Obama administration's stimulus plans are "schlock economics,"
Obama...fail
I. MISTAKING BEAUTY FOR TRUTH
It�s hard to believe now, but not long ago economists were
congratulating themselves over the success of their field. Those
successes � or so they believed � were both theoretical and
practical, leading to a golden era for the profession. On the
theoretical side, they thought that they had resolved their
internal disputes. Thus, in a 2008 paper titled �The State of
Macro� (that is, macroeconomics, the study of big-picture issues
like recessions), Olivier Blanchard of M.I.T., now the chief
economist at the International Monetary Fund, declared that �the
state of macro is good.� The battles of yesteryear, he said,
were over, and there had been a �broad convergence of vision.�
And in the real world, economists believed they had things under
control: the �central problem of depression-prevention has been
solved,� declared Robert Lucas of the University of Chicago in
his 2003 presidential address to the American Economic
Association. In 2004, Ben Bernanke, a former Princeton professor
who is now the chairman of the Federal Reserve Board, celebrated
the Great Moderation in economic performance over the previous
two decades, which he attributed in part to improved economic
policy making.
Last year, everything came apart.
Few economists saw our current crisis coming, but this
predictive failure was the least of the field�s problems. More
important was the profession�s blindness to the very possibility
of catastrophic failures in a market economy. During the golden
years, financial economists came to believe that markets were
inherently stable � indeed, that stocks and other assets were
always priced just right. There was nothing in the prevailing
models suggesting the possibility of the kind of collapse that
happened last year. Meanwhile, macroeconomists were divided in
their views. But the main division was between those who
insisted that free-market economies never go astray and those
who believed that economies may stray now and then but that any
major deviations from the path of prosperity could and would be
corrected by the all-powerful Fed. Neither side was prepared to
cope with an economy that went off the rails despite the Fed�s
best efforts.
And in the wake of the crisis, the fault lines in the economics
profession have yawned wider than ever. Lucas says the Obama
administration�s stimulus plans are �schlock economics,� and his
Chicago colleague John Cochrane says they�re based on
discredited �fairy tales.� In response, Brad DeLong of the
University of California, Berkeley, writes of the �intellectual
collapse� of the Chicago School, and I myself have written that
comments from Chicago economists are the product of a Dark Age
of macroeconomics in which hard-won knowledge has been forgotten.
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.
It�s much harder to say where the economics profession goes from
here. But what�s almost certain is that economists will have to
learn to live with messiness. That is, they will have to
acknowledge the importance of irrational and often unpredictable
behavior, face up to the often idiosyncratic imperfections of
markets and accept that an elegant economic �theory of
everything� is a long way off. In practical terms, this will
translate into more cautious policy advice � and a reduced
willingness to dismantle economic safeguards in the faith that
markets will solve all problems.
II. FROM SMITH TO KEYNES AND BACK
The birth of economics as a discipline is usually credited to
Adam Smith, who published �The Wealth of Nations� in 1776. Over
the next 160 years an extensive body of economic theory was
developed, whose central message was: Trust the market. Yes,
economists admitted that there were cases in which markets might
fail, of which the most important was the case of
�externalities� � costs that people impose on others without
paying the price, like traffic congestion or pollution. But the
basic presumption of �neoclassical� economics (named after the
late-19th-century theorists who elaborated on the concepts of
their �classical� predecessors) was that we should have faith in
the market system.
This faith was, however, shattered by the Great Depression.
Actually, even in the face of total collapse some economists
insisted that whatever happens in a market economy must be
right: �Depressions are not simply evils,� declared Joseph
Schumpeter in 1934 � 1934! They are, he added, �forms of
something which has to be done.� But many, and eventually most,
economists turned to the insights of John Maynard Keynes for
both an explanation of what had happened and a solution to
future depressions.
Keynes did not, despite what you may have heard, want the
government to run the economy. He described his analysis in his
1936 masterwork, �The General Theory of Employment, Interest and
Money,� as �moderately conservative in its implications.� He
wanted to fix capitalism, not replace it. But he did challenge
the notion that free-market economies can function without a
minder, expressing particular contempt for financial markets,
which he viewed as being dominated by short-term speculation
with little regard for fundamentals. And he called for active
government intervention � printing more money and, if necessary,
spending heavily on public works � to fight unemployment during
slumps.
See link for remainder of article.
Lamont Cranston
http://online.wsj.com/article/SB125185379218478087.html
The Wall Street Journal
SEPTEMBER 2, 2009
U.S. Economy Gets Lift From Stimulus
By DEBORAH SOLOMON
WASHINGTON -- Government efforts to funnel hundreds of
billions of dollars into the U.S. economy appear to be
helping the U.S. climb out of the worst recession in
decades.