The Economic Man

Macroeconomists are constantly looking for micro-foundations in their models. However, there is always a debate on how far the Economic Man should go. Here are two quite different views:

Paul Krugman said, "The question, however, is how far to push it. Keynes didn't make an all-out assault on Economic Man, but he often resorted to plausible psychological theorizing rather than careful analysis of what a rational decision-maker would do. Business decisions were driven by "animal spirits," consumer decisions by a psychological tendency to spend some but not all of any increase in income, wage settlements by a sense of fairness, and so on."

Yet, Thomas Sargent countered, "One of the first reviews of Keynes' book was written by an economist named Wassily Leontief. He deplored the fact that Keynes was departing from the older tradition of attributing rationality and optimality to people. Ever since then there's been a persistent call to put microeconomic foundations underneath macroeconomics. And if you try to build micro foundations, you're going to get back to the elements of classical economics.

These elements give us a set of methods for trying to study how people behave basically using Optimization Theory. Optimization Theory was something that was created by mathematicians, and that constitutes our main tool. The simplest example of a micro model is the supply and demand model for determining the price and quantity of a commodity produced, where demand is a reflection of preferences of people for various goods in their income level and supply is a reflection of the costs of production and the technology".

I believe the New Keynesian school has somehow reconciled the difference between the two sides. In fact, I suspect they should be the flip side of each other. Suppose there was a planet populated with some aliens that do not maximize their own utility. The aggregate economic behavior on that planet would be very different from Keynes' macroeconomics, though they might have gone into extinction a long time ago (or have become our god already?).

(Picture: Economic Sophisms)