Tuesday, June 04, 2019

The Undead Nature of Orthodox Economics

by Neil H. Buchanan

Orthodox economics, as taught in thousands of Econ 101 classrooms around the world and as written down in millions of textbooks for the past few generations, carries the unmistakable message that "markets are good" and thus that "government (intervention) is bad."  Especially for a field that hides behind the positive/normative distinction -- "We are scientists who offer positive (i.e., neutral) analysis, leaving the normative choices to the philosophers and politicians" -- it is quite striking how blatantly obvious those normative conclusions are.

As one might imagine (and as most readers are well aware), there has long been quite a bit of resistance to those normative prescriptions.  Outside of economics, it is a running joke to note the cult-like worship of "the free market" and the resistance by economists to any objections to their beliefs.  Even within economics, many scholars seem to defy their own orthodoxy by arguing in favor of various types of government interventions in the economy.

Nearly everyone outside of economics and many within the profession thus seem to agree that one or more of the critiques of orthodox economic theory are powerful and important, if not dispositive.  Yet somehow that orthodoxy has never been jettisoned, and there is precious little evidence that it is in danger even today.  Indeed, it seems to have been killed countless times, yet it keeps coming back to life.  How can that be?

This question came to mind after I attended one of the sessions at the Law & Society Association's annual meeting last week.  Professor Theodore Seto of Loyola Law School in LA presented yet another of his insightful papers exposing the internal illogic of orthodox economics, and during Q&A, Professor Daniel Shaviro of NYU Law School further observed that some highly credentialed economists are offering alternatives to the standard market idolatry that Seto was critiquing.

The question then becomes whether the existence of people like Raj Chetty at Harvard or Joel Slemrod at the University of Michigan (among other examples of people doing high-level work that is professionally rewarded even as it challenges certain shibboleths) is evidence that economics has "moved on" and thus that we need not imagine that the orthodoxy is still the center of gravity.

My response at the conference was that economic orthodoxy has the weird ability to be attacked over and over again, yet it not only does not go away but actually emerges unscathed from what in the moment looked like a devastating defeat.  Paul Krugman often refers to "zombie ideas," by which he means particular claims -- tax cuts pay for themselves, supply creates its own demand, and so on -- that somehow keep shambling along, long after they seem to have died.  I am saying that this is true not only of particular economic claims but of the whole edifice of orthodox economics.  It is undead.

Almost every objection to economic orthodoxy is quickly met with the claim that the objector does not understand how flexible economic theory really is.  For example, if I say that the model of supply and demand does not take into account non-pecuniary desires on the part of real human beings, I will be told that demand curves are derived from utility functions, and utility functions can include anything that we want among the inputs that people care about.

And I do mean anything.  If I say that people care about "justice," then I will be told that we can add a variable J to the utility function, and we can then run the standard maximization algorithm to see how people will trade off justice against the other things that they care about (price, quality, location, and anything else that we think matters).  "You cannot logically object to utility theory, because of course people are maximizing something; it's just a matter of figuring out what combination of things they are maximizing."

That is a very clever move, and it has been fooling smart people for well over a century.  The problem is that it drains the theory of all prescriptive ability, because it ultimately makes it possible to explain anything that people do not as a market failure but as a manifestation of people getting what they want.  It is the quintessential Panglossian statement that everything happens for the best in this best of all possible worlds.

In one way, that move is helpful for scholars whose (in some cases not well hidden) prior is to trash the government.  People are doing what they are doing, and it is not up to us to say that they are doing something wrong -- and certainly not to move from that judgment to enacting actual legislation forcing people to do something else.  If you have hard-line libertarian beliefs, you will love a theory that can explain everything in a way that says that people always freely reach the best outcome when the Invisible Hand is allowed to operate.  The government, in this view, will only make things worse.

The problem is that the people who hate the government -- at least when the government enacts liberal policies designed to solve problems that the government-haters think are unimportant (like poverty reduction or universal health care) -- do have things that they want to change.  They thus have to argue simultaneously that the government cannot do anything but also that it must do something different (such as changing the balance between creditors and debtors in contract disputes).  Because there is no "no government" baseline, it is (as I have argued many times) not possible to say that the government should do nothing at all.  We have to decide what we want it to do and what we do not want it to do.

And even when we are arguing not against a hard-line libertarian position, the supposed flexibility of economic orthodoxy never quite goes as far as it might seem.  A number of years ago, an economics professor in a tax seminar commented on a new policy that the government of Finland had adopted (and that was unusual enough to have merited an article in The New York Times).  Because of the existence of some "Nokia millionaires" in that small country, there were people who were dangerously flouting highway safety laws on the theory that they could easily afford to pay any traffic ticket.

The Finnish government responded by adopting a schedule of speeding fines that were based on the income of the driver rather than the more standard approach of setting nominal fines keyed to kilometers-per-hour above the speed limit.  Clever, no?

The economist in question thought it was not.  In fact, he said, it was inefficient, because the harm that the fines were supposed to reduce was a function of speed and not of the driver's income.  A graduate student (who had not yet been socialized sufficiently to suppress unorthodox thoughts) responded that maybe the people of Finland had a desire -- that is, that their utility functions included a commitment -- to have all people face similarly painful choices when deciding to flout the laws.  In other words, egalitarianism was one of the things that people were taking into account when maximizing their individual and thus collective utilities.

The economist -- who, I should emphasize, is one of the more open-minded orthodox economists I know -- looked perplexed.  I was amused, because the graduate student's question had so perfectly laid bare the emptiness of the move by which orthodoxy is supposedly saved by being chameleon-like.  If anything can be included in utility functions, then anything can be described as efficient (or inefficient).  The economist finally responded by simply saying, "No!"  The graduate student was crestfallen, and the conversation moved on.

This is hardly an isolated anecdote.  It is, instead, merely an especially clear example of how orthodoxy regenerates itself.  Believers convince themselves of their open-mindedness, but when anyone uses that open-mindedness to push "too far," then we quickly return to the inflexible anti-government orthodoxy.

In a recent column, I described having given a talk earlier this year at an economics department, where my topic was focused on philosophical questions of justice.  As I noted, many of the questions from my audience took the form of "Isn't this just ... ?"  As in, "Isn't this just a special case of Pareto-Efficiency?" or "Isn't this just an application of Set-Point Theory?"  And as I noted in that column, the answer to all such questions is not "no," but rather, "yes, but so what?"  Reformulating the question using economic jargon does not answer the question.  Indeed, it sometimes makes it more difficult to answer, because we get pulled into modeling exercises that merely obscure the underlying questions.

Is "bounded rationality" an important insight in recent decades of economic research?  Yes it is.  Are multiple equilibria a possibility that some economists have explored?  Of course.  It is strange to say, but it is possible even for large numbers of economists to be engaged in non-orthodox work without actually dislodging the orthodoxy.  Every time that an innovation is shown not to be a perfect theory to replace the orthodoxy, we default back to the orthodoxy.

That is not merely annoying from the standpoint of theory.  It is damaging from the standpoint of policy.  After years upon years of showing that the markets-solve-all conclusions of orthodox economics are at best contestable from virtually every angle, we still start from the presumption in every policy debate that the market will solve the problem -- and thus that the government can only make things worse.

That this is (for at least some economists) a rebuttable presumption is better than nothing, but it is still remarkable how unfailingly this presumption -- that using government to try to solve problems is doomed to fail -- keeps coming back from the dead.


Joe said...

Vampire economics.

Bob Moss said...

I take issue with the proposition that all those millions of Econ 101 students were taught that "'government (intervention) is bad.'" My basic textbooks were Samuelson's intro (6th? edition) and Lipsey's "Introduction to Positive Economics". I never discerned a message that equated the theory that "markets are efficient" with the proposition that government intervention is bad.

Shag from Brookline said...

Quiery: How does such "orthodox economics" respond to the role of the Fed? (My introductory - and only - economics course back in the Fall of 1949 did not have the textbooks Bob mentioned and the teacher spent most of class time with his back to the class chalking up the blackboard. He did not present a narrative on economics.)

NFJ said...

Undead rconomic yheory, pushed by suspected Undead Politicans.

Bob Moss said...

I guess my first course was in 1965. Samuelson thought that between fiscal and monetary policy, the economy could be kept steadily expanding, avoiding harmful recessions and depressions---except that the details could be rather tricky.

egarber said...

In the vein of this post:

I highly recommend Richard Thaler’s “Misbehaving,” which is centers on the idea that humans are often irrational and poor decision makers, as opposed to machines that are constantly optimizing. As a groundbreaking economic behavioralist, he tracks all types of resistance he has faced over the years, to Neil’s point about the resilience of orthodoxy.

One funny anecdote related to going up against the Chicago econ types, from a Guardian review –

Thaler recounts a dispute at an academic conference with the orthodox economist Robert Barro: “I said that the difference between our models was that he assumed that the agents in his model were as smart as he was, and I assumed they were as dumb as I am." Barro agreed.

DRE said...

I think the question of why this baseline persists is an interesting and important one. No doubt part of the story involves the money and social circles chronicled by Thomas Frank in The Wrecking Crew (about conservative attitudes toward government and governance from the 70s through Bush II) and Jane Mayer in Dark Money, as well as many other accomplished writers.

I think the "internal" part of the story (that is, the part that is in some sense more about the theory than about the apparatus of conservate legitimation and self-perpetuation) comes from how harder it is to get some analytic purchase on an issue when you step outside the orthodox approach. For example, I remember from law school when we were reading people making the case for some early (conservative) law and econ work in the 70s. They argued that without economic theory, it might seem the more just course to allow the prototypical old widow to stay in the apartment despite not being able to make the rent that month. Aha, they said, with the benefit of our theory we can see that this is actually worse becuase of the follow-on consequences (this was presented as though judges somehow were incapable of grasping consequences before they obtained the benefit of economic training). The reality, of course, is that more sophisticated economics requires you to say, when asked what consequences will arise if the widow is evicted: it depends. What are the broader conditions of the surrounding housing market? How much construction is occurring? How competitive is the market and what is the elasticity of demand today and what is it predicted to be? How much power over price does this particular landlord have? Etc.

But that sort of nuanced answer is so much less useful to a judge or any actor saddled with significant responsibility and necessarily incompetent information. David Kennedy has some great discussions of this issue in the international trade context (e.g., what kinds of labor laws are non tariff barriers to trade [unlawful] and which are not). Those involved in these sorts of negotiations pretty much always fall back on whatever rules of thumb and contingently settled "common sense" ideas happen to prevail at that moment.

Basically I think the orthodoxy, especially in oversimplified form in the hands of policymakers and negotiators, lumbers on in part because people don't want a theory that will make their lives easier.

(Also, in response to Bob's comment, it was only in the 70s, at least according to Daniel Rodger [The Age of Fracture] that Samuelson's approach to economics, especially the viability of macroeconomic planning and intervention by government as well as the failure of microeconomic models to apply to almost any real world situation, fell out of favor. The symbolic point of change was when they switched the textbooks from starting with macro and then later talking about micro to putting micro first and then suggesting that macro can be made to have a foundation in Chicago influenced micro theory)

DRE said...

Apologies for the several typos. Typing this on my phone and it's tough to edit when you're working with a tiny text box

JS said...

The basic fallacy of "free markets" is believing they exist. "Free markets" are like "free lunch". There ain't no such thing!

Without from some outside power (usually government) dedicated to keeping a market open and "free" to all, every market sooner or later descends into oligopoly/oligopsony if not into outright monopoly/monopsony. Rather than being an undesirable intrusion, government intervention is a fundamental underpinning necessary for any market to be "free".