Monthly Archives: March 2017

The Unfortunate Eselessness of most ‘State of the Art’ Academic Monetary Economics

We’ve heard it before: Beware of PhD economists. Don’t ask them too many questions; just let them talk. Let them talk about that one thing they spent 6 years writing a dissertation about, and only that thing. Don’t try to argue, don’t try to think. They’ve already done that. They know it. You know it. Just let them do what they’re supposed to do. After all, PhD economists are the people whom we rely on to create macroeconomic policy and teach us about macroeconomics.

 

Maybe that was a little harsh. But the flaw in macroeconomics comes with the self referential, inward-looking distractions that are the beliefs of macroeconomists, especially those of the New Classical and New Keynesian schools, and especially in reference to the Efficient Markets Hypothesis. The parameters of this hypothesis claim trading that spans all possible outcomes in which budget constraints are always satisfied by assumption, keeping in mind that default, bankruptcy and insolvency are impossible. Because of this, questions of illiquidity and insolvency can’t be asked OR answered. They don’t even exist! Right? Wrong. The hypothesis also includes the assumption that there is some power in the universe that makes sure nothing unexpected happens with long term price expectations. The basis of this hypothesis alone is a major “empirical fatality” of the 2008 financial crisis.

 

So what does this have to do with DSGE models? Consider the way in which macroeconomists view the EMH—a model that is so doctored to display perfect, unrealistic conditions in an imperfect, realistic world. What do we think they did with DSGE models? In the words of William Buiter: “They took these non-linear stochastic dynamic general equilibrium models into the basement and beat them with a rubber hose until they behaved.”

 

The problem with macroeconomics is the lack of a powerful desire to understand how the economy works, in good times and in bad. Macroeconomists have a stronger desire to fiddle with their unrealistic models and try to convince people that yes, that really is how the economy works, and no, there is no other way.

 

To lighten the mood, here’s a picture of my dog in the bathtub:

The Real Issue in Macroeconomics

The current calculation of the unemployment rate makes me believe that there is no such thing as involuntary unemployment, because the of people who are involuntarily unemployed aren’t even a part of the labor force, thus, they are not included in the unemployment rate calculation. So how can they be unemployed involuntarily if they aren’t even represented in the calculation? (Even so, I still need some more convincing, but this is a start)
And how is it that a lower unemployment rate isn’t always better? As economists, we know this is because the size of the labor force is decreasing. But we want normal people to understand the meaning behind the unemployment rate? Ha. With no background in economics, people see lower unemployments rates and think “Hey, things must be just fine!” But are they really? Does anyone else see the issue with this?

How can we fix this?

To fix or to rebuild?

There are plenty of obscure economists who have come up with ways to fix macroeconomics. I think of them like the early 2000s emo bands of Economics. It’s our job to listen to them before they air on the radio. It’s our job to take their theories and pick them apart. What exactly are they fixing? What does the model specifically address?

Is there even a model that fully encapsulates all macroeconomic phenomena?

Can we do that?

I don’t want to say no. But the question is: how do we get there?

I think the biggest mystery is unemployment. I’m still trying to figure it all out. You’re going to have to convince me that involuntary unemployment truly exists. I’m coming up with an argument that it might not. Give me some time. Let me figure it out.