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Source link: http://archive.mises.org/11347/intermediate-macroeconomics/

Intermediate Macroeconomics

December 30, 2009 by

I chose a neoclassical text that did a reasonable job of presenting Keynesianism, monetarism, and new classicism. What was missing, of course, was any reference to Austrian theory. FULL ARTICLE by Paul A. Cleveland

{ 30 comments }

Conza88 December 30, 2009 at 8:40 am

Awesome!

Garth Brazelton December 30, 2009 at 9:48 am

The idea of unfettered markets leading, by definition, to only voluntary types of unemployment is wholly ridiculous on 2 levels. One, there is no such thing as a unfettered labor market or any other market in the real world – so this assumptions is just as ridiculous as some of the classical assumptions you mentioned. Second, even if unfettered, firms and individuals do not behave like robots in a static point of time. Wages will always be sticky, firms will always decide it’s easier (either due to politics or to keep certain employees happy, etc.) to fire people involuntarily as opposed to just cutting wages or saving cost in other ways. The Austrian analysis of labor seems to suggest that the decision to remain employed is always at the whim of the employee – which is ridiculous. To summarize, this analysis (especially in the PDF you attached) ignores the psychology of actual behavior in favor of, much like mainstream economics, hard rules and assumptions based in mathematics.

Mike Mathea December 30, 2009 at 10:22 am

Thanks for the ideas, I have just endured the same set of problems my first time through intermediate macro in years. I did add a model of capital enhancement to explain some of the labor issues Garth mentioned. The change in the response to a recession by managers is the key. Managers no longer take as gospel a reduction in capital enhancement spending during a down turn.
We have missed the lavatorial change that probably began om the 1990,s Managers now continue to purchase productivity enhancing capital even in a downturn. The result is a trend towards job less recovery’s.

EIS December 30, 2009 at 10:31 am

Garth Brazelton,

“The Austrian analysis of labor seems to suggest that the decision to remain employed is always at the whim of the employee – which is ridiculous.”

In fact, it’s not ridiculous at all. Finding a job is not what’s difficult; the difficult part is finding remunerations you deem appropriate.

Anyways, as an undergraduate studying economics, I too am constantly taught that Say’s law has been thoroughly refuted. One day I decided to actually read Say, and to my surprise, my professor’s representation of his law (strawman) was nonexistent. Furthermore, his law is a mere tautology, which can never be refuted:

“As each of us can only purchase the productions of others with his own productions—as the value we can buy is equal to the value we can produce, the more men can produce, the more they will purchase.” Thence follows the other conclusion, which you refuse to admit; that if certain goods remain unsold, it is because other goods are not produced; and that it is production alone which opens markets to produce.”

Overproduction in the general sense is an impossibility insofar as human desires are insatiable. Thus, there can only be overproduction in the relative sense.

Furthermore, I hope you gave a detailed analysis of Keynesian doctrine before you refuted it. Pure biased ideology, of all types, is counter-productive. I’m actually glad that I attend a predominately Post and Neo Keynesian school–it shows me the absurdity of their analysis.

Jon Leckie December 30, 2009 at 10:41 am

Garth, I would offer you the two points to consider.

Your first point is a nonsense. Austrians argue for a minimal level of regulation or other interventions by the state in the labour market (and any other), which would allow wages to rise and fall in response to demand for the employee’s skills. Wages should fall to the point where every person who wants to work can find employment. To say this state of affairs is ridiculous because a free market does not exist in the real world is to say nothing at all. The fact that a free labour market does not exist is exactly what gets Austrians so excited in the first place!

Your second point is equally difficult. You say that wages in an unregulated market will always be sticky. Why should that be the case? There may be a time lag between the erosion of an employer’s profit margin and the decision to cut the wages of or fire employees, but the last two years has seen many such examples – except of course in heavily unionised workplaces like the US car industry, where jobs have been lost rather than wage cuts accepted. I also struggle to see why firms would fire staff just to keep “other employees happy”. Who exactly? The union reps? But it’s a free labour market, remember! Oh sorry, “such a thing can’t exist”. Why not? Back to square one.

Fundamentally, if a firm cannot preserve profitability by reducing costs, either by cutting the payroll through wage cuts or redundacies, the firm should be allowed to fail and the employees and other resources released to find employment with other firms engaged in actual profitable activity. A community has limited resources and will suffer if those resources are not allowed to be employed in the most productive way. That’s the essence of a belief in free markets. It’s not theoretical or based mathematics; rather it is dependent on the price mechanism operating freely, and is thus fundmentally grounded on basic human psychology and behaviour.

Jon Leckie December 30, 2009 at 11:01 am

PS. Mr Cleveland, your course sounds really really great. I wish you’d taught at my school – your course might’ve really changed my life. I think what you’re doing there is really important – the absence of sound economic thinking is so costly to our communities, it allows politicians, regulators and bureaucrats to get away with the most destructive of policies, and then to blame it all on the free market when it goes so badly wrong! You’re on the front lines of the battle! JL

Garth Brazelton December 30, 2009 at 11:41 am

Jon –
Regardless as to what Austrians argue for ideally, in a pragmatic real world, the arguments don’t seem to hold up. Second, I never said wages would always be sticky. I gave that as but one example as to why firings might occur involuntarily. Finally, your argument about firms operating at profit to stay alive seems to presume perfect competition everywhere, which as I inferred, is impossible. The complexity of our economy is such that most all industries have degrees of monopoly or monopsony or political power etc. Such firms can and do endure a loss of short-run or even long-run profit because they have a super-profit cushion. Firm behavior is thus more strategy than the black and white behavior that you describe. Their existence is guaranteed, with or without regulation.

EIS December 30, 2009 at 11:59 am

Garth Brazelton,

“Finally, your argument about firms operating at profit to stay alive seems to presume perfect competition everywhere, which as I inferred, is impossible.”

(a) We’re not Walrasian/Marshallian’s, and as such, don’t take, nor have ever taken perfect competition seriously. (b) What does this have to do with the fact that firms require profits in order to exist? No firm (not government backed/created) can incur long-run losses and exist, unless you wish to completely annihilate the definition of “long-run.”

“Firm behavior is thus more strategy than the black and white behavior that you describe.”

You don’t know anything about Austrian economics.

“Their existence is guaranteed, with or without regulation.”

Yes, if your name is the FED, Goldmann Sachs, BOA, Morgan Stanly, Citibank. But what’s your point exactly? Fascism is bad? We agree.

Jon Leckie December 30, 2009 at 12:20 pm

Thanks for your reply Garth. I’m afraid I just can’t agree with your description of the real world. Firms make pricing decisions every single day. New firms are founded, other firms go into bankruptcy, people are given wage raises, other people have their wages cut (if they’re allowed to! Most people will take the cut then lose the job altogether). Resources are priced by the interactions of buyers and sellers. None of this assumes perfect competition – it doesn’t need to. What is important is that the price mechanism is allowed to operate without bureaucratic intervention, and in countless (but not enough!) instances it does this each and every day. Your assertion that most market participants have monopolistic or near-monopolistic power is, well, it just doesn’t bear scrutiny. Go and ask Ford or GM, or GE about their monopolistic power, their ability to price their products without regard to their competitors! And I don’t know what to make of your assertion of a guarantee protecting market participants either. Where was Lehman’s guarantee? Key point – government intervention allows politically connected firms to survive when the market would bury them with a smile. You want to remove these “guaranteed” corporate behemoths? Get the government out of the marketplace and let them prosper or fail based on their own merits, not on who they know on Capitol Hill.

The critical question is the legitimacy or otherwise of government intervention in the pricing mechanism, and then the consequences, beneficial or otherwise, of that intervention. That’s the issue that is confronted squarely by the Austrian analysis.

And if you look at your original posting, fourth and fifth line, you’ll see your statement “Wages will always be sticky”. To make my point a differnet way – wages are sticky only because unions negotiate firm or industry wide contracts which make wage reductions impossble, or otherwise exercise their pernicious influence to take such reductions off the bargaining table. Absent such interventions (or statutory interventions to the similar effect) wages will adjust downward to the market clearing rate. This is not theory, this is how the real world works, unless it is prevented from doing so.

Listen, have a look at some of the books available from site. Try anything written by Robert Murphy, he’s really good and really clear. Hayek’s The Road to Serfdom is also fantastic, and makes the key points very clearly. You can’t go wrong.

Best
Jon

Garth A. Brazelton December 30, 2009 at 12:23 pm

It matters because the only reason a Company would fail over time in the manner described would be if they were operating in a heavily competitive environment to the point where they would be FORCED to reduced costs or exit. Companies with monopoly power make super-normal profit and therefore would not be forced to exit over time provided they are still making some form of accounting profit. I wasn’t suggesting firms earning negative profit would not be forced to exit eventually – I was merely suggesting that firms with a profit cushion (like monopolistic ones) need not adhere to cost-cutting measures provided their annual cushion exceeds the annual loss associated with the higher costs.

Garth A. Brazelton December 30, 2009 at 12:32 pm

“Wages will always be sticky…” I meant “Always either: wages will be sticky, etc”…. sorry for the bad semantics.

I know a good amount about Austrian economics – enough to know that I like aspects of it, and not of others. I wasn’t saying Austrian economics was black and white – I was saying the author’s comments were.

I suppose we can agree to disagree about the reasons for wage stickiness, and market power. My point though, to clarify, was not that GM etc. or anyone else has near perfect monopoly power – may point was merely that in terms of pricing, profit, and labor relations, etc., there never exists perfect competition – someone has the upper hand in almost all instances. In GM’s case, unions have the upper hand as opposed the individual employee(s) or the employer. In other cases, the company has the upper hand as opposed to individual employee(s). The point is, that in this situation, there is always wiggle-room for involuntary unemployment – despite what you keep saying is the “Austrian” ideal.

Jon Leckie December 30, 2009 at 1:04 pm

Thanks again, Garth. I see your argument more clearly now, but am no more convinced by it. It seems to me that you’ve disregarded the Austrians (a) because of the existence of monopolies, and (b) because you’ve placed too much emphasis on the argument that free market conditions should lead to zero voluntary employment. If you’ll indulge me a bit more I’d like to write a bit on (a) and in doing so hopefully shed some light on why I think (b) is not so important.

First, I understand the jury’s still out on whether such things exist as “natural” monopolies, where the structure of the particular market means only one player can operate profitably. Even accepting their existence, I think it’s fair to say that many (and perhaps the majority, but I don’t know for sure) monopolies are the creation of government intervention, and thus its illogical to use their existence to disprove the Austrian preference for free markets.

Second, the number of monopolistic industries, natural or otherwise, is vastly outnumbered by the number of industries and markets where the competiton is absolutely cut-throat – many market players contest mightily every single customer and margins are priced to the bone. These slim margins encourage entrepreneurs to search for other markets, new technologies, fatter margins. This activity maximises the productive capacity of a community. It’s where profits are generated that in their turn are used to fund (through savings) the next round of investment. It’s also where most, if not all sustainable jobs are provided. And this is where we all have the most to lose from the interventions of an overweaning state, because those interventions interfere with the market and limit the number of those jobs – see where I’m coming from? It doesn’t matter that zero voluntary unemploymet comes about, what matters is that we as a community maximises the productive capacity of the limited resources available to us.

So I don’t need to rely on a perfect world ideal of zero voluntary unemployment to support the Austrian analysis. I support it because I think the price of current government intervention is huge, and the Austrian analysis is the only analysis I have found that is at the same time consistent, clear and accessible, while also seeming to hold immense explanatory power on the consequences of state intervention in the market and the world we live in more generally.

I urge you to reconsider the Austrians. Respectfully, I don’t think the reasons you’ve put forward in what has been a very enjoyable exchange are good enough for your rejection of the Austrian analysis.

Best
Jon

Garth A. Brazelton December 30, 2009 at 1:14 pm

Jon – thanks much.

Again, let me say I do not discount Austrians at all – just aspects of it. My most recent blog post was in favor of a mises.org post (against the usefulness of disaggregating utility into risk and money). Austrians have contributed a lot, and I agree largely with the Austrians that equilibrium analysis is problematic at the least.

I don’t even necessarily take as much issue with this blog post as with the PDF attached that talked about zero involuntary unemployment in the labor market.

Where I have problems with Austrianism (and where I more favor post-Keynesian and other heterodox forms) is the idea that the government is responsible for most/all woes and that the economy would operate near perfect without it. I believe our issues are more complex and problematic in the private sector – prone to bubbles and bursts, prone to politics (not just governmental), prone to ponzi schemes and over-risk taking, etc.

Regarding you point though about entrepreneurship and general pull of profitability – I wholly agree that that works at the aggregate level – perhaps not as neatly as you suggest. But the overal point I completely agree with.

scott t December 30, 2009 at 2:02 pm

“the idea that the government is responsible for most/all woes and that the economy would operate near perfect without it. I believe our issues are more complex and problematic in the private sector”

i would think that the private sectors that used media prone to bubbling would be where the only woes would occur – from a monetary perspective.

business enitities using money incapable of being bubbled wouldnt have such issues. to the extent they were known about less bubbles would occur.

scott t December 30, 2009 at 3:14 pm

that is is bubbles do cause woes?

Curt Howland December 30, 2009 at 3:36 pm

“the idea that the government is responsible for most/all woes and that the economy would operate near perfect without it.”

This kind of thinking has always puzzled me.

Not only is “perfection” an unreachable ideal by anyone who presents what they think of as a “perfection”, it’s also different for every person.

Next, the closest thing to “perfection” that I’ve ever heard an Austrian-esque economist or philosopher discuss is the tendency people have to strive towards what they want. So over time, given resources, greater wants are met and lesser wants come up to be fulfilled, repeat. The problem being that there will always be unmet wants.

Mises and every other Austrian who has ever talked about logical extremes has said the same thing, which directly refutes anything like “perfection”.

Yet I’ve seen many supposed “arguments” against Austrian economic analysis by people who specifically use the word “perfection” and then use that straw-man to supposedly “disprove” the Austrian logical process.

Humans acting tend toward meeting unmet wants, their own and others, and the better those wants are met the greater the opportunity for profits. Intervention can only interfere with this process and retard the meeting of those wants.

Remove coercive intervention, and the greatest latitude possible for people to respond to wants is available. “Perfection”? Ha! That’s not perfection, merely the greatest possible opportunities for the benefit of the greatest number of people to the greatest extent possible.

“the private sector – prone to bubbles and bursts, prone to politics (not just governmental), prone to ponzi schemes and over-risk taking, etc.”

And this is improved by coercion…how?

Impose an institution with the monopoly on coercion on a situation can only make the situation worse. Every negative tendency you ascribe to the “private” sector is inherent in the “public” sector, since they’re just people too.

But unlike the “private” parties, the “public” sector has the ability to externalize their costs through coercion with the sheen of legitimacy. A private party that creates, to use your example, a Ponzi scheme, is directly and personally responsible to the people they have robbed.

Yet a government running Social Security, which is itself a Ponzi scheme on a huge scale, is immune. There is no responsibility for awful repercussions, because of the illusion of respectability.

And that is just using ONE of your own examples.

Garth, I know this will be hard for you to understand, but the simple truth is that government is, and has been repeatedly demonstrated to be, the source of the greatest destructive forces in human society. The death toll, the volumes of wealth stolen and destroyed, make mere private crime pale to insignificance.

Perfection is not possible in a free market, but without coercive interference it would tend far more in that direction.

Stephanie December 30, 2009 at 5:09 pm

Dr. Cleveland, I remember taking that course!!! I may not be the most researched or the most brilliant economist, but even I know that I suffer from quite a bit of money illusion (“How much does the Fed think my pseudo-gold dollar is really worth these days?”) and an imperfect competition (“I would love to have some perfect information and homogenous goods about now because my transaction costs are making grocery shopping rediculous!”). And just looking at people tells you that we all have our own purposes instead of just reacting to stimuli.

Also, I remember talking about Japan’s economy from 1985-2001; it seems that the only thing government can create is a bunch of boom-bust cycles. Will we (or, “They”) ever learn? Is there any hope for us, or are we stuck believing that FDR and Keynesianism “saved” us from the Great Depression?

I enjoyed your class (as I enjoyed all of your classes)! And I think our only way to change public thought is to teach, to teach, to teach! I am glad you are doing just that.

Russell M December 30, 2009 at 6:29 pm

The only hope for a more stable economy is if the electorate understand what makes it tic. Otherwise, voters fall for liberal and fair sounding free lunch promises provided by government intervention. The politicians who make these promises have no appreciation for the damage they do.

The only way to prevent this is though education.

Keep up the good work!

Inquisitor December 30, 2009 at 6:57 pm

Garth, reading your comments, I will have to agree that your understanding of Austrian econ is circumscribed, to say the least. Discussing monopsony &c. and blathering about perfect competition, treating firing as being a form of “involuntary” unemployment &c. does betray sheer ignorance of it.

Inquisitor December 30, 2009 at 7:02 pm

“Where I have problems with Austrianism (and where I more favor post-Keynesian and other heterodox forms) is the idea that the government is responsible for most/all woes and that the economy would operate near perfect without it.”

Which no one argues, except what Austrians do argue is that things would be significantly lessed messed up without a coercive interferer in economic transactions. The private sector problems you mention are outgrowths of gov’t intervention to begin with for the most part, and where they aren’t at least a) their participants could’ve not gone along with them or b) they’re not considered legitimate unlike gov’t crime.

Micah December 30, 2009 at 8:31 pm

Some people need to read Rothbards treatment of monopolies in a free market in MESPM.

http://mises.org/rothbard/mes/chap10a.asp

Rothbard effectively shows that, in a free market, monopolies are a non-issue, and even if you perceive them to be an issue, there is nothing you can do to effectively differentiate between a ‘valid’ and ‘invalid’ monopoly.

sergio December 30, 2009 at 9:47 pm

Hi – this is a great piece.

I took a Macro class recently in a state college. The professor was obviously very intelligent and accomplished as a government economic analyst. But she never mentioned anything I had been reading about for years on Austrian-oriented websites. We just went straight through the Samuelson book point by point and chapter by chapter.

I’m curious about something – Mr. Cleveland or anyone else here may have an opinion.

To what extent is an orthodoxy enforced in universities these days? What happens if you question it or present another view? To what extent does industry or government influence the way economics is taught?

NotGarth December 30, 2009 at 10:32 pm

On monopolies and competition:
http://www.youtube.com/watch?v=mwH8unDcdMY

Oh Why Calbot? December 30, 2009 at 10:47 pm

Wonderfully written article. I recently took a course that taught Keynesianism (Intermediate Macroeconomics) and found that by quickly reviewing some of the material Professor Cleveland uses in his class, a few of my own personal quarrels with Keynesianism were put to rest. Thank you.

Peter Surda December 31, 2009 at 4:10 am

Kudos to Paul. I wish I had a teacher like that when I was taking macro courses, might have ended my confusion earlier.

A brief remark for some of the posters regarding “ideal competition”. In fact, if there were no transaction costs, all goods were homogenous and information symmetric, then no competition would be possible and noone would be able to earn money. I forget where I got that from, but probably Block or Hoppe. It is only the inequalities and differences that allow for people to earn money at all.

P.M.Lawrence December 31, 2009 at 7:01 am

Jon Leckie wrote “Austrians argue for a minimal level of regulation or other interventions by the state in the labour market (and any other), which would allow wages to rise and fall in response to demand for the employee’s skills. Wages should fall to the point where every person who wants to work can find employment. To say this state of affairs is ridiculous because a free market does not exist in the real world is to say nothing at all.”

Er… no, to the second and third sentences. Under a wide range of circumstances – within which our circumstances fall – wage levels (a range) low enough for everyone to find work are lower than some need to survive. There is then a market failure, as some people at the margins turn to predatory behaviour to live, with its costs falling on others; you can only count that as employment by straining ordinary meaning. That makes it not a free market by one path; in countries with benefit systems, people don’t have to turn to predatory behaviour but funding the benefits means costs still fall on others and it ends up not a free market by another path. Either way, the market problems – and the way they come about – are something significant, and analysing them and what to do about them really does matter. Theoretically, governments could do something to help these market failures, but, being what they are, they actually choose measures that make things worse or entrench them and lock them in.

Paul December 31, 2009 at 7:07 am

I loved this article. I wish there were more like it. It’s inspiring.

CJ December 31, 2009 at 7:28 am

P.M. ,

The reason some wages are below the minimum cost of living is due to the inflation of the Federal Reserve. If we had sound money, the cost of living would be much lower, the average standard of living would be much higher, and the labor of which the market value is less than the current minimum wage would be utilized and those people would still be able to afford to survive. So, what you described, is not in fact a market failure, but yet another problem created by government. Fix the money, fix a lot of other problems.

Jon Leckie December 31, 2009 at 7:53 am

To C.M Lawrence. As far as I can see, you’ve only addresssed the second sentence, not the third, and respectfully, you’ve got it 100% wrong there.

On the third sentence, in what way is it logical to say a free market is ridiculous because free markets don’t exist? I just don’t see it. I’d be grateful if you could set it out for me.

On the second sentence, I endorse what CJ has said in response to you. Let’s say a firm employing two people finds its profits being eroded. In response, it attempts to rationalise its operations and remove inefficiencies. It lowers the price of its product on the market in an attempt to compete.

If it is able to remain profitably in business at the lower price level, everyone benefits – the two employees keep their jobs, perhaps at a lower wage rate, and the community benefits by virtue of paying a lower price for the firm’s product.

If it is not able to remain profitably in business, it fails and the resources used by the firm are reallocated to other parts of the economy where they can be used profitably. Again, the community benefits because its scarce resources are being used most efficiently.

As long as governments do not interfere with wage and price controls, or inflate the money supply causing either asset or consumer price inflation (reducing the purchasing power of our two employees and perhaps then forcing them into the predatory behaviour of which you speak), the market should adjust both consumer prices and wages to an acceptable base standard of living, or at least the most that can be achieved given the resources availble to a community. It is the imposition of wage and price controls and the inflation of the money suppy that leads to wages falling below the minimum cost of living, as CJ says.

You cannot use the nefarious consequences of government intervention to attack the free market. I appreciate the frustration that some feel when Austrians suggest that the free market will solve everything, but so often, on further investigation, one finds that it is not the free market that has produced an unjust outcome, rather it is the logical and rational reaction of market participants to some stupid and shortsighted intervention of the state (all done in the name of the greater good of course, of curing the evils of the “free market”).

I’ve had enough of government intervention. I’d like to give the market a go. Contrary to popular belief, it really would be a novel exercise, and I think a very fruitful one – and for the lowest paid most of all.

Julien Couvreur December 31, 2009 at 4:28 pm

Is there an “advanced macroeconomics” course too? How do the students fare with the “mainstream” teachers after they left your course? ;-)

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