Winner of the New Statesman SPERI Prize in Political Economy 2016

Saturday, 16 May 2015

Paul Romer and microfoundations

For economists

In an AER P&P paper, Paul Romer talks about many things: a distinction between scientific consensus and political discourse, a divide in growth theory between those that use models based on perfect competition and those using imperfect competition, but mainly the distinction between appropriate mathematical theory and what he calls ‘mathiness’. To better see how these things connect up, and how they could have wider applicability, I suggest reading his blog post first. There he writes:
“the problems I identify in growth theory may be of broader interest. If economists can understand what the problem is in this sub-field, we may be in a better position to evaluate the scientific health of other parts of economics. The field to which scrutiny might first extend is economic fluctuations.”
So how might such a comparison go? The attachment to using perfect rather than imperfect competition could map into an aversion to either price stickiness or the importance/autonomy of aggregate demand, both of which could be labelled as ‘anti-Keynesian’. Keynesian theory is denigrated in some cases not because of empirical evidence but because of the policy implications that may follow from that theory. The microfoundations methodology, as practiced by some, allows those that want to deny the importance of Keynesian effects to continue to study business cycles, because this methodology can place such a low weight on the importance of evidence when it comes to the elements of model building. (Ask not whether price stickiness has empirical support, but whether it has solid microfoundations.)

Paul Romer’s post also links to the idea in this paper by Paul Pfleiderer about theoretical models becoming “chameleons”. To quote: “A model becomes a chameleon when it is built on assumptions with dubious connections to the real world but nevertheless has conclusions that are uncritically (or not critically enough) applied to understanding our economy.” I think we could add that these conclusions are usually associated with defending a particular political view or sectional interest.

It is important to stress that this is not an attack on the microfoundations methodology, just as Paul Romer’s article is not an attack on mathematical modelling. Most DSGE modellers, who are not subject to any political aversion to using price rigidity, happily use this methodology to advance the discipline. But if that methodology is taken too seriously (by what I call here microfoundations purists), so that modellers only look at what they can microfound rather than what they actually see in the real world, it can allow approaches that should have been discarded to live on, perhaps because they support a particular policy position.

A discipline where a huge number of alternative models persist could be described as ‘flourishing’, but risks disintegrating into alternative schools of thought, where some schools have an immunisation strategy that protects them from particular kinds of empirical evidence. As Paul perceptively points out, this makes economics more like political discourse than a scientific discipline. Some people welcome that, or regard it is inevitable - I hope most economists do not. This means we first need to collectively recognise the problem, rather than keeping our heads down to avoid upsetting others. I hope Paul Romer’s article can be part of that process. 

15 comments:

  1. Perhaps questions about the use of monetary systems might be better addressed by anthropologists rather than economists.

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  2. Perhaps questions about the use of monetary systems might be better addressed by anthropologists rather than economists.

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  3. I suspect it would be good for economics to "blow the whole thing up" (as they say about sports teams), because there are so many problems in the theories, methods, and overall paradigm. There are some useful insights, but to cling to these as greatly as so many do (including Krugman) is not "science." Also, there is this idea of "theories of the middle range"--those subfields you talk about--that can facilitate overall progress, because middle-range theories can facilitate healthier empirical projects and work. It's as if economics is doing everything backwards: get the "model" right and then try to stuff the data into the model. But physics, chemistry, and so many others started from empirical studies & observations, and then tried to fit theory to the data, working between induction and deduction. But doing much of this would require economists take off their rose-colored glasses (or look outside the economist's box, pick your metaphor). Are you willing, Simon?

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  4. How about working like an historian or political scientist? All that matters is the evidence. You start from the ground up. You want to know what caused X. You have no preconceptions. You know there are alternative theories out there - Marxist, Realpolitik, Neo-liberal and so on; you know that in explaining how much of the world works they are equally true and false; but in the end after you have done your investigation you say which of these, if any of them, or perhaps all of them, or none of them, explains what caused X.

    But ultimately you are not interested in whether a model explains something. Many models probably can. You are only interested in finding out the truth.

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  5. "A discipline where a huge number of alternative models persist could be described as ‘flourishing’, but risks disintegrating into alternative schools of thought, where some schools have an immunisation strategy that protects them from particular kinds of empirical evidence. As Paul perceptively points out, this makes economics more like political discourse than a scientific discipline.

    I find that a bit rich. Come off it, the rational expectations school went on for decades - especially if we consider that it laid pretty much the groundwork for so-called New Keynesianism and RBC. This is not empirically driven methodology by any stretch of the imagination. Yet what we had over this time was a monopoly over knowledge and methodology. They did not need an "immunisation strategy" without amount of power. That cannot be healthy. Who can contest it without putting their necks out? Who is going to say, "hang on, the world may not be flat; you can also explain something this way - here's the evidence - but you need another methodology and be open to primary historical evidence to show it."

    We can only have a single viable theory for something, like gravity, when the evidence is irrefutable. Until then we need as many ideas as possible.

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  6. "Most DSGE modellers, who are not subject to any political aversion to using price rigidity, happily use this methodology to advance the discipline."

    Why this obsession with price rigidity? Even the General Theory says that it is not price rigidity that caused permanent disequilibrium in the labour markets and why classical theory was rejected. The issue here is whether it is appropriate to view a social system, such as a national economy as the sum of individual and small group units. The two are very different. Sociology and Psychology are different fields for that reason. It is wrong to put a a national economy into a general equilibrium framework. Micro and Macro are separate. If we keep doing so we will keep bringing up the old aggregation issues and long debunked fallacies.

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  7. During the 08 crisis Larry Summers describes being visited in the White House by his Harvard colleagues full of excellent economic advise based on impeccable econometric evidence which was politically worthless. And therefore worthless. Prof. Summers found himself relying on Bagehot, Kindleberger and Minsky for guidance - not some model, however “scientific”.
    “ As Paul perceptively points out, this makes economics more like political discourse than a scientific discipline.” Do you honestly believe that Obama or Bush would choose as economic advisors some “scientifically objective” person (assuming there is a large pool from which to choose)
    to advise on tax, trade, energy, health, fiscal and monetary policies? But, you may argue, an independent researcher must ignore policy implications and simply search for the truth - like a good historean. Are they scientists, all positive, no normative?

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  8. Nice post and thank you for linking that blog and paper. It really bothers me when the discipline is described as flourishing because so many different approaches are being pursued. There seems to be too much of what Paul Romer calls "persistent disagreement" over some of the most basic parts of economic theory.

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    1. "There seems to be too much of what Paul Romer calls "persistent disagreement" over some of the most basic parts of economic theory."

      Are you suggesting which should all agree on something that is almost certainly wrong? Is that what you call healthy and flourishing?

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  9. It's interesting to note that most models in physics ignore the microscopic details in favour of reproducing the macroscopic effects. Examples abound: the Drude-Sommerfield Free electron model assumes electrons do not interact with one another, Lattice-Boltzmann methods assume fluid probability distributions sit on a discrete lattice, the Kuramoto model assumes identical coupled oscillators. Often it's enough to capture a few important quantities in the model (usually that energy and momentum are conserved) and leave everything else until later.

    In almost all cases the aim is to reproduce the empirically verifiable macroscopic properties of the system first, and then use that information as a bounding limit to deduce the possible microscopic behaviour of the system.

    I can't imagine what it would be like to have politically or ideologically motivated physicists (or even historians of physics) using esteemed national newspapers to espouse that clearly the free electron model is entirely wrong in its description of temperature dependent heat capacity because we know that electrons are electrically charged.

    The reason why these people don't exist in physics is obvious: it's difficult to make money out of denying physical reality. In economics, unfortunately, it wins elections.

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  10. Some microeconomic theories could also benefit from "macrofoundations". Yes, an economy is built upon the behaviour of many people, but we can also observe the whole instead and so the behaviour of each single part must be in accordance with the macro-level.
    Another possible conclusion could be that it's not just a straight transformation from the micro to the macro-level (or the other way round), but that there are levels in between with their own rules, say, people in a market, in a company, or as part of a regionally constrained economy (national, municipial, regional, urban?) behave differently from the way they behave on their own or collectively. That would be another heavy blow for the microfoundations crusade.

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    1. You don't have any idea how to aggregate things, do you?

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    2. You don't have any idea about "emergent properties," do you?

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  11. Who ya gonna believe, my fancy numbers or your lying eyes?

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  12. Economics is the study of the behaviour of vital (as in affecting life and death) aspects of human societies. Of course it is and always has been political. How could it not be? Only the naive could imagine otherwise. This does not mean it is only political. But it is political.

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