January 18, 2011

Must Macroeconomic Theories Have Microfoundations?

Attention conservation notice: Obvious reflections on a tired question, written down to get them out of my head while I work on other stuff, and posted to amuse connoisseurs with their naive presumption.

1. Obviously, macroeconomic phenomena are the aggregated (or, if you like, the emergent) consequences of microeconomic interactions. What else could they be? Analogously, the macroscopic physical properties of condensed matter all ultimately emerge from molecular interactions.

2. Macroeconomic theories which do not derive such phenomena from microscopic interactions are thus incomplete, and intellectually unsatisfying. Analogously, theories of condensed matter which do not derive the phenomena from molecular interactions are incomplete.

So: the true and complete theory of macroeconomics must emerge from the true and complete theory of microeconomics.

3. Incomplete theories are not (necessarily) false, or even lacking in value. A model of the bulk properties of steel, or plastic, or bone, which doesn't include a derivation from molecular dynamics can be accurate, precise and useful. It could even be more accurate than a micro-founded model, if, e.g., we lack a precise understanding of the microscopic structure, or we can only calculate macroscopic consequences through crude approximations.

4. If a well-established macro-level theory does not, currently, have any micro-foundations, the scientific approach would seem to be to dig those foundations, not to pull down the theory.

5. If a good macro-level theory cannot be founded on our current micro-level theory, this could be due to: (a) defects or weaknesses in our techniques for calculating aggregate consequences of micro-level interactions; (b) specifying the wrong sort of initial/boundary conditions, or interaction structures, in the microscopic models; (c) errors in our understanding of micro-level interactions and dynamics; (d) errors in our formulation of the macro-level theory.

There will certainly be some situations where (d) is right, e.g., because there is no possible way to derive the macro theory from any micro-level one. But it is hard for me to see why (d) should always be the preferred option in economics. Some adjustment of our various theories, models and techniques is required, but it seems mere prejudice that it should always be macro which adjusts. Even if one thought that standard microeconomic theory was very securely established and successful (which is dubious), even well-established and successful theories can contain systematic mistakes, which might (e.g.) only be detectable when one looks at aggregate consequences. (If nothing else, statistical power grows with sample size!) Or again: perhaps there's nothing wrong with the specification of what individuals are like and how they interact, but the simplification of always solving for the equilibrium is wrong, and while it's not very wrong for any one market over a short period, the error accumulates when one goes to the level of whole economies over years and decades.

To continue the analogy, circa 1900 classical mechanics and electromagnetism were extremely well-confirmed theories, in much better shape than microeconomics is. Nonetheless, any attempt to explain condensed matter physics on that basis, starting from molecular interactions, was doomed. (For instance, classical physics predicts that matter should be unstable.)

6. Even if one has a true microscopic theory, the best way to develop theories of macroscopic phenomena is not, necessarily, to start from a microscopic model. Sometimes it will be, but there's no reason to think that's a general rule for all problems. The answer might even vary from theorist to theorist, depending on skills, experience, etc.

7. Micro-founded models would be more suitable for policy-making only if it is easier to develop an accurate causal model of how individuals and their interactions respond to policy changes, and to aggregate the results, than it is to develop a macro-level causal model. Why should we think this?

For "economics", read "sociology", "political science", "ecology", etc., etc., as appropriate.

Update, 24 January: Both J. W. Mason at the Slack Wire and Tom Slee at Whimsley have written substantial responses which deserve detailed replies, but are unlikely to get them soon. Since I can't stand to work on tomorrow's lecture any more tonight, I will just say a few words about Slee's, which is easier for me to reply to.

First, effective evolutionary explanations resolve themselves into causal ones. This is because they contain feedback mechanisms which make selection operative. This in turn means that the current properties of organisms and populations are the result of the causal interactions of their ancestors with past environments, and so causes do indeed precede effects. To use a distinction which I believe originated with Monod, these explanations are teleonomic, not teleological.

Second, Slee raises the issue of when descriptions and explanations in terms of coarse-grained macro-variables are not just more familiar but actually in some sense more effective than ones in terms of fine-grained micro-variables is a very deep one. (Mason also brings this up, but invokes additional considerations which I don't feel I have time to go into now.) To my mind this is the heart of emergence, at least in the sense in which I can make sense of the word and don't find it trivial. I have tried to tackle this at length elsewhere, by giving an information-theoretic account of when a set of macroscopic variables, or more precisely the states defined by them, emerge from microstates by enabling more efficient and self-contained prediction at the higher level. My paper with Cris Moore (here or here) has details, though we presumed some familiarity with stat. mech. (I also took a stab at connecting this to cognitive science; and you could always read the last chapter of my dissertation, if you want to chance death by boredom.) I am not, obviously, well-placed to judge my own efforts in this line, but if it's even roughly right, then there is, indeed, no contradiction between insisting on reductionist accounts for higher-level phenomena, and pursuing autonomous (or nearly autonomous) causal explanations in terms of higher-level variables. Whether the variables used in current macroeconomics have the right properties is, of course, a different question. I should also mention, in this connection, Clark Glymour's "When Is a Brain Like the Planet?"; I believe Clark's arguments mesh very well with those in my papers, though we've never hashed that out and he might disagree.

Third, I suspect anyone who likes Slee's examples will also enjoy Wolfgang Beirl's notes on the predictability of physicists, and vice versa.

Mason next time, inshallah.

Manual trackback: The Slack Wire; Beyond Microfoundations; Blake Riley; Grasping Reality with \$Numerosity \$Instrumentalities; Critiques of Libertarianism; Whimsley; Critiques of Collectivism; the blog formerly known as The Statistical Mechanic; D2 Digest (I agree; see point 5 above); Unfogged [I have explained why I do not find "supervenience" a useful notion elsewhere]

Complexity; The Dismal Science

Posted at January 18, 2011 20:45 | permanent link

Three-Toed Sloth