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Stumbling and Mumbling

Author: chris dillow   |   Latest post: Thu, 16 Aug 2018, 01:44 PM

 

Good bad theories

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In 1945 George Orwell wrote an essay on good bad books - "the kind of book that has no literary pretensions but which remains readable when more serious productions have perished." He gave as examples the Sherlock Holmes stories. Uncle Tom's Cabin and Dracula. These are in contrast to bad good books, works of alleged literary merit which aren't much cop: Orwell cited George Meredith but you can add other examples. We might add to this that there are good good books (Dostoyevsky) and bad bad ones (Dan Brown?)

I suspect that the same distinctions apply to economic theories.

A good bad theory is one that lacks solid microfoundations but which works (roughly) in an ad hoc way. This might be true of the better type of structural economic model and of those lead indicators which predict but don't explain, such as the tendency for inverted yield curves to predict recessions.

A bad good theory is one that doesn't necessarily have predictive power but whose failure actually helps to illuminate the real world, often by alerting us to the fact that particular assumptions behind the theory do not in fact hold. In this category I'd put the Miller-Modigliani theorem, the Coase theorem (hat tip Derida derider), the Mehra and Prescott equity premium puzzle (pdf) and the CAPM (pdf).

Then we have good good theories - ones that work in practice as well as theory. The bog-standard supply and demand framework, transactions cost economics and theories of irreversible investment are all in this set, among others.

Bringing up the rear we have bad bad theories - ones that are wrong in practice but which, unlike bad good theories don't much help us understand why. Marginal productivity theory (at least for higher-paid workers) belongs in this category. So too does the money multiplier, the LM (pdf) curve, and at least the simpler DSGE models (pdf).

Of course, you might disagree with my examples. And I've certainly left a lot out here. Where does Hecksher-Ohlin-Samuelson international trade theory fit? Or representative agent models (bad bad or bad good, I suspect) Or Marx's tendency for the rate of profit to fall? Or emergence? Etc, etc, etc.

Even so, I suspect this schema might be more illuminating than the standard mainstream vs heterodox one. Debates about this too often consist of: "the mainstream's rubbish": "you're attacking a straw man": "no he isn't." Can we move on?

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