Friday, April 24, 2020

Seven years later ...

On the 7th anniversary of this blog, we are finding ourselves in the midst of a deadly pandemic and the biggest macroeconomic shock since possibly the Great Depression. I hope everyone out there is staying healthy, practicing good mitigation, and still has a job.

The next seven years on the blog are going to be different — gone will be the days of tracing the path of the macroeconomic equilibrium, replaced with following the first non-equilibrium shock since the information equilibrium framework was formalized. Will we see a sharp rise in unemployment followed by the typical decline we've seen over the past century in US data? Will there be a step response? I hope the economy recovers from this shock faster than it has in the past, but I am not optimistic.


PS The post title is a MST3K reference to "The Final Sacrifice". Here's to wondering if there is beer on the sun.

Sunday, April 12, 2020

What does this physicist think of economists?**

I have had fringe contact with more macroeconomics than usual as of late, for obvious reasons (e.g. I have been producing macroeconomic models that outperform mainstream models by orders of magnitude), and I do understand this is only one corner of the discipline. I don’t mean this as a complaint dump, because most of physics suffers from similar problems due to being a similarly male-dominated field, but here are a few limitations I see in the mainstream economic models put before us:

1. They do not sufficiently grasp that social forces and unpredictable human nature are more powerful than economic forces and “rational agents”. In the short run you try economic stimulus, but in the long run you learn that not giving Republicans cover to dismantle democracy through “public choice” protects you the most. Or you move from doing “unemployment insurance” to “paying companies to keep people on the payroll” once you get that job search and matching is driven more by social relationships than economic theory. In this regard the economic models end up being too pessimistic about human brains (reduced to a 1-dimensional utility function!), and it seems that “the econophysics complaints about the economists” (yes there is such a thing) are largely correct on this count. On this question econophysics models (e.g.) really do better, though not the models of everybody.

2. They do not sufficiently incorporate people's humanity. An economic stimulus plan, for instance, may be freakishly amoral, which leads to adjustments along the way, and very often those adjustments are stupid policy moves suggested by impatient billionaires. This is not built into the economic models I am seeing, even though there is a large independent branch of sociology research. It is hard from them to understand, I guess? Still, it means that economic models will be too alien, rather than too human. Economists might protest that it is not the purpose of their science or models to incorporate social change and morality, but these factors are relevant for prediction, and if you try to wash your hands of them (no Easter pun intended) you will be wrong a lot.

3. The concept of scope, specifically the part that tells us that effective theories of the same system at different scales may have little relationship to each other at leading order — so much so that they may have incommensurate domains of validity. Economists seem super-unaware of this, at least much less so than physicists are these days, though it seems to be more of a “la-la-la-I-can't-hear-you” pursuit of tractable macro models aggregating “rational agents” than earnestly trying to understand the complex system they are purportedly researching. That is really hard, either in physics or economics. Still, on the predictive front without a good understanding of scope and scale a lot will go askew, as indeed it does in economics.

The economic models also do not seem to incorporate Richard Feynman-like bias offset techniques. Don't fool yourself, and you're the easiest person to fool! But economists still feel like opining about subjects well outside their domain of expertise without considering that their political priors may strongly influence their ideas. Some of their “ideas” are shown to be horribly misguided through the subsequent scrutiny. Economists might claim these factors already are incorporated in the variables they are modeling, since they claim to incorporate human behavior. Ideally you may wish to incorporate the past work of the modeler themselves (i.e. the past light cone of the observer's causal wavefunction) in the model's Bayesian prior probability, so that they do not see everything as a nail when all they have is a hammer. I have not yet seen a Dunning-Kruger-aware dimension in economic models, though you might argue many economists are “Dunning-Kruger” in their public rhetoric, blurting out what they think is good for us rather than actually learning about it first. The institutional modesty of physicists (whole theories are predicated on the principle that “we are not special in the universe”) is slightly subtler.

4. Selection bias from the failures coming first. The early macroeconomic models were calibrated from the Great Depression, because what else could they do? Then came the Great Recession, which was also a mess. It is the messes which are visible first, at least on average. So some of the models may have been too pessimistic at first. These days we have Japan, South Korea, and a bunch of Nordic states that haven’t quite “blown up” with several million people making initial unemployment claims and literal Depression-era food lines we see here. If the early models had access to all of that data, presumably they would be more predictive of the entire situation today. But it is no accident that the failures (like Richard Epstein) will be more visible in the media early on.

And note that right now some of the very worst countries (United States, possibly the United Kingdom?) are not far enough along on the data side to yield useful inputs into the models. So currently those macro models might be picking up too many semi-positive data points of functioning governments and not enough from failed states or “train wrecks,” and thus they are too optimistic.

On this list, I think my #1 comes closest to being an actual criticism, the other points are more like observations about doing science in a messy, imperfect world. In any case, when economic models are brandished, keep these limitations in mind. But the more important point may be for when critics of economic models raise the limitations of those models. Very often the cited criticisms are chosen selectively, to support some particular agenda, when in fact the biases in the economic models almost certainly run in one direction — towards the interests of billionaires (see a. below).

Which is how a lot of macro men think it should be.

Now, to close, I have a few rude questions directed at economists that nobody seems willing to publicly acknowledge, but actually we all already know the answers to them:

a. As a class of scientists, how much are economists paid by vested interests (e.g. GMU/Mercatus, Hoover Institution, Cato)? Is is being wrong or right better for their salaries?

b. How smart are they? What are their average GRE scores?

c. Are they hired into thick, liquid academic and institutional markets? Or does it take five years to publish a paper? And how meritocratic are those markets? Is it just people from five schools who are allowed to get jobs or publish?

d. What is their overall track record on predictions, whether before or during this crisis?

e. On average, what is the political orientation of economists? And compared to other academics?  Do they use the market social welfare function when they make non-trivial recommendations?

f. We know, from physics, that if you are a French physicist, being a Frenchman predicts your space-time location better than does being an physicist (there is an old PRL paper on this somewhere). Is there a comparable phenomenon in economics?

g. How well do they understand how to model any system, relative to say what an undergrad physics major would know?

h. Are there “defunct economists” in the manner that John Maynard Keynes charges there are “defunct economists”? If so, what do you have to do to earn that designation? And are the defunct sometimes right, or right on some issues? How meta-rational are those who allege defunct-ism? Are they meta-meta-rational? How about meta-meta-meta-rational?

i. How many of them have studied Douglas Hofstadter’s now 40 year old meta-work on emergence and meta-fiction? Meta.

Just to be clear, as ITE readers will know, I have not been criticizing the mainstream macroeconomic recommendations of stimulus. But still those seem to be questions worth asking.


** PS This is a mix of parody (because it's risible) and critique (because economics doesn't really work that well compared to even epidemiology) of this.

PPS #NotAllEconomists

PPPS Made a couple edits and slight changes (references to public choice theory, Japan).

PPPPS Update: Cowen is now saying the "debate" is becoming "emotional". That a) is exactly one point I am making here — his preferred approach to economics lacks empathy, morality, and humanity, and b) is what purportedly "rational" men often say about women, which is another.

People are literally lining up in Depression-era food lines, and Tyler wants to debate whether or not epidemiology journals should be colonized by economists.

PPPPPS I do want to emphasize that this is a parody — a physicist adopting the same self-regard and sneering tone Cowen shows towards epidemiology (but with the additional layer of irony being that physicists have produced a lot more empirically accurate theories than macroeconomists have). I think a lot of economists do good work. Unfortunately, a lot of economists (especially those more right & libertarian leaning) need to learn to, in the words of Kendrick Lamar, "be humble / sit down".

Tuesday, April 7, 2020

JOLTS data — and the twig crack that caused the avalanche?

Back from a long hiatus — things were crazy at the real job trying to get set up to work from home for a month or longer. Happy to report my family and I are doing well, and I hope everyone out there is staying healthy.

The drop in the JOLTS job openings rate I noted in the previous post (from February) has continued and it appears we're showing a definite deviation:

While you may be thinking "Yes, the COVID-19 shock", I should point out that this data is from February 2020 — and the deviation starts with data from December 2019. As I put it in a tweet from last month's data: What if there was a recession brewing and COVID-19 just triggered the market, like the old trope of a tree branch breaking causing an avalanche?

I saw that in the 2008 recession the JOLTS measures were some of the earlier indicators in the labor market with job openings being 4-6 months ahead of the shock to the unemployment rate. That was based on a single shock, but the hires data averages about 5 months lead using multiple shocks (in both directions) from the 1990s recession to today.

And last month's unemployment rate showed the first signs of a non-equilibrium shock with March 2020 data by either the Sahm rule or my "recession detection algorithm" threshold:

December 2019 to March 2020 is 4 months — right in line with the previous recession.

Now I understand it seems odd — how could JOLTS data predict a pandemic? Or as I put it in my twitter thread referenced above — how could the yield curve predict a pandemic? Even the "limits to wage growth" [1] hypothesis predicts a recession!

But in this view, the pandemic was just a coordinating signal. Often, these coordinating signals come from the Fed — an interest rate hike, lack of a cut, or even letting a financial institution fail — and coordination causes recessions (we all cut back on spending, we all sell our stocks, etc). Because the pandemic signal was so sudden and so unambiguous, we got a much sharper signal in the unemployment rate than usual and a bit of a compressed period between JOLTS and unemployment. For example, total separations is only barely registering a signal (it's there) while hires shows nothing yet (click to enlarge):

COVID-19 was the twig crack that caused an avalanche that was already building.

I've seen that some people think the recovery will be rapid. I doubt this because we are seeing a shock to the labor market — for example, initial claims spiked into the millions. A typical "surprise information shock" that evaporates has a distinct pattern:

It would look something like the red dashed line in this graph of S&P 500 data (while I show a non-equilibrium shock the size of the 2008 recession as a counterfactual recession path for reference):

However, unemployment is already rising and it falls at basically the same rate over the entire history of the data. This "remarkable recovery regularity" became the basis for the dynamic information equilibrium model (first here, then here). This implies that we are unlikely to see a sudden shift back to low unemployment but rather something more like this:

I added a step response (i.e. "ringing artifacts" or overshooting) to this qualitative non-equilibrium shock because the shock seems pretty sharp, however it is possible it won't happen as the step response has been gradually disappearing over time in US data. It's possible it won't be this big — though some people like James Bullard are are saying 30% is possible so it might be even bigger. But even the rise to 4.4% already in the data will take 3 years to get back to 3.5% along the dynamic equilibrium path.

It's going to be a long slog.



[1] In the past several decades, when wage growth exceeds the nominal GDP growth trend, there has generally been a recession.