Foundations for New Economic Thinking

There is an appetite among economists, as well as among policymakers and concerned citizens, for new economic thinking. What was previously regarded as standard economic theory seems to many to have failed us, not only in addressing the series of crises which began in 2007, but also in being implicated in the causes of the crises.

‘We are all monetarists now’ (Laidler, 1981, p. 31)

The notion that ‘animal spirits’ govern investment decisions can be viewed as being central to Keynes’s theory of aggregate demand and, at the same time, as being its weakest point. An autonomous shift in long-run expectations among entrepreneurs can drive a wedge between effective demand and full employment output, requiring government stabilisation policy if full employment is to be achieved. That shifts in long-run expectations may occur autonomously is, however, regarded by many as cause for concern. If Keynes’s theory can neither explain nor predict these shifts, then it appears to be lacking a crucial element.

A growing sense of unease with the current state of economics has encouraged an increased interest in methodology. This interest reflects both a concern to examine fundamentals, and a wish to understand criteria for appraisal. If it were possible for economists to agree on appraisal criteria, then the settlement of debates within economics would be a relatively straightforward matter. But such agreement has not proved to be possible, so that it is necessary also to address the issue of methodological differences. This requires analysis at yet another level: the level of mode of thought, which determines the way in which competing methodologies are understood.

‘To teach how to live without certainty, and yet without being paralysed by hesitation, is perhaps the chief thing that philosophy, in our age, can still do for those who study it’ (Russell, 1946, p. 14).

Part of our knowledge we obtain direct; and part by argument. The Theory of Probability is concerned with that part which we obtain by argument, and it treats of the different degrees in which the results so obtained are conclusive or inconclusive.

What might reasonably be expected of a survey of mainstream economic methodology would be a statement as to the nature and role of methodology, and a discussion of how it impinged on economic practice. However, the mainstream understanding of the nature and role of methodology has been in a state of transition. Further, mainstream economics has evolved virtually independently of explicit methodological analysis. Nevertheless, the outcome of current thinking among methodologists could well be the development of a closer bond between methodology and practice. Theorists too are contemplating potentially profound methodological changes. This is therefore a particularly good time to take stock and identify the direction of change and its implications for the future of mainstream economics.¹

Pluralism is the philosophical position that the ultimate reality of the universe consists of a plurality of entities; it is an ontological position. But the concept of pluralism can be applied at a variety of levels: to the (epistemological) understanding of reality (whether its ultimate nature is a plurality or not), to the methods employed to theorise about that understanding of reality, to the methodology which sets the criteria for theory choice and to the study of methodologies themselves. Pluralism has been advocated at all of these levels in economics discourse. Yet an understanding of what is entailed by methodological pluralism and pluralism of method has been hampered by lack of reference to epistemological and ontological foundations. In particular, pluralism takes on a different meaning in a closed-system mode of thought (as in mainstream economics) from its meaning in an open-system mode of thought (as in Post-Keynesian economics or institutional/evolutionary economics). The former can be thought of as ‘pure pluralism’, as the dual of a monist position, while the latter involves a more limited, although crucial, pluralism.

In the view of many, perhaps most, economists, to state a theory in terms of a formal model is an unambiguous improvement, rather than, as we see it, a matter of costs and benefits. The benefits (greater rigour, more precision, demonstrable results), are widely understood, while the costs are underexplored. The costs are associated with the way in which formalising an argument can change its meaning, that is, with its non-neutrality. This chapter will focus on the particular costs of formalism, associated with the obstacles formalism poses for translating from (formalist) theory to practical application.

Methodological pluralism, understood as the advocacy of plurality, has become commonplace among methodologists. Indeed, Salanti (1997, p. 7) went so far as to state in his introduction to the pluralism conference volume that ‘all people interested in economic methodology seem to be, in a broad sense, ready to endorse one kind or another of “pluralism”’. More recently, the plurality and pluralism of modern methodological thought is set out in Hands’s (2001) account of what he calls the ‘new economic methodology’. Indeed, the idea of pluralism has been taken up more widely, not only within economic methodology, but also within economic practice itself. There is now a grouping of around 40 international organisations in ICAPE, the International Confederation of Associations for Pluralism in Economics. At the theoretical and policy levels too, there has been an explicit expression of pluralism.

Thinking about the economy in terms of systems has a long pedigree, but the terminology of openness and closure in economics is attracting increasing attention. It is apparent that these terms are being employed differently, not only between mainstream and non-mainstream economists but also within non-mainstream economics. The purpose of this chapter is to tease out these differences in meaning and, more important, the underlying methodological approaches which account for these differences. This exercise is offered as a contribution to clarifying the debate.

Policymakers are required to act, even if the action is a continuation of the status quo. The institutional structure within which monetary policy is made requires that a decision be taken at regular intervals as to the repo rate to be set by the central bank. This decision has to be taken on some grounds, and the focus here is on the grounds which economics provides.

In this chapter, we take stock of economics in methodological terms. The discipline of economics is continually changing, requiring a reexamination of the concepts of mainstream economics and non-mainstream economics. The particular feature of recent change which this chapter examines is the appearance of increasing variety, or plurality, in economics, in particular in economic theory, and what this implies for non-mainstream economics. In the process, we revisit a range of themes addressed earlier in the volume.

The main theme running through this volume is an argument for economists becoming more aware of their own methodological approach. This is a precondition for methodological pluralism, that is, the willingness to consider a range of different approaches to economics when contemplating new economic thinking. When considering where economics should go next in the wake of the crisis, it seems unnecessarily restrictive to accept the limitations of the mainstream approach without examination and justification. Any approach has its limitations, but it is reasonable to think that economics would be more robust if it fostered diversity. What might suit one set of circumstances best might not suit another set of circumstances, and the argument in favour of any policy finding support from a range of approaches would thereby have higher weight. On the other hand, if different approaches come to very different opinions on policy, this should give policymakers pause for thought before leaping into action. (See further Dow, forthcoming, c).