How did so many economists miss the impending collapse of the global economic system? Why did politicians so misread the strength of the UK economy?

Ashley Seager, Economics editor of the Guardian commented on December 29th, "Recession is a blow that hits all the harder when the experts fail to see it coming".
He goes on to say,

"Beware the revisionists out there. A lot of people in the City, at the Bank of England and elsewhere are saying that things only really got bad as a result the turmoil in the banking system in September and October, because they did not see the slump coming. 'There is a lot of rewriting of history going on', said a senior Treasury official recently. This is because the Bank of England's Monetary Policy Committee slashed rates by three percentage points between October and this month, a huge monetary easing that saw rates tumble to a 57-year low of 2%, equalling the lowest on record. But the MPC, with the notable exception of external member David Blanchflower (since, alas, resigned), had been slow until the autumn to see how bad the economy was getting.
So if anyone says that it all turned rotten in autumn, ask them how it was that between June and August, before Lehman Brothers collapsed in mid-September, 164,000 people had lost their jobs?
The slump had begun well before September and unemployment started rising at the beginning of the year. Indeed, if you use the definition of recession that the US Bureau of Economic Research does, Britain went into recession in April".
"The majority of City economists got it wrong too, as did the National Institute of Social and Economic Research and the CBI, even though its own surveys were screaming recession throughout the summer.
No wonder they are trying to rewrite history. Many are trying to convince themselves that Blanchflower got it right through luck, but that is just sour grapes and they are not doing themselves any favours".

To compound the felony, Premier Gordon Brown and Chancellor of the Exchequer Alastair Darling were insisting that Britain's economy was more robust than any other in the developed world as recently as mid-summer 2008. This particular piece of self-delusion has been proven very rapidly to be absolutely wrong. Britain's economy is probably the opposite. The supposed British economic 'miracle' was based on a financial sector that was virtually unregulated and indulging in an orgy of irresponsible speculation; a housing market that was unsustainable and a consumer bubble of massive proportions; all fuelled by unprecedented levels of credit and debt. Common sense dictated that an economy that had all the substance of a ball of candyfloss would start to implode once any one of the frail props holding it up collapsed. And, led by the banking sector, all have crumbled at once.
Other economies, such as those of Germany and the Northern European countries, have much more substance than that of the UK because their governments have sought to maintain a balance of technology, manufacturing and industrial services to counter consumer and finance sectors. In the UK, starting with the Thatcher, the more solid sectors were progressively abandoned and the bonus of North Sea oil squandered through tax cutting that fuelled the long consumer boom. Investment in infrastructure and technology went out of the window.

The signs were clear - some saw them - why did the herd miss the point?
There may be several reasons why so many economists got it wrong:

So, what did the 'experts' miss?

First, a smallish body of prominent economists and, more important, powerful and experienced investors have been predicting that the global financial system contained the seeds of its own collapse:
Investor and philanthropist George Soros wrote a book titled "The Crisis of Glabal Capitalism" in 1998.

Here is an excerpt from that book. The truth of his analyses should now have become apparent to even neo-liberal economists

"Financial markets are inherently unstable and there are social needs that cannot be met by giving market forces free rein. Unfortunately these defects are not recognized. Instead there is a widespread belief that markets are self-correcting and a global economy can flourish without any need for a global society. It is claimed that the common interest is best served by allowing everyone to look out for his or her own interests and that attempts to protect the common interest by collective decision making distort the market mechanism. This idea was called laissez faire in the nineteenth century... I have found a better name for it: market fundamentalism.

It is market fundamentalism that has rendered the global capitalist system unsound and unsustainable."

Here is an excerpt from an interesting article by American historian Robert Brenner in the Guardian:

"The bull runs of the 1980's and 1990's and the first half of this decade, with their epoch-making transfer of wealth to the richest 1% of the population, have distracted attention from the actual long-term weakening of advanced capitalist economies. Economic performance in the US, the bulk of Europe and Japan has, by virtually every standard indicator - output, investment, employment and wages - deteriorated, decade by decade, business cycle by business cycle, since the early 1970's.

The early years since the current cycle began in early 2001 have been the worst of all - in the US, growth of GDP and jobs has been the slowest since the end of the 1940's, and real hourly wages for about 80% of the workforce have languished at about their 1979 level.

The decrease in the dynamism of the advanced capitalist economies is rooted in a major drop in profitability , caused by a chronic tendency towards overcapacity in global manufacturing , going back to the !960's. Reduced profitability has, since the 1970's, led to a steady decline in the rate of investment as a proportion of GDP, as well as step-by-step reductions in the growth of the capital stock and of employment. This slowdown of capital accumulation, along with a push by corporations to restore their rates of return by holding down wages, has reduced aggregate demand - a weakness that has long constituted the main barrier to growth in the advanced economies.

Governments, led by the US, have underwritten ever greater volumes of debt, through ever more baroque channels, to subsidise purchasing power. In the 1970's and 1980's they incurred continuously larger deficits to sustain growth.

But since the mid-90's, they have had to resort to more powerful and more risky forms of stimulus to counter the tendency to stagnation, replacing the public deficits of traditional Keynesianism with the private debts and asset inflation of what might be called asset-price Keynesianism - or , with equal accuracy, Bubblenomics."

So, by all means listen to the analyses of economists, but take them with a pinch of salt. But when they move from diagnoses to prognoses, be deeply sceptical if not downright unbelieving.............

How free market economies got it wrong - and what to do about it
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