A WEEK IN ECONOMICS (03/12/13-09/12/13) RETHINKING ECONOMICS

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Week-in-Economics

The financial crisis marked a period of increased soul searching for governments, regulators and the financial markets. There was a general sense of bewilderment and questioning as to how it could have possibly happened. Was not the period leading up to the crisis a period of high growth; did we not manage to control the boom-bust cycles’ had we not solved the problems which caused previous crisis?

Well, obviously not. When questing for efficiency in economic transactions, there is a belief that optimality is possible and all that needs to be done is to calibrate different aspects of the economy to reach a kind of economic utopia. Treating the economy as something that could be scientifically explained meant that it could also be controlled and managed. But the economy is a product of human behaviour, and human behaviour, as any reasonable man will tell you, is not easy to predict.

Yet the subject of economics as currently taught appears to give this impression, and so in this soul searching there was an outcry against the “dismal science”. Why? Because it was felt that if the subject could predict future outcomes, then it should have reasonably expected that economists would have noticed that a huge catastrophe was just around the corner. With only a handful of economists at the time pointing out that something was amiss, the failure of the majority suggested something dreadfully wrong about the teaching of the subject itself.

As a student of economics, my own dismay with the subject came well before the crisis occurred. Undergraduate courses were replete with theory and statistics. In fact to even gain entry into an economics course, one needed to have a mathematics background and it was not important that he or she had any knowledge of economics. This seemed odd but one has to think it out to understand why.  Economics is a subject about human transactional relationships; it seeks to explain the choices of individuals, institutions and governments to financial, social, political and environmental changes. It is very much a psychological subject.

This is only one part of the subject, and is the assessment side of the subject. Here the mathematical element is, arguably, quite important.  Today, the world has been distilled into numbers. We are fascinated and convinced by quantitative assessments and surveys. For instance we read about wastage: “Tesco said that 68% of salad to be sold in bags was thrown out – 35% of it in the home”. By giving quantitative information, the reader is impacted more than someone saying UK citizens waste much of their food. The numbers give evidence of behaviour, something objective, and not mere opinion.

It is assumed that the sample used for the survey will reflect the population.  Surveys have their own methodologies, all seeking to remove bias. However, it is not possible to completely remove bias. This is an accepted part of statistics, which is fine. The problem with economics lies with the second part: attempting to predict the future choice of individuals, institutions and governments. This then presupposes that human behaviour is predictable.

It is not. The best we can do is to have estimations of what human behaviour is going to be, but we cannot be definitive. Humans have a tendency to deviate from expected norms. Economists know this and hence their theories, with the mathematical element, are as they say on the tin: theories. There cannot be certitude.

Unfortunately, increasingly the theories in economics were taught as a fact. If the mathematical formulas could be proven and the statistics can back up the facts, then the theory must be true. The problem is you start off with a theory and then add more theory by structuring a mathematical methodology. This simply means theory upon theory which begins to move away with what is happening on the ground. Moreover, the problem for students is that while they were being taught theories as facts, they were not really being taught the facts i.e. they were not being taught about how the world really is.

Economics attempts to explain complex relationships into easy to understand models. But before we can even do that, one must understand the institutional framework in which individuals, institutions and governments live. They need to understand how things are currently working before they can even begin to theorise. This means understanding the economic and financial landscape which includes having an understanding of legal frameworks, operations of financial institutions, the workings of government organs, the relationships between states, political and economic history,  and other evidential relationships.  Once you understand the framework, it becomes easier to theorise the behaviour of individuals.

Today, there is a small but growing backlash against the economics as it is being currently taught. Students have set up groups such as Rethinking Economics to challenge the way economics is taught.  There will never be full agreement as to how economics should be thought but the current model of proffering theory upon theory with a splatter of maths is hardly the right way of understanding human behaviour. It dehumanises the human, and categorises too easily. There is a need to go back to the human element of the subject before approaching the scientific side, and in my opinion, the first point is to understand institutional frameworks.

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