My simple theory about why macroeconomists disagree.

Every other macro blogger seems to be taking a crack at this question. I like what they have to say. But I have a much simpler theory.

Let's suppose you wanted to design an experiment to test the effects of monetary and fiscal policy. And suppose you had the power to do whatever you wanted, and couldn't care less about getting clearance from the Research Ethics Board. What experiment would you design?

Probably something like: get 100 countries, then for each country toss two dice, one for monetary policy, the other for fiscal policy, then watch what happens for a couple of decades. That should settle the question.

Now, just for a laugh, imagine you wanted the worst possible experiment design. An experiment design so bad that no researcher would ever be able to figure out the effects of monetary and fiscal policy by looking at the data. What would you do?

Probably something like: make monetary policy negatively correlated with fiscal policy, and negatively correlated with any other shocks you observed hitting the economy. So it would be impossible for the researcher to disentangle the effects of monetary policy, fiscal policy, and any other observed shocks. If you were feeling really mean, you would do your best to try to set monetary policy and/or fiscal policy so that nothing ever did happen to the economy. So all the researcher would ever observe would be a few small fluctuations in the economy due to shocks you didn't observe (and he probably can't observe either), plus a few small fluctuations because you over-compensated or under-compensated for the shocks you did observe, and even here the researcher won't be able to figure out even the sign of the effect of monetary policy because he won't know whether tight money caused inflation or whether you just didn't tighten monetary policy enough in response to an inflationary shock.

That's the world we live in. We live in something very close to the worst possible experiment design for testing macroeconomics. We live in a house controlled by Milton Friedman's Thermostat. It's sometimes a wonky thermostat, that under- or over-compensates for the shocks it can see, but it's still a thermostat. For all its faults, it does not play dice with the amount of oil going into the furnace. Even if it did play dice, you could never be sure that it was playing dice, or just responding as best it could to some shock it sees that you don't see.

You want us macroeconomists to figure stuff out better? Sure. No problem. Just lend us 100 countries for a couple of decades, and let us play dice with monetary and fiscal policy.

Comments

[Anon]

Nick:

This isn't magic, it's science - so how about approaching this question scientifically?

It's much easier to score macroeconomists than to give them 100 economies to play with for a couple of decades: simply take their past predictions about growth, unemployment, inflation and check how well their models worked in the real world.

Put macroeconomists who produce no testable predictions in the middle of the list.

If you do that then people like Paul Murphy end up near the bottom of the list - while people like Paul Krugman end up near the top of the list.

Reality is good enough of a "decider", no need for other macroeconomists to agree to accept reality. If our universe has an apparent liberal bias then that's your problem really.

[Nick Rowe]

Anon: tell me what testable predictions there would be in a world like my worst experimental design.

[Miraj Patel]

Anon, scientifically what you propose becomes yet another non-causal correlation. i.e. people can get lucky.

[Miraj Patel]

Empirical study is hard in macroeconomics, but I think the greatest hope lies with progress in computer simulation and new technology overall. Just as technology has finally given neuroscience the tools it needs to really experiment empirically (and is thus ushering in a golden age of neurophys study), one day someone will probably be able to come up with something similar for economies. Until then, it is just a waiting game I suppose.

[Stephen Gordon]

I dunno. Much of the DSGE literature is just that: simulated economies that are judged by how well they fit some basic stylized facts. The problem is that there are an infinity of models that can reproduce a finite set of stylized facts - if you doubt that, read the DSGE literature.

I think Nick is on the right track here. There are brutal identification problems in macro. And you can't test to see if a given identification rule is correct, you can only try to persuade people that it's plausible.

[noah]

tl;dr: it's not a real science.

[Urban dictionary translates "tl;dr" as "too long; didn't read" - SG]

[Joseph]

Thankfully in the real world monetary and fiscal policy don't act perfectly like that giving us some insight. And while there are always an infinite set of theories that can fit any finite set of facts, there's also an infinite set of theories which do not fit those facts and the profession, or subgroup of the profession, at times, is overly reluctant to move a theory from the former to the later set.

[Frank Restly]

Nick,

Why do macroeconomists disagree?

I don't think macroeconomists disagree on most cause and effect issues. I think that macroeconomists disagree on objectives.

[Jeff]

Nick is right. There are a few natural experiments out there, like North Korea vs. South Korea, and East Germany vs. West Germany, but only a few. And the dimensions they differ along are not monetary or fiscal policy, but in more fundamental institutions, like private property vs socialism, central planning vs market economy.

To the extent that we have these natural experiments, it's pretty clear that capitalism works better than socialism, but that's about all they tell us unambiguously.

However, there is a halo effect: when two economists who differ along the capitalism <--> socialism dimension also disagree about something else, I tend to disregard the socialist on the grounds that he's already shown himself incapable of learning from evidence. Milton Friedman vs Paul Samuelson? Which one had the bad judgement to extol the virtues of the Soviet economy long after it was obvious that it didn't work?

[Jim Rootham]

Anybody who believed North Korea and East Germany were socialist is way too credulous for me to pay attention to.

[John Salvatier]

I'm a little surprised to not see more experimental macroeconomics using small economies in a lab setting. I'm sure that won't answer many interesting questions, but it should answer quite a few.

[W. Peden]

This post is as concise an explanation of why I don't like the "economist as prophet" view that is so often used by popularises of macroeconomic theories (including the ruthlessly aprioristic Austrian School!) i.e. such famous prophecies might be interesting if they were based on numbers derived from a formal model derived from the theory in question, but that is so rarely the case...

Instead, predictive accuracy serves two modest but useful roles in macroeconomics: (1) clipping off some of the truly muddle-headed theories and (2) telling us that the world macroeconomy is such that if you build a theoretically coherent forecasting model, it will probably get all the big events wrong even if it gets the more mundane events right.

Sciences that inform us of the limits of our knowledge are disappointing, but no less scientific for that. Similarly, it's disappointing to find out that the Earth is a tiny sub-dot in an unimaginably huge universe, but that doesn't make astronomy unscientific. (Yes, this does mean that Carl Menger and F. A. Hayek are economics's Coperniucs and Galileo.)

[Dyami Hayes]

I like this post, but would like to add a little bit of digging I did a while ago via Email correspondence.

Here is GREG MANKIW from "Modern Macro: Its origin, development, and current state" textbook...

On Clinton: "My reaction to President Clinton’s speech [17 February 1993] is that I don’t think we need the fiscal stimulus that he is proposing. Recovery is already on its way. It wasn’t a very deep recession to start off with, so I’m not terribly shocked that there is a mild recovery. It will take the fiscal stimulus a while to get people employed. I am happy that he is worried about the budget deficit, as low national saving is an important macro problem in the long term in the USA. Yet I am disappointed that he is putting so much emphasis on tax increases rather than spending cuts. That is really a view not so much about macroeconomics as about the size of government. I am also disappointed that he is giving no attention to the low rate of private saving in the USA. I would recommend tax reforms to remove the present disincentives toward saving. So I give him a mixed review."

To emphasize, his most important views on policy are "NOT SO MUCH ABOUT MACROECONOMICS AS ABOUT THE SIZE OF GOVERNMENT" - the size of government is a moral hazard, for Mankiw, nothing more...

[RebelEconomist]

Economists could make a lot more progress by having more objective debates aimed at converging and resolving precise points of disagreement. It's no good quoting models at each other, since all models do is obscure the key views driving the conclusion. Economics is about the real world, so it should always be possible to explain the mechanistic logic for a particular view, and when it becomes clear that a particular point is the source of the difference, it should be possible to resort to evidence, perhaps econometric, to resolve the issue and move on.

For example, I have been left none the wiser about perhaps the greatest debate of our time - how fiscal policy works. I thought Fama made a perfectly reasonable argument in his debate with Krugman, about where the actual resources to stimulate come from, but Krugman resorted to rhetoric - "dark age" etc - rather than actually addressing the point.

Given that there are so many with political agendas eager to latch on to arguments that support their position, the economics profession should disdain those "academics" who become unobjective advocates of one side of a debate, like Krugman, DeLong or Scott Sumner. They certainly should not be teaching and evaluating vulnerable students.

[Daphne Millar]

I think you are saying that macro economists disagree because they don't know anything and have no way of finding out.
Seems a fair view. But perhaps they should be more open to the Wittgenstein view "if you don't know, shut up."

[jt]

Follow-up to Stephen Gordon's comment.
He mentioned "identification" (more generally, I think he meant the field of systems identification and control theory), which is an alternative to your proposals for experiment design. Better and real-time economic data would help; possibly an Act of government to compel credit card issuers and capital markets players to provide their data for economic analysis as it is already being collected. Ditto for other government services like land registery etc.

[John]

Nick,

What is interesting to me is that those will a greater understanding in economics than those inside the academic bubble, people like George Soros, likely completely disagree with you. They do not view economics as a science and they do not hold Friedman's view that we live in a house controlled by Milton Friedman's Thermostat.

Soros describes our economy in entirely different terms. For him, an economy, as a social process, is a "reflexive process in which the participants' biased decisions interact with a reality that is beyond their comprehension." No models or experiments about such a process are possible.

What good does it do to observe someone who is pushing down on the gas pedal who is blind?

The greatest practitioner of Macro Economics was Roosevelt, but not because he got his macro right. No. Roosevelt instead focused on protecting all in society for whom the economy was not working. The lessons that economics teaches us are three: (1) attack rent seeking; (2) and build as strong a safety net as possible, as social insurance against what we don't know about; and (3) learn a little from Adam Smith about the super importance of insurance. The ultimate result of the reflexive process is the creation of risk. Macro economics ought to concentrate on how to manage that risk, which was what Keynes was doing (the idea that the Gov't should save in good times and spend in bad is, at its heart, insurance).

[William Meyer]

Why would actual macro experiments need to be conducted at a whole country level? And done randomly? Is this really the way controlled trials work in medicine or other fields? Has anyone in economics seriously looked at what expense, time, rule changes, etc., would be necessary to set up sufficiently-robust-to-be-meaningful macroeconomic experiments? I'd love to see some posts on what would be involved. For years, in the U.S., people have described the states as "laboratories for Democracy." This always made me curious, even back in the 1980s--couldn't disputed issues like whether or not raising or lowering capital gains taxes enhances economic growth or provides other benefits be possible at the state level (pick a state out of a hat)? Or if people object to this, doing such tests on a volunteer level, in which the participants are compensated for serving as guinea pigs (and tracked exhaustively, via the use of say, debit cards, for ALL financial transactions). I'm sure this could be done, and I've wondered if the world and politicians aren't simply afraid to really learn many of the answers that such experiments would provide. It would dent ideological positions, to be sure.

[Adam P]

A very good econometrician used to have a maxim: "estimate, don't test".

this is why.

good post Nick.

[Simon van Norden]

Re: worst possible experimental design....how about throwing out 99% of the data we have and just focusing on US data? No....wait....let's throw out even more by only looking at "recent" data?

[Simon van Norden]

....and let's introduce lots of unobserved variables that play key roles in our models! Like "gaps" or "marginals" or "expected" or.....

[Simon van Norden]

".... get 100 countries, then for each country toss two dice, one for monetary policy, the other for fiscal policy, then watch what happens for a couple of decades. That should settle the question."

Actually, we've got 3 decades or more of macroeconomic data for literally dozens of countries....with quite a bit of cross-country variation in policy....and macroeconomists (as opposed to international economists) rarely use the cross-country dimension to improve identification. Some macroeconomists are prone to argue something along the lines of "the US is exceptional" or "Japan is different" or "Germany is a special case", etc. etc. This continues to puzzle me in the context of macroeconomic models that are supposed to have firm theoretical foundations, as I thought the aim of such modeling exercises was to find fundamental and broadly applicable truths about macroeconomic behaviour. How do you think about that problem, Nick?

[RPLong]

I think macroeconomists disagree becaused the interrelationships in the macroeconomy are so complex that different theories can be justified for different reasons, based on different pieces of the evidence. For any compelling theory, there is a mountain of evidence supporting it. For every theory's shortcomings, there is a mountain of evidence explaining why the failure in question was not really a failure, but the absence of ceteris paribus.

[Alex]

This is a great explanation for someone in the biz: it absolves macroeconomists of any guilt for still debating basic issues that have long been settled. Yes, it's structural barriers on research, and nothing else! No corruption to examine here! Let's all go drink champagne.

But back in the world of people who search for the truth, a good understanding of economics shows that it's an inherently self-contradictory field. Economists know that people are motivated by incentives, and the incentive to get macro right (pride... that's about it) is less than the incentive to get macro wrong (lucrative book and speaking deals, sinecures at ideological think tanks, advisory positions for ideology-driven politicians). Couple that with a desire to teach all current theory as if it's equally valid and to publish all theory as if it's equally valid, a gentleman's agreement among macroeconomists to never suggest that their colleagues might be corrupt, and universities that remain unwilling to push the field towards truth-seeking, and there's no incentive to get macro right.

We don't need perfect experimental conditions to know that tripling the money supply doesn't invariably triple prices. Yet we can't get macroeconomists to definitively agree to that simple statement. Blaming structural barriers to absolutely perfect research is intellectual laziness at best, deceptively covering up corruption at worst.

[Erik]

Because macroeconomics is the religion of the 21st century. You have a number of competing schools of thought which can all find backing *somewhere* in the text/Bible/data but ultimately, because of the points made above, nothing can be "proved" and therefore it relies more on faith than anything else. In the absence of actual scientific rigor, people will manage to "prove" what they "believe" and "believe" that they "proved" it because they use *math*, the same way that religious sects use different close readings of religious sects to support their own closely held views as dogma. The various sects will therefore never come to any agreement over how old the Earth is or how many angels can dance on the head of a pin.

No offense intended to the economists out there, but that's just what the last decade looks like to me. There will never be any better data than the past 10 years, yet we "know" nothing more than we did before hand. The different schools of though have varying levels of credibility (to me, at least), but the final truth is that the economy is people and people act stupidly, especially in packs, and nothing I've seen accommodates appropriately for that. Human society is not particle physics.

[Sergei]

100 countries will be as bad as today. You need the same world 100 times and a time machine.

What if ... since macroeconomics is not a natural science any dominant theory will be arbitraged by the "market" which will always finds profitable theoretical gaps to exploit. Like you start targeting consumer inflation, the market will create asset inflation and financial sector to exploit it.

[Vladimir]

Nick,

It seems to me that you're conflating two very different questions here. The first one is why macroeconomists don't know more than they do, and on this point your argument is indeed convincing. However, your title suggests a different question, namely why there is so much loud, passionate, and self-assured disagreement among macroeconomists. This second question is much more unpleasant, and it can't be answered by appealing to the difficulty of the problem.

Mere inability to figure out things should ideally produce a humble consensus that we don't know much, or at most a tentative and respectful disagreement in which everyone admits that they may well be wrong. Yet this is not what we normally see in the public discourse among economists. (Recognizing, of course, the exceptionally high quality of discourse in some venues like this one.) So it seems to me that there are deeper and worse problems involved.

[Alex Godofsky]

Sergei: that sounds like the Lucas critique.

[Min]

John: "The greatest practitioner of Macro Economics was Roosevelt, but not because he got his macro right. No. Roosevelt instead focused on protecting all in society for whom the economy was not working."

Roosevelt took an empirical approach. He tried things out, rejected what did not seem to be working, and kept what did seem to be working. I'll take that approach any day over experts who claim, "We understand the economy, and nothing works." ;)

[Simon Van Norden]

Nick, I think your argument ignores a fundamental and important problems with macroeconomics; macroeconomists frequently disagree about the facts.

As a case in point, remember the arguments back in October about whether or not financial crises are typically followed by unusually deep recessions or unusually fast recoveries. This kind of question would not appear to be subject to the identification problems that you stress. However, when considerable attention was focused on the issue of US macroeconomic performance, prominent economists (e.g. John Taylor, Michael Bordo, Glenn Hubbard, Paul Krugman, Ken Rogoff and many others) were unable to agree whether the historical record showed the financial crises had a positive or a negative effect...but both camps felt that the empirical evidence was clear and that there was no significant identification problem.

[Steve Williamson]

Yes, the data is crappy. I like to give my students this example. Suppose two different worlds: (i) Prices are perfectly flexible, business cycles are driven by various shocks to fundamentals, and the central bank cares about price stability; (ii) Prices are sticky, the same shocks are working in the background, and the central bank has enough information to elmiminate output gaps (assume the zero lower bound never binds). You can construct the example in such a way that the data in (i) and (ii) will be exactly the same - prices look sticky, and the shocks appear to be driving the business cycle. What are we supposed to conclude by looking at the data? This is why we have econometricians. The way economists use statistics is much more sophisticated than almost anything you see in other sciences, for good reason.

[Bob Smith]

Erik,

Well, you're right that economics isn't particle physics - its a lot harder, precisely because it looks at the interaction of sentient people rather than inanimate (at least so far as we know ;)) particles.

Moreover, I think we have to be careful about dismissing economics as a modern religion on the basis of the nloud and occasionally obnoxious disagreements between competing theoretical camps. After all the same behaviour is not uncommon between different theoretical schools in the "hard" sciences where conclusive emprical evidence to refute one camp or the other (or both) is unavailable. All that distinquishes economics from the "hard" sciences is that the more arcane - and therefore the nastiest - disputes in the "hard" sciences don't play out on the op-ed pages of the New York Times and string theory isn't a common topic of discussion at fashionable dinner parties. The only reason your allegation isn't levied at theoretical physicists is that only theoretical physicists know or care what they're talking about, whereas the audience for economic disputes is much broader.

Its only when such disputes continue in the face of conclusive empirical evidence (or when the parties stop trying to provide conclusive evidence one way or the other and start excomunicating heretics) that we can properly characterize a field of study as a religion.

[Determinant]

Its only when such disputes continue in the face of conclusive empirical evidence (or when the parties stop trying to provide conclusive evidence one way or the other and start excomunicating heretics) that we can properly characterize a field of study as a religion.

I posit that the relationship between Austrian, Mainstream and Post-Keynesian economists shows that the excommunications have already happened.

[W. Peden]

Bob Smith,

It is certainly true that most people have a "treasure-chest" view of how the sciences develop: knowledge gets discussed a bit, then becomes uncontroversial and put into the treasure chest, and what goes in the treasure chest stays in the treasure chest. When sciences get the cold light of day put upon them, their publics reputations suffer.

Determinant,

I would go further: the creed was never set down. There were some doctrinal debates in the 1930s, and the Neo-Keynesians nearly swallowed up the (non-Marxist) profession, but even at the height of the Neo-Keynesian hegemony there were institutions like Cambridge, Chicago, and Brooklyn Polytechnic where very ideas could be encountered. Given how well Neo-Keynesianism turned out, this diversity was a good thing. Scientific consensus is no good if it's wrong! Better knowing that economists don't know it all, than the "New Economics" thinking of the 1960s and the associated destructive delusions of grandeur.

[Sergei]

Alex, Lucas critique? Hm. Sounds like it is if we give enough credit to Lucas that his critique covers all possible cases and especially expand them onto theories. Which to my understanding was not his idea. But look what we have as a matter of macro facts. Exchange rate targeting and current account. Inflation targeting and asset inflation. Fiscal demand management and consumer inflation. Maybe some other cases as well but I did not really think about it. Probably not so much but we are talking decades and a couple of centuries is all we have anyways. Now the talk is going more to the NGDP targeting and somehow I am sure that in 1-2-3 decades the private sector will come up with a sure way to arbitrage this policy and milk central bank like it always did. Yes, not the whole private sector. But all we need is one Soros and one Bank of England and the mission will be accomplished.

[Nick Rowe]

Vladimir @2.06PM makes a good point. I'm not quite sure how to respond. Maybe like this: economists (like all scientists and dentists and policymakers) will always find something to argue about. That's our job. If we figure out the answer to one question and stop arguing about it there will always be something else we don't know, where there's more than one way to interpret "the facts", so we will start arguing about that instead. What's surprising though is that macroeconomists disagree about the big stuff. I think my theory explains that.

[Nick Rowe]

Simon: I think there's a lot to be said for looking at as wide a possible range of countries and years.

For example, one of the natural experiments would be Spanish inflation after bringing in gold from the Americas. It is very implausible, as some other economist once said, that Columbus set sail to America to try to find the gold that would be needed during the inflation he forecast.

As I understand it, the whole point of Friedman and Schwartz's Monetary History of the US was to try to use historian's methods to try to identify causes of monetary changes that were plausibly exogenous and could be treated as much like a roll of the dice.

Another good natural experiment is when somebody turns down the dial on the thermostat. Like maybe the 1982 recession (in e.g. Canada).

Some of the best evidence I have that monetary policy affects inflation is that when the Bank of Canada said it was going to use monetary policy to keep inflation at 2% it succeeded (roughly). It is just too big a fluke to believe that inflation just happened to average 2% over the last 20 years. But someone just looking at the data would say (and I have heard people say this): "Look! There was almost no correlation between inflation and unemployment over the last 20 years! And the Bank of Canada kept changing interest rates but nothing happened to inflation!"

But we also lose something when we extend the range like that. Because we have to hope that all countries at all times respond the same way, at least qualitatively.

Adam P: Great to see you back!

[Nick Rowe]

Steve: I agree. "This is why we have econometricians. The way economists use statistics is much more sophisticated than almost anything you see in other sciences, for good reason. "

But I still can't figure out how econometricians can actually solve this problem. For example, when an econometrician claims to have identified "monetary policy shocks", how can he know that the central bank isn't responding to something that is in the Bank's information set but not in the econometrician's data set? (My old post on this.)

[Nick Rowe]

Good comments all. I'm not responding to all of them because I don't have much to add.

[Mike Smitka]

Another little issue is the paucity of data. I find it hard to argue that we can extend US macro data earlier than (say) 1982, after the Volker anti-inflationary period, and after the (then still partial) resuscitation of global capital markets and at least the start of interstate banking and a greater penetration of money market funds and other such inventions. If we go before 1975, unit banking still prevailed in much of the US, trade as a share of GDP was trivial, international capital flows even smaller ... and so on. The net is that we'd have 30 years of data, 120 quarters. , even if we have sufficient exogenous variation to identify parameters (which requires agreeing on what's exogenous!). As Simon Van Norden noted, panel data may help, but institutions vary sufficiently from country to country that it may not help when it comes to macro policy.

With only 120 data points, and recessions and inflations (thankfully) rare events, there are neither enough events nor enough degrees of freedom for coming to agreement on much of anything. The old Cowles Foundation approach, cf. Ray Fair's continued work at Yale, offers another angle for lessening the data limitations. But that's out of favor -- macroeconomists can't even decide how to text a model -- so we're in a world where it's hard for empirics to decide the debate.

Now in micro, well all know that minimum wages ... uh. Maybe this issue is generic to the social sciences.

[Bob Murphy]

Great post Nick. I think maybe the way to address Vladimir's interesting distinction is to say that really smart guys can have big egos, and so if there is no way to definitively refute somebody (through repeated, controlled experiments) then the schools of thought reign. I imagine the same thing happens in philosophy.

[Simon Van Norden]

"But we also lose something when we extend the range like that. Because we have to hope that all countries at all times respond the same way, at least qualitatively."

I don't follow you.

I had thought that, for identification, we want the opposite. Furthermore, if we're deriving our models from "first principles", they should be generally applicable, right?

[Patrick]

Bob, Erik: macro and modern physics actually have quite a lot in common in that neither can do experiments to figure out the stuff they really would like to figure out. We can't go poke around a black hole, nor can we probe the Planck scale any more than we can do a gold standard study on the effects of macro policy by replicating this universe, changing nothing put policy, and starting the clock (though perhaps a better understanding of physics might help in this area :)

[Bob Smith]

Mike's point on the paucity of data is a great one. That some very fascinating work in economic history has been done to try to put together time series GDP and price data for developed countries in the 19th century or that we're currently having intelligent discussions on such basic issues of how we measure productivity/capital (which has been recently discussed in Canada) or inflation demonstrates the point that, on one level, we're still in the process of collecting/identifying the most basic data.

[Bob Murphy]

Patrick, if I'm the "Bob" to whom you refer, then I actually do know a decent amount about physics. (But maybe you're were referring to a different Bob, since I didn't mention physics.) Anyway, the point works there too: There are rivalries with some of his colleagues e.g. thinking Brian Greene is a prima donna on superstring theory because he can't be falsified anytime soon, right?

[Gregor Bush]

Here's one for you Nick, from the Washington Post today:

“JP Morgan’s Michael Feroli estimates that the tax hikes and spending cuts that have survived the cliff deal could shave at least 1 percentage point off U.S. economic growth in 2013. We’ll see how that prediction holds up.”

How, exactly, will we see that?

[Bob Smith]

"How, exactly, will we see that?"

Well, if the economy tanks, he was spot on. If the economy booms, it would have grown faster but for the tax hikes and spending cuts, and he was still spot on. Good work if you can get it.

[Nick Rowe]

Gregor and Bob Smith: spot on!

Simon: well, we would hope that the signs of the effects of monetary and fiscal policy would be the same across countries and times, but the elasticities could be very different.

Bob Murphy: thanks. Yep, and when you have real policies depending on it, that will affect the wealth and well-being of a lot of people, you could see how people would get even more exercised about it.

[jt]

@Patrick, re:"Bob, Erik: macro and modern physics actually have quite a lot in common in that neither can do experiments to figure out the stuff they really would like to figure out..."
LOL, you're joking, right?

[Twofish]

I'm an astrophysicist. One reason that banks hire physicists rather than economists for economic modelling is that economists try to pretend to be physicists, whereas physicists know physics so they know that when economists try to pretend to be physicists, they aren't doing physics.

One real problem with physics especially astrophysics, is that you often cannot do repeatable experiments. The big bang happened once, and you can't make it happen again. You can only observe stars. You can't produce them. The other thing that happens is that the rules change. Adding heavy elements to stars greatly changes their behavior, and so recently created stars just act differently than earlier ones. Also while you can classify stars and planets into groups, every star and every planet is different from every other one, to the point where for certain types of stars you can show a spectrum to someone and they can tell you what star it is.

The fact that "things change" means that you just can't take observations from one era and blindly apply them to another. Physicists seem to be more aware of that than economists. What annoys me are people that assume that there is some sacred scientific method when in fact there are some ad-hoc rules that people use, and it gets interesting because different physicists often have different philosophical foundations and it usually doesn't matter (i.e. I don't think string theory is really physics and I'm not alone in thinking that).

Also since my background is computational astrophysics, I think people need to understand the use of simulation in science. You don't simulate to create an exact copy. You use computer simulations so that you can figure out that if you assume X, Y, and Z then N happens. If it turns out that N is totally at odds with reality, that's GOOD, because then you figure out which assumption went bad.

[Twofish]

One thing that I find odd is that you usually don't get bitter philosophical disputes between theoretical physicists. If the data just isn't there, then people will say "I don't know" or "I'm just guessing." The other thing is that physicists seem to get less offended at professional disagreements.

One other cultural difference that I've found is that most theoretical physicists are really excited when they are proven wrong. You'll find that most particle theorists are a little depressed because all of the data coming out of LHC is consistent with our current models. If 99% of the things fit your model, you look for the 1% that doesn't, because that 1% might be telling you something important.

The way that things would work in economics if people did things the "physics way" is that if you find a general rule (say market economies work better than centrally planned ones), then you'd go out of your way to examine the situations where the general rules don't work. If the general rule works everywhere, then you start getting suspicious that you missed something important.

The other thing that I've found is that economists overuse math and formal models, but they have definitions that are extremely vague (i.e. what is a socialist economy anyway?) Also economists make a claim of being objective and rational when objectivity and rationality aren't that particularly valued in physics. Theoretical physics values emotion and subjectivity.

[W. Peden]

Twofish,

I think that the problem is that the word 'socialist' is ambigious, which is slightly different from its being vague. 'Bald' is a vague word, but not an ambigious word; 'tartarean' is ambigious, but none of its meanings are notably vague.

Some of the definitions of 'socialist' are vague, but others e.g. "state ownership of the means of production" are not. When 'socialist' is required to do major theoretical work, as in the socialist economic calculation debate, it's the ambiguity that often leads to problems e.g. in Mises's sense, he says that there CANNOT be a socialist economy, but the Eastern Bloc seem like obvious counterexamples if one uses a different definition from him and thus commits the fallacy of equivocation.

(I'm an analytic philosophy student, not an economist, and our occupational sin is pedantry!)

[Nick Rowe]

Interesting exchange. Physics was my best subject at school, but I realised my math wasn't good enough, and it didn't excite me enough. I did philosophy (mostly analytic) BA, with a sort of unofficial minor in economics. Then switched to economics for MA and PhD, because even though philosophy was great, I wanted something a bit more solid I could get my teeth into.

[Bob Smith]

Twofish,

I'm not so sure the actual practice of economics is so different from the "physics way" you describe. After all, there is a broad consensus among economists about general principles (the 99%, or 90% or whatever, of things that fit their model) - poll after poll of academic economists, for example, show an overwelming acceptance of the proposition that free trade is potentially welfare improving (this is the economic equivalents of "apples fall down"). The debates, or at least the interesting debates, revolve around the exceptions to the general principals (which is why, for example, much of the interesting work in international trade is on instances where free trade may not be welfare improving, e.g., infant industries, externalities, distributional considerations, etc.).

Where there is an important distinction between economics, as a social science, and the "hard" sciences, is that it is also subject to normative debates. A physcist may describe how the big bang happened or how protons decay, but he or she is never likely to have a discussion of whether or not that's good or bad - it just is. For the same reason, you'll never read an op-ed column (except, perhaps, in The Onion) on why the government should/shouldn't be trying to stop proton decay.

On the other hand, 99% of economists may agree that free trade is potentially welfare improving (and in many/most instances, actually welfare improving - doubt you'd find any economist who thinks that imposing inter-provincial/state/EU barriers welfare improving), but if "welfare" has an inherently normative element to it (as it surely does,for example, "conservative" and "socialist" economists - and I use those labels only for convenience - likely disagree as to the impact, if any, of inequality on welfare), economists might disagree as to whether it is welfare improving in a particular instance or what additional policies need to be adopted to ensure it is welfare improving (say, a green tariff, or redistribution from the "winners" to the "losers"). Since economic policies, like free trade (as the last century demonstrated), are generally alterable by human agency (unlike the big bang or proton decay) these normative debates are inherent, and relevant, in any (interesting) economic discussion, in a way that they aren't for physicists.

[Nick Rowe]

Every physicist would (presumably) agree that Newtonian mechanics is a good enough theory for figuring out how to drive a car.

Not all economists agree on basic stuff like whether monetary and/or fiscal policy can and should be used to steer an economy.

[Bob Smith]

Nick,

Fair enough, but then again Newtonian physics has been around for 300+ years (and it built on the earlier work of people like Kepler a century earlier - Newton's line about having stood on "ye shoulders of giants" is telling). The same can't be said of macroeconomics. It's easy to forget that macroeconomics is a relatively young social science. It's a conceit to think that, because we're modern, macroeconomists should be able to figure out the building blocks of their science faster than physicists did.

This also ties back to Mike's point about the relative paucity of data points for macroeconomists. By the time Newton came on the scene, people had been accumulating reliable data on the motion of the planets for centuries, and if so inclined, they could collect 365 observations a year. Newton's predictions could readily be falsified if they were not "good enough". Macroeconomists have, what, a century's worth of, maybe, monthly or quarterly observations, and then only from a handful of developed countries (many of whose economies are closely integrated throughout the relevant period)? How long would it have taken to confirm Newton's predictions of planetary motion if we could only observe the planets once a quarter?

Macroeconomists haven't found their Newton yet, or maybe they just need more giants.

[Nick Rowe]

Bob: and I'm remembering that Asimov(?) story "Nightfall"(?). where a planet had multiple suns, so they couldn't figure out the basic laws of motion. In economics we have the n-body problem. Plus our "bodies" are a lot more complicated, so we need something a bit more complicated than F=ma and the gravitional law to describe them.

[Bob Smith]

Agreed, physicists had it easy!

[W. Peden]

Nick Rowe,

Didn't you study at Stirling? I'm working as a teaching assistant there right now in my gap year.

[Nick Rowe]

W Peden: Yep. Ask Sandra Marshall if she remembers an arrogant little first year student who thought that act-utilitariansism said everything that needed to be said about moral philosophy! (She convinced me otherwise, and I've been trying to figure it all out ever since.)

[W. Peden]

Nick Rowe,

I haven't met her yet, but I'm sure she'll be very happy to hear how well you are doing.

[Twofish]

The fact that economists try to make normative value judgments is part of the problem, but I really don't see why it's so essential that economists do that. It would be seem to be more useful to just argue that if you have policy X you end up with result Y. One problem in trying to make value judgments, I've noticed that economists *define* values in ways that make the math easier. For example, you have the classical economic arguments that free trade maximize welfare, but "free trade" and "welfare" are defined in ways that make this tauntologically true. The fact that economists will often define terms to make them tauntologically true in a toy world that is completely unrelated to our own in fact makes these debates *uninteresting*.

The other thing is that when you are talking about value judgments and everyone agrees, then I think you have a problem. If 99% of the economists believe that "free trade" improves "welfare" then is that more relevant than the fact that 99% of the Catholic priests in the world believe in the Holy Trinity? It's not obvious to a person that is about to lose their job that their "welfare" is being improved.

Also economic policies are often *not* alterable by human agency, and even they are there are timescale issues. You *might* be able to get the EU to have a coordinated fiscal policy, but not in five minutes. The other thing is that economic policies have feedback issues. If you implement policy X, you will get political result Y, which influences what you can do next. One major criticism of macroeconomists responding to the financial crisis was that their policy solutions often assume a "blank slate" in which you have all powerful politicians, when in the "real world' policy is subject to actual political and legal constraints.

[Twofish]

Nick Rowe: Every physicist would (presumably) agree that Newtonian mechanics is a good enough theory for figuring out how to drive a car.

It's not. Even trivial things like wind resistance are things that you cannot calculate within a purely Newtonian framework. Most cars have electronic parts and anything with an electronic part is something that you just can't figure out using Newtonian mechanics.

Bob Smith: Macroeconomists haven't found their Newton yet, or maybe they just need more giants.

This is *exactly* the sort of thing that I was complaining about. Any working physicist knows that for all but the most trivial problems, Newtonian mechanics is either irrelevant, unusable, or more often than not, just plain wrong. You just can't model even *easy* things like wind resistance or burning gasoline in a Newtonian model, and rather than trying to do that, real physicists burn gasoline and put things in wind tunnels to discover how they work. Sometimes you just give up and use real world data.

What I was complaining about was that economists often try to copy a cartoon version of what physicists do and how physicists think that has no actual relationship to how real physicists do and think. This is a perfect example of this.

[Nick Rowe]

Twofish: "The fact that economists try to make normative value judgments is part of the problem, but I really don't see why it's so essential that economists do that. It would be seem to be more useful to just argue that if you have policy X you end up with result Y."

I disagree. Suppose for example we are considering a policy that gives people more choice. I may have no idea how people will choose if they are allowed to do so. So I have no idea what the results of that policy would be. But under certain conditions (people making rational well-informed choices, no externalities, etc.) I would say that policy is a good one. A lot of economics is like that.

W Peden: Stirling's philosophy department was a very good place for me to be as an undergrad from 73-77. I hope it's still as good. Those were very different times though!

[Jacques René Giguère]

Twofish: a lot of what we do involve choices affecting people's lives. After graduation, my first job was to work on a model to help our provincial health ministry to decide on "objective grounds" how to spend the department budget in the "most effective" way. Even if we had been succcesful, it would have meant that some children would have been tested for some genetic disease while some elderly people would not have received supplementary meals. Or the reverse. You don't get more subjective than that.

[Determinant]

Also economic policies are often *not* alterable by human agency, and even they are there are timescale issues. You *might* be able to get the EU to have a coordinated fiscal policy, but not in five minutes. The other thing is that economic policies have feedback issues. If you implement policy X, you will get political result Y, which influences what you can do next. One major criticism of macroeconomists responding to the financial crisis was that their policy solutions often assume a "blank slate" in which you have all powerful politicians, when in the "real world' policy is subject to actual political and legal constraints.

Which plays right into another of my economics peeves: modelling. In any economy with savings and investment (time-forward and time-reverse consumption) the minimum equation that can describe that completely is at least second-order differential. A second-order differential cannot change instantaneously and still be consistent; in an economics context if you try to change too quickly (uncertainty) you get default. Which is to say that an economy can never be completely consistent with itself and still adapt to uncertainty, there is always a cost of default. Any sort of information or planning is costly because of uncertainty.

[Bob Smith]

Twofish, read my comment again, carefully. I didn't say that 99% of economist believe that free trade is welfare improving for everyone (they don't, everyone knows there are winners an losers), I said that it is POTENTIALLY welfare improving, and I made that distinction consciously. The potential welfare improvement doesn't depend on value judgements, but how you weight the winners and losers and how you (re)distribute the gains does.

In any event, normative discussions are inherent the social sciences because human activity, unlike the activities of protons or black holes, has an (important) normative aspect. To say policy x gets you result y isn't very helpful if you don't know if result y is good or not, or how to weight that against alternative results.

Also the statement that economic policies are not alterable by human agency is fascinating - policies, by definition, are the product of human agency. If you don't believe that, pray tell, who do you think sets them? The policies themselves might or might not achieve the desired result or achieve them at the desired times, but they are inherently the product of human agency. The fact that you go on to discuss political or legal constraints on policies only reinforces the point that policies, like politics and law, are the products of human agency.

[Twofish]

Nick Rowe: Plus our "bodies" are a lot more complicated, so we need something a bit more complicated than F=ma and the gravitional law to describe them.

As of point of matter F=ma is false for any sort of non-trivial system. Also people sometimes have bizarre ideas about what physicists actually do. Most physicists work on quite complex systems, and the goal is to create a model that captures the "essence" of a system. It's like a painter or a poet uses pictures or words to describe an emotional truth. Physicists look at systems and then try to figure out how to describe the "essence" of the system. Much of that involves trying to figure out what is important and what is irrelevant.

And sometimes you can describe something complex with something very simple. A good poet or novelist can take incredibly complicated feelings and write three lines that conveys the "basic truth" of a situation. Physicists try and often succeed at doing the same thing. The other thing is that sometimes a lot of complexity makes things simpler. If you look at three atoms, you end up with a mess of equations. If you look at a trillion atoms, the complexity disappears and you end up with a simple gas.

But a lot of this involves *observing* things. You look at a star or piece of metal or economy the same way a painter would look at a face and try to figure out what is *important* and what isn't. And you might have to try a few times before you get it right. You paint a picture or write a poem, and it just looks and sounds wrong, and so you go back and figure out what you need to do to get it right. If you are lucky, you will stumble on some "general truth" but most of the time, you are lucky if you just describe the system. This fetish that macroeconomists have toward abstraction and universality is something that I've never really understood.

These turn out to be very useful skills for economic analysis and this is the reason that for some types of work, banks hire physicists. For example, after the 2007 crisis, the equations that described interest rates changed, and having equations that just change on you is something that physicists are used to handling. You go back and look at the data and think deeply about what exactly changed and why, and that involves going into the very nitty-gritty. One big thing is that before 2007, people assumed that a default by a major bank was impossible, and after the impossible happens, people start putting it into their thinking. Trying to figure out how to model that involves looking into the details of contract law, the institutional dynamics of the Federal Reserve, currency flow rules, and a lot of other factors, and it turns out that you can put that into the model.

Personally, I don't think that even if you can perform random experiments on countries that you will get useful data. The thing is that countries aren't black boxes and the fiscal and monetary dynamics of the United States are totally different from those of Germany or that of Peru. The fact that the dollar is the world's reserve currency made the US behave very differently in 2007 than Argentina in the early-1990's and anything that treats countries as country A and country B just won't work. Also, technology means that economies behave differently in 2010 than they did in 2000 than 1990. One reason there is a lot of work for physicists in banks is that the fundamental economic rules change every three years or so on a global scale and they also change constantly at a local scale. Central Bank of Country A changes currency policy, and all the equations suddenly change.

There seems to be a "pseudo-physics fetish" in which economists try to invent abstract and universal rules, whereas physicists when given the same situation will just not even try to be abstract and universal, and just try to understand the dynamics of a particular situation knowing that it probably will change suddenly.

[W. Peden]

Nick Rowe,

Being a student in the mid-1970s must have been hard generally, with a fixed income and 20% plus inflation. I don't know how my parents managed it.

Do you remember Alan Millar? He is still very active within the department, now as a professor. The Stirling department has gone from strength-to-strength over the last 30 years, like the rest of the university. I think it actually does better than Edinburgh now on student satisfaction.

Twofish,

I also get the sense from reading some physics and philosophy of physics that physicists are a bit better than economists at being explicit about their ceteris paribus assumptions, but that could just be that it's easier for me to spot an implicit ceteris paribus assumption in economics than physics.

[Twofish]

Rowe: But under certain conditions (people making rational well-informed choices, no externalities, etc.) I would say that policy is a good one.

The trouble is that that assumes a definition of "good" which is a problem if people have different definitions of "good" than you do.

I don't have a problem with economists making statements like "policy X will improve personal incomes". I do have a problem when it's assumed that "improving income" is automatically good. A lot of economics involves trying to characterize a number as "good" and maximizing that number, and that involves implicit moral decisions which I think should be explicit.

What worries me is when people define something as "good" because it happens to be easy to calculate and quantify. If someone wants a moral principle that something unquantifiable should not be used to make moral choices, that an interesting idea, but it's something to be discussed rather than assumed.

Bob Smith: I said that it is POTENTIALLY welfare improving, and I made that distinction consciously.

The problem with saying things like POTENTIALLY is that it makes falsifiable difficulty to impossible. I can just as well say that import substitution and Marxist central planning is *potentially* welfare improving, and at various points in the past, those philosophies had as much empirical justification and mathematical credibility as the neoliberal model did before the 2007 crisis.

If I say that policy X ***will*** improve "welfare" and we go down six months and it doesn't, that's good. I look at how my model mismatches reality, and we can make policy corrections. If you say that the policy *potentially* improves welfare without any qualifiers, then we do it for six months, and it looks bad. When do you figure out that you just got it wrong and that for whatever reason, comparative advantage just doesn't apply in your particular situation.

Now if you say policy X will improve "welfare" if you include policies Y and Z subject to condition A, they we are getting somewhere.

Bob Smith: To say policy x gets you result y isn't very helpful if you don't know if result y is good or not, or how to weight that against alternative results.

But I don't think that it's the place of "experts" to make those decisions. I tell you that policy X will lead to result Y, you tell me if you think that's good or not. If you tell me that you want a policy that results in Y, then I'll come up with solution X. The thing is that I don't see any reason to think that physicists or economists are any more qualified to decide what "good" is than random people with no technical skills.

Bob Smith: Also the statement that economic policies are not alterable by human agency is fascinating - policies, by definition, are the product of human agency.

Some are. Some aren't. Most basic economic policies are specifically designed so that they *cannot* be altered easily. You can put in booby traps so that a policy can't be altered at all (ask the people that designed the Euro.)

There are timescale issues. For example, it's possible for Europe to have a unified fiscal policy. It's not possible to have that done in one year or probably even five years. So if you have a banking crisis in which the time scale is hours, you can't change the policy fast enough. It takes a few weeks to get an Act of Congress, and if you have hours, forget it. For some basic legal things, you need decades, maybe even centuries to change something.

Also a lot of institutional infrastructure ends up being either by accident or design to be difficult to impossible to change. If you want to turn the US into a Marxist society, that's not going to happen without lots of difficulty.

These things matter particularly in a crisis, when time matters. I read a paper by a Treasury official that said that he was seriously annoyed at some economists for suggesting policies that just could not legally be implemented.

Bob Smith: If you don't believe that, pray tell, who do you think sets them?

It depends.....

A surprisingly large amount of stuff "just happens." The thing about highly complicated non-linear systems is that you end up with a "ghost in the machine" and things happen in which no human actor can be said to be the cause. Markets often work well because they can process information faster than any individual human being can, and they have dynamics that are independent of any particular component part.

If you believe in chaos theory and quantum mechanics then a lot of stuff is just random. Some electron jumps, a butterfly flaps its wings, and then empires rise and fall.

It's complicated, it's situation dependent, but its the type of thing that physicists just love to figure out.

[Twofish]

Let me just describe how I see the situation.

1) the standard model of comparative advantage says that free trade (as defined in the model) improves welfare (as defined in the model). This model has mathematical definitions of all of these terms and just states a mathematical fact
2) therefore in situations in which the model is an accurate description of the reality and in which the terms mean what we want them to mean, social welfare will be improved by free trade

The tricky part is to figure out whether the model is in fact a useful and accurate description of a particular situation. That requires pretty deep knowledge of the situation you are trying to model, and you can just try it and see if it works.

Categorical statements like "free trade increases social welfare" is something that I want to avoid. Making statements that sound like "universal laws" is a bad idea, IMHO.

What I can say is that "in this particular situation, the dynamics of the system is accurately modelled by comparative advantage, and therefore we expect if we reduce tariffs than personal incomes will increase." If X doesn't happen then you go back and figure out what that means. If you reduced tariffs and personal incomes *didn't* increase, then you made a mistake somewhere. This might be a good thing. A model that produces an obvious mistake is better than one that can explain everything, since something that explains everything, explains nothing.

Also if you reduced tariffs, and personal incomes *did* increase, then you still need to dig some more.
Maybe you got the right answer for the wrong reasons. For example, maybe the reason things got better wasn't that people are doing comparative advantage, but rather because you can create larger markets with larger economies of scale. Maybe in reducing tariffs, you decreased rent seeking which increased internal economic efficiency. Getting something right for the wrong reasons is dangerous because you might end up pushing things in the wrong direction (i.e. all of developed nations that went for Soviet-style central planning in the 1960's).

All models are false, some models are useful. Newtonian dynamics happens to be a useful model for some very, very limited situations, but in most interesting situations it's either incomplete, or useless, and you have to figure out what are the relevant dynamics of the situation, which more often than not have only limited connection to Newton's laws. (Also there is a tauntology here, if you have a situation in which Newtonian mechanics is a good model, physicists will be uninterested and give it to engineers to handle.)

It's no different than the efficient market model or the comparative advantage model, and I find a lot of this "Newton worship" to be bizarre and a little dangerous. One of the most dangerous things that you can do is to take a model and push it past its limits.

This is basically a philosophy point. Different physicists have different philosophies and philosophies of science can change over time. The idea of a "clockwork universe" or science as a quest for "universal laws of nature" was popular in the 19th century and early 20th century, but I find it bizarre, and I find it even more bizarre that I see traces of it in a lot of social sciences.

What I'm seeing is that social scientists seem wedded to a philosophical view of "science" that was popular in the 1950's, but which most physicists have abandoned because it just doesn't work at understanding complex systems. Something that I find weird is that there seems to be an agreement that "pseudo-Newtonian" models don't work very well in economics. Okay fine. But maybe the solution is to just abandon the Newtonian view of the world and find something else, just like most physicists have done.