Wednesday, September 9, 2015

What's Wrong With Economics

I don't like to just excerpt other sources, but these are some of the most well-formulated and sharpest critiques of modern economics I've come across. They are worth reading and re-reading in full, and do check out the original sources. They show how the anti-government, pro-market bias was "baked in" to economics from day one, and how it has evolved into a religious dogma rather than any sort of objective, empirical "science."

The first is these excerpts from an interview with Joshua Farley:
I knew very little about neoclassical economics before I started my economics PhD, not even realizing that it relied so heavily on mathematics. My undergraduate degree was in biology, which gave me an appreciation of the scientific method, and I like math, so I was initially enthusiastic about this seemingly scientific approach. During my first semester however I realized that seriously flawed assumptions invalidated all the sophisticated math. Neither people, society, nor nature behave as the economic models require. The scientific method demands that we empirically test both our assumptions and our models, and reject them if they do not conform to reality. I found that economists either failed to test their models, or else when reality contradicted them, argued that we should reshape the world to conform to their assumptions. Economic textbooks even try to teach students to "think like an economist", which means they seek to change human behaviour to match their models! In retrospect, I realize that my scientific background inoculated me against belief in neoclassical economics. However, I also rejected economics on moral grounds, first because I did not believe that people were perfectly selfish, second because I did not believe that the goal of ever greater consumption was appropriate, and third because I believed that the physiological needs of the poor should take precedence over the luxury consumption of the rich. Talking with my peers in the program, it was evident that many of them shared my views. However, the sceptics either dropped out or changed their views over time. I only finished the programme because I won a fellowship to spend 15 months in Brazil explicitly to cultivate an interdisciplinary approach to economics, and while there discovered ecological economics.

I have several different theories concerning why economists stick so vehemently to their views. First, I was told that my criticisms reflected my lack of understanding, and that I would only be qualified to criticize the discipline after I had mastered it. However, it takes years of study to master the discipline, at which point if you criticize it, you are basically admitting that you wasted years of your life studying something that is simply not true. It's actually even worse than this. Many people earning PhDs in economics, including myself, do so in order to become professors. An economics PhD primarily qualifies you for a job in an economics department, and in order to get tenure, you must publish in mainstream economics journals. You won't get published if you criticize the discipline, so you have to muffle yourself for seven more years. By the time you are a tenured professor free to openly discuss what you believe, you have spent at least 11 years following the party line. This is a problem inherent to modern academics, not just economics. I knew I could never work in a mainstream economics department, but was fortunate to find one job opening specifically in ecological economics, in Far North Queensland, Australia.

Second, neoclassical economic theory is very appealing to people who are uncomfortable with uncertainty. Because it is based on mathematical models, there is a right or wrong answer to most questions – no shades of grey or value judgments. The model is based on negative feedback loops (i.e. an increase in price leads to a decrease in demand and an increase in supply – The Law of Demand) that lead inexorably to market equilibrium. All resources are substitutable, and the price mechanism will always provide incentives to create substitutes, so resources are in effect infinite. The single goal is to maximize economic surplus subject to the constraint that no one is made worse off, and the free market utilizes the decentralized knowledge and personal preferences of individuals to achieve that goal. Economic growth always increases economic surplus. The discipline bears the trappings of science, and is often held in higher esteem than other social sciences. In science however, we carefully observe a system, form a hypothesis about how it works, then try to find evidence that proves the hypothesis wrong. If we fail to do so repeatedly, the hypothesis becomes a theory. After decades or centuries of continual failure to falsify a theory, it becomes a law. Economists however tend to leap from observation directly to law!

Third, economics has always appeared to me to be more of a religion than a science, and religious convictions are not easily shaken. In spite of frequent speculation bubbles that completely disrupt the economy, market equilibrium remains at the heart of neoclassical economic theory. Much of market economic theory is by its very nature faith based. Neoclassical economists recognize that the real world does not conform to their theories. Government regulations inhibit free entry and exit of firms in the market, we lack perfect information about the products we buy and sell, producers and consumers are able to "externalize" many of the costs of their activities, and so on. What economic theory says is that if we eliminated these and other problems, then the invisible hand of the market would maximize economic surplus. We cannot even test the theory until we eliminate all the obstacle to perfect competition. The discipline is therefore more prescriptive than descriptive. This religion is taken to an extreme in the United States, where it is sacrilegious to even question the superiority of market allocation.

...

Perhaps the biggest problem with neoclassical economists is that in spite of their emphasis on mathematics, they do not seem to understand the concept of exponential growth. If use of a resource is growing exponentially at a rate that will lead to its complete exhaustion in 50 years, after 45 years only 3 per cent of the resource has been used up. If we underestimated the supply of the resource by a factor of 16, then complete exhaustion would occur in 54 years rather than 50. For the last 200 years, our economy (including agriculture) has been powered by exponential growth in the use of fossil hydrocarbons, particularly oil, but oil use now exceeds discovery rates by a factor of at least 6:1. Dennis Meadows's Limits to Growth clearly captured the implications of exponential growth, but economists argued that it did not take into account the role of prices in reducing demand and triggering a search for new supplies. However, there is little incentive to look for substitutes when 97 per cent of a resource remains, even if very little time remains in which to discover them. Though widely discredited by neoclassical economists, the predictions of the Limits to Growth model are frighteningly accurate so far, and predictions based on business continuing as usual involve dire consequences during the course of the next two decades.

Another reason economists cannot accept limits to growth is that growth is seen as the solution to all of our problems. A growing economy will end poverty, lead to lower birth rates, provide the resources to clean up the environment, and even promote democracy. When growth slows or ceases, we face growing unemployment, poverty and misery. If we cannot grow our way out of poverty, we must accept the need for redistribution and population control, both morally complex issues that economists and politicians alike generally refuse to touch. Furthermore, the impacts of ecological degradation have their worst impacts in the future, to which economists give little weight, while the problems with an end to growth strike now. Economists view the economy as an airplane that must maintain airspeed or crash....

Ironically, the idea that we should stop doing something when the rising marginal costs equal the diminishing marginal benefits is straight out of neoclassical economics. This makes it particularly difficult to understand economists' refusal to accept that view when applied to the planet as a whole. The notion of ecosystem services, typically defined as the benefits to humans supplied by natural ecosystems, may help. This makes it obvious that converting the structural building blocks of ecosystems into economic products and the subsequent return of waste to the ecosystem imposes a real cost, and this cost is growing. It's important to point out that many ecological economists, myself included, do not believe that it is appropriate to assign monetary values to ecosystem services and subject them to market forces. Ecosystem services have physical characteristics that make them particularly ill-suited for market allocation. Awareness of the benefits is completely different from their commodification. I don't even believe that we could ever determine the "optimal" allocation of ecosystem structure between economic products and ecosystem services. However, just recognizing that economic production has an unavoidable cost in the form of ecological degradation means that at some point economic growth must stop. Even neoclassical economics may gradually come to accept this logic.

The single feature that most clearly distinguishes ecological economics from other schools of economic thought is the recognition that we now live on a "full" planet – one on which rates of resource extraction, waste emissions and human population growth threaten the life support functions of planetary ecosystems. Increasingly, the scarcest resources are nature's goods and services, not human-made artefacts. As the type of scarce resources has changed so too has the economic problem. On a planet with small human populations and relatively few human-made artefacts, the economic challenge was how to allocate scarce resources for the creation of the most valuable products, then ration those products to the consumers who valued them the most. Most of the desired products could be privately owned and were depleted through use, so competitive markets were relatively effective at addressing this challenge. On a full planet however, the most serious problems include global climate change, ozone depletion, biodiversity loss and unsustainable levels of waste emissions and resource extraction in general. Most of the desired "products" cannot be privately owned and are not depleted for use. The information underlying new technologies required to solve these problems actually improves through use. Our most serious problems are examples of prisoners' dilemmas, where cooperation leads to the greatest good for society as a whole, but individuals are better off acting in their own self interest (i.e. defecting) regardless of what others do.

The viability of different economic institutions depends heavily on human behaviour. If people are perfectly self interested, rational, and competitive, then certain economic institutions will be more viable. If people are altruistic, empathic and cooperative, other institutions will be required. Conventional market economies are built on the former assumptions. As Keynes reputedly stated, capitalism "is the astonishing belief that the nastiest motives of the nastiest men somehow or other work for the best results in the best of all possible worlds". If humans are indeed perfectly self-interested, this seriously constrains the choice of economic institutions suitable for solving our problems. Fortunately, there is now growing evidence from numerous fields that humans did indeed evolve to be capable of both altruistic, cooperative behaviour and self-interested, competitive behaviour...
Against growth (Resilience)

And this is from Peter Radford:
...[E]arly economics was almost invariably an attempt to demonstrate why it was that monarchs ought to interfere less in the workings of the economy. Such interference was seen as arbitrary and inefficient, whereas the operation of the entrepreneurs and landowners was seen as obeying ‘natural laws’ that would, inevitably, produce better outcomes than those obtaining under state rule.

The market versus state conflict was thus built into classical economic thought from the beginning. Indeed much of the original impetus for economic theorizing was precisely to ‘prove’ the efficacy of markets.

Thus economics has within it a deep tradition of articulating one side of an argument. It is a tradition that resonates strongly today. That one side of the argument is easily detected in the views of libertarian economists – there are very many – who seem to begin their work with an end in mind. That end being a proof of market efficacy.

This is why classical economics and its modern variants are willing to adopt a variety of assumptions that appear to drive towards only one conclusion. It is why so many economists find it difficult to find a role for government in their models. It is certainly why in recent decades the old Keynesian governmental role is so commonly ridiculed.

In many ways modern economics has a predictable air to it: the outcome that markets are so efficacious is based not on empirical work, but on a careful choice of starting assumptions designed to allow that outcome to emerge ‘naturally’. Friedman was hinting at this when he argued that nonsensical assumptions were of no consequence as long as the outcome was ‘correct’.

Modern microeconomics is an example: it is carefully prepared and cleverly constructed to ensure that market outcomes – when markets are left to their own devices – arrive at social outcomes that cannot be bettered. That in order to do this economists have had to resort to adopting a model of human behavior not found in the real world is little mentioned. And when awkward realities do intrude they are usually ignored – as, for instance, with the celebrated questions asked by Ronald Coase and the existence of the firm.

This bias in economics reached its apogee with the notion that modern macroeconomics ought to be constructed atop micro foundations. This would thus assure the market solution would flow through to models of entire economies and thus squeeze the state out. This was necessary in order to undo the work of Keynes who had the temerity to see a permanent role for government and who thus was an apostate in the eyes of the libertarians.

The libertarian worldview thus infects economics thoroughly. And it also means that much of economics is not scientific in the sense that it tries to understand aspects of reality, but is rather ideological in that it tries to advocate a particular way of organizing society.

So libertarian economics is idealistic. It posits a world as it ought to be. It argues a great deal of ‘if only the markets were free’ and has no interest in opening up space for other institutions to play mediatory roles. It is an analog to Marxist thought which has its own teleological drive and idealistic outcomes. Neither are studies of reality. They are critiques. Both are stories with happy endings if only we all submit to their rules...

My point here is simply this: economics began its life as either a defense or a critique of the emerging industrial economy. It was adjusted in the 1930’s to account for democracy. But this adjustment was rejected by libertarians whose worldview was offended by any economic outcome being subjected to political input. As the libertarian view regained dominance in economics it implied that the profession drifted away from democracy too. It is this latter drift that has made it so difficult for many economists to embrace inequality as a topic worthy of study. It is also this drift that makes many economists so tone deaf to the real world social outcomes of unfettered markets. Creative destruction is still destruction. The system may re-emerge healthier, but the human cost along the way is also real. Accounting for it sits outside the libertarian agenda. Besides our modern economy is not much like that being observed by the founders of economics. It isn’t even much like that of the 1930’s.

Are we sure economics ought to be invariant even while the economy itself evolves so radically?

This libertarian drift is also the reason that we see so many economist give attribution to the market for all sorts of social and political changes. In their narrow and binary world where the only agency is situated either in a market or in a state, they are forced to go to extremes. They give themselves no choice. They have to suggest that progress can only come from free market activity. After all, in their eyes, the state can only be negative.

Even if the state embodies the wishes of ‘we the people’.
Libertarian Economics (Real World Economics Review)

3 comments:

  1. You might enjoy the following, too:

    http://www.pieria.co.uk/articles/the_intuition_dance_in_microeconomics

    ReplyDelete
    Replies
    1. Think about this for a second. Our ‘rational’ consumer is now deliberately spending his entire budget, only to throw away everything he doesn’t want.

      Yikes! And see this:

      https://twitter.com/NinjaEconomics/status/639939115824246784/photo/1

      Delete
  2. More delicious snacks:

    http://www.partiallyexaminedlife.com/2015/09/07/ep123-1-economics/

    ReplyDelete

Note: Only a member of this blog may post a comment.