Monday, December 08, 2008

Those Who Stoked the Fires are Least Able to Make them Safe

Balgeet Grewal, managing director and vice-chairman of Kuwait Finance House, ‘the largest Islamic bank in the world’, writes in the StarOnline (Malaysia)(HERE):

“Can Asia spend its way out of the crisis?”

Policy makers very often confuse disenchantment with truth. The inconvenient truth in financial markets today is that government spending is crucial to jumpstart a beleaguered global economy.
The “invisible hand” of Adam Smith is more and more being replaced by perceptible government intervention as the tangled knot of economic problems becomes difficult to unravel

Adam Smith’s use of the metaphor of ‘an invisible hand’ was originally used in the context of the risk avoidance of some merchants in 18th-century Britain who took what they considered to be a safer route of investing their scarce capital in local business rather than take the risk of losing it by sending it to the British colonies in North America, where its security was more doubtful, access to fair treatment in the justice system operating in those colonies was suspect, the rate of return, if any, would take several years instead of several months, and the unpredictable weather and sea journey was unknown, apart from the risks of fraud from distant personages.

Because these risk averse traders invested locally, this added to local, and national, investment in productive activities, which led to a higher level of local economic activity and output than would be the case if they, and those who were less risk averse, sent their capital abroad.

A simple arithmetic case of the whole being the sum of its parts.

Now that takee quite a lot of space to explain, briefly, what Adam Smith considered to be the main issues. He actually took a little longer in fact in Wealth Of Nations to cover the same points (Wealth Of Nations, IV.ii: pp 452-56; 5 pages).

To keep his readers alert to his main point he ‘coined a phrase’ so to speak, and called upon a well-known metaphor from contemporary, and much earlier, literature which readers would be familiar, of ‘an invisible hand’.

Smith lectured in rhetoric and we have a set of his lectures taken down by some of his students in 1762-3, in which he described the role of metaphors.

While discussing how Shakespeare used metaphors, he described them as a ‘figure of speech’ in which ‘there must be an allusion betwixt one object and an other’, and that a metaphor can have ‘beauty’ if it ‘is so adapted that it gives due strength of expression to the object to be described and at the same time does this in a more striking and interesting manner’. (See Smith, A. [1762] 1985, Lectures in Rhetoric and Belles Lettres, 29 November, 1762, p 29, ed. J. C. Bryce, Liberty Fund, Indianapolis).

In short, a metaphor is representative; it does not have substance; it is not identical to its object. It is not a paradigm, nor a theory of markets; it is ‘a figure of speech’.

The problem is that some brilliant economists from the late 1940s (Samuelson, Debreu) and from the 1950s (Friedman, Stigler, Arrow) Tobin, and almost everybody since in academe, took the metaphor (which had hardly been notice before then – Edwin Canaan’s 1937 still popular text does not mention it as a side note in his authoritative edition of Wealth Of Nations, p 423) and popularised the invisible hand, credited to Adam Smith – though he had many predecessors, including Shakespeare, Defoe, Voltaire, as a mystical, almost divine (in some cases among US economists of a religious disposition, specifically the ‘hand of God') force said to be present in the operation of markets.

That ‘semi-divine’ view of the invisible hand now dominates academic and popular discourse and it is a view that Lost Legacy has conducted and will continue to conduct a relentless struggle, in order to rescue Adam Smith’s name from association with such unscientific – frankly nonsensical –treatment of how markets work.

The importance of this lonely struggle is seen today when capitalist market economies are driven and discredited from the centre of policy discussions on what to do about the current crisis, and the whole burden of counter-recessionary actions is transferred from markets to the sole determination of politicians, who were directly complicit in the very causes of the current crisis.

Those who stoked the fires of credit-based growth are judged by themselves to be those best able to put them out. The Labour government is preening itself as the saviour of the problems it created, and early manifestations of their ‘solution’ is to demand that the banks lower their interest-rates - wait for it - and offer more credit to propositions that are unprofitable and which they consider on current pricing to be too risky.

Balgeet Grewal’s article, written in the petro-dollar safe-haven of Kuwait, advises us that: “The inconvenient truth in financial markets today is that government spending is crucial to jumpstart a beleaguered global economy”, and “beleaguered” governments all know the address from where they can get the big loans they judge they need (what else can the billionaire dollar holders ‘invest’ their dollars?).

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