On Orthodox Economics and Why a Broken Paradigm Prevails

We have only occasionally commented on the lively debate on the serious economics blogs on heterodoxy in economics (basically, the loyal opposition is a beleaguered minority).

However, Mark Thoma on his blog, Economist’s View, picks up and elaborates on an insight by Steve Waldman that has much larger implications. Waldman argues that neoclassical economics has become part of the organizing principles of our (meaning Western) society (note these precepts are only partially applicable in Japan, which is a socialist society masquerading as a capitalist nation).

Thus the use of the word “orthodox” is Waldman’s piece isn’t accidental. Mercantile concepts are part of the way we view the world, as much as saints and the flatness of the earth were part of the medieval construct. Similarly,Paul Krugman used the metaphor of religion when discussing the legacy of Martin Friedman.

And the fact that neoclassical economics, despite its gaping holes, is part of the modern worldview means that those who challenge it get demonized. But at least no one is burned at the stake these days.

From Thoma:

I’ve been thinking about the extent to which neoclassical economics influences how we organize society. If we have a model of how we think the economy works best, then our laws, institutions, social mores, etc. may, over time, come to increasingly reflect and support the ideals in our models. Thus, it’s possible that neoclassical economics provides an explanation for how society allocates its scarce resources, as well as an organizing principle for how to allocate these resources optimally. That is, in answer to the question in Steve’s title, neoclassical economics may be both descriptive and transformative.

I haven’t had time to think this through to the point where I am comfortable writing about it, but fortunately Steve Waldman at Interfluidity has also thought about this and takes these ideas further:

Orthodox Economics: Descriptive, or Transformative?, by Steve Waldman: Like you, dear reader, I was transfixed by last week’s lovely debate on heterodox economics. One of the subtexts of that conversation was a simple question: Why can’t we all just get along? Nearly all the heretics conceded that orthodox economics is useful and interesting. The defenders-of-the-one-true-faith generally conceded that there are deep, unresolved mismatches between fundamental tenets of mainstream economics and how people actually behave. In fact, as the orthodox-but-still-hip Dani Rodrik suggested that the usefulness of orthodox economics comes from exploring precisely how and why neoclassical fairy tales don’t come true.

But if that’s the case, it seems odd that one admittedly broken paradigm would so ruthlessly dominate the profession. … After all, there are a lot of flawed approaches to economics that we could use to help us think about what we cannot understand. Why is the neoclassical error so special…? What’s so special about one broken framework that those who choose other approaches must toil like monks under a vow of obscurity?

There are lots of possible answers, many of which were hashed over last week. But it strikes me that perhaps we are all missing the point. Perhaps orthodox economics isn’t even trying to describe how the world works. Perhaps the project is really about how the world should work. If life can imitate art, why couldn’t life imitate a model?

Here’s a famous bit from Marx:

The bourgeoisie, wherever it has got the upper hand, has put an end to all feudal, patriarchal, idyllic relations. It has pitilessly torn asunder the motley feudal ties that bound man to his “natural superiors”, and has left no other nexus between people than naked self-interest, than callous “cash payment”. It has drowned out the most heavenly ecstacies of religious fervor, of chivalrous enthusiasm, of philistine sentimentalism, in the icy water of egotistical calculation.

So, as a writer, this guy is a bit overwrought. But there is a powerful idea here. Marx does not claim that human beings are “naturally” given to egotistical calculation. Instead he claims that however “man” might have been, social change is possible that transforms him into what we now refer to as a “rational maximizer”. The assumptions of neoclassical economics are not a priori true in this view, but they can be made true.

Think about that. Mull it over. And while you do, let a photomontage play upon your inner eye. Here’s Adam Smith, with his beneficient invisible hand. Now David Ricardo is explaining why selfish nations trade, and how trade has no losers but makes everybody better off, and interdependent. Slip forward in time and admire the elegant theorems of Coase, Arrow, and Debreu. This is a happy story. This is a great story. If only Marx were right, if only human beings could become something like efficient, selfish, rational maximizers, then we can prove, prove, that we would end up with the best of all possible worlds, by a certain definition.

Viewed in this light, the vehemence of the orthodox project makes a certain sense. It is not interesting to harp on the fact that people are not as they ought to be, and therefore our theorems and models don’t accurately describe the world. We know that. We build models to make sense of the deviations, so we can correct the “market failure”, the human flaw. Our job is not to describe the world as it is, but to understand how it is different from what it ought to be, and to fix it. The “MIT Keynesians” are open to using government to remedy human error, while more traditional neoclassicals view the Leviathan as a wildcard too large and dangerous to risk. They imagine that some more decentralized process — something more like the dynamic Marx himself described — could effect the necessary transformation. Both groups agree, though, that the project is to make the hopeful logic of economics actually work in this messy and often hopeless world.

What would a “heterodox economist” have to offer here? Those weird lefties who, contra Marx, think that Homo Economicus is so unreal as to be irrelevant, who view the world through prisms of power, institution, race, caste, or gender, amount to nothing more or less than fatalists. It is not the accuracy of alternative descriptions that is at issue, but where they lead — conflict, grievance, and struggle. For heterodox economists the end of history is where it began, nature red in tooth and claw.

By the way, I write not to bury but to praise. I think Marx was right about the transformational nature of capitalism, about its capacity to hew egotistical calculators out of flesh, blood, and claw. …

But (more Marx) orthodox economics contains the seeds of its own destruction if it fails to recognize the degree of its own delusion. When Ricardo’s lovely story is not in fact working out, we should admit that to ourselves. Our goal is to create the preconditions whereby our optimistic models would actually predict. If we have failed to do that, then clinging to the behaviors that our models prescribe may lead to outcomes, um, inconsistent with general welfare. We may have to fly by the seat of our pants for a while, and then try again to get it — that is, us — right.

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