By Chris | January 18, 2009
Say that economics isn’t a real science. Someone told me that over Christmas, and I have to admit that it rubbed me the wrong way. I don’t want to delve into what “science” really entails. I’d be the first to concede that economists don’t study the physical world. What bothers me is the all too common disdain for the profession. And, more often than not, it comes from professionals in other fields. For example, while I enjoyed Nassim Taleb’s book, Fooled by Randomness, I was put off by his incessant criticism of economists. He ridiculed the profession for insisting for far too long that humans were perfectly rational beings. Others complain that economists spend too much time trying to outdo each other with complicated mathematical models that have no practical applications. Both criticisms have merit, but are too often overblown.
The general masses are less critical of economists, but too often have unrealistic expectations. When I tell people that I study economics I get a pretty standard response. “Ughh (wincing), I hated that class. But, I guess we need some good economists in times like these, what should we do to get out of this mess?” I don’t know. No one does. There isn’t a magical solution. One of the first lessons learned by economists was that decentralized markets with flexible prices allocate resources much more efficiently than centralized planners. Of course that is based on the assumption that people behave rationally. What about when they don’t? What happens when Americans spend more than they earn and finance their expenditures with equity from their overpriced homes? Prices will eventually fall. That hurts, and there isn’t anything economists can do to ease the pain of the irrationally exuberant.
But, critics of economics might argue, if economists were worth anything they would have prevented the crisis before it started. There are two problems with that: 1) It is impossible to tell when markets are being irrational and when they are responding to changing expectations of the future 2) You can’t keep people from acting irrationally without seriously infringing upon their freedom.
And yet, economics is far from irrelevant. It provides us with all sorts of guidance on how to improve human welfare. Free trade is usually good, taxes can be used to correct externalities, we should minimize the extent to which we distort people’s incentives, moral hazard is a big problem, inflation should be restrained etc. Simple models provide great insights into how rational people will behave in all sorts of situations. Of course, the real world is much more complicated and agents are far from perfect. When things go south it is far too easy to criticize those who study markets. But, we should remember, economists didn’t create this recession, people did.