They don’t make economists like they used to

I’ve finished reading Will Baumol’s (1952) Welfare Economics and the Theory of the State. It’s a short and seriously impressive book, essentially pointing out that if you assume individuals do not either influence each other’s preferences or affect each other’s profits then you conclude that individual maximization delivers the most efficient outcome and the role for the state to restrict or co-ordinate activity is minimal. The laissez faire argument is inherently circular. However, social influence on preferences is pervasive, production by individual firms is interlinked when there are any economies of scale, and externalities in production and consumption are common. The book anticipates – briefly – much of the work done in the following decades in social choice theory, public choice, and Ostrom-style institutional political economy.

What makes it all the more impressive is that (a) it was Baumol’s PhD thesis and (b) he had read historical works including those in French and German – the book cites Petty, Say, Bastiat etc. He apologizes for not being able to read Italian. Clearly, Baumol was exceptional even for his time and surely was a serious miss by the Nobel committee; but I can’t imaging today’s PhD students ever dreaming of looking at any ‘history of thought’ texts, or (at least for the Anglophones) thinking it might useful to have a foreign language. They don’t make economists like they used to. Reform of the undergraduate curriculum has real momentum now (at least outside the US); time to turn our attention to the graduate courses?

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Agents and theorists

There are three books in one in Richard Bookstaber’s The End of Theory, it seemed to me. This compôte is even flagged up in the subtitle: ‘Financial Crises, the Failure of Economics, and the Sweep of Human Interaction’.

One sub-book is a tedious critique of economics, tedious because like all (the many) similar critiques it (a) says ‘economics’ but means ‘macro/financial economics’; (b) assumes economics is a monolithic subject stuck some time around 1980-85, which was indeed the height of the rational expectations, real business cycle approach. Some of the points Bookstaber makes are perfectly valid. Macroeconomists have responded to the implications of the financial crisis for their approach, but not yet enough – this is why the ESRC has funded the new ‘Rebuilding Macroeconomics‘ network. I also agree in particular with his point about economics needing to get to grips better with self-fulfilling phenomena and performativity. But, really, a lot of economists – at least in academia but I think out in the non-ivory tower world too – are now doing exactly the kind of work Bookstaber enthuses about. I’d argue that even when economists are using rational choice equilibrium modelling, or ignoring the radical uncertainty of the real world, it is often done in a knowing way – that is, understanding the assumptions fail, but using the conclusions they lead to as a way of evaluating what is happening and why. Anyway, his complaints about economics are both wearily familiar territory and decreasingly true; economics is and has been changing a lot. In finance specifically, think of Andrew Lo’s new book, Adaptive Markets.

The second element of The End of Theory is a useful mini-survey of some alternative approaches (alternative to rational choice, maximising, equilibrium) models for financial markets in particular: this includes complexity and emergent phenomena, non-ergodic processes, heuristics in decision making, and so on. None of these is novel either – for example, Paul Ormerod’s Butterfly Economics and Why Most Things Fail tackle many of the same areas, Kahneman’s Thinking Fast and Slow was a best seller and Gigerenzer’s heuristics approach is widely discussed among behavioral economists, while Taleb’s books have brought the ideas about radical uncertainty to millions. Still, having these ideas set out again in a concise and accessible way is useful.

The third book-in-a-book is a very interesting approach to an agent-based modeling approach to the financial system, looking back at the 2008 crisis. Here, the author’s expertise shines through. But this section is very condensed – I wished the whole book had been about this and had used the extra room to say more about the complexities of the financial structure and how the agent based approach can illuminate them. For example, the section on the 2007-8 liquidity crisis in US markets is fascinating but condensed. Again, agent based modeling is hardly new, and is even growing more popular in economics, but I found the detail from someone who is an experienced market participant very interesting, although the idea that agent based modelling really spells the end of theory is not really addressed explicitly.

In the end, I wondered what audience Bookstaber had in mind. The final chapter ends, “I’m a frustrated novelist.” He is a indeed a good writer but needs to work on the narrative arc. I’d have thought the three components of this book appeal to at least two different sets of readers; and it distracted at least this economist reader to have the argument keep heading off on a tangent to criticise economics: ‘And another thing,….’. I hope he goes on to write the book starting to emerge from this one diagnosing the past about an agent based future for finance. If this is the right way to model financial markets, what do we do with it?

PS I see The End of Theory is doing well on Amazon, with some 5* reviews, so my perspective may be jaundiced!

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100 Years of Economics

The wonderful Beatrice Cherrier (@Undercoverhist) has been tweeting about the articles in the January 1991 special edition of The Economic Journal, a centenary issue which published articles by eminent economists looking forward to the next century of the subject. For more on the individual articles, go to Beatrice’s tweets (or read the articles!). But she sent me to my shelves to blow the dust of my copy & I thought the contents list was very striking:IMG_4111The first thing that strikes me now is that there are zero women contributors. Another is the poignancy of reaching for this the day after the death of the wonderful Will Baumol. I think he was one of the most creative and observant economists, as well as a truly delightful person, and in a sense paid the penalty for the breadth of his interests in not being more recognised inside and outside the profession. His article in the special issue is in fact very prescient – calling for more eclecticism, more economic history especially in the curriculum, less short-run macro, less “display of technique for its own sake”, more emphasis on behavioural economics.

And this underlines another striking think about the contents list, which is how little it anticipates the current areas of interest in the subject, whether that be inequality or economic geography, behavioural research or data and measurement. Forgivable though – who would like to predict the next 100 years of economics??

And now, off to a day of more disciplinary introspection, at the Economics Network Event on Economics: The Profession and the Public.

 

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Economics and its soul

I picked up Yuval Yonay’s The Struggle Over the Soul of Economics: Institutionalist and Neoclassical Economists in America Between the Wars in a 2nd hand bookshop, the wonderful Westwood Books in Sedbergh. How could I, the author of The Soulful Science, resist such a title? It’s quite interesting, although you do have to be pretty interested in the history of thought and methodology of economics to read it (cough). It was published in 1998, which I’d say was past the peak of the rational expectations/RBC takeover of economics. Still, there was still plenty of that kind of economic modelling around.

Yonay uses ‘Actor Network Analysis’ to describe the way that particular neoclassical mainstream – which started to take deep root with Samuelson after WW2 – had ousted the institutionalist school in the US. He argues that this latter had remained reasonably strong in the interwar period. (The actor network approach, which is obviously well-known in sociology although not well known to me, is a superior alternative to either Kuhnian or Lakatosian approaches to intellectual history he argues – I leave this to people better qualified than I am.)

I’m not completely convinced by the argument mainly because the book gathers so many people under the umbrella of ‘institutionalist’. Veblen, of course, John Commons and Wesley Mitchell his successors. Both of these were obviously highly influential. Yonay then lists a number of others around the same time whose names were new to me, such as Charles Cooley and Robert Hoxie. He also identifies a later wave of institutionalists, one branch pursuing issues of industrial organisation and labour relations, another the questions of measurement and business cycles: John Maurice Clark, Gardiner Means, Arthur Burns, Simon Kuznets. This category, it seems to me, could be labelled ‘anybody not solely theoretical’.

While it’s certainly true that the status of theory (of a particular kind) in the economics profession grew and grew in the post-war decades, the empirical approaches informed by a deep knowledge of institutional reality were always there, even through the height of the rational expectations, real business cycle revolution. The proportion of top journal articles that were purely theoretical increased until probably around the time Yonay published this book, and has since declined considerably. Institutions now feature big time in economics, economic history and geography are expanding sub-fields, behavioural economics is altering the choice assumptions in economic models, information asymmetries and transactions costs are everywhere. These were the kinds of developments I described in The Soulful Science. Even economic measurement is baaaack now.

Perhaps it will turn out with hindsight 10 years from now that the period from about 1975-1995 was the aberration in economics. It had deeper roots of course – Lionel Robbins gave forceful expression to the ‘neoclassical’ individualist and reductionist approach in 1932 – and it lingers on too, in Chicago and elsewhere. But it would be interesting to see an update of the detailed sociological approach Yonay takes in The Struggle over the Soul of Economics  – as opposed to the usual mud-slinging by some sociology critics of economics who don’t read what most economists themselves do, but assume the bowdlerised version of 1980s and 90s economics still dominant in the policy world remains the intellectual mainstream. Anybody who doubts me should just look at the programmes for the Royal Economic Society or American Economic Association conferences this year. I still contend economics has (regained) its soul.

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Microeconomic theory

A great resource for anyone teaching graduate micro theory – Ariel Rubinstein has updated his text, available for free download if you register your email. I don’t teach such a course but from my less intensive look at the book (I read only the social welfare chapter), it is very clear. And free – good for Princeton University Press for allowing the free e-book download, which is updated annually. For those who really want the physical copy, the 2012 edition is available.

Another of Prof Rubinstein’s books – I liked it so much it won the inaugural Enlightened Economist Prize a few years ago – is Economic Fables, also free to download as an e-book.

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