Friday, July 29, 2011
Learning from economic crisis: Where the economics science stands?
Although economic crisis means losses of efficiency ,output, employment and welfare levels, the economic science has not been able to reach out the point such that the quality of its economic policies make possible steady economic growth, employment and welfare gains . Rather there has been economic cycles with up and downs ,due to different kind of sources for economic crisis, (Banking , Balance of payment deterioration, external or internal debt ,financial sector failure, information asymmetry and the like)
Keynes blamed the private sector for the economic instability, due to mismatch between production and consumption, focusing in the role of Government as the stabilizing factor. The Evidence indicates that Government can also be a factor of economic instability. Let keep in mind the experience of Latin America economies since the fifties up to eighties, which ended up with the lost decade. Besides ,Government actions might be a factor of economic crisis, because by its own nature it is based upon political volatile criteria, with short run considerations. Thus, overspending lead to over taxation and debt, which decrease consumption , investment and growth.
In such framework, economic policy was focused mainly on the stabilization purposes. Rational expectations assumed that people gather all information they need to make decisions ,which are usually right unless unexpected event happens. Therefore, to get any economic objective the prescription was to surprise economic agents, because they learned from the past and were able to anticipate the effect of any previously applied economic policy.
It follows that economic crisis are somehow the consequence of a mismatch between economic policy and expectations. Thus, the implication for policy design is not to dismiss what markets expect to happen .Taylor(1993) proposed a rule to deal with market expectations, focusing on reducing volatility of both output and inflation improving the quality of information to shape better expectations. Even so, economic crisis are still on the spot of global economic .Does really economic agent learn from the past as rational expectation proposes?.Probably so, but such learning is not homogeneous among economic agents. Given the quality of information, there is learning asymmetry .Just a few learn quickly, but the rest of us do not learn that fast, or we might not learn from the past at all. Unfortunately, the majority is in the later group, and economic crisis might happens because the cost of learning from the past is too high for such a group, and economic policy cannot count on either past experience or previous knowledge ,to make more effective its prescription. Thus, economic crisis do not occur only because of an economic policy failure, but also for a learning failure.