If an abstract principle is any good it should coordinate available concrete information in an unambiguous, coherent way. This works best in maths and some of the sciences (though some branches of physics don’t do as well as you might think). In social science it’s basically impossible to articulate abstract principles that will satisfy everyone, but that doesn’t mean we should try or that we think of better or worse abstract models. In the case of economics I often see people moving quickly from noting shortcomings of economic models as if that somehow supported their own opinions. The weaknesses of the models show that economics is hard, not that you know better.
In the case of economics, there are a bunch of economic principles which economists basically agree on and many people can accept when stated as a general principle, but get totally overridden when comes to particular cases. Here’s a list of 15 economic principles from a speech given by a journalist I really like. Some of the principles are obvious enough to seem like common sense rather than “economics” but people, including politicians, deny them all the time! My past few posts may be boring but I don’t really expect that there is a lot to get worked up about one way or another. This post is different though. I’m trying to argue that we’re wrong to let the emotional effect of special cases override abstract ideas we should believe are true.
Maybe the most obvious one is that demand curves slope downward. In general, raising the price of something lowers the demand for it. There are some obvious exceptions to this rule like luxury products where low prices can be seen as a bad signal about quality which can affect demand. There are also less obvious exceptions to the principle like the idea of a “Giffen good”. If the price of a staple food like rice increases people might buy more of it because they have less money for nicer food and rice is still the cheapest thing around. How far do these exceptions go in invalidating the idea that demand curves slope downwards? Not that far I say, maybe we need to stay on our toes when applying the principle but still, I think that not assuming it’s generally true would be crazy.
Now how about the demand curve for labour? Does that slope downwards? If putting it that way is a little boring, how about, “should we get rid of the minimum wage?” If it seems really obvious that we shouldn’t get rid of it, why is that? Does raising the price of labour not reduce demand for it? Or do we think of rich employers and poor employees and see that it’s just obvious that employers should pay more?
Now maybe the potential downsides of a minimum wage are worth the costs, but if you think it’s obvious that a larger minimum wage won’t result in less job seekers finding low skilled jobs, your belief is in tension with a pretty fundamental economic principle. I have seen lots of arguing in favour of the minimum wage, but I see much less recognition of this basic tension.
On Monday Eugene Fama shared the Nobel Prize partly (primarily) for his work on the efficient markets hypothesis. “Efficient” makes it sound like markets are “good” but the EMH is compatible with bad outcomes. The idea is that markets are good at taking the available information into account. Basically, when someone tells you about a hot new stock that you have to buy you can basically just ignore them. The trouble is that in conversation when someone is trying to convince you about their stock, they will definitely have more information about it than you. They will be able to give you a detailed argument in favour it that you will not be in a position to pick apart, but you are still justified in ignoring their advice. The world is a complicated place and there are lots of people out there smarter than you trying to be clever about what stock to pick. The odds that your salesman is the special one, who really knows, are really low.
I’d guess that most educated non-economists (and plenty of economists) think that the EMH is just plain wrong and many think that it’s so obviously wrong that they are genuinely surprised to discover that it’s actually a thing. There are some people who do seem to be special and there are apparent exceptions where the EMH doesn’t seem to hold. But the fact remains that it is incredibly difficult to beat the market. Lots of very clever people devote their lives to doing this and very few succeed. Just like some exceptions to demand curves sloping downwards doesn’t mean we should chuck away the basic idea, same with EMH, even if the dude selling you his stock is really convincing. Once you give up on the quest for exceptionless certainty these principles are very powerful and can help understand the world and I think we should resist the emotional appeal of cases that seem to clash with them.
P.S. Link to the 15 principles is there now.
P.S. Link to the 15 principles is there now.