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This post continues a sequence of posts on the numerous changes required to create a Macroeconomics for the 21st Century. See also, related lecture on Economics for the 21st century.

Eurocentric history portrays the West as advanced, rational, scientific, and democratic, while the East is superstitious, unscientific, autocratic, and backwards. This poisonous philosophy enabled the incredibly brutal and ruthless violence required for the conquest of the globe, and continues to sustain extremely exploitative economic systems. A partial antidote is World Systems theory which portrays all human beings, nations, and cultures, as joint participants in weaving the rich fabric of human history. Ecological economics goes further to take the entire humanity as one element of the biosphere and geosphere of our planet. All of the biological species have their “economics” where they consume and produce, directly or indirectly affecting other species. All of these economies are closely interlinked. Viewed in this light, the environment crisis is easily seen as being due to human beings’ predatory consumption of vast proportions of the biosphere and the geosphere, without any compensatory productive replenishment.

Conventional economics assumes that ever-increasing GDP is desirable, possible, and that everyone benefits, because it does not take into account costs inflicted on the biosphere and geosphere, which will ultimately be borne by human beings as well. For a more detailed discussion, see Evaluating the Costs of Growth. Ecological economics takes a broader perspective and recognizes that there are more things that contribute to human well-being than just the amount of stuff, such as health and education (human capital), friends and family (social capital) and the contribution of the earth and its biological and physical systems (natural capital). Its goal is to develop a deeper scientific understanding of the complex linkages between human and natural systems, and to use that understanding to develop effective policies that will lead to a world which is ecologically sustainable, has a fair distribution of resources (both between groups and generations of humans and between humans and other species) The related field of Green Economics is in general a more politically applied form of the subject.

Doughnut economics is a visual framework for sustainable development – shaped like a doughnut – combining the concept of planetary boundaries with the complementary concept of social boundaries. The framework was proposed to regard the performance of an economy by the extent to which the needs of people are met without overshooting Earth’s ecological ceiling. The name derives from the shape of the diagram, i.e. a disc with a hole in the middle. The centre hole of the model depicts the proportion of people that lack access to life’s essentials (healthcare, education, equity and so on) while the crust represents the ecological ceilings (planetary boundaries) that life depends on and must not be overshot. Consequently, an economy is considered prosperous when all twelve social foundations are met without overshooting any of the nine ecological ceilings. This situation is represented by the area between the two rings, namely the safe and just space for humanity. The diagram was developed by Oxford economist Kate Raworth in the Oxfam paper A Safe and Just Space for Humanity and elaborated upon in her book Doughnut Economics: Seven Ways to Think Like a 21st-Century Economist.

In previous posts regarding “New Directions in Macroeconomics“, I have discussed many dimensions missing from Modern Macro which must be incorporated, in order to create a Macroeconomics for the 21st Century. Previous posts were about Post-Keynesian, Modern Monetary Theory, and Political Economy. In this post, I will provide a brief summary of developments in money and finance which are completely absent from conventional Macro textbooks. Somebody aptly quipped that ‘Trying to understand the economy without understanding money and finance is like trying to understand how birds fly, without taking the wings into account”.

The Hegelian anti-thesis of the orthodox economic position that money is neutral, is the idea that “money is everything”. Economics is just the analysis of monetary flows, both within a society, and globally. Karl Marx describes the change in perspective via the formulae C-M-C’ versus M-C-M’. In the first paradigm, commodities C are sold to get money M, in order to buy another set of commodities C’. This picture of a barter economy, in which money just facilitates exchange, is at the heart of modern economics; this is why money does not matter. However, in a capitalist economy, M(oney) is used to produce commodities C, and these are sold for more money M’. Money is the goal of production and sales, not an instrument for exchange of commodities. An economy where the drive for profits is the main motivation for productions and purchases, requires an entirely different analysis.
In his classic work on “The Long Twentieth Century: Money, Power, and the Origins of Our Times”, Giovanni (1994) describes how the accumulation of capital (wealth, money) has been the central driver of history over the past several centuries. Giovanni provides a wealth of historical details and a global context to support this thesis, based on a world-systems perspective. Many other authors, writing from money different perspectives, have documented how “money makes the world go around”.
In particular, Minsky’s (1986) analyses of this phenomena are of special importance from the economic point of view. Minsky studies the evolution of finance (and financial capitalism) over the 20th Century. The creation of Central Banking led to a wild expansion of credit in the roaring 20’s, and the resulting collapse of the Great Depression. This resulted in strong regulations on banking, as well as the emergence of a welfare state. Big government for counter-cyclical budgets and the Central Bank to regulate finance led to a stable capitalist system which worked for decades. As per financial fragility hypothesis of Minsky, stability generated large
amounts of savings, and creation of competitive pressure to earn high returns by taking larger risks. Large amounts of money in pension funds and hedge funds created “Money Manager Capitalism”, where managers of massive amounts money have high incentives to take risks, because their interests as managers are not aligned with those of the owners. Managers of capital were able to change rules towards increasing de-regulation, and to privatize gains, while distributing losses to the general public. This increasing fragility has led to crises of increasing severity, culminating with the Global Financial Crisis.
Minsky’s theories are in radical conflict with orthodoxy in modern macroeconomics in many dimensions. In particular, Minsky (1986) argues that manager finance is inherently unstable. As the economy grows, this creates increasing incentives for risk-taking and leads routinely to crisis. This is the opposite of the orthodox view that economies tend towards stable equilibria. Minsky’s views are far better aligned with the data on hundreds of financial crises in the past few decades.

POSTSCRIPT: For a detailed discussion of the evolution of global finance, see On the Vital Importance of Understanding International Financial Architecture. To read the full paper (with references), see: International Econometric Review, Vol 12 No. 1 or SSRN Version.

by Dr Carmelo Ferlito

CEO – Center for Market Education, Malaysia

The subject of the crisis experienced by economics as a scientific discipline and its teaching is not new and a call for a reform centred on pluralism, multidisciplinarity and realism was raised by many scholars. However, economics remains under the spotlight for what it is interpreted mainly as the inability to understand and interpret the real economic world. Furthermore, so-called heterodox economists have often criticized mainstream economics on a pro-planning and anti-market basis (ideological ground), rather than with regards to the actual theoretical edifice; in fact, as pointed out by Geoffrey M. Hodgson (Loughborough University London), the neoclassical core of mainstream economics has been used to support socialism as well as capitalism[1]. In a nutshell, different policy recipes did not reflect substantial theoretical differences. 

I will recur here to the great Joseph Schumpeter to hint something about the nature of the crisis experienced by economics. While some of the main Schumpeter’s theoretical contributions, such as the concept of creative destruction[2] and the relationship between entrepreneurship and innovation (as distinct from invention)[3], became familiar to the reader of economic facts, his methodological reflection is unfortunately widely ignored even by the great majority of contemporary economists.

While it is impossible here to discuss Schumpeter’s methodology, I will focus on his concept of vision. In his History of Economic Analysis (1954), the Austrian economist explained that, when we start our research work, «we should first have to visualize a distinct set of coherent phenomena as a worthwhile object of our analytic efforts. In other words, analytic effort is of necessity preceded by a preanalytic cognitive act that supplies the raw material for the analytic effort»[4]. Schumpeter called that preanalytic cognitive act Vision.

In other words, the economist is not an observer alien to reality. He or she lives in specific conditions of place and time and it is thanks to the interaction with and the observation of the reality typical of such conditions that the vision is shaped. The analytical effort is then the attempt to convert the vision into concepts, into a scheme; however, such an analytical work contributes to make the vision to evolve so that – to borrow Schumpeter’s words – «[f]actual work and ‘theoretical’ work, in an endless relation of give and take, naturally testing one another and setting new tasks for each other, will eventually produce scientific models, the provisional joint products of their interaction with the surviving elements of the original vision, to which increasingly more rigorous standards of consistency and adequacy will be applied»[5].

It seems to me that a great part of contemporary scholarly work in economics is affected by the attempt – more or less conscious – to escape the vision. The idea that economics should be “pure” has perhaps contributed to move the researcher away from his or her own reality. And this seems to be more a contradiction today, when economics cannot be accused of not being empirical; quite the contrary: data collection and interpolation has almost entirely replaced the activity once known as theorizing.

What I see is that the content of the analytical work has been disjointed from its predecessor – the vision – and by its consequence – the theory. To use a metaphor, the modern economist looks like a bricklayer who is putting brick over brick but without the idea of building a house and without having in mind which kind of house he or she wants to build. The result can only be, at best, the approximation of a house.

The vision is the idea of wanting to build a house after a certain fact happens in reality: seeing a nice plot of land, getting married and so on. Theory is the finished house. The analytical effort is bricklaying: theory is shaped by the vision but not necessarily an exact mirror of it, as the construction work may reveal something that was previously unknown and that may force to revise the vision.

We now experience economics as a series of erratic data collections, while statistical correlation is often confused with actual causation. The time is come for the economist to sit back, look out of the window and let his or her observation in astonishment to shape that vision which is so much needed if the blackboard work has to have a meaning at all.


[1] Hodgson, G.M. (2019), Is There a Future for Heterodox Economics? Institutions, Ideology and a Scientific Community, Cheltenham and Northampton, Edward Elgar, p. vi.

[2] Schumpeter, J.A. (1942), Capitalism, Socialism and Democracy, London and New York, Routledge, 2003.

[3] Schumpeter, J.A. (1911), The Theory of Economic Development, New Brunswick and London, Transaction Publishers, 1983.

[4] Schumpeter, J.A. (1954), History of Economic Analysis, London and New York, Routledge, 2006, pp. 38-39.

[5] Schumpeter, J.A. (1954), History of Economic Analysis, London and New York, Routledge, 2006, p. 40.

The current WEA Discussion Forum on Trade Wars is being opened today.

Many relevant questions are at stake:

Can China actually replace the US as the economic leader in the world?

If not, what will prevent it? If so, what is required for …?

How can the US prevent this shift from happening?

Will free trade still be promoted strongly through multilateral agencies?

Does the global winner keep the hegemony as its prize?

Or are we in a new situation of shared/partial hegemonies?

What are the consequences to the world economy and the future of neoliberalism?

You can read the following interesting papers and engage in this Discussion Forum

period: October 19th till December 5th, 2020

website: https://tradewars2020.weaconferences.net/papers/

1.The current correlation of forces in the struggle for global economic hegemony

by Juan Vázquez Rojo

2. The War on Trade and its Theoretical Implications

by Oscar Ugarteche

3. The interplays of US, China and their intellectual monopolies

by Cecilia Rikap and Ariel Slipak

4. The Hegemonic Siege on American Power: US-China Disputes in the Shaping of the 21st Century World-System

by Eduardo Martínez-Ávila

5. America’s Trade Deficits: Blame U.S. Policies – Starting with Tax Laws

by Kenneth E. Austin

This is a sequence of posts on “New Directions in Macroeconomics“, which discusses the numerous directions of research which must be incorporated to create a viable Macroeconomics for the 21st Century. We have previously discussed “Post-Keynesian Economics“, and “Modern Monetary Theory“. This post discusses the necessity of re-incorporating politics into economics.

Once we recognize the importance of history and institutions, it becomes clear that economic problems cannot be separated from politics and society. The interplay of class interests, and their relative power, is of essential importance in understanding political and economic structures of society. Current commitment to methodological individualism has blinded economists to these aspects, and left them unable to explain burning issues like the rapid rise of income inequality in the wake of financial de-regulation. There are many different perspectives from which the inter-relationships between politics and economics can be analyzed.

Marxist Perspective: Although the Marxian prediction of the demise of Capitalism has proven wrong, the methodology and tools he developed yield deep insights not available within the orthodoxy. Moore (2015) shows that dynamics of capitalism require ever increasing exploitation of all available resources. However, with the imminent exhaustion of planetary resources on a global scale, capitalism, appears to have reached its final frontier. A key Marxian insight is that exploitation is enabled by an ideology which creates an appearance of fairness, necessity, desirability, and attractiveness of the capitalist economic system. For an illustration of how modern economic theory fulfills this role, see ET1%:Blindfolds Created by Economics. Unlike orthodox macroeconomics, Marxist theory is well suited to understanding the global nature of capitalism; for key references, see Burnham (2001).  Marxist analysis is also very helpful in understanding increasing inequality and exploitation, which is responsible for the inherent instability, and repeated crises, of the capitalist economy. Harvey (2017) is a useful introduction to contemporary understanding of Marxist theory, together with a critique of orthodoxy (see Video Lecture: https://www.youtube.com/watch?v=gBazR59SZXk ).

The Great Transformation: Polanyi’s famous book (see Summary of the Great Transformation) provides a deep analysis of the transformation in England from a traditional society to a market society. As he shows, emergence of the market mechanism created conforming changes in politics, society, and our attitudes towards the planet and people. Polanyi shows how social transformations work through collective efforts of classes, which are embodied in the form of institutions. However, he does not take classes and institutions as exogenously given. Rather, he shows how social transformation can create or destroy classes, and also institutions, in accordance with shifting balance of powers created by a complex of forces which act from within or without. Three major methodological principles used by Polanyi for the study of social change are articulated in The Methodology of Polanyi’s Great Transformation. All three run counter to received wisdom in contemporary economic methodology, and therefore furnish new foundations for an alternative 21st Century approach to economics.

The New Political Economy: Many have come to realize the impossibility of understanding economic crises of the past century without taking into account the political and historical context, as well as a deep analysis of the institutional structures.  See for example “There is no economics without politics” by Admati (2019).  This has led to the emergence of a new eclectic approach to the study of close connections between politics and the economy. The recently established Department of Political Economy at Kings College London provides as raison d’etre: “In a world characterized by financial uncertainty, ecological insecurity and value conflict, the links between political and economic processes are ever more apparent and the need for a multifaceted appreciation of how they operate, has never been greater.” As an illustrative example, Lemann (2019) provides an account of how economic theories, combined with political power, reshaped institutions and policies to dramatically change the social, political, and economic landscape over the past century. Combining political, institutional, and historical methods leads to deep insights into the workings of our economic system not available within the orthodoxy. A comprehensive and thorough book-length treatment is provided in a draft textbook on Political Economy by Daron Acmeoglu (2020).

END OF SECTION. To read the full paper, with complete references, see: International Econometric Review, Vol 12 No. 1 or SSRN Version.

This continues from the previous post on Post-Keynesian Response. A large number of contributions from different areas need to be integrated to build an economics for the 21st Century. For an acknowledgement of the failure of 20th Century Macro from one of its architects, see Romer’s Trouble With Macro. This post explains Modern Monetary Theory briefly.

Since the time of Keynes, major changes have taken place in the global financial system. Against wishes of Keynes, Bretton-Woods created a dollar centered system based on notional exchangeability of dollars for gold. The Nixon Shock in 1971 removed the gold backing from dollars, leading to the modern world of floating exchange rates. Dramatic changes in the monetary exchange systems and financial institution play no role in orthodox modern macroeconomics, since money and finance are not (supposedly) part of the real economy. Taking the nature of modern money and the financial institutions into serious considerations leads to many important insights which lie at the core of MMT. Three major innovations lie at the foundations of this theory. These are summarized below:

Endogenous Money: MMT reflects an institutional perspective on the creation of money. When Central Banks set discount rates, they lose control of the quantity of money, which must be issued in amounts required to equilibrate the demand/supply of money at the policy rate. Private creation of money depends on bank-lending, which in turn depends on the investment climate. Bank credit depends on expectations, sound collaterals, and also a keeping-up-with-the-Joneses effect – if everyone is lending, banks cannot afford to stay out. Theories of endogenous money underlie Minsky’s Financial Fragility Hypothesis, which suggests that the money creation process is inherently destabilizing because private credit is expanded at the top of the business cycle and contracted at the bottom, exactly the opposite of what is required for good economic management.

Functional Finance: Orthodox macro enforces a budget constraint on the government, embodied in the so-called “Ricardian Equivalence”. A key proposition of MMT is that the government does not face a budget constraint. The “deficit” number is meaningless; both taxation and spending serve different economic purposes, and should be used as required by economic considerations. Taxation does not provide revenue for the government, but rather serves to dampen aggregate demand. It also creates value of money, by providing an essential use for money. Government spending is required to generate profits for firms, and savings for households by injecting money into the economy. The government can and should achieve full employment using appropriate fiscal policy measures. However, this fiscal spending must be carefully targeted and suitably constrained, in order to avoid inflation.

Intersectoral Flow of Funds: MMT incorporates Kalecki’s approach towards inter-sectoral balances, which provides a refinement of Keynesian ideas. Fiscal policy should take careful account of the different sectors of the economy. Money creation may pump money into the wrong sectors, leading to inflation long before it reaches the sectors with excess capacity, where it could reduce unemployment. Thus a carefully crafted job guarantee program, which does not compete with private jobs, is at the core of policy recommendations generated by an MMT perspective. For more details on how these ideas could be implemented, see Zaman (Jan 7, 2020).

The completes our brief summary of how MMT can contribute to creating a Macroeconomics for the 21st Century. Next, we will discuss how politics, which was removed from economics, can and should be re-introduced within a “Political Economy” approach to Macro.

This continues from previous post on New Directions in Macroeconomics. Among the heterodox responses to the crisis in economic theory created by the Global Financial Crisis 2007, we will briefly discuss the following:  Post-Keynesian Economics, Modern Monetary Theory, Political Economy, Evolution of Global Finance, Ecological Economics, Complexity Economics, Islamic Economics. This post is about Post-Keynesian Economics.

The response of mainstream macroeconomists to this crisis has been disappointing; see for example Antara Haldar (2018) “Economics: The Discipline that refuses to change”. The failure of classical economics in the Great Depression of 1929 led Keynes to the create the field of macroeconomics, which was revolutionary many different ways. Unfortunately, as Romer remarks, the profession went backwards, losing hard-won insights. All of the revolutionary Keynesian insights (discussed in greater detail below) have since been rejected by the orthodoxy.  Similarly, there has been little or no response to the demonstrated failure of macroeconomic models following the Global Financial Crisis. In  “Models and Reality: How did Models Divorced from Reality become Epistemologically Acceptable?”, I have explained how current economic methodology prevents economists from creating better models in response to empirical failure. Instead of re-thinking economics, mainstream economists have closed ranks along a defense of the orthodoxy. A consensus has emerged that no major change is required. For example, Krugman attributes the failure of macro to three factors: (i) a “Black Swan event” of such low probability that it could not have been foreseen by anyone, (ii) prolonged maintenance of low interest rates by the Fed (flawed monetary policy), and (iii) emergence of a huge shadow banking sector not taken into account by macroeconomists monitoring the economy. The point of this deeply flawed defense is to argue that there is no need to change the fundamental frameworks for macroecnomics. As a result of this failure to reform theory, the same macro models which failed catastrophically in the Global Financial Crisis continue to be used all over the world. DSGE-based macro models with no role for money and banking, and GARCH models forecasts of volatility, are still in use at Central Banks throughout the world, because no viable alternative has emerged.

While mainstream economists have failed to respond, there has been substantial recognition of the challenge, and many important heterodox responses to the crisis in macroeconomics created by the Global Financial Crisis. We have listed some of the major schools of heterodox response in the opening paragraph. In the remaining post, we will discuss

Post-Keynesian Economics: 

By now, this is an advanced and sophisticated school of thought which builds upon multiple revolutionary insights of Keynes, rejected by mainstream macroeconomics. We discuss three of these briefly below. A fourth insight of great importance was the understanding that macro phenomena did not emerge by aggregating the micro phenomena – the system is not just the sum of its parts. This is now called “complexity economics” and is discussed in a separate subsection.

Money matters, in the short run and in the long run. It is surprising that this needs to be said, since it seems entirely obvious to everyone except economists, who teach that money is neutral. Real Business Cycle Models of the economy currently in use for monetary policy have no direct role for money and no financial sector. As somebody quipped, this is like trying to figure out how birds fly, without taking into account their wings. Romer (Trouble With Macro) expresses his exasperation at major league macroeconomists who write that money plays no significant role in the economy, and provides strong empirical evidence for the importance of money by study monetary policy of Volcker. Arestis and Sawyer (2006) provide a comprehensive review in their Handbook of Alternative Monetary Economics. An example of how these post-Keynesian theories affect orthodox views of growth, interest, and money is  provided by Dutta and Amadeo (1993),

Radical Uncertainty: Keynes argued that the future is inherently uncertain and unpredictable. Unfortunately, some erroneous technical arguments were used to show that rational decision making could be based on probability estimates of future events, denying the possibility of radical uncertainty. John Kay (2019) writes the “To acknowledge the role of radical uncertainty is to knock away the foundations of finance theory and much modern macroeconomics.” For example, rational expectations is at the heart of modern theories of finance and macroeconomics, and makes events like the Global Financial Crisis impossible. A landmark book on Radical Uncertainty by Kay and King (2020) argues that rejection of Keynesian uncertainty was a central reason for the blindness of economists, and economic theories, to the possibility of the Global Financial Crisis. These theories continue to dominate, while recognition of radical uncertainty is a necessary preliminary to the rebuilding of a more relevant economic theory. For a deeper discussion of the technical arguments which led to the rejection of uncertainty, see Zaman (2019).

Demand Driven Output: Keynes opens his famous book by rejecting Say’s Law, which states that supply creates its own demand. In contrast, he argued for the principle of effective demand, that demand matters in the long as well as the short run. Unfortunately, modern macroeconomics has re-instated Say’s Law, and ruled out the possibility of long-run unemployment of labor or other resources. The success of the counter-revolution of Chicago style free market economics, launched against the Keynesian revolution, has left economists blind to the mysteries of the labor market. For example, Borjas (Labor Economics) agrees that ‘marginal productivity theory bears little relation to the way that employers actually make hiring decisions’. He writes that “We do not yet fully understand why the recent evidence differs so sharply from the evidence presented in the earlier literature, and why the implications of our simple-and sensible supply and demand framework seem to be so soundly rejected by the data.” Similarly a recent conference on the mystery of rising productivity together with stagnant wages was the subject of a recent conference, where top economists admitted to being bewildered by this phenomenon. See Denning (2013) for a collection of quotes displaying the confusion and frustration of economics, and an explanation of the problem based on the evolving structure of corporate finance. Post-Keynesian theories build on Keynesian ideas to provide deep insights into the functioning of the labor market. Providing good jobs to everyone is arguably the most important function of an economic system, and one which modern economies fail miserably to do. To create full employment, it is essential to fix economic theory, which solves the problem by pretending it does not exist.

For full article, with references, see Zaman & Basci: “New Directions in Macroeconomics”, International Econometric Review, Vol 12, Issue 1, p1-23

This continues from the previous post: Coffee and Banking Clearinghouses. It explains how clearinghouses started to perform many of the functions we identify with Central Banks today.

To understand modern central banks, it is useful to look at how they evolved out of the needs of the banking system. The Clearinghouse seems like a mechanical and unimportant part of the system. It is a way for the banks to clear checks written between any two banks in the system. However, as we will see in this post. This simplicity is deceiving. Many aspects of Central Banks emerge directly from the functions of clearinghouses. In this post, we will summarize the article “Private ClearingHouses and the Origins of Central Banking by Gary Gorton, published in Business Review, Jan-Feb 1984.

By 1850, the 50 banks in New York found that daily bank-to-bank clearing could not be completed in time. The use of checks had soared, and if each bank had to clear with every other bank, 50 x 49 = 2450 transactions would be required to complete clearings. In contrast, creation of a central clearinghouse substantially reduced the transaction cost of clearing. Every bank only needed to calculate ONE net figure – total incoming checks minus total outgoing checks. If this was positive, it would receive gold from the clearinghouse. If negative, it would pay gold to the clearinghouse. With 50 transactions, one between each bank and the clearinghouse, the market would clear. Once the efficiency of this system became apparent, it was widely imitated throughout the USA and elsewhere.

Once the clearinghouses were setup, there were some natural extensions to their functions. Clearing involved giving or taking gold to each of the fifty banks. If each of the banks had some reserves in the Clearinghouse, the clearing could take place in-house. The Clearinghouse would keep the reserves for all the banks, and simply adjust entries in its book regarding which bank has how much gold. No actual gold needed to be moved, saving transactions and security costs. This system was improved and supplemented by the addition of specialized “Clearing House Specie Certificates”. Banks could deposit gold at certain large and secure designated banks and receive these certificates for use at clearing. The certificates would be equivalent to gold, but would be much easier to transport and have much higher security.

The Role of Banking Crises

Evolution of functions of the clearinghouses occurred in response to banking crises which used to occur regularly following the ending of business cycle booms. In the fractional reserve banking system, each bank holds only a fraction of the gold which it owes to its depositors. All of the banks would collapse (become il-liquid) if all depositors demanded gold in return for their deposits. In a crisis, only a few banks would actually be in financial trouble, but depositors did not have information as to which banks are sound and which are not. So there would be a general panic as depositors rushed to demand gold. Such a general rush could collapse the banking system. Many measures were developed to quell these panics. One of the first was temporary suspension of liquidity. Depositors were not allowed to convert deposits to gold. But this would only be a temproray and delaying measure. In order to meet demand for gold, clearinghouses created a new instrument called the Clearing House Loan Certificate”. Whereas the Specie Certificate had to be backed by gold, the Loan Certificate was backed by other financial assets of the bank. These Loan Certificates could be used by banks at the clearing just like the Specie Certificates. This reduced the need for gold at inter-bank clearing, in order to make gold available for payment to depositors. It was in the collective interest of banks to prevent bank failures, since failure of one bank could easily trigger a panic which would take down the entire system. That is why some flexibility (use of loan certificated instead of specie certificates) in interbank clearlngs was accepted by all banks. The Loan Certificates were issued as a collective liability of the banking system (and hence valid even if any particular bank failed) and they were issued with collateral backing of financial assets worth significant more than the loan. Use of these loan certificates was able to prevent a financial crisis in 1960, by making enough gold available to meet depositor demand.

The clearinghouse loan certificates were used only for inter-bank transactions at clearing, and not issued to general public. Later, the success of this model led to an extension. The Loan Certificates could be exchanged for Clearing House currency, which could be given to general public. While the clearinghouse issued currency was not a perfect substitute for government issued currency, it was the joint liability of the entire private banking system, and hence much safer than checks of any particular bank. Use of the clearinghouse currency substantially expanded the ability of banks to respond to crises by issuing their own certificates which would substitute for gold. These developments led to clearinghouses having the following functions normally associated with Central Banks. First, they became the lender of the last resort, issuing both clearinghouse loan certificates and also clearinghouse currency to banks in need, against financial assets of the bank. Secondly, they became creators of currency in times of need. Third, associated with these functions, they became regulators of the banking industry. This was because, in order to issue Loan Certificates or Clearinghouse Currency to member banks, it was necessary to be sure that the bank was sound. This required a certain amount of regulatory authority on part of the clearinghouse.

The regulation of private banks was achieved by a combination of measures. State Laws in the USA required transparency – each bank was required to publish a statement of accounts weekly which would show it reserve position, assets and liabilities. Clearinghouses generally required the maintenance of 20% gold reserves against deposit liabilities. They also required the private banks to submit to audits, as a condition of joining the clearinghouses. From this summary, it seems clear that most of the features of Central Banks were already initiated by private banking clearinghouses.

Asad Zaman, Sidika Basci: “New Directions in Macroeconomics”, International Econometric Review, Vol 12, Issue 1, p1-23 —  Article excerpted below (Section 1 only) provides introduction to new directions for 21st century macroeconomics, and invites submissions in outlined areas to our journal – International Econometric Review. We are broadening the focus of the journal to include all innovative areas in economics – micro, macro, or econometrics. We are particularly interested in attracting heterodox submissions.

ABSTRACT: The glaring failure of modern macroeconomics to predict the Global Financial Crisis, and to provide remedies for the Great Recession which followed, has led to renewed interest in alternative approaches to Macroeconomics. There is huge amount of ongoing work aimed at creating a Macroeconomics for the 21st Century. The task is of the highest priority, as failures of economic theory have led to misery for millions. Wrong measures of GDP, and cost-benefit calculation which fail to account for environmental costs, and prioritize private profits over social welfare, have created a climate catastrophe which threatens to destroy the planet. In accordance with the importance of this task, we are expanding the scope of this journal, to cover all new approaches to economics, which fall outside of the boxes of conventional macro, micro, and econometrics of the 20th Century. This article outlines seven broad categories of research directions, and four different methodological principles which fall outside the boundaries of the conventional approach, and offer promise for building a Macroeconomics for the 21st Century. We hope to invite contributions in these areas for future issues.

1. HISTORICAL CONTEXT OF CURRENT CRISIS
There is widespread awareness of the catastrophic failures of modern macroeconomic theories, especially in the wake of the Global Financial Crisis of 2007. For instance, Krugman (2009) wrote that the profession as a whole went astray because they mistook the beauty of mathematics for truth”. Paul Romer (2016), recent Nobel Laureate, wrote “The Trouble with Macroeconomics” which contains a devastating critique of modern macroeconomics. In particular, Romer writes that modern macro got started when Lucas and Sargent wrote that predictions based on Keynesian economics “were wildly incorrect, and that the doctrine on which they were based is fundamentally flawed”. But after three decades of research, during which the profession has gone backwards, losing hard-won insights into the nature of the economy, exactly the same criticism can be leveled at modern macro theories — they give wildly incorrect predictions and are based on fundamentally flawed doctrines, beyond the possibility of repair. Economists were unable to forecast the Global Financial Crisis, and were unable to take policy actions to prevent the Great Recession which followed. This created levels of homelessness and hunger not seen in the USA since World War 2. The general public noticed this failure. The Queen of England went to London School of Economics to ask “why no one could see it coming”. In an unprecedented move, the US Congress appointed Subcommittee for Investigations and Oversight to hold hearings on “Building a Science of Economics for the Real World”; see Solow (2010). The committee was charged with investigating the failure of economics profession to predict the crisis. Even worse, “generally accepted economic models inclined the Nation’s policy makers to dismiss the notion that a crisis was possible”.Not only did economists fail to predict the crisis, many economists and practitioners who issued warnings were silenced and dismissed, because the possibility of a crisis did not exist in macroeconomic models then in use. Sadly, these models continue to be the mainstream macroeconomic models being studied and taught all over the world today, even though better alternatives are available. We will use the general label “21st Century Economics” to refer to these alternatives, and describe them in this introductory article.

In a blog post on “What Went Wrong”, Paul Romer (2020) describes how economic theorists became central to policy making in the USA in the 1970’s. He argues that this experiment of turning over policy to economists has been a disastrous failure, and economic theory-based policies have resulted in low growth and lowered life expectancies. In this brief outline and survey, we will discuss the many dimensions where radical changes are required in methodology and approach to fundamental economic questions. This is merely and outline and a sketch, not a detailed argument. Our goal is to encourage submissions to this journal in the areas discussed, so as to create the basis for a change towards “21st Century Economics”. In future issues, we will adopt this as a subtitle, to signal a change in editorial policies and subject matter for this journal.

END OF SECTION 1 — I will reproduce later sections of the paper in later posts. To read the full paper, see: International Econometric Review, Vol 12 No. 1 or SSRN Version.

Reference: Solow, R. (2010) testimony on “Building a science of economics for the real world.” for House Committee on Science and Technology Subcommittee on Investigations and Oversight,

Post shows how conventional statistics attempts to make inferences about imaginary parameters. It proposes an alternative. Real Statistics should use data to make inferences about the real world, instead of an imaginary world.

An Islamic WorldView

[bit.ly/dsia05E] – Part E of Lec 5:Descriptive Statistics: An Islamic Approach. This lecture explains the difference between classical Fisherian approach and our REAL statistics approach, within context of a study of the Quantity Theory of Money.

In previous portions of this lecture, we have emphasized the need for a new approach, which we call “Real Statistics”.  In this lecture, we illustrate the differences between the conventional approach and our new approach using the already studied example of Australian Inflation. In this connection, it is of great importance to understand the following:

The DATA is ALL we have – The STATISTICAL ASSUMPTIONS imposed on the data DO NOT PROVIDE US with additional information. HOWEVER, all statistical inferences we make RELIES HEAVILY on these UNVERIFIABLE (and typically false) ASSUMPTIONS.

First Step of a REAL analysis: LOOK at the DATA with reference to a REAL world issue under examination. In this case…

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