Classical economics and recession in many countries (wonkish)

International real business cycle theories do exist, playing on international flows to spread technological unemployment originating in one country around. Productivity falls, investment falls, money flows out, etc. Their intuition seems most useful when there really are very large changes in ‘technology’, e.g., very large natural disasters in small countries whose aggregate demand is largely regionally-determined anyway.

Addendum: you’re right that in IRBC it’s basically impossible for unemployment to be contagious, though – investment pursuing relative productivity can slosh around and affect in-country output, but not unemployment. But I suspect that an RBC advocate will just assert that the international flows are simply triggering policy stabilizers which then cause unemployment. Or something along those lines. If the obviousness of Mundell-Fleming didn’t dissuade them, it’s not like unemployment contagion will.

Martin @2 – that is not Say’s Law, which says that all excess demands are zero. That excess demands sum to zero is Walras’ Law. Regardless, whether or not Say actually held this view is irrelevant to the common definition.

Probably New Keynesian, but not old- or post-.

Is there anything in RBC theory that require that shocks be technology shocks? Because the sustained rise in oil prices looks like both a significant factor, and an international one.

Is the desire to subsidise banking all that consistent with a stance against funding “pet projects”?

Anyway, at any moment in time it is possible to decide to take actions to increase aggregate demand as a whole by making sure you increase more in some areas than you decrease in others.

A good example would be that you could decide to spend less on military hardware and buy more solar panels. So long as you spend more on solar panels than you cut from the military budget, then you will be increasing aggregate demand.

Hey,

I don’t understand what’s wrong with the ‘technology shock’ idea presented in fn1. Can someone write something unpacking that a bit further?

Yours,

JMH

John: on p. 84 you quote the definition used by Keynes “supply creates its own demand” that’s rather Keynes’ viewpoint of the centerpiece of classical analysis rather than the centerpiece of classical analysis? As far as I know, heard and learned is that Keynes got that part wrong. Not that there is anything wrong with the Keynesian system as a consequence, Hicks’ IS-LM is pretty much the classical system with some modifications. I believe Hicks didn’t think it to be that different from Marshall?

david@2: Say’s Law is not that all excess demands are zero. How would a classical economists ever go explaining the existence of a shortage of a single good? No, rather the classical caricature is that a ‘general glut’ is impossible, meaning that all excess demands sum to zero.

Though see p. 208 of Two Hundred Years of Say’s Law, Walras Law is put on the same line as Say’s Principle and Say’s Law. (ie. all excess demands sum to zero).

Amazon claims to be shipping Zombie Economics in paper now.

Just a question about footnote 1: Is there really such a strong connection between “technology shocks”-theory and classical economics? For instance, a far as I know Carlota Perez isn’t considered a classical economist, and she’s not using her theories about techno-economic paradigm shifts to support right-wing policies like austerity and financial deregulation.

Norwegian Guy @21 – normally, yes. Well, a certain kind of macroeconomics, anyway; ‘classical’ is not quite the right word. The core intuitive problem runs like this: advocacy that business cycles are principally generated by exogenous factors conflicts with any other claim that something else, e.g., policy, can alter the character of said waves. It’s basic causal accounting: all the claimed contributory marginal causes must add up to one at some point, so more of one is less of the other. It doesn’t really matter whether you are claiming that the technology shocks are a random walk a la RBC or Schumpeter-style long waves a la Carlota Perez.

When the classicals were speculating on long waves, major economies did not generally run explicitly macroeconomic policies. A heterodox economist claiming today that the past century of business cycles, even in the face of starkly different policy reactions, is still long-wave in nature is claiming that said policy ‘thus far’ has not altered the business cycle. This is a methodological point that goes well deeper than politics – observe that Schumpeter is claimed by both the left-wing and right-wing economic heterodoxy.

I don’t entirely understand all your use of terminology. But isn’t classical economic thought, if I have the right end of the stick, inherently flawed because it imagines and produces a structural economy along vectoral lines – vis a vis expansionism – rather than circular/pythagorean continuities?

Also, I wish there were a nice off-the-shelf argument to point people to, for why wage flexibility is not a solution to aggregate demand shortfalls. Is there?

Ok, so I’m not an economist…

The current situation seems really puzzling if you try to view it in the framework of Say’s Law etc:

We have a lot of people who would like to exchange their labour for things they want (food, shelter, fuel, clothing…) but are unable to do so – they just aren’t getting any takers. (The exchange typically isn’t direct but instead mediated by money, of course). They aren’t getting any takers even if they drop the price of their labour significantly (i.e. are prepared to work more hours than they previously did to obtain the same amount of food etc.). In this light, we have a severe shortage of just about everything except labour.

The puzzle (at least, if you’re starting from Say’s Law) is why this surplus labour isn’t getting used to increase the supply of food, shelter, fuel, etc.

At an individual level [in an industrial society, rather than a hunter-gather one] there isn’t a lot you can do unilaterally if no-one is willing to hire you. Some people I know hunt for mushrooms in the woods for food (I’m told there’s an even better market for selling the hallucinogenic ones), but this is one of the rare few cases where something is unilaterally possible (and they can’t get anywhere near meeting all their food requirement that way). In general, you can’t do anything unilaterally because you don’t have the capital—the land to build a house on, the land to farm, the forest to cut wood, the coal mine/oil field to mine, etc.

Which then raises the question of why the organizations who do have the capital aren’t hiring.

Josh @ 27: It’s a fallacy of composition thing, like the paradox of thrift.

SusanC @ 29 : The current situation seems really puzzling . . .

Indeed. You’ve made a nice start on a summary of the issues. As you observe, we are enmeshed in a social system of a division and specialization of labor (and everything else), and although somewhat de-centralized and distributed, the power any of us has to make a living can be sharply curtailed by a breakdown in the coordinating mechanisms.

I will object to one gambit you offer: “we have a severe shortage of just about everything except labour”

In some respects, it doesn’t seem to me that we have a severe shortage of anything (though global limits on resources may be shadowing us). The stores are full of stuff, and merchants eager as ever to sell their stuff. Labor is not alone in being idle; in the U.S., for example, there’s an excess of retail commercial space, among other resources “unemployed”. The rhetoric of “austerity” notwithstanding, we have not experienced a harvest failure.

I think you right, though, to observe that natural need is not enough, nor natural effort. You have to have money to make your demand for goods, effective. And, to get a money income, you have to have a place in the productive structure — a job in the simplest terms.

Imagine twin circular flows driving economic activity: money in one direction, and goods in the other. Once you lose your place in the twin circular flows, you lose money income and the means to produce and sell goods/services into the system.

The question is, to what extent is it possible for the individual to bid their way back into the circular flow. Will reducing wages and prices clear the market for labor and restore full-employment, full-production?

I think it is at least plausible to think not.

I don’t think there’s much scope for substitution between labor and capital, at least not in the most productive sectors of the economy. If the capital stock and structure of production has shrunk, there simply are not as many places for people to work productively. The remedy should be to expand the structure and add to the capital stock, so that there are more places to be productive.

The New Keynesians like to emphasize that wages are sticky downward, and that’s a problem, with the implication that more flexibility downward would make the macro-economy more efficient or stable. It seems plausible to me that the problem — our problem at the moment, in fact — can be that wages that appear to be sticky downward are, in fact, sticky upward in the sense that the macro-economy is stagnating because Capital, particularly Financial Capital, is taking too large a share of national income. People are not getting the “marginal product” of their labor, because wages are too low, and therefore they can not make fully effective their demand for what they produce. Financial capital substitutes debt to finance effective demand, but that debt drives a debt-cycle, when the capacity to take on new debt is constrained by stagnating wages and financial capital “investments” (e.g. usury) crowd out industrial capital investment in productive capital stock.

In the 1920s and 1930s in the U.S., potential productivity was rising very rapidly, due to rapid technological progress in agriculture and continuous process manufacturing, not to mention electrical goods, automobiles, telephones, radio, movies, etc. With effective aggregate demand devastated by the deflation of 1929-33, and unemployment at 25% (and part-time employment at 50%) in 1933, individual labor markets “naturally” put heavy pressure on wages in a downward direction. But, I think it would be reasonable to suppose that wages would have to rise substantially to achieve a fully productive full-employment equilibrium. (You could do what they do in many third-world countries, which is to consign lots of people to extremely low-productivity employment in market stalls or agricultural plots, but that isn’t my idea of “full-employment”.)

I don’t know how to make the argument more plausible. We are all trained to “believe” in market prices, so that it doesn’t seem right to imagine that, due to financial misadventure on an enormous scale, the bargaining in market generates market prices, which are now signalling moves down the wrong track or in the wrong direction.

Speaking of Zombies, did anyone happen to read the Harpers article on the invention of the Zombie tradition in Haiti? If I remember rightly, it was economic too, because the men and women who were enslaved to labour in plantations found the means to end their slavery, and those that fashioned themselves owners created Zombie lore so as to prevent the, might I say, “depreciation of value of human capital.”

Jim Rose to John Quiggin: I’ll see your Casey Mulligan and raise you a Hayek!

lower labor input accounts for virtually all of the decline in income and output in the U.S while lower productivity accounts for much of other U.S. recessions and the 2007-2009 recessions in other countries.

Oh good lord. I wonder if Jim Rose even realizes that he is simply assuming that the economy is always at full employment?

No kidding, Tim.

Shouldn’t the Spanish simply agree to sell the rest of Mallorca to the Germans?