“Methodological Mistakes and Econometric Consequences”
1. INTRODUCTION The rise and fall of logical positivism is the most spectacular philosophical story of the twentieth century. Rising to prominence in the second quarter of the twentieth century, it swept away all contenders, and became widely accepted throughout the academia. Logical positivism provided a particular understanding of the nature of knowledge, as well as that of science and of scientific methodology. The foundations of the social sciences were re-formulated in the light of this new understanding of what science is. Later on, it became clear that the central tenets of the positivist philosophy were wrong. Logical positivism had a “spectacular crash,” and there was some dispute about who had “killed” logical positivism1. As a logical consequence, it became necessary to re-examine the foundations of the social science, and to find new bases on which to re-construct them. This has occurred to differing degrees in different disciplines. One of the most recalcitrant has been economics. As discussed in Zaman (2011), the foundations of economics continue to be based on erroneous logical positivist ideas, and hence require radical revisions. It is not our intention in this paper to describe the whole story, which would be lengthy as well as complex and contentious. We will confine our attention to tracing the harmful impact of a limited number of positivist ideas on how econometrics has developed. We will argue that these ideas have led to a wrong methodology being accepted and used in econometrics. This wrong methodology has prevented progress and advance in knowledge. As evidence for this lack of progress, in a talk on the 100th anniversary of the first published regression by Yule, Freedman (1997:113) writes: “For nearly a century, investigators in the social sciences have usedregression models to deduce cause-and-effect relationships from patterns of association. … . In my view, this enterprise has not been successful.” This paper is structured as follows. Section two below provides a summary of the key positivist ideas, and how they lead to a distorted understanding of science. The third section provides several case studies showing how positivist methodologies lead us to consider the wrong questions. The fourth section shows the contrast and opposition between positivist and realist methodologies. The fifth section sketches some possible alternative methods which could be used to avoid these mistakes and make progress. The sixth section summarized the conclusions. We will also offer a very tentative and preliminary sketch of alternative approaches that could be more successful. continue reading here
Collective bargaining and poverty reduction: OECD data
from Jim Stanford My union Unifor is currently undertaking an important “Rights at Work” campaign, which involves a national tour of meetings with our officers and local leaders and stewards, followed by a membership canvass and community outreach effort, all aimed at beating back the current attack on fundamental labour rights coming from conservatives at all levels in Canada. So far the campaign has had a very strong reception. Ontario will be a key battleground, of course, since the future of the Rand Formula will be decided in the next election (as early as this spring), but similar attacks on labour rights are being experienced at the federal level and in many other provinces. A key argument in winning this battle will be showing how important unions and collective bargaining are to the health of broader society. This helps to defeat conservative attempts to portray organized labour as self-interested and removed from the overall workforce. In our materials and presentations we have been marshalling arguments to show that unions lift up wages, standards, and security for all workers, not just their own members, through their influence on the actions of non-union employers, their influence on policy and politics, and their ability to provide a collective voice for workers’ interests on all issues. The powerpoint show we are presenting on our leadership tour makes many of these arguments. In our internal dress rehearsals, however, my colleague Jordan Brennan suggested that a graph comparing poverty or inequality rates across countries, and linking those differences to unionization, might help tell the story. He was right, and we included a simple scatter plot in our show, which has consequently generated many inquiries. So I will use this blog entry to describe the data more fully and formally, and consider its implications. I used bargaining coverage rather than union membership to capture the fact that in many countries, institutional arrangements (such as works councils, sectoral agreements, tripartite structures, etc.) allow unions to extend their influence over both workplace and social trends more than their formal membership would otherwise ensure. The OECD maintains estimates of bargaining coverage based on country-level studies. They are not included in the OECD’s formal system of databases, but are reported semi-regularly in various reports. The most recent publication of this series is from their Economic Policy Reform 2013 publication (Figure 14.3.1, also available on-line at http://dx.doi.org/10.1787/888932778404 if you have access to the OECD library). It reports approximate bargaining coverage for the most recent available year (ranging considerably from 2009 or 2008 for most countries, to as far back as 2006 for a few). For a measure of inequality I chose the OECD’s standard relative poverty index: the share of the population receiving income (after tax, after transfers) less than half of the median. Again, this data is for the most recent year (2010 in most cases), and is available directly from the OECD’s on-line Income Distribution database. The following figure illustrates the broad negative correlation between bargaining coverage and poverty: that is, the higher is bargaining coverage, the lower is relative poverty (and the more equal is income distribution). (It differs slightly from the simple scatter plot in the Unifor powerpoint show because I have obtained one more update of each of the series.) Low-unionization high-poverty countries are grouped tightly in the top left (including Mexico, the U.S., Turkey, Japan, and Korea). High-unionization low-poverty countries are grouped tightly in the bottom right (including several countries in continental Europe and Scandinavia with near-universal bargaining coverage). The rest of the OECD countries form a broad cloud between those two poles, with much variation but still a clear negative correlation.We can test the correlation more formally by performing a linear regression of this poverty measure on bargaining coverage. This confirms a strongly significant (at the 1% level) role for bargaining coverage in explaining poverty across countries. (The coefficient on the coverage variable is about -.08, implying that a 10% increase in bargaining coverage is typically associated with a 0.8% decline in the incidence of relative poverty. The t-statistic on the bargaining coefficient is -3.4.) The regression explains 27% of the international variation in poverty. Not every country fits the trend, of course, for the obvious reason that there are many other determinants of income distribution in addition to unions and collective bargaining. The Mediterranean countries (especially Greece and Spain) have higher poverty than their strong coverage rates would otherwise imply — made worse, no doubt, by the severe consequences of forced austerity. Several Eastern European countries (Czech Republic, Hungary, and the Slovak Republic) have lower relative poverty rates than would be implied by their unionization levels, perhaps reflecting the continuing effect of socialist distributional norms there. (In Estonia, on the other hand, unionization is low and poverty is high, so this effect is not universal in Eastern Europe.) The greatest outlier on the plot is Israel, which has the highest relative poverty in the OECD, yet (as of 2006, the most recent data reported) has relatively widespread collective bargaining (covering over half the workforce, reflecting Israel’s strong union tradition). Israel is a special case for many reasons (including military conflict, inequality between the Jewish and Arab populations, and the importance of immigration). If it is excluded, the explanatory power of the regression improves to almost one-third, and the coefficient on the bargaining variable increases slightly. The following table provides the complete set of data used for the scatter plot and the regression.
Despite the limitations of the OECD data, therefore, and the richness of international experience regarding the determinants of inequality, I think it is reasonable on this basis to make the following conclusion: Collective bargaining (rooted in unions and labour law) has a very important impact in reducing inequality and relative poverty. Differences in collective bargaining coverage explain about one-third of the differences in relative poverty across most of the industrialized world.
Macroeconomic machine dreams
Are macro-economists doomed to always “fight the last war”? Are they doomed to always be explaining the last problem we had, even as a completely different problem is building on the horizon? Well, maybe. But I think the hope is that microfoundations might prevent this. If you can really figure out some timeless rules that describe the behavior of consumers, firms, financial markets, governments, etc., then you might be able to predict problems before they happen. So far, that dream has not been realized. But maybe the current round of “financial friction macro” will produce something more timeless. I hope so. Noah Smith (emphasis added)
So there we have it! This is nothing but the age-old machine dream of neoclassical economics — an epistemologically founded cyborg dream that disregards the fundamental ontological fact that economies and societies are open — not closed — systems. If we are going to be able to show that the mechanisms or causes that we isolate and handle in our models are stable in the sense that they do not change when we “export” them to our “target systems”, they do only hold under ceteris paribus conditions and are a fortiori of limited value to our understanding, explanations or predictions of real economic systems. Or as the always eminently quotable Keynes wrote in Treatise on Probability(1921): 
The kind of fundamental assumption about the character of material laws, on which scientists appear commonly to act, seems to me to be [that] the system of the material universe must consist of bodies … such that each of them exercises its own separate, independent, and invariable effect, a change of the total state being compounded of a number of separate changes each of which is solely due to a separate portion of the preceding state … Yet there might well be quite different laws for wholes of different degrees of complexity, and laws of connection between complexes which could not be stated in terms of laws connecting individual parts … If different wholes were subject to different laws qua wholes and not simply on account of and in proportion to the differences of their parts, knowledge of a part could not lead, it would seem, even to presumptive or probable knowledge as to its association with other parts … These considerations do not show us a way by which we can justify induction … /427 No one supposes that a good induction can be arrived at merely by counting cases. The business of strengthening the argument chiefly consists in determining whether the alleged association is stable, when accompanying conditions are varied … /468 In my judgment, the practical usefulness of those modes of inference … on which the boasted knowledge of modern science depends, can only exist … if the universe of phenomena does in fact present those peculiar characteristics of atomism and limited variety which appears more and more clearly as the ultimate result to which material science is tending.
Graph of the day: wages and employment in Britisch manufacturing and services.
According to Shiller and Akerlof wages are a deeply social phenomenon. Wage levels are, at the margin, not just set by economic calculation and marginal productivity but by a comparison with other wages. And employers as wel as employees play this game. New data on the British economy,which has a so-called flexible labour market – not necessarily the same thing as a dynamic labour market – are a dramatic proof of this idea. Even ‘Schumpeterain dynamics’ do not change this pattern. The development of employment in services and manufacturing could, up to 2009, not have been more different. But wage growth was not significantly different. The data also suggest that the post-Lehman devaluation of the British pound did make a difference: the absolutely dismal development of manufacturing employment seems to have halted. Source: ONS.
By the way – is a {flexible ‘labour market’} the same thing as a {‘flexible labour’ market}? No. And too much of the present discussion is about the second thing.
