The use of tools such as spreadsheets and game theory by scientists began to change the entire view of economist beginning mainly in the early 1970's. One of the main things that came to the forefront was the way economists approached inflation and monopolistic competition.
Samuelson and Solow addressed this issue in their paper on the Phillips curve. They believed that a little unemployment would help drive down inflation while the reverse effect on the other side was a little inflation would also help drive down unemployment. There was a problem though. As unemployment rose inflation didn’t seem to go down. Many economists believe that the key factor is that people expected the inflation. They had realized what the government was trying to do by affecting unemployment and inflation and therefore they did not react as would have been expected.
Wednesday, March 2, 2011
Chapter 13 pg 166-167
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A for Elgin.
ReplyDeleteThe spreadsheet is a metaphor Elgin. The actual use of spreadsheets didn't start until the early 1980's, and had very little to do with economics at all (other than it can be a convenient way to set up a lot of problems).
The engineering analogy is important. It was common in mid-century to view the economy as a big machine - like the nuclear power plants that have been in the news this past week. The engineering approach is to adjust one littler machine if another little machine starts to go wrong, and to keep adjusting until the big machine runs the way that you want it to.
Economics has really stepped out of the shadows of engineering over the last 40 years. The reason is that the engineering analogy failed badly starting the late 1960's. The reason is that the "macroeconomic machine" is composed of people instead of smaller machines.
And people are weird. When you adjust little machines they ... adjust. When you adjust people, they ... freak out. They're arbitrary, capricious, vengeful, spiteful and so on. You have to be able to model how they're going to behave when you make the adjustment in order to make the adjustment work.
This was the problem with the Phillips Curve - which by the way is still used by politicians because they're control freaks who don't get what I just said about people. The engineering idea with the Phillips curve was that choosing the unemployment rate you wanted set the inflation rate that you got, and vice-versa; it was based on the observation that these variables had been linked together in past data. The engineering viewpoint of economics started to come undone when it became clear that not only were the actions of people delinking these things that had been linked, but in a way that could make them both worse at the same time (leading to stagflation in the 1970's).