Saturday, December 21, 2013

Surveys showing massive ignorance and inexpertise, why no reply from the freshwater and others?

During the recent brouhahas over microfoundations I've been citing in comments surveys on finance expertise, numeracy, and government showing extreme ignorance and inexpertise, and yet these comments are ignored by Stephen Williamson, and even non-freshwater economists. Of course, you could say it's ignored because it's me, but I have been lucky enough to engage in a lot of conversation with bloggers like Williamson, Noah, Nick Rowe, and Simon Wren Lewis. So I suspect it may be more than this.

First, what are some of the surveys I've been citing:

Consider these microfoundations from Chicago economist Richard Thayler:
• Suppose you had $100 in a savings account and the interest rate was 2 percent a year. After five years, how much do you think you would have if you left the money to grow? More than $102, exactly $102 or less than $102? 
• Imagine that the interest rate on your savings account was 1 percent a year and that inflation was 2 percent. After one year, would you be able to buy more than, the same as or less than you could today with the money? 
• Do you think this statement is true or false: “Buying a single company stock usually provides a safer return than a stock mutual fund”? 
Anyone with even a basic understanding of compound interest, inflation and diversification should know that the answers to these questions are “more than,” “less than” and “false.” Yet in a survey of Americans over age 50 conducted by the economists Annamaria Lusardi of George Washington University and Olivia S. Mitchell of the Wharton School of the University of Pennsylvania, only a third could answer all three questions correctly.
And these:
From a Center for Economic and Financial Literacy survey: 
"1 in 3 people didn't know how much money a person would be spending on gifts if they spent 1% of their $50,000/year salary." 
"65% of people answered incorrectly when asked how many reindeer would remain if Santa had to lay off 25% of his eight reindeer."
– Personal Finance for Dummies, 7th edition, 2012, page 9
Now, if your models assume that people (the micro units) have perfect public information, and prefect expertise to utilize that information to always find the perfectly optimal strategy (with zero time and effort cost), then I don't think it's unreasonable or stupid to ask how might the real world macroeconomic results differ given the enormous evidence of widespread high levels of ignorance and inexpertise among the people. Why do you think that nonetheless the qualitative results will be the same – or even just about exactly the same?

Yet when I ask about this I'm always ignored, and not just by freshwater economists like Williamson, but by any economists, like it's beneath them to consider something as unfancy as straightforward surveys and tests, where there's no plausible reason for people to lie and make themselves look stupider [1].

Honestly, I think to a significant extent economists are scared to cite simple surveys and tests showing massive ignorance and inexpertise as reasons for why the results of freshwater models are very different from reality. This information is just not fancy enough. They're already going out on a limb questioning the awesome looking math that controls the journals and macro departments. To now cite something so pedestrian as straightforward surveys and test, that's just too scary. If you're going to question those claiming that mantle of high science, with so much power to punish and reward, you want to at least use something fancy sounding, like some Harvard evolutionary theory, or some lab experiments done by a Nobel Prize winner.

But from what I've seen, just pure massive and widespread ignorance and inexpertise seems like a stronger factor in explaining the macroeconomy. I can admit it because I'm on the outside; I'm a businessman and adjunct professor of personal finance, but if I were on the inside in academic economics, where you can be severely punished or rewarded based on how "scientific" you sound, I'd be scared too, even though the best definition of science is logical; logic fully linked from your assumptions to your conclusions – including conclusions from the model to reality, not just conclusions within the model and then we can throw logic out the window when making conclusions from the model to reality. And in making conclusions from the model to reality you will need more assumptions to attach your logic to, but hopefully those assumptions will be relatively mild. Some will, of course, be necessary; what we see actually exists,..., but hopefully nothing too bold.

As I always say, a model is only as good as its interpretation. The interpretation to reality is the most important part of the model to get right, and the right interpretation is usually substantially different from literal. 

The logic for this evidence of massive ignorance and inexpertise mattering, given what I know, is very strong. It should definitely be asked about – and answered. 

[1] I must note that in reality it's not at all stupid to have little expertise and knowledge about finance, economics and government. People are terribly busy today with work hours so high, both spouses working, no stay at home spouse to manage the home and children full time, and much greater demands from child rearing today. Of course with their tiny free time they're not going to want to study finance, economics, and government. 

You can be as smart as Einstein, but if you don't have the time to learn, you won't. Einstein actually said, "The hardest thing in the world to understand is the income tax." He had the intelligence, obviously, but he was a little busy with his physics job.