New Monetary Science

From David Stockman’s Contra Corner

Alhambra Partners
by Jeffrey P. Snider • June 20, 2016

http://davidstockmanscontracorner.com/new-monetary-science/

Around 150 AD Claudius Ptolemaeus of Alexandria (Ptolemy) wrote perhaps the most significant ancient astronomical text, his Mathematike Syntaxis. Part of its durability was due to Ptolemy’s careful and laborious summation of ancient thought up to that time. Divided into 13 books, it was the last five that added most of his original work. They set up geometric models to describe the motions of the five planets then visible. To demonstrate the power of the math, Ptolemy included tables that could be used to predict their position in the sky at any time.

Though some of the ancient Greeks had thought out celestial motions anchored around the sun, notably Aristarchus of Samos, whose work would greatly affect Copernicus, Ptolemy’s would be an earth-centric model. While this view has been subjected to enormous religious and philosophic angst, from his perspective his task was never to figure out “why” objects moved the way they did only to figure out the “way” in which they did. In other words, he believed he was only seeking to find a kinematic model for what people on earth observed; that earth was the center of the model was almost a tautology because that is where these observations originated.

The fact that his work, renamed later the Almagest as an Arabic corruption to the Greek word megest (meaning “greatest”), was the centerpiece of astronomical belief until the 17th century proves the advanced nature at the heart of the effort. That there could be so much political and religious significance placed upon this understanding with the earth at the center is due to the fact that it just worked – or seemed to. It was dependable, and therefore it was an unchallenged “scientific” (in the generic sense of the term) basis for the broader understanding of human existence which other disciplines could draw upon.

There is no denying the elegance of Ptolemy’s model, and the originality to which he calculated its derivations. His theoretical foundation was uniform circular motion, much like the complex interactions of gears. A planet, he assumed, did not revolve around the earth in just a circle (the deferent), but with also in a smaller circle (epicycle) within the motion of the deferent. That still wasn’t enough to conform with observations, however, so the entire deferent was shifted to revolve around a fixed point in space called the equant. That meant the observer upon the earth, now outside the centerpoint of the deferent circle, was offset to a point Ptolemy called the eccentric. An illustrated example of this model can be found here.

These changes to the circular model were necessary because of what astronomer’s call retrograde motion; the planets sometimes seem to travel backward in the sky. It was the search for a simpler model that pushed Copernicus toward his earth-shattering work, merely that the earth moving around the sun far better explains the retrograde motion of other planets. Copernicus, of course, met with great resistance to his ideas because the “science was settled” not in terms of science but in the tangential arenas that had become stable upon Ptolemy’s basis.

In 1514, Copernicus completed a 40-page manuscript titled Commentariolus (Latin for “small commentary”) that introduced his ideas of a heliocentric model for planetary motions. There were several incorrect assumptions within it, including his contention that the stars do not move, they only appear to because the earth did, but overall it created enough interest (because enough was correct) among his colleagues to encourage him to keep going. It wasn’t until 1543 that the De revolutionibus orbium coelestium (“on the revolution of heavenly spheres”) was actually published.

No less than Martin Luther denounced it, offering considerable opposition on theological grounds as well as working against its further publication and spread. In his book Tischreden (“table talk”) first published in 1566, Luther was quoted as saying in reference to Commentariolus:

    There was mention of a certain new astrologer who wanted to prove that the earth moves and not the sky, the sun and the moon. This would be as if somebody were riding on a cart or in a ship and imagined that he was standing still while the earth and trees were moving. Luther remarked, ‘So it goes now. Whoever wants to be clever . . . must do something of his own. This is what that fellow does who wishes to turn the whole of astronomy upside down.

John Calvin was cited referring to the first verse of the ninety-third Psalm, asking his parishioners, “who will venture to place the authority of Copernicus above that of the Holy Spirit?” Though that specific quote may have been apocryphal, there were other documented sermons from Calvin that let his stance be quite known. In one such on 1 Corinthians 10 and 11, Calvin outright denounced those, “who will say that the sun does not move and that it is the earth that shifts and turns.”

My point is not to take this into a discussion of religious ferocity and/or denial, but rather to establish hard points about human nature. When certain concepts become established “fact” they are very difficult to change no matter how incorrect they might be. It is a combination of, again, human nature, institutional inertia, and the logical fallacy of appeal to authority. All the “right” people were against “it”, therefore any new information or theories that do discredit “it” are easily dismissed in favor of the old, settled ways of understanding. That goes on until there is overwhelming proof that “it” was never true to begin with.

Though we are often led to believe this is a problem specific to religious objections, that simply is not true. Science “itself” has undergone numerous instances of religious-like refusals. In 1931, the book Hundert Autoren gegen Einstein (100 authors against Einstein) was printed in Germany collecting texts from 28 different authors and published excerpts from another 19 that received relatively wide attention. In response, Einstein supposedly remarked that only one author would have been enough had he been wrong.

The Copernican model “won” the argument because astronomy advanced in equipment and mathematics. The Ptolemaic view no longer so accurately described the universe that was being seen for the first time in finer detail. No matter how many times the “right” people object, observation is the ultimate scientific arbiter. The political discussion about what observations “mean” is separate.

We are finding something similar in the realm of economics right now, though I hesitate to use the Copernican example for fear of elevating economics too far into legitimate science. Regardless, the orthodox version is taken as a scientific endeavor especially by the mainstream media that holds economists as unchallenged (and, more importantly, unchallengeable, experts). They are, in reality, priests of unscientific beliefs to which they spend more time trying to dismiss any trials rather than of determined and helpful observations.

Economists have steadfastly resisted any theories that did not place the central bank at the center of the financial system, and thus at the basis of the economy in general. This requires, in the modern, wholesale system, great feats of theoretical and mathematic convolution to achieve because, like Ptolemy’s eccentric circles upon circles, that’s the only way to make it seem relevant. Even when presented significant evidence that this monetary view was off, such as June 2003, it prevails as “settled science” based on, again, human nature, institutional inertia, and hardened devotion to the appeal to authority (in the form of credentials rather than established scholarly effort). The media continues to write of “stimulus” as if that word applies when it only does in the context of economists, not economy. But repeated failure is forcing the world out of that context.

There have been significant though downplayed developments of late. I noted some of these late last week, though they bear further repetition because they are quite significant. Janet Yellen, for instance, may have unintentionally confirmed that orthodox monetary practice of the Federal Reserve no longer has any established axis. Natural rate theory has been at the basis of orthodox application for decades, to which she said last week,

    And I think all of us are involved in a process of constantly reevaluating where is that neutral rate going and I think what you see is a downward shift in that assessment overtime. The sense that maybe more of what’s causing this neutral rate to be low are factors that are not going to be rapidly disappearing but will be part of the new normal. Now, you still see an assessment that that neutral rate will move up somewhat, but it has been coming down and I think it continues to be marked lower. And it is highly uncertain, for all of the dots.

Without the natural rate (which is the monetary equivalent of Ptolemaic epicycles) monetary policy is lost without any theoretical reference. To mainstream economics, this means that the economy “needs” more sustained “accommodation” for far longer (the natural rate is lower). But that is the convoluted, mathematical sense of believing “accommodation” and central banks are at the center of the economic universe. It is far simpler, and more conducive to matching actual observations, to instead realize that the central bank isn’t nearly so central. Take the central bank out of the economic middle and the idea that “stimulus” isn’t very powerful becomes far more natural; and the economy starts to make sense.

Yellen’s rambling admission is not the only example. Paul Krugman spoke with Japanese monetary officials earlier this year and managed to allude to what would seriously violate and undermine orthodox theory also in its most basic principles (including the central bank at the center).

    I really want to make four points. The first is that we are now in the world of pervasive economic weakness. In many ways, we are all Japan now. This complicates policy for everyone including Japan. The second is that the linkages among major economies are strong. They are stronger than much conventional economic discussion suggests, largely I would argue because of capital flows. This is very important to speak about.

The importance of these small instances (that never make the media) is enormous. Despite the rhetoric in the mainstream about economics being a settled science, we know for sure that it is not and there are now more cracks in the institutional façade than at any other point. The Fed, and economics itself, is having to come to terms with the impossible:

    The timing of that shift is no coincidence; it is the essence of the “rising dollar.” From that we find the great divide between the economy as it “should be” under QE and the one that is falling further under the “dollar.” It is a direct contradiction to everything about monetary economics as it is practiced in every central bank that has taken to QE. The “rising dollar” was an amplification of the eurodollar decay that started in August 2007, a “dollar” shortage in its baseline capacity that suddenly took on much more determined, global emphasis.

    

    To proponents of QE, this is an impossible description let alone reality. Quantitative easing was enormous “money printing” no matter how much inflation, commodity markets, and the global economy act consistent with monetary contraction. Unfortunately for all of us, there were grave and fundamental misconceptions about QE from the start; not on our part, but by those thinking it was a solution.

The “rising dollar” is the introduction of Galilleo, the mathematics of Kepler and Newton that reconditioned Ptolemy in favor of Copernicus. The world doesn’t align to the deferent of “secular stagnation” nor the epicycle of “stimulus.” This can be a sign of positivity, but I doubt it. These are not people interested in finding truth, they are desperately searching for a way to admit reality while keeping their status quo – orthodox economists at the top of the political pyramid. They have had their chance and they chose devotion to the old over anything else and have lost a decade (at least) of economy for doing so. 

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