Ditch ‘ceteris paribus’!

3 June, 2015 at 18:53 | Posted in Economics | 3 Comments

When applying deductivist thinking to economics, neoclassical economists usually set up “as if” models based on a set of tight axiomatic assumptions from which consistent and precise inferences are made. The beauty of this procedure is of course that if the axiomatic premises are true, the conclusions necessarily follow. The snag is that if the models are to be relevant, we also have to argue that their precision and rigour still holds when they are applied to real-world situations. They often don’t. When addressing real economies, the idealizations necessary for the deductivist machinery to work — as e. g. IS-LM and DSGE models — simply don’t hold.
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If the real world is fuzzy, vague and indeterminate, then why should our models build upon a desire to describe it as precise and predictable? The logic of idealization is a marvellous tool in mathematics and axiomatic-deductivist systems, but a poor guide for action in real-world systems, in which concepts and entities are without clear boundaries and continually interact and overlap.

Or as Hans Albert has it on the neoclassical style of thought:

In everyday situations, if, in answer to an inquiry about the weather forecast, one is told that the weather will remain the same as long as it does not change, then one does not normally go away with the impression of having been particularly well informed, although it cannot be denied that the answer refers to an interesting aspect of reality, and, beyond that, it is undoubtedly true …

hansalbertWe are not normally interested merely in the truth of a statement, nor merely in its relation to reality; we are fundamentally interested in what it says, that is, in the information that it contains …

The neoclassical style of thought – with its emphasis on thought experiments, reflection on the basis of illustrative examples and logically possible extreme cases, its use of model construction as the basis of plausible assumptions, as well as its tendency to decrease the level of abstraction, and similar procedures – appears to have had such a strong influence on economic methodology that even theoreticians who strongly value experience can only free themselves from this methodology with difficulty …

Clearly, it is possible to interpret the ‘presuppositions’ of a theoretical system … not as hypotheses, but simply as limitations to the area of application of the system in question. Since a relationship to reality is usually ensured by the language used in economic statements, in this case the impression is generated that a content-laden statement about reality is being made, although the system is fully immunized and thus without content. In my view that is often a source of self-deception in pure economic thought …

Defending his IS-LMism from the critique put forward by e. g. Hyman Minsky and yours truly, Paul Krugman writes:

When people like me use something like IS-LM, we’re not imagining that the IS curve is fixed in position for ever after. It’s a ceteris paribus thing, just like supply and demand.

But that is actually just another major problem with the Hicksian construction! As Hans Albert so perspicaciously writes:

The law of demand is an essential component of the theory of consumer market behavior. With this law, a specific procedural pattern of price-dependent demand is not postulated, that is, a certain demand function, but only the general form that such a function ought to have. The quantity of the good demanded by the consumers is namely characterized as a monotone-decreasing function of its price.

The law appears prima facie to predicate a relatively simple and easily testable relationship and thus to have a fair amount of content. However, upon closer examination, this impression fades. As is well known, the law is usually tagged with a clause that entails numerous interpretation problems: the ceteris paribus clause … The ceteris paribus clause is not a relatively insignificant addition, which might be ignored. Rather, it can be viewed as an integral element of the law of demand itself. However, that would entail that theoreticians who interpret the clause differently de facto have different laws of demand in mind, maybe even laws that are incompatible with each other …

Bringing this to bear on our law of demand, the consequence is that … if the factors that are to be left constant remain undetermined, as not so rarely happens, then the law of demand under question is fully immunized to facts, because every case which initially appears contrary must, in the final analysis, be shown to be compatible with this law. The clause here produces something of an absolute alibi, since, for every apparently deviating behavior, some altered factors can be made responsible. This makes the statement untestable, and its informational content decreases to zero.

3 Comments »

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  1. Lars, surely a much wider range of models are ‘relevant’. For example, are not both models that show that austerity is a good thing and models that show it to be a bad thing both relevant. If they are both ‘ceteris paribus’ then we can think about which things might actually hold steady in practice.

    Actually, I think that in economics there is often a possibly more significant distinction between short-run and long-run effects.

  2. Dave, these models do not “show” (a favourite but meaningless verb of those that propagate them) anything. To understand, for example, how you get a liquidity trap you need to the history in each case. A major cause is deflationary psychology, or uncertainty. Another cause can be, as in Japan, financial amalgamation after a crisis where depositors move their cash to larger banks, but smaller businesses dependent once dependent on smaller institutions, cannot access funding. MP in such cases is largely pushing on a string. None of this you can see with gimmicky models that are pure geometric and algebraic decoration.

    • Nanikore, My meaning would have been clearer if had have said ‘seems to show that’. A slight excuse, perhaps, is that ‘show’ is only ever about appearances, as when a magician ‘shows’ you something. I habitually use a word like ‘prove’ or ‘show beyond doubt’ if I mean something stronger.

      Your examples are perhaps more important. I agree with you, Keynes and Lars if you are saying that some (many?) models seem to be used by some (many?) economists in much the same way as magicians use their props – or perhaps they are simply mis-educated or incompetent.

      In your examples the uncertainty would – according to Lars’ definition – rule our the possibility of any ‘relevant’ mathematics. Yet in the ordinary sense of the word, Keynes’ Treatise and Game Theory are surely both relevant, even if they are not as comprehensible or comprehensive as we would like.

      Magicians often use cloths in their deceptions, and their usage is not relevant to drying dishes. So should we give up the use of cloths to dry dishes?


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