Two Different Approaches to Economics and One Approach to Pseudo-Economics

October 21st, 2017
in macroeconomics

by Philip Pilkington

In the comments to my piece on Janet Yellen the hypocrisy of my position was pointed out, as it so often is, by a certain reader of this blog. What was my hypocrisy on this particular occasion? It was the fact that I complained about Yellen’s obsession with ‘closing’ models but, in other circumstances, champion Godleyian Stock-Flow Consistent (SFC) modelling which, of course, contains models that have ‘closures’ of various forms.

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I think that it’s worth talking about this in a little bit more detail. I should say right off the bat that my endorsement of SFC modelling is purely opportunistic. I know that there are many people out there who make their living by ‘closing’ models and I doubt that I will persuade them to stop doing this. SFC models seem to me a nice compromise in this regard because they are actually didactically useful in that the person who explores their properties absorbs key lessons about how the macroeconomy actually functions and the importance of the national accounts. Those doing marginalist analysis, say DSGE, on the other hand are simply absorbing ideology. In short, SFC models actually convey something about the real-world, while DSGE models are a form of brainwashing that basically lobotomise those who study them and render them useless as economists.

Anyway, I think a good way of approaching the broader question here is through the work of GLS Shackle. In his wonderful book A Scheme of Economic Theory Shackle discusses two types of approaches. The first is Keynes’ own approach which he describes as such,

The General Theory of Employment, Interest and Money is the most paradoxical of books. Constructed on a purely static and equilibrium frame of formal argument, it clothes this frame in a rich and suggestive mantle of ideas about expectations and their precarious basis and their extreme unstable sensitiveness to ‘the news’. In the present book I have had to find a special term to indicate this quality of Keynes’s though, and I have called it kaleido-static. The patterns in a kaleidoscope change abruptly to something totally different, yet, given the exact character of the twist imparted to the instrument, these patterns no doubt have their own internal logic. Keynes saw in the business world a succession of highly unstable equilibria. In his formal construction he described the equilibrium of each situation, in his powerful gloss upon this formal argument he explained their almost explosive instability. (p5)

Shackle notes that a similar approach can be found in Roy Harrod’s work on growth theory and the business cycle. Another great macroeconomist whose work exhibits these characteristics was, of course, Hyman Minsky. There is an argument to be made that Joan Robinson’s work also tended in this direction but I do not want to deal with this here because poor Robinson was a very conflicted theorist, constantly at war with herself in this regard.

Shackle also notes that there is another type of economic theorising. This is the type of theorising that he attributes to Keynes’ other followers. He writes,

The image of the leaping cataracts, with pools of stillness between them, which is suggested to me by the General Theory, or the analogy with the kaleidoscope already proposed, are far from the deterministic, mechanical, cyclical and above all self-contained models which sprouted in such profusion in the fertile seed-bed of Keynes’s work… Kalecki, Kaldor, Samuelson and Hicks have in succession opted for a ‘business cycle machine’ complete in itself, to which regular and therefore predictable oscillation is as natural as the tides or the seasons. These latter models give no place at all to expectation and have no use for expectational time, but exemplify in the purest form the concept of a historical pattern seen ‘from without’ by a detached observer in whose mind it exists as a simultaneously valid whole. These, therefore, lie at the extreme of the ‘mechanical time’ ranking. (pp5-6)

I think that Shackle is basically correct. When he speaks of ‘self-contained’ models he is referring, of course, to what I was calling models with ‘closures’; that is, closed models. Note that while Keynes’ discourse puts the reader in the drivers seat, in that it includes the reader in the economic world that is being thought through, the ‘business-cycle machine’ theorists try to take a sort of God’s eye view of the whole situation. This is precisely, in my opinion, how not to train working economists. Economists should be able to consider their own position within the framework of the theory they are using and if they cannot they will not make exceptionally good policy economists.

However, I think that we can also name a third type of model. And it is under this heading that the likes of the DSGE and representative agent models fall. It is these models that are generally referred to as ‘microfounded’ but which might more properly be called ‘hermetically-sealed myopia machines’. These push the ‘business-cycle machine’ models in a far more extremist direction. The ‘business-cycle machine’ models at least dealt with aggregates. This gave the theorist some scope, even in the God’s eye position adopted, to take into account contingencies in the environment and think these through. The ‘hermetically-sealed myopia machines’ close this off entirely. They give the user a set of a priori, dogmatic list of behaviors that people can engage in.

Once formulated, these behaviors are never questioned. They must be rigid and deterministic otherwise they cannot be defined and formalised. But these completely blind the person using them to the real world in all its variety. In fact, I would argue that anyone who takes such models seriously is not actually an economist. Or, at least, they are not doing economics. Rather they are engaged in pure thought experiments with literally no connection to the real world. What these people are doing is something halfway between engineering and theology.

So, what can we now say about models? Well, those that make the best economists and the most fertile theorists — that is, those that are best able to spot novelty which is essential for any good working economist and any progressive theorist — should adhere as best they can to Keynes’ kaleido-static approach. Or, if they so feel, they should engage in a form of kaleido-dynamics if they can manage it. This requires a great deal of irony on the theorist’s part and a distinct ability to recognise that Truth is a slippery concept and that all we can do is try to weigh up rather general arguments and see which is, ordinally, the most likely. (Yes, readers of Keynes’ Treatise on Probability will see something of his underlying philosophy of knowledge here…).

Those who are better at writing textbooks and engaging in instruction should try to build the best ‘business-cycle machines’ that they can. In my opinion, the Godley approach — which is an outgrowth of Kaldor’s and Kalecki’s work — is the most promising field of inquiry. Such theorists should be very careful not to stray too far from the real world. I think, for example, that Samuelson and Hicks committed this particular sin (Hicks largely recognised this, Samuelson was blind as a bat). But with some discipline I think that there is little problem if economists build business-cycle machines and use these for didactic purposes. (But don’t try to test these thought-experiments against the data, please!).

Finally, those who are inclined to the ‘hermetically-sealed myopia machines’ should pack up and move on. There are other disciplines where the skills involved in constructing complex, rigidly deterministic systems are required. Engineering is the most obvious example. People inclined toward this sort of theorising would be better placed in these disciplines. They pay quite well and if you fall into this skill-set you will probably find some satisfaction there, but you will not make a good economist. Indeed, as I said, I don’t think that what you will be doing can adequately be called ‘economics’ and you will likely just spoil the discipline for the rest of us and annoy potential students.

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