Edward  Prescott (2011) - The Current State of Aggregate Economics

Edward Prescott (2011)

The Current State of Aggregate Economics

Edward Prescott (2011)

The Current State of Aggregate Economics

Abstract

This is the golden age of aggregate economics. So much has been learned, and so much more remains to be learned. Economists use theory and economic statistics to construct a model economy and determine the quantitative answer to a given question. The model used, which is an instrument to draw scientific inference, is an abstraction of a complex reality. Economists following this discipline come up with the same answers independent of their political persuasions. I will briefly review the successes of this methodology in explaining why economies display business cycle fluctuations. I will review work that uses this methodology to answer questions in financial economics, in trade, in development, in prosperity and depressions, and in public finance. I will discuss deviations from theories that need resolution as well as the successes. The nature of shocks is important. With totally free preferences and technology, general equilibrium theory is vacuous. A model can be constructed which gives any answer that might be sought.
Micro observations are increasingly used to test the aggregate model being used. Everyone using this methodology finds that only a high willingness of the aggregate household(s) can account for the aggregate behavior of labor supply. The micro observation for full-time, continuously working males is that there is little variation in hours worked associated with variation in compensation per hour. This suggests to those ignorant of aggregation theory that the aggregate willingness is small. If the variation in labor supply is primarily in the number working and not in hours per working person, aggregation theory predicts that the aggregate labor supply elasticity should be as it is, much larger than the labor supply elasticity of the people being aggregated.
Some important puzzles remain: Why are the empirically determined gains from openness so much bigger than those predicted by any of the three trade models? Why is the stock market so volatile? What gave rise to the Great Depression? Why is there now such great disparity in average consumption across countries?

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