Many people blame the global financial crisis on ‘free-market’ economics and the teachings of some economists. In particular the Chicago school has come in for some criticism. John Cassidy, for example, has a long piece in the New Yorker (subscription required) where he seems to lay the blame squarely at the feet of the Chicago school. Cassidy relies heavily on the opinions of Richard Posner. From the introduction
Earlier this year, Posner published “A Failure of Capitalism,” in which he argues that lax monetary policy and deregulation helped bring on the current slump. “We are learning from it that we need a more active and intelligent government to keep our model of a capitalist economy from running off the rails,” Posner writes. “The movement to deregulate the financial industry went too far by exaggerating the resilience–the self-healing powers–of laissez-faire capitalism.” Posner also accuses professional economists, including some of his Chicago colleagues, of being “asleep at the switch.”
I find the argument that ‘lax monetary policy and deregulation’ as some form of market failure somewhat surprising; I would categorise those as government failure. But moving right along (emphasis added)
… Ever since Milton Friedman, George Stigler, and others founded the Chicago School, in the nineteen-forties and fifties, one of its goals has been to displace Keynesianism, and it had largely succeeded. For three decades after the Second World War, economics was dominated by Keynesian ideas about how the government should use monetary and fiscal policy to prevent slumps. Since 1974, however, more than a dozen scholars associated with the U. of C. have been awarded the Nobel Memorial Prize in Economic Sciences; in the areas of regulation, trade, anti-trust law, taxes, interest rates, and welfare, Chicago thinking greatly influenced policymaking in the United States and many other parts of the world.
That is a testable hypothesis and John Taylor puts it to the test.
Consider, for example, measuring influence by the representation of members of a school in top economic positions in government where there is an opportunity to influence policy. And consider as a measure of an economist’s school, the university where he or she received the PhD. The data in the chart follows this approach. It shows the university PhD percentages of appointees to the President’s Council of Economics Advisers (CEA).
The blue line shows the percentage of presidential appointees to the CEA who have a PhD from Chicago. The red line shows the same for MIT or Harvard (Cambridge), one possible definition of an alternative to the Chicago school. The years from the creation of the CEA in 1946 until 1980 are shown along with each presidential term thereafter. Observe that the peak of the Chicago school influence was in the Reagan administration; it then dropped off markedly. In contrast Cambridge reached a low point of zero appointees to the CEA during the Reagan administration and then rose slightly to 20 percent in Bush 41, to 82 percent in Clinton, and to 100 percent in both Bush 43 and in Obama.
Blaming the financial crisis on the free-market influence of the Chicago school is certainly not consistent with these data. There were no Chicago PhDs on the President’s CEA leading up to or during the financial crisis. In contrast there was a great influx and then dominance of PhDs from Cambridge. And also notice that there were plenty of Chicago PhDs on the CEA at the time of the start of the Great Moderation—20 plus years of excellent economic performance. These data are more consistent with the view that the waning of the free-market Chicago school and the rise of interventionist alternatives was largely responsible for the crisis. But the main point is that there is no evidence here for blaming the influence of Chicago.
Of course, such measures are imperfect. Neither Milton Friedman nor Paul Samuelson served on the CEA, but their students did. And while PhDs from any insitution certainly do not fit in any one mold, the people who learned about rules versus discretion with Friedman likely had a different policy approach than people who learned about rules versus discretion with Samuelson. The data are robust when you look beyond the CEA to other top posts normally held by PhD economists. All assistant secretaries of Treasury for Economic Policy appointed during the Bush 43 and Obama Administrations had PhDs from Harvard. During the same period, all chief economists appointed to the IMF had PhDs from MIT, and, except for Don Kohn, who was promoted from within and Susan Bies who was appointed as a banker, all PhD economists appointed to the Federal Reserve Board were from Cambridge MA.
Taylor’s own PhD is from Stanford.
Getting the Chicago School off the hook is one thing, but surely the point is somewhat moot if the Cambridge economists come from schools which basically advocate the same approach. Is there any evidence of Keynesians coming from these schools and getting appointments, for instance?
THR
30 Jan 10 at 12:22 am
THR – there is a huge ‘freshwater’ v ‘saltwater’ divide in the US. Mankiw at Harvard, for example, is a New Keynesian.
Sinclair Davidson
30 Jan 10 at 7:37 am
That’s a very revealing graph, Sinclair. Thanks for the find.
skepticlawyer
30 Jan 10 at 10:37 pm
Sinclair, there’s some reasonable evidence that Bush Jnr, at least, took his economic (and Iraq-related) advice from free market economists. And aren’t the ‘rational behaviour’ assumptions made by the ‘freshwater’ folk something of a methodological embarrassment? They certainly ought to be.
THR
31 Jan 10 at 12:11 am
THR
Macroeconomics constitutes a smallish, minority area of study in Economics. Other areas being Micro, International Trade, Public Finance, Game Theory, Econometrics, Health Economics, Financial Economics, Economic History, Experimental Economics, Environmental Economics, Monetary Economics, and on and on.
Anybody who was a “Keynesian” should find it difficult to get a job as Keynesianism is very old hat. Remember, the world Keynes wrote about was vastly different from the world we live in today. Also, this concocted ‘freshwater’ vs. ‘saltwater’ split is a complete crock.
Graduate students from Oxford to LSE to Toulouse to Tilburg (Netherlands) to Singapore to Sydney to Berkeley to San Diego to Texas to Chicago to NYU to Boston all study basically the same curriculum, right down to the same textbooks.
Peter Patton
31 Jan 10 at 10:44 am
THR – when I look at the graph I see no evidence that Bush Jr took his advice from Chicago economists. Perhaps some of the Cambridge MA economists are free-market economists (another testable hypothesis). All economists make some sort of rational behaviour assumptions with the the behavioural economists then relaxing some of those assumptions in fairly predictable ways.
Sinclair Davidson
31 Jan 10 at 11:18 am
And George Bush learnt his economics at Yale and Harvard.
Peter Patton
31 Jan 10 at 11:24 am
What I’m getting at is the idea that the school itself isn’t the only factor, if the school’s ideology has travelled far and wide (as Peter suggests here by claiming that all economic schools are pretty similar). Bush Jnr’s economic handling of tax cuts, Katrina, Iraq (both in Iraq and at home) are redolent of Chicago School economics, even if it was Chicagoites specifically doing the advising. Also, Rumsfeld was very strongly a fan of Milton Friedman, and I’d be very surprised if Paul Bremer wasn’t a fan as well.
THR
31 Jan 10 at 11:33 am
THR,
Remember how the King, Wally Lewis once was rude to fans?
I think Friedman would have said much the same thing to Bush as he said to Nixon –
“Don’t blame George for this silly business of wage and price controls,” meaning George Shultz. And I believe I said to him, I think I said to him, “Oh, no, Mr. President. I don’t blame George; I blame you!
Semi Regular Libertarian
31 Jan 10 at 12:03 pm
I think Peter is overstating the case for similarity.
Sinclair Davidson
31 Jan 10 at 12:15 pm
“Oh, no, Mr. President. I don’t blame George; I blame you!
You gotta love Milt. He should have lived forever.
JC1
31 Jan 10 at 12:42 pm
Sinclair in which case you think wrong.
Peter Patton
31 Jan 10 at 1:09 pm
Maybe – but I’m not convinced there is no difference between the outlook of a Harvard/MIT grad and that of a UChicago grad. See here.
(also note I say you’re overstating, I’m denying what you say in total).
Sinclair Davidson
31 Jan 10 at 1:16 pm
Sinclair, I am not having a go at you. It is just that since the GFC, there has been an amplification of this “goodies vs. baddies” conflict among economists, and particularly – macroeconomists – such as this Manichean struggle between the ‘freshwaters’ and ‘saltwaters’.
Please. Anyone would think that Brad de Long, Paul Krugman etc. were Jesus Christ returned to save the virtuous. Never mind that Krugman won his Nobel for his rabidly free market, free trade mathematically abstruse work, not for being “The Conscience of a Liberal”.
To put it more bluntly, yes it is a non-existent schism fanned by self-styled ‘left wing, inclusive’ though irredeemably white, bourgeois, male macroeconomists (NTTAWWT) spitting hairballs at each other from behind the parapets of their mutli-six figure salaried sinecures.
My take is that it is largely driven by guilt. They know they are frauds. They are not the post-modern Marx or Engels, whose egalitarian legacies these ‘saltwater liberals’ would presume to usurp. That is why they have made these bogeymen out of Milton Friedman, Fama’s EMH, etc. See the contortions they go into to stress it is only this or that part of Fama they depart from. Or how the idea that government’s printing money is fraught is somehow cruel, callous, ‘loopy’ even.
And now the blogosphere laity has joined in to cheer this or that side and its messiah. Now, I am also not having a go at THR either, but I don’t get the impression he knows a lot about economics, but he knows what he likes, or more accurately what he doesn’t like: Chicago. Though how many Chicago scholars could he name and the work they do? What about Harvard, MIT, Columbia?
None of these ‘Conscience of a Liberal’ types are heterodox economists, and they all back their own, all the time – Bernanke’s rehiring anyone? Talk about mountains and molehills
Peter Patton
31 Jan 10 at 2:39 pm
Yep, even Krugman himself is shilling for Bernanke. Are there any top US economists – even Nobel Prize winners – who aren’t Jewish?
http://krugman.blogs.nytimes.com/2010/01/26/bernanke-reconciliation/
Peter Patton
1 Feb 10 at 6:41 pm
I don’t think they were actually supportive of the Bernanke rehire and if they were it was only very superficial.
Look I think Ben has done an excellent job of handling the crisis. I’m not sure the world would be better off if he wasn’t around.
I do fault him a little that I think he was far too tight in the final phase going too far and that added somewhat to the crash. However he did a decent job from then on and managed to get control of the situation.
JC
1 Feb 10 at 6:49 pm
JC
My posts were less aimed at Bernanke than at the faux revolutionaries, such as Krugman.
Peter Patton
1 Feb 10 at 6:54 pm
THR
Given your recent confessions about being a Communist, it is clear how you could the views above that you do. You have no idea about economics. Just out of interest, what sort of work do you do? Do you have any idea how wealth is created and distributed?
Peter Patton
3 Feb 10 at 6:22 pm
Never mind what work I do. Focus on the arguments, not the hominem.
And it’s laughable to suggest that capitalism is not ideological. All that stuff about ‘free enterprise’, individualism, competition, etc, is non-ideological?Capitalism is a purely contingent system that emerged relatively recently, and could very well disappear in the future.
THR
3 Feb 10 at 6:28 pm