1 Royal Society Building 5 -to 7

Royal Society Building 5 -to 7 July
History of Economic Thought Society of Australia
After Dinner talk 6th July, Terrace Café, Mantra on the Park
Economics – A Moral Science
Consciously or not, most people who are required to make judgements about the worth of
economic alternatives apply their values to deciding their preferences. Markets may be the
most efficacious mechanism for meeting individual ‘wants’ as derived from the existing
distribution of income. But what ultimately provides the direction for the economy is the
value system in which the economy is embedded.
Do we give precedence to the individual, that there is no such thing as the ‘community’, only
the individuals who compose it? Or do we take the view there is such a thing as community,
and the community is entitled to impose its values on the operations of markets in order to
ensure their outcomes are according to some community standard?
These are moral issues which cannot be avoided, least of all by economists. The way a
physicist might answer these questions may determine how he votes. But for the economist,
the answers given to these questions will largely determine the sort of economic models
he/she will develop in his/her head to explain the economic world.
According to Keynes, economics is “a moral science…it deals with introspection and
values…it deals with motives, expectations, psychological uncertainties. One has to be
constantly on guard against treating the material as constant or homogeneous. It is as though
the fall of the apple to the ground depends on the apple’s motives. Or whether it is
worthwhile falling to the ground and whether the ground wanted the apple to fall and on the
mistaken calculations on the part of the apple as to how far it was from the centre of the
There is no ‘scientific’ route to choosing the best ‘model’ of how the economy works.
According to Keynes “good economists are scarce because the gift for using ‘vigilant
observation’ to choose models, although it does not require a highly specialised intellectual
technique, appears to be a very rare one”.
A further problem is there is no way to reconcile different models based on different values
according to rational analysis. Different schools of economists are destined to remain in badtempered disagreement with each other.
Worse, the model which gains the ascendency at any point of time isn’t necessarily the one
which provides the best explanation of how the economy works but how useful the model is
in supporting a particular social or economic agenda. Economists might develop the
economic models but the models which become influential in policy making are the ones
which have the most appeal to the main actors in the economy (politicians, capitalists,
workers). A theory which offends the dominant class interest is unlikely to gain widespread
support while a theory which has been discredited by history is unlikely to be abandoned by
the dominant class interest for as long as it can be used to legitimate those interests.
Those of you who sense I am equating economics to religion aren’t far off the mark. In the
age of feudalism and the divine right of kings it was the bishops who were expected to
validate the power of the king. In an age of unbelief, economists and economic ideas or
models have displaced theologians and their religious ideas as the validating tool of those
contending for power, wealth or justice.
Martin Luther wasn’t the first priest who came to the conclusion that the Catholic Church was
corrupt or that man/woman could have a more direct link to god. But he was the first priest to
get the powerful backing of the German Princes who wanted to throw off the power of the
Vatican. This was followed by the success of the Reformation after a series of particularly
bloody wars.
In economics the ideas of the Physiocrats in the 18th Century attempted to legitimise the
existing French feudal structure by arguing that agriculture was the only source of wealth
which justified taxing the peasants The Physiocrats also advocated free trade. Their ideas
were opposed by the growing mercantile class in Britain who believed that wealth was
generated by trade surpluses which led to accumulation of gold. Adam Smith recognised the
importance of manufacturing in the creation of wealth which could be promoted by division
of labour. His ideas fitted nicely with the aspirations of the new class of capitalists associated
with the industrial revolution. Smith advocated self interest constrained by competition but he
warned that “men could be safely left to pursue their own interests without undue harm to the
community not only by the restrictions imposed by law, but also because they were subject to
built-in restraint derived from morals, religion, custom and law”.
He was also sensible, unlike his modern fundamentalist disciples, the economic rationalists
His famous statement on the invisible hand is heavily qualified: “He intends only his own
gain, and he is in this, as in many other cases, led by an invisible hand to promote an end
which was no part of his intention. Nor is it always the worse for society that it was no part of
his intention. By pursuing his own interest he frequently promotes that of society…” Smith
leaves plenty of room for the possibility of market failure requiring the state to plug the gaps.
But has the extension of the market associated with capitalism buttressed the existence of a
civilised society as expected by Smith and other members of the early Enlightenment or has it
undermined it?
Not according to Marx and later thinkers such as Fred Hirsch in his influential 1976 book,
Social Limits to Growth. According to Hirsch “The social morality that has served as an
under-structure for economic individualism has been a legacy of the pre- capitalist and preindustrial past…The weakening of traditional social values has made predominantly capitalist
economies more difficult to manage”.
So what are the economic models which rattle around in my head and which I apply to the
issues I discuss as a journalist for The Age newspaper and as Co-Editor of Dissent magazine?
I derive from classical economics the idea of opportunity cost (a dollar spent on the swings is
a dollar than can’t be spent on the roundabouts) and from A.C. Pigou the concept of
externalities, both positive and negative, where external costs or benefits are not fully
reflected in the market price of goods and services.
Where the benefits of a particular service such as a rail service are not easily captured by a
private operator (reduced accidents, pollution or congestion) there will tend to be underinvestment in that service if provision is left to the private sector.
Similarly, there is a case for a carbon tax so that the external cost of burning fossil fuels in the
form of greenhouse gases is captured in the price. This improves the relative competitiveness
of renewable energy sources which don’t directly produce greenhouse gases and the revenue
from carbon taxes can be used to subsidise renewable energy, justified by the external
benefits which are not captured by a market price.
I derive from the Keynesian macro-model of how the economy works two conclusions. The
first and most important is that savings are a function of investment. Most lay people believe
intuitively that savings must come before investment. This may be true for the individual
depending on his/her credit rating. For the state as a whole, excess savings will take the form
of higher unemployment unless the excess savings equate to excess labour demand.
Savings are a function of income, not virtue. Investment creates the income which leads to
the savings which can finance the investment which will not be a burden the future unless the
rate of return on the investment is less than the interest rate. Where the rate of return on
public investment is higher than the return on private investments the community will be
better off even if the public investment ‘crowds out’ private investment with a lower return to
the community.
The other conclusion is that fiscal policy should be directed to balancing the economy, not
balancing the budget. Whether the budget should be balanced, in surplus or deficit depends
on where the economy is in terms of the business cycle. If there is pressure on resources,
particularly labour, the budget should be in surplus. If there are unemployed resources,
particularly labour, the budget should be in deficit. Debt is not a burden providing the return
on the debt is greater than the cost of the debt.
The problem for critics of both these models is not their efficacy but because they point to
support for social democracy which represents (or should represent) democratic control of the
economy in the interests of the majority which threatens the power of minority financial
The power of FIRE (Finance, Insurance, Real Estate) has been massively enhanced since the
1980s and the bitter fruit of this liberalisation in defiance of the core lessons from the 30s
Depression has been the 2008 GFC. Because the power of FIRE still hasn’t really been
confronted the probability of another GFC soon is high.
Within the Anglo-sphere and Australia specifically the story goes something like this: in
order to reduce public debt the public domain is sold off so that low-cost public debt becomes
high-cost private debt which must be serviced by consumers and the government when they
have to buy back services previous provided by the government.
In order to mollify the electorate which has been overwhelmingly opposed to privatisation
and its close cousin, Public private Partnerships and senses it is worse off as a result of this
massive financial churning which has created fabulous incomes for FIRE executives,
governments promise more tax cuts financed by expenditure cut backs.
This has undermined public health and education services and starved public transport of
funds, stampeding richer households to purchase the private alternatives - private health
insurance, private education and tolled roads for commuting.
Worse, the Hawke-Keating government did something the Clinton and Bush administrations
in the US couldn’t do – set Australia down the path of privatised age pensions via the
introduction of the compulsory superannuation levy. This is no different to an income tax
except that it is subsidised by highly regressive tax expenditures which are expected to rise to
$45 billion in 2015. It will then be about the same as the direct spending on age pensions as
the levy rise from 9 to 12 per cent.
The money under management is equal to annual GDP of about $1.4 trillion and presently
growing by $60 billion a year. It is invested (gambled) on Australian and foreign financial
assets and increasingly on PPPs. There is now an unholy alliance between the private
infrastructure lobby and the superannuation funds to promote PPPs because otherwise even
more of the superannuation balances will have to be invested offshore. The infrastructure
lobby’s latest proposal, being taken seriously by Infrastructure Minister, Anthony Albanese,
is that the government should sell water and port facilities to the funds because they are a safe
investment with an assured flow of income. They say the government could then invest the
proceeds in more risky forms of infrastructure.
Why? Australian governments with triple A credit ratings could get all the money they want
at 3.5 per cent to invest in the myriad infrastructure necessary to cope with global warming.
Based on Victorian budget papers, the yield on what the Auditor-General insists on calling
long-term financial leases is 10 per cent. If the projects financed by these leases were
financed by public borrowings, the government would save $600 million a year. Translated
nationally, this would amount to savings by state governments of about $2 billion a year
which could pay the annual interest expense on borrowings of about $57 billion.
The narrative from the FIRE fits with moral position of the Opposition parties. Balanced
budgets and cutting public debt by reducing wasteful public spending lead to both lower
interest rates and creates room for the more productive private sector to work its magic.
Labour market deregulation facilitates wage cuts so that employers can afford more workers
and allows the restoration of the management prerogative in industrial relations which will
improve productivity. All have an innate appeal to common sense but actually involve
massive kleptomania.
Most people can appreciate the R.H. Tawney aphorism that ‘freedom for the carp means
death to the minnow" but the idea that Labour governments are associated with fairness
reinforces the perception that Labour governments are inferior economic managers compared
to coalition governments. The idea that trade unions can play a positive role in improving
productivity by putting upward pressure on wages and promoting innovation on the shop
floor by having the security necessary to speak truthfully to management are backed by
history and empirical research. But they are ideas which are difficult to communicate in the
context of an election campaign.
American progressive were badly shaken by their loss in the May 2013 Wisconsin state recall
election because of the savage attack on public union rights, state pensions and public
education by the State Republican Governor. Democrat critics easily obtained the numbers
necessary for a recall because these issues weren’t debated during the original election.
This has led to a major debate about the importance of ‘moral framing’ which looks behind
the issues which are supposed to be what elections are about but aren’t as important as the
morality which lies behind the economic policies.
The debate has been centred on a new book (The little Blue Book: The Essential Guide to
Thinking and Talking Democratic by George Lakoff and Elisabeth Wehling). The authors are
linguists at the University of California, Berkley.
They point out that all markets are moral in terms of someone’s sense of morality. The only
question is, whose morality?
They point out that to attack the policies of austerity is an attack on the view of at least 40 per
cent of the population whose views give the word ‘austerity’ a positive moral connotation.
They argue that most Democrats, consciously or unconsciously, use a moral view deriving
from an idealised notion of nurturing parenting in contrast to conservatives whose moral
perspective is based on an idealised notion of a strict father figure.
According to the authors conservatives see democracy as providing liberty, the freedom to
seek one’s self-interest with minimum responsibility for the interests or well-being of others.
They conclude “ if there is any hope in our present situation, it lies with people who are
morally complex, who are progressive on some issues and conservative on others. They have
both moral systems in their brains: when one is turned on the other is turned off. The one that
is turned on more often gets strongest.
Quoting conservative language, even to argue against it, just strengthens conservatism in the
brain of people who are morally complex. It is vital that they hear the progressive values of
the traditional American moral system.”
The depressing lesson seems to be that conservative political leaders who can hammer home
the simple (simplistic) positive values which frame their election policies are likely to be
more successful than progressives because progressive values tend to be more nuanced. In
Australia there is no ambiguity about what Abbott stands for in contrast to Gillard whose
values appear very flexible, even nebulous, by comparison to the Conservatives and Greens.
Kenneth Davidson
Co-editor Dissent magazine
Contributor The Age