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Why Economic Models Are Always Wrong

Posted by samzenpus on from the soft-science dept.

mayberry42 writes "Did you ever wonder how and why professional economists often seem to get it wrong in terms of predicting consequences or policies accurately (or even at all)? Or how very few even saw the current economic collapse? This article provides an interesting, if obvious, reason as to why economic models are effectively always wrong."

5 of 676 comments (clear)

  1. Obvious really by BeerCat · · Score: 4, Interesting

    Most economic models are based on "how we would like people to act" rather than "how people actually act". Much of the time, the model works, but they fail when people act in irrational ways.

    Simples.

    --
    "She's furniture with a pulse"
  2. Even rational models are unstable by Mathinker · · Score: 5, Interesting

    Even if everyone acted rationally, you would then have the instability which is generated because all of these rational people would then change their behavior based on ... the model. It's unclear, and in my eyes rather unlikely, that a "fixed point" exists where all of these rational people start behaving identically and predictably.

    The unpredictability doesn't only come out of irrationality. If you look at game theory, you see that many optimal (i.e., rational) strategies are "mixed" strategies where the rational party necessarily behaves probabilistically, not deterministically.

    1. Re:Even rational models are unstable by fremsley471 · · Score: 4, Interesting

      If you look at game theory, you see that many optimal (i.e., rational) strategies are "mixed" strategies where the rational party necessarily behaves probabilistically, not deterministically

      I prefer:

      ...in formal experiments, the only people who behaved exactly according to the mathematical models created by game theory are economists themselves, and psychopaths

      Adam Curtis, The Trap: What Happened to Our Dream of Freedom, Part 2.

  3. All models are wrong by Bud · · Score: 4, Interesting

    "Remember that all models are wrong; the practical question is how wrong do they have to be to not be useful." (George E.P. Box and Norman R. Draper, Empirical Model-Building and Response Surfaces (1987), p. 74)

    "One of the most insidious and nefarious properties of scientific models is their tendency to take over, and sometimes supplant, reality." (Erwin Chargaff)

    I think that says it all, really.

    --Bud

  4. Some economics professors saw it coming ... by drnb · · Score: 4, Interesting

    Many, many, many people saw the economic collapse.

    A newsletter from an economics professor and CNBC financial commentator:
    "Thursday, February 28, 2008 ... Any talking head who tells you that this market is a buying opportunity has his/her head screwed on backwards. The only buys are the kind of value plays that the likes of Buffett are pulling off. That is, it is very much a stock picker’s market. Recession plus inflation plus a credit crisis plus a softening European economy plus an inflation-plagued Chinese economy plus Russian strong-arming in natural gas plus two leading presidential candidates who are ignoramuses on economics plus a rising long bond in the face of Fed rate cuts does not a bull market make." http://www.peternavarro.com/2008.02.01_arch.html

    That is his oldest newsletter but I understand he was telling his economics students to "get out" of the market in fall 2007. Plus he was showing them a whole bunch of historical indicators that were all pointing in the wrong direction.