Economics "Rescue"? More Pragmatism Needed

In a recent post at Bloomberg, Noah Smith expressed hope that academia, i.e. the "ivory tower", would gain a more relevant economic role in the near future. For Noah, the DSGE model is part of the problem. He summarizes the article with these thoughts:

When we understand the pieces of the economy better, we'll have a much better chance of grasping the whole. If this continues, maybe the ivory tower will have more relevance for the Fed, the financial industry and maybe even for our coffee house discussion.

Brad Delong enthusiastically backed Noah on the irrelevance of the DSGE model, while in response to the overall exchange, David Andolfatto explains for his students why he continues to find the model useful. Meanwhile, Narayana Kocherlakota took the discussion a step further:

Academic macroeconomics is specifically designed to be of limited use to policymakers like the FOMC.

Should Kocherlakota's statement be considered accurate: given the importance of the FOMC, since the Fed largely consists of academia, there seems to be quite a communication problem! Regular readers already know how I feel about the matter, which is summed up by this post title. Much of the problem stems from ideas about resource patterns that developed when human capital (in aggregate) seemed less important than other forms of capital. As a result, twentieth century economics was predicated on the assumption that individual economic actors weren't really all that important - either in a monetary or fiscal framework. Likewise, the importance of money's role was also downplayed in the twentieth century economic model.

One could say that the first rule of economic pragmatism should be to faithfully represent the aggregate spending capacity, of a nation's level growth trajectory. Commitment to a level nominal target, can also be thought of as the commitments which economic participants have already assumed for one another in the marketplace. When central bankers refuse to provide this basic level of monetary representation, productive capacity is all too easily lost. The only difference between today's ongoing loss of productive capacity - versus that of the Great Recession - is the fact supply side capacity continues to dwindle at a less obvious pace.

Also, one of the most concerning issues since the Great Recession, is that policy makers have yet to realize the importance of sustained labor force participation, as important for long term economic viability. Even so, the particulars of labor force participation are important for central bankers insofar as the latter provides accurate monetary representation, instead of being distracted by the needs of government and credit driven institutions.

The hard work of production reform, is not the responsibility of central bankers. Unfortunately, too many business interests have refused to acknowledge their role in ensuring broad marketplace participation and economic access for all concerned. When both public and private interests gradually hire fewer workers over time, the lack of economic participation means problems for the shared responsibilities of infrastructure, as well.

No new economic models would provide useful application, if they don't acknowledge the reality of the conditions which have gradually led to economic, hence social and political gridlock. All political parties now have limited options, due to the way that state and national budgets have been affected by countless earlier decisions - particularly those of "kicking the can down the road". Should political factions be unwilling to squarely face what has actually occurred, economic conditions will gradually decline, regardless of who is in power. For a long time, academic discourse happily remained beyond the political fray. Now, in order to remain relevant, academic discourse will need to dig deeper, to provide assistance in what has become a political, social and economic impasse.

Economic potential for the 21st century, resides in human capital. But governments cannot fulfill the roles of human capital which need to take place at local levels in the context of time based product. Meanwhile, governments have little choice but to short the human capital investment which has already occurred, in order to meet their budget requirements. How will policy makers respond to the growing gaps in marketplace representation that are already taking place? For instance: neither the public or private interests which negotiated Obamacare, were willing to acknowledge the need for human capital and time based product in terms of a truly free marketplace.

These knowledge and service based roles are precisely the ones which governments and special interests seek to control. However, it is this lack of willingness to allow true freedom for services provision and time based product, that makes long term austerity such a threat for many nations. The realities of supply side factors are important for any economic model, since growth and continued prosperity is not possible if they are ignored. The coffee house discussion which Noah Smith spoke of, also contributes to public understanding to some degree. But it is the other private and public interests he discussed which need a better understanding among themselves, if future economic models are to really matter.