Sunday, August 24, 2014

Do we know how an economy works and do we need to know? No. 000071

Professor Noah Smith, author of Noahpinion had two interesting tweets this afternoon.

First, however, I think it important to note that about the Autor paper which was the basis of my post No. 000068 on China being the cause of FERGUSON Professor Smith wrote on Friday, "MIT prof and economic policy advisor David Autor has written an excellent new paper about labor market polarization, which you should read."

First he wrote:

He continued:

My answer to Professor Smith is that we do know well enough how the economy works and have known at least since the great American Economists Hamilton, Franklin, and Morris used that understanding to write the Constitution and ask the First Congress to replace state Revolutionary War debt with U.S. Government debt and also asked the First Congress to create the Bank of the United States.

In fact, we know so well have the economy works---and that all distribution of income is a political question---that millions if not billions of dollars are raised and spent each year on political campaigns and lobbying for the express purpose of passing legislation that will use known economic principles to the favor of one faction and the loss or another.

What we do not know how to do is perform acts of Alchemy with Economics.

For example, it is not possible to have a trade deficit and a fiscal deficit in the United States and over time have meaningful job growth. Economists lie through their teeth when they said free trade will create jobs, as I point out in No. 000068. Instead, under those circumstances you will have job losses and income declines in the United States.

I put this question to Professor Smith, Doesn't Professor Autor show that to be our knowledge about economics of international trade in his "excellent new paper about labor market polarization?" (page 33).

In closing, let me be clear that I am using Alchemy both literally and metaphorically. I am using the term literally in talking about whether you can create jobs while having both substantial trade and fiscal deficits.

Alchemy also has many metaphorical applications but particularly this applies to Monetary Policy in its sundry forms. Here, I am talking about Alchemy being a lazy way to sound public policy---we can turn the Economy over to the control of the Federal Reserve. One cannot do that any more than one can push string for what we do know about Economics is that there is no law of Economics that says the amount of money available to be lent is equal to the amount of good loans that can be made. There are many reasons why but technology is a prime one. Tomorrow, someone can invent a new technology that completely disrupts the technology on which you relied in making a loan today. It is very easy to understand that when you have a series of new technologies summed up as the Internet, the personal computer, tablets, and smart phones that do disrupts every method of doing business that capital will exceed the good loans that can be made.

The failure then becomes one of imagination. Great Britain became great because it had the imagination to create maritime insurance against the risk of loss of shipwrecks. We, by contrast, have failed to use our imagination to insure against the risk of loss from the storms of new disrupting technology.

In sum, what may be the real problem with Economics is its moral hazard. The existence of the learning and the sincere belief of people that Government will work for the favor of the boarder public good lulls people into believing they may disregard politics and disregard their need to participate in the political process to assure that the Economics we know and understand is applied to their favor.