A Couple Of Questions

I, like many of you, spend a lot of my summer reading. Unlike you I read economics books. Which, it turns out, is usually less than edifying. But it does spark me to ask questions. And as you all know I like asking awkward questions. Especially of economists.

So here are two.

In a book called “Economic Pluralism” edited by Martha Starr and others, I came across an essay by David Colander, who as many of you may know is someone who tries to live in both the heterodox and orthodox camps of economics. He is therefore often quoted within each as the token representative of the other. In his essay I stumbled on the following:

“For instance, just because one works on general equilibrium models does not mean that one accepts that general equilibrium is an acceptable description of the economy. Similarly, just because one works on game theory does not mean that most people are perfectly rational.”

Now, what Colander is trying to say is that those of us who fall over laughing when we come across things like general equilibrium models are wrong to be so derisory. Instead we should reach out and accept the honest endeavor that they represent. We should replace our hostility with a spirit of co-adventure as we cooperate in exploring economic artifacts and making sense of them.

Apparently even if we all accept they are not useful. Or relevant in the real world.

I have said before that my own wonder at the awesome technical triumph achieved by the likes of Arrow and Debreu is precisely captured by Colander. They are rotten representations of an actual economy. Really rotten.

It is my instinct, being more practical than quizzical perhaps, that I immediately move on. If general equilibrium is not a good representation of an actual economy, and if my goal is to further my understanding of an actual economy, then it seems to me that I waste no further energy on said models and search for better ones. I stop thinking ‘flat earth’ and start wondering about other possibilities such as ’round’, even if that is a difficult concept to grasp. And, this is my point, I feel entitled to wonder why I should respect flat earth advocates – they are wasting their time after all. A healthy dose of denigration might get one or two of them to use their time more wisely. And since I am an inveterate team player, the more hands working on real, substantive, issues the better off we all are.

So why should I cozy up to people working on general equilibrium models which are generally regarded as pretty rotten, very approximate, unreal, and vanishingly unlikely representations of actual economies? Especially when we have tens of millions of unemployed workers who need the efforts of the erstwhile experts on economics to be applied to ameliorating their abject conditions within actual and not imaginary economies.

Maybe I just misunderstand David. Or maybe I am being simple minded and am not sufficiently indoctrinated in the mystical ways of economic research.

Which brings me to question number two.

Why is it that economists are obsessed with markets?

Despite Samuel Brittan’s skepticism, I read Vito Tanzi’s tome called “Government versus Markets” which, it turns out is an excellent source of the historical development of the modern welfare state. Tanzi, being a fairly hardcore orthodox economist hates that development and his work oozes with contempt for our modern reliance on the state to resolve all sorts of things. He, like his ilk, acknowledge that markets are flawed and need propping up now and again. In orthodoxy there are occasional “market failures” where we can legitimately rely on other economic artifacts and devices to get what we need done. Or, more likely, where we can avoid the horrible consequences of the market running amok.

But notice the begrudging nature of orthodoxy: markets are so magical that we deviate from relying on them only under duress and in the face of unavoidable pressure.

Notice too that folks like Tanzi argue that our fixes should be applied with a light hand, and should consist of the minimum regulatory touch possible. He doesn’t mind a little regulation to nudge the market back towards its celestial triumphant and magical course – which we all just know is perfect and pristine – but he abhors the use of the heavy hand of state intervention. He, and those like him, regard the state as inevitably corrupt, inefficient, and prone to major error. Which, equally, markets never are. Or at least never are until humans mess them up.

Governments versus markets is thus a biased debate. Since orthodox economists start with a presumption of innocence for the market and an equally strong conviction of guilt for the state, they are hardly good judges of what constitutes a good balance between the two.

The oddity is that the model of the market upon which this fervor is based is almost ridiculously unreal. It includes behavioral and cognitive assumptions that are otherworldly. And it excludes aspects of reality that you and I recognize as crucial. Undaunted by this biased simplicity, orthodox economists march on relentlessly both singing the praises of markets and damning governments as if they had solid claims in either case. Which they don’t.

The truth is more that economists long ago set out to “prove” the efficacy of markets by way of trying to “prove” the awfulness of governments. The conclusion they wanted to arrive at drove their research and method. It was a classic case of being guilty until proven innocent. No wonder government intervention is treated with such contempt.

Parenthetically, I assume I am not alone in noticing that in a world infused with perfect and costless information a central bureaucrat is just as likely to reach nirvana like allocations of resources as is a market. The assumptions necessary to “prove” market superiority, prove nothing because they support the opposite case equally as well.

This helps explain the marginal attitude orthodox economists have to other enormously important artifacts in an actual economy. Things like the business firm, which is hardly a marginal phenomenon, is shunted off the stage as an inconvenience and treated as existing only when markets somehow fail – as in the absence of costless information acquisition – rather than as a phenomenon with a legitimate existence in its own right. And it isn’t as if orthodoxy hasn’t been challenged to alter it’s market obsession. It has. By a stream of very dogged and deep thinkers. Yet it still starts every adventure from the same base: the marketplace. As if the only legitimate artifact in an economy is the market. All the rest are simply kluges and evidence of error or inefficiency. It’s as if, in physics, a molecule were seen as an atom failure rather than as an object worthy of explanation in its own right.

This relentless approach, to explain everything in relation to a market, is deeply ingrained in the orthodox psyche. It leads to bias, and to weak explanation. For example, instead of seeing markets and firms as two equally valid forms of resource allocation, and thus being able to discuss them both in a wider economic context, orthodox economists inhabit a cramped and deficient theoretical world in which firms are oddities unworthy of much study. Hence many economists have excluded themselves from the very rich and important field of organization. Which is a field with enormous relevance to the functioning of an everyday actual economy, and one every student of economics should be exposed to.

So my summer reading leaves me more confused than ever:

Economists seem content to study things that they know aren’t representative of an actual economy. And they exclude things from study that are.

Perhaps this is because they don’t have the right tools, method, or background. Maybe its because an actual economy is too complicated. And maybe its because economics is so path dependent that is has run down an alley of ever decreasing relevance. It almost doesn’t matter any longer what the reason is.

The result is that orthodox economists don’t have much to say about plenty of economic structures that we need to understand. But they can talk endlessly about structures that we don’t need to understand because they’re imaginary. Like general equilibrium models for instance.

Confused?

I am.