Tired of the idea of an infallible mainstream neoclassical economics and its perpetuation of spoon-fed orthodoxy, yours truly launched this blog in March 2011. The number of visitors has increased steadily, and now, three and a half years later, with almost 125 000 views per month, I have to admit of still being — given the somewhat wonkish character of the blog, with posts mostly on economic theory, statistics, econometrics, theory of science and methodology — rather gobsmacked that so many are interested and take their time to read the often rather geeky stuff on this blog.
In the 21st century the blogosphere has without any doubts become one of the greatest channels for dispersing new knowledge and information. As a blogger I can specia-lize in those particular topics an economist and critical realist professor of social science happens to have both deep knowledge of and interest in. That, of course, also means — in the modern long tail world — being able to target a segment of readers with much narrower and specialized interests than newspapers and magazines as a rule could aim for — and still attract quite a lot of readers.
Economic growth has since long interested economists. Not least, the question of which factors are behind high growth rates has been in focus. The factors usually pointed at are mainly economic, social and political variables. In an interesting study from the University of Helsinki, Tatu Westling has expanded the potential causal variables to also include biological and sexual variables. In the report Male Organ and Economic Growth: Does Size Matter (2011), he has — based on the “cross-country” data of Mankiw et al (1992), Summers and Heston (1988), Polity IV Project data of political regime types and a new data set on average penis size in 76 non-oil producing countries (www.everyoneweb.com/worldpenissize) — been able to show that the level and growth of GDP per capita between 1960 and 1985 varies with penis size. Replicating Westling’s study — I have used my favourite program Gretl — we obtain the following two charts:
The Solow-based model estimates show that the maximum GDP is achieved with the penis of about 13.5 cm and that the male reproductive organ (OLS without control variables) are negatively correlated with — and able to explain 20% of the variation in — GDP growth.
Even with reservation for problems such as endogeneity and confounders one can not but agree with Westling’s final assessment that “the ‘male organ hypothesis’ is worth pursuing in future research” and that it “clearly seems that the ‘private sector’ deserves more credit for economic development than is typically acknowledged.” Or? …
I’m fond of science philosophers like Nancy Cartwright. With razor-sharp intellects they immediately go for the essentials. They have no time for bullshit. And neither should we.
In Evidence: For Policy — downloadable here — Cartwirght has assembled her papers on how better to use evidence from the sciences “to evaluate whether policies that have been tried have succeeded and to predict whether those we are thinking of trying will produce the outcomes we aim for.” Many of the collected papers center around what can and cannot be inferred from results in well-done randomised controlled trials (RCTs).
A must-read for everyone with an interest in the methodology of science.
Simon Wren-Lewis has a post up today discussing why the New Classical Counterrevolution (NCCR) was successful in replacing older theories, despite the fact that the New Classical models weren’t able to explain what happened to output and inflation in the 1970s and 1980s:
The new theoretical ideas New Classical economists brought to the table were impressive, particularly to those just schooled in graduate micro. Rational expectations is the clearest example …
However, once the basics of New Keynesian theory had been established, it was quite possible to incorporate concepts like rational expectations or Ricardian Eqivalence into a traditional structural econometric model (SEM) …
The real problem with any attempt at synthesis is that a SEM is always going to be vulnerable to the key criticism in Lucas and Sargent, 1979: without a completely consistent microfounded theoretical base, there was the near certainty of inconsistency brought about by inappropriate identification restrictions …
So why does this matter? … If mainstream academic macroeconomists were seduced by anything, it was a methodology – a way of doing the subject which appeared closer to what at least some of their microeconomic colleagues were doing at the time, and which was very different to the methodology of macroeconomics before the NCCR. The old methodology was eclectic and messy, juggling the competing claims of data and theory. The new methodology was rigorous!
Wren-Lewis seems to be überimpressed by the “rigour” brought to macroeconomics by the New Classical counterrevolution and its rational expectations, microfoundations and ‘Lucas Critique’.
I fail to see why.
Contrary to what Wren-Lewis seems to argue, I would say the recent economic crisis and the fact that New Classical economics has had next to nothing to contribute in understanding it, shows that New Classical economics is a degenerative research program in dire need of replacement.
The predominant strategy in mainstream macroeconomics today is to build models and make things happen in these “analogue-economy models.” But although macro-econometrics may have supplied economists with rigorous replicas of real economies, if the goal of theory is to be able to make accurate forecasts or explain what happens in real economies, this ability to — ad nauseam — construct toy models, does not give much leverage.
“Rigorous” and “precise” New Classical models cannot be considered anything else than unsubstantiated conjectures as long as they aren’t supported by evidence from outside the theory or model. To my knowledge no in any way decisive empirical evidence has been presented.
And — applying a “Lucas critique” on New Classical models, it is obvious that they too fail. Changing “policy rules” cannot just be presumed not to influence investment and consumption behavior and a fortiori technology, thereby contradicting the invariance assumption. Technology and tastes cannot live up to the status of an economy’s deep and structurally stable Holy Grail. They too are part and parcel of an ever-changing and open economy. Lucas hope of being able to model the economy as “a FORTRAN program” and “gain some confidence that the component parts of the program are in some sense reliable prior to running it” therefore seems – from an ontological point of view – totally misdirected. The failure in the attempt to anchor the analysis in the alleged stable deep parameters “tastes” and “technology” shows that if you neglect ontological considerations pertaining to the target system, ultimately reality gets its revenge when at last questions of bridging and exportation of model exercises are laid on the table.
No matter how precise and rigorous the analysis is, and no matter how hard one tries to cast the argument in modern mathematical form, they do not push economic science forwards one millimeter if they do not stand the acid test of relevance to the target. No matter how clear, precise, rigorous or certain the inferences delivered inside these models are, they do not per se say anything about real world economies.
Lucas and Rapping (1969) claim that cyclical increases in unemployment occur when workers quit their jobs because wages or salaries fall below expectations …
According to this explanation, when wages are unusually low, people become unemployed in order to enjoy free time, substituting leisure for income at a time when they lose the least income …
According to the theory, quits into unemployment increase during recessions, whereas historically quits decrease sharply and roughly half of unremployed workers become jobless because they are laid off … During the recession I studied, people were even afraid to change jobs because new ones might prove unstable and lead to unemployment …
If wages and salaries hardly ever fall, the intertemporal substitution theory is widely applicable only if the unemployed prefer jobless leisure to continued employment at their old pay. However, the attitude and circumstances of the unemployed are not consistent with their having made this choice …
In real business cycle theory, unemployment is interpreted as leisure optimally selected by workers, as in the Lucas-Rapping model. It has proved difficult to construct business cycle models consistent with this assumption and with real wage fluctuations as small as they are in reality, relative to fluctuations in employment.
This is, of course, only what you would expect of New Classical Chicago economists.
But sadly enough this extraterrestial view of unemployment is actually shared by so called New Keynesians, whose microfounded dynamic stochastic general equilibrium models cannot even incorporate such a basic fact of reality as involuntary unemployment!
Of course, working with microfunded representative agent models, this should come as no surprise. If one representative agent is employed, all representative agents are. The kind of unemployment that occurs is voluntary, since it is only adjustments of the hours of work that these optimizing agents make to maximize their utility.
In the basic DSGE models used by most ‘New Keynesians’, the labour market is always cleared – responding to a changing interest rate, expected life time incomes, or real wages, the representative agent maximizes the utility function by varying her labour supply, money holding and consumption over time. Most importantly – if the real wage somehow deviates from its “equilibrium value,” the representative agent adjust her labour supply, so that when the real wage is higher than its “equilibrium value,” labour supply is increased, and when the real wage is below its “equilibrium value,” labour supply is decreased.
In this model world, unemployment is always an optimal choice to changes in the labour market conditions. Hence, unemployment is totally voluntary. To be unemployed is something one optimally chooses to be.
The final court of appeal for macroeconomic models is the real world.
If substantive questions about the real world are being posed, it is the formalistic-mathematical representations utilized to analyze them that have to match reality, not the other way around.
To Keynes this was self-evident. But obviously not so to New Classical and ‘New Keynesian’ economists.
Häromdagen lyssnade jag till en manlig journalist som satt i en panel och var mycket upprörd över att invandrare utpekades som kvinnoförtryckare bara för att en del av dem misshandlade sina kvinnor och tvingade dem att bära slöja och hålla sig inomhus. Att skriva om sånt i tidningar var rasistiskt och vi skulle inte inbilla oss att vi var så bra på jämställdhet i Sverige heller! Det finns fortfarande löneskillnader här, så det så! Och förresten är det en kulturfråga!
I panelen satt ett antal invandrarkvinnor som blev så arga att de nästan fick blodstörtning. Det är skillnad på svenska löneorättvisor och faraonisk omskärelse, hot och “hedersmord”. “Ska vi hålla tyst om vad som händer bara för att inte fläcka våra Mäns rykte?” sa de. “Och om invandrare skulle börja slakta svenska män för ärans skull, vore det då fortfarande en “kulturfråga”?
Katarina Mazetti, Mazettis blandning (2001)
Jag har full förståelse för dessa kvinnors upprördhet.
Vad frågan i grund och botten handlar om är huruvida vi som medborgare i ett modernt demokratiskt samhälle ska tolerera de intoleranta.
Människor i vårt land som kommer från länder eller tillhör grupperingar av olika slag – vars fränder och trosbröder kanske sitter vid makten och styr med brutal intolerans – måste självklart omfattas av vår tolerans. Men lika självklart är att denna tolerans bara gäller så länge intoleransen inte tillämpas i vårt samhälle.
Kultur, identitet, etnicitet, genus, religiositet får aldrig accepteras som grund för intolerans i politiska och medborgerliga hänseenden. I ett modernt demokratiskt samhälle måste människor som tillhör dessa olika grupper kunna räkna med att samhället också skyddar dem mot intoleransens övergrepp. Alla medborgare måste ha friheten och rätten att också ifrågasätta och lämna den egna gruppen. Mot dem som inte accepterar den toleransen måste vi vara intoleranta.
I Sverige har vi länge okritiskt omhuldat en ospecificerad och odefinierad mångkulturalism. Om vi med mångkulturalism menar att det i vårt samhälle finns flera olika kulturer ställer detta inte till med problem. Då är vi alla mångkulturalister.
Men om vi med mångkulturalism menar att det med kulturell tillhörighet och identitet också kommer specifika moraliska, etiska och politiska rättigheter och skyldigheter, talar vi om något helt annat. Då talar vi om normativ mångkulturalism. Och att acceptera normativ mångkulturalism, innebär också att tolerera oacceptabel intolerans, eftersom den normativa mångkulturalismen innebär att specifika kulturella gruppers rättigheter kan komma att ges högre dignitet än samhällsmedborgarens allmänmänskliga rättigheter – och därigenom indirekt bli till försvar för dessa gruppers (eventuella) intolerans. I ett normativt mångkulturalistiskt samhälle kan institutioner och regelverk användas för att inskränka människors frihet utifrån oacceptabla och intoleranta kulturella värderingar.
Den normativa mångkulturalismen innebär precis som främlingsfientlighet och rasism att individer på ett oacceptabelt sätt reduceras till att vara passiva medlemmar av kultur- eller identitetsbärande grupper. Men tolerans innebär inte att vi måste ha en värderelativistisk inställning till identitet och kultur. De som i vårt samhälle i handling visar att de inte respekterar andra människors rättigheter, kan inte räkna med att vi ska vara toleranta mot dem. De som med våld vill tvinga andra människor att underordna sig en speciell grupps religion, ideologi eller ”kultur” är själva ansvariga för den intolerans de måste bemötas med.
Om vi ska värna om det moderna demokratiska samhällets landvinningar måste samhället vara intolerant mot den intoleranta normativa mångkulturalismen. Och då kan inte samhället själv omhulda en normativ mångkulturalism. I ett modernt demokratiskt samhälle måste rule of law gälla – och gälla alla!
Mot dem som i vårt samhälle vill tvinga andra att leva efter deras egna religiösa, kulturella eller ideologiska trosföreställningar och tabun, ska samhället vara intolerant. Mot dem som vill tvinga samhället att anpassa lagar och regler till den egna religionens, kulturens eller gruppens tolkningar, ska samhället vara intolerant. Mot dem som i handling är intoleranta ska vi inte vara toleranta.
[h/t Jan Milch]
This is a fair presentation and critique of Austrian methodology. But beware! In theoretical and methodological questions it’s not always either-or. We have to be open-minded and pluralistic enough not to throw out the baby with the bath water — and fail to secure insights like this:
What is the problem we wish to solve when we try to construct a rational economic order? … If we possess all the relevant information, if we can start out from a given system of preferences, and if we command complete knowledge of available means, the problem which remains is purely one of logic …
This, however, is emphatically not the economic problem which society faces … The peculiar character of the problem of a rational economic order is determined precisely by the fact that the knowledge of the circumstances of which we must make use never exists in concentrated or integrated form but solely as the dispersed bits of incomplete and frequently contradictory knowledge which all the separate individuals possess. The economic problem of society is … a problem of the utilization of knowledge which is not given to anyone in its totality.
This character of the fundamental problem has, I am afraid, been obscured rather than illuminated by many of the recent refinements of economic theory … Many of the current disputes with regard to both economic theory and economic policy have their common origin in a misconception about the nature of the economic problem of society. This misconception in turn is due to an erroneous transfer to social phenomena of the habits of thought we have developed in dealing with the phenomena of nature …
To assume all the knowledge to be given to a single mind in the same manner in which we assume it to be given to us as the explaining economists is to assume the problem away and to disregard everything that is important and significant in the real world.
Compare this relevant and realist wisdom with the rational expectations hypothesis (REH) used by almost all mainstream macroeconomists today. REH presupposes – basically for reasons of consistency – that agents have complete knowledge of all of the relevant probability distribution functions. And when trying to incorporate learning in these models – trying to take the heat of some of the criticism launched against it up to date – it is always a very restricted kind of learning that is considered. A learning where truly unanticipated, surprising, new things never take place, but only rather mechanical updatings – increasing the precision of already existing information sets – of existing probability functions.
Nothing really new happens in these ergodic models, where the statistical representation of learning and information is nothing more than a caricature of what takes place in the real world target system. This follows from taking for granted that people’s decisions can be portrayed as based on an existing probability distribution, which by definition implies the knowledge of every possible event (otherwise it is in a strict mathematical-statistically sense not really a probability distribution) that can be thought of taking place.
The rational expectations hypothesis presumes consistent behaviour, where expectations do not display any persistent errors. In the world of rational expectations we are always, on average, hitting the bull’s eye. In the more realistic, open systems view, there is always the possibility (danger) of making mistakes that may turn out to be systematic. It is because of this, presumably, that we put so much emphasis on learning in our modern knowledge societies.
As Hayek wrote:
When it comes to the point where [equilibrium analysis] misleads some of our leading thinkers into believing that the situation which it describes has direct relevance to the solution of practical problems, it is high time that we remember that it does not deal with the social process at all and that it is no more than a useful preliminary to the study of the main problem.
Paul Krugman’s economic analysis is always stimulating and insightful, but there is one issue on which I think he persistently falls short. That issue is his account of New Keynesianism’s theoretical originality and intellectual impact … The model of nominal wage rigidity and the Phillips curve that I described comes from my 1990 dissertation, was published in March 1994, and has been followed by substantial further published research. That research also introduces ideas which are not part of the New Keynesian model and are needed to explain the Phillips curve in a higher inflation environment.
Similar precedence issues hold for scholarship on debt-driven business cycles, financial instability, the problem of debt-deflation in recessions and depressions, and the endogenous credit-driven nature of the money supply. These are all topics my colleagues and I, working in the Post- and old Keynesian traditions, have been writing about for years – No, decades!
Since 2008, some New Keynesians have discovered these same topics and have developed very similar analyses. That represents progress which is good news for economics. However, almost nowhere will you find citation of this prior work, except for token citation of a few absolutely seminal contributors (like Tobin and Minsky) …
By citing the seminal critical thinkers, mainstream economists lay claim to the intellectual lineage. And by overlooking more recent work, they capture the ideas of their critics.
This practice has enormous consequences. At the personal level, there is the matter of vain glory. At the sociological level, it suffocates debate and pluralism in economics. It is as if the critics have produced nothing so there is no need for debate, and nor are the critics deserving of a place in the academy …
For almost thirty years, New Keynesians have dismissed other Keynesians and not bothered to stay acquainted with their research. But now that the economic crisis has forced awareness, the right thing is to acknowledge and incorporate that research. The failure to do so is another element in the discontent of critics, which Krugman dismisses as just “Frustrations of the Heterodox.”
Added July 29: Krugman answers here.
Stage 0. Late 1960’s. The Phelps volume, and Milton Friedman’s paper (pdf), both thinking about the microfoundations of the Phillips Curve, the difference between actual and expected inflation, and the role of monetary policy. This was the ancestral homeland of both New Keynesian and New Classical macroeconomics, which could not be distinguished at this stage …
Stage 1. Mid 1970’s. Now we see the difference. A distinct New Keynesian approach emerges. New Keynesians assume that prices (and/or wages) are set in advance, at expected market-clearing levels, before the shocks are known. This means that monetary policy can respond to those shocks, and help prevent undesirable fluctuations in output and employment. Even under rational expectations …
Stage 2. Late 1980’s. New Keynesians introduce monopolistic competition. This has two big advantages. First, you can now easily model price-setting firms as choosing a price to maximize profit… Second, because if a positive demand shock hits a perfectly competitive market, where prices are fixed at what was the expected market-clearing level, firms would ration sales, and you get a drop in output and employment, rather than a boom. And the world doesn’t seem to look like that.
Stage 3. Early 2000’s. New Keynesians introduce monetary policy without money. They become Neo-Wicksellians … There were two advantages to doing this. First, it let them model households’ and firms’ choices without needing to model the demand for money and the supply of money. Second, it made it easier to talk to central bankers who already thought of central banks as setting interest rates.
Which brings us to the End of History.
What about microfoundations? Well, it was an underlying theme, but there is nothing distinctively New Keynesian about that theme …
Likewise with rational expectations. New Keynesians just went with the flow.
Although I find Rowe’s macro history interesting — and to a large extent in line with the one I give in my own history of economics books — I also think the fact that on microfoundations “there is nothing distinctively New Keynesian” and that “New Keynesians just went with the flow” on that theme, deserves a comment.
Where “New Keynesian” economists think that they can rigorously deduce the aggregate effects of (representative) actors with their reductionist microfoundational methodology, they have to put a blind eye on the emergent properties that characterize all open social systems – including the economic system. The interaction between animal spirits, trust, confidence, institutions etc., cannot be deduced or reduced to a question answerable on the idividual level. Macroeconomic structures and phenomena have to be analyzed also on their own terms. And although one may easily agree with e.g. Paul Krugman’s emphasis on simple models, the simplifications used may have to be simplifications adequate for macroeconomics and not those adequate for microeconomics.
In microeconomics we know that aggregation really presupposes homothetic an identical preferences, something that almost never exist in real economies. The results given by these assumptions are therefore not robust and do not capture the underlying mechanisms at work in any real economy. And models that are critically based on particular and odd assumptions – and are neither robust nor congruent to real world economies – are of questionable value.
Even if economies naturally presuppose individuals, it does not follow that we can infer or explain macroeconomic phenomena solely from knowledge of these individuals. Macroeconomics is to a large extent emergent and cannot be reduced to a simple summation of micro-phenomena. Moreover, even these microfoundations aren’t immutable. The “deep parameters” of “New Keynesian” DSGE models– “tastes” and “technology” – are not really the bedrock of constancy that they believe (pretend) them to be.
So — I cannot concur with Paul Krugman, Mike Woodford, Greg Mankiw and other sorta-kinda “New Keynesians” when they more or less try to reduce Keynesian economics to “intertemporal maximization modified with sticky prices and a few other deviations”. And I’m certainly not the only ones thinking in these terms:
In a world that is importantly indeterminate — a world in which even some central things, such as the ‘rate and direction’ of innovation, and thus of productivity advances, are not predetermined — some models are better than others in outlining the structure of relationships. But even our models cannot offer forecasts of the future levels of the real price … and the real wage … in relation to present levels … As Keynes, when writing on this point, put it, ‘we simply do not know’ …
Does this finding mean that the ‘natural’ level of (un)employment no longer exists? That depends on what we mean by ‘natural.’ If we mean some immutable central tendency, then it never existed … It is ironic that the originators of models of the natural rate, whose formulations did not explicitly exclude that background expectations of future capital goods prices and future wages might be quite wrong, stand accused of not appreciating that any sort of economic equilibrium is to some extent a social phenomenon—a creature of beliefs, optimism, the policy climate, and so forth—while today’s crude Keynesians, despite their mechanical deterministic approach, wrap themselves in the mantle of Keynes, who, with his profound sense of indeterminacy and, consequently, radical uncertainty, was worlds away from their thinking.