The crisis that erupted in 2007 has generated interest in re-thinking economics. As Mark Blyth noted earlier this week, one of the more visible efforts in this respect is the creation of the Institute for New Economic Thinking, INET, committed to promote “new thinking about how to reform our economic system and get economists to better serve our policy makers and our society”. That is certainly a good objective, but you still need to define several key words in that sentence, beginning with “economic system” and “policy makers”.
On the very positive side, INET’s executive director Rob Johnson says the Institute is still defining “on the fly what new economic thinking means”. This good news leaves the doors open for truly innovative thinking. On the other hand, several participants in the first INET conference in King’s College mention the magic words, “shifting paradigms”.
I hope INET offers the opportunity for something a bit more ambitious than just a shift in paradigm, especially if a narrow definition of “paradigm” is used. After all, when we change paradigms, we are still playing the same ball game. It is perhaps more appropriate to think of changing of ball park altogether. And if this is the task at hand, then we need to reconsider the basic building blocks of theory, as well as the nature of our discourse and the boundaries of our field. Let me give one example related to money and ethics.
It is no secret that economic theory has a problem with money, that “portentous issue” (Arrow and Hahn 1971:338). At the starting point of all price theory is the abstraction that puts money outside the field of analysis. This is accompanied by the postulate that commodities are physically determined. Then value theory restores the unit of measure that allows economic discourse to move on to price determination. This is true for classical political economy (and its contemporary Sraffian version). And it certainly is true for neoclassical general equilibrium theory (GET).
When linking monetary and value theory in GET, relative prices are determined first (in terms of physical rates of substitution) and, in a second stage, monetary prices are determined (say, with a version of the Cambridge money equation). Back in 1965 both Patinkin and Hahn showed this procedure was deeply flawed. Today general equilibrium theory remains essentially a theory of barter economics (or a theory where all exchanges are ruled out). At least Debreu (1959 Chapter 2, footnote 3) was frank about this. Can you imagine what people’s reactions would be if told that the most sophisticated model for market theory that economists can put on the table is limited to non-monetary economies?
Integrating monetary theory with value theory remains an esoteric field. Considerable time and effort has gone into solving this problem (for example, using overlapping generations models and search theory), but the results are still unsatisfactory.
It can be argued that macroeconomic theory takes a different starting point and does not examine the value of the common unit of account in terms of a value theory. Perhaps one exception is found in Keynes who thought it was natural “to enquire wherein the peculiarity of money lies as distinct from other assets” (GT, Chapter 17 on “The Essential Properties of Interest and Money”). As we know, this “mysterious chapter” (as Joan Robinson called it) generated more questions than answers.
In other terms, the concept of money remains fuzzy. Now, that’s something that most economists would hate to admit in public. So here’s an idea: new economic thinking cannot continue to abstract from money as a starting point. Money, it can be said, is arguably the most important “economic object” and thus it is truly amazing that economic theory could even think this abstraction is necessary. New economic thinking needs to start afresh in this problem area.
A way to approach this is to understand how prices and money were thought of before economics got in the way. In strong contrast with economic theory, we must stop thinking of money as a simple transactions technology. It is something much more complicated. This probably entails looking at money as a political and ethical object. This leads us into the critical issue of the relations between ethics and economics, a key component of new economic thinking. This is part of my research agenda and will be the theme of a later entry on this blog.
These are all relevant questions, for as Keynes warned one December night in 1935 “the difficulty lies, not in the new ideas, but in escaping from the old ones, which ramify, for those brought up as most of us have been, into every corner of our minds”.
Arrow, K. and F. Hahn (1971)
General Competitive Analysis. San Francisco: Holden Day.