Macroeconomics Is A Failed Discipline

Back in mid-April Vanguard published a piece called The Big Quit isn’t quitting quite yet that I found intriguing.  The piece discusses an interesting relationship between wages and inflation.

What caught my eye was right up front in the second paragraph:

Vanguard expects the Fed to keep an especially watchful eye on wages during this period. Higher pay takes longer to establish itself in an economy than broader price increases, but when it does, it can precipitate further inflation, which can lead to even higher pay in a cycle that threatens to repeat itself. 

Interesting.  The cycle that Vanguard is referring to is called a “wage-price spiral”, or sometimes called wage push inflation.  As Investopedia explains:

Wage push inflation is an overall rise in the cost of goods and services that results from a rise in wages. To maintain corporate profits after an increase in wages, employers must increase the prices they charge for the goods and services they provide. The overall increased cost of goods and services has a circular effect on the wage increase; eventually, as goods and services in the market overall increase, higher wages will be needed to compensate for the increased prices of consumer goods. 

In a way it makes logical sense.  But others are having none of it.

WSJ Calls B.S.

The Wall Street Journal is calling bullshit on Vanguard’s analysis.  No they didn’t call them out by name – that would be a juicy financial scandal, haha.  This WSJ piece (possible paywall) came out a few months before the Vanguard piece, but says this:

The Labor Department released a report Friday showing that worker pay increased about 4% in one year, the fastest rate in two decades. This led to predictable alarm that the U.S. is facing a “wage-price spiral,” in which higher wages push up prices, which lead to demands for still-higher wages, and so forth. But the wage-price spiral is a false and antiquated economic idea that refuses to die and keeps generating bad policies.

Bold emphasis mine.  But as you can see the author, Judge Glock, comes right out in the first paragraph and calls B.S. on the whole wage-price spiral theory.

So who’s right?  The answer is probably neither, and a more revealing answer would be that macroeconomics is mostly a failed discipline.

Voodoo

Paul Romer at the New York University Stern School of Business wrote a paper about the trouble of macroeconomics.  Part of his abstract is similar to the WSJ article in it’s bluntness:

In the last three decades, the methods and conclusions of macroeconomics have deteriorated to the point that much of the work in this area no longer qualifies as scientific research. The treatment of identification in macroeconomic models is no more credible than in the first generation large Keynesian models, and is worse because it is far more opaque. On simple questions of fact, such as whether the Fed can influence the real fed funds rate, the answers verge on the absurd. The evolution of macroeconomics mirrors developments in string theory from physics, which suggests that they are examples of a general failure mode of for fields of science that rely on mathematical theory in which facts can end up being subordinated to the theoretical preferences of revered leaders.

Oh man, shots fired.  He even compares macroeconomics to string theory.  If you’re not familiar with string theory it’s too much and far too geeky to get into here, but let’s just say it’s one of the most divisive and polarizing things in the physics world. 

Micro > Macro

I agree with Romer’s assessment, and I’ve learned over time to ignore the macroeconomic prophets and predictors.  Whether it be the supposed wage-inflation spiral discussed above or trickle down economic theory, it’s just too easy to twist and bend broad numbers and concepts to “prove” a point. 

The truth to these things is elusive, nuanced, and almost certainly changing all the time.  On the other hand microeconomics has tremendous value and is mostly based in solid math and logic.  As Nassim Talib says:

It is easier to macro bullshit than it is to micro bullshit. Because macroeconomics is voodoo-complex-science meets politics. You can’t find two macroeconomists to agree on anything these days, and different macroeconomists get used by different politicians to peddle their different pet theories.

Exactly.  Macroeconomics has become a political weapon that can be bent to hit any target using fuzzy math, oversimplifications, generalizations, and deliberate omissions. 

So there you have it, I’m calling out macroeconomics as voodoo mixed with smoke and mirrors.  That’s my hot take. 

That’s not to say there aren’t real cause and effect things in play behind broad economic trends. Some macroeconomics is perhaps more valid, there’s nuance of course.  But it underlies how incredibly complex markets are, and how nascent we are in our understanding of their workings.

If you are a macroeconomist it’s not my intention to offend you or your livelihood.  I also highly doubt any macroeconomists read my blog 🙂

Your turn:  Do you pay attention to articles or media about macroeconomic trends?  If so, do you factor in that information when planning your financial moves?