An Economics to Fit the Facts

CAMBRIDGE – The economics profession was arguably the first casualty of the 2008-2009 global financial crisis. After all, its practitioners failed to anticipate the calamity, and many appeared unable to say anything useful when the time came to formulate a response. But, as with the global economy, there is reason to hope that the discipline is on the mend.

Mainstream economic models were discredited by the crisis because they simply did not admit of its possibility. And training that prioritized technique over intuition and theoretical elegance over real-world relevance did not prepare economists to provide the kind of practical policy advice needed in exceptional circumstances.

Some argue that the solution is to return to the simpler economic models of the past, which yielded policy prescriptions that evidently sufficed to prevent comparable crises. Others insist that, on the contrary, effective policies today require increasingly complex models that can more fully capture the chaotic dynamics of the twenty-first-century economy.

This debate misses the point. Simple models have their place. They are useful for making the straightforward but counterintuitive points that distinguish macroeconomics from other fields of economic analysis. We rely on such models to explain, for example “the paradox of thrift,” whereby individual decisions to increase saving can, by depressing spending and output, result in the population as a whole saving less.