Temporary insanity (learning from mistakes)
One of the most interesting passages in Edward Nelson’s new book on Milton Friedman concerns wage and price controls as a tool for reducing inflation. Throughout history, economists have generally opposed price controls. Then around 1970, many prominent Keynesian economists suddenly began supporting the policy. Why?
Here’s Ed Nelson (Vol. 2, p. 258):
Indeed, what is remarkable about events during 1970 is the extent to which mainstream US macroeconomic thinking on inflation moved toward the position on inflation previously associated with Galbraith and with economists in the United Kingdom. In the course of that year, pure cost-push views became prevalent among major US economists and policy makers. Increasingly, major Keynesian academic economists, economists in government and business, and policy officials were judging that market power of labor and government had so altered the United States’ wage- and price-setting mechanisms that, instead of merely responding inertially to economic slack, inflation now did not respond to negative output gaps at all.
A few pages later he names names:
In contrast [to Friedman], the freeze was applauded not only by Burns and Galbraith but also by leading Keynesian economists like James Tobin, Walter Heller, Arthur Okun, and Gardner Ackley . . . One of the most prominent supporters was Paul Samuelson.”
Today, a progressive might say, “Good, Keynesians finally shook off neoliberal orthodoxy.” But there’s a problem with that optimistic view. The wage/price controls clearly failed. And after they failed the Keynesian camp went back to their traditional stance of opposing wage-price controls.
So what can we learn from this bout of intellectual “temporary insanity”?
1. In 1970, Keynesian economists were still working with the wrong macro model of the economy. They thought there was a “trade-off” between inflation and unemployment. So when both inflation and unemployment were high in 1970, they assumed there was some sort of mysterious new phenomenon called “cost-push inflation”, which could only be addressed with wage-price controls. They had not yet absorbed Milton Friedman‘s Natural Rate Hypothesis. (Although just a few years later Friedman’s theory did become widely accepted by Keynesians.
2. In addition, Keynesians made a mistake that I see many economists make even today. They went with their intuition, not with decades of hard economic analysis and solidly established economic theories. For a brief period, it seemed like price controls were a good idea. Today, we see many economists rejecting long established theories such as the idea that free trade is good, or that minimum wage laws are bad, or that wealth taxes are bad, or that persistent large budget deficits are bad, or that unemployment compensation reduces the incentive to work, or that fiscal policy is not a good stabilization tool. They are going with their gut, not with hard economic analysis involving incentives and budget constraints.
Does this mean that we cannot trust the experts? Yes and no. We cannot have complete trust in experts; but what is the alternative? I have no doubt that if you polled economists today on the issue of rent controls, you’d find a few individuals in support of the policy. But if you polled all of the residents of NYC and LA, you find millions in support of rent controls. So yes, the experts goofed on the Nixon wage/price controls, but the public also supported the policy. Indeed I’m not sure the public ever learned the lesson that they don’t work. At least economists learned from their mistake.
Here’s Matt Yglesias:
Most historians whose work I’m familiar with seem to broadly agree with the thesis of Binyamin Applebaum’s book The Economists’ Hour: False Prophets, Free Markets, and the Fracture of Society.
Which is to say they don’t deny that economists have some useful technical knowledge or that some economists are very insightful, but they think that the large and growing role of economists in American public life in the last quarter of the twentieth century was basically bad. They think economics as a discipline entrenches a kind of neoliberal worldview, and the elevation of economics over other social sciences was a bad thing.
In fact, the neoliberalism of the final quarter of the 20th century was by far the best thing that ever happened on this planet, producing an astounding decline in global poverty.
Yglesias adds a very astute comment:
I mention this because I often think that what people mean when they invoke “listen to the experts” is basically that people should agree with the aggregate political opinions of people with advanced degrees. In other words, be very progressive.
A particularly comical example of this came recently when Democracy asked a bunch of prestigious law professors to write a new constitution from scratch and they decided there should be a constitutional provision requiring a two percent wealth tax. These law professors are experts, in the sense that they are professors, and professors love Elizabeth Warren and Elizabeth Warren loves the wealth tax. But most tax experts do not like this idea at all.
It really depends on whether progressives have a pre-existing opinion that they hold dearly. They did not have strong views on masks, travel bans, and lockdowns, and hence progressive opinion shifted on a dime in the spring of 2020 in response to sudden shifts in expert opinion on those issues. But they do have strong opinions on rent controls and wealth taxes, and resent being told by economic experts that rent controls and wealth taxes are a bad idea.
PS. Of course progressives also have dearly held views on gender, sex, and race (some of which I agree with, some I do not), but that’s a topic for another blogger. Check out Yglesias if you want to see an example involving IQ.
PPS. There are two types of economists. Those who have read Nelson’s new book and those who have not. David Henderson linked to a New Republic
an Atlantic article interviewing someone who clearly has not:
The new consensus on Friedman’s work among economists has essentially reversed Summers’s verdict from 2006. “Almost nothing remains of his intellectual legacy,” according to Columbia University economist Jeffrey Sachs. “It has proven to be a disastrous misdirection for the world’s economies.”
Sigh . . .