December 31, 2014

Listen to the EconoPhysicists

Modern macroeconomics and the perils of using 'Mickey-Mouse' models


When Econophysicists take a look at theoretical economics from their distinct point of view the conclusions are always interesting. Take this one about the future of conventional economics.

“What is now taught as standard economic theory will eventually disappear, no trace of it will remain in the universities or boardrooms because it simply doesn’t work: were it engineering, the bridge would collapse.” (McCauley, 2006, p. 17)

Or this one about the art of model-building.

“There is little or nothing in existing micro- or macroeconomics texts that is of value for understanding real markets. Economists have not understood how to model markets mathematically in an empirically correct way.” (McCauley, 2006, p. 16)

I think Heterodoxy can agree with all this. My main point with the econophysicists is this: conventional economics is largely the product of old-school econophysicists (see also 2013). There is a lot of irony here.

Beginning with the Classicals economists have shaped economics in the image of physics. Mirowski has brilliantly retold the story (1995).

While it is legitimate to copy from physics one has to make sure that one gets the crucial point. In most cases the copying remained on the surface.

“Now there is simply no doubt that whatever was the source of inspiration for Jevons, Menger and Walras, all three invoked whatever physics they knew to lend prestige to their theoretical innovations. Unfortunately, with the exception of Jevons, that was the physics of Newton, not the physics of Helmholz, Joule and Maxwell; Adam Smith, Ricardo, James Mill and McCulloch had been just as eager in earlier days to invoke the name of Newton to legitimise their theoretical claims.” (Blaug, 1989, p. 1226)

On the whole the copying amounts regularly to take the powerful tools that have been invented elsewhere (Darwinism is also popular) and to apply it to economics. It is a bit like Schwarzenegger grabbing the cruise missile and then going to wipe out the rather unpleasant guy next door.

In my mind, the best lesson physics has to offer is that you have to think for yourself and to create your own tools.

“The mathematical language used to formulate a theory is usually taken for granted. However, it should be recognized that most of mathematics used in physics was developed to meet the theoretical needs of physics. ... The moral is that the symbolic calculus employed by a scientific theory should be tailored to the theory, not the other way round.” (Wittgenstein, quoted in Schmiechen, 2009, p. 368)

The take-home message is: theory first!

So I have some qualms about whether the Affine Robust Measurement Feedback Non-linear H-infinity Control is the appropriate tool in economics. In any case it sounds good. But is this real progress compared to the old-school econophysicists who messed the whole thing up in the first place?

Egmont Kakarot-Handtke

Blaug, M. (1989). Review. Economic Journal, 99(398): 1225–1226. URL
Kakarot-Handtke, E. (2013). Toolism! A Critique of Econophysics. SSRN Working
Paper Series, 2257841: 1–13. URL
McCauley, J. L. (2006). Response to "Worrying Trends in Econophysics". Econo-
Physics Forum, 0601001: 1–26. URL
Mirowski, P. (1995). More Heat than Light. Cambridge: Cambridge University Press.
Schmiechen, M. (2009). Newton’s Principia and Related ‘Principles’ Revisited,
volume 1. Norderstedt: Books on Demand, 2nd edition. URL