What to do to make economics a relevant and realist science

8 Jul, 2014 at 16:04 | Posted in Economics | 17 Comments



The other day yours truly wrote re Krugman‘s dangerous neglect of methodological reflection:

The financial crisis of 2007-08 and its aftermath definitely shows that something has gone terribly wrong with our macroeconomic models, since they obviously did not foresee the collapse or even make it conceivable … Modern mainstream macroeconomics obviously did not anticipate the enormity of the problems that unregulated ‘efficient’ financial markets created. Why? Because it builds on the myth of us knowing the ‘data-generating process’ … Mainstream macroeconomists … want to be able to use their hammer. They decide to pretend that the world looks like a nail and that uncertainty can be reduced to risk. So they construct their mathematical models on that assumption–and the ensuing results are financial crises and economic havoc.

Now Brad DeLong earlier today commented on my critique:

OK … Suppose we decide that we are no longer going to: Pretend that agents — or economists — know the data-generating process… Recognize that people are not terribly committed to Bayesianism -– that they do not model probabilities as if they have well-defined priors and all there is is risk… What do we then do –- what kind of economic arguments do we make–once we have made those decisions?

“What do we then do?” The despair heard in the question reminds me of the first time I met Phil Mirowski. It was twenty years ago, and he had been invited to give a speech on themes from his book More Heat than Light at my economics department in Lund, Sweden. All the neoclassical professors were there. Their theories were totally mangled and no one — absolutely no one — had anything to say even remotely reminiscent of a defense. Being at a nonplus, one of them, in total desperation, finally asked “But what shall we do then?”

Moments like that you never forget. It has stayed with me for all these years. The emperor turned out to be naked.

What shall neoclassical economists do when the modeling assumptions made are shown to be harmful and not even remotely matching reality?

What shall neoclassical economists do when university students all over Europe and US are increasingly beginning to question if the kind of economics they are taught — mainstream neoclassical economics — really is of any value — and some even question if economics really is a science at all?

How do we re-establish credence and trust in economics as a science?

I think five changes are absolutely decisive if we want to rethink economics and make it a truly pluralist, relevant and realist science:

(1) Stop pretending that we have exact and rigorous answers on everything. Because we don’t. We build models and theories and tell people that we can calculate and foresee the future. But we do this based on mathematical and statistical assumptions that often have little or nothing to do with reality. By pretending that there is no really important difference between model and reality we lull people into thinking that we have things under control. We haven’t! This false feeling of security was one of the factors that contributed to the financial crisis of 2008.

(2) Stop the childish and exaggerated belief in mathematics giving answers to all important economic questions. Mathematics gives exact answers to exact questions. But the relevant and interesting questions we face in the economic realm are rarely of that kind. Questions like “Is 2 + 2 = 4?” are never posed in real economies. Instead of a fundamentally misplaced reliance on abstract mathematical-deductive-axiomatic models having anything of substance to contribute to our knowledge of real economies, it would be far better if we pursued “thicker” models and relevant empirical studies and observations.

(3) Stop pretending that there are laws in economics. There are no universal laws in economics. Economies are not like planetary systems or physics labs. The most we can aspire to in real economies is establishing possible tendencies with varying degrees of generalizability.

(4) Stop treating other social sciences as poor relations. Economics has long suffered from hubris. A more broad-minded and multifarious science would enrich today’s altogether too autistic economics.

(5) Stop building models and making forecasts of the future based on totally unreal microfounded macromodels with intertemporally optimizing robot-like representative actors equipped with rational expectations. This is pure nonsense. We have to build our models on assumptions that are not so blatantly in contradiction to reality. Assuming that people are green and come from Mars is not a good – not even as a “successive approximation” – modeling strategy.