Footnote on Fama and Economics

A quick note to refer you to John Kay’s article in today’s Financial Times. By and large I think he nails the oddity of the quasi-Nobel committee’s choice this year. This paragraph stood out to me:

“But we do not have to believe, like Prof Fama, that we all correspond to his concept of rationality or, like Prof Shiller, that we are slaves to our psychological weaknesses. There is a middle course, which understands that the economists’ use of the term “rationality” lacks relevance in a world characterised by imperfect information; that rational expectations are impossible in the face of radical uncertainty; and that it is implausible that constantly changing securities prices represent an equilibrium.”

Well said.

There is a middle course, which naturally offends those committed to proselytizing or to defending a reputation based on one school of thought or another.

It seems to me that economics can make only minor claims as an explanatory or predictive body of thought. It is far less accomplished than most of its practitioners like to think. It certainly has a much diminished status today given the empirical evidence of that past few years if not decades.

And, as Kay points out, a great deal of what is of value within the subject is merely the formalization of fairly good common sense. That these insights can then be “proved” via complicated mathematics is nice, but, as we have now learned, also questionable. Many times the so-called “proof” rests in mid-air and depends for its logical consistency on a series of other worldly assumptions that collapse at the slightest touch. Indeed quite often the mathematics is simply a ruse to disguise the tenuous nature of the claim being made formal.

Nonetheless the subject, if it can save itself from its recent irrelevancy, is essential to any functioning modern society: we all have an interest in understanding and consequently managing our economy. So those of us who criticize the current mess ought also encourage a new generation to forgo the ego boosting of being able to tackle clever math, and to delve into the far less certain, but ultimately more satisfying, articulation of the middle course Kay suggests exists.

This is why I remain an optimist. Economics is just beginning after two hundred years or so of articulating what it ought not to be.

That’s exciting.

No?