In my column for the May 28th, 2009, edition of the Pittsburgh Tribune-Review I criticized many of my fellow economists for focusing excessively on aggregate demand and too little on the importance of the coordination of plans. You can read my column beneath the fold.
A demand for coordination
As a discipline, economics is counter-cyclical. Economics woes stimulate the demand for pronouncements and predictions by us economists. For me, personally, this fact is all to the good. I’m happy to see my speaking and writing fees go up during this downturn.
But I’m unsure if society at large is served well by all this rapt attention now paid to economists.
It’s not that my fellow economists and I have nothing useful to say about the economy and its current struggles. We do. Or, rather, some of us do. One problem with a higher demand for economic talking heads (and typing fingers) is that too many economists are, well, poor economists. And taking advice from poor economists is worse than taking no advice at all.
One of the most common weaknesses shared by many economists today is belief that economic slumps are caused by too little “aggregate demand” — that is, too little total spending by consumers and investors. The reasoning is simple: If consumers won’t buy, producers won’t produce; if producers won’t produce, producers won’t hire.
The solution, therefore, is obvious: Government should increase its demand for private-sector output. It does so best (the argument continues) by running deficits. By raising “aggregate demand,” deficit spending by government results in a booming economy with a fully employed work force.
What could be more obvious?
Trouble is, in this, as for many economic phenomena, what is obvious isn’t necessarily true.
A healthy economy works because each piece of it is well-adjusted to the whole. The shoe retailer in the mall, the steakhouse downtown and the professional sports team in the city are sustainable economic entities only if they supply goods and services that consumers want badly enough to pay prices that cover the costs of producing these things.
The same is true for each Web designer, newspaper columnist, church pastor, architect, welder — the list is practically without end.
When inputs and workers are used in consumer-friendly ways, economies thrive.
These “consumer-friendly ways,” it’s vital to note, are mind-bogglingly complex. Think, for example, of how many different tasks must be coordinated to ensure that your local bagel store is full of bagels in the morning. Someone — actually, many someones — was awake baking bagels while you were sleeping; someone else designed the ovens in which the bagels were baked; yet other, different persons worked together to build these ovens. Still other persons grew the wheat, mined the salt and supplied the other raw ingredients in your favorite bagel. Those ingredients had to be shipped to a single location so that they could coalesce into a bagel, so yet other people drove the trucks and piloted the ships that carried these ingredients to where they were needed to create valuable bagels.
The coordination of economic activities necessary to ensure regular supplies of the apparently mundane bagel involves millions of people, countless machines and mountains of raw materials. This coordination is doubly remarkable when you reflect on the fact that the price you pay for a bagel is just a buck or so.
Fortunately, when markets are reasonably free, with prices able to rise and fall to reflect consumer demands and resource scarcities, this coordination works with amazing regularity. Never perfectly, of course, but the fact that you can buy bagels whenever you wish testifies to its success.
Economies stagnate and decline when this coordination falters — when farmers grow too little wheat; when too many trucks that can be used to carry salt to kitchens are instead diverted to other tasks that are less valuable to consumers; when entrepreneurs are misled into thinking that consumers would prefer more English muffins and fewer bagels. The scope for miscoordination is huge.
So economic stagnation is not caused chiefly by a deficiency in total demand. If it were, then sub-Saharan Africa could be made rich very quickly, simply through massive government spending in those countries. Such spending has occurred; such riches have not.
Instead, economic stagnation is the result of something causing an unusual amount of miscoordination in the system. It’s the result of an uncommonly widespread degree of failures of resources to be adjusted to serving the demands of consumers.
What is that something? Only by identifying it, and how it malfunctioned, can we hope to understand how to correct the current problem and avoid future recurrences.
Chances are that “something” is found throughout the system — not like, say, fishing boats or furniture manufacturers, which are relatively localized. But more like money, which is involved in nearly every transaction.
As I’ll explain in my next column, my money is on bad monetary policy as the chief culprit.
