A Not-So-Nobel Prize for Growth Economists

William Nordhaus shaping vulnerable minds in his Yale classroom – Oct. 8, 2018.  (Photo credit: Yale/ ©Mara Lavitt)

by Brian Czech

How ironic for the Washington Post to opine “Earth may have no tomorrow” and, two pages later, offer up the mini-bios of William Nordhaus and Paul Romer, described as Nobel Prize winners.

Without more rigorous news coverage, few indeed will know that Nordhaus and Romer are epitomes of neoclassical economics, that 20th century occupation isolated from the realities of natural science. Nordhaus and Romer may deserve their prizes for economic modeling, but each gets an F in advanced sustainability.

Nordhaus won his prize (actually the “Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel”— not the Nobel Prize per se) for his mastery of mathematical modeling. He applied his skills to carbon taxes for lowering greenhouse gas emissions. All along he prescribed economic growth – the key driver in greenhouse gas emissions—as the way to afford such taxes!

In 1991 Nordhaus uttered one of the most iconic sentences in the history of unsustainability: “Agriculture, the part of the economy that is sensitive to climate change, accounts for just 3% of national output. That means that there is no way to get a very large effect on the US economy” (Science, September 14, 1991, p. 1206).  Think about that. He must have set a graveyard’s worth of classical economists (Adam Smith, David Ricardo, John Stuart Mill…) to rolling. They’d be rolling in laughter if the folly of Nordhaus wasn’t so dangerous.

No follow-up should be needed to expose the ludicrous nature of Nordhaus’s statement, but just in case: Agriculture is the very foundation of the economy. No agriculture, no anything else. Think about it. Any hit on agriculture—whether from climate change, bad luck, or stupid policies—has a magnified effect on the entire, integrated economy. Nordhaus’s “3%” statement was a classic case of ivory-tower cluelessness.

Too many trees for seeing the forest?

Romer, meanwhile, deserves some credit for his elegant theory of “endogenous technological change,” which took the work of Robert Solow (the father of economic growth theory) to the next level by describing in nuanced detail how R&D leads to technological progress. That said, there has never been a bigger forest missed for so many trees. For him, all that mattered was capital and labor; he said nothing about land, natural resources, or the environment.

Some readers may recall Julian Simon, the ultimate Pollyanna who claimed in the 1980s (and I paraphrase after thoroughly reviewing his 813 page Ultimate Resource II during my post-doc studies), “Sure, there are environmental problems caused by growth, but the more people we have, the more brains we have to solve the problems. Therefore, the more people we have the better, without limit forever.” Romer’s work amounted to a highly nuanced repetition of Simon’s self-christened “grand theory.”

Romer said in a nutshell: We have capital and labor. Part of the labor force is devoted to research and development (R&D). As limits arise, we get over them with more R&D. So we need ever more people, with ever more devoted to R&D, to keep raising the bar for GDP.

For Romer, it was as if ideas alone could overcome water shortages, biodiversity loss, mineral depletion, soil erosion, pollution, and climate change. As if ideas could be perpetually borne out of human minds struggling in a degrading environment, a warming climate, and an imperiled agricultural base (not to mention a crowded, noisy, and stressed out society). Romer was like a cook thinking up recipes with no idea where the ingredients would come from.

A generation and then some of economists and business students have been led to the exceedingly dangerous myth that there is no limit to either population or economic growth. Nordhaus and Romer have done as much as anyone to lead them into such a fallacy. Yet politicians and publics heed their advice, while the media regurgitates their fallacious notions.

Does Earth have “no tomorrow,” as the Washington Post wondered? One thing is for sure: Any hope for a happy tomorrow on Earth means rejecting the neoclassical economics of today. Even when such economics wins the “Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel.”


Capital, Debt, and Alchemy

by Herman Daly

Herman Daly“Capital,” said Nobel chemist and pioneer ecological economist Frederick Soddy,”merely means unearned income divided by the rate of interest and multiplied by 100.” (Cartesian Economics, p. 27).

He further explained that, “Although it may comfort the lender to think that his wealth still exists somewhere in the form of “capital,” it has been or is being used up by the borrower either in consumption or investment, and no more than food or fuel can it be used again later. Rather it has become debt, an indent on future revenues…”

In other words capital in the financial sense is the perennial net revenue stream expected from the project financed, divided by the assumed rate of interest and multiplied by 100. Rather than magic growth-producing real stuff, it is a hypothetical calculation of the present value of a permanent lien on the future real production of the economy. The fact that the lien can be traded among individuals for real wealth in the present does not change the fact that it is still a lien against the future revenue of society — in a word it is a debt that the future must pay, no matter who owns it or how often it is traded as an asset in the present.

Soddy believed that the ruling passion of our age is to convert wealth into debt in order to derive a permanent future income from it — to convert wealth that perishes into debt that endures, debt that does not rot or rust, costs nothing to maintain, and brings in perennial “unearned income,” as both IRS accountants and Marxists accurately call it. No individual could amass the physical requirements sufficient for maintenance during old age, for like manna it would spoil if accumulated much beyond current need. Therefore one must convert one’s non-storable current surplus into a lien on future revenue by letting others consume and invest one’s surplus now in exchange for the right to share in the expected future revenue. But future real physical revenue simply cannot grow as fast as symbolic monetary debt! In Soddy’s words:

You cannot permanently pit an absurd human convention, such as the spontaneous increment of debt [compound interest], against the natural law of the spontaneous decrement of wealth [entropy]. (Cartesian Economics, p. 30).

In case that is a too abstract statement of a too general principle, Soddy gave a simple example. Minus two pigs (debt) is a mathematical quantity having no physical existence, and the population of negative pigs can grow without limit. Plus two pigs (wealth) is a physical quantity, and their population growth is limited by the need to feed the pigs, dispose of their waste, find space for them, etc. Both may grow at a given x% for a while, but before long the population of negative pigs will greatly outnumber that of the positive pigs, because the population of positive pigs is limited by the physical constraints of a finite and entropic world. The value of a negative pig will fall to a small fraction of the value of a positive pig. Owners of negative pigs will be greatly disappointed and angered when they try to exchange them for positive pigs. In today’s terms, instead of negative pigs, think “unfunded pension liabilities” or “sub-prime mortgages.”

Soddy went on to speculate about how historically we came to confuse wealth with debt:

Because formerly ownership of land — which, with the sunshine that falls on it, provides a revenue of wealth — secured, in the form of rent, a share in the annual harvest without labor or service, upon which a cultured and leisured class could permanently establish itself, the age seems to have conceived the preposterous notion that money, which can buy land, must therefore itself have the same revenue-producing power.

The ancient alchemists wanted to transmute corrosion-prone base metals into permanent, non-corruptible, time-resistant gold. Modern economic alchemists want to convert spoiling, rusting, and depleting wealth into a magic substance better than gold — not only does it resist corrosion, but it grows — by some mysterious principle the alchemists referred to as the “vegetative property of metals.” The modern alchemical philosopher’s stone, known as “capital” or “debt,” is not only free from the ravages of time and entropy, but embodies the alchemists’ long-sought-for principle of vegetative growth of metals. But once we replace alchemy with chemistry we find that the idea that future people can live off the interest of their mutual indebtedness is just another perpetual motion delusion.

The exponentially growing indent of debt on future real revenue will, in a finite and entropic world, become greater than future producers are either willing or able to transfer to owners of the debt. Debt will be repudiated either by inflation, bankruptcy, or confiscation, likely leading to serious violence. This prospect of violence especially bothered Soddy because, as the discoverer of the existence of isotopes, he had contributed substantially to the theory of atomic structure that made atomic energy feasible. He predicted in 1926 that the first fruit of this discovery would be a bomb of unprecedented power. He lived to see his prediction come true. Removing the economic causes of conflict therefore became for him a kind of redeeming priority.

Economists have ignored Soddy for eighty years — after all, he only got the Nobel Prize in Chemistry, not the more alchemical “Swedish Riksbank Memorial Prize for Economics in Honor of Alfred Nobel.”

Economics Unmasked

by Herman Daly

Economics Unmasked: From Power and Greed to Compassion and the Common Good by Phillip B. Smith and Manfred Max-Neef, Green Books, UK, 2011.

Manfred Max-Neef is a Chilean-German economist noted for his pioneering work in human scale development and his threshold hypothesis on the relation of welfare to GDP, as well as other contributions, for which he received the Right Livelihood Award in 1983. Phillip B. Smith (deceased, 2005) was an American–Dutch physicist with a devotion to social justice that led to an interest in economics. Smith died before this collaborative work was completed, so it fell to Max-Neef to finish it, respecting what Smith had done. Although this results in differences in style and approach between chapters, Max-Neef informs us that they both read and approved each other’s contributions, so it is a true collaboration. These differences between the physical and social scientists are complementary rather than contradictory.

As clear from the title, the book argues that modern neoclassical economics is a mask for power and greed, a construct designed to justify the status quo. Its claim to serve the common good is specious, and its claim to scientific status is fraudulent. The latter is sought mainly by excessive mathematical formalism to the neglect of concrete facts and real values. The mathematical formalism is in imitation of nineteenth century physics (economics viewed as the mechanics of utility and self-interest), but without any empirical basis remotely comparable to physics. Pareto is identified a villain here, and to a lesser extent Jevons.

The hallmark of a real science is a basic consensus about fundamentals. There is no real consensus in economics, so how can it claim to be a mature science? Easy, by forcing a false “consensus” through the simple expedient of declaring heterodox views to be “not really economics,” eliminating history of economic thought from the curriculum, instigating a pseudo-Nobel Prize in Economics, and attaining a monopoly on faculty positions in economics departments at elite universities. Such a top-down, imposed consensus is the opposite of the true bottom-up consensus that results when independent minds all bow before the power of the same truth. “Mathematics was simply built into the laws that describe the behavior of the atomic nucleus. You didn’t have to impose it on the nucleus.” (p.67). The same cannot be said of people, even atomistic homo economicus.

The authors give due attention to the history of economic thought, drawing most positively on Sismondi (for statements of value and purpose), Karl Polanyi (for his treatment of labor, nature, and money as non commodities that escape the logic of markets), and Frederick Soddy (for his thermodynamics-based analysis of money, wealth, debt, and the impossibility of continuing exponential growth of the economy). Negative references are reserved mainly for Friedrich von Hayek and Milton Friedman, with a mixed review for Amartya Sen. While I understand their antipathy to Hayek I found their case against him less than totally convincing. More convincing and fruitful is their building on the neglected work of Sismondi, Polanyi, and Soddy. That effort cries out to be continued by others.

Their criticisms of globalization, free trade, and free capital mobility are well founded. Economists must remember that the first rule of efficiency is to count all costs, not to specialize according to comparative advantage, especially if that “advantage” is based on a standards-lowering competition to externalize environmental and social costs. Indeed comparative advantage is irrelevant in a world of international capital mobility that gives priority to absolute advantage. While specialization according to absolute advantage gives gains from trade, they need not be mutually shared as in the comparative advantage model.

Chapter 10 provides a summary of the basics of ecological economics as “the humane economy for the 21st Century,” as well as a review of Max-Neef’s insightful matrix of needs and satisfiers.

Of particular interest is Chapter 11 on “the United States as an underdeveloping nation” — the process of development in reverse, or retrogression in the U.S. is chronicled in terms of unemployment, wage stagnation, increase in inequality, dependence on food stamps, bankruptcy, foreclosure, health care costs, incarceration, etc. Not happy reading, but a necessary reminder that gains from development are not permanent — they can be squandered by a corrupt elite employing a self-serving economic model to fool a distracted populace.

As a teacher of economics I was especially glad to read Chapter 12 on “the non-toxic teaching of economics.” I concur with the authors’ view that the teaching of economics today is a scandal. Reference has already been made to the dropping of history of economic thought from the curriculum — why study the errors of the past now that we know the truth? That is the arrogant attitude. And we certainly do not want any philosophical or empirical questioning of the canonical assumptions upon which the whole superstructure of mathematical deduction teeters. Growth must not be questioned because it is by definition the solution to all problems — even those that it causes.

As late as the 1960s economics students could study approaches other than the neoclassical — there were the remaining classical economists, institutional economists, the Marxians, the Keynesians, the Austrian School, Labor economics, Fabian Socialists, Market Socialists, Distributists, etc. Now there is a cartel of elite, expensive universities, “the Big Eight” as the authors call them (California, Harvard, Princeton, Columbia, Stanford, Chicago, Yale, and MIT) to which we could add Cambridge, Oxford, and a few others. They all teach the same growth-oriented, globalizing economics. The IMF and the World Bank hire economists from many countries and pride themselves on their diversity. But the diversity of nationality and color masks homogeneity of viewpoint since 90% of these economists graduated from the Big Eight, and are comfortable with both their position and their economic views. One wag succinctly described a frequent career path as: “MIT-PhD-IMF-BMW.”

Further evidence of the corruption of economics arrives daily. The documentary film Inside Job exposed the complicity of some Big Eight faculty in the financial debacle of 2008. I recently read that the Florida State University economics department has accepted a grant from the right-wing Koch Brothers to hire two prestigious economists with acceptable views, no doubt products of the Big Eight, whose presence on the faculty will raise FSU a step on the academic ladder. All corruption in academia cannot be blamed on economics departments, but the toxicity level there is high, and Max-Neef and Smith are right to accuse. One good way for honest economics professors to fight back is to recommend this book to their students!

The book ends with a hopeful review of some concrete, real world, bottom-up, human-scale development initiatives. The World Bank and the IMF are necessarily absent from this final chapter’s discussion of moving from village to global order. Might it be that after globally integrated collapse we will move to village reconstruction, and then to a global federation of separate national economies under the principle of subsidiarity?

Mountebank Wins Nobel for Infinite Planet Theory

by Rob Dietz

Few people have read the dense volumes published by the economist Milton Mountebank, but his work has affected you, me and every single person on the planet. Dr. Mountebank has revolutionized economic thought, and now he has been recognized for his singular efforts. Yesterday at a gala reception in Stockholm, Sweden, the chairman of Sveriges Riksbank, Peter Norborg, presented Dr. Mountebank with the Nobel Prize in Economics for his lifetime of work on infinite planet theory.

In his presentation of the award, Mr. Norborg stated, “Dr. Mountebank has demonstrated imagination and inventiveness beyond what the rational mind can comprehend.” Indeed, it is because of his theories that we all do what we do economically. Nations strive for continuous GDP growth and endless expansion of consumption thanks to infinite planet theory. Mr. Norborg went on to say, “All of our banks, including Sveriges Riksbank, owe him a huge debt. We finance  economic expansion. Our actions and decisions would be morally suspect if we lived on a finite planet.”

In a light-hearted moment during the presentation, Mr. Norborg asserted that Dr. Mountebank had provided an even greater service to humanity by reducing stress on individuals. “Best of all,” he said, “is that we can extract, consume and digest resources guilt-free. Planetary constraints have been conquered. They have gone the way of the dodo, the Roman Empire and the world’s major fisheries.”

Reagan's nod to Mountebank, etched in stone at the International Trade Center in Washinton, DC. Photo by Rob Dietz

Although Dr. Mountebank’s books have failed to reach mainstream audiences, his work has been highly influential among elite political and corporate leaders. Ronald Reagan is a prominent example. President Reagan once famously said, “There are no limits to growth and human progress when men and women are free to follow their dreams.” That’s a close paraphrasing of Dr. Mountebank’s conclusion to his magnum opus, Infinity and Beyond: The Magical Triumph of Economics over Physics. Phillip van Uppington, former vice president at Lehman Brothers, asserts that Dr. Mountebank was a huge influence on his firm. “We used to quote him all the time. One of the highlights of my career was the symposium I arranged a few years back with Mountebank and Milton Friedman. We called it ‘Double Milton Day.’  It really opened our minds to the possibilities of innovative finance. Once we implemented the double Milton doctrines, we made more cash than most small nations.”

In his acceptance speech, Dr. Mountebank told the story of how he developed infinite planet theory. “Equations, equations, equations,” he said, “I would see them dancing across my eyelids as I laid down to sleep.  In the morning I would wake up and write them out. I did this for three straight years until I finally put it all together.” The centerpiece of Mountebank’s mathematical demonstration of the feasibility of infinite growth is his conjury equation, a recondite multivariate differential expression that, by common agreement, is understood by fewer than four economists in the world. “It’s why I’m standing on this stage today,” Mountebank said. “Unfortunately the equation is too long to fit on the screen behind me, but it’s the key to infinite economic growth. Fortunately, though, you don’t have to be an economist or a statistician to use it as a guide for your daily actions.” Dr. Mountebank continued by holding up a globe in his hand and stating, “We all recognize that the earth is a sphere, and from basic geometry, we all understand that a sphere has no beginning and no end. If you set out in one direction on the surface of a sphere, there is no stopping point—it’s infinite.” He spun the globe and walked his fingers around it to prove his point. “Q.E.D.  No end.  And that means it can be infinitely exploited for economic gains.”

Dr. Mountebank. Photo by Derrick Tyson.

Infinite planet theory has gained almost unanimous acceptance in economic circles, but there have been some vocal critics. On the day of the award ceremony, a small band of protestors formed a picket line outside Sveriges Riksbank. One protestor was carrying a sign that said “Steady State.” When asked why she was protesting, she said, “Mountebank? You can’t be serious. They should give the Nobel to Herman Daly.” Dr. Daly is known for his work on the limits to growth and the steady state economy, concepts which fly in the face of infinite planet theory. The Club of Rome provided the original critique of the theory when it published its bestselling book, The Limits to Growth. In his writings, however, Dr. Mountebank has dismissed the notion of limits. One of the passages in Infinity and Beyond says:

The end of cheap oil, species extinctions, climate change, deforestation, resource depletion, crippling poverty, loss of ecosystem services, soil and aquifer degradation—these are trifling problems, so long as we continue to grow the economy toward its ultimate size: infinity and beyond. Under no circumstances should we allow creeping thoughts about a finite planet or constraints handed down by universal physical laws to get in the way of building a bigger economy. And certainly we should shut our ears to the dreary doomsayers who continue to rain their inane facts upon our parade of growth. Growth, alone, is the moral and political ideal.

Dr. Mountebank ended his acceptance speech on a personal note, observing how infinite planet theory had soothed the fears of his young grandchildren. He said, “They told me they were scared about what was happening to the environment. I patted their little heads and told them not to worry.  After all, you can’t harm nature on an infinite planet. By definition, there’s always more.”

Dr. Mountebank is the eighth Nobel laureate in economics from Fantasia University.

Real Economies and the Illusions of Abstraction

by Hazel Henderson © 2010

Editor’s Note:  Hazel Henderson, guest contributor and true champion of the steady state economy, digs deep into the deficiencies of our economic and financial systems.

The yawning gap between the real world and the discipline and profession of economics has never been wider.  The ever-increasing abstractions in finance and its models based on “efficient markets” and “rational actors”: capital asset pricing, Value-at-Risk, Black-Scholes Options Pricing, have been awarded most of the Bank of Sweden prizes since they were founded in the 1960s and foisted onto the Nobel Prize Committee.  Most of these abstract models, based on misuse of mathematics, contributed to the financial crises of 2007-2008.  Now, the family of Alfred Nobel, led by lawyer Peter Nobel, has disassociated itself from the Bank of Sweden Prize in Economics In Memory of Alfred Nobel.[1] They point out that Nobel never would have approved of a prize in economics since it is not a science – and would have disapproved even more that most of the prizes were given to Western, neoclassical economists using mathematized, abstract models – far from Nobel’s wider concerns.

Nowhere is this abstraction more devastating than in the mathematical compounding of interest rates on borrowed money, now sinking individuals, companies and nations in unrepayable debt as explored in lawyer Ellen Brown’s Web of Debt (2007).

In The Politics of the Solar Age (1981, 1988), I warned that compound interest violated the Second Law of Thermodynamics:

Much confusion arises because economics inappropriately analogizes from some of these models from the physical, social, and biological realms.  For example, the best example of a “runaway” can be found in the hypothetical model that economists have imposed on the real world: compounded interest.  Here, they have set up an a priori, positive feedback system (based on the value system of private property and its accumulation), in which the interest earned on a fixed quantity of money (capital) will be compounded and the next calculation of interest added on cumulatively.  But this “runaway” accumulation process bears no relationship to the real world – only to the value system.  However, it has profound real-world effects if enough people believe it is legitimate and employ lawyers, courts, etc., to enforce it!  (p. 228)

I also pointed out that Frederick Soddy, Nobel laureate in chemistry, decided that economists’ dangerous drift into pseudo-scientific abstraction must be halted before they destroyed industrial societies, because their uninformed ideas contravened the first and second laws of thermodynamics.  (p. 225)

The mathematical fantasy that money is wealth and can reproduce itself is revealed again in the US housing and foreclosure crisis.  Money is a useful information system for tracking our use of nature’s resources and scoring the games we humans play, but it gradually became mistakenly equated with the real wealth of nations.  Similarly, too often economists and politicians describe money flows in economies as analogous to the human body’s circulatory system.  Yet human blood’s hemoglobin cells do not charge money or interest for the life-giving oxygen they deliver to every other cell in our bodies.

Charging interest for lending money was frowned on by our ancestors and considered a sin in Christian, Judaic as well as Islamic and other religious traditions.  This view survives today in Sharia finance where lending at interest is shunned in favor of requiring the investor or creditor to share risks of any enterprise with the entrepreneur.

Generations of scholars since Aristotle’s treatises on “just prices” have examined the myths and human experiments in creating money and systems of exchange, from mutual fund manager Stephen Zarlenga’s The Lost Science of Money (2002) and Prof. Margrit Kennedy’s Interest and Inflation Free Money (1995) to lawyer Ellen Brown’s Web of Debt (2007).  In my Creating Alternative Futures (1978), I posed the question: Is there any such thing as profit without some equal, unrecorded debt entry in some social or environmental ledger or passed on to future generations?  My answer was “yes,” provided all costs of production were internalized and thermodynamic, not economic, measures of efficiency were calculated.

The mismatch is between the real-world economies, where real people grow food, make shoes, clothes, shelter and tools in real factories, versus the human mind’s tendencies toward abstraction.  Understanding the real world in which we live requires us to recognize patterns and to abstract reality into mental models.  The map is not the territory, as we have been reminded by many epistemologists.  The danger is that we routinize our perception through these models, forgetting the need for constant updating and course-correcting as conditions change around us.  Thus our mental models are memes that crystallize into habits, dogmas and outdated theories such as those in conventional economics and finance.  These led to collective illusions: about “efficient markets,” “humans as rational actors” and the lure of “compound interest” that still guide the decisions of too many asset managers.  New models of triple bottom line accounting for environmental, social and governance (ESG) have been adopted by responsible investors and institutional investors, including those engaged with the UN Principles of Responsible Investment, managing $22 trillion in assets.  The current US mortgage and foreclosure mess provides a new teachable moment where we can re-examine the obsolete beliefs still at the core of economics and now refuted by physicists, thermodynamics, endocrinologists, brain and behavioral scientists.[2]

The computerized efficiency of digitizing mortgages for rapid securitization in the Mortgage Electronic Registration System (MERS) is at the root of the foreclosure and toxic assets dilemma.  We must examine how computers when introduced into Wall Street, financial and housing markets drove economic theories further into mathematization, led by the Arrow-Debreu modeling of national economies in the 1960s, beyond earlier attempts by Leon Walras.  Bank of Sweden Prizes in Memory of Alfred Nobel were given to Arrow and Debreu and others for mathematical models inappropriately applied to economics and finance.[3] Similar mathematical models on which economists still rely, accept Arrow-Debreu’s assumption of a process of “market completion” where markets could be extended to enclose ever more of the global commons: air, carbon emissions, water, forests, biodiversity, ecological assets and their productivity which supports all life.  The newest commons are global communications infrastructure, the internet, the electromagnetic spectrum and space, all of which required massive public investments and underpin global finance and its extensive bailouts.  The report of the Global Commission to Fund the UN,  The UN: Policy and Financing Alternatives, Eds. H. Cleveland, H. Henderson and I. Kaul (Elsevier Science Press, UK, 1995) proposed taxing all commercial uses of the global commons and fines for misuse, including a tax on currency speculation.

For any market to efficiently allocate resources, buyers and sellers must have equal information and power, while their transactions should not harm any innocent bystanders.  These conditions identified by Adam Smith in The Wealth of Nations in 1776 are now violated everywhere due to the scale and technological reach of global corporations and finance.  Examples include the earliest forms of industrial pollution and exploitation of workers to today’s toxic sludge dam failure in Hungary; BP’s Gulf oil contamination and the growing costs in lives and ecological destruction of coal mining; the Wall Street volatility due to program trading; the financial meltdown of 2007-2008; the May 6, 2010 “flash crash,” and the new revelations of US mortgage and foreclosure frauds.  An ingenious enterprise, the Open Models Company (OMC) founded by Prof. Chuck Bralver at the Fletcher School of Tufts University, based on Linux principles, provides an open-source platform for global experts and critics in finance to examine the assumptions underlying derivatives and risk models – a huge help for underfunded regulators.[4] Mervyn King, head of the Bank of England, called for restructuring beyond Dodd-Frank, Basel III and other recent reforms of today’s unsustainable “financial alchemy.”[5] King reflects most of the issues identified by experts in our Transforming Finance statement of September 13, 2010.

The scale of industrial and financial operations becomes global and ever more computerized and digitized, accelerating the abstraction of management, global supply chains, risk assessment, calculations of accountants for profits and losses, strategies of national governments and central bankers using defunct models such as NAIRU (non-accelerating inflation rate of unemployment) to set interest rates, along with subsidies, tax policies, and quantitative easing to “manage” their economies.  All are based on levels of aggregation in statistical indicators akin to assessing national economies while over-flying a country’s territory at 50,000 feet.  The digitization of Wall Street and security analysis is cancelling out strategies for diversification of portfolios.  In the post-Bretton Woods, turbulent global casino, the $3 trillion plus daily electronic trading of currencies and sovereign bonds are driven largely by speculation, credit default swaps, and high-frequency trader’s algorithms.  The proliferation of electronic trading platforms, credit cards and digital payment and credit systems bypass regulatory models of governments and central banks.

Today’s ad hoc global financialization cannot be described as a system since it is still driven by the long-outdated assumptions and models in economics and the sloppy generalizations and categories that underlie economics and its theories: “capital” (not clearly defined); “growth” (GDP is the output of goods and services measured in money without subtracting social and environmental costs or adding the unpaid services in families and communities which support official paid production); “innovation” (does not distinguish between new brands of dog food, potato chips, credit default swaps vs. computer chips, gene sequencing or renewable energy); “productivity” (if measured as output per worker, this leads to further automation and technological unemployment); “free trade” (which led to the hollowing out of the US economy, outsourcing of jobs in manufacturing and services, trade deficits); “inflation” and “deflation.”  Statistical illusions: CPI, “core CPI” (which excludes energy and food), drives Fed policies, Social Security, taxes as well as employment and macroeconomic policies (see Current Issues).

Perhaps the most obvious policy errors were the models used by Alan Greenspan to describe the global economy in the boom and by Ben Bernanke during the period from 2003-2006 as “The Great Moderation” (economic cycles had been tamed) and then, as the global imbalances grew, labeling them “the Global Glut of Savings” (China, Japan and other countries supposedly saved too much).  Instead, I and others labeled this a growing global bubble of fiat currencies, led by the US dollar, acting as a global reserve currency.  The crisis was one of macro-economic management – sinking under mounting deficits, debt and compound interest, while facing growing systemic risks due to deregulation in the global casino.

Nassim Nicholas Taleb pointed out all these conceptual errors in Fooled by Randomness (2005) and The Black Swan (2007), digging even deeper into the fallacies of the human mind, including confirmation bias, herd behavior and excessive optimism verified by behavioral psychologists.  Mathematician Benoît Mandelbrot warned of the limits of statistical models of probability and risk informed by Gaussian normal distribution “bell curves.”  Fat tails, black swans and perfect storms entered the language, but instead of examining these human perceptual errors, they became excuses for Robert Rubin and his protégés, Larry Summers, Tim Geithner, as well as central bankers, Wall Street CEOs and asset managers – all claiming that “no one could have predicted the financial crises.”   As Richard Bookstaber described in A Demon of Our Own Design (2007), Wall Street’s financial models were bound to fail.

The truth is that thousands of critics, scholars and market players, including the author[6] accurately predicted and warned of the coming debacle – but were ignored by the leading elites in business, government and academia.  Mainstream media accepted conventional wisdom, funded by advertising from incumbent industries and their financial allies while their lobbyists took control of Congress.  After the half-hearted reforms  of Dodd-Frank, the IMF, the World Bank, the BIS and the G-20, how can a paradigm shift allow new voices, new models and more accurate modeling and control of systemic risk to emerge in the global financial system?

First, we must recognize the crises we face are not black swans, fat tails or perfect storms, but symptoms of our limited perception, fragmentary reductionist mindsets, models, research methods and academic curricula , particularly in economics and business schools.  Second, we must move beyond economics to capture all their “externalities” in multi-disciplinary frameworks, systems models, multiple metrics and pluralistic research, such as that pioneered by the US Office of Technology Assessment (OTA) on whose founding Technology Assessment Advisory Council I was honored to serve from 1974 until 1980.  This useful messenger, with its ground-breaking research, now copied in many countries, was decapitated by Congress in 1996 by Speaker Newt Gingrich and his Republican colleagues.  Luckily, OTA’s studies are still highly relevant and archived at Princeton University and the University of Maryland.  Signs of awakening include new memes, including describing fragmented approaches as “silos” and narrow research as “stovepipe information” with frequent calls to “connect the dots.”

Equally urgent are the phasing out of all the hundreds of billions of dollars of perverse subsidies propping up obsolete, incumbent companies and industries still blocking the emergence of cleaner, greener information-rich technologies and new companies.  Governments’ conceptual confusion over climate issues is evident in still subsidizing carbon-based industries while at the same time trying to cap and price carbon emissions.  This Green Transition to the Solar Age is underway as we gradually exit the earlier, fossil-fueled Industrial Era.  Ethical Markets Media measures private investments since 2007 in solar, wind, energy efficiency, renewables and smart infrastructure worldwide in our Green Transition Scoreboard®.

Meanwhile, a below 1% financial transaction tax on all transactions can curb high frequency trading and currency speculators, limit positions by hedge funds and other institutional investors – while sparing legitimate hedging by commercial firms.  Such long-debated taxes, proposed by James Tobin in the 1970s and Larry Summers in his 1989 paper,[7] are now supported by the EU and are on the G-20’s agenda.  See my “Financial Transaction Taxes: The Commonsense Approach.”[8]

To finally correct our money-creation ceded to private banks by Congress in 1913 through the Federal Reserve system, Congress could enact the Monetary Reform Act long proposed and vetted by seasoned market veterans of the American Monetary Institute.  This would entail a rolling readjustment in money issuance – now obviously dysfunctional under the Fed and private banks and return it to a public function as in the US Constitution.  Meantime, many states could adopt state banking as in North Dakota, the only state with a surplus and full employment – unharmed by the depredations of Wall Street extractions from Main Street.

I agree with others from E.F. Schumacher, author of Small is Beautiful (1973), Simon Johnson, author of 13 Bankers (2009), Laurence Kotlikoff, author of Jimmy Stewart is Dead (2009) to Nassim Nicholas Taleb: if systems are too large and interconnected to manage and banks are “too big to fail,” then they need to be carefully dismantled and decentralized to restore diversity and resilience following nature’s design principles.  Monetary monocultures now on a global scale have demonstrably failed.  Healthy, homegrown, local economies need protection from global bankers and their casino.   Complimentary local currencies and peer-to-peer finance are flourishing (see my “Democratizing Finance“).  Bloated financial sectors can be downsized and return to their role of serving real economies.  In the USA, small non-profit community development finance institutions (CDFIs) are growing to fill the needs of micro-businesses.[9]

Trickle down economics has failed utterly, even as the politicians and central bankers still believe that pouring taxpayers funds and printed money into big banks and bloated financial sectors will somehow trickle down to Main Street and local businesses.  Instead of creating US jobs, the rest of us see the Wall Street traders and big asset managers investing these funds in China, India, Brazil and other emerging markets where US multinationals have shifted their plants, jobs and research.  Worse still, big banks take the Fed’s funds and rather than lending to Main Street, use it for gambling on currencies, oil, interest rates and other derivatives.  All this money-creation is fueling currency wars.  Hopefully, all this together with ballooning debts, deficits and un-repayable compound interest, the foreclosure and mortgage securitization scandals and auditing Fannie, Freddie and the Fed, will provide enough evidence to Washington and voters in many countries of the needed paradigm shift and new policies.

Calls in the USA for facing up to these painful truths are coming from all sides, from Republicans, including Congressman Ron Paul to Democrats including Congressman Dennis Kucinich and Independents including Senators Bernie Sanders and Byron Dorgan.  Indeed, Republicans and Democrats are now both minority parties as most voters are now independents.

Exposing all the statistic illusions, inoperative models, dysfunctional economic dogmas – including their unsustainable offspring: debt-based money and compound interest – can begin the Green Transition to the emerging economies of the 21st century.  The new coalition is now visible: responsible and green investors and companies, environmentalists, Millennials, progressive labor unions and their pension funds, students, independent media and voters, systems thinkers, futurists and academics pioneering new courses in sustainability, as well as dispossessed homeowners, jobless workers, professionals and veterans eager to put their skills to work – all are ready to help grow the green economies of the future.

Hazel Henderson, D. Sc.Hon., FRSA, author of nine books, is President of Ethical Markets Media (USA and Brazil) and its Green Transition Scoreboard; co-creator with the Calvert Group of the Calvert-Henderson Quality of Life Indicators (regularly updated at and the Transforming Finance initiative.  Her company is signatory of the UN Principles of Responsible Investing.

[1] Söderbaum, Peter.  “Nobel Prize in Economics Diminishes the Value of Other Nobel Prizes.”  Dagens Nyheter, Sweden, October 10, 2004

[2] Henderson, Hazel.  “The Cuckoo’s Egg in the Nobel Prize Nest,”  InterPress Service, October 2006.

[3] Henderson, Hazel.  “Abolish the ‘Nobel’ in Economics? Many Scientists Agree.”  InterPress Service, 2004.

[4] Tapscott, Don and Williams, Anthony. Macrowikinomics, Penguin Group, USA, 2010

[5] “King plays God.”  The Economist Online, October 26, 2010

[6] Henderson, H. Building a Win-Win World, Berrett-Koehler, 1996 (now an e-book)

Henderson, H. “New Markets and New Commons,” FUTURES, Elsevier Science, vol. 27 #2, 1995

[7] Summers, Larry.  “When Financial Markets Work Too Well: A cautious case for a securities transactions tax”, Journal of Financial Services Research vol. 3(2-3) 1989

[8] Henderson, Hazel. “Financial Transaction Taxes: The Common Sense Approach,” Responsible Investor, London, October 19, 2010

[9] Pinsky, Mark. “Help for Small Businesses: Loans are just a start” Bloomberg Businessweek, Oct. 25, 2010, p. 74