Saturday, September 27, 2008

Economists disagree on the $700bn bailout

When economic conditions turn sour in Argentina or Indonesia, we give very clear instructions on what to do: balance the budget, cut government employment, maintain free trade and the rule of law, and do not prop up failing enterprises. Opponents of free markets argue that this advice benefits international financiers, not the domestic market. I have always believed (at least since I began to understand economics) that the U.S. approach was correct. But when the U.S. ignores its own advice in this situation, it reduces the credibility of this stance. Rewriting the rules of the game at this stage will therefore have serious ramifications not only for people in this country but for the future of global capitalism.

That was University of Chicago economist Robert Shimer in a lengthy email that Greg Mankiw has posted in his blog.

Brad DeLong has a different thought:

To get get a $500B macroeconomic gain in production and employment, Paulson wants to take on a position with an expected value of -$100B. But the true value of that position could be anywhere between +$200B and -$400B. Looks like a good
bet to me.

These two comments by themselves ought to tell us that economics is far from being a science. It is a discipline in which arguments and debates are the key, and not any indisputable facts and theories. If only economists would recognize that!

Finally, how about this following comment by Shimer:

let me be clear that I agree with your comments about Ben Bernanke. I too know him well from the seven years I spent with him on the faculty at Princeton and I share your respect for his intelligence. I also recognize that he is far better informed about the current situation than I am. This does not, however, mean that he is perfectly informed. Indeed, looking back over the last 13 months, it should be clear that the Fed and Treasury have repeatedly underestimated the extent of the problem. In such an environment, the distributed knowledge of professional economists and other imperfectly-informed observers may be superior to the knowledge of the Fed staff. In other words, you write, "In his capacity as Fed chair, Ben understands the situation, as well as the pros, cons, and feasibility of the alternative policy options, better than any professor sitting alone in his office possibly could." That may be correct, but I am not convinced that he understands the situation better than the collective wisdom of all professors.

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