Chicago economics — in praise of superficiality

29 Mar, 2020 at 14:50 | Posted in Economics | 9 Comments

igTo observe that economics is based on a superficial view of individual and social behaviour does not seem to me to be much of an insight. I think it is exactly this superficiality that gives economics much of the power that it has. Its ability to predict human behaviour without knowing very much about the make up and lives of the people whose behaviour we are trying to understand.

Robert Lucas

The purported strength of Chicago — New Classical — macroeconomics is that it has firm anchorage in preference-based microeconomics, and especially that the decisions are taken by inter-temporal utility maximizing ‘forward-looking’ individuals.

To some of us, however, this has come at too high a price. The almost quasi-religious insistence that macroeconomics has to have microfoundations — without ever presenting neither ontological nor epistemological justifications for this claim — has put a blind eye to the weakness of the whole enterprise of trying to depict a complex economy based on an all-embracing representative actor equipped with superhuman knowledge, forecasting abilities and forward-looking rational expectations.

That anyone should take that kind of stuff seriously is totally and unbelievably ridiculous. Or as Robert Solow has it:

4703325Suppose someone sits down where you are sitting right now and announces to me that he is Napoleon Bonaparte. The last thing I want to do with him is to get involved in a technical discussion of cavalry tactics at the battle of Austerlitz. If I do that, I’m getting tacitly drawn into the game that he is Napoleon. Now, Bob Lucas and Tom Sargent like nothing better than to get drawn into technical discussions, because then you have tacitly gone along with their fundamental assumptions; your attention is attracted away from the basic weakness of the whole story. Since I find that fundamental framework ludicrous, I respond by treating it as ludicrous – that is, by laughing at it – so as not to fall into the trap of taking it seriously and passing on to matters of technique.

Robert Solow


  1. “Microfoundations” is a deliberately fraudulent term of art. Almost anyone ignorant of the arcane disputes of mainstream economics would intuitively imagine that macroeconomics ought to have a coherent account of how and why the macro phenomena arise from the component structure of the underlying economy, just as, say, chemistry seeks to understand how the characteristics of various substances and interactions arise from the molecular properties detailed in the periodic table.
    What economists ought to know about the Keynesian macroeconomy — that its sensitivity to surges in effective demand arises from a pervasive structure of sunk cost investment and property rights assembled in hierarchical business bureaucracies for whom marginal cost is less than average cost and declining — almost none of them acknowledge beyond a vague gesture at “sticky prices” and even that an ignoramus like Lucas would deny.
    The fact that most businesses most of the time stand ready and willing to produce and sell more at current prices is a commonplace for everyone except most economists. Most businesses would profit from selling more at current prices. That is why they spend real resources on advertising! That is the true “microfoundation” of the capitalist monetary economy. But, the same fact refutes the preferred notion of a general equilibrium in price. A “market” where sellers would prefer to sell more at the current market price is NOT in equilibrium. Avoiding that reality is job #1 for purveyors of agnatology like Lucas.
    I will note that Keynes of the General Theory did not understand this and his mistakes around the issue confused his argument, which was deeply unfortunate for his posterity.
    I will also note that Lucas’s New Classical models do not by any stretch of imagination predict or explain the shape of response of the U.S. economy to monetary or fiscal policy initiatives.

  2. This comment by Solow is disingenuous. He has himself relied heavily on the notion of an aggregate production function, despite the fact that it contradicted his own microfoundations. Samuelson admitted that and disavowed it, but Solow rode it to fame. I wrote about this as a graduate student, in response to the urging of Joan Robinson that I “look into the matter”. The article appeared as an entry by itself in the first edition of the New Palgrave Dictionary, and has led to several articles by myself and others in followup (see my homepage

    Click to access 1-humbug.pdf

    And once again, I register my complaint about the reduction of all “economics” to neoclassical economics. There is a larger universe out there, friends.

    • Thanks Anwar I now revisiting all of your articles in this area.

  3. Thanks for reminding us, Anwar! I certainly do agree with you on the failures of Solow’s own models — but I will still continue to quote him in his critiques of the even worse new classical models, both because he is right in his critique, and because it is done in such an amusing way. But, of course, as you put it, there is “a larger universe out there” …

  4. Lars,
    “The almost quasi-religious insistence that macroeconomics has to have microfoundations — without ever presenting neither ontological nor epistemological justifications for this claim ”
    I think you have missed the point.
    The weakness in Neo-Classical economics qua macroeconomic theory is not that it specifies microfoundations but that it assumes full employment of resources and a given level of income.

  5. One of the interesting things about both chemistry and physics, is that they developed by understanding the science before they understood its microfoundations. So for instance, Maxwell developed his electromagnetic theory without any knowledge of quantum mechanics. In fact he assumed the existence of an aether. But he developed the theory in such a way that it was independent of its microfoundations. So when the aether theory was dropped, Maxwell’s theory survived. Similarly much of modern chemistry was developed before the atom had been proved to exist. And Darwin invented his theory of evolution without knowledge of genes, let alone knowledge of DNA bases.

    So it should be in economics. We should not assume microfoundations when trying to describe macro properties. Development of economic theory should be top-down, just as the development of other sciences has been.

  6. Full employment in the New Classical rational expectation models is the outcome of their built-in (“hidden”) assumption of instantaneous market-clearing, i.e. full wage-price flexibility. Any rigidity is the result of irrational behaviour of an obstructionist/interventionist state or of recalcitrant unions – they don’t say much about monopolies or cartels.

    Agree with both Lars and Anwar – critique done in such an amusing way (Lars) and disingenuous Solow (Anwar).

    Trust, all well is well so far in this very “scary” moment exacerbated by the lack of global leadership and trust. I am sure, you have seen Yuval Noah Harari’s piece in the Time. More scary is what would be the world like after COVID-19 – again, Harari’s FT piece is very perceptive.
    One think seems certain – the irrelevance of New Classical macroeconomics. In the post COVID 19 world, students of macroeconomics cannot be fooled with the myth of a hard govt. budget constraint or scared by debt and deficits after seeing govts suddenly finding so much money to throw around. Had the govts discarded false notion of a hard budget constraint and not obsessed with the hypothetical debt and deficit crisis, they could have built nice universal public health and social protection systems. Thus, in time of crisis, they need not throw money at everything and run like headless chooks. Had the govts. put in place proper macro-prudential regulations, such as to prevent short-selling or trading by algorithms, completely unrelated to the real economy, today the stock markets could not create so much panic. Had the govts. cared about maintaining nation’s manufacturing capabilities, severe shortages of essential gears and products could have been avoided. Had the govts capped executive salary or dividends so that retained profits were reinvested to expand capacity and built-up emergency funds, today they could avoid large bail-outs – the list of follies of neo-liberalism exposed by COVID-19 crisis goes on.

    Stay well and safe

  7. Links to Harari’s pieces, in case you still haven’t found them:

    In the battle against coronavirus, humanity lacks leadership

    The World after coronavirus

    By the way, spotted a type in my comments, “One think seems certain”, should read “One thing seems certain”

    Stay quarantined and safe

    • Harari’s essays are a lot of pious hoohah, cheerleading for a corrupt elite at the moment its incompetence is laid bare. It is not mistrust by the masses that troubles the world — for the most part, ordinary people are cooperative. It is leadership that has conspicuously failed in the U.S. and some other countries. Harari’s argument that interconnectedness is not the problem is a convenient distraction from the nature of elite neoliberal betrayal, off-shoring industrial capability that now shows up as an incapacity to produce and provide what is needed. Cooperation? Try cooperating with a greedy billionaire oligarch and see how far it gets you.

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