Friday, 31 October 2008

Is economy an art or science?

Me and my colleague had an interesting argument about whether economy is a science or an art over a Friday evening pint. The conversation was driven by the fact that the pub we frequent was void of the usual buzzling crowds and owing to the current gloomy days. I took (as usual) one my recent readings as a basis of my arguments. George Soros in his recent books eloquently argues about thinking and reality. He puts forwards that 'thinking' alters 'reality' and vice versa and with wide array of participants with different mindset( but with the same goal of making more money), the economic systems are inherently very complex to predict. He refers this as theory of reflexivity.

 And anything complex has always been portrayed as art , ignoring some modern arts with just a dot in the canvas with an explanation of 'portraying intricate human relationships in a deterministic and dark emotions among human ethos'.

Science tries to simplify things and while doing so , removes lot of variables which doesn’t seem to have a significant effect on the outcomes during the observations.  This is done for known lack of correlations with the outcome based on our knowledge. But these variables may have massive effect on the outcomes under unforeseen circumstances.

For e.g. it is a very simple fact that if we lend to risky borrowers, it may never get returned and our capital may be at risk. You don’t need be a nobel laureate to be able to tell this. But in the stable economy with lot of promises and an upbeat mood, this simple variable has lost its meaning or lost its relevance before world woke up and started to stick to its basics. All those complex risky models which the WE-HAVE-ALL-THE-CASH-IN-THE-WORLD investment bankers employed haven’t helped much. So Is economy an art or science?

The human society learns predominantly based on what has happened and it follows the pattern of evolutions as the experience get hardwired into the genetic makeups, evolution in its  'design space' gives room for strong and weak both out of mutations and out of circumstances, but the weak doesn’t survive hard tests and gets eliminated. But there is a definite possibility by the laws of probability that it could re-occur and get killed again. Similarly economy which is fundamentally driven by the sentiments of buyers and sellers is extremely complex with humongous amount of influencing variables.  To be able to understand it better,  economists resort to simplification and try to make it as a science.

Without treating economy as a science , we will be walking in the valley of death ridden with beasts in the nights without any lamps to guide us. Science helps us to travel the night to a good extent with a reasonable success. But in the in the unknown path , we never know what is next and are bound to fall down and get hurt. This lamp helps us to understand where we have fallen , what has happened to us and how to get out that place.

World as a whole learns from its mistakes and proceeds forward, but the wounds take a bit to heal depending upon the severity and those who are in control (@#$) try different medicines like injection of capital , cutting interest rates etc hoping the wound will heal faster. This is a pure trial and error and no one will have the sure answer until the wound shows signs of healing.

This leaves us with a conclusion that economy is full of knowns and unknowns , while the knowns are answered by science, the element of unknowns are always an art , once we understand the art, it becomes replicable and gets moved to the science area. This is similar to commodization , to give an analogy, photography made lot of artists redundant and art gradually moved towards impressionism , modernism, post modernism etc etc whose understanding is left to the intrepretations of the viewer (mostly to the artists).

But the high profile economists and risk modelers dont seem to accept this fact and get trapped into deciphering economic complexities through mathematical equations.

The esteemed nobel prize foundation is not an exception, They have been rewarding best economists since from 1969 and am sure somebody who are making 10 Million Swedish Kronars for the contribution towards economics must be really having some answers and following are the list of people who have got the prize for last 8 years and am sure their views may be very relevant. You should definitely talk to them because mainstream media and the govt leaders are not seemed to be bothered about their thoughts and complex models sadly.

Found below is the list, if you want to know who they are.

2008 - Paul Krugman

2007 - Leonid Hurwicz, Eric S. Maskin, Roger B. Myerson

2006 - Edmund S. Phelps

2005 - Robert J. Aumann, Thomas C. Schelling

2004 - Finn E. Kydland, Edward C. Prescott

2003 - Robert F. Engle III, Clive W.J. Granger

2002 - Daniel Kahneman, Vernon L. Smith

2001 - George A. Akerlof, A. Michael Spence, Joseph E. Stiglitz

2000 - James J. Heckman, Daniel L. McFadden