Friday, February 6, 2009

Taking a Stab at Understanding the Economy

Alright, I'm going to give this a shot. Bear in mind that I am not an economist (the proof is in my checking account!). I'm only trying to make sense of a rather challenging analysis.

Former Congressman Dick Armey wrote a very interesting column in the Wall Street Journal. In it he contrasts the philosophies of John Maynard Keynes and Nobel Prize winner Freidrich Hayek. His thesis is that the Keynesian economic philosophy of government spending during times economic hardship actually create the very troubles that they seek to avoid, while Hayek's philosophy of the free market eventually produces the fiscal wherewithal necessary to create the prosperity by which democratic countries survive and thrive.

Let's let Armey speak for himself:

"President Barack Obama and congressional Democrats (very few of whom likely have read Keynes's 1936 book "The General Theory of Employment, Interest and Money") have dug up the dead economist's convenient justification for deficit spending in defense of their bloated stimulus legislation. But none ask the most important question: Was Keynes right?

"According to Nobel economist Friedrich Hayek, a contemporary of Keynes and perhaps his greatest critic, Keynes "was guided by one central idea . . . that general employment was always positively correlated with the aggregate demand for consumer goods." Keynes argued that government should intervene in the economy to maintain aggregate demand and full employment, with the goal of smoothing out business cycles. During recessions, he asserted, government should borrow money and spend it."

Citing yet another Nobel award winner, Armey continues, "A father of public choice economics, Nobel laureate James Buchanan, argues that the great flaw in Keynesianism is that it ignores the obvious, self-interested incentives of government actors implementing fiscal policy and creates intellectual cover for what would otherwise be viewed as self-serving and irresponsible behavior by politicians. It is also very difficult to turn off the spigot in better economic times, and Keynes blithely ignored the long-term effects of financing an expanded deficit."

"It's clear why Keynes's popularity endures in Congress. Intellectual cover for a spending spree will always be appreciated there. But it's harder to see any justification for the perverse form of fiscal child abuse that heaps massive debts on future generations."

My issue with Armey (who by the way is an economist), is two-fold: one it assumes a morality within the market which last year showed itself sorely lacking.

While some have persistently blamed the financial greed of middle class and poor people who, 'bought mortgages they could not afford'. But Alan Greenspan in his appearance before Congress last year tells us that this blame can be shared, "...Mr. Greenspan, who was first appointed by President Ronald Reagan, placed far more blame on the Wall Street companies that bundled subprime mortgages into pools and sold them as mortgage-backed securities. Global demand for the securities was so high, he said, that Wall Street companies pressured lenders to lower their standards and produce more “paper.”

'The evidence strongly suggests that without the excess demand from securitizers, subprime mortgage originations (undeniably the original source of the crisis) would have been far smaller and defaults accordingly far lower.'

Greenspan "...admitted that his faith in the ability of free and loosely-regulated markets to produce the best outcomes had been shaken: 'I made a mistake in presuming that the self-interests of organizations, specifically banks and others, were such as that they were best capable of protecting their own shareholders and their equity in the firms.' "
It seems to me that Armey assumes a moral capacity existing in corporations that are not in evidence, based on their role in our countries economic collapse.

But secondly, there's also something interesting about Armey invoking Fredriech Hayek's embrace of free market capitalism. He says that he doubts that very few Democrats, including the President have read Keynes' "The General Theory of Employment, Interest and Money." I haven't either (just wasn't required reading for ministerial students).

Walter Block, an associate professor of economics at the College of the Holy Cross, heavily criticizes another work of Hayek called 'The Road to Serfdom'. Hayek appears to have back tracked from an unfettered support of capitalistic principles. According to Block, "...Hayek calls for exceptions to the rule of laissez-faire capitalism with regard to "handling of the monetary system." Later, he [Hayek] reiterates this Keynesian point: "There is . . . the supremely important problem of combating general fluctuations of economic activity and the recurrent waves of large-scale unemployment which accompany them."

In 'The Road to Serfdom' Hayek asserts the right of the state to intervene in corporations' ability to limit work hours, regulate markets and (gasp) provide welfare, "There is no reason why in a society which has reached the general level of wealth which ours has attained . . . security against severe physical privation the certainty of a given minimum of sustenance . . . should not be guaranteed to all without endangering general freedom. . . . There can be no doubt that some minimum of food, shelter and clothing, sufficient to preserve health and the capacity to work, can be assured to everybody."

There's much more to this, but again, I'm not an economist. But it seems as if Dick Armey didn't read 'The Road to Serfdom', published in 1944. It seems as if he (Hayek), is saying that markets have a place, but they must be monitored and government has the right -and the responsibility -to intervene, should the market become misaligned with the interests of national welfare.
Isn't that the position we're in now? I'd love to hear from you economists out there!


Patricia said...

Great synthesis of complex ideas, Reverend!
I think another "proof" that this free market just doesn't work as its supposed to, is the state of so many developing countries in the world: often in a worst economic/social/health situation now, despite having had to follow all the World Bank's (free market) instructions of privatizing, cutting social spending, etc.etc.- These actions were supposed to develop healthy economies: hardly the case if one looks at the most recent U.N. reports.

Alan Bean said...

I'm not an economist either. If I were, I could employ a more expansive technical vocabulary to express my utter confusion. The scary thing about the current situation is that no one seems to have a handle on the problem. Everybody's guessing. Republicans in Congress have little reason to support Obama's call for a generous stimulus package. If it works, Obama looks good and no one remembers that the measure enjoyed Republican support. If it doesn't work, Obama looks bad and Republicans can celebrate their principled opposition to a failed policy. In other words, it's in their best political interest to oppose the plan. But hardly anyone is speaking with much authority these days. The free marketers have watched their pet theories collapse before their eyes. The only alternative appears to be George Maynard Keynes--but can we be sure that Keynes wasn't just whistling in the wind. This ain't rocket science. Rocket scientists aren't encumbered by human intangibles like greed and fear--the true drivers of the economy.