Thursday, August 13, 2009

The Epistemological Sucker Punch

I observe, he said rather grandly, that the economists are fighting back. Robert Lucas points out that, for forty years, the Efficient Market Hypothesis (EMH) has shown that economists are unable to forecast financial crises because, if they could, they could beat the market and the EMH proves that nobody can do that. Slightly more pithy is this blogger's reponse to the question posed by the Queen - 'Your Majesty, economists did something even better than predict the crisis. We correctly predicted that we would not be able to predict it.' Now I don't feel quite as badly about economists as Nassim - spawn of Satan, basically - but I do think there's something of a rope-a-dope going on here. The econs are soaking up the punishment prior to bouncing back with the EMH sucker punch. The EMH performs the role of the Turing Halting Problem in computation or Godel's Incompleteness Theorem in mathematics or even Heisenberg's Uncertainty Principle in physics. It's an epistemological limit, a border we cannot cross even with limitless information at our disposal. It is just out there in the world and it has the secondary virtue that it is not understood by ordinary people. This allows Lucas and friends to say, in effect, 'But we told you we couldn't make predictions about big things like financial crashes. If you had just understood economics better you would have understood this.' To which the only intellectually respectable response is, 'Yeah, right.' For the point is that economists, as most of them presently define themselves, exist to make predictions. It's how most of them make their living. They must, therefore, do this while assiduously concealing from our gaze the momentous implications of EMH. And that, let's face it, is exactly what they did - unfurling the sucker punch only when things got really tricky.
The reality is that economists still can't come to terms with the fact that they are not scientists, they are, if anything, historians or social commentators. Perversely, the existence of the EMH probably strengthens them in their delusion - 'Look we have a real epistemological limit just like the computer geeks, the mathematicians and the physicists!' What they should be thinking is, 'We are proud to be dealing in real complexity, in the truly unknowable.' But nobody ever says that any more.


  1. Where in the economists dictionary was the word deflation ? under "wot" perhaps.
    Incidentally, we, the taxpayer, will shortly be asked to fund police protection, for the returning shred and family, kick us in the nuts why don't you.

  2. " 'We are proud to be dealing in real complexity, in the truly unknowable.' But nobody ever says that any more."

    Thats cause no one would pay them any money if they did.

    Maybe we should update the famous PjO quote about lawyers being gangsters with briefcases, maybe economists are gangsters with calculators?

    *I think the main issue with EMH is do you hold it to be ideologically true, or do you see it as true to a point (which I do)
    more wisdom of crowds than das kapital.

  3. It's hard to make predictions, particularly about the future.

  4. Not all economists take this tack. Paul Krugman, for example, has predicted 5 of the last 2 recessions.

  5. J.K Galbraith said something on the lines of there being two kinds of economic forecasters -- those who don't know and those who don't know they don't know.

    I also like the facetious one about an economist being someone whose training equips him to tell you tomorrow why the predictions he made yesterday didn't come true today (Prof. Peter of the Peter Principle, I think).

    That said, EMH won't really do as an all-purpose get-out, will it? There's surely a big difference between(1) stating that conditions seem dangerously right for a crash; and (2) stating accurately when the crash will occur. EMH would rule out (2) but not (1).

  6. I'm at the end of five posts on this, macro-economic delusions and the central theme is that the LSE style economists have it wrong. Not only that but the trolls, like Krugman, are no out in forcespeaking of greenshoots and turnarounds.

    Bollocks. It is still the same spiral we're in and will be until the paradigm is altered.

  7. Efficient Market Hypothesis? More like Efficient Market Myth. As one who spent several years blowing smoke past Wall Street analysts on behalf of the company that employed me, I can assure you that the market's valuation of any individual firm is almost meaningless. And since "the market" is just a collection of individual firms, then whole market valuation is almost meaningless.

    Unless, of course, you go with the version of EMH which holds that the market reflects what the market reflects -- then you've just got a simple tautology.

  8. Another Galbraith saying comes up in this article by Shin Ye-ri in JoongAng Daily: Mystical answers for economic crisis:

    American economist John Kenneth Galbraith understood the similarities between the mystical predictions of poets and the so-called scientific predictions of economists well. He said, “The only function of economic forecasting is to make astrology look respectable.”


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