1.2.2 Politics and economics

The relationship between politics and economics is somewhat strange. The author would not say that every type of conflict is an economic conflict, but every conflict clearly has economic aspects. One might, therefore, suppose that politics is very interested in economics and that many politicians have studied Economics, but, this is not the case at all. Most politicians have studied Law and are not interested in Economics.

The phenomena can be explained in part by the fact that, when it comes to talking about specific problems, economists know little more than other people about economics. In other words, mathematical models, while appearing to be highly sophisticated science, are entirely useless. In this manual, we will repeatedly talk about methodological issues because every author, for instance Joseph Schumpeter, Vilfredo Pareto, Léon Walras, Alfred Marshall, has a different opinion about the methods to be used. To keep it simple: Any mathematical modeling requires some abstraction. In other words, the model must disregard some parameters completely or introduce them as things that do not vary in time and space. The problem is that the choice of parameters considered has an impact on the results of the analyses.

To explain it with an example: Léon Walras' famous “general equilibrium” theory is based on a market where an existing amount of goods is exchanged, but no new goods are produced. In other words, he analyses something like a fish market where a certain amount of fish is bought and sold on a certain day. In this case, the only way to achieve equilibrium (in this case, equilibrium is defined as a situation where all the fish is sold) is by modifying the price since the quantity cannot change. It is obvious that this kind of model leads to very different conclusions than a market in which the quantity changes because production is taken into account as well. In this case, equilibrium is obtained by changing the price AND the amount offered.

This is an extreme example, but we will see throughout this manual that this problem occurs with every type of mathematical model. A mathematical model tends to take into account everything that can be modeled mathematically and ignore everything that cannot.

This is a tendency in economics. Its most famous illustration is the IS-LM Model. This model seeks to be a practical illustration of the Keynesian theory. In fact, it ignores everything, including Keynes’ warning that the Keynesian theory cannot be modeled mathematically.

The concrete results of this kind of thinking is obvious; academic theory is completely irrelevant in a public debate about economic issues.

It is very easy to introduce a parameter like technological progress into a mathematical model. Politicians and the public are well aware of the importance of technological progress so there is no need for a model to demonstrate its importance. Instead, the public is more interested in practical proposals that promote technological progress or the transfer of know-how.

The attractiveness of mathematical models to the Economics teaching guild is the fact that there is no need to have substantial working experience to build and teach them, and the vast majority in this guild do not have any working experience.

The attractiveness of this kind of modeling can be explained in part by the fact that models seem to be universally valid. By abstracting from individual circumstances (despite the reality that these circumstances can have a significant economic impact), it is quite easy to come to universally valid "economic rules" or models. Economics aspires to obtain such universally valid rules just like the ones found in Physics or Chemistry, although nobody knows why universality is a sign of good science. Common sense would suggest that the ability to resolve concrete problems is much more important.

At least in the short run, Alfred Marshall’s famous cross diagram of supply and demand is true. The lower the prices, the higher the demand and the lower the offer and vice versa. This a universally valid rule and, of course, there is an equilibrium. However, what we want to know is why the equilibrium price of rice is so high in some countries that people starve and in other countries rice is only consumed in the form of expensive sushi.

Neither modeling, nor mathematical equations and functions are needed to understand this. However, the analysis of equilibriums is of no help in resolving serious problems and politicians are thus not interested in economic theory.

The next problem with this kind of modeling is that it is resistant to reality. Modeling tends to disguise reality and produce a kind of a tunnel vision.

Economists aspire to work in "think tanks", international organisations, ministries or other institutions engaged in policy consultations. This is comprehensible as they offer nice, well-paid jobs with a great deal of freedom. Most of the time they produce "discussion papers" which no one reads or cares about at all. However, this is not the main question; the question is, who must be inspired, politicians or the public?

In democracies, enlightening politicians is not very effective as they need to be elected to have any impact. It, therefore, makes more sense to enlighten the public. This requires some skills, such as being able to explain things in a clear and comprehensible way.

However, this is not even the main problem. The stability of a democracy does not depend on enlightened politicians, but on the ability of the electorate to make rational choices. It is well possible, as John Stuart Mill said, that sometimes it is easier and faster for a government to make changes, but very seldom are these changes lasting if the population is not convinced that they were necessary.
We will later discuss Popper. His basic ideas are undoubtedly correct. A democratic election is a kind of experiment permitting the falsification or confirmation of a proposal. If a party succeeds in convincing the electorate that its proposal will resolve a problem, then they have four or five years to prove it. If it works, they have a good chance to be re-elected; otherwise they are not. Nevertheless, Popper completely overlooked a basic problem. If we conceive democracy as a kind of learning process, then the theories and the facts behind a decision and a proposal must be known and understood. For bad solutions to be definitively excluded, it must be clear why they did not work. Otherwise, we get the same bad solutions again and again. This is not mere theory. One would expect, for instance, that never again would someone in Germany think that a planned economy like the East-German one would work. Still, the high unemployment rate and other problems of this kind have led to a Marxist revival, and East-Germany has come to be viewed as a kind of a paradise. People do not remember that in East-Germany indeed everybody had a job, but that there were only a few things to buy with the money they earned. The fact that, nowadays, public opinion does not vacillate between the two extreme positions, Manchester Liberalism and Socialism, is the result of a better understanding of economic processes in the public debate and not the result of enlightened politicians.

By the way, a little bit of common sense shows us that the relationship between the political system and the economy cannot be ignored. However, this relationship is completely ignored in academic curricula. This is due to two factors, both of them related to Neoclassical economics, the dominant school in academic teaching at present. The use of mathematical modeling began with Neoclassical Economics, and the interaction between politics and the economy cannot be modeled this way. (Anthony Down tried to do that, but actually there was no need for it.) Therefore, politics is excluded from models. This is something we will see very often throughout this manual; what cannot be modeled mathematically is ignored.

The second reason is that Neoclassical theory supposes that markets left do their own devices will find their equilibrium. The main difference between Neoclassical Economics and Neoliberalism consists in the fact that in the Neoclassical theory the state does not exist, while for Neoliberalism the state exists but is considered a menace. We will return to this point in the discussion of Milton Friedman.

To put it in a more abstract way, economic thinking as taught nowadays at universities is not about human beings, but about certain arbitrarily selected actions of human beings, such as saving, investing, consumption and so on. This works to a certain degree but does not work if complex relationships exist. For instance, the relationship between the political system and economics or the relationship and between the educational system and economics which must be taken into account.
Besides the arguments given earlier for why it is much more interesting for economists to get a job in a public financed institution and advice politicians than to improve the quality of public debate, there might be another reason economists feel no need to influence the democratic debate.

Modeling considers economics as a kind of a machine which can be controlled through the variation of certain parameters. From this perspective, there is no need to convince the public of anything. Some "experts" simply have to adjust the variables in order to get the machine running. However, if it were possible to control the economy through certain parameters or by establishing certain rules, there would be no need for democratic decision-making. We will return to these topics repeatedly in this manual.