Economics is Dead. Now What do We do?

Politicians and Leaders Depend on the Experts. What if They are Wrong?

Steffen Schmidt

Politicians and policy makers depend on good, hard information. Otherwise their decisions will be as much “policy garbage out” as the “garbage in” data on which they made the decisions.

Sometimes politicians and leaders have a predisposition to do what they would like because they have a preferred direction in which they want to go regardless of facts. Thus they will look at reality through the lens of their preferred course of action. British Prime Minister Neville Chamberlain (1937 to 1940) needed to believe Hitler because it was his deep desire not to have to confront Germany or divert resources to military spending. Thus he signed the Munich Agreement in 1938, conceding the Sudetenland region of Czechoslovakia to Germany. The rest is history.

Pres. Bush and Vice President Cheney wanted to believe that Saddam Hussein had weapons of mass destruction so they filtered out information to the contrary and decided to invade Iraq.

Now lets look at the decisions leaders have to make on the economy.

In 1824 the Supreme Court strengthened the federal government's power to regulate interstate commerce with its decision in Gibbons v. Ogden, which involved the authority to license shipping. The way Trusts concentrated wealth and economic power in the hands of a few business tycoons so alarmed the American public that Congress passed the Sherman Antitrust Act in 1890. Theodore Roosevelt was elected to the presidency in 1904 on a Trust-Busting platform. President Franklin D. Roosevelt's New Deal legislation effectively made the federal government the nation's chief regulator of business and the economy.

Then starting in the 1980’s we started deregulating business big time and ignored these historical reasons why business had been regulated in the first place.

Paul Krugman writes in a recent Op Ed piece (New York Times September 2, 2009), “It’s hard to believe now, but not long ago economists were congratulating themselves over the success of their field. Last year, everything came apart. Few economists saw our current crisis coming, but this predictive failure was the least of the field’s problems. More important was the profession’s blindness to the very possibility of catastrophic failures in a market economy.”

http://www.nytimes.com/2009/09/06/magazine/06Economic-t.html

This is a serious disaster for policymakers. The problem is they now have nowhere to turn for accurate information to guide them on economic policymaking – taxing and spending to be precise. Economics has failed them and us.

And, this is not just a national or international problem. In Iowa government (and the rest of the economy) depends on three people who gaze into their statistical crystal ball and make economic forecasts. They are the Revenue Estimating Conference in the Iowa Department of Management.

“State general fund revenue estimates are generated by the Iowa Revenue Estimating Conference (REC). The REC is comprised of the Governor or their designee, the Director of the Legislative Fiscal Bureau, and a third person agreed upon by the other two members. The current membership of the REC is Charles Krogmeier; Dennis Prouty, Director of the Legislative Fiscal Bureau; and David Underwood, retired CFO and Treasurer, AADG, Inc. in Mason City, Iowa. The REC meets quarterly, generally in July, October, December, and April. The Governor and the Legislature are required to use the REC estimates in preparing the state budget.”

How accurate are their predictions?

Here is what radio Iowa reported about a readjustment of estimates on Friday, March 20, 2009.

Down, down, down: state tax revenue estimate drastically reduced

The Revenue Estimating Conference just met and the three-member panel has voted to reduce its estimate of state tax revenues for the current state budgeting year by $129.7 million. Their guess for next year has been reduced by $269.9 million. It will mean layoffs in state government according to the governor's chief of staff (who is one of the members of the Revenue Estimating Conference).

To me the operative terms in this story are “their guess.” One definition of the word “guess” is “an estimate based on little or no information.”

I guess (oops!) this could also mean that it could be “…an estimate made on the basis of malfunctioning macroeconomic models,” as Krugman would point out.

For us as Iowa farmers, professionals, business people, taxpayers, bankers, stock brokers, real estate developers, doctors, academics (especially university presidents), and so forth this failure of economics is no less a problem. We are now faced with a world in which we actually have no idea what lies ahead economically because the fundamental “wisdoms” of the economics and business professions were proven to be nothing more than fancy statistical smoke and mirrors. Ask long as the trajectory of change was incremental or decremental (i.e. slightly up or down) the models and wisdom of “the Dismal Science” held up. As soon as the future was not merely a slight adjustment of the past it all went wrong. Ask 5 economists a question and the joke goes you’ll get 6 different answers. That never happens in “real” science.

A quick read of the excellent Krugman article suggests that we desperately need to devise new ways of making fiscal and monetary policy as well as investment and regulatory decisions. With the Great Recession of 2009 the Great Discipline of Economics may also have been discredited.

Turns out they were mostly the Great Wizard of Oz and we have now peeked behind the curtain.

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©2009, Steffen Schmidt, Prof of Political Science, ISU. Reprinted with permission from syndication @ http://www.insideriowa.com, Iowa’s Internet Magazine.