Economics in One Lesson

Tyler Cowen tells us that Henry Hazlitt's Economics in One Lesson is now online.

It's an excellent book to read if one already knows a significant amount of economics. It's an excellent book because it brilliantly and coherently restates the Classical view. It is a limited book because at least half its pages hint that the works of John Maynard Keynes are an abomination without ever grappling with the Keynesian argument.

We all know that the market system is an amazing decentralized social planning and allocation mechanism if externalities are small, if returns to scale are in general diminishing, if we are happy with the distribution of wealth and the concommitant distribution of economic power it gives rise to, and if Say's Law holds--if supply does indeed create its own demand, and we don't have to worry about large-scale unemployment and deep depressions.

Hazlitt doesn't recognize any of these ifs. And that is what makes his book very dangerous indeed to a beginner in economics, because the ifs are, all of them, important qualifications and caveats. I gather that Tyler read it relatively early, and I am amazed that he has escaped with so little permanent neurological and ideological damage.

I find it astonishing that Haslitt doesn't recognize any of these ifs. I find it especially astonishing that he doesn't recognize the last of them. The 1930s were the era of the Great Depression--the time when Say's Law was most irrelevant. Hazlitt lived through them. Yet the Great Depression years seem to have had no impact on Hazlitt whatsoever.

There is one other big problem with Hazlitt--a problem that he shares with many of his successors on the Wall Street Journal op-ed page, on the Weekly Standard, and on the National Review. His quotes cannot be counted on to be in context. His summaries cannot be counted on to be honest.

For example, Hazlitt on Keynes in Economics in One Lesson:

p. 4: There are men regarded today as brilliant economists, who deprecate saving and recommend squandering on a national scale as the way of economic salvation; and when anyone points to what the consequences of these policies will be in the long run, they reply flippantly, as might the prodigal son of a warning father: "In the long run we are all dead." And such shallow wisecracks pass as devastating epigrams and the ripest wisdom.

What Keynes actually wrote in his Tract on Monetary Reform:

Now 'in the long run' this [way of summarizing the quantity theory of money] is probably true.... But this long run is a misleading guide to current affairs. In the long run we are all dead. Economists set themselves too easy, too useless a task if in tempestuous seasons they can only tell us that when the storm is long past the ocean is flat again.

Misrepresentations like this do Hazlitt no credit at all.

Comments

[b]

OT

Heritage Foundation Doubts Bush MBA

http://www.moonofalabama.org/2005/04/heritage_founda.html

"Bush is going to want to appoint someone who can sit down with him and speak in a language he understands," Beach said.

[nikita demosthenes]

"Reality based" means you believe the Pope was a total fraud, right?

[Maestro]

This may be either a naive or charitable interpretation of Say, but doesn't his law require the price system to operate freely? As there were extensive price controls in the 30's, Say's Law couldn't work well. The devaluation of the dollar under FDR probably exacerbated the problem.
I haven't read Hazlitt, so this is a guess, but it seems like the two of them are talking past each other a bit. In an emergency situation you take actions you normally wouldn't, but you need to consider their long-run consequences so you can choose the least costly actions to take. I hope this is non-controversial, but it looks like neither Keynes nor Hazlitt grasped both ends of the statement, or at least played down the part they didn't like.

[N. Y. Lib]

Re: Economics in One Lesson

Hazlitt's put down of Keynes seems to apply directly to the current administration, particularly to Cheney.

[Captain Video]

You left out some of the other ifs:

If in all markets there are so many buyers and sellers that no buyer and no seller has any perceptible ability to affect the price at which they buy or sell the good.

If all buyers and sellers have perfect information.

If wages and prices are perfectly and instantaneously flexible, downwards, as well as upwards.

The theory of perfect competition, which underlies neoclassical economics (the classical view) is a highly special theory of markets which lacks sufficient generality to serve as an appropriate microfoundations for short-run macroeconomics, i.e. the part of macroeconomics that deals with the ups and downs of the business cycle.

[Allen K.]

I doubt that this context-lacking quotation of Keynes is as "dishonest" as it is lazy. We've all heard this quote a million times, without context; Hazlitt's failure is in guessing that that's *all* there is to it rather than digging up the original, whole, quote.

(Which, for a book, is just as unforgivable as dishonesty would be; I don't mean to excuse.)

[Maynard Handley]

Brad, isn't this nice guy behavior on your part the whole reason the Republicans are currently in power? You provide a long list of reasons why the guy is intellectually dishonest, or at the very least lazy, deluded and out of touch with reality; yet your summary is not to condemn what he says as dangerous and awful but to try to find something nice to say about him.
This is an admirable trait in you, but it's a trait that is easily exploited and that is being exploited big time by the current lunatics driving the US off a cliff.

[Ottnott]

Brad wrote:
"Misrepresentations like this do Hazlitt no credit at all."

Nonsense. Misrepresentations like this may put Hazlitt on the short list for Sec. of the U.S. Treasury.

The fact that he's been dead for more than a decade isn't necessarily a disadvantage and might even have some important benefits.

[Colin Danby]

It's interesting to see the lineup of fallacy-makers Hazlitt provides on ix, plus his tendentious argument on that page for not citing the specific writings of the people he attacks, but instead going after a sort of composite that he has assembled in his own mind.

That said, in reply to "Maynard Handley," I think Brad's right in saying that Hazlitt was not a mere hack. He does a fine job of expounding a simple version of 'classical' economics, and that's a doctrine that's smart on a number of things. Moreover Hazlitt, on the principles expounded in this book, would be horrified by current "deficits don't matter" U.S. administration policy.

There's a further irony that one of the people resonsible for defining "classical economics" as a doctrine was Keynes, and *he* did it in a somewhat strawman-ish, composite-making way, as numerous people at the time recognized. So we have Hazlitt busily putting Keynes' straw man back together in order to bash a straw version of Keynes.

[Tracy]

The most revealing thing about the comparison of texts Brad gives us here is that it shows just how great a writer Keynes was. Compare Hazlitt's dishonest and imtemperate "writing" to Keynes's urbane and profound prose and you see why one was a schrub and the other a giant.

[Ralph]

If Say's Law (supply creates its own demand) is true then doesn't this imply there is no such a phenomenon as oversupply or overcapacity in market terms? Intuitively, the novice in economics finds this a mistaken view but we all know that untutored intuition on economic matters is often wrong. So what is the solution? Could Say have been right but not in all markets or only in the long term? Lots of questions are raised by this most fundamental law of classical economics.

[Robert Waldmann]

Like N Y lib I wanted to add to the list of ifs left out by Brad when pointing out the omissions of Hazlitt. Oddly the one that came to mind is highly technical.
markets must be complete.

If there are no externalities, constant or decreasing returns to scale, market clearing, perfect competition symmetric information and all agents are rational, then the market outcome is Pareto efficient if there are complete contingent claims markets. If there are not, generically, the market outcome is not constrained Pareto efficient, that is, it is possible for a regulator achieve a Pareto improvement without even without providing some kind of insurance that was not previously available. Generically means for an open and dense set of economies, which roughly means something like "with probability one."

Complete markets require one asset for every possible state of the world. That is, a model with complete markets has nothing to do with the real world.

To Maestro: You are being polite and stating your claim without excess confidence. However, to blame the depression on Franklin Roosevelt one has to, in Brad's words ... well search for Turing on this site because I don't want to repeat them.

The Experience of the US in 30 31 and 32 had rather thoroughly refuted Says law before Roosevelt took office. There were no price controls during this period , nor were there price controls until the second world war. Not to mention that Says law was refuted well before the great depression. US growth during the Roosevelt administration was greater than in any other 12 and a bit year period in US history or any non overlapping 20 year period or, I think, any non overlapping 30 year period.

Look at the time series before making pre hoc ergo propter hoc arguments.

[anne]

Maestro

"As there were extensive price controls in the 30's, Say's Law couldn't work well. The devaluation of the dollar under FDR probably exacerbated the problem."

There were no price controls during the 1930s, however there were labor unions and several economists claim that the problem during the Depression was that Franklin Roosevelt's support of labor kept wages from falling fast enough and far enough to guickly gain full employment. Beyond this argument, the economists fault an intimidating Roosevelt for limiting business consolidation and artificially keeping prices lower than they might have been. Lower wages, higher prices, more profits and demand for labor is restored and demand for goods and services in turn and the Depression is no more. Oh dear.

Fortunately Roosevelt was quite beyond thinking in such terms, and did all that was possible to stimulate demand :)

[Lee A. Arnold]

I call my old pocketbook copy "Hazlitt, Meet the Silverfish"

[Lee A. Arnold]

Could nanotechnology loosed into the air eat my memory?

[maru]

Say's law fails precisely under aggregate demand externalities? Wonder if you can dispense with the last assumption.

[anne]

Dear Lee Arnold, it is you understand the Henry rather than the Willam Hazlitt. I too much prefer the William however. William, I understand :)

http://www.blupete.com/Literature/Biographies/Literary/Hazlitt/Ch001.htm

In 1775, fighting had broken out between British soldiers and the English colonists in North America. Great Britain determined to put down what they thought was a small revolt of ill-equipped men in one place in one colony, a revolt -- again, so the English thought -- that had little popular support in the colonies. It was a matter of nipping things in the bud. By 1776, the British leaders were beginning to realize they had an extensive and difficult problem on their hands.

[anne]

William Hazlitt then was born in 1778, being spared the loss of the American colonies. "It was the same year that a law was passed requiring that chimney sweepers be a minimum of 8 years old (it was not much enforced)." Classical economics was obviously much evidenced, as Henry no doubt would later notice.

[anne]

When we ask that chimney sweeps be a minimum of 8 years old, are we interferring with Say's Law?

[JC]

Friedman contends, doesn't he, that what made a mere market contraction into a Great Depression was stupidity on the part of a government agency--that the Federal Reserve could easily have acted to prevent massive unemployment. So it wasn't the fault of markets, which are smart, it was the fault of governments.
Then maybe Hazlitt, too, assumes that if the government just lets markets do their marvelous thing, long-term large unemployment won't occur?

[Maestro]

Not sure what you're saying about Turing....
I didn't blame the Depression on FDR, I said his monetary policy exacerbated some problems. You can disagree with that analysis, but I put the blame for the Depression squarely on Hoover, as I imagine you do as well.
Yes, growth was high under FDR, but living standards stagnated. Usually growth and living standards track eachother nicely, but when the growth is in non-useful production (prob not best term to use, but oh well), such as during a major war, they don't.

[anne]

Actually living standards improved as the New Deal gradually took hold. Remember all the attempts to block and limit the application of fiscal policy. There was a set back to growth in 1937, as the Federal Reserve needlessly raised interest rates, but the New Deal was a success that would build middle class America.

[liberal]

Brad DeLong wrote, "It's an excellent book because it brilliantly and coherently restates the Classical view."

I can't be sure, because the PDF of Hazlitt's book is well-nigh impossible to use---the book was scanned in, so you can't search text, and the book itself has no index---but it appears to me there's nothing "Classical" about the Hazlitt's views.

Classical economists, unlike modern economists, emphasized that there are three factors of production---land, labor, and capital. Modern (neoclassical) economics omits emphasis on land, even if some nominal treatment is given in textbooks. (Don't believe me? Then where's land rent in the national income accounts?)

Hazlitt's book, at least as indicated by the table of contents, makes no mention of land rent. Thus, there doesn't appear to be anything "Classical" about the book.

[Lee A. Arnold]

anne I like William too, his middle period found a sentence structure much adopted by Mencken; but no, it's Henry who's with the bugs at the bottom of the box. {::-))

But actually I am very grateful for this particular post and the stunning comments, so perhaps I should withdraw the horseplay and just listen, because I think that a proper vetting of the market system is in order, if we are to continue with a humane society. Honestly I think Adam Smith at this juncture would have agreed.

[Maestro]

If by improve you mean were at all better, yes, living standards improved. I used stagnated in the sense of improving very little. Over FDR's 12ish years in office, living standards only improved a little. That is certainly a lot better than Hoover's record, but to say the New Deal built middle class America is simply incorrect in my view. I think we're at the point in the discussion where further arguments are fruitless in this kind of format, so I'll just leave it at that before we start a flame war.

[Bruce Wilder]

I would think faith in Say's Law would qualify anyone as a "classical" economist, as well as a damn fool.

It is a tribute to the resistance of economics to factual investigation that the fact that Say's Law is wrong is given so little account.

Surrounded as we are, by markets which do not clear and by markets in which prices are determined administratively, how much stupidity is required to tout a macroeconomics founded on ignoring these realities in the aggregate?

[Julian Elson]

"As there were extensive price controls in the 30's, Say's Law couldn't work well. The devaluation of the dollar under FDR probably exacerbated the problem."

Okay: I understand the idea of the superneutrality of money: that devaluing the currency in the 30s had no effect.

I understand the idea that generally, changing the value of money leads to supply-side inefficiencies, by distorting things in various ways. (though really, I find this view all-but incompatible with superneutrality)

But how does one find that expansion of the money supply/devaluation REDUCED demand?

P.S. What's your view on Marc Linder's The Anti-Samuelson?

I think that Say's law is useful in terms of refuting the lump-of-labor fallacy. Real life central-bankers and such should ignore it thoroughly, but it's a useful argument to have when someone says something like "those automated manufacturing plants are destroying jobs!" or something like that.

[donna]

My Hazlitt sleeps with the silverfish, too. Or perhaps was given away, who knows.

[ogmb]

"if externalities are small"

Pick up any micro textbook and you'll see that externalities are treated somewhere around chapter 13, and usually only as the upriver/downriver pollutant variety (opening Pindyck & Rubinfeld, 6th edition, it's is relegated to chapter 18, along with public goods, one chapter after asymmetric information). Quite clearly the idea that externalities are a cause for consternation is not very widespread among the thought leaders in the field.

[Captain Video]

In real world economies money is not neutral, and therefore not superneutral, in the short-run. Friedman is right in arguing that a sufficiently expansionary monetary policy could have prevented and/or ended the Great Depression. This assertion is only true if money is not neutral in the short run. Ending the convertibility of the Dollar into gold would have permitted the Fed to engage in such a policy if it had chosen to do so, but devaluation of the dollar did not automatically cause an increase in the money supply given the monetary policy the Fed was actually following.

[anne]

Brad DeLong

"We all know that the market system is an amazing decentralized social planning and allocation mechanism if externalities are small, if returns to scale are in general diminishing, if we are happy with the distribution of wealth and the concommitant distribution of economic power it gives rise to, and if Say's Law holds--if supply does indeed create its own demand, and we don't have to worry about large-scale unemployment and deep depressions."

A wonderful statement and precisely what Henry Hazlitt chooses to ignore. There are no "ifs" allowed. But the Depression in Britain during the 1920s was an if, no matter the domestic free price system. British markets persisted and adjusted to a decline in international demand for British exports, but there was a decade of lost growth and a decade of distressed households that was never compensated for and that Keynes well understood might have been allievated by market interference with stimulative fiscal and monetary policy from the beginning. If there were market adjustment difficulties in Britain, for the price and movement of labor was not immediately flexible enough to fall enough to create more labor demand, how could we imagine a healthy labor market in which wages are immediately and completely flexible?

There are always market limits. The limits placed on the age of child chimney sweeps, an age of 8, was an interference with the British labor market. Supply was limited, demand for chimney sweeps was limited. Nonetheless there must never be 7 year old chimney sweeps, nor 9 year old sweeps for that matter.

The Depression was the sadly perfect test for what fiscal policy could mean to the health of an economy's households. Imagine America without the New Deal, without the fiscal stimulus from the Conservation Corps to rural electrification to the TVA and on and on. Imagijne what Social Security and free college education meant and would mean. Imagine what setting the conceptual stage for the GI Bill following the war meant. Franklin Roosevelt came to office at a desperate time for so many and from the beginning of New Deal programs, though they were fought anf fought, there was hope and uplift and recovery. Middle class America was saved and built and would be conceptually enlarged from the New Deal on.

[anne]

What is better than markets? Markets that are structured to be fair when there are faulty power balances. Markets that are restrained when inflation threatens and stimulated when demand falters and work is limited. Markets that are created by splendid public institutions such as historically fine American schools....

[anne]

Think of all the "ifs" about this market, and resolving a few complex "ifs" for the sake of environment and consumers:

http://www.nytimes.com/2005/04/10/dining/10salmon.html?ei=5070&en=5a030ce2544a35fc&ex=1113883200&pagewanted=all&position=

Stores Say Wild Salmon, but Tests Say Farm Bred
By MARIAN BURROS

Fresh wild salmon from West Coast waters used to have a low profile in New York: it generally migrated eastward in cans. But a growing concern about the safety of farm-raised fish has given fresh wild salmon cachet. It has become the darling of chefs, who praise its texture and flavor as superior to the fatty, neutral-tasting farmed variety, and many shoppers are willing to pay far more for it than for farmed salmon.

Today, "fresh wild salmon" is abundant, even in the winter when little of it is caught. In fact, it seems a little too abundant to be true.

Tests performed for The New York Times in March on salmon sold as wild by eight New York City stores, going for as much as $29 a pound, showed that the fish at six of the eight were farm raised. Farmed salmon, available year round, sells for $5 to $12 a pound in the city.

For shoppers, said David Pasternack, the chef and an owner at Esca, a theater district fish restaurant, buying authentic wild salmon "is like a crapshoot."

The findings mirror suspicions of many in the seafood business that wild salmon could not be so available from November to March, the off-season. Wild and farmed salmon fillets and steaks look similar because farmed fish are fed artificial coloring that makes them pink, but that coloring can be measured in laboratory testing.

With East Coast wild salmon all but extinct and West Coast wild catches restricted by quotas, farmed fish constitute 90 percent of this country's salmon sales.

Yet last month, when fresh wild salmon should have been scarce, 23 of 25 stores checked by The Times said they had it in stock....

[Tako]

"...people in government face exactly the same incentives as those outside government. So how can they be expected to do "better" than the market?"

False choice. We don't have either markets or government. We have both. And it's no revelation that markets and governments are two sides of the same coin in that they both lay claim to the aggregate expression of the individual.

The idea of markets is a fine abstraction that is suited for pontificating, valuable in genuine learning, and useful for divining/honing policy arguments. And the evolution of markets and market theory has enabled greater sophistication in planning the rules by which a society functions. But when it comes to actual allocation of resources, when it comes to the real world filled with human beings bumping up against one another, the game is and always has been politics, the unstated social contract, and the subsequent laws. Is there a market for laws?

[dsquared]

"Quite clearly the idea that externalities are a cause for consternation is not very widespread among the thought leaders in the field."

I think this probably says more about thought leaders in the field than it does about externalities.

[Weco]

"Pick up any micro textbook and you'll see that externalities are treated somewhere around chapter 13, and usually only as the upriver/downriver pollutant variety (opening Pindyck & Rubinfeld, 6th edition, it's is relegated to chapter 18, along with public goods, one chapter after asymmetric information)."

From my experience of teaching Micro 101, that's because you can't get to externality until you understand how demand/supply/market actually work, which usually takes about a term. And since the problems and solutions are technically/theoretically pretty simple (compared to assymetric info, for example), the 'thought leaders' have little to say on the subject. It doesn't diminish the importance of externality in the real world. For example, Jared Diamond's Collapse is full of illustration of the tragedy of the Commons.

[anne]

Thank you, Weco:

http://www.nytimes.com/2005/01/01/opinion/01diamond.html?ei=1&en=b07801d711557249&ex=1114144587&pagewanted=all&position=

The Ends of the World as We Know Them
By JARED DIAMOND

Consider Japan. In the 1600's, the country faced its own crisis of deforestation, paradoxically brought on by the peace and prosperity following the Tokugawa shoguns' military triumph that ended 150 years of civil war. The subsequent explosion of Japan's population and economy set off rampant logging for construction of palaces and cities, and for fuel and fertilizer.

The shoguns responded with both negative and positive measures. They reduced wood consumption by turning to light-timbered construction, to fuel-efficient stoves and heaters, and to coal as a source of energy. At the same time, they increased wood production by developing and carefully managing plantation forests. Both the shoguns and the Japanese peasants took a long-term view: the former expected to pass on their power to their children, and the latter expected to pass on their land. In addition, Japan's isolation at the time made it obvious that the country would have to depend on its own resources and couldn't meet its needs by pillaging other countries. Today, despite having the highest human population density of any large developed country, Japan is more than 70 percent forested.

There is a similar story from Iceland. When the island was first settled by the Norse around 870, its light volcanic soils presented colonists with unfamiliar challenges. They proceeded to cut down trees and stock sheep as if they were still in Norway, with its robust soils. Significant erosion ensued, carrying half of Iceland's topsoil into the ocean within a century or two. Icelanders became the poorest people in Europe. But they gradually learned from their mistakes, over time instituting stocking limits on sheep and other strict controls, and establishing an entire government department charged with landscape management. Today, Iceland boasts the sixth-highest per-capita income in the world.

What lessons can we draw from history?

[spencer]

Mastro -- I am not ging to look up the data but do you really expect us to believe that in the 12 years that Roosevelt was in office -- 1933 to 1945 -- that real standards of living stagnated. This was from the bottom of the recession when real gdp had fallen about a third to the near peak of the WW II boom.

Brad probably has the data -- but I am willing to bet that there has not been a 12 year period of the US economy when real standards of living rose more then during the 12 years Roosevelt was in office.

[liberal]

Maestro wrote, "I used stagnated in the sense of improving very little. Over FDR's 12ish years in office, living standards only improved a little. ... I think we're at the point in the discussion where further arguments are fruitless in this kind of format, so I'll just leave it at that before we start a flame war."

Huh? Fruitless? There's still work to do---namely, looking up stats.

Here's one stat: per capita GDP. Not that it's the end-all-be-all, of course; better measures would be something like median household income, adjusted appropriately for size of household; and perhaps longevity/deathrate stats.

Anyway, here's per capita GDP, courtesy of Economic History Services' "What Was the GDP Then?" (URL http://www.eh.net/hmit/gdp/ ):

1925 $6,460
1926 $6,760
1927 $6,700
1928 $6,740
1929 $7,105
1930 $6,424
1931 $5,965
1932 $5,156
1933 $5,060
1934 $5,572
1935 $6,026
1936 $6,767
1937 $7,072
1938 $6,776
1939 $7,263
1940 $7,826
1941 $9,078
1942 $10,643
1943 $12,219
1944 $13,053
1945 $12,765
1946 $11,241
1947 $10,924
1948 $11,206
1949 $10,956
1950 $11,671

IMHO I think this shows that FDR improved things before WWII, but it was WWII that really got things going. It's very doubtful FDR's policies were optimal. OTOH, look what happened in other countries---the rise of nasty/corrupt/authoritarian systems.

[Jennifer]

As Anne pointed out notice the Fed induced recession of 1938. The New Deal was a success though FDR was fought at every turn. The success would have been even more had the battle over fiscal policy been less.

[Jennifer]

The idea that fiscal policy would not be used to ease family hardship when 25% of the work force could not find work is more than irresponsible but cruel. Supply did not create demand for Herbert Hoover.

[Winslow R.]

Hazlitt's error is his belief that people that have money will spend it. The main error of economists is the lack of understanding between wealth concentration (SAVINGS) and demand.

As many have stated 'supply does not create demand'.

The baker with the broken window may have had no intention to buy a suit. The street ruffin that broke the window forced the baker to spend his $50 that may or may not have been spent on a suit. War is a lousy way to create demand but it easily overcomes any public opposition to the 'redistribution of wealth'.

[Lee A. Arnold]

I wonder what the real evidence is that "people in government face exactly the same incentives as those outside government." This strikes me as an unsupported assertion, and likely to be demolished if there is ever a real test.

It's been a common sentiment among some newspaper pundits, so perhaps it comes from the intellectual-p.r. strategizing of the political thinktanks.

More broadly, is market libertarianism spawned by the monist fallacy: the need to think that there is only one predominating answer?

...No doubt there are crooks everywhere, though...And the present crew is smelling ripe! Let's prefer a transparent democracy for the government!

[anne]

Thank you, Liberal :)

A 40% increase in per capita GDP with the first 4 budgets of the new Deal is not a minor accomplishment.

[anne]

Lee A. Arnold:

A clever suggestion that market libertarian beliefs might be attributed to an unwillingness to believe that social institutions can not be broadly and accurately described. Rather our institutions reflect us in being singular though related to other institutions. Market analysis must be made a market at a time to be fully meaningful. The markets for health care services and goods are simply not the markets for entertainment, though both are categories of markets.

[spencer]

The growth of the per capita GDP data above is
from 1933 to 1941 is 79.4% -- average of 9.2%--
while from 1941 to 194 it was 40.6% -- average of 10.2%.
If you look from 1941 to 1944 the jump was 43.8 --average of 14.6%.
This suggest that while WW II did have a big impact on
economic growth the 1933-1941 period was not bad.

[anne]

Lee A. Arnold

A clever suggestion that market libertarian beliefs might be attributed to an unwillingness to believe that social institutions can not be broadly and accurately described. Rather our institutions reflect us in being singular though related to other institutions. Market analysis must be made a market at a time to be fully meaningful. Markets for health care services and goods are simply not the markets for entertainment, though both are categories of markets.

Overly broad social studies models are troublesome, especially when they seem completely satisfying. For decades economists wondered why development models when adopted did not seem to generate sustained development. But, why should the same model and projections fit South Africa and Mexico and China? I am most impressed by the flexibility China's leadership has shown development planning.

[obscure]

Tako: "False choice. We don't have either markets or government. We have both. And it's no revelation that markets and governments are two sides of the same coin..."

This seems right to me. Markets not possible without government. They are mutually supporting institutions.

My question: Isn't the ideal of a 'frictionless market' an undesirable outcome? Ie, does the proposition, "markets work well if..." imply we are striving for zero friction?

[Jean-Philippe Stijns]

"Extension: people in government face exactly the same incentives as those outside government."

Same incentives??? You can try to argue that goverment and elected officials have perverse incentives, but you can't argue they have the same incentives as market participants. Unless this is faith-based economics you are contributing to. Corporate managers don't even seem to have the same "incentives" as shareholders, despite all the contractual and regulatory attempts to align these "incentives". Economists will sometime argue that they share (most of the time) the same information set. And I am not even sure that this represents a consensus view.

By the way, does anyone have a genuinely fair and balanced recommendation for an economics-in-one-lesson type of book to assign my principles of macro students next semester? Thank you!

[a-train]

Hazlitt, "Lump of Labor is a fallacy, because it is a fallacy."

[Maestro]

Not sure which is first and which is second but:
- the dollar was devalued by 69%, hence real GDP per capita grew about 2.6% per year 1933 to 1945
- a lot of the growth was due to make work programs that didn't add real value to the economy, or in the production of war materials, which were necessary but don't add to living standards

[Captain Video]

Patrick Sullivan ignores the fact that the economy reached the trough of the Great Depression before the NIRA policies went into effect and that after they were abandoned because they were declared unconstitutional the economy did not rapidly recover the full employment.
Also, the U.S. economy suffered many severe recessions before the Great Depression. Say's law does not hold in the short-run. It does hold in the long run, but getting to the long run if downward price adjustment is needed to reach the long run is difficult and problematical, and would be such even if prices and wages were perfectly flexible downwards because of the debt deflation effect.

[Bruce Wilder]

Patrick R. Sullivan's comments on the NIRA remind me of the leftists, who used to defend the ideals of socialism by saying that a pure communism was never tried, so we shouldn't judge those ideals by the experience in Eastern Europe and the Soviet Union.

NIRA was a response to the failure of Say's Law, not a cause of it. The failure of Say's Law is all around you, if you care to notice, just like the evidence for a spherical earth is all around you. Everytime you go to a movie, for example, you are participating in a market, which does not clear, in which prices are fixed administratively. In 2001, when the price of potatoes fell at the farm level to .01/pound, supermarkets went on charging 0.39+/pound. The "market" for academic positions for newly-minted Ph.D.'s doesn't clear; some years in some fields, positions are not filled, while in other years/fields, many simply leave the field, accepting the loss in quasi-rent on their educational investment.

On a microeconomic level, market by market, Say's Law seldom applies in any sensible way. Prices serve disparate functions; they are not simple, market-clearing transaction points. Anyone, who would build a macroeconomic theory on a foundation of microeconomic fantasy, is a fool.

[ogmb]

dsquared -- "I think this probably says more about thought leaders in the field than it does about externalities."

I agree.

Weco -- "that's because you can't get to externality until you understand how demand/supply/market actually work"

I don't think that's what drives it. You also need a good grasp of D-S-M to understand the chapter about government intervention, which comes far ahead of externalities (chapter 9 in P&R6). In my opinion the reluctance to teach externalities is the result of 1. inertia, 2. few "exam-able" questions on externalities, and 3. the shared belief that externalities are a footnote to (micro)economic theory.

"And since the problems and solutions are technically/theoretically pretty simple (compared to assymetric info, for example), the 'thought leaders' have little to say on the subject."

Not if you include the more pervasive, "networks" kind. Also, with "thought leaders" I was referring to textbook authors rather than top researchers. They're in the end the gatekeepers on what part of economics will be taught to the wider community of, say, business or law students.

[Matt Festa]

Dear Brad et al,

As one of the token non-liberal economists around here, I thought I might give my unwanted opinion here.

If I am recollecting correctly, Keynes first made his famous statement "in the long run, we are all dead" to Joseph Schumpeter in their famous letter's to eachother.

(I can't provide a citation because my book is at my office and I am not currently there...I can't find it online, so correct me if I am wrong here)

Schumpeter's reply was "[keynes] is being unnecessarily original," which is a devastating comment when one thinks about it.

Schumpeter's point is that there is nothing Keynes is saying that could not already be deduced from classical economics.

Not sure who wins the debate here (both are great economists)...but I think the situation is as follows

The Classical economists were not wrong, they were simply dealing during a time where small agricultural farms dominated the scene. Entry/exit was easy, hire/fire was not a problem, and prices adjusted quickly.

The 20th century saw the rise of big corporations and labor unions, which threw a new mix into the situation. Prices DID clear, but not as QUICKLY as the classical economists assumed. Therefore, the assumptions of classical economists Q.T of money hold in the long run, but not so much in the short run.

Of course, if the fed slices rates to 1%, in the long run this causes inflation, but it may have short run beneficial effects because--since prices do not adjust quickly--then this can cause pain that we as a society do not want to see occur.

Take the formula

MV=PY

classical economists assumed that V and Y were fixed. Therefore, the classicals claimed that any increase in M leads to an equal increase in P.

Now Keyne's attacked the idea that V (velocity) was fixed (Animal spirits?), but as Milton Friedman has shown, V is remarkably stable overall. So lets assume V is stable, but that Prices do not adjust

Then an increase in M does not necessarily have to lead to a simultaneous increase in P, if prices are fixed. The increase in M can lead to an increase in Y. But this is only because P's are sticky in the short run.

Can't we just say that Keynes pointed out the reality of modern economies and the need to incorporate these insights into our models?

Surely, the rancor between classicals and Keynesians is a bit excessive? no?

Thanks

Matt Festa

[Uncle Jeffy]

Can't remember where I saw it, but - apropos the good professor's comment about Hazlitt's book ("It's an excellent book ... if one already knows a significant amount of economics") -

K"...the difficulty with Economics in One Lesson" is that the author needs another lesson..."

[Alex Fan]

From Marginal Revolution:
DeLong on Hazlitt
Alex Tabarrok
Brad DeLong criticizes Henry Hazlitt's Economics in One Lesson. First, "because at least half its pages hint that the works of John Maynard Keynes are an abomination without ever grappling with the Keynesian argument."

Hazlitt did not say much about Keynes in his famous introduction to economics but he certainly grappled with the Keynesian argument in his lesser-known The Failure of the 'New Economics': An Analysis of the Keynesian Fallacies.

Second, DeLong quotes Hazlitt:

There are men regarded today as brilliant economists, who deprecate saving and recommend squandering on a national scale as the way of economic salvation; and when anyone points to what the consequences of these policies will be in the long run, they reply flippantly, as might the prodigal son of a warning father: "In the long run we are all dead." And such shallow wisecracks pass as devastating epigrams and the ripest wisdom.

According to Brad this quote is "dishonest" and a "misrepresentation," but Keynes did deprecate saving and recommend squandering. Famously:

To dig holes in the ground,” paid for out of savings, will increase, not only employment, but the real national dividend of useful goods and services. (General Theory, Ch. 16).

Brad seems to think that Hazlitt quoted Keynes out of context because "What Keynes actually wrote in his Tract on Monetary Reform" was:

Now 'in the long run' this [way of summarizing the quantity theory of money] is probably true.... But this long run is a misleading guide to current affairs. In the long run we are all dead. Economists set themselves too easy, too useless a task if in tempestuous seasons they can only tell us that when the storm is long past the ocean is flat again.

But the misreading is Brad's not Hazlitt's. Keynes is criticizing classical economics for focusing on the long run and this certainly includes the classical focus on savings as a key to economic growth. Hazlitt, as Brad notes, is restating classical economics so when Hazlitt points out the long-run problems with using spending to increase short-run aggregate demand, Keynes does, in effect, reply "We are all dead in the long run."

For some, it seems, one lesson is not enough. :)

April 11, 2005

[ogmb]

AlexFan -- "From Marginal Revolution:"

Speaking of which, Alex Tabarrok uses Pindyck & Rubinfeld for his intro micro class, and thusly relegates externalities to footnote status at the end of the semester. For a micro class that would be sad enough, but for a econ foundations of law class it's awful.

[Blar]

Alex Fan,
Hazlitt's use of the "we're all dead" quote is misleading because it presents a caricatured view of Keynesians as people who only care about the short run and do not care at all about the long run (why should I care what the economy will be like after I'm dead?). Keynes, however, did care about the long run - he was just arguing that we should care about the short run in addition to the long run (yes, the storm will end, but what can we do about the devastation that it's bringing to our lives right now?). Keynes criticized classicists for putting too much emphasis on the long run, but that does not mean that he wanted to completely ignore the long run.

In other words, Keynes was saying that it is not sufficient for things to be good in the long run - we want them to be good in the short run, too. Hazlitt has Keynesians saying that it is not necessary for things to be good in the long run - we only want them to be good in the short run.

[dsquared]

The whole point of Keynes (missed tragically by most of those who call themselves "Keynesians" because they are basing their economics on the model of Sir John Hicks, without checking whether Keynes said what Hicks said he said) is that economic production and consumption takes place in time and under conditions of uncertainty.

This is at the root of the problem of Say's Law (or rather, the strawman version of Say's Law that Keynes sets up; Thomas Sowell argues convincingly that JB Say did not hold any such simplistic position). Supply may be *implicit* demand, but *implicit* demand, isn't demand. There are any number of possible slips twixt cup and lip, and any number of things that could cause someone to delay a purchase and hoard rather than spending.

The second, related, big idea in Keynes is the distinction between hoarding and saving, and this is the one which Hazlitt and almost all other classical economists miss. Classical economists, in general, treat "saving" as simply postponing consumption in order to increase production. Keynes points out that *how* you choose to go about postponing consumption is absolutely key.

If I have just produced and sold a gross of chickens and decide that I don't want to consume the proceeds, then I can either buy more chicks, or put the money in the bank. If I do the first (investing in physical capital or plant), then, more or less with certainty, future production increases. If I stow the money under the bed, then, with certainty, future production doesn't increase. If I put it in the bank, or in some other money-like, *liquid* instrumentm then future production might, or might not, happen, depending on the assessment of somebody else about the possible profile of future demand for products I never even heard about.

This is the key to Keynes; we want our savings to be liquid (so we can get at them when we want them), but it is not in general possible to have investments which are both liquid and committed to the productive process. We can create something that kinda-sorta has this effect through a banking system, but we do so at the expense of making monetary factors matter, creating the possibility of unemployment equilibria and requiring careful management.

This is the point about Keynes' paradox of thrift. There is no "paradox of building factories" - the point to the paradox is that you can get into a situation in which people demand so much liquidity that resources are steered away from productive investment into liquid investments. Since there is basically zero labour requirement for the production of liquid financial assets, a society that has a very great demand for them will tend to find that there is unemployment.

This is why Tyler and Alex are wrong about what Keynes said about "saving"; they've made the same mistake as Hazlitt and all the other classical economists who treat "saving" as a magic economic black box that turns foregone consumption today into production tomorrow.

[Peter]

But Patrick, the Great Depression was a worldwide phenomenon. Many of these countries stuck to fiscal orthodoxy -- Why didn't their economies recover? And, on the other hand, why did countries with substantial government intervention like Japan, Germany, and Sweden manage to do well?

[Dave]

For teaching purposes, what would be the liberal/left equivalent of Economics in One Lesson? I am looking for something a) well-writtem b) very introductory, c) old --- thereby demonstrating its quality and d) free, ideally.

Any suggestions would be appreciated.

[dsquared]

"Such as lousy monetary policy, govt. fixing prices above their market levels, destroying peoples' confidence in property rights, and other policies of the kind favored by FDR up to about 1940"

Or such as a Great Depression, of the kind favoured by Hazlitt.

"Had the U.S. followed policies of the sort favored by Hazlitt, rather than the ones they did, recovery would have taken place pretty much as it always did"

Or possibly a Communist revolution.

[alex fan]

For teaching purposes, what would be the liberal/left equivalent of Economics in One Lesson?

You do mean to teach them both side by side (or some equivalents), right?

[Julian Elson]

Let me guess: Patrick Sullivan thinks that Hoover caused the initial Great Depression (rather than an ordinary business-cycle bust) by signing the Smoot-Hawley tariff.

[P.M.Lawrence]

Well, to qualify dsquared's remarks about no labour content to the supply of liquid money, consider what happens under a silver standard. As cash shortages develop, more gets mined - and, of course, about half the silver production is a by-product of lead production.

More generally, over a sufficiently long term - and I emphasise LONG - even a gold standard causes increased spending the more gets stockpiled. If nothing else, the carrying costs (guard salaries etc.) increase in real terms as more is withdrawn from circulation. But over generations real balance effects increas drawing down from savings; if a tradesman doesn't spend his savings on suits, his spendthrift nephews will.

This is merely to show that the long term theory does allow for savings to be released, I'm not suggesting that such an equilibrium was ever close. If nothing else, shocks arrived more frequently than that long term. Keynesianism itself may be considered such a shock, come to think of it.

P.S., I think the direction Pigou was pointing was much underrated, and Keynes the thinker derailed progress in that direction.

[Colin Danby]

dave/alex: Please don't confuse politics and analysis (and even as a matter of politics, "liberal/left" is a silly category). (Keynes himself was politically anti-socialist and analytically hostile to Marx.) If you want a sense of the *variety* of schools in economics start here:
http://cepa.newschool.edu/het/ but you'll only end up in confusion if you try to map schools onto a simplistic political spectrum.

[Anarch]

>> Generically means for an open and dense set of economies, which roughly means something like "with probability one." <<

Do my eyes deceive or did I just see a Baire category argument?

[anne]

Hazlitt was an imaginer of history, not an historian. But, how can imagined arguments be properly set aside?

[anne]

Markets, the freer the better, offer us a wealth of information and as freer may be self-adjusting for long periods of time. But, markets are forever prone to imbalances that appear not be self-correcting or if they are only self-correct after fierce damage is done. The idea itself of a classically free market is imagined but simply can not be. A healthy economy mixes market allowance as broadly as possible with specific market oversight and the use of broad economic policy to correct conditions that hinder low inflation growth over time. That Britain, in 1778, chose to limit, though imperfectly, employment of 6 and 7 years old chimney sweeps, was not the undoing of free markets in Britain.

[David]

Liberal/left may be a "silly category" but surely it serves some purpose. Many, many people on the conservative/right (or at least people who vote against minimum wage laws, rent control and government regulation in general) recommend Hazlitt's book enthusiastically. What is a book that similar numbers of people recommend from the left (or at least people who vote in favor of minimum wage laws, rent control and government regulation in general)?

This is for a course, either a replacement for or supplement to ECON 101, that would cover the best arguments from all sides. After or before reading Hazlitt, what should the students read?

Thanks for the reference to the history site, but nothing jumped out as appropriate for this purpose.

[anne]

David

"The Worldly Philosophers" by Robert Heilbroner; "John Kenneth Galbraith: His Life, His Politics by Richard Parker, His Economics;" there is as well Galbraith; Robert Skidelsky's biography of John Maynard Keynes is monumental, and Brad has a fine review.

[Peter]

Patrick, Look at the seven countries Cole and Ohanian mention: Belgium, Britain, France, Germany, Italy, Japan, and Sweden. Do Cole-Ohanian really believe that the governments of Nazi Germany, Fascist Italy, Imperial Japan, and Social Democratic Sweden were friendly towards property rights, flexible prices and deregulated markets? That's not to mention the fact that, unlike the United States, most of the countries in the international sample were engaging in mass rearmament by 1938 (including Britain and France, I believe) and thus benefited from the fiscal stimulus.

The historical ignorance aside, the data is meaningless. I'm not well-versed in econometrics, but I know that comparing a data set of one country to. a data set of seven countries with heterogenous economic policies tells you nothing. What kind of standards does the Minneapolis Fed have?

[anne]

Peter :)

Britain was recovering from a decade of depression in the 1920s, which was what Keynes had feared and written about early on.

[anne]

http://www.j-bradford-delong.net/Econ_Articles/Reviews/skidelsky12.html

Review of Robert Skidelsky, John Maynard Keynes: Hopes Betrayed and The Economist as Saviour
By J. Bradford DeLong

[David Locke]

Keep in mind that only 30% of American's suffered during the Great Depression. So Hazlitt was one of the other 70% that suvived and maybe had to cut back a little. You don't hear about academic economists throwing themselves out of their second story windows at universities.

Keep in mind also that during the Revolutionary War, we tarred and feathered Tory simpathizers. It is unfortunate that we did not kill them. They live on as the progenitors of the right wing.

My rightie friend can't wait until the next depression. They seem to think that it is just what the country needs. I don't want to live through that. I'm already having a hard enough time with the current structural unemployment.

[liberal]

Barry P. wrote, "Someone tossed around the phrase 'market libertarian', possibly aimed at me. I don't deny the charge, but merely wish to add that it is incomplete: I am a market and social libertarian. I simply believe that every individual (and hence, society in toto) is far better served if all interactions and all contracts are voluntary. I'd like to see all involuntary contracts (be they market-power or government-power derived) eradicated."

OK, I see. That means you support eradicating the government-imposed contract that says I can't use other people's land?

More to the point: "Are you a real libertarian or a royal libertarian?" See URL
http://geolib.pair.com/essays/sullivan.dan/royallib.html

[liberal]

Patrick R. Sullivan wrote, "And it's telling that there has been absolutely zero substantive criticism of the book of his supposedly under discussion."

How about this: Hazlitt goes to great length to attack unions (for what I assume is, in modern parlance, rent-seeking), but avoids the biggest rent-seeking group of all: landowners.

[P.M.Lawrence]

David Locke is not only offensive to those in the Loyalist tradition, he is also factually incorrect; wrong both ways. The Tories were epelled and expropriated without the agreed compensation (so much for claims that the USA has never repudiated).

It is the mindset of the ethnic/cultural cleansers that lives on in the US tradition of saying one thing and doing another in matters of liberty and democracy. Those cleansed are the spiritual and often physical ancestors of Canadians.

[P.M.Lawrence]

Liberal, it's not governments who impose systems of land ownership. Rather, as part of their maintaining the monopoly of force, they seek to move in and take over any independent expressions of force. That's why the US set up homesteading systems to appropriate the informal arrangements that were coming into place as people moved into and onto new lands. A similar process happened in Australia, with formal government following and regulating informal settlement. It's even why the English Crown went into Ireland centuries ago, to regulate and control the Norman nobility who were establishing themseleves there independently of the King.

So, all this talk of "royal" and whatnot is completely misconstruing the mechanisms involved.

[liberal]

P.M. Lawrence,

Your point of view on land value taxation has already been thoroughly debunked on USENET (sci.econ).

[P.M.Lawrence]

Liberal, if you're going to use an argument from authority, at least cite the authority. But it would be more persuasive to provide the facts and arguments, if such there be.

[Colin Danby]

"What is a book that similar numbers of people recommend from the left (or at least people who vote in favor of minimum wage laws, rent control and government regulation in general)?"

David: If you're teaching a course, you're not going to serve your students well by reducing this to simplistic left-right divisions. When you do that, people tend to just take ideological positions. And even within your parenthesis, "government regulation in general" is way too floppy a category to produce useful understandings. You might be able to construct a good unit of a course by taking one issue, like minimum wages, and trying to sort carefully through the different issues. But even there, if you insist on compressing everything into a left-right binary. With that topic you could look for a range of positions and arguments.

The point of the site I suggested was to *try* to persuade you that economic analysis is a rich area with a wide variety of approaches, and you do it a serious disservice by trying to collpase it all into two compartments, left and right. Such a collapse also gets really weird results: as Keynes' biographer Robert Skidelsky (a Tory politician) shows, JMK was in many respects conservative.

[David]

Colin,

I don't want to be snotty, but what is your point? I plan on teaching a course. One of the books I will (and have) assigned, is "Economics in One Lesson". What other book(s) should be assigned? Is this question too hard to answer? I realize that you find left/right divisions to be "simplistic," but most people find it to be a handy enough shorthand for thinking about the world.

Anne: Thanks for the suggestions. I know The Worldly Philosophers, but am looking for something in the same polemical style as Hazlitt's book.

Since I have asked this questions a fair bit without success, I am coming to the conclusion that there is no left/liberal analogue to Economics in One Lesson, which is a shame.

[Sebastian Holsclaw]

"We all know that the market system is an amazing decentralized social planning and allocation mechanism if externalities are small, if returns to scale are in general diminishing, if we are happy with the distribution of wealth and the concommitant distribution of economic power it gives rise to, and if Say's Law holds--if supply does indeed create its own demand, and we don't have to worry about large-scale unemployment and deep depressions."

The problem is that very few people have enough of an understanding of markets to even get that far. Illustrating how markets can and do aggregate information in ways that no human decision-maker could do on his own is extremely useful.

[Glen Raphael]

In defense of Hazlitt, nowhere does Hazlitt say he's referring to Keynes. The quote starts "There are men regarded today as brilliant economists, who..." That's men, plural. Keynes is a singular man, so he can't be the sole subject of this sentence. Hazlitt seems to be referring to people who quote Keynes.

Haven't we all heard people quote that snippet of Keynes (without the full context) in the way Hazlitt is criticizing? If Hazlitt had explicitly referred to Keynes that'd be one thing, but since he didn't I think this particular claim of "misrepresentation" fails.

So, Brad, do you have another example of Hazlitt misrepresenting someone? Other than this one? Anybody?

[Perry]

"What is better than markets? Markets that are structured to be fair when there are faulty power balances. Markets that are restrained when inflation threatens and stimulated when demand falters and work is limited. Markets that are created by splendid public institutions such as historically fine American schools...."

I just love how people think that a market is something that can be created and tinkered with, rather like an automobile or a train set. But the thing is that markets are not created and molded, they just exist.

All you need is resources and people that want those resources and *POOF* there is a market. There is a market for MLB baseball cards in India, there is a market for makeup in Iran, there is a market for extension cords in Iowa.. etc etc ad infinitum..

They are neither fair nor unfair, faulty or correct, left or right - they just allow us to describe the aggregate of ways that people navigate through whatever barriers that exist for them in order to obtain things that they need or want. no more and no less.

The only thing that 'tinkering' with markets will ever serve to do is create conditions that may or may not serve their intended purposes. You can never know exactly how or why people will want or need a certain thing, or for what reasons, or its worth to that person. Therefore you can never exactly know the ends to which any desired policy prescription will cause.

[Phileas]

It is really amazing how Tyler Cowen is so imbued with all the false common sense of current Economics and completely short of any critical attitude. The time spent to underscore some gross mistake of his is really a waste. However can be wothwhile to note that Cowen knows Say through the words of Keynes only that notoriously completely misunderstood his law. Indeed it states a pure tautology: whatever income to be spent has first to be produced. This is without any "if" or condition of any sort.
Cowen does not understand the real meaning of Economics which is a logical deductive form of reasoning that does not depend on time or circumstances. Economics laws are unchangeable. Of course the price of a horse compared to a camel can change over time but the way that price is set is always the same.