Reference4KrugmanHow Did Economists Get It So Wrong.docx

Reference4KrugmanHow Did Economists Get It So Wrong.docx

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Reference4KrugmanHowDidEconomistsGetItSoWrong

HowDidEconomistsGetItSoWrong?

ByPAULKRUGMAN

NewYorkTime,Published:

September2,2009

I.MISTAKINGBEAUTYFORTRUTH

It’shardtobelievenow,butnotlongagoeconomistswerecongratulatingthemselvesoverthesuccessoftheirfield.Thosesuccesses—orsotheybelieved—wereboththeoreticalandpractical,leadingtoagoldenerafortheprofession.Onthetheoreticalside,theythoughtthattheyhadresolvedtheirinternaldisputes.Thus,ina2008papertitled“TheStateofMacro”（thatis,macroeconomics,thestudyofbig-pictureissueslikerecessions）,OlivierBlanchardofM.I.T.,nowthechiefeconomistattheInternationalMonetaryFund,declaredthat“thestateofmacroisgood.”Thebattlesofyesteryear,hesaid,wereover,andtherehadbeena“broadconvergenceofvision.”Andintherealworld,economistsbelievedtheyhadthingsundercontrol:

the“centralproblemofdepression-preventionhasbeensolved,”declaredRobertLucasoftheUniversityofChicagoinhis2003presidentialaddresstotheAmericanEconomicAssociation.In2004,BenBernanke,aformerPrincetonprofessorwhoisnowthechairmanoftheFederalReserveBoard,celebratedtheGreatModerationineconomicperformanceovertheprevioustwodecades,whichheattributedinparttoimprovedeconomicpolicymaking.

Lastyear,everythingcameapart.

Feweconomistssawourcurrentcrisiscoming,butthispredictivefailurewastheleastofthefield’sproblems.Moreimportantwastheprofession’sblindnesstotheverypossibilityofcatastrophicfailuresinamarketeconomy.Duringthegoldenyears,financialeconomistscametobelievethatmarketswereinherentlystable—indeed,thatstocksandotherassetswerealwayspricedjustright.Therewasnothingintheprevailingmodelssuggestingthepossibilityofthekindofcollapsethathappenedlastyear.Meanwhile,macroeconomistsweredividedintheirviews.Butthemaindivisionwasbetweenthosewhoinsistedthatfree-marketeconomiesnevergoastrayandthosewhobelievedthateconomiesmaystraynowandthenbutthatanymajordeviationsfromthepathofprosperitycouldandwouldbecorrectedbytheall-powerfulFed.NeithersidewaspreparedtocopewithaneconomythatwentofftherailsdespitetheFed’sbestefforts.

Andinthewakeofthecrisis,thefaultlinesintheeconomicsprofessionhaveyawnedwiderthanever.LucassaystheObamaadministration’sstimulusplansare“schlockeconomics,”andhisChicagocolleagueJohnCochranesaysthey’rebasedondiscredited“fairytales.”Inresponse,BradDeLongoftheUniversityofCalifornia,Berkeley,writesofthe“intellectualcollapse”oftheChicagoSchool,andImyselfhavewrittenthatcommentsfromChicagoeconomistsaretheproductofaDarkAgeofmacroeconomicsinwhichhard-wonknowledgehasbeenforgotten.

Whathappenedtotheeconomicsprofession?

Andwheredoesitgofromhere?

AsIseeit,theeconomicsprofessionwentastraybecauseeconomists,asagroup,mistookbeauty,cladinimpressive-lookingmathematics,fortruth.UntiltheGreatDepression,mosteconomistsclungtoavisionofcapitalismasaperfectornearlyperfectsystem.Thatvisionwasn’tsustainableinthefaceofmassunemployment,butasmemoriesoftheDepressionfaded,economistsfellbackinlovewiththeold,idealizedvisionofaneconomyinwhichrationalindividualsinteractinperfectmarkets,thistimegussiedupwithfancyequations.Therenewedromancewiththeidealizedmarketwas,tobesure,partlyaresponsetoshiftingpoliticalwinds,partlyaresponsetofinancialincentives.ButwhilesabbaticalsattheHooverInstitutionandjobopportunitiesonWallStreetarenothingtosneezeat,thecentralcauseoftheprofession’sfailurewasthedesireforanall-encompassing,intellectuallyelegantapproachthatalsogaveeconomistsachancetoshowofftheirmathematicalprowess.

Unfortunately,thisromanticizedandsanitizedvisionoftheeconomyledmosteconomiststoignoreallthethingsthatcangowrong.Theyturnedablindeyetothelimitationsofhumanrationalitythatoftenleadtobubblesandbusts;totheproblemsofinstitutionsthatrunamok;totheimperfectionsofmarkets—especiallyfinancialmarkets—thatcancausetheeconomy’soperatingsystemtoundergosudden,unpredictablecrashes;andtothedangerscreatedwhenregulatorsdon’tbelieveinregulation.

It’smuchhardertosaywheretheeconomicsprofessiongoesfromhere.Butwhat’salmostcertainisthateconomistswillhavetolearntolivewithmessiness.Thatis,theywillhavetoacknowledgetheimportanceofirrationalandoftenunpredictablebehavior,faceuptotheoftenidiosyncraticimperfectionsofmarketsandacceptthataneleganteconomic“theoryofeverything”isalongwayoff.Inpracticalterms,thiswilltranslateintomorecautiouspolicyadvice—andare