The art of economics

by Russ Roberts on January 5, 2012

in Environment, Financial Markets

Gernot Wagner, an economist with the Environmental Defense Fund has a very nice piece in the Washington Post defending economics as a way of thinking and reminding people that incentives and markets might work better than it appears on the surface. My favorite part (as you might expect):

It has become acceptable, in casual conversation, to say that markets don’t work. The demise of Lehman Brothers and the subsequent swoon of the global economy are often cited as evidence. The next time you hear someone say this, you can tell them they’re wrong for two reasons: Lehman Brothers is more asymptom of what happened rather than the underlying cause, and it was guided by much larger forces than itself. Markets, in fact, work all too well. They are an aggregator of wishes and desires, however misguided they may be.

Chuck Prince, the former CEO and chairman of what was once the world’s largest bank, was right when he uttered these famous words shortly before his resignation: “As long as the music is playing, you’ve got to get up and dance.” Place the emphasis on “you’ve got to.” Legislators and regulators, in their finite wisdom, had erased many of the existing checks and restrictions—those few, rickety road signs pointing in different directions. Their actions lit a fire under Prince’s and other bankers’ feet.

This is not to vilify Prince. He had it right. Bankers should be dancing to the music. That’s what they’re paid to do (and very well at that). It’s also the core lesson they’re taught in business school: Find the best ways to navigate the current system and make a buck or two in the process.

It’s up to the rest of us to find the right rhythm. That’s where economics comes in.

He goes on to talk about the virtues of using incentives and market forces to reduce pollution. While I think cultural forces (that Wagner dismisses) can also play a role, it’s a very interesting piece.

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