Home > New vs. Old Paradigm > Brad DeLong and the true nature of neoclassical economics

Brad DeLong and the true nature of neoclassical economics

from Lars Syll

I think that modern neoclassical economics is in fine shape as long as it is understood as the ideological and substantive legitimating doctrine of the political theory of possessive individualism. As long as we have relatively-self-interested liberal individuals who have relatively-strong beliefs that things are theirs, the competitive market in equilibrium is an absolutely wonderful mechanism for achieving truly extraordinary degree of societal coordination and productivity. We need to understand that. We need to value that. And that is what neoclassical economics does, and does well.

Of course, there are all the caveats to Arrow-Debreu-Mackenzie:

adb_poster_red_kickitover1   The market must be in equilibrium.
2   The market must be competitive.
3   The goods traded must be excludable.
4   The goods traded must be non-rival.
5   The quality of goods traded and of effort delivered must be known, or at least bonded, for adverse selection and moral hazard are poison.
6   Externalities must be corrected by successful Pigovian taxes or successful Coaseian carving of property rights at the joints.
7   People must be able to accurately calculate their own interests.
8   People must not be sadistic–the market does not work well if participating agents are either the envious or the spiteful.
9   The distribution of wealth must correspond to the societal consensus of need and desert.
10 The structure of debt and credit must be sound, or if it is not sound we need a central bank or a social-credit agency to make it sound and so make Say’s Law true in practice even though we have no reason to believe Say’s Law is true in theory.

Brad DeLong

An impressive list of caveats indeed. Not very much value left of “modern neoclassical economics” if you ask me …

what ifStill — almost a century and a half after Léon Walras founded neoclassical general equilibrium theory — “modern neoclassical economics” hasn’t been able to show that markets move economies to equilibria.

We do know that — under very restrictive assumptions — equilibria do exist, are unique and are Pareto-efficient. One however has to ask oneself — what good does that do?

As long as we cannot show, except under exceedingly special assumptions, that there are convincing reasons to suppose there are forces which lead economies to equilibria — the value of general equilibrium theory is negligible. As long as we cannot really demonstrate that there are forces operating — under reasonable, relevant and at least mildly realistic conditions — at moving markets to equilibria, there cannot really be any sustainable reason for anyone to pay any interest or attention to this theory.

A stability that can only be proved by assuming “Santa Claus” conditions is of no avail. Most people do not believe in Santa Claus anymore. And for good reasons. Santa Claus is for kids, and general equilibrium economists ought to grow up.

Continuing to model a world full of agents behaving as economists — “often wrong, but never uncertain” — and still not being able to show that the system under reasonable assumptions converges to equilibrium (or simply assume the problem away) is a gross misallocation of intellectual resources and time.

And then, of course, there is Sonnenschein-Mantel-Debreu!

So what? Why should we care about Sonnenschein-Mantel-Debreu?

Because  Sonnenschein-Mantel-Debreu ultimately explains why “modern neoclassical economics” — New Classical, Real Business Cycles, Dynamic Stochastic General Equilibrium (DSGE) and “New Keynesian” — with its microfounded macromodels are such bad substitutes for real macroeconomic analysis!

These models try to describe and analyze complex and heterogeneous real economies with a single rational-expectations-robot-imitation-representative-agent. That is, with something that has absolutely nothing to do with reality. And — worse still — something that is not even amenable to the kind of general equilibrium analysis that they are thought to give a foundation for, since Hugo Sonnenschein (1972) , Rolf Mantel (1976) and Gerard Debreu (1974) unequivocally showed that there did not exist any condition by which assumptions on individuals would guarantee neither stability nor uniqueness of the equlibrium solution.

Opting for cloned representative agents that are all identical is of course not a real solution to the fallacy of composition that the Sonnenschein-Mantel-Debreu theorem points to. Representative agent models are — as I have argued at length here — rather an evasion whereby issues of distribution, coordination, heterogeneity — everything that really defines macroeconomics — are swept under the rug.

Instead of real maturity, we see that general equilibrium theory possesses only pseudo-maturity.kornai For the description of the economic system, mathematical economics has succeeded in constructing a formalized theoretical structure, thus giving an impression of maturity, but one of the main criteria of maturity, namely, verification, has hardly been satisfied. In comparison to the amount of work devoted to the construction of the abstract theory, the amount of effort which has been applied, up to now, in checking the assumptions and statements seems inconsequential.

 

  1. Aaron
    January 18, 2015 at 4:12 pm

    I hear a lot of criticism of mainstream economics these days, but have yet to see any ground breaking theory or papers that demonstrate a better understanding of how the economy functions. At one time I was strongly on the band wagon of heterodox economic, but found little value in them in terms of useful analysis. I agree that mainstream economics relies on overly complicating mathematical models that require too many assumptions to hold any predictive value. But instead of just criticism, how about educating us on who you think is doing the kind of analysis that is useful and what their theories are. It would be more helpful to point is the right direction than just declaring how lost we are.

    • merijnknibbe
      January 18, 2015 at 5:11 pm

      Dear Aaron,

      Some highly useful heterodox consistent alternatives:

      When it comes to modelling you might look here to input output analysis: http://ec.europa.eu/eurostat/web/environment/material-flows-and-resource-productivity MInd that these are ‘material flows accounts’. Though input-output analysis is not restricted to material flows, neoclassical models do not enable any modelling of such flows.

      You might also want to look at stok flow consistent modelling, i.e. modelling which takes accounting serious. Here a recent example: http://www.boeckler.de/pdf/v_2014_10_30_meijers_muysken_sleijpen.pdf

      With regard to consumer theory: read any textbook on consumer behavior. These textbooks are explicit about inequality, culture and even theology and poverty. But do not use neoclassical utility – as it does not work. http://www.amazon.com/Consumer-Behavior-Edition-Michael-Solomon/dp/0132671840

      The point: the examples I show above (and believe me: the list is much longer) are from respected institutes (Eurostat), unlike neoclassical economics consistent with accounting (profit and loss statements, balance sheets) or widely used by companies (unlike neoclassical models). Neoclassical economics is the odd man out. Not heterodox economics.

  2. charlie
    January 18, 2015 at 9:57 pm

    Costanza, Daly … other ecological economists. A whole symphony of systems trained scientists. Humans are part of the living natural systems not the exploiters of all life as we have come to believe ourselves.

    the-economics-of-nature-and-the-nature-of-economics-1st-edition

  3. Allan Sleeman
    January 18, 2015 at 10:29 pm

    In the SMD paragraph I think you meant “either … or” not “neither … nor.” We all do this kind of thing because English sentences with negatives are tricky.

    • Dave Raithel
      January 19, 2015 at 1:20 pm

      That’s what I thought, but I’ve seen the exact sentence before – in fact, I believe this piece excerpting De Long is a re-post. Which is not to say it isn’t worth re-reading. More than once.

  4. January 19, 2015 at 11:27 am

    Dear Aaron the field of social sciences are the most complex phenomenoms to understanding. you can easily understand how the body works because you can see the system that makes it work.but there can never be any paper that can show how the economy works because this is something that no one can see. it all has to do with human behavior that is unpredictable. if human behavior was predictable and controllable like the sciences then there can be a groundbreaking paper that can show how the entire economy works. The primary focus on reforming economics is to find ways of making it practical. economics and medicine all have the same goal. if medicine is practical i see no reason why economics shouldnt. Reforming economics involves creating ways of making it practical and in my candid opinion i think all past old theories and models should be done away with. the sciences always come up with new advances to solve modern problems unfortunately economics still uses theories and models that are 200 years old in this modern time that needs new modern theories and models to solve economic problems.We need new relevant practicable theories and models that aims to solve present economic problems and stop using past irrelevant ones

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