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Critiques of Economic Theories

Bergmann Barbara R The Economists’ Voice, 2007, vol. 4, issue 2, 1-4

Abstract: How do economists know what they know? In a call for a new empiricism Barbara Bergmann asserts that economists mainly make it up.

Summary of article:

The paper starts by explaining how biologists studied bottle-nose dolphins for thousands of hours, in order to arrive at conclusions about their behavior. In contrast, economists do not study firm behavior at all — they just sit in comfortable chairs, and invent the theory from scratch. They just make it up!

Behavioral economists who study actual behavior are not welcome guests at economics departments, because they bring the bad news that theories of economists do not correspond to real world observations. Barbara Bergmann describes how she invited Herbert Simon for a talk at University of Maryland. Her colleagues let her know that his talk about real behavior was a waste of their time — it was not economics!

In general, behavioral economists like Kahnemann and Tversky have recorded several significant conflicts between “rational” behavior prescribed by economic theory, and real human behavior. Vernon Smith, one of pioneers of experimental economics, suggests that the notion of “rationality” as used by economists, needs a reality check. However economists dismiss these conflicts by arguing that the behavior of students in labs motivated by small amounts of money does not represent real world business behavior. To overcome this objection would require behavioral and experimental economists to act like anthropologists, and actually go and live among the businessmen to learn how they actually behave.

While no one has actually done this, a few surveys of business behavior have been made,. In 1939, R. L. Hall and C. J. Hitch survey found that managers were unfamiliar with the concepts of marginal cost and marginal revenue, and that they did not use them when setting prices and output. Rather, they made an estimate of cost per unit at what they took to be some plausible level of sales, and then tacked on an amount for profit. “Professional economists received this  news with pained condescension and have succeeded in forgetting it.”  [[ Indeed, it was the need to defend economics from repeated observations of the stark contradictions between observed empirical realities and theoretical assertions that led Friedman to create his F-twisted methodology — see Friedman’s Methodology: A Stake through the Heart of Reason]]

Alan Blinder revived the survey method to study price-setting by business, and found more bad news. Almost 90% of firms set prices for their products, and hence the supply and demand model, which requires price taking behavior, does not apply to such firms!  Similarly, empirical tests have been made of discrimination by sending out matched pairs of candidates for job vacancies. These experiments provide strong evidence for discrimination by race and gender, conflicting with Gary Becker’s idea that profit maximization would lead to elimination of discrimination. Even though empirical evidence strongly supports existence of discrimination, Larry Summers used Becker’s theories to argue that there are very few women at Harvard because of genetic deficiencies in women, rather than discrimination at Harvard. After all, if Harvard discriminated, then it would lose the luster of its name, and be out-competed by Podunk University, which gave jobs to blacks and women!.

Empirical data show that in recessions, wages do not go down — rather, they remain fixed at pre-recession levels. Truman Bewley did a survey of 300 business establishments, to ask them why, and found a simple unanimous answer: it would adversely affect worker morale. However, economists disdain empirical evidence and have invented 25 different theories (listed by Bewley) as to why wages are sticky, without examining any empirical evidence.

Research on actual behavior in business settings is in its infancy. If we had more information about how businesses set prices, we could have better theories of why and how prices increase — i.e. inflation. [[ In this connection, see Daniel Tarullo: Monetary policy without a working theory of inflation]] Similarly, studying business investment and employment decisions would lead to substantially greater clarity on these sources of economic growth.

Barbara Bergmann argues that there is no doubt that the theories and policies advocated favor the rich and powerful, but that knowledge of ground realities of business behavior is likely to curb and counteract these tendencies. “For example, I submit that the idea that lowering taxes for the rich is the best way to stimulate production and employment
would be unlikely to survive a realistic accounting of consumer and business behavior.” She notes that while behavioral and experimental fields have made some progress in an an adverse environment, the prognosis for further progress does not seem favorable: “A
few years ago I had occasion to ask Truman Bewley whether he was training students at Yale to carry on research like that he did on wages. His answer, I am sorry to report, was, “No, that would ruin their careers.”

— See my related post on   Methodology of Modern Economics   for more evidence about how economists completely disregard empirical and observational evidence conflicting with armchair theories regarding an imaginary world which exists only in the minds of economists.

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After the Global Financial Crisis, there has been a lot of re-thinking about Monetary Policy, as one might expect. In fact, in light of the magnitude of the failure, re-thinking efforts have been much less than proportional. There are many, many, different strands of thought, and personally, I do not have clarity on what needs to be done. Furthermore, the situation is rapidly changing, so that a solution for today would not be a solution for tomorrow.  The fundamental problem is private sector creation of money, and nobody wants to discuss this elephant-in-the-room. But there may be a good reason for this unwillingness — with the financial sector is firmly in control of the US Government, and the Euro area, it does not seem politically feasible to think about radical alternatives. The goal of this post is just to summarize a paper of Stiglitz expressing his post-GFC thoughts on Monetary Policy — without much in the way of comments and discussion. The full paper itself is linked at the bottom of the post.

Summary of Joseph Stiglitz paper on monetary policy:

  1. In response to GFC 2007-8, massive programs of QE (quantitative easing) have been launched all over the world. While these actions may have prevented another Great Depression, economic growth and employment has not been restored to pre-crisis levels.

History of Evolution of Thinking at Central Banks

  1. Monetary policy had been based on the quantity theory of money (QTM) MV=PQ, which posits a stable relationship between the quantity of money, and the GNP. However, starting in the 1980’s this equation became unstable – Velocity fluctuated erratically, and none of the measures of money showed any stable relationship to important real and nominal variables like the GNP, and even the interest rate.
  2. This failure of QTM should have prompted a deeper investigation of monetary theory, and reasons for its failure, but it did not. [Stiglitz is unaware of the research of Richard Werner, which explains the failure, and provides and alternative: The Quantity Theory of Credit]
  3. Instead of investigating WHY the quantity of money failed to have stable relationships with macroeconomic variables, Central Banks shifted to the use of interest rates as the main instrument for monetary policy.
  4. Post Crisis experience has led the problem that interest rates have hit 0%, but the economy has not responded in the manner expected – cheap credit should have led to borrowing for investments, stimulating production, and borrowing for consumption, stimulating demand and lifted the economy out of the recession. However this has not happened.
  5. In light of this experience, current thinking is that monetary policy has become ineffective because we have hit a liquidity trap at 0% interest rate. We cannot take it down further. Some efforts are being made to create negative interest rate policy in the hopes of breaking through the liquidity trap.

Stiglitz’s proposed solutions:

  1. The key variable which drives the economy is the supply of credit to investors and consumers. This supply, provided by private banks, does not respond in a systematic or mechanical way to either the quantity of money produced by the central bank, or the interest rates. This problem does not have much to do with 0% interest rate floor. What we need to do is to target the flow of credit directly, if we want to have an effective monetary policy.

Errors of conventional theories, models, and policies.

  1. Conventional macro models assume perfect information and liquidity, which makes banks unnecessary. Using a more realistic model with liquidity constraints, credit rationing and asymmetric information, Greenwald & Stiglitz (G&S) show that credit provision by banks depends on their net worth, perceptions of risk, and the regulatory framework.
  2. In abnormal situations like post-GFC, these other factors which affect the provision of credit by banks, can overwhelm the normal channels by which monetary policy operates, rendering it ineffective. To restore effectiveness, Central Banks must go outside the conventional channels, and utilize macro and micro prudential regulations.
  3. Even if Central Banks succeed in increasing supply of credit provided by private banks, this may fail to have desired effects of stimulating production and consumption. This happens when credit is provided for non-productive activities like lands and stocks, which increases their prices without creation production or consumption. Cheaply available money can flow to harmful speculative activities, instead of productive investment.
  4. Lowering interest rates to fight recession creates a jobless recovery (as observed in USA). Lower costs of capital lead firms to substitute machines for labor.

The problem is that we are asking too much from a single instrument. But most governments have eschewed using this broader set of instruments.

  1. Using aggregated macroeconomic models hides the distributional effects of monetary policy. Stimulus using monetary policy hurts the poor and the laborers, and enriches the wealthy, leading to increasing inequality.

CONCLUSIONS FOR PART 1:

  1. Conventional theories of how money works, which are the basis of monetary policy today, have been discredited. The transmission channel for conventional tools – interest rates, Open Market Operations, Reserve requirements – is very weak, and can be interrupted or disrupted by outside factors.
  2. Managing a complex economic system requires as many tools as one can manage; the single minded focus on short term interest rates as the instrument and inflation as the target substantially limits the possibilities for effective interventions by the Central Bank.

PART 2: Creation of a RADICAL New System which circumvents all of these problems.

  1. The total amount of credit creation should be directly under government control. This credit can then be allocated or auctioned to banks – banks can no longer create credit, unless they acquire/purchase the right from the government. In turn, the government can put conditions on allocating credit to banks to ensure that it is lent out for productive investments only, and not for speculation. Electronic money can ensure that the system works, since all money and credit creation can be monitored.
  2. In open economies, fluctuations in the exchange rates and in balance of payments create tremendous costs. These can be managed by a trading chit system which stabilizes the trade deficit or surplus at a pre-determined level. Every exporter is issues a trading chit equal in value to his exports. Every importer must acquire trading chits in order to be able to import. Since the value of export chits necessarily equals the value of import chits, this system will have exactly balanced trade with no surplus or deficit. If economic conditions dictate running a deficit, the government can issue 20% extra chits, over and above export earnings – this would stabilize the trade deficit, and hence also the exchange rates. This is of tremendous value in stabilizing the economy.

POSTSCRIPT: At the time I wrote this, I was not aware of Richard Koo’s work on balance sheet recessions. This issue, heavy debt liabilities, seems of central importance, and has been completely ignored by Stiglitz, and many other authors (though not Mian & Sufi: House of Debt). See the 10m Video: Koo: Balance Sheet Recessions or read the RWER paper by Koo: The World in Balance Sheet Recession

 

 

This is an assorted collection of quotes I have found useful from time to time in different contexts. I am putting them all together for my own reference, as well as for the benefit of others who may find them similarly useful to make points.

JM Keynes Quotes (mostly from General Theory GT):

The composition of this book has been for the author a long struggle of escape, and so must the reading of it be for most readers if the author’s assault upon them is to be successful,— a struggle of escape from habitual modes of thought and expression. The ideas which are here expressed so laboriously are extremely simple and should be obvious. The difficulty lies, not in the new ideas, but in escaping from the old ones, which ramify, for those brought up as most of us have been, into every corner of our minds. (GT)

It is an extraordinary example of how, starting with a mistake, a remorseless logician can end up in bedlam. (GT)

It is astonishing what foolish things one can temporarily believe if one thinks too long alone, particularly in economics (along with the other moral sciences), where it is often impossible to bring one’s ideas to a conclusive test either formal or experimental. (GT)

For if orthodox economics is at fault, the error is to be found not in the superstructure, which has been erected with great care for logical consistency, but in a lack of clearness and of generality in the premises – (GT)

For professional economists, after Malthus, were apparently unmoved by the lack of correspondence between the results of their theory and the facts of observation;— a discrepancy which the ordinary man has not failed to observe, with the result of his growing unwillingness to accord to economists that measure of respect which he gives to other groups of scientists whose theoretical results are confirmed by observation when they are applied to the facts. (GT)

The classical theorists resemble Euclidean geometers in a non-Euclidean world who, discovering that in experience straight lines apparently parallel often meet, rebuke the lines for not keeping straight as the only remedy for the unfortunate collisions which are occurring. Yet, in truth, there is no remedy except to throw over the axiom of parallels and to work out a non-Euclidean geometry. Something similar is required today in economics. (GT)

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This post is a continuation of ET1%: Blindfolds Created by Economic Theory, We show how the Invisible Hand theory appears to be neutral but actually favors the top 1%.

As quoted and refuted in my earlier post on “Failures of the Invisible Hand“, Mankiw writes that: “The reason for excellent functioning of decentralized market economies is that all participants are motivated by self-interest. This self-interest works better than love and kindness in terms of promoting social welfare.”  

What a monstrous statement! How can any human being think such thoughts? This is what comes from cutting off human experience as a source of knowledge, removing hearts from bodies, and leaving only brains floating in vats as a the sole source of knowledge.

Our hearts — in their pure states –would revolt at the oxymoron of a society based on selfishness. However, contamination by the poisons of economic theory and positivism leads to the blindness to sources of human welfare displayed in the Mankiw quote. In earlier times, A Christmas Carol of Dickens was sufficient as a reminder the wealth is not a measure of welfare. However, modern times reflect modern mindsets, which convert greed and wealth to desirable virtues, as reflected in the Disney version of Uncle Scrooge. So, sadly, it becomes necessary to argue on logical grounds, appealing to brains in vats, instead of appealing to the heart.

First, let us note that “excellent functioning” just means maximization of wealth, and “social welfare” is also measured by the amount of wealth owned by society. At the individual level, the end-of-life psychiatric disorders of Howard Hughes have been the subject of numerous books and articles. Would anyone consider that the billions he made pursuing profits in a market economy created greater social welfare for him than love and kindness would have? What is true at an individual level is also true at a social level — The Easterlin Paradox shows that massive gains in wealth in societies have not caused corresponding increases in happiness. This is true both in time series for single countries, and for cross sectional studies across countries. As detailed and careful studies show — there is no long run relationship between happiness and increases in GNP per capita. Because this finding threatens the foundations of economic theory, economists have challenged it on many different grounds. In a review of these critiques which re-affirms their original findings, Easterlin et. al. have shown that, they do not differentiate between short and long run. The Easterlin Paradox is more accurately stated as – money does buy happiness in the short run, but not in the long run. This is exactly in accordance with my post on “The Coca-Cola Theory of Happiness” — Coca-Cola does buy happiness in the short run, but is not the formula for long run happiness.

Evolutionary biology has now discredited that idea that the survival of the fittest requires selfishness and competition; see Cooperation and Generosity leads to Evolutionary Success. It is almost obvious that groups would be strengthened by coooperation and generosity. There is no question that we would all prefer to live in a society based on love and kindness, instead of living in jungle ruled by survival of the fittest.  If “social welfare” is understand properly, instead of being reduced to a quantity of money in the bank, it is clear that love and kindness would work much better at promoting social welfare.

Why then have economists in the twentieth century insisted on attributing a mis-interpretation of the invisible hand to Adam Smith (see “Adam Smith & the Invisible Hand“) and have made this the central pillar of modern economic theory? The answer lies in ET1%: the necessity for the top 1%  in democratic societies, to invent theories which appeal to the bottom 90%, while actually favoring the rich and powerful. The Invisible Hand asks us to let everyone do whatever they want, since it will all work out to the best for the entire society. Even if the rich and wealthy appear to be exploiting others, the invisible hand will make sure that their greed is harnessed for the welfare of the society. The only way to make sense of this nonsensical message is to understand it as a clever piece of propaganda which supports the interests of the rich and the powerful, by identifying these interests with those of the society as a whole. This is very similar to the “trickle-down” theory, according to which enriching the wealthy will (eventually) bring benefit to the entire society. Even though it is easy to demonstrate “The Failures of the Invisible Hand” both empirically and theoretically, this theory dominates the pages of the modern economics textbooks. This demonstrates the main theme of my post on ET1%: Blindfolds created by Economic Theory;  modern economic theory is meant to blindfold students to the tremendous advantages the capitalist system confers on the tiny minority of the rich and wealthy, the 1%. It systematically distorts our vision and mindset to cause the tremendous inequities of the system disappear. See my paper on “The Invisible Hand: Death of a Metaphor“, for further explanation for how, with repeated use, a metaphorical usage becomes conflated with reality in the public mind. This is extremely beneficial for the 1% as it allows them to create myths which protect their interests, and have them accepted as truths in the form of modern economics. This illustrates the Power/Knowledge thesis of Foucault.

Introduction — I wrote this essay a while ago, and I am adding this preface here to explain more about WHY I wrote it:

Preface:

A central problem of our age is the turning of “means” into “ends”.  It is obvious that money, by itself, is not a source of pleasure –  it is a means to this end. Similarly, freedom is useful only if it is freedom to allow us to do something we want to do. Nobody would want the freedom to sell himself into slavery — which is effectively the only free choice offered to the poor in capitalism. Yet, today, due to a long, strange, and complex, historical process, freedom and wealth have become the goals of life, and the religion of most people on the planet. By religion, I mean that morality is based on these two goals — anything which creates wealth is desirable and hence moral, while anything which allows us greater freedom to act on our desires is also moral (this is the foundational principle of utilitarianism). In order to clear our minds of traps created by false paradigms, it is very useful to contemplate the opposites, as a mental exercise. As the dialectical method suggests, let us focus on the possibility that wealth and freedom are harmful to us. Wealth tempts us into the misconception that we can buy happiness with it, and this cheap path to short-term happiness — “The Coca Cola Theory of Happiness” — prevents us from learning and understanding the sources of long-term happiness, destroying the possibility of genuine happiness. Similarly, freedom tempts us into following paths of behavior which lead to short term pleasures at the cost of our long term happiness — we pursue strategies of instant gratification, failing to understand the need for sacrifice, struggle, and voluntary acceptance of suffering, in order to achieve higher goals. Not having wealth would be useful to enable us to learn to search for happiness in more productive directions. Instead of freedom, discipleship and slavery to an established tradition which teaches devotees to act in ways that lead to self developments and enlightenment, may create long run capabilities which are beyond the reach of our current imagination and vision.

Modern economic theory is based on the absurd and ridiculous Coca-Cola theory of Happiness, and assumes that the purpose of all human beings is to maximize the pleasure they obtain from a lifetime of consumption — It is flabbergasting that economists are proud of this childish microeconomic theory as a great accomplishment! If we had a more mature understanding of sources of human happiness, we would be in a better position to develop an economic system which could succeed in providing welfare for all.

The Secrets of Happiness: (published in The Express Tribune, June 27th, 2016.)

happiness

Psychologists have studied abnormal behavior for a long time, but have only recently started to pay attention to happiness. In this article, we map the findings of this happiness research to traditional concepts, which have been abandoned by modern mindsets. Despite our strong convictions to the contrary, happiness does not depend on our external circumstances. The greatest myth about happiness is to search for it in the outside world. People think that the perfect mate, the perfect job, achieving this that or the other goal will bring happiness. When they achieve their desired external goals, they are inevitably disappointed. However, instead of re-thinking their strategy, they shift the goal-post, continuing to seek more and more in a desperate quest for the elusive happiness. But happiness does not lie outside us, and it does not lie in distant goals. It lies within our grasp, in the present moment. At the present moment, we need to be able to analyze and change our internal mindset. “Know Thyself,” or self-awareness, is one of the crucial keys to happiness.

Reflection can make us aware of our conscious thought stream, but it is more difficult to become aware of our subconscious thought stream. Among the many effective techniques for tapping into the subconscious, free writing involves taking ten to fifteen minutes to write down whatever thoughts come to mind, without paying attention to grammar, spelling, style or any formalities. This method works to bring out into the open our thoughts which create obstacles to happiness. Extremely damaging to happiness is rumination on hurts, losses, tragedies, missed opportunities and the like. With conscious effort, we can put away negative thoughts. The concept of “predestination” is a powerful tool to avoid rumination over what might have been. The Quran states that all misfortunes have been recorded in advance, “in order that ye may not despair over matters that pass you by, …” Resignation to an inevitable fate brings peace of mind, while despair and distress is caused by ruminating over what might have been, or what might be.

In addition to suppressing negative thoughts, we must cultivate and nurture positive thoughts. One important source of positive thoughts is to cultivate gratitude for the gifts we have been given by God, instead of regretting what we do not have. This, and many deep lessons about life, were traditional elements of an Islamic childhood training. Sheikh Saadi writes about a boy going to Eid Festival Prayers with old shoes, and regretting not having new ones like the other children. Then he sees a boy with amputated feet, and feels gratitude that he has the feet on which to put shoes. The gifts of God which surround us are so extensive that reflecting on what we have, and reflecting on the millions who do not enjoy our privileges, is sure to lead to gratitude. Furthermore, as a wonderful bonus, God has promised to increase our gifts if we are grateful for what we already possess.

Positivity is also generated by optimism, which is created by cultivating trust in God. We trust in His Wisdom that the short run trials and tragedies we face are in our best long run interests. Those who cultivate “tawakkul” remain serene in circumstances which cause nervous breakdowns for others. Furthermore, the Quran promises those who trust in God to lead them out of difficulties via pathways they cannot anticipate. We need to consciously practice and make efforts to learn to re-shape our thoughts and words into positive frameworks of half-full glasses, instead of the negative frameworks of half-empty ones.

All of the creation belongs to the family of God. If we seek to serve others, for the love of God, we will be duly rewarded. The highest standards are set by the Quran, which recommends giving away that which you love most. However, Islam is a pragmatic religion and our Prophet Mohammad SAW set out three levels of acceptable behavior. The highest level is to do good in response to harm done to you. The second level is to forgive the one who has done you harm. The third level, which is also permissible, is to take revenge, but only to the extent of the harm done. It is NOT permissible to do more harm than that which was done to you. Even without following the highest standards of conduct, it is amazingly easy to make others happy — even a kind word, which costs nothing, can do wonders. Selfish striving for happiness kills the possibilities of happiness, because what human beings value most is being loved and appreciated by others. We must give in order to get, to create a society with warmth and love, which is a core component of happiness. This then is the paradox of happiness: it comes to those who do not seek it for themselves but seek to make others happy, while it eludes those who pursue it vigorously without concern for others.

 A related article is “Can Money Buy Happiness?“, which discusses the Easterlin Paradox. See also, articles on society & happiness.  This article, with introductory comments on the dominant religion of hedonism, is also posted on my Islamic WorldView Blog

Whereas conventional economics takes the nature of man as fixed and exogenous, Islamic teachings consider humans to simultaneously possess the potential for being better than angels and also for being worse than animals. Given this dual nature of man, the focus of Islamic teachings is to invite towards the good, and to discourage and prevent the evil. The focus is to try to transform human beings so that they become kind, compassionate, cooperative and generous, instead of acting on their base instincts of greed and competition. For more details in this connection, see Spirituality and Development.

The following ABSTRACT of proposed paper submitted for consideration for the 12th ICIEF at Ummul-Qura University, 10-11 Feb 2019, Mecca, Saudi Arabia outlines a methodology for working on transformation of human beings towards the good.

ABSTRACT:

All social sciences consist of three distinct dimensions. The first is a positive description of human realities. The second is a normative description of an ideal state of affairs. The third is a prescription of what needs to be done to transform the current state to the ideal state. Conventional economics describes humans as being homo economicus, motivated solely by the desire to maximize pleasures obtained by consumption (of goods and services). The ideal state of affairs is for all people to be able to satisfy all desires, but this is not possible due to scarcity. The transformative strategy is economic growth – we increase the amount of production in order to be able to remove scarcity and achieve plenitude. The pursuit of economic growth at all costs, prescribed by conventional economic theory, has caused massive economic injustice, and put the future of mankind in peril, by destroying planetary resources and human communities in the mad rush for growth.

Islam differs from conventional economics in all three dimensions. The description of human beings is substantially more complex, and closer to realities of human behavior. Humans have a wide variety of different goals, and they have conflicting desires and motivations. The human heart is a battleground between the forces of good and evil. The human being has been give the capabilities for excellence in both directions, for the greatest good as well as the greatest evil. The ideal state to strive for has been described theoretically in the Quran and Hadeeth, and the perfect model for behavior has been sent to us in the form of our Prophet Mohammad SAW. The strategy for transformation of human beings is Tazkiya, or purification of the heart from idle desires.
Conventional economic theory takes the nature and desires of man as exogenously given, and works on producing goods to satisfy all desires. Islam works on changing the hearts of men to purify them of the greed and competition for worldly goods, and replace these by the higher norms of cooperation and generosity. True richness is the contentment of the heart, which comes from abundance thinking, rather than worrying about scarcity. The Prophet Mohammad SAW created a revolution in history, transforming ignorant and backwards Arabs to become leaders of the world, and to launch a civilization which enlightened the world for a thousand years. Today, the central strategy of an Islamic approach to economics must similarly be to work on the hearts of men, instead of on the production of wealth.

OUTLINE of Proposed Paper:

Conventional Economics is wrong in all three dimensions.

As a DESCRIPTION of human behavior, homo economicus fails miserably.  As behavioral economists have discovered, actual human behavior is dramatically different from the predictions made by economists — see “Behavioral Versus Neoclassical Economics” or “Homo Economicus: Cold, Calculating, and Callous” for the contrast between reality and economic theory.

As a normative theory, the idea that everyone should seek to maximize the pleasure obtained from a lifetime of consumption is dramatically flawed. Seeking material comforts only brings short-term pleasure, but does not lead to long term happiness. See my earlier post on The Coca-Cola Theory of Happiness — even though a drink of coca cola may bring a lot of pleasure to a hot and thirsty man, keeping the referigator stocked with cold drinks will not bring him a lifetime of happiness. Deeper study shows that long term welfare and happiness is strongly dependent on cultivation of gratitude, compassion, and other characteristics and qualities encouraged by Islamic teachings.

As a transformative theory, the idea that growth will remove scarcity is exceedingly foolish. As we fulfill desires, they increase. Furthermore, people seek to have higher standards than their neighbors, in order to feel happy. This creates a rat race where everybody spends huge amounts of time and effort trying to achieve higher standards of living, but nobody feels happier as a result — the Easterlin Paradox: Can Money Buy Happiness?.  Islam teaches us if we give someone a valley full of gold, he will desire another one. Nothing will fill the belly of man except the dust of the grave. Islam offers the solution that we should NOT fulfill our idle desires, and control our Nafs. Instead, we should learn contentment of the heart, which is the true wealth.

Islamic Economics Offers a Superior Alternative in All Three Dimensions

As a descriptive theory, Islam provides us with a rich description of the complexities of human behavior. The human heart is a battleground between good and evil, and the human being has the capacity to be higher than the angles and also the capacity to be worse than the beasts. This matches with experimental evidence and also with our personal observations — human beings display cooperation and generosity, along with the selfishness and greed assumed by economics. Islam provides a far more accurate match to the observations of behavioral and experimental economics, giving us a better descriptive theory.

As a normative theory, Islam is far superior to conventional economics. Economics suggest that the sole purpose of life is maximization of pleasure obtained from the utiltiy of consumption. Islam teaches us that this pursuit of material goods and worldly pleasure is attractive to the hearts of men, but this is an illusion. Real satisfaction comes from higher pursuits, and cultivation of character traits like gratitude towards Allah for His countless gifts and blessings. The path to everlasting pleasure, both in this world and the next involves learning Tawakkul or Trust in God, cultivating Contentment, and learning Taqwa.

As a transformative theory, Islamics demonstrated their power by catapulting the backwards and ignorant Arabs to world leadership positions, and by launching a civilization that educated the world for a thousand years. These teachings still retain their power to change our hearts and to change the world — see Our Prophet SAW as a Guide for Revolutionary Change or Modern Miracles of Mohammad SAW. Unfortunately, as prophesied, Islam has become a stranger to the Muslims. Today the Muslims no longer believe in the power of Islam to create a revolution — instead, they think that we must rely on Western teachings in order to make progress. For a more detailed explanation, see The Modern Mu’tazila

To conclude — in all three dimensions, modern economics is seriously wrong, while in all three dimensions, Islamic economics provides a dramatically superior alternative. Sad to say, Muslims have been so impressed with the West that they have accepted Western economic theory as superior. Whenever they saw a conflict between Western economics and the Quran, they re-interpreted the Quran instead of rejecting the Western theories. As a result, they have been trying to create an Islamic economic based on Western foundational principles of scarcity, greed, and competition — see “The Crisis in Islamic Economics“. What we need to do instead is to build directly on Islamic foundations based on the abundance of the provision by Allah leading to generosity and cooperation. For further explanations, see The Spiritual Obstacle to Genuine Islamic Economics, and Questioning All of Economic Theory?

This is the second lecture on Understanding the Rise and Fall of the Gold Standard — shortlink: bit.do/azifa2 — we start with a  Summary of First Lecture 

The first lecture discusses the Keynesian theory that the exact level of money in an economy is critically important – too little leads to recessions, while too much leads to inflations. Furthermore, domestic business cycles, and international financial crises are caused by pro-cyclical behavior of current artificial systems of money creation and international trade. Standard macro theories make it impossible to understand the economy because they assert that money is neutral, and does not affect the real economy – exactly the opposite of the Keynesian idea that the quantity of money is all important. Standard macro model currently in use throughout the world have no explicit role of money, banks, and credit, even though these factors are of central importance in understanding the world. Once we understand the vital role and function of money within an economy, it becomes possible to understand historical events of the twentieth century – whereas this is impossible using conventional macro theories. The first lecture summarizes how the colonial system came into being, and the monetary arrangement for a hard currency at the core and soft currencies in the periphery. This system of fiat currencies works fine within one system of colonies, where the value of money is decreed by sovereign fiat. For trading between different countries, the gold backed currencies were used. As European countries prospered by exploiting resources throughout the globe within their colonies, inter-European trade increased. The optimal quantity of money required for the domestic economy is not the same as that required for stable international exchange rates. The pro-cyclical money creation which is characteristic of the system creates cycles, and large cycles lead to crises on a routine basis. World War I was partly caused by the breakdown of the colonial trading system due to the end of expansion possibilities after the completion of the conquest of the globe. Efforts to restore the gold standard after World War I failed. The second part of the lecture discusses the post World War I history, with reference to the international financial architecture that emerged in the post-Gold era after World War I.

3100 Word Summary of Second Lecture on Global Financial Architecture

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