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Karl Marx, for all his faults, deserves credit for authoring economic determinism—the view that economic relationships are the foundation on which fluffy things like politics, ideology and culture rest. Marx was obsessed by the means of production—in other words, by technology—and indeed we see that technology for centuries has shaped social organization and world history.

The American Civil War was, at its core, a clash of new industrial technology, and the kind of society it was creating in the North, with pre-modern, low-tech agricultural production in the South. New technology won—as it usually does, despite resistance—and the United States emerged as an urbanized society dominated by manufacturing enterprises.

Industrial Age

Similar “revolutions,” both violent and not, took place in a number of European countries. Within a decade of the U.S. Civil War, Italy and Germany were unified, Russian serfs were freed and Austria created a Dual Monarchy, putting those countries on the path of accelerated industrial development.

Successful economies in the industrial age relied on a strong, centralized government that functioned in partnership with big business. The state created and defended markets, ensured supplies of raw materials, provided primary education required for the industrial workforce, regulated competition and acted as an intermediary between labor and management. The U.S. government pushed the boundaries of the nation and ensured the flow of immigrants to man America’s factories. In Europe, the governments acquired overseas colonies.

Industrial societies were characterized by representative democracy and a strong middle class. Authoritarian Asian Tigers and Latin American nations such as Mexico and Brazil have seen rising industrialization go hand in hand with the spread of democracy and emergence of democratic institutions.

The U.S., meanwhile, has moved into a post-industrial stage. Our factories moved to lower-cost regions or disappeared altogether, their workers replaced by technology. We have gone through the IT revolution and have developed an innovation economy, which has already brought to life a new set of economic relationships and is in the process of creating new forms of social organization. What kind of society will emerge from all this is probably too early to tell, but we are now seeing a breakdown of age-old certainties in economics and politics.

Changing Relations

In politics, the most important feature of the transition to a post-industrial economy has been the decline of the government. The state remains an important actor, and it retains many of its powers, but its functions are changing. The anti-government, anti-tax revolt began in 1978 with California’s Proposition 13, the same year, incidentally, that the Apple II became the world’s first-ever mass-produced personal computer. Throughout the past three and a half decades a call for a smaller government has been consistently popular with Americans—even as the size of the government actually increased.

The level of dissatisfaction with the government is extremely high and none of its institutions, with the exception of the military, enjoys much trust or respect of its citizens. Young people, who were actively politically involved a generation ago, don’t seem to bother to vote for politicians whose policies and decisions will presumably shape their lives.

But perhaps this apathy is due to the fact that the government no longer actually shapes our lives. Certainly its impact on financial markets has eroded. When Congress first decided to shut down the government, Wall Street panicked. Subsequent attempts have produced a yawn.

Budget deficits and government debt statistics no longer move the markets they supposedly directly impact, i.e., U.S. Treasuries. The federal budget deficit still hovers around 4% of GDP in the sixth year of economic recovery. The bulk of it is now structural, which means that the next cyclical downturn will push it back to the 6–8% range. Yet, bond yields are at historically low levels. In inflation-adjusted terms, the 10-year Treasury has been yielding, on average, around 1–2%, and yields on shorter maturities have been much lower. The government has been able to borrow virtually for free, even though it is obvious that, at over $17.1 trillion, this debt will never be repaid and that at some point in the future lenders will probably stop funding federal spending.

Failure of Economics

Economics has always positioned itself as a hard science akin to physics and chemistry. It claims to have discovered a set of objective relationships that always hold true, allowing us to make accurate predictions and develop policies to achieve specific goals.

While some of the basic relationships in economics continue to hold—such as the supply and demand functions in relation to price—other apparently ironclad rules have gone out the window. Once again, the phenomenon can be traced to the late 1970s, when the U.S. economy experienced stagflation, high unemployment and inflation appearing simultaneously—something that economists said could not happen.

Today we’re witnessing policies that would give nightmares to any mainstream economist from the 1950s and 1960s. The Federal Reserve has been printing money for around six years, boosting its balance sheet by $3 trillion in the process. It has been monetizing U.S. government debt, i.e., buying and holding Treasuries with money it creates out of thin air. Conventional economics would have expected Brazil-style inflation and double-digit Treasury yields. But apparently the link between monetary policy and inflation has broken down.

Similarly, contrary to what economic science teaches, rising productivity over the past two decades has not produced rising wages; on the contrary, wages and middle-class incomes in general have stagnated or fallen. The jobless rate is declining, but labor force participation has fallen. Over the past year, as the jobless rate fell from 7.2% to 5.9%, participation in the labor force shrank from 63.2% to 62.7%. In other words, 1.3 million people left the labor force in 12 months.

Economics in its current form worked well in an industrial economy—so well, indeed, that in 1969 the Swedish central bank established the Nobel Prize in economics, equating it with the hard sciences. Now, however, the economy has changed and economic forecasts tend to be well wide of the mark while old economic policy prescriptions no longer work. Not surprisingly, a number of leading economists, including Nobel laureates George Akerlof and Robert Shiller, are taking a new look at their science.

The economics of the future is likely to be more complex and will find a way to incorporate human psychology and irrational behavior patterns as well as high level mathematics such as chaos theory. That’s because the innovation economy seems to require post-industrial society to be far less structured, and more decentralized, anarchic and inclusive. While industrial civilization required predictability and discipline, high-tech society puts a premium on original thinking and unconventional solutions. For example, failure and bankruptcy, which two decades ago were unthinkable for a respectable businessman, have become a badge of honor in today’s Silicon Valley; so much so that venture capitalists often refuse to fund entrepreneurs who have not yet had at least one failure on their résumé.

The policy of quantitative easing, which the highly respectable, conservative Fed has pursued on three different occasions, and which central banks around the world have also adopted, is another one of those unconventional crazy ideas. So far, the gamble has paid off: All that liquidity didn’t push up wages, stimulate consumption or stoke inflationary pressures; on the contrary, a large portion of it has been used to fund a relentless drive to technological innovation.

True, this easy money has created bubbles in asset markets that may yet explode in the Fed’s face. Overall, we’ve seen a revolutionary change in technology, which is likely to trigger turmoil in the economy and society. Nevertheless, there can be little doubt that the post-industrial innovation economy is here to stay, and that economic and social patterns of industrial society are gone for good.