U.K. intellectuals, academics and economists have embarked on an interesting journey; that is, to answer the Queen’s question as to why they failed to see the financial and credit mayhem that ushered in the Great Recession. It is a game I like to play, too; trying to find those who may have run the bell before it could not be “unrung,” such as Nassim Taleb and his theories about Black Swans. I even stumbled upon early writings of the Pope, who correctly identified greed and social inequality as the driving forces behind the potential economic and social pandemonium we’ve had to live through recently.
Back in November of last year, Queen Elizabeth II paid a visit to the elitist London School of Economics and Political Science and asked a seemingly simple question: How is it possible that economists have failed to notice that the credit bubble was about to burst? The response was typical: instead of an answer, a working group was formed. It took a while, but this past summer, the British Academy put together a panel of experts and then juxtaposed it with another group, so there is at least an appearance of trying to find an objective and scientific answer for Her Majesty.
The Queen’s question is a legitimate one and getting experts together is not an exercise in futility, at least it should not be. In the past two years, economists have tried to make difficult questions go away by saying that the financial and credit crises were simply unpredictable. However, the questions never went away, because economists failed to explain why the crises were unpredictable. And the longer that questions remains unanswered, the longer the profession’s credibility will suffer.
The London School of Economics is among the most prestigious schools in the world. Incredibly, not all of its brainpower could produce somewhat convincing explanation of why no one saw this mother of all storms brewing on the horizon. The renowned scholars could not even refer the Queen to any of their peers, because they were also none the wiser.
Yet, they had to do something. So, Timothy Belsley, professor at London School of Economics and a member of the Bank of England’s Monetary Policy Committee, and Peter Hennesey, professor of history at the University of London, wrote an open letter to the Queen. In the letter, they did not explain exactly why the brightest minds of the world did not see what was about to happen, but at least they provided a decent explanation of how things got so complicated. They wrote, “It was principally a failure of the collective imagination of many bright people, both in this country and internationally, to understand the risks to the system as a whole.”
It could not have been easy to admit being collectively unimaginable and essentially incompetent. Not surprisingly, many have offered different reasonings, blaming excessive consumption, excessive risk-taking, excessive pay incentives, and the list goes on, for everything that had gone wrong in the past two years or so. Indeed, many plan to pen their own open letters to Buckingham Palace, as if swarming the Queen will have disguised this particular naked emperor. As if we do not know that the science of economics is suffering from potentially fatal flaws.
There are too many unanswerable questions. We know that financial institutions’ compensation structure encourages excess risk-taking, but we don’t know why venerable banks would risk everything for a few percentage increases in profit. We know that monstrous trade imbalances between China, the U.S., and Europe have created pools of capital that will soon need to find some sort of an outlet, only we don’t know if these imbalances can even unwind. We know that the climate is changing, but we don’t know if the shift can be stopped. We know that economic stimulus had to be released into financial systems to stave off the worst of the recession, but we don’t know if it will work in the longer term or make things exponentially worse down the road.
It seems that the science of economics has so many cracks in its amour that it is losing relevance fast. It can no longer explain the world we live in with tools and theories of old. It can no longer assure us that it has the foggiest about what stands before us. Perhaps one day the Queen will have received enough open letters to say, “Thank you, I understand it all.” At this point, however, at least this is not difficult to predict: highly unlikely!