How To Fix The Economy

[Fuchs]

The tool for this is called preferences; people need to somehow express their preferences for/against the side effects in monetary terms and then economists have the tools to factor them in. Everybody can make a gut decision about the severity of side effects, but economists are the professionals who at least attempt to do this empirically.

They're kinda waiting for progress of philosophy and psychology here because these areas of research so far fail to be helpful enough.


Nevertheless; an example: Economists know three kinds of "best" tax systems. The "first best" requires so much information that only god could do it. The "second-best" is still impractical. The "third best" is what economists seek; it's at least meant to minimise the net damage of externalities.

Some taxes have huge side effects (income tax was estimated at up to 30% additional costs for the society in an American study during the 90's), while others have only negligible side effects (such as coffee tax, a tax that requires almost no effort because at one stage coffee is in a bottleneck and very easily taxed).
The idea is to balance the taxes so that the side effects in % are roughly the same.
This needs to be seen in context of pigou taxes and political intentions (such as fairness), of course.

[Entropy]

Dayuhan,

Plate tectonics, as a theory, is well enough established that almost all geologists subscribe to it. Same with evolution and biologists. Economics, on the other hand, seems to be a neverending series of fads. There isn't a dominant theoretical framework that most economists subscribe to, although many economists are strongly partisan regarding whatever theory they personally subscribe to (Keynes, Chicago, Austrian, etc.).

This is a problem for two reasons. First, the track record for any of these theories in terms of predictive ability is pretty poor. Secondly, policymakers and the general public are constantly getting conflicting advice about what to do to about economic problems by proponents of the various schools. Who is right? Who should be listened to?

I should add that this problem isn't just about prediction - it's also about understanding what's already happened. There isn't even agreement on historical cause and effect between proponents of the various economic theories.

[Fuchs]

The differences between the economic science "schools" are not that stark. Instead, the difference is often merely about the value of some key variables - and that uncertainty is the result of difficult observation of said variables in limited datasets.

It's like geologists agreeing on tectonics, but not being sure about the drift speed or even drift direction.


The key difference between Keynesians and others is for example almost entirely about the value of a single multiplication variable'; is it larger than one or not? Studies yielded conflicting results.
http://en.wikipedia.org/wiki/Spendin...timated_values

The different economic schools are not so much incompatible in their formulas as in their assumptions.

[GPaulus]

Dayuhan,

Plate tectonics, as a theory, is well enough established that almost all geologists subscribe to it.

I think we are too quick to accept a theory when it passes our paradigm test but as Aristotle has so wonderfully explained, "It is the mark of an educated mind to be able to entertain a thought without accepting it."

We are a long way from proving plate techtonics just as we are a long way from accepting all of Adam Smith's formulation of economics in "An Inquiry into the Nature and Causes of the Wealth of Nations."

Here is an article I wrote on plate theory that I think may be closer to the truth. There is a lot we simply don't understand yet about the earth, earthquakes, tremors and vocanoes. I think it is a mistake to even say "Plate Techtonics is well known. The Earth's crust is like a giant jigsaw puzzle, broken into several pieces known as tectonic plates that constantly bump and grind or slide past each other." It is much more complicated then simply that. The stress imposed by "earth tides," created by the moon earth interactions causes the crust to bend and deflect twice each day. We see this in the form of high and low water tides, but the earth's crust deflection is what actually causes the water tide to occur. This deflection is like bending a steel rod back and forth--eventually it crazes, cracks and weakens the crust--allowing the continent to collapse, slip and the liquid magma to move. The cracking appears to the observer along natural boundaries as a plate and thus plate techtonics. The moon and earth interaction causes the crust to crack but that has little to do with plate techtonics, the suttle difference has little to do with the plate except that where there are active vocanoes, you have a active fault boundary along the cracking. Vocanoes occur on islands and near ocean coastlines because of the heavy weight (pressure) of the water. This pressure causes a hydraulic effect on the magma forcing it up along weaken fissures (tidal fatigue cracking). Once the pressure becomes great enough and the earth's crust weak enough, a volcano grows and finally erupts. The eruption diplaces the incompressible magma and it releases. The void left from the magma release over time, causes the continent to collapse downward due to gravity. The collapsing is felt as a quake. Our scientists call it a fault line using the plate techtonic theory but it is not really the plates sliding as they posit.

It is a "continental collapse" (as I call it) phenomena and it is why our oceans are becoming deeper. Once, the earth was nearly covered by shallows seas but now the oceans are much deeper and there is a greater land mass exposed. When the earth had shallow seas, most of the continents were under water and the water level was hundreds of feet higher in elevation as evidenced by the finding of sealife fossils high in the mountains. The deepening of the oceans began 580MM years ago just prior to the "Cambrian explosion period" (and continues today). It exposed large amounts of land and allowed many species to propagate.The resulting affect causes volcanoes, earth tremors and earthquakes. In summary, plate techtonics has as many flaws as economic theory....

[Ken White]

Out of curiosity, are you discussing tectonics or tech tonics?

[Dayuhan]

The tool for this is called preferences; people need to somehow express their preferences for/against the side effects in monetary terms and then economists have the tools to factor them in.

People don't always express their preferences in monetary terms. Sometimes they express them by voting the bastards out of office, or by hanging the bastards from lamp-posts. Economists may not be able to factor those reactions into an equation, but the bastards - those who make policy - have to.

Plate tectonics, as a theory, is well enough established that almost all geologists subscribe to it. Same with evolution and biologists.

True, but once you get past the broad guidelines there's a fair bit of contention within those professions as well, though it's a good deal less public and receives a lot less attention, since the subject matter has a lot less immediate impact on daily life. When the subject is money, there's a lot more scrutiny and the inaccuracies and uncertainties get noticed a whole lot more.

To use an example already cited, most economists would agree on the basic framework of the relationship between supply and demand. Take it to specific real-word cases with unique contextual details, and there will be a lot less agreement. I suspect that this is true in other disciplines as well: biologists may agree on the broad framework of evolution, but get down to the specifics of how it works and where it's going and the agreement will evaporate... not that many people will notice.

[slapout9]

People don't always express their preferences in monetary terms. Sometimes they express them by voting the bastards out of office, or by hanging the bastards from lamp-posts. Economists may not be able to factor those reactions into an equation, but the bastards - those who make policy - have to.

Yep!

[Fuchs]

Economists are still the ones working on how to measure preferences. The difficulties could be overcome if psychology (and for some problems also philosophy) make the required advances.

So far, much can be understood with what has been measured already.
The time-value preference rate (sorry, don't know the exact translation) is for example known: It's the base interest rate. All other (real) interest rates can be explained with additional factors - and one who understands the theory of interest rates isn't prone to fall prey to typical interest-related market failures any more.


Likewise, most economic problems are not only explainable, but also predictable (save for their exact timing). People just don't want to listen to dry theory - and cognitive dissonance is a powerful opponent to theory anyway.
In the end, it's not so much a failure of economic science that crisis happens and isn't accurately predicted, but a lack of understanding of economic science by laymen (not the least because of the use of poor sources and lack of patience).
There is a reason why some countries are in a circle of boom-crash-boom-crash with 8-11 year wavelength while others do not produce any real boom or any real crash, save for flimsy copies of booms invented elsewhere (such as the dotcom boom): Economic science has a different influence in different countries.
Some countries have actually implemented all economic science advances of the 19th century already and are working on adapting 1960's economic science advances into their society. Meanwhile, other countries still think they can somehow cheat their way around the backside of the coins.