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In November 2008, the Queen asked a rather important question. The occasion was a visit to the London School of Economics and the subject was the financial crisis – which at the time still had the world gripped with fear.

There’s some disagreement as to Her Majesty’s exact words, but the gist of her question – to the LSE’s assembled academics – was ‘why did nobody see it coming?’

A few months later, a group of eminent economists wrote to the Queen with an answer – the conclusion of which was reported in the Guardian:

“In summary, Your Majesty, the failure to foresee the timing, extent and severity of the crisis and to head it off, while it had many causes, was principally a failure of the collective imagination of many bright people, both in this country and internationally, to understand the risks to the system as a whole.”

True enough, but it also underplays the failure of economics as a discipline. In emphasising the unexpectedness of the financial crisis, it implies that some events so extreme that the capacities of an otherwise respectable profession are overwhelmed – much as an unprecedented natural disaster might overwhelm the emergency services.

But as Tim Harford explains on his Undercover Economist blog, economic forecasters missed the significance of the financial crisis even after it has been underway for several months.

In 2009, 49 countries (of 77 for which forecasts had been made) fell into recession – but how many of these did the economists predict? From the vantage point of April 2008, the answer is precisely none of them:

“This is extraordinary. Bear in mind that this is not the famous complaint from the Queen that nobody saw the financial crisis coming. The crisis was firmly established when these forecasts were made. The Financial Times had been writing exhaustively about the ‘credit crunch’ since the previous summer. Northern Rock had been nationalised in the UK and Bear Stearns had collapsed in the US. It did not take a genius to see that trouble was on the way for the wider economy.”

Of course, economists aren’t the only experts who regularly get their predictions way off-beam:

“In 2005, Philip Tetlock, a psychologist, published a landmark work with the title Expert Political Judgement. Tetlock found that throughout the 1980s and 1990s, political and geopolitical forecasts had been scarcely better than guesswork. It made little difference whether the forecaster was an academic, journalist or diplomat, a historian or a political scientist.”

However, unlike these other disciplines, economists surround their predictions with a quantified, mathematical framework that is unique among the social ‘sciences’. Armed with theories and formulae that aren’t accessible to outsiders, the economics profession has gained a privileged position in the policy making process that we wouldn’t dream of giving to, say, sociologists.

Some economists aspire to a less prophetic role for their profession, but they still claim too much:

“John Maynard Keynes famously looked forward to a day when ‘economists could manage to get themselves thought of as humble, competent people, on a level with dentists.’

“It’s a nice piece of self-deprecation, but it’s also an analogy worth exploring. We don’t expect a dentist to be able to forecast the pattern of tooth decay. We expect that she will offer good practical advice on dental health and intervene to fix problems when they occur. We should demand much the same from economists: proven advice about how to keep the economy working well and solutions when the economy malfunctions.”

The analogy is, in fact, completely inappropriate. Dentistry is an applied science, based on experimentally verifiable theories. The same cannot be said about economics – and especially the leading schools of macroeconomic thought.

Consider the neo-Keynesians, for instance, who not only failed to notice the damage that debt was doing to the economy – but whose proposed solution after the ensuing disaster was for us to consume even more of it. You wouldn’t get a dentist saying that about sugar – and for the very good reason that modern dentistry isn’t captive to unverifiable theory.

Far from being an applied science, economics is better compared to the pseudo-sciences of earlier times – such as alchemy and astrology. As with these ancient disciplines, there’s a huge amount of technical mastery involved and, in some cases, the ability and inclination to make useful observations. Nevertheless, all of that cleverness and complexity conceals a theoretical core that is fundamentally wrong.

44 comments for: Clever, complicated and fundamentally wrong: economics is the alchemy of our times

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