Noah Smith — Did macro theory fail us in the crisis?

This is a useful article. Pay particular attention to point 4.

I feel like if you have models for everything, you don't actually have any models at all. Without a way of choosing between models, your near-infinite stable of models turns into one big giant mega-model that can give anyone any results he wants. Worried about a financial crisis? Pull out a model that tells you a financial crisis could be looming. Worried about inflation? Pull out a model where inflation is a big danger. And so on.

I'm kinda going to agree with Noah about this. If macro theory presumes a model that predicted the crisis precisely based on assumptions and deductive logic, what he says is true. No mathematical model predicted the crisis with precision. Moreover, there will likely never be such an econometric model for reasons that Keynes explained.

But what this says is that macro theory is not very relevant to the real world, and policy makers should not be looking to macro theory  for guidance, other than peripherally.

Business people understand this. If macro theory were useful in business forecasting and operations, businesses would be hiring macroeconomists and competing away the best ones with huge salary offers. The fact that this is not happening is all you need to know about the practical usefulness of macro theory based on formalized models.

I think that this shows how there needs to be a distinction drawn between macroeconomics as a theoretical discipline and political economy as a policy science that combines economics with political science, sociology, history, law and government, and psychology — all disciplines that deal with the real world empirically — and other relevant methodological disciplines like applied mathematics, systems theory, philosophy of science, and analytic philosophy.

Does this mean that theoretical macro is a waste of time? No. Theoretical pursuits have their place. But they should know their place and not represent themselves as something they are not.

If you ever want macro models to actually be useful, it's not enough to just wave your hands and say "all models are wrong". It's not enough to treat models as ways to "organize our thinking". You've got to have a way to take them to data and decide if you should keep them around, send them back to the shop for alterations, or burn them in a fire.

What it means is that macroeconomists should not be assumed to be especially qualified as policy advisors based on their knowledge of macro theory. Those seeking policy advise should look elsewhere, or at least at least much more broadly.

Noahpinion
Did macro theory fail us in the crisis?
Noah Smith | Assistant Professor of Finance, Stony Brook University