Re:TWTR
by icebraining on Thursday November 07, 2013 @12:51PM
(#6690959)
The issue is not just that models are hard. The claim of some economists is that while people behave irrationally, not everyone behaves irrationally all the time, so the issue is self-correcting as long as you have enough liquidity and participants in the market.
It's like the law of large numbers; while a single transaction may have a completely wrong price, a sufficiently large number will average the irrationalities out.
Re:TWTR
by pachydermic on Thursday November 07, 2013 @12:58PM
(#6691020)
If people make biased (http://en.wikipedia.org/wiki/Bias_of_an_estimator) guesses you will still have a problem. I think that's often what's meant by "rational": that people, in aggregate, make unbiased guesses.
The truth is not so - people get irrationally exuberant or are afraid to cut their losses, etc. These are problems of statistical bias of their estimations - and the opposite is assumed in many (most?) economic models.
Most of the time it's like that, but sometimes you have a situation like nominal loss aversion/sticky wages where humans are very consistent about their irrationality and that irrationality has very important effects.
http://en.wikipedia.org/wiki/Sticky_wages
http://econlog.econlib.org/archives/2013/09/why_dont_wages.h...
Simplifying models has always struck me as a particularly dangerous idea in economics, since a lot of the time it's actually profitable for economic actors to deliberately exploit the difference between your assumptions and reality.
So in microeconomics or small models, people can practically accept and implement these (pretty obviously true) ideas that people don't behave rationally. But in large scale macroeconomic models it's hard to do. It would certainly be a lot easier if people just acted like computers...