Economics is a social science — we study people. We try to explain how the aggregate actions of hundreds, millions or even hundreds of millions of people play out in markets, what happens when we change the rules of those markets, and what can be done when markets don’t work correctly. We explain what happens when the government intervenes in well-functioning markets, as people change their behavior in response to the new rules and incentives that result from the government action. In natural sciences like physics, chemistry and biology, you can perform experiments. If you want to know exactly what will happen to the ability of bacteria to grow when the level of CO2 in the atmosphere increases, you can perform an experiment. You can put bacteria in 100 different petri dishes, making sure that the conditions in those dishes are identical in every way but one: CO2 content. You can have 100 different CO2 levels in 100 different petri dishes. Then you can calculate the different growth rates of bacteria in each petri dish and plot the results or put them into an equation. And you can be pretty sure of the cause and effect: the change in CO2 caused the change in growth rates of bacteria, not the other way around.

In economics, we can’t perform experiments on an aggregate level to see how people will behave when the government changes a policy without just doing it — and when you do it, the only outcome you see is what happened when you changed the policy. You can never know for certain what would have happened if you had not changed the policy — known as a counterfactual. You can look at other situations where we may have kept the old policy and use that as an estimate, but you’ll never know. That’s because economies are not like petri dishes. When we change a policy, thousands of other things are changing at the same time (exchange rates, inflation, unemployment rates, weather, etc.). The last time you had a similar problem, many other elements of the economy were probably different than they are now, so how do you know the economy will react the same way it did before? 

I have heard a lot of people, especially in government, defend the TARP bill by saying that if we hadn’t intervened the way we did, as fast as we did, things would have been worse. Congress prevented disaster. Did they really? Foreclosure rates are up even after TARP. Lending is down even after TARP. Will we ever know how bad it could have been? No. That requires two realities: the one that happened and the one that didn’t. If we have bacteria in petri dishes, we can do that. But we can’t do that with entire economies. Sometimes we observe differences in state laws (like the death penalty or concealed-carry laws) and try to compare crime rates between different states based on laws. But there are a whole lot of differences between California and Mississippi other than just their gun laws, so how do you pinpoint the exact effect of the laws? We have statistical techniques to do that but sometimes you don’t have the data or can’t isolate the cause and effect. For example, many of the states that have conceled-carry laws also have the death penalty, so even if those states did have less crime than others, how do you know how much of the reduction in crime is due to one and how much is due to the other? That’s why economics sucks sometimes, even for economists. That’s why even the brightest minds in economics can disagree on the best course of action to correct our economy, and why so few of them can even really explain what happened recently, why we didn’t see it coming, or how to fix it. And that’s why I’m a microeconomist, not a macroeconomist.

Obama has changed his campaign rhetoric from one of creating jobs to one of saving or creating jobs. His logic is that if the federal government gives money to states and that prevents states from having to lay off employees, then the federal government has saved a job. But what about the job that was destroyed by the higher interest rates or lower capital formation that arose because of the money spent by the federal government? (The CBO estimates that growth will be down, as will real wages, due to lower capital formation resulting from the stimulus bill.) What about the job that was never created because consumers started saving money knowing that their taxes were going to have to go up some time in the future to pay for the borrowing we’re doing today? We will never see the job that could have been created but wasn’t. We will never know how many jobs were saved by the stimulus bill and how many other jobs were lost because of it. They don’t call it the dismal science for nothing.