Excellent! Now how about a further discussion about what goals we are trying achieve. At one time everyone took for granted that the goals were to improve the wealth of everyone in society. The differences were in the degree of inequality to be permitted and the amount of dislocation allowed to reach utopia.

This still seems to be the dominant position, at least in the kinds of forums that we, the general public, get to read. It certainly is the theme promoted by any politician hoping to get elected.

What I think is not be discussed (enough) are the issues when growth itself becomes a problem. We already have worldwide overpopulation at the same time we have pockets of aging societies. We also have looming resource shortages, although how much and how soon is hotly contested.

Current discussions are along the lines of improving efficiency which just means either more will be able to consume without the total increasing or the materials will last longer.

There is no large-scale discussion of reorienting societies so that they are sustainable. This means for the developed countries scaling back consumption so that they don't have to deplete the resources from elsewhere. There is also no discussion of how the projected rise in population will be dealt with. Adding three billion more people by mid century is not a negligible issue.

The fundamental problem is that capitalism depends upon continual growth. Without growth one can't pay back the investors with interest. There have been many societies which have (and still do) exist in equilibrium with their environment. How about we study them and see what lessons they can teach?

--- Policies not Politics
Daily Landscape

Mr. Krugman, I feel very honored that you are posting here. I have spent years reading your columns with relief that finally someone else understands the situation we are stuck in. Unfortunately, my knowledge of economics is largely self taught, so you lost me with your first word - "heterodox". So, its off to Wikipedia I go!
Edit: Wikipedia has a nice writeup that could serve as an introduction, if someone could just explain it!

Off-topic, but, you don't share an office with David Brooks, do you?

If so, what's up with that guy?

:-) 

"Thank God George Bush is our president." -Rudy Giuliani

Mr. Krugman, I feel very honored that you are posting here. I have spent years reading your columns with relief that finally someone else understands the situation we are stuck in.

hoppycalif2 beat me to it, so all I can say is ditto...

But Dr. Krugman, what about the broader foundational point? If people are not in fact rational self-interested utility maximizers, what happens to the psychological foundations of economic theory?

This discussion reminded me of Aretha's R.E.S.P.E.C.T as well. 

Then I wondered why heterodox economists care what neoclassical economists think.  If they want to change policy, stop preaching to the choir and start teaching the congregation.  In other words, they should find some other way to reach the public.  It's not like it hasn't been done before.  Was there ever a more heterodox economist than Huey Long?

To build grassroots support for his program, Long announced the formation of the Share Our Wealth Society, and he encouraged the public to write to him to learn more. Long’s message struck a chord with a public desperate for relief. By April 1935, his Senate office received an average of 60,000 letters a week.

To organize a network of Share Our Wealth clubs around the country, Long enlisted the help of Reverend Gerald L. K. Smith, a charismatic minister from Shreveport with a gift for public speaking. Smith traveled the nation, drawing huge crowds in support of Long’s program, and by the end of 1934, the movement had three million members

By the summer of 1935, there were more than 27,000 Share Our Wealth clubs with a membership of more than 7.5 million. Loyal followers met every week to discuss Long’s ideas and spread the message. There were no dues, just fellowship and discussion, and membership was open to all races. White supremacists charged that Long was attempting to organize blacks to vote. Long countered that Share Our Wealth was meant to help all poor people, and black people were welcome to participate since they were the poorest people in the country – a radical inclusion for a deeply segregated society.

 Good to see you back commenting.

I'm far from being an economist but there are certain aspects of neoclassical economics that don't seem right to me in the modern context we live in.

One of the problems I see is that IF the function of the individual is to maximize (real) personal utility and the function of corporations is to maximize profit and IF corporations are able to manufacture demand for products the individual really does not need or are even contrary to the individual's (long-term/short-term) benefit, then in what way can we maintain--as neoclassicism seems to--that aggregate demand is a function of RATIONAL individual demand? Economic Man as envisioned by the neoclassicists is a fiction.

I would be curious to know what Professor Krugman thinks about the general charge that neoclassical economics is burdened by a heavy does of prescriptivism that does not square with the facts.

Steve Kyle

One thing I havent seen mentioned yet is the fact that the tools of analysis used by neoclassical economists often differ from those used by "heterodox" people (not always but often). Standard issue economists are taught to use mathematical reasoning which can end up meaning that you lose sight of things you cant count. More eclectically trained people sometimes use methods of argument more common to history or sociology or philosophy - with the result that leading econ journals (and economists) dont know what to make of them and wont publish them.

Some of the most important advances in bringing heterodox economics into the mainstream have been in figuring out ways to count things that were previously left outside of the analysis. Nevertheless, as long as "truth" involves a mix of things you can and cant count there will remain a tension between the purists and the more eclectic types.

On Paul K's topic, his example of what trade theory says is one I use every year in teaching intro econ - And every year some kid will say I am just an anti-market liberal. But the fact of the matter is that the theory tells us not that everyone WILL be better off but that everyone COULD be better off if, e.g. we had a benevolent dictator willing to make painless and costless transfers between citizens all of whom were benignly happy with having this happen. Perhaps when Prozac has permeated everyone's water supply this will become true, but it hasnt happened yet. (Nor has any "optimal lump sum redistribution")

"Anyone who thinks that neoclassical economics says that everyone gains from free trade, and that you have to reject the assumptions of the field to raise concerns, obviously doesn't know anything about the subject: ever since Stolper-Samuelson 1941 we've known that trade can easily hurt large numbers of people, so the question is always an empirical one."

This may be, but this is NOT how free trade has been peddled and sold by the economics establishment in recent years, when the "everyone gains" point of view has been sold with almost the same passion as that of the neocons selling their nostrums of war and domination. In fact much of the shredding of the "safety net" for displaced workers (by free trade) has had the propaganda underpinnings of the "everyone gains" crowd; I think Roach has addressed this point rather directly and frankly as it has become quite clear that American workers and middle class have been bearing the brunt of the "free" trade that has enabled the fantastic corporate profits of the recent past.

With respect to the debate between heterodox and mainstream neoclassical economics, the proof of the pudding is in the eating. How well does each of the approached do in explaining and prediction observed economic behavior? Clearly mainstream economics was very badly damaged by the surge in the New Classical Economics reserch program that caught on in the late 70s and 80s, with its continually clearing markets with rational expectations. This produced a set of sterile, irrelevant models inconsistent with observed economic behavior. But this approach is now in decline; neoclassical economics with appropriate frictions, such as sticky nominal wages and additional constraints, such as liquidity constraints, can produce realistic results, which, in many respects are quite Keynesian. Further modification is possible and may further improve results. For example George Akerlof, in his Presidential address to the American Economic Association, has explained how social norms can be incorporated into the utility functions of people. I would predict that such an augmented neoclassical model should do very well in explaining and predicting observed economic behavior. The test of heterodox economics is whether it can do better. In most situations, I would tend to doubt it. That is not to say that there are not aspects of heterodox economics that do make valuable contributions and should be incorporated into mainstream economics.

what (shredded) safety net in partiuclar were you referring to?

The general question is how to mix the apples of neoclassical and other quantitative systems with the oranges of heterodox and other non-linear theories. Similarly, while most of the macroscopic physics we experience consist of non-computables like the weather, most of science and engineering is tractable linear systems.

Engineering should teach us that there is plenty of utility in those predictable Newtonian dynamics and toy models. I would guess Mr. Krugman is making the point that often one can simply ignore the complexities and still get a useful answer.

health care, housing, retraining, extended unemployment benefits, relocation assistance, student aid...as well as insistence on labor laws,and environmental standards on the "other" (foreign) end. I believe such costs of production in fact stimulate greater efficiencies and productivity.

This is a very disingenuous argument. There is a very wide array of opinions within "homodox" economists, as you put it. For many things, neoclassicical economists are willing to state that the rich are not rich for good reasons, and they cite the canonized idea of "negative externalities" to decisions. There are other things which neoclassical economists do not acknowledge, such as the degree to which people do not have the right information. The issues brought up by the heterodox economists are essentially part of the movement to merge economics with real sciences, such as modern psychology.

I am delighted to see a post here, by you. I have enjoyed your book and wish you were not behind the wall.

My point isn't that neoclassical theory can do anything. But it's perfectly possible to believe in extensive market failure, demand a lot more government intervention in the economy, while still believing that maximization-plus-equilibrium is a nifty way to think about lots of problems.

Nifty is one of those blue-sky words. It is a great word implying you have limited or contained a data set. It is in truth an admission of the use of a sort of rule of thumb box that discounts reality and its linkages.

Today with many uses of capital no one wants to be anywhere close to equilibrium. The biggest return seems to come from political investments.

Where is that in you equations?

Do economists tell us why gas prices fluxuate so much in the US when prices are not changing by the same percentage in Europe?

It seems to me that some "economists" are supported because they are propagandist.

-----------------------------------------------
Today, are we searching for I deals or Ideals?
-Thinking

California Energy Crisis: caused by the lack of imported power and by California power companies taking their generators off-line. Everyone knew what the causes were.

The question was whether or not those causes were the result of intentional acts of the power companies.

Doubtless, Dr. Krugman is enjoying a well-deserved sleep, and I would not, at this late hour, expect him to explain how the application of "standard economics" proved intentionality (that is, "market manipulation").

But does anyone else know the answer?

Note: As an aside the odd manner in which the California Board paid for power -- using the highest marginal price to reprice prior sales -- is a preexisting condition of the market and, thus, not subject to debate.

I believe it was H.L.Menken who said

"Orthodoxy is your own doxy, while Heterodoxy is the other guy's doxy.

And on average Bill Gates and I are billionaires.

Economics has never made a claim about the psychological foundations of economic theory. The consumer theory you're referring to regarding utility maximization asserts not that people have utility functions, but that preference relations that seem universally true (people prefer more to less, they can choose between two alternatives etc) can be represented by twice differentiable utility functions. One can actually prove this to be true. That is, IF people have these preference relations THEN we can use a utility function to represent them. Then we can check and see if people actually behave that way, and it turns out that they do.

Under conditions of certainty.

Add in uncertainty and all bets are off. That's why so much work that is going on is going on in behavioral economics, where social interaction and uncertainty are studied.

You should also note that Krugman doesn't make a terribly strong claim here:

But it's perfectly possible to believe in extensive market failure, demand a lot more government intervention in the economy, while still believing that maximization-plus-equilibrium is a nifty way to think about lots of problems.

It is, I think, a caricature to ascribe a completely congruent belief in the models and tools that economists use to the elements of the economy they represent.

In Robert Solow's classic essay Growth Theory he introduces the idea of "stylized facts." It's like the trade reference Krugman makes. Yes, it's clearly true that free trade is better than restricted trade. But you cannot make the blanket assertion that free trade always benefits everyone. This doesn't reduce the value of understanding the benefits to free trade.

Moreover, in policy terms, it's pretty clear that the problem in the current global economy is not too much free trade, but too little. The Doha round has failed because the OECD won't open up agricultural markets. Labor flows are severely restricted, while capital flows freely.

it is hard to say what would happen in a truly free trade regime, with governments compensating sub-populations who lose out to shifts in terms of trade in particular areas. It's hard to say because we are very far away from such a policy regime. But that doesn't mean that the insight that free trade is generally beneficial is not a worthwhile insight that should serve policy makers.

I agree. If I had been more careful I would have written that a lot of the arguments against providing a decent safety net were based on the "everybody gains" mantra for unfettered free trade...of course given that the last six years Bush has waged war on middle-class and working Americans (as well as his other war) some of the existing safety net has been significantly weakened (notably by cutting back aid to the states which in turn then transmitted these cuts to the populace by weakening the existing safety net quite a bit.)

If you add the cost of the welfare programs suggested for mitigating the negative effects of free trade on certain individuals(including the economic cost of increased taxes to fund those programs), is the aggregate gain from free trade still positive?

It's pretty clear that this is true. Delivering income transfers to people by regulating industries and limiting trade opportunities is a very blunt instrument. It is very hard to believe that paying people a transition wage for a year from a single textile plant (or collection of plants) is going to add up to more than the total improvement to consumers from cheaper output from a foreign plant.

Moreover, the capital freed up should be redirected to higher value uses, which means higher productivity which should mean higher wages.

Note, though, that Krugman has been writing recently about the fact that the productivity gains have recently been raising the wages of very few people, the managers of firms benefiting from productivity growth. The increase in revenue per unit is going not to investment, not to shareholders and not to ordinary workers, but to senior management.

There is nothing in neoclassical economics that says there is not a case for a social welfare intervention if the marketplace is generating an increasingly skewed income distribution. This, of course, is part of his point when he says these tools are "nifty." They help us understand things, but they inform and don't dictate policy.

The concept of Pareto superior tries to sidestep this particular issue by saying some are better off and none are worse off.

(In practice, of course, this is normally replaced by the weaker Pareto superior with compensation, where it "would be possible" to make some better off and none worse off if there was compensation from the winners ot the losers.)

After the total collapse of the idea of quantifiable utility in the 1800's, which eventually filtered into economics, came the retreat to the idea that even if you cannot measure how much utility there is, people prefer more to less, so that you can say if some get more and none get less, that is an improvement.

However, given that utility maximization does not hold up as an explanatory model, but at best as a predictive model (and that is being generous), there is not even a basis for saying more utility for some in the model is, in fact, more welfare for those individual people.

I agree. We have to ask ourselves if free trade tripled the economy would we invest the fruits of this labor into the social safety net. Or would the rich continue to ROCK, as an early poster remarked, and just build bigger hedges to blot out the site of the poor.

There's often a short term loss, or reduction in return, to secure a healthier economy; read, better distibuted. This is more of a policy and execusion perspective that requires economic analysis. Economics should help us model whether distribution of wealth is more valuable than overall economic growth.

I recall how we averted the last recession at cash registers, not hedge funds. Clearly policy is a tool that drives distribution, and a good mix represents greater resiliency.

Curiously, dictators also depend on growth. If they are not increasing in power and influence, they are decreasing in power and influence, and their supporters will change sides. This becomes a vicious circle. Throwing your support to a dictator is a lot like buying a growth stock.

A comparison could also be made to a Ponzi scheme.

That's exactly my point. The problem is that we must redistribute the gains. The most effective way to do this is through redistribution of those gains being tied politically to the very lowering of barriers in the first place. After all, the rich run our government; they won't be inclined to hand out cash to the rest of us.