NOTHING BUT ASSUMPTIONS:

To be fair to economists, there are two reasons why their forecasts are often likely to be wrong. The first is that humans are not inanimate objects; we change our behaviour and we watch the news. If every economist forecast a recession for 2013 and the predictions were widely publicised, businesses would cancel their investment programmes and consumers would start saving, not spending, for fear of losing their jobs. The recession would occur now, not next year.

Second, the economy is a complex mechanism with many working parts. Economists cannot run real-time experiments in the same way as scientists; operating one version of the economy with high interest rates and another with low rates, as a pharmacologist can offer one patient a new drug and another a placebo. There is no way of isolating the various factors that affect growth.

But there are more fundamental questions about the nature of the subject beyond the failure of economists to make accurate forecasts. Do economists have an accurate model of human motivation? Or do they assume that our motives are entirely mercenary?

In his excellent book, "The Assumptions Economists Make" Jonathan Schlefer tries to go back to first principles. Economists, he writes, "make simplified assumptions about our world, build imaginary economies based on those assumptions - otherwise known as models - and use them to draw practical lessons." This is, as he admits, inevitable; the economy is too complex for any other approach to work. Simplified models can be manipulated mathematically to produce answers to economic problems. But it is easy to get carried away by the elegance of the model, and to forget the short cuts that were taken when the simplified assumptions were made.

Even the most basic assumptions of economics turn out to have exceptions. Take one law that most people can grasp - supply and demand. As supply rises, relative to demand, the price falls; while if demand rises, relative to supply, the price rises. But this is not true for housing; when prices are rising, demand increases as more people want to become homeowners. And it is not true of so-called Veblen goods, luxury items such as designer clothes whose appeal is driven by their higher price.  

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