… than are dreamt of in your philosophy. My apologies to the Bard, but that line from Hamlet came to mind while reading Bloomberg Businessweek‘s startling discovery that people do not all behave according to the dictates of a mathematical formula. As the headline of the print version of the article declares: “‘People Are Different,’ Say Economists.”
In a speech in Frankfurt in October, Peter Praet, a member of the executive board of the European Central Bank, told a conference of economists something curiously obvious. “Individual households are heterogeneous in many respects,” he said. “It is important to measure and analyze this heterogeneity because it can have important implications for aggregate figures.” People are different, he meant, and we need to understand how to understand the economy.
Praet had to state the obvious because until this year economists, in particular those who make forecasts, put their faith in models that ignored those differences. Those that the ECB and the International Monetary Fund used to predict the future relied on a “representative agent,” a single imaginary person who stands in for everyone.
The problem was that these models failed to predict the consequences of the austerity programs that several European countries adopted in 2010. It turned out that actual people didn’t behave like the imaginary proxy. Economists are learning that the poor and the wealthy respond differently to austerity and stimulus. This could present challenges to politicians. If people behave differently, then policy might have to treat them differently.
Left unexamined in this article is the impact that this “discovery” should have on the notion — one might call it a “fatal conceit” — that central planning from self-appointed experts makes any sense whatsoever.
