You know, every time I have to teach about the Efficient Market Hypothesis, I cannot help but wonder why we still have the Securities and Exchange Commission. After all, the strong form of the EMH pretty convincingly demonstrates that there is no long term advantage or possibility to "beat the market" even with insider trading.
So, if insider trading does not give one a long-term ability to beat the market, why bother with rules against it? If no one can beat the market on a consistent basis, which is what the EMH states, then why regulate the market? If insider trading does not give an advantage, then why have Reg FD?
If it works in theory, then should it not be that case that it works in life?
Or could it be that economists and the theories they create rely a little too much on abstractions and not enough upon how the world really works?
Consider that Greenspan fought against increasing regulation in the financial markets for years because the economic theories to which he held said that no one would act as they did (and continue to do). Remember too that Greenspan later admitted he was wrong (see the New York Times, 10/23/2008; http://www.nytimes.com/2008/10/24/business/economy/24panel.html).
The problem is that economics is not the science or study of choice under conditions of scarcity, as one textbook proclaims. Economics is not "the science which studies human behaviour as a relationship between ends and scarce means which have alternative uses," as Lionel Robbins so famously declared in 1932. To meet either of these two, to even come close, economics would have to be much more an inductive science, proceeding from observation and study to theory, rather than the deductive science it currently is.
Economics is not the study of human behavior as a relationship between ends and scarce means which have alternative uses. Economics is the building of models not from observation of reality but of building models that arise from clearly stated fundamental assumptions. Instead of extensive, in-depth surveys of manufacturing companies as done by Gardiner Means (and as continues to be done by many Post Keynesian economists and economists in the Kansas City tradition), economists simply state fundamental premises which allow them to build, by way of axiomatic set theory, rigorous models. Or as some would say, puzzles. If the models are build particularly well, then empirical tests may be run to validate the model. The only problem with this is that if the model is not verified by empirical testing, it is not because the model was wrong, it is because the empirical test was mis-specified. Reality lies, not models.
Rather than being capable of bringing the fruit of careful observation to the table of policy, economics strives to illuminate the understanding as did Newton's revelation of gravity and planetary motion. The problem for economics is that human beings, even when dealing with large numbers and groups of human being, just refuse to act like planets. Human beings sometimes act arbitrarily, even when it is to their disadvantage.
Economics, by being built upon models which are assumed to be predictive, becomes social physics, a means to control more than aid. Economics, by being built upon models that are mathematically rigorous, imparts to itself a respectability reserved for "real" scientists. Economics, by being built upon models are that are supported by numbers which are twisted until they say what economists want to hear, becomes an unassailable scientific fortress against which no politician or layman can prevail. Economics, by being built upon models, transforms PhD economists into a noble priesthood which cannot be questioned.
Economics, by being built upon models, needs a new definition:
Economics is the deliberate obfuscation of common sense by egoists seeking to justify their being paid to solve puzzles of their own design.
