Wednesday 23 November 2011

All The King’s Men 1: Economists

The government employs numerous highly qualified academics to assist in the most important financial decisions for the country. These people have spent their whole lives studying economics and work each and every day on sophisticated economic models and forecasts to analyse the nation’s finances, assess the domestic and international economic climate and predict the impact of the government’s policy decisions. Yet, so far, how successful have these economists been? The UK owes near to a trillion pounds for which we, the citizens, are the guarantors. The government continues to run a budget deficit each year and last year it was around 170 billion pounds. If the country was a single person, she would be maxing out a brand new credit card every year. If the country were a business, it would long have been declared bankrupt. So why have these so called ‘experts’ failed so miserably in running the country’s finances? And why have they not been sacked? 

This post is the first in a short series about the inability of government to perform certain tasks and why we urgently need to democratise certain government positions so that they might act more in line with our interests. 


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The big financial decisions made by government affect all of our lives. They include such decisions as setting base interest rates, government borrowing, spending and investment choices, international trade agreements, labour market norms and many more. An understanding of economics is necessary in order to determine which actions should be undertaken and to gauge the impact of the proposed policies. For this reason, economic theory and practice has always had a close link with politics. 

The existence of the economist occupation, beyond that of university research, is almost entirely owed to the advisory needs of government and the various institutions that owe their existence to the government controlled fiat currency system, such as The Bank of England, the International Monetary Fund, and the World Bank etc. In some cases, politicians do not even make the final decisions themselves, instead delegating the responsibility of economic decision making outside of the democratic mechanism to quangos such as the Monetary Policy Committee. Economists are also employed by private institutions in the form of advisors for the financial officers of large corporations who require similar analyses and forecasts of the economic climate to make their investment decisions. 


Economics can be described as a social science. It seeks to explain the mechanics of the production, consumption and trade of goods and services. Compared to the more ‘traditional’ sciences, economics has long been the subject of criticism. The argument is that the analysis of markets and economic agents (people, households, firms etc.) using aggregate measures is somewhat unrealistic and unverifiable and that its reliance on simplified assumptions makes economics unsuitable for any form of objective measurement. Economists themselves will state that much of economics is conceptual and cannot be accurately quantified. Notwithstanding these widely recognised drawbacks, the study of economics has increasingly become more mathematical, incorporating more and more numeric and statistical methodology. 

Despite all its criticism, there can be no doubt that the capitalistic periods in history, in which huge industrial and technological advances were made through progress in the natural sciences, such as the Industrial Revolution, owe their very being to the thinking of economists. Albeit unknowingly, the people that first leveraged man’s desire to improve his personal well being, by dispelling the previously held beliefs that it was immoral to compete and outdo other producers, or that machines were evil because they denied people jobs, were economists, and they paved the way for the system of personal property rights, free markets and competition that set the foundations for much of the wealth and prosperity we enjoy today. 

Although consensus exists for the basic relationships between economic variables, there are numerous theories for how economics should be applied to real life examples. There have come to be various different ‘schools’ of economics, each representing different groups of economists, of different countries and eras, with different influences, different strains of thought, and quite often, conflicting theories on how best to use economic theory in policy making. Lamentably, the political advisory role of economics lends itself disproportionately to a certain type of economist, one that thinks like a politician. 

          


Politicians work with what they are given. They need to do things. They need to be seen to be doing things. They need evidence that they are doing all they can to improve the financial well being of their citizens, and for that they need measurable data. They need charts where the lines go up and not down. 

For these purposes, an economist that advocates interventionism is the king’s most valued subject. John Maynard Keynes famously theorised that output and employment were directly linked to the total amount of demand in the economy and that by raising demand, the government could raise employment. He advocated policies of a) credit expansion, whereby the government could lower interest rates and slowly increase the money supply to encourage borrowing and investment, and b) government spending, in order to ‘create’ jobs and ‘stimulate’ the economy. This approach gives the government a clear active role in improving the economy and has a clear measurement of success in the form of aggregate demand and GDP. 

Keynesianism, as this school of thought came to be known, promotes government intervention if it boosts GDP. However as we have seen, the expansion of money and credit does spur growth, but only at the expense of inflation and a future dependency on credit expansion to stave off the eventual market correction and liquidation of debt. Growth through taxes and government spending is also undesirable as it shifts resources from productive private enterprise to fund the expansion of the inefficient public sector. For a politician however, both can be very tempting, as by temporarily boosting GDP, the government can be seen to making progress, even if it stores up bigger problems for the future. 

To individuals, these macro-economic variables, such as GDP, are of no real importance. Since when did the overall number and size of economic transactions in the country have any significance to our individual lives? Politicians and their loyal economists seem to be obsessed with these measures of overall productiveness but fail to consider that people are individuals, each with different needs and wants. 

Economists tend to use the word ‘stimulus’ to describe their loose monetary policy and government spending. This phrase is misleading. It most probably comes from a biological metaphor, that the economy can be likened to an organism, and by introducing external sensory impulses, the cells of the entity can be instructed to act in a certain way. Well, the economy is not one single organism, it is lots of individual organisms, thinking and acting differently in accordance with their own judgement of necessity and personal satisfaction. To assume that the quality of life of a group of individuals is improved by raising some kind of aggregate measure of productivity is a misunderstanding of the nature of the economy itself. 


Ludwig von Mises
The Austrian school of economics, famously spearheaded by Ludwig von Mises, considers the study of praxeology (the study of human conduct) as an essential basis for economic modelling. They argue that capitalism necessarily undergoes periodical business cycles and waves of unemployment as new innovations render old practices obsolete and revolutionise whole industries; but that the recent rapid credit-fuelled growth in the western economies is unsustainable and must come to an end. Logically therefore, the Austrian school way of thinking opposes demand side stimulus on the basis that interventionism should be limited to promoting free markets and competition, which are essential for accurate and efficient price setting.

However, politicians don’t like market economy thinking. It involves a multitude of individual plans and aspirations being carried out through many individual trades, and ma
rket mechanisms that adjust to these actions. It involves individual means to individual ends, whereas politics depends on common goals and strategies and a clear agenda. The truth is that the market economy does not need much political input at all. For this reason the more ‘active’ economists tend to get into the more powerful government advisory positions. The government economist who frequently advocates the ‘less is more’ ‘laissez-faire’ free market approach would be invalidating his job. 

Over time, the economist profession has slowly adapted to the needs of the interventionist state. Even privately employed economist positions exist mainly in order to get into the minds of the economic policy advisors in order to predict their next moves, in addition to scrutinising the legal framework for particular issues that warrant lobbying or provide tax reduction opportunities. Of course, many economists are clear-minded and intelligent and critical of politicians, but they can only work within the limits of their organisation, and to step out of line from the established way of thinking, or to challenge the prevailing wisdom of the particular period at hand, is to risk one’s career.

We desperately need to take these economists off the government payroll. Anyone can see the absurdity of running up a huge deficit. It is basic common sense that you cannot go on borrowing and spending more than you earn. It seems you have to be an economist not to understand this. If all important economic decisions were voted on in parliament, and not made behind closed doors by 'experts,' then perhaps we would have a more sensible economic policy.

Whether an economist’s theory is correct or not, it should be settled exclusively as dispassionate unbiased objective science and not in the midst of political opinion. But sadly the success and influence of economists is not purely a result of their scientific excellence. Many economists depend on politicians for their livelihood and the economic theories that come to dominate the political sphere are those that fit the current ideology and momentum.

It is high time politicians brushed up
on some Human Action.


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Read on »» All the King's Men part 2


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