The Economics Nobel Highlights a Big Unanswered Question

From Bloomberg:

The awarding of a Nobel Prize to three economists with divergent views on the working of markets highlights a troubling truth about the state of the discipline: We still don’t know nearly enough about why the prices of stocks, bonds and other assets move the way they do.

If the economics profession wants to help the world avert – – or at least better survive — financial crises, it will have to be more open to new ways of looking at this question.

The recipients of this year’s Sveriges Riksbank Prize in Economic Sciences — Eugene F. Fama and Lars Peter Hansen of the University of Chicago and Robert J. Shiller of Yale University – – have all made important contributions to the understanding of financial markets. Fama demonstrated that markets are very good at processing new information quickly. Shiller showed that despite this, prices can get out of whack and stay there for long periods of time. Hansen provided tools to help figure out whether markets’ often odd behavior can happen in a world where investors are rational, or must be explained by human bias or some other malfunction.

Unfortunately, decades after the three economists had their groundbreaking insights, the crucial question remains unanswered: Can policy makers know with any certainty when markets are dangerously out of line, and is there anything they can do about it?

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