A lot of talk of change… where’s the action?
by Benjamin on August 16, 2009
How bad are things when economists are writing the Queen of Britain first to explain why they were wrong, and now to say that the economists who admitted they were wrong, were also wrong… The queen herself asked questions of the profession and its failure to see the crisis coming as far back as July 2008, and what did ‘we’ have to offer as an answer?
Everyone seemed to be doing their own job properly on its own merit. And according to standard measures of success, they were often doing it well. The failure was to see how collectively this added up to a series of interconnected imbalances over which no single authority had jurisdiction. This, combined with the psychology of herding and the mantra of financial and policy gurus, lead to a dangerous recipe. Individual risks may rightly have been viewed as small, but the risk to the system as a whole was vast.
For anyone whose even opened one of the Minsky books or even a bit of Taleb this will be familiar territory – even the description of the market. But lets leave that aside. The retort from a new group of economist is that the education of economists, on all educational levels, is insufficient, as it lacks institutional, historical and sociological context. So far so good. What can we do to help the situation:
Models and techniques are important. But given the complexity of the global economy, what is needed is a broader range of models and techniques governed by a far greater respect for substance, and much more attention to historical, institutional, psychological and other highly relevant factors.
Skidelsky himself wrote something similar, and very interesting in the FT a couple of days ago [cached by google here], but here’s an obvious question… What action is taken beyond talk??? The latest instalment of the American Economic Review seems to almost not have noticed any change, and frankly why should it? There’s a year long back-log and it doesn’t look like a revolution is about to happen wit hthe foundations of the discipline. Especially when the ‘official’ reply from the discipline seems unable to step aside from models which cannot include a crisis in its analysis (cf. Robert Lucas’s reply) and the ‘dissenters’ who want do not want to change the discipline but would like a ‘broader range’ of models… It’s a long road ahead I fear.
Tags: academia, American Economic Review, crisis, Economics, Institutions, mainstream, Skidelsky, the Queen
So what can WE do to go beyond talk, Benjamin?
My personal opinion on what could be done – in the immediate term – is to re-orient the way we do research into macroeconomics. If you have to do models, and we all do I guess, move away from micro-foundations, and make assumptions which can be empirically or institutionally checked (where possible), and base the models around this. The Taylor rule started out like this, but that is a long time back now. how about modelling the money markets according to how they are structured, rather than a simplified version of demand and supply for liquid funds and bonds? Setting up a model which includes the functioning of the FED, money market and bank funding would shed a lot more light on the credit crunch we had last year than any micro model.
I know Nassim Taleb has been arguing that we simply stop teaching the efficient market hypothesis because it doesn’t work – and at some level we have to admit that something is very odd in a discipline which would rather stick to theories which are empirically ruined rather than scrap them and send the students out to look at the economy… Then again, that Phillips curve keeps coming back as well.
I guess I am saying more empirics – not econometrics – and more knowledge about the economy to academics and students…