Saturday, January 16, 2010

new yorker interviews gene fama?

The New Yorker interviewed a few Chicago school economists about the financial crisis. I don't really understand what its purpose is in doing this. I know what the purpose is, I just don't understand it. While it might create some feeling of satisfaction for liberals privy to individually blaming conservative economists for being stupid (as Krugman likes to call them), or rationally irrational (I don't even know what that means but it's the title of the New Yorker series), the questions asked to these economists are just as stupid and degrading. They are not intellectually edifying at all.

Honestly, these leftists should think about what they would have done in 2007 if they actually knew the crisis was approaching. How would they move to stop it? Would they have placed more regulations on housing? Would they fire the people who promoted the crisis from their positions in academia, Wall St., the government?

I hate to defend conservative economists but this is individualist, American-style liberalism at its best. Consider these superficial passages from the review (interviewer in italics, Fama in plain text):

Many people would argue that, in this case, the inefficiency was primarily in the credit markets, not the stock market—that there was a credit bubble that inflated and ultimately burst.

I don’t even know what that means. People who get credit have to get it from somewhere. Does a credit bubble mean that people save too much during that period? I don’t know what a credit bubble means. I don’t even know what a bubble means. These words have become popular. I don’t think they have any meaning.

I guess most people would define a bubble as an extended period during which asset prices depart quite significantly from economic fundamentals.

-The interviewer does not take the time to discuss what they might mean by a credit bubble -- they stick to terms thrown around in the popular media, such as "bubble", and completely ignore Fama's challenge to them of defining and discussing what a credit bubble is.

Let me get this straight, because I don’t want to misrepresent you. Your view is that in 2007 there was an economic recession coming on, for whatever reason, which was then reflected in the financial system in the form of lower asset prices?

Yeah. What was really unusual was the worldwide fall in real estate prices.

-The article does a lot of "that's your view?", and "this person's view is the opposite", spending little time on discerning the nuances in the arguments.
Back to the efficient markets hypothesis. You said earlier that it comes out of this episode pretty well. Others say the market may be good at pricing in a relative sense—one stock versus another—but it is very bad at setting absolute prices, the level of the market as a whole. What do you say to that?

People say that. I don’t know what the basis of it is. If they know, they should be rich men. What better way to make money than to know exactly about the absolute level of prices.

So you still think that the market is highly efficient at the overall level too?

Yes. And if it isn’t, it’s going to be impossible to tell.

For the layman, people who don’t know much about economic theory, is that the fundamental insight of the efficient market hypothesis—that you can’t beat the market?

Right—that’s the practical insight. No matter what research gets done, that one always looks good.

-Much discussion of the Efficient Markets Hypothesis EMH) doesn't work at the core of why it's important to the crisis. The lesson learned from the EMH is not that the EMH fails to explain the financial crisis (Fama correctly defends this point in the interview). The lesson learned from the EMH is that most people still believe that free and unfettered financial markets are the best way to maximize efficiency. This is not a conclusion of the EMH, rather, it is one of the underlying assumptions. Essentially, belief in the assumptions of the EMH is much more broad in the sense that it implies a certain relationship between the financial and real sectors of the economy. This is not addressed in the article.

I know the business school has a lot of diversity, but is that also true of the university economics department?

Sure. John List is over there. He’s a behavioral economist. Steve Levitt is a very unusual type of economist. His brand of economics, which is an extension of Gary’s is taking over microeconomics.

I spoke to Becker. His view is that what remains distinctive about Chicago is its degree of skepticism toward the government.

-Much of the article is obsessed with narrowing down what "Chicago diversity" is, or who holds this view and that view, etc. Fama has a lot of interesting (and 'interesting' does not mean 'correct') things to say but the interviewer doesn't press him on any of it.
When all this (the financial crisis) started, I joined the debate. Then I stepped back and said, I’m really not comfortable with my insights into what the best way of proceeding is. Let me sit back and listen to people. So I listened to all the experts, local and otherwise. After a while, I came to the conclusion that I don’t know what the best thing to do it, and I don’t think they do either. (Laughs) I don’t think there is a good prescription. So I went back and started doing my own research.

Couldn’t we just ban further bailouts, passing a constitutional amendment if necessary? That would be in line with your views, wouldn’t it?

Right, but is that credible? It’s very difficult to explain how A.I.G. issued all the credit default swaps it issued if people didn’t think the government was going to step in and bail them out. Government pledged, in any case, have little credibility. But that one—I think it’s pretty sure that we they couldn’t live up to it.

-Several of the policy proposals are worded in ridiculous ways to further portray Fama as some irrational person who doesn't understand the social and political implications of his arguments.

I simply do not see the utility in these types of interviews. The obsession of the press with pointing out the "bad guys or gals" and putting labels on them is not a productive way of stimulating debate about the issues and moving forward. Blame like this only moves things backward, leaving many pining for the days when people knew "what was going on" and could predict the crisis. Let's move forward by thinking creatively about how to solve the problems which are the consequences of how we view the economy and its relation to society.


  1. Dan, I feel like I read this interview completely different. To me it seems like it is Fama who resists nuance - particularly in understanding criticisms of the EMH. Could the interviewer have done better? Prob but it seems we should be able to expect one of the supposed greats in financial economics to understand the basic criticisms. (Personally, I think he understands quite well but resists for argumentative reasons but that is about as falsifiable as Fama's use of efficiency in this interview).

    Ok, but leave this different reading aside. Here is my question. Fama comes off quite arrogant - in the standard economics profession sense - in dismissing Possner as unqualified and a number of other cases. This is a problem to me and this is why what you see as finding "bad guys" is what I see as calling out the experts who have claimed authority on the analysis and construction of the economy. Isn't challenging those who claim authority more than than just simply finding bad guys?

    (There is one point where Fama does claim some humility, saying he stopped advancing policy positions, but remember this was after his crude use of macro identities was demolished by DeLong, Krugman, and others. Now I'm not a big fan of the style of either DeLong or Krugman, but if there wasn't someone calling him on the BS he would have likely continued pushing his ideas (pure crowding out even when we are within the ppf) as economic science, marginalizing those who disagreed as unqualified.)

  2. Of course "challenging those who claim authority [is] more than just simply finding bad guys" but my whole point is that there is very little "challenging" going on. Over and over the interviewer asks "is that your view? Who else at Chicago shares this view?" etc.

    Fama states that he would like to know more about what causes business cycles. So would most of the mainstream. This in fact was the whole point of Kocherlakota's piece on the state of macro (the one I thought was much more informative than Krugman's). This is just one other example of matter-of-fact speaking on macro that Fama gives here and to which the interviewer barely responds.

    I would like to know what you find to be evidence of Fama being arrogant in this piece. I'm hoping it's not all the laughter they document but I bet a lot of readers did take it that way. So what if he's laughing? You could have an article on Jim Crotty's view of the fin crisis where he's laughing at all the guys like Shiller, and you wouldn't necessarily take *him* as arrogant. The more important question would be, what is Fama arrogant about?

    What's a good example of a liberal-conservative debate among economists? Though at times the moderator was extremely rude to Sam, I thought the Free to Choose debate between him and Friedman/Becker was pretty interesting and wasn't completely full of disengaged debate like this one was.

    Finally, you should consider Fama's position in this interview, being interviewed by a "left wing" magazine asking questions like "Let’s say the government did what you recommend, and forced banks to hold a lot more equity capital. Would it then also have to restructure the industry, say splitting up the big banks, as some other experts have recommended?" ... I mean seriously. Where the hell did the second part of that question come from and how is it not a total baiting maneuver?

  3. I want to clarify that I don't agree with Fama on most issues concerning the financial crisis -- for example I find the "efficient markets" view of the economy to be ridiculous and the "Treasury view" that savings drives investment in a perfect market to be a harmful way of directing policy.

    I just wish the interviewer had done a better job of analyzing what Fama was saying.

    But perhaps I've read so much on the crisis that I'm simply frustrated with any piece on it which is run in mainstream media because it covers the same issues over and over again...

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