- How unfounded microfoundations pollute our thinking and possibility also the world
- Number of pages
- Amsterdam: Universiteit van Amsterdam
- Document type
- Working paper
- Faculty of Economics and Business (FEB)
- Amsterdam School of Economics Research Institute (ASE-RI)
The rate of time preference or the subjective discount rate in environmental cost-benefit analyses is often calibrated with the Ramsey rule to match market observations of the interest rate. However, this practice suffers from a fallacy of composition, and is illustrative for a methodological flaw in some of the modern macroeconomic literature. I illustrate this by showing how a fictitious economy would be analyzed by a modern (new-classical) economist. Beguiled by micro-foundations that lack a strong empirical foundation, he would derive a subjective discount rate that bears no clear relation with the true preferences of the population; in addition, his policy advice would be time-inconsistent. I
argue that an old-style (neo-classical) economist would do a better job.
- January 31, 2011
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