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2018 | OriginalPaper | Chapter

6. Theory and Models

Author : Darren Grant

Published in: Methods of Economic Research

Publisher: Springer International Publishing

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Abstract

This chapter distinguishes a theory from a model and lays out the threefold objectives of economic models. It demonstrates how to negotiate the tradeoffs involved in meeting these objectives, and specifies three instruments that can be used for this purpose. These ideas come to life in applications to attorney compensation, insurance pricing and valuation, the behavior of government bureaucracies, the size of cities, and more.

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“Depending on whether the animal in question is male or female, old or young, healthy or ill, nasty or agreeable, smooth or bumpy to ride, and so forth” (Barash 1994, p. 20).

As opposed to an attempt to describe observed outcomes by someone who takes themselves seriously, which is something completely different.

For working MBA students, especially, the dissonance between reality and the pure derived demand theory of labor is genuinely confounding. My model solves that problem.

Versatility can be achieved in two ways. The model could apply directly to a broad range of circumstances: generality. Or the model can be easily adapted to circumstances other than those that it predicates: generalizability (see the discussion of Lucas’ model, below).

CIA: Central Intelligence Agency. FTC: Federal Trade Commission. TVA: Tennessee Valley Authority. OSHA: Occupational Safety and Health Administration. NASA: National Aeronautics and Space Administration.

Unfortunately, Gabaix cites only one study fully confirming the growth dynamics that his model requires. His paper would have benefitted from a greater helping of vernacular knowledge, as the precise dynamics of city growth are more controversial than Gabaix assumes (see Duranton and Puga 2014). A better-structured paper would have treated these growth dynamics and Zipf’s Law both as unsolved mysteries, amply documenting each, and then showing that solving the first mystery would also solve the second.

Describing process may not be endemic to theory, but it is endemic to modeling. It is in the name–we model the process in order to predict the outcome. Thus, our focus on modeling elides a controversy that many of you are aware of, concerning the realism of assumptions. This controversy is not worth getting into right now–I’m not ready to mention You Know Who.

If the answer is obvious, it should be easy to show. If it is not easy to show, perhaps the answer is not obvious.

In my experience, macro models commonly lack empirical guidance concerning the appropriate period length, reverting to annual or quarterly periods by default. This is not justified when period length carries economic import, as in Lucas’ model or a cash-in-advance monetary model that requires purchases to be financed with cash obtained in the previous period.

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Title: Theory and Models
Author: Darren Grant
Publisher: Springer International Publishing
Book: Methods of Economic Research
Print ISBN: 978-3-030-01733-0

Electronic ISBN: 978-3-030-01734-7

Copyright Year: 2018
DOI: https://doi.org/10.1007/978-3-030-01734-7_6