Commercial activity contracts in all nine monitored sectors

Last week John Major, former PM, was saying he could see green shoots.

Meanwhile Markit Economics says in a 12 Sept press-release "Commercial activity contracts in all nine monitored sectors". Note that this is a survey rather than a forecast so is less likely to be bullshit, though their methodology and error rates are still entirely obscured.

Meanwhile in Europe “The Eurozone downturn gathered further momentum in September, suggesting that the region suffered the worst quarter for three years.

You have to ask what the fuck Major had been smoking - or why anyone is interested in what he has to say anyway (I think he has a new agent because he's been popping up quite a lot lately).

Tony Blair for hire to Central Asian dictatorships

Buckraking Around the World with Tony Blair
- article in The New republic.

Some choice quotes:

"Last year, former British Prime Minister Tony Blair appeared in a dreary neo-Stalinist propaganda video produced by a Kazakh TV station..."

"But for the pious, moralistic leader who wagered his career on bringing down Saddam Hussein through a war he portrayed as a humanitarian imperative, the contrast with his public sector service is striking."

"Meanwhile, Blair has set up a complex, deliberately opaque corporate structure that makes it impossible to know how much money he is making."

"Blair’s transformation into a human cash register has outraged many in Britain, and he continues to collect a pension and benefits that cost taxpayers more than $250,000 per year."

Bombs Away

Guided missiles, but misguided leaders.

Remote controlled drones versus leaders who are remote, out of control drones.

Smart Bombs and dumb leaders.


Any others?

Austerity? What Austerity?

Scott's been saying in comments that "there is no austerity". What do the figures look like? This the graph produced by publicspending.co.uk with the treasury estimate for 2012 (which the government are likely to overshoot).

A rise of £6.63 billion, 

from £681.33 billion to £687.96 billion

 Clearly the rate of increase in spending has slowed, but the total of government spending has continued to increase. So in a sense Scott is right - there is no austerity. In terms of a percentage of GDP total government spending will drop from 45.13% to 44.11% a drop of 1.2%. However we know that the government are likely to overshoot and so it's likely that even in %GDP terms the government will have spent more.

But some sectors have had real cuts. Comparing the 2011 figures with the OBR projections for 2012 (which are unlikely to be very accurate, but are all we have to go on at present).

A cut of £140 million.

A drop of about £20 million 

which is much less than 1%.

A drop of £1.6 billion

Up, then down, and now on the way up again

By Contrast some departments have seen massive increases:

Interest payments spiked in 2011 and continue to rise, 

though we're supposed to have low interest rates

Spending on defence is expected to increase by £170 million; 

but welfare by £2.4 billion, and pensions by £7.8 billion.

The increase in spending is clearly being drive by increases in welfare and pensions from this point of view. Though the IMF points to a drop in government revenue as the primary driver of increased borrowing overall.

Consider that older people are more likely to vote, and tend to vote Conservative. Cutting pensions would be a disaster for a Conservative government. And consider that the government have spent a huge, but undisclosed, amount on anti-welfare propaganda since taking office, and have made every effort to popularise the idea of welfare as payments to the unworthy.

Since they cast the main economic problem as one of too much government debt, this has made welfare cuts a popular policy. This has allowed government to attack people on out of work, illness and disability payments. And note that unemployment is 8% so a lot of people are out of work. Seen in this light the government scramble to cut welfare, thereby placing a heavier burden on the poor and disadvantaged makes good political sense - it not only protects Tory voters, but appeals to Tory moral arguments about the undeserving poor. They may be economic morons, but they have political cunning.

Meanwhile the country is slowly going downhill. The latest reports suggests that removing more regulations (i.e. protections from rapacious business) is the way to prosperity. The trend is to maximise regulations for people and minimise regulations for business. And I can't help thinking that the equation can not add up to anything very prosperous or happy for the masses.
 

Keynes Quotes

I follow Stephanie Kelton @deficitowl on Twitter. Lately she posted a series of quotes from Keynes. I liked them very much so here they are with only minimal editing:

"employment...depends on the amount of the proceeds which the entrepreneurs expect to receive.." -JM Keynes. (Expected) Sales create Jobs.

The notion that "supply creates its own demand..still underlies the whole classical theory, which would collapse without it." -JM Keynes

1936 Keynes complained that classical econ treated money as something that could be "introduced perfunctorily in a later chapter" Still does

"workers..are instinctively more reasonable economists than the classical school [b/c] they resist reductions of money-wages.." JM Keynes

"Never in history was there a method devised..for setting each country's advantage at variance with its neighbors' as the inter'l gold std"

Gold bugs champion gold's "inelasticity of supply", but that that is "precisely the characteristic..at the bottom of the trouble" -JM Keynes

"gold-mining is the only pretext for digging holes in the ground which has recommended itself to bankers as sound finance" - JM Keynes, 1936

"It would..be more sensible to build houses and the like; but if there r political..difficulties in the way..[bottles] better than nothing"

"If the Treasury were to fill old bottles with banknotes, bury them..and leave it to private enterprise..to dig [them] up there need be no more unemployment" -JM Keynes

"..digging holes in the ground known as gold-mining..adds nothing whatever to the real wealth of the world.." -JM Keynes

"..the deep divergences of opinion b/w fellow economists..have almost destroyed the practical influence of economic theory.."JM Keynes, 1936

Delusional economics and the economic consequences of Mr Osborne

New Talk From Ann Pettifor



This is a very good summary of what's going wrong from a Keynesian point of view. AP has in common with other commentators who warned of crisis the idea that the problem is private debt, which in turn is a consequence of deregulation.

AP kind of skips over things, and I'd like to see the same talk but with more time.

Error in GDP Numbers is Obscured by the ONS

It's really rather difficult to find information on the statistical errors in GDP figures released by the Office for National Statistics (ONS). Today's release for instance gives no direct information, but only refers the reader to another document: Quality and Methodology Information for Gross Domestic Product. It says:

Validation and quality assurance
Accuracy

The degree of closeness between an estimate and the true value.

There is no simple way of measuring the accuracy of GDP, that is, the extent to which the estimate measures the underlying ‘true’ value of GDP in the UK for a particular period. Blue Book 1 2008 (pp 27-30) provides more information on this.

One dimension of measuring accuracy is reliability, which is measured using evidence from analyses of revisions to assess the closeness of early estimates to subsequently estimated values. The results of revisions analysis are regularly presented in the background notes of GDP Statistical Bulletins and revisions spreadsheets containing the data behind this.

The QMI:GDP document doesn't discuss error generally but does give figures for the revisions. They say that the total revisions are not statistically different from zero for 2011. This might be difficult to accept for those of us used to non-zero revisions, such as the revision from -0.7% to -0.5% for Q2 2012; which is very far from being zero! Indeed in recent years the revisions between the first and the current estimates have been very much non-zero and increasingly volatile. The graph below shows the difference in percentage points per quarter from Q1 1997 to Q2 2012 (not including the most recent revision).

However this document does lead to a third document Accuracy Assessment of National Accounts Statistics (2002). The author of this paper doesn't really come out and say what the margin of error is, but does discuss sources of error and gives some indication of the magnitude of errors. This is partly due to the complexity of the calculation. But let's recall that when we add to uncertain figures the margin of errors are added together as well.

GDP is calculated in different ways and, as best as I can tell from these obscure documents this leads to an error of between 1.5% and 3.5% depending on the method. However this is far from being clear, and the way the figures are stated seems designed to hedge and fudge.

Contrarily we have the document Understanding the quality of early estimates of Gross Domestic Product. This document estimates the change in the estimates of GDP to average around 0.05 percentage points. But of course the data for this claim are in a separate document! The graphs are presented so as to obscure any differences between first estimates and subsequent estimates - which seems to be what this one is about, rather than error margins generally. The conclusion here is that the

"since the mid-1990s, revisions have been smaller than in previous periods. Over maturities up to T+24 [months], when most of the non-methodological changes will have been taken on board, the average revision is only +0.05 percentage points."

However in the graph I show above the average may be 0.05 percentage points but the standard deviation must be large because changes of 1 percentage per quarter (which could be 4 points over a year) are not uncommon.

As far as I can work out--though I have hardly exhausted all of the many OND documents available--the ONS do not supply error margins with their GDP figures.They do supply information on the differences between first estimates and later estimates.


Why Is It So Hard Get a Straight Answer About the Margin of Error?

Flying in the face of all good practice when dealing with statistics, the figures produced are treated as absolute. Not only the media (who probably can't be expected to know better), but the ONS themselves skate over the issue of statistical errors. It is reprehensible of ONS not to indicate the level of confidence they have in these figures at every point. No figure should be quoted without an indication at least of the calculated margin of error.

What this pattern of interlocking documents reminds me of is ISO9000 Quality Control documentation of a process. This in no way defines the quality of the product, but only provides for the process to happen the same each time. That is it guarantees that reports will be produced with figures in them, and the figures will be produced by the same method, but in fact says nothing at all about the quality of those figures.

The GDP guestimate we get from the ONS have a built in margin of error. It's unlikely to be small since it involves compounding errors from a series of other statistical measures. A lot rides on small changes in GDP, but the irony is that the smaller the change the less confidence we can have that it isn't just a statistical blip. 

Putting the Cart Before the Horse

The use of Game Theory in economics have become quite fashionable. Game theory seems to offer an alternative to the Utilitarian ideas that came to nought with the discovery that aggregate demand doesn't follow the Law of Demand.

In particular the theories of John Nash became popular. Nash devised a series of game scenarios in which theoretically rational participants interacted in idea ways. It's thought that this branch of mathematics shows what ideal rational behaviour would look like and has thus been interesting to economists.

But it's all a farce. Human beings are not rational choice making machines. We make decisions using our emotional responses to situations and events. I've written about this elsewhere (Facts and Feelings) based on Antonio Demasio's book Descartes' Error. While no economist seems to be ready to take this on, the advertising profession has increasingly shown sensitivity to this fact in the design of advertising campaigns. Remember when cars were sold on the basis of engine size, fuel efficiency, or special features like limited slip differentials? None of that is relevant any more. Car ads speak directly to our emotions now, bypassing the rational completely: BMW sells "joy".

I wanted to learn a little more about Nash so I checked out a paper supposed to be a 'Classic' hosted on the website of the Proceedings of the National Academy of Sciences of the United States of America (PNAS).

An economist called Robert Weber is cited in this classic: "Nash's theory of noncooperative games should now be recognized as one of the outstanding intellectual advances of the twentieth century" but elsewhere we find it said:

The Nash equilibrium concept does not necessarily predict how people will behave in the real world. Rather, it provides a measure for how purely rational people might behave.

"The Nash equilibrium tells us what we might expect to see in a world where no one does anything wrong," Weber says. 

In fact the Nash equilibrium does not predict how people will behave in the real world except by accident. It creates a particular kind of fantasy about a "rational person". The definition of "rational" is left aside. We know the old Utilitarian definition of rationality as maximising one's own pleasure without regard for other people. This is seen as "rational" because of the conceits of a few Victorian English gentlemen. In fact if we met someone like this we would think they were crazy, a sociopath if not a psychopath.

In Nash's model humans were inherently suspicious of each other, selfish and constantly struggled with other people as competitors. And Nash did actually succumb to paranoid schizophrenia not long after he published these results. "Rational" in other words means inhuman or insane in these models!

But these people are so convinced that their worldview is Truth in an absolute sense that they put the cart before the horse and say things like:

"In some settings, people routinely deviate from the kind of behavior the Nash equilibrium predicts," Weber says. "These deviations have led to the discovery of pervasive psychological phenomena that pull people away from rational behavior." 

The assumption here is that the weird definition of reality included in Nash's models is normal, and that ordinary human beings deviate from that norm. Here I think we have to conclude that Weber is also a lunatic. Human beings have never conformed to the norms that Utilitarianism or Game Theory have sought to impose on them. To turn around and suggest that human beings are deviant for not following the models is madness. I can think of no other discipline which constructs arbitrary models in the abstract and then criticises phenomena which fail to conform.

Economists try to make people fit their theories, whereas scientists make their theories fit people. And this is fundamentally wrong. In grasping simple theories that give consistent answers, economists typically ignore the disconnect from the real world - the make a series of unwarranted assumptions that hide the implausibility of the theory.


And indeed Nash himself admits that his assumptions about people do not stand up to scrutiny in an interview with Adam Curtis for his film "The Trap".

The Economist anticipated some of my criticisms in 1998 - they say that a. people don't understand how economist use words like rational; and b. "rationality has proved a useful [simplification]." I think I do understand how they are defining rational and my point is that they define it in a way that is aberrant.

I'd have liked them to define "useful" since their models seem to be bloody useless at predicting the economy at present - we keep getting "shock" deviations from predictions these days. These "useful" models failed to predict one of the greatest perturbations of the economy since records began. The failure is on a scale that would render the theory irrelevant in any other discipline. It would be like suddenly observing anti-gravity, or neutrinos that really did travel faster than light. Such a result should signal the end of the old order, and an exciting race to provide the new more complete and accurate paradigm - in economics there are many contenders.

Savings, Debt and the Deficit

Edward Harrison, of the Credit Writedowns blog, makes a very good point in these two blog posts

• Why can’t people understand national accounting?
• Chart of the Day: Public deficits and private savings in the euro zone.

The first has given me much food for thought and I think will continue to do so. He says that the approach he takes here is "an Austrian-styled interpretation of the origins of the crisis", but it's pretty consistent with what the Post-Keynesians are saying too. The guts of it is this:

"When the government sector runs a deficit, the non-government sector runs a surplus of equivalent size.

The government budget cannot be seen in isolation. It must be seen in the light of private and trade sector balances. If the government runs a deficit or a surplus then we need to think about how that impacts the rest of the economy. At the end of the day the books have to balance. Someone's debt is someone else's asset.

I'd interject here to emphasise that a build up of debt is not neutral - Harrison seems to understand this but it doesn't yet feature strongly in public discourse so I feel I need to keep saying it.

It took me a while to get this, and this is where the Chart of the Day post comes in because it shows the relationship between public sector spending and private sector savings in the Eurozone (the chart is already 3rd hand).

I've looked up the UK savings ratio which is a similar shape:

Source ONS

Savings gradually fell throughout the 1990s and up to beginning of the Great Recession. Savings shot up in 2008 and have been gradually, but not smoothly, falling since 2010. Of course the expectation was that the recession would not last. Austerity measures and inflation, and particularly the very low (below inflation) returns seem to account for the decline in saving, but note that it does not seem to be going into spending - presumably it is going into debt repayments.

In June the Guardian was commenting: "The amount people are saving has increased at the expense of reducing debt levels, with consumers paying back 7p for every pound saved during the first three months of 2011." By July the it was opposite story "Savings fall as Austerity Squeezes Household Budgets."

So, according to Harrison, we can conceive the present problem this way:

The non-government surplus is too large, we need to reduce it now before it gets out of control.

And:

"What we want to do is target the cause of the deficits, insufficient demand which I believe is the result of the overhang of debt after a period of excess private sector credit growth. What you want to do is eliminate that debt overhang by reducing the debt or increasing private sector incomes to support the debt. That’s getting at root causes."

This seems consistent with what others are saying, though not of course in the government or the Bank of England! Harrison does not give his preferred solution to this problem. Mine would be direct debt relief in the form of SK's modern debt jubilee. Other options would be to use QE to directly fund investment in business. An alternate take on this is to specifically fund green business that will lessen our dependence on oil.

Debunking Economics IV: Aggregate Demand

In a previous post I worked through the ideas contained in the first part of chapter 3 of Steve Keen's book Debunking Economics outlining the so-called Law of Demand. This is not an empirical law such as Newton's Laws of Motion, or the Laws of Thermodynamics. That is to say it's not an attempt to explain the real world based on measurement. The Law of Demand is an attempt to create a mathematical model of theory about how the world works which is based on the 19th century Utilitarian philosophy of Jeremy Bentham. As it happens the Law of Demand works OK for one consumer consuming one product.

However as early as 1953 it became apparent that the Law of Demand as stated does not apply to two or more consumers. The first mathematical proof was by a chap called William Moore "Terence" Gorman (wiki) in this journal article:

Gorman, W. M. (1953) 'Community preference fields,' Econometrica, 21(1):63-80. JSTOR.

The abstract of this paper is visible even though the article itself is behind a paywall or tucked away in a university library. What it says is this:

A series of formal relationships between community indifference maps and the utility possibility maps are stated and it is proved that a given system of personal indifference maps yield a unique community indifference map if, and only if, the personal Engel curves are parallel straight lines for different individuals at the same prices. [emphasis in the original]

What Steve Keen does is decode this - he's not saying anything new here, he's just pointing out what was said in 1953 and drawing out the most obvious implications. Having reviewed his chapter to date I can see the obvious implications of this too - and I have zero background in economics.

I covered Engel curves in part II. These are the curves that are constructed by tracing the points of intersection with various individual indifference curves in the indifference map for one commodity vs all other commodities at different levels of income. Engel curves tell us predict how much of a commodity an individual will purchase at any given income level.

Now SK points out that at zero income the consumer will spend zero dollars on zero of all commodities. So all Engel curves pass through the origin (i.e. through the point where the axes of the graph intersect). He further points out that if two lines which share at least one point (in this case the origin) are parallel lines, then they share all their points, they are in fact the same line. So the upshot of Gorman's mathematical proof is that you can only construct what he calls a community indifference map and we are calling an aggregate indifference map if and only if, all consumers are identical.

And recall that the demand curve is constructed from the indifference map at fixed income and fixed price. So what Gorman is saying is that it is only possible for the Law of Demand to apply to aggregate demand curves if, and only if, all the individual demand curves are identical. As Steve Keen says quite often: "you couldn't make it up!" Just to drive the point home let's say it another way the Law of Demand does not hold for the real world if you have more than one consumer.

Something less obvious from the abstract is that the Engel curves have to be a straight line. The implications of this is that the share of the consumers income spent on commodities remains the same no matter what their income - i.e. that all commodities must be homothetic. This means that a if person earning £10k pounds spends £1k, then a person earning £10 million pounds would spend £1 million, and a person earning £10 billion pounds would spend £1 billion pounds. There is no such commodity in existence. The only condition in which this is true is if there is only one commodity and all consumers spend 100% of their income on it.

But economists have accepted these conditions as valid and proceed to use "aggregate" demand curves. Gorman himself concluded "The necessary and sufficient condition quoted above is intuitively reasonable". (quoted in Debunking Economics p.56) And it seems that those who bothered to read Gorman agree with him that it was "intuitively reasonable" to treat the economy as having a single consumer and a single commodity. And indeed today mainstream economists agree at some point in their careers to pretend that there is only one consumer, and that there is only one product in the economy.

You'd have to be a moron wouldn't you? You start to see why Steve Keen is sardonic, and why economists have screwed things up so badly.

But to be fair quite a bit of the remainder of the chapter deals with how textbooks hide this remarkable proof that the Law of Demand is simply false, and how economists gradually have had the wool pulled over their eyes as they go along.

With an education in science we're presented with simplistic models at first. Then at each stage we go back and examine the weaknesses in those models, and either introduce more sophisticated models or completely new models. From age 13 to age 21 I followed the progress of the history of chemistry from the 19th century up to the present. It seems that in economics one takes all the assumptions economists make as read, and at each stage one incorporates simplifying assumptions as one goes. As I progressed in chemistry I gained an increasing sophisticated knowledge of the subject so that at the end I was able to synthesise complex molecules and understand the process from first principles; and I was able to take an unidentified white powder and determine it's chemical structure. The economist however moves gradually away from the real world and becomes an expert on the model. And almost exactly five years ago we saw the biggest economic crisis in modern times hit virtually every country in the world all at once, and none of the mainstream saw it coming. Indeed they claim no one could have. No one, that is, who was using their economic ideas and models. Other economists did. Quite a few non-economists also saw trouble brewing. The fault lies in the models!

Since Gorman himself failed to grasp the import of his own discovery, and since few economists were numerate enough to understand Gorman's paper the result made little impact. It was rediscovered independently however in the 1970's by three researchers and the conditions of Engel curves being straight and parallel are known as the Sonneschein-Mantel-Debreu (SMD) conditions. However even these economists failed to grasp the implications for the Law of Demand, and since their writing and their mathematics was even more abstruse than Gorman's it seems as though very few economists have even heard of the SMD conditions.

The key papers are:

• Debreu, G. (1974) 'Excess demand functions,' Journal of Mathematical Economics. 1(1): 15-21. doi:10.1016/0304-4068(74)90032-9.
• Mantel, R. (1974). "On the characterization of aggregate excess demand". Journal of Economic Theory 7 (3): 348–353. doi:10.1016/0022-0531(74)90100-8
• Sonnenschein, Hugo. (1972) 'Market Excess Demand Functions.' Econometrica 40 (3): 549-563. JSTOR.

A nice result that falls out of their work is the statement that an aggregate demand curve can be any shape that can be described by a polynomial - any curvy line with one y value for every x value. For any given price there is not one level of demand, but arbitrarily many.

SK argues that this result completely invalidates Neo-classical economics with it's assumption of equilibrium (we'll get this to) because it requires a single intersection of supply curve with demand curve, and this can only happen when we assume there is a single consumer and a single product.  The assumption of the standardised individual making rational choices is just wrong, but when we attempt to aggregate the behaviour of such theoretical individuals the model goes awry.


Reflections

Just this result would seem to be a death blow to Neo-classical economics. The theory simply doesn't produce realistic or sensible results, largely because the accumulation of the simplifying (often over-simplifying) assumptions it makes result in unrealistic distortions. But Neo-classical economists have pushed on. S. Abu Turab Rizvi notes:

As the results in SMD theory became well known, for example through Wayne Shafer and Hugo Sonnenschein’s survey (1982), economists began to question the centrality of general equilibrium theory and put forward alternatives to it. Thus in the ten years following the Shafer-Sonnenschein survey, we find a number of new directions in economic theory. It was around this time that rational-choice game theory methods came to be adopted throughout the profession, and they represented a thoroughgoing change in the mode of economic theory. (p.230)

Rizvi. S. Abu Turab . (2006) 'The Sonnenschein-Mantel-Debreu Results after Thirty Years,' History of Political Economy 38 (annual suppl.). doi 10.1215/00182702-2005-024 [pdf]

Now this is interesting because the introduction of game theory, particularly the theories developed by mathematician John Nash feature in Adam Curtis's 2007 documentary The Trap which I discussed in an earlier post. While John Nash is now recovered, at the time he was developing these theories he suffered from paranoid schizophrenia, and it's arguable that the theories reflect this. Indeed Nash in an interview with Curtis admits that the individuals he modelled were not at all like real people. They're like the ideal rational Victorian gentlemen envisaged by the Utilitarians, but utterly selfish and, well, paranoid. These ideas expressed in economic terms began to influence politicians like Margaret Thatcher and Ronald Reagan. A prominent proponent of game theory called Alain Enthoven, who envisaged the "body count" as a way to measure the efficiency of the Vietnam War, was called into the UK in 1984 to restructure the NHS.

I think this illustrates the danger we face. Economic theory is divorced to a large extent from inputs from the real world. The model is all. It takes real world data and interprets it according to this distorted view, and then creates policy by which we order the world. In doing so it appears to strive towards transforming the world to become more like the model, not the other way around.


Another result of the SMD conditions has been the development of Behavioural Economics, but I have not yet looked into this.

There's a lot more material towards the end of the chapter, that I haven't covered here. It's worth reading through but I think most of it is of less general interest - I'm trying to get my head around the basics. Next we'll move on to looking at the other half of the 'iconic supply and demand model' - and since the first section is headed "Why there is no supply curve" I think we can expect a polemical treat.