Economics and the Human Instinct for Storytelling

The stock market gives us opportunities to construct narratives. For instance, earlier this year there were narratives around the Dow-Jones Industrial Average eclipsing 20,000 points for the first time in its history. In reality, that’s absolutely meaningless: the Dow started at 40 points in 1896, but it could have started at 50, or something else. Yet we constructed narratives around this moment: if you read a newspaper the next day, you might have seen a narrative about recently inaugurated President Donald J. Trump and his effect on the market, or a narrative about the triumph of the bulls over the bears. You might have read about whoops and cheers erupting on the floor of the New York Stock Exchange as the market closed.

Now, the people on the floor of the NYSE—who are themselves part of a different narrative, given the preeminence of electronic trading—aren’t stupid. They knew it was just a number that was made up, that the Dow hitting 20,000 wasn’t a result of some new level of fundamental market soundness. But the story wasn’t about the market being fundamentally sound; it was a story about a number, and about the people around that number.

That is narrative economics.

Not everyone is equally proficient at understanding narratives, and economists are among the worst at appreciating them. But what even a lot of historians don’t appreciate is that you can’t understand history unless you understand what the stories were of the people who experienced these historical events. In fact, Ramsay MacMullen, who is a member of the Yale history department, wrote a book called Feelings in History in which he argues that historians could be more attentive to what people really thought during the periods they study.

For example, consider the Civil War. It produced carnage of staggering proportions—more than 620,000 Americans were killed. And you can read about the political and economic factors at work leading up to it, but to really understand it—to understand why, for instance, the North was ready to lose hundreds of thousands of men to fight slavery—you have to understand their feelings, the power of their emotions. Some of the stories that they told at the time, about abuse of slaves and things like that, can’t help but make you emotional. That is how narratives are intertwined with history.

Why do narratives affect economics? Because when we want to understand a depression or recession, for instance, we have to understand why some people will stop spending. Recessions happen when people stop buying things: they don’t buy a new car; they don’t buy a new house. So why not? They might say they stopped spending because recession struck, but that doesn’t tell me why the recession started. I think the catalysts for events such as that are related to narratives.

One of the most important narratives in American culture is the stock market crash of 1929. Everybody knows that story—it’s still having an effect. And I’ve been asking, in a survey of individual investors, for people to estimate the probability of a stock market crash like those we saw in 1929 or 1987, the two biggest crashes in US history. I’ve been collecting these data for close to 30 years, and even though we’ve had just two of these crashes in more than a century, both individual and institutional investors consistently exaggerate the odds of seeing one within six months of their survey response. They tell me the probability is 15–20 percent. Strangely enough, investors’ estimates were low, at least relatively speaking, just before the 2008 financial crisis.

The 1929 Wall Street crash is a terrible story, but a memorable one. It is widely seen as marking the beginning of the Great Depression. Twenty-three percent of the population became unemployed by 1933. There were lots of people standing in bread lines. Then World War II came. People were so unhappy, and we’ve been worried about it happening again all this time, because the narrative isn’t forgotten. There are so many other episodes—great successes and less harrowing failures of the market—that we could be talking about, but apparently those stories just weren’t as viral and are largely unnoticed.

Let’s look at another crisis, one of the biggest in US history, the depression of 1920–21. It wasn’t what we would technically call a depression anymore, but it was a big economic drop: the Consumer Price Index fell 16 percent in one year, from June 1920 to June 1921. The Wholesale Price Index, likewise, fell 45 percent in one year. And economists, for the most part, don’t have much of an explanation for this event. So I decided to go back and read US newspapers from 1920, just to try to get as immersed as I could in what was happening and what was being written about it. I hoped to get some sense for how it felt to be alive in America in 1920.

I found some remarkable things. One of them is that Americans were really upset about profiteers. Profiteer comes from the word privateer, the etymology of which goes back hundreds of years and means “pirate.” In the early 20th century, profiteer was applied to people who made money off of World War I—the idea being that they were so evil they were basically pirates. Use of this word peaked two years after the war, in 1920.

The uptick in worries about profiteering happened because of something behavioral scientists call the “affect heuristic.” People were upset by certain things happening around them. There was the global influenza pandemic of 1918–19, which killed many times more people than World War I, by some accounts. In part the pandemic was traumatic because it hit a lot of young people, and in part it was because the virus worked quickly: victims would catch it, and then a few days later they were dead.

Another upsetting thing was the Russian Revolution of 1917. The revolution had many powerful narratives associated with it, but the one that you’re most likely to have heard involves Czar Nicholas II and his family. The Communists lined the family up, brought in a firing squad, and executed them all together. These were people that, if you’re living in the United States at that time, you knew, because they’re famous, they’re dignified, and they’re a beautiful family. They’re in the photo section of your newspaper regularly. The Communists just shot them all, and chances are it really got your attention.

All these events helped to set a mood among the public. If you’re an adult in the US at that time, maybe you are feeling kind of edgy. Maybe you are kind of angry. Maybe you also lost someone in your family in the war. And you’re experiencing inflation, and you’re seeing these companies making big money. It makes sense that this narrative about profiteers would be resonant among newspaper readers. So people started boycotting, particularly all these companies they thought were making obscene profits. That started a recession. Prices started falling. Then people started worrying about prices falling, so they held off buying even more. I think that may be an explanation for what set the depression of 1920–21 in motion.

That event has repercussions later. Because when the Great Depression sets in, what was the narrative? Then it was 1920–21 all over again. The depression of 1920–21 had ended quickly, and many thought that the depression after 1929 would be similar. That is why President Hoover said it would be over soon.

The really big thing that happened immediately prior to the Great Depression was, of course, the 1929 crash. So again, I turned to the newspapers of that time to try to understand. The first thing that struck me is that newspapers started talking about a stock market crash for the first time in 1926. Why would that be?

When I was an undergraduate at the University of Michigan, I was assigned a book by Frederick Lewis Allen, published in 1931, called Only Yesterday. It was an informal history of the 1920s written immediately after the decade ended. According to Allen, the 1920s were a period of prosperity but also changing values and gender norms: women wearing short skirts, going off without any male companion, drinking at bars—trends that created a lot of discomfort among some people. There was also a lot of financial fraud. There was this sense that there was something immoral about the 1920s.

Ministers reacted strongly in their sermons the Sunday after the crash. To put it simply: they relished this crash. It was the day of judgment arriving. Allen, in his book, described a change in spirit and mentality during the Great Depression. Women in the 1930s felt repelled by the 1920s. They didn’t want to be part of it anymore. Skirt lengths went down. People started going to church more regularly. They didn’t want to spend money because it became unfashionable in the 1930s to show off your wealth. So demand fell. Again, it may be that a narrative—that the sins of the 1920s precipitated financial disaster—contributed to a dramatic economic event.

Why do economists miss the stories behind many of our economic fluctuations? One reason is that economists have a tool kit, and narrative hasn’t traditionally been in it. We view narrative as somebody else’s territory. We do simultaneous equations. We teach general equilibrium theory. That’s fine, but by the time we finish teaching those, we’re tired.

But there is room for economists to do research on narrative economics. We have databases. We can do quantitative analysis. It’s not easy to study the very human phenomena of narratives, but we can collaborate with people in the humanities—people such as literary theorists, who try to understand why some story structures work and others don’t. If we do, and if we make room in our tool kit for narrative, I’m optimistic that in the next 10 or 20 years, we will have a better understanding of economic fluctuations.

Robert Shiller is Sterling Professor of Economics at Yale University and was a recipient of the 2013 Nobel Memorial Prize in Economic Sciences. This essay, amplifying some themes in his January 2017 Presidential Address before the American Economic Association, is adapted from the Neubauer Collegium Director’s Lecture, delivered January 26.