Stability is destabilising

Minsky didn’t say “Bubbles which aren’t popped early are destabilising” He said the fundamental state of “Stability is destabilizing.” Macro Prudential is an  improvement but won’t stop boom/bust. We must tolerate small downturns to “clear out the deadwood”. So if macroeconomic policy isn’t compression of business cycle, what is it?

Is it causing predetermined recessions (interest rate goes up to 8% once every 7 years), what if we get a supply shock during this cleansing? What is the appropriate way to cause a recession, monetary/fiscal? How much is a toleration – will politicians use as an excuse? Government is slow in responding so we could just think we’re tolerating then end up being pro-cyclical. How the hell will you sell “we’re trying to close down your business for the good of the economy” politically speaking?

These are all very difficult questions and it’s much easier to say Macroeconomics policy should be be anti-cyclical to keep the economy stable and we’ll tweak it a bit with macroprudential to stop those nasty bubbles. Well no I’m afraid not. Minsky and the financial crisis questions macroeconomics objective much more fundamentally than that, we have to face these challenging questions head on. Economics is hard.


The Involuntary “Derp”

In this post, I try to add another dimension to the term derp. This term with this meaning was popularized by Noah Smith in this post.

He defines it as: “The constant, repetitive reiteration of strong priors”.

This un-surprisingly happens a lot on twitter and for convenience it has been shortened. (Though perhaps he could have chosen a word that didn’t sound so silly, but it’ll probably stick like other silly sounding internet words like “blog”).

Anyway, Mike Konczal followed this up with a post about fleshing out the derp concept, when some people are so indoctrinated with their priors that they undergo “denialism” and completely fail to actually engage in the argument.

This got me thinking, the way that Smith and Konczal talk about derp it sounds like a logical error, that once they see that they are participating in derping they put some conscious thought in they will be able to stop.

Though this reminded me of a conversation I had with a friend. She had a strong prior, “Nuclear weapons are bad”. She however read, what she considered to be, well-reasoned, consistent and convincing argument, that we should allow Iran to obtain nuclear weapons (I’m sorry I don’t have the link and haven’t read it, so can’t comment).

This argument contradicted her priors and if she wished to avoid derp she should have updated her priors and all would be well. I know her to be a reasonable person and usually updates her priors when faced with evidence. But she seemed to be in real distress that she couldn’t. She was experiencing what I call “The involuntary derp”.

The involuntary derp:  “Although faced with evidence to the contrary and the wish to update your priors, your prior’s evoke such a strong emotional reaction; you are unable to participate in Bayesian updating.”

There is obviously more to the idea of derp, but this is just perhaps expanding the idea out a little.

The War of Semantics.

There has been a debate on the economics blogosphere about semantics (the most productive kind of debates). This one is specifically about “inflation”.

A lot of tension and pointless arguments are caused by differing definitions in economics. This is dangerous and confusing when trying to build a dialogue. So let’s try to delineate the differing definitions here.

The most common definition of inflation is of course price inflation:
“Inflation is a rise in the general level of prices of goods and services”

When mainstream economists say inflation or you hear about it on the news, what they mean is price inflation.

Then the second most popular definition is that which comes from the later Austrian (Misearian) school which is called either, monetary or base inflation. Here defined by Henry Hazlitt as:

“A general increase in the money supply.”

Now it appears to me that there is a circular definition here, when Misearian economist say staements like: “QE will cause a rise in inflation” all they are really saying is “A rise in the money supply will cause a rise in the money supply”. So it is somewhat understandable when Nick Rowe calls it calls it “a bit daft” or Gene Callahan says it “won’t do”.

Jonathan Catalan here goes so far to say that ‘there really is no “Austrian” definition of inflation. The Austrian definition is the Monetarist definition.’

We then get a riposte from the opposite camp by Robert P. Murphy. He says that they are not the redefiners, and price inflation definition came later, he substantiates this with a quote from Mises’ Human Action:

“The semantic revolution which is one of the characteristic features of our day has also changed the traditional connotation of the terms inflation and deflation. What many people today call inflation or deflation is no longer the great increase or decrease in the supply of money, but its inexorable consequences, the general tendency toward a rise or a fall in commodity prices and wage rates. This innovation is by no means harmless. It plays an important role in fomenting the popular tendencies toward inflationism.”

So here we stand with both sides saying the other has changed the definition for ideological purposes and we should go back to their, respective definition.

Is this really just a boring semantics debate; is there nothing under the surface here? Let’s confuse things a bit more shall we.

As Robert P. Murphy is sometimes describes as an anarcho-capitalist I’m surprised he didn’t bring this up. There exists a third definition of inflation from the Rothbardian camp. Let call this commodity inflation (? If there’s a real name please tell me?):
Any increase in the money supply not backed by commodity money as inflation.

(The commodity mentioned here is normally gold.)

This can be shown in:
Murray Rothbard in Man, Economy, and State: A Treatise on Economic Principles (1962) “The process of issuing pseudo warehouse receipts or, more exactly, the process of issuing money beyond any increase in the stock of specie, may be called inflation. A contraction in the money supply outstanding over any period (aside from a possible net decrease in specie) may be called deflation. Clearly, inflation is the primary event and the primary purpose of monetary intervention. There can be no deflation without an inflation having occurred in some previous period of time. A priori, almost all intervention will be inflationary. For not only must all monetary intervention begin with inflation; the great gain to be derived from inflation comes from the issuer’s putting new money into circulation.” (Rothbard 2004 [1962]: 990).

So there is not even a consistency within the Austrian school (If you consider Anarcho-capitalists part of the Austrian school). So there may be some actual substance to this debate rather than each side just deriding each other and being pedantic over semantics. So the important differences in the schools it highlights is that, some people believe in Friedman’s quote “Inflation is always and everywhere a monetary phenomenon” and hence and quantity theory of money and some don’t.

Let me make this very clear, that the Austrian school is not necessarily a Quantity theory of money school. Menger, Eugen Böhm-Bawerk, Rothbart and many others were not. In fact Mises is one of very few Austrian economists to believe in Quantity theory of money.

This confusion may be why this definition war seems so pointless to everyone. There are many other terms, like this example which cause just as much confusion and ambiguity between the schools of thought. Economics would progress much quicker and more effectively if we were to have a common vernacular in which to discuss, which is why I think that we should just accept that if someone just says inflation they mean “price inflation”, if you want to say “price inflation” every time that is fine. But do not correct and try to purposely obfuscate so that you can claim intellectual depth.

A new loan system.

I’ve been thinking about incentives, not unusually. How can we great a better system of loans and borrowing in the mortgage market.
    There is an incentive for people to take loans that they can’t afford to pay back, because hey a big house, this is nice.
The bankers incentives are a bit more complicated. They we willing to lend mortgages to people who couldn’t afford them  because, house prices were booming and the     increased price of the house would outweigh the loss on the loan and the bank could just reposes the house.

So there is both demand and supply for irresponsible loans.

The concept of my idea is this, as a loan (and the economy) is basically just a relationship of trust, that both parties will uphold their end of a deal, we introduce a trust based loan market.

A loan system whereby your “credit rating” comes from people’s recommendations of you. If you fail to repay your loan then not only your “credit rating” that suffers but the person that gave you your recommendation. Initially this would bring benefit because it would through peer pressure encourage people to pay back their loans and spend responsibly, hence removes demand for un-repayable loans.

Secondly firms will move into the market whereby they will give you their recommendation for a small fee. The firms which recommend people with unrealistic paying back abilities will soon go out of business. Through market forces they will find out the most profitable way to recommend people.

I hypothesise that they will find that the “old fashion” banking system of getting to know your customers through face to face interviews will prevail.

By removing the feckless buyer, who wants a loan they can’t repay, and the the feckless seller, who wants to give them a loan they can’t repay; we produce a method of using market forces to reduce the number of un-repayable loans, promoting economic stability.

Possible side effects:
Intimidation to force people to give them recommendation.
    —You can force people to agree to contracts they don’t want to already.
Cause weaker family bonds when you involve money.
Cause family bonds to become too strong, which leads to people’s individual network to have a natural limit.
    —Would only happen in nuclear family rather than wider.
Irresponsible people tend to have irresponsible children. Therefore this scheme will leave people without anyone they can turn to when they need money.

The “Austerity Vs. Stimulus” distraction.

What seems to concern the media and politicians is only the fiscal policies of Governments. Fair enough you say, depending on your ideology you believe, austerity or stimulus is what going to get you back into a job or get your business moving again, so you can’t really blame people for focusing upon this.

Because people are focusing on this the media and focusing on this because they are just trying to sell, and because those people are voters politicians are focusing on this. I am not suggesting in this article that there is a conspiracy between the media, banks and politicians, this can be addressed in an entirely different another post.


Oh yes where was I; the essence of my argument is the problem is structural not cyclical.

Left avatar: But you can’t say that if the Government invested more, there would be more jobs and the economy would have returned to positive growth faster, surely this is the problem?

This is true, in the short run at least, though I’ll let you fight it out with the right avatar about whether this should be done or not. I however am talking about how we can restructure the economy such it is robust and this doesn’t happen again.

Right avatar: The burden of debt is the problem if we didn’t spend so much in the boom, we would be in a better position to deal with the economy now. Surely the debt is the problem?

Well this is true, we would be able to have counter cyclical policies, if we spent less and also has counter-cyclical policies over the noughties. (However I will be discussing in another blog whether counter cyclic policies are part of the problem.) But this is exactly my point, the incentives are all misguided. It’s not that Labour politicians are incompetent (well more that any other politicians), it’s just they want to be re-elected. Debt is a symptom of the broken economy not the illness itself. (Although you could argue by removing on symptom, you can see the others and more accurately asses the illnesses, as there are many.)

Okay, so I should be more worried about the economic system rather than Government fiscal policies. Didn’t the Vicker’s report sort this all out?

Well no the Vicker’s report by the time it’ll be implemented it’ll be so water down that… well I can’t think of a metaphor but type “watered down” into Google and the the sixth post is about the Vicker’s report. Secondly that’s not the point, A ring fence won’t cure the economy alone. There a a plethora of problems in the economy, this is only one small issue, even only one small issue in banking.

This is all well and good, but what do we do now?

I’m going to settle with you, I don’t have all the answers. I am prepared to discuss with you my potential ideas over the course of this blog, but to be honest I don’t know. Policy makers are going to have to experiment get data back and analyse what works. Experimentation never goes down politically well I know.

Robert May has shown that the banking system works like ecosystem. (May, 2011) but we can expand this looking glasses, to start thinking of the economy as an ecological process and through this looking network, complexity perspective (YAY buzz words) we can design a more robust sustainable economy.


The distraction of Austerity Vs. Stimulus means that the real issue of restructuring the economy is passing by the way side.
I think a case of Noam Chomsky’s idea applies:
“The smart way to keep people passive and obedient is to strictly limit the spectrum of acceptable opinion, but allow very lively debate within that spectrum”

I don’t blame people for being myopic, I don’t blame the politicians for responding to that, I merely hope that opportunity is not missed. We haven’t got a hope in hell of reforming the economy when it’s booming again, as people will see no apparent problem so there will be no call for change.
This is our chance let’s not miss it.

(May, 2011):