There is a basic theory taught in introductory economics classes that goes something like this:
Maximum economic efficiency is achieved through market forces of supply and demand.
Extending this premise, the following conclusions may be (and have been) derived.
-Government intervention in free markets is detrimental.
-Regulations on business activities stifle production and innovation.
-Restrictions on the financial sector lead to misallocation of capital.
-Lowering taxes on wages incentivizes work.
-Lowering taxes on the wealthy incentivizes investment.
-A person’s earnings reflect the value of the work he or she performs.
-Raising the minimum wage makes labor more expensive and increases unemployment.
-Universal health care encourages overuse and makes it more expensive.
-Free trade unleashes market forces and therefore benefits everyone.
It all seems incredibly logical, doesn’t it? If you accept the premise of Economics 101, then the resulting conclusions must also be true. In Bad Economics and the Rise of Inequality, James Kwak, a professor at the University of Connecticut School of Law, tells us why they’re not. His goal, as he says on page 17, is “to demonstrate that an unwavering adherence to simplistic models has had a pernicious impact on debates and policies that affect hundreds of millions of people.”
Unquestioned belief in the sanctity of market forces is the foundation of an ideology, which the author calls economism.* Adherents of this belief system view real world economics through the distorting lens of the simplistic theoretical models of Economics 101. For believers, the theory remains true despite its failures when applied to complex real world situations. “Because economism’s arguments are rooted in pure theory, they can never be disproven by mere facts.” (page 152)
To me, the idea of basing national economic policies on simplified models of supply and demand is rather like basing building codes on The Three Little Pigs. Even in a hard science like physics, simple models based on established theories don’t necessarily work when applied in a real world setting. Take gravity, for example. We know that objects fall at the same rate regardless of their mass. Galileo proved this, and in a textbook situation, in a vacuum, with no other influencing forces, it holds true. But if you go outside right now and drop a feather and a bowling ball at the same time, the ball will hit the ground first. The basic physical law doesn’t yield the result the model says it should because of other factors. And this is in a case in which we are fairly sure the law is valid. This is far from true with economics.
I don’t know how many professional economists actually hold Professor Kwak’s concept of economism, but it seems as though a good many politicians do. When they argue against raising the minimum wage, or on raising taxes on the wealthy, or when opposing regulations to protect employees, consumers, or the environment, they may be basing their opinions not on fact or on history but on an unquestioned belief in the simplified models of supply and demand that they remember from Economics 101.
This book is an excellent summary of basic economic theories as well as a good explanation of when the may not apply outside a freshman classroom. I highly recommend it, especially for politicians and anyone else responsible for shaping public policy.
*I probably would have called it “faith-based economics.”