Book review of Asensio, Angel: Macroeconomics After the General Theory: Fundamental Uncertainty, Animal Spirits and Shifting Equilibrium in a Competitive Economy

Journal Article Confidence, Crashes and Animal Spirits Get access Roger E. A. Farmer Roger E. A. Farmer UCLA Search for other works by this author on: Oxford Academic Google Scholar The Economic Journal, Volume 122, Issue 559, March 2012, Pages 155–172, https://doi.org/10.1111/j.1468-0297.2011.02474.x Published: 20 October 2011 Article history Received: 04 January 2010 Accepted: 05 July 2011 Published: 20 October 2011

How Confusing Keynes's Normative Decision Theory in the a Treatise on Probability and General Theory with Kahneman and Tversky's 'Heuristics and Biases (Errors)', Descriptive Theory Leads to Complete Confusion

On the Post Keynesian (J. Robinson, GLS Shackle, R. Skidelsky) Attempt to Substitute J M Keynes’s 1937 QJE article, The General Theory of Employment for J M Keynes’s 1936 General Theory: Their Attempt was completely Destroyed in the Keynes-Townshend Exchanges of 1937-38

The term animal spirits has returned to academic and public discourse in a way which departs significantly from the original use of the term by Keynes. The new behavioural economics literature uses the term to refer to a range of behaviour which falls outside what is normally understood as rational. This treatment follows from the mainstream dichotomisation between rationality and irrationality. However, Keynes explained that, given fundamental uncertainty, rationality alone was insufficient to justify action. Animal spirits was the name he gave to the (psychological) urge to action which explained decisions being taken in spite of uncertainty; animal spirits for him were neither rational nor irrational. Nor are they beyond analysis. We explore how the nature and role of animal spirits can vary according to context (as between different sectors, types of firm and within firms). This analysis indicates ways in which policy can promote structural change to strengthen animal spirits in the long term as well as offset short-term weakening in animal spirits.

The Keynes' "General Theory", published 80 years ago, overthrew the neoclassical orthodoxy and created a new understanding of how market economy works. The main idea of the "General Theory" is that the amount of employment depends on the level of effective demand. Keynes believed that much economic activity is governed by "animal spirits" because of the existence of inescapable uncertainty about the future. In Keynes' view these "animal spirits" are the main cause for economic fluctuations. The uncertainty and "animalspirits"make investments unstable. He made distinction between risk (which is measurable) and uncertainty (which is not). This is the reason why Keynes opposed the excessive mathematicization of economics. His another important impact on economics was to switch the focus of economic analysis from the long run to the short term. The message of "General Theory" was that government should manage demand to limit economic fluctuations. The role Keynes gave the state was essentially to reduce uncertainty and to make economy more predictable.

One of the major problems in neo-classical economics has been how to identify the conditions that ensure the existence of equilibrium in an economy. A great deal of work has concerned itself with weakening the conditions required for equilibrium in a competitive economy; relatively little research has, however, examined the possibilities for its existence in economies with fundamentally different rules of behaviour. A number of articles have examined what are essentially competitive models with non-competitive elements in them, in particular with the presence of a governmental agency that collects and redistributes taxes and, in some cases, produces public goods. Shoven (1976) and Shoven and Whalley (1972, 1973) assume private production under competitive conditions and a government that acts purely as a tax collector. Diamond and Mirrlees (1971) consider only public production and introduce a special tax on labour income and a tax on the aggregate value of transactions in certain selected commodities. Fourgeaud (1969) has a more complicated model in which, with the usual assumptions about motivations of the firm and the consumer, there are ad-valorem taxes on the sales and purchases of commodities, the tax rate being the same in both cases, a proportional profit tax, and a tax on fixed income. He also assumes that labour is inelastically supplied and that government administrators have preferences on the production of public goods. In Mantel (1975) the government has preferences on public goods and private consumption, and consumer preferences are interdependent, and Foley (1970) assumes that consumers decide upon a tax scheme to produce the public goods that they desire, and that the level of production of public goods affects the levels of production and consumption of private goods. In this paper we construct a one period model of a very non-competitive economy, one that is based upon a traditional Soviet-type system, and examine a modified notion of equilibrium in it. The model differs from those analysed in the papers we have just mentioned in several aspects, the most important of which we may briefly discuss before we begin the consideration of the model itself. Producers in our system are not profit maximizers, but rather have quantity oriented incentive functions. The concept of profits only enters as a constraint imposed by the central planners upon producers in order to restrain them from producing outputs that would require excessive subsidies. The system of turnover, profit, and income taxes that we shall describe has a role in this Soviet model unlike those taxes in the various competitive models, since in each of those models the competitive solution without taxes is always a feasible solution, and, indeed, guarantees the nonemptiness of the solution set. In our case, however, the tax scheme is an essential part of the planning procedure, since without it, as we shall see, there would not be an equilibrium

Since the seminal work of Kydland and Prescott and Abreu, Pearce, and Stacchetti, researchers have sought to develop correspondence-based monotone continuation methods for constructing pure strategy sequential (subgame perfect) equilibrium, and/or pure strategy Markov perfect Nash equilibrium in classes of dynamic games. These are "strategic dynamic programming" methods (or, the so-called "APS approach") for mapping between spaces of correspondences to (i) verify the existence of subgame perfect Nash equilibrium, as well as (ii) suggesting explicit methods for computing approximate solutions. In the last decade, economists have attempted to extend these APS methods to study competitive equilibrium in dynamic general equilibrium models. In this line of work, emphasis has both been on analyzing sequential competitive equilibrium, as well as Markovian or recursive equilibrium. In this paper, we reconsider recent results reported in this emerging literature using "APS methods" for the existence and computation of recursive/Markov competitive equilibrium in nonoptimal competitive economies using function-based APS methods. And, to keep things simple, we consider these questions in the setting of a simple one-sector nonoptimal growth model with a state-contingent tax. We find several interesting results. First, we extend the uniqueness result for continuous Markov equilibrium for the policy iteration method proposed by Coleman to a larger class of functions (i.e., spaces of bounded functions). However, despite this generalization, there exist other fixed point procedures that potentially construct continuous Markov equilibrium that exist outside this set. This result shows the delicate nature of existing uniqueness results in the literature even for the simplest nonoptimal models. Next, we extend Coleman's policy iteration approach to prove existence of (locally Lipschitz) continuous recursive equilibrium in economies previously thought not to possess them. Specifically, we show the delicate nature of the existing correspondence-based continuation APS methods. In general, these APS methods do not verify the existence of recursive equilibrium (even for simple one-dimensional cases). Also, using constructive arguments, we show that even when existence of Markov equilibrium is known, the solutions to the abstract functional equations considered in the APS methods of Miao and Santos admit solutions or selections that are not necessarily Markov equilibrium. This is a serious problem for numerical work. In particular, even when existence of Markov equilibrium selections exist, our results show that current APS procedures for competitive economies do not, in general, provide a rigorous method for constructing or approximating a recursive equilibrium selection from the limiting (greatest fixed point) "equilibrium" correspondence even for very simple economies. To remedy this situation, we propose a new APS method with correspondences valued in function spaces which succeeds in verifying the existence of a recursive equilibrium. This method defines an interval approximation method (valued in function spaces) that provide, in principle, an explicit method for computing and characterizing continuous Markov equilibrium.

The past decade has seen a number of advances in modelling disequilibrium dynamics. This paper draws on separate approaches to disequilibrium dynamics to demonstrate a Keynesian result concerning the formal relevance of “animal spirits” in production economies. Specifically, it is shown that a parameter that can be associated with the “animal spirits” of firms is crucial to the stability of full employment equilibrium in a production economy. This approach to “animal spirits” is different to that taken by recent New Keynesian DSGE-type models, but similar in spirit to “Old Keynesian” approaches, including that of the General Theory. The corollary of the main conclusion is that price flexibility is not a sufficient condition for convergence on full employment equilibrium.

Joan Robinson Was the First Bastard Keynesian: There Is No ‘Perhaps’

This paper explains the connection between ideas developed in my recent books and papers and those of economists who self-identify as Post Keynesians. My own work is both neoclassical and 'old Keynesian'. Much of my published work assumes that people have rational expectations and that 'animal spirits' should be modeled as a new fundamental. I adopt a general equilibrium framework to model the macroeconomy. But although I write from a neo-classical tradition the themes I explore in my published writing have much in common with heterodox economics. This paper explains the common elements between these seemingly disparate traditions. I make the case for unity between Post-Keynesian and General Equilibrium Theory under the banner of Post-Keynesian Dynamic Stochastic General Equilibrium Theory.

The Vitality of Animal Spirits for Market Economics

This paper begins by examining Robert E. Lucas’s views on the relationship of macro-economics to real world economic phenomena, and on Keynes’s place in its history, suggesting that these stem from a particular and debatable understanding of how the sub-discipline has evolved. It then considers some implications for today’s awkward economic facts of aspects of Keynes’ General Theory, its speculations about the role of psychology and social conventions in the economic decisions of individual agents recently highlighted by Akerlof and Shiller (Animal Spirits. Princeton, N.J.: Princeton University Press, 2009) under the label “animal spirits”, as well as its insights into the influence of the monetary system on the coordination of these decisions, along lines later extended by Clower (The Keynesian counter-revolution – A theoretical appraisal. In F. H. Hahn, F. R. P Brechling (Eds.), The Theory of Interest Rates. London: Macmillan, 1965) and Leijonhufvud (On Keynesian economics and the economics of Keynes, Oxford: Oxford University Press, 1968). It concludes that the questions about co-ordination that Keynes addressed, not to mention some of his answers, are well worth revisiting.

Brouwer's fixed point theorem cannot be constructively proved, so the existence of an equilibrium in a competitive economy also cannot be constructively proved. On the other hand, Sperner's lemma which is used to prove Brouwer's theorem is constructively proved. Some authors have presented a constructive (or an approximate) version of Brouwer's fixed point theorem using Sperner's lemma. In this paper, I prove the existence of an approximate equilibrium in a competitive economy directly by Sperner's lemma. Also I show that the existence of an approximate equilibrium leads to Sperner's lemma. I follow the Bishop style constructive mathematics according to Bishop and Bridges (1985), Bridges and Richman (1987), and Bridges and Vîţă (2006).

Clower and His 'The Effective Demand Fraud': An Example of What Happens to a Competent Economist Who Takes Joan Robinson's Myth of Keynes As a Marshallian Seriously

As noted by Alan Greenspan in 2008, one key flaw in standard models is that they treat animal spirits as a simple ‘add factor’ rather than as a structural one. This paper evaluates the extent to which two recent approaches placing the emphasis on animal spirits – namely Farmer’s ‘Neo-Paleo-Keynesian’ (NPK) project and Akerlof and Shiller’s behavioural approach – manage to overcome this flaw. By following the powerful religious metaphor introduced by Farmer, according to which general equilibrium theory underlying standard models should be regarded as a ‘church’, this paper stresses two points. First, animal spirits turn out to be devilish features that are inconsistent with the church’s commandments. Second, by trying to reconcile them with the church, these two approaches are unable to truly reform it as required by Greenspan; rather, they appear to be heretical stances that are forced to violate some fundamental dogmas of the church. JEL codes: E12, E13, E32 Keywords: Animal spirits, general equilibrium, research programmes, Keynesian economics, macroeconomic models