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By Michael Hudson
There is a seeming riddle in the recent evolution of economic thought. It has become more otherworldly and abstract, more detached from the reality of how economies are running deeper into debt to a financial oligarchy. The global economy itself is polarizing between creditor and debtor nations, financial core and periphery (even as the United States manages to play both sides of this street). Yet academic orthodoxy treats this as anomalous, side-stepping the two key features of today's economic crisis: the "magic of compound interest" multiplying debts owed by the bottom 90 percent of the population to savers among the top 10 percent, while industrial capitalism is turned into a "tollbooth economy" by privatizing rent-extracting privileges on what used to be the public domain.
Academic rationalizers of today's economic policy use models that deny that such as failure could exist in the first place. Yet mathematically inclined economists claim that their discipline has become a science. It may seem natural enough for the hallmark of science to be mathematics, but the real issue should not be universals but rather how nations are diverging economically and how this is a result of policy, not the presumably automatic workings of "free markets." The mathematical boys confuse social sciences grounded in history and jockeying for political power with the universals of physics. We should be glad that they finally have dropped equilibrium theorizing, but game theory and chaos mathematics still do not address the key causal dynamics at work.
Pseudo-science
wielded on behalf of special interests turns mathematical abstraction
into a vehicle to strip away what used to be the major concern of
classical political economy, and indeed economic reform, over the
past two centuries. The aim
of classical value and price theory was to isolate land rent,
monopoly rent, and financial interest and fees (and "capital"
gains) as a free lunch accruing to privilege.
Chicago
School practitioners of free-market mathematics crow that "there
is no such thing as a free lunch," distracting attention from
economic reality by dropping the history of economic thought and
economic history itself from the curriculum. The very idea that there
is such a thing as a free lunch is deemed heretical. This idea now
governs academic departments and monopolizes
the most prestigious economic journals, without publication in which
it is difficult for junior faculty ever to rise to tenured positions
in their universities. The aim is to censor the perception
that today's economy is all about getting a free lunch by obtaining
legal privileges, as exemplified by the
recent U.S. health care HMOs, the bailouts over banks deemed "too
big to fail" and other beneficiaries of government
largesse.
Most wealth
through the ages has come from privatizing the public
domain. Europe's landed aristocracy descended from the Viking
invaders who seized the Commons and levied groundrent. What is not
taken physically from the public domain is taken by legal rights: HMO
privileges, banking privileges, the rezoning of land, monopoly
rights, patent rights everything that falls under the character of
economic rent accruing to special privilege, most recently notorious
in the post-Soviet kleptocracies, and earlier in the regions of the
world colonized by Europe. (The word "privilege" derives
from the Latin, meaning "private law," legis.) These
bodies of privilege are what make national economies different from
each other.
Classical economists, the original "liberals",
were reformers with a political agenda. The "scientific"
mathematizers seek to strip away their agenda, above all by exiling
the analysis of rent extraction and special privilege to the academic
sub-basement of institutionalism, claiming that a sphere of study
that is not mathematized cannot claim the mantel of scientific
method. The problem with this reactionary stance is that attempts to
base economics on the "real" economy focusing on technology
and universals are so materialistic as to be non-historical and
lacking in the political element of property
and finance. By the 1970s, for example, economic observers
were talking about the convergence of the Soviet Union and America on
the ground that each used virtually the same technology, along with
Japan and Western Europe. For that matter, as early as the Bronze Age
(3200-1200 BC) the economies of Mesopotamia (Sumer and Babylonia),
Egypt, the Indus Valley and other regions all shared a similar
technology, but each had entirely different economic and social
systems. A "real" economic analysis focusing on their
common denominators would miss the distinct ways in which each
accumulated wealth in the hands of (or under the management of) a
ruling elite different modes of property and
finance, and hence with what the classical economists came to
classify as "unearned income."
Mathematizing
economics and its claims to become a science overlooks these
institutional differences, including the land rent and other revenue
that John Stuart Mill said landlords made "in their sleep."
What this approach leaves out of account is the social policy
wrapping for technology. If we lived back in 1945 and were told of
all the marvelous technological breakthroughs of the past
half-century, we would imagine that societies would now be living a
life of leisure. Why has this not occurred? The reason is largely to
be found in the predatory behavior that has enriched the finance,
insurance and real estate (FIRE)
sectors.
For
classical and Progressive Era economists, the word "reform"
meant taxing economic rent or minimizing it. Today it means giving
away public enterprise to kleptocrats and political insiders, or
simply for indebted governments to conduct a pre-bankruptcy sale of
the public domain to buyers (who in turn buy on credit, subtracting
their interest payments from their taxable income). The global
economy is being "financialized," not industrialized in the
way that most economic futurists anticipated would be the case a
century ago.
One
would think that this should be the focus of economic theory and the
mathematics it uses backed by appropriate statistical categories so
that the mathematics would have something empirically quantitative as
their subject matter, not merely Greek letters. That this has not
occurred should throw the whole mathematical
fad in question as being fundamentally dishonest and captured by the
special interests. And this political use of mathematics
merely as a rhetorical ploy should not be welcomed as science. It is
simply deception.
The problem is not mathematics as such, but
the junk economics and junk statistics used by the mathematicians who
have captured the discipline of economics. For contrast, one need
only turn to the 19th century's rich toolbox of economic
concepts developed to analyze today's most pressing problems. What
could be more relevant, for example, than the question of whether the
exorbitant salaries and bonuses that bankers pay themselves are
unfair, and how much they should fairly charge for their services? To
answer this question the 13th-century Schoolmen developed the theory
of Just Price. For the next six centuries down through the late 19th
century, economists refined the distinction between technologically
necessary costs of production and "free lunch"
exploitation, using the labor theory of value to define intrinsic
costs (reducible to labor, including that embodied in the capital
goods and other materials used up in production) and the
complementary concept of economic rent (unearned income above these
costs, that is, market price less cost value).
To what extent
does our burdensome and intrusive debt overhead grow faster than the
economy¹s ability to pay, and what is the best policy to deal
with excessive debts? Already in 1776, Rev. Richard Price dealt with
the "magic of compound interest", its tendency to grow
exponentially ("geometrically") while the economy grew at
only simple ("arithmetic") rates. This idea survives only
in the form that Malthus borrowed in his 1798 population theory.
The
overburden of public debt prompted Adam Smith to comment that year
that no government ever had repaid its debts, and to propose means to
keep it in check by freeing the American colonies that were a major
source of conflict with France, for instance, and most of all, by
paying for wars out of current taxation so that populations would
feel their immediate cost rather than running into debt to
international bankers such as the Dutch. Interest on Britain's public
debt absorbed three-quarters of its fiscal budget after the
Napoleonic Wars. Writers such as Malachy Postlethwayt analyzed how
this debt service added to the cost of living and doing business. His
logic along these lines is part of the lost science of classical
political economy.
The early 19th-century French reformer
St. Simon proposed that banks shift from making straight
interest-bearing loans to "equity" loans, taking payment in
dividends rather than stipulated interest charges so that debt
service would be kept within the means to pay. (Islamic law already
had banned interest.) This became the inspiration for the industrial
banking policies developed in continental Europe later in the
century. St. Simon influenced Marx, whose manuscript notes for what
became Vol. III of Capital and Theories of Surplus Value collected
what he read from Martin Luther to Richard Price on how debts
multiplied by purely mathematical laws independently of the "real"
economy¹s ability to produce a surplus. The classical concept of
productive credit was to provide borrowers with the means to pay.
Unproductive debts had to be paid out of revenue obtained
elsewhere.
This distinction threatened the financial sector's
option of making unproductive loans. More congenial were the Austrian
School and marginal utility theorists who depicted debt as a
voluntary trade-off of present consumer utility ("pleasure,"
not need) for future income that presumably would rise, thanks to the
prosperity brought in the train of technological progress. Interest
paid by consumers was treated as a psychological choice, while
industrial profit was treated as a return for the widening time it
presumably took to produce capital-intensive goods and services. The
ideas of "time preference" and the "roundabout"
cycle of production were substituted for the simpler idea of charging
a price for credit without any out-of-pocket cost or real risk
undertaken by bankers. The world in which economic theorists operated
was becoming increasingly speculative and hypothetical.
Financial
analysis turned away from viewing interest as a form of economic rent
income achieved without a cost of production. After the Napoleonic
wars ended in 1815, Britain's leading bank spokesman, David Ricardo,
applied the concept of economic rent to the land in the process of
arguing against the agricultural tariffs (the protectionist Corn
Laws) in his 1817 Principles of Political Economy and Taxation. His
treatment deftly sidestepped what had been the "original"
discussion of rentier income squeezed out by the financial
sector.
T