Exchange rates and income distribution in a surplus approach perspective

Old paper, presented two years ago in México, and to be published soon by the university press there. In Spanish. For those interested. The model is the same (with minor changes) one used to discuss inflation, in an old paper, eventually published here in a book on Post Keynesian economics edited by Forstater and Wray. Link here.

Forget the Natural Rate, says the Head of the Minneapolis Fed

Low rates are here to stay

The head of the Minneapolis Fed agrees with something that I discussed several times here (or here for the use of alternative unemployment measures like U6) in the blog, that the unemployment level (U3) is not a good measure of the slack in the labor market. Neel Kashkari says:

No one knows how many more Americans want to work. But if the job market continues to improve with only modest wage growth and below-target inflation, it can be safely assumed that maximum employment isn’t here yet and there is no present need to raise interest rates.

So we're NOT at full employment (neutral or natural rate in their parlance) even with 3.6%. Note that a few years back they thought it was closer to 6%. Reality has an heterodox bias.

On Karl Polanyi and the labor theory of value

The other great transformation

I have discussed Polanyi on the blog before, but not in great detail (see this video posted a few years back from Fred Block for a more in depth discussion). However, writing about Bob Heilbroner's views of economics, and in particular the labor theory of value, reminded me why I have reservations about Polanyi, something that often surprises my friends, since I often cite some of his ideas, and I did put his book on the Top 10 list.

Polanyi has been, indeed, one of the most influential social scientists of the 20th century, even if economists never read him. His notion that markets are embedded in society has been used by political scientists and sociologists to understand the rise of neoliberalism, and the policies of austerity that have had incredible social costs (e.g. Mark Blyth's book Great Transformations). In part, the increasing formalization of economics made his work less popular among economists, proving that Boulding was right when he said that math brought rigor to economics, but it also brought rigor mortis.

The main thesis that free market capitalism leads to unstable political situations, and that this, in turn, would lead to coalitions that restraint and regulate markets, seems to have been vindicated, even if he did not get much recognition when the book was originally published. However, in spite of being a central an relevant author, many of his conclusions suffer from accepting an incorrect view of classical political economy, and ultimately his support for the mainstream (marginalist) theory of value.

He clearly believed, as did many, if not most, economists before the re-edition of Ricardo's works by Sraffa and his later rehabilitation of a version of the Labor Theory of Value (LTV), that classical authors were confused, and were essentially precursors of the neoclassical mainstream. He tells us:

"Apart from some special theories like that of rent, taxation, and foreign trade, where deep insights were gained, the theory consisted of the hopeless attempt to arrive at categorical conclusions about loosely defined terms purporting to explain the behavior of prices, the formation of incomes, the process of production, the influence of costs on prices, the level of profits, wages, and interest, most of which remained as obscure as before."

And there should be no doubt that to a great extent the mistakes of classical authors, in Polanyi's view, were associated with the LTV. He says just before the above passage that:

"Although Adam Smith had followed Locke’s false start on the labor origins of value, his sense of realism saved him from being consistent. Hence he had confused views on the elements of price, while justly insisting that no society can flourish, the members of which, in their great majority, are poor and miserable." [Italics added]

And it is also clear that he adhered to some vulgar version of the marginalist supply and demand story for value. Again in his words, from the his classic book, The Great Transformation:

"Economic value ensures the usefulness of the goods produced; it must exist prior to the decision to produce them; it is a seal set on the division of labor. Its source is human wants and scarcity." [Italics added]

In other words, relative value depends on demand (human wants) and their limited supply (scarcity). Given his background, and the mainstream authors he quotes, Polanyi basically believed in some version of marginalism, perhaps with Austrian undertones.

His bias in favor of neoclassical economics is also evident in his insistence that the beginning of capitalism* can be associated with the organization of the three markets that correspond to the factors of production, namely: labor, land and money (capital), and the implicit notion that the production is a linear process that goes from the factors to final output, in contrast with the classical view of a circular process, in which commodities where produced by means of commodities.

Polanyi was certainly sympathetic to Marx, but he clearly missed a lot, given the marginalist foundations of his analysis. He associated classical political economics with a naturalistic philosophy that tried to explain human behavior in terms of natural causes, and that imposed an extraneous logic to social relations. In view:

"naturalism haunted the science of man, and the reintegration of society into the human world became the persistently sought aim of the evolution of social thought. Marxian economics—in this line of argument—was an essentially unsuccessful attempt to achieve that aim, a failure due to Marx's too close adherence to Ricardo and the traditions of liberal economics."

So Marx wasn't a minor Ricardian, as Samuelson later famously put it (perhaps he was a major one for Polanyi), but his problem was the adherence to the Ricardian LTV.

I should note that Polanyi tends to think and judge classical and neoclassical economics from the point of view their economic policy prescriptions, and the idea of laissez faire, or what is referred to as liberalism in Europe. That is probably also the reason why Veblen coined the term neoclassical, which also gives the incorrect impression of continuity between both schools.

There is a lot that is valuable in Polanyi's analysis, but the problem is that he accepts the notion that prices are determined by supply and demand, and that implies that markets produce efficient outcomes in the marginalist sense of efficient allocation of resources (on the problems of the marginalist theory of value see this post on the capital debates). He does not seem to grasp that the classical notion of competition and long term equilibrium prices did not require optimality in the allocation of resources. Even if Polanyi is critical of the idea that in reality a pure market economy is stable, and even if he insists that free market policies led to a backlash from the losers that required a safety net to reduce the negative impact of market outcomes on society, it is still true that markets are about efficient allocation of resources in his view.

For classical political economists markets were an institutional framework for the reproduction of the material conditions of society, and for the process of accumulation. In the classical framework, equilibrium prices are not the ones that show the relative scarcity of goods and services on the basis of preferences, and limited resources. Normal (natural in Smith and Ricardo, production in Marx) prices are the ones needed to reproduce society. The overall state of preferences were taken as given, something determined by broad institutional and historical circumstances and not something to be formalized.

This matters exactly because the classical long term prices require that one distributive variable be determined beforehand. In other words, with real wages set at the subsistence level, something that was seen as historically and institutionally established in their time, the technical conditions of production (amounts of labor needed to produce, in the simplest version) were sufficient to determine normal prices. This view is actually perfectly compatible with Polanyi's notion of the embeddedness of markets, the idea that labor markets are social constructs and that rules, regulations and other institutional features are central for the creation of markets. In a sense, markets do not just appear out of thin air, in self-organizing fashion.

In other words, what Polanyi documents with this discussion of the expansion of the franchise in Britain in 1832, and the new Poor Laws established in 1834, is not the creation of the labor market as described by neoclassical theory (and that's exactly and incorrectly what he suggests). The institutional changes describe the full and final move from one set of regulations, still resulting from the more paternalistic system that came from pre-capitalist times, to a more punitive system for the working class. What was planned was not laissez faire in the labor market, but less protections to reduce the workers bargaining power. Workers resisted, but only much later, when their voice had a stronger political outlet (mostly with the rise of Labour), they could push back and regain some degree of bargaining power. Polanyi was partially correct, in saying that: "While laissez-faire economy was the product of deliberate State action, subsequent restrictions on laissez-faire started in a spontaneous way." However, it required taking over, to some degree, the State to bring about the Welfare State. Laissez-faire was planned, for sure, but planning was too.

Classical political economy actually allows one to understand that, since in the surplus approach there is no labor market that is regulated by supply and demand and determines both the real wage and the quantity of employment. Polanyi would have been under much stronger foundation if he understood the role of institutional and historical factors in classical political economy.** The reason that there was a backlash about laissez faire policies is that markets do not produce efficient allocation of resources, something Smith, Ricardo and Marx understood. Keynes' tried to explain why the neoclassical labor market theory was incorrect too. And here too Polanyi, writing just eight years after the publication of the General Theory, has nothing to say about it.

But as much as Polanyi neglected and misinterpreted the works of classical political economy, the same is true of heterodox groups that have brought back the ideas of the surplus approach. And heterodox economists should pay more attention to Polanyi's work and the idea of the embeddedness of markets on a broader social framework.

* To be precise he suggests approvingly that “the Reform Bill of 1832 and the Poor Law Amendment of 1834 were commonly regarded as the starting point of modern capitalism.” In other words, the labor market is at the center of his view of capitalism. Compare this with a Marxist discussion of modes of production that also puts labor relations at the center.

** Polanyi incorrectly suggests that Smith accepts the wage-fund doctrine, a precursor of supply and demand theories, which certainly was developed much later, with Stuart Mill, a transition author, that had already departed from Ricardian economics.

The New School for Social Research at 100: A view from the Econ. Dept.

From a late 1990s catalogue; Lance Taylor (center), and also in no particular order

and from what I can remember (Ellen Houston, Adalmir Marquetti, myself (with goaty

on the left side), Margaret Duncan, Josh Bivens and Carlos Bastos (Orozco Room)

The New School for Social Research was founded 100 years ago by a group of academics dissatisfied with the direction of American high education. Economics was central to the early history of the New School, and my brief, very incomplete, and certainly idiosyncratic historical account emphasizes the Economics Department of what used to be called the Graduate Faculty.

Thorstein Veblen, one of the founders, had written his famous Higher Learning in America, which in a sense is the original critique of the corporate university. The idea was to put learning at the center, and avoid the conventional trappings of universities, with no degrees provided to students. The foundations of the critical perspectives provided at the New School came from institutionalists (like Veblen), pragmatists, represented by another prominent founder, namely John Dewey, and revisionism in history, with Charles Beard as its main voice at the new institution. Many came from Columbia University and were dissatisfied with both institutions of higher education and the direction the country had taken, in particular with World War I. These were mostly anti-war, progressive social scientists.

Perhaps the key person at the inception of the New School was Alvin Johnson, a somewhat difficult to classify economist (Gonçalo Fonseca at the HET website suggests that he might be seen as Austrian), that has been almost completely forgotten. Johnson was the editor of the massive Encyclopaedia of the Social Sciences, later substituted by the International Encyclopedia of the Social Sciences (last edition under Sandy Darity, and I have two entries on Export Promotion and James Mill), which put him in contact with several economists around the world, many in Germany.

A group of scholars that he met as the editor of the encyclopedia was the basis for the so-called University in Exile, which eventually was the basis for the Graduate Faculty, the division that now still is called the New School for Social Research (while the whole is just The New School, if I do understand the naming changes at my alma mater). The most important and cohesive group of economists that arrived at the New School in 1933, and the following years, escaping persecution in Nazi Germany, were the ones related to the Kiel School, including Gerhard Colm (on Colm I co-authored this paper with Luca Fiorito), Adolph Lowe, Jacob Marschak, and Hans Neisser. In that group, Lowe, the mentor to Robert Heilbroner, was to be the more consequential for the New School.

The New School was not orthodox in its economic teaching, but the 1930s were a period of flux in the profession at any rate. The Keynesian Revolution was in course, and Keynes was acquainted with Johnson and the New School, as it can be seen in the letter he gave to H. G. Bab (see below; click to amplify). In that sense, while it is true that the place was somewhat unorthodox, given its origins and the historical period in question, that should not be exaggerated. Note that Marschak went on to be the head of the Cowles Commission, and a leading mainstream economist. While at the New School he supervised Franco Modigliani's doctoral thesis, which was the basis for his famous neoclassical synthesis paper of an ISLM model with rigid wages and for his Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel.

The New School, more enjoyable and compatible people than at Columbia, for sure (click to enlarge)

I say this because there is a tendency to think of the New School as being always heterodox, and taking that term to have more or less a contemporary meaning (for what I mean about that go here; for a great and more in depth discussion see this post by Ingrid Kvangraven and Carolina Alves). Many others taught at the New School in this period, perhaps, worth mentioning is the case of Abba Lerner, the main author of the functional finance school (something that is at the core of Modern Money Theory, but is more restrictive and specific than MMT).

The Kiel School was what one could term eclectic. They certainly had roots on elements of the German Historical School, and readings of marginalist and non-marginalist authors, including Marxists. Gonçalo puts Tugan-Baranovsky as one of the influences on the Kiel School. Tugan, a "semi-critic of Marx" according to Schumpeter, argued that a disproportion between the investment and consumption goods sectors would lead to recurrent industrial crises, and that notion of structural imbalances was central for Kiel authors. Leontief was also connected to the Kiel School.

While many in the Kiel School were open to and used marginalist concepts, as in the case of institutionalists, not all were neoclassical, and Lowe's views arguably were the most clearly connected to the works of the old classical political economists. Ed Nell, in the appendix to Lowe's book The Path of Economic Growth compares it with Leontief, Von Neumann, and Sraffa, as being classically inspired. One can think of Ed's Transformational Growth research program as building on that tradition.

But it would be a stretch to suggest that Bob Heilbroner, Lowe's main disciple at the New School, and the next key person in the history of the Economics Department at the Graduate Faculty, was a follower of classical political economy. A cursory reading of his classic, The Worldly Philosophers, shows that his reading of Smith is perfectly compatible modern mainstream readings, which imply that Smith was a precursor of supply and demand theories. The chapter on Smith discusses the law of markets, but the labor theory of value only makes an appearance in the chapter on Marx, and to suggest that it was a deviation from Smith and Ricardo. The degree to which Heilbroner conflates classical and marginalist or neoclassical theory is clear in that he argues that the Walrasian circular-flow in Schumpeter's theory resembles Ricardo's stationary state. And in the discussion of Schumpeter's notion of profit he suggests, regarding the labor theory of value, that "everyone knew to be wrong and therefore did not have to be reckoned with."*

Further, his views on economic growth, as evidenced in his book on the economics history of the Unites States, were essentially that growth was supply-side constrained and dependent on technological innovation, in ways that seem to be closer to his Harvard undergraduate teacher, Joseph Schumpeter, than classical political economy authors (Smith had arguably a demand driven view of growth, while Ricardo most certainly didn't, and Marx is open to many different views; I'll keep that to another post). I emphasize this to show that even if he was unorthodox in many ways Bob was not necessarily what we would term heterodox in the modern sense of the word (even if taken loosely as not being neoclassical).** In my view, no clear heterodox bias existed up to the 1960s, in a department that had basically been under the shadow of three economists, Johnson, Lowe and Heilbroner. Note that this somewhat eclectic persistence of different approaches was more or less common in many departments at that time.

But the Johnson-Lowe-Heilbroner nexus provided the basis for the changes that shaped the department with the arrival of Ed Nell in the late 1960s. Ed had worked with Hicks at Oxford, and he was from early on critical of methodological individualism, something that is clear from his critique of the concept of the rational economic man. More importantly he was concerned with growth, and that led to a discussion of the theories of value and distribution (perhaps influenced by Hicks' Capital and Growth, which remains an important book), and was influenced by Sraffa's revival of classical political economy. It was after Ed arrived that a series of new hires, among them Stephen Hymer, Anwar Shaikh, and David Gordon, changed the department. Note that the late 1960s and early 1970s too is the period in which the economics profession segregates the heterodox groups, makes it harder for radicals to get tenure in conventional and prestigious departments (e.g. Sam Bowles at Harvard), and publishing requires the foundation of new journals (e.g Journal of Post Keynesian Economics, and the Cambridge Journal of Economics).

In my view, it is no coincidence that this is also when the change in the notion of equilibrium, as discussed by Garegnani, takes place (some discussion of that here). The point is that the capital debates had shown the limits of marginalist (neoclassical) economics, and the profession embraced what I have referred to as vulgar economics after that. The hiring of heterodox economists, critical of the mainstream in this period, and the sociology of academia, locked in heterodox hegemony at the Econ. Dept. of the Graduate Faculty.

Many other heterodox economists taught at the New School's Econ. Dept. from that point onwards. I might note Paul Sweezy, which if I'm not wrong was instrumental in making Bob Pollin choose the New School for his PhD, was among the teachers in the 1970s. And also many Sraffians like Piero Garegnani, John Eatwell, taught on a recurring basis, while many were visitors for shorter periods. Again, somewhat idiosyncratically, in my view it is the arrival of Lance Taylor in 1993 and a few years later of Duncan Foley that consolidated the persistence of the heterodoxy, and the type of heterodox department (with a mix of structural Keynesianism and Marxism), that the New School has today.

Perhaps, it is important to emphasize how limited this story is. There is a missing story about the role of David Gordon, who was also a key player in the department for many decades, and of Anwar Shaikh, that I always saw as somewhat of an influential outsider (maybe I'm wrong), even by the New School standards. And also the many other wonderful and creative heterodox economists that passed through the New School over the years. There is a question about the gender imbalances at the New School, and within heterodoxy itself, that I do not address. I'll explicitly avoid saying any additional names, since in this way I cannot be accused of forgetting someone (I'm leaving out a ton, including the many alumni that went on to remarkable careers). Hopefully this provides a window on how the New School became heterodox and why it remains so.

* It should be noted that Bob's book was published in 1953, a few years before the labor theory of value was rehabilitated by Sraffa's Production of Commodities.

** On a personal note, I remember talking to Bob on an interval of a conference organized by Ed Nell on functional finance, in 1997, I think, in which he argued that the Maastricht limits (3 per cent for deficits, and 60 per cent for debt) were reasonable measures to constrain the size of government. He was a liberal in an older sense of the word, perhaps.

Top blogs

Naked Keynesianism has been featured in the Top 100 Economics Blogs of 2019. I haven't been very active, and appreciate to be included in the company of much more interesting blogs. See all here.

Bernie and AOC are Functional Finance (and Socialists) but not necessarily MMT

Might not be MMT, but it isn't Socialism

So there has been a lot written on Modern Money Theory lately. There is this piece by The Economist, Jerry Epstein's paper, and Lance Taylor's one, more on the Democratic Socialist ideas than MMT per se (here). There was also this op-ed by Robert Shiller in the NYTimes, and the two posts by Tom Palley, that I reposted here on the blog. Finally, Christine Lagarde also commented on MMT during the World Bank/IMF Spring Meetings.

I can and I will not comment again on my views on this. As I said before, I'm a fellow traveller in the sense that I do agree with MMTeers on functional finance (even though Randy Wray, at the Easterns, presenting Stephany Kelton's slides suggested that functional finance was a late addition to MMT,  coming from Matt Forstater and Stephany in the 1990s; my take on that here, where I say that Ed Nell is the likely source), endogenous money, and with minor disagreements on the origins of modern money (by which I mean early transitions to capitalism) on some version of Chartalism. I also, noticed that I depart on certain tendencies to believe that capital mobility and flexible exchange rates make MMT applicable to developing countries, and about taxation (on the latter, I was criticized, and received both emails and tweets suggesting I misrepresented MMTeers views on taxes).

Here is where I think the dual nature of MMT as a theoretical school derived from Minsky and some strands of Post Keynesian economics* and a political movement connected to progressive parts of the Democratic Party becomes relevant. The thing is that MMT has been now associated with Democratic Socialism, with Bernie Sanders and Alexandria Ocasio-Cortéz (AOC). Stephany after all was and is Bernie's advisor, and he has embraced certain proposals beyond what I would call a pop-functional finance stance on fiscal policy. For example, his job guarantee proposal** (again I hope he wins, and I do hope Stephany plays an important role in a Bernie administration; one can hope).

However, it's worth noticing two things that are relevant in this more political context. First, Warren Mosler has posted his presentation at the New School (Mosler's slide pictured above) in which he defends the elimination of personal and corporate income taxes, and sales taxes (here). Mosler is in many ways the more public face of the non-academic face of MMT. Note that Warren plays a crucial role in the political movement associated with MMT. Also, Randy noted in this piece that he was "'a bit disappointed' that Ocasio-Cortez connected tax hikes to the Green New Deal." And no, please, I do not need to be lectured on how causality goes from spending to taxes (as much as from investment to savings; same effective demand logic). The point is that even if taxes are not necessarily to fund spending, taxes do allow for important changes in the economy.

And the way one taxes is as important for functional finance as the way one spends. Sure the limits what can be done are political. In that respect I should say that functional finance suggests that the limits to fiscal policy, beyond the productive capacity (which might be endogenous and demand driven, and hence difficult to reach unless the economy is growing really fast), are essentially political. But exactly for that reason how one taxes, and is a central political question.

Taxes on the wealthy are central for social democratic (Democratic Socialism) policies. At any rate, this establishes in my view were I depart from MMT, which would be on the willingness to tax the rich. I'm not for eliminating income taxes (I'm happy to reduce sales taxes on some things, but increasing on others), and I would be in favor of a wealth tax too. And I'm happy that a higher tax on the well to do is discussed and tied to a popular cause like the Green New Deal (I was for that back in 2012). It should not be a surprise then that MMT finds support in Wall Street, since they would certainly like no personal or corporate income tax.

* I assume that is correct; Randy said in that roundtable mentioned above that they were kicked out of post-Keynesianism, and they didn't leave. I assume that explains the renaming MMT, which I never quite understood. See this old post in which I was surprised about the new label, which I associated back then to endogenous money.

** Here I should note that while I'm not against a job guarantee (JG), I have nothing against regular fiscal spending, like, for example, infrastructure spending to get the economy going. Again, on the panel, when I asked Randy, suggesting that Wynne (Godley) had asked the same in the past (according to my recollections), he said that conventional fiscal policy (what he calls pump priming) was inflationary, and the JG would be better. I'm even less afraid than MMTeers on demand inflation, it seems.

Interview on Central Bank's exchange rate policy in Argentina

My interview with Nicolás Fiorentino and Cecilia Camarano from Led.fm yesterday (in Spanish) on the Argentinian situation and the new central bank policy.

I basically suggest that the new policy to control exchange rates using the IMF loans (with IMF authorization) might control the exchange rate, but will finance essentially capital flight, and tries to interfere with the elections later this year.