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Archive for August 2013

Positive and Normative Economics

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In economics, we make a distinction between the positive study, which is descriptive, and the normative study, which is prescriptive. It is a distinction that you may hear early on in an introductory class and never revisit through a whole degree program. However, it is worth revisiting in order to understand the limitations of economics. It also helps understand some of the behaviors we make jokes about:

If you stacked all the economists in the world end to end, they still wouldn’t reach a conclusion.

Ask five economists and you’ll get five different explanations; six if one went to Harvard.
— Edgar Fiedler

An economist is an expert who will know tomorrow why the things he predicted yesterday didn’t happen today.
— Laurence J. Peter

Economics is the study of allocation of scarce resources. It is typically considered to discuss money, but time is also a scarce resource and the rules of economics can be applied. We also use economics to figure out how to make scarce resources less scarce. One cannot do much to make more hours in a day, but one can do a lot to make wealth more abundant. One can also screw up and make wealth less abundant.

Positive Economics

Positive economics concerns itself with how people, firms and nations actually do make economic decisions. It is fact-based and testable.

Microeconomics, which is the study of individual people making decisions for themselves and the firms for whom they act as agents, is by nature more testable than macroeconomics, which is the study of entire national economies. It is very difficult to construct a control group for an entire nation. The nation either took an action or it didn’t; there is no apple-to-apple comparison available to the same nation in the same circumstance making an alternative choice.

Because positive economics is all about the facts, it does not attempt to say what we should do. The most positive economics can offer as guidance is to understand the costs of an action; if you do this, you give up being able to do that.

Normative Economics

Normative economics attempts to advise us on how we should make economic decisions, and what those decisions ought to be. This is where we attempt to apply norms to the science of economics to obtain better results. But where do the norms come from? The norms have to be informed by ethics, which is larger than economics.

Any economist has an ethical position from which she obtains her norms and applies them to economics. When Robert Barro, Paul Krugman or Greg Mankiw advise what we should do about an economic problem, their preferences are informed by their ethics. Even the determination of whether or not an economic condition is actually a problem to be solved, such as income inequality, requires principles from outside of economics.

Without agreement on philosophical and ethical questions, the most we can do in economics is concur with others. Concurrence is useful in building effective political coalitions, but it is more limited than agreement. We have to recognize the difference.

It would be really helpful if economists would do full disclosure on their ethical principles so that we could recognize where they are coming from when they make their pronouncements, but usually they do not. We have to interpret their works in order to infer their beliefs.


Economic discussions often feature arguments from the point of view of efficiency. Many of these presentations are attempts to provide normative arguments justified solely in economic terms. To the extent that this is going on, it doesn’t succeed as a justification.

Efficiency is not an end in itself. We do all sorts of things every day that is inefficient, especially where risk management is involved. Having locks on your doors is inefficient; it would take less effort to dispense with carrying and finding keys. Backing up computer data is inefficient. The systems of checks and balances built into the US Constitution is enormously inefficient — by design: the framers did not want a government that was efficient at ordering citizens around.

If you are going in the wrong direction, doing so efficiently is not a justification. Arguments solely based on efficiency beg the question: before deciding whether we can do this more efficiently, should we be doing it at all?

The Is-Ought Problem

One of the great projects of the Enlightenment was to identify a set of naturally and objectively observable facts and derive normative principles from them, without resort to any outside assertions or dogmas. Europe had just been through a series of bloody wars of religion, where subgroups within Christianity had tortured and murdered those who did not worship Christ as did the people in power. Enlightenment thinkers hoped to find a way to start with observations of facts that everyone could agree upon and then, without resorting to anyone’s specific faith or interpretation, derive moral principles that we could use to build a just and ethical society. Such a society would wield authority with legitimacy, because all citizens could see that the rules were derived only from objective facts accessible to all. It would not depend on faith (or lack of it), belief or subjective feeling of the people in power.

This was a great aspiration, and I truly wish it could have been achieved. In fact, it is not possible. In 1739, David Hume wrote that normative statements cannot be validly derived solely from positive statements of observable facts. Hume was correct. Yet even he shrank from the full implications of his theory:

Those who have denied the reality of moral distinctions, may be ranked among the disingenuous disputants; nor is it conceivable, that any human creature could ever seriously believe, that all characters and actions were alike entitled to the affection and regard of everyone. The difference, which nature has placed between one man and another, is so wide, and this difference is still so much farther widened, by education, example, and habit, that, where the opposite extremes come at once under our apprehension, there is no skepticism so scrupulous, and scarce any assurance so determined, as absolutely to deny all distinction between them. Let a man’s insensibility be ever so great, he must often be touched with the images of Right and Wrong; and let his prejudices be ever so obstinate, he must observe, that others are susceptible of like impressions. The only way, therefore, of converting an antagonist of this kind, is to leave him to himself. For, finding that nobody keeps up the controversy with him, it is probable he will, at last, of himself, from mere weariness, come over to the side of common sense and reason.
— David Hume, An Enquiry Concerning the Principles of Morals, 1751

Hume believed that there were implicit limits to what people could morally disagree upon, that there was some natural common ground where we all would agree on moral principles. The 20th century has been a rather conclusive demonstration to the contrary. Hume hadn’t met really energetic believers such as those that emerged after 1800, who don’t get weary of being ignored in their own lifetimes and even seek out extreme positions in order to provoke a reaction. If Hume’s antagonist is left to himself, he may circulate his ideas like viruses until they find men of action who will attempt to put them into practice. The Nazi extermination camps and the Soviet Gulag were created and operated by people who believed in the moral correctness of what they were doing.

So where does this leave us? The problem of the legitimacy of norms appears more intractable than the Enlightenment though leaders had believed. The first call to action is for all of us to understand where we are being summoned to go. When presented with normative prescriptions, we must demand transparency into the norms that underpin the prescriptions. This is a lot of work, but the alternative risk being led by high-sounding words into a moral place we never meant to go, doing things we never really wanted to do in pursuit of ends we do not ultimately find acceptable.


Written by srojak

August 10, 2013 at 11:37 am

What Unemployment Looks Like

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During the Great Depression, historical data show unemployment exceeding 15% in 1931 and peaking close to 25% in several subsequent years. Unemployment as a percentage of the labor force stayed consistently above 14% until 1941, when war production increased the demand for labor. The Great Depression is regarded as a searing national catastrophe that changed the way we look at the economy and the role of government, resulting in a new social contract.

When one walked around cities during the Great Depression, the effects were hard not to see. There were padlocked factories. There were people lined up for work or assistance. There were people with nothing to do.

Line of unemployed at soup kitchen, Chicago, 1931

Line of unemployed at soup kitchen, Chicago, 1931

Most of the unemployed at that time were unskilled and semi-skilled laborers. They were renting their living spaces and had little or no savings to fall back on. Loss of income was swiftly followed by eviction. Many of the unemployed had nowhere to go. They started living rough. squatting on open land and constructing shacks out of discarded materials. Most American cities had a section of these shacks, which were commonly called Hoovervilles.

Hooverville in Sacramento, CA, early 1930s.

Hooverville in Sacramento, CA, early 1930s.

In the current economy, as of this writing (data for July 2013), the news headline measure of unemployment is 7.4%. This measure is U3, and includes only people who are collecting unemployment and have actively looked for work within the past four weeks (although anyone collecting unemployment is required to be actively looking for work, so why would anyone report otherwise?).

Other measures exist, but are more difficult to collect. U6 includes all the unemployed from U3, plus those who have run out of unemployment, become discouraged or are underemployed: workers who cannot obtain full-time work for which they are qualified. U6 is currently estimated at 14.0%, although it may well be higher. Even U6 does not include people who cannot get full-time permanent employment and are making do with contract work which may be at the same overall compensation level as before, but does not include benefits and transfers business risk to the worker.

Our unemployed are much less visible. One no longer searches for work by “pounding the pavement,” but by using the internet and the phone. When unemployed and underemployed gather, it is typically indoors, at state agencies or independent job search clubs, out of sight of working people.

A job search group meeting, 2009.

A job search group meeting, 2009.

Many of the people who are out of work have specialized skills. They often own their homes, and do everything possible to hang on to them — who wouldn’t? They’re doing everything they can think of to hang on, but insolvency hovers close.

Can you spot the home of the unemployed person? Can you tell who is behind on their mortgage?

Affluent suburb, 2012

Affluent suburb, 2012

Driving around during the work day, you can’t tell whether the owner of the house is off at a job, working from home or unemployed and rooting through the job boards.

Taking U6, 14% is about one person in seven. Do you think unemployment is something that can’t happen to you? Think again. Working hard and being competent won’t protect you if you are in the wrong place at the wrong time.

What’s the point? We are in an economic crisis in the same class as the Great Depression, only if you’re working, you can avoid seeing it.

Written by srojak

August 3, 2013 at 2:49 pm

Posted in Economics, Winter is Coming

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