Institute for New Economic Thinking;
It was the crash of 2008, which brought home the fact that there is something broken in economic theory. Two ideas – rational expectations theory and the efficient market hypothesis – have a monopoly of thought.
The “rational expectations hypothesis” became increasingly dominant in academic economics from the 1980s onwards, partly because it combined easy mathematics with an ideology attractive in the Thatcher-Reagan period.
Its methodology of rational expectations could “prove” with apparently mathematical certainty that solvent banks would never face sudden liquidity crises, that forcing banks to hold excess capital was inefficient, that investors could perceive their collective best interests and that “markets are always right” in the sense that the financial prices incorporate the best possible forecasts about an uncertain future.
The economic orthodoxy was particularly dangerous in finance, since it allowed Nobel laureates to calculate that upheavals of the kind triggered by Lehman Brothers would not occur even once in a billion years.
h/t Next Big Future