26th June 2012
Perfect markets don't exist
For the new economists the problems are deep and axiomatic – mainstream economists still believe in neologisms such as ‘perfect markets' and ‘perfect competition', which given that such things do not exist naturally means their elegant models make no practical sense and are counterproductive for the economy itself.
Debt, banks and time don't exist
Most mainstream economists also ignore, or underestimate the significance of, fundamental realities such as debt, disequilibrium, deleverage, banks, and even time itself – even though all of these things are fairly fundamental to the functioning of an actual economy.
And the reason Hyman Minksy (1919-96) is viewed as a ‘rock god' by the new economists, while the likes of Friedrich Hayek (1899-1992) and John Maynard Keynes (1883-1946) are mainly seen as a pair of discredited old crooners whose songs lack relevance more than sixty years since they were topping the charts, is that Minsky recognised that neo-classical economics was dangerously detached from reality.
Depressions aren't allowed to exist
In particular Minsky recognised that, according to conventional economic thinking, depressions (such as we saw in the 1930s and are seeing in the early 2010's) cannot happen.
As one of the leaders of the alternative economics movement, Steve Keen, puts it that their failure to encompass depressions means that neoclassical models must be an "inadequate basis for understanding capitalism."
Politics and power don't exist
Steve Keen, professor in economics and finance at the university of Western Sydney, could readily talk for hours about the many dangerous fallacies that underpin neoclassical economic thinking. Here are just a few:-
"Neoclassical economics teaches you about a world in which power does not exist; which has a beautifully functioning meritocracy, where everything is in harmony. It's a vision of perfection and as a species we are easily seduced by visions of perfection."
People are rational actors
Also throwing down the gauntlet to the neoclassical economics in the opening article of the Uneconomics section of Open Democracy is William Davies who wrote:
"The methodology of neo-classical economics famously presupposes that human beings are rational maximisers of their own utility. This idea has worked wonderfully for the economics profession as a basis for model creation, but dreadfully badly for the world that economics purports to describe.
So, what happens when you factor in reality?
According to the Levy Economics Institute at Bard College, Minsky "ejected conventional economic ideas such as the efficient market hypothesis in favour of what he called the financial instability hypothesis.
Minsky held that, over a prolonged period of prosperity, investors take on more and more risk, until lending exceeds what borrowers can pay off from their incoming revenues. When over-indebted investors are forced to sell even their less-speculative positions to make good on their loans, markets spiral lower and create a severe demand for cash-an event that has come to be known as a "Minsky moment."
And who are the believers?
But bizarrely, people in positions of massive power and responsibility, including the Federal Reserve chairman Ben Bernanke, still largely subscribe to neo-classical thinking. In particular Keen is aghast at Bernanke's blindness to critical realities such as private sector deleveraging. Keen says:-
"The secret that has completely eluded Bernanke is that aggregate demand is the sum of GDP plus the change in debt. So when debt is rising, demand exceeds what it could be on the basis of earned incomes alone, and when debt is falling the opposite happens … total demand in the economy is the sum of GDP plus the change in debt."