Sunday, February 17, 2013

17/2/2013: Why do economists use models with false assumptions?

An interesting new paper from the PIER on the currently quite acute divergence between academic economics and the general understanding of economic inquiry outside the field of academic economics, namely the divergence in the value attached to theoretical models in analysis. Especially models, that are based on patently false assumptions.

Gilboa, Itzhak, Postlewaite, Andrew, Samuelson, Larry and Schmeidler, David, paper "Economic Models as Analogies, Third Version" (January 27, 2013, PIER Working Paper No. 13-007. http://ssrn.com/abstract=2209153 or http://dx.doi.org/10.2139/ssrn.2209153) argues that although "people often wonder why economists analyze models whose assumptions are known to be false", "economists feel that they learn a great deal from such exercises. We suggest that part of the knowledge generated by academic economists is case-based rather than rule-based. That is, instead of offering general rules or theories that should be contrasted with data, economists often analyze models that are "theoretical cases", which help understand economic problems by drawing analogies between the model and the problem. According to this view, economic models, empirical data, experimental results and other sources of knowledge are all on equal footing, that is, they all provide cases to which a given problem can be compared. We offer complexity arguments that explain why case-based reasoning may sometimes be the method of choice and why economists prefer simple cases."



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