37
4
100
22
2
150
50
1
200
10
0
200
8
0
These data are not comparable, and some aspects are a bit less relevant
for our objectives. Apart from the difference in independents, the 1950
distribution excludes females, and the 1988 distribution contains
parttimers while the number of parttimers has strongly increased
compared to 1950. In both cases it are incomes, and not just labour
earnings. However, we can see how far we get.
Table 22 contains a summary review, with both the numbers of persons
involved, the total and average income (in currency of the relevant
year). It appears that by dropping the lowest 8 classes of the 1988
distribution we are better approximating the situation without the
parttimers. This then is used for estimation of the lognormal
productivity distributions that are used in the illustrations in the
body of the text.
Table 22: Summary of the Dutch income distributions
for 1950 and 1988
_ _
_Number of persons_
_(thousands)_
_Total income_
_(Dfl million)_
_Average income_
_(Dfl thousand)_
1950
3096
10993
3.5
1988 with the first 8 classes excluded
4081
154120
37.7
1988
5677
165460
29.1
Program used in the analysis on exposed and sheltered sectors
This program uses the Applied General Equilibrium routine of the
Economics Pack (Colignatus (1999)), which routine is based on work of
Asahi Noguchi and Silvio Levy, see the chapter in Varian (1993). It is
nice to show how simple modeling actually can be made.
Needs[“Economics`Pack`”]
ResetAll
Economics[“AGE`”]
SetFunction[withl, shel] =
{Function ( 0.4 (1-q) hs^0.334 + 0.6 (1-q) ms^0.334 + q ls^0.334)^3,
CoefficientList { q 0.1}, Factors {hs, ms, ls} }
SetFunction[withl, expo] =
{Function
(( (c he^(1-1/s2) + (1-c) me^(1-1/s2))^(1/(1-1/s2)) )^(1-1/s) * (1-d)
+
d * le^(1-1/s) )^(1/(1 - 1/s)),
CoefficientList {c 0.2, d 0.01, s 1.2, s2 0.4},
Factors {he, me, le} }
SetModel[NumberOfSectors 2, NumberOfFactors 3, Utility CES,
Production {Sector[1] SetFunction[withl, shel],
Sector[2] SetFunction[withl, expo] } ]
ownpars = {Utility {Scale[Utility] 1, RTS[Utility] 1, S[Utility]
0.6,
FactorE[1] 0.7, FactorE[2] 0.3},
Production {}, Resources {15, 75, 10}}
eq = Equilibrium[ownpars]
AllocationTable[Allocation[ownpars]]
shares = (FactorPrices /. eq) * (Resources /. ownpars)
/ (YEq /. eq)
/
/
cpc23 = CPCDiagram[ownpars, AxesLabel {“Sheltered”, “Exposed”},
AspectRatio Automatic]
ploteq1 = EdgeworthBowley[ownpars, Factor {1, 2}, PlotPoints 50]
(*l = 0*)
SetFunction[withoutl, shel] =
{Function ( 0.4 (1-q) hs^0.334 + 0.6 (1-q) ms^0.334 + q ls^0.334)^3,
CoefficientList {}, Factors {hs, ms} } /. {ls 0, q 0.1}
SetFunction[withoutl, expo] =
{Function (( (c he^(1-1/s2) + (1-c)
me^(1-1/s2))^(1/(1-1/s2)) )^(1-1/s) * (1-d) +
d * le^(1-1/s) )^(1/(1 - 1/s)) /. {le 0, s 1.2, s2 0.4} //
PowerExpand,
CoefficientList {c .2, d 0.01}, Factors {he, me}}
SetModel[NumberOfSectors 2, NumberOfFactors 2, Utility CES,
Production {Sector[1] SetFunction[withoutl, shel],
Sector[2] SetFunction[withoutl, expo] } ]
pars22 = {Utility {Scale[Utility] 1, RTS[Utility] 1, S[Utility]
0.6,
FactorE[1] 0.7, FactorE[2] 0.3},
Production {}, Resources {15, 75}}
eq22 = Equilibrium[pars22]
AllocationTable[Allocation[pars22]]
shares22 = (FactorPrices /. eq22) * (Resources /. pars22) / (YEq /.
eq22)
cpc22 = CPCDiagram[pars22, AxesLabel {“Sheltered”, “Exposed”},
AspectRatio Automatic]
ploteq4 = EdgeworthBowley[pars22, Factor {1, 2}, PlotPoints 50]
cpcfin = Show[cpc23, cpc22]
ebfin = Show[ploteq1, ploteq4,
FrameLabel {“Total high pr. labour”, “Total middle pr. labour”}]
A note on Hayek
Writing this book got me to read some of Hayek (1984) - finally, and
after great misgivings. As a rule, a student of economics should always
read up on the Nobel laureates, but Hayek never inspired me. What I
read about his work made it uninviting. In Skidelsky’s biography of
Keynes he is reduced from a critic of Keynes to someone whom Keynes,
exasparated from lack of progress in communication, took along to go
and buy old books. Later Hayek got a following of ‘libertarians’ and
that was equally unattractive (not to be confused with ‘librarians’
(;-)).
I likely agree with Mark Blaug (1985:90): “In short, everyone agrees
with what Hayek means in general but there is a large spectrum of
answers to what he means in particular. It will take another generation
to fully digest Hayek’s many and multifaceted contributions to
economics and indeed social science as a whole.”
What I finally got to read of Hayek actually made me better appreciate
part of his work, though the feelings remain mixed.
For starters, it appears that Hayek considers himself to be a ‘whig’
like Gladstone and de Tocqueville, and that he was not too happy with
the ‘libertarians’. This is quite a relief to read, and I am sorry that
I have entertained such a prejudice for so long. (And: Why can’t
reporters be more accurate ?)
Secondly, Hayek is known in current economics for his early comments on
the relevance of ‘knowledge’. My hesitation on this remains, though.
This hesitation derives from the consideration that he apparently
didn’t advance beyond Walras’s solution of assuming tatonnement, and
similarly I find it hard to believe that other early economists
disregarded knowledge. (Keynes for example emphasised ‘expectations’.)
But ‘knowlegde’ is an issue.
Subsequently, though, I was jolted by Hayek’s discussion of the
philosophical consequences of his theory of knowledge. Some of his
thoughts are precisely the same as mine ! Notably (I could not have
said it better!):
“The sense data, or the sensory qualities of the objects about which we
make statements, thus are pushed steadily further back; and when we
complete the process of defining all objects by explicit relations
instead of by the implicit relations inherent in our sensory
distinctions, those sense data disappear completely from the system. In
the end the system of explicit definitions becomes both
all-comprehensive and self-contained or circular; all the elements in
the universe are defined by their relations to each other, and all we
know about the universe becomes contained in those definitions. We
should obtain a self-contained model capable of reproducing all the
combinations of events which we can observe in the external world, but
should have no way of ascertaining whether any particular event in the
external world corresponded to a particular part of our model. Science
thus tends necessarily towards an ultimate state in which all knowledge
is embodied in the definitions of the object with which it is
concerned; and in which all true statements about these objects
therefore are analytical or tautological and could not be disproved by
any experience. The observation that any object did not behave as it
should could then only mean that it was not an object of the kind it
was thought to be. With the disappearence of all sensory data from the
system, laws (or theories) would no longer exist in it apart from the
definitions of the objects to which they applied, and for that reason
could never be disproved.” Hayek (1984:230-231)
Clearly, a fully ‘self-contained model’ might take a million years to
make - and I doubt whether sense input can be really fully eliminated -
but the Definition & Reality approach of using a ‘reduced form of
stylized facts’ is quite along the same tracks, and differs only in
digits of accuracy.
Thirdly, Hayek (1984) discusses constitutional reform. I’d rather not
use this space to comment on those particular thoughts, especially on
those of constitutionally allocating younger women to older men, since
I would digress on my subject. But it remains useful to note, then,
that more economists have taken up the issue of the constitution. (And
to be clear about it: I write these lines with lots of laughter.)
It appears (more soberly) that Hayek is mentioned a number of times by
Sen (1999a) “Development as freedom”. Sen even states: “(…) my
admiration for Friedrich Hayek and his ideas (he has contributed more
than perhaps anyone else to our understanding of constitutionality, the
relevance of rights, the importance of social processes, and many other
central social and economic concepts) (...)” (Sen:257) !
Sen’s “freedom” is Hayek’s “liberty”, see in particular p289-292 where
Sen clarifies that ‘income’ has been and is a useful indicator but
tends to be overvalued and mistaken for the true objectives relating to
freedom. See the discussion of Sen’s book above.
Sen however rightly criticises Hayek’s misuse of the argument of
‘unintended consequences’ against social change, and in fact makes fun
of it:
“The idea that unintended consequences of human action are responsible
for many of the big changes in the world is not hard to appreciate.
Things often do not go as we plan. Sometimes we have excellent reason
to be grateful for this, whether we consider the discovery of
penicillin from a leftover dish not intended for that purpose, or the
destruction of the Nazi party caused by - but not intended in -
Hitler’s military overconfidence. One would have to take a very limited
view of history to expect that consequences match expectations as a
general rule.” (Sen:254)
“If it is, as Hayek puts it, a “profound insight,” then there is
something wrong with profundity.” (Sen:257)
Sen concentrates on the difference between ‘unintended’ and
‘unpredictability’. I think that the argument can even be stronger than
that, but, don’t pursue that reasoning here, since it is not the topic
of discussion.
Fourthly, it appears that Hayek in “Road to serfdom” argues in favour
of a ‘guaranteed minimum income for everyone’ - which would be called a
‘basic income’ nowadays. This is actually a fairly decent approach to
the poverty problem - though I would suggest that workfare at a living
wage would be more appropriate. It is interesting to see that Keynes
recommended that book and supported it for its ‘ethics and philosophy’
(though not explicitly for its economics).
Fifthly, Hayek (1984)’s chapter on Bernard Mandeville is advised
reading.
A note on Barrow’s “Impossibility”
John D. Barrow (1998) “Impossibility” gives a nice introduction into
some of the topics that we encounter when developing the Definition &
Reality methodology. I have taken a useful quote from one of his pages
to emphasise a main point. A point of consideration however is that
Barrow only provides an introduction and a starting point, and there is
need for more discussion and refinement of the argument. Some points of
warning are:
1. Barrow uncritically adopts Arrow’s explanation for his
impossibility theorem - and we have shown that this explanation is
erroneous.
2. On the logical paradoxes (e.g. Epimenides’ Liar paradox [142])
I have presented a ‘logic of exceptions’ that changes the argument.
(Not in this book.)
3. See our discussion on non-Euclidean geometry in the main body
of the text.
4. On p23 Barrow suggests that at small dimensions ‘concepts’
like velocity and position can only exist with ‘limited sharpness’ -
which is a very strange thing to say.
5. Barrow p22 states: “There have occasionally been attempts to
find mental consequences of Heisenberg uncertainty, but the general
opinion is that the effects are too small on the scale of neurons to
have any significant effect upon the human thinking process.” Well,
Schrödinger gave his cat-example that quantum mechanics can extend into
the macro world. (We don’t seem to have that mechanism in our head
though, but there can be equivalent ones.)
6. We should be more critical about how physicists deal with
their ‘measurement problems’ in general.
A constitutional amendment for an Economic Supreme Court
As an economic expert I advise to a parliamentary enquiry and a public
debate on this issue. It are the present powers in government that must
grow convinced of the need for a better balance of powers. The evidence
will likely convince them, if only they study it.
The following is a text that may serve as a concept for a
constitutional amendment. The text assumes the common Trias Politica.
It uses the term “Parliament” for the legislative branch (e.g. US
Congress), and “President” for the executive branch (e.g. the UK
Cabinet). It then adds the Economic Supreme Court. The given size,
terms and other properties of the Economic Supreme Court seem best to
create a balance for group decision making, openness, stability and
change.
This text has essentially been posted on the internet in 1996. The
major current change with respect to that text is a result of Frank
Sulloway’s “Born to rebel” (1996) and the subsequent reports - Van den
Berg (2004) refers to _Nature_ - that these findings are not accurate.
Sulloway argues that first-borns tend to be less open to new ideas but
more likely to have responsible positions. This causes the idea that,
since the court should be sensitive to new discoveries and be critical
to abuse of authority, it would seem wise to have some test on
open-mindedness. This needs to be investigated upon. Since this is a
constitution, we should formulate a general rule, and we should leave
it to the practical times and state of scientific inquiry how this is
implemented, by first-bornnesss or by some other verifiable criterion.
The nation has an independent and scientific Economic Supreme Court of
equal status next to Parliament, the President and the Supreme Court.
1. The task of the Court is to scientifically check the economic data,
assumptions, analyses and projections underlying the government’s
budget and its draft statement, and then possibly veto the official
adoption and publication of the budget, if the Court finds that the
information used and presented, and in particular the estimates for the
deficit and national debt, are not scientifically correct. The Court
will publish its findings both for Parliament and for the scientific
community.
2. Members of the Court are appointed by the Court itself, subject to a
veto by a normal majority in Parliament.
The Court will inform Parliament about the name and credentials of the
candidate for appointment. Parliament will have 50 days to discuss and
possibly veto an appointment. The appointment of the candidate becomes
effective when Parliament does not veto the appointment.
3. The Court consists of 7 members. At least 5 members have a high
likelihood of open-mindedness, by criteria generally accepted in the
scientific community.
4. Term rules are:
a) Each member serves a term of 7 years. Each year the member with the
longest term resigns, and a new member is appointed.
b) Terms run from May 1st till April 30st, 7 years later. If a
member resigns before the end of the term, then the replacement will
concern only the remainder of the term.
c) Members may only serve for two terms, which terms need not be
consecutive. A part term will not count if its duration is less than 4
years.
d) All 7 members participate in the selection of a candidate for
appointment.
e) The Court chooses its chairperson from among its members.
Non-eligible are the newly appointed and the resigning member, so that
only 5 members are eligible.
f) The Court determines its modus operandi further by itself.
5. Parliament may, if the occasion arises, decide to dismiss an
existing Court and reappoint a new one, which decision requires a
majority of two-thirds. Parliament may not override a veto by the
Court, by any majority. It is up to the newly installed Court to decide
if a wronged veto is repealed.
6. The means of the Court are as follows:
a) The Court can appoint a staff of maximally 150 persons. Minimally
50% of the staff shall have an appointment as scientist, and they shall
operate under both common scientific standards and a special statute
that has precedence. This special statute shall be established and
published by the Court.
b) The Court can instruct the President to provide information.
The President may refuse information only if national security is at
stake. Information that the President regards as confidential will be
treated as confidential by the Court and its staff too, unless the same
information can be received via independent other channels too.
c) When State governments within the Federation install their own
Economic Courts, then possible disputes shall be settled by the
Economic Supreme Court.
d) The Court can install a council of economists and other
specialists from the academia. The Court can install chambers of
special competence.
e) The Court shall have a budget that compares favourably to the
average budget of scientific research institutes of the same size.
A parallel argument on the Central Bank
The analysis about the Economic Supreme Court and the ‘natural
monopoly’ argument about economic policy advice, actually finds a
parallel with respect to the Central Bank. Reading Galbraith (1998)
made me aware of this situation.
Let us regard the situation that market forces determine the rate of
interest to a large extent, but that the Bank is not without some power
and will use its influence on rates to control inflation.
· Theory dependence: The Bank decides on its policy while using an
economic model that contains a mechanism for the determination of the
rate of interest - for example the rate of interest will contain
anticipated inflation. Hence policy is directly dependent upon the
state of economic theory.
· Self-reference (reflexiveness): Since interest rates are sensitive to
Bank policy, Bank policy would be part of the model. Popular thought
has it that a good Bank would target at zero inflation, but Bank policy
generally would be different. For example, a true zero target would
require that a period with inflation is followed by deflation, and
Banks generally don’t do that. Also, the true price level should
include inventories and capital stocks, but inflation generally is
measured as the CPI, which is something totally different. These
details, and Bank policies on them, should be put into the model (with
error terms to allow for possible discretion).
· Conflictive self-reference: Clearly, one can conceive the situation
that the Bank announces a policy while the true scientific forecast
shows that the policy is untenable and will be repealed later. Hence
there is an internal source of conflict - the worst kind, not a
dysfunctional person, but a logical knot.
· General conflict of interests: The Central Bank may not only have the
objective to control inflation but also other objectives, like for
example supporting and supervising the financial system. For example,
the US Fed is not purely a governmental body, but it is rooted in the
financial system and it is influenced by private interests therein. See
Galbraith (1998:221-231) for a discussion on the conflict of interests
- for example on the ‘credit crunch’ - and read also Krugman on the
Savings & Loans debacle.
Hence, along the ‘TP & ESC’ line of argumentation, we can clearly see a
need for reform in existing Central Banking, and the direction that it
would need to take. Interestingly, where economic policy of the state
would have to be co-ordinated with the policy of the Central Bank (that
should best remain independent), there arise questions of structure and
priority. My suggestion is to first create the Economic Supreme Court,
and have it advise on how to position the Bank or its separate
functions.
About the US Council of Economic Advisers
This appendix consists of two large quotes from the White House
internet site in January 2000, with my comments added.
From the “Employment Act of 1946”
“There is hereby created in the Executive Office of the President a
Council of Economic Advisers (hereinafter called the “Council”). The
Council shall be composed of three members who shall be appointed by
the President, by and with the advice and consent of the Senate, and
each of whom shall be a person who, as a result of his training,
experience, and attainments, is exceptionally qualified to analyze and
interpret economic developments, to appraise programs and activities of
the Government in the light of the policy declared in section 2, and to
formulate and recommend national economic policy to promote employment,
production, and purchasing power under free competitive enterprise.
It shall be the duty and function of the Council--
1. to assist and advise the President in the preparation of the
Economic Report;
2. to gather timely and authoritative information concerning
economic developments and economic trends, both current and
prospective, to analyze and interpret such information in the light of
the policy declared in section 2 for the purpose of determining whether
such developments and trends are interfering, or are likely to
interfere, with the achievement of such policy, and to compile and
submit to the President studies relating to such developments and
trends;
3. to appraise the various programs and activities of the Federal
Government in the light of the policy declared in section 2 for the
purpose of determining the extent to which such programs and activities
are contributing, and the extent to which they are not contributing, to
the achievement of such policy, and to make recommendations to the
President with respect thereto;
4. to develop and recommend to the President national economic
policies to foster and promote free competitive enterprise, to avoid
economic fluctuations or to diminish the effects thereof, and to
maintain employment, production, and purchasing power;
5. to make and furnish such studies, reports thereon, and
recommendations with respect to matters of Federal economic policy and
legislation as the President may request. ”
Martin Feldstein on the US Council of Economic Advisers
Quoted from _The Economic Journal, 102 (September 1992),_ “The Council
of Economic Advisers and Economic Advising in the United States”, by
Martin Feldstein.
The Structure of the Council of Economic Advisers
Although the term ‘Council’ conjures up the image of a large committee,
the CEA actually consists only of a chairman and two members. The
chairman is legally responsible for establishing the positions taken by
the Council. The other two members direct research activities of the
Council in particular fields, represent the Council at meetings with
other agencies, and generally work with the chairman to formulate
economic advice.
In addition to the chairman and two other members, the CEA has a
professional staff that is both small and unusual. A group of about ten
economists, generally professors on one- or two-year leaves from their
universities, act as the senior staff economists. They in turn are
assisted by an additional ten junior staff economists, typically
advanced graduate students who also spend only a year or two at the
CEA. Four permanent economic statisticians assist the economists in the
interpretation and identification of economic data.
The academic nature of the staff and of most CEA members distinguishes
the CEA from other government agencies. It generally assures a higher
level of technical economic sophistication and of familiarity with
current developments in economic thinking. Members and staff also use
their strong links in the academic community to obtain advice on
technical issues throughout their time in Washington.
There is of course a price to be paid for this reliance on academic
economists, especially at the staff level. They often come to the CEA
without the institutional knowledge of some of the issues with which
they will deal and without any experience in the bureaucratic process
of decision-making. My experience however was that most of the senior
staff economists learned quite quickly to be effective participants,
and made an important contribution to the policy debates because of
their ability to apply economic analysis to the issues being discussed,
and to develop new economic proposals that had not occurred to
non-economist participants from the agencies.
How Advice Is Given
The CEA chairman gives advice directly to the President and to the
senior members of the administration. There is also a broader role of
trying to shape public understanding of the economic issues. The CEA
members and staff participate directly in the inter-agency process, in
which policy options are evaluated and recommendations developed for
presidential decisions.
The specific organization of advice-giving undoubtedly differs from
administration to administration, reflecting the overall form of
economic policy making and the particular style and interest of the
president. I can only describe my own experience.
In the Reagan administration, the cabinet as a whole rarely met.
Instead, economic policy issues were discussed through a series of
cabinet councils with more specialized responsibilities. These included
a cabinet council on commerce and trade that was chaired by the
Secretary of Commerce, a cabinet council that dealt with labour and
social insurance issues, a cabinet council that dealt with regulatory
and legal issues, and a general cabinet council on economic affairs
that was chaired by the Secretary of the Treasury. Each of the
interested departments was represented at the council by the secretary
of that department. Occasionally the deputy secretary or
under-secretary substituted for the secretary at those meetings. I
generally represented the CEA, although occasionally one of the members
took my place at the table. Vice President Bush usually attended these
meetings.
The councils generally met without the president. Roughly twice a month
the president participated in council meetings when there was a
specific issue that required a presidential decision or, occasionally,
a broad area that seemed appropriate for general cabinet-level
discussion with the president.
Any major proposal for legislative action, whether originated by a
department or from Congress, would be assigned to an appropriate
cabinet council for consideration to develop an official administration
position. Initial meetings would be held at a staff level, with the CEA
represented by the senior staff economist with the relevant expertise.
Often discussion at this level would be sufficient to dispose of the
idea, usually with the conclusion that the proposal was well-meaning
but misguided and would not accomplish its stated purpose or would do
so only at an unacceptable economic cost. This would quietly bury an
internal departmental proposal or lead to a formal administration
position to oppose a Congressional initiative.
When there was disagreement about the proposal that could not be
resolved unanimously at the level of this working group, a higher-level
meeting would be held. Each interested department would be represented
at a sub-cabinet level, generally by an assistant secretary. The CEA
would be represented by a member or senior staff economist, since with
only two members it was often true that the CEA only had the expertise
at the senior staff level and preferred to send a real expert rather
than, as in the other departments, to send a more senior official who
was ‘briefed’ but who did not really understand the issues himself.
Once again, if this group could not reach a consensus the issue would
be passed up to the full cabinet council, where the departments were
represented at the top level and the CEA by the chairman. If this group
reached an agreed recommendation, its conclusion would be sent to the
President. When there was disagreement, a summary of the different
positions would be prepared by the staff of the council for submission
to the president for his decision. These decision memos were carefully
prepared so that each side could object to any spurious arguments put
forward by others. On some occasions, when it was felt that such
written summaries were inadequate, the group would meet with the
president to present opposing views.
This process gave the CEA an opportunity to influence both the specific
decisions and the way that members of the administration thought about
particular issues. This was true at every level from the departmental
senior staff that interacted with the CEA economists to the cabinet
level.
In addition to these relatively large group meetings with the
President, there were also smaller meetings dealing with specific
subjects. A central organizing set of meetings each year dealt with the
budget. Here the only regular participants, in addition to the
president and the vice-president, were the Secretary of the Treasury,
the Director of the Office of Management and Budget (OMB), the Chairman
of the CEA, and a small number of senior White House staff. The series
of budget meetings began with a five-year economic forecast prepared by
the CEA. Technical staff discussions and meetings between a CEA member,
a Treasury assistant secretary and an associate director of the OMB
would review the evidence on which a forecast would be based. In
insisted, however, that the CEA alone was responsible for the final
forecast in order to avoid a repetition of earlier experience in which
the forecast was widely (and correctly) criticized as over-optimistic,
and therefore as leading to a substantial underestimate to future
budget deficits. Needless to say, this was a source of friction and
contention.
Other such small meetings with the president included preparation for
the G-7 economic summits, for his televised national press conferences,
and for discussions of special subjects like social security reform.
The Secretary of the Treasury and I also met roughly every two weeks
with the president and a few senior White House staff to discuss
subjects of our choice. The Treasury Secretary frequently used these
sessions to discuss monetary policy or issues currently under
development at the Treasury. I frequently discussed the budget deficit
but also talked about things like the character of unemployment, the
nature of the trade imbalance, and other types of general ‘background’
information. These were not intended as decision-making sessions.
In addition to these meetings, I also sent the president brief memos on
particular issues. Occasionally these would be my thoughts on some
issue being discussed in the administration. There were also almost
daily brief memos telling the President how to interpret important
economic statistics that would be released the next morning so that he
would not be caught unaware of the information (by the press or other
visitors) or uninformed about the significance (or lack of
significance) of the particular statistic.
The CEA also serves as a source of professional economic advice to
other departments and agencies. In some cases, this serves to reinforce
the advice being given by that department’s own economist. In other
cases, it fills a gap where the department does not have an economist
or where the CEA can bring better analysis to a particular problem. As
chairman I also met on an individual basis with the department heads to
discuss policy issues relevant to their department or more general
issues like the budget situation.
A weekly breakfast meeting with the Treasury Secretary and the OMB
Director -- the so-called Troika or T-t group -- provided an important
opportunity to discuss economic issues with complete candour and
without fear of leaks to the press. This small group was occasionally
joined by Secretary of State George Shultz and on some rare occasions
by Federal Reserve Chairman Paul Volcker.
These breakfast meetings were just about the only time during my time
at the CEA when the Fed Chairman participated in a discussion inside
the administration. He met privately of course with the Secretary of
the Treasury and with various financial regulators. I had breakfast
with him every other week and on those occasions we discussed the state
of the economy, the direction of monetary policy, banking regulation,
and such issues as the developing country debt problem, in which the
Fed worked closely with the administration.
As the senior economist in the administration, the CEA chairman is
frequently called upon to discuss economic policy issues in public.
These include testimony to congressional committees, speeches to a wide
array of audiences, occasional television interviews and frequent
discussions with the press. I always regarded these as opportunities to
teach economics. An important challenge was to explain why the dollar
had soared and how that, rather than protectionist policies abroad, was
responsible for our trade deficit. Until the recovery was firmly
established, I would explain why an expansionary fiscal policy was
unnecessary and later I spent endless hours explaining how to assess
the structural budget deficit and why reducing it was important.
The Council of Economic Advisers produces an annual report which
discusses broad issues of economic policy for a general audience. This
report is widely read by the economic press, by Congressional staff and
by academic economists and students.
How the CEA Advises Presidents
_“I think our unique system of placing a professional economist in the
White House to report directly to the president works well. I hope that
future presidents continue to use this policy.”_
The principle of comparative advantage suggests that I, as a former
chairman of the Council of Economic Advisers, convey my knowledge of
this unique and little understood agency. I emphasize the word “unique”
because I believe the CEA is really quite different from advisory
institutions in other countries.
During my time as chairman (1982 through 1984), I had the opportunity
to talk with the senior economic officials in many countries. I never
found one that institutionalized our combination of characteristics: a
professional economist who has direct access to the head of the
government and who participates as an equal in all cabinet-level
discussions.
In other countries, the top economic official is either an economics
minister (i.e., a politician selected from the Parliament who may or
may not be a professional economist) or a professional economist who
reports to the minister of finance or some other cabinet minister.
There are also some special situations in which individual economists
are influential advisers to the heads of government, but these are
personal arrangements that have not been institutionalized in the way
that the CEA has been.
One reason why the American system for giving economic advice differs
from those abroad is that, in our presidential system, it is the
president rather than the minister of finance or budget minister who
has ultimate responsibility for all economic matters. In other
countries, the prime minister or president is less involved with
economic issues and the responsible cabinet member has a political
standing and legitimacy in his own right. In the United States, the
cabinet is in the last analysis an advisory and management body while
all true decision-making authority of the executive branch is vested in
the president.
The role of the CEA and its chairman undoubtedly differs over time
depending on both the chairman and the president. The differences can
be quite profound even within the same set of legal rules. For example,
during the Nixon administration there was a period when George Shultz
served simultaneously as budget director and as counselor to the
president with responsibility for overall coordination of economic
advice. But I have not researched the history of the CEA and will
therefore focus my comments on the period of 1982-1984 that I know from
firsthand experience.
I began by saying that the council is “little understood” because I
have frequently discovered that people are quite surprised when they
learn how small the council is and how it actually operates. The term
“council” seems to conjure up the image of a dozen or more people
sitting around a conference table voting on recommendations of economic
policy. In fact, the CEA has only a chairman and two additional
members.
Since the days of the Arthur Burns’ chairmanship in the Eisenhower
administration, there has been an official executive order vesting all
of the executive authority for the council in the chairman. In
practice, that means that the three members have informal discussions
but do not take votes. It also means that when a formal recommendation
from several agencies is sent to the president, the position taken by
the CEA reflects the judgment of the chairman just as the position of
the Treasury reflects the view of the Treasury secretary. In giving
direct advice to the president, I always spoke for myself rather than
on behalf of the Council.
The CEA has a small but high quality professional staff of about twenty
economists and four economist statisticians. The statisticians are
permanent civil servants who understand the construction of official
economic statistics and do their best to save the economists from
erroneous use of these data. Because the senior staff economists come
fro universities for a one- or two-year period, they keep the CEA up to
date on the best academic thinking on a wide range of subjects.
Although the CEA is physically as well as operationally part of the
White House complex (CEA offices are in the Old Executive Office
Building adjacent to the White House and within the same security
cordon), the economic staff functions in a completely professional and
nonpartisan way. My very able and distinguished staff included Larry
Summers, who was prominent as chief economic adviser to presidential
candidate Michael Dukakis.
The tradition of professionalist is so strong that even in a
presidential election year the CEA chairman appoints members of the
staff for the coming academic year with the clear understanding that
they will continue to serve even if the party in power loses the
presidential election. I might just add in this context that, unlike
the practice in some countries, the members of the CEA and their staff
work full-time at their CEA responsibilities. Indeed, in December and
January of each year, the pressure of working simultaneously on the
Economic Report of the President, the budget, and the issues to be
presented in the president’s state of the union message seemed like
much more than a full-time job.
The CEA was created by the Employment Act of 1946 with a Keynesian
heritage and an expectation that it would give advice about the use of
fiscal policy to achieve and maintain full employment. Needless to say,
there has been a profound change in the economics profession’s thinking
about macroeconomic policy in the past forty years.
Commenting on this
Above description of the US CEA shows that it is very close to the
Executive. There is ‘professionalism’ - and we may willingly interprete
that to mean that one keeps a distance to political scheming and the
illusions of the day - but still, this is not auditing, this is not
verification for verification’s sake, this is not vetoing David
Stockman, this is not sticking to one’s own perception of what the
right model is regardless of what the President likes to think. If
there would be an Economic Supreme Court, then, indeed, the President
would still have need for advice as currently provided by the CEA. One
would imagine that CEA staff members would frequent the Court’s
offices, and such. But the constitutional powers would be
institutionally separated.
We can see that the CEA is so understaffed and so preoccupied with its
duties of ‘running about for the President’, that it failed to pick up
an important analysis. In April 1993, I sent a major piece of my work
to the CEA. And got no reply.
In August 1993, I actually visited the US Treasury, but with little
success. See the appendix on presenting the analysis to the US National
Press below, and the autobiographical appendix as well.
At the end of August, 1993, President Clinton announced a major
increase in the Earned Income Tax Credit (EITC) - see next appendix. I
don’t think that my paper and visit contributed to that. If it has,
they should have replied - and could have gone much further. (But I do
think that the Clinton EITC measure helped, as one factor, to create
the subsequent the long boom in the US economy. There was more
competition on the labour market, and this helped to reduce wage
growth.)
To prof. Blinder
& prof. Stiglitz
Council of Economic Advisers
White House
Old Executive Office Building
Washington DC 20500
Verenigde Staten van Amerika
April 16 1993
Concerning: unemployment and inflation
Dear professors,
It takes time to get things published, so I overcome my hesitations and
send you enclosed paper. It is one of the fruits of 15 years of
econometric research, including long term projections with 2000
equations models.
The paper gives a structural analysis of unemployment, regardless the
state of inflation. The analysis can be extended on the time path of
inflation.
You should read it with a good intuition of the importance of
heterogeneous labour and a reduced form analysis.
I am glad to answer any questions.
Kind regards,
Drs. Thomas Cool
Rotterdamsestraat 69
2586 GH Scheveningen
Holland
Enclosed: paper “On the political economy of employment in the welfare
state”
[Chapters 39 and 40 of this book]
Presentation for the National Press in Washington 1993
The following is a bit of an ambarrasment, but modern courage is not
fighting wild animals but facing such possible views in public opinion.
Anyway, in 1993 my Class of ’73 (of Burbank Highschool, California)
had, guess what, a 20 year reunion. I took the opportunity to visit
Washington, visit the US Treasury, and also present my analysis at the
National Press Building. When I arrived there on August 17, it appeared
that almost everyone had taken their holiday, following President
Clinton to Martha’s Vineyard. My appointment with the Treasury lasted
only some 20 minutes, and my host was too much involved in the Health
Plan and showed no interest in my analysis. The journalists
subsequently must have been at the beach - or in Europe - since nobody
showed up. Perhaps my press release was uninviting too - judge for
yourself, below. I took care that it was distributed to all agencies -
which was another bill to pay. The idea remains: people have had the
opportunity. Note 1: Had I still been at the CPB, then my possibility
frontier with US officials of course had been larger. Note 2: My
foreign exchange year at Burbank High and participation in the US
National Forensics League apparently rubbed off, and I got some editing
help from an American friend: so that my presentation was All American.
Clinton administration EITC plans for 2000
(The following is quoted from the White House internet site.)
THE WHITE HOUSE
Office of the Press Secretary
For Immediate Release
January 12, 2000
PRESIDENT CLINTON PROPOSES TO EXPAND THE EARNED INCOME TAX CREDIT IN
ORDER TO INCREASE THE REWARD FOR WORK AND FAMILY
Today President Clinton Will Announce, in his Address to the Democratic
Leadership Council, A New $21 Billion Plan to Expand the Earned Income
Tax Credit -- A Key Part of His “New Opportunity Agenda.” The
President’s proposal would expand the Earned Income Tax Credit (EITC)
to provide tax relief for 6.4 million hard-pressed working families.
The expansion will cost about $21 billion over 10 years.
Building on the Successes of the 1993 EITC Expansion. In 1993, the
President signed into law the largest EITC expansion ever to provide a
tax cut for 15 million working families while rewarding work and
family. Today, the success of the EITC in reducing poverty and
encouraging work is clear:
· 4.3 Million People Directly Lifted Out of Poverty by the EITC in 1998
-- more than double the number lifted out of poverty in 1993.
· 2.3 Million Children Directly Lifted Out of Poverty by the EITC in
1998. This includes 600,000 African-American children and 600,000
Hispanic children..
· Largest Drop in Poverty and Child Poverty in Over Three Decades. The
poverty rate has fallen from 15.1 percent in 1993 to 12.7 percent in
1998 -- the lowest since 1979. At the same time, the child poverty rate
fell from 22.7 percent to 18.9 percent -- the lowest child poverty rate
since 1980.
· More Single Mom’s Are Working Than Ever Before. The percentage of
single mothers who work and receive no welfare has risen from 60.9
percent in 1992 to 75.0 percent in 1998.
The President’s Proposal Increases the Reward to Work and Family in
Four Ways:
· Expand the Maximum Credit for Working Families with Three or More
Children By $500. This would provide a tax break for 2.1 million low-
and moderate-income working families. This expansion is targeted at the
highest concentration of child poverty: in 1998 the poverty rate for
children in families with three or more related children was 28.5
percent -- more than twice the 11.9 percent poverty rate for children
in families with one or two related children.
· Expand the Credit for Married, Two-Earner Couples. This would benefit
over 1.3 million married filers. For married, two-earner couples, this
provision by itself would provide an average tax break of $250.
· Increase the Reward to Work While Expanding the Credit for Families
with Two or More Children. This would provide an additional tax break,
and an additional incentive to work, for families with two or more
children by lowering the phase-out rate to give more rewards to
families struggling to work their way into the middle class.
· Encouraging Savings Through Simplification. Currently, when a working
family contributes to a 401(k) they may see their EITC reduced. This
proposal encourages savings and simplifies the calculation of earned
income for the purposes of the EITC.
Here is How These Changes Would Increase the Reward to Work for
American Families:
THE PRESIDENT’S PROPOSED INCREASE IN THE EARNED INCOME TAX CREDIT
Pre-1993 Law
Current Law
Proposal
Increase
Married*; 2 children; $20,000 earnings
$1,438
$2,524
$2,940
+$416
Individual; 3 children; $15,000 earnings
$2,331
$3,577
$4,116
+$538
Married*; 3 children; $23,000 earnings
$902
$1,892
$2,867
+$975
*Both spouses must earn at least $725 to qualify for the additional
credit for a married couple.
DETAILS OF THE PRESIDENT’S PROPOSAL
The President’s Proposal Would Expand the Earned Income Tax Credit to
Provide Tax Relief for 6.4 Million Hard-pressed Working Families. The
average increase for families with three or more children is $544 and
some married couples with three or more children could see as much as
an additional $1,155 tax credit. The expansion will cost about $21
billion over 10 years. The four major provisions of President’s EITC
expansion are:
Expand the Maximum Credit for Working Families with Three or More
Children By $500. The President’s proposal would add a “third tier” to
the EITC to expand benefits for families with three or more children.
Very low-income families will get 45 cents for every additional dollar
they earn -- compared to 40 cents under current law. This higher credit
rate will increase the maximum credit for a family with three children
in 2001 from $3,992 to $4,491 -- a roughly $500 increase. This proposed
new “tier” of the EITC is important because 60 percent of all poor
children -- 7.7 million children -- are in families with three or more
children. Adding a third tier to the EITC would provide a tax break for
2.1 million low- and moderate-income working families.
Expand the Credit for Married, Two-Earner Couples. The President’s
proposal would allow married couples to earn an additional $1,450 more
before beginning to have their EITC phased out. For example, in 2001 a
married, two-earner couple with children would be able to earn up to
$14,480 and still receive the maximum EITC, as compared to the $13,030
threshold under current law. The result of this provision would be to
provide an additional $250, on average, for married, two-earner
couples. This provision would benefit over 1.3 million married filers.
Increase the Reward to Work While Expanding the Credit for Families
with Two or More Children. The third provision of the President’s
proposal would provide an additional tax break, and an additional
incentive to work, for families with two or more children. Under
current law the EITC for these families is reduced by 21.06 percent for
each dollar they earn above the maximum threshold. The President’s
proposal would lower this phase-out rate to 19.06 percent -- a tax
break for 5.4 million of America’s hard-pressed working families.
Encouraging Savings Through Simplification. Under current law, 401(k)
contributions and other forms of nontaxable earned income are counted
as income in computing the EITC. For many families this means that if
they increase their contributions to a 401(k) then they will see their
EITC reduced. The President proposes to encourage savings for poor
people by eliminating nontaxable earned income from the calculation of
the EITC. In addition to encouraging savings, this step will simplify
the EITC, and continue to increase compliance.
THE PRESIDENT’S 1993 EITC EXPANSION HAS CONTRIBUTED TO THE LARGEST
REDUCTION IN POVERTY IN OVER THREE DECADES
In 1993, the President Signed Into Law the Largest EITC Expansion Ever.
The President’s policy provided a tax cut for 15 million working
families. For every dollar a very low-income working parent with one
child earns, the EITC was increased from 23 cents to 34 cents (25 cents
to 40 cents for two plus children). The maximum credit was increased by
over $1,500. The income limit on eligibility was increased by about
$3,700.
Nearly 19 Million Families Claim the EITC. In FY 1999, the total cost
of the program was $30.5 billion. In 2001, the average credit for all
claimants will be $1,680 and for claimants with children it will be
$1,990. [Source: U.S. Department of the Treasury]
In 1998, the EITC Was Directly Responsible for Lifting 4.3 Million
People Out of Poverty -- Twice the Number Lifted Out in 1993. Census
Department statistics show that the EITC was directly responsible for
lifting 4.3 million people out of poverty in 1998 – more than twice the
number lifted out of poverty in 1993. The indirect contribution of the
EITC to poverty reduction may be even greater given the evidence that
the EITC provides a powerful incentive to work. [Source: Calculations
using data from the U.S. Census Bureau.]
In 1998, the EITC Was Directly Responsible for Lifting 2.3 Million
Children Out of Poverty. The 2.3 million children lifted out of poverty
by the EITC include 600,000 African-American children and 600,000
Hispanic children. [Source: Calculations using data from the U.S.
Census Bureau.]
Expanded EITC and Higher Minimum Wage Has Led to Large Real Income
Growth For Hard-pressed Families. A working parent with two children
earning the minimum wage in 1993 made $10,559 with the EITC (in 1998
inflation-adjusted dollars) -- well below the poverty line. With the
1993 increase in the EITC and the 90 cent increase in the minimum wage
in 1996 and 1997, a similarly situated family in 1998 was above the
poverty line -- making $13,268 -- a 26 percent inflation-adjusted
increase in their standard of living.
Poverty Rate Fell To 12.7 Percent in 1998 -- Its Lowest Level Since
1979. The poverty rate has declined from 15.1 percent in 1993 to 12.7
percent in 1998 -- that’s the largest five-year drop in poverty in
nearly 30 years (1965-1970). There are now 4.8 million fewer people in
poverty than in 1993. (In 1998, the poverty threshold was $16,660 for a
family of four.) [Source: U.S. Census Bureau]
The Largest Five-year Drop in Child Poverty in More than Three Decades.
While the child poverty rate remains too high, between 1993 and 1998,
the child poverty rate has declined from 22.7 percent to 18.9 percent
-- that is the lowest child poverty rate since 1980 and the largest
five-year drop in nearly 30 years (1965-1970). [Source: U.S. Census
Bureau]
The Poverty Rate for Children in Families with Three or More Children
is More than Double the Poverty Rate for Children in One or
Two-Children Families. Although the poverty rate for children in
families with three or more related children has fallen from 32.3
percent in 1993 to 28.5 percent in 1998, this is still more than twice
the 11.9 percent poverty rate for children in families with one or two
related children. 7.7 million children in families with three or more
children were growing up in poverty in 1998. [Source: Calculations by
the Department of the Treasury using data from the U.S. Census Bureau.]
THE EVIDENCE IS OVERWHELMING THAT THE EITC ENCOURAGES WORK
More Single Mothers With Children Are Working Than Ever Before. After
staying essentially constant in the 1980s and early 1990s, the
percentage of singe mothers aged 16 to 45 who work and receive no
welfare has risen from 60.9 percent in 1992 to 75.0 percent in 1998.
The percentage of single mothers who worked rose from 73.7 percent in
1992 to 86.6 percent in 1998. [Source: Calculations by Professor
Jeffrey Liebman using data from the Bureau of Labor Statistics’ March
Current Population Surveys.]
According to One Study, More Than 60 Percent of the Increase In the
Employment of Single Mothers Has Been Due to Expansions of the EITC.
Bruce Meyer and Dan Rosenbaum find that 63 percent of the change in the
employment of single mothers between 1984 and 1996 can be explained by
the expansions of the EITC. [Source: “Welfare, the Earned Income Tax
Credit, and the Labor Supply of Single Mothers.” National Bureau of
Economic Research Working Paper No. 7363. September 1999.]
Another Study Predicted That the 1993 EITC Expansion Would Induce
516,000 Families To Move From Welfare to Work. Stacy Dickert, Scott
Houser, and John Karl Scholz found that the 1993 EITC expansion would
induce 516,000 families to move from welfare to work. [Source: “The
Earned Income Tax Credit and Transfer Programs: A Study of Labor Market
and Program Participation.” Tax Policy and the Economy No. 9, MIT
Press: Cambridge, 1995.]
Another Study Shows that Increasing the Reward to Work, Increases Labor
Force Participation. Nada Eissa and Jeffrey Liebman found that the EITC
significantly increases labor force participation among single mothers,
especially less educated women. [Source: “Labor Supply Response and the
Earned Income Tax Credit.” Quarterly Journal of Economics 111(2),
1996.]
Comment January 2000, that still stands in 2004: These are still
relatively small effects. In that sense we should not overestimate the
impact of the 1993 EITC change on the increase in competition on the
labour market and the US booming economy. And having a higher gross
minimum wage does not help - the Card & Krueger argument does not
convince for the general situation. /TC
Summaries of additional papers
There are two papers that have not been included for brevity’s sake. It
is useful to include their summaries however. Both papers are available
on the internet.
(1) Colignatus (1996d) “An institutional explanation of structural
unemployment of low income labour”, presentation for the Dutch “7th
Research Day of the Social Sciences”, Amsterdam, ewp-oth/9605001. The
idea of this paper is to use results of social psychology to identify
the real forces implied by the reduced form theorems. The paper’s
summary is:
“Structural unemployment of low income labour has causes in
institutional settings. Directly, there is a systematic error in the
co-ordination of employment policy and tax policy. Indirectly, the
system of co-ordination shows a deficiency in its capacity to repair
systematic errors.
Many people see the cause of mass unemployment in technology and
‘globalisation’, which are factors on the demand side. Others see the
cause in high benefit levels or in low levels of education or
educationability, which are factors on the supply side. These
explanations allow little room for policy making, especially when the
benefit level is regarded as social subsistence. There however is a
third explanation, one that has been put forward by employees of the
Dutch Central Planning Bureau (CPB), first Van Schaaijk in 1983, then
Bakhoven in 1988 and Colignatus in 1989-1996. In this approach the
cause of unemployment must be found in policies on taxes and social
security, an area where policy can do a lot. In this third approach,
technology and trade have reduced the problem of unemployment, since
they have boosted productivity. Since the problem lies with labour
costs and the demand for labour, supply factors like the benefit level
are less relevant. This third approach does not attract much attention.
The three authors are little known, even though they at the time worked
at a renowned institute.
This paper intends to raise the attention level towards asking the
proper questions about current stagnation. The best way to tackle
stagnation likely is the institutional approach. The economy and its
management can be regarded as a _system, _which system comprises the
community of economists, officials, politicians, journalists and ‘the
general public’. This paper then proceeds by using Aronson’s book on
social psychology to discuss various properties of the system and
relations within it, and the behaviour of the participants in the
collective decision making on this complex issue. The discussion
results into a number of questions for further research.”
(2) Colignatus (1998c), “On the paradox of efficiency improvement at
the micro level and Productivity Slowdown at the macro level: The case
of Efficient Inventory Control”, ewp-get/9805003. The summary is:
“Last decades show a Productivity Slowdown at the macro level, while at
the micro level we have seen a huge attention for business economics
and operations management - and we now have a decade of booming stock
markets. This paper tries to tackle that paradox by singling out the
issue of Efficient Inventory Control. This seems to be the part of the
business process that comes closest to the problem of the Productivity
Slowdown. Namely, when inventories are reduced, then this normally
means that part of demand is serviced from inventories, and this means
lower production. Estimating stylized relationships for the US, we find
that inventories in 1997 are 25% lower than they would have been
otherwise, and the level of production is 0.56% lower at an annual
basis. However, real GDP growth is not really affected, since the
annual change in inventory is a very small percentage of GDP. Thus,
business success stories that are based upon inventory reduction -
which is regarded as efficiency improvement at the micro level - can be
reconciled with stagnation at the macro economic level.”
A note on the New Economy (2000)
(The following note was written in 2000 and it still stands in 2004.)
The US economy has shown steady growth from 1992 till 2000, and people
have been talking about a New Economy. The stock exchange has
exploded, the Productivity Slowdown seems to be over, unemployment has
been dropping below the CWIRU (NAIRU) while prices have remained
stable, an Asian Crisis that might have turned into a big depression
did not do that: and economists have been looking all over to find
causes. The New Economy answer would be that the Volcker - Reagan years
have created a stable environment, and that technology now is causing
all kinds of revolutions. Computers, the internet, biology, a better
understanding of economics and capital markets, you name what, the
interaction of all these: they all cause a wholly different world. And
billionaires to prove it.
My view on this issue is sensibly guarded.
Yes, the internet indeed has interesting properties, vide Shapiro &
Varian (1999). I have been using computers intensively since 1972, have
my own software on the internet - see Colignatus (1999). Yes, on
biology and other technologies the possibilities are huge, and man can
be a creative animal.
No, it all is plain old economics. Shapiro & Varian (1999) make that
clear too. Also: (a) It should be obvious by now that my own analysis
on unemployment and inflation already provides much of the answers.
Many causes why the CWIRU dropped can be identified - e.g. the EITC
increase (labour cost reduction) in 1993, and the abolishing of
‘welfare as we know it’. Society has started to accept a lower
subsistence level - which is a dubious origin of growth for the rich.
(b) Lower taxes for the rich gives them more money e.g. to invest in
the stock market. (c) Americans have been borrowing. (d) The fact that
1970-1992 was a low period in post-War US history does not mean that
the current ‘high’ is so high. I think that the basic foundation was
given by FDR, and hence the creative human energy was provided with a
stable environment to prosper. The 1970-1992 period fouled up the FDR
heritage. Getting back to that heritage is important - but not
something ‘new’. (e) Of course there still are many people in poverty,
and many are seduced to crime which ends them up in prison. (f) The New
Economy is much coloured by Wall Street, the Jones’s driving up the
property price of the Jones’s. The financial system still needs
reworking.
I think I could go on, but I’d rather stop. The basic idea is that if
there is a new kid on the block then this does not mean that the block
has changed. In particular when the kid is someone old who everybody
has forgotten about. In economics, though, perceptions are important -
and the New Economy idea might be relevant for that.
On the 2005 edition of this book
This 2005 edition of this book is virtually the same as the 2000
edition. This note discusses the points of consideration.
(1) The major change seems to be that I now use the name Colignatus
for my scientific work for better distinction from political or
commercial work. I remain of course a single individual but the papers
and books can be usefully labelled differently. In some archives you
will have to keep searching on the name “Cool”.
(2) Unfortunately, I have not been able yet to extend the discussion
as indicated in chapter 32 on dynamic optimality. The prime cause is a
new job in a new field that required much new study.
(3) The book now uses euro’s. I didn’t use the latest data but use
those of Colignatus & Hulst (2003) for consistency. The Enlargement of
the EU from 15 to 25 member states on May 1 2004 caused some changes in
the data and text however. A discussion with Henk Folmer (Wageningen
University) caused an update on OECD data and papers, clarification of
some points in the argument, and the longer Abstract below.
(4) Colignatus (2001) “Voting theory for democracy” is my
implementation of the theory on social choice within _Mathematica_. An
earlier suggestion of (1990c) for an algorithm was developed in more
detail, which caused me to find a name for it: this became the “Borda
fixed point” approach. Further reflection caused the paper Colignatus
(2002) “Without time no morality” that now has been adapted to a new
chapter in this edition. The total enriches the analysis on Arrow’s
Theorem with a practical social choice algorithm.
(5) The chapter with notes on ethics has been added.
(6) The chapters on the reduced form have been re-united into Book
IX again. In the earlier paper Colignatus (1992b, 1995a) they already
formed a unity, but in the first edition of this book they got
separated for a reason that appeared unconvincing.
(7) Since Coligatus (1990) had in its title “After 20 years of mass
unemployment”, I could write (2004) “After 35 years of mass
unemployment”, and this has been included as a chapter. Since the
(1990) paper was hit by censorship and the intermediate years have seen
no resolution of that matter, I now advise to a boycott of Holland till
that censorship is resolved. Please study the chapter closely.
(8) The following comments can be included at this very spot:
(a) Much of current policy focus is on the EU Lissabon Strategy and
issues like pensions. This book does not explicitly discuss these but
it would be a mistake to conclude that this book would not be relevant
for those topics. The point is that this book already had that long
term approach to start with. Lissabon and pensions are new kids on the
block and one should rather study this book before proceeding with new
policy making.
(b) Advised reading is Skidelsky (2000), the third part of his
biography of Keynes.
(c) Lomborg (2001), “The skeptical environmentalist. Measuring the
real state of the world”, gives an impressive review of the problems in
this subject. As an economist and non-ecologist it is difficult for me
to say anything about his comments on the state of the ecology. Three
statements in the realm of political economy are:
(b1) Lomborg does not yet take account of the argument by Hueting
(1980) and Van Ierland et al. (2001). Statistical measurement of
national income derives from the economic theory of social welfare. To
approximate the social welfare function we use the income hyperplane
that is tangent to it. Market prices for the environment will not
suffice since there are market failures.
(b2) In his discussion on the ‘double dividend’ Lomborg relies on
economic papers that do not take into account both the analysis by
Hueting and the analysis provided in this book on the Trias Politica,
unemployment, the tax void and dynamic marginal rates.
(b3) The case for an Economic Supreme Court appears enhanced. Human
flourishing requires proper environmental protection, and monitoring of
the information about the environment then requires proper safeguards.
(d) Shiller (2003), “The new financial order. Risk in the 21st
century”, discusses how the market with proper government regulation
can give rise to new risk instruments. Part of what I try to do with
the constitutional amendment for an Economic Supreme Court, he tries to
do with ‘macro-markets’, i.e. financial instruments based upon macro
variables: namely, getting better information. My impression is that
both approaches have merits of their own, and that it helps to
disentangle what the instruments are intended for precisely. Similarly,
the analysis in this book on unemployment cannot be replaced by an
insurance on the distribution of income. Yet, when these more basic
reforms on the Economic Supreme Court and unemployment have been
implemented, Shiller is right that welfare can be improved by novel
risk instruments.
(e) Gould (2000:294-297) discusses Sulloway (1996) with sympathy.
This seemed relevant given the importance of the latter for the draft
constitutional amendment for an Economic Supreme Court. However, Van
den Berg (2004) in Dutch NRC-Handelsblad reports that the validity of
Sulloway’s finding is seriously questioned in _Nature_.
(f) I reread Ayer (1936, 1978), “Language, truth and logic”, and
was struck by his discussion of Poincaré. Ayer, page 115: “For a
well-chosen definition will call our attention to analytic truths,
which would otherwise have escaped us. And the framing of definitions
which are useful and fruitful may well be regarded as a creative act.”
In the “definition & reality methodology” the idea is that definitions
concerning stylized facts are “useful and fruitful”. Williams (2002),
“Truth and truthfulness”, is advised reading. What I take from it is
that people have a ‘sense’ what is true or not, whether they are right
or not, and that society can benefit from giving proper way to this
‘sense’. Now, what would be a proper way ? My approach is to give more
attention to science and the scientific attitude.
(g) Colignatus & Hulst (2003) is a Dutch booklet that summarizes the
scientific argument in this book for the Dutch lay public. This booklet
also relates to the murder of the Dutch politician Pim Fortuyn in 2002.
There is a peculiar streak in Dutch society that is wildly at odds with
its reputation for tolerance. Namely, the Dutch can react strongly to
someone who threathens their view of the world. A similar phenomenon
can be observed in other cultures too, but it is strong in Holland. My
inclination is to link this phenomenon to the observation in
Cavalli-Sforza (2000:184) of different mentalities in France: “Hervé Le
Bras and Emmanual Todd [1981] have recently refined ideas by the French
sociologist Fredericq Le Play. They believe three major types of
families exist in France. (…) have proposed a controversial but
stimulating hypothesis that says family structure influences political
structure”. These types are related to the history of Celts,
proto-Basque and Franks. My impression is that Dutch society is
similarly subject to some cultural mentality.
(h) When I discussed the consequences of the CPB censorship for
public health, this caused developments that led to my dismissal in
August 2004 from the Erasmus MC Dept. of Public Health. This is another
breach of the integrity of science. Dutch readers are referred to my
website. All this is too fresh to include it in this book.
(i) November 2, 2004, Holland saw Theo van Gogh murdered. He is a
grandson of Vincent van Gogh’s brother Theo (the elder). The younger
Theo is said to have been a talented though controversial film
director. The Van Gogh family had donated its collection of paintings
to the state and Theo van Gogh had trouble finding funds to develop his
talent. When he was murdered he was completing his film 0605 of the
murder of Pim Fortuyn. Van Gogh’s murderer of Moroccan decent expressed
his delusion of the 9-11 ideology. This is a new element in Dutch
society that can only be understood with the input of the Bush policy
on Iraq. It must be noted though that Theo van Gogh protested regularly
to that other original streak in Dutch society referred to above,
namely that Holland is not as tolerant and open as it may seem. One can
summarize the situation as that a truly tolerant Holland would have had
no fertile ground for that 9-11 ideology, while the resulting criminal
extremist killed the critic of that intolerant streak.
(j) There are some Dutch books that deserve an English
translation. Here I only translate the titles. Klever (1990), “Pure
economic science”, takes his position in Spinoza and argues that
economic science should be developed from first principles in a
deductive fashion. This strikes me as quite similar to the “definition
& reality methodology”. Mathematical economics already had the
deductive approach, and econometrics assumed that only statistical
approximation was feasible, but we can do better if we can find
definitions that fit stylized facts. Klever also recovered Franciscus
van den Enden (1665, 1992), “Free political theses”. That author was a
teacher of Spinoza and his book argues that democracy is the only form
of government that can safeguard stability and general welfare. Klever
(1981), “Dialectic thinking”, must be mentioned for a better
understanding of the deductive method. His discussion of Poincaré and
his pupils, for example, clarifies the creative element in mathematics.
Guépin (1985) “Civilization” and Guépin (1994) “The difference in
opinion” defend classical rhetorics as the essence of civilized
mentality. These books provide a wealth of information and are a useful
antidote to expecting too much from deduction only. He highlights the
tension between rhetorics and deduction by criticizing Socrates that it
is rather easy to impress people by goading them into inconsistencies
when they have not first defined their terms properly. (Rhetorics
cannot make fun of rule based inference if the only goal of rhetorics
is to get better inference.) Guépin also highlights that deduction
thrives with dichotomy but hesitates with the _sorites_, i.e. the
problem of accumulating grains of sand until the mountain moves.
Autobiographical note
This book completes a project that started in 1989 and that is closely
related to the Fall of the Berlin Wall in that year.
At that time in 1989, and in fact from 1982-1991, I was employed as a
‘economic scientific researcher’ at the Dutch Central Planning Bureau
(CPB), which institute can be compared to the US Council of Economic
Advisers. The CPB provides the executive branch with economic
projections and with evaluations of policy proposals. In 1989 I was
involved in test runs for a study of the economy for the long run till
2015, later published as the CPB (1992a&b) “Netherlands in Triplo” and
“Scanning the future”. The test runs showed continued economic
problems, and this caused me to consider some points. If the Bureau
would publish bad weather projections, then these might cause the
government to enact economic reforms that would self-unfulfill the
projections. Secondly, my CPB colleagues Van Schaaijk (1983) and
Bakhoven (1988) had presented a solution approach to unemployment that
did not get the attention that it deserved. Thirdly, when the Wall
fell, it was obvious that continued unemployment in Western Europe
would be detrimental to economic recovery in the East, and this
suddenly made unemployment much more important than it had been before.
So in November I wrote an internal memo Colignatus (1989) proposing
various economic reforms that might be considered as research projects
not only for the final version of the long run study but also for the
medium run.
Then, in December, in deciding on the annual pay rises, the CPB
directorate withheld part of the normal raise for me, and my section
chief informed me that it would have been better if I had not written
that memo. Apart from the bizar sensation that a hundred billion dollar
invention was being punished instead of rewarded, I also experienced
the sensation that comes when the dime drops or when the pieces of a
puzzle fall together. I could not escape the conclusion that I was
confronted with a particular piece of evidence of stagnation in policy
making, and that improper means were being used to influence scientific
discourse. Taking stock: my career position was blemished, my creative
contribution was branded as weird instead of simply creative, and I was
apparently supposed to no longer judge ideas on their own value but on
some line that was decided by the directorate. If these methods were
used, I could understand why colleagues Van Schaaijk and Bakhoven had
become silent on their important contributions to the solution
approach, or had left the Bureau altogether.
So in December 1989 I easily envisaged a book that would explain both
the solution to the current mass unemployment in OECD countries and the
stagnation in policy making that causes it. It was my perception at
that time that under normal conditions it might take ten years before
this analysis would be accepted by ‘the relevant circles’, i.e. some
years to write the book, some years to allow my fellow economists to
digest it, and some years for the percolation into public and political
discourse.
But life is not such that if a scientist decides that a book should be
written, that his environment will let him do it. Instead, there was
the pressing need to find a proper answer to the abuse inflicted on me,
and to collect and safeguard the evidence of that abuse. Given the
triad of Voice, Exit or Compliance (‘compliance’ since ‘loyalty’ is the
precondition - and the Exit and Compliance options already used by my
two colleages) I decided to Voice. I filed an appeal, and started
writing a paper where I clearly stated my conclusion as a scientist
that the return to full employment could be much speedier if Parliament
would have an enquiry in the policy making process. Not quite to my
surprise, I saw myself moved to a separate room in April 1990, and my
paper was blocked from circulation. Only after some trouble it was
allowed to appear as an internal note Colignatus (1990ac), but was
further blocked from internal discussion and eventual publication. And
I was finally fired in October 1991. And neither quite to my surprise,
the courts allowed the directorate to do all this. The court deemed it
an abuse of power that the directorate had moved me to a separate room,
but the dismissal was deemed acceptable. The legal position of a
scientist within the government is not that strong, the popular stories
to the contrary.
These lines clarify that this book has not been written under the
conditions that benefit science. I have been mauled by the bureaucracy,
I have been on the run from one short temporary job to another, always
job hunting, a longer while unemployed and in dire financial straights.
But I was happy that I had kept my integrity, and it was a joy to
occasionally read some economics again and to write a piece of the
analysis. I published a collection in 1992 and another collection in
1994. I discovered _Mathematica_, January 1993, and there was hope
again. The internet became accessible to me, and I was able to enter my
papers in the Economics Working Papers Archive (EconWPA) at the
Washington University in St. Louis.
One factor that caused a shift in the plan of the book was that I no
longer had the resources of the CPB at my disposal. No database, no
model, no easy access to the literature, no participation in
professional discussion, and no professional position that would give
easier access to the other research institutes and organisations like
the OECD, World Bank or IMF. It was curious, to say the least, not to
have access to the model that I had helped designing and that I in fact
normally maintained and had sitting at my computer. My situation caused
me to rethink methodology. What could I prove, if I did not have the
means that I had grown accustomed to ? But by 1991 I had solved that
problem and life became a bit more agreeable. But of course, it took
longer, much longer, to work it all out.
Please be aware that it was not all misery and gloom. Over these 15
years I could go to 7 Dutch economics ‘research days’, visit 3 European
Economic Association congresses and visit the occasional colleague and
professor. There are also nice events that happen when you approach
people with some novel ideas. I still enjoy the tour of Cambridge that
Richard Layard gave to Assar Lindbeck and me; this was in 1991 when
Layard, Nickell & Jackman (1991), “Unemployment”, had just appeared.
Mr. Emile van Lennep, former head of the OECD, then retired as Minister
of State but still at the Dutch Treasury, agreed to talk to me, and
afterwards helped me to get an interview at the US Treasury in the
Summer of 1993: but to no avail, the person that I talked to was too
absorbed by the Clinton Health Plan, and said something like ‘Well, if
Europe wants to adapt its constitution, be my guest’. It also appeared
that the OECD did not have information on tax exemption in the member
states. It was worth a try, and fun to do. I also have had great fun
developing my “Economics Pack”, applications for _Mathematica_. It is
good software, it brings me in contact with interesting economists all
over the world, and of course it includes, amongst other projects, also
some of the material of this book - which should do something for the
spread of the ideas as well.
So now the book is here. It collects and combines the various articles
written since 1989, and gives the final twists that come from
integration.
Note that I as a researcher claim ‘novel results’, while I at the same
time say, at the risk of an inconsistency, that ‘_either_ governments
already knew how to solve unemployment and then neglected human
suffering, _or_ they could find out how to do it and then at least
failed in co-ordination’. ‘Novelty’ and ‘it was known’ are at risk of
being inconsistent. I have removed this risk (a) by making the novel
results available since 1990, which was 10 years ago at the first
edition of this book in 2000 and now in 2005 is 15 years ago, (b) by
gathering information about the abuse afflicted on myself, and making
this information available to others, and (c) by showing that important
parts of the whole analysis (without my contributions) were already
known before. Cohen Stuart in 1889, and policy makers in the 1950s
already knew that tax exemption should be at the subsistence level. One
does not really need a CWIRU concept to see that. While this was known,
my novel contribution then has become to analyse the ‘loss’ of this
information as an institutional and Public Choice problem - or bad
co-ordination between the Treasury and the Ministry of Labour. As a
‘novel contribution’ it has its limits - though in the 1980s it took me
a decade of eliminating other causes before I discovered, and indeed
with surprise, how dumb and insensitive these bureaucrats can be. But
other novel insights have a more enduring character, and that is a
relief.
Yes, some friends have advised not to tell all of this, others have
advised to do so. I once entertained the thought to skip my Dutch
examples, and concentrate on, say, the US. This might enhance the
argument, since readers would be less inclined to think that I am
partial to the argument. I hesitated doing that, since (a) I am not
partial anyway, and (b) it would eliminate that very example of the
current structural deficiencies in economic policy making.
What is new in this analysis ?
‘New’ is taken here in comparison to others, and thus includes points
also made in my earlier publications on this analysis. New is:
1) clarification that if you don’t index subsistence for average
income, then you create poverty
2) clarification that minimum ‘income’ is not an ‘income’ but a
mechanism (with multiplier)
3) the concept of the Tax Void
4) the dynamic marginal tax rate, and its relation to labour supply and
macro-economics
5) these explanations for the shift of the Phillipscurve:
a) by the minimum wage and tax void, or poverty
i) directly, and caused by differential indexation of exemption and
subsistence
ii) indirectly, by the crowding out effect, shifting of the tax burden
etc.
b) by misguided macro-economic policy (not understanding taxes,
fighting inflation with the wrong means)
6) clarification that ‘there is no poverty trap’
7) suggestion for a simple nonlinear tax function, clarification for
households
8) suggestion of a possibly ‘dromedary shaped’ labour supply
9) clarification on the concept of a ‘free lunch’
10) proper definitions of risk and uncertainty
11) clarification for the impact of the minimum wage (tax void) on
sheltered and exposed sectors
12) clarification on the Definition & Reality methodology
13) the theorem on the possibility of full employment, via the
reduced form
14) integration of deontic logic with preference theory
15) the proper interpretation of Arrow’s Theorem
16) the Borda Fixed Point method
17) the theorem on the possibility of co-ordination, via the reduced
form
18) description of actual bureaucratic processes on these subjects,
so that we better understand how the Great Stagflation came about
(comes about)
19) the concept of the Economic Supreme Court, in its political and
historical relation to both the Trias Politica and economic science,
and a draft constitutional amendment to start thinking about
20) clarification of the moral imperative with regards to Russia and
Eastern Europe
21) positioning this analysis with respect to a standard small macro
model and the work of other authors.
Abstract
The prime conclusion of this book is that Western democracies are
well-advised to install an Economic Supreme Court. This volume includes
a draft constitutional amendment that shows that such a measure can
indeed enhance democracy.
The fundamental structure for current policy making in a democracy is
Montesquieu’s model of the separation of powers, i.e. the Legislative,
Executive and Judicial branches that form the “Trias Politica”. It
appears that this structure still allows room for economic policy
making that is detrimental to the life and liberty of the citizens of
the state. The key issue appears to be that there is no independent
protection of the quality of information. With all the social, economic
and political interests involved, the current process of economic
policy making allows the current constitutional powers too much room
for distortion of the information. Economic theory then suggests the
creation of an Economic Supreme Court as a separate constitutional
power with the task of the scientific management of information. The
legislative and executive branches would still decide on policy targets
and policy execution, but they would lose the power to interfere with
the scientific handling of information. This argument can be developed
purely theoretically. The economic experience of the last century shows
that the argument is also practically relevant.
Political Economy as a science has the general objective of explaining
and advising the management of the state. Two hallmark reference points
exist in the _General Theory _by Keynes (1936) and the analysis by
Tinbergen (1956) on the principles and design of economic policy
making. These studies show that the state can be subject to long
periods of economic recession and even depression if not properly
managed. Since the end of World War II, application of these ideas has
allowed spectacular economic growth while depression has been prevented
indeed. However, the economic record especially since the 1970s is
mixed, with issues like stagflation, problems with the welfare state
and continued poverty and also with the issue of sustainable
development and protection of the environment. It can be shown beyond
reasonable doubt that economic policy has been detrimental to the life
and liberty of many of its citizens while this came about by
mismanagement of the available information.
An element of self-reference arises when economic policy uses economic
theory itself, so that theory should include theory. Increasingly over
the years, economic theory has gotten a role in the management of the
state, and developments in the real economy cannot be properly
understood without reference to the economic ideas adopted for national
policy. Since economic theories give conflicting advice, part of the
management problem of the state is the selection of the appropriate
theory, and this selection is more and more the key management problem.
At the next higher level of abstraction, the process of selection
becomes the focus of attention. The problem then becomes what that
process is, what criteria of transparancy and fairness it satisfies,
and how the process itself affects the economy. The current structure
gives too much room for political elites and bureaucrats to neglect the
basic rights of the population at large. The criterion to judge an
optimal improvement in the structure of economic policy making is not
just economic growth but can be taken in the concept of democracy
itself and the citizen’s right to be properly informed.
Keynes’s _General Theory_ can be generalised even further by the
inclusion of endogenous government in the model, and in particular
economic policy making itself as that is guided by economic theory.
Keynes clearly anticipated this line of thinking, where he wrote:
“Practical men, who believe themselves to be quite exempt from any
intellectual influences, are usually the slaves of some defunct
economist. Madmen in authority, who hear voices in the air, are
distilling their frenzy from some academic scribbler of a few years
back.” (GT:383) The new point now is that this does not only concern
“practical men” but economists themselves too, and the whole
institutional framework for economic advice. When economic policy
making itself is part of the model, economic stagnation can be
explained as stagnation in that realm, and the solution for economic
stagnation can be found there too.
OECD nations had full employment in the 1950-1970 period, and Japan and
Sweden had it much longer. So it would seem that full employment at
least is feasible. However, after the period of full employment, all
nations showed the phenomenon of stagflation, which is a worsening
trade-off between inflation and unemployment (represented as the shift
of the Phillipscurve), frequently associated with stagnating growth.
Instead of full employment and a steady growth of welfare, OECD nations
suffered a long period of insecurity from 1970-2005.
This volume analyses the different periods and finds the likely cause.
The fundamental cause is the common Trias Politica structure of
economic decision making that all OECD nations share over time and
space. At an operational level, stagflation can be explained by the tax
policy that OECD nations have in common as well.
The common tax policy is based upon a particular economic theory that
has become the conventional economic view of our time. This
conventional theory sees tax as a penalty on work effort and holds that
statutory marginal rates have major disincentive effects. Marginal tax
rates are a useful penalty on (inflationary) wage claims in
wage-bargaining, but the conventional view is that the disincentive
effect dominates. Following this theory, policy has been to reduce
marginal rates at the cost of lower exemption. Another measure was to
switch from the income tax to a Value Added Tax (VAT) that has no
exemption at all.
The common tax policy has static and dynamic components. Statically,
exemption is low. Dynamically, there is the tendency of reducing
exemption even further. The low and ever lower exemption causes rising
tax levels and hence either poverty or higher labour costs in the lower
wage brackets, causing unemployment, and causing higher taxes to pay
for the benefits. What is crucially wrong about current policies is the
phenomenon of differential indexation. Exemption is indexed on
inflation, while subsistence, by social psychological causes, rises
with inflation and real income. This differential indexation causes
ever increasing problems with poverty and unemployment.
The OECD countries have been pursueing this policy now for more than
three decades, and rather little is being achieved. It is time to
seriously wonder whether policy is on the right track. This book shows
where the conventional theory goes wrong.
A first feature is the tax void. The tax void is the region of
productivity and income between the net minimum wage and the gross
minimum wage. The difference between net and gross is normally called a
‘tax wedge’, but this term is inadequate since a wedge is commonly
thought to apply _at_ a particular level while the void is a _range_.
The income range between the net and gross minimum wage is a void since
there are official tax statutes for that range but no true revenues.
People are not allowed to work below the gross minimum and thus cannot
pay taxes there (that is, for full timers). Ideally, as in the 1950s,
the net minimum should be equal to the gross minimum so that the void
is zero, and so that such workers can start earning their own living
without paying taxes. Because of the current practices for tax
indexation, the tax void has grown over time so that the gross minimum
wage has risen much more than the net minimum wage. By result, more and
more low wage workers are subject to that excessively high gross
minimum and are effectively removed from the labour market. The shift
of the Phillipscurve can be explained partly by this growing component
of minimum wage unemployment. This analysis also points to a solution.
For the tax void, no taxes are collected (on full timers), thus
abolishing such void taxes will not cost anything. The argument is not
quite that lowering the minimum wage will create new job opportunities,
but rather that not raising the gross wage costs so excesssively would
not have destroyed the opportunities that already existed. This
argument designs an experiment at no cost.
The tax void causes needless unemployment for millions of people all
over the world and its plain bureaucratic stupidity is a blow to naive
ideas about democracy (that the current democratic structure would be
adequate and provide adequate information).
The second feature in the new analysis concerns the dynamic marginal
tax rate. Marginal tax rates are important - since economic theory
indeed assumes optimising economic agents - but these marginal rates
should be properly computed. This analysis not only considers the
partial effect, assuming other things constant, but rather considers
the total effect that includes all simultaneous changes. A change in a
marginal tax rate is usually accompanied by a change in exemption, and
both generally happen at the same time, either annually or in computer
policy simulations. Private and national income change at the same time
too. Individuals are frequently aware that their own fortunes are
linked to the fortunes of the national economy and they will be
sensitive to their relative position in the distribution of income.
Work incentives may be more guided by the average tax rate rather than
the statutory marginal tax rate. Hence, ‘incentives’ may not be a
convincing argument against higher marginal tax rates, even though
policy makers have been advancing that argument forcefully. That, in
fact, the converse is true, fits perfectly with the experience of the
last decades. The reduction of the statutory marginal rates, as the
policy was, appears to have had little incentive effects, since the
true incentive effect depends more on the average tax over time, and
this average has remained high due to the problems of unemployment,
poverty and lower growth.
This book concludes that macro-economic policies in OECD nations have
not countered stagflation but have actually increased it. Current
policies add to labour costs, reduce incentives, fuel forward shifting
of the tax burden, and worsen the trade-off between inflation and
unemployment.
The new analysis points directly to a policy that will be successful
and that will allow a return to full employment under stable prices
like in the the 1950s. If exemption is put at subsistence, then jobs
can be created at the low end of the labour market, which would save
benefits and reduce average taxes, which again would increase
incentives. The alternative structure and policy would also be
beneficial for inflation. If low productivity labour has a stronger
position in the labour market, then the risk of unemployment is spread
more evenly, and trend-setting high productivity labour will be
cautious about wage claims.
A welfare state is defined as a state that doesn’t let people die and
thus provides benefits for the lowly productive _anyway_. The welfare
state can be run more efficiently by using those resources, instead of
going into benefits, to instead reduce labour costs and to price the
lowly productive into jobs. The analysis on inflation and unemployment
thus results into the proposition that, since the present situation is
inefficient, an improvement is possible from which everybody can
benefit.
This book provides theorems in mathematical economics to prove its
points. The central questions in the political economy of employment in
the welfare state are: _can _one solve unemployment, does one _know
_how, and does one _want _to ? The book presents a model that satisfies
the stylized facts and thus serves theoretical and empirical uses.
· The first result is a possibility theorem (_can_) that there are two
regimes of either full employment or unemployment.
· The second theorem explains the choice by _know_ and_ want _causes.
Full employment results from conscious choice or chance (while lacking
knowledge). Unemployment results from conscious choice or wrong
co-ordination (where a Pareto optimising change is blocked only by lack
of knowledge - and a lack of knowledge not by the economists but by the
incompetent or insensitive policy makers).
The analysis shows mathematically that democratic goals indeed can be
blocked by special interests or neglect, for example within the
bureaucracy. A policy conclusion is to improve informational (planning)
procedures.
The discussion of taxes, unemployment and inflation is basically just a
minor point of the book. The major point of the book concerns the
co-ordination problem. Western democracies apparently allow long
periods like the Great Depression or the Great Stagflation that are
detrimental to the economic well-being and security of large sections
of their populations. Ideas of economists that point the way to
recovery are only slowly accepted. Key examples are the ideas of
Tinbergen and Keynes: for them it took World War II before they got
listened to. Eventually, the political powers of that time accepted
that they had to redesign the structure of economic policy making, and
they gave more room to the scientists, but did not dare to give up
their ultimate power to meddle with the information. Currently, the
world faces the challenge of the growth of the world population from 6
billion people around 2000 to likely around 8 billion people around
2025. To manage this process, mankind would benefit from a structure of
economic decision making that is both democratic and that respects the
citizen’s right to know.
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