Paul Krugman recently posted on predictions of the crisis before it happened, in a piece entitled “Non-prophet Economics”. It had a set of propositions about how one should evaluate such claims with which I completely and utterly agree. I’ll quote it in its entirety, because it’s an eminently suitable starting point for evaluating whether a prediction was in fact made:
So as I see it, we should first of all be evaluating models, not individuals; obviously we need people to interpret those
entrailsmodels, but we’re looking for the right economic framework, not the dismal Nostradamus.
Second, we should be evaluating models and the individuals who claim to have these models based on broad performance, not single events; if your approach (say) predicted the housing crash but then also predicted runaway inflation from Fed expansion — I assume everyone knows who we’re talking about [for those that don’t, Krugman is referring to Peter Schiff] — it’s not a good approach.
Finally, I think we’re looking for conditional predictions — what happens given events that are themselves not part of the model — not absolute predictions. It was, for example, very hard in the fall of 2011 to know how the ECB would respond to the escalating financial crisis in Europe; failing to predict that Mario Draghi would find a way to funnel vast sums to debtor nations through discounting would have lost you a lot of money, but wasn’t really a failure of the economic model.
This is an excellent set of criteria—all I would add is one more in a similar spirit, that the model has to be evaluated on its own grounds, and not on grounds that suit a different approach to modelling. For example, a model that is purely a simulation can’t be rejected because it doesn’t make an empirical prediction based on current data, nor can models that acknowledge “the butterfly effect” (that a complex system can’t be predicted beyond a very limited horizon) be criticized for not getting the timing of an event right.
With that one addition, Krugman’s guidelines state precisely what I wish Neoclassical economists (and others) would do. Unfortunately it’s not what they d0 – Read more at Business Spectator it is well worth reading. Then come back for the bit from Paul Davidson, economist and journal founder, over the fold.