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Why Economists Are Always Wrong

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Economists, especially the champions in mathematics among them, tend to linear thinking, for the simple reason that nonlinear thinking is too complex to handle in a model and leads highbrow theoreticians in the direction of disequilibrium, a concept that’s lacking in mainstream neo-classical economics. A concept to be afraid of, indeed, because it’s wild and it moves. Welcome in the complex, chaotic world that’s called Reality. A dynamic world that’s too slippery for mainstream economists.

By Frank van Empel

Linear Thinking is a process of thought following known cycles or step-by-step progression where a response to a step must be elicited before another step is taken. Non-Linear Thinking is human thought characterized by expansion in multiple directions, rather than in one direction, and based on the concept that there are multiple starting points from which one can apply logic to a problem.

Linear thinkers start at step one and usually do a good and efficient job of completing the task before moving on to step two. They are driven, focused, and don’t easily get off topic.

Non-linear thinking is less constrictive – letting the creative side of you play with an inherent lack of structure. It’s very much like brainstorming – allowing thought to flow, unhindered, in attempts to arrive upon something special in the process.

Non-linear thinkers tend to jump forward, and from side to side through the steps of a project, in an effort to see the big picture and tackle those areas where they have the most interest. Where non-linear thinking falters is in finally carrying out the required action, because as a thought process it often encourages a user to agonize incessantly over where to start.

It’s important to have both types of thinkers on a team. Use non-linear thought to re-examine starting points and increase the possibility of finding the best option, and use linear thinkers and their efficient logic-based reasoning once a starting point has been established to get the job done in a timely manner.

Economic models

By far most economists practise linear thinking. They try to catch reality in a linear model, a set of interdependent equations that each describe a part of the puzzle that’s called reality. If the income of people gets higher, they will consume a fraction and they will park a fraction in order to spend it later. The decision of entrepreneurs to invest depends on economic demand, but in fact it’s just a matter of guts, an autonomous factor that cannot be tracked by mathematics. However, if bookkeepers fill in real data when the fight is over, this autonomous factor predicts the past perfectly.

A model is a tailor made reflection of the past. If it’s built and tested economists put real data in it and they manipulate the mathematical equations as long as the model doesn’t predict the past yet. If they succeed in mirroring their perception of what may have happened in the past and why, their job is over. The results are published in an economic paper or a book and if their theory corresponds with economic fashion they even may win the Nobel Price.

There is only one big problem: a certain model may correspond with a perception of the past, but it never predicts in a right way what is going to happen in the near and far future. There are some good reasons for that:

  1. Economists focus on what has happened in the past in a linear approach of what is supposed to be reality in stead of a nonlinear, irrational approach of the building blocks of reality: human behaviour, technological changes, institutionalism, decision making, politics, policies, strategies, feelings, entrepreneurial spirits, power…et cetera. In short: mission impossible. That’s exactly the reason why they stick to linearity and rationality. It is tautological reasoning. Reality is too complex to handle, and so they take the easy way to a future that will never happen.
  2. In particular economists have a talent of overlooking the dynamics of the investment equation. Investments are the vehicle of entrepreneurs who have an idea, make a business plan, lend some money and just take off. Entrepreneurs don’t use models. They disgust models, because models describe what the multitude does. And they per definition are not mainstream. They are driven by what the famous British nonlinear thinker John Maynard Keynes called ‘animal spirits’.
  3. Linear thinking economists usually don’t distinguish ‘expectations’ as a kind of ‘getting in lane’. We are entering the domain of ‘disequilibrium economics’ here, a kind of black box where mathematically oriented economists easily loose the track they thought they were on.

Disequilibrium economics distinguishes three different levels of economic activity and shows how adjustments of intentions and expectations take place. These three levels are:

  1. the potential or ex-ante level, that gives an impression of the intentions and expectations that sellers and buyers in a marketplace have in advance of the real confrontation with other buyers and sellers;
  2. the effective level, that expresses adjusted intentions and expectations (adjusted to the real circumstances that suppliers and potential buyers come across when they undergo the countervailing powers of supply and demand);
  3. the realized or ex-post level, that can be different from the ex-ante level because potential buyers drop out, discouraged by higher prices than expected, or a long time waiting, bad service, et cetera. Suppliers of goods or services may be discouraged by a lack of demand and low prices.

A disequilibrium analysis assumes a tension on the ex-ante level between supply and demand that provokes adjustments in the positioning of market forces. First adjustments in the quantities supplied or demanded and in condition terms will take place. Later on adjustments of prices may follow, especially when firms are (almost) working at full capacity.

These kinds of tensions in micro-economics happen at the same time in all distinguished markets: the market for investment goods, the market for consumption goods, for several kinds of labour, for money, stocks and bonds…. All this processes influence each others. It’s not realistic to isolate one of these markets and make a special analysis for it. From this micro economical perspective there are thousand and one reasons why an equilibrium state of whatever kind of market is an illusion. A certain market may tend in the direction of equilibrium – the theoretical situation where supply exactly equals demand at a certain price level – but it will never arrive there, for the simple reason that the process will be disturbed by oblique buy and sell proportions in other parts of the economy.

Macro-economics surpasses these tensions on the micro level between buyers and sellers, but in practise it struggles with the phenomenon of disequilibrium too. Economists have some clues, but no easy solutions for their inability to predict the future. The best way to handle in this kind of dead-lock situation is to shape a vision of a wished future and go for it. Or, like Abraham Lincoln once said: ‘The best way to predict your future is to create it’.

This article leans on two publications:

  1. Do we think  differently? Chuck’s lamp [2], blog posted in Philosophy, 04 11th, 2009.
  2. Disequilibrium versus Equilibrium Economics, master thesis of Frank van Empel, University of Tilburg, 02, 1980.

Check also: New Economic Thinking [3].