Matthew Levine, Policy Manager at the IFoA, reflects on the opening webinar of the IFoA’s ‘Alternative economic thinking’ presidential speaker series
Almost 300 people tuned in to watch the launch event for the IFoA’s ‘Alternative economic thinking’ series on 27 March 2023. I would be very surprised if any of them were disappointed, because this was an exceptional discussion – interesting, informative and erudite.
Lucy Saye – Chair of the IFoA Sustainability Board and member of the IFoA’s Economics Member Interest Group
William Hynes – Head of the New Approaches to Economic Challenges Unit at the OECD
Angus Armstrong – Director of Rebuilding Macroeconomics, an inter-disciplinary research initiative funded by the UK’s Economic and Social Research Council
The discussion was chaired by Matt Saker, President of the IFoA.
The panel’s opening comments looked at alternative economics from different perspectives. Taken together, they gave a fascinating, holistic introduction to this event.
Lucy Saye sketched a picture of the world according to neo-classical economics, in which individuals make rational decisions based on perfect knowledge of all past outcomes, and prices accurately reflect value. However, a key observation is that in practice markets are not in equilibrium.
Saye explained that there isn’t a single theory opposed to the neo-classical view, but a range of ideas, such as Keynesian, pluralist, feminist, and many others. Some perspectives emphasise environmental issues while others focus on social issues, such as the social impact of underinvestment. An appreciation of economic history is also important, something that has been understood more deeply since the financial crisis of 2007–08.
All of these trends and factors affect the financial system and are therefore relevant for actuaries. However, Saye referred to Dr Iain Clacher’s 2019 report Economic Thinking and Actuarial Practice, which found that actuaries used only a narrow area of economics and did so in a passive way.
In his opening remarks, William Hynes recalled the late Queen’s famous question about why the financial establishment had failed to predict the global financial crisis. He suggested this was a failure of imagination, an inability to understand wider factors at play in the economy. Having said that, Hynes noted that a survey of economists found that they actually had an appetite for more interdisciplinary work.
The Nobel-winning economist Paul Romer had also drawn attention to an excessive deference to authority, and a lack of incentives to challenge the status quo.
Angus Armstrong remarked that traditional economics is about decision-making in well-defined circumstances. However, in practice decisions must be made in uncertainty and need to take account of people’s behaviour in uncertainty, which is not uniform.
While classical economics assumes equilibrium conditions, alternative economic theories recognise that such conditions don’t actually exist. Instead, they study how processes can gravitate towards equilibrium. He gave the striking example of putting out a fire: it’s no use dousing it in hydrogen or oxygen on their own, but combining them into H2O makes all the difference!
Bayesian ideas of probability theory can reduce uncertainty in common situations, making them amenable to analysis using classical methods. For other situations, different approaches are necessary.
The session then moved on to a wide-ranging panel discussion followed by an audience Q&A, with the Chair encouraging the panellists to consider the actuarial implications of their ideas.
The panel was asked what the priority areas of alternative economics should be, and whether governments have a role to play in encouraging alternative thinking.
Saye noted that economic history is important because the problems of a particular time affect the ideas used to tackle them. If we compare economic conditions then and now, this can illuminate our current issues. In Hynes’s view, standard economics has failed. He thinks many politicians have become aware of this and are seeking better answers. Armstrong added that governments should avoid oversimplifying problems; he suggested the UK government had done this in its Edinburgh Reforms, since each of the 30 issues covered was complex and deserved to be addressed on its own terms.
Hynes was asked to elaborate on complexity economics. For him, one key aspect of this is to look at individuals in a new way (relative to the classical approach). It is fundamental to humans that they operate as part of a social group and cooperate within those groups. The limited understanding of individuals in a group generates an overall result that they cannot foresee, much like ants can build an ant hill without having a conscious intention to do so.
This prompted a question on whether we can avoid, or at least reduce, uncertainty. Armstrong argued that removing uncertainty wouldn’t be helpful because you would also have to remove the interaction of asking questions and receiving answers. The uncertainty of the answer would preclude asking the question.
On which alternative metrics can be used instead of growth, Hynes referred to efforts to apply alternative measures, taking account of factors such as wellbeing, health and education. Combining these into a single measure had proved to be difficult; he mentioned that when an OECD measure put Italy ahead of the US it was soon abandoned! More generally, trying to optimise a measure, whether it is GDP or something wider, is problematic. The more you optimise one measure, the more fragile the system as a whole tends to become. Instead, we should be seeking to understand how the system works in order to build greater resilience.
Armstrong was asked what methods are available when optimising isn’t practical. He argued that traditional optimisation has its place. However, it is based on calculus, which describes situations that are mathematically ‘smooth’, whereas the real world often contains sudden jumps. Computer simulations are good at handling this – they help us answer the question ‘What if’? For example, if we study how a market arrives at a price, any explanation of the process has to take account of the ‘mind reading’ that participants in the market are doing to second-guess the behaviour of other parties – and this is irreducibly human.
The session ended with a question on whether it is dangerous for actuaries to focus on net investment returns. Saye suggested that using financial returns needn’t be damaging provided actuaries understand the source of those returns, in particular whether they can only be achieved at the cost of a less sustainable environment.
Responding to an earlier remark on how economics can take account of sustainability, Saye noted that over half of GDP is based on nature, and yet the Dasgupta Report argues that neo-classical economics has ignored natural assets. It is misguided to focus only on equilibrium and neglect the importance of environmental tipping points. The UN’s Sustainable Development Goals rightly include natural and social targets alongside economic ones. Saye said governments need to take more risks with investing in green technology, but economic forecasts have significantly underestimated its benefits. Also, discount rates downplay the importance of natural catastrophes occurring in the long-term future, giving them little value in present-day terms.
It is difficult to pick out a single unifying theme in this fascinating discussion, and in a sense that itself is worth noting, because it highlights the importance of adapting methods and ideas to the economic situations we are studying, instead of imposing a single approach and thereby ignoring factors that are too big to be ignored. I, for one, am looking forward to the rest of this series on alternative economic thinking.
On the IFoA Virtual Learning Environment, you can watch a recording of the webinar.
Read more about the event: An introduction to alternative economic thinking.
In the run up to the webinar, Nick Foster considered whether a broader approach to economic thinking, beyond the prevailing orthodoxies, needs to be part of the actuarial toolkit. Read his blog ‘Actuaries, foxes and economic pluralism’. Nick is Programme Director, BSc Mathematics and Actuarial Science at University of Leicester.
