Mittwoch, 28. Januar 2009

Geography of economics: It is the water! or Are we in dark ages?

Will Wilkinson fragte: Was ist mit den Ökonomen los?

What arises in my mind is the strong suspicion that economic theory, as it is practiced and taught at the world’s leading institutions, is so far from consensus on certain fundamental questions that it is basically useless for adjudicating many profoundly important debates about economic policy. One implication of this is that it is wrong to extend to economists who advise policymakers, or become policymakes themselves, the respect we rightly extend to the practitioners of mature sciences. There is a reason extremely smart economists are out there playing reputation games instead of trying to settle the matter by doing better science. The reason is that, on the questions that are provoking intramural trashtalk, there is no science.

Das Problem ist wahrscheinlich, dass viele Ökonomen glauben, dass die neue klassische Makroökonomie versinnbildlicht durch ein "einfaches" Real Business Cycle Model mit klärenden Märkten wahr ist, weil einfache und formal vollständige Modelle "wissenschaftlich" sind. Meineserachtens ist Makroökonomie zumeist etwas voodoo und zauberspruchmäßig. Allerdings auch wichtig und zentral für die Wirtschaftspolitik. Allerdings ist die Wissenschaft weit von den Ingeneuren (die Modelle bauen und verwenden) entfert. Die Lucaskritik führte zu einem Primat der angewandten Theorie (siehe dazu bei Waldmann Cass vs. Prescott), die dadurch glänzt, dass Phänome mit Modifikation des RBC-Modells durch Kalibration erklärt werden können.
Dadurch öffnen sich Gräben zwischen Praktikern, angewandten Theoretikern und Theoretikern; Rechten und Linken Ökonomen. Am Rande angemerkt: Frank Hahn einer der Meister und Verteidiger der Allgemeinen Gleichgewichtstheorie sah immer ihre Grenzen und dachte nicht dass die Allgemeine Gleichgewichtstheorie zur Politikanalyse geeignet sei.

Robert Waldmann unterscheidet zwischen Frischwasserökonomen (Minnesota, Chicago) und Salzwasserökonomen (Havard, MIT, University of California ...) und wird eindeutig:
Arnold Kling has already attempted to explain things to Wilkinson. He obtained a “department of huh?” from Brad DeLong and, for what it’s worth, two extremely intemporate comments from me (one was blocked as suspected spam because I provided to many links to support my claims which suggests something about the intellectual seriousness of comment threads at at least one blog).
While I claim that Kling’s take on the stimulus debate is absolutely inconsistent with facts in the public record which I found with a few minutes of googling, I share his general view on the divisions in the profession. He notes that there is more than one fundamental gulf which means that there isn’t a consensus among economists which would enable the few non economists who respect us to take our advice. I will mention three more just because I want to consider more economists than those discussed by Wilkensen and Kling and not because I think Kling left out anything relevant to his post

Kling discusses the policy advice of macroeconomists (and Fama). Not all economists are macroeconomists who think that it is there job to offer policy advice. He notes two divisioins left and right and fresh water and salt water.

Left and right correspond fairly closely to libertarian vs egalitarian in the US political spectrum, that is, closely to Democratic vs Republican positions on economics (except that there are leading economists well to the left of the Democratic party and well to right of all but the left fringe of the Republican party). It is a fact that, except for general support for free international trade, the range of views of economists is similar to the range of views of congressmen but somewhat broader. This is a wide enough ideological range that the methods of verification used by economists are absolutely unable to force economists on left and right to admit that economists on right and left have a point.

In the field of macroeconomics there is a much deeper division between macroeconomics as practiced at universities closer to the great lakes than to an Ocean (Fresh water economics) and that practiced at universities closer to Oceans (Salt water economics). The geography has shifted some as Fresh water economics has been exported. I’d consider Professor Robert Barro at Harvard to be brackish (with, he reports, noticed salty contamination in the first 6 months after he moved from U. Rochester) and the economics department at the University of Pompeu Fabra (in Barcelona) seems to be distilled. It is a little difficult to explain the disagreement to non economists. Frankly, I think this is because non-economists have difficulty believing that any sane person would take ffresh water economics seriously.

Roughly Fresh water economists consider general equilibrium models with complete markets and symmetric information to be decent approximations to reality. Unless they are specifically studying bounded rationality they assume rational expectations, that everyone knows and has always known every conceivable conditional probability. I’ve only met one economists who claims to believe that people actually do have rational expectations (and I suspect he was joking). However, the fresh water view is that it usually must be assumed that people have rational expectations.

Over near the Great Lakes there is considerable investigation of models in which the market outcome is Pareto efficient, that is, it is asserted that recessions are optimal and that, if they could be prevented, it would be a mistake to prevent them.

Salt water macroeconomics is basically everything else with huge differences between people who attempt to conduct useful empirical research without using formal economic theory and people who note the fundamental theoretical importance of incomplete markets and of asymmetric information and of imperfect competition (as in everything you think you know about general equilibrium theory is known to be false if markets are incomplete or there is asymmetric information or there is imperfect competition – Market outcomes are generically constrained Pareto inefficient which means that everyone can be made better off by regulations imposed by regulators who don’t know anything not known to market participants who also just restrict economic activity and don’t introduce innovations like, say, unemployment insurance).

Leading fresh water macroeconomists include Robert Lucas, Ed Prescott Thomas Sargent, Lars Hansen, John Cochrane, Larry Jones, Robert Barro (mostly), and Kevin Murphy (usually). Leading salt water economists include Paul Samuelson, Edmund Malinvaud, Jacques Dreze, Joseph Stiglitz, Robert Solow, Paul Krugman, Andrei Shliefer, Olivier Blanchard, George Akerlof, Robert Hall, Ben Bernankle, N. Gregory Mankiw, Christina Romer, David Romer and, and Lawrence Summers. Brad DeLong is also a salt water economist and he is very very smart, but last I knew, he was a little too far out there to be really a member of the economists club. I can’t classify Paul Romer.

Notably all of the above have made important contributions to fields other than macroeconomics.

In the US there is a strong correlation between Fresh and Salt and Right and Left. The correlation is not perfect: I understand that Hansen and Sargent are politically left of center. Hall is far right politically, Mankiw is right of center. and I must admit that I have no clue about Bernanke (who I have never actually, you know, seen in the flesh).

An important discrimminant is opinions of John Maynard Keynes. Fresh water macroeconomists generally seem to think that he was not a competent economist. Salt water macroeconomists claim (often implausibly) to be in some way his intellectual followers. Barro for example clearly doesn’t remember what is written in “The General Theory of Employment Interest and Money.” Mankiw, in contrast, advised the students in his macro class (including me) to read it again and again searching for insights.

Interestingly, the fresh water macroeconomists are certain that salt water macro is discredited along the lines of the Ptolomaic model or the Phlogiston hypothesis. For a while they called their models “Modern Business Cycle Theory” stating that all incompatible models were obsolete. In the current debate many have considered it sufficient to say that arguments for the stimulus are nonsense (e.g. Cochrane). The surprisingly low quality of contributions to the debate from the vicinity of Great Lakes has a lot to do with the fact that Fresh Water macroeconomists haven’t thought about fiscal stimulus in decades and sincerely believe that it is an obviously invalid proposal so obvious arguments against it might be valid.

Even more interesting, Fresh water macroeconomists do not claim that their models have not been refuted by the data. Rather they note that all models are, by definition, false. They do test hypotheses from time to time, but don’t explain what the point is. As far as I can understand, they claim that a model *can* be both false and useful and, therefore, their models *are* useful.

I understand that in the 70s and, maybe, the early 80s there was a heated debate between Fresh Water and Salt water macroecnomists. (struck out in original post: Now, it seems to me that there is a truce of sorts where each school of thought ignores the other – that macroeconomists have specialized not in the questions that they ask but in the answers.

I think that this is a very bad situation. Anyone can see that, when top macroeconomists are asked for policy advice, some support each of the different proposals which are under consideration.

Frankly, this truce seems to me to be unilateral. Many salt water economists claim (in public) to respect the contribution of fresh water economists. I know of no fresh water economist who has expressed anything but contempt for the contributions of salt water economists to the stimulus debate and I haven’t heard one word of praise of a Salt Water economist from a Fresh water macroeconomist other than Arrow, Samuelson or Solow. I added the phrase “in public” because I clearly remember one of the salt water economists on my list refer to the fresh water economists as “the crazies”.)

update: The truce is over. There have been continual cease fire offensives, but the shrill blitzkreig is here.

As far as I can tell, fresh water economists have some respect for some thinkers other than fresh water economists. I think they have rather a favorable view of mathematicians and Physicists. I think it would be useful of mathematicians and physicists to look into fresh water macro and express an opinion. On the other hand, in principle they have great respect for general equilibrium theory, but they don’t listen to general equilibrium theorists at all. Top general equilibrium theorists are all at least left of center politically, the closest David Cass could come to naming an exception is Ed Prescott who, he said, uses general equilibrium theory and studies examples (snort).

Finally I have a view of how people can devote so much effort to working out the implications of assumptions which almost no ordinary people would find other than nonsensical if they understood them. Fresh water economics uses difficult mathematical tools. Students in fresh water graduate programs have to learn a huge amount of math very fast. It is not possible to do so if one doesn't set aside all doubt as to the validity of the approach. Once the huge investment has been made it is psychologically difficult to decide that it was wasted. Hence the school gets new disciples by forcing students to follow extremely difficult courses. Last I hear very few graduate students at U Minnesota came from the USA. Undergrads over there know what the program is like. If my information is not out of date, innocents from abroad are the new blood of fresh water economics.

Update: Krugman über das "Dark Age of Macroeconomics". DeLong macht sich Gedanken über "What are Chicago Economist thinking?" und Arnold Kling meint obwohl er politisch nicht folgen könnte wäre er doch nächer an Krugman und DeLong.

Update II: Auf Angry Bear gibt rdan Aufklärung über die Frischwasser - Salzwasser unterscheidung (auch für die zu spät geborenen):
A background for the non economists concerning freshwater and saltwater economists harks back to 1976 when Robert Hall christened the central schism in macroeconomic thought as being between the freshwater and saltwater schools. The division was picked by their location (on the Great Lakes and Rivers versus the coastal schools). The division exists today – and indeed is being played out in Krugman’s (saltwater) blog and by the Chicago economists who think he is a bozo idiot.

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