“Boom Bust Boom” Explains Why Economists Never Predict Bubbles

VEA Vice-Chair Nell Minow interviewed the people behind a new documentary about why economists are so wrong about bubbles for the Huffington Post.  Here is a slightly longer version.

Did you ever think only a Monty Python member could explain the wild economic upheavals of the last century? A new documentary, “Boom Bust Boom,” thinks so, too. Python Terry Jones co-directed and appears with a bunch of economists, some puppets, and some monkeys to explain why we keep being surprised when the same thing keeps happening over and over and over again.

“Boom Bust Boom” features high profile advocates for change such as John Cusack, journalists Paul Mason and John Cassidy, plus leading experts including the Chief Economist of the Bank of England, Andy Haldane, and Nobel Prize winners Daniel Kahneman, Robert Shiller and Paul Krugman. The filmmakers are on a mission to change the way we think about and teach economics, beginning with helping all of us understand why it matters — and that it is not too complicated or boring to understand.

In an interview, co-directors Bill Jones and Ben Timlett and economist Theo Kocken spoke about making “the dismal science” entertaining and informative and how monkeys teach us that humans are not as rational as we like to believe.

After each bust there is an effort to prevent that same set of circumstances from occurring and generally it is pretty successful — changes like better disclosure, bank insurance, independent audits, liquidity requirements, and stress tests do address some of the problems that led to past collapses. Is it ever possible to have a regulatory regime that irons out cycles of boom and bust or is that cyclicality just inherent in the system?

Bill/Ben Answer:

We believe it’s possible for the state and the regulators to set up the system to minimize the effect of the busts but I don’t think they will remove them altogether in a capitalist system. A hell of a lot really needs to change to set up a system that protects us from busts and this needs to be passed down to generation after generation year on year. 2008 was the moment it could have been done, but they didn’t.

Theo Answer:

In the past some tough actions were taken after a crisis and repealed a while later when things went well. This is deepening busts and heightening booms, so very counterproductive this way! We need regulators that become tough in what look like good times but are in fact risky times when we borrow too much and spend too much. So far this hasn’t occurred in history. Now again we make tougher rules in the middle of a crisis but the system becomes more fragile because all the banks that survive are even bigger banks and they all start to look the same and will fail at the same moment in time when again we relied too much on models (and all banks are forced to use the same models, so model risk has become gigantic). The system is not becoming more resilient but more fragile.

One of the core principles of economics is the power of incentives.  What are the misaligned incentives that prevent academia from confronting the teaching of boom and bust cycles?

Bill/Ben Answer:

Speaking for the UK first, universities are very much rated through research, effecting the supposed quality and kudos of doing a degree at the university.  This research needs to be published to be recognised.  The journals publishing research which are seen as the most important and frankly the only ones that matter are dominated by mainstream approaches, so thats what they publish.  Anything else is rejected.  

In the US as I understand it there is more focus on what the students going into college education are gravitating towards, so there is a possibility for student movements to be able to effect the syllabus, if they can mobilise.  We have more hope for the US.  

Also, these economic professors have been working and developing research within these mainstream approaches for decades.  They are not going to suddenly say it was all bol***ks.  Change happens one dead professor at a time someone said, god I hope thats not the case.  

Theo Answer:

It’s partially incentives as Ben/Bill mention, that make people go for the fairy tale world of neoclassical stable economic processes. It’s vested interests.   But there’s more. We live in a paradigm that believes we are able to control the economy and the world in general.  Our worldview from the time of Descartes and Newton applies to standard physics . But it doesn’t apply to 7 billion people buying houses, borrowing money, speculating on exchanges etc. Their behaviour is emergent and unpredictable.  But we as human beings cannot accept unpredictability – WE NEED TO PREDICT AND CONTROL –  and so we pretend much more control and knowledge over the economy than we really have. This has dire consequences such as too much borrowing, dysfunctional financial markets  etc.

Who is the audience for this film? How do humor and animation help to reach people who would not otherwise be willing to sit through an economics lesson?

Bill/Ben Answer:

Everyone, from high school age to pensioners, women, men, monkeys, female monkeys, male monkeys, dogs, cats… everyone. Normal people need to understand this as the busts affect THEM.

We wanted to make a film which was entertaining and informative. Getting across complex and on the face of it very boring information and ideas was a huge problem from the outset. Bill and I had worked a lot with different styles of animation in our previous docs but Terry immediately said let’s also do puppets. Basically throw everything at it! I remember us pitching it to someone, I think it was a broadcaster, anyway one of us said it’s like the “the history of financial crashes but with puppets, animation and song!” Seeing that person sit forward and start listening, I thought maybe this could work.

Theo Answer:

Yes, and adding to Ben and Bill: Students are a second category. They use the film as a tool to make other students aware and help them to fight for more pluralism in economics. The third group is politicians but I guess that is to no avail as we first need a new generation – via the students – that has a more diverse and open way of thinking.

Does any country get it right? Which countries have made the most effective efforts?

Theo Answer:

Japan is not getting rid of its debt overhang, despite the biggest uncontrolled monetary experiment in history. The US restructured the financial sector’s balance sheets pretty well but have such a huge debt overhang they are waiting for big trouble. Europe made a huge mess by not restructuring Southern European debt and tried to compensate with unprecedented ECB (Central Bank) QE actions. And on top of that China did the same after 2008 that Japan, US and Europe did the decades before 2008: Get into debt problems and use that to finance not the real economy but the financial economy (stocks and houses). All these four blocks are more or less in the same trouble: Too much debt, too much QE that doesn’t work anymore but creates much misallocation of capital, bubbles and inequality.

Of course there are a few examples of better actions (like Sweden after the ’90’s disaster) but these are too small to help the rest of the world. In short, US, China, Japan and Europe still don’t understand the detrimental role of too much debt and too much QE that doesn’t help. We need to accept that we have to go through some pain instead of injecting heroin and making things worse without feeling the pain yet….

You include in the film a primatologist who shows us how monkeys try to think about economics when she introduces them to the idea of coins that can be exchanged for food. What do the monkeys tell us?

Bill/Ben Answer:

They tell us that we are not rational when it comes to finance. Monkeys are dumb. I don’t mean to be disrespectful to monkeys, frankly I am sure there are some pretty smart ones out there but when it comes to assessing gains and losses in real markets they make the same mistakes as us. This means we haven’t evolved the part of our brain to make informed decisions. Mainstream economics uses models which suppose that we are all completely rational when it comes to money; they use these models to run the economy. This supposes that although you might not make the right decision individually at first, I will, someone else will and when all our decisions are put together in a massive festering soup of millions of decision we will all form one overdoing rational decision together, this is called ‘collective irrationality’. Its just nonsense that this happens all the time, monkeys tell us that.

Theo Answer:

We as humans make decision based on emotions, just like monkeys and with the same old part of the brain. Our ‘modern’ brains that distinguish us from monkeys can do calculations, but we use them to make complicated but erroneous models and we rely on these models. That makes us dumber than monkeys. Monkeys have robust small communities; we built fragile interdependent societies full of systemic risks. Evolution of our brains was good for making tools like fire and wheels but not when it comes to abstract things like working with money, debt and banks. Our brains are not able to cope with these things very well.

What don’t we understand about debt?

Theo Answer:

We don’t understand that debt is consumption that is not earned and needs to be earned later. We thought debt was a miracle created out of nothing and could always be repaid by higher asset prices like ever growing house prices and every growing stock prices.   This “debt ignorance”  has serious implications when you have to get rid of debt (the period that started after 2008 and will not end somewhere before 2025):  Decades of less spending and therefore deflation and slow growing (if not shrinking) GDP.  We have all become Japan,  because we thought Japan was different.  Japan  is different, and Europe is etc, but the process of debt-depressions is the same….

How well do politicians understand economics? How well do economists understand politics?

Bill/Ben Answer:

I don’t think they do. They need to be educated and watch our film. Their incentives, certainly if you are a career politician, are not conducive to understand the dangers. For example politicians say “We need more growth so I can get elected next year, so find a way to push up growth up anyway possible!” Someone says, “Relax a few regulations and let the financial economy kick on unchecked in a few possible untapped areas”… then bust.

Theo Answer:

Politicians don’t understand economists but take those parts from economics that serve them well. For example leaving debt out of the models is great for politicians and that made Mr. Greenspan so popular.

Economists live in their own ivory tower and ignore everyone, including politicians.

What is the difference between “the financial economy” and “the real economy?”

Theo Answer:

The real economy consists of entrepreneurs and employees who create new things like products and services: they build bicycles, bake bread, drive buses, serve you meals etc. The financial economy consists of financial assets that already exist like stocks and houses that go up (and down) in value and create money without anything being produced. It is non-productive and should support the real economy but as debt grows faster than the real economy (thanks to banks and central banks/regulators), it takes money away from the real economy and moves it into financial assets. It still looks productive until the bubble bursts and households get stuck with too much debt and small innovative firms are not able to get access to money to start their business. The financial economy should be supportive to the real economy but it actually is hindering the real economy due to the role of unsustainable debt-growth, uncontrollable banks, etc.

Anything else the audience should know about “Boom Bust Boom” and the economy?

Bill/Ben Answer:

It was made for everyone, to inform them about something that really does matter and effects them, their friends and families… it was also made with passion, love and care, please watch it.

Theo Answer:

It doesn’t solve all the questions people have; its core message is that if we are more humble about what we know and take human behavior into account, we will create a better economy with less inequality and more sustainable finance. I’m sure we will get there, and the film “Boom Bust Boom” and the website are small catalysts in that process.

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