Must-read: Diane Coyle (2013): “Learning Economic Lessons from Asia”

Must-Read: Diane Coyle (2013): Learning Economic Lessons from Asia: “Studwell… conclude[s]… successful economic development… follow[s]…

…(1) An initial land reform… family-based labour on small farms has proven a far better footing than greater use of capital equipment at large scale for improving productivity…. In addition, the increased incomes of largely rural populations are vital for growing the domestic market for manufactures…. Land reform is politically difficult… needs to be accompanied by… extension support, rural credit and infrastructure investment.

(2) The next stage is to grow domestic manufacturing… [via] ‘industrial policy’… much subtler than the [mere] use of trade barriers… (i) a willingness to use government funding to support domestic manufacturers until they reached a scale that would make them globally competitive… (ii) opening domestic markets to imports of key inputs for exporters….

(3) The third stage extending the role of financial services, while keeping finance on a short leash…. Any economist who thought globalisation was a turbulent but broadly good thing (this includes me) surely has to accept that there was too much liberalisation of cross-border portfolio flows, and that emerging economies should keep the ability to control these flows in their policy armoury….

It’s a model of tying together historical knowledge, empirical evidence and analysis. It is also a good complement to Justin Yifu Lin’s The Quest for Prosperity: How Developing Economies Can Take Off, which sets out a Chinese policy maker’s perspective…

Weekend Reading: Diane Coyle (2012): Do Economic Crises Reflect Crises in Economics?

Diane Coyle (2012): Do Economic Crises Reflect Crises in Economics?: “The problems with economics: (1) Theory…

…There is a well-known joke about economic methodology. Two friends are walking along when one spots a €50 note on the floor. “Look!” he says, “Let’s pick up the money.” His friend, an economist, replies: “No, don’t bother. If it were really there, somebody would have picked it up already.” The joke of course is about the lack of realism in the assumptions economists conventionally make in order to analyse the real world….

In practice, the version of this assumption used in applied analysis is rarely as strong. In practice, it is more like: given the limited information available to them, and the various transaction costs they face in taking certain courses of action, and given that the future is very uncertain, we’ll assume people act broadly in their self-interest, however they would define that. I would strongly defend the use of this contingent version of the standard assumption as it’s a powerful analytical tool…. Modern institutional economics, which is a thriving area of research, is founded on the use of the rationality assumption as a tool of analysis. If people do not seem to be making the rational choice, then looking at the difference between what would happen if they did so and the reality is instructive….

I would defend using the assumption of rational choice as long as one realises that it is not a description of reality. But there is one area where for 30 years economists – and others – have been making that mistake. That is, unfortunately, of course, in the financial markets. Practitioners and policy makers acted as if the strong form of the Efficient Markets Hypothesis held true – in other words that prices instantly reflect all relevant information about the future – even though this evidently defies reality. What’s more, a political philosophy valuing limited government leapt on what was taken as proof that markets left to themselves deliver better economic outcomes. This was translated as the deregulation of markets, especially financial markets, and became entwined with the growing importance of the finance sector in the economy globally. So politics fed the trend. The computer and communications technologies fed the trend as well, by making more and more financial transactions possible.

I think an honest conventionally-trained economist has to at least acknowledge that we grew intellectually lazy…. A particular ideological version of economics became the framework for analysing public policy, and very few mainstream economists challenged that. We got on with our work and ignored the importance of the public rhetoric….

A looser version is that a public sphere founded on the world view of narrow, rational choice economic models has over time led people to behave like the selfish, calculating beings assumed in those models. If regulations assume that you are going to behave in a certain way, there must surely be a temptation to live up to the assumption. I don’t know if this theory of economic performativity is true; perhaps the causality runs the other way, and a period of free-market politics especially in the US and UK changed the character of economics? We can’t test these alternatives, but this criticism is worth considering….

The financial and economic crisis [thus] spells a crisis for certain areas of economics, or approaches to economics. Financial economics and macroeconomics are particularly vulnerable. They are the subject areas where the consequences of the standard assumptions have been most damaging, because they are actually least valid. Financial market traders are not remotely like Star Trek’s Mr Spock, making rational calculations unaffected by emotion or by the decisions of other people. Macroeconomics – the study of how millions of individual decisions aggregate into economy-wide measures – is essentially ideological. How macroeconomists answer a question like ‘What will be the effect of cutting the budget deficit on growth next year?’ depends on their political views. This is not remotely a scientific area of the discipline….

I can’t omit here a few other problems with economics as it has been practised… the economics curriculum in universities… gives too much time to macroeconomics, on which as I just argued there is no professional consensus…. They have little sense of economic history…. Students are also not systematically taught new aspects of the subject…. Undergraduates are also taught as if they are all planning to go on to study for a doctorate and become academic economist…. Finally, many of these under-cooked economics graduates go on to work in government…. There are some good reasons for this special status – I’m about to come on to those – but the influence economists have in government needs seasoning with a corresponding degree of humility. One side-effect of the crisis may be to make economists a bit more humble, which would be a good result.

Lunchtime Must-Watch: Thomas Piketty: Capital in the Twenty-First Century

Capital in the Twenty-First Century: “What are the grand dynamics that drive…

…the accumulation and distribution of capital? Questions about the long-term evolution of inequality, the concentration of wealth, and the prospects for economic growth lie at the heart of political economy. But satisfactory answers have been hard to find for lack of adequate data and clear guiding theories. In Capital in the Twenty-First Century, economist Thomas Piketty analyzes a unique collection of data from twenty countries, ranging as far back as the eighteenth century, to uncover key economic and social patterns. His findings will transform debate and set the agenda for the next generation of thought about wealth and inequality…

Plus:

Diane Coyle: Capital and Destiny: “It is with some trepidation that I offer my review of Thomas Piketty’s Capital in the 21st Century….

Piketty’s construction of a long-run multi-country World Top Incomes Database for income and wealth, along with Emmanuel Saez and Anthony Atkinson, is a magnificent achievement…. Piketty shows that the income share of (marketed financial) capital (at market values) declined substantially in the second half of the 20th century but is now climbing again. His argument is that this increase is a near-inexorable trend. The mid-20th century decline was essentially the result of Depression and war, or in other words, the massive destruction of assets and social dislocation; and the capital share stayed low for some decades because economic growth was unusually high, which–he argues–will no longer be the case. Specifically, population growth has slowed or turned negative, and Piketty is clearly gloomy about the prospect of productivity growth.

It’s clear that many readers have taken this argument as a given without concerning themselves about how it adds up. It is based on two equations… the share of capital in national income (α) is defined as the rate of return on capital (r) times the ratio of the capital stock to income (β)… an accounting identity … [and] a ‘steady state’ condition: when the economy settles down in a stable way in the very long run, at its long-term potential growth rate, the ratio of capital stock to income equals the savings rate (s) divided by the growth rate (g)….

Piketty notes….

The inequality r > g is a contingent historical proposition, which is true in some periods and political contexts and not in others…

The exception was the latter part of the 20th century…. I am sceptical about the economy ever reaching the balanced growth state…. I’m also doubtful that the saving rate would not adjust…. I also wish Piketty had spent more time discussing the rate of return…. James Galbraith’s point… is marketable capital consisting mainly of financial assets the right definition to plug into a balanced growth model?…

The sense of inevitability or otherwise does matter. Piketty’s policy proposal is a global wealth tax. He’s acknowledged how unrealistic this is, but says it’s important to change the intellectual climate. True, but how about also debating the rigged markets in finance and the corporate legal framework that have contributed so significantly to the growth in very high incomes, which are quickly turned into new wealth? What about income and inheritance taxes? And rather than treating savings, the return on capital and the growth rate as givens, isn’t it worth thinking about what determines them, and what actually determines causality in the book’s simple algebra. I’m glad Capital in the 21st Century has succeeded…. It’s just a bit of a shame it does so in such a deterministic–and therefore disempowering–way.