Paradigms Lost? Cowboys and Indians in the Battle over Economic Ideas

Mark Blyth

One of the most interesting organizations to come out of the crisis is the Institute for New Economic Thinking (INET), which is dedicated to “fresh insight and thinking to promote changes in economic theory and practice.” I attended its first conference in April 2010. The mood was optimistic. Rational expectations theories, the efficient markets hypothesis, capital account openness, Ricardian equivalence, were all on the chopping block. The book of the conference was Skidelsky’s The Return of the Master. We were all Keynesians now, again…for about eight months.

Then came the ECB June 2010 Monthly Report that raised the specter of ‘Ricardian consumers’ and ‘expectation effects,’ while the G20 meeting that same month (coincidence?) focused attention upon ‘Growth Friendly Fiscal Consolidation’ and the overwhelming need to reduce debt. Led by the UK (whose net debt-to-GDP ratio was at that time was below the Maastricht threshold) the voices of orthodoxy quickly regrouped and triumphed. Austerity and belt-tightening gained traction as the advocates of a reinvigorated Keynesianism shifted their sights from dismembering the neoclassical corpus to simply maintaining the legitimacy of spending under any circumstances.

By the time the G20 met in Paris last weekend only the degree of fiscal rectitude was up for grabs, Obama having joined the consolidators. And as for the lofty goals of INET, it is significant that their next meeting will be held at the Bretton Woods hotel where the post-war Keynesian order was assembled. These new economic thinkers seem to be searching for ‘Paradigms lost.’

All of which makes me wonder about the conditions under which the economic ideas that, as Keynes put it, “dominate the economic thought, both practical and theoretical, of the governing and academic classes of this generation” change? As I argue in a new piece for the journal Governance, if one views the problem of paradigm shift as one where some series of events act as anomaly generators that undermine the theory, leading to its eventual and ultimate collapse and replacement, then the 2008 crisis was as close to a perfect natural experiment as you can get. To list some of the howlers: prices were not right in any sense, liquidity turned out to be a social property after all, VaR and associated techniques of risk management proved to be worse than useless, and the whole experiment cost (so far) around $2-3 trillion dollars.

You might then think that given such large losses and red faces we really should now be living in a post-neoclassical world. Yet we are not. Here are two reasons why this is the case: one that I don’t buy and one that I do buy.

“There is (still) no Alternative” – There is No New Paradigm.

This is a very odd but powerful form of argument. Odd, when you consider that this blog, INET, and hundreds of other sources are actively building one. Powerful, in that by saying that ‘unless you replace one complete integrated mathematically perfect theory with another one you should stick with the one you have got.’

I have always been suspicious of this form of argument for three reasons. First, part of the pathology of the old paradigm was precisely its perfectly integrated general form, which made it quite useless for acting in the world. Any new paradigm should be robust to the world, which means partial and revisable in the light of experience. Economists tend not to like that idea.

Second, there is a new paradigm, it’s the old paradigm that seeks to put finance in a box unless it aids in the production of things you can buy, sell and drop on your foot. It’s just that with 40 percent of US and British corporate profits coming out of this sector one or two folks might be resistant to such a paradigm shift.

Third, in terms of not chucking out babies with bathwaters: the last ‘theory’ we had linking biology and behavior until the rise of modern genetics and neuroscience was Eugenics. Getting rid of that and doing without a ‘new and better model’ for some forty years was probably a good idea.

Or Kuhn’s Conundrum: The Politics of Authority

Thomas Kuhn, the originator of the ‘paradigm shift’ model of intellectual change, argued that the process of change was as much sociological as scientific. As such, who gets to speak authoritatively becomes a critical determinant of paradigm change as much or more than what the ‘facts’ say.

Contrasting Peter Hall’s brilliant examination of paradigm change from Keynesianism to Monetarism in the UK in the 1970s and 1980s with the current crisis gives us some insight for why there has been no paradigm shift in this crisis. In Hall’s case of the UK, the locus of authority, who gets to speak about how the world works, was the Treasury and the Cambridge Keynesians. Surrounding them and shooting arrows of dissent, like so many Hollywood Indians in a Western movie, were a panoply of organizations; think-tanks, the conservative party, the financial press, the City of London, all pushing against the dominant paradigm. One locus of authority, many challengers, each ‘failure’ amplified and distributed, discrediting the source: outgunned and outflanked.

Now consider the 2008 crisis, when all the liquidity in the world dried up as every equity dealer in every bank had to become a credit analyst such that the system as a whole ground to a halt. Saving the global payments system from itself was essential, and so the unreconstructed brute Keynesianism of output gaps and stimulus was wedded to an enormous redistribution of wealth from taxpayers to rentiers, as financial bailouts became the order of the day. But once the system was stabilized, this time around the critics would have a hard time being heard.

In this case the Indians were few and the cowboys were many and distributed. Thirty years of spectacular returns and not blowing up (at least in the Western core states) had convinced everyone from the OECD to the ECB, from the BIS (with a few exceptions) to the IMF, from the Swedish central bank to the US Federal Reserve, that markets were rational, prices were right, and policies were optimal. Those invested in selling ‘the Great Moderation’ could hardly be expected to turn around and tear it all down so easily. With so many distributed authorities invested in ‘paradigm maintenance’ the forces for paradigm change had to spread their fire over such a wide area that their effect was dissipated. That’s one reason, among many, why there was no Paradigm Lost.

Authority, as deeply social a construct as one can imagine, trumps mere facts where the correlation of forces is against reform. Mere facts, even two trillion dollar facts, seldom triumph over a good ideology.

The Triple Crisis blog welcomes your comments. Please share your thoughts below.

15 Responses to “Paradigms Lost? Cowboys and Indians in the Battle over Economic Ideas”

  1. I worked as a regional planner from 1973 to 2008 in Virginia’s Northern Shenandoah Valley. In the mid-70’s we did an economic base analysis and set goals. Our rural region advanced to become part of the Washington, D.C. MSA – becoming metropolitan from the outside in for two counties in 1990. In 2000, MSA status was achieved for Winchester City due to commuting patterns. The region experienced growth in population, had an increase in the availability of goods and services, and now is highly stressed due to the post 2000 housing run-up. The outcome of running up asset prices with easy credit and the impact of the implosion of values when income growth could not keep up with debt maintenance, much less repayment looks like being blindsided, when in reality it was stupidity. Seems economists don’t have the Excel spreadsheet capacity to add up debt and compute repayment schedules that lead to ownership free and clear. Having been taught Public Budgeting and Management in my graduate work that focused on such things as debt burden, it is disturbing to understand now that free and clear ownership of any assets does not seem to be in economic thinking. While e-cons may be looking for a new paradigm, the old one may itself have not been a paradigm at all. It may not have even had the substance of VooDoo.

  2. A very good post – but disturbing, for in many cases (climate change, financial structures) we should better change the structures (the paradigm) as soon as possible – while, as you are writing, it looks like we have a chance to achieve it, but probably not soon…

    On the other hand: if we don’t try, we cannot achieve anything. And if such a flawed paradigm as neoliberalism is has achieved to establish itself – this makes hope that a better one, be it (neo-)Keynesianism, be it New Economics, can make it as well.

  3. itzman says:

    Very early on in my Physics classes as a teenage boy, the master handed out some little graphs. “This a graph of what happens as you hand more and more weights on a piece if elastic. The more weights you hang on, the longer it gets: You will note that its a fairly smooth curve. Almost a straight line, except at point ‘C’ where it suddenly gets very long very quickly.’ What do you think happened at point ‘C’?’

    “The elastic broke, Sir!”

    Economists, it seems never studied mechanics, or indeed any real word science at all.

    I really cant even dignify economic theory with ‘paradigm’ at all. Never mind Kuhn, Look top Karl Popper for the definition of what does, and most surely what does NOT constitute ‘Science’.

    Economics is at best the crude fitting of curves to real world behaviours, and simplistic linear equations that take no account of the underlying limits of the world on which they are supposedly based.

    Coupled with a large dash of ‘Bandar Log’ spik. If you are not familiar, with that, its from Kipling’s ‘Jungle Book’. The Monkey people think they are the greatest intellects in the jungle, which they justify by repeating it long and often, and saying ‘we all say it, so it must be true!’.

    Economic boom and bust is the natural way an expanding world economy will behave a long as it has access to surplus liquidity: the triumph of monetarism was to moderate that by curbing liquidity as growth rates and inflation exceeded a certain arbitrary point. So far so good.

    However, in 2008, the elastic broke. What is different about the game this time, is that for the first time in about 1000 years or more, we are faced with a world economy that has no potential TO expand any more.

    None of the economic rules of thumb (not theories, rules of thumb, and even that is kind) have been developed to meet that situation. The stark reality is that, running out of oil, coal, iron, copper, land for food, and so on, the old game of ‘more debt, more people, more wealth, exponential growth’ has in fact come to a shuddering halt.

    In a regime of limited resources, and rising aspirations, there is only one way to satisfy those aspirations. Reduce the number of people who have them. Curiously enough you mention eugenics..well it may yet come back into fashion as one group decides who in fact is going to get their aspirations satisfied, and who is going to get to be dead and therefore irrelevant in the economic and social context.

    The economics of the 21st century is in fact far simpler, and economists who have trouble with numbers need not take of their socks. Very few number will in the future ‘go up to 11′.

    In stark terms, the actual fundamentals of the New World Order are these

    1. How much of anything in particular can the world actually produce this year?
    2. Who is going to get it?
    3. What is going to happen to those who dont?
    4. Is there one single thing any government can do to make the answers different?
    5. If the answer is no, is there any point in telling the truth?

    The Middle East is simply the starting point. This is not about politics or about Islamicism, or about Democracy, or about Freedom. This is about the people waking up and saying ‘they have let us down, our leaders have no delivered us the bread and circuses they promised’ rising up, and walking to the central government offices, breaking down the front door only to find the offices are empty, and there is a note pinned to the directors door saying :


    (or in the case of Libya, a battalion round the door and a man saying ‘I’m not sorry, but you will be': Possibly a more survival oriented strategy. Who knows?).

    In the film ‘Jubilee’ the government solves the crime problem by repealing all the laws.We resolve the financial problems by simply ceasing to use money. One ship full of Libyan oil for one ship full of machine guns and tanks. Simple! I extract your tooth for a sack of potatoes and a brace of rabbits.. Things belong to those who have the ability to retain physical ownership.

    When the trust in central institutions breaks down, so too do their mechanisms of control.

    The new paradigm is that economics itself hasn’t got a future, as the academic study of growth in a decaying world stripped of resources, riven by warfare, and whose main feature will be population reduction, and unable to even support its infrastructure, let alone extend it, will not be of any value.

    My advice would be to learn archery, instead. It might prove to be of more use.

    Or as a last gasp, examine how, in theory, debts amounting to say – 10 times the individuals earning power, can ever be repaid, or even interest maintained, in a world where the individual earning power and the number of people earning it will inevitably decline?

    Ultimately the power to recover debt depends on the ability of the borrowers to repay, and the ability of the lender to pay for the debt collectors,.. If the lenders and borrowers are broke, there is no debt that can be collected, or even serviced. Prizes will go to the first organisation to encapsulate that principle in Law.

    Hey ho.

  4. LadyH says:

    The dominant paradigm is also one in which a number of high profile economists are deeply invested, not least the entire Chicago School which holds considerable sway both in the political sphere where Straussians have run amok over the last decade as in the economic.

    Not to join in with the finger pointing but the de-regulation, deconstruction and parcelling of risk, assumption of information symmetry between buyers and sellers of such risk (which the Abacus deal puts an arrow through – but which rube in history hasn’t preened under the seller’s avowed admiration of him as a “sophisticated buyer”. As with snake oil, CDOs) was facilitated by an economic creed that develoved into a political one.

    A new paradigm will see new politics, something which for all the promise of change, the US administration is yet to deliver and other states seem reluctant to realise the necessity of. With the remarkable exception of the Middle East where decades of plutocratic stasis is being turned on its head. Perhaps that sea change will form the break in the elastic.

  5. Tom Lines says:

    Read ‘Capitalism and its Economics: A critical history’ by Douglas Dowd (London: Pluto Press, 2000) for a revealing study of how this happened throughout the history of economics/capitalism.

  6. […] crisis that erupted in 2007 has generated interest in re-thinking economics. As Mark Blyth noted earlier this week, one of the more visible efforts in this respect is the creation of the Institute […]

  7. Rob Johnson says:

    A good ideology in what sense?? A strongly embedded ideology yes. But good??

  8. Ibn says:

    there is plenty of food and resources and innovation to drive the world economy. every time there is a crises there is a “this is the end” reaction.

    Just because they happen every 100 years, doesn’t mean we can pretend they don’t since we didn’t live through it.

    Fire! On the cave wall!

  9. […] To read more… « Riz Khan: Are We Living in the End Times? […]

  10. Kevin P. Gallagher says:

    Was away for a week and missed all this. This and Nadal’s post have sparked some of the best discussion on the blog yet.

    I think Mark has unfortunately hit it spot on here. However, he is only really talking about the US and the UK, Germany, and a handful of other Western nations. Elsewhere the crisis has sparked or emboldened “great transformations”. Richard Stubbs, in a forthcoming article, has shown that the crisis has given rise to “neo-developmental state” coalitions across Asia that are returning to or reinvigorating industrial policy, Keynesian macro-economic management, capital controls, the whole lot. Argentina and to a lesser extent Brazil have also seen an interesting alignment of “ideas” in terms of Keynesian developmentalism and a business community that benefits from such a program and thus advocates for it (or at least goes along) in a post-crisis world. And of course, China has reinvigorated such an approach since the crisis. Indeed in the new five year plan they will now (so they say) add the domestic demand component. So, as the numbers show us (see WEO, 2011) Asia and the Southern Cone of Latin America are literally carrying the world economy on its back as the new growth pole. They are doing so through a mix of the solid alternative that has a much better record that austerity economics.

  11. yog says:

    I don’t understand the point.
    Is the issue the content of academic work or the content of political advises from “economist”?
    Didn’t most of the Nobel Prize winners actually work on “market failure”?
    Don’t you think that we can analyze the financial crisis with the current apparatus of economic theory: asymetric information + public choice?

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