GV441

Negative externalities and indeterminacy of state's role

1. No simple formula for assigning responsibility for negative externalities 2. Why not: people should pay for the consequences of their acts? 3. BUT: failure to avoid indirect effects is also an act -- it's all a problem of labelling 4. Is it my loud radio at fault, or the neighbours' unreasonably thin walls?

NPR, "The Giant Pool of Money"

1. The global pool of money. That's where our story begins. Most people don't think about it but there's this huge pool of money out there, which is basically all the money the world is saving now. It's a lot of money. It's about 70 trillion. 2. But to make it grow, they have to find something to invest in. So, for most of modern history, they bought really, really safe, really boring investments: things called treasuries and municipal bonds. Boring things. But then, right before our story starts, something changed, something happened to that global pool of money. This number doubled since 2000. In 2000 this was about 36 trillion dollars. 3. How's the world get twice as much money to invest? Lots of things happened, but the main headline is all sorts of poor countries became kind of rich making TVs and selling us oil: China, India, Abu Dhabi, Saudi Arabia. Made a lot of money and banked it. 4. And the world was not ready for all this money. There's twice as much money looking for investments, but there are not twice as many good investments. So, that global army of investment managers was hungrier and twitchier than ever before. 5. Alan Greenspan said he was going to keep the Fed Funds rate at the absurdly low level of one percent. It tells every investor in the world: you are not going to make any money at all on US treasury bonds for a very long time. Go somewhere else. We can't help you. And so the global pool of money looked around for some low-risk, high-return investment. And among the many things they put their money into, there was one thing they fell in love with. To get it, they called Wall Street 6. There are problems. Individual mortgages are too big a hassle for the global pool of money. They don't wanna get mixed up with actual people and their catastrophic health problems or debilitating divorces, and all the reasons which might stop them from paying their mortgages. So what Mike and his peers on Wall Street did, was to figure out how to give the global pool of money all the benefits of a mortgage - basically higher yield - without the hassle or the risk. So picture the whole chain. You have Clarence. He gets a mortgage from a broker. The broker sells the mortgage to a small bank, the small bank sells the mortgage to a guy like Mike at a big investment firm on Wall Street. Then Mike takes a few thousand mortgages he's bought this way, he puts them in one big pile. Now he's got thousands of mortgage checks coming to him every month. It's a huge monthly stream of money, which is expected to come in for the next thirty years, the life of a mortgage. And he then sells shares of that monthly income to investors. Those shares are called mortgage backed securities. And the 70 trillion dollar global pool of money loved them. 7. The problem was, to make a mortgage backed security, you needed mortgages, lots of them. So for Mike Francis to satisfy his demand, and take his quite hefty fee from the global pool of money, he needed to buy up as many mortgage pools as possible. 8. And to do that, he called a guy one link below him, on the mortgage backed security chain, a guy named Mike Garner, who worked at the largest private mortgage bank in Nevada, called Silver State Mortgage. And to give you a sense of how fast this business was growing, Mike got into the mortgage business straight from his previous job as a bartender. 9. And in the beginning, he'd only buy mortgages that were pretty standard and pretty safe. Mortgages where people had come up with a down payment and proven they had a steady income and money in the bank. And they sold so many mortgages that there came a point in 2003 where just about everybody who wanted a mortgage and was qualified to get one .... had gotten one. But the pool of money had just gotten started. They wanted more mortgage backed securities. So Wall Street had to find more people to take out mortgages. Which meant lending to people who never would've qualified before. 10. So, All Mike cared about was whether or not his customers--the Wall Street investment banks--would buy those mortgages from him. And he was under pressure to approve more and more loans. Because other guys in his company--the actual guys cruising strip malls all across Nevada buying mortgages from brokers, their commission depended on selling more loans. And occasionally, those guys would hear about some loan that some other mortgage company offered that they weren't allowed to offer. And they'd complain to Mike. 10. As we now know, they were using the wrong data. They looked at the recent history of mortgages and saw that foreclosure rate is generally below 2 percent. So they figured, absolute worst-case scenario, the foreclosure rate may go to 8 or 10 or 12 percent. But the problem with is there were all these new kinds of mortgages, given out to people who never would have gotten them before. So the historical data was irrelevant. Some mortgage pools, today, are expected to go beyond 50 percent foreclosure rates. 11. Ratings agencies relied on the wrong data. That same historic data that had nothing to do with these new kinds of mortgages. 12. And then things got even worse. The thing that took this problem and turned it into a crisis was something else that was new, something called a Collateralized Debt Obligation. A CDO. Let's translate some of that. A mortgage-backed security, you remember, is a pool of thousands of different mortgages. These are all put together and divided into different slices. Jim used the word tranche. Tranche is just French for slice - some of these slices are risky, some are not. OK, a CDO is a pool of those tranches. A pool of pools. 13. So, a CDO is sort of a financial alchemy. Jim takes that toxic stuff, these low-rated, high-risk tranches, puts them all together. Re-tranches them, and presto: he has a CDO whose top tranche is rated AAA, rock-solid, good as money. 14. And the CDO industry was facing the same pressures everyone else was at every other step of this chain. To loosen their standards. To make CDOs out of lower and lower rated pools. 15. From 2003 to 2006, the housing market was in a classic speculative bubble. Home loans were easy to get, so more and more people were buying houses. The increased demand for houses caused the price to increase. The rising prices created even more demand, as people started to look at homes as investments -- investments that never went down in value. In 2003 and 2004, 2005, they didn't. You could buy a house with no money down, turn around and sell it a year later for in some areas double what you paid. People who'd never invested in real estate before started buying multiple properties as investments. There were shows on TV about how to do it. 16. The problem was that even though housing prices were going through the roof, people weren't making any more money. From 2000 to 2007, the median household income stayed flat. And so the more prices rose, the more tenuous the whole thing became. No matter how lax lending standards got, no matter how many exotic mortgage products were created to shoehorn people into homes they couldn't possibly afford, no matter what the mortgage machine tried, the people just couldn't swing it. By late 2006, the average home cost nearly four times what the average family made. Historically it was between two and three times. And mortgage lenders noticed something that they'd almost never seen before. People would close on a house, sign all the mortgage papers, and then default on their very first payment. No loss of a job, no medical emergency, they were underwater before they even started. And although no one could really hear it, that was probably the moment when one of the biggest speculative bubbles in American history popped. 17. The problem was that once property values starting going down, it set off a reverse chain reaction, the opposite of what had been happening in the bubble. As more people defaulted, more houses came on the market. With no buyers, prices went even further down, and as prices declined, Mike Francis cleared up a mystery. Remember, even though he didn't trust these NINA loans, the bonds that he turned them into, they performed well. Well, there was a reason. 18. The global pool of money still has no idea how much money they lost. How much went into the furnace. And because of that, they've totally changed their thinking. They used to be obsessed just with getting some profit, trying to make a slightly higher interest rate return. Now the global pool of money has the exact opposite obsession. It wants no risk whatsoever. It just wants safety. Suddenly, those US government treasury bonds--still near historic lows of 1 and 2 percent--are beautifully attractive. Because they're safe. They won't blow up like sub-prime CDOs did.

First week's reading

Block, Fred. 1994. "The Roles of the State in the Economy."

John Gerard Ruggie, "International Regimes, Transactions, and Change: Embedded Liberalism in the Postwar Economic Order"

Brief Summary: Ruggie focuses on how the regimes for money and trade have reflected and affected the evolution of the international economic order since World War II. In arguing against the theory of hegemonic stability, Ruggie develops the concept of "embedded liberalism" in order to depict international authority as reflecting a fusion of both power and legitimate social purpose, not only the distribution of interstate power alone. Main puzzle: Why did not the international free trade regime fall when the hegemon's power eroded, as predicted by the hegemonic stability theory? Main answer: Ruggie's analysis suggests that far more continuity can attend hegemonic decline than would be predicted by the hegemonic stability thesis, provided that social purposes are held constant. International regimes have been defined as social institutions around which actor expectations converge in a given area of international relations. Accordingly, as is true of any social institution, international regimes limit the discretion of their constituent units to decide and act on issues that fall within the regime's domain. The analytical components of international regimes we take to consist of principles, norms, rules, and procedures. The formation and transformation of international regimes may be said to represent a concrete manifestation of the internationalization of political authority. The model of the formation and transformation of international economic regimes. o The most common interpretation is neo-realist or the theory of hegemony stability: if economic capabilities are so concentrated that a hegemon exists, an open or liberal international economic order will come into being. In Ruggie's view, the theory of hegemonic stability is not wrong. But, it does not proceed very far in making people understand international economic regimes because it does not encompass the phenomenological dimensions of international regimes. Ruggie, then, develop three theoretical arguments as follows: 1. The hegemonic stability theory focuses only on power, but ignores the dimension of social purpose. This formulation of focusing on power may predict the form of the international order, but not its content. To say anything sensible about the content of international economic orders and about the regimes that serve them, it is necessary to look at how power and legitimate social purpose become fused to project political authority into the international system. This character of the international economic order is subsequently called "embedded liberalism." 2. Concerning the relationship between international economic regimes and developments in the international economy, particularly at the level of private transaction flows, Ruggie indicates that these regimes are neither determinative nor irrelevant as viewed by conventional Liberals and Realists respectively. Instead, they provide part of the context that shapes the character of transnationalization. 3. The occurrence of change in and of regimes is not solely a function of power, but also of purpose. As long as purpose is held constant, there is no reason to suppose that the normative framework of regimes must change as well. In other words, rules and procedures (instruments) would change but principles and norms (normative frameworks) would not. 1.The structure of international authority: The balance between "authority" and "market" fundamentally transformed state-society relations, by redefining the legitimate social purposes in pursuit of which state power was expected to be employed in the domestic economy. "The role of the state became to institute and safeguard the self-regulating market" (202). In sum, efforts to construct international economic regimes in the interwar period failed not because of the lack of a hegemon. They failed because, even had there been a hegemon, they stood in contradiction to the transformation in the mediating role of the state between market and society. 2.The compromise of embedded liberalism The task of postwar institutional reconstruction was to maneuver between these two extremes and to devise a framework which would safeguard and even aid the quest for domestic stability without, at the same time, triggering the mutually destructive external consequences that had plagued the interwar period. This was the essence of the embedded liberalism compromise: unlike the economic nationalism of the 30s, it would be multilateral in character; unlike the liberalism of the gold standard and free trade, its multilateralism would be predicated upon domestic interventionism. In sum, that a multilateral order gained acceptance reflected the extraordinary power and perseverance of the USA. But that multilateralism and the quest for domestic stability were coupled and even conditioned by one another reflected the shared legitimacy of a set of social objectives to which the industrial world had moved. 3.Complementary transaction flows International economic regimes do not determine international economic transactions. For determinants we have to look deeper into basic structural features of the world political economy. But, nor are international economic regimes irrelevant to international economic transactions. They play a mediating role, by providing a permissive environment for the emergence of certain kinds of transactions, specifically transactions that are perceived to be complementary to the normative frameworks of the regimes having bearing on them. 4.Norm-governed change If international regimes are not simply emanations of the underlying distribution of interstate power, but represent a fusion of power and legitimate social purpose, our cause and effect reasoning becomes more complex. For then, the decline of hegemony would not necessarily lead to the collapse of regimes, provided that shared purposes are held constant. 5.Stress, contradiction, and the future How enduring is embedded liberalism? A central ingredient in the success of embedded liberalism to date has been its ability to accommodate and even facilitate the externalizing of adjustment costs. There have been three major modes of externalization: o 1. An intertemporal mode, via inflation o 2. An intersectoral mode, whereby pressure on domestic and international public authorities is vented into the realm of private markets o 3. An interstratum mode, through which those who are 'regime makers' shift a disproportionate share of adjustment costs onto those who are 'regime takers.'

Asymmetric information:

when seller knows more about what good or service sold than buyer

Terminology, II

1. "Classical" liberal ≈19th century liberal ≈ [in Europe] liberal ≈ [in contemporary U.S.] libertarian: supporter of "free markets" and civil liberties 2. [in contemporary U.S.] liberal = supporter of "government intervention" [often minor by European standards, though] and civil liberties

Introductory Remarks

"England and America are two countries separated by a common language" -- not George Bernard Shaw

The Paradox of Thrift, Cont'd (1)

1. Demand stimulus coordinates predictions 2. If everyone borrows, spends and invests, the economy grows and we all make money

Colin Hay, "Good Inflation, Bad Inflation: The Housing Boom, Economic Growth and the Disaggregation of Inflationary Preferences in the UK and Ireland"

1. For rather different reasons, Ireland and the UK stumbled serendipitously upon consumer-led and private debt-financed economic growth trajectories in the early 1990s. In both cases this trajectory was secured and sustained by historically low interest rates. This served to broaden access to—and to improve affordability within—the housing market, driving a developing house price bubble. Once established this was sustained, if not perhaps actively nurtured, by interest rates that remained, by recent historical standards, unprecedentedly low throughout the boom. Yet, as is now increasingly acknowledged, it was not just low interest rates that served to inflate the bubble. Crucial, too, was the liberal and highly securitised character of the mortgage market in both Ireland and the UK. In such a context, banks and building societies act effectively as financial intermediaries, repackaging new loans as mortgage-backed securities (MBSs) for institutional investors such as pension funds. The lion's share of their income is generated, not from the interest rate spread between deposits and loans, but from transaction fees. Consequently, they are energetic and often highly innovative in offering new mortgage instruments to potential borrowers, confident in the knowledge that they can pass on any interest rate risk they might otherwise bear to buyers of MBSs. In a rapidly growing housing market, they are also likely to be a source of capital to fuel consumption for borrowers keen to release the equity they have built up in their property. 2. Whether they stumbled upon it accidentally or not, it is credible to suggest that governments in anglophone liberal democracies like the UK and Ireland now acknowledge the contribution of low interest rates and house price inflation to the economic growth from which they have undoubtedly benefited politically in recent years. As such, it is surely realistic to assume that they now perceive themselves to have a considerable political (and electoral) stake in securing the conditions for a rapid resumption in house price inflation. This is, of course, immediately interesting. For it suggests a potential conflict of interest with the formally depoliticised agents of monetary policy: the Monetary Policy Committee (MPC) of the Bank of England and its European Central Bank equivalent. It also suggests that we are likely to see—if we have not already begun to see—a political test of the degree to which monetary authorities have indeed been depoliticised. It also suggests, somewhat ironically, that governments (certainly anglophone liberal governments) may be characterised today rather less by the time-inconsistent inflationary preferences from which central bank independence was designed to protect us, than from increasingly differentiated inflationary preferences. It is the argument of this article that this is indeed the case. Moreover, and perhaps rather predictably, the European Central Bank has proved itself rather better able to resist the pressures arising from such preferences, in this regard, than the Bank of England.

Personal solutions to problem of cooperation 1

1. Repeated dealings 2. Pooled information on reputations (aka gossip) e..g eBay and Uber use pooled info to get good behavior

Colin Crouch, "Privatised Keynesianism: An Unacknowledged Policy Regime"

1. There have now been two successive policy regimes since the Second World War that have temporarily succeeded in reconciling the uncertainties and instabilities of a capitalist economy with democracy's need for stability for people's lives and capitalism's own need for confident mass consumers. 2. The first of these was the system of public demand management generally known as Keynesianism. The Keynesian model protected ordinary people from the rapid fluctuations of the market that had brought instability to their lives, smoothing the trade cycle and enabling them gradually to become confident mass consumers of the products of a therefore equally confident mass-production industry. Unemployment was reduced to very low levels. The welfare state not only provided instruments of demand management for governments, but also brought real services in areas of major importance to people outside the framework of the market: more stability. Arms length demand management plus the welfare state protected the rest of the capitalist economy from both major shocks to confidence and attacks from hostile forces, while the lives of working people were protected from the vagaries of the market. It was a true social compromise. As conservative critics pointed out from the start, there was always likely to be a ratchet effect in the mechanism: it was easy for governments to increase spending in a recession, bringing lower unemployment, more public services and more money in people's pockets. It would be far more difficult at times of boom in a democracy to reverse these trends. This was the seed of destruction at the heart of the model. 3. The second was not, as has often been thought, a neo-liberal turn to pure markets, but a system of markets alongside extensive housing and other debt among low- and medium income people linked to unregulated derivatives markets. It was a form of privatised Keynesianism. Instead of governments taking on debt to stimulate the economy, individuals did so. In addition to the housing market there was an extraordinary growth in opportunities for bank loans and credit cards. It was common for people to hold cards from more than one credit card company as well as several store-specific ones. This explains the great puzzle of the period: how did moderately paid American workers in particular, who have little legal security against instant dismissal from their jobs, and salaries that might remain static for several years, maintain consumer confidence, when continental European workers with more-or-less secure jobs and annually rising incomes were bringing their economies to a halt by their unwillingness to spend? It was seen as an act of political manipulation when the UK government removed mortgage repayments, but not rent, from its calculations of inflation, but it was technically quite correct. 4. This combination reconciled capitalism's problem, but in a way that eventually proved unsustainable. After its collapse there is debate over what will succeed it. Most likely is an attempt to re-create it on a basis of corporate social responsibility.

Barry Eichengreen, Peter Temin, "Fetters of gold and paper"

1. We describe in this essay how fixed exchange rates share this dual personality, why the gold standard and the euro are extreme forms of fixed exchange rates, and how these policies had their most potent effects in the worst peaceful economic periods in modern times. We do not ask or attempt to answer whether widespread adoption of the gold standard in the mid-1920s or the creation of the euro in 1999 were mistakes. 2. Both decisions reflected deep-seated historical forces that developed over long periods of time: a set of gold standard conventions and a mentalité that flowered in the nineteenth century, allowing the gold standard to be seen as the normal basis for international monetary affairs; and a process of European integration with roots stretching back well before the Second World War that came into full flower in the fertile seedbed that was the second half of the twentieth century. We take these deep-seated circumstances as given and ask how they could have been managed better. We ask, in particular, whether they could have been managed to prevent economic disaster. 3. The gold standard was characterized by the free flow of gold between individuals and countries, the maintenance of fixed values of national currencies in terms of gold and therefore each other, and the absence of an international coordinating organization. Together these arrangements implied that there was an asymmetry between countries experiencing balance-of-payments deficits and surpluses. There was a penalty for running out of reserves (and being unable to maintain the fixed value of the currency), but no penalty (aside from forgone interest) for accumulating gold. The adjustment mechanism for deficit countries was deflation rather than devaluation—that is, a change in domestic prices instead of a change in the exchange rate 4. The gold standard was preserved by an ideology that indicated that only under extreme conditions could the exchange rate be unfixed. The euro has gone one step further by eliminating national currencies. Modifying the policy regime unilaterally is even more difficult than under the gold standard. While it is conceivable, in theory, that an incumbent member of the euro area could opt to reintroduce its national currency and depreciate it against the euro, there is no provision for doing so in the Lisbon Treaty. 5. It is similarly conceivable that an incumbent member might choose to disregard its treaty obligations. But, even then, if the decision to reintroduce the national currency and convert all the financial assets and liabilities of residents into that unit was not done instantly, a period of extreme financial instability would follow, as investors withdrew their money from the domestic banking and financial system en masse, creating what one of us has called 'the mother of all financial crises' 6. The point of this discussion is not to let deficit countries—Germany in the context of the gold standard, Greece in the context of the euro, the United States in the case of global imbalances—off the hook. All three were reluctant, for political and other reasons, to acknowledge that they faced budget constraints. They lived beyond their means, running budget and current-account deficits and financing them by borrowing abroad, Germany mainly from the United States in 1925-8, Greece mainly from its European partners in 2002-8, and the United States mainly from China and the oil-exporting economies of the Middle East. 7. In all three cases, borrowing was facilitated by the facade of stability created by pegged exchange rates. The perception that currency risk had been eliminated encouraged finance to flow from capital-abundant economies where interest rates were low to capital-scarce economies where they were high. Deficits were financed more freely, encouraging governments to run them, until markets were disturbed by financial upheavals that raised doubts about the solvency of sovereign borrowers. This, of course, is just the problem of 'capital-flow bonanza' followed by 'sudden stop' familiar from the literature on nineteenth and twentieth century emerging markets. The only surprising thing is that parochial advanced-country observers and policy-makers, whether in the 1920s or more recently, did not understand that the problem also applied to them. 8. But there is another side of this coin: namely, the policies of the surplus countries. In the late 1920s and early 1930s the difficulties of Germany and other Central European countries were greatly aggravated by the policies of gold and foreign-exchange sterilization undertaken by the US and France.With these countries in balance-of-payments surplus, someone else had to be in deficit. With their refusal to expand once the Depression struck, someone else had to contract. With their refusal to extend emergency financial assistance, the extent of the contraction to which the deficit countries were subjected became almost unimaginable. In the end, the political consequences were disastrous.

What's Block's problem with the old paradigm?

Creates overly general, and thus irresolvable ("indeterminate") discussion of justifiable limits of state intervention

Charles Poor Kindleberger, "Manias, panics and crashes"

NOTE MINSKY MODEL MENTIONED IN WADE AS WELL 1. According to Minsky, events leading up to a crisis start with a "displacement," some exogenous, outside shock to the macroeconomic system. 2. In Minsky's model, the boom is fed by an expansion of bank credit that enlarges the total money supply. Banks typically can expand money, whether by the issue of bank's notes under earlier institutional arrangements or by lending in the form of addictions to bank deposits. Bank credit is, or at least has been, notoriously unstable, and the Minsky model rests squarely on that fact. 3. Let us assume, then, that the urge to speculate is present and transmuted into effective demand for goods or financial assets. After a time, increased demand presses against the capacity to produce goods or the supply of existing financial assets. Prices increase, giving rise to new profit opportunities and attracting still further firms and investors. Positive feedback develops, as new investment leads to increases in income that stimulate further investment and further income increases. At this stage we may well get what Minsky called "euphoria." Speculation for price increases is added to investment for production and sale. If this process builds up, the result is often, though not inevitably, what Adam Smith and his contemporaries called "overtrading." 4. Although Minsky's model is limited to single country, overtrading has historically tended to spread from one country to another. The conduits are many. Internationally traded commodities and assets that go up in price in one market will rise in others through arbitrage. The foreign-trade multiplier communicates income changes in a given country to others through increased or decreased imports. Capital flows constitute a third link. Money flows of gold, silver (under gold standard or bimetallism), or foreign exchange are a fourth. And there are purely psychological connections, as when investor euphoria or pessimism in one country infects investors in others. 5. Observe with respect the money movements that in an ideal world, a gain of specie for one country would be matched by a corresponding loss for another, and the resulting expansion in the first case would be offset by the contraction in the second. In the real world, however, while the boom in the first country may gain speed from the increase in the supply of reserves, or "high-powered money," it may also rise in the second, despite the loss in monetary reserves, as investors respond to rising prices and profits abroad by joining in the speculative chase. In other words, the potential contraction from the shrinkage on the monetary side may be overwhelmed by the increase in speculative interest and the rise in demand. For the two countries together, in any event, the credit system is stretched tighter. 6. As the speculative boom continues, interest rates, velocity of circulation, and prices all continue to mount. There may then ensue an uneasy period of "financial distress." The term comes from corporate finance, where a firm is said to be in financial distress when it must contemplate the possibility, perhaps only a remote one, that it will not be able to meet its liabilities. For an economy as a whole, the equivalent is the awareness on the part of a considerable segment of the speculating community that a rush for liquidity---to get out of other assets and into money---may develop, with disastrous consequences for the prices of goods and securities, and leaving some speculative borrowers unable to pay off their loans. As distress persists, speculators realize, gradually or suddenly, that the market cannot go higher. It is time to withdraw. The race out of real or long-term financial assets and into money may turn into a stampede. 7. The specific signal that precipitates the crisis may be the failure of a bank or firm stretched too tight, the revelation of a swindle or defalcation by someone who sought to escape distress by dishonest means, or a fall in the price of the primary object of speculation as it, at first alone, is seen to be overpriced. In any case, the rush is on. Prices decline. Bankruptcies increase. Liquidation sometimes is orderly but may degenerate into panic as the realization spreads that there is only so much money, not enough to enable everyone to sell out at the top. 8. Revulsion and discredit may go so far as to lead to panic (or as the Germans put it, Torschlusspanik. "door-shut-panic"), with people crowding to get through the door before it slams shut. The panic feeds on itself, as did the speculation, until one or more of three things happen: (1) prices fall so low that people are again tempted to move back into less liquid assets; (2) trade is cut off by setting limits on price declines, shutting down exchanges, or otherwise closing trading; or (3) a lender of last resort succeeds in convincing the market that money will be made available in sufficient volume to meet the demand for cash. 9. Whether there should be a lender of last resort is a matter of some debate. Those who oppose the function argue that it encourages speculation in the first place. Supporters worry more about the current crisis than about forestalling some future one. There is also a question of the place for an international lender of last resort. In domestic crises, government or the central bank (when there is one) has responsibility. At the international level, there is neither a world government nor any world bank adequately equipped to serve as a lender of last resort, although some would contend that the International Monetary Fund since Bretton Woods in 1944 is capable of discharging the role.

Some Background for Block

What's Block's problem with the old paradigm?

An example of asymmetric information: Roald Dahl, Matilda

"I'm always glad to buy a car when some fool has been crashing the gears so badly they're all worn out and rattle like mad. I get it cheap. Then all I do is mix a lot of sawdust with the oil in the gear-box and it runs as sweet as a nut." "How long will it run like that before it starts rattling again?" Matilda asked him. "Long enough for the buyer to get a good distance away," the father said, grinning. "About a hundred miles." "But that's dishonest, daddy," Matilda said. "It's cheating." "No one ever got rich being honest," the father said. "Customers are there to be diddled."

According to Williamson:

"Specific assets" increase transaction costs -- in particular, costs of protecting rights, policing and enforcing agreements -- because of incentive for "hold up"

institutions

Institutions are the rules of the game in a society or, more formally, are the humanly devised constraints that shape human interaction. In consequence they structure incentives in human exchange.

Karl Polanyi, "The Great Transformation," Chapter 3

Short summary: While Marx decried the fecklessness of the British government in halting the private seizure of the commons, Polanyi praised the Tudors and Stuarts for moderating the pace of this change. Moreover, this early privatization of land did not stand out to the Hungarian political economist as the watershed moment of British industrialization, let alone the subsequent backlash left out of Marx's account. Profitable operation of specialized machinery, Polanyi noted, required that industrialists be able to buy the factors of production as needed on markets. With this method of manufacture in place, "the idea of a self-regulating market system," he observed, "was bound to take shape" 1. Economic liberalism misread the history of the Industrial Revolution because it insisted on judging social events from the economic viewpoint. For an illustration of this we shall turn to what may at first seem a remote subject: to enclosures of open fields and conversions of arable land to pasture during the earlier Tudor period in England, when fields and commons were hedged by the lords, and whole counties were threatened by depopulation. Our purpose in thus evoking the plight of the people brought about by enclosures and conversions will be on the one hand to demonstrate the parallel between the devastations caused by the ultimately beneficial enclosures and those resulting from the Industrial Revolution, and on the other hand—and more broadly—to clarify the alternatives facing a community which is in the throes of unregulated economic improvement. 2. England withstood without grave damage the calamity of the enclosures only because the Tudors and the early Stuarts used the power of the Crown to slowdown the process of economic improvement until it became socially bearable—employing the power of the central government to relieve the victims of the transformation, and attempting to canalize the process of change so as to make its course less devastating. 3. But in one respect the break wrought infinite harm, for it helped to obliterate from the memory of the nation the horrors of the enclosure period and the achievements of government in overcoming the peril of depopulation. Perhaps this helps to explain why the real nature of the crisis was not realized when, some 150 years later, a similar catastrophe in the shape of the Industrial Revolution threatened the life and well-being of the country. 4. This time also the event was peculiar to England; this time also seaborne trade was the source of amovement which affected the country as a whole; and this time again it was improvement on the grandest scale which wrought unprecedented havoc with the habitation of the common people. Before the process had advanced very far, the laboring people had been crowded together in new places of desolation, the so-called industrial towns of England; the country folk had been dehumanized into slum dwellers; the family was on the road to perdition; and large parts of the country were rapidly disappearing under the slack and scrap heaps vomited forth fromthe ''satanic mills.''Writers of all views and parties, conservatives and liberals, capitalists and socialists, invariably referred to social conditions under the Industrial Revolution as a veritable abyss of human degradation. 5. We submit that an avalanche of social dislocation, surpassing by far that of the enclosure period, came down upon England; that this catastrophe was the accompaniment of a vast movement of economic improvement; that an entirely new institutional mechanism was starting to act on Western society; that its dangers, which cut to the quick when they first appeared, were never really overcome; and that the history of nineteenth-century civilization consisted largely in attempts to protect society against the ravages of such a mechanism. The Industrial Revolution was merely the beginning of a revolution as extreme and radical as ever inflamed the minds of sectarians, but the new creed was utterly materialistic and believed that all human problems could be resolved given an unlimited amount of material commodities. 6. We submit that all these were merely incidental to one basic change, the establishment of market economy, and that the nature of this institution cannot be fully grasped unless the impact of the machine on a commercial society is realized.We do not intend to assert that the machine caused that which happened, but we insist that once elaborate machines and plant were used for production in a commercial society, the idea of a self-regulating market system was bound to take shape. 7. Since elaborate machines are expensive, they do not pay unless large amounts of goods are produced 8. Now, in an agricultural society such conditions would not naturally be given; they would have to be created. That they would be created gradually in no way affects the startling nature of the changes involved. The transformation implies a change in the motive of action on the part of the members of society; for the motive of subsistence that of gain must be substituted. All transactions are turned into money transactions, and these in turn require that a medium of exchange be introduced into every articulation of industrial life. All incomes must derive from the sale of something or other, and whatever the actual source of a person's income, it must be regarded as resulting from sale. No less is implied in the simple term ''market system,'' by which we designate the institutional pattern described. But the most startling peculiarity of the system lies in the fact that, once it is established, it must be allowed to function without outside interference. Profits are not any more guaranteed, and the merchant must make his profits on the market. Prices must be allowed to regulate themselves. Such a self-regulating system of markets is what we mean by a market economy.

"Hold-up with specific assets"

With fixed investment in speical factory, seller is at the mercy of the buyer 1. Either scrap metal price for factory 2. Or suffer low output price

Karl Polanyi, "The Great Transformation," Chapter 19

Yet precisely this was the case in the 1920s. Labor entrenched itself in parliament where its numbers gave it weight, capitalists built industry into a fortress from which to lord the country. Popular bodies answered by ruthlessly intervening in business, disregarding the needs of the given form of industry. The captains of industry were subverting the population from allegiance to their own freely elected rulers,while democratic bodies carried on warfare against the industrial system on which everybody's livelihood depended. Eventually, the moment would come when both the economic and the political systems were threatened by complete paralysis. Fear would grip the people, and leadership would be thrust upon those who offered an easy way out at whatever ultimate price. The time was ripe for the fascist solution.

Barrier to entry defined:

a barrier to entry is a cost that must be incurred by a new market entrant that incumbents do not have to incur

Reputational mechanism

1. Mechanism failed in the case of Stewart Richardson. 2. Buyers hold reputation hostage 3. If reputation no longer valuable, process falls apart 4. Reputation hangs on the shadow of the future

Externalities

1. indirect effect of a consumption, production, or investment decision on others than those making it AND not reflected in the costs and benefits facing the decision-maker 2. Eg: if I turn up my radio very loud, I pay for the electricity, but not for the discomfort caused to my neighbours = negative externality 3. Eg: if I buy an Apple computer, some (small) benefit to all other owners of Apple computers = positive externality

Block

1. need to replace "old paradigm" on states and markets with "new paradigm" 2. Block surveys different approaches to the question of state-market relations

Fiscal: spend more in a recession (Keynes)

1. via "automatic stabilisers" such as unemployment insurance 2. via stimulus policies (increasing spending, cutting taxes)

Peter A. Hall, "The Economics and Politics of the Euro Crisis"

1. This article addresses puzzles raised by the Euro crisis: why was EMU established with limited institutional capacities, where do the roots of the crisis lie, how can the response to the crisis be explained, and what are its implications for European integration? It explores how prevailing economic doctrines conditioned the institutional shape of the single currency and locates the roots of the crisis in an institutional asymmetry grounded in national varieties of capitalism, which saw political economies organised to operate export-led growth models joined to others accustomed to demand-led growth. The response to the crisis is reviewed and explained in terms of limitations in European institutions, divergent economic doctrines and the boundaries of European solidarity. Proposed solutions to the crisis based on deflation or reflation are assessed from a varieties of capitalism perspective and the implications for European integration reviewed. 2. However, mainstream economic doctrine changed during the 1980s in directions that made monetary union seem more feasible and left a distinctive mark on the institutional structure of the new union. Two aspects of the new economic doctrines were especially consequential. First, mainstream economics moved away from the Keynesian view that active fiscal policy was crucial for stabilising the economy - towards the monetarist view Second, in keeping with the view that demand management was largely irrelevant to growth, the new doctrines held that economic growth depended on structural reform to the supply side of the economy, and 'structural reform' meant measures to make competition in markets for goods, labour and capital more intense. 3. However, the form taken by the crisis in Europe, which arrayed the GIIPS of 'southern' Europe against their creditors in 'northern' Europe, originated in the structural strains generated when different types of political economies were joined in a currency union. One can be described as an 'export-led' growth strategy. Governments pursuing such strategies depend on world demand to fuel economic growth. This strategy dictates relatively neutral macroeconomic policies, because growth is not primarily dependent on domestic demand and expansionary policies often fuel wage increases that threaten the competitiveness of exports. For these countries, entry into EMU posed few problems. The alternative strategy often pursued by OECD countries is to pursue growth led by domestic demand, fuelled periodically by macroeconomic expansion and a tolerance for asset booms. This type of strategy is common in liberal market economies, which usually lack the capacities for sustained wage co-ordination and incremental innovation that make an export-led growth strategy feasible. 4. Therefore, although largely unacknowledged, a basic asymmetry was built into EMU from its inception. The northern European political economies entered EMU with institutional frameworks well suited to the export-led growth strategies that offer the best route to economic success in such a union. The southern European economies entered EMU with institutional frameworks badly suited to effective competition within such a union and they lost the capacity to devalue on which many had long depended. 5. Germany, Belgium, the Netherlands, Austria and Denmark pursued strategies of competitive deflation - marked by relatively tight fiscal stances, low wage increases, incremental innovation and the gradual substitution of capital for labour. Their patterns of economic performance displayed the characteristic effects of such a strategy: growth was led by exports rather than by domestic demand, based on stable or declining unit labour costs. By contrast, the countries of southern Europe, including Spain, Portugal, Greece and Italy, continued to pursue relatively expansionary fiscal policies oriented towards the growth of domestic demand. However, since these countries could no longer devalue their exchange rates against their principal trading partners, their patterns of economic performance began to display some perverse effects. Economic growth was relatively rapid in southern Europe after 1999, but it was marked by the expansion of domestic demand and rates of inflation higher than in the north, which led to deteriorating relative unit labour costs and declining shares of world exports

Block's "old paradigm"

Core aspects of worldview 1. State and economy analytically separable, thus useful to speak of state interference or intervention in functioning of economy 2. States can be classified according to how much they intervene in the economy

Block's "new paradigm"

1. "[S]tate action always plays a major role in constituting economies" 2. Look not to quantity of state "intervention," but quality (character) of state activity Point of departure for this course I.e. people thought that if Soviet central planning discarded, markets would emerge. But markets require the centralization of functions such as money. Look at the fact that many people know who Janet Yellen is. This speaks to the centralization of the US market economy.

"free markets" vs. "state intervention"

1. These terms are massively confusing 2. Market economies are constituted by the state e.g. notes and coins made by the state. Monetary systems set up by the state define money. No market economy has a monetary system outside of state control. Property also defined by the state. Market economies are constituted by state action. This is a course about state-market interaction.

Douglass C. North, "Government and the Cost of Exchange in History"

1. A general transaction cost framework is developed to analyze the costs of exchange and the role of government in the costs of exchange. 2. Three general types of exchange are specified: personal exchange, exchange without third-party enforcement, and exchange with third-party enforcement. The framework is then employed to analyze government and the costs of exchange in history. 3. Transaction costs are the costs of specifying and enforcing the contracts that underlie exchange. 4. Personal exchange, characterizing small-scale production and local trade, has been the predominant form of organization throughout history. Cultural homogeneity (that is, a common set of values) and a lack of third-party enforcement (and indeed, little need for it) have been typical. Under these conditions transaction costs are low; but because specialization and division of labor are rudimentary, production costs are high. 5. Impersonal exchange without third-party enforcement covers an enormous variety of types of organization, spanning relatively large scale retail (and wholesale) trading, long-distance and cross-cultural trade, and forms of organization in which one party has overwhelming coercive power relative to another. The three have in common high costs of transacting and limited gains from trade. Specialization and division of labor tend to be limited to the specific form of organization and a specific type of economic activity. 6. The abstract notion of a third party impartially specifying property rights was set against the reality of very imprecise actual specification of property rights, and imperfect enforcement. Nevertheless, a society that would realize the productive benefits of great specialization can only do so with an elaborate structure of law and its enforcement. There are no cases of complex urban societies that do not have an elaborate structure of government. Impersonal exchange involves the high measurement costs of complex contracting necessary to realize the potential of the technology that comes from specialization. Neither self-enforcement by the parties themselves nor "trust" is a viable way of enforcing such contracts. It is not that ideology does not matter. It does; and as described above, immense resources are devoted to attempting to promulgate codes of conduct. But equally, the rate of return on opportunism, cheating, shirking, and so on also rises in such a context. 7. A coercive third party is essential. One cannot have the productivity of an industrial society with political anarchy. But while such a state is a necessary condition for realizing the gains from trade, it obviously is not sufficient. A state becomes the inevitable source of struggle to take control of it in the interests of one of the parties. The state then becomes the vehicle by which the costs of transacting are raised to capture the gains that will accrue to any interested party that can control the specification and enforcement of property rights. The point has been the subject of such an extensive literature that it appears to have obscured the key point. If you want to realize the potential of modern technology you cannot do with the state, but you cannot do without it either.

Asymmetric information as a barrier to entry 2

1. Akerlof, George A. "The Market for 'Lemons': Quality Uncertainty and the Market Mechanism." The Quarterly Journal of Economics 84, no. 3 (August 1, 1970): 488-500. 2. Hill, Claire A. "Securitization: A Low Cost Sweetener for Lemons." Washington University Law Quarterly 74 (1996): 1061.

Peter A. Hall, David Soskice, "Varieties of capitalism: the institutional foundations of comparative advantage"

1. At the core of the VoC perspective is the importance of "system coordination", and the idea of "institutional complementarities". In simplest terms, institutional subsystems - which govern capital and labour - mould capitalist models, and when present in the "right" form, mutually reinforce each other. The VoC approach posits that the presence of "correctly calibrated" sub-systems (i.e., financial system, labour market, training system, and inter-firm relations) increases the performance, or the so-called "comparative institutional advantage" of the firm. Taken from the economic concept of comparative advantage in trade, the basic idea is that the institutional structure of particular political economy provides firms with advantages for engaging in specific types of activities. The presence of comparative institutional advantage enhances the survival chances of the system as a whole, producing specific adjustment paths to pressures for change. 2. The core insight of the VoC approach is portrayed in terms of two major types of capitalist models distinguished by the degree to which a political economy is, or is not, "coordinated". The coordinated market economy (or CME) - dependent on non-market relations, collaboration, credible commitments and deliberative calculation on the part of firms - is diametrically opposed along all of these dimensions to the liberal market economy (or LME), whose essence is described in terms of arms-length, competitive relations, competition and formal contracting, and the operation of supply and demand in line with price signalling 3. VoC argues that institutional complementarities deliver different kinds of firm behaviour and investment patterns. Hence, in the LMEs, fluid labour markets fit well with easy access to stock market capital and the profit imperative, making LME firms the "radical innovators" they have proven to be in recent years, in sectors ranging from bio-technology through semi-conductors, software, and advertising to corporate finance. The logic of LME dynamics revolves around the centrality of "switchable assets", i.e., assets whose value can be realised if diverted to multiple purposes. In the CMEs, by contrast, long-term employment strategies, rule-bound behaviour and durable ties between firms and banks underpinning patient capital provision predispose firms to be "incremental innovators" in capital goods industries, machine tools and equipment of all kinds. In contrast to the LME, the logic of the CME revolves around "specific or co-specific assets", i.e., assets whose value depends on the active co-operation of others

David M. Woodruff, "Governing by Panic: The Politics of the Eurozone Crisis"

1. At the end of 2014, economic output in the Eurozone was still 1 percent below its level in 2007, and was only expected to equal the 2007 level at the end of 2015. These lost eight years compared unfavorably even with the Great Depression. During this period, policymakers used both fiscal and monetary policy instruments to ward off vicious circles of declining growth or financial implosion, yet did not turn these same instruments to promoting virtuous circles of expansion and avoid austerity. As late as 2014, Draghi found himself at once announcing deflation-fighting measures and defending deflation's necessity for adjustment. In short, there was a very deep intellectual incoherence at the core of the Eurozone's reaction to the crisis. 2. The virtue of a Polanyian analysis is that it accounts for this paradoxical outcome, illuminating its political roots in the use of market panic as a tool to eliminate the space for democratic choice about economic policy. Despite the operation of institutions and attitudes reflective of Polanyi's protective countermove, the joint effect of the Brussels-Frankfurt consensus and German Ordoliberalism, politically empowered by the irreplaceable role of the central bank as a tool against market panic, was to push austerity and deflationary adjustment. "The market" did not demand these policies. (A particularly revealing incident in this regard occurred in early 2012, when the credit rating agency Standard & Poor's downgraded the bonds of a number of European states because of fears that austerity could become counterproductive because of the contraction of demand.) The collapse in Eurozone interest rates after the introduction of OMT decisively illustrated once again what had long been obvious: there was no direct connection between data on budget deficits and growth prospects and the mood of the markets. Eurozone debt as a share of GDP continued to grow even as interest rates plummeted. There is no sense in which the austerity agenda was imposed by market forces; it was a political choice that governing by panic was used to implement. 3. Of the traditional explanatory triumvirate of ideas, institutions, and interests, this explanation emphasizes the first. If the thinking behind the Brussels-Frankfurt consensus had been less deeply embedded in European institutions, if Ordoliberalism's rule-consequential style of thinking were less prevalent in Germany, a deadlock could have been avoided and breakthrough to sustained stimulus would have been possible 4. Institutions were not irrelevant. Treaty provisions and the veto power Germany held over many potential actions at the European or Eurozone level contributed to the credibility of the ECB threat to stand aside in the face of market panic. However, these institutions only facilitated the pursuit of particular aims; they did not specify these aims. Flexibility was possible. The extensive creation of new treaty arrangements (such as the fiscal compact) in the course of the crisis, as well as the ECB mission creep involved in its detailed policy recommendations and adoption of a lender-of-last resort role, illustrate the potential flexibility of the rules. The possibilities for approving more extensive deficit spending created by treaty references to "structural" deficits could have been exploited to a much greater extent than they were. There is no sense in which the austerity agenda was imposed by European or Eurozone institutions; it was a political choice. 5. As for interests, this was certainly a case where they did not "come with an instruction sheet." Consider two of the relevant interests often cited. The politicians of creditor countries, such as Germany, could have focused on the benefits of stimulating demand for exports rather than on the costs of bailouts. And the taming of the bond market panic after 2012 suggests that the options for addressing financial-sector difficulties were certainly not limited to austerity. 6. Despite the disasters it chronicles, it is possible to read TGT in an optimistic vein: the spastic crisis-fighting innovations of the interwar period could be the harbingers of a new form of enlightened economic management; the demise of financial panic as an ultima ratio in class conflict would reveal that tensions between markets and democracy were not inherent to these two institutions

J. Lawrence Broz, "Origins of the Federal Reserve System: International Incentives and the Domestic Free-Rider Problem"

1. Before 1914 the United States faced two major problems of financial organization. On the one hand, it experienced panics and severe seasonal interest-rate fluctuations long after other nations had found solutions to these problems. Indeed, the nation experienced panics in a period ''when they were a historical curiosity in other countries.'' On the other hand, the dollar lacked international currency status, and major U.S. banks did not participate in financing international trade. Domestic institutions and regulations not only failed to produce stabilizing expectations at home but also kept the dollar a purely national currency, even as the nation's advancing global position generated worldwide demand for dollar-denominated financial services. 2. From a national welfare perspective, domestic financial instability involved wasted resources, since panics and large seasonal fluctuations in interest rates rebounded negatively on financial intermediation services and on real economic activity. Yet simply because society would benefit from a better financial system did not make its provision easy or automatic. Provision was problematic because any effort to improve the system was itself a public good and, therefore, subject to the dilemmas of collective action. Fortunately, New York bankers were willing to expend resources lobbying for the improvements contained in the Federal Reserve Act. Why this group worked to make all of society better off is explained by the joint products model. Internationalizing the dollar and reducing domestic financial instability were two distinct but interdependent goods that differed in ''publicness''—the former offered excludable, localized benefits, whereas the latter presented diffuse, general benefits. National welfare was advanced because the production of the concentrated private benefits required production of the general public benefits. Hence, it was rational for the small group seeking the private international benefit to design and lobby for institutions that simultaneously advanced the provision of both goods. 3. With the establishment of the Federal Reserve, the domestic financial system became markedly more stable, notwithstanding the banking crisis of the 1930s. In addition the dollar began to compete seriously with sterling as an international currency, and New York began to challenge London as an international banking center. By 1916 the dollar had largely replaced the pound as the means of payment, not only for U.S. exports and imports but also for most of Europe's trade with Latin America and Asia. By 1919 the total volume of dollar acceptances outstanding had reached $1 billion, approximating London's prewar level. The New York discount market eroded London's dominant position as reserve center by offering relatively cheap credit facilities for borrowers as well as reliable investment opportunities for foreigners seeking a stable store of value. In short the United States emerged as a nascent ''world banker,'' providing dollar-denominated liquidity to the international system. Nonresidents accumulated dollar balances to maintain liquidity and/or undertake investment, to pay for imports invoiced in dollars, and to service loans for capital development that were denominated in dollars. America's halting, tentative first steps as financial ''hegemon''in global affairs date from this period.

Williamson's "markets and hierarchies" paradigm

1. Boundaries of firm—set up to minimize transaction costs 2. Asset specificity and the credible commitment problem Note: Williamson's argument has had an influential impact on comparative political economy. Williamson trying to understand why there are firms when you could rely on a decentralized model. Williamson argues that firms specialize to minimize transaction costs.

"Hold-up with specific assets" 2

1. Buyer has incentive to try to renegotiate price ("hold up" seller) because of seller's weak fall-back position 2. Buyer commitment to pay original price not credible: focus on last bit of WIlliamson's article that touches on labor markets

Karl Marx, "Capital: a critique of political economy," Chapter 32

1. The German philosopher believed society consisted of two classes: those with capital and those without it 2. Because capitalists owned the means of production, they were able to leave their workers with only enough to survive and keep for themselves handsome profits 3. On to this static model, Marx added a dynamic element. He imagined that ownership of capital would become increasingly concentrated until the growing number of dispossessed individuals seized the means of production and put an end to their exploitation 4. That is to say, elimination of the class structure founded upon an unequal distribution of assets represented the only solution for Marx.

Karl Polanyi, "The Great Transformation," Chapter 11

1. By the turn of the nineteenth century—universal suffrage was now fairly general—the working class was an influential factor in the state; the trading classes, on the other hand,whose sway over the legislature went no longer unchallenged, became conscious of the political power involved in their leadership in industry. This peculiar localization of influence and power caused no trouble as long as the market system continued to function without great stress and strain; but when, for inherent reasons, this was no longer the case, and tensions between the social classes developed, society itself was endangered by the fact that the contending parties were making government and business, state and industry, respectively, their strongholds. Two vital functions of society—the political and the economic—were being used and abused as weapons in a struggle for sectional interests. It was out of such a perilous deadlock that in the twentieth century the fascist crisis sprang. 2. From these two angles, then, we intend to outline the movement which shaped the social history of the nineteenth century. The one was given by the clash of the organizing principles of economic liberalism and social protection which led to deep-seated institutional strain; the other by the conflict of classes which, interacting with the first, turned crisis into catastrophe.

Karl Marx, "Capital: a critique of political economy," Chapter 27

1. Capitalist appropriation of peasant lands began in the late 1400s 2. From the end of the 15th century to the start of 16th century, the British government, as he put it, "fought in vain" against these then small-scale acts of larceny 3. Following the Glorious Revolution of 1688, however, the state, now under the direction of William II and his allies in Parliament, sided with the industrialists. The British government not only turned over its massive landholdings to capitalists but also used the law as "the instrument of the theft of the people's land." Parliamentary acts of enclosures transformed communal lands into the private property of landlords. In so doing, these acts forced the peasants who once inhabited these grounds on to the labor market, as they no longer had any holdings on which to rely for their subsistence

John Maynard Keynes, "The general theory of employment interest and money," Chapter 12

1. Chapter 12 is, of course, the wonderful, brilliant chapter on long-term expectations, with its acute observations on investor psychology, its analogies to beauty contests, and more. 2. Its essential message is that investment decisions must be made in the face of radical uncertainty to which there is no rational answer, and that the conventions men use to pretend that they know what they are doing are subject to occasional drastic revisions, giving rise to economic instability 3. Or, to change the metaphor slightly, professional 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 practise the fourth, fifth and higher degrees. 4. 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 on a mathematical expectation, 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 a result of animal spirits — of a spontaneous urge to action rather than inaction, and not as the outcome of a weighted average of quantitative benefits multiplied by quantitative probabilities. Enterprise only pretends to itself to be mainly actuated by the statements in its own prospectus, however candid and sincere. Only a little more than an expedition to the South Pole, is it based on an exact calculation of benefits to come. Thus if the animal spirits are dimmed and the spontaneous optimism falters, leaving us to depend on nothing but a mathematical expectation, enterprise will fade and die; — though fears of loss may have a basis no more reasonable than hopes of profit had before.

Bargaining space

1. Consumer wants to pay between 10p and 8p for a strawberry 2. Farmer wants to sell it for between 10p and 12p

John W. Cioffi, Martin Hopner, "The Political Paradox of Finance Capitalism: Interests, Preferences, and Center-Left Party Politics in Corporate Governance Reform"

1. Corporate governance reform and the development of finance capitalism across the advanced industrial countries are frequently characterized as neoliberal or right-wing political projects, and the center-left is represented as goaded by labor and as standing in opposition to the empowerment and protection of shareholders. This understanding does not withstand closer scrutiny of the political dynamics of reform. In countries with such varied political economies as France, Italy, Germany, and the United States, the center-left has supported pro-shareholder corporate governance reforms while the right has consistently resisted them. This realization forces us to rethink how contemporary party politics functions and how class politics has been transformed over the course of a generation. 2. The analysis developed here illuminates several critical aspects of contemporary political economic development. First, political economic change over the past fifteen years has provided the foundations for an evolving paradigm of finance capitalism in which the interests of investors have become far more important in terms of law, policy, and private economic decision making. One important catalyst of reform, in all the country cases save that of the United States, was the privatization of state-owned enterprises. This factor was especially prominent in France and Italy, but also present in Germany as well. Induced by chronically poor economic performance of state-owned firms and the resulting drain on public resources, European political economic integration under EU auspices further exacerbated these fiscal pressures and impelled privatization. Corporate governance reform and associated minority shareholder protections provided a precondition for successful privatization programs. These reforms also reflected the political and practical difficulties in formulating and implementing alternatives to dispersion of shareholding through privatization. Leftist political resistance to allocations of shares that would directly benefit and reinforce the power of powerful financial institutions and blockholders, along with practical difficulties revealed by the French failure to establish a German-style stable cross-shareholding network, left the more regulatory, law-based variant of corporate governance reform as the most plausible policy course. The regulatory state and newly activated conflicts among between managers, capital, and labor are central to this new form of political economic organization. 3. Second, structural change is both widespread and deep. Corporate governance reform has expanded the scope and capacities of the regulatory state, just as it has reshaped the structure and power relations within the corporate firm. In each case, regulation has grown more stringent, extensive, and centralized, while penetrating into corporate form to favor shareholders and constrain managers. These common elements of corporate governance and cognate areas of securities regulation have become entrenched features of governmental policy and political economic organization, enduring in the face of subsequent electoral shifts and persistent conflicts. 4. Finally, and most central to this paper, corporate governance reform is inseparable from a historic shift in national party politics and interest group preferences that has induced center-left parties to advance pro-shareholder and pro-reform policy agendas. Center-left political actors have taken the lead in advancing corporate governance reform, rather than unions, shareholders, or other interest groups. Shareholders are too poorly organized (as in the United States) or too few in number (in Continental Europe) to constitute an effective coalition partner, while labor remains somewhat ambivalent and peripheral to the politics of financial system and corporate reform. Though private interests may have been favorably disposed to pro-shareholder legislation and regulation, state actors on the center-left initiated corporate governance reform in each country case and have been instrumental in fashioning new interest group alliances.

Ways of reducing transaction costs so exchange can go forward 2

1. Costs reduced by "Coining" or standardisation A. Measuring valuable attributes of transacted good/service Costs reduced by "Coining" good behaviour 1. Protecting rights 2. Policing and enforcing agreements Note: state reduces transaction costs, because state protects property and enforces contracts

The Institutional Solution

1. Third-party enforcement: 2. North (258): "an impersonal body of law, courts, and the coercive power to enforce judgments are fundamental factors in permitting the complex contracting essential to a world of specialization and impersonal exchange."

Ronen Mandelkern, "Explaining the Striking Similarity in Macroeconomic Policy Responses to the Great Recession: The Institutional Power of Macroeconomic Governance"

1. Despite remarkable political-economic variation, macroeconomic policy evolved in the countries discussed above in a similar fashion. In all cases, central banks poured liquidity into financial markets immediately and decisively, while concurrently, as economic conditions deteriorated, governments made sure that automatic stabilizers were operating without interruption. Both policies were not implemented just because they were "the obvious thing to do" but also because they conformed to the prevailing structure of macroeconomic governance: "Automatic" fiscal expansion did not undermine the logic of limited politicians' discretion and extensive monetary expansion conformed well to central bank independence. 2. At the center of political contention stood discretionary fiscal expansion. In many respects, governments' attitudes to that policy issue conformed to prevailing insights regarding the impact of various political and economic variables on fiscal expansion. For example, at the height of the crisis, in a context of severe uncertainty regarding the scope of the recession, the rightwing Swedish government was much more reluctant to adopt fiscal expansion than the left-wing Australian government. Similarly, while both the United Kingdom and the United States were severely hurt by the financial meltdown, the U.K. Labour government was much more willing to adopt counter-cyclical fiscal measures than its U.S. counterpart was, especially before a Democratic administration was inaugurated. In other words, electoral and interest-based politics were not completely shut out and did influence the specific size of discretionary fiscal expansions. 3. Nevertheless, and crucially, prevailing macroeconomic institutional logic eventually directed all governments to follow a similar pattern of policy expansion that did not hinder the "rules-based" logic of fiscal policy and its basic subordination to monetary policy. In most cases, governments were willing beforehand to follow the "right" route, and when they were not—in the British case—the central bank effectively intervened. 4. Finally, the macroeconomic instruments that were left available were those placed in the monetary policy basket, and more importantly, in the hand of the central banks. Policy instruments were utilized by central banks to match the economic stress each country suffered, and were accordingly utilized more extensively in the United States and the United Kingdom and less so in Australia and Sweden (although in these two cases too monetary expansion was unprecedented). Indeed, there seems to be a close link between the decisive action of central banks at the beginning of the crisis and the legitimacy they enjoyed later on when further conducting monetary expansion.

Institutions defined

1. Douglass North: Institutions are the rules of the game in a society or, more formally, are the humanly devised constraints that shape human interaction. In consequence they structure incentives in human exchange. 2. Note: other definitions stress expectations and imply that institutions contain scenarios. These definitions have a rule built in. Institutions are required for a market economy, but not transactions.

Measurement costs illustrated

1. E.g. value easier to ascertain with silver coin, silver necklace than with silver ore 2. Very different costs associating with divining value 3. Hunk of silver ore: hard for Woodruff to ascertain value 4. Same thing with antique Central Asian necklace 5. But with Maria Theresa coin, easy to tell 6. Same with M+S sandwich, but don't have to worry about poisoning 7. One way of reducing measurement costs is standardization e.g. coinage. But doesn't just apply to money

Transactions without a market

1. Farmer offering strawberries to consumer with a willingness to pay (WTP) of 10p. 2. Sale of strawberry does not mean that there is a market 3. Market implies competition, usually between sellers 4. Competition is a function of market entry. 5. For market entry to be possible, the price has to be attractive to consumers. 6. It's possible for there to be barriers to market entry. 7. Can't have significant barriers to entry in markets e.g. a Russian in Moscow can't cut an Englishman's hair in London (logistical barrier)

Marie-France Garcia-Parpet, "The Social Construction of a Perfect Market: The Strawberry Auction at Fontaines-en-Sologne"

1. Garcia-Parpet's study of the introduction of a computerized market for strawberries at Fontaines-en-Sologne, a French village. 2. This market came to an economist's dream with relatively homogenous commodities, low barriers to entry, competitive buyers and sellers all with fairly complete knowledge about the quantities and prices on offer. 3. Garcia-Parpet examines how the market was shaped to meet the economists' ideal vision. The market was a deliberate, planned creation: one of its architects was an economist. 4. Surprisingly, buyers and sellers became even closer as a result of the formation of the market. That is to say, it did not atomize them, but social bonds remained.

Hold Up Problem

1. Hold-up arises when part of the return on an agent's relationship-specific investments is ex post expropriable by his trading partner. The hold-up problem has played an important role as a foundation of modern contract and organization theory, as the associated inefficiencies have justified many prominent organizational and contractual practices. 2. Investments are often geared towards a particular trading relationship, in which case the returns on them within the relationship exceed those outside it. Once such an investment is sunk, the investor has to share the gross returns with her trading partner. This problem, known as hold-up, is inherent in many bilateral exchanges. For instance, workers and firms often invest in firm-specific assets prior to negotiating for wages. Manufacturers and suppliers often customize their equipment and production processes to the special needs of their partners, knowing well that future (re)negotiation will confer part of the benefit from customization to their partners. Clearly, the risk of the investor being held up discourages him or her from making socially desirable investments.

Karl Polanyi, "The Great Transformation," Chapter 12

1. The true implications of economic liberalism can now be taken in at a glance.Nothing less than a self-regulating market on a world scale could ensure the functioning of this stupendous mechanism. Unless the price of labor was dependent upon the cheapest grain available, there was no guarantee that the unprotected industries would not succumb in the grip of the voluntarily accepted taskmaster, gold. The expansion of the market system in the nineteenth century was synonymous with the simultaneous spreading of international free trade, competitive labor market, and gold standard; they belonged together. No wonder that economic liberalism turned almost into a religion once the great perils of this venture were evident. 2. The great variety of forms in which the ''collectivist'' countermovement appeared was not due to any preference for socialism or nationalism on the part of concerted interests, but exclusively to the broad range of the vital social interests affected by the expanding market mechanism. This accounts for the all but universal reaction of predominantly practical character called forth by the expansion of that mechanism.

Fred Block, "Crisis and renewal: the outlines of a twenty-first century new deal"

1. This paper attempts to combine the insights in these bodies of scholarship to situate the 2007-2009 crisis in relation to long-term development patterns. It also seeks to outline what kind of new 'regime of accumulation' could be constructed in the aftermath of the crisis. While the usage here diverges somewhat from the Regulation theorists, it encompasses the institutional reforms necessary to undergird a new period of sustained economic growth. 2. The Fordist regime of accumulation in the USA, in short, rested on mass production of automobiles and other consumer durables by unionized, semi-skilled workers whose income kept pace with productivity advances. The purchasing power of these production workers helped to sustain a pattern of demand based on suburban growth, automobiles and single family homes. These arrangements were supported by significant federal investments in building the highway system and in maintaining supplies of cheap petroleum. These sources of demand were supplemented by continuing high levels of military production, even during periods between hot wars. The large corporations who produced most of the consumer durables were able to finance expansion by reinvesting profits, so pools of available financial capital were directed elsewhere in the economy. A system of consumer-oriented finance, centring on home mortgages, supported the mass consumption economy 3. The strong global dimension is important because the infrastructure of the global economy has historically depended on a hegemonic power—England in the nineteenth century and the USA from World War II onward (Polanyi, 2001 [1944]). Large US corporations exported capital in the form of foreign direct investment as a way to participate in overseas growth opportunities and the Bretton Woods system of 'embedded liberalism' provided an infrastructure in which strong US economic growth was reinforced by high growth rates overseas (Ruggie, 1982). 4. Entrenched business interests such as the auto companies, the petroleum industry, defence firms and big financial institutions worked hand-in-hand with conservative political leaders to construct a 'free market' regime of accumulation designed to bolster business profits at the expense of all other social groups. The strategy that they pursued was to reverse almost all of the key reforms of Roosevelt's New Deal. The accord between business and labor was jettisoned, the social safety net was weakened, and the share of income going to the top 1% of households increased dramatically as a result of changes in tax law, changes in financial regulation, and new corporate compensation practices 5. However, this project lacked a way to generate significant new productive investments in the economy. This is what made it an ersatz regime; it relied for economic growth on almost all of the same sources of demand that had been dominant under Fordism—single family housing, automobiles and defenc production. The only exception to this—new investments by business and households in computer-based technologies—was an accidental rather than an intrinsic part of a new regime of accumulation. 6. These efforts were ultimately an exercise in policy nostalgia that worked only by squeezing some additional life out of the Fordist regime of accumulation. This exercise relied on a combination of domestic Keynesian measures and increased borrowing, including massive borrowing from abroad. The expansions in the 1980s and 1990s were surprisingly vigorous because of the contingent and unexpected growth in the computer industry that provided unusually strong support for employment, investment and demand. The computer boom in the 1980s centered on the rapid growth in the market for personal computers, while that in the 1990s was driven by the take off of web-based computer applications that kept personal computer sales strong and led to a new round of investment in software and web applications. 7. Another continuity was the resort to domestic Keynesian stimulus as a means to bolster employment growth. Both Reagan and George W. Bush presided over quite substantial increases in defence spending, whereas the Clinton Administration used minimum wage increases and expansion in the Earned Income Tax Credit to expand purchasing power at the bottom of the income distribution. However, the most important factor was the more rapid growth of consumer borrowing in all three of these economic expansions shift of income towards the top 10% started in motion, the only way that most consumers could maintain their standard of living was by taking on increased debt. Since there was a strong upward trend in housing prices across these expansions, consumers were able to borrow against their increasing equity in housing—using their homes as automated teller machines. This dramatic expansion in consumer credit worked to breathe new life into the exhausted model of suburban-based mass consumption, but by the 2000s, the fragility of the strategy was increasingly apparent. To keep things going, there was an unprecedented expansion of credit—often on predatory terms—to urban minorities who had previously been excluded from access to mortgage finance. When this subprime lending boom suddenly halted, so, also did the whole economic expansion because of its dependence on ever-increasing debt levels 8. All three of these economic expansions also depended on foreign borrowing. The pattern was set in the early 1980s when the Reagan Administration was trying to revive the economy after the 1981-1982 downturn. The combination of massive tax cuts and increased military spending assured that the federal budget deficit would increase and the US international payments were in chronic deficit because imports greatly exceeded exports and the US government was spending vast sums overseas on military and political initiatives. The Reagan officials were surprised to find that other nations, particularly in Asia, were willing to loan the USA the funds to cover both of these chronic deficits. 9. This began a pattern that continued for the next quarter century. By all accepted theories of international economics, nations that run balance of payments deficits are supposed to carry out adjustments that move their accounts back towards balance. However, the US simply ignored this fundamental principle and foreigners continued to finance the US deficits. They did so because the obvious alternative—a sharp contraction in the US economy designed to adjust its payments balance—would have led to a global economic slowdown, resulting in heightened unemployment, particularly in the Asian nations that ran chronic trade surpluses with the USA. In short, the world colluded in pretending that the US deficit was not a serious problem

Mark Granovetter, "Economic Action and Social Structure: The Problem of Embeddedness"

1. How behavior and institutions are affected by social relations is one of the classic questions of social theory. 2. This paper concerns the extent to which economic action is embedded in structures of social relations, in modern industrial society. 3. Although the usual neoclassical accounts provide an "undersocialized" or atomized-actor explanation of such action, reformist economists who attempt to bring social structure back in do so in the "oversocialized" way criticized by Dennis Wrong. 4. Under- and oversocialized accounts are paradoxically similar in their neglect of ongoing structures of social relations, and a sophisticated account of economic action must consider its embeddedness in such structures. 5. The argument is illustrated by a critique of Oliver Williamson's "markets and hierarchies" research program. 6. "oversocialized conception of man in modern sociology"-a conception of people as overwhelmingly sensitive to the opinions of others and hence obedient to the dictates of consensually developed systems of norms and values, internalized through socialization, so that obedience is not perceived as a burden. 7. Classical and neoclassical economics operates, in contrast, with an atomized, undersocialized conception of human action, continuing in the utilitarian tradition. The theoretical arguments disallow by hypothesis any impact of social structure and social relations on production, distribution, or consumption. 8. In this article, I have argued that most behavior is closely embedded in networks of interpersonal relations and that such an argument avoids the extremes of under- and oversocialized views of human action.

Indeterminacy of state's role in macroeconomic stabilisation

1. How much unemployment is too much? 2. How much inflation is too much? 3. How to reconcile decisions on domestic value of currency and international value of currency? (Note: these are not drawn from Block, who stresses instead multiple ways macroeconomic stabilisation might be pursued)

Terminology, I

1. In Europe (and usually in social science) A. "Government" = ministers presently at head of executive authority B. "State" = public authorities as a whole 2. In U.S. A. "Government" = public authorities as a whole B. "State" = one of 50 in the federation

Fred Block, "The Roles of the State in the Economy"

1. In it, Block implicitly charts his own intellectual conversion through an attempt to theorize what he labels the 'old ' and the 'new' paradigms that define the role of the state in the economy and, in a quite revealing manner, tells us why political economy is decidedly very marginal for the new economic sociology 2. The 'old' paradigm, Block argues, is based on the assumption that the state and the economy are 'analytically separable entities', so states can interfere more (socialist, developmental state) or less (public goods, macroeconomic stabilization state) in the economy. 3. This gives ideal types (the mid-point is the social rights state). 4. This paradigm, Block claims, was based on two relatively unresearched 'prejudices' that states are parasitical and wasteful (the neoliberal prejudice) and that markets produce inequality and dehumanization (the socialist prejudice). 5. Submerged by literature on state inefficiency and corruption on the one hand and the inadequacies of the market on the other, some might be surprised to learn that these issues 'now appear as glaring omissions from the research agendas fostered by the old paradigm but it is not so difficult to agree that the 'old' paradigm is exhausted. The 'new' paradigm 'recognizes that economic activity will always involve some combination of state action and markets . . . because states are needed to constitute economies . . . markets represent a logical and useful device for aggregating [individual] choices' (p. 697). 6. This is the market reconstruction paradigm - it is also something of a Fred Block reconstruction paradigm too - and it clearly makes a great deal of sense for the new economic sociology defined, as we have seen above, to exclude virtually no social forces or institutions from a part in explaining and understanding 'the economic process'. 7. So it is not surprising to find the influence of Polanyi in the historical genesis of the new paradigm, for it is the embeddedness of the economy in social relations writ large, particularly the roles of the state, that is at the heart of the new paradigm.

Hill, Claire A. "Securitization: A Low Cost Sweetener for Lemons."

1. In recent financial crisis, banks buying big packages of loans. Packaging made it possible to hide bad loans.

Joel Mokyr, John Nye, "Distributional Coalitions, the Industrial Revolution, and the Origins of Economic Growth in Britain"

1. In the first two hundred years or so of the movement, those who lost their land to enclosure had no recourse, legal or otherwise, to recover it 2. Mokyr and Nye are unique in labeling enclosure as an efficient outcome through which ownership shifted to the innovative, the productive and the successful 3. This praise of efficiency extends more generally to their analysis of the Glorious Revolution and its socioeconomic ramifications. The Revolution plays an important role in their narrative, because it "removed the contestability of rule-making from the British polity" and established Parliament as "a body that was receptive to both changing needs and changing ideology" 4. More specifically, the watershed event brought Britain the rule of law and a Parliament that responded to Enlightenment ideas as well as its wealthy constituents. With its enclosure acts, for instance, Parliament pleased the rising capitalist elite as well as the landholding aristocracy by making it easier for both of them to seize land. The duo sees actions such as these as efficient, because they built political support for industrialization and pushed Britain closer to a market economy. 5. Be that as it may, the legislative body did more than just advance the agenda of ascendant national industrialists at the expense of the incumbent local interests. With these distributional questions resolved, Parliament could reify nascent Enlightenment ideas about the proper operation of the free market and transform Britain into the economic superpower of the 18th and 19th centuries.

Fritz W. Scharpf, "Monetary Union, Fiscal Crisis and the Preemption of Democracy"

1. In the present essay I will focus on the European Monetary Union (EMU) which has removed crucial instruments of macroeconomic management from the control of democratically accountable governments. Worse yet, it has been the systemic cause of destabilizing macroeconomic imbalances that member states found difficult or impossible to counteract with their remaining policy instruments. And even though the international financial crisis had its origins outside Europe, the Monetary Union has greatly increased the vulnerability of some member states to its repercussions. Its effects have undermined the economic and fiscal viability of some EMU member states, and they have frustrated political demands and expectations to an extent that may yet transform the economic crisis into a crisis of democratic legitimacy. Moreover, present efforts of EMU governments to "rescue the Euro" will do little to correct economic imbalances and vulnerabilities, but are likely to deepen economic problems and political alienation in both, the rescued and the rescuing polities. 2. Even more important, however, were the institutional differences of national wage setting systems. The Monetarist regime worked in Germany because wage leadership was exercised by large and economically sophisticated industrial unions that had learned to operate within the monetary constraints. In countries with powerful, but fragmented and competitive unions and decentralized wage-setting institutions, by contrast, unions simply did not have the capacity to contain the inflationary pressures of wage competition 3. By 2007, therefore, conditions in the Eurozone could be described as follows: The Monetary Union had achieved its proximate political purposes by eliminating currency fluctuations and interest-rate differentials among its member economies. At the same time, however, it had deprived member governments of the monetary and exchange-rate instruments of macroeconomic management and it had tried, through the Stability Pact, to also constrain their employment of fiscal instruments. But since the Eurozone was not an "optimal currency area", the imposition of one-size-fits-all ECB interest rates produced "asymmetric" impulses in EMU economies with above average or below-average rates of growth and inflation. In low-growth Germany, high real interest rates had deepened and prolonged a recession which, since monetary as well as fiscal reflation were ruled out, was eventually overcome through wage restraint and supply-side "reforms" that constrained domestic demand and increased export competitiveness. In GIPS economies, by contrast, very low real interest rates had fueled credit-financed economic growth and employment, but also rapid increases in unit labor costs that reduced export competitiveness. The resulting rise of current-account deficits was accommodated by equally rising capital inflows from investors in surplus economies leading rising external debts accumulated primarily or exclusively in the private sector. As a consequence, GIPS economies were becoming extremely vulnerable to potential disturbances in international financial markets that might induce capital flight - followed by potential liquidity and solvency crises. 4. Governments in GIPS countries may have been as unconcerned as the American or British governments about the rise of these imbalances. But even where they tried to constrain their overheating economies through fiscal retrenchment and attempts at wage moderation, the instruments of macroeconomic policy that were still available to national governments proved insufficient to neutralize the expansionary effects of EMU monetary impulses. At the same time, moreover, the escalating economic imbalances and vulnerabilities were of no concern for EMU policy makers, neither for the Commission enforcing the Stability Pact nor for the ECB carrying out its mandate to ensure price stability. 5. For how long external imbalances in the Euro zone could have continued, whether they could have been gradually corrected by market forces or would soon have ended in a crash, has become an academic question. In the real world, the international financial crisis of 2008 did trigger chain reactions which, in the Eurozone, had the effect of transforming the vulnerability of the deficit countries into a systemic crisis that is thought to challenge the viability of the Monetary Union itself. The much-researched story is far too complex to be retold here in any detail, but for present purposes a thumb-nail sketch of three distinct, but causally connected crises will suffice. 6. Initially, the direct impact of the American "subprime mortgage crisis" and the Lehman bankruptcy was limited to European countries that had allowed their banks to invest heavily in "toxic" American securities. Apart from the UK, the main victims were Germany and Ireland, whereas in Spain banking supervision had effectively prevented Spanish banks from engaging in off-balance activities abroad. As a consequence, the budget deficits of countries that had to rescue "system-relevant" private or public banks, escalated to previously unheard-of levels 7. The secondary impact of the international financial crisis was a dramatic credit squeeze on the real economy as banks had to write off insecure assets on their balance sheets while interbank lending was stopped by mutual distrust. As a consequence, economic activity declined and unemployment increased in the countries immediately affected by the banking crisis, and these effects spread quickly to closely-linked other economies. In addition to the fiscal effects of bank bailouts, therefore, governments had to accept a steep decline of tax revenues and an equally steep rise of expenditures on unemployment and on the protection of existing jobs. Quite obviously, however, the effects of the credit squeeze would hit hardest on countries whose economic activity had come to depend most on the availability of cheap credit and massive capital inflows- which in the Euro zone had been true of the GIPS economies. In Ireland and Spain, moreover, the real-estate bubble had burst under the impact of the recession, and the defaults of mortgages created a secondary banking crisis in which governments had to rescue even more financial institutions (or their creditors in the financial institutions of surplus economies). The result was an even more dramatic rise of public-sector deficits and debt ratios even in countries like Spain and Ireland whose indebtedness had been far below the Eurozone average 9. In the process, thirdly (and belatedly), international rating agencies and investors ceased to be satisfied with the elimination of currency risks and finally began to worry about the sustainability of public-sector indebtedness - in particular for countries whose current-account deficits suggested economic weaknesses that might also affect the capacity of governments to meet financial commitments. As this happened, the price of outstanding bonds declined, refinancing as well as the placement of new issues became difficult, and the convergence of nominal interest rates on German levels came to an end. As a consequence, risk premia on sovereign debt rose to very high and practically prohibitive levels after 2008 10. The specter of "sovereign default" arose first in Greece. There, the incoming Pasok government had to admit that public sector deficits (which had significantly violated the Stability Pact even during the high-growth years following accession to the Euro zone in 2001) had in fact been grossly under-reported by its predecessors. Confronted with the potential repercussions of Greek bankruptcy on their own banks, and with speculative attacks on other EMU member states, capital-exporting countries agreed to create a common "Stability Mechanism" that would ensure Greek government obligations − which was soon followed by a much larger European Financial Stability Fund (EFSF) whose guarantees were first invoked by Ireland and now also by Portugal. In all cases, governments had to accept extremely tough commitments to fiscal retrenchment and supply-side policy reforms - which are becoming the model for a general regime of fiscal supervision and controls in the Eurozone. 11. I will now turn to issues of democratic legitimacy. From the perspective of citizens in Greece, Ireland and Portugal, the European and international agencies imposing the "rescue-cum-retrenchment" program are not, themselves, supported by democratic legitimacy. What matters, therefore, is the relationship between citizens and the national governments that are accountable to them 12. "Output-oriented legitimacy" reflects popular responses to outcomes that may be attributed to the policy output of the government whose performance is in issue. Here, the first general observation is that voters cannot be required to be fair, and that governments may be punished for outcomes they did not control. The second general point is that electoral responses will reflect relative judgments: Three million unemployed in Germany may be a political disaster or a celebrated success depending on the figures in recent years. With that in mind, the "rescue-cum-retrenchment" regime that is presently imposed on GIPS countries can only be considered a political disaster. Two-digit and still rising rates of unemployment, wage cuts, and rising social inequality will surely not generate outcome satisfaction. Under such conditions, GIPS governments cannot hope to benefit from output-oriented legitimacy. 13. But that does not, by itself, rule out the possibility of input-oriented legitimation. Democracy is about collective self-determination, rather than about wish fulfillment. It is compatible with the need to respect external constraints, and it may also support hard choices and painful sacrifices − provided that these can be justified in public discourses as being effective and normatively appropriate in dealing with common problems or achieving the collective purposes of the polity. At the same time, however, input-oriented democratic legitimacy does presuppose the possibility of politically meaningful choices, and it is not at all compatible with a situation where choices are pre-empted by external domination 14. Like Thatcher, the present Greek and Irish governments may, at least for a while, benefit from blaming present hardships on their political predecessors. But they must still struggle with the perception that the "understandings" they had to sign in order to obtain the guarantees of the Financial Stability Fund read less like self-chosen programs than like protocols of an unconditional surrender. Thus in order to be able to hang on, they may desperately need to negotiate for politically visible European "concessions" and for permission to adopt at least some "non-liberal" policies to alleviate the worst plight of their constituents. If they should fail, and if changes of governments would not seem to make a difference, the legitimacy of the democratic regime itself may be in danger - especially in polities where democratic government is itself a relatively recent achievement. 15. But political resignation, alienation and cynicism, combined with growing hostility against "Frankfurt" and "Brussels", and a growing perception of zero-sum conflict between the donors and the recipients of the "rescue-cum-retrenchment" programs, may create the conditions for anti-European political mobilization from the extremes of the political spectrum. In the worst case, therefore, the attempts to save the Euro through the policies presently enacted may either fail on their own terms, or they may not only undermine democracy in EU member states but endanger European integration itself.

Peter Hall, "The Evolution of Varieties of Capitalism in Europe."

1. It argues that cross-national divergence in institutional practices and patterns of economic activity of the sort emphasized by VoC approaches persists over time, and that those approaches are important for understanding change in the political economy because they direct our attention to the ways in which the institutional structures of the political economy condition it. I argue that the institutional structures constitutive of distinctive VoC have influential effects, not only on the actions of firms and governments, but on the response of political economies to socio-economic challenges.While never fully determining that response, these structures and the strategies they engender at the firmlevel tend to push political economies along distinctive adjustment paths. This perspective generates a dynamic conception of VoC that sees them, not as a set of institutional differences fixed over time, but as bundles of institutionalized practices that evolve along distinctive trajectories. Seen from this angle, institutional change of the magnitude that attracts attention today is not an uncommon occurrence or a sign that VoC are dissolving, but a continuous feature of VoC. 2. institutional change in the political economy is not a new phenomenon and VoC are best seen, not as a set of stable institutional models, but as a set of institutionally conditioned adjustment trajectories displaying continuous processes of adaptation. Indeed, some of the features most associated with contemporary models of capitalism appeared in the 1970s rather than the 1950s. However, similar socio-economic challenges rarely called forth identical national responses. Over six decades, the challenges have not swept away important cross-national national differences in the organization of economic activity. 3. As Mark Twain might have said, rumours of the death of CMEs are greatly exaggerated. In some countries, such as Sweden, they are performing reasonably well. Even in Germany, where the headlines stress high levels of unemployment, reorganization in the corporate sector has been profound, as in France. Many of Germany's firms are highly profitable, and its exports have reached record levels. Although intensified by the challenges of reunification, its adjustment process has been protracted but highly effective in some respects. I read the loosening of sectoral coordination as an adjustment that preserves many of the strategic capacities inherent in German institutions. It is not surprising that wage coordination should operate differently when unemployment, rather than inflation, is the main economic problem. However, it is undeniable that France and Germany are suffering from high levels of unemployment that depress their rates of growth. Their institutions have been better at improving productivity than at creating jobs, and that fact is creating political, as well as economic, dilemmas. 4. Today, however, the conflict is about the distribution of work, and the approaches nations are taking to the problem are creating distinctive political dynamics. Building on institutions developed in the 1960s and 1970s, Sweden is promoting labour mobility and secure public sector employment oriented to general skills. The effect has been to lower the institutional divisions between economic insiders and outsiders, making it more feasible for the Swedish social democrats to build cohesive political coalitions. 5. By contrast, France and Germany are building dual labour markets that create a growing number of temporary or part-time positions at relatively low wages alongside those in the industrial or public sectors that offer higher levels of wages and job security. In each economy, more than four million people now hold such jobs. From the perspective of job creation, the strategy has merit, and it may not seriously damage the capacities for strategic coordination elsewhere in the German economy. But the political effects of such strategies may be more deleterious. They drive a wedge between insiders with relatively secure jobs and outsiders in precarious employment 6. In these countries, the class compromise that underpinned post-war institutions is fraying at the edges, and governments face problems that are as intractable in political terms as they are in economic ones. More is at stake than economic performance. The effort of the European Union to find a new legitimating ideal in a commitment to open markets is failing in the large economies at its heart, even as that commitment makes it difficult for their governments to experiment with alternative formulae.

Problems created by externalities

1. Items with negative externalities overproduced or overconsumed (eg pollution) 2. Items with positive externalities underproduced or underconsumed (eg employers benefit from educated workforce, but purchases of education don't reflect)

Institutions of Exchange

1. Last week, focused on the fact that market economies are constituted by the state e.g. even illicit markets run on cash created by the state. 2. This week, you don't get a market without institutions supported by the state 3. Institution is a vexed word in social science.

New paradigm roles for the state (things modern states always do)

1. Legal framework A. Property rights ("rules governing use of productive assets") B. "recurring relations, such as those between employers and employees" i.e. contracts 2. Create and supervise monetary system ("means of payment") 3. "Manage the boundary between their territory and the rest of the world" That is to say, market is determined by what the state does. Btw, course focuses on European countries.

Margaret Weir, Theda Skocpol, "State Structures and the Possibilities for "Keynesian" Responses to the Great Depression in Sweden, Britain, and the United States"

1. Like Swedish reform initiatives, the U.S. New Deal depended on political support from both farmers and industrial workers, yet the dynamics of cooperation differed substantially in the two countries. The Swedish Agrarian Party was drawn early in the 1930s into a strategy for national economic recovery proposed by Social Democrats and economic experts operating at the apex of an already centralized and socially interventionist state. Thereafter, the momentum of economic recovery and political success strengthened the party of industrial labor and the expert public policymakers in Sweden. 2. In the United States, meanwhile, the direction of change in the 1930s and 1940s was much less favorable for industrial labor, urban-liberal Democrats, and expert policy planners. The stubborn persistence of Congressionally centered policymaking made New Deal trade-offs between farmers and workers temporary and unstable. As the 1930s progressed, organized farm interests became steadily more conservative and gravitated toward alliances with business in opposition to further extensions of the federal government's role in American society. At the height of the New Deal political possibilities for joining government spending and social welfare seemed very close at hand. But appropriate alliances and governmental means could not be fashioned within the American state structure. The vision of an American social Keynesianism was therefore to remain unfulfilled.

What kinds of barriers to entry can there be?

1. Logistical: costs of getting good to potential customer 2. Coercive: someone (eg state, criminals) uses force to raise costs of getting good to potential customer Note: these logistical and coercive barriers aren't necessarily absolute. Nevertheless, in the presence of certain kinds of barriers to entry, markets don't arise. 3. Transactional

David M Woodruff, "Background on Money and Exchange Rates"

1. MV = PQ 2. P = MV/Q 3. The two implications of this form of the equation of exchange that people like are: 1. More money means higher prices ("inflation"). 2. The faster money is spent the higher prices will be. 4. If prices are going up, the value of money is going down.. So people will try to spend it faster, leading V to increase—and prices to go up. When P is rising very quickly, this sort of thing can lead to hyperinflation. 5. Deflation has the opposite effect on money velocity. When prices are falling, money spent tomorrow will be worth more than money spent today. So people tend to hold onto money, and V goes down. Businesses find it harder to sell stuff—and prices go down. Monetary policymakers are especially scared of deflation, because it makes the main thing they can do—create more money—an ineffective tool of policy. If people just hold onto any new money that's pumped into the economy, waiting to spend it when prices are lower, you can't get anywhere by pumping in more money. 6. Under gold standard, a trade deficit thus is deflationary, and a trade surplus inflationary. 7. NOTE: this explains why seeking to support the a currency's gold parity is deflationary. If more people are selling the currency for gold than are selling gold to buy the currency, the price of gold tends up, that of the currency down. If the central bank wants to make the currency worth more in terms of gold, it sells gold—increasing the supply of gold decreases its price. When it's selling gold, it's taking in (high-powered) domestic money. So M shrinks, and prices tend down.

Transaction costs (per D. North) are costs of

1. Measuring valuable attributes of transacted good/service 2. Protecting rights 3. Policing and enforcing agreements

Costly Things

1. Measuring valuable attributes of transacted good/service 2. Protecting rights: need to secure property e.g. diamonds 3. Policing and enforcing agreements: how do I ensure timely and compliant delivery? These things are costly BECAUSE OF 1. Fear of malfeasance ("self-interest with guile") 2. Asymmetric information

Ways of reducing transaction costs so exchange can go forward

1. Measuring valuable attributes of transacted good/service 2. e.g. costs reduced by "Coining" or standardisation

Why does one need institutions to get a market economy?

1. No market if barriers to entry are pervasive 2. Transaction costs mean barriers to entry are pervasive absent impersonal institutions A. Personalistic solutions to transaction cost problems a. not capable of dealing with complex, specialised economy e.g. division of labor is good. Don't want a professor as a barber. As soon as you have a division of labor, you have asymmetric information and measurement costs b. constitute barriers to entry in their own right 3. The state is the crucial source of impersonal transaction-cost reducing institutions Note: for market to expand, need impersonal exchange.

Ordoliberalism (Woodruff)

1. Ordoliberalism is a specific variant of neoliberalism that emerged in Germany in the interwar period and received canonical formulation in the post-WWII era, especially in the works of Walter Eucken and Franz Böhm. Like other market liberals, Ordoliberals extolled the role of the price system in coordinating economic action. To make the price system work they advocated market competition: businesses and individuals struggling against one another to make sales to sovereign consumers. However—and the point is crucial to the entire Ordoliberal project—the economic system cannot be counted on spontaneously to evolve to ensure this outcome. Only state action will bring it about 2. Nonetheless, Ordoliberals, like other market liberals, sought to ensure that state powers necessary to underpin markets were not turned to purposes of which they did not approve. To this end, the economy should be governed by an "economic constitution" which should ensure that the state's actions are constrained to take the form of general rules, an Ordnungspolitik or ordering policy

Personal solutions to problem of cooperation 2

1. Repeated dealings 2. Pooled information on reputations (aka gossip) 3. Group reputation A. Religion/Ethnicity e.g. pariah entrepreneurs dominant in one economic sector B. Professional societies, etc., goods of particular origin: they do the same to reduce transaction costs NOTE THAT THESE ARE ALSO BARRIERS TO ENTRY

Robert Wade, "WHEELS WITHIN WHEELS: Rethinking the Asian Crisis and the Asian Model"

1. The East Asian economic crisis of 1997-1999 had its causes not mainly in the "East Asian model" nor even in departures from the model, but in international capital markets and the governments of the core economies, especially the United States and Japan. 2. The post-Bretton Woods system, without any link between the dollar and gold, allowed the United States to finance persistent external deficits by creating US government bonds. 3. These bonds raised the foreign reserves of the surplus countries, notably Japan and East Asia. The rise in reserves triggered credit booms that generated asset inflation and industrial overcapacity. 4. The booms gave way to crisis. 5. The East Asian variant differed from the earlier Japanese one by being fueled by very large capital inflows in the early to mid 1990s from recession-hit Japan and Europe, as well as from the United States. This perspective, which highlights causes outside of East Asia, suggests that emerging market economies will remain vulnerable to such crises in the absence of capital controls, a different system of international payments, and a more equal world income distribution. 6. How do we know that the culprit is private capital inflow surges blowing out a credit boom, and not bad bankers or the other villains of the Asian cronyism story? The first part of the answer lies in the striking correlation, mentioned above, between capital flows across emerging markets. During the 1990s, private capital inflows to developing countries typically grew at 10-20% a year. But they surged twice, in 1993 and in 1996, both times doubling the inflow of the previous year. Each surge was followed the next year by major financial crisis in emerging markets, the first time in Mexico and Latin America, the second time in Asia 7. Second, it is well known that bank regulation and enforcement of prudential limits becomes very difficult in the face of a capital inflow surge, even in a sophisticated, rule-based (not relationship-based) financial system with skilled financial managers. There is no need to resort to Asian specifics to explain why, given the inflows, Asian bank regulators were less than effective. The inflow process itself undercuts the ability of regulators to regulate 8. Third, the entire financial system of the typical emerging market economy is no bigger than an average American regional bank. Tiny changes in the share of world capital flows going into a particular country can swamp the system, however skilled and uncronyistic the bankers and monetary authorities. 9. If private capital inflows were the main culprit, how do we know that opening the financial system was the crucial factor behind the inflows? How do we know the crucial factor was not lack of transparency, weak prudential regulation, moral hazard, or those other faults that, according to the usual story, led responsible, rational foreign bankers and investors to lend more than they would have lent had they known the truth, and had they not had grounds to believe the loans were implicitly guaranteed? As shown above, the usual story falls down at the first nudge, above all because these factors do not differentiate the countries that had a crisis from those that did not. The most affected countries (Korea, Thailand, Malaysia, and Indonesia, which all had negative growth in 1998) were not worse in these respects than the least affected countries (China, Taiwan, India, and the rest of South Asia, which had positive growth in 1998). What does differentiate the most and the least affected countries is capital mobility. All of the most affected countries opened the financial system to capital flows more or less fully by the mid 1990s. The least affected have in common restricted capital mobility, with capital transactions more limited to trade and direct investment. During the 1990s, the countries with restricted capital flows did not experience anything like the capital inflows of those with open capital accounts; their short-term debt to foreign exchange reserves remained much lower, and their corporate sectors were less vulnerable to exchange rate, interest rate, and investment shocks, so they experienced less outflow. 10. If this evidence is not sufficient, try a thought experiment. Would Korea have been better off with short-term debt to foreign exchange reserves in mid 1997 at, say, 50% than above 200%? Yes. Would it have lost much in terms of social profit by cutting back its short-term inflows? No, because by the mid 1990s, most of the inflows were fueling a speculative industrial capacity bubble. But putting a ceiling on the ratio would have required the government to limit the inflows produced by uncoordinated decisions of private entities that did not have to take account of the social risks to which their private decisions exposed the rest of the society. 11. In short, Asian governments are deeply implicated in the crisis for opening the financial system quickly in the 1990s without linking the pace of the opening to the build-up of effective rule-based (rather than relationship-based) governance of financial markets, including institutions of accounting, auditing, rating, and legal cases and codes, in the false belief that if the capital was moving private-to-private it must be safe. Certainly company performance was deteriorating by the mid 1990s across the region. But the major problem was domestic financial structures not robust enough to handle the heavy shocks to which they were exposed by precipitous financial opening in conditions of surging world capital markets. Had the governments not abandoned some basic principles of the East Asian model—above all, the principle of strategic rather than open-ended integration into world financial markets—the economies would probably not have experienced a serious crisis, although they would also have grown more slowly. 12. On the other hand, the deeper causes of the Asian crisis lie in the core economies and their governments, especially that of the United States, and in the kind of international financial system they have created. The US decision to break the link between the dollar and gold (rather than cut expenditure for the Vietnam War and the Great Society) allowed persistent imbalances to build up in the world economy because increases in surplus countries' reserves were no longer matched by falls in reserves of the United States, the main deficit country. The United States' reluctance to rein in its external deficits, and its preference to finance them by creating debt that other countries accumulated as foreign exchange reserves, then produced (given the post-Bretton Woods payments system) a surge in world liquidity that eventually produced excess capacity and financial fragility worldwide. Both Japan's boom and bust and the later Asian miracle and bust were manifestations of the same systemic process. Explanations that locate the causes within the crisis countries occlude this basic point.

Karl Marx, "Capital: a critique of political economy," Chapter 26

1. The unequal division of capital that underlay capitalism resulted from in his words "the historical process of divorcing the producer from the means of production" 2. To Marx, England stood out as the prime example of this phenomenon by which people lost their livelihoods to capitalists in the process of primitive accumulation

Peter A. Hall, Robert J. Franzese, Jr., "Mixed Signals: Central Bank Independence, Coordinated Wage Bargaining, and European Monetary Union"

1. We focus on three issues. How should the effects of central bank actions on the economy be conceptualized? Do higher levels of central bank independence invariably result in better economic performance? Will establishing an EMU equipped with such a bank improve economic well-being in its member states? 2. Our core contention is that many of the effects of central bank independence operate through a signaling process that takes place between the bank and economic actors. 3. Most analyses assume an effective signaling process, but we suggest that this is unrealistic and that the effectiveness of the process more likely depends on a broader set of institutional conditions, including, most notably, the organization of wage bargaining. 4. We argue that, where wage bargaining is more coordinated, this signaling process is likely to be more effective, so that increasing the independence of the central bank can lower the long-run rate of inflation at relatively low unemployment costs. Where bargaining is less coordinated, however, increases in central bank independence may lower the rate of inflation only at the cost of substantially higher levels of unemployment. 5. This analysis has especially interesting implications for the monetary union currently being contemplated in Europe. The EMU is to be built around a European central bank whose general structure and level of independence are modeled on the German Bundesbank. Many hope that, as a consequence, the new union will emulate the historic performance of the German system. 6. Our analysis suggests that such aspirations are unlikely to be realized, because the German system has depended on levels of wage coordination that the EU is unlikely ever to acquire. On the one hand, the leadership of the EU has yet to show any real interest in acquiring such institutions, as indicated by the halting nature of the steps toward developing a Social Charter. On the other hand, even if they did show interest, such institutions would be difficult to secure. Wide disparities in the organization of workers and employers across the EU mean that wage bargaining could not be coordinated across the continent without large-scale reorganization; and the few efforts made by trade unions or employers to reorganize wage bargaining on a European level have been singularly unsuccessful. As a result, to secure low rates of inflation, a European central bank may have to resort to relatively high levels of unemployment because it will lack the effective signaling process provided by a continent-wide system of wage coordination. 7. Furthermore, the common view that all nations will gain from the EMU may be wrong.Our analysis suggests that the move to monetary union may improve the economic performance of some nations but is likely to erode the economic performance of others. The precise effects experienced by each nation will be determined by the effectiveness of its existing institutions relative to those it acquires by joining the EMU. 8. To return finally to the German case, the better guide to what we can expect from EMU may not be the familiar image of Modell Deutschland but Germany's experience with unification in the years just after 1989. 9. In this context, the lessons that follow from the example of German unification are not altogether encouraging.The German system itself experienced severe strain as a result of unification. Two sources of that strain deserve emphasis here. First, efforts to incorporate East Germany into the existing industrial-relations system proved highly taxing and only partly successful. One result was high levels of industrial conflict, notably in the spring of 1993 when employers challenged the extension of the wage bargaining system to the former East Germany. Second, unification also provoked conflict between the federal government and the Bundesbank, which customarily responds not only to wage bargains, as we have emphasized here, but also to the fiscal policies of the government. When the efforts of the latter to nance uni cation resulted in fiscal and monetary expansion, the Bundesbank responded with high interest rates to encourage fiscal restraint and dampen in inflationary pressures. The consequences were far from ideal for the German or European economies. 10. The EMU will pose similar, if less severe, challenges.It will disrupt the processes of signaling and coordination long established between central banks and wage bargainers in some nations—an effect that may inspire broader changes in their industrial relations systems. It will require the development of new relationships between the European central bank and the fiscal authorities of each nation, relationships that have already been the subject of considerable controversy. Moreover, in the context of continuing high unemployment, many member governments may seek more expansionary policies precisely when the new European central bank is seeking to establish its credibility with relatively rigorous monetary policies. One effect is likely to be higher levels of unemployment than many proponents of the EMU currently envisage. Another may be intensified pressure for further institution building to cope with the dilemmas of coordinating fiscal and monetary policy.

Paul Krugman, "Accounting Identities"

1. The background to the world economic crisis is that we went through an extended period of rising debt. Now, one person's liability is another person's asset, so rising debt made the world as a whole neither richer nor poorer. It did, however, leave the borrowers increasingly leveraged. And then came the Minsky moment; suddenly, investors were no longer willing to roll over, let alone increase, the debts of highly leveraged players. So these players are being forced to pay down debt. 2. The process of paying down debt, however, must obey two rules: A) Those who pay down debt must do so by spending less than their income. B) For the world as a whole, spending equals income. It follows that those who are not being forced to pay down debt must spend more than their income. 3. To avoid all this, we'd need policies to encourage more spending. Fiscal stimulus on the part of financially strong governments would do it; quantitative easing can help, but only to the extent that it encourages spending by the financially sound, and it's a little unclear what the process there is supposed to be. 4. Oh, and widespread debt forgiveness (or inflating away some of the debt) would solve the problem. 5. But what we actually have is a climate in which it's considered sensible to demand fiscal austerity from everyone; to reject unconventional monetary policy as unsound; and of course to denounce any help for debtors as morally reprehensible. So we're in a world in which Very Serious People demand that debtors spend less than their income, but that nobody else spend more than their income.

Geoffrey P. Miller, "The Role of a Central Bank in a Bubble Economy"

1. The bubble economy in Japan during 1988-90-when Japanese land and share prices more than doubled-was one of the most remarkable examples of financial speculation in modem times; it was possibly the largest speculative event in the history of the world. The peak of the Japanese bubble economy lasted only about two years; the bubble popped in 1990. Between 1990 and 1992 the Nikkei 225 average lost over 60% of its value, and land prices plummeted by about 50%. This had an adverse effect on the Japanese economy: the country entered a recession of unusual duration and severity, corporate bankruptcies soared, and the banking sector suffered severe "bad loan" problems that are still far from being resolved. 2. The Bank of Japan (the "Bank" or "BOJ") played a role in the bubble economy. During the period immediately before, as well as during the bubble, the BOJ kept interest rates low and adopted a loose monetary policy. The Bank finally began to tighten policy in the spring of 1989 and continued to tighten throughout 1990-actions that may have contributed to economic collapse in 1990. As early as 1987, the Bank was aware that asset prices might be growing at an excessive rate and that real estate lending posed potential dangers to the banking system. If the Bank had acted earlier to tighten monetary policy, some of the subsequent costs might have been avoided. In the words of one distinguished Japanese economist, the Bank's failure to act was a "major mistake." 3. Why did the Bank delay? I conclude that the Bank delayed for many of the reasons outlined above. The Bank faced technical, legal, and political problems which made it exceedingly difficult to intervene earlier than it did. The case history suggests, consistent with the theoretical analysis, that central banks are poorly situated to respond to price bubbles in particular industrial sectors. The BOJ's role in responding to these phenomena was accordingly problematic. 4. In general, one can conclude that the central bank should not be charged with principal responsibility for policing against price rises in discrete industrial sectors. That responsibility should be exercised by other authorities, with awareness of the general social utility of allowing the price system to operate free of government intervention. If these authorities do intervene, they should use regulatory tools targeted at only the affected sector and not elsewhere. 5. At the same time, central banks have a legitimate role to play in controlling bubble economies. Because central banks monitor economic developments in their respective economies, they should track asset prices in different industrial sectors. If the central bank observes a problem in a particular area, it can alert the appropriate authorities. In rare cases, where a bubble becomes so large as to pose a threat to the entire economic system, the central bank may appropriately decide to use monetary policy to counteract such a bubble, notwithstanding the effects that monetary tightening might have elsewhere in the economy. 6. When confronting a bubble economy, a central bank has a special set of technical, legal, and political problems. As we have seen, from a technical point of view, the bank may be uncertain whether the observed price rises represent a bubble economy or merely the natural interplay of supply and demand in the underlying economy. Even if the bank decides that a bubble economy is under way, it faces severe constraints on its actions. The bank's authority to act against the bubble is suspect, because the bubble may not show up in the aggregate statistics on which the bank relies in formulating monetary policy. Moreover, the bank's weapon against a bubble economy-tightening monetary policy-is broadbased, and even if it is effective against a price bubble in one sector, it may have adverse consequences elsewhere. Other constraints come from external relations. Because equity markets around the world are closely linked, a central bank cannot take strong action against a price bubble in domestic equity securities without considering the implications for other world markets. International negotiations on exchange rate and fiscal policies may also impede the bank's freedom of action. If the bubble is due partly to the excessive supply of credit to a particular sector resulting from changes in financial market regulation, the central bank may not possess the necessary tools to control the underlying forces giving rise to the bubble. Finally, because speculative bubbles tend to be popular in their early phases, and because interest groups develop to support the continuation of the bubble process, a central bank may face political opposition to monetary tightening, a problem that can be exacerbated if central bank lacks the unswerving support of the ruling political party, or if the central bank does not enjoy legal and practical independence from other parts of the government. 7. All these factors taken together suggest that the central bank's role in combating asset or equity price bubbles is problematic. In general, one can conclude that the central bank should not be charged with principal responsibility for policing against price rises in discrete industrial sectors. That responsibility should be exercised by other authorities, with due regard to the general social utility of allowing prices to find their natural level, and with attention to the fact that speculative bubbles can and do arise from time to time. These other authorities should use regulatory tools designed to have an effect in the sectors where the bubble economy is underway, and not elsewhere. 8. However, it would be a mistake to rule out any role for the central bank in controlling bubble economies. Because central banks typically keep in close touch with economic developments throughout their economies, it is appropriate that these institutions track not only changes in variables such as interest rates, prices, employment, and productivity, but also changes in asset prices in different industrial sectors. If the central bank observes problems arising in particular sectors, it can alert the appropriate authorities. 9. Beyond this, there may be rare events where price bubbles, become so large that they pose a threat to the entire economic system; in such cases, the central bank may appropriately decide to use the tools of monetary policy to counteract the bubble economy, notwithstanding the effects that monetary tightening might have elsewhere in the economy.

William Lazonick, Mary O'Sullivan, "Maximizing shareholder value: a new ideology for corporate governance"

1. The decade-long boom in the US stock market and the more recent boom in the US economy have fostered widespread belief in the economic benefits of the maximization of shareholder value as a principle of corporate governance. 2. The arguments in support of governing corporations to create shareholder value came into their own in the United States in the 1980s. As has been the case throughout the twentieth century, in the 1980s a relatively small number of giant corporations, employing tens or even hundreds of thousands of people dominated the economy of the United States. On the basis of capabilities that had been accumulated over decades, these corporations generated huge revenues. They allocated these revenues according to a corporate governance principle that we call 'retain and reinvest'. These corporations tended to retain both the money that they earned and the people whom they employed, and they reinvested in physical capital and complementary human resources. 3. In the 1960s and 1970s, however, the principle of retain and reinvest began running into problems for two reasons, one having to do with the growth of the corporation and the other having to do with the rise of new competitors. Through internal growth and through merger and acquisition, corporations grew too big with too many divisions in too many different types of businesses. The massive expansion of corporations that had occurred during the 1960s resulted in poor performance in the 1970s, an outcome that was exacerbated by an unstable macroeconomic environment and by the rise of new international competition, especially from Japan 4. Japanese competition was, of course, particularly formidable in the mass production industries of automobiles, consumer electronics and in the machinery and electronic sectors that supplied capital goods to these consumer durable industries. Yet these had been industries and sectors in which US companies had previously been the world leaders and that had been central to the prosperity of the US economy since the 1920s. Japan was able to challenge the United States in these industries because its manufacturing corporations innovated through the development and utilization of integrated skill bases that were broader and deeper than those in which their American competitors had invested 5. As, during the 1970s, major US manufacturing corporations struggled with these very real problems of excessive centralization and innovative competition, a group of American financial economists developed an approach to corporate governance known as agency theory. Agency theorists posited that, in the governance of corporations, shareholders were the principals and managers were their agents. Agency theorists argued that, because corporate managers were undisciplined by the market mechanism, they would opportunistically use their control over the allocation of corporate resources and returns to line their own pockets, or at least to pursue objectives that were contrary to the interests of shareholders. Given the entrenchment of incumbent corporate managers and the relatively poor performance of their companies in the 1970s, agency theorists argued that there was a need for a takeover market that, functioning as a market for corporate control, could discipline managers whose companies performed poorly. The rate of return on corporate stock was their measure of superior performance, and the maximization of shareholder value became their creed 6. In addition, during the 1970s, the quest for shareholder value in the US economy found support from a new source - the institutional investor. During the 1950s and 1960s, there were legal restrictions on the extent to which life insurance companies and pension funds could include corporate equities in their investment portfolios, while mutual funds played only a limited, although growing, role in the mobilization of household savings. In the 1970s, however, a number of changes occurred in the financial sector that promoted the growth of equity-based institutional investing. Partly as a consequence of Wall Street's role in the buying and selling of companies during the conglomeration mania of the 1960s, from the early 1970s there was a shift in the focus of Wall Street financial firms from supporting long-term investment activities of corporations (mainly through bond issues) to generating fees and capital gains through trading in corporate and government securities. To expand the market for securities trading, Wall Street firms convinced the Securities and Exchange Commission (SEC) to put an end to fixed commissions on stock exchange transactions. At the same time, developments in computer technology made it possible for these firms to handle much higher volumes of trade than had previously been the case. 7. Meanwhile, the oil-induced in ation of the 1970s created a problem for US financial institutions in managing their nancial assets to generate adequate returns, thus leading to the nancial deregulation of the American economy. As investors in stocks and bonds, mutual funds had advantages over other institutional investors such as life insurance companies and pension funds in generating higher returns on household savings because they were not subject to the same stringent regulations concerning the types of investments that they could make. Moreover, even without the mutual funds as competitors, the inflationary conditions of the 1970s meant that, under current regulations, pension funds and insurance companies could no longer offer households positive real rates of return. The regulatory response was ERISA - the Employee Retirement Income Security Act (1974) - which, when amended in 1978, permitted pension funds and insurance companies to invest substantial proportions of their portfolios in corporate equities and other risky securities such as 'junk bonds' and venture funds rather than just in high-grade corporate and government securities 8. During the 1970s the US banking sector also experienced significant deregulation. With the inflationary conditions boosting the nominal rates of interest on money-market instruments, through a process that became known as 'disintermediation', money-market funds emerged to offer savers much higher rates of returns than the regulated banks could offer them. Beginning in 1978, the government sought to help the banks compete for depositors by deregulating the interest rates that commercial banks and savings banks could pay to depositors and charge on loans. In this deregulated environment, however, savings and loans institutions (S&Ls), a type of savings bank whose assets were long-lived, low-yield mortgages, found that, unless they could invest in higher-yield assets, they could not compete for household deposits. The regulatory response was the Garn-St. Germain Act of 1982 that permitted the S&Ls to hold junk bonds and to lend to inherently risky new ventures, even while the government continued to guarantee the accounts of S&L depositors. 9. The stage was now set for institutional investors and S&Ls to become central participants in the hostile takeover movement of the 1980s. An important instrument of the takeover movement was the junk bond - a corporate or government bond that the bond-rating agencies considered to be below 'investment grade'. The innovation of Michael Milken, an employee at the Wall Street investment bank of Drexel, Burnham, and Lambert, was to create a liquid market in junk bonds by convincing financial institutions to buy and sell them Milken orchestrated most of these hostile takeovers by gaining commitments from institutional investors and S&Ls to sell their shareholdings in the target company to the corporate raider, when the target company was taken over, to buy newly issued junk bonds that enabled the company to buy the raider's shares. 10. The result was the emergence of a powerful market for corporate control

Ezra Klein, "Financial crisis and stimulus: Could this time be different?"

1. The issue is the graph on Page 1. It shows two blue lines sloping gently upward and then drifting back down. The darker line — "With recovery plan" — forecasts unemployment peaking at 8 percent in 2009 and falling back below 7 percent in late 2010. 2. Three years later, with the economy still in tatters, that line has formed the core of the case against the Obama administration's economic policies. That line lets Republicans talk about "the failed stimulus." That line has discredited the White House's economic policy. 3. But the other line — "Without recovery plan" — is more instructive. It shows unemployment peaking at 9 percent in 2010 and falling below 7 percent by the end of this year. That's the line the administration used to scare Congress into passing the single largest economic recovery package in American history. That line is the nightmare scenario. 4. And yet this is the cold, hard fact of the past three years: The reality has been worse than the administration's nightmare scenario. Even with the stimulus, unemployment shot past 10 percent in 2009. 5. To understand how the administration got it so wrong, we need to look at the data it was looking at. 6. he Bureau of Economic Analysis, the agency charged with measuring the size and growth of the U.S. economy, initially projected that the economy shrank at an annual rate of 3.8 percent in the last quarter of 2008. Months later, the bureau almost doubled that estimate, saying the number was 6.2 percent. Then it was revised to 6.3 percent. But it wasn't until this year that the actual number was revealed: 8.9 percent. That makes it one of the worst quarters in American history. Bernstein and Romer knew in 2008 that the economy had sustained a tough blow; t hey didn't know that it had been run over by a truck. 7. But the Cassandras who look, in retrospect, the most prophetic are Carmen Reinhart and Ken Rogoff. In 2008, the two economists were about to publish "This Time Is Different," their fantastically well-timed study of nine centuries of financial crises. 8. That was the dark joke of the book's title. Everyone always thinks this time will be different: The bubble won't burst because this time, tulips won't lose their value, or housing is a unique asset, or sophisticated derivatives really do eliminate risk. Once it bursts, they think their economy will quickly clamber out of the ditch because their workers are smarter and tougher, and their policymakers are wiser and more experienced. But it almost never does. The basic thesis of "This Time Is Different" is that financial crises are not like normal recessions. Typically, a recession results from high interest rates or fluctuations in the business cycle, and it corrects itself relatively quickly: Either the Federal Reserve lowers rates, or consumers get back to spending, or both. 9. But financial crises tend to include a substantial amount of private debt. When the market turns, this "overhang" of debt acts as a boot on the throat of the recovery. People don't take advantage of low interest rates to buy a new house because their first order of business is paying down credit cards and keeping up on the mortgage. 10. In subsequent research with her husband, Vincent Reinhart, Carmen Reinhart looked at the recoveries following 15 post-World War II financial crises. The results were ugly. Forget the catch-up growth of 4 or 5 percent that so many anticipated. Average growth rates were a full percentage point lower in the decade after the crisis than in the one before. 11. Perhaps as a result, in 10 of the 15 crises studied, unemployment simply never — and the Reinharts don't mean "never in the years we studied," they mean never ever — returned to its pre-crisis lows. In 90 percent of the cases in which housing-price data were available, prices were lower 10 years after the crash than they were the year before it. 12. The theory was that success would beget success. Passing the stimulus would stabilize the economy, prove the White House's political mettle and deliver immediate relief to millions of Americans. That would help the administration build the political capital to pass more stimulus, if necessary. But when the economy failed to respond as predicted, the political theory fell apart, too. 15. To the Fed, the nightmare scenario is that it tries to create inflation now and fails. It would have given up its hard-won credibility as an inflation fighter and invited political backlash, all without helping the economy. 17. So could this time have been different? There's little doubt that it could have been better. From the outset, the policies were too small for the recession the administration and economists thought we faced. They were much too small for the recession we actually faced. More and better stimulus, more aggressive interventions in the housing market, more aggressive policy from the Fed, and more attention to preventing layoffs and hiring the unemployed could have led to millions more jobs. At least in theory. 18. Of course, ideas always sound better than policies. Policies must be implemented, and they have unintended consequences and unforeseen flaws. In the best of circumstances, the policymaking process is imperfect. But January 2009 had the worst of circumstances — a once-in-a-lifetime economic emergency during a presidential transition. 19. Give policymakers some credit: They really have learned from the Depression. So did the Japanese. In the 1990s, they pumped monetary and fiscal stimulus into their economy, too, and they didn't suffer a depression. But they never found themselves in a recovery. They stagnated for a decade, and then for another. 20. By saving the banking system, you end up with banks that are quietly holding on to toxic assets in the hope that one day they'll be worth something. By limiting the output gap, you keep the economy from getting so bad that truly radical solutions, such as wiping out hundreds of billions of dollars of housing debt, become thinkable. You limp along. 21. Yet the Obama administration did too little. Its team of interventionist Keynesians immersed in the lessons of the Depression and Japan did too little. Everyone does too little, even when they think they're erring on the side of doing too much. That's one reason "this time" is almost never different. 22. The tendency thus far has been to look at these crises in terms of the identifiable economic factors that make them different from typical recessions. But perhaps the better approach is to look at the political factors that make them turn out the same, that stop governments from doing enough even when they have sworn to err on the side of doing too much. 23. These crises have a sort of immune system. It is never possible for the political system to do enough to stop them at the outset, as it is never quite clear how bad they are. Even if it were, the system is ill-equipped to take action at that scale. The actors comfort themselves with the thought that if they need to do more, they can do it later. And, for now, the fact that this is the largest rescue package anyone has ever seen has to be worth something. 24. Perversely, the very size of the package is part of its problem. With something extraordinary that is nevertheless not enough, the economy deteriorates, and the government sees its solutions discredited and its political standing weakened by the worsening economic storm. That keeps it from doing more. 25. Meanwhile, the opposition's capacity to do more is arguably even more limited, as it has turned against whatever policies were tried in the first place. Add in the almost inevitable run-up in government debt, which imposes constraints in the eyes of the voters and, in some cases, in the eyes of the markets, and an economy that started by not doing enough is never able to get in front of the crisis. 26. These sorts of economic crises are, in other words, inherently politically destabilizing, and that makes a sufficient response, at least in a democracy, nearly impossible. 27. There's some evidence for this internationally. Larry Bartels, a political scientist at Vanderbilt University, examined 31 elections that took place after the 2008 financial crisis and found that "voters consistently punished incumbent governments for bad economic conditions, with little apparent regard for the ideology of the government or global economic conditions at the time of the election." Just look to Europe, where the path to ending the debt crisis and saving the euro zone — the group of nations that use the currency — is clear to most economists but impossible for any European politician. 28. That isn't to say that this time couldn't have been different or that next time won't be. But it is no accident that these crises so often turn out the same, in so many countries, with so many types of governments, who have tried so many kinds of responses. 29. In general, the policies that are vastly better than whatever you are doing are not politically achievable, and the policies that are politically achievable are not vastly better. There were many paths that could have been taken in January 2009, and any one would have made this time a bit different. But not different enough. Not as different as we wish.

Karl Polanyi, "The Great Transformation," Chapter 5

1. The step which makes isolated markets into a market economy, regulated markets into a self-regulating market, is indeed crucial. The nineteenth century—whether hailing the fact as the apex of civilization or deploring it as a cancerous growth—naively imagined that such a development was the natural outcome of the spreading of markets. It was not realized that the gearing of markets into a selfregulating system of tremendous power was not the result of any inherent tendency of markets toward excrescence, but rather the effect of highly artificial stimulants administered to the body social in order to meet a situation which was created by the no less artificial phenomenon of the machine. The limited and unexpanding nature of the market pattern, as such, was not recognized; and yet it is this fact which emerges with convincing clarity from modern research. 2. Internal trade in Western Europe was actually created by the intervention of the state. 3. The next stage in mankind's history brought, as we know, an attempt to set up one big self-regulating market. There was nothing in mercantilism, this distinctive policy of the Western nation-state, to presage such a unique development. The "freeing'' of trade performed by mercantilism merely liberated trade from particularism, but at the same time extended the scope of regulation. The economic system was submerged in general social relations; markets were merely an accessory feature of an institutional setting controlled and regulated more than ever by social authority.

Oliver E. Williamson, "The Economics of Organization: The Transaction Cost Approach"

1. The transaction cost approach to the study of economic organization regards the transaction as the basic unit of analysis and holds that an understanding of transaction cost economizing is central to the study of organizations. 2. Economizing is accomplished by assigning transactions to governance structures in a discriminating way. The approach applies both to the determination of efficient boundaries, as between firms and markets, and to the organization of internal transactions, including the design of employment relations. 3. According to transaction-cost approach, "skills acquired in a learning-by-doing fashion and imperfectly transferable across employees need to be embedded in a protective governence structure...... 4. Human assets can also be measured by 1) degree of firm-specificy and 2) difficulty of individual productivity measurability. Low of 1 and 2 is a internal spot labor market. Low 1/High 2 is a primitive team. High 1/Low 2 is an obligational market with defined rules for performance. High1/High 2 is the relational team where assets are specific and individual output hard to measure. 5. Williamson asked under what circumstances economic functions are performed within the boundaries of hierarchical firms rather than by market processes that cross these boundaries. His answer, consistent with the general emphasis of the new institutional economics, is that the organizational form observed in any situation is that which deals most efficiently with the cost of economic transactions. Those that are uncertain in outcome, recur frequently, and require substantial "transaction-specific investments"-for example, money, time, or energy that cannot be easily transferred to interaction with others on different matters-are more likely to take place within hierarchically organized firms. Those that are straightforward, nonrepetitive, and require no transaction-specific investment-such as the one-time purchase of standard equipment-will more likely take place between firms, that is, across a market interface. 6. In this account, the former set of transactions is internalized within hierarchies for two reasons. The first is "bounded rationality," the inability of economic actors to anticipate properly the complex chain of contingencies that might be relevant to long-term contracts. When transactions are internalized, it is unnecessary to anticipate all such contingencies; they can be handled within the firm's "governance structure" instead of leading to complex negotiations. The second reason is "opportunism," the rational pursuit by economic actors of their own advantage, with all means at their command, including guile and deceit. Opportunism is mitigated and constrained by authority relations and by the greater identification with transaction partners that one allegedly has when both are contained within one corporate entity than when they face one an- other across the chasm of a market boundary.

Akerlof, George A. "The Market for 'Lemons': Quality Uncertainty and the Market Mechanism."

1. We have been discussing economic models in which "trust" is important. Informal unwritten guarantees are preconditions for trade and production. 2. Where these guarantees are indefinite, business will suffer -as indicated by our generalized Gresham's law. 3. This aspect of uncertainty has been explored by game theorists, as in the Prisoner's Dilemma, but usually it has not been incorporated in the more traditional Arrow-Debreu approach to uncertainty.' 4. But the difficulty of distinguishing good quality from bad is inherent in the business world; this may indeed explain many economic institutions and may in fact be one of the more important aspects of uncertainty.

Karl Polanyi, "The Great Transformation," Chapter 6

1. We recall our parallel between the ravages of the enclosures in English history and the social catastrophe which followed the Industrial Revolution. Improvements, we said, are, as a rule, bought at the price of social dislocation. If the rate of dislocation is too great, the community must succumb in the process. The Tudors and early Stuarts saved England from the fate of Spain by regulating the course of change so that it became bearable and its effects could be canalized into less destructive avenues. But nothing saved the common people of England from the impact of the Industrial Revolution. A blind faith in spontaneous progress had taken hold of people's minds, and with the fanaticism of sectarians the most enlightened pressed forward for boundless and unregulated change in society. The effects on the lives of the people were awful beyond description. Indeed, human society would have been annihilated but for protective counter-moves which blunted the action of this self-destructive mechanism. 2. Social history in the nineteenth century was thus the result of a double movement: the extension of the market organization in respect to genuine commodities was accompanied by its restriction in respect to fictitious ones.While on the one hand markets spread all over the face of the globe and the amount of goods involved grew to unbelievable dimensions, on the other hand a network of measures and policies was integrated into powerful institutions designed to check the action of the market relative to labor, land, and money. While the organization of world commodity markets, world capital markets, and world currency markets under the aegis of the gold standard gave an unparalleled momentum to the mechanism of markets, a deep-seated movement sprang into being to resist the pernicious effects of a market-controlled economy. Society protected itself against the perils inherent in a self-regulating market system—this was the one comprehensive feature in the history of the age.

Williamson's conclusion

1. When transaction costs are high (for instance, when specific assets involved) hierarchy preferred to market 2. Your employees can't "hold you up" the way an outside firm would Note: inside firm, you have recourse to hierarchy e.g. build a fence. If employee does a bad job, is fired. Williamson thinks policing and regulatory costs, asset specificity and credible commitments important to defining the boundary of the firm. He thinks of market economies defined by bargaining.

Granovetter's alternative

1. Williamson offers "undersocialized" account 2. Overestimates success of hierarchy, ignores possibilities of nonhierarchy 3. "Embeddedness" -- behaviour is often thoroughly constrained by ongoing social relations Note: Williamson sees people as atoms, when in fact people are embedded in social networks. Reputation can be used for deception. Granovetter thinks Williamson's portrait is overdrawn. Social relations such as friendships constrain exchange. Granovetter thinks that the boundaries of firms are the boundaries of communities policed by formal and informal mechanisms.

Terms to retain from this lecture

1. institutions 2. transaction cost 3. barriers to entry 4. asymmetric information and "lemons" 5. "hold up" problem 6. markets versus hierarchies 7. embeddedness

Karl Marx, "Capital: a critique of political economy," Chapter 31

If this were not enough, the state also helped the malefactors of great wealth acquire even more through its tax system, its colonial conquests, its tariffs and its ballooning national debt

Asymmetric information as a barrier to entry

It becomes a barrier to entry, because buyers need to trust sellers e..g market for lemons: bad drives out the good

Karl Polanyi, "The Great Transformation," Chapter 18

Mankind was in the grip, not of new motives, but of new mechanisms. Briefly, the strain sprang from the zone of the market; from there it spread to the political sphere, thus comprising the whole of society. But within the single nations the tension remained latent as long as world economy continued to function. Only when the last of its surviving institutions, the gold standard, dissolved was the stress within the nations finally released. Different as their responses to the new situation were, essentially they represented adjustments to the disappearance of the traditional world economy; when it disintegrated, market civilization itself was engulfed. This explains the almost unbelievable fact that a civilization was being disrupted by the blind action of soulless institutions the only purpose of which was the automatic increase of material welfare.

Possible stabilisation measures

Monetary 1. "Lender of last resort" in case of a bank panic 2. Restrain inflation, avoid deflation (general fall in prices) 3. Adjust exchange rates Fiscal: Spend more in a recession (Keynes) Note: Keynes said that markets wouldn't recover on their own and can coordinate predictions. Once again, state's role is indeterminate.

Karl Polanyi, "The Great Transformation," Pages 3-5

Our thesis is that the idea of a self-adjusting market implied a stark utopia. Such an institution could not exist for any length of time without annihilating the human and natural substance of society; it would have physically destroyed man and transformed his surroundings into a wilderness. Inevitably, society took measures to protect itself, but whatever measures it took impaired the self-regulation of the market, disorganized industrial life, and thus endangered society in yet another way. It was this dilemma which forced the development of the market system into a definite groove and finally disrupted the social organization based upon it.

Logic of demand stimulus: 'The Paradox of Thrift'

Self-fulfilling predictions: what I do depends on what I think everyone else will do 1. The Paradox of Thrift, or paradox of savings, is an economic theory which posits that personal savings are a net drag on the economy during a recession. This theory relies on the assumption that prices do not clear or that producers fail to adjust to changing conditions, contrary to the expectations of classical microeconomics. The Paradox of Thrift was popularized by British economist John Maynard Keynes. 2. According to Keynesian theory, the proper response to an economic recession is more spending, more risk-taking and less savings. Keynesians believe a recessed economy does not produce at full capacity because some of its factors of production — land, labor and capital — are unemployed. 3. Keynesians also argue that consumption, or spending, drives economic growth. Thus, even though it makes sense for individuals and households to cut back consumption during tough times, this is the wrong prescription for the larger economy. A pullback in aggregate consumer spending might force businesses to produce even less, deepening the recession. This disconnect between individual and group rationality is the basis of the savings paradox.

Karl Polanyi, "The Great Transformation," Chapter 10

Short summary: as national markets built upon these newfangled machines emerged in the 1750s, thinkers of diverse ideological persuasions wrestled with what maintained social order in the absence of government intervention. The fact that they all arrived at the same answer, namely market forces outside of human laws, did not just make their response credible. It also pushed the British government to remove its protections for the poor and turn labor into a commodity. As one can imagine, these decisions had extremely painful consequences for the newly commodified. Only later did the state return to safeguarding workers. 1. Let us briefly survey the consequences of the fact that the foundations of economic theory were laid down during the Speenhamland period,which made appear as a competitive market economy what actually was capitalism without a labor market. 2. Firstly, the economic theory of the classical economists was essentially confused. The parallelism between wealth and value introduced the most perplexing pseudo-problems into nearly every department of Ricardian economics. The wage-fund theory, a legacy of Adam Smith, was a rich source of misunderstandings. 3. Secondly, given the conditions under which the problem presented itself, no other result was possible. 4. Thirdly, the solution hit upon by the classical economists had the most far-reaching consequences for the understanding of the nature of economic society. The laws of a competitive society were put under the sanction of the jungle. The true significance of the tormenting problem of poverty now stood revealed: economic society was subject to laws which were not human laws. The rift between Adam Smith and Townsend had broadened into a chasm; a dichotomy appeared which marked the birth of nineteenth-century consciousness. From this time onward naturalism haunted the science of man, and the reintegration of society into the human world became the persistently sought aim of the evolution of social thought.

Old paradigm roles for the state: Public goods state

State should provide "public goods" and eliminate "public bads" arising from externalities

Old paradigm roles for the state: Macroeconomic stabilisation state

State should smooth out the business cycle 1. Sustain economy in a recession 2. Restrain economy in a boom

Karl Polanyi, "The Great Transformation," Chapter 16

The case of money showed a very real analogy to that of labor and land. The application of the commodity fiction to each of them led to its effective inclusion into the market system, while at the same time grave dangers to society developed.With money, the threat was to productive enterprise, the existence of which was imperiled by any fall in the price level caused by use of commodity money. Here also protective measures had to be taken, with the result that the self-steering mechanism of the market was put out of action.

Positive externalities and indeterminacy of state's role

There are so many positive externalities that could justify massive state role in shaping production and consumption 1. public education--but how long? 2. state-standardised computer operating system?

Karl Marx, "Capital: a critique of political economy," Chapter 30

This meant that these former peasants had to turn to the market for both their wages and their nourishment. This widespread deprivation strengthened the hand of capital, as industrialists could now hawk their goods and services on a national market due to the national scope of the suffering

USDA Standards for Grades of Strawberries

§51.3115 U.S. No. 1. "U.S. No. 1'' consists of strawberries of one variety or similar varietal characteristics with the cap (calyx) attached, which are firm, not overripe or undeveloped, and which are free from mold or decay and free from damage caused by dirt, moisture, foreign matter, disease, insects, or mechanical or other means. Each strawberry has not less than three-fourths of its surface showing a pink or red color. (a) Size. Unless otherwise specified, the minimum diameter of each strawberry is not less than three-fourths inch. (b) Tolerances. In order to allow for variations incident to proper grading and handling the following tolerances, by count, are provided as specified: (1) For defects. Not more than 10 percent for strawberries in any lot which fail to meet the requirements of this grade, but not more than one-half of this tolerance, or 5 percent, shall be allowed for defects causing serious damage, including therein not more than two-fifths of this latter amount, or 2 percent, for strawberries affected by decay. (2) For off-size. Not more than 5 percent for strawberries in any lot which are below the specified minimum size. Note: these regulations show the history of people buying stodgy strawberries. This is a case of asymmetric information.