Monday, July 18, 2011



By Tony Noerpel

“Economics may make our recessions deeper, longer and more intractable, when the public is entitled to expect economics to have precisely the opposite effect.” Steve Keen, Debunking Economics [1].
Viewed from outside the economics discipline has three salient characteristics. First economics does not take into account energy flow through society. Second, after three centuries economics has not developed a single universally accepted theory within the discipline. Third economics cannot make successful predictions nor give useful advice. It would be difficult to claim economics is a science.
As to my first complaint, there have been several economists who have recognized the importance of energy flow within an economy including notably Frederick Soddy [2], Nicholas Georgescu-Roegen [3], Robert Costanza [4] and Herman Daly [5] and at least two schools of economic thought have evolved which concede the importance of entropy: ecological economics and biophysical economics. To be precise, the economy runs on exosomatic energy and is ultimately limited by low entropy sources as well as high entropy wastes. Economic schools which ignore energy flow (most of them apparently) cannot possibly be useful. Ecologists, anthropologists, climate physicists and scientists and engineers in other disciplines recognize that complex systems are chaotic, dynamic and non-linear. The human economy is a complex system. It cannot be modeled as a static linear system simply because that’s what economists know how to do.
The failure of modern economics is not limited to the resource side of the human economy but is evident on the output or waste side as well. Anthropologists such as Jared Diamond [6], William Catton [7] and Joseph Tainter [8] recognize the importance of the accumulation of high entropy waste as destructive to economies and society. Most economic schools turn a blind eye towards the profound environmental costs associated with unregulated free markets.
As to my second observation, there are not a plethora of diverse schools of physicists. There is not a school of physics which rejects Newtonian Mechanics or believe that gravity is repulsive or that things fall up. There are no biologists who doubt Darwin’s theory of natural selection. Your computer and your smart phone work because engineers universally accept Quantum Mechanics and Maxwell’s Equations, and these theories turn out to be exceptionally good models which we can use to predict how the real world works. Nothing of the sort exists in economics. Friedman has his followers, Marx his, Schumpeter his, and Keynes his and so on who apparently squabble amongst themselves while never understanding the big picture. This does not mean that there are not fundamental truths which might be applied to the human economy, just that economists as a group have not discovered them. Economics as a discipline has degenerated into collection of ideologies far outside the influence of the scientific method.
The most pervasive, notorious and destructive school of economics in the United States today is the extreme free-market school of Milton Friedman and Ayn Rand. In fact, the Ayn Randian economist Alan Greenspan was forced to concede “I made a mistake.” in testimony before Congress, October 23, 2008. The Wall Street Journal article continues: “In his prepared remarks to the committee, Mr Greenspan said he was in “a state of shocked disbelief” about the breakdown in the ability of banks to regulate themselves.” Skeptics were not shocked.
Before there is a misunderstanding, my targets are ideologies. Communist central planning and unregulated capitalism to a skeptical thinker are different variations of the same thing. To criticize the deficiencies of one is not to praise the other. It is possible to recognize the limitations of both of these extreme opinions. Specifically, the United States today does not have a problem with too many liberal ideologues nor is it in danger of falling into the hands of communists hordes. We are overrun with conservative ideologues. They are worse than stink bugs.
Regards my third observation, the exception which proves the rule is Nouriel Roubini’s forecast on September 7, 2006 of the recent economic collapse while addressing an International Monetary Fund meeting in Washington D. C. [9]. He predicted that the nation’s economy would soon suffer “a housing bust, a brutal oil shock, sharply declining consumer confidence and an inevitable deep recession.” His speech was greeted by economists with shocked disbelief. Had he given the same talk even several years earlier to a gathering of the peak oil community (biophysical economists, scientists and engineers who all understand entropy), it would have been unremarkable except for the rich detail he provided. What puzzles me is not Roubini’s prediction which in my view was robust but the reaction of the economic community to this bit of reality revelation. Robert Shiller also accurately predicted the housing bubble [10] but by contrast the neo-classical economists Margaret and Gary Smith estimated that housing was cheap in 2006, just before the collapse [11]. Neo-classical economists of the Friedman/Rand ilk are shackled to their absurd ideology.
More revealing perhaps is John McCain’s economic advisor, economist and former senator Phil Gramm’s remarks in an interview with the Washington Times, July 9, 2008 “You’ve heard of mental depression; this is a mental recession …We have sort of become a nation of whiners” The recession officially began in the fourth quarter 2007. Not only cannot neo-classical economists make reliable forecasts, they cannot predict events which have already happened.
The economist Steve Keen writes, “economics would have us believe that it is a science, fully able to stand tall beside the more conventional physical sciences and mathematics…you may be inclined to doubt that belief.…The position I favor is that economics is a science, but a rather pathological one. I am particularly critical of what has occurred since 1950, but I still hold out hope of better behavior in the future.”
“But before better behavior can take widespread root, economics will have to wean itself from a methodological myth. This is the proposition first put forward by Milton Friedman that a theory cannot be judged by its assumptions but only by the accuracy of its predictions.”
This methodological myth is called the F-twist in Friedman’s honor. He first articulated this remarkable bit of logic in a 1953 paper when confronted with the fact that his assumptions underpinning his economic theories were wrong. In Standard English the F-twist logic is that it does not matter if one’s assumptions are invalid (which fact Freidman readily conceded) so long as one ends up with the correct result. How one is supposed to know that one’s results are correct when the assumptions are clearly wrong is left as an exercise for the skeptic. Free-market economists don’t ask questions.
Keen describes a battle that took place in the 50’s and 60’s between the economic heretics of Cambridge University and the economic true believers led by Paul Samuelson of MIT. Keen writes “Summing up the conflict in 1966, Paul Samuelson observed that the heretics ‘merit our gratitude’ for pointing out that the simple homilies of economic theory are not in general true.”
Keen quotes Samuelson: “If all this causes headaches for those nostalgic for the old time parables of neoclassical writing, we must remind ourselves that scholars are not born to live an easy existence, We must respect, and appraise, the facts of life.”
Keen’s book is well worth the read. With regard to my first complaint that economics ignores energy flow, Keen writes in his introduction that his aim is to debunk the discipline using economic arguments themselves and so prove that it is internally inconsistent. This he does masterfully. He does acknowledge in a footnote that any evolution of economics towards assimilating reality has to account for environmental degradation. I asked Keen privately why he excluded ecological economics from his list of alternative economic theories and he replied: “I was limited by space to comparing only the larger schools of thought in economics, and unfortunately ecological economics is still small compared to Post Keynesian, Austrian, etc.” And indeed he does cite several papers by Costanza, a biophysical economist. Keen is preparing a second edition to be published this fall.
During the 1970’s the biophysicist Carl Woese, discovered that what biologists once thought of as one domain of life, bacteria, was in fact two distinct domains of life, bacteria and archaea, while studying their RNA. This raised the hackles of biologists and taxonomists initially, but because he had the data, the biologists in short order got over the angst of being scooped by an outsider and now fully embrace Woese’s new tree of life. It took maybe a decade. During the same time period, the four authors of Limits to Growth, Donella Meadows, Dennis Meadows, Jorgen Randers and William Behrens, systems analysts, scooped economists by applying dynamic modeling to economics. Economists reacted with vitriolic, nauseating and irrational jealousy and not just initially but to this day. If economics were a real science, they’d have capitulated within a decade just like the biologists. Instead, the economists’ assault was so effective, that even today, whenever I mention the Limits to Growth, I’m informed that the reason the Meadows et al got it wrong was that they didn’t take economics into account and ignored price signals, substitution and the law of supply and demand and so on. I’m amused. They got it right and specifically because they did ignore economics. And there is no substitution for low entropy.
One might better ask why a genius of the caliber of Friedman got it wrong. In The Believing Brain [12], the psychologist Michael Shermer writes “smart people believe weird things because they are skilled as defending beliefs they arrived at for nonsmart reasons.” Keen explains that undergraduate economics text books are so bad that critical and skeptical thinkers are systematically weeded out by Econ 101. Only ideologues survive into graduate studies in economics. My own personal experience is with the neo-classical economist Gregory Mankiw’s unreliable and unverifiable text book [13]. This is the only text book I’ve seen which has no references. It is simply shoddy propaganda.
Unfortunately, for all of us, Keen may be forced to hold out hope economics gets its act together for a long time.
There is some good news. The physical chemist Ugo Bardi has just written Limits to Growth Revisited which covers the technical aspects of dynamic modeling as well as the “political reactions to the original, how it was demonized and misunderstood, and what is its relevance to the present situation of the world” [14]. And one of the original authors of Limits to Growth, Jorgen Randers, is preparing a sequel to be published sometime next year [15].
[1] Steve Keen, Debunking Economics, 2001. ON Keen’s web site there is indication that Keen is preparing an updated version to be released soon, so you may want to wait for that.
[2] Frederick Soddy, Wealth Virtual Wealth and Debt, 1926.
[3] Nicholas Georgescu Roegen, The Entropy Law and the Economic Process, 1971, 1999.
[4] Robert Costanza, Lisa Graumlich, Will Steffen, eds., Sustainability or Collapse, 2005.
[5] Herman Daly, Beyond Growth, 1996.
[6] Jared Diamond, Collapse, 2004
[7] William Catton, Bottleneck, 2009.
[8] Joseph Tainter, The Collapse of Complex Societies, 1988.
[9] Nouriel Roubini and Stephen Mihm, Crisis Economics, 2010.
[10] Robert J. Shiller, “Long-Term Perspectives on the Current Boom in Home Prices,” Economists’ Voice March, 2006.
[11] Margaret Hwang Smith and Gary Smith, “Bubble, Bubble, Where’s the Housing Bubble?” Preliminary draft prepared for the Brookings Panel on Economic Activity, March 30-31, 2006.
[12] Michael Shermer, The Believing Brain, 2011.
[13] Gregory Mankiw, Principles of Economics, 2007

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