“The economy is not a machine”

And even if it was, with many machines shutting ’em down is a lot easier than cranking ’em back up again.

The coronavirus is having a profound impact on our economies. Faced with economic downturns, governments have traditionally attempted to spur employment and restore economic health by propping up aggregate demand. Scholars differ on the track record of these interventions, yet all agree that governments, by stimulating demand, aim to provoke productive activity. Today, though, rather than trying to stimulate activity in the wake of the pandemic, governments are aiming to stop it. And at this task, everyone must agree, governments are performing splendidly.

Once the coronavirus is under control, restarting the economy faces many obstacles—especially social distancing. If we continue to remain at arms’ length from one another, we will hamper our natural “propensity to truck, barter, and exchange,” identified by Adam Smith as a key source of economic growth.

An even bigger impediment to renewed economic vigor, however, is the theory and practice of mainstream macroeconomics. The brainchild of John Maynard Keynes, modern macroeconomics focuses exclusively on aggregates, especially aggregate demand, and GDP. The economy is modeled on what economist Arnold Kling calls “a GDP factory,” or perhaps a machine. This machine produces stuff (GDP) and does so at peak efficiency when properly fueled. The fuel is aggregate demand—total spending—and it’s the job of government to ensure that the supply of fuel into this machine remains adequate.

Even if government control of aggregate demand is necessary for an economy to function even tolerably well—and we aren’t sure that it is—such control is clearly not sufficient. If entrepreneurs can’t introduce new products, if businesses are denied access to low-cost supplies, and if prices are prevented from changing, the market process falters. It produces fewer of the goods and services that are the stuff of our prosperity. The same conclusion pertains if workers are prevented from showing up at farms, factories, and offices, in which case no amount of extra aggregate demand will cause markets to produce more. To stop people on the ground from producing is to stop the process by which people, cooperating in markets, generate prosperity.

Standard macroeconomic thinking is today especially counterproductive. By maintaining the fiction that the economy is a simple GDP machine that will always work as long as it is sufficiently fueled with aggregate demand, attention is diverted away from the problems introduced into the market process by government interventions, as well as by major disruptors, such as Covid-19. The myth is maintained that if government keeps pumping funds into consumers’ hands and businesses’ coffers, all will be okay.

In Europe, for example, attention is focused on devising ways for governments to increase their public debt, without paying higher interest on it. But how will entrepreneurs, workers, and consumers return to their normal activities? Imagining how the provision of some services will work in the future (will movie theaters survive?) is a fascinating intellectual exercise, but one with little practical utility. Solutions will be found by entrepreneurs through trial and error, the same way that progress has always happened. What we need is not more fuel pumped into the GDP machine but assurances that its internal processes aren’t blocked. Governments have purposefully stopped the economy. To get it moving again, we eventually must remove obstacles that keep individuals from participating in market processes, both as consumers and as specialized producers.

That will be the difficult part, since those obstacles have been gumming up the works since way before anybody every heard of the Shanghai sniffles, and are now firmly established and entrenched. Expect extremely stiff resistance from the hordes of paper-shuffling bureau-rats hired to perpetuate and expand them, too.

3 thoughts on ““The economy is not a machine”

  1. I’m not sure we’ve ever done this before so it is going to be interesting to see how, if we EVER open up (we will, but when), this will play out.

    1. Never in history has a country shut everything down purposely. Unless you count socialists/communists…

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