Monday, August 17, 2009

Economists and the Queen, again

Another missive from the economics profession to the Queen - I bet she's regretting ever having raised the issue.

In my view this version - put together by Geoffrey Hodgson, editor of the Journal of Institutional Economics - gets it right. The letter complains that 'economists has become largely transformed into a branch of applied mathematics, with little contact with the real world' and that economists missed the credit crunch because of 'the preference for mathematical technique over real-world substance (which) diverted many economists from looking at the whole picture'.

The letter pinpoints the questionable assumptions upon which economic models are mostly based - the rationality of most human behaviour, and the tendency of markets to operate efficiently - as the reason for mathematical modelling mostly missing the point. These are not, of course, new criticisms, but the fact remains that there are powerful ones, and that the mainstream economics taught in prestigious institutions tends pretty much to ignore them.

Unfortunately, a chunk of political science has been heading the same way in recent years, even though if anything the rationality assumption is even less likely to explain things in the political world. Of course, we don't have much to brag about either. Just like the economists missed an $8 trillion housing bubble, political scientists have failed to anticipate a host of big events, such as the collapse of Soviet communism or the ability of Islamist militants to launch a successful attack on the United States. But the lesson of economics is that most of the time mathematization is unlikely to improve our understanding of the world, especially if it is based on the crude assumptions of rational choice theory, whose empirical failings were beautifully documented 15 years ago by Green and Shapiro's Pathologies of Rational Choice Theory.

Pathologies was ignored by rat choice political scientists, who have continued down the economists' path of ever more elaborate formal models and ever more advanced statistical techniques. But the poverty of the basic formal reasoning (over-simplification and weak conceptualization) and the lack of good data on political phenomena (small samples, biased or unreliable data sources) leaves us pretty much where we were in 1994. Until I get a coherent rat choice story about why most people vote in Western democracies - ie a solution to the "voter's paradox" - I'm going to stick to inductive theorizing, the source of just about everything useful that poli sci has to offer.

Tuesday, August 4, 2009

Nobody likes a smartipants

To avoid getting bored while running (yes, running is boring), I listen to MP3s of public lectures held at LSE. Sad, I know. So I was on the road, listening to Tim Harford's lecture 'The Undercover Economist' from a few months back. And I was struck by something.

While, a few things actually. A story about Gary Becker, for a start. Gary Becker, Harford recounts, is the kind of man who puts his theories into practice. His rational theory of crime, for example, informs his choosing to park his car in a 30 minutes space when lunching with Harford, on the basis that it was unlikely he would get caught for going over time. If a wealthy man like Gary Becker sits and thinks about how to save a few dollars by parking illegally, I think we must be relieved that most people don't behave like Becker. Of course, in societies where the rule of law roughly holds, most people don't. And that means that Becker is basically wrong in invoking rational choice calculus as the reason for variation in criminal and other kinds of misbehaviour. A neat paper by Fisman and Miguel (click here) proves the point empirically - diplomatic staff in New York have varying propensities to incur parking fines (which, enjoying immunity, they don't have to pay) depending on their nationality. Russians get more fines than Danes, for instance. Same incentives, different cultures, different behaviour.

Anyway, on a less scholarly note, I was struck by how often Harford used words like 'smart' and 'clever', mostly to describe fellow economists and the things they do. This immediately set me thinking of the letter recently sent to the Queen by some of the UK's best known economists which cited 'a failure of the collective imagination of many bright people' (see here) as a cause of the financial meltdown of 2007-8. Now, no-one is doubting that these people are bright. But none of them really understood what was happening in the economy, and were therefore unable to advise politicians on how to avert disaster.

Are economists more worried about being smart than about understanding the way the world works? As a non-mathematical political scientist, I would have every incentive to believe this - maybe I'm not that 'smart', but I might still understand things better, despite my mathematical limitations. But even very smart economists - the smartest ones perhaps - seem to believe this too. Nobel laureate Paul Krugman, for instance, once described the rational expectations movement in economics as something that offered smart young economics graduates the opportunity to show quite how smart they were. He's reading a lot of poli sci these days.

My own humble view is that a very simple model, in which the main explanatory variable is the number of peak-time property shows on TV, works pretty well in explaining recent crises. Or to be less frivolous, 10-15% growth in real prices of residential property with no significant underlying change in its use is obviously unsustainable after the first couple of years. Don't need to be very clever to understand that.