They may have seemed far from the action, but economics academics are very much to blame for the GFC, and for the other economic crises to come, writes Troy Henderson.
Troy writes from a particular perspective, one that I do not necessarily share, although I would agree with a number of his subtexts, including the dominance of neo-classical economics, as well as the role of values.
In a comment on the post, Syd Walker quoted Keynes:
"the ideas of economists and political philosophers, both when they are right and when they are wrong, are more powerful than is commonly understood. Indeed the world is ruled by little else. Practical men, who believe themselves to be quite exempt from any intellectual influences, are usually the slaves of some defunct economist. Madmen in authority, who hear voices in the air, are distilling their frenzy from some academic scribbler of a few years back. I am sure that the power of vested interests is vastly exaggerated compared with the gradual encroachment of ideas. Not, indeed, immediately, but after a certain interval; for in the field of economic and political philosophy there are not many who are influenced by new theories after they are twenty-five or thirty years of age, so that the ideas which civil servants and politicians and even agitators apply to current events are not likely to be the newest. But, soon or late, it is ideas, not vested interests, which are dangerous for good or evil.”
Walker suggests that Keynes' comment was truer then than today, because "today we are dealing with the increasing commercialisation / intellectual prostitution of academia and ‘expert opinion’. "Along with TV", Walker suggests, "we now have a professional punditocracy that is substantially funded by powerful and well organized vested interests. It is able to gatekeep who participates - and who does not - in public discourse, such as economic debate."
I have quoted Syd's comment at length because both he and Troy argue that economic's problem lies in part in the way it excludes alternative views.
My problem with modern economics is a little different. I don't know what it is any more. I am simply confused.
In a sense, I grew up with economics. My father was an academic economist, head of Department and then Professor of Economics at New England. His major interests were development economics and the history of economic thought.
The world of academe was much smaller then. As a child and then a student, I guess that I knew or knew of most Australian University economists. Then I worked as a Government economist for many years, before moving into the private sector as a consultant.
As a student, I saw economics in a number of different ways. It was first the study of economic activity and of the human institutions affecting that activity. In that sense it was part of what we now call the humanities, concerned with one slice of human life. Resources were limited, so economics was also the study of the application of scarce means to alternative ends.
Economics was both a theoretical and applied subject. It's application in policy or in particular fields such as agricultural economics was intended to guide decision making, as well as increasing understanding of what actually happened, the way things worked. Economics dealt with the now and the future. However, Economic History, a core part of the discipline, applied economics' techniques to enhance our understanding of past and present.
Economics was not value free. However, a clear distinction was made between the various theories, applications and constructs and their practical application. Policy advice, for example, inevitably involved values, not just in the way it was phrased, but also in the outcomes.
All honours students were required to do a full year history of economic thought course tracing the evolution of economic thinking. You cannot study something like the evolution of the concept of profit or interest (usury), without seeing the way that human thinking defines central concepts.
Models were central to economics because complexity required abstraction and simplification. However, they were just that, models. Even then, there was something of a disconnect between the need to learn specific models (theories) so that you understood them and could be examined on them and real world activities.
The theory of the firm was an example. To my mind, there was a disconnect between the idea of profit maximisation and the way firms actually operated. However, the course did include alternative views, with the suggestion (for example) that firms did act to maximise profits, but in the longer term.
Above all else, economics was a way of thinking, of analysing activities and problems in a rigorous way. I chose to do history rather than economics honours, with a final focus on prehistory. However, unable to escape my past, my honours thesis on the economic structure of traditional Aboriginal life in Northern NSW consciously applied economics thinking to Aboriginal life.
At the time there was a debate in anthropology between Karl Polanyi who argued that economics was only relevant to money using societies (really a models approach) and Cyril Belshaw who argued that economics concepts and thinking could be applied. I chose to follow my cousin and consciously attempted to apply economics concepts to traditional Aboriginal life.
This proved quite fruitful, if also a little artificial. The idea of capital formation, investment of time and resources now for future returns, led me to focus on Aboriginal investment activities such as fish traps or standing nets. At the time, this aspect of Aboriginal life was ignored because it was largely seen as irrelevant to a nomadic hunter-gatherer society.
In similar vein, I focused on trade and ceremonial exchange cycles. Just because no "money" was involved, just because value in the mind of the receiver included ceremonial and religious aspects as compared to straight use value, did not invalidate the approach. If you want to take a modern example, consider the value of the brand!
After beginning work as a policy economist, I found all this very useful. I did further economics studies at postgraduate level, including econometrics. However, all this fitted into my perception of economics. Then, the wheels started to come off so far as economics as a discipline was concerned.
The dividing point in my mind came in the second half of the seventies. Roger Kilham (a Treasury colleague and friend) and I had been trying to reform the Treasury approach to recruitment. Treasury aimed to recruit good honours graduates, but was finding it harder. A new approach was required.
As part of our work, I rang every university economics department just to check on expected honours numbers. Pretty basic, I know, but if you are trying to recruit honours graduates, then you need to know just what your pool is. I found that the numbers in honours classes had collapsed to the point that the numbers that Treasury needed were no longer there. Part of our recommendations were that Treasury needed to broaden its recruitment approach.
I later found that honours numbers in all disciplines had declined, that while the decline in economics had its own features, it was part of a broader social trend. However, at the time it crystallised some things that I had been thinking about.
I saw economics as a way of thinking. I had also come back to economics after a very heavy dose of history. As a manager who depended on graduate recruits, I was also concerned at what appeared to be a decline in quality. That was part of the reason why Roger and I had begun our attempts to reform Treasury recruitment in the first place.
As I saw it then, a number of factors had combined to threaten the relevance and appeal of economics. I think that they are still relevant today.
The first was the rise of mathematics and model based approaches.
I remember in the mid seventies at a lunch in Canberra, Professor Eric Russell from Adelaide (Eric died of a heart attack in 1977) remarked to my father that universities were now training bad mathematicians and worse economists! There was some truth in that. The point was that the more time you spent on technique, the more you embedded things like maths, the less time there was for broader thought.
The focus on maths and model based approaches affected not just the content of courses, but also the journals (I stopped reading them around this time because I wasn't interested and they lacked relevance from my viewpoint) and economics' ability to attract students.
This was the time that political economy emerged as Sydney as a part response. Speaking personally and as a then recruiter, the problem with Sydney political economy was that it lacked rigour, was too ideological. The idea of a broader course was good, but vanished in the fights that followed.
The second factor was the emergence of combined courses and multiple course options. The practical effect of this was to water down economics content. I remember, for example, interviewing students who had done economics streams as part of broader courses such as international relations or business. They were pretty useless so far as economics was concerned, unable to hold an argument or to critically examine assumptions and issues.
The final factor was the growing dominance of finance and business. I was greatly interested in the emergence of new approaches in areas like corporate finance, but I did not really see this as economics.
When, in the late eighties, I was involved in the marketing of new financial products, we were completely dependant on the mathematicians to do the complex modelling involved. As an economist, I could define structures and relationships, test and critique ideas, but the actual modelling required high level mathematical skills.
This is an area where I part company with the suggestion that economists were to blame for the GFC and will be to blame for the crises to come. You see, I don't really see the complex market models as economics at all, rather as subsets of mathematics and corporate finance. Where economists failed as economists was in their inability to detect the risks involved.
In all this change, the first thing that really stands out is the decline of economics as a discipline. Just to illustrate with a personal example, in the public policy work I have done over the last few years I have seen very few economists even in areas where I would have expected them.
This is actually a huge problem from my perspective. The language and analytical techniques that I apply based on my studies and years of experience fall outside current bounds. I look at something and can say quickly that it probably won't work, point to things that need to be considered. Then I have to try to explain from first principles.
In one case I was dealing with, a sector restructuring exercise, there was not a single person involved at any level who had economics. Even the idea of looking at the sector as an industry, of asking basic questions about structure, conduct and performance, was alien. Of course those involved actually had to address these issues, but they lacked the framework to do so. I was left with the feeling that the concept of a broad based generalist economist was dead.
The second thing that stands out is the way the changes in economics interface with broader trends that I have tried to delineate over the last few years. For example, the rise of econometrics, the focus on maths, is part and parcel of the more general quantification trend.
This is bringing me into a broader area, so I will stop here with a bald statement.
Economics is a discipline. To my mind, the failures in economics have little to do with ideological wars, although these have had an influence. Rather, the failures in economics lie in the inability of economists to focus on what economics actually means. They are discipline failures.
In a discussion in comments with KVD, I referred to an earlier post I had written around this topic. KVD suggested that I should include the link here - Saturday Morning Musings - the rise and fall of economics.
At the time I wrote this post, I had actually forgotten the earlier one. It's not bad and does flesh out some of the issues I refer to here, drawing inspiration especially from Robert L Heilbroners' The Worldly Philosophers:The Lives, Times and Ideas of Great Economic Thinkers (Touchstone, New York, revised seventh edition, 1999).