As If Economics

As if economics

Milton Friedman argued that for economic models is does not matter whether assumptions are realistic, or whether actors understand them – but whether predictions are borne out, and whether actors behave as if they had some given theory in mind. An instructive example for this would be a billard player who does not know the laws of physics in any case, but behaves as if s/he understood them. This is the example from Friedman.

Paul Pfleiderer via Econtalk on Russ Ruberts points out that this depends on continuous and instantaneous feedback – so these are repetetitive games, with quick feedback. So something like the 10k hours rules might apply. Paul Pfleider then applies this to capital structure decisions by firms – a lot of research on this. How do firms decide this? The problem that we have is that very similar firms objectively have very different capital structures, and we don't know why. So the solutions suggested by economists are incredibly complex – but there's a catch: CEOs make very few capital structure decisions, and they don't get immediate feedback (none). So the 10k hour learning kind of rule does not at all apply.

... so I need to make some kind of pragmatic argument out of this.