Saturday, April 2, 2011

No man is an island

All mankind is of one author, and is one volume...

The world we know is Newtonian. Quantum physics gives us computer chips and lasers and that's all very nice but in the real world, apples fall.

The economy we know is Micro. Macro economics gives us aggregate numbers and fallacies of composition and that is all very nice but in the real world, everything is the customer and the firm.

Newtonian physics describes the world we can see. Quantum physics describes the operation of the unthinkably small.

Micro economics describes the economy we can see. Macro economics describes the operation of the unfathomably large.

"By the 1960s," Robert Lucas writes, "... there were macroeconometric models ... whose relation to microeconomic theory and classical monetary theory was unclear. Virtually no one at the time regarded this situation as healthy."
From Lucas's Nobel Prize lecture (PDF).

There was "a chasm," Mankiw says, "between microeconomic principles and macroeconomic practice that was too great to be intellectually satisfying."
From N. Gregory Mankiw's Economics in Disarray.

Lucas "challenged the foundations of macroeconomic theory," Wikipedia notes, "... arguing that a macroeconomic model should be built as an aggregated version of microeconomic models." His work led to "the drive towards microeconomic foundations for macroeconomic theory."
From the Wikipedia article on Robert Lucas, Jr.

Stephen Williamson summarized these events: "Lucas's work sets off a methodological revolution that changes how we do macroeconomics."

Robert Lucas wagged the dog. Discarding the work of Keynes, economists re-created macro "on microeconomic foundations." This is comparable to physicists choosing to discard quantum physics because it doesn't sit well on the Newtonian foundation.

In Six Easy Pieces, Richard Feynman wrote:

The mechanical rules for "inertia" and "forces" are wrong -- Newton's laws are wrong -- in the world of atoms. Instead, it was discovered that things on a small scale behave nothing like things on a large scale.

To move forward in physics, it was necessary to acknowledge the limits of Newtonian physics, and embrace quantum. There is no more reason to assume micro economics is the proper foundation for macro, than to assume Newtonian physics is the proper foundation for quantum.

1 comment:

Jazzbumpa said...

Or, as I like to put it, Economics is Bunk!