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Thoughts on the Implications of Economic Theories

Written by Barry Beck

Let's begin with Adam Smith who very thoroughly described in 1776 (The Wealth of Nations) the capitalist and mercantile system that was already becoming well established in England, Scotland, Holland, and France. It was a massive study defining economic factors and their effect upon one another (sources of wealth, rent, profit, interest, wages, value, price, cost, labor, commodities, capital, land, resources, tools, raw materials, money, surplus, investment, assets, taxes, tariff, import, export, etc.)

It's a frequent misapprehension that Smith advocated an unrestricted laissez-faire (let it be) economy with no government invention. But he was not in favor of unregulated laissez-faire, and never used the term (though the phrase was used at the time by early French philosopher-economists known as the physiocrats.) Smith believed that there must be some oversight of trade and some provision set aside by society for the poor, sick, and aged because as he stated, "At every stage, there is revealed the working of the vile maxim of the masters of mankind - all for ourselves and nothing for other people." He also believed that though the state is very ineffective at regulating trade, it often does and should monitor and have oversight over commerce. And he also had an aversion to tradesmen (corporations) guiding (regulating) government and writing laws. Smith condemned many aspects of mercantilism and colonialism as harmful to the people generally but of great benefit to the merchants and manufacturers who were becoming the "principal architects" of state policy, and whose interests were "most peculiarly attended to…" The invisible hand of the market (as an economic metaphor) actually referred to the unintended negative consequences of too much protectionism in the form of raised tariffs, quotas on imports, or subsidies paid by the state to a protected commodity. The unintended result (of domestic protectionism) would be the decline of overall national income.

Smith's qualification of the principle of laissez-faire is surprisingly modern and sophisticated and presents a reasonably balanced view of the interaction of politics and the economy. Robert L. Heilbroner said of Adam Smith in The Worldly Philosophers, "…by a strange injustice the man who warned that the grasping eighteenth-century industrialists 'generally have an interest to deceive and even to oppress the public' came to be regarded as their economic patron saint. Even today—in blithe disregard of his actual philosophy—Smith is generally regarded as a conservative economist, whereas in fact, he was more avowedly hostile to the motives of businessmen than most New Deal economists."

Has any country ever had an unregulated system of political economy? Has there ever been a completely deregulated free market within an institutionalized social system? Would that be an ideal system? We'll return to this question later.

(And now being a little overly anxious to arrive at my central theme, I will hasten through 150 years of economic theory in this single paragraph.) Using ever more complex mathematical models, nineteenth and early twentieth century philosophers of the economy such as Malthus, Ricardo, Mill, Marx, Jevons, Menger, Pareto, Clark, Fisher, Walras, Veblen, Marshall, and Schumpeter expanded and more systematically defined Adam Smith's economic analyses by exploring social values, relations, and responsibilities, and by further delineating alternate calculations and determinants of significance and relative importance of land, commodities, labor, wages, price, cost, and value, thereby explicitly introducing mathematical arguments and models into a social science. Economic writing from the 1870s to the 1920s was dominated by the Marginalist (or Neoclassical) schools of thought. (Though I'd like to return to Joseph Schumpeter who is a little later than this category and more expansive and diverse with assessments very applicable to contemporary circumstances and requirements.)

After the 1929 market crash and during the Great Depression of the 1930s, the most influential economist was John Maynard Keynes. His assessments which had predicted many defects in previous economic theory and practices, very much influenced Franklin Delano Roosevelt's New Deal legislation.

Keynes (The General Theory of Employment, Interest, and Money) said:

1] Economies can and often do suffer from an overall lack of demand, which leads to involuntary unemployment.

2] The economy's automatic tendency to correct shortfalls in demand, if it exists at all, operates slowly and painfully.

3] Government policies to increase demand, by contrast, can reduce unemployment quickly.

4] Sometimes increasing the money supply won't be enough to persuade the private sector to spend more, and government spending must step into the breach.

Countering this idea was the Austrian School of Economics (a branch of the neoclassical school, named because many of its advocates... Carl Menger, Eugen von Bohm-Bawerk, Ludwig von Mises were from Austria) later evolving into the Chicago School as some of the prominent Austrians and Milton Friedman lectured at the University of Chicago School of Economics. Objecting to Keynesian Cambridge economics which advocates government spending to stimulate aggregate demand (demand management) using taxes and spending, the Austrians believed in a return to a more laissez faire approach (classical trade cycle theory and supply-side economics) using tax-cutting measures and influencing monetary policy by tightening the money supply.

So we have Keynesian demand management verses Austrian supply-side, also called trickle-down economics because it depends on corporations reinvesting profits to stimulate the economy when they have more money and pay less taxes. Friedrich Hayek (The Road to Serfdom) and Milton Friedman (Capitalism & Freedom) were the most influential economists of the late 20th century and the heroes of conservatives. Friedman believed that the only roles of government are to protect property, guard the borders, and enforce contracts.

In the 1980s, the Reagan Administration ushered in a return to supply-side (with tax relief for corporations and high-income families), monetarism, and no deficit-spending. Public policy was turning toward deregulation, decreased oversight, and privatization. Trickle-down, it was called because if the rich had money they would create new jobs and the advantages would trickle-down to all classes of society. This process accelerated during the Republican majority in Congress from 2001-2006 when corporate lobbyists largely wrote our economic legislation.

And what did oil companies, pharmaceutical companies, airlines, financial, insurance, and media conglomerates, other huge corporate groups, and the wealthy do with all these advantages? Reinvest in the form of research or improvement of the product? Create jobs? Raise salaries? Expand medical benefits? Decrease the prices of their products? If they had, there might be some validity to Milton Friedman's supply-side outlook.

The actual occurrence has been layoffs of staff, merging of companies and divisions, reorganizing, downsizing, and shutting down operations in order to last out the bad times, becoming more selective in research and improvement of infrastructure, and aggressively reducing the size of inventory. The result has been weakened and vilified labor unions (more flexible labor markets is the euphemism conservative economists use), failure of voluntary compliance and self-policing, lobbyists drafting the legislation regulating their clients, fire sale privatization, deficit reduction (when budget considerations are even bothered with) through massive cuts in government services, unprotected pensions and medical plans, the breaking down of regulatory laws that protected the public against abuse, closed factories, tax benefits for jobs sent oversees so cheaper wages could be paid, and the end of rules mitigating huge executive salaries and perks. CEO to worker pay ratio in 1980 was 40:1; now it's 350:1. They are rewarded even when they mismanage a company, lead it to bankruptcy, or lay off employees. With decreased regulation and accountability come more mergers, larger but fewer companies allowing prices paid by the public to be decided not by the market, but by the corporate group. By cutting taxes for corporations and the wealthy, supply-siders cut off revenue and pushed through structural reforms that made it harder for future administrations and congresses to raise funds. Many on the right became unwilling to think creatively about using government to promote prosperity for the middle class and poor.

Not only have financial regulations and oversights been removed, but measures that give us an accurate statistical picture of the economy such as rates of unemployment, inflation, and measures of GDP have been calculated in different ways by every recent president and congress to give a skewered look at the economy. (Obama is the first president in thirty years to move toward a more accurate and open budgetary calculation.) Contributing to other economic dysfunction, many basic metrics within the economy had been ignoring factors within gauges of revenue and profit and reflected by an artificial evaluation of growth, an inflated temporary stock price, and conveying a false indication of the financial reality. The market used to be a fair indication of the state of the economy. Now it's a market of traders, not investors. More speculators using computer generated buy and sell programs want to know what the spread is today and tomorrow; they can make money on the way up or down; they care far less about the long-term health of companies and of the country.

Paul Krugman, recipient of the 2008 Nobel Prize in Economics, has written, "...in economics... some ideas work in theory but not in practice—that is, the reasoning that underlies them seems to be right, but experience in the real world tells you that something is wrong." That might be the inconvenient reality of the economic theories of Hayek and Friedman.

So the premise of these thoughts about the economic theories that have informed and governed our economy, is that we have been misinformed and trained over the last thirty years to think that government interference is always bad when in fact:

Next let's ascertain if economic changes taking place in 2012 can successfully deal with or reverse the deregulated, privatized, supply side, trickle-down, corporate-lobby driven economic environment that has occurred. We'll look at how the economic theories that supported those views have institutionalized tremendous imbalance and inequality over the past thirty years.

(Additional resources to be added: Ferguson, Greider, Tavakoli on investing, Geoghegan on debt and interest rates, Peter Drucker on Schumpeter and Keynes. Questions about how to characterize events and more details and possible solutions.)

Gratefully, it seems that more Americans are aware of and have tired of this no regulation climate. A positive sign is Obama's decision for more public and accurate budgetary calculations; a departure from a 30-year trend that misrepresented the very numbers we depend on to assess the economic picture. But disappointing is Obama's tendency to appoint some of the very people who (when in the private sector) aggravated the situation. This is not creating a very different economic environment from the Bush years.

There are continuing patterns of occurrence in the private sector: Hiding debt - - Turning debt into derivatives - - Loans described as revenue - - Revenue booked before it is earned.

An implication that is insufficiently taken into account: Derivatives (such as Mortgage Backed Securities, Credit Default Swaps, and Credit Default Options) are leveraged bets; financial bets that something will or will not happen. There is more money at risk in derivatives than stocks and bonds; there is a tendency for them to disgorge (sell out) all at same time and thereby depress markets around the world and this could trigger a global market panic.

Another way to understand this: as economically defined, the price is what you pay, the value is what you get, the cost is what given up instead (opportunity cost), the charge is what is asked. Market price exists... it can be calculated; market value does not exist, but could be a term or factor used in an economic computer model. (Sort of gives a wider dimension to Oscar Wilde's expression about people who know the price of everything and the value of nothing.) This is how derivatives are created. As Janet M. Tavakoli says, "A model can calculate a result to nine decimal points, but cannot tell you if it is correct" or should be factored to assume a quotient.

Bill Fleckenstein writes, "Delusions of infallibility bring me to... quantitative trading. Quantitative analysts have pursued a strategy based on the notion that the money to be made in stocks comes via mathematics rather than from company fundamentals. I believe that this strategy is responsible for much of the pandemonium we see on a regular basis. No market seems to be safe from these maniacal, algorithm-wielding computer beasts. In a way, their systems have made it possible (in the short run) for almost anything to trade at any price, whether foreign exchange, stocks or commodities in general."

This use of margin or leverage as speculation is the opposite of value investing; i.e., buying securities whose shares appear under-priced by some form of fundamental analysis. As examples, such securities may be stock in public companies that trade at discounts to book value or tangible book value, have high dividend yields, have low price-to-earning multiples or have low price-to-book ratios.

Market Fundamentalism - the notion that unregulated markets automatically give you full employment and economic stability. (Unchecked capitalism with no regulations in place does not work for the benefit of society. Capitalism, by its nature, does not make choices concerning morality; therefore, we must have protections in place.)

The Theory of Efficient Markets - the doubtful, yet prevalent belief that prices reflect all known information. The validity of this only seems to be as long as most people are acting rationally. John Maynard Keynes stated that "the markets can remain irrational much longer than you can remain solvent."

Background - In 1933, in the wake of the 1929 stock market crash and during a nationwide commercial bank failure and the Great Depression, two members of Congress put their names on what is known today as the Glass-Steagall Act (GSA). This act separated investment and commercial banking activities. At the time, "improper banking activity", or what was considered overzealous commercial bank involvement in stock market investment, was deemed the main culprit of the financial crash. According to that reasoning, commercial banks took on too much risk with depositors' money. Additional and sometimes non-related explanations for the Great Depression evolved over the years, and many questioned whether the GSA hindered the establishment of financial services firms that can equally compete against each other. There are important reasons why the GSA was established and what led up to its final repeal in 1999.

The Glass-Steagall Act of 1933 established the Federal Deposit Insurance Corporation (FDIC) in the United States and included banking reforms, some of which were designed to control speculation. Some provisions such as Regulation Q, which allowed the Federal Reserve to regulate interest rates in savings accounts, were repealed by the Depository Institutions Deregulation and Monetary Control Act of 1980. Provisions that prohibit a bank holding company from owning other financial companies were repealed on November 12, 1999, by the Gramm-Leach-Bliley Act.

Officially named the Banking Act of 1933, additional legislation introduced the separation of bank types according to their business (commercial and investment banking), and it founded the Federal Deposit Insurance Corporation for insuring bank deposits. Literature in economics usually refers to this simply as the Glass-Steagall Act, since it had a stronger impact on US banking regulation.

The Commodity Futures Modernization Act of 2000 (CFMA) repealed the Shad-Johnson jurisdictional accord, which had banned single stock futures in 1982. The legislation also provided certainty that products offered by banking institutions would not be regulated as futures contracts.

Earlier I posed the question about whether a country had ever had an unregulated economic system. Perhaps the nearest occurrence of unbridled capitalism with no regulation, intervention, or rules, was during the Spanish and Portuguese conquest of Latin America after 1492. It stimulated the wealth of Europe and powered the Industrial Revolution, but it did not advance or assist Spain or Portugal except in the short-run. For the longer term, it seems to have encouraged in the upper classes of Spain, Portugal, and Latin America, an attitude of indolence leading toward atrophied and backward thinking. It destroyed Latin American resources, wealth, development, and the opportunities of most its people to this day. (cf. Eduardo Galeano and Gabriel Garcìa Màrquez.)

From Mirrors: Stories of Almost Everyone by Eduardo Galeano: "Precursor of Capitalism: England, Holland, France, and other countries owe him a statue. A goodly part of the power of the powerful comes from the gold and silver he stole, from the cities he burned, from the galleons he pillaged, and from the slaves he rounded up. Some fine sculptor ought to carve an effigy of this armed functionary of nascent capitalism: knife between the teeth, patch on one eye, peg leg, hook for a hand, parrot on the shoulder."

A second instance of capitalism without government strictures was the British East India Company. The Founding Fathers of the United States wished for the individual states to establish a time limit on corporations (this becoming the custom and procedure of the states in the first century of the U.S.) so as to avoid the British tendency of allowing a corporation, such as the East India Company, to obtain the power of issuing, creating, and enforcing public policy.

From Glimpses of World History by Jawaharlal Nehru, Prime Minister of India from 1947 to 1964.: "…the East India Company-a trading company-was governing India. There was growing control by the British Parliament, but, in the main, India's destinies were in the hands of a set of merchant adventurers. Government was largely trade, trade was largely plunder. The lines of distinction were thin. Enormous dividends of 100 per cent, and 150 per cent, and over 200 per cent, per year were paid by the Company to its shareholders. And, apart from this, its agents in India picked up tidy little sums… The officials of the Company also took trade monopolies and built up huge fortunes in this way with great rapidity. Such was the Company's regime in India."

And a third case in point of laissez-faire capitalism was the form that emerged in Russia after the fall of the Soviet Union.

But back to the present day United States:

Trends and patterns - deregulation, privatization, oversight and penalties removed / meltdown of mortgage insurance and bank lending / crisis of Lehman Brothers, AIG, Bear-Stearns, Fannie Mae, Freddie Mac, etc.

Elizabeth Warren - Harvard law professor and former chair of the Congressional Oversight Panel responsible for monitoring bank bailouts (TARP - Troubled Assets Relief Program) says there are three choices for dealing with the crisis in financial institutions: liquidate, subsidize, or take them over and reorganize them. She very succinctly sums up what has led to the present situation:

"Starting in 1792 with George Washington's first term, we have a credit freeze and financial panic; then every fifteen to twenty years - bust, panic, crisis all the way up until the Great Depression - worst financial disaster ever. We decided we can do better. Three pillars are put in place: the FDIC (insurance for people's savings) the Glass-Steagall Act (separation of financial institutions; keeping them regulated and in line) and the SEC (Securities and Exchange Commission - strict oversight of stock market trading.) Then we go fifty years without a panic - recessions yes, but no serious financial depression.

"In the 1980s, we started pulling the threads out of the regulatory fabric and what's the first thing we get? We get the Savings & Loan crisis. Seven hundred financial institutions fail. Ten years later what do we get? Long Term Capital Management, where we learn that when something collapses in one place in the world it collapses everywhere else. Early 2000s, we get Enron which tells us the books are dirty. And what is our repeated response? We just keep pulling the threads out of the regulatory fabric. So we have two choices -- we are going to make a big decision, probably over about the next six months. And the big decision we are going to make is going to go one way or another. We are going decide, basically, Hey, we don't need regulation. You know, it is fine. Boom and bust, boom and bust, boom and bust, and good luck with your 401k. Or alternatively we are going to say, You know, We are going to out with some smart regulation that is going to adapt to the fact that we have new products and what we are going to have going forward is we are going to have some stability and real prosperity for ordinary folks."

The return of Depression Economics - restoration of New Deal style regulations, intervention, and oversight.- New Deal Banking Regulations

Federal Reserve Board Policy and Business Activity

Notes - Causes - Effects:

Causes beginning in the 1980s

These tendencies starting during the Reagan Administration, slowed slightly but continued when Clinton was president or Democrats controlled Congress. But it has never stopped during the last thirty years with privatization of aspects of the military, emergency services and services that should not be deregulated and split. Conservative commentators have made it seem like privatization, the weakening of unions, and deregulation have been beneficial to the nation, but it has only opened the door to gross incompetence, negligence, and greed when an industry is allowed to go in this direction. It can hardly be called capitalism. It is corporatism. It is more like socialism... but only for extremely high-income people and large corporations and conglomerates. As a society, we have been tending to socialize the cost and privatize the gain. Corporations are quite in favor of socializing their financial losses.

The privatization of everything has so run amok that even the military and Medicare (and Social Security if Republicans had their way) are becoming privatized with less and less regulation, oversight, and accountability. As part of the Medicare Part D legislation in 2006, there was no allowance for the government to find the best prices for drugs for senior citizens; costs were tied to whatever a few pharmaceutical monopolies were charging. This is hardly free market capitalism. It is a government run by corporations.

 

- - - - - -Under Construction - - - - - - - - - - - - - - - -- - - -

 

Conclusions:

Since the late 1970s, we've created a viral form of capitalism. The failure is not capitalism, but a specific kind of capitalism that evolved from economic theories stressing that the only goal of business is to maximize profit, regardless of the social and environmental costs, and popularizing the idea that any government regulation is harmful and all forms of privatization is positive. This mutant predatory form of capitalism, has created an extremely unstable, unsustainable, unjust and very dangerous world.

This led to repealing regulations such as Glass-Steagall and other banking restrictions created during the Great Depression to protect us from other potential deep recessions and depressions. This largely brought about the latest recession in 2008. We need to implement many of those regulations again as well as a new set of laws that encourage businesses to be environmentally and socially responsible.

For the first hundred years of the United States, no corporation was allowed to receive a charter unless it could prove that it served the public interest. Moreover, charters came up for renewal every ten years or so. They did not receive a renewal unless they could prove they served the public interest. This changed with the Supreme Court ruling in 1886 that used the thirteenth amendment to make corporations equivalent to individuals.

We need to return to an understanding that corporations are there to serve us. We used to believe that a good CEO takes care of the long-term interests of the corporation-the employees, the customers, the general economy-not just there to make short-term profits and raise the stock price and dividend temporarily.

The public policy should be to encourage corporations to aim toward creating a sustainable, just, and peaceful world. Those who are controlling these organizations today must be answerable to what is in the best public interest, and not just what is in the interests of a few very wealthy, powerful people.

Sociologist Zygmunt Bauman, in Consuming Life, analyzes how market sovereignty differs from state sovereignty:

"This strange sovereign [the market] has neither legislative nor executive agencies, not to mention courts of law - which are rightly viewed as the indispensable paraphernalia of the bona fide sovereigns explored and described in political science textbooks. In consequence, the market is, so to speak, more sovereign than the much advertised and eagerly self-advertising political sovereigns, since in addition to returning the verdicts of exclusion, the market allows for no appeals procedure. Its sentences are as firm and irrevocable as they are informal, tacit and seldom if ever spelled out in writing. Exemption by the organs of a sovereign state can be objected to and protested against, and so stands a chance of being annulled - but not eviction by the sovereign market, because no presiding judge is named here, no receptionist is in sight to accept appeal papers, while no address has been given to which they could be mailed"

From Democracy Incorporated by Sheldon S. Wolin:

"An economy where power was dispersed among countless actors, and where markets supposedly were dominated by no one, rapidly gave way to forms of concentrated power -- trusts, monopolies, holding companies, and cartels -- able to set (or strongly influence) prices, wages, supplies of materials, and entry into the market itself."


Further Conclusions from:

Empire of Illusion - Chris Hedges
Death of Conservatism - Sam Tanenhaus
Interesting Times - George Packer

Other People's Money - recent review of book by Justice Louis D. Brandeis - U.S. Supreme Court (1916-1939)

Industries need to play by rules established during the Progressive Era and by FDR's New Deal. These measures helped the middle class and unions develop and grow - Sectors now out of control: oil, large farms, banking and credit card companies, pharmaceutical, insurance, media, and defense industries.

Traditional or classical conservatism was represented by Edmund Burke, Benjamin Disraeli, and Karl Popper. The administrations of Eisenhower and Nixon tended to encompass the previous or prevailing liberal era, only moderating or slowing the trend. There was not the call for a rollback encouraged by Movement Conservatism represented by Tea Party conservatives and right-wing radio.

The Overton Window - shifting the accepted perceptions... In this case, toward corporatism. For example, Richard Goodwin in 1960s wrote that national health insurance was incorrectly being portrayed as socialized medicine. Anti-union legislation was being re-characterized as right to work. Today, due to more ideological niches, web journalism, and less nuance in public discourse, people seem less able to understand compromise or ambiguity, and more willing to succumb to distortions.

The Economics of QWERTY

Complexity Economics

Federal Reserve Board Policy and Business Activity

Primer on Subprime Mortgages

Housing in the New Millennium: A Home Without Equity is Just a Rental with Debt - Joshua Rosner

 

What follows may be too much extraneous or redundant information; perhaps to be included in separate articles:

Some ambiguities not initially obvious: There are significant shared characteristics of economic (though not political) philosophy through the following people, trends, concepts and parties: mercantilism, Hamilton, Federalists, a central bank, Clay, Whigs, Lincoln, Republicans, high tariffs, von Mises, Hayek, Friedman, corporate capitalism, and government subsidy of corporations.

The insurance conglomerates have reframed the debate. Masquerading as consumer groups or concerned citizens that network don't identify as such. PR firms such as APCO World Wide (Susan Burke) 'Healthcare America' influence court (tort reform.) Connecting with Hollywood to stress connection in public mind.

Dodd-Frank legislation establishing the Consumer Protection Bureau is okay, but compared to 1930s, which gave 50 years, generations of protection and security, which split banks, it is tame.

Wall Street reform and credit republicans fought Dodd-Frank and stimulus for highways which was paid back then banks lobbied for less cons legislation construction states / sanders the socialist insisted that we know through disclosure laws.

CEOs of the largest American companies earned an average of 42 times as much as the average worker in 1980, but 531 times as much in 2001. The richest one percent of Americans now take home almost 24 percent of income, up from almost nine percent in 1976.

Challenges the deceptive idea that unfettered markets solve all and that this is our heritage and Adam Smith.

Derivatives are side bets on ethereal inventions of a computer; paper loans divorced from reality Securitizations of bad paper allowed less responsibility of banks / Savings and Loans in 1980s: first warning Paul O'Neil - 7 percent bank responsibility should be 20 percent / mortgage standards / laughed out of town Glass-Steagall (1930) repeal eliminated all firewalls / islands of safety that used to be commercial banks were now vulnerable too.

"Wall Street lobbyists were ferociously batting proposed reforms of the financial system that would clip the banks' wings and forestall another bailout. Out, for the most part, were seven and eight figure bonuses. In were complicated 'stock options' and 'deferred compensation' that promised equally big returns down the road. - Winner-Take-All-Politics by Jacob S. Hacker

Economic models sometime use a form of game theory. In theory this can predict the social and economic consistencies or contingencies or action. But the world's problem's cannot always be predicted or solved since it only works when people act rationally.

The central aim of The Divine Right of Capital by Marjorie Kelly is to show that the structure and legal base of the modern American corporation bears a great deal of resemblance to the feudal estates of the Middle Ages.

The Economics and Politics of Elizabeth Warren - Simon Johnson, The Baseline Scenario: "Congressional Republicans are apparently intent on a big showdown with Elizabeth Warren, who is currently building up the new Consumer Financial Protection Bureau (CFPB). This is very good news for the White House, if they use this opportunity wisely. Some Republicans seem to think that Ms. Warren is about 'big government' or 'intrusive regulation."

" Unless you become more watchful in your states and check the spirit of monopoly and thirst for exclusive privileges, you will in the end find that...the control over your dearest interests has passed into the hands of these corporations." - Andrew Jackson

 

Austrian School economists conclude that, if the interest rate is artificially low, then the demand for loans will be higher than the actual supply of willing lenders, and if the interest rate is artificially high, the opposite situation will occur. This misinformation leads investors to misallocate capital, borrowing and investing either too much or too little in long-term projects. Periodic recessions, then, are seen as necessary "corrections" following periods of fiat credit expansion, when unprofitable investments are liquidated, freeing capital for new investment. Friedrich von Hayek was a proponent of aspects of the business cycle theory, but the theory is not universally accepted. Paul Krugman considered it unworthy of serious study. A few Austrian School economists, such as Pascal Salin, also suggest that a full-reserve banking system should not be enforced and rather simply root for free banking.

A solution to the present crisis may be found in a study of New Deal economics. As an antidote to what is incorrectly termed free trade, strategic trade policy or New Trade Theory should be explored. What might more successfully come into focus, as an economic direction, could be found by learning about new Keynesian macroeconomics.

The criticisms of such plans are disingenuous as are critics of tax policies

More on the usage of laissez-faire and the invisible hand:

Laissez-faire is a French phrase literally meaning let do ("allow to do"). Though used earlier by Frenchmen M. Le Gendre, P.S. de Boisguilbert, and Vincent de Gournay, an early appearance of the motto in an English text was in the writings of the London merchant Charles Bosanquet in 1808. It was originally introduced in the English language world in 1774, by George Whatley, in the book Principles of Trade, which was co-authored with Benjamin Franklin. Classical economists, such as Adam Smith, Thomas Malthus, and David Ricardo did not use the term. Probably James Mill's reference to the 'laissez-faire' maxim (together with 'pas trop gouverner') in an 1824 entry for Encyclopedia Britannica is what really brought the term into wide English usage.

 

If not too far afield, I'd like to deal with an aspect of critical thinking and the misuse of logic - the use of the undistributed middle in syllogistic sequence. The logical fallacy of false dilemma, also known as the fallacy of the excluded middle, false dichotomy, either/or dilemma or bifurcation, involving a situation in which two alternative points of view are held to be the only options, when in reality there exist one or more alternate options which have not been considered. In this case it takes the form that the choice we must make is between capitalism and socialism.

The first incorrect assumption is that capitalism must be defined as did the Austrian economists or as Milton Friedman's concept of laissez-faire, which as I have shown, successful economies have never had. Second is numerous examples of greatly successful government led systems within our economy which have helped us all such as Social Security, Medicare, and veterans benefits which were assaulted during the Republican congresses between 2001-2006. More specific examples:

Between 1935 and 1943, the WPA provided almost 8 million jobs. Anyone who needed a job could become eligible for most of its jobs. Hourly wages were the prevailing wages in the area; the rules said workers could not work more than 30 hours a week but many projects included months in the field, with workers eating and sleeping on worksites. Before 1940, there was some training involved in teaching new skills and the project's original legislation went forward with a strong emphasis on family, training and building people up.

The WPA built 650,000 miles of roads, 78,000 bridges, 125,000 buildings, and 875 miles of airport runways. Only 7% of the budget was allocated to arts projects, presenting 225,000 concerts and 475,000 artworks -which was the mostly widely criticized of the New Deal agencies, but it did succeed at getting money into the hands of the unemployed. Until closed down by Congress and the war boom in 1943, the various programs of the WPA added up to the largest employment base in most states.

 

Adam Smith mentions the invisible hand metaphor in Book IV of The Wealth of Nations, arguing that people in any society will employ their capital in foreign trading only if the profits available by that method far exceed those available locally, and that in such a case it is better for society as a whole that they do so.

Mattick, Paul (2001-07-08). "Who Is the Real Adam Smith?". The New York Times.
http://www.nytimes.com/books/01/07/08/reviews/010708.08mattict.html

Rothschild, Emma. Economic Sentiments: Adam Smith, Condorcet, and the Enlightenment. Introduction. Harvard University Press.
http://www.nytimes.com/books/first/r/rothschild-sentiments.html

Smith's own limitations:

Smith's vision of a free market economy, based on secure property, capital accumulation, widening markets and a division of labor contrasted with the mercantilist tendency to attempt to "regulate all evil human actions." Smith believed there were precisely three legitimate functions of government. The first function was...

"...erecting and maintaining certain public works and certain public institutions, which it can never be for the interest of any individual or small number of individuals, to erect and maintain... Every system which endeavours... to draw towards a particular species of industry a greater share of the capital of the society than what would naturally go to it... retards, instead of accelerating, the progress of the society toward real wealth and greatness."

In addition to the necessity of public leadership in certain sectors Smith argued, secondly, that cartels were bad because of their potential to limit production and quality of goods and services. Thirdly, Smith criticized government support of any kind of monopoly which always charges the highest price "which can be squeezed out of the buyers" The existence of monopoly and the potential for cartels, which would later form the core of competition law policy, could distort the benefits of free markets to the advantage of businesses at the expense of consumer sovereignty.

 

Conceptions of capitalism and Adam Smith's original analysis, vision, and recommendations are very misunderstood. Here are nine revisits of Smith:

1) The first four paragraphs of this page

2) Noam Chomsky - Notes on NAFTA and Adam Smith

3) The meaning of the invisible hand of the market

4) http://barrybeck.com/forms/foley.pdf

5) Smith and the Markets

6) Corporate Abuse

7) Schumpeter analyzes Smith

8) Relevance to modern trade theories

9) Theory in the New Economy

 

Resources

Baker, Dean - Conservative Nanny State
Bauman, Zygmuntin - Consuming Life
Brandeis, Louis D. - Other People's Money and How the Bankers Use It
Buckley, P. & Casson, M. - Economic Theory of the Multinational Enterprise
Chomsky, Noam - Notes on NAFTA and Adam Smith
Chomsky, Noam - Rulers and the Ruled: Dangerous Disconnect
Ehrenreich, Barbara - Nickel and Dimed
Fosback, Norman G. - Stock Market Logic
Galbraith, John Kenneth - Money - Whence it Came, Where it Went
Greider, William - Secrets of the Temple - How the Federal Reserve Runs the Country
Heilbroner, Robert L. - The Worldly Philosophers
Kennedy, Paul - The Rise and Fall of Great Powers
Murphy, John J. - Intermarket Technical Analysis
Smith, Adam - An Inquiry into the Nature and Causes of the Wealth of Nations
Smith, Adam - The Theory of Moral Sentiments
Diamond, Jared - Guns, Germs, and Steel: The Fates of Human Societies
Foley, Douglas K. - Adam's Fallacy
Galeano, Eduardo - Mirrors: Stories of Almost Everyone
Galeano, Eduardo - Open Veins of Latin America: Five Centuries of the Pillage of a Continent
Hazlitt, Henry - Thinking as a Science
Keynes, John Maynard - The Economics Consequences of the Peace
Keynes, John Maynard - The General Theory of Employment, Interest, and Money
Klein, Naomi - Alan Greenspan Debate
Klein, Naomi - No Logo: The Triumph of Identity Marketing
Klein, Naomi - The Rise of Disaster Capitalism
Korten, David C. - When Corporations Rule
Krugman, Paul - False Arguments Against Economic Action
Krugman, Paul - Peddling Prosperity
Krugman, Paul - Trade and Wages
Nehru, Jawaharlal - Glimpses of World History
Rothschild, Emma - Economic Sentiments: Adam Smith, Condorcet, and the Enlightenment
Schumpeter, Joseph A. - Capitalism, Socialism, and Democracy
Tavakoli, Janet M - Dear Mr. Buffett: What an Investor Learns 1,269 Miles from Wall Street
Tuchman, Barbara W - Practicing History: Selected Essays

Freedom from Fear: The Depression and World War II
Principles of Health Care Reform
Framing the Health Care Debate
Structuring Health Insurance - Quality, Cost & Risk Assessments
The Logic of the Health Care Debate
Principles of Macroeconomics
Amartya Sen - Adam Smith's market never stood alone
Kevin Phillips - Bad Money
Warren Buffett - Trade Deficit: Squanderville vs. Thriftville
William Greider - Bailout of Wall Street
Elizabeth Warren - Bailout Watchdog
Bailout Analysis - Advantages, Disadvantages, Alternatives
New Trade Theory
Douglas K. Foley - Notes on the Theoretical Foundations of Political Economy
Ha-Joon Chang - Bad Samaritans: The Myth of Free Trade & the Secret History of Capitalism
Ha-Joon Chang - 23 Things You Didn't Know About Capitalism
Primer on Subprime Mortgages
Housing in the New Millennium: A Home Without Equity is Just a Rental with Debt - Joshua Rosner

Critical Thinking
The Economics of QWERTY
Complexity Economics
The Best of I. F. Stone

Snick, David - The World is Curved
Sowell, Thomas - Economic Facts and Fallacies
Cantillon, Richard - An Essay on Economic Theory
Chua, Amy - Day of Empire: How Hyperpowers Rise to Global Dominance and Why They Fail
Diamond, Jared - Collapse: How Societies Choose to Fail or Succeed
Skousen, Mark - The Big Three in Economics: Adam Smith, Karl Marx, and John Maynard Keynes
All the Devils are Here: The Hidden History of the Financial Crisis - Bethany McLean and Joe Nocera
Deadly Spin - Wendell Potter
Other People's Money and How the Bankers Use It - Louis D. Brandeis
Capital Offense: How Washington's Wisemen Turned America's Future Over to Wall Street -Michael Hirsh
Plenitude: The New Economics of True Wealth - Juliet Schor
Louis D. Brandeis and the Making of Regulated Competition, 1900-1932 - Gerald Berk
The Logic of Collective Action - Mancur Olson
The Black Swan: The Impact of the Highly Improbable - Nassim Nicholas Taleb
Strategy in Poker, Business and War - John McDonald
A Beautiful Math: John Nash, Game Theory, and the Modern Quest for a Code of Nature - Tom Siegfried
The Great Unraveling - Paul Krugman
The Divine Right of Capital: Dethroning the Corporate Aristocracy - Marjorie Kelly
Winner-Take-All-Politics: How Washington Made the Rich Richer - And Turned Its Back on the Middle Class - Jacob S. Hacker and Paul Pierson
When Money Dies: Nightmare of the Weimar Collapse - Adam Fergusson
Dying of Money: Lessons of the Great German and American Inflations - Jens O. Parsson
The Corporation: The Pathological Pursuit of Profit - Joel Bakan


Recent Books - 2009 to 2011: Still to be Researched:

Confidence Men: Wall Street, Washington, and the Education of a President - Ron Suskind
Debt: The First 5,000 Years - David Graeber he Wall Street Money Machine - Jesse Eisinger & Jake Bernstein
Too Big to Fail: The Inside Story of How Wall Street and Washington Fought to Save the Financial System--and Themselves - Andrew Ross Sorkin
Reckless Endangerment: How Outsized Ambition, Greed, and Corruption Led to Economic Armageddon - Gretchen Morgenson, Joshua Rosner
The Speech: A Historic Filibuster on Corporate Greed and the Decline of Our Middle Class - Senator Bernie Sanders
Willful Blindness: Why We Ignore the Obvious at Our Peril - Margaret Heffernan
Mismeasuring Our Lives: Why GDP Doesn't Add Up - Joseph E. Stiglitz, Amartya Sen, Jean-Paul Fitoussi
Keynes: The Return of the Master - Robert Skidelsky
The Great Inflation and its Aftermath: The Past and Future of American Affluence - Robert J. Samuelson
One Nation Under Contract: The Outsourcing of American Power and the Future of Foreign Policy - Allison Stanger
Democracy Incorporated: Managed Democracy and Specter of Inverted Totalitarianism - Sheldon S. Wolin
Unequal Protection: How Corporations Became 'People' and How You Can Fight Back - Thom Hartmann
Adam Smith: An Enlightened Life - Nicholas Phillipson
American Colossus: The Triumph of Capitalism, 1865-1900 - H. W. Brands

 

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Thoughts on the Implications of Economic Theories  

by Barry Beck

Copyright © 2011 Barry Beck. All Rights Reserved.

No part of this article may be reprinted without the permission of the author. Although, small sections may be quoted as long as the author is given credit.

 

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