The false critique of economics

This is a guest post by Ben Hunt; a financial journalist and author of The Timid Corporation (Wiley 2003).

Gideon Rachman’s Financial Times article (see yesterday’s post) is the most recent of many to criticise economists, post-financial crisis. Economics, he suggests, has been too heavily focused on forecasting, and economists have wrongly tried to replicate the certainties of science. Given that conventional economics does need questioning, one might be sympathetic to such observations.

As a financial journalist over the last 13 years, I have talked to many economists at places such as investment banks. I generally look forward to talking to them as I typically expect to get a wider perspective on what is happening in the world. I find many are thoughtful and analytical.

But I would agree that economics as a whole suffers from many problems. In many ways it suffers from problems general to social sciences, where subject areas are compartmentalised far too much and treated as discrete from the overall totality of society. This hinders understanding. Daniel has written on this site of how these problems manifest themselves in economics.

It is true that there are many concepts in economics which do a bad job in helping us to understand reality in its totality. Take the much debated Efficient Market Hypothesis (EMH), formulated in the 1960s by  Chicago School professors. It suggested that interactions in the financial markets lead mainly to price upswings being counteracted by downswings, and vice versa, owing to competition and information availability. Markets would therefore stay in equilibrium.

This process is at work but it is not the only one. Other interactions mean that upswings and downswings, that is “bubbles”, can be sustained for long periods of time. That trends are not just counteracted but reinforced (that is a rising market attracts all sorts of people wanting to make money, and institutional investors find it hard to buck trends).

Clearly there are big methodological issues that need discussing with economics. These are often discussed, as with Rachman, in the framework of whether economics is a science, and how economists have suffered from the much-quoted “physics-envy”.

But if you read Rachman’s article again it becomes clear that something else is being said.

Rachman is not just attacking economists for having a flawed conception of reality, and poor methodology. He is also attacking them for supposedly having the arrogance and overconfidence to know reality. This is why he so favourably contrasts historians with economists. Historians are “humbler”. They apparently know that reality is more complex, that truth is a difficult concept.

This echoes what other people have said post-financial crisis: “let’s not pretend that we can know everything that goes on in the economy”. “We have been stupid in trying to have models that encapsulate all of reality.” And so on.

If you re-read the article one more you will also find another hidden message. Rachman is also saying that the economists arrogant enough to know reality are also arrogant for assuming authority and leadership. He is not saying, let’s have people in positions of authority who are wise, can see the whole picture, and can help us understand things. He is really saying, economists are priest-figures who falsely claim to know reality and then wrongly claim authority and leadership on this basis.

This is a problematic outlook. It is cynical about human beings, casting them as arrogant. In particular, it exaggerates and conflates human failures with the failures of economics. Just because economics fails to understand the world, however, it does not mean that other approaches cannot, and that humans are deluded for wanting to try.

There is a similar thing going on in behavioural economics, which is based on a critique of conventional economics. There, the problem is not that the organisation of the market gives rise to irrational trends, where different parts of the economy are in conflict with each other.

Rather, the problem is perceived to be the irrationality of individuals. And, economists have been arrogant to assume that humans are rational, and themselves suffer from a problem of overrating their own abilities. Nowadays we hear this type of thing all the time.

Add all this up and what do we get with the current critique of economics? We at least get some awareness of the methodological defects of the discipline.

But we also get a self-destructive attack on apparent human defects: reason and the striving to know reality, our capability for rationality, and the importance of people taking leadership and responsibility to disseminate information. This is very odd indeed.