10 reasons why economics is an art, not a science
Barry Ritholtz
Washington Post, August 9, 2013




“Why did God invent economists?”

“To make weathermen feel good about themselves.”


That’s a quip from David Rosenberg, former chief economist at Merrill Lynch who is now working at Gluskin Sheff, the wealth management shop. He delivered it during a meteorological presentation to a room full of asset economists during the annual Shadow Federal Reserve and Fishing Trip, where I was last week. David Kotok hosts this shindig every year at Leen’s Lodge in Grand Lake Stream, Maine. Known informally as Camp Kotok, it runs during the weeks before the Fed’s big Jackson Hole conclave.

It is much more than just fishing and drinking: Plenty of economic debate goes on among the economists, Fed researchers, money managers and academics in the woods of Maine. (To get in, you must bring a case of wine, and woe to the attendee who pours substandard vino.) Spend a few days with a dozen or so economists, and you may have to reconsider your views on economics.

Through some quirk in my calendar, I have been spending an inordinate amount of time with economists. Over the past few months, I have attended numerous dinners (usually a table for eight), listened to their debates on economic policy, spent time in canoes fishing with them. Chatham House Rules prevents me from naming names, but among the dismal scientists were the chief economists of major Wall Street firms, government entities and Ivy League college professors. And a Nobel laureate or two thrown in for good measure.

As an investor, I spent much of this time seeing what I could learn from these students of the economy. The good news is that economists are intelligent, engaging and often charming folks. The bad news is their work is often of little use to investors.

Longtime readers know this is an area of interest to me. Way back in 2009, I gave 10 reasons why economists missed the crises. In the intervening years, I have watched the field of economics with a growing skepticism.

My conclusions? Here are some decidedly biased, anecdotal observations:

1Economics is a discipline, not a science. Physics can send a satellite to orbit Jupiter, tell you exactly when it will arrive and the altitude it will orbit at. Economics can barely describe what happened yesterday — and without any particular precision.

2 Markets are frequently ahead of, and often out of sync with, the economy. I have been trying to figure out why investors seem so obsessed with economic data. We know that during recessions, corporate earnings often fall 20 to 30 percent. However, the timing is the tricky part, and by the time we know a recession has started, it is too late.

Take the 2007-09 recession. It began in December 2007 and ended in June 2009. Markets act as a future discounting mechanism, often leading the economic data. The Standard & Poor’s 500-stock index peaked in mid-October two months before the recession formally began. By the time the NBER, the group that formally dates these things, made its official announcement in December 2008, markets had fallen more than 30 percent. For investors, waiting for the official announcement was of little use.

3Models are of limited utility. As statistician George Box has noted, “All models are wrong, but some are useful.” That was the professor’s way of explaining that models are imperfect depictions of reality. It’s best not to become overly reliant on them. Several analysts have told me that if the Fed cannot model something, then to the Fed, it does not exist. Think about the absurdity of that view — and its impact on policy.

Perhaps the best-known model-dependent economic data point is the NonFarm Payrolls report, which is released on the first Friday of each month. To put into context how silly the excitement around this number is, consider the total U.S. labor pool: It contains about 150 million people. Each month, 4 million or so folks leave their jobs (retire, quit, get fired). At the same time, about 4 million people start jobs. The net difference between people leaving jobs and starting new ones — about 150,000 — is the monthly NFP number. That is a 0.1 percent of the total labor pool — a rounding error.

This number is revised the month afterward, and then revised again the month after that. It is benchmarked a year later, and ultimately reweighted once the decennial census is completed. Much of the time, the final number looks nothing like the original data released each month. So why do investors spend so much time worrying about it, other than the fact that other investors seem to worry about it?

4Contextualizing data often leads to error. What I mean is that everything economists consider gets forced into their intellectual framework. The imperfect lens of economic theory is less than an ideal way to view the world. Thus, the output of those who see the world this way is similarly imperfect — and as we have seen, occasionally fatally so.

5Narrative drives most of economics. Everything seems to be part of a story, and how that story is told often leads to critical error. Think about phrases like “stall speed,” “second half rebound,” “muddle through,” “Minsky moment,” “austerity,” “escape velocity,” etc. All of these lead to rich tales often filled with emotional resonance — but not a lot of insight.

6Economists are loathe to admit that “they don’t know.” This trait is common in many professions, but I suspect the modeling issue may be partly to blame. Whenever I see a forecast written out to two decimal places, I cannot help but wonder if there is a misunderstanding of the limitations of the data, and an illusion of precision. Only the people who understand both the data and its limitations will not get lost in the illusion of precision.

7A tendency to confuse correlation with causation. This is one of the oldest statistical foibles, and yet economics remains rife with it at the highest levels. Look no further than the Fed’s obsession with the wealth effect for a classic correlation error.

8The peril of predictions. Another brain teaser: Why are Wall Street economists so married to making forecasts? They are mostly miserable at them; as I have discussed previously, forecasts are especially problematic for investors.

9Extrapolating current circumstances to infinity: Economists suffer from the recency effect, just like everyone else does. Their experiences with typical recession cycles in the postwar era left many of them blind to the fact that something unusual was occurring. This left them unable to understand how and why the post credit-crisis era was so different from their prior experiences. These are not your run-of-the-mill recessions. They tend to be more protracted and painful; and their recoveries are weaker and take longer to occur.

10Sturgeon’s Law: Not every economist is a prize winner. There is a wide dispersion of talent in economics, and following Sturgeon’s Law — “90 percent of everything is crap” — many among the rank and file simply are not great analysts.

And on a side note: I am not trying to draw a distinction between different groups of economists, say, between the macro and micro or among various schools (Monetarists, Keynesians, Austrians). I don’t find it compelling. In 2009, Nobel laureate Paul Krugman asked “How Did Economists Get It So Wrong?” He wondered how “the profession’s blindness to the very possibility of catastrophic failures in a market economy” could ever have occurred.

This is likely to be the biggest issue affecting your long-term financial health. It helps explain why the average 401(k) has returned only 3 percent annually over the past three decades, despite markets’ returns running triple that amount. Psychology is the root cause of getting greedy at tops and panicking at bottoms, neither of which leads to good investment results.

The field of behavioral economics is still relatively young. It has only recently figured out that Homo Economicus — humans as rational and narrowly self-interested actors — is not how people behave in the real world. Economists are just starting to get at these questions of why people make such bad financial decisions, and how we can prevent these behaviors in the future.

Perhaps one day the answer to the question “Why did God invent economists?” will be: “To help us stop making so many bad financial decisions.”


Ritholtz is chief executive of FusionIQ, a quantitative research firm. He is the author of “Bailout Nation” and runs a finance blog, the Big Picture. Follow him on Twitter: @Ritholtz.

Category: Apprenticed Investor, UnGuru

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

13 Responses to “Why did God invent economists?”

  1. The Window Washer says:

    “It helps explain why the average 401(k) has returned only 3 percent annually over the past three decades”
    What’s the source?
    I’ve gone over 401ks with friends a few times and it seems that “life events” change the returns into something like a savings account. A longer read on performance would helpful if this comes up again.

  2. Petey Wheatstraw says:


    Economists evolved from apes. They are the result of one of many defective social characteristics of the species.

    Signifying Monkeys.

    Deep down in the jungle so they say
    There’s a signifying motherfucker down the way.
    There hadn’t been no disturbin’ in the jungle for quite a bit,
    For up jumped the monkey in the tree one day and laughed,
    “I guess I’ll start some shit.”


  3. One of the posts that I wanted to read for a long time. Barry Ritholtz’s view that economics is an art and not a science is spot on. I guess economists need to agree that their so-called ‘speculations’ sometimes completely miss the mark. Had economists known so much, the recession of 2007-08 wouldn’t have been an out of the blue phenomenon. In fact, a lot of economists were bullish on the housing market until October 2007. Well, I am not completely dismissing the need for economists, but I guess, there needs to be a widespread acceptance that yes, economists too can go wrong!

  4. denim says:

    A psychologist wins prize in economics. Figure that.
    “Daniel Kahneman, a psychologist who has pioneered the integration of research about decision-making into economics, today was awarded the 2002 Nobel Prize in economic sciences.

    Kahneman has been the Eugene Higgins Professor of Psychology and professor of public affairs in the Woodrow Wilson School of Public and International Affairs at Princeton University since 1993.”


  5. epistememe says:

    Anything with over 5 independent variables is an art and not a science. Pretending that you have the math to compensate for the complexity of the interactions in a modern market economy is nothing but smoke and mirrors.

  6. RW says:

    The “why did god invent economists” quip has been around awhile (e.g., B. Saffran, 1995) but I would add that the various, and often conflicting, narratives of various economists or economic schools may help dampen pr deflect at least some of the sell-side adrenal screech (maybe god decided ‘babel’ was a good thing, eh).

    Personally I study macro to help me deflect bullshit in addition to improving detection of incoherent or poorly supported economic arguments like austerianism.

  7. epistememe says:

    Tolstoy said it best:

    “I know that most men, including those at ease with problems of the greatest complexity, can seldom accept even the simplest and most obvious truth if it be such as would oblige them to admit the falsity of conclusions they have reached perhaps with great difficulty, conclusions which they have delighted in explaining to colleagues, which they have proudly taught to others, and which they have woven, thread by thread, into the fabric of their lives.”

  8. ckaussner says:

    One of Mr. Ritholtz’s most important recent articles in my humble opinion. What are the odds those to whom he is referring (especially the economists at the Fed) will look in the mirror and question the error of their ways (internal bias, blind faith in their limited models, etc.)?

  9. TDHawk says:

    Good article Barry,

    But perhaps the bigger question is why did people invent god? Joking of course.

  10. faulkner says:

    Re: Why did God invent economists?

    He didn’t. They invented him, or at least his hand.

  11. seneca says:

    As usual, John Kenneth Galbraith said it better: “The only function of economic forecasting is to make astrology look respectable.”

  12. lrh says:

    English economist Ely Devons added this criticism of his fellow economists: “Let’s consider what an economist would do if he wanted to study horses. What would he do?  He’d go to his office and think, ‘What would I do if I were a horse?’ And he’d come up with the conclusion.”

  13. Mattw says:

    We make fun of economists because they get so much wrong, but what does this really mean? It means we have a university system that doesn’t sufficiently punish people for getting it wrong. Here it is economics, but what other areas apply? What happens to a system (involving lots of people) over time where failure is not properly punished?

    Please take a look at this article: General Failure – Thomas E. Ricks – The Atlantic – http://goo.gl/ugXR9

    If you want to laugh about economists, now you can cry about officers in the US military. What has happened to economists has also happened to the US military. Failure to properly punish failure has resulted in the rise of mediocre and poor officers. The best get fed up and leave.

    You are in bigger trouble than you think. Not only is your bank account in trouble, but your security is in trouble too. So we belly up to the edge of the cliff along with Japan and Europe, soon to be joined by China. Where are the economists? 9/11 gave us a glimpse of poor leadership, but what else is out there waiting for us? I cannot even count the number of news articles discussing the possibility of war with China. Russia has threatened us (both direct and implied) several times with nuclear attack since the Georgia war. We are disarming in the face of these threats. Where are our civilian and military leaders?

    I guess you could say the failure of economists and economics is a sign of rot that has spread throughout the West.