Google Ads

What Drives the Economy ?

Must read

What Drives the Economy ?

Do people actually act rationally? Or can stories and rumors derail an entire economy? Recently, economists are increasingly recognizing that narratives play an important role.

In the early 1920s, the US suffered a very violent contraction of its economy, in which inflation quickly turned into deflation and the stock price-to-earnings ratio slipped to 50-year lows. Economists Milton Friedman and Anna Schwartz, in their book “Monetary History of the United States”, blamed the inexperienced Federal Reserve, which had skyrocketed its discount rate by 1 percentage point.

In a recent speech at Yale University, economist Robert Schiller offered a different explanation. Rumors circulated that the communist revolution in Russia would soon spread to America, and newspapers warned that the profiteering associated with the First World War would soon give way to a drop in prices. Therefore, Schiller explained, these and other narratives plausibly showed economic uncertainty, discouraging consumer spending and business investment.

Schiller makes similar arguments about the Great Recession and the financial crisis of 2008. In the 2000s, stories of people getting rich from real estate speculation contributed to the perception that housing prices would continue to rise. The financial industry played a huge role in starting the “epidemic” of public opinion and exploiting it for its own benefit. But the bankers could not have created the bubble without the help of those who got mortgages based on the narrative.

Schiller has long been one of the few economists to capture the role of “animal instinct” that largely guides public opinion. What’s different about his new work – what he calls the “narrative economy” – is the idea that stories effect more or less like infectious diseases, with some being much more contagious than others, and that an epidemiological approach could help us better understand their movements. The data needed to do this is starting to become available—for example, from textual analysis of news feeds and social media.

Schiller’s work illustrates a more abstract argument recently made by sociologist Jens Becker of the Max Planck Institute for the Study of Societies. Noting that economists typically assume that rational expectations define human behavior, Becker argues that people operate on “fictitious expectations.” -elaborate speculations about the future that are based in part on the prevailing narratives and beliefs of others. People are neither rational nor irrational, but something in between.

They learn what they can from their social environment, even if sometimes the result is to lead them astray. This idea of ​​“social learning” is considered in biology, but has been largely neglected in economics.

These are academic glimpses into ideas that have long remained in obscurity. Former Wall Street analyst Robert Prechter, for example, has published a series of books—most recently “The Socioeconomic Theory of Finance”—arguing that mood, including the unconscious, drives financial markets, not the other way around. It’s a perspective that turns the common way of thinking about causality inside out, and it takes some getting used to, but it’s gaining more and more ground.

It is perhaps fitting that the power of narratives has gained greater recognition during the tenure of Donald Trump, who rose to the presidency in large part thanks to a complete disregard for objective reality. As Schiller admits, Trump is a “master of storytelling.” Let’s hope this doesn’t turn out to be disastrous.

- Advertisement -

More articles

LEAVE A REPLY

Please enter your comment!
Please enter your name here

- Advertisement -

Latest article