CORE Macroeconomics Concepts & Terminologiesunderstanding Key Economic Indicators & their significance vis-à-vis economic developmentTalk at NDU, on 19th September, 2014 Dr. Asad Zaman, VC PIDE.

Economics: Humanities or Science?

HISTORICAL CONTEXT Who invented the

theory? What problem was it

designed to solve? What happened

when theory was applied to solve the problem?

SOCIAL SCIENCE: Theories are like

scientific laws. Universal Invariants.

Who invented the

theory and When and Why DOES NOT MATTER

Your Vote? Science or Humanities?

What does Harvard University have to say? SOCIAL SCIENCE: Application of SCIENTIFIC

METHOD to study of human beings and societies.

QUANTITATIVE METHODS – MEASURE everything.

Mathematical Laws of Motion for Humans & Societies.

The Battle of Methodologies:

Historical/Qualitative

Must look at historical context to understand theory.

Math/Physics Laws

History is UNIQUE – impossible to learn any laws.

Science Won – Truth Lost !!!

Since 1890’s STEADY DECLINE in understanding of economics –

WHY? WRONG method being used to try and understand economic events.

THERE are economic LAWS – Supply & Demand.

LAWS of consumer behavior.

Goals of Macroeconomic Policy

Full Employment == Maximum Production Stable Prices Rapid Growth {NOW a little bit Controversial}CONTROVERSIES about how to achieve these goals. ALSO Full Employment as a means of providing meaningful jobs to people VERSUS Maximizing Production of Goods and Services.Growth VERSUS Sustainable Growth, Pro Poor Growth

First Crisis: Great Depression 1929

GD took Economists by COMPLETE SURPRISE Irving Fisher: “There may be a recession in stock

prices, but not anything in the nature of a crash.” Julius Barnes: “The spring of 1930 marks the end of

a period of grave concern. American business is steadily coming back to a normal level of prosperity.”

BIG PUZZLE – Still Unsolved

WHY did GD Happen? Economy was ROARING along – Full Employment.

Massive Production of Everything. Everyone Happy. SUDDENLY – factories close, 20% unemployment, stock

market crashes, banks collapse. Life Savings Destroyed. Complete Misery.

WHY ???? – Stock Market Crash Banking Collapse Productive Capacity is there, Labor is there, no war, no

destruction.

KEYNESIAN (MACRO)ECONOMICS:INVENTED TO SOLVE GD PUZZLE

CLASSICAL ECONOMICS: UNEMPLOYMENT cannot happen. SELF-REGULATING Economy

WHY? LAW of Supply & Demand. Wages will fall to restore full employment.

PUZZLE: Do Wages Fall?

One thousand applicants for FOUR positions at IIUI.

Similar situations all over Pakistan. WHY dont wages fall to eliminate

unemployments?CONVENTIONAL ECONOMIC THEORY is incapable of dealing with the MOST IMPORTANT ECONOMIC PROBLEM: Unemployment.

Banking Crisis Regulation

Glass-Steagall Act Maximum Interest Rate Federal Deposit Insurance Restriction to ONE state operation.

RESULT: Very few banking failures until 1980’s.

Wrong Theories Huge Impact

In Mundell’s (2000) assessment, ‘had the major central banks pursued policies of price stability instead of adhering to the gold standard, there would have been no great Depression, no Nazi revolution, and no World War II’.

Keynesian Solution: Macroeconomics

Problem: SHORTFALL in EFFECTIVE DEMAND SOLUTION 1: MONETARY POLICY – Increase money

supply, people have more money, will spend DEMAND

Possible Problem: LIQUIDITY TRAP. No one wants to borrow money, even at ZERO interest rate.

SOLUTION 2: FISCAL POLICY: Government engages directly in investment and public works. CREATES Demand.

Battle of Ideologies

Free Markets

Key Proponents: Hayek, Friedman Minimize Government Privatization Liberalization De-Regulation No interference with free

markets

Regulation

Fiscal Policy, Monetary Policy

Employment Policy Social Welfare Trade Unions Regulations on Monopoly Incentives for Industry &

Exports

Economics of 20th-21st Century

Naomi Klein: The SHOCK DOCTRINE: The Rise of Disaster Capitalismwww.asadzaman.netThe Rise and Fall of the Market EconomyCurrent Crisis in Economic TheoryCapitalism in Crisis

Keynes rules – post WW2

Low AD Unemployment – High AD Inflation

Phillips Curve. Stable, Sound Economies, Prosperity 50-

70 Klein: Chicago School – waiting for a

crisis. Monetarists versus Keynesians.

The Keynesian World

Low Agg. Demand

Low production Excess Capacity UNEMPLOYMENT

High Agg. Demand

Production at maximum capacity

Full Employment INFLATION

Keynesian Quarter Century 48-73

TOBIN: All advanced democratic capitalist societies adopted Keynesian strategies of demand management after World War Two. Unparalleled prosperity, growth, expansion of world trade, and stability. During this ‘Golden Age’ inflation and unemployment were low, the business cycle was tamed.

Britain and other Western countries had full employment for a quarter of a century after the war because their governments were committed to full employment, and knew how to secure it; and they knew how to secure it because Keynes had told them how

Trouble in Keynesian Paradise

Multinationals Military Industrial

Complex

"ONLY A CRISIS-ACTUAL OR PERCEIVED-PRODUCES REAL CHANGE. WHEN THAT CRISISOCCURS, THE ACTIONS THAT ARE TAKEN DEPEND ON THE IDEAS THAT ARE LYING AROUND. That, I believe, is our basic function: to develop alternatives to existing policies, to keep them alive and available until the politically impossible becomes politically inevitable.

Milton Friedman -- Preface to Capitalism & Freedom 1962.

Preparing IDEAS for Crisis:

Great Depresson: A Monetary History of US Inflation/Employment Tradeoff: Natural Rate of

Unemployment. Fiscal Policy: CROWDING OUT Hypothesis. Monetary Policy: Rational Expectations.

Utilize Post-Crisis Confusion

PRIVATIZATION Slash Social Welfare Programs De-Regulation Free Trade – Collapse Domestic Industry, let

multinational rule. Free Exchange Rates – LOWER EXCHANGE Rates. DEBT TRAP

Oil Crisis & rejection of Keynes

Stagflation – IMPOSSIBLE according to Keynes. NEW SOLUTION: SUPPLY SIDE ECONOMICS Rise of Reagan & Thatcher New Respectability of Hayek, Friedman and

Chicago School

POST KEYNESIAN CONFUSION: SEVEN SCHOOLS OF MACROECONOMIC THOUGHT

Reagan DE-REGULATES S & L

DISASTER FOLLOWS S&L make huge gambles with others money Losses of around $80 BILLION MORE THAN ENTIRE EARNINGS OF BANKING

INDUSTRY FOR PAST FIFTY YEARS GOVERNMENT BAILOUT – LOOTERS PROFIT,

PUBLIC LOSES.

Margaret Thatcher: Iron Lady

Busted Labor Unions – Especially Coal Miners Subsidies and Tax Breaks for the Rich. Massive increase in Unemployment. Reduction in Social Welfare. De-Regulation of Finance Industry. RESULTS: Concentration of Wealth, Increase in Poverty.

Fall of Russia & Washington Consensus Privatize, Liberalize, De-Regulate Let free markets work their magic Complete Catastrophe in Chile, Russia NAOMI KLEIN: THE SHOCK DOCTRINE, Rise of

Disaster Capitalism. Originator of Washington Consensus admits to

failure World Bank Admits to Failure.

Megatrends: Financialization

Massive shift of resources from real sector to financial sector.

Wall St. Rookies earn million dollar salaries by playing with pieces of paper and conning prospective buyers into get rich quick schemes.

No relation between earnings and Value Added/Productivity.

Megatrends: Neo-Colonialism

Mossadegh of Iran Salvador Allende of Chile Long list of popular leaders deposed by coups

and replaced by Leaders favoring multinationals.

Debt Model: Debt pays salaries of leaders, who do tax farming for multinationals.

Good governance – free currency exchange – no regulations – privatizations – all favor MNC

Invisible Hand of Multinationals

Poor Countries

Bottom 3 Billion

Rich Countries

TOP 85 INDIVIDUALS

The Battle of Ideas Perspective

1776: Britain has 50 year lead in Industrialization

Theories of FREE TRADE & FREE MARKETS emerge in England

Adopted Everywhere Disaster for the Colonies, Depression in

Europe

Protection in USA & Europe NOT in Ottoman, India, China, Japan Alexander Hamilton: 1755 – 1804 Friedrich List == 1789 to 1846. NO Protection in India – Industries destroyed. Opium Wars: 1839-42, 1856-1860 – Free Trade in China Opening of Japan: 1852-56 Capitulations of Ottoman Empire 1830 – 1870.

Selling FREEDOM

Freedom for Capitalists to make profits. Freedom for laborer to sell his body/time for wages No freedom for government to regulate sale of labor –

no minimum wage, health & benefits etc. No freedom for labor to band together and negotiate

against powerful capital. No freedom for weak nations to protect their infant

industries, against highly advanced MNC’s.

Timeline of Ideological Warfare

Early Twentieth Century

Late 20th to Early 21st Century