What Macro Theorists Don’t Know

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Perusing what macro theorists  publish and teach reveals shockingly large gaps in what they appear to know about how modern, highly specialized economies actually work. Given that macroeconomists are generally satisfied with the state of their art, something pretty interesting must be going on. My guess is that limiting rational exchange to the marketplace, which is an article of faith in mainstream thinking, substantially limits what sort of real-world facts are permissible in their analysis. After all, didn’t one of their brainiest (Robert Lucas) once argue: “Involuntary unemployment (IU) is not a fact or a phenomenon which it is the task of theorists to explain.”

Lucas’ point is insightful, arguing that meaningful involuntary job loss cannot exist in friction-augmented general-market-equilibrium (FGME) modeling. If theorists choose to work within that framework, which he believes Keynes did not, IJL must be ignored, motivating one of the most consequential of the aforementioned knowledge gaps.

Market-centrality myopia produces three classes of ignorance:

>What mainstream market-centric macro theorists know but conveniently ignore;

>What mainstream market-centric macro theorists should, but do not, know; and

>What mainstream market-centric macro theorists really do not want to know.


What They Know But Conveniently Ignore

>Mainstream market-centric macro theorists know, but conveniently ignore, that involuntary job loss (IJL) exists and dominates rising unemployment in macro contractions.

>They know, but conveniently ignore, that the rational suppression of wage recontracting is a necessary condition of stabilization-relevant macroeconomics rooted in the fundamental tenets of optimization and equilibrium.

>They know, but conveniently ignore, that the 1930s Great Depression and its huge permanent job downsizing actually happened.

>They know, but conveniently ignore, that labor-price determination in workplaces restricted by asymmetric employer-employee information is inadequately supported in the marketplace.

>They know, but ignore, that a substantial proportion of the total labor force is employed in bureaucratic, highly specialized workplaces restricted by asymmetric information.

>The know, but conveniently ignore, that contractions in aggregate nominal demand produce proportional reductions in employment and output while real shocks, such as technical regress, are a much less robust cause of actual business cycles.


What They Should, But Apparently Do Not, Know

>Mainstream market-centric macro theorists should know, but don’t, that a huge best-practices management literature exists that would greatly enrich the workplace black-box they rely on to restrict labor analysis to the marketplace.

>They should know, but don’t. that Neoclassical Revisionist labor economists who dominated the field in the middle 20th-century provided a powerful description of rational behavior inside information-challenged workplaces that closely aligns with the evidence and, consequently, greatly differs from market-centric analysis.

>They should know, but don’t, that a great deal of employment and labor income originates in large, highly specialized firms that internally set wages and allocate labor and always have large human-resources departments that construct necessary mechanisms of exchange and workplace rules emphasizing employees’ strong preference for fair treatment.

>They should, but apparently do not, know that involuntary job loss occurring in the millions in recession occur is almost wholly occurs in large, highly specialized firms.

>They should but don’t know that employees are almost never offered a wage cut prior to being laid off.

>They should but don’t know (ignoring early-1970s Barro and Grossman) that large, highly specialized firms pay chronic wage rents, a characteristic of modern economies that disrupts a great deal of their general-market-equilibrium analysis of labor supply.

>They should have known, but didn’t, that devoting vast resources to seeking a super market friction that rationally suppresses wage recontracting is a snipe hunt in which nobody is willing to recognize the joke.

>They should have known, but don’t. that the1970s price-wage-price spiral, inducing inflation and unemployment to rise simultaneously, is a critical condition for the stagflation crisis, the sharp increase in interindustry wage dispersion, and rustbelt-industry collapse that followed.

>They should know, but somehow don’t, that the principal driver of business investment outlays is the expectation of pure profit, with interest rates relegated to a relatively weak supporting role.

>They should know that firms restricted by asymmetric labor-management information rationally use catch-up, not expectations, to annually adjust wages for inflation.

>They should know, but don’t, that the robust influence of market unemployment on wages is confined to small, relatively uncomplex firms.


What They Really Don’t Want to Know

>They don’t want to know that, in highly specialized economies, rent-paying good jobs and hours on those jobs are rationed for SEV and LEV employees respectively, implying that almost all workers are in chronic market disequilibrium.

>They don’t want to know that modeling voluntary unemployment, no matter how rigorously, will never explain either stationary or nonstationary contractions in total employment. How could the macro academy not understand that voluntary joblessness fundamentally differs from involuntary joblessness?

>They don’t want to know that worker reference standards (denoted by Ҝ in the GEM Project) anchors the rational time-intensive response of LEV employers and employees to cyclical and trend market failure. It must be disconcerting that something they have never encountered in their market-centric analysis should be critically important. But it is, playing a fundamental role in labor-management relations in large, highly specialized firms. Simply put, ignoring Ҝ dooms the stabilization relevance of macroeconomics.

>More generally, they really don’t want to know that the nonconvex Workplace-Exchange-Relation (WER), the centerpiece of the GEM Project’s two-venue macroeconomics, is essential for evidence-consistent macroeconomics to be rooted in optimization and equilibrium.

>They really don’t want to know that generalized-exchange modeling generates a continuous equilibrium timepath of total employment that accommodates job growth, recessions, the Great Depression, stagflation, the late 20th-century rust-belt downsizing, and other critical macro crises. General-market-equilibrium modeling is especially at sea with respect to the mass job-downsizing crises, causing mainstream theorists to ignore the most damaging market failures. They really don’t want to know that GEM theorists do much better.


The foregoing is a partial list, selected from the perspective of the GEM Project. Despite the limited coverage, the mainstream knowledge gaps are debilitatingly large. FGME theorists ignore all rational exchange that occurs outside the marketplace, ignoring a critical share of all economic activity and its associated evidence. The most honed skill of today’s macro theorist is his/her capacity to cherry-pick through available evidence, seeking support market centricity.

Blog Type: New Keynesians Saint Joseph, Michigan


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