The Microfoundations of Macroeconomics

We consider the microfoundations controversy from the perspective of economic evolution and show that the debate can benefit from lessons learned in evolutionary biology. Although the analogy between biology and economics has been noted before, it has rarely focused on clarifying the micro-macro distinction in economic theory and modelling. The macroevolution controversy in biology has generated testable theories such as the existence of punctuated equilibria in evolutionary history, the distinction between selection and sorting, and group selection. The micro-macro debate is further developed in biology than in economics due to a greater degree of specialisation and interaction of various sub-disciplines. The task for economists is to distinguish between insights directly relevant for economic theory and ones that hinge on unique features of biological systems. We argue that both micro and macro processes drive economic change and that macroeconomic change cannot be explained by micro level optimising alone. We show that debates in biology about group selection and punctuated equilibria are directly relevant to understanding economic evolution. The distinction between reductionism and holism is of little use and in its place a hierarchical approach is proposed. This allows for both upward and downward causation and interaction between levels. Specific topics incorporating ideas from evolutionary theory into economics are: economic exaptations, macroeconomic consequences of institutions, and group selection. Two insights are: selection (sorting) can occur at levels above the individual firm; and, macroeconomic theories can be formulated without reference to firm level descriptions. Micro and macro approaches to economic change are complementary. 3 I. Introduction During the last quarter century the microfoundations approach to macroeconomic theory has become dominant. With the ascendance of the microfoundations approach the subject matter of macroeconomics has shifted steadily from questions of distribution and institutions to an almost exclusive concern with market efficiency in allocating goods and productive inputs. Pareto optimality has become the dominant goal of macroeconomic policy. On the other hand, a growing number of economists argue that the Walrasian microfoundation approach to macroeconomics is inadequate Even within the narrow framework of general equilibrium theory some basic problems exist with the microfoundations position (Weintraub 1977). For instance, applications of general equilibrium theory, as in computable or applied general equilibrium (CGE/AGE) models, do not follow a consistent micro approach because not every individual agent or market is described. Instead, CGE models assume, through aggregation or the assumption of representative individuals, that groups or sectors act analogously …