in the Sunday New York Times Magazine. How Did Economists Get It So Wrong? covers a great deal of recent economic history. Krugman frames it in terms of the conflict between neoclassicists and Noe-Keynesians. He also offer the observation of fresh-water economists - since most of the neo-Classicists were in places like Chicago and Minnesota - versus the salt-water economists, located in the universities along both coasts.
But many of the salt-water economists made many mistakes as well - Ben Bernanke is from Princeton (as is Krugman).
Economics is not my area of specialty, although I have studied enough to not make a total fool of myself - I hope. The piece is massive - it has 8 separate page views reading it online. And we know the skills that Krugman have include his mastery of words as well as the mastery of Economics that won him the Nobel Memorial Prize.
Perhaps I can whet your appetite with a few samples.
What happened to the economics profession? And where does it go from here?
As I see it, the economics profession went astray because economists, as a group, mistook beauty, clad in impressive-looking mathematics, for truth. Until the Great Depression, most economists clung to a vision of capitalism as a perfect or nearly perfect system. That vision wasn’t sustainable in the face of mass unemployment, but as memories of the Depression faded, economists fell back in love with the old, idealized vision of an economy in which rational individuals interact in perfect markets, this time gussied up with fancy equations. The renewed romance with the idealized market was, to be sure, partly a response to shifting political winds, partly a response to financial incentives. But while sabbaticals at the Hoover Institution and job opportunities on Wall Street are nothing to sneeze at, the central cause of the profession’s failure was the desire for an all-encompassing, intellectually elegant approach that also gave economists a chance to show off their mathematical prowess.
Unfortunately, this romanticized and sanitized vision of the economy led most economists to ignore all the things that can go wrong. They turned a blind eye to the limitations of human rationality that often lead to bubbles and busts; to the problems of institutions that run amok; to the imperfections of markets — especially financial markets — that can cause the economy’s operating system to undergo sudden, unpredictable crashes; and to the dangers created when regulators don’t believe in regulation.
That should give you a good sense of the kinds of remarks to expect from Krugman. There is also substantial analyses of the work of a large number of economists.
The work is divided into sections. The paragraphs above came from the beginning:
I. MISTAKING BEAUTY FOR TRUTH
There are also sections on
II. FROM SMITH TO KEYNES AND BACK
III. PANGLOSSIAN FINANCE here we read
By 1970 or so, however, the study of financial markets seemed to have been taken over by Voltaire’s Dr. Pangloss, who insisted that we live in the best of all possible worlds. Discussion of investor irrationality, of bubbles, of destructive speculation had virtually disappeared from academic discourse.
IV. THE TROUBLE WITH MACRO
V. NOBODY COULD HAVE PREDICTED . . . in which Krugman takes care to point out that some did predict, for example, the housing bubble, about which in 2004 Robert Shiller warned, including " painful consequences if it were to burst." Krugman gets very blunt here:
In short, the belief in efficient financial markets blinded many if not most economists to the emergence of the biggest financial bubble in history. And efficient-market theory also played a significant role in inflating that bubble in the first place.
VI. THE STIMULUS SQUABBLE here Krugman points out why deficit spending was necessary: the Fed had lowered the effective interest rate to zero, but that failed to stimulate the economy. Absent negative interest rates, the only way to increase economic activity was for the government to spend. Given the scope of the recent recession - the largest since the Great Depression - he does not find it at all strange that we had to take an approach similar to what we did in the 1930s.
VII. FLAWS AND FRICTIONS which begins:
Economics, as a field, got in trouble because economists were seduced by the vision of a perfect, frictionless market system. If the profession is to redeem itself, it will have to reconcile itself to a less alluring vision — that of a market economy that has many virtues but that is also shot through with flaws and frictions. The good news is that we don’t have to start from scratch.
Krugman is concerned with the profession, with what academic economists do. He after all is a member of that tribe, as well as a notable columnist and pundit.
VIII. RE-EMBRACING KEYNES which begins
So here’s what I think economists have to do. First, they have to face up to the inconvenient reality that financial markets fall far short of perfection, that they are subject to extraordinary delusions and the madness of crowds. Second, they have to admit — and this will be very hard for the people who giggled and whispered over Keynes — that Keynesian economics remains the best framework we have for making sense of recessions and depressions. Third, they’ll have to do their best to incorporate the realities of finance into macroeconomics.
Now that combination is not something easy to achieve; the last point is likely to be exceedingly difficult.
Krugman notes that what he suggests may not be popular among those who want to approach economics as a perfectly rational model, but if his suggestions are followed, economists will at least have the virtue of being partially right.
partially right - that would surely beat being totally wrong, but it also does not inspire a great deal of confidence in the field, does it?
Some have suggested that is was Thomas Carlyle who gave us the idea of economics as the dismal science. Robert Heilbrunner called economists Worldly Philosophers. What is clear is that economics is someplace in between science and philosophy, lacking the exactitude we expect of the former but relying far more on evidence - historical and current - than do most working on the latter.
I hope you take the time to read Krugman's piece carefully. Then you may wonder as I do why he is not one of the principal economic advisers in this administration.
Peace.