The title of this post, by regular Triple Crisis contributor Jeff Madrick, references the adage “It’s the economy, stupid!”—coined by leaders of Bill Clinton’s successful 1992 presidential campaign, as a reminder to emphasize economic issues. Madrick, however, argues that both major political parties in the United States are afflicted by bad economic ideas, especially simplistic “invisible-hand thinking.” These bad ideas, he argues, result in bad policy, including a view of government deficits as an unmitigated evil, a fixation with very low inflation rates, and a tolerance of excessive inequality.
How much do ideas in economics matter? I raise the issue because I just published a book called Seven Bad ideas: How Mainstream Economists Have Damaged America, and some commentators have doubted the potency of ideas themselves. At the heart of the damage I describe—stagnant wages, inequality, a dearth of public investment, a growing class culture, repeated financial crises—is an over-simplified faith in the invisible hand, which in mainstream thinking not only rules individual markets fairly but also the entire economy with no interference from government. Demand and supply will meet as prices shift to establish a balance between then two. The faith in such general equilibrium continues strong because partly it makes economics so much easier to do. It also conforms to the ideological turn in America against trust in government.
There is absolutely no proof that general equilibrium actually exists, however, which Jonathan Schlefer has taken pains to point out. I’d argue the Democrats got a whipping in the mid-term elections because of such faith in the invisible hand and related ideas—to put it simply, because of bad economic ideas. I will explain further.
Economists will always deny that they take the invisible hand that seriously. They acknowledge that for it to work as Adam Smith suggested requires many assumptions: a free flow of information, complete lack of monopoly power, a pure and simple mechanism to discover the right price. It is a metaphor for how markets could work, not how they do work.
But as I stress in the book, it is too alluring an idea. Kenneth Arrow, who understands its limitation better than anyone, called it one of the most important contributions in history of intellectual thought. James Tobin called it one of the greatest economic ideas of all time. But, as I say, this idea is so beautiful, it overpowers good sense.