Economists Are More Human Than They Think, Unfortunately
By Hendrik Van den Berg
17 November, 2014
Countercurrents.org
After attending two psychology conferences this summer, I confirmed my worst fears about economists' poor understanding of human psychology. The many papers presented at the conferences suggested a very different form of human behavior than economists customarily assume in their economic and financial models. And I have to presume that psychologists are closer to the truth about human behavior than my economist colleagues. After all, economists have made little effort to align their behavioral models to reality, while psychologists have as their main focus the understanding of human behavior.
The mathematical macroeconomic and financial models economists use generally assume that human beings rationally analyze a wide range of information in reaching economic decisions. Individuals are assumed to carefully weigh the present relative to the future in making long-term decisions. Economists' most egregious assumption is that people behave as pure individuals and make decisions with only their own well-being in mind.
Economists utilize a very strange definition of rationality—namely that humans carefully weigh all facts and ideas known to humanity in making every decision. The complexity of life and the scarcity of time make this definition not just unrealistic, but absurd. Humans do not, and cannot, meet such a definition of rationality. Getting on with life and the business at hand requires rules of thumb, morals embedded in overarching cultures, and dealing with current problems first, regardless of long-run issues. Human evolution occurred in a real world, not a mythical mathematical one. So people learned to ‘do the best they could under the circumstances'—a perfectly rational approach to life. Perfectly informed deliberation with respect to every daily decision would not be rational because you probably would not get out the door at the start of the day.
The sessions I attended at the psychology conferences this summer suggest that human behavior is indeed quite different from that assumed by economists. Study after study attested to the social nature of human beings. People are very conscious of their standing in life; they both care for and despise others, often very strongly; and they are very selective and biased with regard to the information they use in making decisions. Humans are strongly influenced by the cultures they and their ancestors collectively developed, which gives a certain momentum to human behavior. None of these characteristics of human behavior match economists' assumption that humans are ‘rational' in objectively calculating how each decision affects their own well-being.
Economists' Own Behavior Does not Match their Model
If anyone were to behave as ‘rationally' as economists presume, one would think it would be economists themselves. But, interestingly, that is not the case. An obvious example is how economists are discussing the lingering economic recession triggered by the 2007 financial crisis.
Granted, the current economic situation is complex, making it difficult to agree on the appropriate policies. And we currently see an active dispute within the economics profession. Should we impose austerity policies that reduce overall government deficits? Or, should we use the government to expand aggregate demand for output in order to increase employment? Both of these policy options are justified as reducing unemployment by, it is claimed, increasing economic growth. If you have followed this general policy debate, you will note, for example, that both Paul Krugman, an advocate of the latter approach, and Representative Paul Ryan, advocate of the former approach, emphasize how their suggested policies will restore economic growth. And herein lies mainstream economics' fundamental error.
Neither policy as suggested can ‘restore' long-run economic growth to our economy. Economic growth cannot be restored. At least not the type of growth we are familiar with. Given our clear environmental constraints, neither Paul has a viable long-run economic policy.
The type of economic growth we have experienced over the past 200 years cannot continue because it cannot be further supported by our natural environment. The evidence clearly shows that atmospheric temperatures are rising, nature is failing to sustain many of the services that are critical to human life, and the widespread exploitation of nature is sharply reducing the biodiversity that safeguards our existence. There is no longer any doubt that ‘growth' (by which we mean the massive use of carbon energy, the increase of material output per person, and the rapid growth of the overall human population) is the cause of this environmental degradation. And yet, economists across the political spectrum call for ‘restoring growth' as quickly as possible.
Unfortunately, from an environmental perspective, the strange indecisive mixture of austerity (government budget cuts) and stimulative economic policies (mostly central bank money expansion) has ‘restored' some of the lost economic growth. And, like clockwork, global carbon emissions and environmental degradation have picked up as well. We have now passed the 400 mark in carbon particles per million in the atmosphere—50 more than what climate scientists estimate is possible without accelerating rises in atmospheric temperatures.
One could argue that we are in an environmental-stress bubble—not unlike a financial bubble—that will explode sometime in the future. Unfortunately, just as economists did not foresee the dot.com bubble that was quite obvious to many ordinary observers in 2000 or the 2007-2008 debt bubbles, nearly all economists are ignoring this environmental bubble.
Economists' Self-Serving Culture of Growth
Economists' failure to anticipate long-term problems should not be surprising. Economists are just people, after all. Psychologists often point out that people routinely favor the present over the future. This is perfectly reasonable behavior from an evolutionary perspective. Fortunately for us, we exist today because our ancestors were good at quickly focusing on immediate problems, like the bear at the mouth of the cave or the enemy in the bushes. Evolution teaches us that there is no long run if short-term threats are not dealt with.
So, economists, like all people, continue to deal with immediate problems while ignoring long-run issues. For example, it is easier to analyze economic problems using well-known models taught in graduate school rather than developing entirely new models that better capture the complexity of real life. Economists generally find that they are more likely to hold on to their jobs if they conform to the culture of the profession. In general, an economist's life is less difficult when he or she uses the standard jargon, the models that everyone is familiar with, and when only familiar topics are addressed. Hence, few economists act truly ‘rationally' by carefully analyzing all available information and deciding to deal with the very critical issue of long-run human survival in an environmentally stressed world. Thus, economists have largely ignored financial bubbles and long-run environmental problems.
Some of you might be amused to learn that economists do not even fit their own models of human behavior. However, in our complex modern society, in which our carbon footprint has become large enough to put the future of the planet's ecosystem in jeopardy, we need someone to focus on the long-run consequences of our actions. Economists are an obvious professional group that should take up environmental issues. Yet, we are stuck with economists acting like normal people, seeking solutions to the immediate employment problem by means of policies that they should know will bring about more destructive growth and push the world towards environmental disaster.
The Motives for Growth Are Well-Entrenched in our System
Admittedly, there are, and have always been, economists who foresaw the dangers of financial bubbles. For example, Thorstein Veblen, whom I discussed in the Nebraska Report some months ago, warned us about the “financialization” of the capitalist economy more than a century ago. John Maynard Keynes also did. But note that these economists have been very intentionally pushed out of mainstream economic teaching and thinking, so that today most practicing economists have no analytic tools that give prominence to the possibility of financial instability.
This bias in economic methodology is not entirely accidental or innocently cultural. Rather, there is a clear motive for the financial powers-that-be to induce economists, who are appreciated by the powerful as useful spinners of the stories that people rely on to make sense of their economic situation—to promote the ‘free-market' creed. These ‘neoclassical' economic models are effectively designed to paint the capitalist system in a positive light. Corporate and financial interests control the culture of economics by controlling funding at the prominent universities, by directly controlling the media through ownership and advertising revenue, and by directly hiring a large percentage of professional economists in the private financial industry.
Now, the same thing is happening with regard to how economists deal with environmental problems. By indoctrinating young economists into accepting the neoclassical models (including their odd assumptions on human behavior), wealthy interests can be assured that even the most conscientious economists will inadvertently reach ‘harmless' conclusions. Effectively, the economics profession today has been deprived of the stories, models and methodology that would lead to more realistic and urgent conclusions about our environmental situation.
For example, the economic models we use assume all economic activity passes through the market system. The natural environment generally interacts with human economic activity outside organized markets, and consequently the environmental effects of economic activity are ignored when we use those models to analyze economic policies. Thus, by ignoring environmental constraints, economists obviously will conclude that restoring economic growth would be a good way to reduce unemployment.
What If Economists Were Not Biased by their Culture?
One interesting group of economists that has been able to extract itself from the neoclassical culture of economics are the Économistes Atterrés (The Appalled Economists)—a French group that is openly appalled by the biases of mainstream economists. They advocate a set of policies to simultaneously deal with unemployment, social inequities and environmental degradation that has come to be known in France as décroisssance (degrowth). Décroissance essentially seeks to replace growth with quality of life as the focus of economic analysis and economic policy. There is now even a monthly newspaper, available on all newsstands in that country, entitled Décroissance: Le Journal de la Joie de Vivre (Degrowth: The Newspaper for the Joy of Living).
Décroissance should not be confused with sustainable growth—a term so often used in the media and by many nonprofit environmental groups. The advocates of décroissance view sustainable growth as a contradiction in terms. The scientific evidence shows that the current model is not sustainable. Décroissance thus calls for a completely new economic paradigm, in which resource-intensive human production will be forced to diminish while resource-minimizing production that employs people and improves the quality of life will be promoted. This new paradigm requires a new form of social technology that will enable humans to reorganize the way they go about living and interacting with their natural environment while improving social interaction.
Décroissance consists of a broad program to change human society. It refuses to be satisfied with making adjustments to our current system. The details of this new program are so pervasive that they will have to be collectively worked out. In fact, French groups like the Économistes Atterrés are actively discussing how such an alternative economic system can be obtained within a more democratic and participatory political system that also improves social outcomes and human satisfaction with life.
In a book entitled Changer d'Économie (Changing Economies), one group of 'appalled economists' proposes the following program:
1. End the use of fossil fuels and nuclear energy by massively cutting energy usage and developing non-fossil and non-fissile fuels.
2. Expand public transportation to where it has the capacity to carry the entire population to work and leisure activities.
3. Shift freight to railroads and away from road traffic.
4. Implement food independence and agricultural sovereignty.
5. Promote public investment in economic restructuring, including public ownership of energy, transport, education and low-income housing infrastructure.
6. Use productivity increases to reduce work hours without reducing labor income.
7. Increase labor's share of total income and reduce capital's share, thereby improving the distribution of income.
8. Adjust work hours rather than the number of jobs.
9. Reduce the scope of the market economy and expand the public commons.
10. Establish a transparent process for evaluating the full environmental consequences of all human activities.
The gap between these proposals—all quite reasonable given the scope of our environmental challenges—and what mainstream economists are discussing today exemplifies the current failure of the economics profession.
Is This Really Possible?
Before we reject this attempt out of hand as being too idealistic or too radical, note that décroissance is no more radical than the monopolistic and financialized capitalism we now have. Granted, the capitalist system has created a powerful group of wealthy economic interests that have the economic and political clout to resist change, but the mere challenge of change should not discourage us. Our current monopolistic and financialized capitalism also completely reordered the way we live and interact with the environment. In fact, the system continues to bring very costly changes to our lives, so it is not really a matter of choosing between a presumed current stability and some unknown ideal.
We must make difficult long-run decisions—unfortunately without the help of complete information or perfect models of reality. We will have to develop dynamic planning mechanisms that can be adjusted as the uncertain future evolves. That is, we will have to make many more decisions in the future; there is no ‘big bang' process here for which we only have to specify the starting point from which everything will follow automatically. We do not know enough to even contemplate such an approach, even though economists do exactly that when they embrace laissez-faire economics and put their faith in the invisible hand. The fact is that today's decisions are based on only partial understanding about how things will work out, and whatever we choose, we may not get things exactly right. We may even find that our initial decisions were very wrong. Therefore, we need to heed the Économistes Atterrés' call for a more democratic and participatory political system than we have in our current capitalist-controlled society.
Sadly, psychology suggests that most people are no more interested in making difficult long-run decisions, followed by continual assessment and review, than are economists. But eventually the short-run becomes the long-run, and according to our best understanding of the environmental processes currently underway, by then it will too late. Given the desperation of our situation, I will take my chances with the results of a thorough debate under the guise of décroissance. I'm choosing to stand with “The Appalled.
Hendrik Van den Berg is professor of economics at the University of Nebraska–Lincoln, where he teaches economic growth and development as well as international economics and international finance from a heterodox perspective. He received B.A. and M.A. degrees in economics from the State University of New York at Albany in 1971 and 1973, respectively, and M.S. and Ph.D. degrees in economics from the University of Wisconsin–Madison in 1987 and 1989. Between studying in New York and Wisconsin, Hendrik worked for the U.S. Department of State and the Singer Company. Hendrik Van den Berg has published many articles on exchange rates, international trade, alternative estimates of economic growth and productivity growth, the empirical relationship between international trade and economic growth, and the determinants and consequences of immigration on source and destination countries. Most recently, he has published several articles dealing with the biases of neoclassical economics and the influence of the neoclassical paradigm on the fields of international economics and economic development. Hendrik has written several economics textbooks, including Economic Growth and Development , 2 nd Edition (World Scientific, 2012), International Economics: A Heterodox Approach (M.E. Sharpe, 2011), The Economics of Immigration, 2 nd . Ed. (Springer, 2012), and International Finance and Open-Economy Macroeconomics, 2 nd . Ed. (World Scientific, 2014). Hendrik also regularly writes for general audiences, including monthly articles in Nebraska Report , the newspaper of Nebraskans for Peace.
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