John Kay assures us, in an article in the FT this morning, that Alan Greenspan has argued in his new book The Map and the Territory that:
Most of our intuitive insights, when subject to the discipline of a syllogism, apparently do conform to reality.
As John Kay puts it:
Despite everything, [Greenspan] clings to the notion that valid economic policy conclusions can be deduced from a priori axioms about the nature of the economic world.
And there, in a nutshell, John Kay has summarised why we are still in an economic mess. The syllogism that underpins neoclassical economics (and in turn much of neoliberal and neoliberal economics) is firstly that people are always and only self interested (the major premise) and secondly are rational (the minor premise( form which it follows that they maximise their well-being. This is the foundation of the logic of most prevailing economic thought and almost all econometrics.
There are, however, three faults with this a priori thinking. People are a long way from being solely self interested. Secondly they are not rational. And thirdly, as a result, they probably never maximise, although they do undoubtedly compete (which is a very long way from being the same thing, as first noted (I think) be Thorstein Veblen.
This has profound consequences. When models are built on the basis of behaviour that does not exist, giving rise to policy recommendations that conflict with the reality of the human condition then stress happens.
And that's exactly what is going on now.
If you want a better syllogism this is it: firstly, people want to live harmoniously in community whilst, secondly, wanting to achieve for themselves and those they care for and so thirdly they seek to fulfil as much of their potential as is possible within the constraints imposed upon them.
That's the logic of The Courageous State. The result is a very different view of economics.
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“People are a long way from being solely self interested. Secondly they are not rational. And thirdly, as a result, they probably never maximise…”
Perhaps it would be more accurate to say that the majority of people are not like this, but that if you build a system around those assumptions it will inherently favour those who do have those characteristics (and therefore encourage and reward much of what is worst in human behaviour).
I do not think anyone has these characteristics
Isn’t it the basic principle behind arbitrage based hedge funds? Or are you saying that they do not exist, or somehow are not market participants?
Hang on, hedge funds are a particular type of trading mechanism. As far as I know they are not any indication of the true nature of human psychology. Are you saying they are?
OK, look at it another way. Why do you think price comparison websites exist and thrive? Surely they simply allow people to delegate their role in the efficient market hypothesis to a website.
I am not saying that this is human psychology. What I am saying is that it can and often is the psychology that is manifested in market behaviour (e.g. by global procurement departments in multi-nationals, users of price comparison websites, hedge funds, stock market investors etc).
You entirely miss the point.
You will note that I said that people compete, because they do. That is part of seeking best outcomes. But that is fundamentally different from maximising
The logic of price comparison websites is that people want to do better than others. This does appear to be an innate human trait, but that is very different from maximising. Doing just a bit better than your neighbours has nothing to do with getting the best possible outcome: it is simply about winning the race. But, for example, put an Olympic athlete in a school race and they hardly have to break a sweat to win which is all they are likely to be required to do. Competition, therefore, is not the same as achieving a peak performance: it is just beating the rest. But just beating the rest is not an unconditionable variable: it is entirely dependent upon who the competition is, but that makes it virtually impossible to consistently model for econometric purposes. As a result, economists have substituted a condition of maximisation which is something entirely different. That would require a person buying insurance, for example, to always secure the lowest possible price, rather than simply securing the best price amongst those that appear to be available, which is something quite different.
The point is a simple but important one: competition and maximisation are not the same thing. Indeed, if people compete they will rarely maximise, because they only have to be the best to win and that does not demand the best of them, it merely requires that they be better than someone else, which again is not the same thing.
‘The logic of price comparison websites is that people want to do better than others’ I wouldn’t accept that this sort of thing is ‘innate’, Richard. I think you are being to influenced here by dodgy evolutionary psychology. Most of the ‘keeping up with or overtaking the Jones’s’ is cultural and there is much anthropological evidence to show that this is by no means innate.
In the case of price comparison, surely, the main reason for many is keeping food on the table and a roof over your head! In the case of my wealthy M.P. , who claims for everything (bar snacks, sandwiches and even a claim for 5p) then you are dealing with socio- pathology of a profound nature.
Simon
I am being influenced by Thorstein Veblen
I do think there is amongst many a desire to do comparatively better
Almost all advertising works on this logic
And yes, evolutionary psychology buys the idea
But it certainly does not conflict with cooperation either: I do think there is a lot more to this than maximisation
Sure, it’s not perfect, but it’s better
What do you think is the logic?
Richard
I agree, Richard, I was just saying that I think it is more cultural than innate-the danger of the argument by innateness is that we start to think we are ‘hard wired’ in this way – a significant prop in the neo-lib armoury.
But the neo-lib argument is quite inconsistent with what I am saying: it argues for the individual, and I am arguing for society
I understand that, Richard- however, the notion that ‘people wanting to do better than others is innate’ IS fundamentally neo-liberal . In my view it would be better to say: There is an innate need for people to feel useful, wanted and needed by their communities. Having to feel better off than others is largely cultural and highly irrational as it involves wastage and the creation of much that is not needed. A buddhist monk or Quaker (living with frugality and simplicity) would not be following this path unless you consider their choices a form of ‘betterment’. It is culture/human nature confusion.
Then I am a bad Quaker
But I do discern such behaviour amongst Quakers
Some seek to be simpler than others
According to Daniel Kahneman (Economics Nobel laureate 2002) our reliance on intuition is deeply flawed when used inappropriately. Yet Greenspan thinks intuition has syllogistic rigour?
Take a look at the following argument:
All roses are flowers,
Some flowers fade quickly,
Therefore, some roses fade quickly.
When undergraduates at American Universities including top tier schools were asked whether or not this was a logical argument, many said it was. System 1 often takes this task on and reports that it is indeed a logical statement. After all, if roses are flowers, and some flowers fade quickly, then of course some of those roses fade quickly too.
However if given a few seconds, System 2 would quickly see through the gaps in this argument and realize that it is entirely possible for some flowers to fade quickly and for none of those to be roses. System 2 passed its task on to System 1 because the task seemed simple and routine. The result is the wrong answer from otherwise very intelligent people! (Taken from: http://decision.io/blog/how-we-think-about-decisions-the-fast-slow-and-the-lazy/)
When Greenspan’s economic assumptions and philosophy are stripped away, he was left with one policy: keep interest rates as low as possible for as long as possible, and flood the economy with money. Regardless of his assumptions and philosophy, that proved to be absolutely disastrous.
I have absolutely no problem with long-term low interest rates: they are at the core of what Keynes said was the source of true economic prosperity
The real problem was that Greenspan combined low interest rates with an absolute absence of regulation, including capital controls, and that is what proved to be disastrous
His policies seem to have supported stock market maximisation!
Your description of neoclassical economics is a bit of a caricature – few economists think the world really works like this. Paul Krugman has a nice piece setting out his approach, and the difficulty faced by those who want to reject the standard neoclassical assumptions (see http://krugman.blogs.nytimes.com/2012/08/28/neo-fights-slightly-wonkish-and-vague/ ).
And that’s why Krugman is also wrong
Like many neo-Keynesians
Richard- could you explain why you feel Krugman wrong , on the face of it, he seems to challenge the notion of maximalisation as you do and the idea that the ‘Map is not the territory.’? I thought you would be Keynsian (Fiscal stimuli) to an extent -perhaps I’m confused. I have no view on krugman, I’m just interested to hear yours!
It is in the ‘adaptation’ that get gosh wrong
You can’t make something fundamentally flawed right by adapting it
“And that’s why Krugman is also wrong”
And I suppose you are right then?
If you say so
Excuse me for butting into a technical argument, but some see comparison websites as just consumer manipulation. Is there any justification for this view?
Comparison websites are a response to total market confusion. The common denominator are sectors (eg travel, insurance) that have a plethora of similar options with little opportunity for the consumer to determine what is froth and what is real benefit. Add into this a sneaking suspicion that there are deals out there that will save significant amounts but only available to those ‘in the know’. The result is that the consumer is looking for something to do the sifting for them – hence their attraction.
It remains to be seen whether their attraction will continue to grow as the lid is lifted that they do not cover the whole market and that there may be better/cheaper deals not covered by the sites.
There has been some discussion in online marketing circles about how the sites are breeding a strata of continually disloyal customers who hop from supplier to supplier to snatch the best deal at that time. The result is that customers from these sources are the least profitable as they incur all the acquisition costs but deliver far less of the more profitable renewal business.
In these markets consumer manipulation in terms of an imbalance of knowledge between supplier and customer is nothing new – it is just that the internet has speeded up the process.
Their is barely one example of neoliberal economics working. There are plenty of examples of neoliberal economics making things far worse.
Japan became successful subsidising its industries, as did the US and Britain before them. China is another example of protectionism, subsidy and a great deal of spending to invest in the real economy produces really solid economic results.
Those that have tended to do the exact opposite of neoliberal, “let-the-market-rule” supply side economics have usually been the most successful.
Neoliberal economics IS rather successful in one regard: it makes rich people even richer.
Invest a quarter of the £375 billion spent to prop up insolvent banks and invest it in housing, infrastructure, manufacturing. Take PFI debt, mortgage debt and industrial debt onto the government’s books, swap it for cash that will mostly get re-invested into the real economy instead of into bank reserve accounts or rich bond holders.
Spending and investing has always been the way to a successful economy almost without exception.
Neoliberalism is junk economics.
£375bn of QE was NOT “spent to prop up insolvent banks” – you have a fundamentally flawed understanding.
I think you may need to read what the BoE has said on this issue
I think you are wrong
T.I.T.
I suppose we could look at the National Audit Office report
http://www.nao.org.uk/highlights/taxpayer-support-for-uk-banks-faqs/
“The total current level of support provided to banks has fallen significantly from its peak level. This is because the sector wide support schemes have been withdrawn; some of the guaranteed debts and assets in the schemes have matured and been repaid; some guarantees to bank depositors and wholesale funders have been removed; and banks have started to repay some of the Treasury loans.Our most recent estimate of the outstanding support is set out in the C&AG’s Report on HM Treasury’s 2012-13 Resource Accounts.
Total outstanding support as at 31 March 2013 (£bn)
Guarantee commitments 26
Cash outlay 115
Total support 141
Furthermore, the Treasury retains the unquantifiable ultimate risk of supporting banks should they threaten the stability of the overall financial system again.”
The last part is worrying……
and
“The income generated by fees and interest is less than would be expected from a normal market investment and has not compensated the taxpayer for the degree of risk accepted by taxpayers in providing the support. Once the opportunity cost and risks are factored in, the schemes have represented a transfer of at least £5 billion from taxpayers to the financial sector. This does not include the cost of holding the shares which have not paid a dividend or seen a capital gain. Further details are set out in Figure 8 of the C&AG’s Report on HM Treasury’s 2012-13 Resource Accounts.
The fees and interest were generally set with a view of what the recipient banks could afford at the time, in keeping with the schemes’ aims for financial stability. The £5 billion can be regarded as part of the cost of preserving financial stability in the crisis, and as I reported in 2009, had the support not been provided, the potential costs would have been difficult to envision.”
The state was therefore over a barrel….
Oh…then please do enlighten me! Could you tell me what the condition of the banks would be without QE? It was supposed to provide the banks with enough liquidity to lend. This plainly hasn’t happened.
If the government had not propped up the banks with loan guarantees and swapped their bad debts for QE money, the banking industry would have sank under the weight of its own debts.
Interesting that you only pick one sentence out of everything else I’ve written, isn’t it?
Guardian article:
“The Treasury has pledged to spend £1.2 trillion on the bail-out since the crisis began. But the real outlay has been much smaller. By March it was committed to spending £456.33bn: £123.93bn in loan or share purchases, which required an actual cash injection from the government to the banks, and £332.4bn in guarantees and liabilities. It costs taxpayers up to £5bn a year just to service the loan that the crisis incurred.”
How much of this is part of QE (which has been shown to have made the rich richer by £80,000 a year http://issuu.com/positivemoney/docs/sovereign-money-final-web page 13)I don’t know. The banks are still considered ‘insolvent’ by many. It seems clear that bank bailouts have not fundamentally helped the real economy -so the whole project has been a an exercise in neo-feudalism -in THAT respect it has been a success.
Greenspan in his own words still won’t face reality… he clings to his myopic view of the world and insists that reality should confirm to insights based on “voodoo economics”
Please everyone, read “Predictably Irrational”, “The Upside of Irrationality” and “The Honest Truth about Dishonesty” by Dan Ariely an Isreali/American experimental Cognitive Psychologist. I believe his work can give an insight into the dangerous beliefs of those who think people are “ecomomically rational” (Greenspan et al).