Interesting Congressional Testimony...

Congressional Testimony by David Colander, Scott Page, Sidney Winter, and V.V. Chari on "Building a Science of Economics for the Real World" (Robert Solow also testified as a part of this panel, and his testimony on DSGE's was the subject of a previous post).  Solow, Colander, Page, and Winter discourage the sole use of DSGE models AND provide viable alternatives...Chari's testimony in defense of DSGE's as the ONLY acceptable macroeconomic modeling strategy is ridiculous.  Chari fails to address the two major criticisms of the DSGE framework raised by the other panel members:

1. DSGE models ignore agent interactions which are crucial if one cares about aggregate macroeconomic dynamics, and
2. DSGE models ignore meaningful heterogeneity (to my knowledge the only types of heterogeneity that DSGE models incorporate are ex post random differences in agent endowments and shocks.  Ex ante all agents are identical.) 

To be honest, Chari's counter-agruments indicate to me that he is not at all familiar with the literature on the complex systems approach to economics (which is what he is defending DSGE's against in this panel).  Unfortunately this lack of familiarity is all too common within the profession...

Ridiculous Assertion of the Day...

The following is an excerpt from V.V. Chari's recent congressional testimony:

"All the interesting policy questions involve understanding how people make decisions over time and how they handle uncertainty. All must deal with the effects on the whole economy. So, any interesting model must be a dynamic stochastic general equilibrium model. From this perspective, there is no other game in town. Modern macroeconomic models, often called DSGE models in macro share common additional features. All of them make sure that they are consistent with the National Income and Product Accounts. That is, things must add up. All of them lay out clearly how people make decisions. All of them are explicit about the constraints imposed by nature, the structure of markets and available information on choices to households, firms and the government. From this perspective DSGE land is a very big tent. The only alternatives are models in which the modeler does not clearly spell out how people make decisions. Why should we prefer obfuscation to clarity? My description of the style of modern macroeconomics makes it clear that modern macroeconomists use a common language to formulate their ideas and the style allows for substantial disagreement on the substance of the ideas. A useful aphorism in macroeconomics is: "If you have an interesting and coherent story to tell, you can tell it in a DSGE model. If you cannot, your story is incoherent."

This, quite simply, is hogwash.

Quote of the Day...

"Economic theory is always and inevitably too simple; that can not be helped. But it is all the more important to keep pointing out foolishness wherever it appears. Especially when it comes to matters as important as macroeconomics, a mainstream economist like me insists that every proposition must pass the smell test: does this really make sense? I do not think that the currently popular DSGE models pass the smell test. They take it for granted that the whole economy can be thought about as if it were a single, consistent person or dynasty carrying out a rationally designed, long-term plan, occasionally disturbed by unexpected shocks, but adapting to them in a rational, consistent way. I do not think that this picture passes the smell test. The protagonists of this idea make a claim to respectability by asserting that it is founded on what we know about microeconomic behavior, but I think that this claim is generally phony. The advocates no doubt believe what they say, but they seem to have stopped sniffing or to have lost their sense of smell altogether."

-Robert Solow