The New Interventionist Economics

November 17, 2009

by Roger Koppl

Two recent posts on this blog (here and here) raise the issue of animal spirits and where macro is headed.  I’ve recently completed a draft manuscript saying we are headed for “BRACE” economics.  I say the “New Interventionist Economics” will be characterized by five features:

Bubbles

Radical Uncertainty

Animal Spirits

Complexity Dynamics

Extra-Market Control

(giving the BRACE acronym).

My paper includes a look at two contributions to the recent conference asking “What’s Wrong with Modern Macroeconomics?” namely, those of Kirman and De Grauwe.  The conference has been discussed at Mark Thoma’s Economist’sView.  I think the Kirman and De Grauwe papers represent the likely direction of macroeconomics.  I provide some evidence in my paper that central bankers are in the market for this sort of thing.  I quote Janet Yellen pushing for a scary form of discretion, by the way.  (See page p. 25 of my paper or page 13 of her talk.)

I think there is room to criticize both the analytics and the policy conclusions of the new interventionists.  On the analytical level, I think we should push comparative institutional analysis harder than the new interventionists seem to be doing.  On the policy level, think we have to push hard on epistemics.  On that score, I think K. Vela Velupillai’s “computable economics” could be very helpful, especially this result.  I give a user-friendly reviews of computable economics here and here.  Getting the history of the Great Recession right is also important.  In this regard I would like to see more attention paid to Peart & Levy’s point that the housing bubble was, in part at least, expert induced.

17 Responses to “The New Interventionist Economics”

  1. chidemkurdas Says:

    Nice acronym, Roger. It catches the dynamics and interactions. And it’s a vivid metaphor– one can picture the entire population wearing gigantic braces!

  2. Adam Martin Says:

    I think you (and Collander, among others) overestimate the mainstream acceptance of complexity.

    And I know you overestimate the acceptance of radical uncertainty.

  3. koppl Says:

    Hi Adam,

    The issue of whether complexity really has won the day was vetted last year at The Austrian Economists blog:

    http://austrianeconomists.typepad.com/weblog/2008/10/what-is-new-in.html

    Pete Boettke agrees with you on this point. I joined others in expressing disagreement. I think Krugman’s prize marked (but did not cause) the acceptance of complexity theory into the mainstream.

    Let’s say you’re right, however, that Holt, Colander, and Rosser exaggerate mainstream acceptance of complexity so far. In the BRACE paper I’m making a prediction about where macro is headed in the near future. The Akerlof & Shiller book makes the case strongly for irrational bubbles driven by animal spirits. When you try to model animal spirits it is almost inevitable that you will want to represent waves of optimism and pessimism as unpredictable. That drives you toward complexity models. It’s like a vacuum sucking macro models in.

    Mainstream macro has mostly resisted the complexity revolution, relying on DSGE models. I think that’s about to change. I give some evidence that central bankers may be in the market for animal spirits. Akerlof represents how the top of the profession seems ready for a more complex macro featuring animal spirits. Finally, De Grauwe shows us how to tweak DSGE with animal spirits and come out with a complexity model you can calibrate. I really see the stars lining up here.

    In the paper I spent some time on radical uncertainty because it is sort of weird to think it could be entering mainstream macro. I tried to show, however, that the seeds for that are there and, indeed, starting to germinate.

  4. Silas Barta Says:

    FYI: Just because many people use cognitive biases to justify government intervention, doesn’t meant the cognitive biases don’t exist. Be careful not to mix those two issues.


  5. Roger: A most inteersting and provocative post. I look forward to reading your paper.
    Do you address Real Business Cycle theory?
    I assume you know that Akerlof and Yellen are married.

  6. koppl Says:

    Uh-oh! I agree with you, Silas, and I wouldn’t wish to suggest otherwise. Can you point me to where I might seem to suggest otherwise? It’s still a draft, so I really welcome corrective comments such as yours. Thanks in advance your further help.

  7. koppl Says:

    Thanks to Jerry and Chidem for kind remarks.

    Chidem, I do worry that we are making an increasingly sclerotic economy.

    Jerry, I do not mention RBC separately, no. At revision time I’ll have to consider what to do about that. I do mention DSGE, but only in connection with the De Grauwe paper, in which monetary policy matters.

  8. Silas Barta Says:

    @Roger_Koppl: Well, for one thing, you say that the New Interventionist Economics is characterized by BRACE, even though one can accept all of these phenomena while not being interventionist.

    (Btw, why not make it into the acronym ERABC, pronounced “Arabs”? No? Okay then.)

  9. koppl Says:

    Silas,

    How do you accept the E in BRACE, “extra-market control,” without being interventionist? And how is that related to your (correct) admonition that recognizing cognitive bias does not mean supporting intervention? Perhaps you’re confusing BRICE with BRACE? Here is me on BRICE:
    http://www.gmu.edu/rae/archives/VOL19_4_2006/1-Koppl.pdf

    It is true that BRICE and BRACE are both in some sense about complexity and have, therefore, an inner connection. But they are not the same. I basically like BRICE and do not like BRACE. I said “basically,” because, you know, there’s some great stuff there and aspects I do like and so on. But I sure don’t care for the interventionist thrust of it, which is based on bad epistemics IMHO.


  10. Roger,

    Is this about right? You like radical uncertainty and complexity dynamics, you are not so hot on bubbles and even less so animal spirits (although I note that they can be endogenous a la Minsky), and really dislike the extra-market control. Is that it, more or less?

  11. koppl Says:

    I suppose that’s about right for such a quick summary, Barkely, though details can matter. It’s not that I don’t think markets bubble, for example. They do! But they are more bubbly when governments do wicked things like inflate the currency and exercise Big Player influence. I’d say something similar about animal spirits.

    I want a comparative institutional analysis that tells me when markets bubble more and when less and what policy might really be able to do about it. I don’t care for the “Fix it!” theory of economic policy. (http://www.youtube.com/watchv=fRu5ojRDNqA&feature=related)
    Okay, okay, I admit that’s no fair to BRACEians, but it’s pretty funny IMHO.

  12. koppl Says:

    Curses! Link doesn’t work. Try this:

  13. Josh Says:

    Roger,

    I haven’t yet read your manuscript, so forgive me if I write something stupid. However, in general, I think that macro is already a great deal more diverse than it is given credit for.

    For example, De Grauwe’s paper is not as novel as it seems. In fact, Roger Farmer wrote an entire book entitled, The Macroeconomics of Self-Fulfilling Expectations, the second edition of which was published in 1999, that was dedicated to discussing indeterminate equilibria and “animal spirits”.

    This type of research is quite mainstream. Authors such as Ben Bernanke, Richard Clarida, Jordi Gali, Mark Gertler, and Michael Woodford have written on self-fulfilling expectations. Evans and Honkapohja wrote an influential book on learning and expectations in DSGE models.

    This literature might not be emphasized in the classroom, but it has been influential.

  14. koppl Says:

    Stupid never, Josh! But I think I’m cool on the issues you raise.

    Mostly, you’re talking about sunspot models, which I discuss and trace back to Azariadis 1981. Such models let you have self-fulfilling prophecies with rational expectations. That’s what you get in a 2009 model of the Great Recession by Farmer, which I also discuss. You mention Evans & Honkapohja, which brings in “adaptive learning” more or less along the lines of Sargent’s 1993 [?] book on bounded rationality. That’s not a ratex model, but it’s not BRACE either. In all the models you invoke, I think, there is no diversity of expectations and no expectational ecology of the sort Arthur introduced with his El Farol paper. Thus, I think it’s fair to say that if BRACE does go mainstream as I (precariously) predict, it will be a bit of a new turn for mainstream macro. Please let me know if I’m missing something here or not connecting to your point.

  15. Josh Says:

    Roger,

    I guess my two main points are as follows:

    1. There seems to be a popular misconception about what macroeconomics is and is not. This is not aimed at you, but rather these types of discussions as a whole. I read a story in the WSJ a week or so ago about how the economics profession is searching for a new vision for macro. Of course, in the online version, there was an interactive graphic at the bottom of the article that highlighted the work of economists pursuing a new framework. Two of the economists mentioned were Bernanke and Gertler, particularly with regards to their work on such things as credit market frictions. Of course, Bernanke has been writing about this type of thing since the 1980s.

    In addition, I think that over the last 15 years, macroeconomists have become much more cognizant of identification issues with rational expectations models. In fact, I would argue that the consensus argument on the Great Inflation is that policy resulted in either indeterminacy or instability. This hardly fits with the view given by the mainstream critics that have prestigious columns at large newspapers (wink, wink).

    2. I agree with you that the types of issues exemplified in “BRACE” economics are likely to get more attention. I am skeptical, however, that these issues will come to the forefront. This is not to deny that there will be influential work in this area, but I don’t think that it is going to have as large a role as some believe.

    Personally, I am not a methodology snob (I am going to get killed in the comments for that — assuming anyone has made it this far in my rant). I would like to see more diversity in research. Nevertheless, we need not throw the baby out with the bath water. The reason many of these much maligned macro models are so popular is because they are able to capture the behavior of the economy reasonably well.

    Then again, I could be wrong🙂

  16. koppl Says:

    Josh,

    You are, of course, completely right on 1. This issue got some attention at The Austrian Economists last month in connection with Soros’ new think tank:
    http://austrianeconomists.typepad.com/weblog/2009/10/what-is-wrong-with-this-picture-soros-pledges-50million-to-fund-new-economic-think-tank-in-hungary.html

    Your point 2. could be right about, of course. We’ll have to see if my crystal ball is properly calibrated!

  17. Josh Says:

    Ah yes, the think tank to help those poor, unfortunate Nobel prize winners get their message out.😀


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