Econometric Model History Analysis

The Rise Of Econometrics, Econometric History and Analysis

By the 1960s Mitchell's approach to empirical analysis for the macroeconomy was a minority approach and was supplanted by the econometric approach in both microeconomics and macroeconomics. There were a number of reasons why the mainstream turned away from Mitchell's methodology and toward econometrics: (1) the further development of statistical and econometric meth­ods, which avoided some of Moore's problems; (2) the strong desire on the part of the profession and the society for precision in implementing and testing theories; (3) the development of mathematical economics; (4) the hope that econometrics would turn economics into an exact science; and (5) brilliant and strong-willed advocates of the econometric methods who proselytized for this approach.

Elmer Joseph Working and the Identification Problem

One of the developments that pushed forward the econometric approach in microeconomics was E. J. Working's (1900-1968) approach to the identification problem. A simple correlation between price and quantity that provides a "good fit" of the data has little meaning, because economic theory states that price and quantity are determined by an interaction of supply and demand. Has one found a supply curve or a demand curve?

Working showed that if one could independently specify supply, so that one precisely knew the supply relationship and how it would shift, the derived points would estimate a demand curve. Alternatively, if one independently specified the demand relationship, one could estimate a supply curve. If one could not independently specify either, then one could not estimate either a supply or a demand curve without additional information.

This "solution" to the identification problem made it possible, in principle at least, to specify empirically static relationships even if ceteris paribus conditions did not hold. It was believed that as calculating technology improved (which it has done with computers), better relationships between static theory and empiri­cal theory and empirical measurement would be forthcoming.

Keynesian Theory and Macroeconometrics

It was not developments in microeconomics that primarily propelled economet­rics forward in the 1930s; it was developments in macroeconometrics. The Great Depression turned economists' thoughts to macroeconomics. By the late 1930s, Keynesian theory was sweeping the field, and there were strong efforts to provide satisfactory explanations for, and policies to address, the Depression. Thus, the history of econometrics in the 1930s through the 1960s focuses on macroeconometrics.

The interest in macroeconomic modeling in the 1930s was logical. During this time macroeconomics was enormously influenced by Keynesian macroeco­nomics, and there were attempts to find empirical counterparts to the Keynesian theory. A number of estimates of the multiplier were derived. Colin Clark estimated the multiplier at somewhere between 1.5 and 2.1; Kalecki estimated it at about 2.25.

Of course, the multiplier made sense only if Keynesian theory made sense, so there was a strong push to determine empirically whether Keynesian theory was correct. There were many attempts to measure the relationship between consumption and income, what Keynes had called the "consumption function." During this period there was also a loss of faith in the automatic tendency of economic forces to push the economy toward full employment and a correspond­ing increased interest in central planning. Such central planning required one to estimate relationships in the economy. Thus, it is not surprising that important work took place in institutes like the Netherlands Central Planning Bureau.