Archive for March 6th, 2009

This is a rather cautious article by Nobel Laureate Amartya Sen in the NY Review of Books (from a couple weeks ago, h/t Mark Thoma). He starts out by talking about Adam Smith and the need to put some reins on markets (he even mentions Marx):

However, even as the positive contributions of capitalism through market processes were being clarified and explicated, its negative sides were also becoming clear—often to the very same analysts. While a number of socialist critics, most notably Karl Marx, influentially made a case for censuring and ultimately supplanting capitalism, the huge limitations of relying entirely on the market economy and the profit motive were also clear enough even to Adam Smith. Indeed, early advocates of the use of markets, including Smith, did not take the pure market mechanism to be a freestanding performer of excellence, nor did they take the profit motive to be all that is needed…

The present economic crisis is partly generated by a huge overestimation of the wisdom of market processes, and the crisis is now being exacerbated by anxiety and lack of trust in the financial market and in businesses in general—responses that have been evident in the market reactions to the sequence of stimulus plans, including the $787 billion plan signed into law in February by the new Obama administration. As it happens, these problems were already identified in the eighteenth century by Smith, even though they have been neglected by those who have been in authority in recent years, especially in the United States, and who have been busy citing Adam Smith in support of the unfettered market.

As for the discipline itself…

While Adam Smith has recently been much quoted, even if not much read, there has been a huge revival, even more recently, of John Maynard Keynes. Certainly, the cumulative downturn that we are observing right now, which is edging us closer to a depression, has clear Keynesian features; the reduced incomes of one group of persons has led to reduced purchases by them, in turn causing a further reduction in the income of others.

However, Keynes can be our savior only to a very partial extent, and there is a need to look beyond him in understanding the present crisis. One economist whose current relevance has been far less recognized is Keynes’s rival Arthur Cecil Pigou, who, like Keynes, was also in Cambridge, indeed also in Kings College, in Keynes’s time. Pigou was much more concerned than Keynes with economic psychology and the ways it could influence business cycles and sharpen and harden an economic recession that could take us toward a depression (as indeed we are seeing now).

I’ve never actually read Pigou- in fact, in most cases where I’ve heard about him, it’s been in the context of a Pigouvian tax, as against the property rights argument of Coase. But, from the one chapter I’ve ever read of Keynes from the General Theory, it seems he was obsessed with psychology and used uncertainty as almost a guiding principle. So, reading this, I was hoping Sen would offer something that Pigou had said that I had no clue about. He kind of does:

The contrast between Pigou and Keynes is relevant for another reason as well. While Keynes was very involved with the question of how to increase aggregate income, he was relatively less engaged in analyzing problems of unequal distribution of wealth and of social welfare. In contrast, Pigou not only wrote the classic study of welfare economics, but he also pioneered the measurement of economic inequality as a major indicator for economic assessment and policy…A third way in which Keynes needs to be supplemented concerns his relative neglect of social services

Well, that’s pretty cool. I could go for some honest discussion of inequality. I still don’t think there’s anything discipline-shaking about that, however. Sen concludes:

The revival of Keynes has much to contribute both to economic analysis and to policy, but the net has to be cast much wider. Even though Keynes is often seen as a kind of a “rebel” figure in contemporary economics, the fact is that he came close to being the guru of a new capitalism, who focused on trying to stabilize the fluctuations of the market economy (and then again with relatively little attention to the psychological causes of business fluctuations). Even though Smith and Pigou have the reputation of being rather conservative economists, many of the deep insights about the importance of nonmarket institutions and nonprofit values came from them, rather than from Keynes and his followers…

The present economic crises do not, I would argue, call for a “new capitalism,” but they do demand a new understanding of older ideas, such as those of Smith and, nearer our time, of Pigou, many of which have been sadly neglected. What is also needed is a clearheaded perception of how different institutions actually work, and of how a variety of organizations—from the market to the institutions of the state—can go beyond short-term solutions and contribute to producing a more decent economic world.

I guess I don’t get it. I read Sen, and find myself extremely glad that someone like him, seemingly outside the mainstream, can win a Nobel. But then, it seems a little unimaginitive offering Pigou, whose ideas are now very mainstream, as the panacea for economics. I think we can do much better in terms of opening of the discipline, but if people like Sen aren’t thinking creatively about that question, who in the mainstream is?

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This past Tuesday afternoon, the Economics departments at Notre Dame held a panel about the recession. Three from Policy Studies (Dutt, Rakowski, and Wolfson) and two from Econometrics (Mark and Pries), gave brief presentations and fielded questions. None of their comments were particularly notable, although I thought Prof. Wolfson did the best job of emphatically pointing out that free-market capitalism is the problem.

One of the more astute students attending the panel (and reader of this blog), asked the question, will this crisis change the way economics is taught? His question received some blithering from the Econometrics side. Then, either Wolfson or Dutt pointed out that the discipline of economics had forgotten about Keynes, whose work speaks to this crisis.

In any case, this discussion got me thinking about the question, and convenientally, the New York Times had an article in the Arts section today about this very question. The main gist:

Yet prominent economics professors say their academic discipline isn’t shifting nearly as much as some people might think. Free market theory, mathematical models and hostility to government regulation still reign in most economics departments at colleges and universities around the country. True, some new approaches have been explored in recent years, particularly by behavioral economists who argue that human psychology is a crucial element in economic decision making. But the belief that people make rational economic decisions and the market automatically adjusts to respond to them still prevails…

The political undercurrent undoubtedly makes change more difficult. There is a Crayola box full of differently named economic schools that are critical of mainstream free-market theory, but these heterodox — as opposed to orthodox — economists generally tend to fall into the liberal camp.

Given the short time span since the crisis began, no one expects large curriculum changes yet. But in addition to Berkeley and the University of Texas, professors at a number of departments including those at the University of Chicago, Harvard, Yale and Stanford, say they are unaware of any plans to reassess their curriculums and reading lists, or to rethink the way introductory courses are organized.

Not too surprising I suppose. Old orthodoxies die hard. But wait, there is some hope:

A real shift among economists will come only if there is a wholesale collapse, Mr. Wray and Mr. Card agreed. If unemployment is still high three years from now, then you might start to see a paradigm shift, Mr. Card said; economists will “have to say that the market isn’t supposed to work this way.”

Huh. Well, you’d be hard pressed to find a low to middle income American that thinks the market has worked the way it’s “supposed to” over the last 30 years, with stagnant real wages. If this hasn’t convinced more mainstream economists that the discipline is broke, I am not holding my breath any more than Prof. Card is.

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