Lavoie

hello and welcome to new economic thinking I'm here this afternoon with Professor Marc love wah professor of economics at the University of Ottawa and a friend Marc it's good to see you yes I've I wanted to have you on your new economics textbook has come out the post came post-keynesian economics new foundations there have been a lot of things that have been discredited in the wake of the 2008 crisis including the way we teach economics so this new book is a welcome addition hopefully it will change the way we think about economics and the way we teach it what do you think is the main difference between your book and a shall we say a mainstream economics textbook that we might be seeing in most universities those days well first it starts with methodology in which you don't see too often in the usual mainstream mainstream books in a sense it tries to cover both microeconomics and macroeconomics so from that point of view it's not that different but it deals with ideas that are different for instance there's there's a big discussion about what is fundamental or radical uncertainty try to explain the difference from risk which can be can be measured with probabilities then it has a different picture of the firm and the firm is seen as something that looks that is looking more for growth rather than profits that is looking more for power and growth is the means to acquire that power so there's a political economy dimension which is actually neglected in economics there's a notion that somehow you can detach politics we make no ones which i think is about as realistic as detaching numbers from arithmetic it's a good way to put it but I I wanted to get back to these some of the ideas you've introduced see the the radical uncertainty notion because economics has had a hard time dealing with that and in many respects has made assumptions about radical uncertainty which other disciplines such as neuroscience and psychology have disproved interestingly enough the pre Samuelsson economists notably Keynes I think we're much more comfortable dealing with the notion of radical uncertainty and animal spirits for example well yes and the standard textbook assumes that people have so-called rational expectations but I would say the the worst in those books is that not only do they assume that but they assume that everybody knows exactly how the economy functions and they assume that everybody has the same assumptions about how the economy functions whereas in reality that's now how people don't know exactly how the economy functions you just look at what happens to your neighbor or you are you look at what happens to your sales and adaptive expectations come into play which was of course a key inside of Minsky exactly and and then you you try to you try to refer to your inventories you you know so you look at your own situation you don't assume that you know exactly what's going on in the future and what does that mean in terms of how you teach economics if you given the realities of radical uncertainty I mean you always discussed it in the book so well I would say that most people the way I teach economics I'm not that quite sure I teach economics I think in the same way as others I'm using models I'm using some equations it's just that the assumptions will be different I dare say that I hope that what I teach is more realistic than what many of my neoclassical colleagues would teach one thing I've noticed and I've read a number of your papers I learned a lot from them in your particularly I've found in your discussions of money and banking you take a strongly institutional approach by that I mean I think you you look at reality you look the way things are actually are grounded and you construct models on them on the basis of that when I was doing macro economics 101 for example you know we have the the idealized model of the fractional reserve system and loans can float out of that system and then you have this little thing called finance which was like a footnote well nowadays of course about 75% of all credit into mediations done through financial as opposed to traditional banking channels.

 and I think the the bank model that is described in the economics textbook is inaccurate you describe a model which i think is much more accurately the so called overdraft economy as opposed to the fractional reserve model of economy so you want to elaborate on that a little bit well I think that perhaps the the part of the book which is has the most institutional content is the part that describes how the central banks relate with the government's and how the central banks relate with the banking system I wouldn't dare to say that I managed to explain the so called shadow banking system as well as someone like Aaron Merlin for instance but you do talk about for example the concept of horizontal and vertical money which i think is an important insight well that's exactly I there's a bit of fair discussion I think for the links between the payment system declaring a settlement system its links with the central bank and its links with the government and I think this is essential in in the understanding how the central bank manages to set rates of interest and also on the other hand how banks or the financial system at large is relatively independent from the central bank in deciding on the amount of credits and money deposits that it will create in the economy whereas the standard story is that the central bank somehow sets the level of reserves and that this determines the amount of monetary aggregates in the economy and so remember you're doing a presentation in Toronto a few years ago and you use the example of the great financial crisis of 2008 to precisely show but the traditional models were or incorrect because of course them the banks weren't that central banks weren't really setting a reserve rate in the way that the textbook subscribe well yes the the crisis gave rise to a lot of changes in the standard thinking about how monetary policy is being implemented and how this deposit credit reserve nexus works out but even us from the post-keynesian point of view we had to slightly modify our views for instance we used to say that it's the amount of credits that generates the exact amount of reserves in the system so the causality was going straightforwardly from credits to deposits to central bank reserves now with quantitative easing and all that we discovered that well if the central bank is giving itself a rate of interest which is at the floor of its corridor then the central bank is able to set whatever amount of reserves in the system that it wants and still be able to control the rate of interest right now maybe it's not so obvious because as you know the federal funds rate or the overnight rate in many countries is next to zero but I'm sure you know you know maybe in a couple of years or in a few months the Fed or whatever other central bank will start raising the target rate of interest and I believe in others in central banks believe that they will be able to do so despite keeping their very large balance sheet yes and in fact them there's a lot of people as you point out very early on among some who say that now that you've got this new institutionalized structure recognized you know the central bank as some dealer or counterparties last resort that the idea that were somehow going to shrink the balance sheets and go back to the way things were before is probably unrealistic and I'm not even sure it's desirable well I don't even think that it's they need to do it so there's nobody just drink I don't think I don't think so they don't need and on the other hand it will also be helpful for the government because all these bonds government bonds or guarantee securities that the central bank is holding well ditch this means that it's less it's a smaller amount of interest payments that the government has to make to rent ears so this is helping the government to have a smaller deficit so the euthanasia of the rentier might be a Keynesian prediction I want to change topics just a little bit you did some work with the late great wind oddly on sectoral balances I've often thought that if the Europeans in particular or the the people help this one of mana Michael maniacal focus on fiscal austerity actually looked at the world through this sectoral balances frame where we might have a more rational policymaking discussion why don't you just briefly outline the sectoral balanced approach that God that because it's so crucial developing well the sectoral balanced approach starts from the national identities and we just rearrange it in a way that well for instance we we look at what is the balance of the private sector what is the financial balance of the government sector which is then the government surplus or government deficit.

and what is the external balance so that's a good radio equipment once we put into the current account balance and we know that the sum of those three things has to be equal to zero but at any given time any one of those sectors can run a deficit or a surplus product a--they another sector is prepared to accommodate it exactly so if you make some predictions regarding the about the financial balance of the private sector and you already know what's the situation of the order likely situation of the external sector then you have a good idea of what's going to be the deficit or the surplus of the government and then if your if your predictions about these various things don't add up then it means one of your assumptions is wrong and I think it's a if we had looked at national economies more on that sort of a framework before 2008 we might have had been able to get to grips with the the problems that we subsequently experienced for for example countries like Spain and Ireland for example had very good good is probably problem were to use but they think they their public sector balance were roughly he's doing with their public levels of debt were small and so everyone who thought would have thought on the conventional notion that public property is bad that these are great countries their models before but there was little sensitivity to the huge buildup in private sector debt which would have been picked up had there been more focused on this sectoral balanced approach well yes you you know I had many discussions about this with wind Godley so he was more optimistic than I was I must say on the usefulness of these balances I mean it's highly useful as I said to identify whether or not you're making a very bad forecast with respect to one of the balances or one of the assumptions about economic growth and so on his forecasting record would suppose remarkably could compared to most UK colobus maybe that was a cause for his optimism yes people use my methodology you know well and it has been used by companies like Goldman Sachs and it is now generalized I mean it's not something that when God Lee himself invented because it's a national account identity but he's certainly the the person who emphasized it most and who induced other people to discover it and to use it and as I said now in many financial offices they are using this to better understand what's going on let me go back to the the textbook and generally the the teaching of economics if there is one or two things that you felt needed to be changed in terms of the way that economic students is taught anywhere what would they be liking the easy questions no not an easy question I well I I think that if we're talking about macroeconomics I think the the crucial issue is whether or not you believe in the natural rate of unemployment and this is tied in with the belief in the existence of a natural rate of interest so I I think this is the the crucial issue because if you think that there is a natural rate of unemployment out there that if you ever get away from it if your rate of unemployment is too low that this will drive up inflation and therefore induce the central bank to pursue restrictive restrictive economic policies then there is nothing to do you know if you think that whenever you know you will consider that all you want is price stability and this is what happened during the Great Moderation the obsession was with this and this of course this is partly the so-called nayru area it's very much part of that and it's linked with all the rest which is that if the rate of unemployment is too high it is because workers are shirking or don't want to work enough or because the tax tax rates are too high and in fact we are here in the OECD building and this is what the OECD keeps telling the the countries for instance France right now they say well you need to have a more flexible labor market and this will help you reduce the rate of employment of unemployment but from I think you may be inadvertently correct first time because in fact usually in the absence of any aggregate demand improvement see me all these supply-side befores will do is effectively create more unemployment because you're going to be firing workers or making it easier to fire work and this is what in the book this is what I try to emphasize I exercise all these Demian aspects that the economy is essentially demand led both in the short run which is something that most of our New King James colleagues or Marxist colleagues would agree with like Paul Krugman and so on but post-keynesian also believe in argue and there's a lot of evidence about this now following the crisis that aggregate demand also drives the economy in the long run for instance it is being realized now that potential output is much lower you know six years after the financial crisis then it was supposed to be measured in 2008.

and this is because aggregate demand has suddenly fallen and and and this induces our fall in the aggregate supply which is being generated so the way to pick it pick it back up is to have expansionary policies to increase aggregate demand so you don't bind the the secular stagnation doctrine which has become increasingly popular you wouldn't you would argue that it it's a it's a function of the deficient aggregate demand to a large extent well there's a bit of truth in it I mean the argument of Summers is that there's been a slowdown in population so yes you know I would buy that look at what happens in Japan there's very little growth but on the other hand their output per capita has been growing so to some extent the low growth in Japan is also due to the fact that there's no growth in population so you know it's it's just that all I'm saying is that yeah supply-side factors do have an impact like the rate of growth of population but aggregate demand is a key component of what happens to the economy and and this is true also in the long run let me ask you what other metric we often we use the metric of growth in GDP it's been in quite a popular metric since the Second World War I guess we wanted to measure how well how much output we were producing to win a war but it wasn't to use very commonly in fact I don't think it was used at all before that period and I'm wondering if that kind of a metric best captures what we should be looking at I mean there are people like Joe Stiglitz for example we're talking about really using different kinds of metrics to measure overall national prosperity with them what are your thoughts I don't have much of an opinion on this frankly you know no it's not discussed in the book and it's a tough I mean GDP is you know it's about the best as we can is it's an indicator of what's going on but yeah for sure it's not the optimal indicator that that one would wish for but I'm not I'm not so sure that we can do much better and and and do you think we should be teaching economics in a way that helps to embrace other for other social sciences for example of it given that we have these these we gain these move new insights but uncertainty for example from neurosciences in psychology is one example oh well yeah I mean we can always benefit a bit from the other sciences but I must admit that in the book there's not that I mean the purpose of the book was to give to you know students PhD students or fourth-year students give them an idea of what this alternative called post-keynesian economics look like because you know today people look search on on the web they get some indications they hear about it in particular through modern monetary theory but they they don't you know they need something who puts it all together and that was the purpose of the book the purpose of the book was to to give a survey of what is post-keynesian economics today because I had done it 20 years earlier but of course a lot has changed over the last 20 years and has the book gained reasonably good acceptance in academic circles it's likely to be reflected in the curriculum of many well in the curricula of departments that have some heterodox courses I with the University of Ottawa or others but yeah the book.

 I think it is successful because it's already in a paperback version which is a good sign it means that it is selling well enough no I don't think so it's well look III have i have read parts of the book and i've also benefitted from your teaching for many many years Thank You Marshall I just want to thank you for coming to be with us today and I do hope that more people do embrace this type of teaching in because I think it's in table 2 new economic thinking self-love well thanks very much for being with me today Thank You Marshall hurricane.

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