According to William Coleman ("The panic attack on economic rationalism", on this site last Monday), critics of "economic rationalism" are irrational outsiders, and economics itself is "scientific". If only!

As Coleman points out, some critics did shoot wide of the mark. But, in far more profound ways, modern economics is a target well and truly worth hitting.

If economics is a science, then it more closely resembles physics at the end of the 19th century than physics today. Physics then was cleft between a complacent confidence that it knew almost everything worth knowing, and a mass of astonishing discoveries that called for a revolution in thought.

Fortunately, physics underwent that painful revolution, and our world is a richer - if more dangerous - place for it. Economics, on the other hand, has time and time again had the need for a revolution thrust before it, and every time it has stepped back from the brink into the complacent beliefs of yesteryear.

The most prominent such challenge was thrown up by the Great Depression, and that led for a time to a different way of thinking about economics. (Remember Keynes?) Now, 70 years later, modern economics is far more technically sophisticated, but in essence it is the direct descendant of the economics that Keynes had hoped to overthrow.

So have the technical advances since Keynes overcome the problems he perceived - and which led the vast majority of economists to be "blindsided" by the Great Depression? No, far from it. Most of those technical advances have instead established that economics is in need of a revolution just as profound as that which transformed physics a century ago.

Economists believe their model of how the economy works is based on a profound understanding of how individual consumers and producers behave. They teach students a whole host of complicated tools and terms - "indifference curves", "revealed preference", "compensated demand curves", "production functions", "isoquants" - which all look very scientific. But all these concepts have been shown to be fatally flawed, either logically so, or by being completely at variance to what actually happens in the real world.

For example, the economic theory of how consumers behave was shown (in 1956!) to depend on two crucial assumptions: that all consumers have the same tastes, and that income has no effect on spending patterns. Gorman, the economist who worked this out, commented that these conditions (summarised in one result) were "intuitively reasonable. It says, in effect, that an extra unit of purchasing power should be spent in the same way no matter to whom it is given".

Hello? Give a dollar either to Bill Gates or to a derelict on Swanston Street and it will be spent the same way? Hello - is anybody home?

One might have hoped that such a piece of arrant nonsense would have been rejected out of hand and an alternative way found to analyse how consumers behave. But, no, these assumptions have become part of the standard fare of economic theory, with nary a thought by most economists that they are patently absurd.

Numerous other logical inanities permeate conventional economic thought. The basic theory of finance works, so long as everyone who trades in the market is Nostradamus. The theory of how firms decide how much to produce was described by industrialists as "the product of the itching imaginations of uninformed and inexperienced armchair theorisers".

Given theoretical foundations such as these, the odds that "economic science" will give good policy are pretty slim. But that's what proponents of economic "rationalism" expect us to believe.

On that note, let's take another look at three of Coleman's miss-list from opponents of economic rationalism: New Zealand's, Japan's and the USA's.

New Zealand was for quite a while the pin-up boy of globalisation, but since Coleman's cut-off date of 1997, New Zealand no longer shines: in the past two years it has run 0.1 per cent below the OECD average, and in the past quarter for which OECD-wide data is available, it was one of the only two OECD economies that shrunk.

There is substantial evidence that Japan's slump was caused not by its slavish devotion to "elite bureaucracy" but to the enormous debts incurred during its "bubble economy" of the 1980s.

America's long boom has been built on the "wealth effect" of an incandescent stockmarket, but beneath that foundation is its highest ever level of private and corporate debt. What odds am I offered that America won't suffer similar traumas to Japan, now that the wealth effect has gone into reverse?

Coleman's aggressive riposte to critics of economic rationalism gives a false perception that all is well in economic theory. It isn't. But rather than being frightened of the bogey of economic rationalism, Australians are far more entitled to laugh at it, and demand something better of their economists.

Dr Steve Keen is the author of Debunking Economics: The Naked Emperor of the Social Sciences, to be published by Pluto Press in April.

E-mail: s.keen@uws.edu.au