Hearts and Minds

Robert Shiller says pessimism is leading to a pessimistic outlook for economic recovery:  

Stuck in Neutral? Reset the Mood, by Robert Shiller, Commentary, NY Times: The United States and other advanced economies may be facing a long, slow period of disappointing growth.

That is a widespread concern, as recent polls demonstrate. A USA Today/Gallup poll … found … that about two-thirds of Americans say they think that economic recovery won’t start for two more years, while 28 percent say it won’t begin for at least five years.

Among students of history, there are fears that we will suffer the type of chronic economic malaise that afflicted the world after the 1929 stock market crash, or that weakened Japan after the puncturing of twin stock and housing market bubbles around 1990. …

The fears themselves are an integral part of the problem. Economists have a tendency to assume that everyone’s behavior is rational. But post-boom pessimism is a factor driving the economy, and it is likely to be associated with attitudes that may be enduring. …

The present mood … needs to be put into a longer historical context. After World War II, there was rapid growth in labor productivity until sometime around the early 1970s. But then there was a major break, roughly coinciding with three events of 1973-74: the oil crisis, a huge stock market tumble and the first significant depression scare since the Great Depression itself.

According to the Bureau of Labor Statistics, annual growth of business output per labor hour averaged 3.2 percent from 1948 to 1973, but only 1.9 percent from 1973 to 2008.

Ever since the long-term productivity slowdown became visible, the economist Samuel Bowles, now at the Santa Fe Institute, has said that its causes are to be found as much in the loss of “hearts and minds” of workers and investors as in technology.

This month at Yale, in lectures titled “Machiavelli’s Mistake,” he spoke of the error of thinking that a high-performance economy could be based on self-interest alone. And he warned of the overuse of incentives that appeal to individual gain.

The speculative boom periods that ended a few years ago carried us into such overuse, and today’s malaise is partly a result of our disorientation from that period.

In their coming book,… George Akerlof … and Rachel Kranton … argue that an economy works well when people personally identify with it, so that their self-esteem is tied up with its activities. … [A] relatively uninterested, insecure work force is unlikely to bring about a vigorous recovery.

Solutions for the economy must address not only the structural instability of our financial institutions, but also these problems in the hearts and minds of workers and investors — problems that may otherwise persist for many years.

I don’t know if “problems in the hearts and minds of workers and investors” — workers in particular — is the “heart” of the slow recovery problem. I always find Shiller’s psychology-based explanations less than fully convincing, but listen anyway because he has a pretty good track record at predicting emerging bubbles. But I will say this. Aggressive, effective job creation policy by the government — putting people to work — would go a long way toward repairing any problems in the hearts and minds of workers.

As for investors, their hearts and minds would be best repaired through strong regulatory measures that prevent the type of behavior that got us into this mess, or that substantially reduce the consequences when hearts and minds work together to cause this to happen again despite our efforts to prevent it.

Originally published at Economist’s View and reproduced here with the author’s permission.
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