​The poverty of economic theory

What creates wealth? For the last 500 years, economists have either neglected the question, sought easy answers, or dismissed previous assessments. Nonetheless, we have something to learn from every interpretation. The first generation of economists, the mercantilists, said, ‘Wealth is purchasing power.’ Their goal was to increase monetary wealth with an accumulation of bullion and a favorable trade balance. Another theory stated that wealth is not created by man, but by nature – that land creates wealth. Yet another group of theorists related wealth to man. ‘Wealth,’ they said, ‘is created by human labor.’ This tenet signaled the beginning of economics as a discipline because it related wealth to something that man creates. And yet it was totally unsatisfactory. It could not be made to predict or analyze anything.
A little more than 150 years ago the field of economics split in two. The mainstream simply gave up the search for any creation of wealth, became purely analytical, and stopped relating economics to the behavior of people. Economics was a discipline that governed the behavior of commodities. Ironically, analysis is a great strength of contemporary economics, but it also explains why the public at large is bored stiff by the field. It has nothing to say to them because it lacks a foundation in value.

ANOTHER WRONG ANSWER

Karl Marx understood this shortfall when he stuck to the labor theory of value. ‘Marxist economics’ is a contradiction in terms – it has no analytical or predictive power – but it has a tremendous appeal precisely because it is grounded in a value. It defines the creators of wealth – human beings, labor. And yet, we know it’s the wrong answer, too.

For the last 150 years, therefore, we have had a choice between an economics that has great analytical power but no foundation in value and an economics that wasn’t economics at all, but a manifesto based on the human being. Today we’ve finally reached a point where that dilemma can be bridged, where we can begin to understand the right approach, if not the right answer. We now know that the source of wealth is something specifically human: KNOWLEDGE. If we apply knowledge to tasks we already know how to do, we call it ‘productivity’. If we apply knowledge to tasks that are new and different, we call it ‘INNOVATION’. Only knowledge allows us to achieve those two goals.

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