Thursday, May 31, 2007

Krugman on Neo-Classical Economics

I haven't gotten into the huge debate over neo-classical economics prompted by Christopher Hayes' excellent examination of the punishing of "heresy" among neo-classicists. There's a great discussion of it going on over at TPM Cafe, though, and I'd particularly like to point out a post by your friend and mine, Paul Krugman:

I don't have time to weigh in on all the issues here, but I'd like to warn against an error I think both sides tend to fall into: assuming that you have to use heterodox economics to reach conclusions critical of free markets. As I said, both sides tend to fall into that error: the heterodoxishly-minded bash neoclassical economics because they claim that it automatically makes you a defender of capitalism red in tooth and claw, and the free-marketeers reject warnings about markets gone wrong as somehow necessarily reflecting ignorance of economic theory. It just ain't so.

Let me give two cases in point. One is the California electricity crisis of 2000-2001. Those of us who saw it as a crisis produced by market manipulation did so on the basis of pretty standard economics, maximization, equilibrium, and all. I know a lot of people ridiculed the market manipulation story, eventually confirmed by the Enron tapes, with statements that began "Economics 101 says ..." - but that just showed that they didn't know much about economics, and were confusing a set of analytical tools with an ideological mindset those tools often don't support.

The other is the effects of trade on income distribution. Anyone who thinks that neoclassical economics says that everyone gains from free trade, and that you have to reject the assumptions of the field to raise concerns, obviously doesn't know anything about the subject: ever since Stolper-Samuelson 1941 we've known that trade can easily hurt large numbers of people, so the question is always an empirical one. A dozen years ago I thought the effects were small, but that was based on the numbers, not a judgement in principle. Now I've revised my views up, because the numbers are bigger.

My point isn't that neoclassical theory can do anything. But it's perfectly possible to believe in extensive market failure, demand a lot more government intervention in the economy, while still believing that maximization-plus-equilibrium is a nifty way to think about lots of problems.
This is giving me flashbacks to the old Krugman, who was such a great defender of neo-classical trade theory against critics of all kinds, from both the left and right. I didn't always agree with him, nor do I think that all of his theories were ultimately proven, but they were well written and interesting.

Here, he's doing the same thing he was back then- pointing out that a lot of Economics' defenders don't, er, actually know that much about economics. They may be well versed in aspects of it, but a lot of the defenders are so dedicated to narrow, technical, mathematical theories that they tend to ignore the fuzzy edges of the field, where most of the really interesting stuff takes place. Many an honest economist, from my experience, is not a reflexive market worshipper. Many market worshippers aren't really honest economists either.

Then again, I think an honest economist has nothing to do with worshipping markets or not. They're someone that admits that, at the end of the day "maximization-plus-equilibrium is a nifty way to think about lots of problems." No more, and no less.

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