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Science fiction got there before Krugman

Recently, Paul Krugman claimed that the threat of an invasion by space aliens could bring the US economy out of recession in eighteen months. I expect many readers of this site found that both funny and worrying. It reminded me of an excellent science fiction novel I read years ago, “The Forever War” by Joe Haldeman.

Most political movements try to present themselves as positive about humanity. But privately their supporters often admit to seeing “noble lies” and social engineering more positively than they would publicly say. I don’t think libertarians or classical liberals are completely immune to this. In “The Forever War” a leftist author criticises conservatives, but also allows himself to think through the consequences of the ideas of American leftists.

Novels about interstellar war are often quite macho and conservative. “The Forever War” was seen as a response to one of those books, “Starship Troopers” by Robert Heinlein. It begins with an attack by aliens on starships travelling from earth to colonize other planets. It then follows a soldier, Private Mandella, through the ensuing war against the aliens. It becomes clear much later that the start of the war had been a mistake by jumpy humans, not a hostile alien attack. That is rather like the “Gulf of Tonkin Incident” in the Vietnam war. Haldeman wrote “The Forever War” in the early 70s after his own service in Vietnam; the interstellar war he describes is eerily similar to the Vietnam war and clearly a commentary on it.

When the soldiers first return to earth an army captain comes to meet them, he says:

“I’m twenty-three, so I was still in diapers when you people left for Aleph … to begin with, how many of you are homosexual?” Nobody. “That doesn’t really surprise me. I am, of course. I guess about a third of everybody in Europe and America is.

“Most governments encourage homosexuality – the United Nations is neutral, leaves it up to the individual countries – they encourage homolife because it’s the one sure method of birth control.”

Over the course of the book that policy becomes stricter and heterosexuality comes to be seen as a mental illness. It’s interesting to consider if future governments will try strategies like this. As the story progresses it hints that governments have encouraged recreational drug use too for the same reason.

The captain continues:

“… the population of the world is nine billion. It’s more than doubled since you were drafted. And nearly two-thirds of those people get out of school only to go on relief”.

“Relief”, it turns out, is the dole. Here we have the “Gloomy Keynesian” idea that as technology progresses unemployment becomes much greater. It turns out that jobs are rationed and only certain people are eligible so there is a thriving black market in faking this eligibility. Haldeman supposes that the war provides the Keynesian solution to this problem: producing the technology to fight the war creates employment and stimulates output.

Haldeman writes:

The main effect of the war on the home front was economic, unemotional – more taxes but more jobs as well. After twenty-two years, only twenty-seven returned veterans, not enough to make a decent parade. The most important fact about the war to most people was that if it ended suddenly, Earth’s economy would collapse.

And at the very end of the book when some ancient history is discussed:

… the old soldiers were still around, and many of them were in positions of power. They virtually ran the United Nations Exploratory an Colonization Group, that was taking advantage of the newly discovered Collapsar jump to explore interstellar space.

Many of the early ships met with accidents and disappeared. The ex-military men were suspicious. They armed the colonizing vessels, and the first time they met a Tauran ship they blasted it.

They dusted off their medals and the rest was going to be history.

You couldn’t blame it all on the military though. The evidence they presented for the Taurans having been responsible for the early causalities was laughably thin. The few people who pointed this out were ignored.

The fact was, Earth’s economy needed a war, and this one was ideal. It gave a nice hole to throw buckets of money into, but would unify humanity rather than dividing it.

Here we see the problems many leftists have with their own ideas. If Keynes is right about economics or if Malthus is right about population [1] then that has dark implications. Of course there’s nothing wrong with an idea that leads us to a dark place if that idea is right, but there’s no need to worry if it’s wrong.

Writing about the recent earthquake in Virginia, Steve Horwitz gave a very clear criticism of this kind of thinking:

… the problem with the ‘disasters are good for the economy’ nonsense, and GDP more generally, is that it confuses a flow with a stock. GDP measures a flow of activity, not a stock of wealth. Destroying things and then rebuilding them might increase economic activity in the area affected (by drawing resources from elsewhere), but leaves us with less wealth than we would have had without the disaster. That is the real meaning of the Broken Window Fallacy.

It’s a mistake to think that Keynesians want to waste resources in order to increase employment. Their argument is that it isn’t very important how efficient a spending project is during a recession. They would prefer it if the output of a project were useful because if it were, that would clearly be beneficial. But, they don’t require a project to be efficient; their view is that if no good spending projects are politically feasible, then bad ones will do. They believe that during a recession there are great spin-off benefits to spending on output. They believe that it will stimulate production and employment and make society wealthier in the long run.

Keynesian commentators often seem to believe that the level of GDP output proves that a certain amount of capital wealth exists to be used, so when GDP increases that means society is richer. GDP is certainly an indicator of wealth; output can only be produced because capital and labour exist to produce it. But, many different levels of output are possible with the same capital. The amount of existing stocks of goods that are processed into new outputs depends on the demand for those new outputs.

In the recent controversy over the Virginia earthquake some Keynesian commentators I’ve read have expressed the view that it’s all about “crowding out”. Crowding out is a macroeconomic idea often put forward by critics of the Keynesians. In its simplest form, the argument is that every pound the government tax from someone, or borrow from someone, is a pound that would have been spent on private sector output. So, according to this argument “stimulus” policies will have no beneficial effect. I agree with this idea to some extent. The problem with it is that the private sector doesn’t only sell GDP output; existing assets are also for sale, including financial assets such as bonds and share. That means a person may receive income and spend it on things that aren’t output. Also, once the seller of an asset receives the proceeds he may not spend them on output either; he may buy another asset. Eventually somebody in the chain will spend on output, though that may take a long time. This means a government could increase output by taxing people who are likely to spend their money on assets and using the proceeds to buy output goods.

I don’t think the crowding out explanation helps us very much. As Horwitz says, the important issue isn’t whether output falls, everybody know output falls during a recession. The important question is: what does a fall in output mean?

One possibility is that investors and businesses are being irrationally cautious. Instead of investing in new projects which could earn profits in the future for them and increase output to the benefit of everyone they rush into relatively secure investments such as money, bonds, blue chip stocks and gold. Keynesians are fond of the idea of the irrationality of the market because it supports this view (they aren’t particularly interested in disputing Austrian Business Cycle Theory as a cause of recessions). I think this possibility is a distraction; to the degree that markets can be irrational it’s close to impossible to say in which direction they’re being irrational [2].

There is an alternative view, though: investors may be making a sensible decision to avoid investing in new projects because the risk/reward ratio is too poor to make it worth their while. That decision may certainly reduce employment in the short-run, but that doesn’t show that it reduces society’s overall wealth. It may well be that this decision isn’t only sensible for investors. The processing of existing resources into new goods doesn’t necessarily add value from anyone’s point of view. Keynesian economists often assume that it’s always worthwhile to convert existing resources into output at the same rate that prevailed before a recession. There is no reason to think this is true.


[1] – Those interested in the history of economic thought will notice the influence of Malthus. Thomas Malthus was good at coming to unsettling conclusions. He suggested that real wages will fall in the long-run to the minimum necessary for subsistence, consigning the human race to poverty in the long term. Malthus also proposed a macroeconomic theory similar to Keynes’s, long before him.

[2] – This is the weakest form of the Efficient Markets Hypothesis.

6 comments to Science fiction got there before Krugman

  • John

    You make the distinction between consumer (output) goods and assets. I agree with the distinction, but the sometimes wonder if it is a bit artificial or even arbitrary. I’m curious if there are articles which addresses this (I’m not sure if the issue is trivial)

    • Rob Thorpe

      Not consumer output. Here I’m using “output” to mean GDP which includes consumer goods, investment and government spending.

      There are many problems with it. People tend to concentrate on the problems of using it for measuring long-run societal wealth. They point out that inter-country comparisons of GDP aren’t really very valid. That’s true, but it’s also true that it isn’t a very good measure of economic progress.

      In our draft paper on the money quantity theory Anthony Evans and I talk a little about the problems, including the problem of accounting over the arbitrary length of time of one year.
      http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1898962
      See page 9.

  • Robert, Where are these Keynsians who think that “during a recession there are great spin-off benefits to spending on output” regardless of the worth of that output? No responsible Keynsian has ever said anything that vague, as far as I know.

    What they DO believe in is what the economics text books call the “multiplier”. Since you do not mention the latter, I am left wondering whether you have actually worked your way through a basic economics text book.

    The multiplier is simply the idea that given a rise in demand of £X p.a. for whatever reason, say increased exports, GDP will rise by more than £X p.a. That’s because assuming the economy is below capacity (i.e. that the extra £X p.a. will result in additional output rather than additional inflation) a proportion of the extra wages earned as a result of the extra £x p.a. WILL GET SPENT. And that itself raises demand still further. (At least that will be the case on the simplifying assumption that the increased exports do not boost the value of the relevant currency, which in turn would depress other export sales).

    It follows from that that even if the original £X p.a. of extra demand is spent on something completely pointless, GDP will still rise – Keynes gave the example of digging holes in the ground and filling them up again as an example of a pointless activity. He is probably now turning in his grave and regretting having given that example, because numerous unsophisticated folk, Austrians in particular, have interpreted this as indicating that Keynesians are pretty well indifferent to the worth or value of output.

    If you want to deny the existence of the multiplier, then you are saying in effect that when people move from unemployment to employment as a result of an initial increase in demand, they do not increase their spending. I am afraid the evidence flatly contradicts that. Here are some studies which show that when peoples’ income rises, their spending also rises (surprise, surprise):
    http://onlinelibrary.wiley.com/doi/10.1111/j.1745-6606.1984.tb00322.x/abstract
    http://www.nber.org/digest/mar09/w14753.html
    http://www.kellogg.northwestern.edu/faculty/parker/htm/research/johnsonparkersouleles2005.pdf
    http://finance.wharton.upenn.edu/~rlwctr/papers/0801.pdf
    http://ideas.repec.org/p/kud/kuiedp/9611.html

    • Rob Thorpe

      What they DO believe in is what the economics text books call the “multiplier”. Since you do not mention the latter, I am left wondering whether you have actually worked your way through a basic economics text book.

      Does the employment multiplier count as a “spin off benefit”?

      Remember, what I’ve written here is an article for the general public, not for specialists. I could put what I’ve said here into much more precise language.

      I expect I know a bit more about it than you.

      The multiplier is simply the idea that given a rise in demand of £X p.a. for whatever reason, say increased exports, GDP will rise by more than £X p.a. That’s because assuming the economy is below capacity (i.e. that the extra £X p.a. will result in additional output rather than additional inflation) a proportion of the extra wages earned as a result of the extra £x p.a. WILL GET SPENT.

      I understand the argument you are making and I understand the logic of why stimulus increases aggregate demand.

      The point I’m trying to make in this article is: why do you think GDP output is so important?

      Now, on this site I often talk about monetary disequilibrium. On a local level what I’m talking about there is monetary forces that make worker/consumers and businesses generally too optimistic or too pessimistic. I’ll use the price level of consumer goods and services here, though that has some problems which I could rectify with a longer argument. Suppose the price level is initially 100 and it’s expected to be 101 next year. Now, suppose that a business owner finds that his profits are projected to decline from £100k to £99k. In that case he conclude that his profits are declining in real terms and plan accordingly, being more cautious. However, if it turns out that the price level actually moves to 99 the next year instead of 101, then he has been too cautious. His profits have actually been the same in real terms as they were the previous year, they buy the same consumer goods. We call this account falsification when it happens to businesses and money illusion when it happens to worker/consumers.

      I concentrate on monetary effects because there is a lot we can do about them. There are institutional arrangements that can equilibrate the supply and demand for money keeping it’s purchasing power predictable in the short-run. There are all sorts of proposals for that, free-banking, NGDP targeting, wage targeting, etc.

      But, once this is done many of the Keynesian issue you concentrate on remain. What Keynesians call “savings leakage” can still occur, people can use savings to buy assets instead of output. That will depress output. The multiplier is a short-run explanation of that.

      You say:

      If you want to deny the existence of the multiplier, then you are saying in effect that when people move from unemployment to employment as a result of an initial increase in demand, they do not increase their spending. I am afraid the evidence flatly contradicts that. Here are some studies which show that when peoples’ income rises, their spending also rises (surprise, surprise):

      I agree with you there. In our previous discussion of the permanent income hypothesis I didn’t argue that spending would remain the same. I argued that dissaving makes your argument much less powerful. Households and businesses don’t only base their spending decisions on their income, their existing assets and their expectations of future income are also very important. That may not mean the Friedman’s PIH is entirely right, but it does mean that the Keynesian models of the 40s that Krugman seems keen to resurrect won’t work.

      But, in this article I wasn’t concentrating on that. I was discussing the meaning of a GDP increase or decrease. Let’s suppose that we have something close to monetary-equilibrium. In that case all businesses and households are making decisions with the best information they can have. In that case why is it necessarily a problem if their collective decisions change output. If they decide to turn less of the available assets/resources into output then why is that necessarily a collective action issue? This is why Post Keynesians reach for the idea that people are being unduly pessimistic. But, how do they know? The simple answer is they don’t.

  • Did Ralph Musgrave actually write ‘responsible Keynesian’?

    You might like to check out the truth about the Gulf of Tonkin incident. It was proven to have been staged by the CIA as revealed by Daniel Ellsberg in the Pentagon Papers

    http://en.wikipedia.org/wiki/Daniel_Ellsberg

    as a pretext for escalating the Vietnam War. Sound familiar? Neo Con Rumsfeld was involved around back then also. Congressman Ron Paul identified the Neo Cons as the source of perpetual wars and revolution in this speech to the congress in 2003.

    http://www.youtube.com/watch?v=aewpvcxAwTk

  • Rob Thorpe

    Robert Murphy has written a good article about this recent kerfuffle. He comes to a similar conclusion to me:

    http://mises.org/daily/5593/The-BrokenWindow-Fallacy