Brad DeLong on ‘silly’ Robert Lucas

11 Mar, 2015 at 10:14 | Posted in Economics | 2 Comments

S1365100513000345a_abstractRobert Lucas: Economics tries to… make predictions about the way… say, 280 million people are going to respond if you change something in the tax structure, something in the inflation rate, or whatever…. Kahnemann and Tversky haven’t even gotten to two people; they can’t even tell us anything interesting about how a couple that’s been married for ten years splits or makes decisions about what city to live in–let alone 250 million. This is like saying that we ought to build it up from knowledge of molecules or–no, that won’t do either, because there are a lot of subatomic particles…. We’re not going to build up useful economics in the sense of things that help us think about the policy issues that we should be thinking about starting from individuals and, somehow, building it up from there. Behavioral economics should be on the reading list…. But to think of it as an alternative to what macroeconomics or public finance people are doing or trying to do… not in my lifetime…

I do not think Lucas understands how silly he sounds.

I do not think Lucas understands that when he builds his models he is aggregating up the behavior of 310 million American individuals, having made certain assumptions about what things cancel out when that aggregation is made.

Lucas does say that economists definitely should not:
•Model humans as they actually behave.
•Model their economic interactions as they actually happen.
•Aggregate up.
•And look for emergent patterns to fit to the data.

Instead Lucas says economists should:
•Do what macroeconomists currently do.
•This is, assume one infinitely-lived hyper-rational representative price-taking agent.
•Assume that all equilibrium-selection and coordination problems are automagically solved.

The second, Lucas says, is “science”! The first, Lucas says, is not–even though the first is a strict superset of the second.

And if econometric tools reject Lucas’s approach? Then, Lucas says, so much the worse for econometric tools. And if the data reject that approach? Then, Prescott says, so much the worse for the data: “economic theory ahead of economic measurement”–our theories would not be falsified if we had the real data to work on …

Brad DeLong

Yours truly totally agrees — there exist overwhelmingly strong reasons for being critical and doubtful re microfoundations of macroeconomics.

Microfoundations today means more than anything else that you try to build macroeconomic models assuming “rational expectations” and hyperrational “representative actors” optimizing over time. Both are highly questionable assumptions.

Macroeconomic models building on rational expectations microfoundations impute beliefs to the agents that is not based on any real informational considerations, but simply stipulated to make the models mathematically-statistically tractable. Of course you can make assumptions based on tractability, but then you do also have to take into account the necessary trade-off in terms of the ability to make relevant and valid statements on the intended target system. Mathematical tractability cannot be the ultimate arbiter in science when it comes to modeling real world target systems. One could perhaps accept macroeconomic models building on rational expectations-microfoundations if they had produced lots of verified predictions and good explanations. But they have done nothing of the kind. Therefore the burden of proof is on those macroeconomists who still want to use models built on these particular unreal assumptions.

Macroeconomic models building on rational expectations microfoundations emanates from the belief that to be scientific, economics has to be able to model individuals and markets in a stochastic-deterministic way. It’s like treating individuals and markets as the celestial bodies studied by astronomers with the help of gravitational laws. Unfortunately, individuals, markets and entire economies are not planets moving in predetermined orbits in the sky.

Microfoundations -– and a fortiori rational expectations and representative agents -– serves a particular theoretical purpose. And as the history of macroeconomics during the last thirty years has shown, this Lakatosian microfoundation programme for macroeconomics is only methodologically consistent within the framework of a (deterministic or stochastic) general equilibrium analysis. In no other context has it been possible to incorporate these kind of microfoundations, with its “forward-looking optimizing individuals,” into macroeconomic models.

This is of course not by accident. General equilibrium theory is basically nothing else than an endeavour to consistently generalize the microeconomics of individuals and firms on to the macroeconomic level of aggregates.

But it obviously doesn’t work. The analogy between microeconomic behaviour and macroeconomic behaviour is misplaced. Empirically, science-theoretically and methodologically, neoclassical microfoundations for macroeconomics are defective. Tenable foundations for macroeconomics really have to be sought for elsewhere.

 

2 Comments

  1. Lucas is right in saying that you can’t take macroeconomic aggregates on their own, nor can you use history to guide the future without some inkling of a mechanism and aggregation function.

    But the “here’s the microeconomics I prepared earlier” bit is completely wrong and misguided.

    Economics needs to ‘middle out’ as we do in systems work. Neither top down, nor bottom up is sufficient on its own. You sort have to waggle around in the middle, have tight feedback loops between what you change and what you test against reality, and be prepared to admit you don’t 100% know what is going on and therefore may have to change direction when ‘the facts change’.

  2. I like the reference to physics. Modern physicists know about wave-particle duality, but they have not yet worked out how to bring the two systems together. Atomic physicists deal with the “wave” part of the duality and big body physicists (such as astronomers) deal with the “particle” part of duality. And somewhere in the middle (molecules and small organisms) it can get a bit complicated.


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