Recently I have been reading Robert Shiller’s book Narrative Economics. Today’s post will analyze the book and its new economic theory. Next week I will also mine the book to examine some of its historical narratives.
What is the Theory Behind Narrative Economics?
Narrative Economics discusses the expansion of the concepts for which Shiller won a Nobel Prize. Particularly he postulates that narratives drive economic results in a way similar to the impact of viral pandemics. The idea is definitely pushing the boundaries of current economic thought, although not so far off the beaten path as some might first postulate.
How Narrative Economics Fits Into Traditional Economics
Historically economics has been very statistical and math-focused. It tends to take a rearward looking view at a scenario and interpret meaning without looking at the popular narrative. A few economists, Galbraith comes to mind, have been exceptions but generally societal narratives and culture have been traditionally ignored in this process.
The Rise of Behavioral Economics
That changed with the rise of behavioral economics. Basically the rise of the concept that people are not inherently rational in their decisions. As such behavioral biases and heuristics and drive them to perform in ways different than their best interest. I have been pretty clear before I agree with this theory, although I believe in it through a framework of more traditional concepts like the random walk theory of the stock market.
Behavioral Economics along with even some statistical models have begun to cover the concept of people’s expectations. I noted this even in our discussion of interest rates, where I raised the concept that future expectations of inflation drive interest rates.
Criticisms of Behavioral Economics
However, there has been some significant criticism in recent years of the concepts of behavioral economics. Particularly application of these concepts has been elusive. We know peoples feelings, biases, and emotions drive their actions but on a macro level we don’t necessarily know how to influence these. We can do micro-actions like adjusting 401ks to include auto-enrollment, bias educartion, or framing of questions, but that doesn’t solve for such things as consumer confidence.
Narrative Economics: Confidence to Narrative
Which brings us to Narrative Economics. Shiller attempts to tie concepts like consumer confidence to the viral narratives circulating at the time. His argument is that the emotional impact of these narratives drives human behavior in such a way as to change economic outcomes. It’s really a compelling theory.
The Real Estate Market Example
For example, he spends a whole chapter talking about narratives around real estate leading up the 2007 recession and beyond. Particularly it talks about the rise of published metrics around real estate appreciation, personal stories about those who have gotten rich investing in real estate, and the campaigns/narratives promoted by various organizations around home-ownership.
In conjunction with these were the rise of and the commercialization of “flipping” homes and celebrity exotic houses. The personalized aspect of the narrative being oh so important in his theory to the public adoption. He postulates that the bubbles in real estate were tied to these narratives. That they added up to the message that these investments make everyday people rich and it’s easy to do. They also further reinforced that having a big house was a reflection of status.
On the scale that they are today these are a rather newish mass phenomenon. Their rise corresponded to a time when the housing market grew at a historic rate. Then again there remains a pesky question. Did the narrative cause the rise or did the rise cause the narrative?
Did The Narrative Cause the Result or Did the Result Cause the Narrative?
There are two problems with the Narrative Economics theory. The first is there needs to be significantly more empirical testing to prove the data. Shiller uses mainly a single data source for his analysis. More analysis by additional researches are needed to validate or reject the hypothesis. As I asked in my last paragraph, is the narrative causing the rise or is the rise causing the narrative. That is the key question that needs to be answered.
The Application Issue Remains with Narrative Economics
The second problem is the application issue again. What leads to a narrative going viral? Shiller postulates on some ideas from psychology. The person delivering the message, the mood, the environment, and other aspects all determine the outcome. But even the inclusion of all these does not guarantee viral. You can see this clearly on places like Twitter. Popular influencers try to push new ideas all the time. But not everything they say goes viral.
Also there is no way to guarantee other influencers don’t push in a different direction. IE there is no central means by which a narrative can be cultivated and controlled for a positive outcome. In fact one can argue since the news media’s main goal is to grasp your attention, there is an incentive for these outlets to be controversial and not conform to such a message.
Finally in addition, to the need to go viral, impactful narratives also must stick around. If it lasts a week it’s not going to have impact. Shiller gives examples of narratives that have stuck around for decades, like the American dream, that have driven financial behavior for decades. But he gives little to no guidance on how to create a narrative that will be more than a flash in the pan. Not surprising as I don’t think anyone knows.
Positive Influence From Behavioral Economics Remains Ellusive
But in any case, all this leads us with a conclusion that using narrative economic messages to positively influence economic outcomes is likely a pipe dream. I am reminded of the SciFi story by Issac Asimov “Foundation”. Later in the series, the concept arises that an individual is shaping future results by dictating events and the messages around those events. The impact of that messaging is to create events later on without this individual’s input. Narrative economics in a way gives a framework to that end, if only there were a way to implement it. Then again there could be scary results if such a method were possible and the wrong person used it. I’m reminded of the rise of Hitler here.
Wrap-Up On Narrative Economics
Anyway, overall it is an entertaining book. You should pick it up either in print or the library if you enjoy economics. It’s a good read not only for the theory application but also for the example narratives. Next week’s post will weave together some of those prior narratives into a post I’ve wanted to write for a while.
Have you read Narrative Economics? What were your conclusions?