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by notahacker
4787 days ago
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The main issue with DSGE models is that their simplifying assumptions make them useless for prediction: they replaced essentially atheoretical time-series models with hard, unrealistic theoretical assumptions about agent behaviour (over)fitted to time series and gained only a veneer of sophistication. Arguably no representative agent is better than a badly specified agent. As an intellectual exercise to show that (for example) menu costs or nominal wage rigidities or technology shocks alone could have the economy's accounted for a shift from a [purely theoretical] equilibrium over a time period they're very interesting. For identifying which aspect contributed most towards economic change they offer little, and as a policymaking tool they're actually worse than useless since the models are generally built on the economists' assumptions about agents' response to policy and fitted to the data to justify those assumptions, rather than using the data to understand how responsive, rational and optimizing agents actually are. As such, their forecasting performance isn't very good either... |
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http://economics.sas.upenn.edu/~schorf/papers/bayesian_macro...
(this is the closest I could find to a self-contained link, sorry). This stuff's not great, but I don't know what you mean by "useless for prediction". And, given a model, it's pretty trivial to figure out which shocks contributed when; this is the whole point of Impulse Response Functions, variance decompositions, etc.
I've said this elsewhere on the page, but I'll repeat it here: this stuff isn't popular because it's logically airtight and compelling, but because it seemed to have done pretty well empirically. So the criticism that dsge models are unrealistic isn't very interesting; everyone knows that already, especially the people who use the stuff (for the most part. I'm sure there are some dsge truthers too). If anyone has an approach that works better empirically at addressing core macro questions, especially the newly important interplay between the real economy and credit markets, this would be a great time to put it out there. There are a lot of people paying attention.