Nobody Could Have Predicted
The only economic commentary I’m qualified to give, really, is the sort exchanged when the speaker or listener have both had a few too many, or have been talking so long that punchiness or sheer momentum keeps them going.
And yet I recall a number of conversations between 2005 and 2008, some with friends similarly qualified, others with friends who made their living from their financial opinions, in which we shook our heads and said, “this can’t last”—meaning New York real estate prices, then exponentially increasing, and the ARMs being procured nationwide. Our evidence was anecdotal—who was doing well enough to keep the “boom” going? Not the preponderance of people we knew. Outside of finance—and not everywhere in finance—salaries weren’t matching cost of living increases, and whether we worked for large companies or on our own, or in small companies servicing the large ones, we sensed a provisional, tenuous quality to things. The 1990s’ sense of assurance was gone, and quite rightly; things had never entirely regained their footing after 2000-02 (when the Times ran pieces like this). Something had gotten out of joint. How could an entire economy prosper on finance, Google, and increasing real estate prices?
In Sunday’s Times magazine Paul Krugman gives his take on the history of economics up to 2008, and some recommendations for the profession thereafter. It’s almost enough to make me want to drop everything to become a behavioral economist:
even during the heyday of the efficient-market hypothesis, it seemed obvious that many real-world investors aren’t as rational as the prevailing models assumed. Larry Summers once began a paper on finance by declaring: “THERE ARE IDIOTS. Look around.” But what kind of idiots (the preferred term in the academic literature, actually, is “noise traders”) are we talking about? Behavioral finance, drawing on the broader movement known as behavioral economics, tries to answer that question by relating the apparent irrationality of investors to known biases in human cognition, like the tendency to care more about small losses than small gains or the tendency to extrapolate too readily from small samples (e.g., assuming that because home prices rose in the past few years, they’ll keep on rising).
