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Wednesday, July 12, 2017

Book Review: The Reformation In Economics

Philip Pilkington published "The Reformation in Economics: A Deconstruction and Reconstruction of Economic Theory" in 2016. It is an ambitious book, outlining the structural flaws of mainstream economic theory. He discusses the potential replacement theory, but this reconstruction is somewhat overshadowed by the deconstruction.

Book Details

The Reformation in Economics was published in 2016 by Palgrave MacMillan. The book is 358 pages, and is written an academic style with endnotes in each chapter. 

It is divided into three parts, and 12 chapters (plus an appendix). The text is written at an academic level, and brings in subject matter from the humanities, such as philosophy. As a result, the writing style is quite different than my writing, or those of market commentators. 

Philip now works for the GMO investment management firm, and ran the "Fixing the Economists" blog.

The Deconstruction Is Impressive

Pilkington's deconstruction of mainstream economics is impressive; one might wonder if there is any theoretical area left that is not highly questionable.

He covers topics such as marginalism in microeconomics, equilibrium, theories of money and prices, methodology, and areas such as mathematics in economics. The book uses some basic mathematics to discuss these topics, although the book is structured so that the reader can skip the equations. However, the simplicity of the mathematics means that the latest excesses of mainstream theory can only be hinted at, which is an issue I discuss later in this review.

One point of note is that Pilkington's arguments are not driven by ideology. He notes that mainstream economics could easily be used to justify centralised control of all economic decisions; the "auctioneer" that sets prices in general equilibrium could easily be the State. At the end of Chapter 11, he writes that he is "averse to the idea that economics as it is currently taught is a mere reflection of the ideology of the ruling class." Rather,
Contemporary mainstream economics is less the ideology of the ruling class than it is the opiate for establishment intellectuals who find that their little models and ridiculously simplistic arguments get them invited to all the right parties.

Reconstruction Overshadowed By Deconstruction

The downside of devoting a large space of the book to deconstructing mainstream economics is that there is less space devoted to its replacement. I am not completely convinced by Pilkington's strategy in that regard, as I discuss in the next section.

I believe that I largely agree with Pilkington's views on how to approach economics. We have to accept that observed outcomes are the result of complicated interactions, and are contingent on a wide number of difficult to forecast events. Although this is a realistic world view, it has an obvious problem: it is impossible to give the precise-sounding forecasts that are the stock-in-trade of many economists. ("Brexit will lower U.K. GDP by x%!") For some reason, our ruling elites want to get such definitive answers, even if everyone knows the forecasts are inherently worthless.

Take the example Pilkington provides on Scottish oil/natural gas exports in his chapter on uncertainty and probability. He regressed export revenues on the oil prices, and he unsurprisingly gets a good fit. His argument that this exercise is useful as a mechanism to identify the magnitude of the exposure of Scottish exports to oil prices, a factor that could be used as an input into policy decisions. However, the regression model should not be viewed as predictive of much of anything. It just offers a new way to interpret data, but at the same time, one could find some other data which might tell a different story.

The book has a lengthy discussion of interest rate determination. It appears that my views on interest rate formation are closer to the mainstream than those in the book. (At least in the case of modern developed bond markets; not all interest rates markets behaved like these.) We need to distinguish between the level of the risk-free rate, and credit spreads, whereas the book's discussion lumps the two factors together. The willingness to lend to the private sector shows up in the credit spreads, while the risk-free rate is driven by the expectations about central bank policy. I may return to the interest rate discussion in a separate article.

Sure, Mainstream Economics is Inconsistent. So What?

As an initial disclaimer, I am only writing about economic theory here; there are many areas of "mainstream" economic study that are not covered by my criticisms (or those of the book, which overlap). A key example would be the work on defining and measuring national accounts data; there certainly is a certain amount of theory involved in such definitions, but there is nothing to predict the future movements of such aggregates (which is the sort of "theory" I am discussing here). Furthermore, there is a lot of empirical work that is relatively theory-agnostic. (It is hard to think of any theory that would justify the various quantitative easing event studies.)

This disclaimer is not just a bit of boilerplate: I would guess that most self-identified "mainstream" researchers work in such areas. As a result, such economists would have good reasons to be amused with raw denunciations of "mainstream" economics on the grounds I discuss here (or in the book): the criticisms do not apply to their work, yet it is lumped in with the more questionable theories.

My suspicion is that the majority of "mainstream" economists may use many of the embedded assumptions that Pilkington objects to, but they are not greatly troubled by the internal consistency of mainstream economics as a whole. Instead, they are focused on whatever issues they view as most interesting. It is highly possible that the need to use particular mathematical formalisms in published papers is just part of the publishing game, and not taken too seriously (even if they cannot admit it in public). In any event, if their publishing record is within the mainstream tradition, they have a strong incentive to not see that tradition thrown in the dumpster.
As a recent example, I would point to some of the online reactions I saw to one of my articles criticising the mathematics in mainstream economic theory. One response was essentially: yes, the mathematics makes no sense, but everyone knows that already. From the perspective of a pure or applied mathematician, such a response would be jaw-dropping. But if we accept the possibility that mainstream theory is just a cobbled together set of assumptions that few people actually believe, such an attitude makes perfect sense.

Furthermore, although this lack of consistency appears to be an unwelcome state of affairs, I should not be particularly perturbed by it. I used to be in the theoretical wing of control systems engineering, which put me relatively close to pure mathematicians. I could have easily raged against internally inconsistent mathematical models used in control systems engineering. However, if one were a purist on that score, we would have had to shut down the entire aeronautical industry: aircraft control systems are the triumph of engineering pragmatism over theoretical purity. I see no particular reason that economic systems would be any easier to analyse than aircraft.

This dynamic suggests that there are only a couple of strategies for developing and presenting sensible economic theory.
  • Ignore mainstream theory. The obvious defect with this strategy is that it will be ignored by the wide audience, which instead will obsess about things like the size of the Federal Reserve's balance sheet.
  • Confine debates with mainstream views to topics where there are concrete issues to discuss, and only worry about the issues at hand. Since we need to assume that mainstream economists do not truly care about the internal consistency of their theories, there is no value in dragging that in to the debate. Even if this does not end the stranglehold of the mainstream on credential gathering, it raises the profile of heterodox economics in the wider community.
My concern with The Reformation in Economics is that it takes the theoretical coherence of mainstream economics too seriously, with the embedded assumption that mainstream economists also care about such matters.* The experience of the past decades of such critiques shows that this assumption is faulty, as the book itself ably documents. Meanwhile, the attack on mainstream economics is so aggressive that I doubt that many self-identified mainstream economists would read to the end. (My own writings suffer from this defect.) This means that the book ends up preaching to the converted.
I am not greatly excited by the criticism of older mainstream economics, such as Paul Samuelson's textbook (which is discussed in the book). I can see how older post-Keynesian professors might be fixated by such topics, and it certainly gives a human interest angle to the story. However, if you read a contemporary Dynamic Stochastic General Equilibrium (DSGE) text, Samuelson's textbook is unlikely to be cited. Meanwhile, most numerate central bank watchers have at least some familiarity with DSGE macro -- even if they think it is a load of nonsense. It is hard to relate the criticisms within the book to the contents of the modern papers. It may be that there are underlying errors that spring from faulty assumptions put in place decades ago, but without discussing the modern work directly, this is not obvious.

Concluding Remarks

Although the bulk of this review ended up discussing my differences with regards to strategy, I broadly agree with almost all of the conclusions of the book. If one is new to economics, the book provides a good introduction to the issues around economic theory (albeit at a more complex reading level than my articles). I would highly recommend focusing on Pilkington's discussion for how economics should evolve, and less on the series of accidents that led to its current dismal state.


* I focus here on internal consistency, and not empirical predictions. This is because mainstream economics in practice has structured itself so that its models can explain any observed outcome. For example, if negative real rates do not induce higher growth and inflation, all that tells us is that the natural rate of interest suddenly became negative. It is a self-defeating strategy to argue on the basis of empirical predictions against a non-falsifiable theory. All that is left is to discuss whether the framework is internally consistent.

(c) Brian Romanchuk 2017


  1. The more I read, the more I see the technocrats as a priesthood with a bible in Latin that they 'interpret' for the masses.

    Hence the inconsistencies are glossed over and don't actually matter because you have these wonderful experts to iron out the kinks.

    It is, fundamentally, a political position that is sustained by appeals to voodoo. Like all shamans throughout history.

    Engaging with mainstream theory is like the democrats engaging with the Republicans. The belief structures are entirely different and incompatible. They struggle to even see each others point of view.

    The way forward for economics is to embrace the political and offer the alternative viewpoints to those who would gain advantage from supporting them. Ultimately the way forward will be determined politically, not by squiggles on a blackboard.

  2. A sentiment that fits in with the book's arguments...

    It is interesting that all of these discussions end up with comparisons to religion.

    The problem with not engaging with the mainstream is that you are effectively cutting your visibility with the wider audience. The reality is that the average person on the street is going to put a much greater weight on the pronouncements of an economics professor than someone like myself. That said, the best way forward is to ignore the existence of mainstream theory, and develop a parallel theory. If anyone asks, civilly explain the differences. Build a better mousetrap, yadda, yadda, yadda.

  3. Contemporary mainstream economics is less the ideology of the ruling class than it is the opiate for establishment intellectuals who find that their little models and ridiculously simplistic arguments get them invited to all the right parties.

    I agree, ultimately, except for a few notable exceptions, what drives academic circles at the highest level is pride, ego and sense of belonging. Incredibly swallow, but it's what it is.

    Is the same for government official positions, or any other form of bureaucracy. Hence the collusion with the wealthy, they all want to circlejerk together in the same circles, the circle of the "powerful".

    1. From their perspective, they are just doing their jobs to the best of their abilities. Academic publishing is a game, and they are following the rules as have been set by others. (The problem is that the rules are dysfunctional.) As an ex-academic, I view attempting to be the best academic you can be as being a worthy objective, no matter what the "true" motivations may be.

      Since mixing with the powerful is the sign that you have entered the elite, it is a fairly natural thing to want to do. As a Canadian Prairie Populist, my view is that it is the role of populists to pressure those elites towards necessary reforms, but it unrealistic to expect that we can structure society so that elites do not exist. In other words, don't worry about what they are up to, just figure out what reforms are needed, and organise to achieve them.

  4. Is a point for discussion how much actually economic theory affects policy and how much is the other way around (or how politics affects theory and academics).

    Is popular in heterodox academic circles to attack mainstream (is their job, after all), but I doubt this is going to really change much even if they became academically victorious.

    The policy space is dictated directly by the political reality, and the political reality is dictated by the ideological reality. In example, as long both politicians and citizens believe that money is some "scarce commodity we need to acquire from <...>" it will be impossible to get a more functional finance approach to economic policy.

    No amount of talking from academic circles will change, as the public (and politicians by extension) are oblivious to them because different reasons. This happens in other areas than economics too where there is scientific consensus and yet politicians and society manage to do the wrong thing.

    1. I had a comment along those lines, but it no longer fit, so I axed it. My example was how Simon Wren-Lewis (a mainstream economist, if the reader is unaware) is horrified by the UK Conservatives' embrace of austerity.

      I dropped my longer discussion of the political economy as my views are somewhat unusual. I am a Canadian Prairie Populist, which is a political strategy that does not have counterparts elsewhere. From my vantage point, mainstream economics is best described as anti-populist. There is no objection to the form of economic organisation, so long as technocrats from the right universities are the ones making the decisions. They could be working for large corporations, independent bodies that override elected officials (independent central banks, or independent fiscal review boards that Wren-Lewis supports), or even Soviet-atyle central planners. However, decisions made by non-technocratic politicians or small business people are unacceptable, since these people tend not to have the correct degrees from the correct universities.

      The book makes a quite similar argument, but it would have been impossible to fit in the discussion and differentiate Pilkington's views versus mine. I would have to reread what he wrote extremely carefully to see the difference between what he wrote, and my views (which I am probably projecting onto the book).

  5. Fair review. A few specifics I'll say a word or two on.

    (a) Do mainstream economists not take their theories seriously? I agree with you. They increasingly probably do not. But that is precisely why they need to be attacked now. Because they are so weak. It is clearly a decaying research program and could be replaced with something better.

    (b) As to lack of consistency, I am actually less interested in that (see: pp87-90) than I am with the manner in which models are constructed and assumptions are buried.

    (c) On Paul Samuelson, I think that everyone who takes an economics course at undergrad level will see what I'm getting at. It is Samuelsonian economics that is taught. I agree that most policy types and macro people don't use this stuff much but the book is mainly aimed at students.

    (d) On interest rates. I actually have an equation in the book that integrates the risk free rate and credit spreads. It is the second equation on page 245. I see the main innovations in this chapter as laying out a theory of power-determined interest rates (pp245-249) and showing how the mainstream theory relies on the EMH.

    Thanks for the interest though. Appreciate it. And look forward to discuss the differences on the determination of interest rates.

    1. B) On the internal consistency discussion of the article, my intent was to use the term in a very broad sense, such as which assumptions are used, or what are the allowed methodologies. That is, attempts to discuss mainstream theory purely in terms of theory, and not by appealing to empirical data. I know realise that is how I should have expressed myself...

      Why I make this division is the slipperiness of defences against criticism, Criticism of model X does not apply to model Y because there is some slight difference between them, or that saying criticism W does not apply to "mainstream economics" because there is a model somewhere in the literature that answers that objection. (For example, one is not supposed to argue that DSGE models do not include a financial sector, since there is some crippled model somewhere which attempts to model the financial sector.)

      C) I guess I am looking at this from the lens of someone who left being a student behind long ago. My concern is the "oh that objection was covered years ago, you're obviously ignorant of the vast literature" defense, which has been the standard reaction I have gotten to my writings. As such, I am biased to worry about whatever the latest fad is, so at least I sound relevant. Obviously, that's trying to hit a moving target, and not very satisfying academically.

      D) My comments about interest rates were impressionistic, and I hope the review made that clear to my readers. I really would need to roll up my sleeves and discuss the section in detail. I think one issue is that you are discussing the general case of interest rate determination across institutional forms, and I am normally fixated on the modern bond markets, where the EMH does appear to rule. I would certainly not argue that Roman banking followed the EMH...

    2. Haha! Certainly not applied to Roman banking no!

      Although I think a strict neoclassical interpretation WOULD assume that the EMH applied to Roman banking! :-D

  6. Did the Council of Nicaea ever really end, the Babylonian debates, or the priesthood overseeing a small deities daily needs whilst administrating (tm) the unwashed....

    Skippy... and was there any concern about testability - ?????


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