Noah Smith and other teflon-coated defenders of mainstream macro modeling

8 Mar, 2014 at 09:26 | Posted in Economics | 6 Comments

Those of us in the economics community who are impolite enough to dare question the preferred methods and models applied in mainstream macroeconomics, are as a rule met with disapproval. But although people seem to get very agitated and upset by the critique — just read the commentaries on this blog if you don’t believe me — defenders of “received theory” always say that the critique is “nothing new”, that they have always been “well aware” of the problems, and so on, and so on.

So, for the benefit of all mindless practitioners of mainstream macroeconomic modeling — like Noah Smith, who defends mainstream macroeconomics with arguments like “the speed with which macro has put finance at the center of its theories of the business cycle has been nothing less than stunning,” and re the patently ridiculous representative-agent modeling, maintains that there “have been efforts to put heterogeneity into big DSGE-type models” but that these models “didn’t get quite as far, because this kind of thing is very technically difficult to model,” and as for rational expectations admits that “so far, macroeconomists are still very timid about abandoning this pillar of the Lucas/Prescott Revolution,” but that “there’s no clear alternative” — and who don’t want to be disturbed in their doings, eminent mathematical statistician David Freedman has put together a very practical list of vacuous responses to criticism that can be freely used to save your peace of mind:

We know all that. Nothing is perfect … The assumptions are reasonable. The assumptions don’t matter. The assumptios are conservative. You can’t prove the assumptions are wrong. The biases will cancel. We can model the biases. We’re only doing what evereybody else does. Now we use more sophisticated techniques. If we don’t do it, someone else will. What would you do? The decision-maker has to be better off with us than without us … The models aren’t totally useless. You have to do the best you can with the data. You have to make assumptions in order to make progress. You have to give the models the benefit of the doubt. Where’s the harm?

Added 21:30 GMT: And if you think yours truly is the only one critical of Noah’s post, you’ve better read what one of his former guest bloggers — Peter Dorman — writes in the comments field:

“….macroeconomists are definitely thinking about heterogeneity.” Come on, you must surely see that one can have both heterogeneity and representative agents. If there are 300 million agents in an economy and you model them as two or three decision-makers, on balance you are doing a lot more homogenizing than heterogenizing. This matters because just about everything we know about complex systems tells us that the density of interaction effects is central. An economy of you, me and a few other people simply isn’t going to have the same dynamics as an economy of millions of interacting agents. This is true even if agent-based modeling turns out to be unproductive. It’s enough to know that the model people are using is systematically giving bad advice. Microfounding macro is a choice, and if the there aren’t any good microfoundations at hand, you don’t have to do it.

“….there’s no clear alternative [to rational expectations].” The previous paragraph applies here as well. If the only microfoundations you can find are empirically disconfirmed, regularly and broadly, then you may just have to postpone this microfounding business until you can come up with better models. Beyond that, I think the core problem is that the models are structured to permit the solution of equilibrium conditions, and that this imposes a restrictive framework for thinking about rationality, optimization. If the point were to model adjustment, we could use a much looser but more empirically defensible conception of rationality. Of course, that would also mean severing economic analysis from welfarism: we’d have to give up trying to answer questions like“what’s the welfare cost of this situation compared to the optimum?” In the end, the attachment of economists, micro and macro alike, to equilibrium models with rational agents is that they want to be able make definitive judgments about what society should do. I prefer Keynes’ dentists: they don’t tell you whether you have an optimal dental structure, but they can help you get the structure you tell them you want.

“….[macro] looks like a vigorous, energetic field full of excited young true believers and respected older figures who are still blazing new trails.” The more accurate criticism of macro is not that it is simply an ideological smokescreen or an unthinking herd, but that it operates on a tilted playing field. It is openly acknowledged that the “leading” (i.e. career-determining) journals have engaged in tendentious selection practices for the past generation. Lots of shoddy research (which in my book includes calibration exercises promoted as “testing” theories) has gotten the star treatment, alongside a stream of genuinely significant macro work. Ideologically loaded assumptions, such as those typically used in public choice, are dropped in without any justification. Not all macro is bad! But the problem is that (a) the bad stuff of a certain ideological orientation gets an extra push that the good stuff doesn’t get, and (b) there isn’t a clear process by which the bad stuff is weeded out over time as its badness becomes evident. We refight the same damned macro battles year after year.

Great comments!