Stumbling and Mumbling

Author: chris dillow   |   Latest post: Tue, 29 Sep 2020, 4:14 PM


How to be wrong

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"The tradition of all dead generations weighs like a nightmare on the brains of the living." I was reminded of these words of Marx by the Telegraph's report that some Treasury officials are pushing for tax rises and spending cuts in part because there is a "plausible" risk of a sovereign debt crisis.

Of course, Simon is right: there is no such risk as the Bank of England can, in extremis, buy up gilts. Certainly, financial markets aren't worried; the latest gilt auction saw record demand. And it would be foolish to begin austerity before the recovery is well-established.

Which only poses the question: why do intelligent people believe such silly things?

Part of the answer lies in selection effects. The interests of capital constrain policy options, and the rise of financial/rentier capital and decline of Fordist capital has increased pressure for easier monetary policy rather than looser fiscal policy.

This is compounded by the fact that the marketplace in ideas is failing. John Stuart Mill thought that "wrong opinions and practices gradually yield to fact and argument". But for various reasons - not least being our media - this does not happen. Nick Robinson's claim on the Today programme yesterday that "the money has to be paid back somehow" shows that the myth of the government as a household stays obstinately alive.

But there's more to it than this. There are also powerful psychological mechanisms that cause the Treasury's error - mechanisms which, of course, occur all the time in other contexts. Here are three.

Formative years.

Napoleon was right: "to understand the man you have to know what was happening in the world when he was twenty." Those of us in our 50s remember talk of the government having to go "cap in hand to the IMF". And we were educated at a time when real interest rates were high and so we thought fiscal policy was constrained both by the fact that high yields would cause debt to increase and by the danger that borrowing would raise interest rates and so crowd out private sector spending. Of course, we now live in a completely different world of a savings glut, negative real rates and dearth of investment. But it's hard for our minds to fully adapt. Marx was right; they are shaped by the past, not just the present.

We have good empirical evidence here from another context. Erin McGuire and Ulrike Malmendier (pdf) have both shown that our attitudes are disproportionately shaped by how the economy appeared to us in our formative years. People who suffered hard times, they show, invest less in equities even decades later. The distant past thus unduly influences behaviour today.

Bayesian conservatism.

We hate admitting that we were wrong. We therefore stick to our prior beliefs more than we should. If you sympathised with post-2010 austerity, therefore, it's hard to admit you were wrong even in the face of strong evidence. Upton

Again, it's not just Treasury officials, journalists and politicians who make this error. People make the same mistake even when there is big money at stake. One of the strongest tendencies in equity investment is the so-called disposition effect; people hold onto badly performing shares because selling them would mean admitting - if only to themselves - that they were wrong.

Deformation professionelle.

Our professional training doesn't just give us skills. It also inculcates particular biases into us - ways of seeing the world which are only partial. For decades, the Treasury's role has been to watch the pennies - and in fairness somebody has to. This can easily lead to the belief that the pennies must be watched even when thy don't need to be - a tendency reinforced by bureaucrat's habit of mistaking bureaucratic convention for objective reality. And it is further reinforced by our reluctance to abandon ideas on which our career is built. As Upton Sinclair said, "It is difficult to get a man to understand something, when his job depends on not understanding it." We apply the sunk cost fallacy to our beliefs.

Again, though, Treasury officials are not unusual here. Economists tend to over-estimate the role of financial incentives; lawyers over-estimate the role of the law as an agent for addressing social problems; and as for engineers...(pdf).

My point here is that it is incredibly easy to be wrong. The three mechanisms I've described here are powerful and ubiquitous. You can no doubt think of many other ways in which they apply - not least to me. This makes it all the more important that in politics we have filtering mechanisms which weed out errors. Our problem is that not only do we not have such mechanisms but that too often we have the opposite - ones that select not against error but in favour of it.

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