The Economists’ Lament

Robert Samuelson laments the economists’ poor track record:

The faith in economics was, in many ways, the underlying cause of both the financial crisis and Great Recession — it made people overconfident and careless during the boom — and the basic explanation for the weak recovery, as stubborn caution displaced stubborn complacency. To regain relevancy, economists are searching for a new light bulb — or better use of the old one. Meanwhile, most are still sitting in the dark.

I could suggest a dozen reasons for the weak performance of economic predictions but I’ll limit myself to just three. First, it it far easier to justify giving the expected answer even if it’s wrong than it is giving a correct answer that opposes the present orthodoxy. That’s particularly true in the academy where the most prominent people got that way by giving the expected answer to any particular question on a reliable basis.

I would also suggest that the models that economists are using now no longer conform to reality. Rather than each country in the world having its own insular economy, unique factors of production and consumption, with trade between countries we have a single world economy in which elasticities vary by locality. Actions in any one locality affects the economies everywhere. When considering inflation you can’t just look here in the United States. The question is now how much inflation has U. S. policy created in China or Brazil?

Finally, economics is not physics and probably never will be. It’s a descriptive social science and relies on mathematics a lot less than it does on observation, understanding, and insight. The farther economists get away from the trenches of the economy where real people buy, sell, work, and plan, the worse their predictions will be.

15 comments… add one

  • Michael Reynolds

    Samuelson and the OECD now seem to be in agreement with a high school dropout kidlit hack who said all of this six years ago. But it won’t matter because yet more economists will wave newer graphs around and scatter some chicken bones and mumble incantations and be believed because we simply don’t have an alternative system for predicting the unpredictable. It’s utterly useless but hey, it’s what we’ve got and look! Numbers!

  • TastyBits

    What these guys do not know far exceeds what they do know, and they cannot fathom the amount that they do not know. It is not secret knowledge. It is all open source.

    They do not account for credit. They do not account for the assets supporting that credit. They do not account for the shadow banking sector, and apparently, they just recently discovered it existed. They have no idea of how regulation works. They have no idea of how actual businesses work – wage example. They do not understand the difference between a revenue producing job and a support job. This is why they think an auto assembly line worker and a policeman contribute equally to the economy. They do not understand the difference between capital expenses and operating expenses. These are just a few.

    Then throw in a large helping of ideology, and numbers can be made to support any theology. Never trust numbers.

  • michael reynolds

    Tasty:

    I would add to your list that they don’t get randomness and they don’t get the essential unpredictability of human behavior – free will. In my view not only is economics incapable of predicting the future now, it will always be incapable of predicting the future due to a sort of variant of the Heisenberg principle. Once you measure factor X and predict its arc, some bright boy is going to hedge his bets by shorting X, by going long on X, by inventing an X’ or by blowing up X just for the hell of it.

    The economy includes essentially all of human behavior as well as assumptions about the state of the natural world. You cannot subtract humans and their free will, their cussedness, their stupidity or their brilliance, from a system that is so intractably human. Nor can you predict effectively while excluding flood, fire, famine, asteroid strikes and rampages involving Godzilla. It’s like trying to predict the flight of a cannonball without accounting for windage or elevation. Ain’t happening. We’ll manage FTL before we achieve the ability to make economic predictions 5 years out with any useful accuracy.

    We are victims of a massive intellectual fraud. I don’t know how many more times we have to discover that the emperor’s balls are hanging out before it sinks in that he has no clothes.

  • Red Barchetta

    Heh. But of course “climate scientists” deal in certainty and predictability.

    Its all “settled,” you know.

  • Red Barchetta

    “It’s a descriptive social science and relies on mathematics a lot less than it does on observation, understanding, and insight.”

    A point I’ve been making here for years. Its derided as “anecdotal” if the assertion flies in the face of a cherished worldview. I would note that certain commenters berating economics will cite in a nanosecond some economic study or notion if the subject was, oh, increasing the minimum wage or income inequality. That’s “different,” you know…….

  • Ben Wolf

    @Dave Schuler

    We’ve ended up full circle, all the way back to Keynes’ disapproval of formalistic mathematical models and the illusions of certainty they generate. The field of economics is autistic, unable to accept or recognize uncertainty and the properties which emerge from complex adaptive systems. All individuals are assumed to behave in what the model defines as a rational manner. All maximize utility in exactly the same way, want exactly the same things. Their competing actions in the market always cancel each other out, insuring no one gains an advantage.

    At every point it is assumed that precise answers to every question are known and reflected in the maths, that data which conflict with those answers must be wrong and is therefore rejected. I think we can forecast broad trends as there are models which have demonstrated real value in that regard, but no matter how much time and rigour is brought to bear, it will always be impossible to generate the sort of specificity economists claim on a daily basis.

    The purpose of studying economics is not to acquire a set of ready-made answers to economic questions, but to learn how to avoid being deceived by economists..
    Joan Robinson

  • jan

    I heard the following joke years ago, and it perfectly described the ivory tower presumptions of an economist — equipped with pocket protectors but having no sense of the real world.

    A man walking along a road in the countryside comes across a shepherd and a huge flock of sheep. He tells the shepherd, “I will bet you $100 against one of your sheep that I can tell you the exact number in this flock.”

    The shepherd thinks it over. It’s a large flock, so he accepts the bet. “There are 973 sheep,” says the man. The shepherd is astonished, because the man is exactly right. “O.K., I’m a man of my word. Take one.” The man picks one up and begins to walk away.

    “Wait,” cries the shepherd. “Let me have a chance to get even. Double or nothing that I can guess your occupation.” The man agrees.

    “You are an economist for a government think tank,” says the shepherd. “Amazing!” responds the man. “You are exactly right! But tell me, how did you deduce that?”

    “Well,” says the shepherd, “Put down my dog and I’ll tell you.”

  • michael reynolds

    Red:

    Actually, predicting climate is child’s play compared to predicting the economy. Far less interplay of free will and randomness. It’s closer to physics modeling, with which I have no issue because it, too, lacks the elements that make economic prediction impossible. And because Higgs boson. And the sun does keep rising in the east and all that.

    But you claim to know just exactly what impact something like Obamacare will have on the economy. Right? And you claim to be able to predict the effect of taxing people like you. Right? And the effect of raising the minimum wage. Right? And you claim all this despite the fact that like the economists we’re ridiculing, you’re wrong a lot. And on the basis of this pulled-out-of-your-ass “analysis” you criticize policies whose actual effect you can’t predict worth a damn.

    You regularly claim that you can predict the state of the economy 5 or 10 or 20 years out based on. . . well, let’s face it: based on your own narrow self-interest. Your entire intellectual output amounts to: “I think this will be good for me! Me me me!” Which makes you the very sort of b.s. artist we’re talking about here. A guy who pretends to understand larger issues but really only understands his own greed. So, I can certainly see why you’d want to yell “Squirrel!” Or “Climate!” and try to change the subject.

    Tell you what. When climate science is one tenth as demonstrably full of shit as predictive economics — and it may well be — I’ll be happy to call bullshit on it, too.

  • TastyBits

    @michael reynolds

    I hate to break the news to you you, but there is no predictive model for climate. The number of variables are unknown. How many we presently know are probably know are small, but that is an educated guess at best.

    Physics can predict events which have been studied, but even those may be turned upon their head at some point. Since Galileo, science has gotten away from that whole settled and consensus thing. A patent clerk can now upend the universe.

    Our understanding of the Earth has advanced greatly, but what we do not know far exceeds what we do know. The oceans are vast, and we know little about them. As our knowledge increases, much of what is known will be upended, but science will adjust.

    As to economics, the present economic situation will continue until the bad credit is either written off, written down, paid off, or the assets increase to support the debt. It is as simple as that, and it was as simple as that five years ago.

    The problem is that written off or down causes financial ruin for many political backers and donors. This is the fastest and most just solution. The problem with paying off the debt is the size and/or time. They tried to inflate the assets to support the debt by lowering Fed interest rates and the Fed buying MBS’s.

    The reason that they thought they could raise asset prices was that they had/have mathematical models created by the same type of people who created the global warming models. These economic models made assumptions about reality, and like the global warming experts, they tossed out inconvenient or less well understood variables.

    They placed their faith into these models, and all can see the results. We can know the general trend, but it is a lot harder to predict when the actual inflection will occur.

    The physics for the moon landings was well known, but the route was not a predictive calculation. The route was a general path, and it was corrected along the way. One of the reasons was an unknown variable entering the equation. One of the astronauts could have farted in the wrong direction.

  • Zachriel

    michael reynolds: Once you measure factor X and predict its arc, some bright boy is going to hedge his bets by shorting X, by going long on X, by inventing an X’ or by blowing up X just for the hell of it.

    That’s one plausible explanation for the amount of risk-taking during the run-up to the meltdown. Countercyclical policy had been so effective at limiting damage from previous recessions, that it was assumed that no matter what, the problem could be fixed. Of course, not only did the markets push the system to the breaking point, but the government also took risks by not applying countercyclical policy during the run-up. The medicine doesn’t work if you don’t take it.

    michael reynolds: We are victims of a massive intellectual fraud.

    Just because we don’t know everything doesn’t mean we don’t know anything. The problem, as you said, is that people adjust to the new reality, so old theories become increasing less relevant. Nevertheless, basic Keynesianism still applies.

    michael reynolds: Actually, predicting climate is child’s play compared to predicting the economy.

    Sure. Global warming is fairly straight-forward. Climate is a more difficult question, but obviously more tractable than economics.

  • Just because we don’t know everything doesn’t mean we don’t know anything.

    That’s my view as well. We have a good handle on broad, general principles. For example, I think we should have pretty fair confidence that demand curves for most goods and services move downward to the right.

    I also agree with Zachriel that a properly timed and structured government spending program, financed by a monetary sovereign extending credit, can work to counter-act cyclical declines in the economy. Where I think we might differ is that a) I don’t think we’re politically capable of a properly timed and structured stimulus program; b) I think that fine-tuning is impossible, if for no other reason than that in economics you’re dealing with human actors who are capable of responding to any policy change.

  • Of course, not only did the markets push the system to the breaking point, but the government also took risks by not applying countercyclical policy during the run-up.

    Could you expand a little on the highlighted clause, Zachriel? What timeframe are you talking about?

    I’m not a George W. Bush fan. I would have preferred if he had never become president. However, I also think there’s a better argument that the Economic Stimulus Act of 2008 “saved the economy” and ended the recession (that plus TARP) than that the ARRA did. That’s not my view. I just think the argument is stronger. To argue that the ARRA ended the recession (something I think is fatuous) you’d need to argue that it accomplished the task before it actually disbursed any money.

  • Zachriel

    Dave Schuler: Could you expand a little on the highlighted clause, Zachriel? What timeframe are you talking about?

    The Bush Administration cut taxes, ran deficits, and borrowed for two wars during an economic expansion. That’s procyclical, which tends to overheat the economy, leading to bubbles followed by collapse. According to basic principles, they should have used a short term tax cut during the slowdown in the early 2000s, then allowed taxes to return to previous levels. This would have tempered the overheated economy, and left the U.S. in a much stronger financial position to weather any financial storms.

    Dave Schuler: However, I also think there’s a better argument that the Economic Stimulus Act of 2008 “saved the economy”

    That would be the Emergency Economic Stabilization Act of 2008, which counteracted the seizure in the banking sector. The Economic Stimulus Act of 2008 was important, but too small to counter the effects of the recession. The American Recovery and Reinvestment Act of 2009 was much larger, but still too small to fill a $10 trillion hole. It may not have been possible to apply enough stimulus over the short turn to prevent a deep recession, but it should have been possible to apply it over time to minimize its length.

  • I’m still a little unclear about some things in your response, Zachriel. For example, you write:

    That’s procyclical, which tends to overheat the economy, leading to bubbles followed by collapse.

    I don’t know that anyone other than you attributes the financial crisis to procyclical federal spending. Do you know of anyone? Following Lord Keynes’s prescriptions, I oppose procyclical debt-financed federal spending, too. However, you go on to offer at least qualified support for the ARRA, 90% of the spending of which occurred after June 2009 and, consequently, was procyclical. Do you support or oppose procyclical “stimulus” spending or was this a special case and what made it special? Finally, you write:

    but still too small to fill a $10 trillion hole

    Where does that number come from? Clearly, it does not reflect the shortfall in aggregate demand. Are you suggesting that the decline in wealth should be remediated? That’s not Keynesian. Can you produce any support for that strategy?

  • Zachriel

    Dave Schuler: I don’t know that anyone other than you attributes the financial crisis to procyclical federal spending.

    It’s not the cause, but an aggravating factor.

    Dave Schuler: However, you go on to offer at least qualified support for the ARRA, 90% of the spending of which occurred after June 2009 and, consequently, was procyclical.

    The economy was sputtering.

    Dave Schuler: <IWhere does that number come from? Clearly, it does not reflect the shortfall in aggregate demand.

    Assets fell substantially. Aggregate demand fell about a trillion dollars per year. GDP has been subsequently reduced by several trillion. The ARRA was only $0.8 trillion spread over several years. It did help, but wasn’t quite sufficient to pull the economy out of its doldrums. However, a direct stimulus would not be appropriate today, but targeted programs for restructuring the economy may be helpful.

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