Cowles Commission Research Articles

Harry Markowitz, the Cowles Commission, and portfolio theory

Harry Markowitz, the Cowles Commission, and portfolio theory

Uncertainty goes mainstream: Savage, Koopmans and the measurability of uncertainty at the Cowles Commission

This paper discusses the engagement of economists with the issue of the measurability of uncertainty. After a summary of the meaning attributed by authors such as Knight, Keynes, Shackle and Ellsberg to the contention that uncertainty is irreducible to risk and therefore unmeasurable, the paper investigates why this view did not emerge as a significant alternative to the mainstream up until recently. A main reason, never openly discussed in the literature, is shown to be the close link between Leonard Savage and the group of decision theorists at the Cowles Commission under the directorship of Jacob Marschak and Tjalling Koopmans. The paper aims to show that Koopmans, in particular, had a significant role in convincing economists that Savage’s axiomatization of a subjective version of expected utility was a decisive advance in the definition of rational behaviour.

The emergence of social choice at the Cowles Commission, 1948–1952: Arrow’s Social Choice and Individual Values in context

Kenneth Arrow’s Social Choice and Individual Values (Cowles Monograph No. 12, 1951), a work that established the field of social choice and set the limits for what public economic theory could hope to achieve, was formulated at the Cowles Commission at the University of Chicago from 1947 to 1949 (and during the summer of 1948 at the RAND Corporation) in a context in which concern with using economic theory to guide the economy was intense. During the period just before he shared in developing the Arrow-Debreu-McKenzie proof of existence of general equilibrium, Arrow moved through a series of papers to prove the non-existence of a social welfare function. The context of Arrow’s non-existence proof for aggregation of individual preferences into social welfare function and to Arrow’s shift from trying to prove a possibility theorem for social welfare to proving an impossibility theorem has been confused by a reprinted and influential reminiscence in which Arrow mis-remembered when he had spent a summer at RAND and when he had presented his impossibility theorem to the Econometric Society.

IRVING FISHER, RAGNAR FRISCH, AND THE ELUSIVE QUEST FOR MEASURABLE UTILITY

Commitment to the behaviorist approach to utility theory, to the usefulness of mathematics in economic analysis, and to equalization of the marginal utility of income as a principle of just taxation brought Irving Fisher and Ragnar Frisch to attempt to measure the marginal utility of income and led them to collaborate in forming the Econometric Society and sponsoring the establishment of the Cowles Commission, institutions advancing economic theory in connection to mathematics and statistics, and led Frisch to pioneer an axiomatic approach to utility and microeconomic theory.

How academic opinion leaders shape scientific ideas: an acknowledgment analysis

In this paper, we examine how a research institution’s social structure and the presence of academic opinion leaders shaped the early adoption of a scientific innovation. Our case considers the early engagement of mathematical economists at the Cowles Commission with John von Neumann and Oskar Morgenstern’s Theory of Games and Economic Behavior. We argue that scholars with administrative leadership functions who were not only scientifically but also organizationally central—in our case Jacob Marschak, the director of research at Cowles—played a crucial role in promoting the early adoption of the Theory of Games. We support our argument with a scientometric analysis of all acknowledgments made in 488 papers published from 1944 to 1955 in the two main research paper series at the Cowles Commission. We apply blockmodeling techniques to the acknowledgments network to reconstruct the formal and informal social structure at Cowles at the time. Our case study emphasizes the importance of formal and informal social structures and the research agendas of academic opinion leaders to explain the early engagement with and adoption of innovative scientific ideas. Studies of the early adoption of scientific theories can benefit from complementary perspectives on the role of academic opinion leaders and scientists in explaining theory adoption.

The struggle for the soul of macroeconomics

ABSTRACT Critics argued that the 2007–09 financial crisis was failure of macroeconomics, locating its source in the dynamic, stochastic general-equilibrium model and calling for fundamental re-orientation of the field. Critics exaggerated the role of DSGE models in actual policymaking, and DSGE modelers addressed some criticisms within the DSGE framework. But DSGE modelers oversold their success and even claimed that their approach is the sine qua non of competent macroeconomics. The DSGE modelers and their critics renew an old debate over the relative priority of a priori theory and empirical data, classically exemplified in the Measurement without Theory Debate of the 1940s between the Cowles Commission and the National Bureau of Economic Research. The earlier debate is reviewed for its implications for the recent controversy. In adopting the Cowles-Commission position, some DSGE modelers would essentially straight-jacket macroeconomics and undermine economic science and the pursuit of knowledge in an open-minded, yet critical framework.

Separation Theorems in Econometrics and Psychometrics: Rasch, Frisch, Two Fishers and Implications for Measurement

In 1959, Ragnar Frisch prompted Georg Rasch to formalise a separability theorem that continues today to serve as the basis of a wide range of theoretical and applied developments in psychological and social measurement. Previously unnoted are the influences on Rasch exerted by Frisch’s concerns for data autonomy, model identification and necessary and sufficient conditions. Although Rasch acknowledged Frisch’s prompting towards a separability theorem, he did not acknowledge any substantive, intellectual debt to him, nor to Irving Fisher, but only to Ronald Fisher. Rasch appears to have developed a special interest in sufficiency and identified models when studying with Frisch in 1935, and in 1947, when Rasch accompanied Tjalling Koopmans to the University of Chicago and the Cowles Commission for Research in Economics. I. Fisher’s separation theorem continues to be relevant in econometrics, and interest in Rasch’s separability theorem is growing as the measurement models based on it are adopted in metrological theory and practice. The extensive interrelations between measurement science, metrological standards and economics suggest paths towards lower transaction costs and more efficient markets for individualised exchanges of human, social and natural capital. Equally, if not more, surprising are the implications for a poetic art of complex, harmonised relationships played out via creative improvisations expressed using instruments tuned to shared scales. JEL: B41, C10, C13, C20, C42, D70, E60, H54, I11, I21, I31, P11

From “science as measurement” to “measurement and theory”: the Cowles Commission and contrasting empirical methodologies at the University of Chicago, 1943 to 1955

While located at the University of Chicago, the Cowles Commission for Research in Economics advanced a distinctive “Cowles Commission approach” to macroeconomic modelling, using maximum likelihood methods to estimate structurally-identified Keynesian simultaneous-equations models, with the methods presented in two Cowles monographs edited or co-edited by Tjalling Koopmans, a pioneering implementation in another Cowles monograph by Lawrence Klein, and a polemical contrast with the earlier NBER approach in Koopmans’s “Measurement Without Theory” critique of Arthur Burns and Wesley Mitchell. The Cowles approach to empirical methodology was vigorously contested at the University of Chicago by Milton Friedman (a former student of Burns and Mitchell), notably in Cowles seminars, in a defence of “Wesley Mitchell as an Economic Theorist” and at a 1949 NBER conference on business cycles. This paper examines the two contrasting approaches to empirical economics at the University of Chicago in the late 1940s and early 1950s, at the confrontations and exchanges between the two approaches, which contributed to the 1955 move of Cowles from Chicago to Yale.

Expectations and full employment. Hansen, Samuelson and Lange

Les anticipations sont au cœur des premiers modèles de cycles comme de croissance. Dans les années quarante, une troisième ligne de recherche est apparue qui s’interroge sur la capacité des économies à atteindre un équilibre de plein emploi. Cette littérature débute avec la contribution de Hansen [1938] pour atteindre son point culminant avec la publication de l’ouvrage de Lange [1944]. Au fil des débats, la question glisse du problème de l’existence vers celui de la stabilité de l’équilibre de plein emploi, suggérant un rôle croissant des anticipations, allant jusqu’à remettre en cause la stabilité du système économique dans sa globalité. Ce papier retrace ces débats au travers des contributions de Hansen, Samuelson et Lange. L’exploitation des archives nous permet de démontrer que, si l’analyse de l’instabilité est restée très implicite dans les travaux de Samuelson, sa correspondance révèle toutefois qu’il a encouragé Lange à s’intéresser à cette question. Lange présente ses résultats dans son ouvrage de 1944, publié par la Cowles Commission for Research in Economics. Nous montrons que la portée de cette contribution ne peut être comprise indépendamment de ses échanges avec Samuelson ou de la façon dont les idées keynésiennes étaient alors perçues aux États-Unis. Finalement, le papier s’interroge sur le positionnement ambigu de Samuelson tant sur la question de l’instabilité que sur le rôle des anticipations.

Léon Walras, Irving Fisher and the Cowles Approach to General Equilibrium Analysis

This paper explores the relationship of Walras’s work to a particularly influential tradition of general equilibrium, that associated with the Cowles Commission for Research in Economics in Colorado in the 1930s and at the University of Chicago from 1939 to 1955, and its successor, the Cowles Foundation, at Yale University from 1955. Irving Fisher introduced general equilibrium analysis into North America with his 1891 Yale dissertation Mathematical Investigations in the Theory of Value and Prices (published 1892) and was responsible in 1892 for the first English translation of a monograph by Walras. Fisher was only able to obtain copies of books by Walras and Edgeworth when his thesis was almost ready for submission, discovering that he had independently reinvented a general equilibrium approach already developed by others, but went beyond Walras in constructing a hydraulic mechanism to simulate computation of general equilibrium and, before Pareto, in using indifference curves. Fisher was closely involved with Alfred Cowles in the Cowles Commission, the Econometric Society and Econometrica in the 1930s, promoting formal mathematical and statistical methods in economics, including drawing attention to the contributions of Walras, Edgeworth and Pareto. The first substantial, systematic work on general equilibrium at the Cowles Commission was in international trade, by Theodore Yntema, research director of the Cowles Commission from 1939 to 1942 and author of A Mathematical Reformulation of the General Theory of International Trade (1932) and by Yntema’s student, Jacob Mosak, author of General Equilibrium Theory in International Trade (1944). A subsequent, much better-known body of work on existence of general equilibrium at Cowles was by Kenneth Arrow and Gerard Debreu (initially independently but leading to a major joint publication) and by Lionel McKenzie, all three associated with the Cowles Commission in Chicago in the early 1950s. After Cowles moved to Yale, the focus of general equilibrium research at the Cowles Foundation was Herbert Scarf’s pioneering work on computable general equilibrium (which he linked to Fisher’s earlier attempt, first presenting his approach in his contribution to Ten Economic Studies in the Tradition of Irving Fisher, 1967). Fisher and then the Cowles Commission were the channel through which Walrasian general equilibrium analysis entered North American economics. This paper is part of a larger history of the Cowles Commission and Foundation, commissioned by the Cowles Foundation.

Keynesian Economics at the Cowles Commission

Keynesian Economics at the Cowles Commission

Repercussions of exchange rate depreciation on the economy of Pakistan: Simulation analysis using macroeconometric model

Expansionary and contractionary effects of exchange rate shock in developing economies has been the subject of an extensive debate but the results are inconclusive. This study has been conducted to examine the repercussions of unexpected exchange rate depreciation in the Pakistan economy. Unlike the previous literature, this study utilizes a fairly large macroeconometric model constructed on the basis of Cowles Commission structural approach. The study explores that expansionary effect of exchange rate depreciation explained by the traditional theories of open economy macroeconomics persists only for one fiscal year but these theories don’t work in the long-run as contractionary phase starts in the subsequent years. Monetary and fiscal authorities are not neutral and contractionary policy is taken in response to depreciation which pushes the economy into recession. Stagflationary effects are clearly observed. However, improvement in foreign sector prolongs for a number of years and policy makers would have to face a trade-off between opposite response of output and current account balance. Hence, unexpected depreciation generates sharp cyclical fluctuations on demand which immediately transmit to supply side of the economy. In line with the views of “New Structuralists”, exchange rate depreciation may be considered as a source of shock rather than shock absorber in the case of Pakistan economy. Although this study is specifically estimated for the Pakistan economy, authors believe that their methodological contributions and results are of wider importance for policy makers in developing countries.

The Struggle for the Soul of Economics

Macroeconomics faced substantial internal and external criticism related to the 2007-09 financial crisis. Much of it was based on the unsustainable idea that its goal could or should be unconditional forecasting of business cycles. Critics specially singled out dynamic, stochastic general-equilibrium (DSGE) models, and called for various fundamental re-orientations of the field. Predictably, the critic’s proposals have not won the day. Critics exaggerated the role of DSGE models in actual policymaking, and their advocates developed the models to address some of the issues raised by the crisis. But DSGE modelers oversold its success, with some prominent advocates having argued that it is the sine qua non of successful macroeconomics. They revive an old controversy in economics between those who prioritize a priori theory and those who prioritize empirical data – a controversy classically exemplified in the Measurement without Theory Debate of the 1940s between the Cowles Commission and the National Bureau of Economic Research. That debate is reviewed for its implications for the recent controversy. In adopting the Cowles Commission position, some DSGE modelers would essentially straight-jacket macroeconomics and undermine economic science and the pursuit of knowledge in an open-minded, yet critical framework. Some alternative approaches are noted.

Information Limits of Aggregate Data

This paper uses a small model in the Cowles Commission (CC) tradition to examine the limits of aggregate data. It argues that more can be learned about the macroeconomy following the CC approach than the reduced form and VAR approaches allow, but less than the DSGE approach tries to do.

Jacob Marschak and the Cowles approaches to the theory of money and assets

Jacob Marschak shaped the emergence of monetary theory and portfolio choice at the Cowles Commission (which he directed from 1943 to 1948, but with which he was involved already from 1937) at the University of Chicago, where he was the doctoral teacher of Leonid Hurwicz, Harry Markowitz and Don Patinkin, and then from 1955 at the Cowles Foundation at Yale University, where he was a senior colleague of James Tobin until moving to UCLA in 1960. Marschak’s later attempts to clarify the concept of liquidity and to emphasise the role of new information for economic behaviour date back as far as to his early experiences with hyperinflationary processes in the Northern Caucasus during the Russian Revolution. Marschak came to monetary theory with his 1922 Heidelberg doctoral dissertation on the quantity theory equation of exchange (published in 1924 as “Die Verkehrsgleichung”), and embedded monetary theory in a wider theory of asset market equilibrium in studies of “Money and the Theory of Assets” (1938), “Assets, Prices, and Monetary Theory” (with Helen Makower, 1938), “Role of Liquidity under Complete and Incomplete Information” (1949), “The Rationale of the Demand for Money and of ‘Money Illusion’” (1950), and “Monnaie et liquidité dans les modèles macroéconomiques et microéconomiques” (1955), as well as in Income, Employment and the Price Level (lectures Marschak gave at Chicago, edited by Fand and Markowitz, 1951a). We examine Marschak’s analysis of money within a broader theory of asset market equilibrium and explore the relation of his work to the monetary and portfolio theories of his doctoral students Markowitz and Patinkin and his colleague Tobin and to the revival of the quantity theory of money by Milton Friedman, a University of Chicago colleague unsympathetic to the methodology of the Cowles Commission.

Causal assessment in demographic research

Causation underlies both research and policy interventions. Causal inference in demography is however far from easy, and few causal claims are probably sustainable in this field. This paper targets the assessment of causality in demographic research. It aims to give an overview of the methodology of causal research, pointing out various problems that can occur in practice. The “Intervention studies” section critically examines the so-called gold standard in causality assessment in experimental studies, randomized controlled trials, and the use of quasi-experiments and interventions in observational studies. The “Multivariate statistical models” section deals with multivariate statistical models linking a mortality or fertility indicator to a series of possible causes and controls. Single and multiple equation models are considered. The “Mechanisms and structural causal modelling” section takes into account a more recent trend, i.e., mechanistic explanations in causal research, and develops a structural causal modelling framework stemming from the pioneering work of the Cowles Commission in econometrics and of Sewall Wright in population genetics. The “Assessing causality in demographic research” section examines how causal analysis could be further applied in demographic studies, and a series of proposals are discussed for this purpose. The paper ends with a conclusion pointing out, in particular, the relevance of structural equation models, of triangulation, and of systematic reviews for causal assessment.

Léon Walras, Irving Fisher and the Cowles Approach to General Equilibrium Analysis

This paper explores the relationship of Walras’s work to a particularly influential tradition of general equilibrium, that associated with the Cowles Commission for Research in Economics in Colorado in the 1930s and at the University of Chicago from 1939 to 1955, and its successor, the Cowles Foundation, at Yale University from 1955. Irving Fisher introduced general equilibrium analysis into North America with his 1891 Yale dissertation Mathematical Investigations in the Theory of Value and Prices (published 1892) and was responsible in 1892 for the first English translation of a monograph by Walras. Fisher was only able to obtain copies of books by Walras and Edgeworth when his thesis was almost ready for submission, discovering that he had independently reinvented a general equilibrium approach already developed by others, but went beyond Walras in constructing a hydraulic mechanism to simulate computation of general equilibrium and, before Pareto, in using indifference curves. Fisher was closely involved with Alfred Cowles in the Cowles Commission, the Econometric Society and Econometrica in the 1930s, promoting formal mathematical and statistical methods in economics, including drawing attention to the contributions of Walras, Edgeworth and Pareto. The first substantial, systematic work on general equilibrium at the Cowles Commission was in international trade, by Theodore Yntema, research director of the Cowles Commission from 1939 to 1942 and author of A Mathematical Reformulation of the General Theory of International Trade (1932) and by Yntema’s student, Jacob Mosak, author of General Equilibrium Theory in International Trade (1944). A subsequent, much better-known body of work on existence of general equilibrium at Cowles was by Kenneth Arrow and Gerard Debreu (initially independently but leading to a major joint publication) and by Lionel McKenzie, all three associated with the Cowles Commission in Chicago in the early 1950s. After Cowles moved to Yale, the focus of general equilibrium research at the Cowles Foundation was Herbert Scarf’s pioneering work on computable general equilibrium (which he linked to Fisher’s earlier attempt, first presenting his approach in his contribution to Ten Economic Studies in the Tradition of Irving Fisher, 1967). Fisher and then the Cowles Commission were the channel through which Walrasian general equilibrium analysis entered North American economics. This paper is part of a larger history of the Cowles Commission and Foundation, commissioned by the Cowles Foundation.

(In)stability at the Cowles Commission (1939–1948)

Stability analysis touched off extensive discussions at the Cowles Commission between 1939 and 1948. Oskar Lange, later followed by Lawrence Klein and Don Patinkin, among others, advocated for a move from a static analysis aimed at proving the existence of a stationary equilibrium with unemployment towards a dynamic approach exploring stability properties of full employment equilibria. In presence of excess supply of goods and labour with flexible money wages and prices, the message was that macroeconomic pathologies are better regarded as disequilibrium dynamics when full employment equilibrium is unstable – Lange and Klein – or when it is stable – Patinkin. The objective of this paper is to examine this type of modelling and how it provided the basis of a specific political vision shared by most economists of the Cowles Commission in the 1940’s.

Macroeconomic dynamics at the Cowles Commission from the 1930s to the 1950s

This paper explores the development of dynamic modelling of macroeconomic fluctuations at the Cowles Commission from Roos, Dynamic Economics (Cowles Monograph No. 1, 1934) and Davis, Analysis of Economic Time Series (Cowles Monograph No. 6, 1941) to Koopmans, ed., Statistical Inference in Dynamic Economic Models (Cowles Monograph No. 10, 1950) and Klein’s Economic Fluctuations in the United States, 1921–1941 (Cowles Monograph No. 11, 1950), emphasising the emergence of a distinctive Cowles Commission approach to structural modelling of macroeconomic fluctuations influenced by Cowles Commission work on structural estimation of simulation equations models, as advanced by Haavelmo (“A Probability Approach to Econometrics,” Cowles Commission Paper No. 4, 1944) and in Cowles Monographs Nos. 10 and 14.

Setting up a Long-Term Research Project for Economics at the Cowles Commission: The Definition of Theory as a Mathematically and Abstractly Driven Form of Knowledge

This paper offers an analysis of the challenges the researchers associated with the Cowles Commission faced while establishing a mathematically and abstractly driven definition of theory for Economics. My objective is twofold. First, I explain the specific responses, in other words the strategies to these challenges, by relating them to the different positions the scholar network associated with Cowles occupied in the US academic system (from peripheral/dominate to central/dominant). Second, I analyze the impact of these strategies in the discipline of economics. I argue that by establishing a mathematically and abstract-driven definition of theory, the scholars associated with the Cowles Commission set up the foundations of a long-term research project for economics. This project, while abstract in character, allowed an important part of the discipline to cohere around. More concretely, it was critical in forging an articulated response to criticisms about their interest in technical and mathematical problems per se, and it was central to the process of setting the guidelines for a path of knowledge accumulation.