Asia’s miraculous miracle

This essay by Krugman on Asian development was being posted everywhere for a while. Everyone was trying to predict things about China with it, which is of course silly, but it is very useful as a bit of economic history. When writing about pretty much anything, people forget what they had learned in the past and pretend like everything is new. Or they just don’t learn about the past, which is just as bad.

…The leaders of those nations did not share our faith in free markets or unlimited civil liberties. They asserted with increasing self confidence that their system was superior: societies that accepted strong, even authoritarian governments and were willing to limit individual liberties in the interest of the common good, take charge of their economics, and sacrifice short-run consumer interests for the sake of long-run growth would eventually outperform the increasingly chaotic societies of the West. And a growing minority of Western intellectuals agreed.

The gap between Western and Eastern economic performance eventually became a political issue. The Democrats recaptured the White House under the leadership of a young, energetic new president who pledged to “get the country moving again”–a pledge that, to him and his closest advisers, meant accelerating America’s economic growth to meet the Eastern challenge.

The time, of course, was the early 1960s. The dynamic young president was John F. Kennedy. The technological feats that so alarmed the West were the launch of Sputnik and the early Soviet lead in space. And the rapidly growing Eastern economies were those of the Soviet Union and its satellite nations.

…We all do a primitive form of growth accounting every time we talk about labor productivity; in so doing we are implicitly distinguishing between the part of overall national growth due to the growth in the supply of labor and the part due to an increase in the value of goods produced by the average worker. Increases in labor productivity, however, are not always caused by the increased efficiency of workers. Labor is only one of a number of inputs; workers may produce more, not because they are better managed or have more technological knowledge, but simply because they have better machinery. A man with a bulldozer can dig a ditch faster than one with only a shovel, but he is not more efficient; he just has more capital to work with. The aim of growth accounting is to produce an index that combines all measurable inputs and to measure the rate of growth of national income relative to that index–to estimate what is known as “total factor productivity.”

…When economists began to study the growth of the Soviet economy, they did so using the tools of growth accounting. Of course, Soviet data posed some problems. Not only was it hard to piece together usable estimates of output and input (Raymond Powell, a Yale professor, wrote that the job “in may ways resembled an archaeological dig”), but there were philosophical difficulties as well. In a socialist economy one could hardly measure capital input using market returns, so researchers were forced to impute returns based on those in market economies at similar levels of development. Still, when efforts began, researchers were pretty sure about what they would find. Just as capitalist growth had been based on growth in both inputs and efficiency, with efficiency the main source of rising per capita income, they expected to find that rapid Soviet growth reflected both rapid input growth and rapid growth in efficiency.

But what they actually found was that Soviet growth was based on rapid growth inputs–end of story. The rate of efficiency growth was not only unspectacular, it was well below the rates achieved in Western economies. Indeed, by some estimates, it was virtually nonexistent.

It goes on to discuss Singapore, Japan, and China. It is shocking to realize how much improvements in accounting were important to economic analysis. One note to this article: Singapore now has a higher GDP per capita than the USA in PPP terms but not nominal terms.

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Macroeconomists, again

economics

Unsurprisingly, a lot of people are interested in rebutting Paul Krugman’s essay in the NYT magazine, which I discussed earlier. There are two rebuttals in particular which I think are of note: David Levine’s and Narayana Kocherlakota’s.

Kocherlakota’s is more intellectually interesting, or at least useful. He lists all the young tenured faculty at the top fifteen economics departments in the US, and then gives ten conclusions about them. They are:

1. Macroneconomists don’t ignore heterogeneity
2. Macroeconomists don’t ignore frictions
3. Macroeconomic modeling doesn’t ignore bounded rationality
4. Macroeconomic models do incorporate a role for government interventions
5. Macroeconomists use both calibration and econometrics
6. There is no freshwater/saltwater divide – now
7. These researchers have been much more interested in the consequences of shocks than their sources
8. The modeling of financial markets and banks in macroeconomic models is stark
9. Macroeconomics is mostly math and little talk
10. The macro-principles textbooks don’t represent our field well

I would say that most of these are not the impression one would get from the Krugman’s article. Indeed, I can’t believe this whole freshwater/saltwater divide thing is being brought up as so important. Chicago is where some of the most important behavioral research is being done – not a very “freshwater” thing to do.

Levine’s article, on the other hand, is illuminating for what I think is being gotten wrong about the whole argument. Yes, he was wrong or misleading about a lot of things that macroeconomics is doing wrong. But the important point of the article is the institutional biases against that kind of economics being brought into policy debates. Now I have no idea whether that is true or not: but I don’t see any articles arguing against that point. It’s great to say that you have much better models than Krugman suggests – but why aren’t they being used in policy discussions? (Answer: probably because they’re harder to talk about.) I think this goes to point number 7 above, too. I also think there’s a difference in how academic economists see themselves and how the rest of the world sees them – which Levine alludes to – in that academic economists are interested in how the economy functions while the public wants them to be predicting rare events (major recessions).

On a slightly different topic, Matt Yglesias has a strange post against micro foundations in macroeconomics, and I gather he gets the idea from here. He first brings up the ‘metaphysical issue about whether or not it’s the case that macroeconomic propositions are ultimately reducible to microeconomic phenomena’, which is valid but beside the point. Obviously it would be nice to know but I fail to see how one can conclude that without doing the research in the first place. Further, if one cannot predict macro phenomena from micro phenomena, it says one or the other theory is wrong. But that’s great information to know, so I don’t see why there would be hostility to studying it.

He then asks the ‘methodological question about whether it really makes sense to demand that macroeconomists produce microfoundations for their theories’ which is ill-informed. Not every macroeconomist produces microfoundations. Instead, those searching for a rigorous basis to macroeconomics try to do this while those content with modeling qualitative macro phenomena do that! And that’s what they do in plenty of other fields too, and it’s very successful. The rest of his post is fairly misinformed, too, so I won’t say anything more about it. To get a decent rebuttal, one should read this article by Dasgupta from 1996 from page 13 on (“critiques of modern economics”). [Note to self: interesting note about herd behavior in citation 36).

[Update: A list.]

Economists have already ruined everything, so why should we care what they’re doing now?

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I of course read Krugman’s article in the NYT magazine on how economists got everything all wrong. It was somewhat interesting, though not incredibly so; his arguments are either a rehash of what’s been out there in other sources for a while or kind of wrong. I’m not an economist, so I certainly don’t know how in thrall economists are to mathematical perfection over ideas (though having worked in econometrics I can say, at least in the private sector, it’s not very much). I have a hard time with Krugman because even though I tend to agree with him politically, he’s kind of an asshole and a demagogue when he writes. But I read the article not as a very good attack on modern economics per se, but as a good attack on the dangers of groupthink.

A few people have offered rebuttals; some, like John Cochrane, appear more like bitter responses than substantive. He clearly misunderstands a lot of what Krugman wrote and offers plenty of incorrect assertions about how a Keyenesian would or would not act – though he is correct that Krugman doesn’t offer compelling evidence as to why Keyenesianism is the optimal model as opposed to the nine billion other ones.

Robert Levine offers alternative explanations for the crisis that Krugman should have considered, namely innovation and oil shocks. More interesting is Ben Gordon’s discussion of modern macroeconomics. He criticizes “modern macro”, here dynamic stochastic general equilibrium (DSGE), and compares it with 1978-era theories. Both Gordon’s and Levine’s criticisms seem similar, to me, though I don’t know enough about DSGE to really evaluate them.

How we model the economy is an important question. Krugman mentions behavioral economics (TED video here). Frankly, the thing that shocks me the most about academic economics is that it didn’t incorporate psychological and sociological research one hundred years ago when they were becoming ‘sciences’. Talk about groupthink! If we don’t understand how even small groups make economic decisions, how do we know how to generalize it? That’s what we call science. I would say the way forward in economics is behavioral economics combined with agent-based economics. Then, you derive laws from there.

Anyway, it looks like quants are doing something like that already. Here’s your bonus article with cool pictures of world trade links – though I’m not sure I’d agree with the cause they propose for the lack of links to certain countries.