From Project Syndicate:
Since the global financial crisis and recession of 2007-2009, criticism of the economics profession has intensified. The failure of all but a few professional economists to forecast the episode – the aftereffects of which still linger – has led many to question whether the economics profession contributes anything significant to society. If they were unable to foresee something so important to people’s wellbeing, what good are they?
Indeed, economists failed to forecast most of the major crises in the last century, including the severe 1920-21 slump, the 1980-82 back-to-back recessions, and the worst of them all, the Great Depression after the 1929 stock-market crash. In searching news archives for the year before the start of these recessions, I found virtually no warning from economists of a severe crisis ahead. Instead, newspapers emphasized the views of business executives or politicians, who tended to be very optimistic.
The closest thing to a real warning came before the 1980-82 downturn. In 1979, Federal Reserve Chair Paul A. Volcker told the Joint Economic Committee of the US Congress that the United States faced “unpleasant economic circumstances,” and had a “need for hard decisions, for restraint, and even for sacrifice.” The likelihood that the Fed would have to take drastic steps to curb galloping inflation, together with the effects of the 1979 oil crisis, made a serious recession quite likely.
Nonetheless, whenever a crisis loomed in the last century, the broad consensus among economists was that it did not. As far as I can find, almost no one in the profession – not even luminaries like John Maynard Keynes, Friedrich Hayek, or Irving Fisher – made public statements anticipating the Great Depression.
As the historian Douglas Irwin has documented, a major exception was the Swedish economist Gustav Cassel. In a series of lectures at Columbia University in 1928, Cassel warned of “a prolonged and worldwide depression.” But his rather technical discussion (which focused on monetary economics and the gold standard) forged no new consensus among economists, and the news media reported no clear sense of alarm.
Interestingly, contemporary news accounts reveal little evidence of public anger at economists after disaster struck in 1929. So why has the failure to foresee the latest crisis turned out so differently for the profession? Why has it – unlike previous forecasting failures – stoked so much mistrust of economists?
One reason may be the perception that many economists were smugly promoting the “efficient markets hypothesis” – a view that seemed to rule out a collapse in asset prices. Believing that markets always know best, they dismissed warnings by a few mere mortals (including me) about overpricing of equities and housing. After both markets crashed spectacularly, the profession’s credibility took a direct hit.