What can economists know?

29 August, 2015 at 12:15 | Posted in Economics | 4 Comments

The early concerns voiced by such critics as Keynes and Hayek, while they may indeed have been exaggerated, were not misplaced. 51ffpHXDowL._SX326_BO1,204,203,200_I believe that much of the difficulty economists have encountered over the past fifty years can be traced to the fact that the economic environment we seek to model are sometimes too messy to be fitted into the mold of a well-behaved, complete model of the standard kind. It is not generally the case that some sharp dividing line separates a set of important systematic influences that we can measure, proxy, or control for, from the many small unsystematic influences that we can bundle into a ‘noise’ term. So when we set out to test economic theories in the framework of the standard paradigm, we face quite serious and deep-seated difficulties. The problem of model selection may be such that the embedded test ends up being inconclusive, or unpersuasive.

Sutton’s Gaston Eyskens Lectures forcefully show what a gross misapprehension it is to — as most mainstream economists today — hold the view that criticisms of econometrics are the conclusions of sadly misinformed and misguided people who dislike and do not understand much of it. To be careful and cautious is not the same as to dislike. As any perusal of the mathematical-statistical and philosophical works of people like for example David Freedman, Rudolf Kalman, John Maynard Keynes, and Tony Lawson show, the critique is put forward by respected authorities. I would argue, against “common knowledge” and in line with Sutton, that they do not misunderstand the crucial issues at stake in the development of econometrics. Quite the contrary. They know them all too well — and are not satisfied with the validity and philosophical underpinning of the assumptions made for applying its methods.

Although advances have been made using a modern empiricist approach in modern econom(etr)ics, there are still some unsolved “problematics” with its epistemological and ontological presuppositions. There is, e. g., an implicit assumption that the data generating process (DGP) fundamentally has an invariant property and that models that are structurally unstable just have not been able to get hold of that invariance. But, as already Keynes maintained, one cannot just presuppose or take for granted that kind of invariance. It has to be argued and justified. Grounds have to be given for viewing reality as satisfying conditions of model-closure. It is as if the lack of closure that shows up in the form of structurally unstable models somehow could be solved by searching for more autonomous and invariable “atomic uniformity”. But if reality is “congruent” to this analytical prerequisite has to be argued for, and not simply taken for granted.

Even granted that closures come in degrees, we should not compromise on ontology. Some methods simply introduce improper closures, closures that make the disjuncture between models and real world target systems inappropriately large. Garbage in, garbage out.

Underlying the search for these immutable “fundamentals” lays the implicit view of the world as consisting of material entities with their own separate and invariable effects. These entities are thought of as being able to be treated as separate and addible causes, thereby making it possible to infer complex interaction from knowledge of individual constituents with limited independent variety. But if this is a justified analytical procedure cannot be answered without confronting it with the nature of the objects the models are supposed to describe, explain or predict. Keynes himself thought it generally inappropriate to apply the “atomic hypothesis” to such an open and “organic entity” as the real world. As far as I can see these are still appropriate strictures all econometric approaches have to face. Grounds for believing otherwise have to be provided by the econometricians.

Trygve Haavelmo, the “father” of modern probabilistic econometrics, wrote that he and other econometricians could not “build a complete bridge between our models and reality” by logical operations alone, but finally had to make “a non-logical jump.” A part of that jump consisted in that econometricians “like to believe … that the various a priori possible sequences would somehow cluster around some typical time shapes, which if we knew them, could be used for prediction.” But why the “logically conceivable” really should turn out to be the case is difficult to see. At least if we are not satisfied by sheer hope. Keynes, as already noted, reacted against using unargued for and unjustified assumptions of complex structures in an open system being reducible to those of individuals. In real economies it is unlikely that we find many “autonomous” relations and events.


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  1. Lars,

    This post brings to mind work by someone of whom we have (almost) all heard by now, but whose prior work as a “sceptical” economist is not known so well, Yanis Varoufakis. Yanis’s conclusions about the impossibility of closure of economic models were developed with great force in his books from the first part of this decade, Modern Political Economics and The Global Minotaur. I have reviewed these books here. His 2014 book, Economic Determinism explores this issue in even more detail.

    Yanis’s career so far in the twenty first century looks a lot like that of Keynes in the twentieth: significant theoretical achievements coupled with brilliant but unsuccessful achievements in the political sphere. As Keynes failed twice to alter the disastrous course of the twentieth century at Verseilles and Bretton Woods, while proposing solutions that, while being rejected, look very much like they could have addressed crucial international problems, so Yanis has tried his best to move Europe off of its austerian slow moving train wreck and received only “loathing” in return from political elites.

    Thanks for bringing up this interesting book by Sutton. I have been a follower of your blog for some time and you almost always have something intelligent to say.


    Randal Samstag

  2. As a person trained in philosophy and logic it strikes me that economists in general are either clueless about the perennial issues that have been explored from time immemorial.

    These issues can be summarized as 1) what is, 2) what can we know about what is and 3) how can we know it, what can we say about what we know.

    These are the fundamental questions of 1) ontology, 2) epistemology, and 3) philosophical logic and semiotics.

    From these questions additional issues that are also fundamental arise, such as 4) what is a good life, the subject of ethics, 5) what constitutes a good society (social and political philosophy, and 6) what is the basis of appreciation, which is the subject of aesthetics.

    Many otherwise highly intelligent people, including many economists, simply make unstated assumptions about these issues that are never examined. This recalls the well-known observation of Socrates that a life that is not examined is not worth living. As J. S. Mill also famously said, “It is better to be a human being dissatisfied than a pig satisfied; better to be Socrates dissatisfied than a fool satisfied.”

    When some economists are pressed on their views, they respond that there is no alternative to admitting uncertainty, I.e., skepticism, even through that may well be the truth of the matter. On the other hand, no one who doesn’t conform to the conventional assumptions is allowed into the debate, because the matter is supposedly settled.

    It’s childish. Or worse — being a fool satisfied.

    It also leads to a lot thinking whose foundations are built on sand and cannot withstand rigorous scrutiny unless the assumptions are treated as dogma, which is, of course, ideology.

    An ideology is one view based on opinion among many, whereas the quest is for true knowledge. Truth claims involve an examination of criteria and process that ideologues not only do not undertake but eschew.

    One has to question whether this is the result of ignorance and poor education, or rhetoric based on conscious and intentional sophistry to deceive — in the case of politics and economics, to dupe the rubes into voting against their interests in democratic societies.

    Is it coincidental that conventional economics supports a system based on the assumption that money and machines (capital must be favored over people (labor) and the environment (land), or is this rationalization?

    Is there really no alternative? Are the premises (assumptions) true and logic form valid so that they conclusion is sound? Or is questioning this off the table on the specious ground that the methodological debate has been settled?

  3. The philosophy of know-nothingers
    Comment on Tom Hickey on ‘What can economists know?’
    You say that economists are clueless about fundamental philosophical questions: “These issues can be summarized as 1) what is, 2) what can we know about what is and 3) how can we know it, what can we say about what we know. These are the fundamental questions of 1) ontology, 2) epistemology, and 3) philosophical logic and semiotics.”
    What a compact nutshell! I agree with this summary — except for one point. You tacitly presuppose that economics is a science. Indeed, this is the claim since Adam Smith, but it cannot be taken at face value.
    Economics consists of political economics and theoretical economics. In political economics anything goes, only in theoretical economics scientific standards are observed. Most of economics since Adam Smith has been political economics and is by implication scientifically worthless.
    Economists cannot tell the difference between profit and income and because of this they cannot know anything about how the actual economy works (2014).
    Economists are well aware that they know nothing, and they have an explanation for this obvious fact. They say because of complexity and uncertainty not much can ever be known. In other words, in economics ignorance is ontological: “Given these difficulties it is extraordinary that economics has achieved as much as it has.” (Dow, 2006, p. 51)
    Or here, the same argument in the cine-max-version: “Economics is not a Science with a capital S. It lacks the experimental method as a way of testing hypotheses. . . . There are always differences of opinion at the cutting edge of a science, . . . . But they last longer in economics . . . and there are reasons for that. As already mentioned, rival theories cannot be put to an experimental test. All there is to observe is history, and history does not conduct experiments: too many things are always happening at once. The inferences that can be made from history are always uncertain, always disputable, . . . You can’t even count on a long and undisturbed run of history, because the “laws” of behavior change and evolve. Excuses, excuses. But the point is not to provide excuses.” (Solow, 1998, pp. x-xi)
    In political economics, ontology comes in very handy as a fig leaf for scientific incompetence. But, much more important, it serves also a political purpose, viz. if you know nothing you cannot do anything. Ontological opaqueness paralyzes. We are certainly not far off the mark by assuming that this cognitive immobilization has been purposefully applied by Hayek in order to fight Keynesian interventionism or statism in general. Because a central institution is ontologically blind, that is, it can never know what all individuals taken together know, all economic policy is futile in principle (Hayek, 1945). By the same token is economics ontologically blind; it is science with a small s, or else preposterous scientism.
    The fundamental blunder of Hayek as wandering sociologist is that economics is not about ‘the use of knowledge in society’ but about objective knowledge of the functioning of the monetary economy.
    Summa philosophica: lack of knowledge has hitherto been the natural, ontologically justified, and universally accepted condition of the representative economist.
    Egmont Kakarot-Handtke
    Dow, S. C. (2006). Economic Methodology: An Inquiry. Oxford: Oxford University
    Hayek, F. A. (1945). The Use of Knowledge in Society. American Economic
    Review, 35(4): 519–530. URL http://www.jstor.org/stable/1809376.
    Kakarot-Handtke, E. (2014). The Three Fatal Mistakes of Yesterday Economics:
    Profit, I=S, Employment. SSRN Working Paper Series, 2489792: 1–13. URL
    Solow, R. M. (1998). Foreword, volume William Breit and Roger L. Ranson: The
    Academic Scribblers. Princeton, NJ: Princeton University Press, 3rd edition.

  4. Very enjoyable post. It sums up Keynes’ argument against econometrics very nicely.

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