The great classical economists of the late 18th and early 19th centuries had no problem connecting to the real world – the Industrial Revolution had unleashed profound social and economic changes, and they were trying to make sense of what they were seeing. Yet Adam Smith, who is considered the founding father of modern economics, would have had trouble understanding the meaning of the word “economist.”
What is today known as economics arose out of two larger intellectual traditions that have since been largely abandoned. One is political economy, which is based on the simple idea that economic outcomes are often determined largely by political factors (as well as vice versa). But when political-economy courses first started appearing in Canadian universities in the 1870s, it was still viewed as a small offshoot of a far more important topic: moral philosophy.
In The Wealth of Nations (1776), Adam Smith famously argued that the pursuit of enlightened self-interest by individuals and companies could benefit society as a whole. His notion of the market's “invisible hand” laid the groundwork for much of modern neoclassical and neo-liberal, laissez-faire economics. But unlike today's free marketers, Smith didn't believe that the morality of the market was appropriate for society at large. Honesty, discipline, thrift and co-operation, not consumption and unbridled self-interest, were the keys to happiness and social cohesion. Smith's vision was a capitalist economy in a society governed by non-capitalist morality.
But by the end of the 19th century, the new field of economics no longer concerned itself with moral philosophy, and less and less with political economy. What was coming to dominate was a conviction that markets could be trusted to produce the most efficient allocation of scarce resources, that individuals would always seek to maximize their utility in an economically rational way, and that all of this would ultimately lead to some kind of overall equilibrium of prices, wages, supply and demand.
Political economy was less vital because government intervention disrupted the path to equilibrium and should therefore be avoided except in exceptional circumstances. And as for morality, economics would concern itself with the behaviour of rational, self-interested, utility-maximizing Homo economicus. What he did outside the confines of the marketplace would be someone else's field of study.
As those notions took hold, a new idea emerged that would have surprised and probably horrified Adam Smith – that economics, divorced from the study of morality and politics, could be considered a science. By the beginning of the 20th century, economists were looking for theorems and models that could help to explain the universe. One historian described them as suffering from “physics envy.” Although they were dealing with the behaviour of humans, not atoms and particles, they came to believe they could accurately predict the trajectory of human decision-making in the marketplace.
In their desire to have their field be recognized as a science, economists increasingly decided to speak the language of science. From Smith's innovations through John Maynard Keynes's work in the 1930s, economics was argued in words. Now, it would go by the numbers.
The turning point came in 1947, when Paul Samuelson's classic book Foundations of Economic Analysis for the first time presented economics as a branch of applied mathematics. Without “the invigorating kiss of mathematical method,” Samuelson maintained, economists had been practising “mental gymnastics of a particularly depraved type,” like “highly trained athletes who never run a race.” After Samuelson, no economist could ever afford to make that mistake.
And that may have been the greatest mistake of all: In a post-crisis, 2009 essay in The New York Times Magazine, Princeton economist and Nobel laureate Paul Krugman wrote, “The central cause of the profession's failure was the desire for an all-encompassing, intellectually elegant approach that gave economists a chance to show off their mathematical prowess.”
Of course, nothing says science like a Nobel Prize. Prizes in chemistry, physics and medicine were first awarded in 1901, long before anyone would have thought that economics could or should be included. But by the late 1960s, the central bank of Sweden was determined to change that, and when the Nobel family objected, the bank agreed to put up the money itself, making it the only one of the prizes to be funded by taxpayers.
Officially, then, it is known as the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel – but that title is rarely used. On Monday morning, Prof. Sargent and Princeton University Prof. Sims were widely reported to have won the Nobel Prize in Economics.