If money is the problem, why is it also the solution?

A friend recently commented that what we were facing, in NZ and the world, was not a recession, nor a depression. It was a consequence. A consequence of half a century of unbridled economic growth and environmental and resource depletion, together with development of a culture of greed, culminating in unbelievable levels of wealth for some, and dispossession for many.

Most economists, bankers and politicians did not see the current debt crisis coming. Given the claims of economics to be a predictive science, one might ask, why not? And given that it was the bankers who were largely responsible for the crisis, why is it that –in the US and UK in particular – they are being handed astronomical sums of taxpayers’ money to restart? Clearly, there is something wrong.

A clue to the problem comes from looking at the scientific fundamentals of economic thought, in particular the origins of that branch known as neoclassical economics (NCE).

By the middle of the 19th Century, advances in technology encouraged a confidence that virtually any problem could be solved, courtesy of the power of classical physics (mechanics) acting through engineering. At that time, physics was based on the discoveries of Galileo and Newton on the motions of the sun and planets, which also allowed explanation of the properties of large structures and machines.

The early economists aimed to construct a science of economics that would be just as successful in explaining the activities of people in society. In doing so, they borrowed concepts from classical physics and substituted economic terms for physical ones, thereby creating an analogue of physics. This analogue was susceptible to advanced mathematical analysis, and since then NCE has assembled a formidable library of mathematically-based tools, to explain just about everything thought to be of importance.

Unfortunately, the early economists were not aware that the physics of the day was in fact in a state of ferment. While classical mechanics was and is extremely useful, it fails to explain vitally-important issues relating to the complex place of energy, in topics such as heat, light and electricity. In the later years of the century, major advances in these and other areas changed physics forever.

Most importantly, by discovering the centrality of the second law of thermodynamics, physicists were able to understand the answers to such questions as why perpetual motion was not possible, why the use of high quality resources such as heat or electrical energy always resulted in much of it going to waste, and why a living organism was not an isolated machine, but a complex open system, reliant upon taking high-quality resources from its surroundings and expelling lower-quality wastes. Instead of an equilibrium state, to which a system would always return after a disturbance (central to classical physics and NCE), reality (including life and economic systems) actually exists in a state far from equilibrium and subject to inherent instability.

Although advised by physicists of their error, proponents of NCE continued to develop their subject using the old mid-19th century starting points, which are central to NCE to this day. That fact explains why most economists (and the politicians and bankers they advise) still believe in a form of perpetual motion, such that the GDP of an economy can continue to grow, forever.

In the NCE model, resource scarcity is always overcome via substitution by new resources, or by improved technology. Modern engineering and physics have shown however, that most major new resources are more difficult to extract than those already used and that improvements in technology are severely constrained by limits set by the second law of thermodynamics.

In the economic mindset, if GDP growth is not happening in practice, then a means must be found to make it happen. That is where debt and money creation come in. Over the last couple of decades, assisted by deregulation of monetary systems, debt-based money supply has grown at a rate vastly faster than the increase in production of actual goods and services. To assist this process, bankers created new monetary instruments enabling debts to be used to create yet more debts, and so on, until the house of cards collapsed. Governments then stepped in.

My point is that the NCE belief in both the desirability and the inevitability of endlessly-continued economic growth has fuelled a monstrous confidence trick on humanity and nature.

Modern science must be allowed to influence economic policy generation in the halls of government, to enable a major change of direction. The changes that will be required promise to be challenging, but it is absolutely necessary, for our health and that of our families, societies and the whole of life on earth, that this happens, and happens soon. Only then will we be able to claim honestly, that we are serious about trying to address issues of unsustainable economic activity, in NZ and in the world.

by John Peet, 16 April 2009