AM19M8 Conclusions

Questions

1 List three fundamental flaws of capitalism. Explain how and why traditional textbooks teach that these flaws do not exist, that market economies lead to best possible outcomes -- the difference between the Keynesian perspective and the Smithian perspective. Explain how this ostrich attitude prevents us from recognizing problems and prevents us from taking steps to correct them, which is one of the reasons for the GFC. Explain also how this illustrates "entanglement".

Answer:

Three Fundamental Flaws of Capitalism:

Keynes: Capitalism creates unemployment and increases inequality. These two are interlinked, inequality leads to more income in hands of the rich, who have higher Marginal Propensity to Save (MPS). This will result in fall in demand and can instigate recession.

Minsky: Financial capitalism is inherently fragile. Permanent stability cannot be achieved. However, Instability can be constrained to a degree by apt use of fiscal and monetary policy.

The conventional textbooks of economics do not acknowledge the existence of these flaws. They specify only two paths to understanding macroeconomy: (1) Smithian theory that markets and non-intervention leads to equilibrium which is the best outcome that can be expected for enhancing public welfare, and (2) Keynesian theory capitalism may lead to recession due to fall in effective demand, which is detrimental for public welfare. However, this is generally, followed by theories like Monetarism, Real Business Cycle and Rational Expectations that criticize Keynesian Theory and justify the supremacy and inherent stability of capitalist system.

This attitude makes economist and policymakers ill-prepared for an eventual crisis, since the dominant theory predicts that it is not going to happen. Before GFC many economists declared that now stability is achieved permanently, leading to loosening of financial controls and criminally, indiscriminate lending practices and banks and financial institutions. This eventually led to the GFC.

The dominance of Smithian theory lies in the historical rise of capitalism in the 18^th century. This theory favors the owners of capital and justifies inequality in the basis of efficiency argument. In today’s corporate world the Multinationals require theoretical support for questionable business practices that rely on exploitation of labor and natural resources and permissive governance. The Classical and New Classical economics provide such a support, which results in these views being dominant in popular theoretical discourse. Although alternative views like that of Keynes and Minsky are also there but the theory that wins out in the end remains the one that suits the top 1%. Therefore, we see that entanglement of theory and circumstances today. Where vested interests give rise and prominence to a particular theory and that theory in turns provides support to the financial system, corporate culture and governance that serves the vested interests.

2. Explain why institutional and historical context means that Pakistan economic theory would be different from theories of capitalist economy developed by studying the US economy. Try to give some particular examples of what would be important differences. Why does conventional economic theory pretend otherwise, presenting a universal theory applicable to all economies?

A: Minsky recognized that there are many varieties of capitalism, there is not one system. There are 57 varieties of it. There is no such theory which works for all of them as some theories are wrong and some are too general to be of any use. What we have studied will not work for Pakistan because Pakistan is his own form of capitalism but if we study these tools than we can apply the methodology to think about what happens in. General theories are either completely wrong like conventional macro theories are completely wrong DSGE, Real Business cycle model, all these theories ignore the financial sector. In all the 7 schools of thoughts of macro banks, Finance and stock market are irrelevant. So, all the things which basically derive the economy are not present in the macroeconomic theories. What type of theory can apply to the tribal society and to the peasant society, small government capitalism and a big government capitalism and financial sectors with large variety of different things, there is no such theory.

So, the economic theory which pretends to be applicable to all economies at once must be wrong it cannot be right unless you include institutions in the economy. All the important factors like market structure, banking system and the prices in the economy are to be considered to analyze the economy of Pakistan. without taking into account all these we will only get an illusion of understanding.

3. Use the Global Financial Crisis to illustrate two basic principles -- Arrighi: History is driven by capital seeking greater returns and Minsky: Capitalist economies tend towards increasing fragility

History is driven by multinational corporation. Either rules are not made against them or even if mae are not implemented. See all the wars, Money seeking capitalists are behind them. Look how they supported Taliban and the anti-Taliban for the sake of money.

Capitalist economies get financial power day by day. Bank trust them and give them huge loans. They invest in risky projects. Mortgage backed securities are example. Shadow banks are forms. They start casinos and so increase global risk. Complex packaging of CDO’s is a risky process. Economy tends towards increasing fragility.