Wednesday, 22 July 2009

What went wrong with economics

Recently The Economist had an article on What went wrong with economics. The story points out that the view of economics for many of the general public has changed. The reputation of economics has been batted by recent events.
In the wake of the biggest economic calamity in 80 years that reputation has taken a beating. In the public mind an arrogant profession has been humbled. Though economists are still at the centre of the policy debate—think of Ben Bernanke or Larry Summers in America or Mervyn King in Britain—their pronouncements are viewed with more scepticism than before. The profession itself is suffering from guilt and rancour. In a recent lecture, Paul Krugman, winner of the Nobel prize in economics in 2008, argued that much of the past 30 years of macroeconomics was “spectacularly useless at best, and positively harmful at worst.” Barry Eichengreen, a prominent American economic historian, says the crisis has “cast into doubt much of what we thought we knew about economics.”
But I think the most important point the Economist makes is,
In its crudest form—the idea that economics as a whole is discredited—the current backlash has gone far too far. If ignorance allowed investors and politicians to exaggerate the virtues of economics, it now blinds them to its benefits. Economics is less a slavish creed than a prism through which to understand the world. It is a broad canon, stretching from theories to explain how prices are determined to how economies grow. Much of that body of knowledge has no link to the financial crisis and remains as useful as ever.

And if economics as a broad discipline deserves a robust defence, so does the free-market paradigm. Too many people, especially in Europe, equate mistakes made by economists with a failure of economic liberalism. Their logic seems to be that if economists got things wrong, then politicians will do better. That is a false—and dangerous—conclusion.
The current crisis points to problems in macroeconomics and financial economics and these areas are now, rightly, being severely re-examined. Which is all to the good. There are new questions about the relative usefulness of monetary and fiscal policy. And about how the financial sector affects the real sectors of the economy. Also financial economists are starting to study the way that incentives can skew market efficiency.

But let us not throw the baby out with the bathwater. As noted in the quote from the Economist above,
Much of that body of knowledge has no link to the financial crisis and remains as useful as ever.
Steven E. Landsburg famously summed up economics as,
Most of economics can be summarized in four words: People respond to incentives. The rest is commentary.
This is just as true now as it was before the crisis. People still respond to incentives, just as they did before the crisis and thus economics still has valuable insights to give.

(HT: Peter M Salmon)


Stephen Monrad said...

I agree that "People respond to incentives." is the core of economics. The details, however, are important. How exactly do people respond to incentives? In the end, what matters is what people do.

Anonymous said...

"...if economists got things wrong, then politicians will do better."

Ha! Politics and government *ARE* "what went wrong with economics." Let's flush those evil spawn of fear and thuggery down the loo once and for all time.

-Alexander Konkin Goristal
"Government is a conspiracy, and that's no theory."

chinfuilan said...

“What went wrong with economics” is: Economics lacks at least one fundamental foundation. Installing this fundamental will elevate Economics to another platform.
What is this fundamental? It is something that sciences cling on tightly, but economics does not. So, economics has departed from this fundamental, perhaps unconsciously.
What is it then? It is the Fundamental Axiom or Law of Causality, simply means: Cause gives rise to Effect, In = Out, Debit = Credit, a Source for every Outcome, etc which are common senses or self-evident truths.
Tell us in what way the Economics runs away from this fundamental? If you ask: You win, I win, everyone wins, who is the loser or provider of wealth? Most of economists will tell you that there is no loser. The Economics textbooks also say so. But it cannot be no loser, as it violates the fundamental Law of Causality. So, we must insist for the presence of loser, as dictated by the Fundamental Law of Causality. On this insistence, one great researcher by the name of HNM had successfully uncovered the mask of the loser after an effort of several decades. Needless to say, he has restored the Fundamental Law of Causality back to the economics and make it a strong and real science. Using his new theory, all events in the past or present could be explained with ease, and that it could even provide future policies and directions for our world.
If you are really interested to find out more, please write to me via my email: