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Hard thinking

21 May 2014 By Edward Hadas

Many economics students are unhappy with what they are being taught. A network of 62 groups from around the world has drawn up a petition calling for more “pluralism” in instruction. The malcontents find the dominant neoclassical model too narrow and want to know why so few experts predicted the 2008 financial crisis. They also want less abstract theory and more study of actual economies. The reproaches are just, but the students’ reform agenda is insufficiently radical.

They underestimate the scale of the intellectual scandal. The profession’s ignoble tradition started in the 19th century, when most political economists, as they were then known, failed to notice that industry was leading to massive improvements in the standard of living. Today’s practitioners know much more, but they still struggle to explain the most basic phenomena – prices, wages, money, credit, unemployment and development.

Pluralism, the study of alternative schools of economic thought, would help, but not much. With the partial exception of the still underdeveloped study of institutional economics, the available alternatives to the neoclassical synthesis largely rely on the same erroneous assumptions that humans are rational and that market forces almost exclusively shape economies.

The demand to study intellectual history and other social sciences is more promising. Add in philosophy, and a new curriculum could lead the next generation of economists to undertake a profound re-evaluation of some basic concepts. 

The role of markets is a good place to start. Economists generally refer to “market economies”, but they are not talking about supermarkets. They are referring to a theoretical model of economic activity. What they call perfect markets are a sort of eternal war of all against all with no durable winners. Most professionals assume that such markets are the best form of economic organisation: the closer to market perfection, the better. 

It is a bizarre assumption. Even imperfect markets actually play a relatively minor role in modern economies. Almost all people work in hierarchical bureaucracies, not markets; the producers in most industries work in cartels, deliberate or accidental; regulation is omnipresent; and governments are always the largest economic actors. Sociological considerations, technological developments and traditions are generally far more important than abstract market forces. 

There is a simple reason that economists’ ideal markets are almost never found in human societies. The theory was modelled on Newtonian mechanics, and people are not actually much like the inert bodies of elementary physics. The cure is also simple: discard the grotesque market oversimplification. Instead, base the analysis of consumer activity, industrial structures and financial arrangements on more accurate psychological and sociological models. 

Money is another economic fetish in need of demythologisation. Of course, money is far more real than a theoretically perfect market, but economists treat money as if it is, or can be made into, an objective measure of value.

The exaltation of what is ironically known as the real gross domestic product is a prime example of this fallacy. There is nothing real about numbers constructed in large part from estimates and arbitrary judgements. Worse, GDP combine things that cannot actually be valued on the same scale. My luxurious seaside holiday may cost 2,000 times as much as the food that keeps me alive, but the numbers involved are far more misleading than revealing.

Money plays an important role in modern societies, mostly as a very useful tool for organising a complex economy. The ability to create a monetary system based entirely on trust is a remarkable accomplishment. However, money cannot offer an absolute value in an economic world that will always be shifted. A less idealised and more flexible approach to the value of money would lead to a more realistic and less crisis-prone financial system. 

With less time in the university curriculum dedicated to markets and money, there would be more space for another M-word: morality. Economists do sometimes talk about practical ethics, but they almost never concern themselves with the ultimate subject of morality: the good.

Economists usually assume that this good, also partly captured by the notion of quality of life, can be measured by something like GDP. Producing ever more goods and services therefore counts as progress. Such an objective might suit a machine, but it demeans people, who have complicated and sometimes contradictory desires, including to be virtuous and happy, and to lead fulfilling lives in just and peaceful societies.

A few economists and governments do try to move beyond GDP. Nobel laureate Joseph Stiglitz tried it on behalf of the French government five years ago, considering a variety of metrics but reaching no clear conclusion. British Prime Minister David Cameron in 2010 set an effort in train to measure citizens’ well-being. The Himalayan nation of Bhutan attempts to maximise gross national happiness, not GDP.

But those efforts are still numerical and simplistic. In truth, it is not obvious how economic activities – labour, production, consumption and distribution – can help or hinder people in their search for a good life. The exploration of that great moral question, not just the largely empty mathematics of markets and money, should be part of the foundation of the economics curriculum. That would make the subject far more interesting and useful.


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