There are two primary economic theories that have dominated modern economic thought for the last half century, and distilled simplistically, we have:
The market operates with very little regulatory control or government involvement.
The market operates within a regulatory framework with some government involvement. Occasionally the government will step in with profound changes when economies get into trouble.
I’ve characterised each of those prevailing theories from the book by Robert Louis Stephenson, Dr Jekyll and Mr Hyde, because to me, that is my experience from observing and living with both implementations over the last 40 years.
John Maynard Keynes famously used the phrase ‘animal spirits’ in his book: The General Theory of Employment, Interest and Money.
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.
An initial reading of this comes across as fairly optimistic. However, Keynes apparently may have noted the phrase from reading a book by a psychologist, who remains at this point a mystery. My reading of the phrase chimes with this quote from economists Akerlof and Shiller who advised that:
The proper role of the government, like the proper role of the advice-book parent, is to set the stage. The stage should give full rein to the creativity of capitalism. But it should also countervail the excesses that occur because of our animal spirits.
The key part from the passage for me: the excesses that occur because of our animal spirits.
This seems to describe what happens when, drunk on their perceived powers, the people who daily cast huge bets and juggle vast sums of money across the world, lose their sense of proportion and humanity. Mr Hyde, is the embodiment of ‘animal spirits’ at it’s worst. The consequences are the 2008 world financial system meltdown, which governments around the world bailed out, with tax payers money, so our society could continue to function.
Meanwhile we have the relatively benign Dr Jekyll. A considerate and very intelligent man but who does unfortunately succumb to temptation to prove a theory, by drinking some chemical potion he concocts in his laboratory, that turns him into Mr Hyde. So the characterisation isn’t perfect, but let’s just say that before that one flawed moment, Dr Jekyll is relatively level headed.
So Dr Jekyll, for the sake of this exercise, represents a level headed, humanistic approach to the economy from a government that believes that the security and economic well being of the society it is responsible for is it’s prime goal.
So to some extent what seems to have happened for a large amount of time over the last century, is that both theories have vied with each other for dominance. When the purely market driven theories are implemented, they eventually fail and governments step in and introduce measures to revive economies. But the measures always seem like ‘firefighting’* exercises. Governments fail to see the economic catastrophe developing, and step in with emergency measures. Well, The Sovereign Economy will be designed as a device to permanently be on hand to deal with such disasters.
Just like in life, most of us live with our ‘animal spirits’ whispering in our ear, but for most of the time we ignore the urge to take risks. Sometimes, we do take risks, after, hopefully, careful consideration. Sometimes those risks can pay off. So let our Jekyll and Hyde economics co-exist together, one balancing the other, so we can get the best from both.
*Note: The original of this blog/article was published 31st March, 2019. A new book: Firefighting: The Financial Crisis and Its Lessons by Ben Bernanke, Timothy Geitner and Hank Paulson was published 16th April 2019. I have not read it yet. So writing ‘seem like firefighting’, it’s not just my perception, or hyperbole.
The New York Times review by Paul Krugman ends:
“…today’s top economic officials seem to be systematically drawn from the ranks of those who got everything wrong during the crisis. The failure of Bear Stearns was the first solid indication of how much trouble we were in; Donald Trump has just chosen David Malpass, Bear’s chief economist at the time, to head the World Bank. Larry Kudlow, now the administration’s top economist, ridiculed “bubbleheads” who claimed that housing prices were out of whack, then praised Paulson for refusing to bail out Lehman — just hours before financial markets went into full meltdown.
In other words, we seem to have learned the wrong lessons from our brush with disaster. As a result, when the next crisis comes, it’s likely to play out even worse than the last one. Isn’t that a happy thought?”