The Chicago School Juggernaught

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Here’s an existential question. How can we stop mainstream theorists from betting the ranch on market-centric macroeconomics? Shaming them with their self-imposed isolation from the most important facts hasn’t worked. The widespread use of carefully selected evidence to validate their models is sordid. A single illustration will suffice. Given that involuntary job loss cannot exist in micro-coherent general-market-equilibrium, it is standard practice to follow Lucas’s lead and proactively ignore the most significant indicator of cyclicality. The six-million forced layoffs that occurred in the Great Recession are not sufficiently significant to prevent being pushed aside in state-of-the-art modeling.

Equally ineffective are reminders of stabilization authorities’ condemnation of mainstream modeling as useless. The chutzpah of consensus macro theorists in the aftermath of the humiliating failure of their research and instruction to matter outside the academy is breathtaking. Apparently betting on generally dimming memories and interest, the mainstream objective has been to reassert market centricity as the first-order requirement for debating and disseminating macro research and its application.

Perhaps the best strategy is to focus on clearly superior replacement theories.  Last week, the GEM Blog summarized the most powerful of the alternative model classes, rooted in Clark Kerr’s balkanization analysis that divides the economy into two venues of rational, price-mediated exchange: (i) the competitive marketplace populated by small, uncomplex firms that can effectively monitor worker behavior and (ii) large, highly specialized workplaces restricted by costly, asymmetric information and characteristic of bureaucratic firms that came to dominate the global production landscape in the aftermath of the Second Industrial Revolution. The existence of the workplace venue, with distinct objectives, constraints, and mechanisms of exchange, is a fact of modern economies. Macro theorists know that markets operating with badly asymmetric information cannot solve the labor-pricing problem but, as indicated by their refusal to recognize obvious balkanization, believe the breakdown to be unimportant. Their justification reflects quasi-religious faith in market-centricity. The concept is the object of evangelism unmatched elsewhere in economics.

That evangelism has been adopted as a special mission of the Chicago School (CS) is undeniable. I recommend Johan Van Overveldt’s The Chicago School (2007) for anyone who believes that, for CS scholars, any other purpose outranks proselytizing for market centricity. An early skirmish in the Chicago School’s mission to obliterate balkanization, this time in product markets, is instructive. Edward Chamberlin developed a substantial following after publishing The Theory of Monopolistic Competition (1933), which argued that investment in product differentiation (via advertising and other marketing methods) endows firms with a degree of pricing power. Monopolistic competition is clearly a sensible, useful contribution to economic theory. In the GEM Project, Chamberlin’s pricing power importantly supports workplace reference-standard durability. (Chapter 3) Given that Chamberlin’s model balkanized textbook product markets, diluting market centricity, it follows that the Chicago School would take offense. From Van Overtveldt (p.4): “Under the leadership of Knight and later Stigler, the University of Chicago did indeed develop into a bastion of rejection of the basic message of Chamberlin’s landmark book.” Chamberlin himself took note of the resistance from what, in 1957, he called the “Chicago School of Anti-Monopolistic Competition”.

Rejecting Balkanization

Mainstream gatekeeper resistance to reviving labor-market balkanization as an essential step toward microfounding both MWR and rational causality from nominal demand disturbances to involuntary job loss has been predictably robust. Their argument is interesting. There is no assertion that the generalized-exchange derivation of MWR from axiomatic preferences and technology is in error, probably because of the objective absence of error. The refusal to accept the rigorous ILM analysis is instead rooted in the assertion that MWR, even if rational, does not matter in the best-practice construction of modern macroeconomics.

It is irresistible to speculate about the real reasons for rejecting new-balkanization macro thinking. There are many possibilities. Is the approach’s requirement that the ILM literature be read and understood too onerous? Is rational intra-firm economics too difficult for our best and brightest? Is a model class that practitioners understand and support too unsophisticated to be taken seriously? Are mainstream economists too lazy to undertake a retooling of their human capital? Are the academy’s gatekeepers too embarrassed to admit to a generation of graduate students that their core idea – the market-centricity of relevant, rational behavior – is simply wrong and badly misleading? Are they embarrassed to admit that the greatest grumblers among their students, many of whom fled instruction that they claim has scant relevance to actual behavior, were right all along? Are mainstream macro theorists frightened of the implications for their professional reputations? Their textbook sales? Their status in the academy? Have mainstream macro theorists become so goofy that they do not care that their models are stabilization useless?

A Final Word

Greg Lewis, the Chicago School’s original champion in the banishment of market balkanization in mainstream labor economics, was featured in last week’s blog. It is worth noting here that Lewis’s two major publications (1963, 1986) analyzed the impact of unions on wage differentials. The behavior of the union premium captured in the books is remarkable. The first shows a stable differential during the immediate postwar period. The two-decade extension in the second book reveals a reversal in behavior, i.e., wages rose much faster for union workers than their nonunion counterparts. There is no indication that Lewis understood that mainstream market-centric theory, enhanced with rational union power, cannot accommodate his findings. For an effective explanation, a balkanized framework is needed.

The GEM Project’s two-venue macroeconomics  explains both the early postwar wage-structure stability and the increased wage dispersion in the stagflation decade, beginning in the early 1970s, as resulting from large-establishment management of workers’ inter-temporal reference standard. (Chapters 2, 4) Exchange generalization is also able to make sense out of the subsequent period of widespread job downsizing in basic large-scale industries, a significant episode in postwar macro behavior that must be ignored in market-centric analysis. Rational balkanization shows stagflation to be an inherently one-time phenomenon, an important result that market-centricity theorists have not come close to figuring out.

Blog Type: Chicago School Chicago, Illinois


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