Paul Romer — favourite candidate for ‘Nobel prize’ 2016

9 October, 2016 at 15:51 | Posted in Economics | 5 Comments

Among Swedish economists, Paul Romer is the favourite candidate for receiving the ‘Nobel Prize’ in economics 2016. Let’s hope the prediction turns out right this time.

The ‘Nobel prize’ in economics has almost exclusively gone to mainstream economists, and most often to Chicago economists. So how refreshing it would be if for once we would have a winner who has been brave enough to openly criticize the ‘post-real’ things that emanates from the Chicago ivory tower!

Adam Smith once wrote that a really good explanation is “practically seamless.”

Is there any such theory within one of the most important field of social sciences – economic growth?

Paul Romer‘s theory presented in Endogenous Technological Change (1990) – where knowledge is made the most important driving force of growth – is probably as close as we get.

Knowledge – or ideas – are according to Romer the locomotive of growth. But as Allyn Young, Piero Sraffa and others had shown already in the 1920s, knowledge is also something that has to do with increasing returns to scale and therefore not really compatible with neoclassical economics with its emphasis on decreasing returns to scale.

Increasing returns generated by nonrivalry between ideas is simply not compatible with pure competition and the simplistic invisible hand dogma. That is probably also the reason why neoclassical economists have been so reluctant to embrace the theory whole-heartedly.

Neoclassical economics has tried to save itself by more or less substituting human capital for knowledge/ideas. But Romer’s pathbreaking ideas should not be confused with human capital. Although some have problems with the distinction between ideas and human capital in modern endogenous growth theory, this passage from Romer’s article The New Kaldor Facts: Ideas, Institutions, Population, and Human Capital gives a succinct and accessible account of the difference:

Of the three statevariables that we endogenize, ideas have been the hardest to bring into the applied general equilibrium structure. The difficulty arises because of the defining characteristic of an idea, that it is a pure nonrival good. A given idea is not scarce in the same way that land or capital or other objects are scarce; instead, an idea can be used by any number of people simultaneously without congestion or depletion.

Because they are nonrival goods, ideas force two distinct changes in our thinking about growth, changes that are sometimes conflated but are logically distinct. Ideas introduce scale effects. They also change the feasible and optimal economic institutions. The institutional implications have attracted more attention but the scale effects are more important for understanding the big sweep of human history.

The distinction between rival and nonrival goods is easy to blur at the aggregate level but inescapable in any microeconomic setting. Picture, for example, a house that is under construction. The land on which it sits, capital in the form of a measuring tape, and the human capital of the carpenter are all rival goods. They can be used to build this house but not simultaneously any other. Contrast this with the Pythagorean Theorem, which the carpenter uses implicitly by constructing a triangle with sides in the proportions of 3, 4 and 5. This idea is nonrival. Every carpenter in the world can use it at the same time to create a right angle.

Of course, human capital and ideas are tightly linked in production and use. Just as capital produces output and forgone output can be used to produce capital, human capital produces ideas and ideas are used in the educational process to produce human capital. Yet ideas and human capital are fundamentally distinct. At the micro level, human capital in our triangle example literally consists of new connections between neurons in a carpenter’s head, a rival good. The 3-4-5 triangle is the nonrival idea. At the macro level, one cannot state the assertion that skill-biased technical change is increasing the demand for education without distinguishing between ideas and human capital.

Romer’s idea about ideas is well worth a ‘Nobel Prize.’

5 Comments »

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  1. Not to rain on your parade, but Paul Romer is a graduate of the University of Chicago (BS, mathematics,1977; PhD, economics, 1983)
    .
    I am heartened by his attack on the obfuscation that has enveloped macroeconomics, but I have to say growth theory doesn’t impress me. It is boring, which is quite an accomplishment for a study of the most astonishing developments in human history. And, Romer’s version is chock full of faith-based hand-waving at what he seems to regard as the cultural magic of institutions.
    .
    It would be quite an interesting political development to give him a Nobel at the moment when his very capable and uncompromising critique has attracted so much attention.

    • I tend to agree Bruce. Romer’s work is part of the project (which I think actually more led by MIT than Chicago) to formalise economics. In the process we thrown much of our knowledge about how countries have successfully developed out with the bathwater. Still, if economics is going to change, that change will probably have to come from outsiders. Anyone who has not played by the methodological rules of the profession, however ridiculous those rules are, have been out in the wilderness. For those reasons Romer’s critique could end up being a game-changer. If he is awarded a Nobel, his critique will be even more potent.

  2. He may have shot himself in the foot with his latest tirade against the mainstream.🙂

  3. You were Wromered (wrong). hehe

  4. Swedish economists — what’s that?
    Comment on Lars Syll on ‘Paul Romer — favourite candidate for ‘Nobel prize’ 2016 ’
    .
    Lars Syll reports from Malmö: “Among Swedish economists, Paul Romer is the favourite candidate for receiving the ‘Nobel Prize’ in economics 2016. Let’s hope the prediction turns out right this time.” (See intro)
    .
    Have Swedish economists not realized until now that economics is NOT a science? Have they not realized that the full title of the prize is “Bank of Sweden Prize in Economic Sciences in Memory of Alfred Nobel”. Have they not realized that there is a contradiction?
    .
    No, of course not. Swedish economists like their colleagues elsewhere have no idea what science is all about. They occasionally criticize the economics Nobel, but for the wrong reason. The wrong reason is because the prize has been awarded to someone who does not share one’s own political belief. Science, though, cannot be judged by political criteria but only by the criteria true/false which are well-defined by material and formal consistency.
    .
    The problem is this: economics is not a science but what Feynman famously called a cargo cult science. This is a provable fact and this is what has to be communicated to the general public. It is NOT decisive which of the four main sects (Walrasianism, Keynesianism, Marxianism, Austrianism) gets the prize, because neither satisfies scientific standards. In methodological terms, all four approaches are axiomatically false and therfore beyond repair.
    .
    The Bank of Sweden is legitimized to award prizes to whomever it wants and to push any political agenda it wants. The Bank, though, is NOT legitimized to declare economics as science well knowing that economics has not lived up to scientific standards since the founding fathers.
    .
    In order not to mislead the general public and in compliance with the first principle of science — which is truth — the Bank of Sweden is obliged to delete the word Sciences from its prize. It is the task of Swedish economists in particular to see to it that this happens without further delay.
    .
    Egmont Kakarot-Handtke


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