An Economist’s Mea Culpa
Straight from the New York Times this morning is Uwe Reinhardt’s brief but excellent comment on the inability of the economics profession to foresee the current crisis: An Economist?¢?‚¬?„¢s Mea Culpa – Economix Blog – NYTimes.com
Those of you who have to listen to me regularly know that I am counted among those who regard standard economic theory with disdain. It is an excellent system of thought for understanding the behavior of automatons or highly predictable animals – ants come to mind – but has virtually nothing to do with actual real live people. So it is no surprise to me that economists totally failed to predict the meltdown of our economy.
Economic theory is developed around several truly absurd assumptions that are taken as axiomatic. It then proceeds to ‘prove’ certain ‘laws’ each of which would crumble without those axioms. And wherever the real world intrudes with awkward problems economists ‘simplify’ conveniently to maintain the integrity of their models. Intelligent outsiders have criticized the inner workings of economics for years. Many of their criticisms, had they been taken seriously, would have helped allow economists to put together theories capable of predicting the current crisis. Instead they were dismissed peremptorily.
For the past three or four decades economics has drifted further and further away from having any empirical content. That is not to say economists don’t work with real world data: they do. What they fail to do is to adapt their theories to what they observed. Instead they rely on the neat trick of calling anything that does not conform with their theories a ‘market failure’. That way they keep their core beliefs pristine and untainted by the dirtiness of human foibles.
So economics has become the study of the properties of economic models. It is not the study of economies. That’s great if the models relate to actual economies. If they don’t, then look out.
While I am sure many, or most, economists will dismiss my comments as an amateur rant, and I will freely admit that I have not studied many of standard theory’s arcane corners, I am clearly not alone. Economics has violated the ancient dictum that guides medicine: ‘first do no harm’. Standard economic theory, especially its fervent advocacy of untrammeled ‘free’ markets is exactly and precisely to blame for our current predicament. The evidence of the theory’s failure is all around us in the form of our economy’s collapse.
Perhaps an analogy will help. Standard theory is to what we need as Ptolemy is to Kepler. It is time to replace standard theory and to stop piling the blame on the real world’s failure to conform to the utopian mechanisms that govern the outmoded and dangerous concepts at its core.
We haven’t just suffered a ‘market failure’ we have suffered a ‘theory failure’.
Economists need to lose their hubris and get back to work. Perhaps they can salvage some of their ideas. One thing we can say with certainty in these highly uncertain times is that neoclassical economics is wrong.
And Reinhardt’s column today suggests that he, at least, knows it.
Note:
A few of you have asked why I get so worked up over this. Here’s why: neoclassical economic theory purports to explain why markets, if left to themselves, are peerless in allocating wealth optimally. Economics is essentially the study of the allocation of wealth rather than the creation of wealth. This excessive advocacy of markets has long been embraced by politicians of the right. Reagan was able to feel justified in his absurd attack on government because he had economists like Milton Friedman providing what appeared to be intellectual support. In other words the right wingers felt not just morally correct, but intellectually correct also. This fed their zeal. Politicians on the left always felt weak by the same token: they had to explain their reliance on government intervention in things like health care in the face of a chorus of howling and near religious scorn coming from the mainstream economics profession. The logical extension of this political reality was that the political elites of the last thirty years have moved uniformly to the right in terms of economic policy. The excessive deregulation of the Bush administration was not some odd peccadillo of a bunch of corporatists, but a strongly held conviction backed by economic theory. They honestly thought they were right.
Economic theory gave them intellectual cover for their ideological quest to engage in class warfare.
So economic theorists have a lot of blood on their hands. It’s time they admitted their culpability.
That’s why this is important.
