Model Based Thinking

A brief reminder is in order here because from time to time, I do resort to very simple economic models. The utility of simple models in assisting thinking about complex matters is under-appreciated by most of us whose professional interests do not require model-based thinking. In the hard sciences, physicists and cosmologists commonly use models to clarify their thinking and illuminate the essential features of the complex theoretical subjects they study. Where the search space of a solution is unmanageable large, simulations based on simple models come in handy, such as in meteorology.

Elegant models are amazing things. That is why economists do it with models. The study of the real world would be too confusing if it were not stripped of all inessential details. The hard part lies in figuring out which bits to retain and which to discard while creating the model. Model building is an art and the product is often a thing of spectacular beauty and elegance. They illuminate and enlighten; they capture the imagination and make accessible features of the real world that would otherwise be lost in a haze of misapprehension. It seems to me that learning simple models has to be part of a well-rounded education. Children should be exposed to simple models and then taken through the logical deductions that the assumptions imply. But I will not digress into models and our education system for now. What I want to do is quote a passage from Paul Krugman, an economist whom I especially admire for his clarity of thinking and exposition, about how serious economics is done.

A real economist starts not with a policy view but with a story about how the world works. That story almost always takes the form of a model — a simplified representation of the world, which helps you cut through the complexities. Once you have a model, you can ask how well it fits the facts; if it fits them reasonably well, you can ask what sorts of magnitudes, what sort of tradeoffs, it implies. Your policy opinions then flow from the model, not the other way around. . .

. . . Anyone who has ever made the effort to understand a really useful economic model (like the simple models on which economists base their argument for free trade) learns something important: The model is often smarter than you are. What I mean by that is that the act of putting your thoughts together into a coherent model often forces you into conclusions you never intended, forces you to give up fondly held beliefs. The result is that people who have understood even the simplest, most trivial-sounding economic models are often far more sophisticated than people who know thousands of facts and hundreds of anecdotes, who can use plenty of big words, but have no coherent framework to organize their thoughts. If you really understood my story about the baby-sitting co-op, congratulations: You now know more about the nature of monetary policy and the business cycle than 99 percent of the attendees at Renaissance Weekend. If you have taken the time to understand the story about England trading cloth for Portuguese wine that we teach to every freshman in Econ 1, I guarantee you that you know more about the nature of the global economy than the current U.S. Trade Representative (or most of his predecessors).

That passage is from his essay “Four Percent Solution” in his book “The Accidental Theorist” (1998). The story — the model, that is — of the baby-sitting economy occurs earlier on in the essay. You can read a version of it on Slate. It is well worth the time. Reading that story (and I have re-read it numerous times) should persuade you of the value of getting one’s fundamentals right. Let’s go on with a bit more from Krugman’s essay.

One thing that usually happens when I try to talk about the difference between serious economics and the kind of glib rhetoric that passes for sophistication is that people accuse me of being arrogant, of thinking that I know everything. I can’t imagine why. No, seriously — think about it. What someone like Felix Rohatyn is in effect saying is “I don’t need to make an effort to understand where the conventional views of economics come from; I don’t need to understand the stuff that’s in every undergraduate textbook; I’m such a smart guy that I can make up my own version of macroeconomics off the top of my head, and it will be much better than anything they have come up with.” Then along comes this irritating economist who points out a few gaping holes in his argument, basic errors that anyone who had bothered to understand the stuff in the undergraduate textbooks would not have made. And people’s response is “That Krugman–he’s so arrogant.”

Well, what can we do about this kind of thing? Let me be the first to admit that economists have not made it easy for smart people who don’t want to get too deep into the technicalities to understand the basics. Mathematics is a wonderful tool, but there are far too few attempts to explain the fundamental models of economics with a minimum of math; we need to make a real effort to write in English, and skip the differential topology. I’m trying, but the profession has a long way to go.

But it’s also important for non-economists — people who want to be sophisticated about economic policy without getting Ph.D.s — to make an effort. As I have said earlier, it is not a matter of time, it’s a matter of attitude. The biggest problem with many businesspeople, political leaders, and others is that while they are willing to talk and read about economics ad nauseam, they are not willing to do anything that feels like going back to school. They would rather read five books by David Halberstam than one chapter in an undergraduate textbook; and they absolutely hate the idea that they need to work their way through whimsical stories about cloth and wine and baby-sitting rather than get right into pontificating about globalization and the new economy.

But there is no way around it. If you want to be truly well-informed about economics (or anything else), you must go back to school — and keep going back, again and again. You must be prepared to work through little models before you can use the big words — in fact, it is usually a good idea to try to avoid the big words altogether. If you balk at this task — if you think that you are too grown-up for this sort of thing — then you may sound impressive and sophisticated, but you will have no idea what you are talking about.

I read Krugman very very slowly. And go back to school again and again.