November 15, 2019 / 3:38 PM / 23 days ago

Breakingviews - Review: Nobel winners show limits of their method

LONDON (Reuters Breakingviews) - “What is common among a drought-affected farmer in India, a youth in Chicago’s South Side, and a fifty-something white man who was just laid off?” That question exemplifies the approach of “Good Economics for Hard Times: Better Answers to Our Biggest Problems”. Abhijit Banerjee and Esther Duflo, two of the three winners of this year’s Nobel Prize in Economics, like to think both big and small.

United States one dollar bills are curled and inspected during production at the Bureau of Engraving and Printing in Washington November 14, 2014.

The big starts with the book’s ambitions. Backed up by 55 pages of references, the two professors at the Massachusetts Institute of Technology tackle a daunting list of issues, from American taxes, to African anti-malarial mosquito nets, to guaranteed income programmes in India.

The results are sometimes more confusing than illuminating. Even on a second reading, it is not really clear why an analysis of migration slides quickly from anti-immigrant sentiment in rich countries to the dynamics of rural-to-urban moves in developing economies.

The little is evident in the authors’ taste for autobiographical anecdotes. The book discusses Banerjee’s Indian childhood games, as well as the South American peregrinations of Duflo’s French grandfather, not the mention the couple’s adventures in buying a video player in Paris.

The homey touches complement the authors’ love of careful studies of paired small groups of people. One group gets something, say extra education or higher unemployment benefits, and the other, otherwise similar, group does not. The authors’ expertise in these experiments, known as randomised controlled trials (RCTs), attracted the Nobel committee’s plaudits. A wide international sample of the studies makes up most of the evidence in “Good Economics”.

The relationship between the big and little approaches is not always smooth. Banerjee and Duflo’s frequent admonitions to study the distinct reasons for various types of “sticky” behaviour and for the misallocation of resources can appear at odds with sometimes careless jumps to broad cross-cultural conclusions.

For example, the answer to their question of what the poor peasants, slum kids and ex-factory workers have in common is that their human dignity should not be threatened. “While they may have problems, they are not the problem.” It’s hard to argue with the sentiment. But it blurs over the differences in the ways that dignity is respected in different societies and economic circumstances.

One big and global generalisation which would have been helpful is almost missing from “Good Economics”. That is the three-decade long worldwide retreat of wretched poverty and the accompanying expansion of the global middle classes. The historically unprecedented spread of development undercuts the “Hard Times” of the book’s title. More significantly, it makes many of the small RCTs mentioned look less relevant.

Still, the book’s wide range provides a useful survey of the state of large parts of the economists’ art. The vista is not encouraging. As a notable example, Banerjee and Duflo show that the various theories of economic development fall far short of describing reality, let alone of providing successful recommendations for policymakers.

And this failure is all too typical. Economists only understand a small portion of the effects of migration and urbanisation. The profession has no stunning insights into how to manage either process. Economists have few good ideas about how to help people and places hurt by economic changes. They cannot tell if the pace of technological growth is slowing or accelerating. Their suggestions about dealing with climate change are all inadequate.

“Good Economics” identifies an underlying problem. Market-loving economists are too committed to psychological oversimplification. In reality, people are nothing like the calculating machines which make the theory of competitive markets so compelling. Contrary to what the textbooks say, real preferences are not fixed. Real people live in ignorance and confusion, and often in fear. Their motivations are almost always complicated, and actual aspirations are often unrealistic.

Banerjee and Duflo conclude that “it is unreasonable to expect markets to deliver outcomes that are just, acceptable, or even efficient”. Instead, the husband-and-wife team endorse quite a bit of active government, which should be guided as much as possible by their beloved RCTs.

Their experimental rigour mostly leads to the recommendations which might be expected from liberal Boston-area academics: higher taxes on the rich to limit inequality, more help for both domestic and foreign poor, more migration and freer trade, but with more help for those who lose out.

There are clues for a more imaginative agenda that leads the global economy to respond better to people’s needs, fears and desires. “Good Economics”, though, shies away from the ethical and sociological debates needed to flesh out these hints.

Their Nobel Prize will help Banerjee and Duflo promote both their attention to detail and their global thinking. The world is better for that, even if “Good Economics” does not live up to all their aspirations.

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