Whaddya Know, Economists?

Brian Doherty | October 22, 2008

Sadly, not much, says economist Arnold Kling:

I am shocked at the behavior of my fellow economists during this crisis. They are claiming to know much more than they do about causes and solutions. Rather than trying to understand and explain what is going on, they are engaged in a fierce battle over narrative.

For example, many economists breathlessly cited high short-term interest rates in interbank lending markets as an indicator of credit markets "freezing up." However, as some Minneapolis Fed economists point out, the volume of lending does not indicate such a freeze. In fact, very short-term interest rates are a ridiculously melodramatic indicator to use, because even a small increase in default probability can cause the annualized interest rates to soar. (Thanks to Alex Tabarrok for the pointer to this article.)
........

My main beef with economists is that standard macroeconomics does such a poor job of describing what is going on. The textbooks models are pretty much useless. Where in the textbooks is "liquidity preference" a demand for Treasury securities? Where in the textbooks does it say that injecting capital into banks is a policy tool?

..........

I have always thought that the issue of the relationship between financial markets and the "real economy" was really deep......But the economics profession for the past thirty years instead focused on producing stochastic calculus porn to satisfy young men's urge for mathematical masturbation.

Economists ought to admit that we do not know much about what is going on today. Neither do the Fed Chairman and the Treasury Secretary. Of course, the market demand is for "strong" leaders and for "strong" economists, who can fool the public into believing that they have great knowledge. The ones who do this best are those who have fooled themselves.

Kling talks to reason.tv about the bailout.

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Elemenope|10.22.08 @ 2:36PM|#

...the economics profession for the past thirty years instead focused on producing stochastic calculus porn to satisfy young men's urge for mathematical masturbation.

...is a quote-worthy sentence, if for no other reason than shock-value.

It's like the overt reductionist's porn to satisfy young men's urge for soundbite masturbation.

Seer|10.22.08 @ 2:39PM|#

But the economics profession for the past thirty years instead focused on producing stochastic calculus porn to satisfy young men's urge for mathematical masturbation.

Kinky

|10.22.08 @ 2:40PM|#

But DEMAND KURV!

fyodor|10.22.08 @ 2:50PM|#

I hear there's a consensus among social scientists that global financial freezing is definitely marketomorphic and must be controlled by those who control their grant money.

|10.22.08 @ 2:53PM|#

See, that's microeconomics. We can predict all sorts of things with microeconomics.

The problem is in macroeconomics. What do you do when there are 54978536 GAZILLION DEMAND KURVS!!1!11?

The profession as a whole is uncertain on this point. That's why Keynesianism isn't dead, Friedman isn't the recognized patron saint of economics, Mises isn't universally accepted as gospel, Galbraith isn't universally villified as a full of hot air, etc.

Seward|10.22.08 @ 2:57PM|#

some fed,

As I have read, the "Austrians" argue that the micro perspective is the primary mode of analysis. So the question then becomes, is switching to the macro perspective all that useful?

SIV|10.22.08 @ 2:59PM|#

OT but Wow!

As most of my net worth is in insured money market cash I've had almost a %20 return since mid-July.If only there was some way to lock it in and take profits......
Figured I'd mention that on an economics thread just to see if I am somehow wrong about my "market genius".

|10.22.08 @ 3:00PM|#

Would it be too much to ask for evidence of people actually not being able to get credit before we conclude the credit markets are freezing up. I have yet to see any expample of credit worthy companies not being able to get credit during this crisis. There is a few examples of good companies like Toyota and Catapillar having to pay a higher premium but no examples that I have seen of the credit just not being there. Further, at the consumer level credit cards and home mortgages seem more plentyful than ever. I am starting to suspect the credit markets never did freeze up.

|10.22.08 @ 3:02PM|#

As most of my net worth is in insured money market cash I've had almost a %20 return since mid-July.

Do you mean a 0.20% return?

Kyle Jordan|10.22.08 @ 3:06PM|#

I don't know if this bears on John's post or not but over the past three weeks, I've recieved 9 credit card offers in the mail. I've been keeping them around as a little experiment since credit is supposedly frozen. Doesn't seem that way from where I stand. Then again, I have to idea what I'm talking about when it comes to economics. So take my little post with a boulder of salt.

|10.22.08 @ 3:11PM|#

Kyle,

I get the same offers. I could also get a mortgage with little down and 7% interest. But alas I will have to show them my SS number and some proof of my income and there is a limit to how much I can borrow based shockingly enough on what I can afford. My God, the credit markets have completely frozen up!!

|10.22.08 @ 3:13PM|#

I'd just like to comment on the awe-inspiring accuracy of the mathematical masturbation metaphor.

|10.22.08 @ 3:25PM|#

Seward,

Switching to the macro perspective is useful when you're in a position to discuss policy (i.e. government). Laws, industrial policies, taxes, and spending effect everyone all at once and yet in different ways. How can the micro perspective accomodate this reality, where we are all individuals with our own individual wants and resources? In my judgement, the microeconomic theoretical perspective today can't scale to the world economy.

Austrians, in my experience, take this limitation to be a warning to those who would try to better us economically through top-down government (Hayek and his writing on the nature of diffuse knowledge talks about this in depth.).

On the other hand, policymakers want to "fix" the economy with top-down solutions. They do this whether or not there is any theory to back them up. I see macroeconomics as a discipline just trying to catch up with the crazy ideas deployed by policymakers.

Jerry|10.22.08 @ 3:26PM|#

The problem is that most economists who write articles in the popular media are political hacks who have to tout the party line. Another problem is the obedience towards Ben Bernanke as the master of the universe. What knowledge does he have that is not freely available?

|10.22.08 @ 3:27PM|#

There's a market for t-shirts with a clever riff on "stochastic calculus masturbation". Maybe someone funnier than me can finish this idea.

You can perform mathematical masturbation in far more than macroeconomic theory.

I know for a fact, as I was once hooked on calculus porn. Once you start seeing the world as functions and relationships you start to bullshit wildly. Everything from traffic densities on your commute to the number of products in shopping carts at a checkout line becomes seductively math-able. And how does it feel?

Fucking righteous! I think everyone needs to know calculus so they can masturbate their mind once in a while.

(this is different than stroking off, which is having a stroke. decidedly a bad thing)

Invisible Finger|10.22.08 @ 3:27PM|#

Would it be too much to ask for evidence of people actually not being able to get credit before we conclude the credit markets are freezing up.

"Freezing up" is just media panic terminology. Nothing like exaggeration to bring about good decision making.

But "high short-term interest rates" (Kling's words) ARE an indication of either shrinking supply of credit OR increasing demand for credit (or both). Interest rates are prices, and we all know enough about supply and demand to know what that does to prices.

|10.22.08 @ 3:30PM|#

stochastic calculus masturbation

Oh yes. Anything involving that many big words could easily destabilise time.

Steven Horwitz|10.22.08 @ 3:31PM|#

Austrian macroeconomics is alive and well. I would point to my own 2000 book as well as one by Roger Garrison for those who are interested. You can also visit Roger's webpage for some powerpoints that explain what Austrian macro might look like.

Austrians have also been writing about the current crisis. Two contributions of mine are here and here.

|10.22.08 @ 3:33PM|#

Jerry,

For one, Bernanke knows what he's going to do next. I don't think much anyone outside of the Fed or Treasury know that right now.

Seriously, one of the big assumptions in the dominant theory of monetary policy is that the Fed has to stay ahead of the rest of us in order to control our expectations of inflation. If you know what the Fed ius going to do, Federal Reserve policy becomes (in their own assessment) ineffective.

SIV|10.22.08 @ 3:35PM|#

No %20. I saw the US dollar is up more than %17 since July 15th.Of course my return in dollars isn't %20.

|10.22.08 @ 3:43PM|#

Thanks for the links, Professor Horwitz.

Professor Horwitz is a far better resource for this discussion than I. I'll just be quiet now.

|10.22.08 @ 3:48PM|#

But the economics profession for the past thirty years instead focused on producing stochastic calculus porn to satisfy young men's urge for mathematical masturbation.

WHAT?! Goddamnit! Why did no one tell me about this? I'm an old man now, but I still get off on calculus porn. But my fetish is more Linear Systems and Control Algorithms.

The people I know that pay attention to stochastic graphs don't have the first clue as to how they are calculated, so neither do I. Therefore I don't pay attention to them. Now Kling (heh heh Kling) tells me they're sexy.

Jerry|10.22.08 @ 3:48PM|#

phalkor, anyone who uses stochastic calculus to solve problems in the social realm should read a philosophy book instead.

Lefiti|10.22.08 @ 3:50PM|#

The lack of scientific precision in economics shouldn't discourage anybody from formulating a dogmatic ideology based on economic assumptions.

|10.22.08 @ 3:57PM|#

Economists ought to admit that we do not know much about what is going on today. Neither do the Fed Chairman and the Treasury Secretary. Of course, the market demand is for "strong" leaders and for "strong" economists, who can fool the public into believing that they have great knowledge. The ones who do this best are those who have fooled themselves.

I'd just like to be the first to say that this is how a lot of things work - not always, but a lot of the time.
Those who have fooled themselves into thinking they know everything about a subject are the first to speak, and often, the loudest. They are also very good at fooling everyone else into thinking they know what they're talking about, since everyone else has doubts and thinks their knowledge has limitations. Since we, ourselves, don't like to think that our knowledge and abilities have limitations, we give this benefit of the doubt to those in other fields. Then we can walk around thinking we're a bunch of experts and jack each other off (to keep with the metaphors in play here).

|10.22.08 @ 4:05PM|#

But "high short-term interest rates" (Kling's words) ARE an indication of either shrinking supply of credit OR increasing demand for credit (or both)."

Very true. But a bump in short term interest rates (the short term cost of money) is a lot different than credit markets freezing up. Credit markets did freeze up in the 1930s. But that was in part due to deflation. Why lend when the value of your money goes up anyway? But when they did freeze up, no one got credit. It was very extreme and obvious to anyone on the ground. It was a lot more than just higher interest rates.

To continue from my last comment, this is where people get the idea that experts don't know anything, when you would correctly be able to say "experts they interview on TV don't know anything."

Who here remembers all the "experts" who were quoted back when gas was above $4 a gallon who said that we were never going to see anything below $4 a gallon ever again.

People crave these certain predictions from self-proclaimed experts who studied at highly respected universities (not a good indication of intelligence, btw). They hear it on the news and then tell all the people in their offices about it, and then when gas drops below $3 a gallon, they think "well, that guy was an expert and even he didn't know what was going to happen to gas prices - people who are educated in ______ really must not know anything."

Troll Bane|10.22.08 @ 4:07PM|#

The lack of any argument beyond hyperventilating hysteria shouldn't discourage anybody from trolling this website.

|10.22.08 @ 4:09PM|#

Warren,

Calculus porn is just a gayway drug to the really heavy linear alegbra porn. Most of that stuff is on little known contraband user groups.

Brandybuck|10.22.08 @ 4:26PM|#

As I have read, the "Austrians" argue that the micro perspective is the primary mode of analysis. So the question then becomes, is switching to the macro perspective all that useful?

Macroeconomics is just the process of simplifying complexity down to just a tiny and wholly meaningless formula. Presumably for the purpose of mathematical masturbation. There are profound sounding terms that you will hear uttered only in macroeconomics classes, just as there are trippy saxophone riffs you will only hear played in porn jazz.

|10.22.08 @ 4:29PM|#

I am not an Austrian but the older I get the more I find the basic concepts of micro economics go a long way to explain macro trends. I also find that the more someone relies on macro theory the more likly they are arguing for something that goes against both common sense and micro principles.

Chuck|10.22.08 @ 4:41PM|#

df(X_t)=f'(X_t)dM_t+f'(X_t)dB_t+1/2 f''(X_t)d_t

Excuse me, I'll be in my bunk.

Jerry|10.22.08 @ 4:42PM|#

There are profound sounding terms that you will hear uttered only in macroeconomics classes, just as there are trippy saxophone riffs you will only hear played in porn jazz.

But those porn jazz riffs are at least logical at times.

Kolohe|10.22.08 @ 4:43PM|#

Now Kling (heh heh Kling) tells me they're sexy.

Actually, I think Kling is saying they're like 20 year old girls with daddy issues and a possible meth habit.

Invisible Finger|10.22.08 @ 5:26PM|#

Credit markets did freeze up in the 1930s. But that was in part due to deflation.

Or vice versa.

An Austrian would tell you money supply = cash + credit. When credit shrinks, money supply shrinks.

Jayne|10.22.08 @ 7:27PM|#

But the economics profession for the past thirty years instead focused on producing stochastic calculus porn to satisfy young men's urge for mathematical masturbation.

I'll be in the computer cluster.

|10.22.08 @ 8:03PM|#

I'm not a professional economist. I am a peaceful anarchist (amateur). Therefore I can say, without fear of contradiction, it is the gummint which got us into this.
Corollary: more gummint will not expedite getting us out. Duh.

One of the beauties of anarchy is that it provides "work arounds."

|10.22.08 @ 8:08PM|#

But the economics profession for the past thirty years instead focused on producing stochastic calculus porn to satisfy young men's urge for mathematical masturbation.

Which is why I turned my back on a graduate education in economics.

And I predict that this will be the most quoted sentence in the blogosophere for at least a month.

Not Brian Greene|10.22.08 @ 9:48PM|#

you could also say the same urge for mathematical masturbation applies to string theory.

|10.22.08 @ 11:04PM|#

Personally, I enjoyed the fact that the linked Fed report, saying these are not End Times, is numbered 666.

|10.22.08 @ 11:45PM|#

Mark Thoma and other economists have issues with this paper.

Ebeneezer Scrooge|10.22.08 @ 11:52PM|#

I am starting to suspect the credit markets never did freeze up.

Me too. Er, I also. Ah so.

The problem ain't the lack of credit. The problem is that nobody is buying things, and most especially houses. Because houses are over priced.

As I said before, we could solve our whole problem if the banks would simply stop loaning dollars, and start loaning foreclosed houses.

Ebeneezer Scrooge|10.22.08 @ 11:56PM|#

f(X_t)=?

C'mon. Everybody knows you can't get off if you don't have the BC's and IC's. So spill it.

You vill spill it. Vee have vays of making you babble.

Amakudari|10.23.08 @ 12:29AM|#

I always thought the Wiener process/Brownian motion sounded kinda kinky. Good to know some people are into that.

Ebeneezer Scrooge|10.23.08 @ 2:25AM|#

Steve Horwitz,

Microfoundations and Macroeconomics: An Austrian Perspective (Foundations of the Market Economy Series) (Hardcover)

Wow. It's only $200.00. Or just think, I could buy one used for a mere $159.95!

Sorry but my own personal economy is already depressed.

|10.23.08 @ 3:32AM|#

I've been thinking about derivatives and collateralized debt obligations.

Yes, I know it's wrong.

Anyway, the narrative that the left is following is that these complex derivates and debt swaps are responsible for the contagion. Meaning that instead of taking down just one bank, they managed to take down all the banks that were interlinked via these instruments, because the risk was spread out over so many buyers.

But isn't that the *point* of derivatives and credit default swaps and so forth? They are *designed* to spread out risk.
In which case the problem isn't the CDOs and derivatives, but with the sheer size of the housing bubble. That is, it was big enough to take down everyone that the risk was spread over.

One could argue that if risk hadn't been dispersed in this way, the banks doing this stuff would have imploded sooner, preventing it from getting that big. Instead the risk was so diffused throughout the world market that the institutions making the bad loans were protected from the consequences of their policies for an extended period of time.

But if you think of it in that way, then the CDOs and derivatives aren't the issue. They were doing exactly what they were supposed to do - spread out risk. The issue is lack of transparency - the buyers not being able to tell what kind of risks were being spread to them, along with risky lending practices that were explicitly encouraged by government intervention.

In other words the CDOs and derivatives act like a kind of sprinkler system, distributing risk over the entire market. They can sprinkle water or fertilizer or poison. It all depends on what you put in the pipeline. What's going on is more like the government put poison into the hose and now they want to blame the sprinker cause the sprinkler sent it over the whole lawn.

|10.23.08 @ 3:39AM|#

Amended to add ...

Continuing the sprinkler analogy. The people buying the CDOs didn't know they were buying poison cause the monitor on the hose was busted (rating agencies asleep). They thought they were getting water.

Again, it's still basically one party putting poison in the water and then blaming the distribution system for allowing so many people to drink it.

At worst they can point at the ratings agencies and say "Hey, I shouldn't have been ABLE to put in the poison, the system should have STOPPED me!"

|10.23.08 @ 11:14AM|#

Calculus porn is just a gayway drug

Speaking of RC'z Law . . . .

|10.23.08 @ 12:28PM|#

What's sad is that the people who are demanding that we DO SOMETHING NOW to "fix" the problem know far, far less than the economists who are overestimating their insight. And yet they're completely convinced that doing literally anything is better than doing nothing. And no one has a real reason for it. That's some expensive and wasteful thinking. But that never stopped congress before, so why would it now?

|10.23.08 @ 1:01PM|#

MOAR ECHRONIC CRACK PRON PLEEZ!

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