The Left-Wing Case For High Oil Prices

In a previous post I outlined the debate over whether speculation is playing a role in the oil market. While I didn’t really make a case there as to which side of the fence I fall on — although it should have been pretty obvious — I’ll admit right off the bat here that I think speculation is playing an enormous role in the oil markets. Again though, both sides of the debate already have their arguments laid out, not to mention the fact that financial news outlets regularly cover what is going on in the oil markets (and if you want to pretend that these reports don’t matter do come to the debate wearing your tin foil hat, please…). So, let’s take a different tack.

A lot of people on the left don’t seem to respond to the speculation argument and at the same time the stench of Peak Oil is almost always hanging in the air. Paint me a conspiracy nut, but I don’t think these two things are not connected. I’m not saying that every person on the left who denies that speculation is playing a role in the oil market is a Peak Oiler — although nor am I saying that there are not a substantial number of closet-case Peak Oilers on the left, as I know this to be true — but what I am saying is that the two narratives appeal to the same underlying desire. Which is why I think we should ask the question; or, rather, bring it out into the open: is there a left-wing case to favour high oil prices?

Okay, well let’s lay out the left-wing case against high oil prices first. This should be a cinch. Higher oil prices lead to an erosion of real income through price inflation. When oil prices are high working folks pay more at the pump; they also pay more for their heating and electricity and so on. This makes them poorer — and it makes Big Oil and Wall Street speculators richer. What’s more, since more of peoples’ real income is being drained off into the coffers of Big Oil and Wall Street this means they have less purchasing power to spend on other goods and services. This means lower aggregate demand in the economy as a whole and this affects employment. Lower employment means lower wages, and so on. We all know this story.

So, what is the left-wing case for high oil prices? Well, first of all, we have two simple words: global warming. If oil prices are high due to scarcity, as the Peak Oil crowd and their allies would have us believe, then eventually there is going to be a Day of Reckoning where we’re all going to have to stop driving cars and go out and farm vegetables on the back of solar-powered horses… or something. Okay, I’m being facetious, but you get the point: if oil is running out then we can assume that there will be some forced transition to some post-carbon society.

To me, that’s a pretty fantastic thought — which is not to say that some don’t think it. But let’s go for something more reasonable. Even if we don’t get some global hippy commune situation, if oil prices rise then green technologies will become a more attractive investment. So too will technology that uses less oil. Cars will become more efficient. Home insulation will become more effective. This is not conjecture. Where do you think all those first generation micro-cars came from in the late-70s and early-80s? Japan, of course, but they were in response to the oil price hikes of the 1970s.

See? That’s actually a pretty attractive option for someone interested in the environment, isn’t it? A person with a green thumb and a big heart might actually reasonably make the argument that in the long-run we’re better off with high oil prices even if these are coming from speculators who are stuffing wads of working peoples’ hard earned money into Big Oil in order to prop up oppressive regimes in the Middle East. Perish the thought!

There’s another reason too. Many on the left have a bit of a love affair with the more left-wing leaders in Latin America. But everyone know that these guys can’t survive without high oil prices. That’s effectively what is paying for their social programs. So, in today’s world — and everyone should note the irony here — the Revolution may well be being fueled (literally) by speculators on Wall Street. If the oil price came down for any lengthy period countries like Venezuela and Bolivia (natural gas prices are tied to oil prices) would run out of excess foreign exchange reserves and massive inflation would either pick up or worsen as imports rose in price.

A couple of things here before I sign off. First of all, I am sympathetic to both environmentalism and, to some extent at least, the revolutionary left in Latin America. However, I don’t think we should delude ourselves. Both of these causes are being propped up by high oil prices. That makes it tempting to believe that these oil prices are natural — and even that they are going to rise even higher in the future. I am not saying that people on the left are lying here and hiding behind spurious arguments. I have no doubt that they are being genuine — even though I find their arguments highly spurious. I just ask people to consider that there is a deep political contradiction at the heart of high oil prices: what is good for the environment and the revolutionary left is bad for working and poor people trying to earn a living the world over. We should not forget that.

Oil Price Speculation: An Interesting Battle

Over the past decade or so a silent war has waged between sometimes obscure, and sometimes not so obscure, parties. The war is over what has caused the run-up, since 2003, of oil prices. I’d actually been fairly interested in this for quite some time but I’d never got around to doing a proper survey of the literature. Well, now I have and the results are somewhat surprising. In what follows I will just pull out what I think to be some of the more interesting results of this survey.

Okay, so who is saying what? Well, those who claim that speculation is a big deal in the markets generally say that a massive influx of speculative capital into the futures markets is leading to a run-up in futures prices. This run-up in futures prices is then leading producers to pull back on production because they expect the price of their oil to rise in the near future. This then turns out to be something of a self-fulfilling prophecy and what we get is a spiral of profit for bullish futures speculators and hoarding oil companies.

(There is actually an alternative theory to this among those who think that speculation is driving the price. This is the one put forward by Izabella Kaminska and Chris Cook. They reckon that oil, together with other commodities, are being used as a sort of inflation hedge. I won’t get into this interesting theory too much here because I’m more interested in a “who said what when” sort of story here, but needless to say the effects are the same as the above story, but the motivations and the contracts used are a bit different.)

Well, that’s what people are saying but who are these people? Actually, we’ve got some pretty surprising characters who turn up here. We have a few hedge fund managers. One of whom is Mike Masters who famously testified to the Senate in 2008. I had already been aware of Masters and his report for quite some time before I started digging into the literature and I’d long known that he was seen as a bit of a pariah by the rest of the finance industry who often paint him as a dirty market manipulator.

There are some academic types who push the speculative line too. But what’s really surprising is that some big names are also card-carrying members of the “speculation” club. First of all, we have two economists called Luciana Juvenal and Ivan Petrella at the St. Louis Fed who, in a 2012 paper entitled Speculation in the Oil Market write that:

As before, global demand shocks are the most important driver of oil prices, accounting for up to 45% of oil price fluctuations. Speculative shocks are the second most important driver, explaining up to 13% of oil price movements. The oil inventory demand shock is particularly important on impact (13%) but decreases to 4% at longer horizons. The oil supply shock is the least relevant driver, explaining less than 9% of the variation in oil prices at all horizons… The speculative shock affects the incentives faced by producers, who lower oil production in anticipation of perceived increases in the price of oil. Therefore, it is expected that speculative shocks play a role as a driver of oil production. In fact, they explain around 20% of oil production fluctuations. The large effect of speculative shocks on oil production can be attributed to the fact that the speculative shock resembles a managed supply shock in the presence of higher expected prices. (pp22)

13% of price fluctuations and 20% of production fluctuations are caused by speculation? Well, that ought to ruffle a few feathers within the Fed, right? Wrong. Because their inspiration comes from a pretty senior figure within the Fed. You might know him. His name is Ben Bernanke. In a 2004 speech Bernanke said that:

(…) speculative traders who expect oil to be in increasingly short supply and oil prices to rise in the future can back their hunches with their money by purchasing oil futures contracts on the commodity exchange. Oil futures contracts represent claims to oil to be delivered at a specified price and at a specified date and location in the future. If the price of oil rises as the traders expect more precisely, if the future oil price rises above the price specified in the contract they will be able to re-sell their claims to oil at a profit. If many speculators share the view that oil shortages will worsen and prices will rise, then their demand for oil futures will be high and, consequently, the price of oil for future delivery will rise. Higher oil futures prices in turn affect the incentives faced by oil producers. Seeing the high price of oil for future delivery, oil producers will hold oil back from today’s market, adding it to inventory for anticipated future sale. This reduction in the amount of oil available for current use will in turn cause today’s price of oil to rise, an increase that can be interpreted as the speculative premium in the oil price.

Interesting, right? Before I started looking into this I thought that this was an argument coming only from a few left-leaning economists — mostly Post-Keynesians — a few renegade hedge fund managers and a couple of policy wonks at the Commodities Futures Trading Commission. Not so. It would seem that the man with the beard is on board too — although he certainly hasn’t been shouting this view from the rooftops since he took over the reigns.

Honestly, I didn’t think much of the St. Louis Fed report — which is an econometric study plagued with all the problems that all econometric studies are plagued with — but its fascinating to see that central bank economists and, indeed, central bankers are espousing a causal theory that is deeply heterodox. Okay, so they don’t seem to realise the theoretical implications of what they’re saying. But they’re still saying it nonetheless.

Another report worth note in the “speculation” camp is a thorough report prepared by the Permanent Subcommittee on Investigations of the Committee on Homeland Security and Governmental Affairs and presented to the Senate in 2006. I thought much more highly of this report than the St. Louis Fed study as it takes a far more intuitive and no-nonsense approach than the clunky econometrics of the Fed study. Again, the causal mechanism argued is the same. As to summarising the report, I will just leave the reader with the following graph — one which should be examined while  keeping in mind that crude oil had gone from about $30 a barrel in 2003 to about $70 a barrel in the period covered in this graph:

Pretty striking, no?

Okay, so who are the opposition? Well, it seems to me that its mainly academic neoclassicals. A good characteristic example is a 2012 paper entitled The Role of Speculation in the Oil Markets: What Have We Learned So Far? by the economists Bassam Fatouh, Lutz Kilian and Lavan Mahadava. The authors survey a good deal of the other arguments and pick away at them in what strikes me as a somewhat unconvincing display — you know the drill: pick at minutiae that don’t strike the reader as important while throwing around a few casual “yes sure, buts…” every now and again. They do make one interesting point though (note that they refer to the speculative hypothesis as the “Masters hypothesis” after Mike Masters):

It had been academics that were reluctant to embrace Masters’ hypothesis rather than policymakers. In fact, the prevailing orthodoxy among policymakers had been precisely the position [that speculators are playing a role].

This is an interesting observation and strikes me as being quite true. The arguments against the speculative hypothesis tend to come in highly abstract form — usually dodgy “black box” econometrics studies — while the arguments for the speculative hypothesis tend to be quite clear and presented by practical sorts of people who actually work in these markets day-to-day. There are exceptions to this — there are dodgy “black box” studies on the speculative side and many “pragmatic” tinkerers working in the financial industry who are convinced Chinese demand is driving price — but as far as the main battle-lines are drawn I don’t think that Fatough, Kilian and Mahadava’s characterisation is inaccurate.

Am I going to resolve this dispute right this moment? No, that’s not the intention — although my biases are probably by now clear. However, I do want to raise two important points. First of all, the oil price debacle has led some very mainstream figures to make some very heterodox arguments — ones which, I would argue, have massive implications for how we should theorise not just financial markets but all markets. Secondly, the manner of argumentation by both sides is fascinating. The speculative crowd remind me of the Post-Keynesians during the monetarist debates, who picked over institutional details to figure out how the money system actually worked. While the anti-speculative crowd remind me of the monetarists, with their big clunky regressions and their lags trying to show the “real causes” using a mass of data thrown in a blender. Food for thought, if nothing else.

And with that, I’ll leave folks with Masters himself… of the infamous and ominous-sounding “Masters hypothesis” (see if you spot the journalistic stitch-up towards the end by the financial channel Bloomberg news which, if you know how these things work, you will recognise as an editorial decision and not the decision of the journalist who does her job properly):

Update: Since writing this post I have come to realise that the chart presented to the Senate Subcommittee shown above is actually quite misleading. I have since discussed and corrected this here.

Economics as Social Organisation: Why We Should All Be Relativists

What if all the world’s inside of your head
Just creations of your own?
Your devils and your gods
All the living and the dead
And you’re really all alone?
You can live in this illusion
You can choose to believe
You keep looking but you can’t find the woods
While you’re hiding in the trees

— Nine Inch Nails, Right Where It Belongs

As I make my way through Lars Syll’s series on probability and economics I have also done a bit of digging into his academic work. Let me first say that while I fundamentally disagree with his overarching philosophy — which he refers to as “critical realism” — I nevertheless agree with him on almost every other issue. I also recognise that he is a highly competent economist and philosopher whose work I find extremely stimulating. That said, focusing on agreement is so much less interesting than focusing on disagreement, so let’s turn to the latter.

Let me first of all state clearly what sort of philosophical position I conceive myself as representing. I would broadly call it post-structuralist, others might call it postmodernist, but I think this position actually encompasses a history that includes the likes of David Hume and George Berkeley. That is a fairly controversial statement, of course, and I do not hope to back it up here, but I only make it because I believe that economic philosophers — including Post-Keynesian economic philosophers — don’t actually understand what they call postmodernism. Rather than engage with the work of, say, Jacques Lacan, Claude Levi-Strauss or Michel Foucault they rely on what can only be called a caricature of this lineage of thought — one which they portray as some sort of simple nihilism (a charge, oddly, never really applied to David Hume whose philosophical skepticism was easily more profound than, say, Lacan’s — who would have thought such a level of skepticism indicative of neurosis).

In a paper entitled Capturing Causality in Economics and the Limits of Statistical Inference Syll summarises his philosophical position which he contrasts with that held by some neoclassicals. He first quotes Chicago School economist and econometrician James Heckman as writing:

A model is a set of possible counterfactual worlds constructed under some rules. The rules may be laws of physics, the consequences of utility maximization, or the rules governing social interactions … A model is in the mind. As a consequence, causality is in the mind. (Emphasis Syll’s)

Syll then makes his case against this position as follows:

Even though this is a standard view among econometricians, it is – at least from a realist point of view – rather untenable. The reason we as scientists are interested in causality is that it’s a part of the way the world works. We represent the workings of causality in the real world by means of models, but that doesn’t mean that causality isn’t a fact pertaining to relations and structures that exist in the real world. If it was only “in the mind,” most of us couldn’t care less. The reason behind Heckman’s and most other econometricians’ nominalist-positivist view of science and models, is the belief that science can only deal with observable regularity patterns of a more or less lawlike kind.

Frankly, I don’t think that Syll’s criticisms stand up here. For one, there is no reason why “if it were only ‘in the mind,’ most of us couldn’t care less”. I see no justified reason that this might be the case. Emotions, for example, are clearly “only in the mind” and I know of very few people who would not care less about their emotions. Also, I see no reason why if I believe that reality is mediated through human perception to such an extent as to make the idea of an external world, at best, misleading, at worst, logically nonsensical that I should as a consequence “not care less”. In fact, I do think this; and I certainly do care a great deal about what is going on in the world — as people who have read my posts on the Financial Times website can attest to.

The second point that Syll makes that I don’t think stands up is that the view of science and models that Heckman puts forward is due to a belief that science can only deal with “observable regularity patterns of a more or less lawlike kind”. Again, I fully agree with what Heckman is saying — although I probably disagree with him on just about every other economic and philosophical issue — and at the same time I do not think that economics need trade in observably regular patterns or lawlike relations. I see literally no reason to think this.

What is to stop me from thinking — as I quite genuinely do — that when a tree falls in the woods and no one is around to hear it that it categorically does not make a sound (unless we posit an omnipresent God) and at the very same time posit that there are no genuinely lawlike relations in the study of economics and that economic processes are nonergodic? I would say nothing. I hold both of these positions with equal conviction and have never found any logical reason that indicates they are mutually exclusive.

Where Syll and I differ is in our vision of what economics does. In his paper he writes that for the neoclassicals:

Only data matters, and trying to (ontologically) go beyond observed data in search of the underlying real factors and relations that generate the data is not admissable.

I largely agree with this viewpoint. For me data trumps theory in a heartbeat. Recently, for example, someone told me that a good deal of the US recovery was due to increased student debt. Theoretically I, and many other Post-Keynesians I know, thought this highly unlikely. But the data showed otherwise, so theory takes a back seat. But Syll seems to imply that this is a weakness of the neoclassical philosophy. I think it is no such thing. I just think that, because they misunderstand what economic data actually is and because they use extremely dubious methods of manipulating it, the neoclassicals abuse data and force it into constrictive a prioris — a point which Syll and I agree on.

At a fundamental level, I think that Syll and I have a very different idea of what data is — and this is also where I would say that I substantially differ from the neoclassicals on the data question. Syll seems to think that it is something externally given in the “external” world. I think it is nothing of the sort. Data is a human construction, put together using conventions (usually accounting conventions in economics) that are invented by people. Data is a constructed tool and the methods used in its construction — from the National Income and Product Accounts to the Flow of Funds — are also tools.

This leads to a broader disagreement about what economics actually is. For Syll I gather that it is a means to understand the world — “the world” here understood as something external to the observer. For me it is nothing of the sort. For me economics is a manner of organising the world. Again, it is a tool.

If I am trying to understand where the stock market is going to likely be a year from now, I am doing so in order to organise my investment portfolio or to advise others how to organise theirs’. If I am advising a government on a stimulus program I am trying to organise the level of employment and effective demand — both of which are just concepts that we invent to organise the world and not things, by the way. Economic theory and data are then deployed to help us achieve more effective ways of organising our lives — whether at the level of the individual portfolio or at the level of the macroeconomy.

This is, I would argue, the nature of all human knowledge and cognition. When I line my shoes up in my wardrobe I am effectively imposing some order on what I perceive to be reality. In doing so, others can encounter my particular mode of organisation — although they will likely view it in a totally different way. When we are engaged in economic reasoning we are doing exactly the same thing.

Does this mean that all economic reasoning is equally valid? Does the supposed scourge of such a so-called postmodern stance mean that the theory of every monetary crank is as good as Post-Keynesian theory? I see no reason why this should follow from what I have just written. If a person decides not to line up their shoes in their wardrobe but instead leaves them on the doorstep and then, when their shoes are constantly stolen, they complain about this but nevertheless continue to leave them on the doorstep, it is clear that their approach to shoe organisation is less effective than mine. Just because perceptions are relative from the philosophical angle that I am describing, it does not follow that all are equally valid.

Again, this is a deep misunderstanding of the perspectivist and relativist position that is often associated with postmodernism — and which was indeed espoused by certain political radicals who took over post-structuralist ideas. Such a position does not entail that every statement and every idea is equally valid because none are necessarily true. Such is not the case at all. If we as a society decide that we want, for example, full employment and price stability then there are objectively better and worse tools for achieving these goals.

The relativist position no more says that we cannot evaluate economics theories for their practical worth than it says that we should all go around wearing bear skins because they are no less “valid” than modern clothing. If some people choose to adopt this position based on these ideas — if they choose to wear bear skins and have their shoes stolen from the doorstep every night — then that is their prerogative and their decision and while they may use relativist ideas to justify their actions, their actions are not dictated by the relativist ideas.

Keynes on Parts and Wholes

I never really liked doing jigsaw puzzles as I always found it a bit boring. But many people seem to find it a fascinating endeavor. Whatever you personally think of jigsaw puzzles, however, consider for a moment their aim and their probable payoff.

The aim is quite obviously to bring order to chaos, as is the aim of many puzzles. But in a jigsaw puzzle the person making it does this in a very particular way. They have to find the connections between  the disparate pieces. At first this involves either wildly casting around and looking for pieces that fit or examining the box and try to line pieces up with the completed picture. As the process of building the puzzle progresses more and more the underlying structure of the puzzle becomes manifest and building it begins to make more sense.

So, what is the payoff here? Well, it seems that people like engaging in the constructing of aggregates or Gestalts. Indeed, as I have written before, the ability to do this seems to be a prerequisite for functional cognition generally — its breakdown signalling the emergence of psychotic disorders such as schizophrenia. The motto of jigsaw puzzles then, not to mention that of functional cognition, might be reflected in Aristotle’s famous dictum “the whole is more than the sum of its parts”.

At a social level too this phenomenon of aggregating seems to be massively important. Whether in a football team or an army unit, every good manager or superior officer knows the importance of having people work in sync. The same is true in a band or any other group formation. If people do not form into a aggregative  unit with solid interconnections the group formation will breakdown — the team will lose the match; the army unit will lose the battle; the band will play terrible music.

This brings me to another one of Lars Syll’s posts on Keynesian economics and probability. Syll quotes a passage from Keynes’ A Treatise on Probability that I think is worth reproducing here in full:

The kind of fundamental assumption about the character of material laws, on which scientists appear commonly to act, seems to me to be [that] the system of the material universe must consist of bodies … such that each of them exercises its own separate, independent, and invariable effect, a change of the total state being compounded of a number of separate changes each of which is solely due to a separate portion of the preceding state … Yet there might well be quite different laws for wholes of different degrees of complexity, and laws of connection between complexes which could not be stated in terms of laws connecting individual parts … If different wholes were subject to different laws qua wholes and not simply on account of and in proportion to the differences of their parts, knowledge of a part could not lead, it would seem, even to presumptive or probable knowledge as to its association with other parts … These considerations do not show us a way by which we can justify induction … No one supposes that a good induction can be arrived at merely by counting cases. The business of strengthening the argument chiefly consists in determining whether the alleged association is stable, when accompanying conditions are varied … In my judgment, the practical usefulness of those modes of inference … on which the boasted knowledge of modern science depends, can only exist … if the universe of phenomena does in fact present those peculiar characteristics of atomism and limited variety which appears more and more clearly as the ultimate result to which material science is tending. (pp286-287)

It seems to me that Keynes is getting at precisely this point about the jigsaw puzzle. For Keynes modern science is tending toward an atomistic or fragmented view of reality and this is likely to prove dysfunctional. (While I shall not get into this here I have often thought that the more outlandish discussions that transition from High Science to science fiction are probably due to scientists trying to form narratives out of the disparate universe they have created for themselves.) Keynes, on the other hand, recognised that understanding the world required more than that.

This is especially so in social science because, as we discussed earlier, people not only tend to think in terms of aggregations, but they also actively build their world into aggregates and themselves into groups and teams. To be unable to understand this tendency toward aggregation is to be unable to understand the social world.

This tendency, however, makes many forms of modern econometric technique useless. These techniques essentially seek to identify correlations between variables in the data. They do so either haphazardly or by plugging in some sort of model. Both methods are unlikely to work for complex data. The haphazard method will likely just produce dross while the idea that a simple model can capture complex changes in data that represents the movement through historical time is completely wrongheaded.

Models are just tools for thought and when doing economic analysis we must apply models loosely (if at all). We must learn — not through study, but through practice — to know when a given model or idea is useful in explaining a change in the economic headwinds. The cognitive mechanism that we use to determine this is similar to that which distinguishes in the above picture between the two faces and the vase. The same data, the same event can be looked at through many different lenses, and a skilled analyst must be able to not only see as many different perspectives as he or she can but also judge as to which is the most suitable. This requires a great deal of flexibility and, in my opinion, separates those who are actually interested in doing economics from those who are just interested in tinkering.

Born Blind: Lars Syll, Uncertainty and the Question of Truth Versus Relativism

“Blindness” — by Muchanu Designs

Lord Keynes over at the excellent Social Democracy for the 21st Century blog has drawn my attention to a series of posts by the Swedish Post-Keynesian economist Lars Syll on probability and economics. This is a topic that I think absolutely fundamental in economic analysis in general, but also forecasting and explaining data in particular. I have written about this topic before elsewhere, but Syll’s posts are probably going to provoke me into writing more.

Although I am still making my way through them I have come across one in particular that I think raises a very interesting issue, namely the difference between Keynesian and Knightian uncertainty. For those who don’t know, Frank Knight was a neoclassical economist who nevertheless recognised that economics agents face a world that is not reducible to probabilistic reasoning. He made this point in his 1921 book Risk, Uncertainty and Profit which is available for download from the Mises Institute. The relevant passage from the book is on page 20:

It will appear that a measurable uncertainty, or “risk” proper, as we shall use the term, is so far different from an unmeasurable that it is in effect not an uncertainty at all. We shall restrict the term “uncertainty” to cases of a non-quantitative type. (Pp20, Emphasis author’s own)

As we can see Knight makes a strong distinction between a risk — which can, like a coin tossed over and over, be subject to measure — and an uncertainty — which is, in his words, “non-quantitative”. The manner in which Keynes deals with uncertainty appears, on its face, quite similar. Here is a particularly clear exposition from his 1937 article entitled The General Theory of Employment:

By ‘uncertain’ knowledge, let me explain, I do not mean merely to distinguish what is known for certain from what is only probable. The game of roulette is not subject, in this sense, to uncertainty; nor is the prospect of a Victory bond being drawn. Or, again, the expectation of life is only slightly uncertain. Even the weather is only moderately uncertain. The sense in which I am using the term is that in which the prospect of a European war is uncertain, or the price of copper and the rate of interest twenty years hence, or the obsolescence of a new invention, or the position of private wealth owners in the social system, in 1970. About these matters there is no scientific basis on which to form any calculable probability whatever. We simply do not know.

Keynes’ thoughts on uncertainty stretch back to his early work on probability, specifically his 1921 book Treatise on Probability which is available at the Gutenberg Archive. In that work Keynes laid out a view of probability and uncertainty that, I think, went far beyond what Knight is talking about in his book. Syll agrees with me in this respect and he hits the nail on the head when he writes:

Knight’s uncertainty concept has an epistemological founding and Keynes’s definitely an ontological founding. Of course this also has repercussions on the issue of ergodicity in a strict methodological and mathematical-statistical sense. I think Keynes’s view is the most warranted of the two.

The most interesting and far-reaching difference between the epistemological and the ontological view is that if one subscribes to the former, Knightian view – as Taleb, Haldane & Nelson and “black swan” theorists basically do – you open up for the mistaken belief that with better information and greater computer-power we somehow should always be able to calculate probabilities and describe the world as an ergodic universe. As Keynes convincingly argued, that is ontologically just not possible.

This seems to me a very good distinction between the two world views. The Knightian universe is one in which the possibility for knowledge of truly uncertain entities potentially exists, while the Keynesian universe is one in which the possibility for knowledge of truly uncertain entities is a priori ruled out. The Knightian perspective implicitly postulates that somewhere out there is a place or an entity that contains such knowledge (one might point out that this is somewhat similar to a concept of an omnipotent God) while the Keynesian perspective postulates that this place or entity either does not exist or is ontologically inaccessible to us mortals. For Keynes and the Post-Keynesians we are, in this sense, born blind.

The implications of this for economic theory are nothing short of enormous. In Keynesian economics, for example, investment decisions are made in the face of true uncertainty. Investors work in the dark, as it were, and investment decisions are ultimately the result of what Keynes called “animal spirits”. In Chapter 12 of The General Theory of Employment, Money and Interest — available at Marxists.org — Keynes lays out his theory of animal spirits:

Even apart from the instability due to speculation, there is the instability due to the characteristic of human nature that a large proportion of our positive activities depend on spontaneous optimism rather than mathematical expectations, whether moral or hedonistic or economic. Most, probably, of our decisions to do something positive, the full consequences of which will be drawn out over many days to come, can only be taken as the result of animal spirits—a spontaneous urge to action rather than inaction, and not as the outcome of a weighted average of quantitative benefits multiplied by quantitative probabilities.

Understanding the role uncertainty plays in Keynesian theory actually brings up an important point which when articulated will highlight where I think I depart from Syll. While I am not particularly familiar with Syll’s work, his Wikipedia article tells us that:

He is a critical realist and an outspoken opponent of all kinds of social constructivism and postmodern relativism.

This is the philosophical position that is often attributed to Keynes himself, although I think this attribution incorrect. To understand the importance of this we must understand Keynes’ own philosophical background. In Cambridge when Keynes was a student there were two schools of thought that vied for authority. On the one hand there were the Hegelians and on the other hand there were the Rationalists.

Both were Idealists insofar as they believed that the external world did not exist independently of the human mind — in this they were both descendents of the great Irish philosopher George Berkeley. However, whereas the Hegelians argued that the world is ultimately the product of peoples’ beliefs and is thus constructed by these beliefs, the Rationalists argued that there were actually a priori rules that governed the human mind and these rules were discoverable. In short, the Hegelians held Truth to be somewhat relative while the Rationalists held it to be absolute.

The lines that exist between the critical realists like Syll and people who fall into the so-called postmodern camp are usually pretty much the same as those between the old Cambridge Hegelians and the Rationalist colleagues. Yet, I think that read correctly Keynes’ economics is actually far closer to the old Hegelian or the postmodern position than to the Rationalist or critical realist position. I do not, however, claim that Keynes was aware of this. Nevertheless, the following paragraph from Chapter 12 of the General Theory which I would argue lies behind the animal spirits theory of investment does seem to indicate that in Keynesian economic theory the ultimate determinate of investment — and hence of economic growth generally — relies on impulses that are based purely on socially constructed belief:

[P]rofessional investment may be likened to those newspaper competitions in which the competitors have to pick out the six prettiest faces from a hundred photographs, the prize being awarded to the competitor whose choice most nearly corresponds to the average preferences of the competitors as a whole; so that each competitor has to pick, not those faces which he himself finds prettiest, but those which he thinks likeliest to catch the fancy of the other competitors, all of whom are looking at the problem from the same point of view. It is not a case of choosing those which, to the best of one’s judgment, are really the prettiest, nor even those which average opinion genuinely thinks the prettiest. We have reached the third degree where we devote our intelligences to anticipating what average opinion expects the average opinion to be. And there are some, I believe, who practice the fourth, fifth and higher degrees.

I have written elsewhere on this important aspect of Keynesian theory and those interested on my extended thoughts can read that piece, but suffice it to say that here that this indicates a strongly relativistic position on Keynes’ part. There is no Absolute Rationality dictating economic development at all. There are simply a bunch of investors that effectively work in a sort of hall of mirrors, guessing each others’ feelings and sentiments about the future. The image presented here is much like the one in the above painting: a bunch of blind people wandering around a topsy-turvy world, groping about and constructing stories in order to get by day-to-day.

Update 09/07/2013: I just came across the following exchange between Lars Syll and Paul Davidson on the difference between Knightian and Keynesian uncertainty that largely says the same as what I have said above in a slightly different way. Davidson also goes into some of the practical implications of the Knightian worldview which are worth reproducing here:

If you believe it is an ergodic system and epistemology is the only problem, then you should urge more transparency , better data collection, hiring more “quants” on Wall Street to generate “better” risk management computer problems, etc — and above all keep the government out of regulating financial markets — since all the government can do is foul up the outcome that the ergodic process is ready to deliver.

Long live Stiglitz and the call for transparency to end asymmetric information — and permit all to know the epistemological solution for the ergodic process controlling the economy.

 

What is a Liquidity Trap?

Perhaps the worst thing that can happen to a term in any language is that it loses completely its meaning and becomes a sort of floating signifier that can attach itself to any old nonsense. Such is the case today with the term “liquidity trap”. In contemporary parlance, “liquidity trap” means something like the situation many countries have faced since 2008; that is, a situation in which central banks have lowered interest rates right down to the zero-bound level and the economy fails to respond.

It is certainly clear why this might be considered a sort of “trap”, but why on earth would it be considered a “liquidity” trap? Few today seem to stop to think about the actual meaning of the two words in this term in any depth at all, so busy are they debasing the words in the English language as if they were so many clipped coins.

“Liquidity trap”. Well, that must be a trap caused by liquidity. Is it then a trap caused by too much liquidity? Surely not. That would imply that the central banks created our current so-called liquidity trap by creating too much money, but clearly modern day liquidity trap proponents like Paul Krugman do not think this. They think that the central bank has hit a limit to the amount of effectiveness money creation can have. The “trap” comes from elsewhere then.

So, from where does it come? Well, the modern day liquidity trap proponents seem to imply that in our current environment the demand for money becomes perfectly elastic – that is, no matter how much money the central banks create it is simply soaked up by thirsty hoarders. Hence the trap – not one caused by liquidity, but instead one in which people become desperate for liquidity.

In fact, this is precisely what the originator of the term, John Maynard Keynes, and his followers actually thought that a liquidity trap was. Here is the original quote on the liquidity trap from Keynes’ General Theory of Employment, Money and Interest:

There is the possibility … that, after the rate of interest has fallen to a certain level, liquidity-preference may become virtually absolute in the sense that almost everyone prefers cash to holding a debt which yields so low a rate of interest. In this event the monetary authority would have lost effective control over the rate of interest. But whilst this limiting case might become practically important in future, I know of no example of it hitherto.

Note carefully what Keynes is saying here. He is saying that in the event of a liquidity trap the rate of interest would fall outside the dictates of the central bank. The bank would pump money into the system and interest rates would fail to come down because people would simply hold cash. This is absolutely not happened in the post-2008 world, where yields across the board fell in response to the money creation programs like QE.

Keynes’ follower Hyman Minsky used the liquidity trap argument in the correct manner and gave it a sharper form; one which, unlike the form used by the pseudo-Keynesians, actually seeks to elucidate something rather than create a fog of unmeaning. Here is a quote from his book Stabilizing an Unstable Economy:

After a debt deflation that induces a deep depression, an increase in the money supply with a fixed head count of other assets may not lead to a rise in the price of other assets. (Stabilizing an Unstable Economy, p202)

So, what happens in such a scenario? Well, interest rates on assets that are not considered almost perfectly liquid rises sharply. Here is Minsky from his earlier book John Maynard Keynes:

The view that the liquidity-preference function is a demand-for-money relation permits the introduction of the idea that in appropriate circumstances the demand for money may be infinitely elastic with respect to variations in the interest rate… The liquidity trap presumably dominates in the immediate aftermath of a great depression or financial crisis. (John Maynard Keynes, p36)

Read that carefully. The liquidity trap dominates then in the “immediate aftermath” of a financial crisis. What we would expect to see in an actual liquidity trap is prices falling on assets that are not considered perfectly safe and, conversely, interest rates rising on those same assets. Meanwhile, assets that are considered perfectly safe – like Treasury Bills – should see their prices rise and their interest rates fall.

And that is precisely what we saw in the immediate aftermath of the 2008 crisis as can be seen from the TED Spread below which is the spread between the LIBOR rate, the rate at which banks typically lend to one another, and the three-month Treasury Bill rate, which is the value placed on perfectly safe assets.

 

There is your liquidity trap. But as we can also see from the graph, we exited the liquidity trap rather quickly – we were out by late 2009 – and as the quantitative easing programs were stepped up asset prices rose across the board and interest rates fell. The world we then entered was indeed a strange one. But to characterise it as a sort of perpetual liquidity trap, as the likes of Krugman and the pseudo-Keynesians do, is completely outlandish.

A liquidity trap does not exist unless the prices on imperfectly safe assets are falling and their interest rates are rising. This is not the world we have lived in since 2008 and so this world is not one of a liquidity trap. The only reason anyone thinks otherwise is because they are sloppy thinkers who, frankly, do not understand what they’re talking about or even the words they use to express themselves. They seem to want to create a rationalisation for why monetary policy – which they hold as the superior tool of economic management – fails. But the real reason it failed was because it was never a particularly good tool for macroeconomic stabilisation in the first place. It had nothing to do with some extended period of the economy remaining in a liquidity trap. And if the pseudo-Keynesians must come up with fancy sounding terms for monetary policy’s failure after the crisis, could they kindly make up these terms themselves and not spoil the ones we already have?

Fischer Black Redux: The Impossible Circularity of a Metaphysical Argument

In the last piece on Fischer Black we saw how he created, in his own mind, an entity called “noise” which, for him, explained all the shortcomings of the world. But such raises an important question: shortcomings in the face of what? The answer, of course, is a perfect equilibrium world where everything that was once shrouded in Darkness is brought into the Light. In short, a vision of a world without Sin; a world before the Fall.

But Black, it would seem, thought himself not so naive. His colleagues, he correctly thought, were fooled that they were in the process of returning to the Garden of Eden — or, perhaps, they were already there — but Black considered himself more wily. Black was, it would seem, more of a Manichean. In this Black thought that Light itself — Goodness, Truth, Signal, whatever else we want to call it — relied for its existence on Darkness — Sin, Falsehood, Noise.

It is this simple claim, I think, this slight difference of metaphysics that gives Black his undeserved status among economists today as being an “interesting” thinker. Where the Efficient Market Hypothesis crowd claimed that all was always already right with the world, Black said “No, there is necessarily Darkness in the world, there is necessarily Noise, it is upon this that Light and Signal rely”. Here is Black himself in his typical hackneyed prose style:

Noise makes financial markets possible, but also makes them imperfect. If there is no noise trading, there will be very little trading in individual assets. People will hold individual assets, directly or indirectly, but they will rarely trade them.

The implication, of course, being that if assets are not traded then there are no markets. And if assets aren’t traded unless there is “noise” then there are no markets without noise.

It is this simple, and rather obvious point — one already articulated by Stiglitz and Grossman as far back as six years before Black did — that makes Black’s insights seem edgy and interesting to his colleagues. As we will see this has very little implications for the view of the world held by Black or his followers, one which remains hopelessly devoted to believing that the Promised Land is about to appear at any moment. But before we look at this let us reflect briefly on the culture that produces these sorts of theories.

As already hinted at Black’s remarks, which were made when he was president of the American Finance Association, were considered somewhat shocking by his colleagues. What’s more, Black was apparently marginalised to some degree by the economists and considered a “finance guy” with funny ideas. And yet his ideas are so mainstream. They are so lacking in shock value and, on examination, appear so crude and overtly metaphysical. Well, I think this tells us something about the kind of culture that bred these financial theories in the first place.

It is a culture that literally worships market equilibrium. I mean this literally. Market equilibrium is considered among these not simply an a priori given — an assumption that is toxic enough — but something that can only be questioned by generating an enormous amount of controversy (as has not just Black’s work, but also Stiglitz’s). And yet on its face market equilibrium is such a stupid and unrealistic assumption with which to approach the real world. Well that, I would argue, is precisely why a taboo must be placed over questioning it by these people. Because deep down they know that if we had a frank conversation about the assumption they would lose the argument, so a Holy Mist has to be thrown up together with an oppressive culture of devotion and non-questioning.

But back to Black. What does he conclude from his little foray into what he clearly considers heterodoxy. Well, he makes the claim that the market is, despite having a necessary noise-component, nevertheless moving toward some sort of quasi-equilibrium perfection and it is this finding of the Promised Land that will prove him correct. I will let Black lay out his outlandish and childish vision in his own words (and I use the word “vision” here in its mystical sense):

In the end my response to the skepticism of others is to make a prediction: someday, these conclusions will be widely accepted. The influence of noise traders will become apparent.

But now, Black does not mean we will enter a world of instability or turmoil. He continues…

Conventional monetary and fiscal policies will be seen as ineffective. Changes in exchange rates will come to provoke no more comment than changes in the real price of an airline ticket.

What a farce, of course. But this is precisely what his audience wanted to hear. They wanted Black to act like a Seer bringing with him a metaphysical vision. This is literally what goes on at these types of conferences. These are the people that those in the financial markets reference everyday and look to for Salvation. But what happens if Black’s vision does not come to pass? Is he going to organise that everyone drink the Kool Aid if his Promised Land fails to arrive?

Nothing so extreme, because Black finds a way to hedge his vision in the most tautological manner imaginable:

If my conclusions are not accepted, I will blame it on noise.

He says this half-joking, of course, but if you follow the logic of his paper closely you will realise that he is at the same time completely serious. Black quite literally Knows that he is right. As if he has received a vision from some entity outside this world. And that, I contend, is what a great deal of modern financial theory is really all about.

Fischer Black, Noise and the Encounter With The Trickster

In mythology, and in the study of folklore and religion, a trickster is a god, goddess, spirit, man, woman, or anthropomorphic animal who plays tricks or otherwise disobeys normal rules and conventional behavior. — Wikipedia

Mathematics is often thought of by its proponents as a language that produces clarity. This may be true in certain cases, but in others it can cause a person’s thinking to become clouded and muddled. And this is precisely due to its overly precise nature.

Think about mathematics as one might a microscope. The microscope is highly useful for zooming in on certain aspects of reality and picking things out that we could not grasp otherwise. Great. But now imagine for a moment that if a person were to use a microscope over and over again they would begin to “see” all the world in this way. Clearly they would not be much better than a blind man in such circumstances – albeit one that would be very useful in very particular settings. This, I would argue, is precisely what too much reliance on mathematical reasoning can produce.

A good case in point is that of the financial economist Fischer Black – a mathematics PhD and founder of the popular Black-Scholes model of options-pricing that is much used in financial markets today. In 1986 Black published a paper entitled simple “Noise” that is well-nigh unreadable. One gets the sense that “noise” for Black is a sort of ontological category that disturbs his sense of reality. “Noise” for Black is the equivalent to what “Sin” is to Christians. Everything bad in the otherwise harmonious world can be attributed to this ontological category “noise”. In this regard it is worth quoting from the abstract – which, it will be seen, is so poorly written as to be barely readable.

The effects of noise on the world, and on our view of the world, are profound… Noise in the form of expectations that need not follow rational rules causes inflation to be what it is… Most generally, noise makes it very difficult to test either practical or academic theories about the way that financial or economic markets work. We are forced to act largely in the dark.

Note first that noise is seen to be an active “force” in the world (“The effects of noise on the world…”). Noise is not a passive effect for Black; it is an active entity – much like Sin for the Christians. In this sense, noise is not just a term or a concept used to denote a phenomenon for Black, it is not a metaphor; no, it is a really existing entity or thing. Noise, for Black, is thing-like.

Note secondly that noise is what causes expectations to be irrational. It is what causes us not to act in line with the ideal that Black holds to be the normal outcome of the market. Noise here is a sort of ethical category – again, its overlap with that of Christian Sin should be obvious.

Note finally that noise accounts for our academic failures and the breakdown of our otherwise “correct” theories in face of reality. In this noise becomes a sort of conspiratorial force in the world. If this entity did not exist the picture we have of reality in our heads would be accurate. But given that this entity does exist it interferes with this picture we hold, distorting it – a demon then, which plays tricks on the mind.

It is this sort of thinking that often leads mathematical economists back into the realm of extremely crude anthropomorphic binaries. Binaries which, upon examination, strike us as being little more advanced than fantasies of witchcraft and folklore. One can say an awful lot about contemporary financial theories, what they actually do and how they function, by examining these crude manifestations of the human psyche. But here we simply do not have the time nor the space.

False Profit: How Paul Krugman’s Comments on Monopoly Distract From the Important Issues

Paul Krugman recently wrote a column for the New York Times in which he argued that profitability in contemporary capitalist firms in the US is presently coming from monopoly rent rather than from production. Krugman points to the growth of finance and also to the growth of industries, like Apple, that rely on their brand names to earn their rather large crust. He then contrasts this situation with that of General Motors in the 1950s and 1960s who he paints as old school producers.

Krugman’s story sounds nice but it is unclear what exactly he is referring to in theoretical terms. In neoclassical economics a monopolistic firm is one that is able to earn profits over and above their marginal cost (plus, in some cases, a “normal profit” for their trouble). They earn this monopolistic profit because they possess market power and this is reflected in the fact, already mentioned, that they avoid the competitive pressure to set their price in line with marginal cost.

Studies by the likes of Alan Blinder have shown quite clearly that only around 11% of US GDP can be said to be produced under conditions of rising marginal cost. The rest are presumably setting their prices in an entirely different manner. The neoclassical theory, which Krugman seems to be implicitly referring to, has it that competitive firms will face rising marginal costs. They will then compete with one another until marginal cost falls in line with marginal revenue – plus a “normal profit” – and this ensures that no one is engaged in monopolistic rent-seeking. So, if firms are not seeing rising marginal costs they must, according to neoclassical theory, be engaged in some sort of monopolistic pricing and thus accruing monopoly profits.

So far so good for Krugman’s argument, right? Well, not really. You see, such a study had been undertaken before back in 1952 by two economists named Wileford Eiteman and Glenn Guthrie and their results basically matched up with Blinder’s. Like Blinder, Eiteman and Guthrie surveyed businessmen and asked them what their cost curves looked like. They conclude that “the replies demonstrate a clear preference of businessmen for curves which do not offer great support to the argument of marginal theories”. So, even in Krugman’s idealised world of General Motors firms still seem to have been setting their prices in the same way as they do today. In fact, the results of Eiteman and Guthrie’s study was even more dramatic than Blinder’s, suggesting that some 95% of firms were not facing rising marginal costs versus the 89% that Blinder found more recently – indicating that today’s economy has less rather than more so-called uncompetitive firms.

In his piece Krugman says that he is “not making a moral judgment here”, but that appears to be precisely what he is doing. He is making out as if the Golden Era of post-war America was based on what he calls “production” and that profits accrued to those who produced. Krugman even admits at one point that “G.M. in its heyday had a lot of market power” but then quickly veneers over this rather obvious statement of fact. In this he seems to be saying very little indeed. He claims that the problem today is the extraction of monopoly rents and then contrasts this with the good old days of the 1950s and 1960s. But in the next breath he admits that firms in this era also had a good deal of market power. Krugman’s piece is then less a structured argument than it is a series of vague statements filled with allusion.

The unfortunate fact is that, like much of what Krugman writes, there is a grain of truth to what he is saying. Indeed, there is a good deal of wealth extraction taking place in the US economy today – far more than was going on in the 1950s and 1960s. And it is also true that employment in manufacturing has fallen substantially (whether this is or is not a problem is an entirely different question). But none of this has anything to do with the fantasy world idea that back in the 1950s and 1960s we lived in a world of neoclassical competition while today we live under the tyranny of monopoly which is what Krugman’s piece seems to be alluding to.

So, what then is Krugman avoiding by positing what seems to be an emotionally appealing narrative? Simple: class power. Those two words neoclassical economists cannot stand to hear. The fact is that the idea of neoclassical competition is, at best, a relic of the 19^th century, at worst, a fantasy pure and simple and income distribution has far more to do with class power than anything else. Class power is, of course, a political issue first and an economic issue second – one of the reasons that neoclassicals, who claim to practice “pure economics”, tend to avoid it. But it is class power that underlies the manner in which income is distributed today – especially when we are considering the role of finance.

While it is nice that Krugman is finally taking a look at the structure of the contemporary US economy to search out hints as to why it is in such bad shape, his neoclassical ideas about how economies (should?) work blind him to the reality of the situation. They also lead to extremely weak policy prescriptions. For example, the populist call of “trust-busting”, which was as popular among 19^th and early 20^th century liberals as it was totally ineffective (monopoly power grew from strength to strength in the era of trust-busting). Such prescriptions have a populist edge, as everyone wants to see the Big Guys taken down a peg, but they just end up providing a soporific for the masses and directs their attention away from the real issues. Krugman’s argument thus rests on a heady blend of nostalgia, neoclassical theory and misdirected populism and while one cannot fault his intentions, one can certainly fault his results.

Nazism and Neoliberal Mythmaking, Part III: The Descent into Primitivism

In the first two parts of this series we saw first of all how Germany after the Second World War needed a reconstruction myth to sweep away the horrors of the Nazi past and yet, at the same time, avoid completely the reason for the Nazi’s rise to power. We saw how in order to do this two intellectual groups – the Western Marxists and the ordoliberals – came up with the idea that the true problem of Nazism had to with it being a state ideology. We then showed that this was not, in actual fact, the case at all and that Nazism was, if not an anti-state ideology, at the very least one which aimed at a weak subordinated state. Now let us turn to look at the reality of how Nazi society actually functioned – and how it was actually a reversion to a more primitive form of social organisation amplified to fit a modern mass society.

Nazism as Church or Army

In 1922 Sigmund Freud published Group Psychology and the Analysis of the Ego, one of his most fascinating books. One gets the hint that there must have been something in the air of the Austria of the day because Group Psychology and the Analysis of the Ego not only stands out as the best text on group psychology and group formation ever written but it is also, if read correctly, provides a chilling glance into Germany and Austria a decade into the future. Was Freud writing with Austrian anti-Semites in mind? I will leave that to literary scholars to discern but it strikes me as not unlikely.

In a chapter entitled “Two Artificial Groups: The Church and the Army” Freud lays out how these institutions form into cohesive and highly organised groups. What is so fascinating in reading this chapter is that Nazi society was essentially identical in its structure to the structure of the church and army that Freud describes. Quite simply, to understand the immediate hierarchical relationships under Nazism and how they transact is to understand the essence of the ideology in both theory and practice. The state under Nazism, on the other hand, is about as relevant to understanding it as the bureaucracies of the church and the army are to understanding those institutions. Certainly they could not function without these bureaucracies but to try to derive their essential structure from them would be pure silliness – like trying to figure out the taste of a piece of food by looking at its ingredients. Let us look then at Freud’s characterisation of the church and the army to better understand the essential structure of Nazi society.

Freud starts by pointing out that the church and the army are largely involuntary organisations. The following may appear slightly dated today (he was writing after the First World War), but let us take Freud at his word as in his own time much of what he is saying is true. He writes:

A church and an army are artificial groups, that is, a certain external force is employed to prevent them from disintegrating and to check alterations in their structure. As a rule a person is not consulted or is given no choice, as to whether he wants to enter such a group; any attempt at leaving it is usually met with persecution or with severe punishment, or has quite definite conditions attached to it.

This is, of course, identical to the social structures under Nazism. Provided that you are lucky enough to be a member of the Volksgemeinschaft – and not a “degenerate” – you would be well-advised not to opt-out of this supposedly privileged position. This squares somewhat with the mainstream narrative regarding Nazism: that it was a relationship of force between totalitarian super-state and an un-free subject. However, for Freud a relationship of force was not sufficient to bind together such institutions as a church or an army. A relationship of force did not constitute their essential structure. He writes:

In a church (and we may with advantage take the Catholic Church as a type) as well as in an army, however different the two may be in other respects, the same illusion holds good of there being a head – in the Catholic Church Christ, in an army its Commander-in-Chief – who loves all the individuals in the group with an equal love. Everything depends upon this illusion; if it were to be dropped, then both Church and army would dissolve, so far as the external force permitted them to.

This is absolutely true, of course. Armies and churches that relied wholly on external force would not last very long at all. Nor can a democratic society turn to National Socialism because the state is exercising too much force over its people. Force is simply not enough to explain such social structures. Something more is needed and that something more is a leader. In Catholicism: Christ (and the Pope); in the army: the Commander-in-Chief; in Nazism: the Führer.

The Descent into Primitivism

As we will recall from the first part of this series, the Führer is the direct manifestation of the will of Volk – the people. And the Nazis are quite clear that this relationship – which is a strange quasi-fatherly love relationship – is necessary for the Volk to form into the Volksgemeinschaft – the peoples’ community; the Volksgemeinschaft being the Nazi equivalent to the church of the army itself. Again we must stress: the Volksgemeinschaft here is the end, the goal. Even the Führer is in some perverse way subject to this idea – even though, by definition, it is his will that constitutes it. The state is completely in the background here, it is merely the cogs that are worked in order to produce what the Volksgemeinschaft requires.

While Freud never wrote it explicitly in his Group Psychology those familiar with his work from the first decade of the 20th century know that he saw in groups like the church and the army the schema of a very primitive form of social organisation. He saw in it a sort of pack mentality – with a strong beloved leader at the front and everyone else following suit. In fact we see such structures across society throughout history. The patriarchal family of the 19th and early to mid-20th century exhibited these features; the pack leader being, of course, the father. So the family too could be seen as a sort of an arena of Freud’s church and army dynamics. This is not, of course, to equate any of these structures with the horror that was Nazism, just to point out that the structure was the same.

What then was so different about Nazism? Again, it was not that Nazism had tried to extend the reach of the state but that it had rendered it subordinate. In all the other examples above – the army, the patriarchal family – the institutions are still subordinate to the state. Even in the time when the medieval church wielded significant influence over politics prior to the separation between church and state, the state did largely exist independently of the church. Although nominally it may have been subordinate to God and thus in theory the church in practice such was not the case (a similar case could probably be made about Islamic state-forms today). However, in Nazism the state truly was subordinated at once to the will of the Führer and the will of the Volk – which, need we stress again, were one and the same thing.

Nazism was thus an attempt to realise a highly primitive form of social organisation at the level of mass society. Society itself would come to resemble a pack of hunter-gatherers with the most charismatic at the helm deciding what should be done next. This was the true evil of Nazism and it also explains its irrationalism and its brutality. It certainly required that an advanced state be possible – how else could you rally millions? – but its primary feature was the reduction in significance of the state-form and the rise of a pack-mentality that was vicious, brutal  and filled with a terrifying love for aggression and violence that is characteristic of humans that have not been properly civilised.

This is why the myth spread by the ordoliberals and the Austrians that Nazism was an outgrowth of a state given room to extend its reach to infinity is so absurd. In actual fact Nazism was the strongest check or limit placed on the state in any advanced industrial economy in history. The state, although it grew in size, like an overhydrated jelly it became watery and weak. It was not the state that saturated society; it was the Hitler’s Volksgemeinschaft. A person watching television today sees a black and white image of a Swastika draped outside of a building is conditioned to think “Aha, it is the power of the state”, but this is just more conditioning and propaganda. Although the person who hung the flag may have been a state employee – just as he may have been any other member of the Volk – the flag did not represent the state, it represented the Volksgemeinschaft; the idealised Aryan community that Hitler and his followers almost succeeded in bringing into existed.

Statehood and Autonomy

The real lesson of the Nazis is that a society without the limits placed upon it by the state, a society without a strong autonomous state-form that can maintain stability, is a society that quite literally descends into overt barbarism. There is very little chance that this lesson will ever be taken from this period in history. Partly this is due to propagandising by those who seek to capitalise on the Nazi atrocities by generating fear so that they can spread their political agenda. But partly it is due to an innate tendency in civilised man to avoid just how people can and do behave when the somewhat arbitrary authority of the state is removed.

If people can barely come to terms with how those in, say, the army – maybe in Vietnam or Iraq – behave towards civilians, treating them as if they were less than animals and so on, then they are nowhere near ready to come to terms with the reasons behind this; reasons which have explicitly to do with the form that social organisation takes in these circumstances. In our mass societies it is the state, and only the state, that contains these tendencies and when the state breaks down all the barbarism comes to the fore remarkably fast. But it is so much easier, despite all evidence being to the contrary, to blame the state for such barbarism. Why so? Because it is appealing, at some level, to these barbarous instincts in people themselves – it is giving a wink and a nod and saying “oh, none of us like authority, none of us like taxes and obligations; we’ll let you away with it, but the other guy won’t”.

Today ordoliberalism in Europe has led to a desperate situation. These people, who convinced themselves that all they had to do was ensure that the state was subordinate to the market and Nazism could be avoided, are now pushing austerity measures in countries like Greece. As the state recedes – for this is primarily what austerity measures do – the Nazis rise again and very few people even seem to notice. Myths, apparently, are immune not only from historical but also contemporary fact. One can picture the dim-witted neoliberal or libertarian sitting down watching streaming news on their flat screen television. As they reach for the remote control that sits next to a copy of The Road to Serfdom permanently bookmarked on page twelve, they see a Nazi rally in the streets of Athens and think to themselves “must be something to do with the state being too big, austerity should fix it”.