Category: Book reviews

Cheryl Misak’s Ramsey: Notes on his association with Harrod, Dobb, and Sraffa

Frank Ramsey was in Cambridge at the same time as John Maynard Keynes, Arthur Pigou, and Piero Sraffa, some of the most influential economists of the twentieth century. Ramsey died on 19th’January 1930, six years before The General Theory of Employment, Interest and Money’(1936), ten years after The Economics of Welfare(1920), and around the same time as the central propositions in Production of Commodities by Means of Commodities’(PCMC) was worked out. While an earlier blog post had examined Ramsey’s views on the rate of interest, the present one narrates his intellectual association with Maurice Dobb, Roy Harrod, and Sraffa, and a forthcoming one will focus on his intellectual association with Pigou and Keynes. The present and future posts are primarily based on Cheryl Misak’s new biography of Ramsey (2020, Oxford University Press). This post supplements the observations found in Misak’s Ramseywith those found in the books on Harrod and Sraffa published as part of the Palgrave Macmillan ‘Great Thinkers in Economics’ series by Esteban P’rez Caldentey (2019) and Alessandro Roncaglia (2009) respectively and the book on Dobb by Timothy Shenk (2013) published as part of the ‘Palgrave Studies in the History of Economic Thought’ series.

HARROD

While Harrod today is probably most well-known for his contributions to growth theory, he made important contributions to the fields of trade cycle theory, imperfect competition, and international economics. While there are 14 references to Harrod in Misak’s Ramsey, there are only eight references to Ramsey in Caldentey’s Harrod’(2019). [If there are two or more mentions of Harrod in a single page, I treat that as one reference.]

Ramsey and Harrod were friends (p. xxxi). Ramsey had known him ‘since 1922, when Harrod spent part of the year at King’s. Frank had taken Harrod under his wing then, introducing him to [G. E.] Moore and others’ (p. 195). After Ramsey was elected a fellow of King’s College, Cambridge in 1924, he renewed his friendship with Harrod, ‘a young left-leaning economics don at Oxford ‘ and they travelled between Oxford and Cambridge for intellectually rich weekends’ (p. 195). Caldentey mentions Harrod experiencing ”tremendous stimuli” after meeting Ramsey in Cambridge as opposed to his ‘frustrating Oxford experience’ (p. 10).

Although Harrod’s paper on the concept of marginal revenue curve was eventually published in the Economic Journal’as ‘Notes on Supply‘ (1930), on Ramsey’s advice, its editor, Keynes, had initially rejected the article in 1928 and had asked for revisions on the treatment of cartels (p. 305). In the meantime, according to Harrod, others had ‘discovered’ his concept and therefore he failed to receive credit for inventing it. Caldentey informs us that Harrod’s initial paper submitted in 1928 was titled ‘Notes on Monopoly and Quasi-competition’ wherein ‘he derived the increment of aggregate demand curve which was later re-baptized, the marginal revenue curve by Joan Robinson’ (p. 18). Moreover, Caldentey notes that in the foreword to the first edition ofThe Economics of Imperfect Competition’(1933), Robinson acknowledges the following individuals for teaching her about the marginal revenue curve: C. H. P. Gifford, P. S. Sloan, and T. O. Yntema (p. 101, n. 30). Also see Caldentey (pp. 18-19, 100-1) for a recounting of the refereeing episode between Ramsey and Harrod, which also makes reference to the three-volume work, The Collected Interwar Papers and Correspondence of Roy Harrod’published by Edward Elgar in 2003 under the editorship of Daniele Besomi.

DOBB

Dobb’s contributions to Marxist economics are well established. I was introduced to his work during my Master’s in Economics at the University of Hyderabad where we read selected parts from Theories of Value and Distribution Since Adam Smith: Ideology and Economic Theory’(1973). His collaboration with Sraffa in editing and producing The Works and Correspondence of David Ricardo’has also been noteworthy. In Shenk’s Dobb, surprisingly, there is not even a single reference to Ramsey while there are 21 references to Dobb in Misak’s Ramsey.

Dobb was Ramsey’s friend from their undergraduate days (1920-3) at Cambridge (p. 94). They had started their degrees at the same time (p. 79); Ramsey enrolled for mathematics at Trinity College and Dobb for economics at Pembroke College. And during this time, ‘Dobb had considerable influence on Ramsey, both by engaging with him about the kind of socialism that would be best, and by introducing him to workers’ meetings’ (p. 299). While Ramsey was finishing his secondary education at Winchester in 1920, in addition to reading the economics books by Alfred Marshall and Keynes, he also read works by Karl Marx and V. I. Lenin (p. 47). However, according to Misak, it isn’t clear how much they associated with each other after completing their undergraduate studies (p. 87).

In his 1925 doctoral thesis, Dobb tried to bring Marx and Marshall together (p. 300). Shenk points out that Dobb had been trying to synthesize Marx and Marshall even before he started his PhD at the London School of Economics (LSE): ‘Dobb, too, sought to integrate marginalism with classical political economy, but with Marx substituting for Ricardo as the standard-bearer for political economy. ‘ In Dobb’s vision, Marx appears as a theorist of the social, Marshall of the economic’ (p. 36). Dobb’s PhD thesis was published in 1925 as Capitalist Enterprise and Social Progress, and Shenk provides us with its outline: ‘Dobb dedicated the first section to economic theory, the second to economic history, and the third to evaluating contemporary economic practices from the perspective developed over the course of the book’ (p. 38). Since Ramsey ‘was considered (and considered himself) a socialist’ (p. 301), Misak argues that Ramsey’s use of utility theory in his paper on optimal saving needs to be seen in the light of the synthesis Dobb had attempted between Marxism and marginalism (p. 302).

Ramsey’s view of the use of mathematics in economics was similar in spirit to that of Dobb (and Keynes): ‘Like Dobb, he thought that one ignores mathematics at one’s peril, for the mathematics has to be right in order for progress in the real world to be made. And some real-world issues are going to be solvable by doing the maths’witness Ramsey’s response to the Douglas Proposals. But he did not think that the mathematician could step in and solve all problems. He agreed with Keynes that we mustn’t be so taken with the precision of mathematics that we erase the outlines of the very thing we are examining. As Ramsey so often put it, one mustn’t be woolly, but one mustn’t be scholastic either’ (p. 326).

SRAFFA

Sraffa has made significant contributions to price theory and capital theory and deserves high praise for his editorship of the collected works and correspondence of Ricardo. I have written on Sraffa earlier.’ While there are only two references to Ramsey in Roncaglia’s Sraffa, there are 18 references to Sraffa in Misak’s Ramsey. Given this scant attention to Ramsey in Roncaglia’s Sraffa, I make use of Heinz Kurz and Neri Salvadori’s essay ‘Sraffa and the Mathematicians: Frank Ramsey and Alister Watson’ first published in 2000 in Piero Sraffa’s Political Economy: A Centenary Estimate, a volume edited by Terenzio Cozzi and Roberto Marchionatti (as republished in Classical Economics and Modern Theory: Studies in Long-Period Analysis, an edited volume by Kurz and Salvadori in 2003).

As Sraffa writes in the preface to his 1960 classic, ‘the central propositions had taken shape in the late 1920’s’ (p. vi). In the following paragraphs, he expresses his gratitude to Ramsey (along with Alister Watson) for ‘invaluable mathematical help’at different periods’, and his greatest debt is reserved for A. S. Besicovitch. Kurz and Salvadori examine Sraffa’s diaries to identify the number of his meetings with Ramsey; according to the dairy entries, they met twice in 1928 (28 June and 11 November) and thrice in 1929 (10 May, 30 May, and 29 November) (p. 190).

The main outcome of their first meeting is capably captured by the following excerpt from Kurz and Salvadori: ‘At first Sraffa appears not to have explicitly distinguished between the quantity and the price or value of a commodity, a fact to which Ramsey immediately seems to have objected. Sraffa then appears to have introduced the distinction during the conversation with Ramsey’. Ramsey then reformulated the system first by putting the system of homogeneous linear equations in its canonical form, then by setting the determinant of coefficients equal to zero in order to get a non-trivial solution’ (p. 197). The key aspects of this meeting are not as ably captured in Misak and it is also incorrectly stated that Sraffa’s famous work related to ‘the determination of prices and’outputs’ (p. 305; emphasis added) whereas the size and composition of output is a given in PCMC.

Ramsey died in the middle of writing his book on truth and probability. Misak draws attention to the fact that after his death the philosopher R. B. Braithwaite published some of Ramsey’s essays in 1931 under the title The Foundations of Mathematics and Other Logical Essays’(p. 273). According to Misak, John von Neumann and Oskar Morgenstern had reached very similar conclusions in their 1944 Theory of Games and Economic Behaviour’(p. 274). And Misak further notes that, the similarity was so striking that John Hicks went to the extent of writing to Sraffa on 3rd’September 1960 asking if Ramsey’s ideas were transmitted to von Neumann through him (and his ‘mathematical friends’) but Sraffa didn’t reply (p. 274; although a draft of Sraffa’s response is available, it is not clear whether he actually sent it to Hicks). However, after consulting the letter (available here), it is clear that Hicks is actually asking Sraffa how von Neumann arrived at a similar theoretical outlook as Sraffa; and it is not about the similarities between Ramsey and von Neumann as Misak claims.

ON VALUE THEORY

This blog post ends with some critical observations on Ramsey’s engagement with value theory. According to Misak, Ramsey ‘blended neo-classical economics and socialism’ (p. 303). Despite his ‘scepticism about the utility theory of value’, as Misak notes, ‘his two famous papers were written in the neo-classical framework of individuals maximizing utility’ (p. 302). The two important pieces of evidence Misak provides for the former are given in the following excerpt: ‘In his 1924 Apostles paper, he castigated Mill for putting all his eggs in the utilitarian basket. During 1927’28, when his two important papers in economics were written, he was also working on a book in which he hoped to carve out a subtle, naturalist theory of value’ (p. 302). Since this book was not completed, it is difficult to state whether Ramsey would have stood closer to the neoclassical or the classical theory of value. However, Sraffa’s position on the marginalist (or neoclassical) value theory is clear: it is futile. Therefore, unlike Misak, who writes that ‘It’s clear that Ramsey,’like’Dobb and Sraffa, had a complex, pluralistic, view of value’ (p. 302; emphasis added), I would be very reluctant to conjecture a similarity between Ramsey and Sraffa on the question of value theory.

 

150th Anniversary of Capital: Reading Francis Wheen’s Biography of Capital (Part I)

wheen-capitalAlthough I had read the three volumes of Capital, three parts of Theories of Surplus-Value, and Grundrisse over the course of my PhD research, all of them merit rereading and I ought to read Marx’s other works. Hence, given that 2017 marks the 150th anniversary of Capital, Volume 1 (first published in 1867), I decided to commemorate it by reading a work of Marx I hadn’t read ‘ Wage-Labour and Capital ‘ and a short biography of Capital by Francis Wheen (2006). I shall present my commentary in two parts as it is too lengthy for one post. Part I is a commentary on Wheen 2006, and part II is on Wage-Labour and Capital.

Despite writing about Steuart, Smith, Ricardo, Sismondi, Malthus, Keynes, Sraffa, Krishna Bharadwaj and many others in several posts, I have dealt with Marx’s ideas exclusively only in one: ‘Is Marx (Ir)relevant’‘. In the next year, I hope to write more on Marx’s economics.‘

Wheen’s biography of Capital is just about 125 pages. Marx’s Das Capital: A Biography is a three chaptered book dealing with the gestation, birth, and afterlife of Das Capital.

Marx, the studious worker’

According to Wheen, ‘Marx’s character was a curious hybrid of ferocious self-confidence and anguished self-doubt’ (p. 3).’ It was ‘only after many years of spadework in philosophy and literature’ that Marx turned to the study of political economy (p. 7). At the age of seventeen, Marx precociously wrote in a schoolboy essay: ‘Our relations in society have to some extent already begun to be established before we are in a position to determine them’ (p. 8). [Wheen’s excerpts from Marx which I quote are in ‘double quotes’ and those by Wheen are in ‘single quotes’.]

The reader gets to appreciate Marx’s style of studying from Wheen’s scattered references across the book. Marx had the habit of noting down extracts from all the books he read while at the university. And he read widely. As Wheen writes, ‘This is the same eclectic, omnivorous and often tangential style of research which gave Das Capital its extraordinary breadth of reference’ (pp. 10-11). His use of dialectic is influenced by his early study of Hegel’s (1770’1831) ‘pursuit of contradictions’. He had taken the idea that ‘people create the constitution’ from Ludwig Feuerbach (1804’1872), the German philosopher; Feuerbach had argued that ‘thought arises from being, and not being from thought’ (p. 13). Therefore, humans have to assert themselves as subjects and not as mere objects of capitalism. And to thoroughly engage with the land question, Marx thought it ‘essential to study Russian land-owning relationships from primary sources’ (p. 37). Marx’s data sources included ‘newspapers, parliamentary commissions, factory inspectors and copies of Hansard’ (p. 51); Hansard contains ‘edited verbatim report of proceedings of both the House of Commons and the House of Lords’. Marx’s data on child labourers were taken from English match factory records. [On the importance of using a wider set of data, see English for Economists: Sowvendra’s ‘The Adivasi Will Not Dance’.]

Already well versed in German Philosophy and French politics, Marx set out to educate himself in British economics. As he went along, he kept taking copious notes. These notes, which formed the early rough draft of Das Capital, are commonly known as the Paris manuscripts, published as Economic and Philosophic Manuscripts of 1844 (available for under Rs. 200 from Aakar Books and freely available at Marxists.org).

Marx worked extremely hard. He spent most of 1850-1 in the British Museum reading past issues of The Economist and books on economics. He sat in the Museum’s reading room from 9 AM to 7 PM. In the winter of 1857-8, he used to sit in his study until about 4 AM. When he realised that his ‘rudimentary arithmetic’ would prove inadequate in his economic studies, he undertook a ‘quick revision course in algebra’ (p. 27). Marx felt that his study of algebra was necessary ‘for the benefit of the public’. His ‘nocturnal scribblings’, as Wheen describes them, running to more than 800 pages were published in German in 1953 entitled Grundrisse der Kritik der Politischen Oekonomie (popularly known today as simply Grundrisse). And the notes he took in 1862 and 1863 filled more than 1500 pages (p. 32); this was posthumously published as Theories of Surplus-value.

Marx’s intellectual corpus in political economy’

Here is a succinct timeline of Marx’s key works in political economy. At the same time, this is also a timeline of how Marx’s thinking evolved to culminate in Capital.

1844: Paris Manuscripts/Economic and Philosophic Manuscripts of 1844 {notes; posthumously published}

1847: Wage-Labour and Capital {lectures; published as a set of articles in 1849}

1848: Communist Manifesto (political pamphlet; with Engels)

1857-8: Grundrisse {notes; posthumously published}

1859: A Contribution to the Critique of Political Economy {Marx’s first book}

1862-3: Theories of Surplus-Value {notes; posthumously published}

1865: Value, Price and Profit {speech; posthumously published}

1867: Capital, vol. 1 {Marx’s second book} (second edition in 1873)

The first manuscript in Economic and Philosophic Manuscripts of 1844 begins with the following sentences: ‘Wages are determined by the fierce struggle between capitalist and worker. The capitalist inevitable wins. The capitalist can live longer without the worker than the worker can without him’ (p. 14). This struggle is also found in Adam Smith’s Wealth of Nations. In capitalism, Marx writes that, productivity rises by transforming the worker’s ‘lifetime into working time, and ‘ [by dragging] his wife and child beneath the juggernaut of capital’ (p. 15).

Marx’s ‘first small book’ is A Contribution to the Critique of Political Economy. It was first published in 1859 (in German). [I took the phrase ‘the first small book’ from Maurice Dobb’s introduction to the 1979 English translation brought out by Progress Publishers.] Marx had earlier intended to call Das Capital ‘A Contribution to the Critique of Political Economy, Volume II’ (p. 33). It was Engels who compiled, edited, and published volumes II and III of Capital in 1885 and 1905 respectively; see Regina Roth‘s work which argues that these interventions were often significant. The Theories of Surplus-Value, sometimes called volume IV of Capital, was published by Karl Kautsky in 1905.

‘Capital: key ideas

In capitalism, commodity carries a specific meaning. Even today, a commodity, at the first sight, appears to be a ‘trivial thing’ (p. 42). Fetishism is the ‘belief that commodities have some mystical intrinsic value’ (p. 43). Instead, the value of commodities, for Marx, owes to the value labour provides. The wages of the workers are determined by subsistence wages, a social and cultural variable unlike in neoclassical (more accurately, marginalist) economics where it is determined by the marginal product of labour (and is a labour clearing wage, that is, there is full employment of labour). Subsistence wages includes ‘education and training’ (p. 49). As Wheen writes, ‘Marx has no illusions about the supposedly sacred symmetry of the law of supply and demand’ (p. 55) which is central to marginalist economics. Indeed, as Wheen notes, ‘The only difference from previous epochs is the guile with which the robbery is concealed from the victims’ (p. 50).

The relation between technological progress and better living standards or higher wages is not as straightforward as in the marginalist growth models of Solow and Romer. In contrast to these models, Marx concludes that greater the productivity, greater is the labour unemployment (p. 56). Thus, Marx writes, ‘It follows therefore that in proportion as capital accumulates, the situation of the worker, be his payment high or low, must grow worse’ (p. 57). For Marx, poverty ‘is about the crushing of the human spirit’ (p. 58). In an article published in the New York Review of Books, Jeff Madrick observes: ‘people of all racial and ethnic groups are losing confidence in the core American principle that hard work is a means to upward mobility.’ And as Wheen notes, ‘The average British employee now puts in 80,224 hours over his or her working life, as against 69,000 hours in 1981. ‘ many people have no time for anything beyond labour and sleep’ (p. 59). The effects of technological progress or rising productivity has been very uneven.

What causes crises in capitalism’ According to Marx, ‘The last cause of all real crises always remains the poverty and restricted consumption of the masses’ relative to private investment (p. 61). This key idea resurfaced with vigour in the twentieth century in the seminal works of Michal Kalecki and John Maynard Keynes.

Capital‘s afterlife’

In the Preface to Capital, Marx writes, ‘I assume, of course, a reader who is willing to learn something new and therefore to think for himself’ (pp. 82-3). Undoubtedly, since its first publication, Capital has enabled many individuals to know the capitalist order better. George Bernard Shaw articulates this view clearly: ‘Das Kapital achieved the greatest feat of which a book is capable ‘ that of changing the minds of the people who read it’ (p. 90). However, the initial reception to its publication was ‘muted’. Wheen thinks that it was ‘sheer incomprehension’ and not ‘political enmity’ which explains the ‘muted reaction’ to the publication of Capital.

As Sir John MacDonnell wrote in the Fortnightly Review (March 1875): ‘People may do him the honour of abusing him; read him they do not! (p. 87). Resorting to an ‘authority’ for support without proper reasoning is always troubling. Wheen notes how during the 1917 Russian revolution, the ‘architects ‘ all cited Marx, and Das Kapital in particular, as the divine authority for the correctness of their views’ (p. 98).

Unfortunately, mainstream economics still views income distribution as a harmonious process. That income distribution is a process characterised by conflict and power relations has been ignored, and perhaps even intentionally supressed. These ideas continue to be studied and researched by ‘heterodox’ economists working in the Classical, Marxian, and Keynesian traditions. And one must not confuse ‘new political economy’ with the political economy found in the works of Smith, Ricardo, and Marx. It is interesting to note that before the 2007 Global Financial Crisis, economists looked down upon ‘political economy’ but after the crisis, the number of mainstream economists who started doing ‘political economy’ rapidly increased.

Conclusion

Marx’s Capital remains one of the most insightful studies on capitalism. With all the strides in technological progress with respect to global value chains, transnational corporations, industry automation, etc., reading Marx’s Capital enables the reader to see the cells of the capitalist order ‘ impoverished workers.

Let me end this post with Marx’s favourite motto (p. 101): ‘de omnibus dubitandum’ (‘everything should be doubted’).

 

I acknowledge Prasanth Radhakrishnan for his helpful comments.’

A Review of Mian & Sufi’s House of Debt

Lawrence Summers, a Professor of Economics at Harvard University and a Financial Times columnist, hailed Atif Mian & Amar Sufi’s book as ‘the most important economics book of the year’. The book was published in 2015 by the University of Chicago Press. This is a very readable book on issues of debt (particularly household debt in America), determination of activity levels, and on how to do good economics.

‘ ‘ ‘ ‘ Mian & Sufi begin by discussing the leverage ratio ‘ ‘the ratio of total debt to total assets’ (p. 20). For the poorest homeowners, this ratio was near 80% and for the richest 20%, this ratio was only 7%. This is because the poor households borrow to purchase their assets (for example, a house). At the same time, the rich households deposit (credit) money with the banking sector to earn interest. The banking sector mediates the financial needs of the borrowers and the lenders. As Mian & Sufi write:

A poor man’s debt is a rich man’s asset. Since it is ultimately the rich who are lending to the poor through the financial system, as we move from poor home owners to rich home owners, debt declines and financial assets rise. (p. 20)

This observation immediately points to the need for looking at inequalities of income and wealth when studying debt or credit. Indeed, ‘[a] financial system that relies excessively on debt amplifies wealth inequality’ (p. 25). This is because when house prices fall, the decline in net worth for the indebted poor households will be more than proportional (p. 22-3).

‘ ‘ ‘ ‘The authors rightly note that ‘the Great Recession was consumption-driven’ (p. 30) for ‘the decline in overall household spending in the third and fourth quarters of 2008 was unprecedented’ (p. 33). However, the dominant view in the US and across the world is what the authors term the ‘banking view’.

According to this view, the collapse of Lehman Brothers froze the credit system, preventing businesses from getting the loans they needed to continue operating. As a result, they were forced to cut investment and lay off workers. In this narrative, if we could have prevented Lehman Brothers from failing, our economy would have remained intact. (p. 31)

The dominant view locates the problem to be the lack of credit in the economy. And, they believe that if credit is made available at cheap rates (low rates of interest), the economy will revive. This view ignores the purpose of credit in an economy. Individual and firms demand money for consumption and investment (in a two-sector economy, aggregate demand is the sum of consumption and investment), and if aggregate demand falls so will the demand for credit. A fall in aggregate demand, as Keynes demonstrated in The General Theory, results in the reduction of activity and employment levels. This is precisely what happened during the Great Recession.

Job losses materialized because households stopped buying, not because businesses stopped investing. In fact, the evidence indicates that the decline in business investment was a reaction to the massive decline in household spending. If businesses saw no demand for their products, then of course they cut back on investment. (p. 34)

In other words, investment is not independent of consumption. This insight is of value in emerging economies like India where actual output is far below the potential output (large presence of disguised unemployment and underemployment), and political campaigns like ‘Make in India‘ must be viewed with great caution. The dominant view is based on, what in growth theory is called, the supply-side growth theory. According to this theory, a growth in aggregate supply automatically generates an equivalent growth in aggregate demand. In House of Debt, the authors label this as the ‘fundamentals view’.

The basic idea behind the fundamentals view is that the total output, or GDP, of the economy is determined by its productive capacity: workers, capital, and the technology of firms. The economy is defined by what it can produce, not by what is demanded. Total production is limited only by natural barriers, like the rate at which our machines can convert various inputs into output, the number of working hours in a day per person, and the willingness of people to work versus relax. This is sometimes called the supply-side view because it emphasizes the productive capacity, or supply, of resources. (pp. 47-8)

That is, lower spending in the fundamentals view does not lead to contraction or job loss. Remember, output in the fundamentals view is determined by the productive capacity of the economy, not by demand. In response to a sharp decline in consumption, the economy in the fundamentals view has natural corrective forces that keep it operating at full capacity. These include lower interest rates and consumer prices ‘ Obviously, however, these corrective forces weren’t able to keep the economy on track. (p. 49)

This view ignores the fundamental insight provided by Keynes in 1936. In a sense, the Say’s Law still lives on. And, in this theory, ‘[i]nvoluntary unemployment can only exist ‘ if there are some ‘rigidities’ that prevent wages from adjusting and workers from finding jobs’ (p. 56). These rigidities or frictions may be the following: presence of non-tradable jobs (that is, jobs which only cater to the local economy); wages do not fall; workers do not move; and the costs of reskilling if workers have to reallocate (p. 58, p. 63). For a critique and an alternative, see Thomas 2013.

‘ ‘ ‘ ‘The marginal propensity to consume (MPC) varies across classes and therefore the assumption that everyone has the same MPC cannot be admitted. The MPC is high for poor households and low for rich households. ‘The larger the MPC, the more responsive the household is to the same change in wealth’ (p. 39; also p. 44). In fact, ‘the higher the leverage in the home, the more aggressively the household cuts back on spending when home values decline’ (p. 42). Therefore, debt matters. According to Mian & Sufi, ‘[t]he higher MPC out of housing wealth for highly levered households is one of the most important results from our research. It immediately implies that the distribution of wealth and debt matters’ (p. 42). Moreover, ‘[t]he MPC of households is also relevant for thinking about the effectiveness of government stimulus programs for boosting demand’ (p. 41).

‘ ‘ ‘ ‘Very often, during recessions, the dominant policy response is the lowering of interest rates via monetary policy. But does the lowering of rates help’ Is the problem a lack of availability of funds at cheap rates’

To help answer this, there is evidence from surveys by the National Federation of Independent Businesses (NFIB). Proponents of the bank- lending view are particularly concerned about credit to small businesses. Because small businesses rely heavily on banks for credit, they will be disproportionately affected. Large businesses, however, can rely on bonds or commercial paper markets for debt financing. The NFIB is informative because it surveys exactly the small businesses that should be most vulnerable to being cut off from bank lending. The survey asks small businesses to list their most important concern, where ‘poor sales,’ ‘regulation and taxes,’ and ‘financing and interest rates’ are a few of the options. The fraction citing financing and interest rates as a main concern never rose above 5 percent throughout the financial crisis‘ in fact, the fraction actually went down from 2007 to 2009. It is difficult to reconcile this fact with the view that small businesses were desperate for bank financing. On the other hand, from 2007 to 2009, the fraction of small businesses citing poor sales as their top concern jumped from 10 percent to almost 35 percent. As indebted households cut back sharply on spending, businesses saw a sharp decline in sales. (p. 128)

As the survey indicated in the passage shows, the problem is a lack of aggregate demand, particularly consumption demand. ‘Companies laying off workers in these hard-hit counties were the largest businesses. This is more consistent with businesses responding to a lack of consumer demand rather than an inability to get a bank loan’ (p. 128). There is another issue here; this has to do with the effectiveness of the monetary policy mechanism. Hence, Mian & Sufi write: ‘[a]n increase in bank reserves leads to an increase in currency in circulation only if banks increase lending in response to the increase in reserves. If banks don’t lend more’ or, equivalently, if borrowers don’t borrow more’ an increase in bank reserves doesn’t affect money in circulation’ (p. 154) limiting the ‘effectiveness of monetary policy’ (p. 155). And there is no strict connection between interest rates and household spending; at the very least, a strong association cannot be assumed (see p. 161).

‘ ‘ ‘ ‘This brings us to the end of this book review. It was noted in the introductory paragraph that this book is also about doing good economics. Mian & Sufi point to the need for have a good theory to make sense of the macroeconomic phenomena. This blog concludes with their view on the role of theory.

The ability to interpret data is especially important in macroeconomics. The aggregate U.S. economy is an unwieldy object ‘ it contains millions of firms and households. ‘ But unless an economist can put some structure on the data, he or she will drown in a deep ocean of numbers trying to answer these questions.

Which brings us to the importance of an economic model. Macroeconomists are defined in large part by the theoretical model they use to approach the data. A model provides the structure needed to see which data are most important, and to decide on the right course of action given the information that is available. (p. 47)

A Review of Banik’s The Indian Economy: A Macroeconomic Perspective

Undergraduate economics education in India relies heavily on American textbooks, especially to teach Microeconomics and Macroeconomics. So it was a welcome change to see Nilanjan Banik’s The Indian Economy: A Macroeconomic Perspective published in 2015 by Sage Publishers. It is intended to be a Macroeconomics textbook for Indian students. As Banik writes in the Preface, ‘the available standard macroeconomic textbooks have limited information about how macroeconomics works for India.’ And therefore, ‘[t]his book is for anyone who wants to clear their concepts on Indian macroeconomy.’ This blog post critically reviews (only) Chapter 1 of this book titled ‘Introducing Macroeconomics’.

Banik starts Chapter 1 with an explanation of why macroeconomics ‘ output, employment and inflation levels ‘ is of significance to a ‘common man’. Here, basic macroeconomic concepts and their measurement are explained. Some discussion on the evolution of growth theories is also present. Economic prosperity of common person, according to Banik, is ‘encapsulated in a higher growth rate of GDP and lower inflation and unemployment rate, since these are the factors which directly or indirectly affect his/her well-being.’ But, we must also recognise that an individual’s employment and India’s overall unemployment rate are interdependent variables, and consequently we cannot draw a simple causal line of ‘prosperity’ running from overall employment rate to an individual’s well-being. [By interdependent, I mean that the aggregate employment rate is a summation of individual employments. Not only this, but also that the magnitude and trend of aggregate employment rate often impacts the rate of investment and therefore individual employment.] And, later, on p. 19, he draws a totally reverse causal line: ‘A summation of individual well-being gives us a sense about how an economy is doing.’

Output and employment levels are determined by factors affecting aggregate supply and demand. ‘Economy-wide demand and supply conditions are aggregation of all individual market conditions.’ Is this correct’ Market supply and demand curves are an aggregating of individual market supply and demand curves. But, is it legitimate to extend this argument to aggregate supply and demand’ Or, is Banik here making a microfoundations argument’ A macroeconomic equilibrium is characterised by the equality between planned saving and investment and therefore of aggregate supply and demand. Banik is committing the fallacy of composition in the above quoted sentence wherein aggregate demand condition is seen as an aggregation of all the individual market demand conditions.

Subsequently, Banik starts the discussion on economic growth by clarifying to the reader that the growth rate of an economy refers to the growth rate of real gross domestic product (GDP) of that economy. ‘Supply of output is determined by the availability of factor endowments such as labour, capital, organization, and technology in the economy.’ Aggregate demand is made up of consumption, investment, government and foreign demand. The full-employment level of output, as in neoclassical economics, according to Banik, is determined by supply-side factors. Therefore, it follows that supply-side policies are to be undertaken in order to increase the full-employment level of output. Hence, he writes:

‘However, any policy measure to increase the supply of output requires time. ‘ So managing supply-side components is not that effective in the short run; however, in the long run, components such as investment in education, health-care, and physical infrastructure will have an influence over the availability of future supply of output.’ (p. 6)

What is the role for demand-side policies in this growth framework’ They are employed only to take care of ‘fluctuations’ for they have no role to play in determining the full-employment level of output. This is validated by the following excerpt from Banik.

‘Demand management policies would not have been important if there was no fluctuation in demand, taking the output away from the full employment level of output.’ (p. 7)

It suffices here to note that this is a contested assertion with the contestation emerging from the research on demand-led growth.

Among historians of economic thought and economists with a historical understanding, classical economists refer to Adam Smith, David Ricardo, Robert Malthus and Karl Marx, who, while distinguishing himself from their works also employed their framework ‘ the surplus approach to value and distribution. However, in textbooks of Macroeconomics, pre-Keynesian economics is commonly, although incorrectly, classified as classical economics; Keynes is also responsible for this confusion. Banik has a very different understanding of classical economics or as he writes, the ‘classical school of economics’. For him, it comprises ‘particularly, the Austrian school of economists led by Hayek, Robbins, and Schumpeter’ (p. 7).

On Keynes’s principle of effective demand, Banik has the following to say. ‘

Keynes tried to explain the occurrence of an event like the Great Depression through his notion of effective demand. Effective demand is the quantity of goods and services that consumers buy at the current market price. According to Keynes, economic agents behave like animals ‘ all of a sudden becoming optimistic or pessimistic about the future. When on average, economic agents become pessimistic about the future, then consumers start spending less money, firms cut down their production, and the economy enters into recession. In Keynesian model, the emphasis is on demand-side factors.’ (p. 7)

The principle of effective demand states that aggregate activity levels are determined by aggregate demand, and that planned saving adapts to planned investment. This principle was advanced in opposition to the neoclassical Say’s law which states that supply creates its own demand. Moreover, this principle works even without having recourse to animal spirits.

Following this, Banik presents a brief overview of Samuelson’s neoclassical synthesis, Lucas’s critique, real business cycle theory and new classical approach (pp. 10-11); and, he categorises the following economists within the ‘new Keynesian group’: ‘Gregory Mankiw, Lawrence Summers, Olivier Blanchard, Edmund Phelps, and John Taylor’ (p. 12). Such a classification of economists along with the overview of different macroeconomic schools is of much value to the student readers.

After carrying out a short empirical discussion on India’s macroeconomy and empirical definitions such as consumer durables, service exports, etc, Banik makes a fallacious statement regarding the relationship between saving (S) and investment (I).

”in a closed economy framework ‘ one would expect domestic savings to be the only source of investment. Accordingly, what is saved is invested and hence investment is expected to be equal to savings. In the present context, however, there is a divergence between investment and savings components of GDP. This divergence is on account of the fact that we are considering an open economy framework where we allow for foreign transactions. Typically, the more open is the economy, the more is the extent of this divergence.’ (p. 17).

In a two-sector economy (with firms and households), the accounting identity S=I holds. But, what is the explanation or theory behind this’ It is the principle of effective demand: planned saving adapts to planned investment (via changes in activity levels). The mainstream neoclassical view is that planned investment adapts to planned saving (via changes in a sufficiently sensitive rate of interest). In a three-sector economy (with firms, households and a government), the accounting identity becomes: S+T = I+G, where T is taxes and G is government expenditure. And, in a four-sector economy (with firms, households, a government and the foreign sector), the accounting identity is: S+T+M = I+G+X, where M is imports and X is exports. In other words, the above 3 identities reaffirm the condition for macroeconomic equilibrium: leakages must equal injections. Thus, in equilibrium, there can be no divergence between saving and investment in a two-sector economy and in general, in equilibrium, leakages equal injections. Banik appears to be confusing macroeconomic theory with accounting identities, and disequilibrium with equilibrium positions. The above statement of Banik is therefore conceptually incorrect.

Next, he presents a commentary on growth economics, with a focus on the Harrod-Domar and Solow growth models.

‘One of the earlier works in the area of supply-side economics was independently undertaken by two economists ‘ Roy Harrod in 1939 and Evsey Domar in 1946. The relevance of the Harrod-Domar model lies in its ability to give a dynamic flavour to the Keynesian model. The Keynesian model is a static model putting emphasis on aggregate demand and its effect on the output gap in the short run.’ (p. 21)

In the mushrooming, although at a moderate pace, research on demand-led growth, the growth model of Harrod is a seen as an early contribution to demand-led growth and not supply-side growth. It is not clear why Banik places Harrod’s contribution under supply-side economics. He goes on to point out limitations of Harrod’s model.

‘Another limitation of the model is that it assumes that labour and capital and used in equal proportions (equal prices for labour and capital).’ (p. 22).

Here, he makes yet another incorrect statement because Harrod assumed that labour and capital are used in constant not equal proportions. With this glaring error, one cannot help but wonder whether this macroeconomics textbook went through any serious internal or external reviewing. Banik then goes on to discuss the Solow model and undertakes a very brief survey of the endogenous growth models of Paul Romer, discusses the work of Robert Hall and Charles Jones on social infrastructure, and Robert Fogel’s study of the positive association between health and economic growth. Next, the author moves on to issues involved in the measurement of GDP, and in this context clarifies the meaning of operating surplus and mixed incomes.

To conclude, whilst Banik’s macroeconomics book for Indian students contains serious conceptual errors, the design of the structure of chapter one (and the others) deserves some merit. There is indeed ample scope for improvement and enlargement of the contents. Yet, it is deeply disappointing to come across the errors, such as the ones mentioned in the preceding paragraphs, in a book such as this which is stated to be an advance over existing (foreign) macroeconomics textbooks.