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The microfoundations crusade

from Lars Syll

I think the two most important microfoundation led innovations in macro have been intertemporal consumption and rational expectations. I have already talked about the former in an earlier post … [s]o let me focus on rational expectations …  [T]he adoption of rational expectations was not the result of some previous empirical failure. Instead it represented, as Lucas said, a consistency axiom …

UnknownI think macroeconomics today is much better than it was 40 years ago as a result of the microfoundations approach. I also argued in my previous post that a microfoundations purist position – that this is the only valid way to do macro – is a mistake. The interesting questions are in between. Can the microfoundations approach embrace all kinds of heterogeneity, or will such models lose their attractiveness in their complexity? Does sticking with simple, representative agent macro impart some kind of bias? Does a microfoundations approach discourage investigation of the more ‘difficult’ but more important issues? Might both these questions suggest a link between too simple a micro based view and a failure to understand what was going on before the financial crash? Are alternatives to microfoundations modelling methodologically coherent? Is empirical evidence ever going to be strong and clear enough to trump internal consistency? These are difficult and often quite subtle questions that any simplistic for and against microfoundations debate will just obscure.

Simon Wren-Lewis

On this argumentation I would like to add the following comments: 

(1) The fact that Lucas introduced rational expectations as a consistency axiom is not really an argument to why we should accept it as an acceptable assumption in a theory or model purporting to explain real macroeconomic processes (see e. g. Robert Lucas, rational expectations, and the understanding of business cycles).

(2) “Now virtually any empirical claim in macro is contestable” Wren-Lewis writes. Yes, but so is virtually also any claim in micro (see e. g. When the model is the message – modern neoclassical economics).

(3) To the two questions “Can the microfoundations approach embrace all kinds of heterogeneity, or will such models lose their attractiveness in their complexity?” and “Does sticking with simple, representative agent macro impart some kind of bias?” I would unequivocally answer yes (I have given the reasons why e. g. in David Levine is totally wrong on the rational expectations hypothesis  so I will not repeat the argumentation here).

(4) “Are alternatives to microfoundations modelling methodologically coherent?” Well, I don’t know. But one thing I do  know, is that the kind of miocrofoundationalist macroeconomics that New Classical economists in the vein of Lucas and Sargent and the so-called New Keynesian economists in the vein of Mankiw et consortes are pursuing , are not methodologically coherent (as I have argued e. g. in What is (wrong with) economic theory?) And that ought to be rather embarrassing for those ilks of macroeconomists to whom axiomatics and deductivity are the hallmark of science tout court.

  1. Paul Davidson
    June 21, 2018 at 1:13 am

    If you want to see the microfoundations of Keynes’ General Theory, read my textbook entitled POST KEYNESIAN MACROECONONIC THEORY: A FOUNDATION FOR SUCCESSFUL ECONOMIC POLICIES FOR THE TWENTY-FIRST CENTURY.

    Paul Davidson.

  2. tyillc
    June 21, 2018 at 1:27 am

    Macroeconomics has a major problem. It doesn’t have a theory that explains or successfully predicts financial crises. By definition, this leaves a major hole in its models.

  3. Frank Salter
    June 21, 2018 at 11:56 am

    Does not this blog perpetuate the category error of the original quotation. That is, that inter-temporal consumption and rational expectations are foundational. They are merely assumptions from which hypotheses/models have been created. If failing to match the empirical evidence led to the recognition that the assumptions are wrong, and therefore the underlying thinking should be permanently rejected, then economic analysis would be able to progress.

    The true axioms, not simple assumptions, are the correct micro-foundations which need to be applied. When this has been done, a coherent picture of macro-economics will emerge.

    The true hallmarks of genuine science are first principles analysis based on real axioms and falsification to eliminate the dross.

  4. June 21, 2018 at 4:58 pm

    Lars Syll:
    (4) “Are alternatives to microfoundations modelling methodologically coherent?” Well, I don’t know.

    Has Lars Syll really searched alternatives to neoclassical microeconomics microfoundations? Probably he has not. If he has, he could have suggested one or two hopeful challenges.

    I do not believe that a simple reinterpretation of Keynes’s General Theory can produce a coherent system of economics. General Theory is based on Marshall’s microeconomics (a kind of neoclassical economics, even if it has some more realistic aspects than Walrasian economics). It is necessary to change the very foundation of economics, in other words, to change price theory itself. Such a new price theory will be a modern version of classical theory of value (in particular, Ricardo’s cost-of-production theory of value).

    I have described a simple scheme in my paper: The Revival of the classical theory of values. More detailed explanation is given in chapter 2 “A large economic system with minimally rational agents” in our fourth coming book (co-authored with Morioka and Taniguchi) Microfoundantions of Evolutionary Economics. Those who want to read a draft of the chapter, please send me the e-mail address to y@shiozawa.net. I will send them a pdf of the chapter.

  5. charlie
    June 21, 2018 at 7:47 pm

    non sequitor … what in the world to the Teutonic Knights ex Alexander Nevskii have to do with microfoundations crusade ? LOL ( i get it the Knights attacking Russia Orthodoxy or something like that oh and they were soundly defeated on the ICE) Weill it did get my attention

  6. Craig
    June 21, 2018 at 10:05 pm

    Look at the micro-foundational tool of double entry bookkeeping, decipher the digital and economic significances to be found within it and within the pricing and money systems and then play out the temporal universe effects of the policies I’ve posted about here….and voila!

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