Tuesday, January 25, 2005
Economics questions from MOB (and brought to class)
While at MOB, I had three good questions thrown at me about economics, and I don't know that I answered any of them adequately.
- Nihilist in Golf Pants asked whether the low value of the dollar is a good thing or a bad thing. I put this question to my students in their first lecture of intermediate macroeconomic theory yesterday and they correctly answered "it depends". (This is the first answer I teach them on the road to being economists; it works in almost any situation.) An exchange rate is an intermediate goal; the ultimate goals of policy are living standards, most often expressed as robust growth in GDP and employment and price stability. A high real exchange rate will be helpful to some countries at some stage of economic development and a low real exchange rate will be helpful to others. A cheap dollar helps exporters; a dear one helps importers. So, yes, it depends.
- Chad the Elder asked two questions (one I think back at the station) from his reading of the 1/13 issue of the Economist. One was about this article on neuroeconomics, which was part of this year's American Economics Association meeting agenda. I confess that the reporting on this research is a little troubling, but the research itself isn't. Economists have long studied anomalies, which is an empirical result that does not seem like rational behavior without some really wild assumptions. We have long known about such anomalies in dictator games or hyperbolic lending. We've even had a section of the Journal of Economic Perspectives, published by the AEA, which covered anomalies. My reaction is, so what. Rationality is an assumption, and in my Friedmanite methodology it matters only to the extent that it allows me to predict well. Now if somehow the studies would lead us to say "these types of decisions can be reliably predicted to occur in the limbic system and not the prefrontal cortex", you've improved my ability to predict behavior and that's a good thing. But if the purpose of this is simply to say nanananabooboo to economists as being silly assuming all behavior is rational, well, you've not told me anything new.
- Speaking of prediction, the Elder also asked about this article on ECRI, a group of economists who forecast in the tradition of Arthur Burns, Wesley Mitchell and Geoffrey Moore. They are said to have predicted the last recession and have done a better job lately than has, say, the Conference Board. The difference between forecasting GDP and forecasting recessions is large, as ECRI describes. And so on that I agree with the article. But I wouldn't exactly throw out the Conference Board's work; their recent change to a 1% decline rule for calling recessions strikes me as an attempt to deal with noise in the individual series that make up the Index of Leading Indicators. We use a similar method to the Conference Board. Since ECRI's indicators are proprietary, all we have to go on is that they called the last recession right and the Conference Board did not. The world is littered with failed models that got the right call two or three turns ago.
