Skeptonomics

Does anyone else see the irony in the ongoing panic in global asset markets? Last week we feared global imbalances; this week we fear they may dissipate.

Don’t get me wrong — the last thing I want to see is global rebalancing by way of a massive US recession. But why are investors from Hong Kong to Frankfurt getting spooked? They are signaling that they don’t think their economies are decoupled from ours, and that a US downturn means the global buyer of last resort is putting away his credit cards. The US will cease to be the bottomless export market, and sellers everywhere will stumble.

Maybe so, but drastically curtailing the US import habit is a necessary part of rebalancing; it is not possible for US exports alone to do the job. So the contagion we’re seeing demonstrates that the current imbalances have become addictive on all sides. (OK, rebalancing via recession lacks a terms of trade sweetener, but is that what the markets are freaking about?)

Econ bloggers have really missed the point about Landsburg’s free trade screed. The estimable Dani notwithstanding, the issue isn’t ultimately ethics or even procedural fairness. The problem is that doctrinaire economists understand less about trade than the average person with no academic training in the subject.

Ordinary people in many parts of the world, and not just in the US, worry about trade because they are afraid that jobs lost to imports will not be counterbalanced by jobs gained through exports. They worry that there will be fewer economic opportunities for them and their children. They worry that their wages or working conditions will be pushed downward through competition with even more vulnerable, desperate workers in other countries. They are right to worry about these things. Such miseries are not destined to happen, but they cannot be ruled out either.

Except in standard economic models which begin with the assumption that increases in imports automatically call forth equally valued increases in exports. If trade balances on the margin we live in the happy world of comparative advantage, and it is indeed true, as Landsburg says, that “when American jobs are outsourced, Americans as a group are net winners.” But the assumption that trade balances at the margin is simply a modeling convenience, something that enables Landsburg to regale his students with blackboards full of elegant diagrams and equations. It is not grounded in real experience, and especially not the experience of the US economy since the 1970s.

You have to be very well trained in economics and have high-level skills to make such a brain-dead assumption and not even know you’ve made it. Then you don’t have to give serious consideration to counterarguments because, hey, why pay any attention to the fallacies of economic illiterates and mathphobes?

But let’s get specific. Here’s how Landsburg illustrates his claim that international trade makes us better off: “I doubt there’s a human being on earth who hasn’t benefited from the opportunity to trade freely with his neighbors. Imagine what your life would be like if you had to grow your own food, make your own clothes and rely on your grandmother’s home remedies for health care.”

Notice a problem here? Landsburg assumes that there is no difference between trade within an economy and international trade. (To be more precise, the only difference is that governments interfere more often with trade across national borders.) Worse, he accuses anyone who recognizes the difference of woolly thinking, based of course on his assumption that there is no difference.

This is why the French students complained about autistic economics.

For what it’s worth, my view is that we as a society ought to provide opportunities for as many of us as possible to have a satisfying livelihood. If a community is down and out we should step in and do what we can whether or not trade played a role in creating the problem. We should create rules for international trade that minimize downward pressure on wage, environmental and social standards and that limit dangerous imbalances. These ideas are fairly widespread among the general population, and if economists think really creatively they might just be able to rise to the same level.

According to Leonhardt in yesterday’s New York Times, the fault line between Clinton and Obama runs through the rationality postulate. Hilary’s citizenry is rational and responds to precisely calibrated market incentives; Barack’s is guided by impulse and habit and can only be moved by big policy objects in bright colors with thick borders. Is this the revolution in economics we’ve been hearing about?

Leonhardt locates the Obama/Goolsbee strategy in the rise of behavioral economics, an approach that replaces robotic rationality with a psychologically realistic characterization of real-world decision-making. In particular, he is drawing on the field of behavioral law and economics, which emphasizes commonplace cognitive “biases” that prevent people from acting consistently in their own interests. Examples include “availability bias” (attributing greater-than-actual probability to outcomes that are vivid or widely publicized), “status quo bias” (resistance to switching from A to B, or if starting with B, from B to A) and the inability to cope with high levels of complexity (such as public benefits few apply for because the forms are too complicated).

With this view of human fallibility, it is not surprising that practitioners of this sort of economic thinking incline to paternalism. The non-biased minority with impeccable cognitive skills (you know who you are) must take it on themselves to guide their less capable brethren toward more rational choices. I exaggerate, but not too much, as those who have delved into this literature will recognize. Yes, there is elitism in the traditional incentive-based approach too, but it is at least honest and transparent in its methods. The flagship policy innovation of the behavior-wonks, making participation in private savings plans the default option, so that workers would have to choose to opt out (rather than making no savings the default and asking them to opt in), combines the we-know-what’s-best-for-you of the incentive school with a kind of tawdry manipulation. Of course, it may also work better.

But loyal readers of this blog should be aware that behavioral economics is much larger than its portrayal by Leonardt. For one thing, much research now focuses on the differences in behavioral patterns across the population. Rather than fixing on the central tendency, attention has shifted to the dispersion. What this will mean for policy is not clear at this point, but it has to lead to greater diversification and decentralization of the means and ends, don’t you think?

Another important departure concerns the emergence, reproduction and evolution of social norms governing economic (and other) behavior. Many, myself included, think this has enormous potential for changing how we think about politics and human well-being. It reintroduces cultural factors that have been banished from proper economics for generations, not least of which are the gender norms emphasized by feminist economists. And what about the effect that changes in governmental policies and business practices have on the norms governing income distribution? We have begun to see empirical work in this area and it is a safe prediction that we’ll see a lot more.

I hate writing these vague, sweeping posts, but it would take much more than a few paragraphs to properly document the upsurge in behavioral research. The point for now is: the policy space spanned by Clinton and Obama is minuscule compared to the opportunities for new thinking in economics that already exist.