Seven sins of economics

September 26, 2017 1 comment

from Lars Syll

There has always been some level of scepticism about the ability of economists to offer meaningful predictions and prognosis about economic and social phenomenon. That scepticism has heightened in the wake of the global financial crisis, leading to what is arguably the biggest credibility crisis the discipline has faced in the modern era.

Some of the criticisms against economists are misdirected. But the major thrust of the criticisms does have bite.

There are seven key failings, or the ‘seven sins’, as I am going to call them, that have led economists to their current predicament. These include sins of commission as well as sins of omission.

Sin 1: Alice in Wonderland assumptions

The problem with economists is not that they make assumptions. After all, any theory or model will have to rely on simplifying assumptions … But when critical assumptions are made just to circumvent well-identified complexities in the quest to build elegant theories, such theories will simply end up being elegant fantasies.

Sin 2: Abuse of modelling

What compounds the sin of wild assumptions is the sin of careless modelling, and then selling that model as if it were a true depiction of an economy or society …

Sin 3: Intellectual capture

Several post-crisis assessments of the economy and of economics have pointed to intellectual capture as a key reason the profession, as a whole failed, to sound alarm bells about problems in the global economy, and failed to highlight flaws in the modern economic architecture …   Read more…

Same Old

September 26, 2017 1 comment

from Peter Radford

Allow me to break my silence for a moment and comment on David Brook’s latest apology for the status quo. I realize others have already done so, but I feel compelled to add to the discussion.

First: by way of explanation for my absence. I have been busy elsewhere, and especially busy looking at the future of the workplace.

Second: it is because of this detour that I want to take a shot at Brooks.

Let’s recapitulate Brook’s argument. He takes a look at the last couple of years and extrapolates. He want to debunk that argument that the American economy faces a crisis of distribution, and replace that problem with another: America has a productivity problem.

Why is this important?

Because has become a totem of both right and left sided populists that the economy is failing to generate opportunity, income, and security for the vast middle class. It has become commonplace for us to read about the decline and/or disappearance of that famous center of economic and social gravity. This is especially true in the aftermath of the Great Recession of 2008, and the subsequent glacial pace of recovery.

If it is true that the economy has been rigged in favor of a few — the much criticized 1% and big business — then populists of all stripes have a good case and the debate becomes one of how to divide the spoils of growth more equitably.

If, on the other hand, distribution is not the issue, but the problem is the deeper one of growth itself then the debate can be shifted by the likes of Brooks back onto their preferred territory.  Read more…

We need to talk about how female economists are treated

September 25, 2017 3 comments

from Caroline Freund

When I was an undergraduate studying economics in the 1980s, I got an early lesson in how men view women in the workforce. I was writing a thesis about the well-known phenomenon of women being paid less than men for the same jobs. One of my professors challenged the basic premise that bias was a possible reason for the wage gap. If women really did get paid less for the same work, he argued, a smart company would hire all women and undercut its competitors.

No female professor would have made such a zealous claim. But I was never taught by a female economics professor. It is no surprise since economics has traditionally been the social science with the lowest share of women. Even today, less than 15 percent of full professors in economics at universities are women.

A remarkable new paper by a female student at Berkeley showed this summer that the problem in economics is so deep that it borders on misogyny. The study explores the terms used most frequently in posts about women and men from an online forum designed to share job information among economics graduate students. Posts about women include words like “hotter”, “lesbian”, “bb”, and “tits”. In contrast, posts about men are more neutral, using terms like “advisor” or “Wharton,” the name of a leading business school.

While the website is known to be crude, and represents only a tiny fraction of economists, it is raising awareness about the treatment of women in economics. Women rarely glimpse such direct hostility—the more common and related manifestation is being excluded from the meetings and social gatherings, where research partnerships are made and promotions are decided.  read more

Missing the point — the quantitative ambitions of DSGE models

September 25, 2017 Leave a comment

from Lars Syll

A typical modern approach to writing a paper in DSGE macroeconomics is as follows:

o to establish “stylized facts” about the quantitative interrelationships of certain macroeconomic variables (e.g. moments of the data such as variances, autocorrelations, covariances, …) that have hitherto not been jointly explained;

o to write down a DSGE model of an economy subject to a defined set of shocks that aims to capture the described interrelationships; and

o to show that the model can “replicate” or “match” the chosen moments when it is fed with stochastic shocks generated by the assumed shock process …

reality-check_600_441_80However, the test imposed by matching DSGE models to the data is problematic in at least three respects:

First, the set of moments chosen to evaluate the model is largely arbitrary …

Second, for a given set of moments, there is no well-defined statistic to measure the goodness of fit of a DSGE model or to establish what constitutes an improvement in such a framework …

Third, the evaluation is complicated by the fact that, at some level, all economic models are rejected by the data … In addition, DSGE models frequently impose a number of restrictions that are in direct conflict with micro evidence. If a model has been rejected along some dimensions, then a statistic that measures the goodness-of-fit along other dimensions is meaningless …

Focusing on the quantitative fit of models also creates powerful incentives for researchers (i) to introduce elements that bear little resemblance to reality for the sake of achieving a better fit (ii) to introduce opaque elements that provide the researcher with free (or almost free) parameters and (iii) to introduce elements that improve the fit for the reported moments but deteriorate the fit along other unreported dimensions.

Albert Einstein observed that “not everything that counts can be counted, and not everything that can be counted counts.” DSGE models make it easy to offer a wealth of numerical results by following a well-defined set of methods (that requires one or two years of investment in graduate school, but is relatively straightforward to apply thereafter). There is a risk for researchers to focus too much on numerical predictions of questionable reliability and relevance that absorb a lot of time and effort rather than focusing on deeper conceptual questions that are of higher relevance for society.

Anton Korinek

Read more…

Economics as science in the world of great power politics (1800-present)

September 24, 2017 8 comments

from Robert Locke

Recently there has been a spate of postings and comments in the rwer blog about economics as science; they invariably deal with the relative degree of autism of orthodox economics along the lines that originally spawned the post-autistic economics movement, the rwer and the blog. The subject debated is the relative failure of an economics discipline based on the behavior of individuals in markets to guide policy formulation in the real world.

For historians the birth of classical economics emerged from the great London-centered international trade emporium that developed between 1750-1875.  Without the emporium classical economics would not have come into existence or have made a major contribution itself to the development of the emporium. But, as I wrote in an essay published in the rwer (2012),

“If the historian’s attention shifts from the British Imperial emporium to late eighteenth and early nineteenth century central Europe, he/she finds people preoccupied with a different set of problems that developed into different types of economic postulates from those that preoccupied classical economists as they set economics off on its long journey.  The era of the French Revolution and Napoleon amounted to thirty years of upheaval that brought kingdoms and empires low, and abolished principalities and city states.  Survival of political entities became the problematic.”

The question I raise concerns the ability of a science that stemmed from the British Imperial emporium to explain the economic basis of great power politics, which has been a principal preoccupation of people since 1800.   Read more…

Protest this!

September 23, 2017 6 comments

from David Ruccio

Back in 2011, thousands of Chilean students participated in protests against the high cost of higher education. The most famous took place in front of La Moneda, the president’s palace, dancing to Michael Jackson’s “Thriller.”

According to the latest statistics from the OECD report, “Education at a Glance 2017,” the costs of a college education in Chile were still very high in 2015-16.

But they’re still not as high as in the United States, where it costs more to go to college than anywhere else in the world.

Of the 35 member countries in the OECD, the United States has the highest average tuition at both public and private colleges, for Bachelor’s as well as Master’s degrees.

Public-B

Average public tuition in the United States for a Bachelor’s degree is $8,202 annually, compared to Chile’s $7,654, the country with the second-highest tuition cost.  Read more…

Why, to the detriment of the economics profession, MiltonFriedman ignored Hyman Minsky’s advice

September 22, 2017 4 comments

kooWeird: fifty years after Schumpeter and one hundred years after John Stuart Mill they did not mention ‘credit’. Let alone ‘private credit’. Mill’s idea that private credit creation often decisively contributes to bubbles, and bursts, is absent from the whole thing. The Schumpeterian idea that credit financed investments lead to economic growth (and monetary changes) is alien to their concept. Even the Irving Fisher idea that there are different kinds of money with different kinds of velocity is not really incorporated while the sectoral approach which is part and parcel of the main system of monetary statistics, the Flow of Funds, is not even mentioned. And Minsky’s clear warning that stocks of private debts are pivotal in engendering the deep depressions central to their analysis was bluntly ignored. Read more…

Putting predictions to the test

September 21, 2017 11 comments

from Lars Syll

tetIt is the somewhat gratifying lesson of Philip Tetlock’s new book that people who make prediction their business — people who appear as experts on television, get quoted in newspaper articles, advise governments and businesses, and participate in punditry roundtables — are no better than the rest of us. When they’re wrong, they’re rarely held accountable, and they rarely admit it, either. They insist that they were just off on timing, or blindsided by an improbable event, or almost right, or wrong for the right reasons. They have the same repertoire of self-justifications that everyone has, and are no more inclined than anyone else to revise their beliefs about the way the world works, or ought to work, just because they made a mistake. No one is paying you for your gratuitous opinions about other people, but the experts are being paid, and Tetlock claims that the better known and more frequently quoted they are, the less reliable their guesses about the future are likely to be. The accuracy of an expert’s predictions actually has an inverse relationship to his or her self-confidence, renown, and, beyond a certain point, depth of knowledge. People who follow current events by reading the papers and newsmagazines regularly can guess what is likely to happen about as accurately as the specialists whom the papers quote. Our system of expertise is completely inside out: it rewards bad judgments over good ones.

The New Yorker

Mainstream neoclassical economists often maintain – usually referring to the methodological individualism of Milton Friedman — that it doesn’t matter if the assumptions of the models they use are realistic or not. What matters is if the predictions are right or not. But, if so, then the only conclusion we can make is — throw away the garbage! Because, oh dear, oh dear, how wrong they have been!  Read more…

Water, health and wealth

September 20, 2017 2 comments

Nava Ashraf, Edward Glaeser, Abraham Holland, Bryce Millett Steinberg  NBER Working Paper No. 23807

Providing clean water requires maintenance, as well as the initial connections that are typically measured. Frequently, the water supply fails in the developing world, especially when users don’t pay the marginal cost of water. This paper uses the timing of frequent, unexpected water service outages in Lusaka, Zambia to identify the short-term impacts of piped water access on contagious disease, economic activity and time use. We use microdata from the primary water utility in the city on the timing and location of supply complaints to identify outages, matched to extensive administrative data across the city. Conditional on fixed effects for time and water service district within Lusaka, we find that increases in outages are associated with increased incidence of diarrheal disease, upper respiratory infections, typhoid fever and measles. We match outages to geolocated microdata on financial transactions from the largest mobile money provider in Zambia, and find that outages cause a reduction in financial transactions. Outages also increase the time that young girls spend at their chores, possibly at the expense of time they spend doing schoolwork. Imperfect infrastructure appears to burden the poor in ways that go far beyond obvious health consequences.

 

Acid rain, health and government policy

September 20, 2017 1 comment

A recent meme of the fact free right in my country (the Netherlands) is the idea that the Acid Rain problem spontaneously disappeared. It didn’t. It was the government, stupids! And it is a really serious problem which did and does require attention. Source
acid

Break this!

September 20, 2017 6 comments

from David Ruccio

wages-productivity

David Brooks should have left well enough alone.

Read more…

The institutional approach to labor economics

from Maria Alejandra Madi

The economist John R. Commons is considered one of the founding fathers of institutional economics. He played a leading role in the developing of the labor economics field by establishing some core principles in his book Institutional Economics: Its Place in Political Economy (1934). Besides, as Kenneth Boulding (1957) stated, Commons’ ideas as a social reformer were very influential in shaping the New Deal and the American labor legislation and social security toward a welfare state.

It is worth noting that some generations of institutionalists in labor economics can be identified since then (Champlin and Knoedler, 2004). After the first generation of Commons and the Wisconsin School, the second generation emerged in the 1950s and included those economists, such as John Dunlop and Neil Chamberlain, who rejected standard economic textbooks and emphasized the role of institutional rules in structuring labor markets and industrial relations. Afterwards, the third generation focused on structural unemployment (e.g., Charles Killignsworth), segmented labor markets (e.g., Michael Piore). This generation also included post-Keynesian economists, such as Eillen Appelbaum.  From 1980 to the present, the fourth generation has been broadened in order to include contiguous fields and new methods of research. Institutionalism has been broadened further to include the new perspective of Ronald Coase and Oliver Williamson that has informed research and model building based on the concept of transaction cost.

Despite de differences between generations, which are the elements that explain the institutionalist labor approach?     read more

Stiglitz and the full force of Sonnenschein-Mantel-Debreu

September 19, 2017 18 comments

from Lars Syll

In his recent article on Where Modern Macroeconomics Went Wrong, Joseph Stiglitz acknowledges that his approach “and that of DSGE models begins with the same starting point: the competitive equilibrium model of Arrow and Debreu.”

This is probably also the reason why Stiglitz’ critique doesn’t go far enough.

It’s strange that mainstream macroeconomists still stick to a general equilibrium paradigm more than forty years after the Sonnenschein-Mantel-Debreu theorem — SMD — devastatingly showed that it  is an absolute non-starter for building realist and relevant macroeconomics:

SMD theory means that assumptions guaranteeing good behavior at the microeconomic level do not carry over to the aggregate level or to qualitative features of the equilibrium …

24958274Given how sweeping the changes wrought by SMD theory seem to be, it is understandable that some very broad statements about the character of general equilibrium theory were made. Fifteen years after General Competitive Analysis, Arrow (1986) stated that the hypothesis of rationality had few implications at the aggregate level. Kirman (1989) held that general equilibrium theory could not generate falsifiable propositions, given that almost any set of data seemed consistent with the theory …

S. Abu Turab Rizvi

Read more…

Debates in economics

September 18, 2017 6 comments

“Profits above morals and humanity”

September 17, 2017 4 comments

from David Ruccio

fredgraph

Back in June, Kim Hemphill, in her letter to the editor of the Washington Post, challenged pharmaceutical industry claims that it must charge high prices on lifesaving drugs to recover research and development costs.

The case detailed in the June 11 Business article “Max’s best hope costs $750,000” was yet another example of how the pharmaceutical industry continues to put profits above morals and humanity. . .

Research and development costs are a part of the business pharmaceutical companies are in and should have little, if any, bearing on the ultimate price of a drug. What they charge for these specialty drugs is profit-motivated price gouging, plain and simple.

The fact is, as is clear from the chart above, pharmaceutical prices (at the wholesale level) have risen since 1981 at a much faster rate than for all commodities—more than 7 times compared to just two.

Most people, like Ms. Hemphill, think this is a case of “profit-motivated price gouging” on the part of drug companies. But it’s a difficult charge to prove.

Until now.  Read more…

Where modern macroeconomics went wrong

September 16, 2017 6 comments

from Lars Syll

DSGE models seem to take it as a religious tenet that consumption should be explained by a model of a representative agent maximizing his utility over an infinite lifetime without borrowing constraints. Doing so is called micro-foundingthe model. But economics is a behavioral science. If Keynes was right that individuals saved a constant fraction of their income, an aggregate model based on that assumption is micro-founded.FRANCE-US-ECONOMY-NOBEL-STIGLITZOf course, the economy consists of individuals who are different, but all of whom have a finite life and most of whom are credit constrained, and who do adjust their consumption behavior, if slowly, in response to changes in their economic environment. Thus, we also know that individuals do not save a constant fraction of their income, come what may. So both stories, the DSGE and the old-fashioned Keynesian, are simplifications. When they are incorporated into a simple macro-model, one is saying the economy acts as if… And then the question is, which provides a better description; a better set of prescriptions; and a better basis for future elaboration of the model. The answer is not obvious. The criticism of DSGE is thus not that it involves simplification: all models do. It is that it has made the wrong modelling choices, choosing complexity in areas where the core story of macroeconomic fluctuations could be told using simpler hypotheses, but simplifying in areas where much of the macroeconomic action takes place.

Joseph Stiglitz

Stiglitz is, of course, absolutely right.   Read more…

Adults in the room: The sordid tale of Greece’s battle against austerity and the Troika

September 16, 2017 9 comments

from Dean Baker

Yanis Varoufakis begins his account of his half year as Greece’s finance minister in the left populist Syriza government (Adults in the Room, Farrar, Straus, and Giroux) with a description of a meeting with Larry Summers. According to Varoufakis, Summers explains that there are two types of politicians. There are those who are on the inside and play by the rules. They can just occasionally accomplish things by persuading others in the room to take their advice.

Then there is the other type of politician, those who don’t agree to the rules and will never get anywhere. Summers asks Varoufakis which type of politician he is.

We don’t know what answer Varoufakis gave to Summers, but he wastes no time telling us he is the second type. He is committed to accomplishing something for his people, most immediately the people of Greece in the struggle to end mindless austerity, but ultimately the people of Europe and arguably the world, in an effort to fight against needlessly cruel economic policies. If this means breaking with the decorum of the elites, so be it.  Read more…

How do you like them facts?

September 15, 2017 Leave a comment

from David Ruccio

wage-inequality

Apologists for mainstream economics (such as Noah Smith) like to claim that things are OK because good empirical research is crowding out bad theory.  Read more…

Rethinking expectations

September 14, 2017 5 comments

from Lars Syll

The tiny little problem that there is no hard empirical evidence that verifies rational expectations models doesn’t usually bother its protagonists too much. Rational expectations überpriest Thomas Sargent has defended 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.”

Precise, yes, but relevant and realistic? I’ll be dipped!

In their attempted rescue operations, rational expectationists try to give the picture that only heterodox economists like yours truly are critical of the rational expectations hypothesis.

But, on this, they are, simply … eh … wrong.

Let’s listen to Nobel laureate Edmund Phelps — hardly a heterodox economist — and what he has to say (emphasis added):   Read more…

Welfare for Wall Street: fees on retirement accounts

September 14, 2017 4 comments

from Dean Baker

Most of us are willing to help out those who are less well off. Whether it comes from religious belief or a sense of basic decency we feel are an obligation to provide the basic necessities of life for the poor. But how would we feel about being taxed $1,000 a year to provide six figure salaries to people in the financial sector? Although no candidate to my knowledge has ever run on this platform, this is the nature of the retirement system the federal government has constructed for us.

Twenty or 30 years ago, most middle-class workers had defined benefit pensions. This meant that they could count on a fixed benefit that was some fraction of their average salary during their working years. For example, a person who spent 30 years at a company may be entitled to a pension that was equal to 60 percent of their average salary over their final five years of work.

With a defined benefit pension system, most of the risk was born by the employer. The worker did not have to worry about the stock market being down when she chose to retire. Nor did it matter to her if the pension made bad investment choices; the employer was liable for the promised benefits, unless it went bankrupt.

The virtues of the defined pension system can be exaggerated, although recent researchindicates it provided more retirement income than we had recognized. Workers who changed jobs frequently or worked part-time rarely qualified for pension coverage. This excluded many women, African American and Latino workers. But for those who were eligible the defined benefit system provided a substantial degree of retirement security.

Read more…