The Austrian School Part 8: The 2008 Crisis
Posted: Sat Jan 14, 2012 4:14 am
The Austrian School:
Part 1: A Legacy outside the institution
Part 2: Currents in Austrian School; fundamentalism, scholarship, media, etc..
part 3: Financial economics: The Efficient Market Hypothesis
Part 4: Classsical economics and Market Socialism; Updating classical
Part 5: Hayek vs. Central Planning; Hayek Vs. Rational Expectations
Part 6: The Cycle and Rational Expectations; island Parables
Part 7: The Cycle as a Prisoner's Dilemma -- in "Anarcho Capitalism"?
Part 8: 2008 Crisis and Market Efficiency; Keynes vs. Chicago vs. Hayek vs. Warren Buffett
If you've followed the gist of my posts to this point, you may anticipate that beliefs such as "market efficiency" make predicting a financial crisis difficult. If the stock market is efficient, then wouldn't predicting a "bubble" or a "crisis" offer significant arbitrage opportunity? Indeed it would. Being a New Classical economist is convenient. Wherever the market is, that's about where it's supposed to be; if it isn't, then arbitrage opportunities are left open and by the time the opportunities are exploited, then the market will be efficient. One would expect to find New Classical economists rationalizing stock prices, home prices, and justifying crashes as markets correcting. But the belief that a crisis can't be predicted or neutralized before it happens is unacceptable for most people and the belief that prices were justified just hours before the crash seems insane.
Paul Krugman wrote a fantastic article for the New York Times in 2009 telling a history of macroeconomics that leads up to the theories I've been talking about in these posts -- Rational Expectations and the Efficient Market Hypothesis. I don't say fantastic because I agree with him, but because it's a readable survey of the economics at issue, and the controversies surrounding the ideas. Krugman, an old-school Keynesian, is angry with New Classical economics.
http://www.nytimes.com/2009/09/06/magaz ... wanted=all
Think about some of my recent posts when you read these criticisms, I'll quote a few:
(an aside: note that, therefore, Austrians are NOT "Freshwater")
(an aside: another reason Austrians aren't freshwater -- didn't believe it did any harm...
re: if EMH is true, there is no such thing as a "bubble", which implies prices were unjustified.
I snipped a few passages to show the ideas I've been discussing in previous posts are at the heart of economics controversies and the 2008 crisis. When you understand the big picture; where the lines of division are among economists, it becomes easier to get at the heart of specific issues. For instance, take the last charge about "madness of crowds." The entire human race may be mad, but it's difficult to get outside one's self as a human and make determinations as to how sane persons should price financial instruments. Is an ounce of gold more valuable than a Tulip? At the end of the day, if people come to believe Tulips are more valuable than gold, then indeed, Tulips are more valuable than gold. If a science of crowd psychology can help us determine policies to control trading on Wall Street, to keep traders from going mad and selling off, don't you think Wall-Street traders would have similar interests in identifying their fevered peers? There's a lot of money to be made if one can predict a crazed sell-off. Buy low, sell high -- after the crowd has recovered. It should be no surprise that there exist shelves of books discussing trading strategies such as counter-market plays and strategies based on market psychology. If you know what prices should be better than the mad crowd does, simply open an account and take their money; in the process, you will be doing the world a favor by correcting the market, as a side effect.
At any rate, John Cochrane's (Chicago) response to Krugman is here (Krugman took a swipe at him in his article):
http://faculty.chicagobooth.edu/john.co ... sponse.htm
How does this have anything to do with the Austrian School? If you see where the lines of division are within the mainstream then it's easier to fit the Austrians into their place. Clearly, Keynes is the Austrian target as the Keynesian policies are what they believe cause booms and busts. But it's only a superficial similarity that "freshwater" economists and the Austrians both advocate a general "hands off" approach by government.*
Here is some perspective from an Austrian economist, commenting on the exchange between Krugman and Cochrane:
http://consultingbyrpm.com/blog/2009/09 ... o-was.html
http://blog.mises.org/10674/murphy-crit ... o-krugman/
Indeed, Murphy is right on both counts. The same arguments from New Classical libertarians rejecting Keynesian economics summarily dismiss the Austrians, as seen in my previous posts. And he is right observing that teeny-bopper Austrian's who "high five" Cochrane do not know their doctrine, as, relatively speaking, Keynsian economics is friendly territory.
Keynesians like Krugman believe economists should have seen the crisis coming, Austrians agree, and claim that they did see the crisis coming. From the Lew Rockwell Site, 25 Austrians predict the housing crisis:
http://www.lewrockwell.com/block/block168.html
Personally, I like to see spoils from arbitrage in an economic prediction. How many of these Austrians are filthy rich, having rode the bubble to the top and then going short as it burst? There should be no excuse for anyone who predicted the 2007 crisis. In discussions I've had with Austrians, however, there are conservative views that downplay any specificity of Austrian predictions or expectations that Austrians should be able to exploit their predictions. If major market players can use Austrian methods to exploit and correct the market, then the ABC theory is both true and false at the same time -- this is a problem. But allowing Austrians predictive power without specificity raises questions about what constitutes a prediction in the first place. The usual concerns apply here that apply to confirming prophecy in general -- something we know about on this board.
There is some neutral ground available, however, that I believe lends insight into the question about whether the financial crisis was foreseeable. In the discussion of efficient markets, the name of one man leaps to mind as the counterexample to this theory, Warren Buffet. Indeed, the Austrians cite Warren Buffet in their anti-EMH literature. It is noted that Warren Buffet himself rejects EMH. In fact, long ago, Eugene Fama made Warren Buffet an exception to his rule. What else could he say about the man who has amassed one of the largest fortunes on earth by "beating the market" over a long career? If there is one man with the track record to call the New Classical paradigm into question, it's Warren Buffet. And the question is, did he see the crisis coming? A lot of people were interested in this. Including congress.
Testifying before congress:
-- transcript from Santangel's Review
The one man who all agree seems to defy the Efficient Market Hypothesis didn't see the financial crisis coming. It's hard for me to believe that if Warren Buffet didn't see it coming, that Ron Paul et al did. We all had inclinations to see a bubble. I myself had a trailer home picked out for 2000$ in 2005 to live in after selling my house for more than two times what I paid. But I didn't push the button. What if prices plateaued or gradually declined, or went up and then plateaued? But had I pushed the button, would it have made me a prophet? The question of track record is then on the table. It's one thing to beat the market once, that can be explained by luck, where EMH is called into question are rare cases where a track record of "luck" is established. Now consider the Austrians, who, in addition to common-sense intuition we all have, hold a doctrine that money infused into the economy means boom, expect bust. We would expect Austrians to warn us of busts as a matter of course, as often as religious leaders warn us of sin. There is a perfect correlation between the existence of busts and the existence of fractional reserve/central bank policy just as there is a perfect correlation between the existence busts and the existence sin.
The Austrians have a hard sell on their hands. Until available loan money runs dry, it is unlikely Washington will ever test the "do nothing" approach to fixing an economic crisis without some kind of extraordinary evidence. At best, Austrians have decades of empirical research to do assuming they can break into academia significantly enough to get a foothold to do it. At worst, the old-school Austrian mantra of "praxeology," the rejection of formal economics and its empirical studies to take up thought experiments about "human action" will ensure their scorn amongst real economists forever more, as well as their failure to do anything useful, period. Their best bet may, in fact, be to win by popularity contest; making rap videos etc.
---
More on rationality as a assumption of markets
I've put a lot of emphasis on drawing lines of division between the New Classical school and the Keynesian/Austrian schools at belief in market rationality. This has been convenient because it works into a nice free-market argument that should make Austrian's reconsider their assumption that they believe in freedom more so than anybody else. But there is something more important going on here. Just as it would be impossible to do physical science without making assumptions about uniformity, it is difficult to conceive of social sciences, whether economics, sociology, or psychology, or even religious studies, without assuming that people are rational. If people aren't rational, how to describe them in a coherent way? A schizophrenic is rational among schizophrenics, and if repeated observations of schizophrenics demonstrate behavior not accountable by the current model, it probably reflects a failure of our model rather than a failure of the schizophrenic to be properly schizophrenic. Similarly, at what point does our study break from understanding the rationality of a market to prescribing the course of rationality we wish a market to take?
I've previously made the point that studying economics is properly descriptive as is studying evolution. At what point do we say, "Evolution is wrong!" At the point where we expect to see transitional fossils, maybe? Where evolution creates ecologies that seem immoral? Or do we acknowledge the challenges and find a way to update our ways of thinking about the problem? At what point are markets wrong? Do we think they are right much of the time, but in times of a crisis, they are wrong? Are they right as long as they fit our model, otherwise they are wrong? Where do we draw the line between the market being right and the market being wrong?
I've done my share of contrived thought experiments in these posts to show the intuition behind market efficiency. I'm going to close by considering two real-world economics ideas, how real-world data poses problems for these ideas, and how acknowledging the market as knowing best leads to updating our models.
I. Stagflation
It was believed in macroeconomics that inflation and unemployment were inversely related. If inflation is high, unemployment should be low. The intuition for economic stimulus is clear. Print money and inflation goes up while pushing unemployment down. But one day, there was high unemployment along with high inflation. It seemed that at a certain point, inflation could just keep going up while unemployment stayed high. Was the market irrational? Stuck worse than it normally was? Dropping assumptions about what the market should do and letting the market tell us what it was doing led to the insight that unemployment can only be reduced so much. An economy at full output has a "natural rate" of unemployment. We might think that the best economy is one where everyone has a job, but the economy tells us that it's better a certain number of people don't have jobs. And there are some good intuition as to why this is the case. But the matter can't be "proven" one way or the other. Either the market is systematically irrational or our model needs updating. Which way do we go?
II. January/October effects
Financial economics says that present and past stock prices should be uncorrelated. The basic statistical market model, CAPM, however, showed that stock prices go up in October and in January. Was the market rational only 10 months out of the year? There were some explanations here, but all require "bubble" effects, where the market is systematically miscalculating. In theory, policy could be on the table. A benevolent government might gently buy up stocks leading into October and January respectively, curing the anomaly. Or would that work -- perhaps it would turn out like stagflation where intervention doesn't fix the situation as the model predicts? Indeed, it turns out that more elaborate "stochastic discount" models erase the anomalies, the problem seems to be with CAPM. But this "proves" nothing, it could be that CAPM is right and that the market is irrational.
Where do we draw the line? If we accept updates to our model that don't give up "too much," such as allowing for a natural rate of unemployment or additional variables to define stock market equilibria, at what point do we encounter a problem where we draw a line in the sand and say, "up to this point the market was rational, even when we second guessed it, but no more." And what, then, do we expect the defining laws of irrationality to look like? And how will they help us make policy to fix the irrationality of the market? Lest we forget: Policies won't work unless the actions of people can be predicted -- unless the actions of people are in some way, rational.
There is no question that New Classical models have failed. Last year, a Nobel Prize went to statistical research in Rational Expectations that to my knowledge, didn't come up with a glowering victory for the theory. Well, Austrians (and others), you'll never know what it's like for a model to fail until you actually do empirical research. But anyway, the models may be problematic or even outright unsatisfactory when considering something like a financial crisis. But, I think the basic orientation of adjusting theories based on empirical evidence while not giving up the assumption of market rationality is the right approach, if not the only approach. And I think that even the recent financial crisis bears out the basic insight from market efficiency that even the very best financial minds didn't see it coming.
*Actually, it's not. Libertarians of all stripes begin with suspicions about government. But because the Austrian's insist on dated ideas, their economics ends up replicating bad assumptions of the time and place of their founders. If Von Mises and Hayek were born today...
THE END
Part 1: A Legacy outside the institution
Part 2: Currents in Austrian School; fundamentalism, scholarship, media, etc..
part 3: Financial economics: The Efficient Market Hypothesis
Part 4: Classsical economics and Market Socialism; Updating classical
Part 5: Hayek vs. Central Planning; Hayek Vs. Rational Expectations
Part 6: The Cycle and Rational Expectations; island Parables
Part 7: The Cycle as a Prisoner's Dilemma -- in "Anarcho Capitalism"?
Part 8: 2008 Crisis and Market Efficiency; Keynes vs. Chicago vs. Hayek vs. Warren Buffett
If you've followed the gist of my posts to this point, you may anticipate that beliefs such as "market efficiency" make predicting a financial crisis difficult. If the stock market is efficient, then wouldn't predicting a "bubble" or a "crisis" offer significant arbitrage opportunity? Indeed it would. Being a New Classical economist is convenient. Wherever the market is, that's about where it's supposed to be; if it isn't, then arbitrage opportunities are left open and by the time the opportunities are exploited, then the market will be efficient. One would expect to find New Classical economists rationalizing stock prices, home prices, and justifying crashes as markets correcting. But the belief that a crisis can't be predicted or neutralized before it happens is unacceptable for most people and the belief that prices were justified just hours before the crash seems insane.
Paul Krugman wrote a fantastic article for the New York Times in 2009 telling a history of macroeconomics that leads up to the theories I've been talking about in these posts -- Rational Expectations and the Efficient Market Hypothesis. I don't say fantastic because I agree with him, but because it's a readable survey of the economics at issue, and the controversies surrounding the ideas. Krugman, an old-school Keynesian, is angry with New Classical economics.
http://www.nytimes.com/2009/09/06/magaz ... wanted=all
Think about some of my recent posts when you read these criticisms, I'll quote a few:
Krugman wrote:Freshwater economists are, essentially, neoclassical purists. They believe that all worthwhile economic analysis starts from the premise that people are rational and markets work
(an aside: note that, therefore, Austrians are NOT "Freshwater")
Krugman wrote:By the 1980s, however, even this severely limited acceptance of the idea that recessions are bad things had been rejected by many freshwater economists.
Krugman wrote:And as long as macroeconomic policy was left in the hands of the maestro Greenspan, without Keynesian-type stimulus programs, freshwater economists found little to complain about. (They didn’t believe that monetary policy did any good, but they didn’t believe it did any harm, either.)
(an aside: another reason Austrians aren't freshwater -- didn't believe it did any harm...
Krugman wrote:How did they miss the bubble?...Eugene Fama, the father of the efficient-market hypothesis, declared that “the word ‘bubble’ drives me nuts,”
re: if EMH is true, there is no such thing as a "bubble", which implies prices were unjustified.
Krugman wrote:In short, the belief in efficient financial markets blinded many if not most economists to the emergence of the biggest financial bubble in history. And efficient-market theory also played a significant role in inflating that bubble in the first place.
Krugman wrote:Economics, as a field, got in trouble because economists were seduced by the vision of a perfect, frictionless market system.
Krugman wrote:So here’s what I think economists have to do. First, they have to face up to the inconvenient reality that financial markets fall far short of perfection, that they are subject to extraordinary delusions and the madness of crowds.
I snipped a few passages to show the ideas I've been discussing in previous posts are at the heart of economics controversies and the 2008 crisis. When you understand the big picture; where the lines of division are among economists, it becomes easier to get at the heart of specific issues. For instance, take the last charge about "madness of crowds." The entire human race may be mad, but it's difficult to get outside one's self as a human and make determinations as to how sane persons should price financial instruments. Is an ounce of gold more valuable than a Tulip? At the end of the day, if people come to believe Tulips are more valuable than gold, then indeed, Tulips are more valuable than gold. If a science of crowd psychology can help us determine policies to control trading on Wall Street, to keep traders from going mad and selling off, don't you think Wall-Street traders would have similar interests in identifying their fevered peers? There's a lot of money to be made if one can predict a crazed sell-off. Buy low, sell high -- after the crowd has recovered. It should be no surprise that there exist shelves of books discussing trading strategies such as counter-market plays and strategies based on market psychology. If you know what prices should be better than the mad crowd does, simply open an account and take their money; in the process, you will be doing the world a favor by correcting the market, as a side effect.
At any rate, John Cochrane's (Chicago) response to Krugman is here (Krugman took a swipe at him in his article):
http://faculty.chicagobooth.edu/john.co ... sponse.htm
How does this have anything to do with the Austrian School? If you see where the lines of division are within the mainstream then it's easier to fit the Austrians into their place. Clearly, Keynes is the Austrian target as the Keynesian policies are what they believe cause booms and busts. But it's only a superficial similarity that "freshwater" economists and the Austrians both advocate a general "hands off" approach by government.*
Here is some perspective from an Austrian economist, commenting on the exchange between Krugman and Cochrane:
http://consultingbyrpm.com/blog/2009/09 ... o-was.html
http://blog.mises.org/10674/murphy-crit ... o-krugman/
Murphy wrote:As many readers here probably already know, Chicago economist John Cochrane wrote a blistering reply to Paul Krugman’s NYT Magazine piece on what’s wrong with the economics profession. When I read Cochrane’s piece, I was dismayed because many of his arguments to defend himself against Krugman’s attacks would just as well “prove” that the Austrian school is defunct
Murphy wrote:for the most part the people on “my side” have high-fived Cochrane for kicking sand in Krugman’s face.
This is a very short-sighted view. Just because someone gets in a fight with someone who we can’t stand–and I’ve criticized Krugman enough to have credibility on that score–doesn’t mean we should endorse any old arguments. There was quite a bit in Cochrane’s response that should alarm an Austrian economist, and in fact his views are arguably more dangerous to the Austrian alternative than Krugman.
Indeed, Murphy is right on both counts. The same arguments from New Classical libertarians rejecting Keynesian economics summarily dismiss the Austrians, as seen in my previous posts. And he is right observing that teeny-bopper Austrian's who "high five" Cochrane do not know their doctrine, as, relatively speaking, Keynsian economics is friendly territory.
Keynesians like Krugman believe economists should have seen the crisis coming, Austrians agree, and claim that they did see the crisis coming. From the Lew Rockwell Site, 25 Austrians predict the housing crisis:
http://www.lewrockwell.com/block/block168.html
Personally, I like to see spoils from arbitrage in an economic prediction. How many of these Austrians are filthy rich, having rode the bubble to the top and then going short as it burst? There should be no excuse for anyone who predicted the 2007 crisis. In discussions I've had with Austrians, however, there are conservative views that downplay any specificity of Austrian predictions or expectations that Austrians should be able to exploit their predictions. If major market players can use Austrian methods to exploit and correct the market, then the ABC theory is both true and false at the same time -- this is a problem. But allowing Austrians predictive power without specificity raises questions about what constitutes a prediction in the first place. The usual concerns apply here that apply to confirming prophecy in general -- something we know about on this board.
There is some neutral ground available, however, that I believe lends insight into the question about whether the financial crisis was foreseeable. In the discussion of efficient markets, the name of one man leaps to mind as the counterexample to this theory, Warren Buffet. Indeed, the Austrians cite Warren Buffet in their anti-EMH literature. It is noted that Warren Buffet himself rejects EMH. In fact, long ago, Eugene Fama made Warren Buffet an exception to his rule. What else could he say about the man who has amassed one of the largest fortunes on earth by "beating the market" over a long career? If there is one man with the track record to call the New Classical paradigm into question, it's Warren Buffet. And the question is, did he see the crisis coming? A lot of people were interested in this. Including congress.
Testifying before congress:
Warren Buffett wrote:So the media, investors, mortgage bankers, the American public, me, you know, my neighbor, rating agencies, Congress, you name it. People overwhelmingly came to believe that house prices could not fall significantly.
Warren Buffett wrote:But the nature of bubbles is that, you know, with the internet bubble I was aware of it too, but I didn’t go and shorten stocks. I never shorted internet stocks and I didn’t short housing stocks. Looking back, you know, a) we don’t short around here but, you know, if I’d seen what was coming, I might have behaved differently (laughs) including selling Moody’s. Something’s wrong.
Warren Buffett wrote:Well, it was an economic Pearl Harbor by definition I meant that I hadn’t seen it three months earlier because I didn’t see a Pearl Harbor three months earlier.
-- transcript from Santangel's Review
The one man who all agree seems to defy the Efficient Market Hypothesis didn't see the financial crisis coming. It's hard for me to believe that if Warren Buffet didn't see it coming, that Ron Paul et al did. We all had inclinations to see a bubble. I myself had a trailer home picked out for 2000$ in 2005 to live in after selling my house for more than two times what I paid. But I didn't push the button. What if prices plateaued or gradually declined, or went up and then plateaued? But had I pushed the button, would it have made me a prophet? The question of track record is then on the table. It's one thing to beat the market once, that can be explained by luck, where EMH is called into question are rare cases where a track record of "luck" is established. Now consider the Austrians, who, in addition to common-sense intuition we all have, hold a doctrine that money infused into the economy means boom, expect bust. We would expect Austrians to warn us of busts as a matter of course, as often as religious leaders warn us of sin. There is a perfect correlation between the existence of busts and the existence of fractional reserve/central bank policy just as there is a perfect correlation between the existence busts and the existence sin.
The Austrians have a hard sell on their hands. Until available loan money runs dry, it is unlikely Washington will ever test the "do nothing" approach to fixing an economic crisis without some kind of extraordinary evidence. At best, Austrians have decades of empirical research to do assuming they can break into academia significantly enough to get a foothold to do it. At worst, the old-school Austrian mantra of "praxeology," the rejection of formal economics and its empirical studies to take up thought experiments about "human action" will ensure their scorn amongst real economists forever more, as well as their failure to do anything useful, period. Their best bet may, in fact, be to win by popularity contest; making rap videos etc.
---
More on rationality as a assumption of markets
I've put a lot of emphasis on drawing lines of division between the New Classical school and the Keynesian/Austrian schools at belief in market rationality. This has been convenient because it works into a nice free-market argument that should make Austrian's reconsider their assumption that they believe in freedom more so than anybody else. But there is something more important going on here. Just as it would be impossible to do physical science without making assumptions about uniformity, it is difficult to conceive of social sciences, whether economics, sociology, or psychology, or even religious studies, without assuming that people are rational. If people aren't rational, how to describe them in a coherent way? A schizophrenic is rational among schizophrenics, and if repeated observations of schizophrenics demonstrate behavior not accountable by the current model, it probably reflects a failure of our model rather than a failure of the schizophrenic to be properly schizophrenic. Similarly, at what point does our study break from understanding the rationality of a market to prescribing the course of rationality we wish a market to take?
I've previously made the point that studying economics is properly descriptive as is studying evolution. At what point do we say, "Evolution is wrong!" At the point where we expect to see transitional fossils, maybe? Where evolution creates ecologies that seem immoral? Or do we acknowledge the challenges and find a way to update our ways of thinking about the problem? At what point are markets wrong? Do we think they are right much of the time, but in times of a crisis, they are wrong? Are they right as long as they fit our model, otherwise they are wrong? Where do we draw the line between the market being right and the market being wrong?
I've done my share of contrived thought experiments in these posts to show the intuition behind market efficiency. I'm going to close by considering two real-world economics ideas, how real-world data poses problems for these ideas, and how acknowledging the market as knowing best leads to updating our models.
I. Stagflation
It was believed in macroeconomics that inflation and unemployment were inversely related. If inflation is high, unemployment should be low. The intuition for economic stimulus is clear. Print money and inflation goes up while pushing unemployment down. But one day, there was high unemployment along with high inflation. It seemed that at a certain point, inflation could just keep going up while unemployment stayed high. Was the market irrational? Stuck worse than it normally was? Dropping assumptions about what the market should do and letting the market tell us what it was doing led to the insight that unemployment can only be reduced so much. An economy at full output has a "natural rate" of unemployment. We might think that the best economy is one where everyone has a job, but the economy tells us that it's better a certain number of people don't have jobs. And there are some good intuition as to why this is the case. But the matter can't be "proven" one way or the other. Either the market is systematically irrational or our model needs updating. Which way do we go?
II. January/October effects
Financial economics says that present and past stock prices should be uncorrelated. The basic statistical market model, CAPM, however, showed that stock prices go up in October and in January. Was the market rational only 10 months out of the year? There were some explanations here, but all require "bubble" effects, where the market is systematically miscalculating. In theory, policy could be on the table. A benevolent government might gently buy up stocks leading into October and January respectively, curing the anomaly. Or would that work -- perhaps it would turn out like stagflation where intervention doesn't fix the situation as the model predicts? Indeed, it turns out that more elaborate "stochastic discount" models erase the anomalies, the problem seems to be with CAPM. But this "proves" nothing, it could be that CAPM is right and that the market is irrational.
Where do we draw the line? If we accept updates to our model that don't give up "too much," such as allowing for a natural rate of unemployment or additional variables to define stock market equilibria, at what point do we encounter a problem where we draw a line in the sand and say, "up to this point the market was rational, even when we second guessed it, but no more." And what, then, do we expect the defining laws of irrationality to look like? And how will they help us make policy to fix the irrationality of the market? Lest we forget: Policies won't work unless the actions of people can be predicted -- unless the actions of people are in some way, rational.
There is no question that New Classical models have failed. Last year, a Nobel Prize went to statistical research in Rational Expectations that to my knowledge, didn't come up with a glowering victory for the theory. Well, Austrians (and others), you'll never know what it's like for a model to fail until you actually do empirical research. But anyway, the models may be problematic or even outright unsatisfactory when considering something like a financial crisis. But, I think the basic orientation of adjusting theories based on empirical evidence while not giving up the assumption of market rationality is the right approach, if not the only approach. And I think that even the recent financial crisis bears out the basic insight from market efficiency that even the very best financial minds didn't see it coming.
*Actually, it's not. Libertarians of all stripes begin with suspicions about government. But because the Austrian's insist on dated ideas, their economics ends up replicating bad assumptions of the time and place of their founders. If Von Mises and Hayek were born today...
THE END