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Krugman on the Failure of Economics in a Crisis

May 25, 2012

Paul Krugman,  although he has been consistently and remarkably right in his advice and observations nevertheless finally acknowledges the possibility that Economics may have failed as a valid social science and economists wanting as advisors on public policy:

“Economics in the Crisis: The best you can say about economic policy in this slump is that we have for the most part avoided a full repeat of the Great Depression…. [A]ll of that, I think, can be attributed to the financial rescue of 2008-2009 and automatic stabilizers…. And I blame economists, who were incoherent in our hour of need. Far from contributing useful guidance, many members of my profession threw up dust, fostered confusion, and actually degraded the quality of the discussion. And this mattered. The political scientist Henry Farrell has carefully studied policy responses in the crisis, and has found that the near-consensus of economists that the banks must be rescued, and the semi-consensus in favor of stimulus in the initial months (mainly because the freshwater economists were caught by surprise, and took time to mobilize) was crucial in driving initial policy. The profession’s descent into uninformed quarreling undid all that, and left us where we are today.
And this is a terrible thing for those who want to think of economics as useful…. It’s in times of crisis, when practical experience suddenly proves useless and events are beyond anyone’s normal experience, that we need professors with their models to light the path forward. And when the moment came, we failed…”

Krugman finally acknowledges what many  including respected economists have been suggesting: that we may be witnessing a dawning recognition that the entire profession could be another God that failed.
Almost two years ago James Galbraith in his testimony to Congress pointed out the similar and related failure of many Classical Economists to recognize that anti social behavior (in this case fraud) was a real threat and it was not and could not be dealt with in their theories or recommendations. ( Economists may have chosen to ignore it, but then the question becomes why.)

I write to you from a disgraced profession. Economic theory, as widely taught since the 1980s, failed miserably to understand the forces behind the financial crisis. Concepts including “rational expectations,” “market discipline,” and the “efficient markets hypothesis” led economists to argue that speculation would stabilize prices, that sellers would act to protect their reputations, that caveat emptor could be relied on, and that widespread fraud therefore could not occur. Not all economists believed this – but most did.

More recently Lynn Stout in her new book, “How Investing Turns nice people into Psychopaths.” touches on another failing in theEconomic Man myth when she writes:

“The problem with the homo economicus theory is that the purely rational, purely selfish person is a functional psychopath. If Economic Man cares nothing for ethics or others’ welfare, he will lie, cheat, steal, even murder, whenever it serves his material interests. Not surprisingly, although homo economicus is alive and well in many economics departments, many experts today prefer to embrace behavioral economics, which relies on data from experiments to see how real people really behave. Behavioral economics confirms something both important and reassuring. Most of us are not conscienceless psychopaths.”

So here we have a profession whose practitioners pontificate on public policy and private gain and even has its own government sponsored Council of Economic Advisors,” yet it cannot predict any better then flipping a coin, ignores the simplest of human impulses such as the willingness to commit fraud to achieve wealth, denies existence of ethics as a basis for human behavior and exhibits all the moral fervor of a group of lawyers in heat over fees.
Some quotes aphorisms from Trenz Pruca’s Journal:

On Economics as a Science:

In Science. a physical theory that is logically consistent may be considered truth only until falsified. In Economics, a sociological theory that is logically inconsistent is often considered true even when falsified.

On Supply and Demand:

There is no such things and supply and demand because they are both infinitely manipulatable.

Wherever you have supply meeting a demand you will have someone trying to make a profit by making it not so.

On Markets:

There is no such thing as a free market. There is always a transaction cost.

Those who manage the transactions ultimately make all the money.

A market is something that one goes into to buy groceries and usually has a prefix affixed to it like “super”. Everything else is a casino.

On Free Enterprise:

The goal of every business enterprise is not to maximize profit but to separate risk from reward.

The most important goal for any democratic government should be to avoid removing risk from enterprise. Yet it currently appears that the only function of government is to shield enterprise from risk.

On Scoundrels:

The last refuge of scoundrels is not patriotism but the claim that no one could see it coming.

Most wealthy individuals are scoundrels, only very few admit it and they usually are already in jail.

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4 Comments
  1. I think your grasp of economic reality is wayy beyond mine — but I love your quotes. And the sharing of your insights. Thanks.

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