A revealing account of why mainstream economic thinking is fundamentally flawed

In what could be dismissed as an obvious piece of marketing, The Skeptical Economist by Cambridge University economist Jonathan Aldred gets straight to the point in defining itself in terms of its opposition to the book whose recent success launched the wave of economics books aimed at the popular market. “Freakonomics,” he writes, “is perhaps the best-selling economics book, ever. But its authors are wrong.”

In many ways the mention made of Freakonomics, a quote from which is presented at the beginning of the first chapter, does Aldred’s book no favours. Freakonomics was written by an economist with some great real-world stories to tell and a journalist who knew how to write them in a light style for a wide audience.

The Skeptical Economist, in contrast, is written in a style that is sometimes complex and dense, and the author often lavishes more ink on positions with which he disagrees than on the presentation and defence of his own views. When he does give examples to back up his arguments, these are often thought experiments involving people in generic environments facing generic problems.

Yet despite these shortcomings, The Skeptical Economist is an astonishingly good book.

It takes the mainstream economic views on which the likes of Freakonomics are based and makes a very convincing case for why they may be wrong.

Irrational consumers

Among the views with which it finds fault are that consumers always make rational choices, that they always act in their own self-interest, that incentive schemes can be used unproblematically in any context to manipulate behaviour, that the freedom of choice in the new consumer culture is a good thing, that economic analysis is undertaken without the influence of value judgements, and that the “homo economicus” of mainstream economics accurately reflects the characteristics of real humans. And that’s just in the first two chapters.

The author also questions the assumption held to be true by most economists that higher output per capita means increased happiness. He argues that, since we rapidly adapt to increased material affluence, rising wealth puts us on a happiness treadmill, where we constantly seek greater wealth for the transient feelings of happiness it will give us. Meanwhile, because of the existence of positional goods – goods subject to supply restrictions (such as rare bottles of wine) – generally increasing wealth will never give relatively poor consumers access to products that will always be priced for the relatively wealthy, regardless of how absolutely wealthy they become.

The author also discusses “Baumol’s cost disease”, or the paradox that, since medical care and teaching cannot experience the same level of productivity growth as industry, they will become relatively more expensive as society becomes richer.

In later chapters, commonly held beliefs about pay and income tax are questioned; the new economics of happiness and behavioural economics are both discussed, praised but rejected as possible path markers for transformed mainstream economics; and cost-benefit analysis, which often leads to the relative devaluation in the eyes of policymakers of the lives of people in the developing world, is presented as being fundamentally flawed. The discussion of cost-benefit analysis is also interesting in that it illuminates much of the thinking behind and criticism of the Kyoto protocol global climate deal, as well as providing an excellent overview of the issues faced by policymakers when estimating future costs and benefits.

Perhaps the most interesting chapter is the penultimate one, which discusses the influence of what the author sees as flawed economic thinking in the UK over the past several years. This influence, the author argues, has been felt particularly strongly in the public services, in which an “audit culture” and the introduction of targets and incentives have replaced a culture of trust. He argues that introducing market mechanisms into the public services raises the question of why these services are public in the first place. He also believes that, since markets themselves could not function without trust, the market model is not a real alternative to the old public service model. And he suggests that non-market autonomy for public servants should not be feared, especially since motivation need not be about carrots and sticks, and may even be better without them.

The author’s conclusions – among which are that economists need to stop bending the world to fit their theories, and that they should pay more attention to ethical considerations – are important ones, especially given the support he provides for them in the book. They should be studied by anyone with an interest in the way a possibly flawed discipline is shaping modern societies, particularly with regards to public services.

The Skeptical Economist: Revealing the Ethics Inside Economics
By Jonathan Aldred

Hardcover, 256pp, £24.95
Publisher: Earthscan
Published: March 2009
ISBN-13: 978-1-84407-705-2

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