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Friedman and Samuelson week 2 Economic Methodology

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Methodology of empirical research Positivism in economics: Laboratory science Econometrics Instrumentalism Descriptivism

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Laws in economics y = F(x 1, x 2, …) y = F(x 1, x 2, …) = F 1 x 1 + F 2 x 2 + …

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Ceteris paribus “all other things being equal” x n+1 = x n+2 = … = 0 y = F 1 x 1 + … + F n x n laboratory research

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Econometric Society Founded in 1931 “an international society for the advancement of economic theory in its relation to statistics and mathematics. The Society shall operate as a completely disinterested, scientific organization without political, social, financial, or nationalistic bias. Its main object shall be to promote studies that aim at a unification of the theoretical- quantitative and the empirical-quantitative approach to economic problems and that are penetrated by constructive and rigorous thinking similar to that which has come to dominate in the natural sciences.”

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Cowles Foundation Cowles Commission for Research in Economics (since 1932) Cowles Foundation (since 1952) Econometrica (since 1933)

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Trygve Haalvelmo (1911–1999) Nobel Prize 1989 "for his clarification of the probability theory foundations of econometrics and his analyses of simultaneous economic structures“ The Probability Approach in Econometrics (1944)

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Passive observation Empirical research: y F 1 x 1 + … + F n x n F n+1 x n+1 0 F n+1 0 ? x n+1 0 (potential influence)(variation)

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Lawrence Klein (1920–) Nobel Prize (1980) "for the creation of econometric models and the application to the analysis of economic fluctuations and economic policies“ “the largest possible system that can be managed and that can explain the main economic magnitudes”

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Naïve models y t+1 = y t + t y t+1 – y t = y t – y t-1 + t

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Milton Friedman (1912–2006) Nobel Prize (1976) "for his achievements in the fields of consumption analysis, monetary history and theory and for his demonstration of the complexity of stabilization policy"

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Critique The fact that the equations fit the data from which they are derived is a test primarily of the skill and patience of the analyst; it is not a test of the validity of the equations for any broader body of data. Such a test is provided solely by the consistency of the equations with data not used in the derivation, such as data for periods subsequent to the period analyzed.

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Marshallian partitioning Man’s powers are limited: almost every one of nature’s riddles is complex. He breaks it up, studies one bit at a time, and at last combines his partial solutions with a supreme effort of his whole small strength into some sort of an attempt at a solution of the whole riddle. In breaking it up, he uses some adaptation of a primitive but effective prison, or pound, for segregating those disturbing causes, whose wanderings happen to be inconvenient, for the time: the pound is called Cæteris Paribus.

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The Methodology of Positive Economics Truly important and significant hypotheses will be found to have ‘assumptions’ that are wildly inaccurate descriptive representations of reality, and, in general, the more significant the theory, the more unrealistic the assumptions (in this sense).

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Musgrave’s assumptions Negligibility assumption: a factor that could be expected to affect the phenomenon under investigation actually has no detectable effect. Domain assumption: an expected factor is absent, and so is used to specify the domain of applicability of the theory concerned. Heuristic assumption: a factor is considered to be negligible, in order to simplify the ‘logical’ development of the theory. As-if assumption.

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Galilean fall experiments The Law of Falling Bodies: In the absence of air resistance, any two bodies that are dropped from rest at the same moment will reach the ground at the same time regardless of their mass. s t ²

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In and outside the laboratory y = F(x 1, x 2, …) = F 1 x 1 + F 2 x 2 + … x 1 : gravity x 2 : air pressure x 3 : temperature x 4 : magnetic forces laboratory (vacuum): x 2 = 0, x 3 = x 4 = … = 0 open air: take objects such that F 2 F 3 … 0

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Paul Samuelson (1915–) Nobel Prize (1970) "for the scientific work through which he has developed static and dynamic economic theory and actively contributed to raising the level of analysis in economic science"

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Truth table P Q PQ P QP Q true false true false true

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Truth table P Q PQ P QP Q true false truefalse true

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Empirical validity of theories A: minimal set of assumptions (A + A) B: theory C: complete set of consequences (C C - ) A + B C - C - true A + true or false A B CC true A true

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Scientific Method 1.Observe 2.Ask a question 3.Form a hypothesis 4.Test hypothesis (experiment) 5.Record and analyze data 6.Form a conclusion 7.Repeat.

Scientific Method 1.Observe 2.Ask a question 3.Form a hypothesis 4.Test hypothesis (experiment) 5.Record and analyze data 6.Form a conclusion 7.Repeat.

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