what is wrong with macroeconomics?

The Oxford Review of Economic Policy has devoted an entire double issue to the topic “Rebuilding macroeconomic theory”, and offers free, ungated access to all the articles, but only until February 7th.

Here is the abstract of the first, introductory article:

In this paper we review the Rebuilding Macroeconomic Theory Project, in which we asked a number of leading macroeconomists to describe how the benchmark New Keynesian model might be rebuilt, in the wake of the 2008 crisis. The need to change macroeconomic theory is similar to the situation in the 1930s, at the time of the Great Depression, and in the 1970s, when inflationary pressures were unsustainable. Four main changes to the core model are recommended: to emphasize financial frictions, to place a limit on the operation of rational expectations, to include heterogeneous agents, and to devise more appropriate microfoundations. Achieving these objectives requires changes to all of the behavioural equations in the model governing consumption, investment, and price setting, and also the insertion of a wedge between the interest rate set by policy-makers and that facing consumers and investors. In our view, the result will not be a paradigm shift, but an evolution towards a more pluralist discipline.

David Vines and Samuel Wills, “The rebuilding macroeconomic theory project: an analytical assessment“, Oxford Review of Economic Policy, Volume 34, Issue 1-2 (Spring-Summer 2018), p. 1.

And here is the first paragraph of what is possibly the best article in the collection, written by Portuguese economist Ricardo Reis (born 1978), who teaches economics at the London School of Economics:

I accepted the invitation to write this essay and take part in this debate with great reluctance. The company is distinguished and the purpose is important. I expect the effort and arguments to be intellectually serious. At the same time, I call myself an economist and I have achieved a modest standing in this profession on account of (I hope) my ability to make some progress thinking about and studying the economy. I have no expertise in studying economists. I go to work every day to understand why inflation goes up and down or why some fiscal systems deliver better outcomes than others. Making progress on these questions frequently requires taking detours into narrow technical points on definitions of equilibrium or the properties of statistical estimators. But the focus always remains on understanding the economy, not the profession of economics. I personally love reading biographies and delight in thinking about what a young Alfred Marshall would say to a young Kenneth Arrow. Yet, I do not confuse these pleasurable intellectual leisure times with my job as a researcher.

Ricardo Reis, “Is something really wrong with macroeconomics?“, Oxford Review of Economic Policy, Volume 34, Issue 1-2 (Spring-Summer 2018), p. 132.

I have been negligent in not posting this sooner. Fortunately Tim Taylor, the “conversable economist” has done an excellent job getting the word out on his blog, which I encourage you to read:

Macroconomists were notorious for their disagreements before 2007. Such wrangling only increased with the carnage of the Great Financial Crisis and its aftermath. …. Lots of big names (to economists!) are featured [in this double issue], and at least for now, all the papers are freely available and ungated.

Tim Taylor, “What’s Wrong with Macro? A Symposium from the Oxford Review of Economic Policy“, Conversable Economist, 24 January 2018.

Reis compares forecasting the state of the economy to forecasting the health of individuals, and finds that economics does not fare badly. Taylor likes the analogy very much, as I do, so I shamelessly copy something that Taylor quotes from Reis. Here, then, is the ‘copy of a copy’!

Imagine going to your doctor and asking her to forecast whether you will be alive 2 years from now. That would sound like a preposterous request to the physician, but perhaps having some actuarial mortality tables in her head, she would tell you the probability of death for someone of your age. For all but the older readers of this article, this will be well below 50 per cent. Yet, 1 year later, you have a heart attack and die. Should there be outrage at the state of medicine for missing the forecast, with such deadly consequences?

One defence by the medical profession would be to say that their job is not to predict time of death. They are driven to understand what causes diseases, how to prevent them, how to treat them, and altogether how to lower the chances of mortality while trading this off against life quality and satisfaction. Shocks are by definition unexpected, they cannot be predicted. In fact, in practice, most doctors would refuse to answer the question in the first place, or they would shield any forecast with a blank statement that anything can happen. This argument applies, word for word, to economics once the word ‘disease’ is replaced by the words ‘financial crisis’. ….

Too many people all over the world are today being unexpectedly diagnosed with cancer, undergo enormously painful treatment, and recover to live for many more years. This is rightly hailed as a triumph of modern oncology, even if so much more remains to be done. After suffering the worst shock in many decades, the global economy’s problems were diagnosed by economists, who designed policies to respond to them, and in the end we had a painful recession but no melt-down. Some, somehow, conclude that economics is at fault. ….

Currently, the major and almost single public funder for economic research in the United States is the National Science Foundation. Its 2015 budget for the whole of social, behavioural, and economic sciences was $276m. The part attributed to its social and economic sciences group was $98m. The main public funder of health studies in the United States is the National Institute of Health (NIH), but there are many more, including several substantial private funders. The NIH’s budget for 2015 was $29 billion. Its National Institute of Allergy and Infectious Diseases alone received $4.2 billion in funding. A very conservative estimate is that society invests at least 40 times more trying to study infectious diseases, including forecasting the next flu season or the next viral outbreak, than it does in economics. More likely, the ratio of public investment to science devoted to predicting and preventing the next disease is two or even three orders of magnitude larger than the budget of science dedicated to predicting and preventing economics crises. There is no simple way to compare the output per unit of funding across different fields, but relative to its meagre funding, the performance of economics forecasting is perhaps not so bad.

Here is a pre-publication link to the complete Reis paper, in case you have difficulty accessing it at the journal.

 

 

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