Six Hard Lessons from 55 Years: The Equilibrium Myth, Debt, and Energy

In 1971, at 18, Steve Keen walked away from textbook economics and has spent 55 years watching the same mainstream blind spots repeat. This 23-minute distillation is built around six lessons and opens with one test: what does the model leave out? For Keen, the exclusions matter more than the elegant equations inside, which is why crises keep arriving as surprises.

What does the model leave out?

The first exhibit is the perfect competition fable as told by Mankiw: homogeneous goods, countless buyers and sellers, no one moves the price. Keen counters with the car market: Ferrari, Tesla and Toyota do not collapse into a single commodity; each competes in its own niche by adding features to steal customers, not by undercutting on price. Start with homogeneity and you erase the evolutionary engine that makes capitalism both vibrant and dangerous.

The same blind spot runs through the cost curve. Textbooks derive an upward marginal cost from diminishing marginal productivity and build supply from it. Yet 71 field surveys since the 1930s report the opposite: firms see costs falling until capacity, with marginal cost flat or declining. Even Alan Blinder, a prominent New Classical, found to his disappointment that only about 11 percent of output is produced under rising marginal cost; the rest lives outside the diagram.

Firm size and the power law

Wheat tells a similar story. In the United States the smallest 65 percent of wheat farms produce less than 2 percent of national wheat, while the top 2.5 percent produce about 37 percent. The image of many tiny homogeneous producers never existed. Robert Axtell’s log-log plot for the United States shows a straight line between number of firms and employment size, a power law with many tiny firms and a few giants. The textbook retort of why we do not see one car factory for the world misses the point: Ferrari already makes all its cars in one plant, Toyota in a handful of near-identical ones, each firm a monopoly on its own differentiated product.

Evolution, not equilibrium

Economics’ fixation on equilibrium, Keen argues, lags the complexity revolution of the 1960s. He demos a fluid dynamics toy with three variables and three constants in his Ravel software: nudged 0.1 away from an equilibrium, the system is repelled rather than attracted, orbiting one attractor then flung to another. All three equilibria are unstable, producing chaotic trajectories with strange attractors. Capitalism, as a complex system far from equilibrium, should be modeled the same way.

On banks Keen is blunt: when a bank makes a loan it creates money. His simple double-entry Ravel model books the loan as both debt and deposit, interest flows to the bank and is spent back into the system, so money and nominal output expand with lending and contract when credit turns negative. The textbook loanable-funds picture instead casts banks as rating agencies that merely move existing funds from saver to borrower, leaving money and output insensitive to credit. That picture helps explain why the 2007 collapse was missed.

The fourth lesson prices that miss. The correlation between the change in private debt and unemployment is about minus 0.32 over 1950 to 2020, but sharpens to minus 0.91 in the crisis window 1990 to 2015. When credit growth is positive unemployment falls; when it turns negative unemployment spikes. Keen recalls Ben Bernanke’s framing of lending as pure redistribution and notes that ignoring private debt made 2008 look like a fine year in models, even as credit turned negative for the first time since the Great Depression.

The fallacy of composition

What holds for one household need not hold for the whole economy. More saving does not automatically mean more investment: if you save by spending more slowly, others earn less, money piles up in your account but no new money is created, velocity falls, demand weakens and firms may invest less rather than more. The representative-agent shortcut embeds this fallacy, stretching individual logic to the macro level. Keen flags this for a future video, but the takeaway stands: the aggregate is not the sum of isolated parts.

Why energy and climate cannot be afterthoughts

Textbooks often depict production as labour plus capital meeting inside a factory, with energy as a sideshow. Keen’s rebuttal is physical: labour without energy is a corpse, capital without energy is a sculpture. A German group’s claim that a 10 percent cut in energy supply would trim German output by only 0.4 percent therefore clashes with data. In Ravel, world energy use and world output move in lockstep: a 6 percent rise in energy matches a similar rise in output, and declines line up as well. Treating energy as marginal misleads by design.

The Hormuz model and the function debate

The current test is a March Fed study: a year-long closure of the Strait of Hormuz would shave 1.3 points off annual growth, leaving global growth above 3 percent and thus no recession. The result rests on a Cobb-Douglas production function where labour, energy and capital substitute for one another. Keen’s preferred Leontief or post-Keynesian alternative treats them as complements: if one input is short, output falls by that shortfall, with no substitution. In his Ravel horse race a 1 percent energy cut lowers output by 1 percent under Leontief but only 0.04 percent under the neoclassical case; at 10 percent the gap is roughly 1 percent versus 10 percent. The Fed’s calm hinges on the substitution assumption.

Keen closes with five questions to run on any confident economic claim: what did the model exclude, does it assume convergence to equilibrium, does it account for private debt and credit, does the argument work for the whole economy or only for one person, and what physical constraints are assumed? If the answers point to exclusion, equilibrium and no credit, do not trust the claim. Track money, track debt, check whether individual rules survive aggregation, and inspect the physical economy beneath the monetary veil. A free book bundle mentioned mid-video has already drawn over 5,000 requests, and Keen notes his clickbait titles are the algorithm’s doing. For a present-day application, he points to a companion video on debt and energy through today’s lens.