from Neva Goodwin
Rationality has become a loaded word in economics, bringing with it the baggage of earlier models that did not anticipate the findings of behavioral economics or take into account other every-day observations. The traditional rationality model includes the assumption that rational behavior is optimizing behavior (“rational economic man maximizes his utility”). In the 1970s an extreme version of this made the further assumption that rational economic actors have “perfect information.” A slightly more modest version says that people will collect information until the perceived costs of acquiring additional information exceed the perceived benefits.
One of the most effective challenges to the traditional assumption of rationality came from Herbert Simon, another non-economist winner of the Nobel Memorial Prize in economics (1978). Considering whether it is indeed possible for people to identify the optimal point at which one should cease gathering additional information, Simon showed that one first needs to have complete knowledge of all possible choices in order to identify that optimal point. Determining what additional information might be out there, and then gathering it, can be very costly in time, effort, and money – if it is even possible. Accordingly, Simon maintained, people rarely optimize. Instead they do what he called “satisficing;” they choose an outcome that would be satisfactory, and then seek an option that at least reaches that standard.
from Richard Parker
I have been reading Thomas Piketty this past week in Athens, where I came back to assess how Greece is faring half a decade after its economy imploded, initially as a consequence of its own ills and then – in an act of monumental malpractice by Germany, the ECB, and the IMF – the cure imposed.
Signs of recovery are few.
It is hot here, as Mediterranean summers always are – but as thick as the heat is, an air of solemnity and defeat lies far more thickly over this concrete-gray capital and its now concrete-gray people, for whom what we know as the Great Recession has been their Great Depression, where the GDP has contracted 40% in five years and more than a quarter of its workforce can find no paid employment.
Four years ago, tens of thousands of Greeks would turn up regularly, week after week, at Syntagma Square in the heart of Athens to protest, again and again, the terms of the European-and-IMF-designed austerity regime that was the price Greece was being made to pay for loans meant to keep its government and economy afloat.
The streets lack protestors now, filled instead by tourists (more than 20 million visitors are expected this year, nearly two tourists for every Greek citizen) but also with drunks, junkies, and beggars out in alarming numbers of their own. Syntagma Square – jammed when I was here in 2011 with the tents and makeshift lean-tos of young protestors – has been scrubbed clean, the grass and flowers replanted, and new marble steps and benches replacing the stonework that had been chipped and broken to provide rocks to hurl at riot police.
But cross the street from Syntagma Square and walk into the five-star Hotel Grande Bretagne and you suddenly encounter Read more…
Official unemployment in Cyprus is ‘only’ 15,4% – and falling! It’s high but nothing like the Spanish and Greek rates which almost touched 30%. A success for austerity? Not really, as Cyprus witnessed (according to the new Eurostat data) the fastest growth of ‘non-official’ unemployment of all EU countries (graph). This is defined as: underemployed part-time workers, jobless persons seeking a job but not immediately available for work and jobless persons available for work but not seeking it.
Mind that the six countries with the highest increases are all Euro-countries. Mind that many of the countries with the lowest increases are non-Euro countries. Don’t misunderstand the graph: non-official unemployment in Latvia has witnessed a (very welcome) decline last year but is still higher than in 2008. Differences in levels between countries are quite large, especially Italy has a very large amount of people who are available for work but not seeking (12,6% of the working force). Anyway – especially in the crisis countries the increase of broad unemployment (i.e. official and non-official unemployment) was (and is) quite a bit higher than the increase of official unemployment. Germany might be the only country where labour slack is starting to diminish, though Eastern and Northern Germany still know large areas with high unemployment. No data for France.
from Lars Syll
Recall [Russell's famous] turkey problem. You look at the past and derive some rule about the future. Well, the problems in projecting from the past can be even worse than what we have already learned, because the same past data can confirm a theory and also its exact opposite …
For the technical version of this idea, consider a series of dots on a page representing a number through time … Let’s say your high school teacher asks you to extend the series of dots. With a linear model, that is, using a ruler, you can run only a single straight line from the past to the future. The linear model is unique. There is one and only one straight line that can project a series of points …
This is what philosopher Nelson Goodman called the riddle of induction: we project a straight line only because we have a linear model in our head — the fact that a number has risen for 1 000 days straight should make you more confident that it will rise in the future. But if you have a nonlinear model in your head, it might confirm that the number should decline on day 1 001 …
The severity of Goodman’s riddle of induction is as follows: if there is no longer even a single unique way to ‘generalize’ from what you see, to make an inference about the unknown, then how should you operate? The answer, clearly, will be that you should employ ‘common sense’.
And economists standardly — and without even the slightest justification — assume linearity in their models …
from David Ruccio
mis•un•der•stand (ˌmɪs ʌn dərˈstænd)
v.t. -stood, -stand•ing.
From: Erwan Mahé (guest post). Emphasis added
Speaking of the ECB’s targets, just a quick aside. Would it be possible to name governors to the ECB who are aware of the central bank’s fundamental and institutional founding goals?
Check out this zinger by Mr Bostjan Jazbeck, the president of the Slovenian central bank since July 2013 and former IMF “expert:
“what the ECB is doing is trying to keep its head above water because of the lack of thorough policies needed to support it.”
“the ECB does not have a mandate to support growth.”
As much as his first statement makes sense, and is consistent with those made by the other ECB governors, the second one leaves me stunned.
On the bright side, this gives me the opportunity to re-quote the relevant ECB statutes, as set forth in the Maastricht Treaty and the Treaty on the European Union:
“Without prejudice to the objective of price stability, the ESCB shall support the general economic policies in the Community with a view to contributing to the achievement of the objectives of the Community as laid down in Article 2.” (Treaty article 105.1).
“The objectives of the Union (Article 2 of the Treaty on European Union) are a high level of employment and sustainable and non-inflationary growth.”
Seriously, Mr Jazbeck, given your recent rise to the pinnacles of monetary policy making, your lack of knowledge of the mission that was confided to the institution of which you are now a leading official is inexcusable. Unless this types of statement is, in reality the reflection of an ideological posture (structural reforms! Structural reforms!) combined with bath faith?
from David Ruccio
The median net worth in the United States is, in real terms, lower today than it was in 1989. Read more…
The European Central Bank is going to buy Asset Backed Securities. The press release contains a remarkable sentence:
To ensure that the programmes can include the whole euro area, ABSs and covered bonds from Greece and Cyprus that are currently not eligible as collateral for monetary policy operations will be subject to specific rules with risk-mitigating measures.
Translation: the ECB will buy junk bonds, too.
Which is the best part of the news (sorry, but the need to drive down broad unemployment rates of 35% in Southern Europe trumps all those ideas about moral hazard and the like. And we’re out of time). But predictably, the Bavarian minister of finance, Markus Söder, has already protested and tried to influence ECB policies as he fears that the ECB runs the risk of becoming a bad bank. He’s wrong. There are valid arguments against thje ECB decision. But his ‘bad bank’ argument is bonkers. Central banks do not get ‘bad’, as shown by the chart below, from Muhammad Bin Ibrahim (see p. 44). HEY, they print the money…
Source. Graph slightly updated. Red: source of vulnerability; yellow: constraint on recovery.
I often explain to students, when I’m teaching economic models, they have to look at what’s happening behind the blackboard—all the implicit mechanisms that allow the models to work as they do.
By the same token, we have to ask, what’s going on behind the unemployment headlines?
The headlines today all trumpet the number of new jobs added in September (248,000), such that the official unemployment rate fell for the first time since August 2008 to below 6 percent (5.9 percent, to be exact).
from Neva Goodwin
Neoclassical economics claims to be based entirely on a view of human nature which is not only morally repugnant, but which also both leaves out a great deal about how people actually do operate, while it brings in seriously contrary-to-fact assumptions about what people are capable of. The latter have included assumptions about consistency (including that preferences change slowly, if at all, and that if A is preferred to B and B is preferred to C, then C cannot be preferred to A); about information (people are able to act as if they have perfect information); about self-knowledge (people know what they want, and are best served by getting what they want); and about influence, or power. The last of these assumptions includes the idea that human wants and preferences are endogenous, generated entirely from within; it ignores the extent to which people’s choices and decisions may be manipulated by those who have an interest in persuading the public to buy certain things, or vote in certain ways. It ignores the reality that market economies are rife with powerful actors who do have such an interest, in both the economic and the political spheres. Read more…
from Peter Radford
A system in motion stays in motion. A system at rest stays at rest.
Good so far.
But: our question is a little more interesting. We want to know how the system began to move. We want to know about those moments of change. When you think about it, or when you’re not a mainstream economist, it is precisely those changes that attract your attention.
In this context it is always hilarious to be reminded of the way in which mainstream economics sees the world. It postulates an economy chugging along merrily following a path smoothly, fully determined by a combination of where it came from and a number of internal factors, and hermetically sealed off from the hurly burly around it.
To make sure that the path is smooth, mainstream theorists get rid of all the nasty stuff that could cause things to misbehave. Like people. Real people are an inconvenience, so they’re kicked out and replaced by a single representative chosen, presumably, for his or her astonishing likeness to economists. Business firms are tossed out as well. They too are represented by a single suitably cleansed and correct representative. The single firm and the single person then interact. Well, that is they interact within the confines of mainstream theory. This means they behave according to a few very simple and specially chosen rules that preclude any cheating, conniving, cooperation, or generally demeaning activity that would discredit an economist. They are also endowed with astonishing powers of calculation. This is probably why they were chosen. I know its why I wasn’t chosen. I don’t know enough, and I am hopeless at all those lightning fast calculations. Were I the representative person inside the mainstream model I would probably send it hurtling off track so quickly it would explode before we all moved more than one time period forward. I am just clueless at knowing my preferences and trying to keep them consistent with what they were a few years ago, or with what they will be a few years hence. And I have a hard time keeping track of my taxes so I have no clue when I should stop buying food in order to save enough to pay them in the future. I think. Read more…
from Lars Syll
In econometrics one often gets the feeling that many of its practitioners think of it as a kind of automatic inferential machine: input data and out comes casual knowledge. This is like pulling a rabbit from a hat. Great — but first you have to put the rabbit in the hat. And this is where assumptions come in to the picture.
The assumption of imaginary “superpopulations” is one of the many dubious assumptions used in modern econometrics, and as Clint Ballinger has highlighted, this is a particularly questionable rabbit pulling assumption:
Inferential statistics are based on taking a random sample from a larger population … and attempting to draw conclusions about a) the larger population from that data and b) the probability that the relations between measured variables are consistent or are artifacts of the sampling procedure.
However, in political science, economics, development studies and related fields the data often represents as complete an amount of data as can be measured from the real world (an ‘apparent population’). It is not the result of a random sampling from a larger population. Nevertheless, social scientists treat such data as the result of random sampling. Read more…
from Dean Baker
The big news item in Washington last week was Attorney General Eric Holder decision to resign. Undoubtedly there are positives to Holder’s tenure as attorney general, but one really big minus is his decision not to prosecute any of the Wall Street crew whose actions helped to prop up the housing bubble. As a result of this failure, the main culprits walked away incredibly wealthy even as most of the country has yet to recover from the damage they caused.
Just to be clear, it is not against the law to be foolish and undoubtedly many of the Wall Streeters were foolish. They likely believed that house prices would just keep rising forever. But the fact that they were foolish doesn’t mean that they didn’t also break the law. It’s likely that most of the Enron felons believed in Enron’s business model. After all, they held millions of dollars of Enron stock. But they still did break the law to make the company appear profitable when it wasn’t.
In the case of the banks, there are specific actions that were committed that violated the law. Mortgage issuers like Countrywide and Ameriquest knowingly issued mortgages based on false information. They then sold these mortgages to investment banks like Citigroup and Goldman Sachs who packaged them into mortgage backed securities. These banks knew that many of the mortgages being put into the pools for these securities did not meet their standards, but passed them along anyhow. And, the bond-rating agencies rated these securities as investment grade, giving many the highest possible ratings, even though they knew their quality did not warrant such ratings. Read more…
Economic Thought - History, Philosophy, and Methodology
An open access, open peer review journal from the World Economics Association
Vol 3, No 2, 2014 Download issue
Reconciling Ricardo’s Comparative Advantage with Smith’s Productivity Theory
Jorge Morales Meoqui 21 abstract
The Theory of the Transnational Corporation at 50+
Grazia Ietto-Gillies 38 abstract
Reply to John Cantwell’s Commentary on Grazia Ietto-Gillies’ paper
Grazia Ietto-Gillies 67 abstract
If ‘Well-Being’ is the Key Concept in Political Economy...
Claudio Gnesutta 70 abstract
from Dean Baker
Bob Kuttner has a good column in the Huffington Post comparing the progress made in improving the living standards of ordinary people in the forty years following the New Deal with the deterioration of the last three decades. However the piece doesn’t go far enough in contrasting the former period with the latter period.
After noting the lack of progress in recent years he comments:
“You wonder why people are turning away from the Democrats’ proposition that affirmative government can buffer people from the vicissitudes of the marketplace? You wonder why millennials are attracted to the libertarian proposition that we’re all on our own anyway?”
Of course the problem of the last three decades is not the “vicissitudes of the marketplace,” but rather deliberate actions by the government to redistribute income from the rest of us to the one percent. This pattern of government action shows up in all areas of government policy. Read more…
from Peter Radford
Because it is pointless adding to an already over stuffed vacuum.
Economics as currently construed is a discussion about a small percentage of all economic activity. It is therefore incapable of making a contribution to improve the daily lives and/or prosperity of people whose lives are not totally included within the purview of its theorized domain.
Herbert Simon estimated that approximately 80% of all economic activity takes place outside of anything resembling the markets that economics talks about. The vast majority of transacting and economic interaction takes place either in the home or at work. These two places are where people come across economic activity more frequently than in markets. They are also two territories that economists rarely, if ever, explore.
And when people do enter a space that looks like a market they do so more often than not as a complete price taker. When was the last time you haggled over the price of toothpaste?
So the stylized markets that so besot economists are merely the edge of economic reality, not the center. Read more…
Via de website of Brad deLong I encountered this wise article about DSGE models from macro-advisors. It’s sometimes rather technical (an AR(1) process is a kind of complicated moving average – or in fact, some weighted moving averages are a simple AR(1) process). It’s important enough to republish it. It starts quiet – but does not end that way.
Much has been made of the failure of modern macroeconomics to predict or understand the Great Recession of 2007–2009. In this MACRO FOCUS, our resident time-series econometrician, James Morley*, explains what is currently meant by “modern” macroeconomics, what is behind its failure, and what can be done to rehabilitate its reputation.
In a recent essay, Narayana Kocherlakota, President of the Federal Reserve Bank of Minneapolis, acknowledged that modern macroeconomics failed during the recent financial crisis. However, his essay misses the point of why it failed. Read more…
2) Time series economics and econometrics is the science of complicated moving averages. It matters a lot which weights are used. Don’t use present day (relative) prices to estimate past economic performance. Or the other way around, as Leandro Prados de las Escosura shows. But where does the past stop and the present begin?
3) It’s starting to dawn upon the Irish what really happened – they did not bail our their banks but foreign creditors.
In the US since 1949 inequality has increased with each expansion, with most gains going to the 1% (2 charts)
from David Ruccio
from Lars Syll
Macroeconomic models may be an informative tool for research. But if practitioners of “New Keynesian” macroeconomics do not investigate and make an effort of providing a justification for the credibility of the assumptions on which they erect their building, it will not fulfill its tasks. There is a gap between its aspirations and its accomplishments, and without more supportive evidence to substantiate its claims, critics will continue to consider its ultimate argument as a mixture of rather unhelpful metaphors and metaphysics. Maintaining that economics is a science in the “true knowledge” business, I remain a skeptic of the pretences and aspirations of “New Keynesian” macroeconomics. So far, I cannot really see that it has yielded very much in terms of realistic and relevant economic knowledge. Read more…