Category Archives: Economic education and methods

To the Aspiring Econ Grad Student

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Paul Romer writes,

If I am right that in recent decades the equilibrium in post-real macro has discouraged good science (and remember, many economists do not agree with me, at least not yet) there is some risk that a rear-guard of post-real macroeconomists will continue to defend their notion of methodological purity. At this point it is hard to know whether this group will fracture or dig in for a fight to death. If they dig in, I suspect that it will be in a few departments and that the variation between departments will be larger. Watch to see how this plays out and choose where you go with this in mind.

Pointer from Mark Thoma.

My own advice is to look for opportunities other than graduate school in economics.

One way to think of my latest book, Specialization and Trade, is as a denunciation of the path that academic economics took since 1940. It is a Quixotic attempt to pull off what Paul Samuelson did in the 1940s, which is completely re-orient economics from undergraduate education on up. That is not going to happen. I think that academic economics (especially macro, but not just macro) is simply too far gone.

If you have a strong interest in studying economics and in joining in the intellectual conversation, you can do that on your own, without going to graduate school. This was less true forty years ago, when I was starting grad school, because we did not the Internet, with its blogs, online working papers, podcasts, and so on.

On your own, you can be selective about what you study and how intensively you delve into various areas. Studying on your own will be a lot less expensive than going to graduate school, particularly in terms of opportunity cost. Graduate programs will make you waste a lot of time studying things that are either uninteresting to you or uninformative, or both.

It could be that you really want the academic lifestyle, and suffering through an economics Ph.D program is the best way to get it. But be careful about assuming that the academic lifestyle is the only one for you. I think that bright college students tend to over-estimate the intellectual stimulation that they can get out of academia and they under-estimate the intellectual stimulation that they could get out of working in business.

The Trust Variable

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Noah Smith worries about the way economists invoke trust.

So although trust, in some form, is probably important in our economic lives, we don’t yet have the tools to measure it, we don’t know exactly how it’s important, and we definitely don’t know how to control or alter a society’s level of trust. Until we understand trust a lot better, it would be a mistake to rely on it too much when trying to explain the world around us.

Read the entire essay. I agree with his qualifications, but I would rephrase his conclusion. It sounds like he could be saying that if something is hard to measure and control, then look for other variables to explain and control the world. Instead, I would say that one should be humble about one’s ability to explain and control the world.

The first step in getting a better handle on trust is to define it well. As Smith indicates, the standard practice is to measure people’s answers to very broad survey questions (“How strongly do you agree with the statement that most people can be trusted?”) That is very unsatisfying.

When I worked at Freddie Mac, we were subjected to given some management training of the “teambuilding” sort, one of the goals of which was to improve trust within the organization. This lead us to think about trust, and one insight that some of us arrived at was that trust involves more than just a belief that someone else is well motivated. Often, trust breaks down because we lose confidence in other people’s competence. Even if you have very general views about other people’s motives, you are likely to assess other people’s competence relative to their specific occupations.

This factor of competence assessment is embedded in my views of the role of finance in economic fluctuations. In Specialization and Trade, I argue that financial intermediation can expand when people trust financial intermediaries. In particular, as we experience financial intermediaries meeting their obligations, we gain confidence in their competence (as well as in their motivation). This leads to more trust, more expansion of financial intermediation, and so on, until, in Minsky fashion, the intermediaries are engaged in dangerous activities, and we get a collapse, including a collapse of trust.

So trust is not “social capital” that you want to see increased indefinitely. At least in the case of financial intermediation, it is best for trust to be at some intermediate level. Not so low that relatively low-risk, high-return investment opportunities are missed. But not so high that you get an excess of relatively high-risk, low-return projects (e.g., sub-prime mortgage loans) that are funded.

Friedman and Samuelson

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I think of Specialization and Trade as an attempt to redirect economics away from the path that it followed after the second World War. This recently produced the following train of thought.

Who has been the most influential economist since 1945? I am inclined to go with Paul Samuelson, and that is implicit in the book. But some people might have said Milton Friedman. In neither case, do I think that the influence on academic economists was good. [somewhat related: Tyler Cowen’s simple theory of recent intellectual history, which he apparently still propounds]

With the public, their impact differed. Friedman argued that people should admire markets and be wary of government. Samuelson said it the other way around. Those of us who agree with Friedman approve of Friedman’s influence. Those who agree with Samuelson disapprove of Friedman’s influence.

Back to academic economists. I think that both Friedman and Samuelson were guilty of promoting economic methods that involved imitating hard science (at least as they thought of science as being practiced). Instead, in my book I argue that economic analysis can yield frameworks of interpretation, but economic hypotheses are not verifiable the way that they are in chemistry or physics.

In macroeconomics, Friedman enjoyed influence starting in the 1970s, because the Solow-Samuelson Phillips Curve broke down and Friedman’s alternative view that emphasized monetary policy seemed to work better. However, my view is that both monetarism and Keynesianism are misleading as interpretive frameworks.

In fact, what started out as monetarism ultimately degenerated into deity-worship of the Fed chairman. First it was Paul Volcker, who slew the dragon of inflation. Then it was Alan Greenspan, the Maestro of the Great Moderation. Until in hindsight he became the Randian ideologue, who turned the banks loose to create a financial crisis. The crisis came on Ben Bernanke’s watch, and he is deified as the man who saved us from another Great Depression.

I think that the effect of each of those three on the economy is vastly over-rated. Instead, I think that financial markets and the economy in general simply took the course that they took, and story-tellers wrongly attribute the outcomes to the policies of the Fed at the time.

Testing for Housing Discrimination

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Commenting on an article by Sun Jung Oh and John Yinger, Timothy Taylor writes,

Overall, the findings from the 2012 study find ongoing discrimination against blacks in rental and sales markets for housing. For Hispanics, there appears to be discrimination in rental markets, but not in sales markets…

However, the extent of housing discrimination in 2012 has diminished from previous national-level studies.

What was most interesting to me was the method of testing for discrimination, which involved sending pairs of auditors of different races with otherwise identical characteristics to ask real estate agents for help finding apartments or homes. It would be interesting to see such a method applied to mortgage lending, rather than trying to make inferences from observed data.

Intellectual Yet Idiot

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Nassim Nicholas Taleb coins that phrase, writing

What we have been seeing worldwide, from India to the UK to the US, is the rebellion against the inner circle of no-skin-in-the-game policymaking “clerks” and journalists-insiders, that class of paternalistic semi-intellectual experts with some Ivy league, Oxford-Cambridge, or similar label-driven education who are telling the rest of us 1) what to do, 2) what to eat, 3) how to speak, 4) how to think… and 5) who to vote for.

I have had a couple of people compare my Specialization and Trade to Taleb’s work. For what it is worth, my thoughts on the similarities.

1. We both believe that highly-educated experts over-estimate what they know.

2. We both doubt the ability of “science” to understand the human world, including the economy.

3. We both think that statistical analysis as commonly practiced is unreliable.

4. We are both outsiders relative to academia at present.

I think that Taleb is a much more colorful writer. I tend to be more risk-averse, both in terms of substance and style.

James Tobin’s Presidential Address

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Robert Waldmann brings it up. Tobin delivered it in 1971, and it was published in 1972.

Pointer from Mark Thoma.

As I remember it, Tobin suggested thinking of an economy with two industries and wages rigid downwards. Suppose that demand shifts away from industry X to industry Y. Because wages do not fall in industry X, you get unemployment there. Because wages do rise in industry Y, the overall rate of inflation goes up. Note, however, that with more inflation, the real wage in X falls, which means less unemployment there than otherwise.

This simple story gives you an explanation for both stagflation and the Phillips Curve. The point that Waldmann is making is that macroeconomists did not need to take the detour that they took in the 1970s. They could have stayed on the path that Tobin laid out for them. My thoughts:

1. It is amazing how much better you can do if you break up the GDP factory into two industries. I think you can do even better with more disaggregation, but the modeling would be much hairier.

2. I agree that macro would have done better to follow this path. However, macro still would not be very good. The problem of too many plausible causal factors chasing too little data is insurmountable. See my science of hubris paper, as well as the recent Paul Romer screed.

3. The sociology-of-economists question of how macro remained (and continues to be) stuck for so long is quite interesting. See Daniel Drezner’s piece (for which I also thank Thoma). As you know, my explanation is that Stan Fischer became the Genghis Khan of macro.

Paul Romer, Macroeconomics, and Trouble

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Romer writes,

In the last three decades, the methods and conclusions of macroeconomics have deteriorated to the point that much of the work in this area no longer qualifies as scientific research. The treatment of identification in macroeconomic models is no more credible than in the first generation large Keynesian models, and is worse because it is far more opaque. On simple questions of fact, such as whether the Fed can influence the real fed funds rate, the answers verge on the absurd. . .The larger concern is that macroeconomic pseudoscience is undermining the norms of science throughout economics. If so, all of the policy domains that economics touches could lose the accumulation of useful knowledge that characteristic of true science, the greatest human invention.

Pointer from Mark Thoma. I am on board with the above passage, but soon Romer writes

To appreciate how far backwards our conclusions have gone, consider this observation, from a paper published in 2010, by a leading macroeconomist:

… although in the interest of disclosure, I must admit that I am myself less than totally convinced of the importance of money outside the case of large inflations.

Romer could be talking about me, except for the “leading macroeconomist” part.

Anyway, he goes on to argue that the disinflation that took place in the early 1980s is evidence that monetary policy matters. My comments.

1. I agree that for those (few) of us who doubt the importance of monetary policy, the “Volcker disinflation” represents the most difficult data point.

2. Still, Romer appears to me to distort things. He calculates a rise in the real interest rate of 5 percent. But I believe that a lot of that comes from inflation falling–not just the Fed raising nominal rates.

3. Long-term interest rates rose dramatically as well. Arguably, the “Volcker disinflation” should be called the “bond-market vigilante disinflation.”

4. In general, although much of Romer’s critique focuses on the identification problem and the challenge of teasing out causality, it is impossible for him (or anyone) to demonstrate that changes in the money supply are exogenous rather than endogenous.

Overall, I agree with Romer that the methodological challenges in empirical macro are daunting–I would say overwhelming. For my take, see Macroeconometrics: The Science of Hubris.

I am just quibbling over the one instance which he argues demonstrates an empirical truth.

Alan Kirman on Microfoundations

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He writes,

Although in fields such as statistical physics, ecology and social psychology it is now widely accepted that systems of interacting individuals will not have the sort of behaviour that corresponds to that of one average or typical particle or individual, this has not had much effect on economics.

Note that in macroeconomics, an economist will say that a model is “microfounded” if (and, seemingly, only if) you use a representative individual to represent the entire economy. Kirman, like me, objects to this. However, in my opinion one does not need a lot of floofy rhetoric about “complex adaptive systems” to know that this is wrong. It is sufficient to recognize the importance of specialization in the economy.

The Case for Sticking with the Null Hypothesis

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Jesse Singal writes,

As things continue to unfold, there will be at least some correlation between which areas of research get hit the hardest by replication issues and which areas of research offer the most optimistic accounts of human nature, potential, and malleability.

Pointer from Tyler Cowen.

Studies that show significant effects of educational interventions are right in this wheelhouse. That is why until they are scaled, replicated, and shown to have durable effects, you should view accounts of such studies with skepticism.

Daniel Sarewitz on Bubbe-Meisis

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He writes

Technology keeps science honest. But for subjects that are incredibly complex, such as Alzheimer’s disease and criminal behavior, the connection between scientific knowledge and technology is tenuous and mediated by many assumptions — assumptions about how science works (mouse brains are good models for human brains); about how society works (criminal behavior is caused by brain chemistry); or about how technology works (drugs that modify brain chemistry are a good way to change criminal behavior). The assumptions become invisible parts of the way scientists design experiments, interpret data, and apply their findings. The result is ever more elaborate theories — theories that remain self-referential, and unequal to the task of finding solutions to human problems.

In a world of causal density, such theories amount to bubbe-meisis.

The article is long with many themes, enough to offend just about everyone.