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Meghnad Desai: Hubris – Why Economists Failed To Predict The Crisis And How To Avoid The Next One (Yale University Press)

The 19th-century idealist philosopher Georg Wilhelm Friedrich Hegel was not renowned for clarity of expression or intelligibility.

Even so, an aphorism of his which has always stuck in my mind is the one about “the Owl of Minerva only takes flight at dusk”. By which he meant that we only understand history with 20/20 hindsight.

The owl kept returning to me as I read London School of Economics Professor Meghnad Desai’s account of how economists since Adam Smith always seemed to get a grasp on what was going on just at the moment when it changed out of all recognition. Thus he explains how, after the Second World War, the Keynesians believed that enlightened demand management by social democratic governments had eliminated the contradictions of capitalism.

It was believed that this would permit endless stable growth, free of the booms and slumps that capitalism had experienced previously, most disastrously in form of the Great Depression of the 1930s. That economic orthodoxy endured for fully 30 years, until inflation and then stagflation in the 1970s led to the realisation that the theory didn’t work any more. The contradictions were back.

Along came the neo-classical economists with their computer programmes and their “efficient market hypothesis” (EMH), possibly the maddest economic orthodoxy ever. This held that so long as governments just stood back from the economy, capitalists would do their thing and it would all just ‘work’.

Prices, employment and investment would, through natural processes comprehensible only to Nobel Prize winners with names like Shiller and Scholes, ensure stable self-regulating growth. You can’t buck the market was Margaret Thatcher’s version of EMH.

Alan Greenspan, the chair of the US federal reserve in the 1990s was Pope of the “what could possibly go wrong” school. He encouraged bankers to devise ever more complex mathematical models to demonstrate that, like those nuclear power stations, the EMH simply could not fail. Until of course it did.

Government retreated from the economy for a quarter century until the Great Crash and the Great Recession demonstrated beyond peradventure that this efficient market hypothesis was only efficient for bankers. It was a disaster for society and economic stability.

We are now left with an immense overhang of debt, a result of the “irrational exuberance” unleashed by the EMH. This overhang will be with us for a while.

So where are we now? Well, in this brisk resume of economic theory since Adam Smith – a model of clarity and accessibility for anyone looking to know the basics – Desai disinters from the graveyard of economics some of the theories of how capitalism goes wrong. These are from Hegel’s one-time disciple, Karl Marx, author of Das Kapital, and a relatively obscure Soviet Marxist who wrote in the 1920s and was executed by Stalin, Nikolai Kondratieff. Kondratieff held that capitalist expansion went in 40 to 60-year waves of high explosive economic growth, followed by equivalent periods of slow sluggish growth. It was a kind of bi-polar model of capitalism.

The driving force of the upswings are paradigmatic shifts in technological innovation. Thus the economic boom of the industrial revolution was based on steam and its derivatives. The internal combustion engine drove the early 20th-century wave, while the last Kondratieff Cycle, the boom of the late 1950s and 1960s, was based on electricity-related inventions: radio, TV, white goods, etc.

Desai believes that we are now locked into the downswing phase of the last of these cycles and it has another 20 years or so to go. Which is a bit of a downer really.

What is even more depressing is that Desai, despite being a veteran of the Keynesian Left, seems to believe that what the Tory Chancellor George Osborne is doing – slowly paying down debt, limiting public expenditure and keeping out of the eurozone – is broadly correct. For the moment. He thinks this is the wrong type of recession to be addressed by government spending to boost demand in the economy as Keynesian-like professors Joseph Stiglitz and Paul Krugman have often been arguing.

But the upside is that Desai believes the next Kondratieff wave is already in gestation in the form of things like quantum computing, nanotechnology and bioengineering. Once these babies get going, the economy will really start to rock. Or something like that.

It seems a little too pat to me. And Desai isn’t entirely sure of when or if the last Kondratieff wave peaked. Also, it seems to rather sideline developments in the financial system – financial derivatives like Collateralised Debt Obligations which surely were the core of the Great Recession. The depressing thing about this essentially optimistic book is that the only conclusion you can come to, after reviewing all the competing economic theories, is that the Owl of Minerva still can’t seem to get airborne in the light of day. Or to put it another way: economists just don’t know jack.

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About iain2macwhirter

Writer and journalist.

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