My wife's architecture firm has to bid on projects that take several years. If costs increase faster than expected they eat a loss.

Coming out of COVID they were getting a lot of work and couldn't hire enough people. Later, it turned out a lot of that work ended up not being as profitable as they thought, because the input cost on construction went up.

While this did cause them to increase activity temporarily it didn't lead to a more effective allocation of resources (some of those projects shouldn't have been done, some of those employees should have worked somewhere else). In addition it's now becoming more common to build big COLAs into the contracts for protection, and a lot of work that should be going into design and planning goes into COLA prediction and negotiation. Many projects, especially with government or other grants, can't change their COLA rates and so they've wasted a lot of time going after these contracts only to learn that they are underfunded.

*I'm using COLA because I can't think of a better acronym for cost inflation adjustment.

Ultimately seesawing inflation does not lead to more sustainable patterns of trade in their industry and diverts a lot of energy into inflation prediction rather than planning and construction. So the Fed can "succeed" by surprising them but that surprise makes them worse at their jobs.

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Wonderful post, one of the better appreciations of Robert Lucas. Thank you.

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I get that the economy is not single actors but I don't fully understand your complaint of (1).

I think the saltwater economists aren't far from the truth.

I'm baffled why (4) is only about workers. To me it seems true of all players. That might partially or wholly explain why we were in a low inflation environment for so long and more certainly plays a role in making it hard to bring inflation down.

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In an earlier post I said that IMO nuclear/ fusion reactors is about our only choice. All of the geothermal projects have failed because of corrosion. Tidal plants have some possibilities. We can't just cover the earth with solar panels.

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The Specialization & Trade idea should be turned into a model. It hasn't been because, even tho it is a more truthful description, simplification might reduce its truth amount too much. Tractability of truth discovery shouldn't push truth-seekers into looking for more tractable non-truth simplifications like the GDP factory model.

It's a bit sad that Arnold's HUGE S&T truth describing econ better than others has not resulted in any model. {The "Patterns" is descriptive and, for a name, superfluous. The "sustainable" is false -- most companies come, function for years, decades, centuries, and then are gone. "S&T", Specialization & Trade, are both necessary and are also sufficient for a good, extremely uncertainty filled model.)

I suspect GPT-7 plus Watson/some accurate math package, will do so.

Perhaps starting with the 4 digit SIC codes of industries, each of which is constantly changing. Noah Smith's fine summary of Lucas' push for better micro-foundations, reminds me that firms are inside of industries, like agriculture. See https://www.darcymaulsby.com/blog/when-agriculture-entered-the-long-depression-in-the-early-1920s/ The agro mechanization caused the Great Depression more than any gov't or finance decisions.

The Great Depression was a failure of the economy to successfully transition from agriculture to industry. None of the policy tools used, or available at the time, could have fully prevented it. Recessions, and Depressions, happen when too many business plans fail, with too many mis-skilled people available for work but not ready to work in the new jobs available.

That's the S&T explanation for the Great Depression, and is similar to the Great Recession. Where, in 2006, house construction busted, and it was too many lost construction jobs at the same time that made it so the adjusting economy didn't adjust fast enough.

Plus the anti-capitalist socialization of risk, so as to protect the super rich whose financial plans for higher profits with MBS (& other finance tricks) failed - and were bailed out rather than going bust. [Bankrupt the Big Failures - and pump money into low interest loans to new companies would have been a better 2008-2009 response - says me. Who, even if this is true, is not an authority that will be trusted. Yet it's true.]

Despite my enjoyment of Arnold Kling's other good insight, Arnold should be looking for colleagues/ disciples to carry on his work, but he's not doing so.

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May 21·edited May 21

In defense of Lucas, I am not sure that it is fair or accurate to say that his macroeconomics is based simply on the islands model.

His incredibly humble Nobel Prize lecture (https://www.nobelprize.org/prizes/economic-sciences/1995/lucas/lecture/ ) begins:

“The work for which I have received this prize was part of an effort to understand how changes in the conduct of monetary policy can influence inflation, employment, and production. So much thought has been devoted to this question and so much evidence is available that one might reasonably assume that it had been solved long ago. But this is not the case: It had not been solved in the 1970s when I began my work on it, and even now this question has not been given anything like a fully satisfactory answer.”

The lecture frames the monetary policy puzzle in terms of David Hume’s “statements of what we now call the quantity theory of money: the doctrine that changes in the number of units of money in circulation will have proportional effects on all prices that are stated in money terms, and no effect at all on anything real, on how much people work or on the goods they produce or consume.” But the problem was booted about a bit much earlier by Aristotle in his comments on money and more fully developed by Copernicus (https://mises.org/library/copernicus-and-quantity-theory-money ). And Lucas made no claims to having solved the question of what diddling with money supply accomplishes:

“But who can say how the macroeconomic theory of the future will develop, any more than anyone in 1960 could have foreseen the developments I have described in this lecture? All one can be sure of is that progress will result from the continued effort to formulate explicit theories that fit the facts, and that the best and most practical macroeconomics will make use of developments in basic economic theory.”

His point seems to be that mathematical masturbation allegedly leads to testable hypotheses rooted in reality, And that should be the real point, Lucas was carrying on a tradition of inquiry that actually is rooted in reality and has real consequences. There is perhaps no better illustration than the tragedy in Philadelphia in 1787 when the bright promise of the American Revolution was resoundingly crushed under the boot of centralized despotism largely because George Washington was peeved that he was loosing money on some of the money he had lent out because some of the states were making acceptance of their currencies mandatory.

Lucas seems well aware that real economies are not merely the simplified models he used to attempt to explain certain behaviors, and summarizes his area of research in a manner that seems utterly compatible with PSST:

“Any of these models leads to the distinction between anticipated and unanticipated changes in money, the distinction that seems to me the central lesson of the theoretical work of the 1970s. On the other hand, none of these models deduces the function f from assumptions on technology and preferences alone. Of course f depends on such factors, but it also depends on the specific assumptions one makes about the strategies available to the players, the timing of moves, how information is revealed, and so on. Moreover, these specifics are all, for the sake of tractability, highly unrealistic and stylized: We cannot choose among them on the basis of descriptive realism. Consequently, we have no reason to believe that the function f is invariant under changes in monetary policy - it is just a kind of Phillips curve, after all-and no reliable way to break it down into well understood components.”

And note too that Lucas was working in response to the limitations of a descriptive PSST-compatible model from the 1960’s:

“The prevailing strategy for macroeconomic modeling in the early 1960s held that the individual or sectoral models arising out of this intertemporal theorizing could then simply be combined in a single model, the way Keynes and Tinbergen and their successors assembled a consumption function, an investment function, and so on into a model of an entire economy. But models of individual decisions over time necessarily involve expected, future prices. Some microeconomic analyses treated these prices as known; others imputed adaptive forecasting rules to maximizing firms and households. However it was done, though, the “church supper” models assembled from such individual components implied behavior of actual equilibrium prices and incomes that bore no relation to, and were in general grossly inconsistent with, the price expectations that the theory imputed to individual agents.”

PSST is a highly useful antidote to macro-aggregates that can’t be dis-aggregated. But what does it tell us about what might happen with the impending adoption of an exclusive national digital currency? Does it have anything to say about our national devotion to modern monetary theory? However much I detest macroeconomics and the threat it engenders of even more centralized control of every aspect of human existence by the know-it-alls, I think it is from minds like that of Lucas that hope, if there is any to be had, might be found.

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This problem of cost over runs is a very big problem in the build out of off-shore wind projects off the NE coast line. It takes years of jumping thru hoops at the state and federal level to get off shore wind lining up all its ducks only to get further blindsided by NIMBYs that fight tooth and nail preventing those electric cables to landfall. Because of cost overrun issues these off shore wind companies have to renag on the contract because the increased cost have made a laudable project unprofitable. So the have to reboot and start the cycle all over again. Meanwhile big oil laughs all the way to the bank while global warming and CO2 levels keep rising.

** We're doomed to the catastrophic effects of global warming because of the paralysis of "the capitalistic system". Too much red tape; too much NIMBYism.**


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Dr. Kling's project seems to address epistemological puzzles in a similar fashion of the philosophy of the later Wittgenstein. Description over models. Patterns over theoretic monoliths. Relentlessly tapping on the shoulder and saying, "This is simply meaningless. It's not doing any work. Nothing here applies to anything under discussion. Nothing is being said so there is nothing to understand."

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