LARS P. SYLL

Why we need pluralist economics

 

The only economic analysis that mainstream economists accept is the one that takes place within the analytic-formalistic modeling strategy that makes up the core of mainstream economics. All models and theories that do not live up to the precepts of the mainstream methodological canon are pruned. You’re free to take your models — not using (mathematical) models at all is considered totally unthinkable — and apply them to whatever you want — as long as you do it within the mainstream approach and its modeling strategy.

If you do not follow that particular mathematical-deductive analytical formalism you’re not even considered doing economics. ‘If it isn’t modeled, it isn’t economics.’

That isn’t pluralism.

That’s a methodological reductionist straightjacket.

How to do — and not to do — economics

Great lectures on how to do — and not to do — economics, delivered by a great historian and economist, Robert Skidelsky. Here you can follow them all.

Sargent’s ‘Nobel prize’ winning mumbo jumbo

The Royal Swedish Academy of Sciences decided back in 2011 to award The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel to Thomas Sargent and Christopher Sims “for their empirical research on cause and effect in the macroeconomy”.

In an interview with Thomas Sargent in The Region, the Nobel prize winner tried to defend the kind of  “modern macro” he himself has been part of developing:

Sargent: I know that I’m the one who is supposed to be answering questions, but perhaps you can tell me what popular criticisms of modern macro you have in mind.

Rolnick: OK, here goes. Examples of such criticisms are that modern macroeconomics makes too much use of sophisticated mathematics to model people and markets; that it incorrectly relies on the assumption that asset markets are efficient in the sense that asset prices aggregate information of all individuals; … that the modern macro mainstay “real business cycle model” is deficient because it ignores so many frictions and imperfections and is useless as a guide to policy for dealing with financial crises … Shouldn’t these be taken seriously?

Sargent: Sorry, Art, but aside from the foolish and intellectually lazy remark about mathematics, all of the criticisms that you have listed reflect either woeful ignorance or intentional disregard for what much of modern macroeconomics is about and what it has accomplished … A rule of thumb is that the more dynamic, uncertain and ambiguous is the economic environment that you seek to model, the more you are going to have to roll up your sleeves, and learn and use some math. That’s life.

Are these the words of an empirical macroeconomist? I’ll be dipped! To me, it sounds like the same old axiomatic-deductivist mumbo-jumbo that parades as economic science of today.

Mainstream economic theory today is in the story-telling business whereby economic theorists create make-believe analogue models of the target system – usually conceived as the real economic system. This modelling activity is considered useful and essential. Since fully-fledged experiments on a societal scale, as a rule, are prohibitively expensive, ethically indefensible or unmanageable, economic theorists have to substitute experimenting with something else. To understand and explain relations between different entities in the real economy the predominant strategy is to build models and make things happen in these “analogue-economy models” rather than engineering things happening in real economies.

Mainstream economics has since long given up on the real world and contents itself with proving things about thought up worlds. Empirical evidence only plays a minor role in economic theory, where models largely function as a substitute for empirical evidence. Hopefully humbled by the manifest failure of its theoretical pretences, the one-sided, almost religious, insistence on axiomatic-deductivist modelling as the only scientific activity worthy of pursuing in economics will give way to methodological pluralism based on ontological considerations rather than formalistic tractability.

When that day comes  The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel will hopefully be awarded real macroeconomists and not axiomatic-deductivist modellers like Thomas Sargent and economists of that ilk in the efficient-market-rational-expectations camp.

The ‘rational expectations’ hoax

It can be said without great controversy that no other theoretical approach in this century has ever enjoyed the same level of ubiquity throughout the social sciences as the rational choice approach enjoys today. Despite this ubiquity, the success of the approach has been very tenuous. Its advance has been accompanied by an intense debate over its relative merit. The approach has been subject to the usual criticism of blatant inaccuracy given by outsiders to any would-be theoretical hegemon and to a predictable fuzzying of its assumptions as it is adapted to a wider and wider range of empirical phenomena. More notably, however, some of the most virulent mere criticisms of the rational choice approach have come from within its own ranks.

Despite the absence of any clear-cut resolution to this debate, there appears to be a growing consensus about the strengths and weaknesses of the approach. To put it briefly, the main strengths of the approach are that its conventional assumptions about actors are parsimonious and applicable to a very broad range of environments, generating usually falsifiable and sometimes empirically confirmed hypotheses about action across these environments. This provides conventional rational choice with a combination of generality and predictive power not found in other approaches. However, the conventional assumptions of rational choice not only lack verisimilitude in many circumstances but also fail to accurately predict a wide range of human behaviors.

In mainstream economics — especially in microeconomics, social choice and game theory — it is taken for granted (by definition) that the actors appearing in the model world, are rational and try to satisfy given preferences. But, confronting the axiomatic model world with the real world, it usually turns out that quite a few actors​ are irrational.

In a classic experiment conducted by Barbara McNeil and colleagues, it was investigated how variations in the way information were presented to patients influenced their choices between alternative therapies. Individuals — randomly assigned — were asked to imagine that they had lung cancer and to choose between two different therapies:

Different groups of respondents received input data that differed only in whether or not the treatments were identified and whether the outcomes were framed in terms of the probability of living or the probability of dying.

The experiment demonstrated that by only changing the ​emphasis from surviving (x) to dying (1-x) in the description of the treatment alternatives, there was a significant change in population preferences. According to ‘rational choice’ theory, the way you ‘frame’ alternatives should be totally inconsequential. Rational people do not change preferences for inconsequential reasons.

So what do we learn from this kind​ of experiments? This: In mainstream ‘as if’ model worlds there are only rational people and in real-life there are a lot of ‘irrational’ people.

Things are obviously not as postulated in mainstream microeconomics. The final court of appeal for models is the real world. As long as no convincing justification is put forward for how the inferential bridging is made from the model world to the real world, ‘rational choice’ models have to be considered little more than hand-waving.

Those who want to build macroeconomics on microfoundations usually maintain that the only robust policies and institutions are those based on rational expectations and representative actors. As yours truly repeatedly argued there is really no support for this conviction at all. On the contrary. If we want to have anything of interest to say on real economies, financial crisis and the decisions and choices real people make, it is high time to place macroeconomic models building on representative actors and rational expectations microfoundations in the dustbin of pseudo-science.

For if this microfounded macroeconomics has nothing to say about the real world and the economic problems out there, why should we care about it? The final court of appeal for macroeconomic models is the real world, and as long as no convincing justification is put forward for how the inferential bridging de facto is made, macroeconomic modelbuilding is little more than hand-waving that gives us a rather little warrant for making inductive inferences from models to real-world target systems. If substantive questions about the real world are being posed, it is the formalistic-mathematical representations utilized to analyze them that have to match reality, not the other way around.

The real macroeconomic challenge is to accept uncertainty and still try to explain why economic transactions take place — instead of simply conjuring the problem away by assuming rational expectations and treating uncertainty as if it was possible to reduce it to stochastic risk. That is scientific cheating. And it has been going on for too long now.

Hyman Minsky at 100

On the occasion of the 100th anniversary of the birth of Hyman Minsky (1919-1996) I recommend every one to listen to BBC 4 where Duncan Weldon tries to explain in what way Hyman Minsky’s thoughts on banking and finance offer a radical challenge to mainstream economic theory.

As a young research stipendiate in the U.S. yours truly had the great pleasure and privilege​ of having Hyman Minsky as a ​teacher.

He was a great inspiration at the time.

He still is.

Nobel prize winner Thomas Sargent talking absolute unadulterated horse shit

I especially love the way this Nobel laureate “explains” rational expectations:

There are so many people out there, and it is so difficult to know how each one of them thinks about the future. So let’s just assume they think the same. Problem solved.

And that absolute nonsense reasoning rendered this guy a ‘Nobel prize’ in economics!

The tiny little problem that there is no hard empirical evidence that verifies rational expectations models obviously doesn’t bother rational expectations überpriest Thomas Sargent. He goes on defending the epistemological status of the rational expectations hypothesis arguing that since it “focuses on outcomes and does not pretend to have behavioral content,” it has proved to be “a powerful tool for making precise statements.”

Yeah, “precise” and “rigorous” — but what good does that do when they are all wrong?

As Sargent says in the interview, the concept of rational expectations was first developed by John Muth in an Econometrica article in 1961 — Rational expectations and the theory of price movements  — and later — from the 1970s and onward — applied to macroeconomics. Muth framed his rational expectations hypothesis (REH) in terms of probability distributions:

Expectations of firms (or, more generally, the subjective probability distribution of outcomes) tend to be distributed, for the same information set, about the prediction of the theory (or the “objective” probability distributions of outcomes).

But Muth was also very open with the non-descriptive character of his concept:

The hypothesis of rational expectations] does not assert that the scratch work of entrepreneurs resembles the system of equations in any way; nor does it state that predictions of entrepreneurs are perfect or that their expectations are all the same.

To Muth, its main usefulness was its generality and ability to be applicable to all sorts of situations irrespective of the concrete and contingent circumstances at hand.

Muth’s concept was later picked up by New Classical Macroeconomics, where it soon became the dominant model-assumption and has continued to be a standard assumption made in many neoclassical (macro)economic models – most notably in the fields of (real) business cycles and finance (being a cornerstone of the “efficient market hypothesis”).

REH basically says that people on the average hold expectations that will be fulfilled. This makes the economist’s analysis enormously simplistic since it means that the model used by the economist is the same as the one people use to make decisions and forecasts of the future.

But in the real world, it is not possible to just assume — as does Sargent — that we know the exact probability distribution of future events. On the contrary. We can’t even assume that probability distributions are the right way to characterize, understand or explain acts and decisions made under uncertainty. When we simply do not know, when we have not got a clue, when genuine uncertainty prevails, REH simply is not  “reasonable.” In those circumstances, it is not a useful assumption, since, under those circumstances, the future is not like the past, and henceforth, we cannot use the same probability distribution – if it at all exists – to describe both the past and future.

If we want to have anything of interest to say on real economies, financial crisis, and the decisions and choices real people make, it is high time to replace the rational expectations hypothesis with more relevant and realistic assumptions concerning economic agents and their expectations. ‘Rational expectations’ — paraphrasing Nichols Kaldor — is a barren and irrelevant apparatus of thought to deal with the way real-world people make decisions and act. It sure is “thoroughly misleading and pretty useless” and also one of the major obstacles to developing economics as a science.

‘Rational expectations’ doesn’t pass The-Real-World-Smell-Test. It is just silly nonsense on stilts.

Alternatives Economiques

Sous pression depuis des années déjà, l’enseignement des SES est repris en main par l’académisme néoclassique. Utilisé comme outil pédagogique par certains enseignants, Alternatives Economiques s’est retrouvé associé aux critiques de la droite et du patronat à l’encontre de cette matière.

Alternatives Economiques est né en 1980. Le magazine tire son nom de l’interpellation de Margaret Thatcher, arrivée au pouvoir en 1979 au Royaume-Uni, qui avait l’habitude de défendre sa politique ultralibérale en affirmant que « There is no alternative (TINA) », il n’y a pas d’alternative. Depuis le départ, le projet de notre média consiste, au contraire, à montrer qu’il en existe toujours et que les choix de politique publique en matière économique et sociale dépendent avant tout de valeurs, d’intérêts, d’institutions.

Ce projet éditorial a placé Alternatives Economiques au cœur des débats au sujet de l’enseignement de l’économie, à la fois dans le secondaire et dans le supérieur. Il nous a amenés à suivre pas à pas la normalisation de l’enseignement de sciences économiques et sociales dans le secondaire et l’exclusion progressive de l’économie hétérodoxe de l’enseignement supérieur. Au détriment, dans les deux cas, de l’intérêt et de la qualité de l’enseignement dispensé aux jeunes et donc de la formation économique de la population.