Making Macroeconomics a True Science
Today macroeconomics is treated as an inexact topic within the humanities, because at a first look it appears to be a very complex and easily confused matter. But this attitude does not give it fair justice–we should be trying to find a better way to approach and examine the subject, in a good way that avoids these problems of complexity and confusion. Suppose we ask ourselves the question: “how many different KINDS of financial transactions occur within our society?” Then the simple answer shows that that only a limited number of them are possible.
Although our society comprises of many millions of participants, to answer this question properly we should be ready to consider the aggregates of all the various kinds of activities (no matter who performs them), and then idealize these activities so that they fall into a acceptable number of more general terms, for the expression of a relatively small number of different but specific social functions. Here, each activity is found to apply between a particular pair of agents or entities—with each entity having its own individual properties. Then to cover the whole social system of a country (excluding foreign trade), the author finds that it takes only 19 mutual flows of money for the purchase and payment of goods, services, access rights, taxes, credit, investments, valuable legal documents, etc. Also these flows are between only 6 different representative entities.
The analysis that led to this unexpected result was performed by the author and it may be found in his working paper (on the internet) as SSRN 2865571 “Einstein’s Criterion Applied to Logical Macroeconomics Modeling”. In this model these 19 double flows of money verses goods, etc., are shown. They are found to pass between only 6 kinds of role-playing entities. Of course, there are a number of different configurations that are possible for this type of simplification, but if one tries to eliminate all the unnecessary complications and sticks to the basic activities, then these particular quantities provide the most concise result, and yet it is presented in a fully comprehensive manner that is suitable for further analysis.
Surprisingly, past representation of our social system by this kind of an interpretation model has not been previously properly examined nor even presented before. Other partial versions have been previously modeled (using 4 entities, by Professor Hudson), but they are inexact due to either their being over-simplified, or in the case of econometrics, much too complicated and almost impossible to follow. These two reasons of over-simplification and over-complexity are why there is this non-scientific confusion by many economists and their failure to obtain a good understanding about how the whole system works.
The model being described here in this paper is unique, in being the first to include, along with some additional aspects, all 3 factors of production, of Adam Smith’s “Wealth of Nations” book of 1776. The three factors of production are Land, Labor and Capital and along with their returns of Ground-Rent, Wages and Interest/Dividends, respectively. All of them are all included in this presentation diagram.
(Economics’ historians will recall, as originally explained by Adam Smith and David Ricardo, the independent functions of landlords and capitalists. The former rent and speculate in land values whilst the latter are owners of the durable capital goods in industry, which may be hired out. Regrettably these different functions were deliberately combined for political reasons by John Bates Clark and company about 1900, resulting in the neglect of their different influences on our social system.)
The diagram of this model is in my paper (noted above). A mention of the related teaching process is also provided in my short working SSRN 2600103 “A Mechanical Model for Teaching Macroeconomics”. With this model in its different forms, the various parts and activities of the Big Picture of our social system can be properly identified and defined. Subsequently by analysis, the way our social system works can then be properly calculated and illustrated.
This analysis is introduced by the mathematics and logic that was devised by Nobel Laureate Wassiley W. Leontief, when he invented the important "Input-Output" matrix methodology (that he applied it to the production sector only). This short-hand method of modeling the whole system replaces the above-mentioned block-and-flow diagram. It enables one to really get to grips with what is going-on within our social system. Subsequently it will be found that it is the topology of the matrix which actually provides the key to this. The logic and math is not hard and is suitable for high-school students, who have been shown the basic properties of square matrices.
By this technique it is comparatively easy to introduce a change to a pre-set social system that is theoretical in equilibrium (even though we know that this ideal is never actually attained–it being a convenient way to begin the study). This change will then create an imbalance and we need to regain equilibrium again. Thus, sudden changes or policy decisions may be simulated and the effects of them determined, which will point the way to what policy is best. In my book about it, (see below) 3 changes associated with taxation are investigated in hand-worked numerical examples. In fact when I first worked it out, the irrefutable logical results were a surprise, even to me!
Developments of these ideas about making our subject more truly scientific (thereby avoiding the past pseudo-science being taught at universities), may be found in my recent book: “Consequential Macroeconomics—Rationalizing About How Our Social System Works”. Please write to me at email@example.com for a free e-copy of this 310 page book and for additional information.