De Vroey’s Chicago style History of Macroeconomics

21 Aug, 2016 at 14:32 | Posted in Economics | Comments Off on De Vroey’s Chicago style History of Macroeconomics

A couple of years ago Michel De Vroey felt the urge to write a defense of Robert Lucas’ denial of involuntary unemployment:

What explains the difficulty of constructing a theory of involuntary unemployment? Is it, as argued by Lucas, that the “thing” to be explained doesn’t exist, or is it due to some deeply embedded premise of economic theory? My own view tilts towards the latter. Economic theory is concerned with fictitious parables. The premises upon which it is based have the advantage of allowing tractable, rigorous theorising, but the price of this is that important facts of life are excluded from the theoretical universe. Non-chosen outcomes is one of them. The underlying reason lies in the trade technology and information assumptions upon which both the Walrasian and the Marshallian (and the neo-Walrasian and neo-Marshallian) approaches are based. This is a central conclusion of my inquiry: the stumbling block to the introduction of involuntary unemployment lies in the assumptions about trade technology that are usually adopted in economic theory.

Foregoing the involuntary unemployment claim may look like a high price to pay, particularly if it is admitted that good reasons exist for believing in its real world relevance. But would its abandonment really be so dramatic? …

First of all, the elimination of this concept would only affect the theoretical sphere. Drawing conclusions from this sphere about the real world would be a mistake. No jumps should be made from the world of theory to the real world, or vice-versa … The fact that solid arguments can be put forward as to its real world existence is not a sufficient condition to give involuntary unemployment theoretical legitimacy.

Michel De Vroey

I have to admit of being totally unimpressed by this rather defeatist methodological stance. Is it really a feasible methodology for economists to make  a sharp divide between theory and reality, and then treat the divide as something recommendable and good? I think not.

Models and theories should — if they are to be of any real interest — have to look to the world. Being able to construct “fictitious parables” or build models of a “credible world,” is not enough. No matter how many convoluted refinements of concepts made in the theory or model, if they do not result in “things” similar to reality in the appropriate respects, such as structure, isomorphism etc, the surrogate system becomes a substitute system — and why should we care about that? Science has to have higher aspirations.

Mainstream economic theory today is in the story-telling business whereby economic theorists create mathematical make-believe analogue models of the target system – usually conceived as the real economic system. This modeling activity is considered useful and essential. Formalistic deductive “Glasperlenspiel” can be very impressive and seductive. But in the realm of science it ought to be considered of little or no value to simply make claims about the theory or model and lose sight of reality. Insisting — like De Vroey — that “no jumps should be made from the world of theory to the real world, or vice-versa” is an untenable methodological position.

In his new book — A History of Macroeconomics from Keynes to Lucas and Beyond (CUP 2016) — De Vroey basically tells the same misleading and wrong-headed story as in the article mentioned above. He explicitly acknowledges that his assessment of The General Theory ‘follows from this analysis.’ Citing Mankiw and Patinkin, the author criticises Keynes for not having built his analysis on an ‘explicit and complete model’ and therefore was unable to translate his views ‘into a rigorous demonstration.’

Where did Keynes’ unemployment analysis go wrong? To De Vroey the answer  seems to be that ‘the notion of involuntary unemployment was not questioned’ and that  ‘the fact that unemployment was massive was taken as an indication that it could not be voluntary.’

Does it sound familiar? Well it should! Because this is the standard Chicago New Classical Economics view that never has accepted Keynes’s distinction between voluntary and involuntary unemployment. According to New Classical übereconomist Robert Lucas, an unemployed worker can always instantaneously find some job. No matter how miserable the work options are, “one can always choose to accept them,” according to Lucas:

KLAMER: My taxi driver here is driving a taxi, even though he is an accountant, because he can’t find a job …

LUCAS: I would describe him as a taxi driver [laughing], if what he is doing is driving a taxi.

KLAMER: But a frustrated taxi driver.

LUCAS: Well, we draw these things out of urns, and sometimes we get good draws, sometimes we get bad draws.

Arjo Klamer

In New Classical Economics unemployment is seen as as a kind of leisure that workers optimally select. In the basic DSGE models used by these economists, 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.

It is extremely important to pose the question why mainstream economists choose to work with these kinds of models. It is not a harmless choice based solely on ‘internal’ scientific considerations. It is in fact also, and not to a trivial extent, a conscious choice motivated by ideology.

By employing these models one is actually to a significant degree absolving the structure of market economies from any responsibility in creating unemployment. Focussing on the choices of individuals, the unemployment ‘problem’ is reduced to being an individual ‘problem’, and not something that essentially has to do with the workings of market economies. A conscious methodological choice in this way comes to work as an apologetic device for not addressing or challenging given structures.

Not being able to explain unemployment, these models can’t help us to change the structures and institutions that produce the arguably greatest problem of our society.

 

Added GMT 1800: Although De Vroey has a whole chapter on Hicks and the IS-LM model, he does not mention that Hicks returned to his 1937 IS-LM article in an article in 1980 – ‘IS-LM: an explanation’ – in Journal of Post Keynesian Economics — and self-critically wrote:

I accordingly conclude that the only way in which IS-LM analysis usefully survives — as anything more than a classroom gadget, to be superseded, later on, by something better – is in application to a particular kind of causal analysis, where the use of equilibrium methods, even a drastic use of equilibrium methods, is not inappropriate. I have deliberately interpreted the equilibrium concept, to be used in such analysis, in a very stringent manner (some would say a pedantic manner) not because I want to tell the applied economist, who uses such methods, that he is in fact committing himself to anything which must appear to him to be so ridiculous, but because I want to ask him to try to assure himself that the divergences between reality and the theoretical model, which he is using to explain it, are no more than divergences which he is entitled to overlook. I am quite prepared to believe that there are cases where he is entitled to overlook them. But the issue is one which needs to be faced in each case.

When one turns to questions of policy, looking toward the future instead of the past, the use of equilibrium methods is still more suspect. For one cannot prescribe policy without considering at least the possibility that policy may be changed. There can be no change of policy if everything is to go on as expected-if the economy is to remain in what (however approximately) may be regarded as its existing equilibrium. It may be hoped that, after the change in policy, the economy will somehow, at some time in the future, settle into what may be regarded, in the same sense, as a new equilibrium; but there must necessarily be a stage before that equilibrium is reached …

I have paid no attention, in this article, to another weakness of IS-LM analysis, of which I am fully aware; for it is a weakness which it shares with General Theory itself. It is well known that in later developments of Keynesian theory, the long-term rate of interest (which does figure, excessively, in Keynes’ own presentation and is presumably represented by the r of the diagram) has been taken down a peg from the position it appeared to occupy in Keynes. We now know that it is not enough to think of the rate of interest as the single link between the financial and industrial sectors of the economy; for that really implies that a borrower can borrow as much as he likes at the rate of interest charged, no attention being paid to the security offered. As soon as one attends to questions of security, and to the financial intermediation that arises out of them, it becomes apparent that the dichotomy between the two curves of the IS-LM diagram must not be pressed too hard.

So – back in 1937 John Hicks said that he was building a model of John Maynard Keynes’ General Theory. In 1980 he openly admits he wasn’t. Not mentioning that, not even in a footnote, in a book on the History of Macroeconomics, would, I guess, by many be considered  an example of Chicago-inspired intellectual dishonesty.