July 20, 2010
Variety of Economic Models Needed, Members Hear
(Washington, DC) – A hearing was held today before the House Committee on Science and Technology’s Subcommittee on Investigations and Oversight to examine the promise and limits of modern macroeconomic theory in light of the current economic crisis. The hearing explored the failure of mainstream macroeconomists to foresee the recent financial and economic collapse and the role of macroeconomics in policy making generally.
“Because our experts’ way of looking at the economy left them blind to the crisis that was building, we were unprepared to deal with the crisis,” said Subcommittee Chairman Brad Miller (D-NC).
Economic analysis is used to inform virtually every aspect of domestic policy. For some time, the dominant macroeconomic model has been the Dynamic Stochastic General Equilibrium model, or DSGE. However, prominent economists disagree on the extent to which applying this theoretical model to policy decisions is practical. Nobel laureate Robert Solow, testifying about the gap between the real world and the world as assumed in the DSGE model, stated: “A thoughtful person, faced with the thought that economic policy was being pursued on this basis, might reasonably wonder what planet he or she is on.”
“To be fair, DGSE and similar macroeconomic models were first conceived as theorists’ tools. But why, then, are they being relied on as the platform upon which so much practical policy advice is formulated? And what has caused them to become, and to stay, so firmly entrenched?” asked Miller.
Members and witnesses questioned the wisdom of relying on a single, specific model for national economic policy and spoke about what alternatives are available. The National Science Foundation (NSF) is the major federal funding resource for economics. Members and witnesses discussed whether the federal government should support new avenues of research through NSF. During testimony, Dr. David Colander suggested that NSF work to increase training in interpreting models as well as diversify its reviewing pool for awarding research grants. Witnesses agreed that applying a group of diverse economic models may better predict economic circumstances than relying on a single model, such as the DSGE.
This is the third hearing in a series on how economic modeling and theory have influenced policymaking. The first hearing, The Science of Insolvency, was held on May 19, 2009. The second, The Risks of Financial Modeling: VaR and the Economic Meltdown, was held on September 10, 2009.
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