When Economists Embarrass Themselves, Eugene Fama Edition

I've taken a few days off blogging because the political news was so depressing. It's still depressing, but that's no reason to leave the real world.

And yet people do. Most recently I was reminded of that while reading an article linked to a Paul Krugman blog post. Krugman needed to make the point that some people stubbornly hang on to the notion that markets are efficient even when they act so irrationally and inefficiently that they blow up the world economy. To make this point, Krugman linked to a past New Yorker interview with Eugene Fama.

Fama is a Nobel laureate and professor of Economics at the University of Chicago (where, coincidentally, both my parents did their undergrad work), which almost by default makes him a "freshwater," efficient-markets, business-cycle economist and thus prone to making absurd claims about markets, cycles, and bubbles.

Calling out a Nobel laureate just because he serves the interests of the right always feels tough, but Fama here seems insane (not to put too fine a point on it). You be the judge. Here's Fama a couple of years after the real estate bubble popped -- and a decade after the tech stock bubble collapsed (interviewer in italics, Fama in regular):

Many people would argue that, in this case, the inefficiency was primarily in the credit markets, not the stock market—that there was a credit bubble that inflated and ultimately burst.

I don’t even know what that means. People who get credit have to get it from somewhere. Does a credit bubble mean that people save too much during that period? I don’t know what a credit bubble means. I don’t even know what a bubble means. These words have become popular. I don’t think they have any meaning. [emphasis mine.]

I guess most people would define a bubble as an extended period during which asset prices depart quite significantly from economic fundamentals.

That’s what I would think it is, but that means that somebody must have made a lot of money betting on that, if you could identify it. It’s easy to say prices went down, it must have been a bubble, after the fact. I think most bubbles are twenty-twenty hindsight. Now after the fact you always find people who said before the fact that prices are too high. People are always saying that prices are too high. When they turn out to be right, we anoint them. When they turn out to be wrong, we ignore them. They are typically right and wrong about half the time.

Are you saying that bubbles can’t exist?

They have to be predictable phenomena. I don’t think any of this was particularly predictable.

Ummkay. There's so much wrong with that excerpt (reading the whole article doesn't change that), but here's a quick set of observations. One, Fama doesn't even know what the term bubble means? Two, bubbles can only exist if they're predictable? Why? (Remember, Fama doesn't know what a bubble "means.") Three, many people predicted the popping of both the tech and the real-estate bubbles. I saw both coming and agonized over them but didn't successfully pick the timing of their respective pops. Paul Krugman was one of the writers that alerted me to the real estate bubble. Talk was all over the map about the tech, or dot-com, bubble, but I definitely recall that many commentators saw the bubble coming. And plenty had been written about it prior to Fama's 2010 remarks.

Read the rest of the Fama interview. It's depressing that someone of his stature appears willfully ignorant, but there you are.

Addendum. Here's Krugman again on bubbles (you know, the ones that don't exist in a Fama-based world).