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Understanding Economic Models (Course)

Understanding Economic Models (Course)

Course code: 71028, Understanding Economic Models, 5 cr, University of Helsinki

Syllabus (preliminary)

This is a course that will improve your understanding of economics, and broaden your horizon concerning what economists do. We will present you the necessary tools and tricks to tackle very difficult questions concerning the status of economics as a science. The course will cover many exemplary models and their use in theory and policy in order to improve your understanding of economics. We will also have heated debates. Really! After finishing this course, you will be able to defend your discipline better against criticism and skepticism. But also you will be able to criticize it better—just in case you would like to do that. We have one requirement: You should have successfully completed the introduction to economics course. Otherwise, all economics students from all levels are welcome. Students of other social sciences and philosophy who have a basic knowledge of economics are also welcome.

 

INSTRUCTORS

N. Emrah Aydinonat
Researcher at TINT
neaydinonat.com
@aydinonat
Michiru Nagatsu
Researcher at TINT
michirunagatsu.com
@michurin

 

Introduction

Students of economists sometimes complain about economics and economics education. They say things like the following:

Economics education and textbooks are so far away from the real world that I do not see how they can be useful in any meaningful sense. In fact, we are learning a lot of unrealistic models that have nothing to do with the real world. Real people are not like Homo Economicus; we are not as calculative, as selfish, and as weird as Homo Economicus. No one I know thinks at the margin. And thanks god, no one is maximizing utility. Of course, even if they want to do that, they do not know enough math. Also, you know, economic decision making is much more complex than choosing between apples and bananas. Monetary incentives do not always work. People are not rational, they are emotional. They do crazy things. Markets are not perfect. The invisible hand is an illusion. And do not get me started with the failure of economics before, during and after the 2007-8 crisis…

Students sometimes complain about economics. So what? Why should we care? Well, most importantly, learning economics is not only about memorizing the ten principles of economics and taking derivatives. Understanding economics requires a good understanding of the nature and scope of economic models. Our representative student above is challenged by some very fundamental questions about economics.

01

Consider the following seemingly simple questions. Can a scientific model which is obviously wrong explain anything? Can it help us understand the real world? If people are mostly irrational creatures when compared with Homo Economicus, can economic models help us understand how people behave? If markets are never perfect, can we trust the invisible hand? Before answering these questions, also consider Nobel Prize winner economist Paul Krugman’s comment on economics and economists. He said “the economics profession went astray because economists, as a group, mistook beauty, clad in impressive-looking mathematics, for truth.” So according to Krugman, economists should not mistake their fancy models with truth. The question is, if this is true, what should they do with these fancy models?

02

In fact, it is not only our representative student or Krugman who criticizes economics. Heterodox economists and other social scientists also criticize economics for similar reasons. But not only that! Methodological debates concerning economics are abundant in the history of economics. Competing schools of economic thought disagree about the nature and scope of economics, and about the way in which economic research should be conducted. Mainstream economists also disagree about how economics should be. Moreover, now that we have research areas such as behavioral economics, experimental economics, and neuroeconomics (btw, are they different?), there is more disagreement concerning the assumptions that economists make and the models that they use to explain the world.

So, in brief, it is a mess out there! And that is why we have this course. We would like to bring some order to this mess by way of studying economic models with the help of some tools and tricks from philosophy of science. Yes, this is a course in philosophy of economics. But do not worry, we have a practical approach. We will talk about economics all the time and introduce the philosophical tools without you realizing it 🙂

03

The main aims of the present course are

  1. to provide the student with the tools and abilities that are necessary to discuss and understand debates concerning the status of economics as a science; and
  2. to give a broader view of different schools of economic thought with a special emphasis on new developments in economics.

The course covers fundamental issues in the philosophy and methodology of economics and discusses some of the different schools of thought in economics from a methodological perspective. The mainstream economics (which forms the core of economics education) is at the center of the course and other schools of thought are discussed in relation to this mainstream. Particularly, the course focuses on how alternative schools in economics criticize the mainstream. Defining common assumptions and concepts of mainstream economics (such as rationality, equilibrium, efficient markets) and their criticism will get special attention throughout the course.

If you are still reading this, we assume that you are taking this course. However, if you’d rather not take this wonderfully interesting course, let us give you the answer to all the questions we will ask during the semester. It is 42.

Warning!

Warning! Philosophy challenges complacency. It is hard to know what the truth is concerning hard questions like the ones we will be addressing this semester.

Dan Hausman‘s syllabus for his Philosophy of Economics (Fall 2006) contains the above warning. Same applies to our course.

Expectations

Participation: The course will be interactive and students are expected to make the required readings  before  coming  to  the  class  and  to  join  the  discussion  throughout  the semester. Do not forget! There is a 10% participation bonus!

Attendance: Attendance is required in the sense that in exams you are responsible from the materials covered in lectures.

Response papers (RPs): At least one reading will be assigned for each class. Based on these readings you are required to write 10 response papers for this course. RPs will be submitted via Moodle before class. In the first week we will explain what a RP is. Briefly, it is a short (e.g., one-page) essay where you evaluate, criticize or amend the required reading. For example, you may consider answering some of the following questions for this task.

  • What question does the paper address? Is it important? Why?
  • What is the hypothesis or theoretical argument?
  • Is the argument convincing? Why or why not?
  • What are the weak and strong parts of the paper?
  • How does the paper relate to the other readings (or to your other courses)?

The response papers are worth 40% of your final grade. You need to send in your response papers on time. If you are late, there will be a penalty. Here is how it works. If you miss the deadline you’ll lose 25 points (out of a 100). If you miss the deadline, we will give you another chance to submit your response paper. If you also miss the second deadline, you will not be able to submit your response paper anymore.

Grading

  1. Response papers 40%
  2. Midterm 10%
    Taking the midterm exam is obligatory. If you do not take the midterm you cannot take the final exam.
  3. Final Exam 50%
  4. Participation Bonus: 10% of the final result (1+2+3).

Recommended Reading

 9780393246414_300 Economics Rules
The Rights and Wrongs of the Dismal Science
Dani RodrikW.W. Norton, 2015
ISBN-10: 0393246418
ISBN-13: 978-0393246414

Weekly Plan

1 12.09 Vocational Guidance Counsellor

Why be an economist? Why not a lion tamer? What is wrong with economics education? What do critics say?

2 19.09 NEA The Funniest Joke in the World

Pop-Economics explains the global financial crisis! Well, maybe not! It turns out that pop-econ explains everything including the logic of life but not the crisis. Could a science that cannot answer its core questions explain the logic of life? In answering this question we will have go back to the definitions of economics and discuss economics imperialism.

3 26.09 NEA How to Irritate People Economists I

How? Tell them that their models are unrealistic and they cannot explain anything. How do economists defend their models against this type of criticism? In this part of the course we will discuss the marginalism debate in economics and discuss how economists rationalize their unrealistic assumptions.

4 03.10 NEA How to Build Certain Interesting Things I

For example, how to build a linear city with two sellers in order to explain the excessive sameness in markets (e.g., the fact that all jeans, serials, cars, toothpastes, etc. are similar, but not exactly the same). Our question is whether it is possible to give a true explanation with “false” (unrealistic) models.

5 10.10 NEA The Dirty Fork

How can a complaint about a dirty fork at a restaurant trigger a series of actions ending up with the restaurant manager stabbing himself in the stomach with the dirty fork? How could seemingly harmless neighborhood choices bring about total racial segregation in a city? Or how could individuals who are trying to get the best trade at the moment end up creating a generally accepted medium of exchange? Some unintended consequences are important for economics. This week we will study the wonders of the invisible hand.

6 17.10 MN How to Build Certain Interesting Things II

Economists can build perfect models of markets. But real markets are not perfect. So why not make real markets similar to our perfect model markets? This week we will study how economists construct real markets from abstract models.

24.10 EXAM
7 31.10 MN How to Irritate People Economists II

This week we will discuss the modern critics of the standard economic theory of choice. This is our introduction to behavioral economics.

8 07.11 MN How to Irritate People Behavioral Economists

Is behavioral economics really different from neoclassical economics? Is it just neoclassical economics in disguise? Let us discuss some uncomforting comments concerning behavioral economics.

9 14.11 NEA The Dead Parrot

“We feel much like the customer in the pet shop, beating away at a dead parrot.” Rabin and Thaler (2001: 230)

What to do when the pet shop sells you a dead parrot and does not accept it that the parrot is dead? In 1898 Thorstein Veblen criticized economists for not accepting the fact that Homo Economicus is like a dead parrot. OK he did not say dead parrot. He said “He is not the seat of a process of living.” Our subject this week is institutional economists (including Veblen) and their criticism to economics. Asking questions like “why do firms exist?”, or “why everyone misunderstood the Coase theorem?” we will slowly make our way to the motto “institutions matter”!

10 21.11 NEA Nobody expects the Spanish Institutional Inquisition!

Once upon a time institutional economics was yet another heterodox school of thought in economics. Today almost all economists—even the IMF and the World Bank—accept that institutions matter. How did this happen? This week, we will start from mainstream models of economic growth and explain how and why economists explain why nations fail with institutions.

11 28.11 MN Nudge, nudge

This is the story of behavioral economists going to Washington. Nudge, nudge! Wink, wink! Say no more! How did economists get interested in nudging people into doing things? They have built models, they have built markets, now some of them are trying to build better people and better societies. This week we will discuss why and how people defend nudging.

12 05.12 MN Seduced Milkmen

A seductive woman lures the milkman into entering her house, the milkman ends up in a room with other milkmen, some of whom are very old, including one who is a skeleton. Our questions this week are: How much nudging is too much? Should economists be allowed to manipulate people’s behavior? We will discuss nudge paternalism and its critics and alternatives.

13 12.12 Self Defense Against Fresh Fruit

How to defend economics against an attacker armed with fresh fruit?

19.12 EXAM

Weekly Plan & Reader

[*] indicates a required reading

12.09.2016 | Vocational Guidance Counsellor
(What is wrong with economics education?)

Introduction to the course. Please make sure that you have read the following article before coming to the lecture. (You do not need to write a response paper!)

  • [*] Vromen, Jack (2009) “Economics and philosophy: More than having fun and making fun”, inaugural speech at Erasmus University Rotterdam.

19.09.2016 | The Funniest Joke in the World
(Pop-Economics explains the global financial crisis)

  • [*] Krugman, Paul R. 2009. “How Did Economists Get It So Wrong?” The New York Times Magazine, September 2. http://www.nytimes.com/2009/09/06/magazine/06Economic-t.html.
  • Robbins, Lionel (1945) “Chapter 1: The Subject Matter of Economics”, in An Essay on the Nature and Significance of Economics, London: MacMillan, pp. 1-23.
  • [*] Backhouse, R. E. & S. G. Medema (2009) “On the definition of economics”, Journal of Economic Perspectives, 23 (1): 221—33.

26.09.2016 | How to Irritate People Economists I
(Economists and Theır Assumptions)

  • [*] Hall, R. L. and C. J. Hitch (1939) “Price Theory and Business Behaviour”, Oxford Economic Papers, 2 (May): 12-45.
  • Vromen, Jack (1995) Economic Evolution: An Enquiry into the Foundations of New Institutional Economics, London: Routledge. Chapter 1
  • Friedman, M. (1953) “The Methodology of Positive Economics”, reprinted in Uskali Mäki (ed.) The Methodology of Positive Economics: Reflections on the Milton Friedman Legacy, Cambridge: Cambridge University Press, pp. 3-43.
  • Gibbard, A., & Varian, H. R. (1978). Economic Models. The Journal of Philosophy, 75(11), 664–677.

03.10.2016 | How to Build Certain Interesting Things I
(e.g., a linear city, a fictional market and a stable equilibrium)

  • [*] Reiss, Julian. (2012) “The Explanation Paradox.” Journal of Economic Methodology 19 (1): 43–62..
  • [*] Mäki, U. (2013). On a Paradox of Truth, or How Not to Obscure the Issue of Whether Explanatory Models Can Be True. Journal of Economic Methodology, 20(3), 268–279.
  • Rosenberg, A. (2001) “Why Philosophy of Science” in Philosophy of Science: A Contemporary Introduction, London: Routledge, Chapter 1
  • Little, D. (2005) “Philosophy of Economics” in Sarkar, S. & J. Pfeifer (eds) The Philosophy of Science: An Encyclopedia, London: Routledge.
  • Rosenberg, A. (2001) “Explanation, causation and laws” in Philosophy of Science: A Contemporary Introduction, London: Routledge, Chapter 2
  • Glennan, S. (2005) “Explanation” in Sarkar, S. & J. Pfeifer (eds) The Philosophy of Science: An Encyclopedia, London: Routledge.
  • Mäki, Uskali (1992), ‘On the method of isolation in economics’, in Uskali Mäki and C. Dilworth (eds.), Intelligibility in Science (Poznan Studies in the Philosophy of the Sciences and the Humanities, 26; Atlanta and Amsterdam: Rodopi), 319-54.

10.10.2016 | The Dirty Fork
(How things get out of control with the invisible hand)

  • Any introductory economics textbook on the invisible hand (Homework: before coming to the lecture prepare a summary of how the invisible hand is explained in an introductory textbook)
  • [*] Stiglitz, J. E. (1991). The invisible hand and modern welfare economics. NBER Working Paper.
  • Sugden, Robert (2000), ‘Credible Worlds: The Status of Theoretical Models in Economics’, Journal of Economic Methodology, 7 (1), 1 – 31.
  • Cartwright, Nancy (2009), ‘If no capacities then no credible worlds’, Erkenntnis, 70 (1), 45-58.

17.10.2016 | How to Build Certain Interesting Things II
(Constructing real markets from economic models)

  • [*] Guala, Francesco. (2007) “How to do things with experimental economics.” In  Donald MacKenzie, Fabian Muniesa, and Lucia Siu (eds) Do economists make markets?: 128-162.
  • Alexandrova, Anna. (2006) “Connecting Economic Models to the Real World: Game Theory and the FCC Spectrum Auctions.” Philosophy of the Social Sciences 36.2: 173-192.
  • Mirowski, Philip, and Edward Nik-Khah. (2007) “Performativity, and a problem in science studies, augmented with consideration of the FCC auctions.” In MacKenzie et al.

31.10.2016 | How to Irritate People Economists II
(Critics of standard economic theory of choice)

  • [*] Thaler, Richard H. (2000) “From Homo Economicus to Homo Sapiens”, Journal of Economic Perspectives, 14 (1): 133-141.
  • [*] Henrich, Joseph, Robert Boyd, Samuel Bowles, Colin Camerer, Ernst Fehr, Herbert Gintis, and Richard McElreath. (2001) “In search of homo economicus: behavioral experiments in 15 small-scale societies.” The American Economic Review 91(2): 73-78.
  • Ashraf, Nava, Colin F. Camerer, and George Loewenstein. “Adam Smith, behavioral economist.” The Journal of Economic Perspectives3 (2005): 131-145.
  • Henrich, Joseph, Steven J. Heine, and Ara Norenzayan (2010) “The weirdest people in the world?.” Behavioral and Brain Sciences2-3: 61-83.

07.11.2016| How to Irritate People Behavioral Economists
(Neoclassical economics in disguise?)

  • [*] Berg, Nathan, and Gerd Gigerenzer (2010) “As-if behavioral economics: Neoclassical economics in disguise?.” History of Economic Ideas: 133-165.
  • Ross, Don. (2014) “Psychological versus economic models of bounded rationality.”Journal of Economic Methodology 21.4: 411-427.

14.11.2016 | The Dead Parrot
(From the lightning calculator to ‘institutions matter’)

  • [*] Veblen, T. (1898). Why is Economics not an Evolutionary Science. The Quarterly Journal of Economics, 12(4), 373–397.
  • Coase, R. (1937). The Nature of the Firm. Economica, 4, 386–405.
  • Coase, R. H. (1960). The Problem of Social Cost. Journal of Law and Economics, 3, 1–44.

21.11.2016 | Nobody expects the Spanish Institutional Inquisition!
(Economists explain why nations fail)

  • [*] Olson Mancur (1996) “Big Bills Left on the Sidewalk: Why Some Nations are Rich, and Others Poor” Journal of Economic Perspectives, 10(2): 3—24.
  • World Economic Outlook, Growth and Institutions, April 2003, 3
  • Greif, Avner (2006) Institutions and the Path to the Modern Economy: Lessons from Medieval Trade, Cambridge: Cambridge University Pres (Chp. 1 & Chp. 2).
  • James A. R and D. Acemoglu (2013) Why Nations Fail, Crown Business. Chp. 1 & 2.

28.11.2016 | Nudge, nudge
(Behavioral economists go to Washington)

  • [*] Thaler, Richard H., and Cass R. Sunstein (2003) “Libertarian paternalism.” The American Economic Review2: 175-179.
  • Amir, On, et al. (2005) “Psychology, behavioral economics, and public policy.”Marketing Letters3-4: 443-454.
  • Chetty, Raj. (2015) “Behavioral economics and public policy: A pragmatic perspective.” The American Economic Review5: 1-33.

05.12.2016 | Seduced Milkmen
(Nudge and its critics/alternatives)

  • [*] Grüne-Yanoff, Till. (2012) “Old wine in new casks: libertarian paternalism still violates liberal principles.”Social Choice and Welfare4: 635-645.
  • Beaulier, Scott, and Bryan Caplan. (2007) “Behavioral economics and perverse effects of the welfare state.” Kyklos4: 485-507.
  • Bolton, Gary E., and Axel Ockenfels. (2012)”Behavioral economic engineering.” Journal of Economic Psychology3: 665-676.

12.12.2016 | Self Defense Against Fresh Fruit
(Defend economics against an attacker armed with fresh fruit)

  • [*] Rubinstein, Ariel. “A Sceptic’s Comment on the Study of Economics.” The Economic Journal, 510 (2006): C1-C9.
  • Frank, R.H., Gilovich, T.D.and Regan, D.T. (1996). ‘Do economists make bad citizens?’, Journal of Economic Perspectives, vol.10, pp. 187–92
  • Frey, B. S. and Meier, S.(2003). ‘Are political economists selfish and indoctrinated? Evidence from a natural experiment’, Economic Inquiry, vol. 41, pp.448–62.
  • Cipriani, Giam Pietro, Diego Lubian, and Angelo Zago. “Natural born economists?.” Journal of Economic Psychology3 (2009): 455-468.
  • Bauman, Yoram, and Elaina Rose. “Selection or indoctrination: Why do economics students donate less than the rest?.” Journal of Economic Behavior & Organization3 (2011): 318-327.
  • Hummel, Katrin, Dieter Pfaff, and Katja Rost. “Does Economics and Business Education Wash Away Moral Judgment Competence?.” Journal of Business Ethics (2016): 1-19.