Economists behaving badly: why individual behaviour is not to blame for the recession

27 05 2009

Bromley illustrationsLast week I attended a meeting with Robert Shiller, a behavioural economist and author of Animal Spirits.  As I have discussed previously, behavioural economics is becoming increasingly influential, particularly as an explanation for the recession and how to get out of it.  Essentially Shiller and others are offering psychological reasons for why people make apparently irrational decisions in the economic sphere.

Shiller’s argument last week boiled down to saying that the recession was caused by lack of confidence, an extension of FD Roosevelt’s proclamation during the 1930s depression that ‘all we have to fear is fear itself”. If you listen to the podcast you will see that in response to  questioning from  Richard Sedley and myself, Shiller is quick to concede that psychology cannot explain everything.

Two reasons why behavioural economics is on the rise

In the current climate of economic and political meltdown however, behavioural economics does not have to be a coherent theory of everything in order to be important. It is becoming increasingly influential because it plays a dual role in the current period of turbulence:

1)  it allows us to feel that it was the mistakes of the greedy bankers, driven by over confidence and corrupted by easy money that caused the recession. In that sense it takes away the necessity to think through what really caused the recession and the underlying political and economic problems that need to be resolved.

2)  if we are irrational beings as Shiller and others suggest, then the State is justified in stepping in to protect us from ourselves. Behavioural economics becomes another reason why the State needs to intervene more, not less, in all aspects of life.

This is why behavioural economics has been taken up by the Obama administration, the British Conservatives and people in New Labour. They are all looking for an explanation, any explanation, so that they can avoid tackling the really hard issues.



3 responses

28 05 2009

Being fair to Shiller, he does not in his book ever say that psychology explains everything in terms of the recession. He is more concerned to explain how volatility in markets (and boom and busts) are exaggerated by psychological explanations that are not included in efficient market theories. His work on indices of long term data has shown how far we can drift from long term rational trends before a bust brings us back to reality. The reference to FDR is really to make a point that we can in fact, through commonly accepted stories, talk ourselves irrationally in to over reacting to a downturn or (as at present) get over optimistic that we are over the worst. Nothing within efficient markets theory can explain the last six months of stock market activity.

1 06 2009

What is the point that you’re trying to make?

You offer no evidence against Shiller (and others’) basic argument – that people behave irrationally and this can have a significant impact on the economy overall. Instead, you simply accuse him and others of, at best, running away from the “real” problem and, at worst, executing some insidious plot to gain public support for liberal policies and government intervention.

If you’re going to criticize, please do away with the dogma.

12 04 2010
Ten questions to ask your candidates about the UK economy « UK After The Recession

[…] What do you see as the cause of the economic the crisis, greedy bankers, greedy people or the over reliance on the finance […]

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