Barry Eichengreen has pursued the question how we could have been so misguided in a recent article in The National Interest. He reckons that:
Rather, the problem was a partial and blinkered reading of that literature. The consumers of economic theory, not surprisingly, tended to pick and choose those elements of that rich literature that best supported their self-serving actions. Equally reprehensibly, the producers of that theory, benefiting in ways both pecuniary and psychic, showed disturbingly little tendency to object.
Hope can be found in the fact that:the twenty-first century will be the age of inductive economics, when empiricists hold sway and advice is grounded in concrete observation of markets and their inhabitants. Work in economics, including the abstract model building in which theorists engage, will be guided more powerfully by this real-world observation. It is about time.
There is this old criticism of “empirics without theory”, or reversely, “theory without empirics”. As an explanation for the mess we are in this is not very original. Barry Eichengreen also mentions incentives for academics to cater to the financial industry. I think that’s more like it. There is also the question how much networks dominate publications, faculties and jobs at government-sponsored agencies. How independent from politics is the average economist? How much of a science is economics if every few decades one dogma is replaced by another?
However, this discussion can be postponed until later. I am sure that new details will reveal the connections between the financial players, academics, governments, central banks and universities. The recent information that Tim Geithner is strongly rooted in the financial industry was probably just the tip of the ice-berg.