BRETTON WOODS, N.H.—It had been a long and dreary Saturday, overstuffed with PowerPoint slides and panel discussions. The economists, to a Nobelist, were exhausted. They had hoped to channel the ghosts of the famed Bretton Woods conference—where, 67 years earlier, American and other elites forged a new global economic system—in a quest to reinvent their field, which failed spectacularly to predict and prevent the 2008 financial crisis. Instead, the first full day in the grand old Mount Washington Hotel had yielded little of the “new thinking” that the economists had all trekked north to discover. But then came the dinner, when a distinguished Brit in a sleekly tailored suit arrived at the podium and cheerfully proceeded to decimate their profession.
The lecturer was Lord Adair Turner, an aristocrat in charge of England’s supreme financial regulator, who challenged nearly every fundamental assumption that has driven Western economists and policymakers for the past half-century. Leaders in Washington and other capitals, he charged, have become hypnotized by a “self-reinforcing belief system” that prescribes liberalizing markets as the best and only answer for economic problems. Freeing markets from government control, Turner argued, does not necessarily maximize economic growth. And growth itself, he added even more heretically, is not the ultimate aim of a good society; rich countries would be better off trading some growth for more stability and equality.
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Turner ended with a plea: Mainstream economics needs to embrace the radical notion that people are not rational actors after all. “Good economics leaves us”—policymakers, regulators, and consumers—“with far wider degrees of freedom to make political and social choices than has frequently been asserted,” he told the gathering. “The role of good economics is to inform those choices, not to deny their possibility.”
Good economics is in short supply in the wake of the financial crisis, particularly in Washington—and dangerously so. The period of steady growth that economists once hubristically called the Great Moderation has become the “Great Mortification,” in the words of economic historian Philip Mirowski of the University of Notre Dame. The American public has lost faith in the profession, which largely failed to predict how asset bubbles and a wave of complex new financial products could bring the world economy to its knees; for their part, economists are groping to understand where they went wrong.
The distrust and disarray among economists have left an intellectual vacuum in Washington’s fiscal and financial debate at a time when the stakes couldn’t be higher. That vacuum has created huge opportunities for discredited and dubious theories. The Right, for example, champions the idea that cutting spending now will immediately boost the economy (rather than slow it, as most models show) and bring it back to health, while the Left argues that simply adding more spending and stimulus, almost regardless of total debt levels, will do the same. Then there’s the notion that the nation’s debt ceiling need not be raised—that immediate spending cuts can take care of both the deficit and growth.
In April, Standard & Poor’s lowered its outlook on U.S. debt to “negative,” reflecting worries that Democrats and Republicans can’t even agree on the basic principles for taming the national debt. As lawmakers grapple with that question, along with how best to handle growth, job creation, and rising health care costs, they are looking to simplistic, black-and-white branches of economics for guidance—caricatures of theories that crumbled in the market failures of the Great Recession. Conservatives continue to argue, in true neoclassical spirit, that freer and less regulated markets always perform better, and government only gums up the works. Keynesians stress increased government spending, above all else, to climb out of recession. In this regard, all of Washington is falling victim to what John Maynard Keynes described 75 years ago. “Madmen in authority,” he said, see themselves as “practical men” when they are “usually the slaves of some defunct economist.”
President Obama, as he fences with Republicans, has lamented the “deep philosophical divide” between the two political parties’ economic plans. That’s accurate, but it overlooks a bigger problem: More than two years after what many authorities called the worst financial crisis in history, neither Obama nor GOP leaders in Congress have embraced a new form of economic reasoning that explains either what has happened or where we are going. The economy is simply too complex, and the global financial system too interdependent, to be viewed through the prism of old theories that hold that free markets—or well-timed government spending—can solve almost anything. No one in Washington is challenging those doctrines with any strength. There is no analogue to Lord Turner in America, no one who can shake up government thought from the inside or challenge it from without.
This article appears in the May 21, 2011 edition of National Journal Magazine.