Varoufakis: Today’s Economists Can’t Comprehend the Economy

“(The) Nobel Memorial Prize has been established for the wrong discipline: the discipline of economics, which, by design, subverts even the best intention to serve humanity” (Yanis Varoufakis, “They Don’t Make Them Like They Used To!“).

The Tragedy of Paul Samuelson

Paul Samuelson was “the man who brought Keynes to America by subsuming him under a formalist logic which effaced everything that Keynes had actually said.”

“Keynes’ greatest contribution was to alert us to a disarmingly simple truth: in a complex, financialized capitalist economy, it is impossible (rather than just hard) to derive, by analytical reasoning, the well defined mathematical expectations which one needs to “close” a macroeconomic model. Drop this insight, and you have lost all that matters in Keynes’ analysis of the Great Depression in particular and, more generally, of capitalism’s tendency to stumble and fall on its face.”

Samuelson contributed to economics in the 1940s (in Varoufakis’ words) the formalist approach:

1) Identify all the endogenous variables connected to the phenomenon at hand.
2) Minimize the number of exogenous variables that explain the endogenous variables.
3) Model the determination of the endogenous variables in the context of some constrained optimization problem, which enables the analyst to perform comparative static analysis by means of the calculus of variations (in the manner of 1930s thermodynamics).

Samuelson sold Keynsianism encased in economic formalism to a US elite audience “seeking truth in mathematics (as opposed to using mathematics as a mere tool).” This economic formalism “exuded the confidence that economics is reducible to ‘closed’ mathematical models which leave nothing (except preferences) for history, philosophy, or the rest of social sciences to explain; and (in Samuelson’s hands) was sufficiently ‘liberal’ to pass for a non-ideological, impartial manual successfully incorporating (something resembling) Keynes’ thought within its mathematics.”

Introduced by Nash, Debreu, and Arrow in 1950, economic formalism involved three moves consistent with Samuelson’s approach:

1) Set aside the engineering approach according to which mathematics is used in order to model some actually occurring dynamic.
2) Focus instead on general theorems that prove the existence of states of rest (or equilibria) on the basis of given axioms.
3) Treat the proven theorems as the uniquely legitimate source of economic wisdom.

“Surely against his own intentions, Samuelson helped formalism establish a beachhead from which, soon after, the final assault on logical, humanist political economics would be launched with deadly precision,” states Varoufakis, who explains why and how. To make his mathematical General Equilibrium model work, Samuelson had to deny what Keynes observed. Where Keynes said that in a recessionary environment, a fall in the wage (interest rate) will not boost employment (investment), Samuelson’s mathematical model asserted the opposite as an axiom: both investment and employment will rise, ceteris paribus, if wages and interest rates fall. “The moment the post-war miracle hit a bump (caused by falling profitability and by the USA’s slide into threatening twin deficits, courtesy of the Vietnam War and LBJ’s Great Society),” economic formalism ditched any relationship with Keynesian liberalism and went conservative.

“From that moment onwards, economics was dominated by the unbearable lightness of the euphemistically named “rational expectations” hypothesis, the risible “efficient market” hypothesis, and all their derivative drivel. What was remarkable, and exquisitely saddening, was how quickly Samuelson’s former disciples discarded the great man’s single most searing memory of his youth: that unfettered capitalism produces crises that economists must tame, rather than assume away,” explains Varoufakis.

In related news, Dean Baker offers a hilarious joke I recommend for the office water cooler: “How many economists does it take to see an $8 trillion housing bubble?
Berkeley economist J. Bradford DeLong was and likely still is a virulent anticommunist liberal. But he’s found some new sources of ire as of late. Perhaps the small virtue of the present age is to disaggregate the left-liberals from the right-liberals. Here’s DeLong’s piece on what he’s learned over the past 3 years. Hint: “Macroeconomics should be banned.”
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