Microfoundation
Categories: Econ
“Microfoundations” are the behavior of microeconomic units that support macroeconomic theories. That might sound complicated, but it’s really not. We know that macroeconomic theories try to explain the behavior of the economy as a whole, right? For example, a macroeconomist might say, “Lookie here, as inflation goes up, banana prices go down,” and then she’ll build a model that demonstrates her theory. Microfoundations are just the individual microeconomic actions and behavior—in other words, the actions and behavior of individual households and businesses—that support her theory. They’re the data that back up her argument. They’re the proof in the banana pudding.
There are some out there who say that requiring microfoundational support for macroeconomic theories and policies is silly. The naysayers naysay that microeconomic behavior changes quickly, sometimes much faster than any macroeconomic policy could hope to keep up with. Therefore, using models that rely on such fast-changing behavior—for example, maybe banana prices went down because bananas are so totally out right now—could be problematic. But microfoundation fans say that we can’t possibly hope to develop coherent economic models and policy without looking at the individual decisions that will come before, during, and after any big economic change is made.
Who’s right? They probably both are, but we’ll stay out of that argument.
