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Commentaries from economists dominate business media headlines and are covered extensively in investment manager reports to clients. Yet, economists have mostly got their forecasts wrong in recent years. The flaws in the study of economics were highlighted when the financial crisis exploded in 2008, catching the world off-guard.
Very few identified that the sub-prime debt bubbling under the surface would catapult the world into a financial predicament that is still showing its scars a decade on.
But it’s not only the global financial crisis that exposed economists as not being up to the job of economic forecasts. Investors are regularly disappointed when local and specialist economists fail to accurately assess the micro and macro terrain.
David Spencer, an economics academic at the University of Leeds, has applied his mind to what’s gone wrong in the discipline, identifying several areas where there is room for significant improvement.
Above all, the underlying theories and methodologies need to change. Economists need to open their minds to influence from other disciplines so that they can better understand social and political currents.
Although the financial crisis shocked the world and led to widespread change in many countries, economists at institutions of higher learning have remained relatively impervious to the need to rethink the discipline.
For now, take everything you hear from economists with a healthy pinch of salt. There’s still much work to be done to ensure that economic techniques and analysis are fit for real-world conditions. In the meantime, economists run the risk of becoming obsolete in the global investment advice sector. – Jackie Cameron
By David Spencer*
The Bank of England’s chief economist, Andy Haldane, recently criticised his very own profession. This led to a bout of soul searching for economists as we face, again, the familiar criticism that nobody predicted the 2008 financial crisis (in fact, some economists did) and reflect on whether the subject is being taught properly at school and university.
Yet Haldane’s criticisms are less severe than they might first appear. Indeed they remain largely innocuous at the level of economic prediction.
Unwittingly, however, he distracts attention away from these problems by focusing on the issue of forecasting and misses the opportunity to ram home the point that economics is flawed in a fundamental sense.
Better forecasts cannot exonerate economics from its failings now and in the past. To his credit, Haldane made some effort to highlight more deep-seated problems in economics. These problems relate to issues of theory and method. They are also related to an unwillingness to allow dissent within economics and to open up to other disciplines.
Weak and off-target
Economics should be in crisis. But in reality it is not. Rather, economics remains largely the same as it was before the financial crisis – in effect, it remains just as problematic now as in the past. This is an issue not just for economics but for society as a whole, given the enduring power and influence of the discipline on policy and public life.
To think of economics in terms of forecasting is to limit its nature and scope. Economics ought to be about explanation. It should be able to make sense of the world beyond forecasts of the future. It is not clear that as it exists now, economics is able to understand the world in its present form. To this extent, it cannot help understand the frequency and depth of crises.
Economists remain committed to a particular approach to theory building in which mathematical models are all that count. They are often too abstract to be tested and exist as formal abstractions with no connection to the real world. For example, some macroeconomic models before the crisis were so out of touch with reality they excluded the existence of banks. No wonder the crisis came as a surprise.
As things stand, there is little chance that economics will open up to the ideas and methods of other disciplines. Instead, the discipline has embraced a project of “economic imperialism” seeking to colonise other social sciences. Genuine interdisciplinary debate has lost out in this process.
Haldane’s criticisms of economics, therefore, remain weak and off target. He calls for economics to learn from meteorology. That way it can improve its forecasts. What he misses is the need for radical change at the level of theory and method. He misses the need for economics to embrace reform that turns it into a social science which explains the world as it actually is – not a device for better predicting the economic weather.
Alternatives exist
To be sure, Haldane questioned standard economic assumptions such as that of all actors being perfectly rational. He has also encouraged the use of alternative methods like agent-based modelling, which offers a more realistic view of individual behaviour.
Yet, his proposals for reform are limited and weak. The notion that economics might need to be reworked from first principles and rebuilt as a more open and less formal social science remains implicit in his criticisms.
Hairdressers are more trusted than lawyers, pollsters, economists, bankers, journalists and politicians. #Davos #wef17 pic.twitter.com/tpSFzsetFJ
— ian bremmer (@ianbremmer) January 17, 2017
Alternative economic ideas do exist. They exist among dissenting heterodox economists, but they remain on the fringes of economics debate, without any real influence on the core discipline itself.
This fact is probably a surprise to most. Surely the crisis has led to a rebirth in the study of great economic thinkers like Marx, Keynes, and Hayek? After all, these thinkers studied in detail the economic system including its crisis-prone nature.
The sad truth is that this rebirth hasn’t happened. In fact, any rebirth has been stifled by the insularity of the economics discipline. Economic dissenters like Marx, Keynes, and Hayek are still more likely to be studied by scholars outside of economics than within it.
So while Haldane is correct to call for reform in economics he misses the barriers to reform and the need to overcome them. He misses how economics has stifled dissent and how the restructuring of economics requires root-and-branch reform in the way that economics is studied. We need economists that are not better weather forecasters but rather committed social scientists concerned with addressing and resolving real-world problems on an ongoing basis.
- David Spencer, Professor of Economics and Political Economy, University of Leeds. This article was originally published on The Conversation.
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