distributed profit: a radical simplification
Comment on 'The first of the great powers to reduce private debt will be the world's next hegemon'

OK, let us take your numbers. Imagine one giant firm, Art Inc, which is identical with the business sector as a whole.

In the first period you pay a total wage income Yw of 100 and receive 180 which is identical to total consumption expenditures C of the household sector. Note that the households sector's budget is not balanced (C>Yw). Art Inc posts a monetary profit Qm=80 at the end of the first period. This profit is equal to the dissaving (Sm=Yw-C) of the household sector, that is, Qm=-Sm.

Imagine further that the banking system consists only of the central bank. Then both sides of the central bank's balance sheet increase by the same amount. The household sector's overdrafts at the end of period 1 are equal to the business sector's current deposits, i.e. 80 (2011, Sec. 2).

In the second period there is wage income and distributed profit, i.e. total income Y consists of wage income Yw=100 plus distributed profit Yd=30, i.e. Y = 130. Now all depends on whether distributed profit are spent on consumption goods or saved. Let us keep consumption expenditures unchanged, i.e. C=180. At the end of period 2 profit is again Qm=80, i.e. 180-100. Because of profit distribution Yd=30, retained profit Qre is 50=80-30. This amount is equal to the household sector's dissaving Sm=130-180=-50.

The balance sheet of the central bank at the end of period 2 is 80+50=130 i.e. the households sector's debt (= cumulated overdrafts) is equal to business sector's current deposits.

The whole process reverses as soon as the households pay off their debt as they are supposed to do at some future date.

Egmont Kakarot-Handtke

References
Kakarot-Handtke, E. (2011). The Emergence of Profit and Interest in the Monetary
Circuit. SSRN Working Paper Series, 1973952: 1–23. URL http://ssrn.com/
abstract=1973952.; January 19, 2015 at 7:14 AM
jim said...: Suppose Art is in the business of making furniture.

In the current accounting week his employees do $100
worth of work which Art will pay them for next week. He sells furniture to the household sector for $180 which the household sector will pay for in 6 convenient $30 monthly installments. And Art's suppliers give him 90 days to pay for the $30 worth of materials. Art has a $50 profit from $180 income (but its only on paper) as he moves to the next accounting week.

The main points from that productivity:

There was no exchange of money.
No involvement of the financial sector.
No transferable credit market debt instruments were created. That means no change to the commonly used measure of debt (i. e. TCMDO) or money (M2).

Economic activity can occur (and even grow) without any involvement of the financial sectors measures of money or debt.; January 19, 2015 at 10:43 AM
AXEC / E.K-H said...: The trouble with logic
Comment on jim

The argument does not at all depend on the existence of a banking system.

Imagine that the business sector creates B-IOUs which are accepted by the households and that the household sector creates H-IOUs which are accepted by the business sector. (This is a thought experiment, so the technical details can be left aside.)

Then, at the end of period 1 the business sector and the household sector cancel out 100 B-IOUs (=Yw) against 100 H-IOUs and in the hand of the business sector remain 80 H-IOUs. These H-IOUs are just another form of debt and equal in amount to the overdrafts in the original example.

The economic logic does not depend on the historical form of money or debt. To fixate on the historical surface is what Whitehead called the fallacy of misplaced concreteness.

Egmont Kakarot-Handtke; January 19, 2015 at 2:37 PM
jim said...: AXEC wrote: "The argument does not at all depend on the existence of a banking system."

That is my point. The examples you give should not include a Central bank or financial sector.

I don't have to imagine B-IOU's and H-IOU's that don't exist. What I was describing is arrangements between businesses and households that already do exist.

The point was not that your model is invalid. I already said it was valid. The point was that business payables and receivables (and other debt) don't show up in the commonly used measures of debt. Therefore it's possible measured debt is going down without the economy crashing as your model predicts.; January 19, 2015 at 6:21 PM
AXEC / E.K-H said...: Trouble with keeping the focus
Second comment on jim

It seems that your attention span is too short for a serious discussion. The thread's title makes an assertion about private debt in the economy as it actually is.

You tell me that the economy could be organized in a different way without a central bank. Yes it could. In fact is was in the greater part of human history. Everybody knows this.

Then you talk about measurement problems. That is completely beside the point. If a car crashes against a wall then neither cause nor effect depends on whether the tachometer measures the speed correctly.

My argument is about the interrelationship between growth/shrinkage of debt and its effect on profit in the actual economy and not about a possible or historical barter economy.

Egmont Kakarot-Handtke; January 20, 2015 at 5:01 AM
jim said...: to AXEC,
The primary purpose of the central bank and the banking system in the economy is not to promote debt (or growth) but to provide a payment system that functions well.

In the last century the cost of providing payment services has decreased by a lot. The costs are now a tiny fraction of what they were when the payment system was managed by manual ledger entries and manual delivery. The financial sector has been reluctant to pass the savings on to the users of the payment system. Instead of reducing the fee structure they have devised more reckless debt instruments and the added cost of the increased risk associated with the innovation in debt instruments has been used to justify retaining the historic fee structure in place. The result of these reckless debt instruments is to promote cancerous growth over healthy growth.

That is why it is misguided to claim, as you have, that it does not matter what form the debt takes.; January 20, 2015 at 9:18 AM
AXEC / E.K-H said...: Still trouble with keeping the focus
Third comment on jim

You write: “The primary purpose of the central bank and the banking system in the economy is not to promote debt (or growth) but to provide a payment system that functions well.”

Yes, but it seems that you have never heard that the creation of credit and money are two sides of the same coin. This issue has been dealt with at length in (2011a; 2011b).

That the banking system and the payment system is not very well organized in some countries is a fact. This, however, is obviously an entirely separate issue.

For the argument that (in the pure consumption economy) the repayment of household sector debt turns the profit of the business sector into a loss it is irrelevant whether the households reduce overdrafts or mortgages or whether banknotes are green or blue.

All your comments are simply beside the point. This thread is not about the institutional defects of your country.

Egmont Kakarot-Handtke

References
Kakarot-Handtke, E. (2011a). Reconstructing the Quantity Theory (I). SSRN Working Paper Series, 1895268: 1–26. URL http://ssrn.com/abstract=1895268.
Kakarot-Handtke, E. (2011b). Reconstructing the Quantity Theory (II). SSRN Working Paper Series, 1903663: 1–19. URL http://ssrn.com/abstract=1903663.; January 20, 2015 at 2:37 PM
The Arthurian said...: E.K-H: "The thread's title makes an assertion about private debt in the economy as it actually is."

Yes...

Fortunately, our economy is not a pure consumption economy. In addition to C and I there is G and X. These extra sectors can be used to offset debt repayment for C and for I.

It would be wise to do that right away when debt started impinging on economic vigor (like, in the 1960s for the U.S.) instead of waiting for a crisis to develop.

Also, if we use the tax code, say, instead of interest rates, to limit the growth of debt, we can distribute the debt repayment over time. With interest rates, rates are pushed up until everybody cuts their borrowing all at once. It is the "all at once" thing that creates recessions.

With debt repayment distributed over time (some people borrowing more while others are going into paydown mode) we can avoid policy-induced recessions.; January 21, 2015 at 4:47 AM
The Arthurian said...: To beat a dead horse...

Rates are pushed up until everybody cuts their borrowing...

But even that is not a policy that encourages the repayment of debt.; January 21, 2015 at 6:12 AM
AXEC / E.K-H said...: Troubles with reading
Comment on Arthurian

You write: “Fortunately, our economy is not a pure consumption economy. In addition to C and I there is G and X. These extra sectors can be used to offset debt repayment for C and for I.”

In my very first comment I wrote: “The relationship becomes a bit more complex when profit distribution, investment, government, and foreign trade are included.”

The problem is that you obviously do not understand the most elementary case. So there is no hope that you will understand the more complex cases. As a matter of fact, these cases have already been analyzed as you could see from my working papers.

The more complex cases do not alter the conclusion for the elementary case.

You write “With debt repayment distributed over time (some people borrowing more while others are going into paydown mode) we can avoid policy-induced recessions.”

Yes, we can. But if “some people borrow more while others are going in paydown mode” overall debt is GROWING.

I hope you are able to realize that this statement contradicts your original claim. In case you do not know what you said, here it is: “The first of the great powers to REDUCE private debt will be the world's next hegemon.”

Egmont Kakarot-Handtke; January 21, 2015 at 6:21 AM
jim said...: AXEC: "Yes, but it seems that you have never heard that the creation of credit and money are two sides of the same coin."

That is not a scientific fact. It is a cultural phenomenon. If your argument depends on the cultural facts then it really isn't scientific argument. It is only an argument in favor of those cultural facts.

Perhaps it would be better to keep the functions of money creation and credit separate at least for the money used daily by households.

It is said that "bank loans create bank deposits". The evidence looks good that was true before 2008, but since 2008 there have been $3 trillion more bank deposits created than bank loans.
http://research.stlouisfed.org/fred2/graph/fredgraph.png?g=XOE

So it appears the cultural customs and behavior on which you depend to support your argument are changing.; January 21, 2015 at 8:02 AM
AXEC / E.K-H said...: Even more trouble with keeping the focus
Fourth comment on jim

It is pretty obvious from the history of economic thought that there is theoretical and political economics. Confusion is the natural habitat of political economists. Problems are not solved but kicked around until they are overloaded or muddled up beyond recognition. This is why economics is a scientific failure or what the physicist Richard Feynman called a cargo cult science.

Elsewhere, I have called the drive to nudge any question to the point of inconclusiveness, overload, or peaceful cohabitation of manifest contradictions the Hicks-Drive. It is a -- spontaneous or conscious -- scientific survival strategy because: “… you cannot prove a vague theory wrong.” (Feynman, 1992, p. 158)

Or, as Mirowski put it: “With enough fog emitted, almost anything becomes possible.” (2013, p. 344)

Thus 'anything goes' has become the methodology of political economics. New Arthurian economics is no exception.

It is a nice try to maneuver an issue towards historical or cultural relativism. This does not work here because all arguments I have advanced are properly formalized and the formulas are testable in principle.

My argument concerns the relationship between changes of private debt and monetary profit and does not depend on the historical specifics of the banking system in any country.

[By they way, Steve Keen has found a strong positive relationship between changes of debt and employment. This laudable empirical work clearly supports my assertion and contradicts the assertion of new Arthurian economics. With this remark, though, I do not intend to open a new discussion.]

Resume: We have two contradicting assertions about the relationship between changes of debt and profit (and indirectly employment). Empirical testing is the only way to resolve the question. There should not be much doubt that new Arthurian economics will be refuted because it does not satisfy the condition of logical consistency.

Egmont Kakarot-Handtke

References
Feynman, R. P. (1992). The Character of Physical Law. London: Penguin.
Mirowski, P. (2013). Never Let a Serious Crisis Go to Waste. London, New York, NY: Verso.; January 21, 2015 at 11:46 AM

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Thursday, January 15, 2015

A prediction

24 comments: