Condivergence: The map and territory of terra economicus

This article first appeared in Forum, The Edge Malaysia Weekly, on November 12, 2018 - November 18, 2018.
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After the global financial crisis of 2007, the economic profession went into self-reflection on what went wrong. Behavioural economics became the fashion. Nobel laureates Daniel Kahneman, Richard Thaler and others deservedly won their prizes on how we were blind to our blindness. But in between fast and slow thinking lie mental maps of the world that we have not quite deciphered.

Perhaps we can never explain economics independent of the real world. As Financial Times (FT) columnist Martin Wolf shrewdly put it in his blurb for the book Econocracy, “If war is too important to be left to the generals, so is the economy too important to be left to narrowly trained economists.” As the authors of Econocracy (graduates of economics from Manchester University in 2011) claim, “Our generation must have the ability to reimagine the economy. And to be able to do that, it must reclaim economics from the experts, transforming it from a technical discipline into a public dialogue.” The econocracy is defined as “a society in which political goals are defined in terms of their effect on the economy, which is believed to be a distinct system with its own logic that requires experts to manage it”.

Put simply, terra economicus has been captured by an elite, who claims to manage it for society, creating the classic principal-agent problem or, as the Chinese term it, “the guests (or agents) have become the masters (principals)”. The elite are of the 1%, by the 1% and for the 1%.

As a former central banker and financial regulator trained to think in terms of rule of law and global market norms, I confess to both “mea culpa”. The economics profession was guilty of a “monumental collective intellectual error” (attributed to Sir Nicholas Macpherson, former permanent secretary of the UK Treasury, quoted in FT, April 15, 2016, Econocracy reviews) in failing to predict or prevent the Great Financial Crisis of 2007-09.

Worse, the mainstream economic policy framework encapsulated in the Washington Consensus on market liberalism never satisfactorily explained the phenomenal rise of China from a poor country in 1978 to the second largest economy in the world. Unfortunately, there is also no Beijing Consensus within Chinese economists on how this occurred.

Since China’s rise benefited significantly from globalisation, we clearly need to move out of partial analysis at the national level (the common framework for most economists) into a dynamic, whole-world inter-connected complex adaptive system analysis of global change.

Is a new General Theory of Economic Behaviour (like Keynes’ 1936 classic) possible?

As FT columnist Gillian Tett, who was trained as an anthropologist, correctly surmised, we are all guilty of the Silo Effect: “The modern financial system was surprisingly fragmented in terms of how people organised themselves, interacted with each other, and imagined the world … we live in a world that is closely integrated in some ways, but fragmented in others. Shocks are increasingly contagious. But we continue to behave and think in tiny silos.”

In his 2013 book, The Map and the Territory, Risk, Human Nature and the Future of Forecasting, former US Fed chairman Alan Greenspan agreed that “macromodelling unequivocally failed when it was needed most” (in September 2008). Unfortunately, other than stating “how we were steering by out-of-date maps,” Greenspan basically argued that his economic forecasting method was possible to measure more systematically how people behave irrationally. His book revealed not so much the economic profession’s mental map, but his own (how it was influenced by Ayn Rand and his career as a business economic forecaster). His terra firma was essentially the US and not the world as a systemic whole.

Traumatised by the carnage of the First World War, Polish-American psychoanalyst/philosopher Alfred Korzybski (1879-1950) first coined the phrase, “the map is not the territory”, meaning that our mental map could be very different from the real world. In essence, the economics profession pictured a rational man to represent human behaviour, but is completely at a loss on how to predict outcomes from the complex interaction between decisions taken from mental maps of individuals, elites and the masses.

The issue is further complicated by the fact that economics suffers from physics envy, by trying to borrow tools from mathematics and physics to bolster quantitative economics’ claim to be the “queen of social sciences”. Can the laws of physics explain the vagaries of human behaviour? After the end of the Cold War, jobless doctorates in physics entered the finance business and evolved the discipline called econophysics. This gave rise to quantitative economics, including all the flash crashes that no one has fully understood.

In short, partial analyses are incomplete, but the real world is too immense and complicated for any individual to comprehend. Therefore, we are forced to simplify into maps of reality what are really maps of imagination. And if the maps of imagination are wrong, then our decisions and choices for our future are wrong!

How did economics make these fundamental mistakes in methodology? The neo-classical general equilibrium model of the economy made some fundamental assumptions, such as perfect information, which can only exist under extreme circumstances but was important to arrive at “optimal” situations of Pareto efficiency.

Korzybski was right, following the Hungarian philosopher Wittgenstein (1889-1951), that the world is a totality of facts, described by language. Concepts are defined by language. It is the essence of Aristotelian logic, the main driver of Western philosophy and science, that excludes the possibility that mind and body (two separate concepts by Aristotelian logic) are one continuum. In other words, there is a beauty and elegance in classical thinking that explains the world beautifully in perfect terms, such as mathematics.

This worldview then assumes that rational human behaviour is mechanical, approximated by linear or near linear rules that were expounded by Isaac Newton (1642-1727). This dominant classical view shaped the social sciences, which then also tried to be mathematically explainable. But by taking out humanity, these quantitative social scientists, notably the economists, excluded humanity and all the irrationality that human beings engage in — in their normal lives and also special times.

In other words, economic science borrowed extensively from Newtonian mechanical thinking and assumed it was the natural form of economic systems, with individuals as robots and markets as machines (Frydman and Goldberg, 2011). Individuals are rational and the system will revert automatically back to equilibrium. Economists of that ilk simply ignored the philosopher Karl Popper (1902-1994) who warned that the future is unknown and objectively open, as well as Nobel Laureate’s Friedrich Hayek (1899-1992) address on “the pretense of exact knowledge that is likely to be false”.

It is dangerous to pretend that we have perfect information. The presence of perfection leads to blind spots, which is why we entered into a financial crisis with our eyes wide-open, but mind partly closed.

Going forward, our mental maps would need to be redrawn.

Andrew Sheng writes on global issues from an Asian perspective

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