Nobel economist Paul Krugman wrote a public shot across the bow of the economics profession, “How did economists get it so wrong?“
Krugman’s explanation is that mainstream economists did not believe a major recession/depression was possible because they were committed to the neoclassical assumptions that markets are perfectly efficient and market actors are perfectly rational. To seal the deal, they were also enthralled by the “elegant” (Newtonian) math based on those assumptions.
He reports that “freshwater” economists (working at inland US schools, especially Chicago) continue to argue that their assumptions are correct. A Depression, such conservative economists argue, is not a market failure, since by definition markets cannot fail. Rather a Depression is a corrective to misplaced economic activity (Casey Mulligan, Chicago), or it is the result of temporary confusion between macro information and micro information (Robert Lucas), or it is the result of millions of workers deciding that they do not want to work (Edward Prescott, University of Minnesota; Casey Mulligan, Chicago). In this view, the market is automatically optimizing everything all the time, even if there is sometimes an appearance of failure.
The question here is why is it most important for these Chicago men to believe that markets cannot fail? Why is this neoclassical assumption absolutely indispensable to them? Hint: The answer is not to be found within economics, and it is not, as Krugman implies it is, solely within psychology. The answer, if you look at the historical evidence, is political and bears the marks of class warfare.
Krugman reports that “saltwater” economists at Ivy League coastal schools doubt that Depressions are good things, and they think that governments have a role in reversing Depressions. They take seriously the neoclassical economists’ boasts that neoclassical economists could moderate an economy. But saltwater economists are not Keynesians, in that they accept the neoclassical assumptions. So while they want to reverse severe Recessions/Depressions, saltwater economists cannot explain, let alone predict, the emergence of severe Recession/Depression.
Krugman calls upon the economics profession to re-embrace Keynes’ framework for understanding Depressions. (Or at least to turn back to Friedman’s 1950s argument that government economic overstimulation results in inflation and unemployment. Friedman’s theoretical framework at least appeared to have validity in the 1970s US, though it is overreaching and blind to all of social democratic economics and history.) The distinctive point about Keynes is that he understood markets and market actors as capable of imperfection and irrationality, and yet was still able to work for capitalism.
Krugman soothes that Keynes was a conservative. This is true, but there is a sticky difference between Keynesian conservatism and contemporary conservatism, and we should spell this out. Keynes was working in a different era, and he was British. When Keynes said he was conservative, he meant he, like all other Anglo-sphere economists, was working for capitalism and the capitalist class, over and against the working class. But to him, doing so didn’t have to mean pretending that markets and market actors were perfect. Keynes did not kid himself that capitalists were little gods. He was just loyal to them.
But contemporary American capitalists demand adoration, not just loyalty. Sure, they are doubtless narcissists. But they are also working hegemony (the war of position) more intensively.
What I see is, Krugman’s proposal means that economics would have two approaches: neoclassical for bull markets and Keynesian for severe bear markets. So that means that most economists would pursue neoclassical scholarship, but some economists would maintain and elaborate Keynesian ideas to provide policy for extricating the society from those severe bear markets.
But if the point is to predict and head off major turbulence, then wouldn’t the theories–which have very different assumptions about the perfection of markets and market actors–need to coalesce? With what sophistry can this be done, if the assumptions are so irreconcilable?
There is a theoretical framework that can reconcile Keynes’ understanding of Depressions and the neoclassical understanding of bull markets. Marxism. Why Marxist economics is not taken up to give a comprehensive theoretical framework to studies of capitalism is chiefly because Marxists, unlike Anglo-American economists, not only have failed to adore capitalism, they were not even loyal to capitalism or capitalists. It is a matter of pride, and class warfare, not pragmatism.
Here is my prediction: Only saltwater economists are in a position to consider Krugman’s proposal. In fact the most important thing Krugman’s proposal does is to goad (not least with the tacit invocation of classic coastal-hinterlands status hierarchy) some saltwater economists into dropping the neoclassical assumptions of perfect markets and perfect capitalists, so that they can get busy working out how to restore profitability…just in case capitalism turns out to be as instable as it has been historically.
Freshwater economists are not in a position to consider Krugman’s proposal, and moreover, when you consider what it is they do, they do not need to change. That is because they are doing what Anglo-American economists have always done: They justify and idealize capitalism and capitalists, with whatever tools buy the most credibility (eg. rhetoric, math). (It’s a happy coincidence of interests–capitalists’ and economists’– that the math is just way more tractable, when you assume that there is no friction in the economic universe.) Most economists are paid to be Panglossian. (And provided prestigious chairs named after corporate benefactors.) If they develop a new gambling flourish for the stock market, or even if their work just coincides with profit growth in some periods, economists are as effective as they need to be in what they do: Secure capitalist hegemony. That was Mises’ vision. It’s what the capitalists who paid for the Chicago school and soforth expect. Freshwater economists provide a market where contemporary capitalists can buy adoration, not just loyalty.
Meanwhile, however, there’s a severe Recession still going on, and someone has to figure out how to restore profitability. So it’s to the thankless Keynesian mines with you, saltwater economists! …Or perhaps that job should fall to another scholarly community? Maybe a branch of sociologists or some Marxists could maintain a side project, cultivating Keynesian policy. They’d make money as advisers and policy-makers during economic crises only. Kind of like a radical movie director who takes on a big blockbuster now and then to pay for the art.
Let’s step back from Krugman for a moment. Do we really need Keynesianism to less-temporarily restore profitability? The jury is still out on that one. After all, without altering his neoclassical assumptions (ie. “The market is top notch!”), Bernanke has simply, pragmatically moved more American social wealth (through bailouts and taxes) into the coffers of FIRE (finance, insurance, and real estate) capitalists. (In that sense, the crisis essentially worked as a FIRE capital strike to force the state to redirect more wealth its way.) Many Americans (and Chinese state investors) predict that this loving, faithful redistribution will provide capitalists with sufficient wealth to inflate at least one more economic bubble.
As a Marxist, I don’t think this shite capitalist economic management will continue to work in the US’s favor, and as a political sociologist I think that coddling capitalists motivates them to make increasingly socially-irrational decisions; but Americans are still a ways off from Latin-American levels of dispossession. There’s still something to be sucked dry. If the capitalist state-market can resume manufacturing new bubbles for a while, as the experts think they can, then for that length of time economists do not need to figure out ways to restore profitably that force them to admit that markets and capitalists are imperfect, and that force them to reconsider the roles of production, social reproduction, and wages in an economy.