Thursday, July 23, 2009

What Went Wrong With Economics

This particular article on the Economist caught my attention. It is about “what went wrong with Economics” and how the discipline should change to avoid the mistakes of the past (yeah! Right).

Well the author rightly points out that like the housing bubble, the economics bubble has also burst and has severely tarnished the reputation of Economics, particularly Macroeconomics. Like the author of this article, I also want to defend Economics, before we collectively rip it apart :-)

Frankly, I think Economics is one subject from which people have a lot of expectations. People expect it to be that magical something that can fix-it-all when it comes to markets. That is so wrong. Despite the use of so called scientific stuff like calculus, Economics is essentially a social science which can only study rational human behaviour.

Therefore, I have only one point in defence of my dear subject – that instead of blaming Economics we need to understand that Economics can only study rational behaviour and not whimsical transactions that people indulge in all day long. Unfortunately, people are not as smart as Economics assumes them to be.

I invest in an x-y-z stock not because I know about markets or that stock; but because I believe, on the basis of what I have heard, that this stock will do good. I go on spreading this word to others who do the same. And when this stock crashes I blame economics for my woes. Hello! Economics asks me to be rational, to judge things on the basis of information and not word of mouth.

This is exactly what happened with the current crisis. Despite living in the information era, hardly any investor cares to collect information.

Leave alone the capital market, even if it comes to our basic savings, we care a damn about where we are putting our money. We blindly go and put our money in some bank on the basis of some kaccha-pakka information. How many of us care to go through the balance sheet and portfolio of the bank where we put our money? How many people in the UK cared to know about the investments of the banks of Ireland, before putting their money in it? If it paid more interest than other banks, at least some one should have cared to understand its investments. Even the great Oxford university didn’t bother and lost 30 million pounds because of the foolish investment.

Any theoretical model of Economics flows from the underlining assumption that 'people know', when in reality 'people don’t know and people don’t care'! No science can study irrationality other than astrology, perhaps. So pappus of the world - its not Economics, but lack of common sense, irrationality & laziness that has doomed us.


Thyagu said...

Not much of an economist, but I do have my share of criticism for the economists for not reacting pro-actively to the global slowdown. While I do see there are lot of articles written by eminent economists on what went wrong, I don't see anybody giving a proper suggestion on how to improve the situation. They do keep criticizing Obama's mistakes with his economic policies though.

BTW, I love this quote on markets though..

“One of the funny things about the stock market is that every time one person buys, another sells, and both think they are astute.”

Sugandha said...

Point taken, but the deal is that Economics is a young and evolving discipline.. Most Economists cannot yet even figure out the problem,leave alone proposing a solution... we need to give the subject a little more time to develop :)

Sameer said...

I agree with you. Read this:

Financial Literacy is the need of the hour. There is consensus
among policymakers and educators, that the country's lack of financial literacy & knowledge is one cause of its current economic problems.

Prat Mitt said...

m not much of an economics guy but trying to read microeconomics recently...
[macroeco next trimester ;) ]

but from people like you who knows in n out of eco, please do publish Decoupling Economic Rational Behavior and Real Rational Behavior.

What m trying to say is this: I buy a movie ticket, loose it so but another one (1st is sunk cost) and then when I find movie boring, I should leave the theater in next 15 mins...simply to be labelled as RATIONAL!!!!

chinfuilan said...

I got hold of the article rather accidentally and was attracted by it. Somehow, it was then put aside due to some preoccupation but it keeps returning and flashing to me like owl’s-carrying-letters sent in to Harry Potter, demanding my involvement to perhaps save the world. Yes, the world is in big trouble and economists can’t help due to perhaps lack of genes and consequentially severe loss of sights.

“What went wrong with economics” is: Economics lacks at least one fundamental foundation. Installing this fundamental will elevate Economics to another platform.

What is this fundamental? It is something that sciences cling on tightly, but economics does not. So, economics has departed from this fundamental, perhaps unconsciously.

What is it then? It is the Fundamental Axiom or Law of Causality, simply means: Cause gives rise to Effect, In = Out, Debit = Credit, a Source for every Outcome, etc which are common senses or self-evident truths.

Tell us in what way the Economics runs away from this fundamental? If you ask: You win, I win, everyone wins, who then is the loser or provider of wealth? Most of economists will tell you that there is no loser. The Economics textbooks also say so. But it cannot be no loser, as it violates the fundamental Law of Causality. So, we must insist for the presence of loser, as dictated by the Fundamental Law of Causality.

On this insistence, one great researcher by the name of HNM had successfully uncovered the identity of the loser and the mask of wealth after an effort of several decades. Needless to say, he has restored the Fundamental Law of Causality back to the economics and make it a strong and real science. Using his new theory, all events in the past or present could be explained with ease, and that it could predict and even provide future policies and directions for our world.

If you are really interested to find out more, please write to me via my email:

Nagendra said...

Just wondering: If the cause of failure for theories is the irrationality in human behaviour and economists have figured it out, why cant this be factored in the new emerging theories? Why do economists go on making the same assumption?