The Global Financial Crisis and the Great Recession have created an intellectual crisis among economists. Essentially their question among themselves is, "What's wrong with the way we do our work that made us fail to predict this?" It helps to keep their attention focused that the Queen of England asked the same question while visiting the London School of Economics in November 2008 and that many others inside and outside the economics priesthood won't let them forget this colossal failure of mainstream economics.
Mark Thoma says part of the problem is that courses in the history of economic thought and economic history have largely disappeared from undergraduate and graduate education in economics. He reports in this review of Simon Johnson and James Kwak's new book, 13 Bankers:
I was at a conference a few weeks ago at King's College in Cambridge, England hosted by the Institute for New Economic Thinking. Simon Johnson was there as well. The topic of the conference was "The Economic Crisis and the Crisis in Economics." During one of the sessions, a speaker asked the audience -- most of whom were economists from the top schools in the world -- if their departments included the history of economic thought as core part of their graduate curriculum. Nobody raised their hand.
The number of economics programs offering history of thought as a field, or as part of the core program, has diminished over time. Some programs still teach the history of thought (though not always at the graduate level), so it's not gone altogether, but it has become rare.
The situation is even more dire for American economic history which has all but dropped off the map in many programs. That is unfortunate. If economists had studied U.S. financial history in depth, they might have been able to recognize that past patterns were repeating themselves. They might have foreseen that we were headed for trouble. Instead, we missed some fairly obvious similarities between events prior to the crisis and events of the past that should have alerted us to the potential danger ahead. To a large degree, we have lost our historical perspective.
Why have these classes been dropped from graduate programs? I tried to answer that question here by arguing that the technical demands of modern economics crowded these courses out of graduate programs, but it was more than that. There was also a sense that we had solved the macroeconomic problem using a highly mathematical, scientific approach, or at least made enough progress to bring about a "Great Moderation." There was little to learn from macroeconomists of the past, or so it seemed, and that overconfidence turned out to be costly when the crisis hit. Many of the hard learned lessons of the past had to be relearned once again.
Thus, one answer to the problem of regulating the financial sector is to make sure that economists know the history of their field, including US economic history and all of the financial turmoil of the 1800s and early 1900s. That is where 13 Bankers is so valuable. The book begins with an overview of U.S. financial history, and it includes a readable explanation of the economics and politics behind the financial events of the past. This is essential reading for any economist who wants to understand what triggered financial panics in the past, what policies worked or failed and why, and how it relates to today.
Paul Krugman says the "freshwater" economists deliberately purged all knowledge of what went before and what isn't in their paradigm.
For when freshwater macro took over a good part of the field, its leaders gleefully dismissed all the work Keynesian economists had done over the previous few decades, often with sneers and sniggers.
And that same adolescent quality was evident in the reactions to the Obama administration’s attempts to deal with the crisis — as Brad DeLong points out, people like Robert Lucas and John Cochrane (not to mention Richard Posner, who isn’t a macroeconomist but gets his take from his colleagues) didn’t say that when serious scholars like Christina Romer based policy recommendations on Keynesian economics, they were wrong; the freshwater crowd declared that anyone with Keynesian views was, by definition, either a fool or intellectually dishonest.
So the freshwater outrage over finding their own point of view criticized is, you might think, a classic case of people who can dish it out but can’t take it.
But it’s actually even worse than that.
When freshwater macro came in, there was an active purge of competing views: students were not exposed, at all, to any alternatives. People like Prescott boasted that Keynes was never mentioned in their graduate programs. And what has become clear in the recent debate — for example, in the assertion that Ricardian equivalence rules out any effect from government spending changes, which is just wrong — is that the freshwater side not only turned Keynes into an unperson, but systematically ignored the work being done in the New Keynesian vein. Nobody who had read, say, Obstfeld and Rogoff would have been as clueless about the logic of temporary fiscal expansion as these guys have been. Freshwater macro became totally insular.
And hence the most surprising thing in the debate over fiscal stimulus: the raw ignorance that has characterized so many of the freshwater comments.
Whether it's from time constraints, intellectual arrogance, and/or something else, it seems clear that too many economists know too little about the context of their narrow knowledge bases. In Isaiah Berlin's metaphor, they are "hedgehogs" who know one big thing, when what we need to guide public policy are "foxes" who know many things.