Home > Economic Thought, The Economics Profession > Uncertainty—in retrospect

Uncertainty—in retrospect

from David Ruccio

Uncertainty is all the rage right now, with a wide variety of economists and central bankers “discovering” its disturbing effects in the midst of the current crises of capitalism.

But I’ll bet it’s just a passing fad. As soon as things return to normal, uncertainty will be put back on the shelf and, once again, be tamed and domesticated.

As I’ve shown many times over the last few years, the failure of mainstream economics has prompted a rediscovery of uncertainty—not unlike during the First Great Depression when Keynes argued that investors were subject to fundamental uncertainty (as against probabilistic risk) and therefore guided not by rational calculation but by “animal spirits.”*

*This is radically different from the current mainstream-economists-for-Team-Republican focus on policy uncertainty, which is just another way of arguing for continuing the Bush-era tax cuts for wealthy individuals and large corporations. Mike Konczal does a good job taking apart the mainstay of their approach, the economic policy uncertainty index.

The latest to announce the relevance of uncertainty is Andy Haldane [ht: sb], Executive Director for Financial Stability at the Bank of England—who, according to Ismail Erturk et al., has become the bank’s “radical house intellectual who, through his interventions after the crisis, has become the darling of the intelligentsia.”

On one hand, there’s something refreshing about Haldane’s critique of mainstream economics.

The notion of not knowing, of imperfect information, of uncertainty (as distinct from risk) got lost from economics and finance for the better part of 20 or 30 years. . .

I think one of the great errors we as economists made in pursuing that was that we started believing the assumptions of economics, and saying things that made no intellectual sense. The hope was that, by basing models on mathematics and particular assumptions about ‘optimising’ behaviour, they would become immune to changes in policy. But we forgot the key part, which is that the models are only true if the assumptions that underpin those models are also true. And we started to believe that what were assumptions were actually a description of reality, and therefore that the models were a description of reality, and therefore were dependable for policy analysis.

On the other hand, Haldane’s critique is quite limited, in at least two senses. First, it’s haunted by a nostalgia for a better time, before the neoclassical synthesis, and thus harkens back to the work of Hayek, Keynes, and Friedman, who “were all some hybrid of economist, sociologist, mathematician, political scientist and philosopher” and understood that “our socio-economic knowledge might be deeply imperfect.” Second, it quickly moves beyond the problem of uncertainty, by attempting to replace the physics-inspired certainty of the neoclassical synthesis with the life-sciences certainty of evolution. So, in the end, he really does know what happened:

For example, the notion of ‘too big to fail’ is a form of evolutionary equilibrium founded in a set of self-reinforcing state interventions, each of which individually made sense. Because if a bank goes bust, it may make perfect sense for a government to ride to the rescue, which in turn gives rise to a set of incentives for those running the banks, which makes the next bank failure even bigger, which states then have to deal with. This creates a ‘too big to fail equilibrium’. And therefore to tackle that evolutionary problem you need to break the cycle. In the case of banks, you can fine them, you can regulate their behaviour, but unless and until this structure of incentives is altered, to change this fundamentally, you won’t reverse the cycle.

In the end, Haldane’s critique is really only aimed, looking backward, at the uncertainty concerning the particular set of assumptions of the neoclassical synthesis. Moving forward, it leaves open the door for a new science of economics and a new warrant for certain economic knowledge—to understand and then regulate the banking system—based on evolution and complex systems. In that world, the only role for uncertainty is to create the conditions for a new kind of authority.

Mistakes will be made – that is in the nature of public policy. The important thing is that they are made, when they are made, for the right reasons. That they’re honest mistakes, they’re technical mistakes, that anyone could have made given how uncertain the world is. That’s what protects you. That’s what gives you authority. It sounds perverse that admitting to mistakes can be credibility enhancing, can be authority enhancing. But my very strong view is that that is the only thing which can protect you, can enhance understanding and therefore authority.

In Haldane’s world, uncertainty is a problem that can be explained (with the correct set of models) and then used (e.g., by the Bank of England) to create a new kind of regulatory authority. It is precisely not an issue of “undecidability” or “indeterminacy” that challenges the pretenses and protocols of modern economic knowledge.

Thus, I am quite certain that, once again, it will be put back in the box—once Haldane and others believe that the gust of wind has passed, the regulators’ control has been reasserted, and the banks return to business as usual.

  1. robert r locke
    August 14, 2012 at 5:20 pm

    I find it somewhat astonishing to read this post. I have been keenly aware of the breakdown in the Newtonian-Cartesian epistemology on which neoclassical economics is based and thought it had become common knowledge among educated people. I’m talking about books like Frijof Capra’s The Turning Point (1982)and so many others. In organizational theory the subject is covered in planning and strategic thinking, in the numerous writing of the economist Gunnar Eliasson about the

    Experimentally Organized Economy. What’s going on here? Don’t economists reaoutside a narrow circle in the English speaking world?

    s[ealomg gefunden.

    • Geoff Davies
      August 15, 2012 at 12:42 am

      Hi Robert. No, mainstream economists do not read outside their tiny little world, they are the most ignorant people I’ve ever encountered. Yes, I’ve been gobsmacked many times over too.

      • Alice
        August 15, 2012 at 10:25 am

        Agree – they persist defending the indefensible. If only they got up from the computer models and started analysing the mess we are in and “that means economic history” which I understand many economists sat back and let political powers and governments destroy in universities. Shame the majority of economists have nothing real to study now the field of economics speciliases in models based on the artifice of ridiculous and absurd assumptions.

      • Alice
        August 15, 2012 at 10:26 am

        There is nothing quite as bad as ignorance mixed with arrogance.

  2. August 14, 2012 at 8:05 pm

    AS I have been arguing (in writing) for more than 27 years, the problem with mainsteam economics is their adoption of the ergodic axiom — something Paul Samuelson insisted we economists must accept if we to truly make economics a SCIENCE. Yet eal world macroeconomics, here liquidity is the essence of the capitalist system, the system is truly a nonergodic stochastic process.

    In my books including the most up to date THE KEYNES SOLUTION: THE PATH TO GLOBAL ECONOMIC PROSPERITY I demonstrate that even though Keynes was not exposed to the ergodic process explanation in stochastic theory [ which was developed my the Moscow School of Probability in 1935] his comments on uncertainty and his criticism of “Mr. Tinbergen’s Method” [[ i.e., econometrics] requires Keynes to reject the ergodic axiom just as Keynes argued that geometers were required to reject the axiom of parallels [p. 16 of the GT] to work out a non-euclidean geometry for the real world.. The General Theory, as I have demonstrated is the equivalent of an non-Euclidean economics, while mainstream theory is the equivalent of Euclidean economics

    Unfortunately people who called themselves Keynesians in the old days, e.g., Samuelson, Tobin ,Solow, Modigliani, and even Hicks did not understand Keynes’s analytical framework .[[ but at least, Hicks, came around to understanding (in print) that his ISLM framework did not represent Keynes’s analysis — and in a letter to me , Hicks indicated he now embraced a nnoergodic economic theory.

    Even worse, peole like Mankiw, Hubbard etc. proclaim they are New Keynesians without the slightest idea what Keynres wrote in his General Theory book.

    A sage once said that in literature a “classic”: is a book that everyone cites but no one reads. Thus for Samuelson, Tobin, Mankiw, etc, Keynes’s General Theory is truly a classic!

    Paul Davidson

  3. Geoff Davies
    August 15, 2012 at 1:02 am

    Apparently this Haldane thinks organic systems are in equilibrium, and that “evolution” is a process leading to equilibrium. He is doubly wrong. Living systems are far-from-equilibrium systems. What he calls evolution is more properly called dynamics. It is a common misreading to refer to dynamical development as “evolution”.

    Although it ought to be gratifying to see these people trying to step out of their tiny world, it’s scary seeing them being so amateurish, trying to reinvent things that were sorted out long ago in other fields. In the second quote above, he seems to have glimpsed the idea of an undesirable feedback, but still thinks it must lead to an equilibrium, rather than, for example, an overshoot and crash.

    As Robert notes above, they don’t know about complex systems, as written about by Fritjof Capra, in 1980, and many others. Actually the ideas of self-organisation and complexity are only slowly permeating the sciences. There still seem to be many scientists who think in terms of simple cause-and-effect rather than feedbacks, multiple states etc. Still less has it permeated our general culture.

  4. Alice
    August 15, 2012 at 10:18 am

    ” In the second quote above, he seems to have glimpsed the idea of an undesirable feedback, but still thinks it must lead to an equilibrium, rather than, for example, an overshoot and crash.”

    Geoff – which brings us straight back to nthe Keynesian idea that if we wait long enough for some things to to correct (what needs correcting? Economists obessions? The real world? Or both?), we are all dead.

    This feedback thing is a crucial overlooked aspect. Soros is on to something when he discusses reflexivity but the academic profession poo poo’d Soros work.

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