Wednesday, 12 July 2017

The Air-India privatisation: Privatisation is not reform

Kannan Kasturi in The Economic and Political Weekly

The decision to privatise Air India comes at a time when the government’s “reform” credentials are being questioned by big business. All information publicly available points to a continuing improvement in the performance of the airlines. Between 2011–12 and 2015–16, the last year for which official financial results are available, the airline showed a steady improvement in terms of its operational profit/loss as well as its passenger load factor. The corporate business press is lauding the government’s privatisation decision, hailing it as the resumption of “reforms” which has come to mean more disinvestment and privatisation. It is hard to understand how mismanaging public assets and then selling them is “reform.”
The government appears to be on the fast track to privatise Air India (AI), the country’s flag carrier airline with the union cabinet giving its approval soon after a recommendation from the Niti Aayog. The chief executive officer (CEO) of the NITI Aayog revealed that it took only 15 days to come up with the report recommending total privatisation of the carrier. The Aayog did not see any need to consult the stakeholders of AI—employees, management or even the Ministry of Civil Aviation (MCA).
The last time a plan for privatisation of India’s public sector airlines had been mooted—only to be quickly abandoned—was during the tenure of the National Democratic Alliance (NDA) government of 2000–04 (PAC 2014: 154). The years following this were extremely traumatic ones for both the Indian Airlines and AI and after their merger in 2007, also for the merged entity, with a rapid deterioration of its finances.
In April 2012, the government signed a 10-year restructuring plan with the AI. Since then, as required by the plan, it has been continuously monitoring the performance of the airline. Repeated statements by the MCA in Parliament over the years, the last as recently as on 9 March, have testified that the government is largely satisfied that the AI is progressing as per the turnaround plan (MCA 2017a). Against this backdrop, the Minister of Finance Arun Jaitley’s highlighting of AI’s debt and market share as reasons to proceed with its privatisation, is to say the least, curious.
So what caused AI’s finances to deteriorate rapidly till 2012?
The Making of a Crisis
AI and Indian Airlines had been running profitably till 2005–06. However, their future had already been compromised by then.
During the period 1998–2004, no new planes were ordered for AI or Indian Airlines. This was at a time when competition was increasing from private airlines which were rapidly expanding their fleet. The NDA government was keen on privatising Indian Airlines and did not take decisions on the proposals for fleet expansion by Indian Airlines and AI (PAC 2014: 141, 154).
Fleet expansion proposals were finally approved by the government (now of the United Progressive Alliance—UPA) in 2005–06. The orders for new aircraft would have been large ones considering that they came after a long interval. However, even here, the government interfered with the erstwhile AI to its detriment. An AI (pre-merger) board approved proposal for 28 aircraft in January 2004 which was revised to 68 aircraft by November 2004! The total estimated cost of the aircraft on order by the two airlines was over ₹41,000 crore and the only equity infusion planned was ₹325 crore for Indian Airlines. The acquisition was to be funded by debt to be repaid through revenue generation (CAG 2011: viii).
With the two airlines in a precarious situation, the government in its wisdom carried out their merger in 2007 at one stroke. The unions representing airline workers and staff were not consulted. From all accounts, it appears that it was an ill-thought-out act for it would have been difficult to find synergy in the two organisations. The two airlines flew different types of planes and hence the skills of pilots and engineers were different. They had different ticketing systems, and a different organisational culture. The merger imposed huge immediate financial costs and severely affected the morale of the employees.
Between 2007–08 and 2012, AI chalked up increasing losses each year. This along with loans taken to pay for the 111 planes on order added up to a huge debt. By April 2012, when the government finally signed on a turnaround plan for AI, the annual operational loss of the airline had increased to around ₹5,000 crore and its accumulated debt had reached nearly ₹43,500 crore. It was then operating on a capital base of ₹3,345 crore (AI 2012).
Even while the AI was struggling with aircraft shortage, the government went ahead and increased bilateral entitlements (including interior points of call in India) with West Asian countries much beyond the dictates of mutual traffic. At that time, the AI was not even able to utilise its existing quota on what were its most profitable routes. The West Asian carriers used sixth freedom traffic rights (the right to fly from one foreign country to another foreign country after stopping in one’s own country) to transport people from India to Europe and the United States (US) via their West Asian hubs, eating into AI’s share of passenger traffic in/out of India to these countries (CAG 2011: xii). The lack of planes to fly within India resulting from the delay in ordering new aircraft also had an effect on the AI’s passenger share within the country. The national carrier’s share of domestic passengers dropped from 23.1% in 2005–06 to 13% in 2011–12 (DGCA 2017).
Work in Progress
As part of the turnaround plan, the government agreed to restructure some of AI’s debt to reduce the interest burden and also infuse capital to cover the cost of new aircraft. This was however conditional on AI meeting specific performance targets every year. The infusion of capital, had it happened immediately, would have helped it in its turnaround initiatives. Instead, the government went for piecemeal recapitalisation on an uncertain schedule.
Subsidiaries were created for maintenance repair and overhaul (MRO) and ground handling services. An old criticism of AI was that it employed too many people and hence was inefficient. With the creation of the subsidiaries, the manpower employed per aircraft became comparable to other private airlines.
Between 2011–12 and 2015–16 (financial years), the last year for which official financial results are available, the airline showed a steady improvement in terms of its operational profit/loss as well as passenger load factor—the percentage of seats on offer that were filled. In 2015–16, the airline made a small operational profit, two years in advance of the turnaround milestone. Its low cost international airline subsidiary, Air India Express and its ground and cargo handling services company, AISATS also made profits (Table 1).
AI’s financial results for 2016–17 are not officially available but indications are that there will be a significant improvement over the previous financial year in EBITDA (Earnings Before Interest, Tax, Depreciation, and Amortization) (Ghosh and Ghosh 2017). In answers to questions raised in the Lok Sabha, the MCA stated that AI was expected to improve its revenues in 2016–17 by 10%, revenue passenger km (RPKM) by 6.8% and passenger load factor by 6.2% (MCA 2017b). The provisional estimate for 2016–17 (financial year) was an operational profit of ₹1,086 crore and a net loss of 1,989 crore (MCA 2016a). Though AI continues to make a net loss because of interest outgo on debt which in 2015–16 was about ₹4,000 crore, the secretary, civil aviation, went on record in October 2016 to state that he expected a net profit by 2018–19, ahead of the turnaround plan which projects net profits only by 2021–22 (Mishra 2016). All information available publicly points to a continuing improvement in performance.
However, for AI to remain competitive in the longer term, steps need to be taken about its huge debt that has been a drag on the airline. Leaving aside low interest aircraft loans, the outstanding debt is around ₹30,000 crore, 90% of it is from public sector banks and financial institutions (MCA 2016b). The airline has prime real estate assets which it has found difficult to sell because of bureaucratic delays. If the government were to provide assistance in restructuring the debt, selling AI’s real estate assets and speed up infusion of the remaining capital of about ₹6,000 crore promised as part of the turnaround plan, the airline should be on a good wicket.
Chequered History
The basic credo of supporters of privatisation is that the state should withdraw from the provision of all services (and production of all goods) which private corporations are able and interested in providing (producing). The only exception to this would be a “market failure” which render private players incapable of providing (or unwilling to provide) these services. The argument in support of such a belief is that state-controlled enterprises cannot function as efficiently as private corporations.
How does this argument stand up against the actual performance of India’s airlines over the last two decades?
Several early players such as Damania, Modiluft, Natural Energy Processing Company (NEPC) and EastWest folded up, some under a cloud. Air Deccan, the second largest airline in India in 2007, ran into losses and was ultimately taken over by Kingfisher Airlines. Kingfisher became defunct after borrowing ₹7,000 crore from public sector banks. Sahara was taken over by Jet Airways. Spicejet went close to bankruptcy in 2014–15 stopping operations and stranding passengers without notice and has come back only after a large equity infusion from a promoter.
In 2003–04, before the emergence of competition from low cost carriers, Jet Airways accounted for 44% and the public sector airlines together 43% of domestic passenger shares (DGCA 2017). An IMRB survey in October 2004 rated the Indian Airlines as the “most preferred airline”, above Jet (Sen 2009). The low cost carriers had a huge effect on the full service carriers of that period—IA (AI), Jet and Kingfisher. Kingfisher became bankrupt in 2012. Jet was able to survive only after equity infusion by Etihad of Abu Dhabi in 2013. The government appears to have played a role in the rescue by increasing the bilateral entitlements of Abu Dhabi (the number of passenger seats each way between India and Abu Dhabi), which coincided with the Jet–Etihad deal (Phadnis 2013). In 2017 till May end, Jet’s share of domestic passengers was 15.4% and AI’s was 13.3%, the rest being taken by low cost carriers (DGCA 2017). Jet and Indian Airlines (now Air India) have had a similar fall in share of passenger traffic within India after the entry of low cost carriers.
The finance minister has used the low passenger share to deride AI publicly to create public opinion in favour of its privatisation. The fact is that in 2015–16 compared to 2012–13, AI has flown 29% more passengers within India and increased its passenger load to 78.9% from 68.3%. During this period, the AI’s “available seat kilometres” increased only by 6% (DGCA 2017). What this points to is that its passenger share has been limited by the number of aircraft it has available to fly. As the MCA itself revealed in Parliament, there has been no capacity induction into the AI while private airlines have added substantial capacity. Between 2013–14 and 2015–16, AI’s capacity share in the domestic market came down from 17% to 15% (MCA 2016c). Its market share has come down because of decreasing capacity share. The government must own its share of responsibility for this situation.
If the measure of “efficiency” of an airline includes efficient use of capital and labour and providing services without disruption, then looking at the two decades of turmoil in the airline industry, it is hard to accept that private airlines in general have been necessarily managed efficiently.
Unsustainable Debt
Extending the discussion of efficiency to India’s private corporate sector as a whole, it is useful to delve into what has been termed the “twin balance sheet problem.
Over the years, India’s private corporations have borrowed heavily from banks to grow their businesses. Some of these businesses have failed and others are not generating enough revenue to service their debt. The banks who have lent them money have lost interest income and are in danger of having to write off their debts. It is estimated that three-fourths of all corporate lending could be from public sector banks (Chakravarty 2016).Public sector banks bear the brunt of the bad loan problem.
The government has stonewalled attempts to get the banks to name the bad debtors among private corporations. However, piecing together information from different sources, one finds that more or less all of India’s large industrial houses are involved.
A 2012 Credit Suisse report featured 10 large manufacturing houses—Lanco, Jaypee, GMR, Videocon, GVK, Essar, Adani, Reliance (Anil Ambani), JSW and Vedanta—with high levels of debt that they would find hard to service. A follow-up by Credit Suisse in 2015 found that the financial condition of these groups had deteriorated despite their attempts to sell assets to pare debts. These groups accounted for 27% of all corporate loans from the banking system (Sanjay 2015). In August 2016, the government stated in Parliament that the top 10 corporate groups owed public sector banks and financial institutions ₹5.7 lakh crore (PTI 2016). The businesses of these groups span areas extending from military hardware to steel, coal, power, oil and gas, roads, airports, railways and ports.
In June 2017, the Reserve Bank of India (RBI) identified companies of three groups from the list—Lanco, Essar and Jaypee—and nine other companies which together owed ₹1.75 lakh crore to banks to be dealt with under the bankruptcy code. It is estimated that at least half the debt will have to be written off by the banks.
In the telecom sector, the debt of India’s top seven telecom companies—Bharti Airtel, Vodafone, Idea, Reliance Communications, Reliance Jio and Tata Teleservices—increased by 20% in 2016–17 to ₹3.6 lakh crore and all the companies (except for the new entrant Reliance Jio) have problems servicing their debt (Sarkar 2017). The State Bank of India has the largest exposure to the industry and its chairperson has pleaded with the government to help the industry by deferring spectrum payments, providing duty waivers and reducing the goods and services tax (GST) rate in order to prevent its loans from imminently becoming non-performing assets (NPAs) (TNN 2017). While the incumbent operators blame Reliance Jio for their debt servicing problems, the latter points out that these companies were working with insufficient equity, relying too much on debt financing (PTI 2017).
A recent example from the power sector involves three large corporate houses—Tata, Adani and Essar. All of them won competitive bids based on tariff and set up power plants in Gujarat using imported coal. Their contracts have no provisions to link tariff with coal prices and the companies are running at a loss after coal prices increased and are unable to service their debt. The government is reportedly putting together a rescue package where the companies will be brought under state ownership (Dutta 2017).
The above examples do not capture the enormity of the bad debt problem. During the period 2013–15, public sector banks wrote off ₹1.14 lakh crore of debt (Mathew and Narayan 2016). Several additional lakh crore will likely be written off in the coming years. Eventually, the banks will have to be “bailed out” by the government through capital infusion.
The unsustainable debt of so many private corporations across a swathe of sectors periodically requiring government rescue—including debt write-off by public sector creditors—hardly speaks well about the innate superior efficiency of the private sector.
Timing of Privatisation Decision
Why has the government announced the decision to privatise AI—a decision taken in great haste—just at a time when the airline is on the verge of becoming profitable?
The decision comes at a time when the government’s “reform” credentials are coming under question. These “reforms” which were eagerly anticipated by business leaders and foreign investors have got derailed and include making land acquisition easy, relaxing labour regulations for large factories and doing away with the obligations of banks to lend to the “priority sector” (farmers, small businesses, etc). The government’s inability to make a major dent in the “twin balance sheet problem” has severely affected new lending by banks to the private corporate sector. All this has affected the sentiment of business towards the government.
The announcement of the privatisation of the AI, considered a “soft target” by the government, is perhaps aimed at reversing this state of affairs. As a business newspaper editorialised,
(T)he privatization of Air India will boost investor sentiment in a big way as it demonstrates the government’s willingness and ability to take the reforms process forward. (Mint 2017)
Case against Privatisation
Private investors are interested in the AI because it is an operationally profitable airline with a large fleet of mainly new aircraft, a profitable low cost international carrier like Air India Express, a profitable ground handling services venture, valuable immovable assets in land, offices, hotels and hangers; skilled human resources in the form of a large number of pilots and engineers; the only MRO set-up in India, prime slots at airports in the country and around the world, membership of Star Alliance, etc. The AI is also the largest Indian carrier of passengers across the country’s borders.
The privatisation of AI is only possible if the government writes off a significant part of its debt. This debt accumulated for the large part until 2012 has acted as a millstone around the airline’s neck and delayed its return to profitability. There are various proposals being mooted to once again restructure AI to make its main business—that of flying passengers—attractive to potential buyers. Whatever restructuring is done, there is no getting away from the fact that its debt has to be written off.
The responsibility for this debt rests squarely with the government and is due to its many omissions and commissions in the past—delayed acquisition of aircraft, late capitalisation of the airline, interference in decisions related to aircraft acquisition, the ill-thought-out merger of the AI and Indian Airlines and not providing a level playing field to the national carrier on international routes.
If the government extends the same benefits to the public sector airline (that it wants to for a possible private owner by writing off part of its debt), it will be able to forge ahead. However, given that the airline is close to becoming profitable, it appears that even assistance with restructuring of its debt to public sector banks and sale of its properties will help it to reach profitability and manageable levels of debt.
Publicly owned airlines can also be run efficiently. Singapore Airlines is an example. An efficiently run public carrier can bring stability to air transport services and provide the right competition to private airlines. It can also fulfil objectives that are not dictated by the exigencies of maximising profit—like providing essential coverage to underserved areas or unscheduled services to the Indian diaspora during an emergency— as it does now.
The corporate business press is lauding the government’s privatisation decision, hailing it as the resumption of “reforms” which will consist of more disinvestment and privatisation. It is hard to understand how mismanaging public assets and then selling them is “reform.” Only those who see opportunities for profit in such sales can pretend that these are reforms.
The real reform that India needs is in the manner that public sector enterprises are managed. This reform must ensure at a minimum that there are well-defined policy guidelines for these enterprises available in the public domain, that the enterprises are compensated for costs incurred in implementing specific government policies not in line with their commercial objectives, that there is professional management in place and that this management is shielded from interference from politicians and bureaucrats.
The present government came with the claim of providing “good governance.” There is no reason why this should not extend to the management of public sector enterprises.

Tuesday, 11 July 2017

How economics became a religion

John Rapley in The Guardian



Although Britain has an established church, few of us today pay it much mind. We follow an even more powerful religion, around which we have oriented our lives: economics. Think about it. Economics offers a comprehensive doctrine with a moral code promising adherents salvation in this world; an ideology so compelling that the faithful remake whole societies to conform to its demands. It has its gnostics, mystics and magicians who conjure money out of thin air, using spells such as “derivative” or “structured investment vehicle”. And, like the old religions it has displaced, it has its prophets, reformists, moralists and above all, its high priests who uphold orthodoxy in the face of heresy.

Over time, successive economists slid into the role we had removed from the churchmen: giving us guidance on how to reach a promised land of material abundance and endless contentment. For a long time, they seemed to deliver on that promise, succeeding in a way few other religions had ever done, our incomes rising thousands of times over and delivering a cornucopia bursting with new inventions, cures and delights.

This was our heaven, and richly did we reward the economic priesthood, with status, wealth and power to shape our societies according to their vision. At the end of the 20th century, amid an economic boom that saw the western economies become richer than humanity had ever known, economics seemed to have conquered the globe. With nearly every country on the planet adhering to the same free-market playbook, and with university students flocking to do degrees in the subject, economics seemed to be attaining the goal that had eluded every other religious doctrine in history: converting the entire planet to its creed.

Yet if history teaches anything, it’s that whenever economists feel certain that they have found the holy grail of endless peace and prosperity, the end of the present regime is nigh. On the eve of the 1929 Wall Street crash, the American economist Irving Fisher advised people to go out and buy shares; in the 1960s, Keynesian economists said there would never be another recession because they had perfected the tools of demand management.

The 2008 crash was no different. Five years earlier, on 4 January 2003, the Nobel laureate Robert Lucas had delivered a triumphal presidential address to the American Economics Association. Reminding his colleagues that macroeconomics had been born in the depression precisely to try to prevent another such disaster ever recurring, he declared that he and his colleagues had reached their own end of history: “Macroeconomics in this original sense has succeeded,” he instructed the conclave. “Its central problem of depression prevention has been solved.”

No sooner do we persuade ourselves that the economic priesthood has finally broken the old curse than it comes back to haunt us all: pride always goes before a fall. Since the crash of 2008, most of us have watched our living standards decline. Meanwhile, the priesthood seemed to withdraw to the cloisters, bickering over who got it wrong. Not surprisingly, our faith in the “experts” has dissipated.

Hubris, never a particularly good thing, can be especially dangerous in economics, because its scholars don’t just observe the laws of nature; they help make them. If the government, guided by its priesthood, changes the incentive-structure of society to align with the assumption that people behave selfishly, for instance, then lo and behold, people will start to do just that. They are rewarded for doing so and penalised for doing otherwise. If you are educated to believe greed is good, then you will be more likely to live accordingly.

The hubris in economics came not from a moral failing among economists, but from a false conviction: the belief that theirs was a science. It neither is nor can be one, and has always operated more like a church. You just have to look at its history to realise that.

The American Economic Association, to which Robert Lucas gave his address, was created in 1885, just when economics was starting to define itself as a distinct discipline. At its first meeting, the association’s founders proposed a platform that declared: “The conflict of labour and capital has brought to the front a vast number of social problems whose solution is impossible without the united efforts of church, state and science.” It would be a long path from that beginning to the market evangelism of recent decades.

Yet even at that time, such social activism provoked controversy. One of the AEA’s founders, Henry Carter Adams, subsequently delivered an address at Cornell University in which he defended free speech for radicals and accused industrialists of stoking xenophobia to distract workers from their mistreatment. Unknown to him, the New York lumber king and Cornell benefactor Henry Sage was in the audience. As soon as the lecture was done, Sage stormed into the university president’s office and insisted: “This man must go; he is sapping the foundations of our society.” When Adams’s tenure was subsequently blocked, he agreed to moderate his views. Accordingly, the final draft of the AEA platform expunged the reference to laissez-faire economics as being “unsafe in politics and unsound in morals”.

 
‘Economics has always operated more like a church’ … Trinity Church seen from Wall Street. Photograph: Alamy Stock Photo

So was set a pattern that has persisted to this day. Powerful political interests – which historically have included not only rich industrialists, but electorates as well – helped to shape the canon of economics, which was then enforced by its scholarly community.

Once a principle is established as orthodox, its observance is enforced in much the same way that a religious doctrine maintains its integrity: by repressing or simply eschewing heresies. In Purity and Danger, the anthropologist Mary Douglas observed the way taboos functioned to help humans impose order on a seemingly disordered, chaotic world. The premises of conventional economics haven’t functioned all that differently. Robert Lucas once noted approvingly that by the late 20th century, economics had so effectively purged itself of Keynesianism that “the audience start(ed) to whisper and giggle to one another” when anyone expressed a Keynesian idea at a seminar. Such responses served to remind practitioners of the taboos of economics: a gentle nudge to a young academic that such shibboleths might not sound so good before a tenure committee. This preoccupation with order and coherence may be less a function of the method than of its practitioners. Studies of personality traits common to various disciplines have discovered that economics, like engineering, tends to attract people with an unusually strong preference for order, and a distaste for ambiguity.

The irony is that, in its determination to make itself a science that can reach hard and fast conclusions, economics has had to dispense with scientific method at times. For starters, it rests on a set of premises about the world not as it is, but as economists would like it to be. Just as any religious service includes a profession of faith, membership in the priesthood of economics entails certain core convictions about human nature. Among other things, most economists believe that we humans are self-interested, rational, essentially individualistic, and prefer more money to less. These articles of faith are taken as self-evident. Back in the 1930s, the great economist Lionel Robbins described his profession in a way that has stood ever since as a cardinal rule for millions of economists. The field’s basic premises came from “deduction from simple assumptions reflecting very elementary facts of general experience” and as such were “as universal as the laws of mathematics or mechanics, and as little capable of ‘suspension’”.

Deducing laws from premises deemed eternal and beyond question is a time-honoured method. For thousands of years, monks in medieval monasteries built a vast corpus of scholarship doing just that, using a method perfected by Thomas Aquinas known as scholasticism. However, this is not the method used by scientists, who tend to require assumptions to be tested empirically before a theory can be built out of them.
But, economists will maintain, this is precisely what they themselves do – what sets them apart from the monks is that they must still test their hypotheses against the evidence. Well, yes, but this statement is actually more problematic than many mainstream economists may realise. Physicists resolve their debates by looking at the data, upon which they by and large agree. The data used by economists, however, is much more disputed. When, for example, Robert Lucas insisted that Eugene Fama’s efficient-markets hypothesis – which maintains that since a free market collates all available information to traders, the prices it yields can never be wrong – held true despite “a flood of criticism”, he did so with as much conviction and supporting evidence as his fellow economist Robert Shiller had mustered in rejecting the hypothesis. When the Swedish central bank had to decide who would win the 2013 Nobel prize in economics, it was torn between Shiller’s claim that markets frequently got the price wrong and Fama’s insistence that markets always got the price right. Thus it opted to split the difference and gave both men the medal – a bit of Solomonic wisdom that would have elicited howls of laughter had it been a science prize. In economic theory, very often, you believe what you want to believe – and as with any act of faith, your choice of heads or tails will as likely reflect sentimental predisposition as scientific assessment.

It’s no mystery why the data used by economists and other social scientists so rarely throws up incontestable answers: it is human data. Unlike people, subatomic particles don’t lie on opinion surveys or change their minds about things. Mindful of that difference, at his own presidential address to the American Economic Association nearly a half-century ago, another Nobel laureate, Wassily Leontief, struck a modest tone. He reminded his audience that the data used by economists differed greatly from that used by physicists or biologists. For the latter, he cautioned, “the magnitude of most parameters is practically constant”, whereas the observations in economics were constantly changing. Data sets had to be regularly updated to remain useful. Some data was just simply bad. Collecting and analysing the data requires civil servants with a high degree of skill and a good deal of time, which less economically developed countries may not have in abundance. So, for example, in 2010 alone, Ghana’s government – which probably has one of the better data-gathering capacities in Africa – recalculated its economic output by 60%. Testing your hypothesis before and after that kind of revision would lead to entirely different results.

 
‘The data used by economists rarely throws up incontestable answers’ … traders at the New York Stock Exchange in October 2008. Photograph: Spencer Platt/Getty Images

Leontief wanted economists to spend more time getting to know their data, and less time in mathematical modelling. However, as he ruefully admitted, the trend was already going in the opposite direction. Today, the economist who wanders into a village to get a deeper sense of what the data reveals is a rare creature. Once an economic model is ready to be tested, number-crunching ends up being done largely at computers plugged into large databases. It’s not a method that fully satisfies a sceptic. For, just as you can find a quotation in the Bible that will justify almost any behaviour, you can find human data to support almost any statement you want to make about the way the world works.

That’s why ideas in economics can go in and out of fashion. The progress of science is generally linear. As new research confirms or replaces existing theories, one generation builds upon the next. Economics, however, moves in cycles. A given doctrine can rise, fall and then later rise again. That’s because economists don’t confirm their theories in quite the same way physicists do, by just looking at the evidence. Instead, much as happens with preachers who gather a congregation, a school rises by building a following – among both politicians and the wider public.

For example, Milton Friedman was one of the most influential economists of the late 20th century. But he had been around for decades before he got much of a hearing. He might well have remained a marginal figure had it not been that politicians such as Margaret Thatcher and Ronald Reagan were sold on his belief in the virtue of a free market. They sold that idea to the public, got elected, then remade society according to those designs. An economist who gets a following gets a pulpit. Although scientists, in contrast, might appeal to public opinion to boost their careers or attract research funds, outside of pseudo-sciences, they don’t win support for their theories in this way.
However, if you think describing economics as a religion debunks it, you’re wrong. We need economics. It can be – it has been – a force for tremendous good. But only if we keep its purpose in mind, and always remember what it can and can’t do.

The Irish have been known to describe their notionally Catholic land as one where a thin Christian veneer was painted over an ancient paganism. The same might be said of our own adherence to today’s neoliberal orthodoxy, which stresses individual liberty, limited government and the free market. Despite outward observance of a well-entrenched doctrine, we haven’t fully transformed into the economic animals we are meant to be. Like the Christian who attends church but doesn’t always keep the commandments, we behave as economic theory predicts only when it suits us. Contrary to the tenets of orthodox economists, contemporary research suggests that, rather than seeking always to maximise our personal gain, humans still remain reasonably altruistic and selfless. Nor is it clear that the endless accumulation of wealth always makes us happier. And when we do make decisions, especially those to do with matters of principle, we seem not to engage in the sort of rational “utility-maximizing” calculus that orthodox economic models take as a given. The truth is, in much of our daily life we don’t fit the model all that well.


Economists work best when they take the stories we have given them, and advise us on how we can help them to come true


For decades, neoliberal evangelists replied to such objections by saying it was incumbent on us all to adapt to the model, which was held to be immutable – one recalls Bill Clinton’s depiction of neoliberal globalisation, for instance, as a “force of nature”. And yet, in the wake of the 2008 financial crisis and the consequent recession, there has been a turn against globalisation across much of the west. More broadly, there has been a wide repudiation of the “experts”, most notably in the 2016 US election and Brexit referendum.

It would be tempting for anyone who belongs to the “expert” class, and to the priesthood of economics, to dismiss such behaviour as a clash between faith and facts, in which the facts are bound to win in the end. In truth, the clash was between two rival faiths – in effect, two distinct moral tales. So enamoured had the so-called experts become with their scientific authority that they blinded themselves to the fact that their own narrative of scientific progress was embedded in a moral tale. It happened to be a narrative that had a happy ending for those who told it, for it perpetuated the story of their own relatively comfortable position as the reward of life in a meritocratic society that blessed people for their skills and flexibility. That narrative made no room for the losers of this order, whose resentments were derided as being a reflection of their boorish and retrograde character – which is to say, their fundamental vice. The best this moral tale could offer everyone else was incremental adaptation to an order whose caste system had become calcified. For an audience yearning for a happy ending, this was bound to be a tale of woe.

The failure of this grand narrative is not, however, a reason for students of economics to dispense with narratives altogether. Narratives will remain an inescapable part of the human sciences for the simple reason that they are inescapable for humans. It’s funny that so few economists get this, because businesses do. As the Nobel laureates George Akerlof and Robert Shiller write in their recent book, Phishing for Phools, marketers use them all the time, weaving stories in the hopes that we will place ourselves in them and be persuaded to buy what they are selling. Akerlof and Shiller contend that the idea that free markets work perfectly, and the idea that big government is the cause of so many of our problems, are part of a story that is actually misleading people into adjusting their behaviour in order to fit the plot. They thus believe storytelling is a “new variable” for economics, since “the mental frames that underlie people’s decisions” are shaped by the stories they tell themselves.

Economists arguably do their best work when they take the stories we have given them, and advise us on how we can help them to come true. Such agnosticism demands a humility that was lacking in economic orthodoxy in recent years. Nevertheless, economists don’t have to abandon their traditions if they are to overcome the failings of a narrative that has been rejected. Rather they can look within their own history to find a method that avoids the evangelical certainty of orthodoxy.

In his 1971 presidential address to the American Economic Association, Wassily Leontief counselled against the dangers of self-satisfaction. He noted that although economics was starting to ride “the crest of intellectual respectability … an uneasy feeling about the present state of our discipline has been growing in some of us who have watched its unprecedented development over the last three decades”.

Noting that pure theory was making economics more remote from day-to-day reality, he said the problem lay in “the palpable inadequacy of the scientific means” of using mathematical approaches to address mundane concerns. So much time went into model-construction that the assumptions on which the models were based became an afterthought. “But,” he warned – a warning that the sub-prime boom’s fascination with mathematical models, and the bust’s subsequent revelation of their flaws, now reveals to have been prophetic – “it is precisely the empirical validity of these assumptions on which the usefulness of the entire exercise depends.”

Leontief thought that economics departments were increasingly hiring and promoting young economists who wanted to build pure models with little empirical relevance. Even when they did empirical analysis, Leontief said economists seldom took any interest in the meaning or value of their data. He thus called for economists to explore their assumptions and data by conducting social, demographic and anthropological work, and said economics needed to work more closely with other disciplines.


Leontief’s call for humility some 40 years ago stands as a reminder that the same religions that can speak up for human freedom and dignity when in opposition, can become obsessed with their rightness and the need to purge others of their wickedness once they attain power. When the church retains its distance from power, and a modest expectation about what it can achieve, it can stir our minds to envision new possibilities and even new worlds. Once economists apply this kind of sceptical scientific method to a human realm in which ultimate reality may never be fully discernible, they will probably find themselves retreating from dogmatism in their claims.

Paradoxically, therefore, as economics becomes more truly scientific, it will become less of a science. Acknowledging these limitations will free it to serve us once more.